For business owners, ESOPs can be an attractive exit strategy that provides flexibility and also rewards employees. Owners may be able to sell their businesses faster and more simply through an ESOP than through other avenues, and they also offer the ability to sell the business gradually. If certain qualifications are met, owners may also be able to defer substantial capital gains taxes or reduce overall tax liability on the sale.
Employee stock ownership plans also come with tax benefits for both the company and the employee. ESOPs are structured as trust funds, and the contribution of new shares or cash to the fund is tax-deductible for the company. S-corporations, which are businesses that pass corporate income, losses, deductions, and credits along to shareholders, can even avoid income taxes if they are fully owned by an ESOP.
Additionally, employees only pay taxes on shares they’ve accumulated through an ESOP when the stock is distributed. Capital appreciation on the stock at the time of distribution is taxed as capital gains rather than income, and distributions from an ESOP can be rolled into IRAs and other retirement plans to avoid penalties if the recipient is below retirement age or for other tax advantages.
