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Hey everybody. This is Gene Marks and welcome to the Small Biz Ahead podcast for this week. I want to talk about something that I think is really important to a lot of business owners around the country and that’s selling your business. When you look around at businesses that are thinking of an exit plan that have a succession strategy, at least putting one into place, they’re looking for a good buyer for their business and also at the same time, a good way to make sure that they take care of their employees. I recently wrote about this and interviewed some business owners in particular, that were involved in employee stock ownership plans. And what I’ve learned is that ESOP’s employee stock ownership plans, or even co-ops any availability of employee ownership is really a great way to eventually sell your business over time.
And also is a great potential benefit that you can provide to your employees. So, let’s dig into it a little bit. First of all, according to a recent study from SCORE, which is an arm of the Small Business Administration, more than half of our country’s small business owners are owned by people over the age of 55. I mean, many of them like me are thinking of succession planning, which could include selling our businesses over the next five, 10 years or so. So if that’s something you’re thinking about, then you may have a built-in buyer already and that’s your employees. And if that’s the case, you may be a good fit for an employee stock ownership plan. I mean, as of 2018, right now, there were less than 7,000 companies that were employee owned, but that number is significantly growing.
Right now those companies owned about $1.4 trillion in assets and cover about 14 million participants. So, there’s a lot of people, a lot of employees that are part of ESOP plans and a lot of small businesses are realizing the benefit. I talked to one business owner outside of Philadelphia where I live. He runs a company called new age industries and they manufacture plastic and rubber tubing. He put it in ESOP plan back in 2006. He did it through contributions over a period of time. I mean, he told me, did he want to sell to private equity or to a competitor or to a multinational? And he looked at all of the different sources of selling his company. And by the way, he’s got about 265 employees. He decided to sell it to his employees. Now you don’t have to be a big company to take part in this.
I mean, there are things called co-ops as well. So if you’re interested in employee stock ownership, there’s a great resource that you should consider. It’s called employee ownership equals.org. It’s all one word. It was a site that was recently set up by a group of nonprofit organizations and they will provide for you like a quiz to go see what organization structure is right for an employee ownership plan for you, and also connect you to experts from the nonprofits, so there’s no costs, that will walk you through the process and talk to you about what you want to consider. Okay. So, let’s talk about that process. Say you might have an inkling and in turning your company into an employee stock ownership. Okay. So first of all, you need to put together a few financial professionals, right? To help you with this good accountant, a good attorney, you will need to set up an entity outside of your business.
A separately owned entity, that’s owned by your employees. It’s usually a trust, but it’s a separate entity. Your employees each own a share of this entity. You can determine as the person setting up this entity, the formula for your employees owning their shares. Maybe that share ownership is based on their tenure with your company or you know, their title or their age or their compensation. You can determine that with your financial team, as to who owns what share of that third party entity. You as the business owner, then sell your shares to that entity. Now you don’t have to sell your shares all at one time, you can sell them in pieces. So I spoke to a few business owners that sold their businesses, like 20% now. And then a few years later, another 20% and then another 20%.
So it’s not like you’re giving up control of your business right away or at all. It’s just that you’re relieving some of the equity in your business and you’re selling it to your employees. Now, your employees, they don’t pay anything for these shares. Why? Because you get a bank involved. Banks finance this transaction. So, when you sell your shares in your company to that outside entity, that’s owned by your employees, the bank finances it and a bank will pay you for those shares. The debt goes on your company’s books. And as your company pays off the debt, the tax rules allow for that company, your company, to get a tax deduction for those payments. So, that you’re paying off this loan over time. You’ve sold some of your shares already. So you’ve gotten cash in your pocket. And as your business pays off this loan your business is getting a tax deduction.
There’s another huge tax benefit to ESOP’s as well. Whatever percentage your company that entity owns of your company say it’s 30%. The income that’s allocated to that entity is non-taxable. So, your employees own say 30% of your company. They have 30% of the company’s income that’s allocated to them, but they don’t get taxed on it at all. And remember, even though you’re selling shares of your company to this entity, you might still remain as an employee of the company. So, you can participate in that entity, that is the employee owned entity that has those shares. So, you’re not only selling your shares, but then you’re getting the benefit of the income tax-free going over time. Now, listen, I may be oversimplifying a few things, so, you know, take this with a grain of salt. But there are many rules and ways you can do this.
