I
106TH CONGRESS
1ST SESSION
H. R. 3082
To amend the Internal Revenue Code of 1986 to prohibit certain allocations
of S corporation stock held by an employee stock ownership plan.
IN THE HOUSE OF REPRESENTATIVES
OCTOBER 14, 1999
Mr. RAMSTAD (for himself, Mr. CARDIN, Mr. CRANE, Mr. FOLEY, Mr.
HERGER, Mr. HOUGHTON, Mrs. JOHNSON of Connecticut, Mr. KLECZKA,
Mr. LEWIS of Kentucky, Mr. LUTHER, Mr. MCCRERY, Mr. MCINNIS, Mr.
PORTMAN, Mrs. THURMAN, Mr. WATKINS, and Mr. WELLER) introduced
the following bill; which was referred to the Committee on Ways and
Means
A BILL
To amend the Internal Revenue Code of 1986 to prohibit
certain allocations of S corporation stock held by an
employee stock ownership plan.
Be it enacted by the Senate and House of Representa-
tives of the United States of America in Congress assembled,
SECTION 1. PROHIBITED ALLOCATIONS OF S CORPORA-
TIONS STOCK HELD BY AN ESOP.
(a) IN GENERAL.—Section 409 of the Internal Rev-
enue Code of 1986 (relating to qualifications for tax credit
employee stock ownership plans) is amended by redesig-
nating subsection (p) as subsection (q) and by inserting
after subsection (o) the following new subsection:
‘‘(p) PROHIBITED ALLOCATIONS OF SECURITIES IN
AN S CORPORATION.—
‘‘(1) IN GENERAL.—An employee stock owner-
ship plan holding employer securities consisting of
stock in an S corporation shall provide that no por-
tion of the assets of the plan attributable to (or allo-
cable in lieu of) such employer securities may, dur-
ing a nonallocation year, accrue (or be allocated di-
rectly or indirectly under any plan of the employer
meeting the requirements of section 401(a)) for the
benefit of any disqualified person.
‘‘(2) FAILURE TO MEET REQUIREMENTS.—
‘‘(A) IN GENERAL.—If a plan fails to meet
the requirements of paragraph (1), the plan
shall be treated as having distributed to any
disqualified person the amount allocated to the
account of such person in violation of para-
graph (1) at the time of such allocation.
‘‘(B) CROSS REFERENCE.—
‘‘For excise tax relating to violations of paragraph
(1) and ownership of synthetic equity, see section
4979A.
‘‘(3) NONALLOCATION YEAR.—For purposes of
this subsection—
‘‘(A) IN GENERAL.—The term ‘nonalloca-
tion year’ means any plan year of an employee
stock ownership plan if, at any time during
such plan year—
‘‘(i) such plan holds employer securi-
ties consisting of stock in an S corpora-
tion, and
‘‘(ii) disqualified persons own at least
50 percent of the number of shares of
stock in the S corporation.
‘‘(B) ATTRIBUTION RULES.—For purposes
of subparagraph (A)—
‘‘(i) IN GENERAL.—The rules of sec-
tion 318(a) shall apply for purposes of de-
termining ownership, except that—
‘‘(I) in applying paragraph (1)
thereof, the members of an individ-
ual’s family shall include members of
the family described in paragraph
(4)(D), and
‘‘(II) paragraph (4) thereof shall
not apply.
‘‘(ii) DEEMED-OWNED SHARES.—Not-
withstanding the employee trust exception
in section 318(a)(2)(B)(i), for purposes of
determining whether an individual is a dis-
qualified person, such individual shall be
treated as owning deemed-owned shares.
‘‘(4) DISQUALIFIED PERSON.—For purposes of
this subsection—
‘‘(A) IN GENERAL.—The term ‘disqualified
person’ means any person if—
‘‘(i) the aggregate number of deemed-
owned shares of such person and the mem-
bers of such person’s family is at least 20
percent of the number of deemed-owned
shares of stock in the S corporation, or
‘‘(ii) in the case of a person not de-
scribed in clause (i), the number of
deemed-owned shares of such person is at
least 10 percent of the number of deemed-
owned shares of stock in such corporation.
