Employee Ownership Trusts

What are the benefits of an EOT for employees?

By transferring a majority of shares to an EOT, employees gain indirect ownership and have a say in the company's management. The benefits of an EOT for employees include financial rewards, increased engagement, participation in decision-making, job security, fairness and equality, skills development, enhanced corporate culture, and a sustainable succession plan. These benefits contribute to a more inclusive, stable and satisfying work environment for employees, fostering a long-term commitment to the company's success.

More details of the benefits for employees include:

Financial rewards
Employees can benefit financially from the success of the company. As the EOT holds a majority of shares, any increase in the company's value will benefit the employees. Additionally, companies controlled by EOTs can pay tax-free cash bonuses of up to £3,600 per employee per annum, providing a direct financial incentive.

Employee engagement
 Employee-owned companies tend to have higher levels of employee satisfaction and engagement. With a stake in the business, employees are more likely to feel a sense of responsibility for its success, resulting in greater commitment and motivation.

Decision-making and influence
EOTs allow employees to participate in the company's decision-making process, either through employee councils, consultations or representation on the board of directors. This involvement gives employees a voice in shaping the company's strategic direction and policies, fostering a sense of ownership and belonging.

Job security and stability
Research suggests that employee-owned companies are often more resilient in economic downturns and experience lower staff turnover. Employee ownership can lead to a more stable work environment and a long-term commitment to the company's sustainability and success.

Fairness and equality
EOTs are required to treat all employees equally, regardless of their role or length of service. This principle fosters a more inclusive and fair work environment, promoting a culture of shared responsibility and collaboration.

Skills development and career growth
Employee-owned companies often invest in the professional development of their workforce, recognising that the success of the business relies on the skills and expertise of its employees. This can result in more opportunities for training, career progression and personal growth.

Enhanced corporate culture
EOTs tend to promote a more inclusive and collaborative corporate culture, where employees feel valued and supported. This positive work environment can contribute to improved job satisfaction, productivity and overall employee wellbeing.

Succession planning and continuity
EOTs provide a sustainable succession plan for the company, ensuring its long-term success and continuity. As employees have a vested interest in the company's future, they are more likely to work towards a smooth transition during times of change, or when the business owner exits.

What are the benefits of an EOT for business owners?

Here's a detailed overview of the benefits of an EOT for business owners:

Tax incentives
When a business owner sells at least 51% of the company's shares to an EOT, they become eligible for capital gains tax relief. This exemption can result in substantial tax savings, making EOTs an attractive option for business owners seeking to exit or reduce their shareholding.

Succession planning
EOTs offer a sustainable exit strategy for business owners looking to retire, sell their business, or transition to a new venture. By transferring ownership to the employees, business owners can ensure the company's continuity and long-term success under a stable and committed workforce.

Employee engagement and retention
Employee-owned companies often experience higher levels of employee satisfaction, motivation and retention. A committed workforce with a vested interest in the company's success can lead to improved productivity, innovation and overall business performance.

Company resilience
Research has shown that employee-owned companies tend to be more resilient during economic downturns. The shared sense of responsibility and long-term commitment fostered by EOTs can contribute to a stronger, more adaptable company that can better weather challenging market conditions.

Enhanced corporate reputation
Companies with EOTs are often seen as progressive and socially responsible, enhancing their reputation among customers, suppliers and potential employees. This positive image can help attract new business and talent, and create stronger relationships with stakeholders.

Access to finance Employee-owned companies may have better access to finance due to their stable ownership structure, lower staff turnover, and potential for increased productivity. Lenders and investors may perceive EOTs as lower risk and more sustainable, making them more willing to provide funding.

Reduced risk of hostile takeovers
With a majority of shares held by the EOT, the risk of a hostile takeover is significantly reduced. This protection can give business owners peace of mind and help ensure the company's long-term stability and independence.

Legacy preservation
By transferring ownership to the employees, business owners can preserve the values, culture and vision that they have instilled in the company. EOTs enable business owners to leave a lasting legacy and contribute positively to the lives of their employees and the broader community. 

