How to Set Up an Employee Ownership Trust for Your Business: A Step-by-Step Guide

Employee Ownership Trusts (EOTs) have increased in popularity over the past decade. Originating from the innovative shared ownership scheme established in 2014, an ever-growing number of firms are adopting this framework, with the intention of providing employees with increased involvement and stake in the business’s future.

If your business is contemplating the adoption of an EOT structure, the transition can seem overwhelming at first. As is the case with most substantial changes to businesses, transitioning to an EOT necessitates detailed planning to ensure the selected structure aligns with your pre-defined objectives.

In this guide from Ramsdens Solicitors, we will explore the stages of setting up an EOT, and underline the considerations that need to be acknowledged for a smooth conversion.

Understanding Employee Ownership Trusts

Introduced by the UK’s Finance Act 2014, an EOT is a collective ownership framework in which company shares are entrusted to a trustee, or multiple trustees, for the employees’ benefit, providing them with a tangible financial interest in the company’s accomplishments. Although the board of directors manages day-to-day operations, all company employees gain a financial interest in the company’s future prosperity, as long as they remain associated with the organisation.

EOTs have been very popular since their inception. As of December 2022, approximately 1,300 UK businesses had adopted employee ownership, a figure that had more than doubled within two years from 2020. This growing popularity can be attributed to several associated advantages, including:

• Increased productivity – collective ownership can stimulate employee engagement, thereby enhancing productivity and overall company performance.
• Improved employee retention – providing employees with a stake in the business can heighten job satisfaction, fostering talent retention and making the company an appealing prospect for potential employees.
• Generous tax reliefs – selling to an EOT can offer a tax-free exit strategy for business owners, while employees can receive tax-free bonuses up to £3,600 annually.
• Smooth transition planning – EOTs enable business owners to orchestrate their exit seamlessly, bypassing the strain of a conventional sales process and directly transferring control to their dedicated team.

What Factors Need to be Considered Prior to Establishing an EOT?

Before the decision to create an EOT is taken, a number of things need to be considered:

• Identifying the appropriate trustee – the chosen trustee (or its directors) should possess an understanding of the business and demonstrate the capacity to make informed decisions while effectively handling potential conflicts of interest.
• Determining a governance structure – this involves segregating the trustee’s responsibilities from those of the board of directors. Although the board of directors will retain operational control, strategic decisions that influence the employees as beneficiaries of the EOT should involve the trustee.
• Financing the purchase – typically, the company finances EOT acquisitions. It’s crucial to consider the implications this funding will have on the company’s cash flow and financial stability, both short and long-term.
• Encouraging employee engagement – as EOTs are primarily designed to benefit the employees, their understanding and enthusiasm are pivotal. Open, transparent communication is instrumental in securing employee commitment.
• Planning an exit strategy – business owners looking to establish an EOT must map their exit strategy. While an EOT sale can provide a tax-efficient exit, the purchase price is often paid over several years from company profits. The compatibility of this with your personal financial planning must be considered.
• Ensuring legal and regulatory compliance – the EOT setup process involves navigating numerous legal and regulatory challenges. Guaranteeing compliance requires thorough planning and expert legal and accountancy advice.

These considerations highlight the complexity involved in establishing an EOT and emphasise the importance of professional advice when undertaking such a venture.

Key Steps in Establishing an Employee Ownership Trust

Taking into account these preliminary considerations, your business can then progress with the implementation of the EOT. This includes the following steps:

1. Feasibility assessment: this involves a comprehensive examination of your company’s financial performance, culture, and future business strategy, as well as an evaluation of your workforce’s likely receptiveness to such a transition, given that employee engagement is instrumental for the success of an EOT.
2. Valuation: upon confirming that an EOT is a plausible option, you must ascertain a fair market value for your business. This usually requires an independent valuer. The valuation will dictate the price at which the shares will be sold to the EOT.
3. Trust deed: subsequently, your lawyer needs to draft a trust deed. This legal document establishes the EOT and outlines how it will operate. The trust deed specifies the terms and conditions of the trust, the appointment of the trustee, and the trustee’s rights and responsibilities.
4. Trustee appointment: after the trust deed is created, the next step is to appoint a trustee. The trustee can be an individual, a group of individuals, a company specifically formed to act as the trustee, or a professional trustee company.
5. EOT structure and governance: parallel to setting up the trust deed and appointing a trustee, you must structure the EOT and establish the governance arrangements. This includes forming a board of directors for the company.
6. Financing and purchase agreement: the EOT will acquire a controlling interest in the company (minimum of 50% of the shares). Usually, the company itself finances this purchase, generating a ‘vendor loan’. A purchase agreement outlining the terms and conditions of this loan will need to be drafted.
7. Share transfer: after the EOT has been established and funds have been secured, the legal process of transferring the shares to the EOT can commence. This generally necessitates a solicitor’s services to ensure legal compliance.
8. Settlement of purchase balance: the final stage in setting up an EOT is the settlement of the purchase balance. This is the payment of the full purchase price by the EOT to the exiting owners. Depending on the financial arrangements, this may not occur immediately, but rather be spread over several years, with the EOT paying the total sum from company profits over time.

Throughout this procedure, effective communication with all stakeholders, especially employees, is vital. They need to understand what the EOT signifies for them and the business to secure their full involvement during the process and into the future.

How Long Does it Take to Set Up an EOT?

The timeframe for establishing an EOT varies, depending on the complexity of the business and its financial circumstances. However, on average, it takes between three to six months from the initial assessment to the final legal transfer of shares.

The Role of Professional Legal Advice in Setting Up an EOT

Professional legal advice is critical to navigate the intricacies of establishing an EOT. Proficient solicitors can assist you in assessing the suitability of an EOT for your business, guiding you through the legal and financial complexities, managing potential conflicts of interest, ensuring regulatory compliance, and facilitating a smooth transition.

By collaborating with solicitors and adopting a meticulous and thorough approach at each stage, you can maximise the success of your EOT transition, yielding tangible benefits at all levels of your organisation for years to come.