Banking and Business Monthly – April 2023

In advance of our firm’s next Breakfast Briefs seminar concerning the use of ESOPs as an exit strategy (click here for details and to register), I thought I would use this month’s article to highlight the topic.

An ESOP is one potential exit strategy for an owner seeking to sell his or her business corporation. An ESOP is a qualified defined contribution employee benefit plan that is designed to invest primarily in stock of the sponsoring corporation. It is both a retirement plan and a shareholder transition vehicle. As such, it can be the purchaser of an owner’s equity and can provide employees with an ownership interest in the company.

The ESOP is a flexible tool for structuring stock sales and can be used in a variety of scenarios, such as an owner’s retirement, the buyout of an inactive owner, an estate or divorce sale, and with shareholder disputes and management buyouts. Selling shareholders may sell all or less than all of the outstanding stock. ESOPs can be used to provide continuity of a corporation’s culture and a founder’s legacy. A sale to an ESOP may be a more controllable and friendlier process than a sale to a strategic or portfolio buyer and could result in larger after-tax proceeds to the sellers.

ESOPs can provide significant tax benefits. If the company is an S corporation, the ESOP should not be required to pay income taxes on its share of corporate income. If the company is a C corporation, selling shareholders may be able to defer the gain on the sale of their corporate stock to the ESOP. Furthermore, a company’s contributions to an ESOP are tax deductible. As a result, a sale to an ESOP is the only way by which stock can be purchased from a selling shareholder using pre-tax dollars.

Due to the number of parties involved and an ESOP’s complexity, good candidates for ESOPs are those corporations with quality senior management teams, little debt, stable cash flows, solid performance, and which also satisfy certain size thresholds with respect to valuation and the number of employees. If you or someone you know is an owner looking to sell a business corporation and wants to learn more about ESOPs as an exit strategy, register for our seminar at the link above or contact me at smigala@lavellelaw.com or (847) 705-7555.