ESOP vs 401k for Retirement Security

April 18, 2022

ESOPs and 401ks can be valuable retirement security account options—both for employers and their teams. However, it can be tough to decide which account is best for your organization’s needs. So, let’s look at some of the differences between these two retirement vehicles so that you can decide which program best for your organization.

ESOP Overview

An Employee Stock Ownership Plan, (ESOPs) is a retirement benefit plan that gives workers the ability to own a part, or all, of the company for which they work. At the beginning of an ESOP transaction, the company will sell its shares to an Employee Stock Ownership Trust. This trust holds the Company’s stock as its legal owner and gives the beneficial ownership of such shares to the employees—as the beneficiaries of the Employee Stock Ownership Trust. Each year, as the Company contributes shares into the Trust for the employee’s benefit, the Trust then deposits a set amount of shares into each employee’s (called participants) ESOP account.  The number of shares that is contributed each year is determined by a number of factors: the Company’s payroll, the amount of employees, and each respective employee’s salary.The longer one is employed by a company, the more company stock that employee will come to own. This can be very lucrative for ESOP employee participants because they are receiving shares of the company’s stock each year, which, presumably, are appreciating as the company continues to succeed. When a participant worker leaves the company, they are entitled to receive the value of the shares that remain in their ESOP accounts, in cash.

Pros and Cons of an ESOP

Let’s take a look at the pros and cons of ESOPs:


  • Employers are better able to attract and retain top talent. Employees are more likely to stay with a company with an ESOP, as they have a retirement plan directly tied to the company.
  • ESOPs can help keep a company in local hands, as employees are more likely to want to keep the company they work for and own in the community.
  • Employees at ESOP-owned companies have been shown to be more productive and report higher levels of job satisfaction compared with non-ESOP owned companies.


  • ESOPs can be more expensive to set up and administer than other retirement plans.
  • The company should have a stable or growing cashflow so that it may continue to contribute shares to the ESOP and also repurchase the shares from departing employees.
  • If the company goes bankrupt, employees can lose the value of the company stock that is held in their ESOP retirement accounts.
  • Employees may not understand the complex rules around ESOPs and will benefit from guidance from HR departments.

401k Overview

A 401k is a retirement savings plan that allows employees to save and grow pre-tax money, while enjoying numerous tax benefits. Participants can contribute a percentage of their pre-tax salary, and their employer may also match those contributions.The funds in a 401k can be invested in various ways, including in stocks, bonds, and mutual funds. When a participant reaches retirement age, they can withdraw the money in their 401k according to a schedule set by the IRS.

Pros and Cons of 401ks:

The 401k has been around for a long time and is the most popular retirement savings plan. Let’s take a look at the benefits of 401ks.


  • Employee can contribute pre-tax money into their 401k.
  • Matched contributions are tax-deductible.
  • Employers can use increases in incentives related to the 401k to boost performance and productivity.
  • 401k gives employers a competitive edge in the benefits package they offer to their workers.


  • Provides fewer benefits to workers, which could result in dissatisfaction.
  • If participants withdraw the money before reaching retirement age, they will have to pay a 10% withdrawal penalty.
  • More volatile than an ESOP, since the money in a 401k can be lost if the stock market crashes.
  • Added volatility can be a draw back for older employees with shorter investment time horizons.
  • Workers who understand that employers can change or stop matching employee contributions at any time, may be discouraged from participating in a 401k.

Main Differences Between ESOPs and 401ks

ESOPs401kRate of Return 2.2x more than 401k plans9.7%-11% return Volatility Less volatile than 401kMore volatile than ESOP Long-Term Growth Builds wealth overtimeBuilds wealth based on t he market and employer contributions Security in Investment Balance increasing as long as the company continues to performContributions can change unexpectedly and possibly slow down the growth of investment Ownership Gives workers ownership in the companyEmployees have no ownership in the company Productivity and Retention Increases employee productivity and retention may not impact workplace productivity or retention Availability Available to most workersNot available to all workers.

Benefits of an ESOP Over 401K

ESOPs offer far more benefits than 401ks. For this reason, satisfaction—both from employees and employers—with ESOPs tends to be far higher than that of 401ks. ESOPs most-effectively reward workers both for their increased productivity but also for their continued employment. ESOPs can also help to attract higher quality talent that can enhance the company’s overall efficacy. ESOPs also come with fewer restrictions—giving it the ability to cover more workers than a 401k. Additionally, ESOPs tend to offer rates of returns close to 2 times higher than 401ks. Therefore, ESOPs are a great way to build wealth over time.

ESOP vs 401k FAQ

Is an ESOP a Qualified Retirement Plan?

Yes, an ESOP is a qualified retirement plan subject to the same rules and regulations as other qualified retirement plans.

How Does an ESOP Get Funded?

An ESOP is funded by the company that establishes the plan. The company contributes shares of stock to atrust, from which the employees are the beneficiaries.

Is an ESOP Good for Employees and Employers?

ESOPs can be a great retirement option for both employers and employees alike. Employees have a retirement plan directly tied to the success of the company—making them feel empowered and take true “ownership” of the company and their employment. Moreover, employers are given an incredibly effective employee recruitment, retention, and productivity tool—not to mention saving a potentially large amount of money on taxes. In fact, many ESOPs are set up so as to reduce the company’s tax liability to ZERO!ESOPs also help to keep a company in local hands. Therefore, ESOPs are better for employees, employers, and the community at large.

Can You Have a 401K and an ESOP?

Yes, you can have both a 401k and an ESOP. However, the two plans cannot be combined.

Is an ESOP Worth It?

Well, it depends on the company and the employees. An ESOP is best utilized by companies with stable or growing cash flows as they are best able to support the employee stock ownership program. If your company does in fact have stable or growing cash flows, than it makes sense to explore ESOP as an additional retirement program for your employees.


Both ESOPs and 401ks are excellent retirement savings plans—each with their respective benefits and potential drawbacks. Understanding the differences between these two plans is essential before deciding which one is right for your company and its employees.Being attuned to the organization’s financial needs and overall goals is key to creating the best possible retirement package for workers. You want your organization to reach its goals, and you want your workers to be satisfied. A happy and financially secure workforce is a boon to any company.If you are interested in determining if our ESOP trustee services are a good fit for your company, submit a form with your details for a free consultation.

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