Employee ownership trusts have become a talking point in recent months. So, we thought now would be the perfect opportunity to explore the pros and cons of EOTs and who they might be suitable for.

Plus, we consider how the Government consultation on the tax treatment of employee trusts might impact taxpayers.

What is an employee ownership trust?

An employee ownership trust (EOT) is a type of employee benefit trust (EBT) where the trustees own and control the company for the benefit of all the staff. EOTs receive tax-favoured treatment through tax reliefs.

Employee trusts may be set up for a range of reasons, such as to reward and motivate key employees through share ownership.

Who should consider an EOT and why?

Anyone who owns shares in a limited company should consider whether an employee ownership trust would be a viable option as part of their exit strategy from the business.

You can use an EOT in succession planning, and they allow employees to have a stake in the business.

What are the benefits of an employee ownership trust?

Provided certain conditions are met, the benefits include:

  • Exiting shareholders don’t pay capital gains tax (CGT) on the sale of their shares to the EOT.
  • There is no inheritance tax (IHT) charge on the transfer of shares to an EOT, and the EOT itself is exempt from the IHT ‘relevant property’ regime.
  • The beneficiaries of the EOT can receive a bonus of up to £3,600 per year, tax free.
  • It allows shareholders to exit the business without having to deal with third parties, which reduces the number of warranties and indemnities required on sale.

What are the drawbacks of an EOT?

The main disadvantage is the trust will own the shares going forward and this isn’t particularly tax efficient if the business is sold to a third-party buyer and the EOT ends. However, the beneficiaries (employees) will receive a bonus following this sale (after the trustees have paid CGT). And although this bonus is subject to tax and National Insurance, the beneficiaries wouldn’t have received anything on a sale without the EOT. So, they should still be motivated to make the business a success.

When carrying out your tax planning, it’s also important to factor in that running a trust comes with its own administrative and tax burden.

Why did the Government launch a consultation on employee trusts?

The Government asked for feedback on its proposals to reform the tax treatment of employee ownership trusts and employee benefit trusts. It’s looking to ensure the tax regimes for EBTs and EOTs remain focused on the targeted objectives of rewarding employees and encouraging employee ownership. It also wants to prevent taxpayers gaining tax advantages through use of these trusts outside the intended purposes.

The consultation closed in September 2023 and the Government has yet to give its response.

How might the plans affect taxpayers?

At the moment the regime is very attractive to sellers. And wherever there’s a tax relief, there will be people using it in a manner that wasn’t the intended purpose.

The EOT regime is designed as a long-term share ownership plan and not as a mechanism to pass shares to individuals tax free. It’s likely the outcome of the consultation will be that the Government strengthens the rules to achieve its intended objective. This might result in the criteria being harder to meet.

Who are EOTs good for and not good for?

They’re good for businesses where there’s a significant level of employee engagement. On the flipside, they’re unlikely to work if the employees aren’t sufficiently motivated or engaged in the business.

Employee ownership trusts are also not suitable if shareholders want to sell a nominal amount of shares (to raise some cash), as the EOT needs to own at least 50% of the shares.

What advice do you have for taxpayers?

You shouldn’t disregard an EOT without exploring whether it’s a suitable option.

Not all businesses will benefit from an employee ownership trust. But given the exiting shareholders could receive their proceeds without suffering a tax charge, it’s worth considering as part of an exit plan.

In the right circumstances, an EOT can be an appealing way to exit a business and allow employees to benefit from the future success of the company. But it isn’t right for everyone, so each transaction should be assessed on its own merits.

What advice do you have for advisers and other intermediaries?

Trusts are generally a specialist area and can be difficult to implement and run. And given the extra planning involved in getting the relevant CGT relief, it’s crucial that advisers seek expert guidance if they feel they don’t have the skills and experience to provide the necessary advice.

Employee ownership trusts tax advice

Our team provide professional advice and support on all aspects of EOTs, whether you’re a taxpayer looking to set up an EOT or an intermediary in need of specialist assistance. Call us today on 07813 434195 or email stephanie.churchill@churchilltaxation.co.uk

Steph Churchill

Stephanie Churchill

Managing director & co-owner of Churchill Taxation