Thinking about succession planning, future-proofing your company or building a more inclusive workplace culture? An employee ownership trust (EOT) might be worth exploring. This structure allows a business to be owned, indirectly, by its employees - through a trust set up to hold a controlling stake in the company on their behalf.
Let’s break down how this works, what’s involved, and why more UK businesses are making the move to employee ownership.
What is an EOT?
An employee ownership trust is a legal structure where a majority of a company’s shares (more than 50%) are held by a trust for the benefit of all employees. Rather than direct shareholding by staff, the trust is the shareholder, and the employees are the beneficiaries. An employee ownership trust is typically managed either by a minimum of three individual trustees or by a corporate trustee (usually structured as a company limited by guarantee) that has at least three directors. As a matter of good governance, it is considered best practice for the trustee board to include at least one independent trustee/director and at least one current employee who is not part of the company’s main board. While it’s not uncommon for one of the company’s directors to serve as a trustee/director of the EOT, care should be taken to ensure that the company’s board members do not form the majority on the EOT trustee board.
What makes EOTs appealing to selling shareholders?
One of the main attractions for selling shareholders is the favourable tax treatment available under the EOT structure. Under the Finance Act 2014, shareholders may be eligible for full exemption from Capital Gains Tax (CGT) on the sale of their shares - provided several conditions are met. These include:
- Controlling Interest Requirement: The EOT must acquire a controlling interest in the company, meaning more than 50% of its issued share capital, and the existing shareholders must relinquish control.
- Employee Benefit Requirement: The trust must operate for the benefit of all employees (with only limited exceptions). Although rewards can be varied based on objective criteria such as tenure, working hours, or salary, any differentiation must be carefully structured to remain compliant with the principles of fairness embedded in the legislation.
- The “5/2 Rule”: The company must be a trading entity, and no more than 40% of employees may individually hold more than 5% of the company’s shares.
These rules are complex and demand thoughtful planning. However, if all criteria are satisfied, selling shareholders may benefit from a 0% CGT rate on their share disposal.
Beyond the tax relief, transitioning to an EOT offers other practical advantages. Shareholders can choose to remain involved in the business or step away completely, offering both flexibility and a clear succession pathway. The structure also supports continuity, allowing the company to maintain its existing culture, independence, and operational ethos - appealing for owners looking to safeguard their legacy.
In addition, selling to an EOT can be more efficient than a traditional third-party sale. It eliminates the need to identify a buyer, undergo lengthy due diligence, or agree to extensive warranties and indemnities. The process is typically led by the current owners, enabling them to manage timelines and oversee the transition on their own terms.
Furthermore, certain transfers of shares into and from an EOT may qualify for relief from inheritance tax.
What do employees gain?
Employees benefit from a stake in the business’s long-term success, without needing to buy shares themselves. This includes:
- A sense of collective ownership
- Annual bonuses of up to £3,600 free from income tax (though National Insurance contributions still apply). There have been calls to raise this threshold to £4,400.
- Greater job security and workplace stability, especially when compared to private equity or trade buyer scenarios
Some companies even establish employee councils to ensure staff have a voice in strategic decisions and trustee matters.
Are there any downsides?
As with any business model, EOTs come with some considerations:
- Loss of control: For selling shareholders staying on in the business, the shift in control to the trust means no more calling all the shots.
- Funding structure: Since the EOT is usually funded by company profits (either upfront or over time), it can take a few years for sellers to receive the full value of their shares.
- Strict compliance: Falling foul of EOT conditions (like breaching the “controlling interest” or “5/2” rules see above) can lead to loss of tax reliefs, so legal and tax advice is crucial.
Setting up an EOT: what’s involved?
- Structuring the Share Transfer: The sale of shares to an EOT is often viewed as a unique form of internal buy-out, where trustees step in to represent the employee base. This arrangement calls for a carefully negotiated share sale agreement that captures the intentions of the founders, the business, and the trust itself.
- Valuation and Payment Structure: It’s important to establish a fair market value for the business through an independent appraisal. The purchase is usually financed through a mix of existing company funds and future earnings. In some cases, borrowing from external lenders may be viable. We can introduce you to trusted valuation professionals with experience in employee ownership transactions.
- Staggered Payments and Cash Flow Planning: Since a full upfront payment is rarely practical, many EOT transactions involve deferred consideration. Payment terms need to reflect the company’s anticipated cash flow, and it may be appropriate to include safeguards such as interest accruals, contingency clauses, or covenants restricting major decisions while payments remain outstanding.
- Governance for Retained Shareholdings: If any of the selling shareholders remain involved or retain equity, it’s important to formalise the ongoing relationship through a shareholders’ agreement and amend the company’s articles where necessary. Provisions for future buyouts, including options to sell or acquire minority interests, are often built into these arrangements.
- Allocating Future Profits: As part of the transition, a framework should be put in place for how the business will allocate profits going forward—balancing repayments to former owners with incentives for employees and reinvestment into the business. Agreement on this point helps manage expectations and reinforces long-term planning.
- Designing the EOT Framework: Although the legal framework for EOTs sets out some core requirements (such as fair treatment of employees), there is considerable flexibility around how the trust itself is structured. Decisions include whether to use a corporate trustee or individual trustees, and whether to establish a dedicated employee group to facilitate engagement. Most companies opt for a corporate trustee structure with tailored governing documents.
- HMRC Advance Clearance: To ensure the transaction qualifies for the generous tax reliefs available under the EOT regime, it is advisable to seek advance clearance from HMRC. This helps confirm that funds used to buy shares or cover transaction costs won’t be taxed again, provided corporation tax has already been paid on those profits.
- Building Buy-In Through Communication: Successfully transitioning to employee ownership relies not only on the legal structure but also on clear, inclusive communication. Stakeholders—especially employees—should be consulted early and kept informed throughout. A well-planned communications strategy can enhance trust, encourage participation, and help embed the employee ownership ethos into the business culture.
You’ll also need to consider employee communications, profit distribution policies, and whether to combine the EOT with other share schemes like EMI or CSOP for key personnel.
Recent legal & tax changes (2024 Update)
The 2024 Autumn Budget tightened the EOT regime to prevent abuse, especially around sellers retaining control post-sale. It also lengthened the period for disqualifying events (which can jeopardise tax reliefs). While these changes added complexity, they also signalled continued government support for employee ownership as a long-term growth model.
Is an EOT right for you?
EOTs can be powerful succession and incentive tools—but they aren’t suitable for every business. Key questions to consider:
- Are you willing to give up control?
- Does the company have a strong management team?
- Can the business sustain deferred payments to fund the buyout?
- Do you want to protect your legacy while rewarding your team?
If you answer “yes” to most of these, exploring an EOT could be a smart next step.
EOTs are very popular in creative and digital agencies as these industries value creativity, collaboration, and autonomy—qualities well-aligned with employee ownership.
How Stephensons can help
Our team works closely with founders, management teams, and tax advisers to design EOT structures tailored to your company’s goals. From governance and funding to legal documents and HMRC clearance - we guide you through every stage.
Considering other options like share option plans or hybrid models? We can advise on those too.
Contact us on 0161 696 6170 for a free initial consultation and find out if employee ownership could be the future of your business.
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