Employee ownership – the facts

Essentially, a company is employee-owned when the majority of its shares are held by staff members. But there is more to the prospect than that. The Nuttall Review defines employee ownership as: “a significant and meaningful stake in a business for all its employees… [which] goes beyond financial participation. The employees’ stake must underpin organisational structures that ensure employee engagement. In this way employee ownership can be seen as a business model in its own right.” Employee ownership is more than just a technical business structure; it’s a way to involve staff in the everyday running and management of the company. This increases engagement and helps create a stronger, more productive business. 

Employees can either own individual shares directly, or hold shares indirectly through an Employee Ownership Trust (EOT). Many companies combine trust and share ownership in what’s often called the hybrid model. The most common process, however, is to form an EOT, which purchases the shares from the owner. The Trust holds the shares on behalf of the employees. The management team still run the company, with the board of directors responsible for the success of the business. Subject to certain conditions, the EOT also brings some tax advantages to both the owner as seller, and the employees.

Watch our video guide on selling your business to an EOT.

Employee-owned businesses are organised like any other private firm, with a Board of Directors and a professional management team. The key difference is the presence of the Employee Ownership Trust.

The Trust exists to make sure the Board operates in the long-term interests of the employees. Trustees are tasked with holding the Board to account, just as shareholders would in a corporate enterprise.

As well as these governance matters, there is likely to be more focus on employee voice and engagement. More information is shared with staff, and they’ll be given more scope to comment on the company’s performance and propose new ideas.  

Employee ownership gives workers a meaningful stake in their organisation, together with a genuine say in how it is run.  It roots business in Scotland, drives performance and boosts economic wellbeing.

Benefits of selling to an EOT include:

• Get a fair market value for your business
• Preserve your company location and culture
• Avoid the hassle of a commercial sale
• Keep existing management
• Safeguard a family legacy
• Exit gradually
• Tax implications of switching to an EOT owned company

Tax incentives were introduced in 2014 to encourage more company owners to consider employee ownership. The Employee Ownership Trust (EOT) has been designed specifically for employee-owned companies.

When owners sell more than 50% of the shareholding to the EOT, the transaction is exempt from Capital Gains Tax, providing the following conditions are met:

• The relevant company is a trading company or the principal of a trading group . 
• The trust meets the all-employee benefit requirement: the application of any settled property is restricted to the benefit of all eligible employees on the same terms.
• The  trust meets the equality requirement: any trust assets must be applied only for the benefit of all eligible employees other than excluded participators.  
• The trust meets the limited participation requirement: the number of continuing shareholders, and any other 5% participators who are directors or employees (and any connected persons), must not exceed 40% of the total number of employees of the company or group.
• The Taxation of Chargeable Gains Act (TCGA 1992) Section 236H does not apply in relation to any related disposal by the claimant or a person connected with the claimant which occurred in an earlier tax year.

There is an income tax exemption of up to £3600 per employee each tax year on certain qualifying bonus payments (with NIC liabilities continuing to apply) providing the following conditions are met:

• It is the employing company and not the Trust that must pay the qualifying bonus.  
• Every eligible employee must participate on the “same terms”. This requirement will not be infringed if an award is determined by reference to remuneration, length of service or hours worked. 
• A combination of these factors can be applied, but must be applied on the same terms to all qualifying employees. 
• Because the bonus is paid from the employer and not the Trust, all eligible employees are entitled to receive the bonus, even if the employee is an excluded participant.  

In order to avoid falling foul of anti-avoidance legislation, owners usually get a clearance from HMRC explaining the nature of the employee ownership transaction, emphasising that the prime purpose is to transfer control of the enterprise from the owners to the EOT and not to secure tax advantages. 

In the event of a breach of the Trust requirements – for example, if the company is sold in future – then the trustee of the EOT would incur a Capital Gains Tax liability based on the market value of the shares within the EOT at the time of the disqualifying event and the inherited base cost.

CDS can provide business owners up to three days of funded support with an experienced adviser to help them explore their options. If employee ownership is identified as a possible exit solution, an employee ownership feasibility study will be undertaken. The report will examine potential ownership structures, as well as options for governance, management, funding and how a transition would occur. Our specialist advisors can also advise around implementation. Get in touch with us to find out more about support.