What is an employee ownership trust and how does it work?
An Employee-Ownership Trust (EOT) is a medium of share ownership whereby employees, collectively, hold a controlling interest in the company through the vehicle of a trust. An EOT is a specific type of employee benefit trust which benefits employees in the form of shares and share options, with advantageous tax mechanisms that transfers control to employees.
It was introduced by the coalition government in 2014, their objective being to incentivise and encourage employee ownership. Whilst introduced in 2014, the announcement made by the government in the 2020 budget regarding the sweeping reduction to Entrepreneurs Relief could mean this avenue proves popular and attractive to business owners.
EOT's have been described as an instrument for a planned exit to provide for an appropriate succession. It can be difficult to find a suitable buyer and an approach of this nature provides an avenue and a choice to accommodate the best interests of the business.
It is important not to be duped. Employees hold shares through the medium of a trust and so the trust holds the shares. The intention and objective is that the shares held in trust will eventually be used to the benefit of employees, for example distributing annual bonuses. It will be those employees who are employed on the date of issue of the bonus or an exit.
What are the tax advantages?
From a tax perspective, the beauty of an EOT is that when a controlling interest in the trading company (or the principle company as the case may be) is sold; the interest is deemed to have been sold with zero gain (and zero loss) meaning the seller is not subject to capital gains tax (CGT).
The current CGT rates can be as high as 20% and whilst it can be bolstered by a myriad of exemptions and allowances, the advantages for EOT purposes does mean that the zero gain is better than the minimum 10% of CGT (taking exceptions into account) if the company was sold on an open market.
The annual bonus distributions is not a dividend equivalent so it is without fuss regarding profits and distributable reserves. From an employee perspective, the scheme allows for a bonus of up to £3,600.00 per employee each tax year. The bonus is exempt for income tax purposes; the exception does not extend to the class 1 National Insurance contributions.
What are the main qualifying conditions?
For the purposes of capital gains tax relief (CGT), it is a requirement that the company whose shares are transferred must either be a trading company or the principle company of a trading group. An almost identical condition is applied for the purposes of income tax.
The EOT must meet the 'all-employee benefit requirement' and 'all-employee equality requirement'. This means that employees must be treated equally in respect to any benefits received. There are carve outs to equality and factors such as remuneration, length of service and hours worked are a few of the small number of permitted distinguishing features. All employees must benefit unless they already hold more than 5% of the share capital of the business.
The trust must at all times own more than 50% of the ordinary share capital in either the trading company or the principle company of the trading group; the trust must hold over 50% of the voting rights; entitled to more than 50% of the profits and assets on a winding up and any reduction must be with trustee consent. As such, it is critical to be mindful of company structure post-acquisition to ensure the criteria does not fall short of the requirements - at any point.
If you want to discuss EOT further, please feel free to get in touch with someone from our corporate team who would be happy to assist you. Please contact us at firstname.lastname@example.org or call us on 029 2009 5500 to speak to one of our team.