ESOP
Is an ESOP something you should know more about? Many Business Owners think it is.
All business owners have some things in common. They all face day-to-day decisions that must be made and they all, at sometime, consider what EXIT strategies are or will be available to them. ESOP’s have been around for some time now, and are used as an exit strategy, but can also be used by an owner who still wants to retain active control and work with the business that he/she created.

Important That You Know First

1. ESOP’s do not happen over night, usually 6-8 months.
2. Congress is eyeing ESOP’s as they know they are missing out on a lot of tax money. Plans are in place to change this tax advantage in 2009 or 2010.
3. We will set up another meeting with you and your legal and tax advisors to offer more details and provide you more information.

What Is An ESOP?
An ESOP is one kind of employee benefit plan. Governed by ERISA (Employee Retirement Income Security Act), ESOPs were given a specific statutory framework in 1974. In the ensuing 12 years, they were given a larger number of other tax benefits.

A Short History of the ESOP
The employee stock ownership plan (ESOP) concept was developed in the 1950s by a lawyer and investment banker Louis Kelso. In 1973, Kelso convinced Senator Russell Long, chairman of the tax-writing Senate Finance Committee, that tax benefits for ESOPs’ should be permitted and encouraged under employee benefit law. Soon, federal legislation promoting ESOPs appeared, most importantly the Employee Retirement Income Security Act of 1974 (ERISA).

Why Employee Ownership is Popular
There are a number of reasons. ESOPS provide attractive tax benefits. They allow companies to borrow money and repay it in pretax dollars. They provide a way for owners of closely held businesses to sell all or part of their interests and defer taxation on the gain. The local Chamber of Commerce loves ESOP (An Employee owned Company) because it keeps an owner from selling his business
wholesale, having it stripped down and moved to another city or country. This eliminates a vacant building and higher unemployment.

How ESOPs Are Used
The most common application for an ESOP is to buy the shares of a departing owner of a closely held company at full appraised value, not negotiated down. Owners can defer or pay no tax on the gain they have made from the sale to an ESOP; moreover, the purchase can be made in pretax corporate dollars. Out-right selling of your business, usually at the reduced tax, can make Uncle Sam your largest
benefactor while he took no risk. Is that what you want?

How an Employee Stock Ownership Plan (ESOP) Works
By far, the most common form of employee ownership in the U.S. is the ESOP, or employee stock ownership plan. Almost unknown until 1974, about 11,000 companies now have these plans, covering over 8 million employees. Almost 100% of the Fortune 500 Companies have ESOPS; even though, they are publicly held. ESOPs are most commonly used to provide a market for the shares of departing
owners of successful closely held companies to motivate and reward employees or to take advantage of incentives to borrow money for acquiring new assets in pretax dollars.

Uses for ESOPs
1. Tax avoidance, because many times a company’s owner has “no” cost basis in the company he created;
2. To buy the shares of a departing owner: Under this approach, the company can make tax-deductible cash contributions to the ESOP to buy out an owner’s shares, or it can have the ESOP borrow money to buy the shares (see below). In C corporations, once the ESOP owns 30% of all the shares in the company, the seller can reinvest the proceeds of the sale in other securities and defer any tax on the gain;
3. To borrow money at a lower after-tax cost: ESOPs are unique among benefit plans in their ability to borrow money. The ESOP borrows cash, which it uses to buy company shares or shares of existing owners. The company then makes tax-deductible contributions to the ESOP to repay the loan, meaning both principal and interest are deductible;
4. Create orderly management succession and transfer of authority;
5. Diversity in investment holdings;
6. Create liquidity and flexibility.

Selling Stock in a Closely Held Business to an ESOP
Perhaps the most powerful tax and business succession planning tool available to shareholders of closely held company is the ability to sell stock to a trust created pursuant to an employee stock ownership plan (ESOP) and defer or permanently avoid taxation on any gain resulting from the sale. The ESOP structure also is very powerful for the company from a tax and financial perspective because it provided for tax deductions to the company for the funds that are used to fund the purchase of company stock.
An ESOP also can produce greater commitment and productivity from employees and, in turn, greater stock value, provided that employees understand how their work affects the stock value and are given an opportunity to have constructive input on their day-to-day efforts in the workplace. It is amazing how much more efficient employees become when they have equity in their own business. They pick up trash, turn the lights out and conserve supplies and promote the business.

Deferring Taxation Using the Section 1042 “Rollover”
Providing for business continuity is one of the most difficult challenges for closely held companies. Even if buyers can be found, the terms of their offers usually will not be acceptable, either financially or personally. For example, a buyer may want to shut down the company or eliminate valued employees. Usually, a new buyer, wants to buy assets only, as they do not want any liability, either previous or current. As hard as it is to sell a business outright, it is even harder to sell it in stages, allowing for a gradual withdrawal by the owner; or others to have a partial ownership interest an ESOP provides a way to accomplish these goals in a tax-advantaged manner and to manage the sale process more effectively. The ESOP allows the company to use pretax dollars to buy out the owners. This can be done under whatever schedule is practical, and the seller(s) can defer or avoid capital gains taxation on the sale proceeds.

Wall Street Brokerage is ready to start the process to investigate with you and your advisors on the potential an ESOP can provide you. It is not a plan that fits everyone, in fact, only a minor percentage of interested parties are either eligible or can qualify for the requirements.

If your company has the desire to be in the company, not necessarily the size of companies like Southwest Airlines, ABC, Home Depot, Chase Bank, Union Pacific, GM, Walgreen and countless others, and your thinking about succession in your management, Think ESOP, it solves many problems and the rewards are unbelievable. The next step in investigation will quickly tell you whether you are a candidate or not, and we do not charge for this next preliminary work, call us you have a lot to gain and nothing to lose, by taking the next step.

Call us at 806-794-7300 or toll free 866-794-7373

Excerpts taken from NCEO "National Center for Employee Ownership”