United States

Now is the time to know what an ESOP is

TAX BLOG


Many businesses are analyzing their entity choice following the change in tax rates, and future exit strategies from the business will often be a big factor affecting the computations in those analyses. An employee stock ownership plan (ESOP) is a potential exit strategy that businesses should consider at the same time because of its unique tax characteristics.

An ESOP is a qualified retirement plan that invests primarily in employer securities, that allows an ESOP to serve double-duty as an employee benefit and as an ownership transition mechanism. Because an ESOP owns the stock of the employer, current owners using this exit strategy are not negotiating with a buyer that would prefer to buy the assets of the company. Since structuring a sale of a business as an asset or stock sale can have significant tax differences to selling shareholders, any analysis between the two should consider the likelihood of the two scenarios. If an ESOP is a likely future exit strategy, a stock sale becomes more likely than in other sales.

Not only does an ESOP result in a stock sale, there is also a special provision applies to sales of C corporation stock to ESOPs (if the transaction meets certain requirements) that can allow selling shareholders to elect not to pay any tax on the sale. For more information on this opportunity, see our FAQ article on the topic.

Given these unique potential tax advantages of selling to an ESOP, business owners deciding whether to change to C corporation status should consider whether an ESOP is a potential future buyer of the company. This ESOP overview article can help you understand more about what selling to an ESOP means to current owners, the company, and employees.

An ESOP will certainly not be appropriate in all situations; nonetheless, if the tax consequences of a future business exit are playing a key role in the decision of entity status today, owners need to consider whether an ESOP might be a potential buyer. The higher the likelihood of an ESOP in the future, the more weight you may be able to place on other factors in the analysis.


Anne Bushman

Senior Manager

Anne advises companies on various executive compensation, employee stock ownership and employee benefits matters affecting closely-held businesses. Reach her at anne.bushman@rsmus.com.

Areas of focus: Washington National TaxCompensation & BenefitsTax Reform