An Employee Stock Ownership Plan (ESOP) makes your employees owners of the company. It can be an advantageous way to transfer ownership — and can be an attractive employee incentive. But is it right for your company? Here are some factors to consider.
Four Reasons to Consider an ESOP
- You’re a retiring owner. As a retiring owner, you won’t incur a taxable gain if you sell stock to an ESOP (with some provisions; consult a tax advisor for details). An ESOP also automatically creates a market for your company’s stock and allows you to transfer ownership gradually. Plus, it’s a way to help ensure stability for your company and job security for your employees while you transition out.
- You want to add an employee benefit — and a motivator. An ESOP can be an attractive addition to your benefits package and can supplement your existing retirement plan. In addition, research has shown that giving employees an ownership stake improves attitudes toward the company, can lead to bottom line improvements and can cut turnover by nearly half.1
- You want an additional financing option. Unlike other qualified employee benefit plans, an ESOP can actually borrow money. Such “leveraged ESOPs” can work with a qualified lender, such as Rabobank, to obtain funds for a wide variety of corporate needs, including capital expenditures.
- You’re looking for tax advantages. ESOPs often qualify for federal income tax breaks (consult a tax advisor for details). For instance, if an ESOP borrows money to purchase shares, the company can repay the loan through tax-deductible contributions to the plan. If a company is 100 percent owned by its ESOP, the company may be able to avoid federal income tax. In addition, income generated from S Corp ESOPs is free from federal income tax. In certain situations, C-corporations may be able to defer or avoid capital gains tax, and employees don’t pay income tax on stock in their ESOP account until they take distributions.
Two Reasons to Think Twice
- It may not yield the highest price for your company. Selling company stock to an ESOP probably won’t net you as much money as simply selling your company to a financial or strategic buyer. In addition, setting up the plan can present a significant upfront cost — potentially tens of thousands of dollars. Furthermore, since the company must typically repurchase shares when an employee leaves, your finances could take a hit if a large number of people retire or leave at one time.
- It only applies to certain structures. C- and S-corporations can use ESOPs, but most other company structures can’t. So unless you are — or are willing to become — a C- or S-corporation, ESOPs probably aren’t an option.
Interested in pursuing an ESOP for your company or simply learning more? Your local Rabobank Relationship Manager can discuss options with you. In addition, you can find information and resources through the ESOP Association and the National Center for Employee Ownership.
- The ESOP Association, http://www.esopassociation.org/about/about_use.asp and http://www.esopassociation.org/about/about_use.asp; accessed Aug. 16, 2012
The information contained in this article is intended for general educational purposes only and is not to be construed as legal, tax, or financial advice. Please consult with your own legal, tax or financial advisor for guidance with your own particular circumstances.