Employee Ownership Trusts & Exits
A method of selling to people you know without Capital Gains Tax (CGT)
by Charlie Hewlett
Employee buy-outs via employee ownership trusts (“EOTs”) have had particularly favourable tax treatment since 2014, but the uptake of this exit route has been surprisingly low. In this article we highlight why entrepreneurs should consider a sale to an EOT when thinking about an exit.
Under a typical EOT structure, the owner of a trading company sells the company to a trust established for the benefit of the business’s employees.
The purchase price for the company is typically made up of a mixture in cash and loan notes, with payments guaranteed by the company being sold.
In order to take advantage of the relevant tax legislation, an independent valuation of the company is required, as is clearance from HMRC.
From a tax perspective, a key advantage of this route is that no capital gains is payable on qualifying disposals to EOTs.
The seller of the company can also retain control of the business after sale without jeopardising the tax treatment. Many sellers stay on as a director of the company and wind down their day-to-day involvement with the business as the loan notes are redeemed.
The sale process is often more straightforward than on a trade sale, with lower transaction costs. While it is necessary to get HMRC clearance and establish the EOT structure, there is no need to find a suitable external buyer. The amount of due diligence and negotiation required is also substantially reduced as is the execution risk.
A word of caution
This route is not appropriate for every company or every entrepreneur.
There will be cases where a trade buyer would pay considerably more for the business than would be feasible in an EOT situation. In general, EOTs tend not to work well for business which would normally be valued at a multiple of above 10 times EBITDA. The need to pay back the loan notes also mean that EOTs are rarely a good idea for businesses that have high or volatile internal cash flow requirements.
Please contact a member of the Drive team if you are considering an exit and would like more detail on EOTs or any other exit route.