The United States has officially passed a law that strives to make it easier for small and midsize businesses to transition ownership to their employees.
The law involves Employee Stock Ownership Plans (ESOPs). The Act provides no extra funding for ESOP projects, but it does fast-track how loans are dispersed for those making the transition to an ESOP. In particular the law direct the Small Business Administration (SBA) to make these loans more available to co-operatives. It also directs the SBA to work with Small Business Development Centers (SBDCs) around the country to help provide technical training, executive education, and one-on-one consulting for those making the transition.
With an ESOP, business owners can shift ownership of the company to their employees. The transition — essentially, employees gradually acquiring company stock — can help aging owners make an exit from the company. Employees pay no tax on their ESOP contributions, only being taxed for the distribution of their account.
ESOP Law: Proponents and Reactions
The new ESOP-related law involves the Main Street Employee Ownership Act, which was first introduced by Senator Kirsten Gillibrand (D-NY) in May 2018 and championed by Nydia Velázquez in the House of Representatives. President Trump signed the act into law this month; it’s the first such law to focus on employee ownership in more than 20 years.
The ESOP Association has lauded the Act with the Association’s president J. Michael Keeling, saying “This law will help organizations better understand how to pursue a strategy of shared capitalism—something that our country’s founders agreed was vital to the health of our nation.”
“As businesses become more aware of employee ownership’s advantages—which include higher corporate performance, a share in the rewards for employees, and a retirement plan that often outperforms other alternatives—it is easy to see employee ownership increasing, just as Alexander Hamilton, Thomas Jefferson, and George Washington hoped it would,” he said.
The first ESOPs emerged around 40 years ago. In 2015, there were about 8,900 ESOPs in the U.S. covering 13.5 million workers, according to investment banking firm Butcher Joseph & Co. (who also served as “subject matter experts” in the passing of this law).
History of ESOPs, Plus Pros Cons
ESOPs offer a range of potential benefits and some potential risks for those involved.
For instance, employee-owners have more job stability than non-employee-owners, according to one study. Employee-ownership has also shown to be advantageous for workers with families. For those households with children between 0 and 8 years old, the employee-ownership advantage translates into a median household net worth of nearly twice that of those without employee ownership. Employee-owners are also more confident in their financial future, according to another study.
While there are certainly benefits to an ESOP, they also invite risks for employees at companies that have inconsistent profits and poor financial controls in place. For instance, employees can suffer if a company’s stock valuation doesn’t represent the company’s true worth. That disconnect can trigger big losses for employees, who essentially “buy” the company at too high a price. Lawsuits involving ESOP valuations have popped up from time to time.