Employee stock ownership plan (ESOP)
Owners sell some or all of their shares to a retirement plan that holds them for the company's employees, usually paid for with a loan the company repays over time. A way for owners to sell, not a way for the business to raise money.
- No security
How it works
This does not bring new money into the business. It changes who owns it, and the company usually pays for the sale over several years.
An ESOP is a qualified retirement plan, under section 401(a) of the tax code, that is designed to invest mainly in the shares of the employer. The IRS and the Department of Labor share oversight of it. Shares are held in a trust for the employees who take part.
How a sale usually works:
- The ESOP's trust buys shares from the owners. The plan may pay no more than "adequate consideration", which for shares that are not traded on a market means fair market value, and an independent appraiser must value them.
- To pay for them, the plan can borrow, from the company or a lender. The tax code allows this as long as the interest rate is reasonable and the only collateral the plan gives is the company's own shares.
- The company pays money into the plan each year, and the plan uses it to repay the loan. A C corporation can deduct those payments, principal as well as interest; an S corporation cannot deduct them this way.
Buying back shares: when employees leave or retire, they can require the company to buy back their shares at a fair value if the shares are not traded on a market. The company has to plan for that cash.
Tax for the sellers: an owner who sells C corporation shares to an ESOP, has held them for at least 3 years, and leaves the ESOP owning at least 30% of the company can put off tax on the gain by buying other qualifying company securities between 3 months before and 12 months after the sale. For sales after December 31, 2027, owners of S corporations can do this for up to 10% of the sale.
SBA loans: an SBA 7(a) loan can lend to an ESOP, or to the company to lend on to its ESOP, when the ESOP ends up owning at least 51% of the business. The ESOP's members do not guarantee the loan, but owners outside the ESOP must meet the SBA's usual guarantee rules.
Upsides and downsides
Upsides
- Owners can sell without finding an outside buyer, and the business stays independent
- Employees share in the company's growth through their retirement accounts
- A C corporation can deduct the payments that repay the plan's loan, and sellers can put off tax on the gain
Downsides
- Does not raise money for the business. The company's cash goes to paying for the shares
- Sellers are usually paid over several years, not all at once
- A retirement plan with ongoing rules, filings, a trustee and an independent valuation every year
Risks
- The company cannot afford its payments to the plan, or the buybacks from leaving employees, if profits fall
- Employees' retirement savings depend on one company's shares
- Paying more than fair market value for the shares breaks the rules that protect the plan's members
What it costs
- How it is priced
- The company pays for the shares over time, through yearly contributions to the plan that repay the plan's loan
- Costs that are easy to miss
- Setting up the plan, the independent valuation each year, a trustee, and legal and plan administration fees
- Buying back shares from employees who leave or retire
- Company cash paid to the plan for years instead of being reinvested
The value of the shares sold, set by an independent appraiser, usually paid for over several years.
Does it fit?
Could fit when
- Owners want to sell and would like the business to stay independent and owned by its employees
- The business is profitable and established
Unlikely to fit when
- Owners are not selling (an ESOP does not raise new money)
- You also need new money for growth, which an ESOP does not raise
- The business is not profitable enough to pay for the shares over time
Who can use it
- Business types: S corporation, C corporation, Benefit corporation
- Usually needs a profitable business
- A corporation, since the plan must invest mainly in the employer's shares
- Enough steady profit to pay into the plan each year and to buy back shares from employees who leave
- Seller's tax deferral only on C corporation shares held for 3 years, with the plan owning at least 30% after the sale (up to 10% of the sale for S corporations, from 2028)
Am I ready?
What a provider is likely to ask for. Tick what you have. Your ticks stay in this browser and nothing is stored. Checklist for all private equity investment
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- Independent valuation
- Plan and trust documents
- Buyback forecast
Regulation and protections
Regulators: Internal Revenue Service (IRS); U.S. Department of Labor (DOL).
Who runs it: Federal program.
The tax code and ERISA, the federal law that protects retirement plan members, set the plan's rules: the plan pays no more than fair market value, an independent appraiser values shares that are not traded, a loan to the plan must have a reasonable interest rate, and leaving employees can make the company buy back their shares. The IRS and the Department of Labor share oversight.
Types of provider: ESOP trustees, plan administrators and independent appraisers; Banks and other lenders that finance ESOP purchases, including SBA 7(a) lenders.
Also consider
What has changed
No changes since this page was published. It was last checked against its sources on October 20, 2026.
Sources
- IRS: Employee stock ownership plans (ESOPs) · checked October 20, 2026
- 26 U.S.C. 4975: definition of an ESOP and the exemption for loans to a leveraged ESOP (2024 edition) · checked October 20, 2026
- 26 U.S.C. 404(a)(9): deductions for contributions that repay an ESOP loan (2024 edition) · checked October 20, 2026
- 26 U.S.C. 409(h): the right to sell shares back to the company (2024 edition) · checked October 20, 2026
- 26 U.S.C. 401(a)(28): independent appraiser for ESOP shares (2024 edition) · checked October 20, 2026
- 26 U.S.C. 1042: sales of stock to employee stock ownership plans (2024 edition) · checked October 20, 2026
- SBA: SOP 50 10 8.1, Lender and Development Company Loan Programs (effective October 1, 2026): loans to ESOPs · checked October 20, 2026
- 29 U.S.C. 1108(e) (ERISA section 408(e)): a plan buying employer shares for adequate consideration (2024 edition) · checked October 20, 2026
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