How is an Employee Ownership Trust funded?

Funding an EOT can be a complex process, and it's essential to consider various options and their implications. Here's an overview of how an EOT can be funded:

1. Vendor financing: This is the most common method of funding an EOT. In vendor financing, the business owner (vendor) agrees to sell their shares to the trust, and the trust pays for the shares over time using the company's future profits. The business owner essentially provides a loan to the trust, and the trust repays the loan with interest. Vendor financing allows for a more gradual and flexible transition of ownership, as the vendor receives payments over an agreed-upon period.
2. External financing: In some cases, the trust may seek external financing to fund the purchase of the shares. This could include bank loans, asset-based lending, or other forms of debt financing. The trust would then repay the loan using the company's future profits. When considering external financing, it's crucial to assess the company's ability to service the debt and ensure the additional financial burden doesn't jeopardise the business's stability.
3. Employee contributions: Although not a common approach, employees can contribute funds to the EOT to help finance the share purchase. This could be done through payroll deductions, one-time payments, or by using existing employee share schemes to transfer shares to the EOT. Employee contributions can help demonstrate commitment and foster a sense of ownership. However, it's essential to consider the financial burden on employees and the potential implications on employee morale and retention.
4. Hybrid financing: A combination of the above methods can be used to fund an EOT. For instance, the trust could use a combination of vendor financing, external financing and employee contributions to finance the share purchase. Hybrid financing can help balance the financial burden and risks associated with each method while providing flexibility in structuring the deal.
5. Cash reserves: In some cases, if the company has sufficient cash reserves, these can be used to fund the EOT. However, using cash reserves to finance the EOT may impact the company's working capital and should be carefully considered in the context of the business's overall financial health.

When funding an EOT, it's essential to engage professional advisers, such as solicitors, who are experienced in employee ownership to navigate the process and ensure the most suitable funding method is chosen. They can help assess the financial implications, risks and opportunities associated with each funding option and develop a tailored solution that best meets the needs of the business, the owner and the employees.

How is an Employee Ownership Trust taxed?

The taxation of EOTs and the associated tax implications for business owners, employees and the company are important considerations. Here are the options available for the taxation of an EOT:

1. Capital gains tax relief: When a business owner sells at least 51% of their shares to an EOT, they become eligible for capital gains tax relief. This means that they do not have to pay capital gains tax on the disposal of their shares, providing a significant tax incentive for business owners to consider EOTs as an exit strategy.
2. Corporation tax deductibility: The payments made by the EOT to the business owner for the purchase of their shares are generally treated as tax-deductible for the company. This means that the company's corporation tax liability may be reduced due to the payments made to the business owner.
3. Tax-free employee bonuses: Companies controlled by EOTs can pay tax-free cash bonuses to employees, up to a limit of £3,600 per employee per annum. These bonuses must be paid on an equal basis to all employees, regardless of their role or length of service. Employees do not have to pay income tax or National Insurance contributions on these bonuses, making it an attractive benefit for employees.
4. Trust taxation: The EOT, as a trust, is subject to trust taxation rules in the UK. Generally, EOTs are taxed on income and gains derived from their shareholding in the company. However, most EOTs are structured to be tax-neutral, meaning that they receive tax reliefs to offset any tax liabilities arising from their shareholding. This tax-neutral status allows EOTs to focus on benefiting the employees and the company without being burdened by tax liabilities.
5. Dividends: Dividends received by the EOT from its shareholding in the company are generally exempt from tax. This means that the EOT can use the dividend income to repay any outstanding loans, fund employee bonuses, or reinvest in the company without incurring tax liabilities.
6. Inheritance tax (IHT) relief: Transferring shares to an EOT can also provide inheritance tax relief for business owners. When the shares are sold to an EOT, they are typically exempt from IHT, as the shares are no longer considered part of the business owner's estate.

