What is an Employee Ownership Trust…
An employee ownership trust is a form of employee benefit trust which allows employees to have indirect ownership of their employer company. A business owner can transfer a controlling interest (more than 50%) in a company to a trust which is held for the benefit of employees. There are both practical and tax advantages to this arrangement as opposed to a direct transfer of shares from the business owner to the employees themselves. With an employee ownership trust, the business owner is protected from the risks of employees having a direct controlling interest in the company.
In our experience, employee ownership trusts have been predominantly used by privately owned businesses where the founder shareholders wish to reduce their day-to-day involvement in the company or simply release some capital. Employee ownership trusts are also increasingly being considered by professional services firms where equity partners are looking to retire and sell their share in the firm or to create a way to incentivise employees.
Employee ownership trusts offer significant tax and other advantages not only to employees but also to business owners themselves and the company.
A key advantage for business owners in transferring shares to this type of trust is that the transfer can be made to the trust free from capital gains tax or inheritance tax. In addition, it may also provide a straightforward exit route for the business owner particularly if there is no indication of a third-party buyer in the near future. The business owner does not have to sell all their shares, they can retain involvement in the business provided their shareholding is less than 50%.
Employee ownership trusts also offer advantages to employees and brings into line the aims of shareholders and employees. The trust can pay bonuses to employees of up to £3,600 per year free from income tax. There is evidence that such schemes improve employee confidence and retention.
The company itself is likely to see a positive impact from the creation of a trust of this nature on the basis of increased employee engagement and incentivisation. Any remaining shares in the trust can be used to incentivise key employees. In addition, the company will be entitled to a deduction from corporation tax in respect of employee bonuses made under an employee ownership trust.
In order for a sale to a trust to qualify as an employee ownership trust, there are a number of conditions that must be met. These include that the company must be a trading company (or the principal company of a trading group) and that the trust must hold a controlling interest of over 50% of the ordinary shares in the company. There are also employment eligibility requirements that need to be complied with.