I mean, again, like I said, you can contribute your shares over time. If you have partners, your partner can decide whether or not they want to sell their share to that entity, to that trust. You can determine that formula based on a whole bunch of different things. Okay. The thing that’s really important about ESOP’s or even co-ops employee ownership, is that it’s an amazing benefit for your workers. I mean, the narrative is today, you read all the news, you see a lot of workers want to have more of a say in what their companies do that they work for. And there’s been all sorts of cases around employees talking about your practices, the bigger companies, they want to have more of a say. By giving your employees equity in your company, you’re not handing over control, but you are giving them a piece of the pie, which means they can have more involvement in how your company is doing and talk to you more and have more of a say.
And again, you, as the owner can still maintain majority control. So, you’ll have the ultimate decisions, but at least it involves your employees more. So it’s a great great benefit plan for not only retaining your existing employees, but also for attracting new employees. Just think about that. You go to a new employee there, again, in this era of labor disruption and such a low supply of labor, you say to a potential employee, listen, you join our company and in a year or two years, whatever the timeframe is, you can be part of our employee stock ownership plan and actually have a piece of the company. Now there’s some drawbacks to employee ownership plans that you need to be aware of. For starters, like I said earlier, it’s a benefit plan. So you’re going to have some tax filings to do. And you’re going to have to make sure you’re within the rules of benefit plans and making sure it’s not discriminatory or anything like that.
In addition to that, every year, you’ve got to get an appraisal of your company. And that’s an expense to do that. And the reason why you do that is because when an employee leaves, the company has got to buy back the shares for that employee, you can’t be part of an employee owned company, unless you’re an employee. So the only way you can figure out what the value is of those shares is by getting an appraisal every year so that you can buy it. One business owner that I interviewed, he said that his ESOP plan has significantly helped with his turnover, significantly contributed to more commitment in how long people are staying in this company. And he also said that his productivity numbers I’m quoting him was just off the charts.
He said it’s such a form of ownership that gives those employees so much more say in what they’re doing. It really becomes a really good thing. Now, do you qualify? The rule of thumb is that companies with usually more than 10 employees can start considering some type of an employee ownership plan. Again, it might be a co-op or it might be an employee stock ownership plan. So, that’s why you want to go to that employee ownership equals.org place, because it is a place that you can get all sorts of resources, help and advice to setting up an employee ownership plan. So, let me recap for you guys. Okay. You’re trying to sell your business. The demographics were a lot of us are getting old. You can’t find a buyer or you’re not getting your price.
So you’re like huh, maybe I’ll sell my business to my employees. If you make that decision. And then by the way, to implement this, take some time, six months or so, but say you make that decision and implement it. You set up a separate entity, that entity is owned by your employees. You determined how that ownership works. You sell your shares to that entity, it gets financed by a bank. The employees pay nothing. They own a piece of your business, a portion, or all eventually. The bank that finances it gets paid back by your company. And the company gets a tax deduction, any income that’s allocated to that entity, not taxable to the employees that own it. So it’s huge. So, not only is it a way for you as a business owner to get out of your business over time, but it’s just an incredible benefit to provide not only to your existing employees, but to new employees.
That is it in a nutshell one more time. I’ll give you that website, employee ownership equals.org. I definitely recommend that you check it out. Hope this information is helpful. I think as I’ve been talking about ESOP’s and employee ownership around the country to a lot of business groups, it has sparked a lot of interest. And I think that if you are in the right demographic and looking for a good buyer for your company, employee ownership, really good beef for you. Well, thanks for joining me. Hope you found this again, information helpful for your business. My name is Gene Marks. You’ve been listening to the Small Biz Ahead podcast. Listen, if you need any help, advice, tips for running your business, please join email@example.com. I will be back to you next week with a new podcast of thoughts for the week. Thanks for joining me now. Take care.
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