Have you heard of Employee Ownership Trusts (EOTs)? They’ve been around for a while, but now could be their time in the spotlight. If you’re a business owner who’s looking for a full or partial withdrawal from your business, read on to find out the most tax-efficient way to do this.
What is an Employee Ownership Trust?
EOTs were created in 2014 as a new form of private company ownership. Entrepreneur’s Relief was commonly used previously but was scrapped in the Chancellor’s April 2020 budget and replaced with Business Asset Disposal Relief. This new form of tax relief means that a business owner wanting to sell their business will pay 10% capital gains tax on the first £1m of the sales proceeds, but will pay 20% on the amount remaining – a big increase when compared with Entrepreneur’s Relief.
Not only that, but experts predict that the economic impact of the coronavirus pandemic will mean higher taxes for all of us, and Capital Gains Tax is no exception – rates as high as 42% have been discussed.
|£ million||ER||BADR (20% CGT)||BADR (42% CGT)||EOT|
|Net Proceeds||£9.0m||£7.9m||£5.7m||£10.0 m|
As a business owner, an EOT could be a way to sell some or all of your company while avoiding Capital Gains Tax but increasing employee loyalty.
Why choose an EOT?
An EOT is similar to the model used by the John Lewis Partnerships. It’s an employee benefit trust which holds between 51% and 100% of a trading company’s shares for the benefit of the company’s employees. All employees must benefit on the same terms.
But as well as benefitting employees, there are other benefits too:
- A company owner who sells 51% or more of their business to an EOT is exempt from Capital Gains Tax and Inheritance Tax
- Any employees of a business with an EOT can receive an annual bonus of up to £3,600 a year without having to pay Income Tax, as long as every employee gets a bonus on the same terms. These bonuses are also exempt from Corporation Tax
- Not all shareholders are required to sell their shares to an EOT
- Directors can remain in position, and can continue to be remunerated
- The sales process often goes more quickly and with fewer fees, as an EOT is seen as a ‘friendly’ buyer
- Employees are often more engaged with the company and more interested in improving the businesses performance, so the company as a whole sees improvements
What companies qualify to sell to an EOT?
There are a few conditions which need to be met if a company wants to sell shares to an EOT, including:
- The company must be a trading company or the principal company of a trading group
- Any benefits to employees must be allocated on the same terms (although the Trust can take into account factors such as length of service, salary and working hours)
- The trustees of the EOT must have at least a 51% controlling interest in the company. This ensures it continues to be run for the benefit of the employees
- The number of shareholders with shares outside of the Trust and who are also Directors or employees cannot add up to more than 40% of the total number of employees
What are the disadvantages?
On the face of it, an EOT may look like a less attractive option as the money is normally paid to business owners over a number of years, instead of the single payment you’d normally receive when selling shares. However, this option is often counter-balanced by terms such as earn-out arrangements or vendor-funded deferred consideration. A business accountant will be able to advise as to what may be the best option for you.
What are the steps of a sale to an EOT?
- An EOT needs to be set up, with the business as the Trustee.
- The Trustee Company and shareholders appoint an expert to determine the value of the shares before shareholders sell their shares to the EOT, creating a debt owed by the EOT to shareholders.
- The company continues to run as normal, with any profits used to make contributions to the EOT. These contributions will repay the outstanding debt to shareholders.
Using a business accountancy firm ensures you will be guided through the process, making the transition to an EOT as smooth as possible.
To find out if an Employee Ownership Trust is the best structure for you and your business, simply call us on 01249 691 360 or email us at email@example.com.