‘‘(B) TREATMENT OF FAMILY MEMBERS.—
In the case of a disqualified person described in
subparagraph (A)(i), any member of such per-
son’s family with deemed-owned shares shall be
treated as a disqualified person if not otherwise
treated as a disqualified person under subpara-
graph (A).
‘‘(C) DEEMED-OWNED SHARES.—For pur-
poses of this paragraph—
‘‘(i) 
IN
GENERAL.—The 
term
‘deemed-owned shares’ means, with respect
to any person—
‘‘(I) the stock in the S corpora-
tion constituting employer securities
of an employee stock ownership plan
which is allocated to such person
under the plan, and
‘‘(II) such person’s share of the
stock in such corporation which is
held by such plan but which is not al-
located under the plan to participants.
‘‘(ii) 
PERSON’S
SHARE
OF
UNALLOCATED
STOCK.—For purposes of
clause 
(i)(II), 
a 
person’s 
share 
of
unallocated S corporation stock held by
such plan is the amount of the unallocated
stock which would be allocated to such per-
son if the unallocated stock were allocated
to all participants in the same proportions
as the most recent stock allocation under
the plan.
‘‘(D) MEMBER OF FAMILY.—For purposes
of this paragraph, the term ‘member of the
family’ means, with respect to any individual—
‘‘(i) the spouse of the individual,
‘‘(ii) an ancestor or lineal descendant
of the individual or the individual’s spouse,
‘‘(iii) a brother or sister of the indi-
vidual or the individual’s spouse and any
lineal descendant of the brother or sister,
and
‘‘(iv) the spouse of any individual de-
scribed in clause (ii) or (iii).
A spouse of an individual who is legally sepa-
rated from such individual under a decree of di-
vorce or separate maintenance shall not be
treated as such individual’s spouse for purposes
of this subparagraph.
‘‘(5) TREATMENT OF SYNTHETIC EQUITY.—For
purposes of paragraphs (3) and (4), in the case of
a person who owns synthetic equity in the S corpora-
tion, except to the extent provided in regulations, the
shares of stock in such corporation on which such
synthetic equity is based shall be treated as out-
standing stock in such corporation and deemed-
owned shares of such person if such treatment of
synthetic equity of 1 or more such persons results
in—
‘‘(A) the treatment of any person as a dis-
qualified person, or
‘‘(B) the treatment of any year as a non-
allocation year.
For purposes of this paragraph, synthetic equity
shall be treated as owned by a person in the same
manner as stock is treated as owned by a person
under the rules of paragraphs (2) and (3) of section
318(a).
‘‘(6) DEFINITIONS.—For purposes of this
subsection—
‘‘(A) 
EMPLOYEE
STOCK
OWNERSHIP
PLAN.—The term ‘employee stock ownership
plan’ has the meaning given such term by sec-
tion 4975(e)(7).
‘‘(B) EMPLOYER SECURITIES.—The term
‘employer security’ has the meaning given such
term by section 409(l).
‘‘(C) SYNTHETIC EQUITY.—The term ‘syn-
thetic equity’ means any stock option, warrant,
restricted stock, deferred issuance stock right,
or similar interest or right that gives the holder
the right to acquire or receive stock of the S
corporation in the future. Except to the extent
provided in regulations, synthetic equity also in-
cludes a stock appreciation right, phantom
stock unit, or similar right to a future cash
payment based on the value of such stock or
appreciation in such value.
‘‘(7) REGULATIONS.—The Secretary shall pre-
scribe such regulations as may be necessary to carry
out the purposes of this subsection.’’
(b) COORDINATION WITH SECTION 4975(e)(7).—The
last sentence of section 4975(e)(7) of such Code (defining
employee stock ownership plan) is amended by inserting
‘‘, section 409(p),’’ after ‘‘409(n)’’.
