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. It is also sometimes referred to as a Stock Purchase Plan.
Here's how an ESOP works: The employer allocates a certain number of shares of the company to each eligible employee. The allocation of shares is based on the pay scale or some other similar form of distribution.
ESOPs can be beneficial to employees and the company, but there are some drawbacks associated with them as well. (The biggest one: a potential over-investment in the company at the expense of a diverse retirement portfolio.)
Learn more about how ESOPs work, their pros and cons, and what to ask if you're interviewing at a company that offers an ESOP.
Benefits of ESOPs
Employee stock ownership plans are designed to increase employee investment in positive outcomes for the organization. After all, if an employee owns stock in the company, then they will likely feel motivated for the company to succeed and for the firm's stock value to increase. As well, employees who own stock in the company have an incentive to remain at the company, which could reduce employee turnover. 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 the employee leaves or retires. At that point, employees can sell the shares either 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.
Typically, employees are not eligible to participate until they have worked a certain number of hours or years. And, employees generally need to be vested before being able to access the funds.
Drawbacks of ESOPs for Employees
Many employees who use ESOPs as their main or exclusive form of savings do not have a very diverse investment portfolio. Think of this as employees putting all their savings eggs in one investment basket. Most financial planners caution investors who invest more than 10% of their assets in company stock.
If the company has setbacks or performs poorly, employees may find themselves losing equity as well as potentially be laid off. 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 U.S. 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. Other forms of employee ownership exist as well, including direct purchase plans, stock options, and more. The NCEO estimates that employees own about 8% of total corporate equity through some type of stock distribution plan.
What You Need to Know As a Job Searcher
Are you interviewing at a company with an employee stock ownership plan? Did you receive a job offer from one? As with any benefit, you should consider this as well as salary when reviewing the offer or considering if the company is the right fit for you.
If the company does not offer additional retirement benefits, for instance, and you are concerned with the company's overall health, an ESOP may not be a great benefit. If you get a job offer, ask your contact in human resources for details on the ESOP, so you know precisely how it works, and also ask about other retirement plan options that the company may offer. According to Bankrate.com, three key considerations to keep in mind are the value of the stock, how benefits are paid out, and the way that the ESOP will be taxed.
Asking questions about benefits isn't always easy, and can often be overlooked in the excitement of receiving a job offer.