Employee Ownership Trusts

Partner Mark Williams discusses Employee Ownership Trusts (EOT)

What is an Employee Ownership Trust (EOT)?

An EOT is a type of employee benefit trust which was introduced by the Government in September 2014 in an attempt to introduce more diversity into the UK economy by encouraging employee ownership.

EOTs offer generous tax reliefs to encourage shareholders to sell a controlling interest in their company.

The EOT is a collective vehicle which purchases the controlling interest in the company and holds it on behalf of the employees as a whole.

How does it work?

  1. An EOT is set up by way of an EOT Trust Deed.
  2. Careful thought must be given as to who the trustees will be.  Often a professional corporate trustee is used and use of an employee council should also be considered.
  3. Although it is not a legal requirement to obtain the tax relief, EOTs often elect an employee council who are normally representatives from the beneficiaries (the employees of the company) who are empowered to appoint and remove the EOT trustees and input into certain key decisions.
  4. Since the EOT will be acquiring a controlling interest in the company, almost certainly a share valuation expert will need to value the company and the trustees will use this as the basis for determining the purchase price.
  5. There will be a Share Purchase Agreement under which the shareholders sell their shares to the trustees.

How is the purchase funded?

A key factor will of course be how do the trustees fund the share purchase?  There are a number of possible funding sources and each should be considered depending on the circumstances involved:-

  • Deferred consideration – the selling shareholders could leave the purchase price outstanding and owing to them in instalments to be paid by the EOT over a number of years.
  • Loan funding – this could involve any of the following:-
  1. the company borrowing money and lending it on to the trustees;
  2. the trustees borrowing, eg from a bank; or
  3. the company borrowing and making contributions to the EOT.
  • Voluntary contributions – the company may have sufficient cash deposits or alternatively take out a bank loan.  These funds would be used to make a voluntary contribution to the EOT which would then use those funds to acquire the shares from the selling shareholders.

What are the advantages of selling to an EOT?

There are many advantages for shareholders including:-

  • Shareholders can sell their shares for full market value (backed up by an independent share valuation).
  • It allows employees to indirectly acquire the company from its shareholders without using their own funds.
  • Provided the relevant requirements are met, EOT capital gains tax relief may be claimed by the selling shareholders, ie no capital gains tax should arise on the disposal of a controlling interest to an EOT.
  • Directors can remain in place post-disposal and continue to receive market rate remuneration.
  • Provided the relevant requirements are met, the sale of shares to the EOT by the shareholders will be an exempt transfer for inheritance tax purposes.
  • Once an EOT has been established and the shares transferred, the company may establish a bonus scheme which, provided certain requirements are met, qualifies for income tax exemption on bonus payments up to £3,600 per employee per tax year.

Qualifying conditions

As you would expect with such generous tax reliefs, there are various conditions that must be met:-

  • The company whose shares are transferred must be a trading company or the principle company of a trading group.
  • The trustees must retain on an ongoing basis at least a 51% controlling interest in the company.
  • The number of continuing shareholders who are directors or employees (and persons connected with them) must not exceed 40% of the total number of employees of the company or group.
  • The shares must generally be applied for the benefit of all eligible employees on the same terms although trustees may distinguish between employees on the basis of length of service, remuneration and hours worked.

How can Gaby Hardwicke help?

Our specialist solicitors have over the last couple of years worked with various accountants, clients and companies on establishing employee ownership trusts on deals valued at between £400,000 to £50m.  We can prepare the EOT Trust Deed, the Share Purchase Agreement and associated legal documents. We can also, if necessary, recommend you to accountants we have worked with to provide specialist accountancy and tax advice.

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