Exiting business owners face a variety of options to leave their business behind. A common exit option is the Employee Stock Ownership Plan (ESOP), often used by business owners who have a strong tie to their employees and would like to see their company continue to grow while maintaining control over time. We have collected the 3 most attractive reasons for business owners to choose an ESOP as their Exit Strategy.
1. The ESOP Structure Provides Continued Control for the Owner
The first benefit of an ESOP is in its structure as the business owner can maintain control of the business and achieve a [relatively] low-cost savings plan for the exiting owner. The ESOP therefore is a very useful tool for owners who are not mentally prepared to exit and want to keep their job, salary and reasonable company perks. The ESOP gives owners the flexibility to sell any number of shares to the ESOP at a timing of their choosing. The liquidity and timing of an ESOP offer flexibility in aligning the Exit Plan with personal retirement planning.
2. Company Deductions From ESOP Payments
Because the ESOP is a ‘creature of the tax code’, the second benefit received from selling a portion of your company to an ESOP is that the company will receive tax deductions that are unique to ESOP companies. Without getting into too many details, it is easiest to simply say that ESOPs can, in effect, deduct principal and interest payments for the sale transaction. Therefore, an owner who sells $2,000,000 of stock to an ESOP can see their company benefit from approximately $800,000 in tax incentives over the time period that the ESOP is being ‘repaid’ through annual contributions. These company tax deductions are a large benefit and very attractive to the owner who wants to (1) remain in control of their company, and (2) gain significant tax advantages.
3. “Shareholder” Savings As An S-Corp
This newsletter is mostly focused on the benefits of S-corporation ESOPs (although different benefits are available to C- Corporations as well). Generally speaking, one of the benefits of structuring a company as an S corporation is that all of the taxable income is passed through to the shareholders, and not taxed at the corporate level. The ESOP is a non-tax paying entity (because it is a qualified retirement plan). Therefore, profits that are attributable to the shares that are sold to the ESOP are also exempt from taxation. Taken to the extreme, it is possible to sell 100% of the stock of an S Corporation to an ESOP and have the company become a ‘for profit, non-tax-paying’ entity. This third benefit is rather unique and compelling to owners who truly want to stay in control of the business and no longer have the earnings of the company subject to taxation.
Opus Consulting Group can offer you an initial consultation to determine if you could benefit from an ESOP Exit Strategy Plan. In addition we can provide a complete review of all Exit options available to you and ensure the Exit Option you choose is best aligned with your personal retirement goals.