These tax advantages make EOTs an attractive option for business owners seeking a tax-efficient exit strategy that also benefits employees and ensures the long-term success of the company. It's important to consult with professional tax experts experienced in EOTs to navigate the tax implications and ensure compliance with UK tax regulations.

How does an EOT differ from other forms of employee ownership, such as ESPPs?

An EOT is different from other forms of employee ownership, such as Employee Share Purchase Plans (ESPPs), which allow employees to purchase shares of the company directly.

In an EOT, employees have an indirect ownership stake in the company through the trust, which holds at least 51% of the company's shares. In an ESPP, employees can acquire individual shares of the company directly, and the level of employee ownership can vary significantly depending on the employees' participation in the plan.

EOTs provide employees with a controlling interest in the company, ensuring they have a say in the company's strategic direction through mechanisms such as employee councils or representation on the board of directors. In contrast, ESPPs generally do not grant employees significant control or decision-making power, as their shareholdings are typically smaller and more dispersed.

There are substantial tax benefits with an EOT model, such as capital gains tax relief for business owners when selling their shares to the trust, and tax-free cash bonuses for employees up to £3,600 per annum. ESPPs, on the other hand, may offer some tax benefits, such as favourable tax treatment on share gains, but these are generally less significant compared to EOTs.

Employees do not need to invest their own money in an EOT to acquire shares in the company, as the trust purchases the shares on their behalf. In an ESPP, employees need to use their own funds to purchase shares, either at a discounted price or through payroll deductions.

EOTs are required to treat all employees equally, regardless of their role or length of service. This fosters a more inclusive and fair work environment. ESPPs, while offering potential financial benefits, can lead to disparities in share ownership among employees, depending on their financial situation and willingness to invest in the company.

An EOT can be more complex to set up and administer, as it involves the creation of a trust, the appointment of trustees, and ongoing management of the trust. ESPPs are typically more straightforward, as they involve a direct share purchase arrangement between the company and the employees.

Are there any downsides to establishing an EOT?

While EOTs offer several benefits for business owners and employees, there are potential downsides to consider when deciding whether to establish an EOT in the UK. Here are some potential disadvantages:

• Complexity and cost: Establishing an EOT can be a complex process that requires professional advice from solicitors, accountants and financial advisers experienced in employee ownership. This can result in higher upfront costs and ongoing administrative expenses related to managing the trust.
• Loss of control: By transferring at least 51% of the company's shares to an EOT, the business owner will no longer have majority control over the company. This may be a concern for some business owners who wish to retain a more significant level of control over the company's strategic direction.
• Employee resistance or disengagement: While EOTs can foster employee engagement and satisfaction, there may be instances where employees are resistant to the change in ownership structure or do not fully embrace the concept of employee ownership. This could potentially undermine the benefits of an EOT.
• Access to capital: As EOTs hold a majority of the company's shares, raising external capital through equity financing may be more challenging. Investors may be hesitant to invest in a company with a majority employee-owned structure due to concerns about decision-making processes or potential conflicts of interest.
• Vendor financing risk: If the EOT relies on vendor financing to fund the share purchase, the business owner is effectively providing a loan to the trust, which is repaid using the company's future profits. This arrangement could expose the business owner to the risk of non-payment if the company underperforms or encounters financial difficulties.
• Impact on share value: The transition to an EOT can potentially impact the value of the company's shares. This could be due to market perception, investor confidence or changes in the company's performance resulting from the new ownership structure. Business owners should carefully consider the potential impact on share value when deciding to establish an EOT.
• Limited flexibility: Once a majority of shares are transferred to an EOT, it can be more challenging to reverse the decision or change the ownership structure. This reduced flexibility may be a concern for business owners who wish to retain the option to sell the company or pursue other exit strategies in the future.

Business owners should carefully weigh the potential benefits and downsides of an EOT, taking into consideration the unique circumstances of their company, before making a decision. It is worth consulting with professional advisers experienced in employee ownership to navigate the process and address potential concerns.

