What is an Employee Stock Ownership Plan?

An employee stock ownership plan (ESOP) is an employee benefit plan that provides a company’s workers with an ownership interest in the company. The employer allocates a certain number of shares of the company to each eligible employee; shares are allotted based on pay scale or some other similar form of distribution. Pure ESOP participants issue all of their distributions in the form of their own company stock.

Benefits of ESOPs

Employee stock ownership plans are designed to increase employee investment in positive outcomes for the organization. The National Center for Employee Ownership (NCEO) cites a Rutgers study indicating that ESOP companies grow 2.3% faster after setting up an ESOP..

Each employee’s shares are held in the company’s ESOP trust until he leaves or retires.  At that point, employees can either sell the shares on the open market or back to the company.  Employees are not taxed until they sell their shares. Under certain circumstances, taxes can be deferred even further if proceeds are reinvested in the stocks of other companies.

Drawbacks of ESOPs

An unintended negative consequence of ESOPs is the lack of diversification in the investment portfolios of employees who use ESOPs as their primary or exclusive mechanism for savings.  Most financial planners caution investors who invest more than 10% of their assets in company stock.

 

The job status of employees can also be impacted by the financial standing of their employer, so a serious downturn in the performance of an organization can result in equity losses as well as layoffs for ESOP participants.  However, this drawback is counterbalanced by the reality that employees of ESOP companies receive greater employer contributions on average to savings plans than workers for non-ESOP companies.

   

The Number of US Employee Stock Ownership Plans

 According to the National Center for Employee Ownership, there are about 7,000 employee stock ownership plans in the United States.  An estimated 13.5 million employees are covered through these plans.  Also, there are about 2000 other profit sharing and stock bonus plans that award compensation substantially, but not exclusively, through company stock. The NCEO estimates that employees own about 8% of total corporate equity through some type of stock distribution plan.

Read More: Employment FAQs | Employee Benefits | Employment Glossary

Also Known As: Stock Purchase Plan

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