(c) EXCISE TAX.—
(1) APPLICATION OF TAX.—Subsection (a) of
section 4979A of such Code (relating to tax on cer-
tain prohibited allocations of employer securities) is
amended—
(A) by striking ‘‘or’’ at the end of para-
graph (1),
(B) by striking the period at the end of
paragraph (2) and inserting a comma, and
(C) by striking all that follows paragraph
(2) and inserting the following:
‘‘(3) there is any allocation of employer securi-
ties which violates the provisions of section 409(p),
or
‘‘(4) any synthetic equity is owned by a dis-
qualified person in any nonallocation year,
there is hereby imposed a tax on such allocation or owner-
ship equal to 50 percent of the amount involved.’’
(2) LIABILITY.—Section 4979A(c) of such Code
(defining liability for tax) is amended to read as fol-
lows:
‘‘(c) LIABILITY FOR TAX.—The tax imposed by this
section shall be paid—
‘‘(1) in the case of an allocation referred to in
paragraph (1) or (2) of subsection (a), by—
‘‘(A) the employer sponsoring such plan, or
‘‘(B) the eligible worker-owned cooperative,
which made the written statement described in sec-
tion 664(g)(1)(E) or in section 1042(b)(3)(B) (as
the case may be), and
‘‘(2) in the case of an allocation or ownership
referred to in paragraph (3) or (4) of subsection (a),
by the S corporation the stock in which was so allo-
cated or owned.’’
(3) DEFINITIONS.—Section 4979A(e) of such
Code (relating to definitions) is amended to read as
follows:
‘‘(e) DEFINITIONS AND SPECIAL RULES.—For pur-
poses of this section—
‘‘(1) DEFINITIONS.—Except as provided in
paragraph (2), terms used in this section have the
same respective meanings as when used in sections
409 and 4978.
‘‘(2) SPECIAL
RULES
RELATING
TO
TAX
IM-
POSED BY REASON OF PARAGRAPH (3) OR (4) OF
SUBSECTION (a).—
‘‘(A) 
PROHIBITED
ALLOCATIONS.—The
amount involved with respect to any tax im-
posed by reason of subsection (a)(3) is the
amount allocated to the account of any person
in violation of section 408(p)(1).
‘‘(B) SYNTHETIC
EQUITY.—The amount
involved with respect to any tax imposed by rea-
son of subsection (a)(4) is the value of the
shares on which the synthetic equity is based.
‘‘(C) SPECIAL RULE FOR PROHIBITED AL-
LOCATION
DURING
FIRST
NONALLOCATION
YEAR.—For purposes of subparagraph (A), the
amount involved for the first nonallocation year
of any employee stock ownership plan shall be
determined by taking into account the total
value of all the deemed-owned shares of all dis-
qualified persons with respect to such plan.
‘‘(D) STATUTE
OF
LIMITATIONS.—The
statutory period for the assessment of any tax
imposed by this section by reason of paragraph
(3) or (4) of subsection (a) shall not expire be-
fore the date which is 3 years from the later
of—
‘‘(i) the allocation or ownership re-
ferred to in such paragraph giving rise to
such tax, or
‘‘(ii) the date on which the Secretary
is notified of such allocation or owner-
ship.’’
(d) EFFECTIVE DATES.—
(1) IN GENERAL.—The amendments made by
this section shall apply to plan years beginning after
December 31, 2000.
(2) EXCEPTION FOR CERTAIN PLANS.—In the
case of any—
(A) employee stock ownership plan estab-
lished after July 14, 1999, or
(B) employee stock ownership plan estab-
lished on or before such date if employer securi-
ties held by the plan consist of stock in a cor-
poration with respect to which an election under
section 1362(a) of the Internal Revenue Code
of 1986 is not in effect on such date,
the amendments made by this section shall apply to
plan years ending after July 14, 1999.
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