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With unique tax benefits, cultural preservation, and opportunities for financial planning, an EOT provides a win-win for businesses and their people. But, like any significant decision, EOTs come with challenges. In this article, we break down the pros and cons.
Employee Ownership Trust (EOT) – The Pros and Cons
Transitioning to an Employee Ownership Trust (EOT) offers a compelling balance between rewarding the hard work of employees and securing a smooth succession plan. With unique tax benefits, cultural preservation, and opportunities for financial planning, an EOT provides a win-win for businesses and their people.
But, like any significant decision, EOTs come with challenges. From reduced upfront cash to governance shifts, there are important considerations to address before diving in. In this article, we break down the pros and cons of EOTs so you can decide if this innovative structure aligns with your goals.
The Pros of an Employee Ownership Trust | The Cons of an Employee Ownership Trust |
1. Fair Market Valuation and a Guaranteed Buyer EOTs rely on independent valuations, ensuring a fair price for the business while providing a pre-established buyer. This simplifies the sale process and reduces uncertainty. 2. Tax-Free Proceeds for Sellers Sellers benefit from a complete exemption on Capital Gains Tax (CGT) for shares sold to the trust, enabling them to maximise the sale value. 3. Simplified Due Diligence EOT sales often involve less intrusive due diligence than other sale structures, minimising disruption to the business. 4. Post-Sale Security for Shareholders Selling shareholders can secure loan note protections, reducing risk during the repayment period. 5. Retained Employment Sellers can remain employed at market-rate salaries post-sale, providing stability during the transition. 6. Inheritance Tax (IHT) Planning Opportunities EOT transactions create opportunities for strategic IHT planning, benefiting both sellers and their beneficiaries. 7. Cultural Continuity Selling to an EOT ensures the preservation of the company’s legacy, values, and independence, aligning with long-term goals. 8. Management Incentives Options like Enterprise Management Incentive (EMI) schemes can motivate management teams to drive growth post-transition. 9. Increased Upfront Cash Potential Sellers can use bank financing to boost their upfront cash payout, though this requires careful financial planning. 10. Interest Income Loan notes held by sellers can provide a steady income stream through interest payments. 11. Shared Costs The company may cover Certain transaction costs, alleviating financial pressure on the sellers. | 1. Potential CGT on Future Sales Retaining equity may lead to CGT on future sales, often at a discounted valuation. 2. Lower Upfront Cash Payments Unlike traditional sales, EOTs provide limited upfront cash. However, sellers can offset this with interest on loan notes. 3. IHT and Income Tax on Loan Notes Loan notes may complicate IHT planning, and interest income is subject to income tax. 4. Governance Adjustments Decision-making shifts to EOT trustees, who must prioritise employees’ interests. Sellers may lose ultimate control and representation limits apply. 5. Compliance with CGT Relief Rules Maintaining CGT relief requires strict adherence to qualifying conditions. 6. Accounting Implications Consolidation of loan notes into financial statements may impact credit ratings and supplier terms. 7. Stamp Duty Costs Stamp duty at 0.5% of the total equity value adds to transaction costs. 8. Excluded Beneficiaries Individuals holding over 5% of the company’s share capital and connected persons (before or after the sale) are not eligible to be beneficiaries of the EOT. |
Is an EOT the Right Fit for Your Business?
Employee Ownership Trusts are more than just a tax-efficient exit strategy. They represent a commitment to shared success, cultural preservation, and sustainable growth. However, they’re not without challenges, from governance shifts to financial planning complexities.
At EquiPartners, we specialise in guiding business owners through the EOT process, helping you navigate potential pitfalls and maximise benefits. If you’re considering transitioning to an EOT, we’re here to ensure your legacy thrives and your team shares in the journey.
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