An employee stock ownership plan allows employees to become beneficial owners of the stock in their company. ESOPs are defined contribution plans that primarily invest in employer stock, and are governed by the Employee Retirement Income Security Act (ERISA) of 1974.
One of the benefits of Employee Stock Ownership Plans is the tax benefit that employees enjoy. The employees do not pay tax on the contributions to an ESOP. Employees are only taxed when they receive a distribution from the ESOP after retirement or when they otherwise exit the company.
Benefits of ESOP
Tax deductible benefits- the owner of the stock can sell some or even all the shares to the employees free. Increase flexibility of the proprietor- The owner can gradually withdraw or even at once withdraw from the organization. You can sell all your shares to an ESOP and remain part of the company.
Employee Stock Option Plans or ESOPs are perhaps the most important form of remuneration for employees. From a startup's perspective, it helps to maintain liquidity and from an employee's perspective, it is a reward for loyalty.
To begin with, ESOPs offer employees stock in the company without the need to purchase the shares. ... On the other hand, an ESPP permits employees to use after-tax wages to purchase the stock in their company, normally at a discounted price. These programs are usually common in publicly held companies.
When an employee leaves your company, he is eligible to receive the vested portion of the ESOP retirement plan. The rest is forfeited to the company. A vesting schedule is created for retirement plans to prevent constant employee turnover from draining your plan assets.
Participants in the plan can receive significant retirement benefits at no monetary cost to them. Research shows ESOP companies are more productive, faster growing, more profitable and have lower turnover — benefits that accrue to all stakeholders including the retirement accounts of the employee-owners.
Disadvantages of ESOP Plans
The key advantages of establishing an Employee Share Ownership Plan (ESOP) are:
Research by the Department of Labor shows that ESOPs not only have higher rates of return than 401(k) plans and are also less volatile. ESOPs lay people off less often than non-ESOP companies. ESOPs cover more employees, especially younger and lower income employees, than 401(k) plans.
Most ESOPs are leveraged, using some borrowed money to finance the exit transaction for the selling shareholder. Highly cyclical companies prone to volatility are poor candidates for deeply leveraged transactions and can be harmed by lender demands in a downturn.
The value of an ESOP account can grow in two ways – if the value of the stock increases or if additional shares are allocated to the participant's account. Conversely, an ESOP account's value will shrink if the stock value decreases or if share allocations end.
ESOP – or Employee Stock Option Plan allows an employee to own equity shares of the employer company over a certain period of time. The terms are agreed upon between the employer and employee. Grant Date –The date of agreement between the employer and employee to give an option to own shares (at a later date).
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