ESOPs – employee stock ownership plans – grant employees with ownership interests in their companies. These benefit plans were first introduced to C corporations in the 1950s, and their tax advantages were formally written into law when the Employee Retirement Income Security Act (ERISA) passed Congress in 1974. In the 1990s, they became available to S corporations, as well. They are not universally good options for all businesses, but many organizations can benefit from them.
When ESOPs Work
ESOPs work best in scenarios where the owners want to…
Improve Employee Retention
Many privately held businesses employ ESOPs to encourage high achieving workers to stick around. With ownership, your employees can ignore the lure of other offers and instead make plans to advance within the company.
Pass the Company onto the Next Generation
If you hope to pass your business onto a family member at retirement, an ESOP can help. If you gradually transfer ownership to them over time using an ESOP, you alleviate their need to acquire capital or incur debt to purchase the company outright. Of course, you can always rely on traditional gifting methods to transfer ownership to your kids or grandkids, but ESOPs provide a tax-advantaged way of doing so and frees up your gift tax allowances to be used elsewhere.
Enhance Productivity
By using an ESOP, you can show your employees their value and worth. Studies have shown that employees perform better and overall productivity improves when companies employ ESOPs. Having a company culture that empowers employees to think and act like owners will pay [figurative] dividends years into the future.
When ESOPs Don’t Work
ESOPs don’t universally work for all businesses, including in scenarios where the owners want to...
Reward a Particular Employee
With few exceptions, ESOP benefits must be made available on a non-discriminatory basis. If you hoped to grant additional company shares to a front-runner in the company, you must do so outside of an ESOP.
Get Out Quick
Selling a business outright to a new owner is a viable succession plan, but it is not compatible with ESOPs. Have an idea of how you want to exit the business before you consider retirement plans so that you don’t inadvertently lock yourself out of a synergistic sale.
Stay Small
Small businesses may struggle paying for an ESOP. The setup and administration costs can be steep. Large companies that have few employees may similarly struggle with an ESOP. The costs can easily outweigh the benefits if you aren’t careful.
If you would like more information about how ESOPs work or would like to discuss your retirement plan options with one of our professionals, contact us today.
If you have questions, please reach out to us. We will connect you with one of our professionals who can address your concerns.
