Employee stock ownership plan
A common form of employee ownership in the U.S is the employee stock ownership plan or ESOP. An ESOP is a type of employee benefit plan, similar to a profit-sharing plan, that is designed to motivate employees via equity ownership and qualifies for certain tax-favored advantages under the IRS Tax Code subject to compliance.
Companies can make use of ESOPs for a number of purposes: to provide a market for the shares of departing owners in closely held companies, to motivate and reward employees, or to take advantage of incentives to borrow money for acquiring new assets in pretax dollars.
A company sets up an employee stock ownership trust and makes contributions to the trust annually. Contributions can either be new or treasury stock, cash to buy existing shareholder stock or to pay down debt that was used to acquire company stock.
Shares in the trust are allocated to individual accounts set up for employees; employees don’t purchase the stock with payroll deductions or make any personal contributions to get the stock.
Employees participating in the plan accumulate account balances that are based on their compensation levels, tenure at the company, or some other formula. A vesting schedule can be established, and contributions multiply until the employee quits, dies, is terminated, or retires. Distributions are then made in installments or can be taken in a lump sum; they may also be taken immediately or deferred.
In addition to the employee benefits of ESOPs, they also offer important tax benefits for companies and their owners. But, just like many benefit plans, ESOPs have their pros and cons.
Is your company ready
The benefits of an ESOP include:
- Ensures the continuation of growing businesses
- Is a powerful way to vest employees in the company and to motivate and boost employee morale
- Can help business owners gradually begin the process of converting closely held ownership to more liquid, diversified capital
- Allows an owner to decide to sell all ownership or to gradually transition ownership
- Offers a number of important tax and investment benefits
While there are many benefits to an ESOP, there are some caveats including:
- The complexity of the rules that all ESOPs must follow
- The ongoing administrative costs, including annual valuation, plan administration, legal, and possible trustee fees.
- Compliance issues with ERISA, employee benefit plans of the Department of Labor, and the IRS Tax Code
Setting up an ESOP requires the assistance of a public accounting firm that has experience in the fields of tax law, business valuation, transaction dynamics, regulatory compliance, and more.
Continued growth goals
While an ESOP is appealing as an employee benefit as well as a company financing tool, its creation can range from being simple to very complex. At GYL we offer financial planning services for business as well as consulting services, including ESOP planning and formation, to help develop your company’s financial goals.
Schedule your free consultation today.