Employee Stock Ownership Plans (ESOPs) are one form of employee participation in corporate ownership, offering compelling benefits to selling owners, shareholders, companies and employees.
- How Does the ESOP Benefit the Company?
- How Does the ESOP Benefit Stockholders?
- How Does the ESOP Benefit Employees?
How Does the ESOP Benefit the Company?
An ESOP benefits the company when it is used as a technique of corporate finance as well as an employee benefit plan. Corporate ESOP benefits include:
- Raising new equity capital
- Refinancing outstanding debt
- Acquiring productive assets using cash borrowed from third-party lenders
- ESOPs can also be used to increase cash flow by making plan contributions in stock instead of cash
Since contributions to the ESOP are fully tax deductible, an employer can fund both the principal and the interest payment on an ESOPs debt service with pre-tax dollars.
Dividends on ESOP stock are tax-deductible if they are applied to repay ESOP loan principal, the proceeds of which were used to acquire the employer securities with respect to which the dividends were paid. Reducing loan principal with pre-tax contributions and dividends generates significant tax savings, which in turns benefits the ESOP company’s cash flow.
There is strong statistical evidence that employee ownership improves employee morale and productivity and reduces turnover. Surveys conducted by The ESOP Association show that most Association members report improved employee morale and productivity due to their ESOP benefits. A study by the National Center for Employee Ownership (NCEO) during the 1980s found that ESOP companies grew more than 5% faster than their non-ESOP counterparts. Moreover, the study showed that ESOP companies with participative management styles grew at a rate three to four times faster than traditionally managed ESOP companies. The NCEO results have been replicated by a number of later studies, and it is now generally accepted that ESOPs, especially in participatively managed companies, can improve a company’s productivity.
How Does the ESOP Benefit the Stockholders?
ESOP benefits to stockholders include providing a ready market for some or all of the shares owned by shareholders in a closely held company. With an ESOP in place, a majority or controlling shareholder has an exit strategy when he or she is ready to retire. Likewise an ESOP is often the only market for a minority shareholder in a closely held company.
The ESOP benefit rollover permits a shareholder to sell stock to an ESOP and defer capital gains taxes. This option can also be used to obtain estate planning benefits.
With ESOPs, a majority shareholder has the option of selling all or only a portion of his or her stock to increase personal liquidity while maintaining control of the company.
Want to take advantage of the benefits an ESOP can offer? Contact one of our SES ESOP Strategies professionals today!
How Does the ESOP Benefit Employees?
The ESOP benefits employees as company contributions are made annually to the ESOP, as both cash and stock. ESOP benefits are allocated to the accounts of participating employees in the trust established as part of the ESOP. The accumulated balance in a participant’s account is distributed to the participants after his or her retirement or other termination of employment with the company.
So long as a participant’s account remains in the ESOP trust, the value of the ESOP benefits account including the appreciation in stock value is not taxable to the employee.
Employees age 55 or older with 10 or more years of participation in the ESOP must be allowed to diversify a portion of their ESOP benefits accounts.
ESOP financing permits the repayment of acquisition debt with pre-tax dollars. This favorable tax treatment means that ESOPs are effective vehicles for financing management buyouts.
Contact SES ESOP Strategies to learn more about how we can help your company.