Strike a Match Offering company stock in your 401(k) plan can be risky business--learn how to avoid getting burned when playing with matches.

Matching employee contributions in company stock in a 401(k)plan sounds like a surefire move. You gain a competitive tool forattracting and retaining talent and give employees more of a stakein the company's future success. At the same time, you giveyour share price a boost and get a tax break on the contributionwithout having to tie up precious cash.

"I think it's an excellent idea--if you know whyyou're doing it," says Jeff Robertson, attorney withPortland, Oregon, corporate law firm Bullivant Houser BaileyPC. But too often, he says, business owners are motivated bythe tax break and fail to protect themselves from the fiduciaryrisk.

The biggest problem, notes Rick Meigs, president of 401khelpcenter.com--also in Portland--is that abuilt-in conflict of interest exists for companies offering theirown stock in their 401(k) plans. "They have to run theretirement plan exclusively for the benefit of participants andretirees," he says, "but the very next minute,they're trying to protect the company when [there's] badnews." That forces a tough choice: Give employees theinformation they need to adjust their portfolios to their benefit,or withhold bad information to keep the company stock steady. Meigsadds that trial attorneys are beginning to zero in on this issue,looking for class-action cases. Though the lawsuits typicallytarget larger corporations, smaller companies are still atrisk.

One way to shield your company is to hire an independent ERISA(Employment Retirement Income Security Act) fiduciary to handleplan operation and asset investment. That way, Meigs says, you"take the responsibility away from those who have an inherentloyalty to the company." Another option is to provide trainingfor your CFO on how to manage the plan according to ERISAstandards.

On the employee side, more and more plans are being amended toallow employees to divest out of matched company stock sooner andwith fewer restrictions. And many plans now cap the amount ofemployer stock they allow in a company's 401(k) plan. Toprotect yourself further, Robertson advises carefully documentingcommunication with employees about the company stock and planrules.

Private companies that want to offer a match in stock haveadditional challenges, including lack of liquidity sincethere's no market for the stock. And owners must also ensureproper valuation of the company's stock, which can cost between$5,000 and $25,000 a year to assess.

Given some of the risks of offering a match in company stock,many experts advise entrepreneurs to forgo matching in companystock and match the contributions in cash instead. Though businessowners balk at the expense, it probably costs less than you think,says Trisha Brambley, president of Resourcesfor Retirement Inc., a Newtown, Pennsylvania, firm that helpscompanies evaluate funds and fees involved in retirement plans.Say, for example, you set up the plan to match 25 cents per dollaron the first 4 percent employees contribute. Not every employeewill be eligible or will defer the whole amount. "So theactual cost of the match is pretty small, maybe half a percent ofpayroll," says Brambley. And you get the tax break on the cashmatch just as you would with company stock.

Plus, the higher-paid employees, including owners, can defermore income--2 percent more on average--than the rest of the workforce. So the more people who sign up, the more pretax income theowner can shield. That's why Brambley says you should offer amatch, even if it's going to mean some out-of-pocket costs. Anda cash match, she says, will often double employee participation inthe plan.

If you still want employees invested in company stock, the bestway to do it, at a much lower risk, is with a good, old-fashionedemployee stock-ownership plan. It's not a tax-saving vehicle,but you'll be giving employees more skin in the game whilekeeping your company out of court.

C.J. Prince is executive editor of CEO Magazine.