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Unlocking the Benefits of Selling to an Employee Ownership Trust (EOT)
For many small business owners, the decision to sell their company is one of the most significant milestones in their professional journey. It’s not just about financial returns—it’s about ensuring the legacy of the business, protecting the future of employees, and finding the right successor who shares their vision. One increasingly popular and impactful exit strategy we are seeing at Frazer Hall is selling to an Employee Ownership Trust (EOT).
At Frazer Hall, we’ve helped numerous business owners navigate this transition, and we’ve seen how EOTs can deliver exceptional benefits for owners, employees, and the business itself. Here’s why selling to an EOT could be the ideal solution for you.
What is an Employee Ownership Trust?
The EOT was introduced in the UK by the Finance Act 2014 to encourage business owners to sell their companies to their employees. The goal was to create a model where employees directly benefit from the success of the business, fostering higher engagement, productivity, and long-term growth. Since its introduction, the number of EOT-owned businesses in the UK has grown significantly, surpassing 1,000 in 2022 and now standing at around 1,700.
An EOT is a trust that acquires a controlling interest (at least 50.1%) in a company on behalf of its employees. The trust becomes the majority shareholder, while the day-to-day operations are managed by the company’s board of directors. This structure ensures that employees have a meaningful stake in the business without disrupting its operations.
Why Sell to an EOT?
- Preserve Your Legacy
Your business is more than just an asset—it’s a reflection of your hard work, values, and vision. Selling to an EOT ensures that the culture and ethos you’ve built over the years remain intact. By transferring ownership to your employees, you’re entrusting the business to those who know it best. This allows your legacy to live on, even after you’ve stepped away. - Reward and Empower Your Employees
Your employees have been instrumental in the success of your business. Selling to an EOT is a powerful way to reward their loyalty and dedication. By giving them a tangible stake in the future of the company, you’re fostering a sense of shared purpose and commitment. Studies show that employee-owned businesses often outperform their competitors, thanks to higher levels of engagement and motivation. - Tax Advantages for Business Owners
One of the most compelling reasons to consider an EOT is the potential tax benefits. In the UK, sales to an EOT are exempt from Capital Gains Tax (CGT), provided certain conditions are met. This can result in significant savings for business owners, making it a financially attractive option compared to traditional sales. Additionally, employees can receive tax-free bonuses of up to £3,600 per year, further enhancing the appeal of this model. - A Smooth and Gradual Transition
Selling to an EOT allows for a more gradual and controlled transition. Unlike a sale to a third party, which can often be abrupt, an EOT provides the flexibility for you to remain involved in the business for a period of time, if desired. This ensures continuity and stability, giving employees and stakeholders confidence in the future. - Strengthen the Business’s Long-Term Future
Employee ownership can be a powerful driver of long-term success. When employees have a direct stake in the business, they are more likely to be invested in its growth and sustainability. This alignment of interests can lead to better decision-making, improved customer service, and a stronger competitive edge. For many business owners, knowing that their company is in safe hands and poised for future success is the ultimate reward.
How Does an EOT Work?
The process of selling to an EOT involves several key steps:
- Valuation and Agreement: The sale price is agreed upon by the owners with the assistance of their advisers. A valuation and affordability analysis are typically conducted to ensure fairness.
- Legal Documentation: Key documents include;
a. a share purchase agreement,
b. a trust deed (to outline the trust’s conduct),
c. updated articles of association, and
d. an employee handbook. - Trust Creation: The trust is established, and trustees are appointed. Trustees typically include a representative from the sellers, at least one employee, and an independent non-executive director.
- Share Transfer: The shares are sold to the trust, with the trust owing the debt to the sellers. This debt is usually funded through the trading company’s post-tax profits, though third-party financing can also be used.
- Payment Structure: Sellers are typically paid through a combination of surplus cash/assets at completion and deferred consideration from future profits.
Key Considerations for EOTs
While the benefits of selling to an EOT are clear, it’s important to ensure the model aligns with your goals and circumstances. Here are some key points to consider:
- Qualifying Criteria: To benefit from tax relief, the company must be a trading entity (not an investment company), and the sale must be for commercial reasons. Additionally, the trust must hold at least 50.1% of the shares, and no individual employee can own more than 5% of the shares post-sale.
- Governance: The EOT becomes the majority shareholder, but day-to-day operations are managed by the company’s board. Trustees oversee the trust and ensure it acts in the best interests of the employees.
- Employee Involvement: Many EOTs establish an Employee Council, a representative body that ensures employee voices are heard in key decisions.
Pros and Cons of EOTs
The Pros
- A fair valuation of the company.
- Exiting shareholders pay no Capital Gains Tax.
- Employees can earn up to £3,600 in annual tax-free bonuses.
- The business’s legacy and culture are preserved.
- Owners can remain involved after the transition, both as directors to help transition to a new management team, and as a minority shareholder should they choose.
- Employees are more motivated and engaged.
- A quicker and more certain process compared to third-party sales.
The Cons
- Sellers may not receive all proceeds upfront.
- Strategic buyers are likely to pay more.
- Deferred payments depend on the business’s future performance.
- Inheritance tax issues may need consideration.
- Potential loss of control as trustees hold directors accountable and may have conflicting views to the directors.
- Strict qualifying criteria must be met to access tax incentives.
Is an EOT Right for You?
While the benefits of selling to an EOT are clear, it’s important to carefully consider whether this model aligns with your goals and circumstances. At Frazer Hall, we have a history of guiding business owners through this process, providing expert advice and support every step of the way.
If you’re exploring exit strategies and want to learn more about how an EOT could work for your business, we’d be delighted to help. Please contact one of our team members listed below to start the conversation.
Download the Employee Ownership Trust Checklist here Employee-Ownership-Trust-Checklist.pdf (pdf)