An Employee Stock Ownership Plan (ESOP) allows a company’s employees to own some or all of the company. An ESOP is used to buy out equity from a current owner, create benefits for employees, and give employees a stake in the company, which may impact morale as well as public relations.
ESOP Tax Benefits
An ESOP has significant tax benefits. Stock contributions are tax-deductible. Contributions of cash are deductible. The ESOP can take out a loan to buy company shares and repayments are tax-deductible. The seller of shares in a C corporation can get tax deferral. In S corporations, profits to the ESOP are not taxed at the corporate level, avoiding double taxation on the owners. Dividends to the owners are tax-deductible to the company. Employees are not taxed on contributions to the ESOP; employees are taxed on distributions to their accounts, often at favorable rates.
ESOP Benefits for the Owner-Seller
An owner usually receives immediate payment for selling ownership to the employees. This is usually financed by a bank. Thus, owners receive a significant financial payment in exchange for selling some or all of their company.
ESOP Benefits for the Employees
Employees receive significant benefits in an ESOP. Not only will they get a share of the profits, but, depending on how the ESOP is set up, they may have a say in the future of the company. An ESOP can generate a significant psychological benefit because each employee feels like an owner, often causing them to operate at a higher level of productivity and responsibility with company resources.
The main problem with an ESOP is the cost of setting it up and operating it. A company must have significant revenue and assets to justify the professional costs for attorneys and accountants.