What types of companies are best suited for an EOT?

EOTs can be a suitable option for various types of companies in the UK. However, certain characteristics make some companies better suited for EOTs than others. Here are some factors that can indicate a company is well-suited for an EOT:

• Stable and profitable: Companies with stable financial performance and consistent profitability are generally better suited for EOTs. The trust relies on the company's future profits to repay any loans taken for purchasing the shares, so a strong financial foundation is essential for a successful EOT.
• Strong management team: A capable and experienced management team is vital for an EOT. The team should be able to lead the company effectively and maintain its performance after the business owner has exited or taken a less prominent role.
• Engaged workforce: Companies with an engaged workforce that demonstrates commitment, loyalty and a sense of shared responsibility are more likely to benefit from an EOT. Employee engagement is crucial for the success of the EOT model, as the employees will have a more significant role in the company's decision-making processes.
• A forward-thinking exit strategy for the business owner: EOTs are particularly suitable for business owners who are looking for an exit strategy that ensures the company's long-term success, preserves its values and culture, and rewards employees. If the business owner is primarily concerned about maximising the financial return from the sale, an EOT may not be the best fit.
• Manageable company size: EOTs can be suitable for companies of various sizes. However, small to medium-sized enterprises (SMEs) with a manageable number of employees often find the EOT model more feasible and easier to implement.
• Suitable industry: EOTs can be implemented across different industries. However, they are often more successful in sectors where employee engagement and motivation have a direct impact on the company's performance, such as professional services, manufacturing, technology and retail.
• Resilient business model: Companies with a resilient business model that can adapt to market changes and economic cycles are better suited for EOTs. These companies are more likely to maintain their financial stability and performance in the long term, ensuring the EOT's success.

While these factors can indicate a company is well-suited for an EOT, it's essential to engage professional advisers experienced in employee ownership to assess the company's unique circumstances and determine the most appropriate course of action.

How can I set up an EOT for my company?

Setting up an EOT for your company involves several steps. It is a complex process, and it is essential to get expert advice from solicitors experienced in employee ownership, to help guide you through the process. Here's an outline of the steps involved in setting up an EOT:

1. Assess suitability: Before proceeding with an EOT, evaluate whether this model aligns with your objectives and whether your company is well-suited for employee ownership. This assessment should consider factors such as your exit strategy, the company's financial stability, the management team, and employee engagement.
2. Obtain a business valuation: Determine the value of your company by obtaining an independent business valuation. This valuation will be the basis for the share purchase price when transferring the shares to the EOT.
3. Set up the trust: Establish the EOT by creating a trust deed, outlining the trust's objectives, responsibilities and governance structure. Appoint trustees who will be responsible for overseeing the trust and making decisions on behalf of the employees. Trustees can be a combination of employees, company directors and independent professionals.
4. Plan the share transfer: Determine how the shares will be transferred to the EOT. This process will involve deciding the percentage of shares to be transferred (at least 51% for an EOT), and how the trust will fund the share purchase. Funding options may include vendor financing, external financing, employee contributions, or a combination of methods.
5. Draft legal agreements: Work with a solicitor to draft legal agreements, such as the share purchase agreement and any loan agreements, to facilitate the share transfer and outline the terms and conditions of the transaction.
6. Communicate with employees: Communicate the plan to establish an EOT with your employees, explaining the benefits, the structure of the EOT, and how it will impact them. Open communication is essential for fostering employee engagement and ensuring a smooth transition to employee ownership.
7. Complete the share transfer: Transfer the shares to the EOT, complete the required legal paperwork, and register the change in share ownership with Companies House.
8. Implement employee engagement systems: Establish employee engagement systems, such as an employee council or employee representation on the board of directors, to involve employees in the company's decision-making processes.
9. Ongoing administration and management: Monitor the trust's ongoing administration and management, ensuring compliance with relevant regulations, and addressing any issues that may arise.

It is vital to consult with experienced solicitors throughout the process to ensure a successful transition to employee ownership.