We have been discussing the benefits of selling to an ESOP. A review of existing research on ESOPs found that ESOP companies have greater employment stability. The studies found that the average employee tenure was "significantly longer" than their non-ESOP counterparts and that firms were more likely to adjust wages than the number of employees. It also found a mild increase in "job satisfaction, organizational commitment, identification, motivation, and workplace participation.”
The article Legislation would encourage creation of more ESOP companies shares commentary from Van Meter and CarePro, two prominent Iowa ESOP companies, on Iowa House File 2085 – Iowa’s ESOP Initiative to promote selling to an ESOP. The article discusses the need for establishing incentives to sell to an ESOP and how selling to an ESOP rewards loyal employees and preserves the company legacy and provides a business owner with liquidity and diversification.
Every small business owner will face a time when they will need to sell their company. When a small business is put up for sale to a third party, particularly in rural areas, local jobs and the other benefits are at risk. Since an acquiring business may not have any ties to the local community, they could liquidate the assets of the company or relocate the company operations to a different location. This obviously has negative consequences for the employees and the community.
The capital gain rate is now 20%. In addition, capital gain income will also be subject to an additional 3.8% Medicare tax. This rate makes an IRC Section 1042 Tax Deferred Sale of Stock to an ESOP more attractive than when capital gains were lower.
One reason that business owners put off succession planning or even contemplating the thought of selling their business is because they are not ready to retire. They legitimately worry about the loss of control of handing over the company to a third party. Selling to an ESOP enables a business owner to sell all or a portion of the company, providing a business owner with liquidity and diversification, while at the same time retaining control of the day-to-day operations of the company.
As you may know from your financial planning and estate planning efforts, business owners can build a significant amount of wealth in the company they have invested their life creating and growing. Unfortunately, this value is accumulated in an otherwise illiquid asset, preventing a business owner from enjoying the fruits of his or her labor. There is also the risk of having a large portion of wealth tied up in a single concentrated stock position.
In our discussion on how selling to an ESOP creates an internal market and built-in buyer, I mentioned how an ESOP transaction can be closed in as soon as 90-120 days. While a more realistic period is four to six months, a properly planned straightforward ESOP transaction can take place in 90-120 days if the seller is committed to selling to an ESOP and is willing and able to respond quickly and make timely decisions.
Are you beginning to consider your business transition alternatives? Whether you are looking for an exit strategy in the near future or are satisfying your succession planning responsibilities, all business owners will eventually need to find a buyer for your business. The lack of a qualified buyer creates a problem for many business owners, especially in our current economic environment. This can especially be a problem for small business and businesses located in rural areas.
One of the more compelling reasons to sell to an ESOP is selling to an ESOP increases company cash flow by eliminating income taxes. In other words, the tax savings for selling to an ESOP will provide the funding for most of the sale of the company to the ESOP.