HARIK MINASSI COALE
  • Welcome
  • Team HMC
    • Patricia Harik
  • Services
    • Accounting Services
    • Financial Planning
    • Business Consulting
    • Tax Strategies
  • MGI Worldwide
  • Resources
  • Payments
  • News & Updates
  • Contact

The Pros and Cons of Becoming an ESOP

10/25/2017

 
​An ESOP is not the only way for employees to own a company, but it is by far the most common. Although the concept was almost unknown until 1974, by 2014, about 7,000 companies had ESOPs covering 13.5 million employees, according to the National Center for Employee Ownership, a nonprofit membership group that provides information and research on ESOPs.
​
An ESOP can work in a variety of ways. Employees can buy stock directly, be offered it as a bonus, receive stock options or obtain stock through a profit-sharing plan. Some employees become owners through worker cooperatives in which every staffer has an equal vote.
Many have the impression that ESOPs are just a last resort for troubled companies, but only a handful of ESOPs are set up for this purpose. They are most commonly used to provide a market for the shares of departing owners of successful closely held firms. Their purpose? To motivate and reward employees or to take advantage of incentives to borrow money for acquiring new assets in pretax dollars. In almost every case, ESOPs are a contribution to employees rather than an employee purchase.

Getting to the details
ESOPs are a kind of employee benefit plan, similar in some ways to a profit-sharing plan. In an ESOP, a company sets up a trust fund. Then, the firm contributes new shares of its own stock or cash to buy existing shares. The ESOP can borrow money to buy new or existing shares as the firm makes cash contributions to the plan, enabling it to repay the loan. So no matter how the plan acquires stock, company contributions to the trust are tax-deductible, within certain limits.
Shares in the trust are allocated to individual employee accounts. Although there are some exceptions, generally all full-time employees who are at least 21 participate in the plan. Allocations can be made based on pay. As employees accumulate seniority in the company, they acquire an increasing right to the shares in their accounts — known as vesting — but employees must be 100 percent vested in three to six years, whether vesting happens (by virtue of the plan rules) all at once or gradually.

When employees leave the company, they receive their stock — and then the company buys it back from them at fair market value unless there is a public market for the shares. In private firms, employees must be able to vote their allocated shares on major issues such as whether the firm should close or relocate. In public companies, employees must be able to vote regarding all issues.

Here are some of the tax benefits of ESOPs:
  • Contributions of stock are tax-deductible.
  • Cash contributions are deductible.
  • Contributions used to repay a loan the ESOP takes out to buy company shares are tax-deductible. ESOP financing is accomplished with pretax dollars.
  • Sellers of C corporations can get a tax deferral. Once an ESOP owns 30 percent of all the shares in the company, the seller can reinvest the proceeds in other securities and defer any tax on the gains.
  • In S corporations, the percentage of ownership held by the ESOP isn't subject to income tax at the federal level, and often not at the state level either.
  • Dividends are tax-deductible.
  • Employees pay no tax on contributions to the ESOP, only on distributions of their accounts, and then at potentially favorable rates.

But there also are limits and drawbacks such as:
  • ESOPs are not allowed in partnerships or most professional corporations.
  • ESOPs can be used in S corporations, but don't qualify for rollovers and have lower contribution limits.
  • Private companies must repurchase the shares of any departing employees, and this can become a major expense.

These are the basics. Provisions can be complicated and there are exceptions. You should work with a qualified professional to set one up and learn the details in advance.
​
ESOPs can improve your company's performance, but only if they are combined with opportunities for employees to participate in decisions affecting their work.

Comments are closed.

    Newsletter articles are posted every 2 weeks. ​

    If you would like to have our e-newsletter delivered directly to your inbox, please sign up. Your information is confidential; you can unsubscribe at any time. Subscribe.

    Archives

    February 2019
    January 2019
    December 2018
    November 2018
    October 2018
    September 2018
    August 2018
    July 2018
    June 2018
    May 2018
    April 2018
    March 2018
    February 2018
    January 2018
    December 2017
    November 2017
    October 2017
    September 2017
    August 2017

    Categories

    All
    1099 Form
    401Ks And IRAs
    529 College Savings Plans
    941 Form
    ACA Affordable Care
    Americans With Disabilities
    Annuities
    Audits
    Bankruptcy
    Basis
    Benefit Transfers
    Blockchain
    Business Interruption Insurance
    Business Tips
    Capital Gains
    Charitable Gifts
    Communication
    Compensation
    Credit Cards
    Credit Score
    Crowdfunding
    Death And Debt
    Deductions
    Depreciation
    Disaster Tax Break
    Diversity Training
    Divorce
    D&O Insurance
    Dress For Success
    Earned Income Tax Credit
    Employee Overpayment
    Employee Ownership
    Employees Cross State Lines
    Employment Taxes
    ESOP
    Estate Planning
    Estate Taxes
    Estimated Taxes
    Executor
    Expenses And Depreciation
    Family Businesses
    Fiduciary
    Filial (Adult Child) Responsibilities
    Financial Advisor
    Flood Insurance
    Floods
    Franchise Ownership
    Fraud
    Health Care
    Health Savings Account
    Hiring Compliance
    Hiring Help
    Hobby Vs. Business
    Home Equity Loans
    Home Office Deduction
    Homeowners
    HSA
    Hurricanes
    Identity Theft
    Income Tax
    Information Return
    Inherited Mortgage
    Insurance
    Investing
    Investors For Your Business
    IRAs
    IRS Disagreements
    Joint Tenancy
    Kiddie Tax
    Life Insurance Trusts
    Loans
    Long-Term Care Insurance
    Managing Employees
    Maternity And Paternity Leave
    Medicaid Trust
    Medical And Dental Deductions
    Mergers
    Morale
    Multistate Taxes
    Myers-Briggs Personality Types
    New
    Newsletters
    New Tax Law
    Noncompete Agreements
    Operating Loss
    Opportunity Zones
    Organize Your Finances
    OSHA
    Padding
    Papers For Taxes
    Part-time Help Tax Rules
    Passwords
    Payday Frequency
    Payroll Cards
    Payroll Taxes
    Pensions
    Power Of Attorney
    Private Tax Debt Collection
    Property Taxes
    Real Estate 1031 Exchange
    Real Estate Held In IRA
    Reciprocal Agreements
    Retirement
    Sales Tax
    Self Employment Taxes
    Severance Pay
    Sexual Harassment
    Sharing Economy Tax Implications
    Sick Leave Rules
    Small Business Administration
    Social Media
    Social Security
    State And Local Taxes
    Success
    Succession Plan
    Supplemental Wages
    Tariffs
    Tax Brackets
    Tax Breaks
    Tax Changes
    Tax Debt Collection
    Tax Deductions
    Tax Planning
    Tax Reform
    Trump's Tax Law
    W-4 Form
    W-4 Requests
    Wage Garnishments
    Wills And Trusts
    Withholdings

    RSS Feed

HARIK MINASSI COALE
CPAs and Advisors
​25500 Hawthorne Blvd., Suite 2120 • Torrance, CA 90505
(310) 378-9911 • Fax (310) 378-3591