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distributions where " some of the employee's
account balance is paid out periodically
while [he is] still employed. " Notably,
if an ESOP has such a benefit, it must be
offered on the same basis to everyone.
" The plan sponsor cannot take a request
from one individual and honor just that, "
Rodgers and Rosen write.
With standard ESOPs, once the
employee leaves the company, distributions
are usually taxed as ordinary
income, but if he receives a lump-sum
distribution and it is in the form of shares,
not cash, he will pay ordinary income tax
on the value of company contributions
to the plan and then capital gains tax-
generally much lower-on the appreciation
in share value when the shares are
sold, Rogers and Rosen explain. They
warn there is a likely to be a 10% penalty
excise tax if the distribution is " not after
age 59.5, or for death, termination after
age 55 or disability. "
" Of course, if you put the money
into a traditional IRA [individual retirement
account] or the distribution is rolled
forward into another qualified retirement
plan in another company, there
is no tax until the money is withdrawn,
when the withdrawal is taxed as ordinary
income, " the two note. " Amounts rolled
over into a Roth IRA are taxable, but are
tax-free when withdrawn if that is done
according to the Roth IRA rules. Some
installment distributions will not qualify
for a rollover into an IRA. "
Options for Creating
Employee Ownership
Marc McDonough, vice president of
Charles Schwab's stock plan services in
Denver, explains that equity compensation
plan trends have evolved as
Securities and Exchange Commission
(SEC) rules changed. For example,
simple stock option grants had been the
stock award structure of choice until
November 2006, when Securities Act
Release No. 8732A determined that,
like other equity awards plans, " stock
option awards had to be expensed. " Since
When Is an ESOP
The Right Choice?
HARVEY KATZ, a partner at Fox Rothschild in New York City, and now in his 40th
year of practicing law, offers insight into the value of employee stock ownership plans
(ESOPs)-and as to when they are an option an employer should seriously consider.
" In my experience, the business owners who make the best candidates for establishing
ESOPs are those who are facing a decision about what to do with, essentially, their life's
work, " Katz says. " In that respect, ESOPs generally are thought of in terms of businesssuccession
planning, and they are most effective and valuable for employees when there
is a paternalism about the company guiding the decisions being made. "
In this sense, Katz compares ESOPs favorably against managed buyouts or other ownership
transition structures that turn to an independent third party to monetize a closely
held business. While not always the case, such strategies are more often designed to
wring every last dollar out of the business at the point of the transition of ownership.
This is simply not what successful ESOPs are about, Katz stresses.
" In most cases, maximizing the gross dollar amount earned by the existing ownership
is not going to be the primary motivating factor for creating an ESOP, " he says. " It has to
be about caring for the employees and creating a lasting legacy for the company. ESOP
is a very powerful structure and one that I advocate more often than not, but I would say
that in only about half the businesses that come to us is this truly a good fit for what the
ownership is trying to accomplish. "
Also important, ESOPs are better for owners who want to transition out slowly. " If you
sell to a third party, a strategic buyer, you will generally have one or two years in which
it takes on your knowledge, and then you're made irrelevant to the business moving
forward, " Katz notes. " But, with the ESOP route, it can be a more gradual change operationally
for the business, and the business owner can set the pace, ensuring value is
delivered to the employees. " -JM
then, equity awards have " become more
nuanced, with restricted stock awards
and performance awards as part of the
executive compensation mix. "
Aside from the employee stock
ownership plans discussed prior, some
of the equity compensation structures
are as follows:
Nonqualified stock option. " These
plans were the first type of executive equity
compensation and have largely fallen out of
favor, " says Carrie Kovac, E-Trade's senior
vice president, relationship management,
in San Francisco. Incentive stock options
are tied to a stock price and granted at
fair market value of the stock on the day
awarded-known as the exercise or strike
price. If the stock price is higher after the
vesting period, the employee may exercise
his options and liquidate his stock-to
purchase a home, for instance-or, if the
stock price is lower than the exercise price,
the stock is " under the water " and at that
one point, worthless.
Employee stock purchase plan
(ESPP). This plan type permits employees
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