What Happens to an ESOP When a Company is Sold?

January 24, 2023

Although Employee Stock Ownership Plans (ESOPs) are often formed to ensure the successful continuation of a business, there are times when an ESOP company is later sold to a third-party. When this occurs, ESOP participants can get nervous, wondering what will happen to their ESOP accounts when a company is sold.

What to Know About Selling an ESOP Company

The most important thing to know about selling an ESOP company is that plan participants will be treated fairly. This is required under ERISA rules and as part of the ESOP fiduciary trustee’s responsibilities. You will not lose your ESOP retirement investment savings.

The second thing to know about selling an ESOP is that the company’s ESOP plan document will outline the specific rules for vesting and distribution if the company is sold and/or if the ESOP is terminated. This allows participants to know ahead of time what to expect if the business is ever sold.

Typically, only one of two actions occur when an ESOP is sold:

  1. The sale triggers an ESOP termination. If this occurs, all participants become immediately vested and receive their full ESOP distribution based on current market value. They can opt for a lump sum payout or roll the funds into a 401(k) account.
  2. If the buyer is another ESOP, participants of the ESOP that was purchased will most likely be integrated into the new company’s ESOP with their existing account values rolling over into the new plan.

The third thing to be aware of is that a purchase offer is not a guarantee of sale. The ESOP board has a duty to protect both company assets and plan participants’ investments. Many companies will form a committee to review and respond to purchase offers to ensure shareholders are protected. If the board or committee feels the offer is unacceptable, they can stop the sale process before it even begins. If the offer is acceptable, the board and the ESOP trustee will work together to arrive at a satisfactory solution with the ESOP trustee providing final approval in order for the deal to go through.

Finally, the type of sale that is proposed affects the role of plan participants. There are two types of ESOP sales: a purchase of assets and a purchase of stock.

  1. Purchase of assets sale. The buyer receives the company’s assets but may or may not take on the company’s liabilities. Plan participants will be asked to vote in favor or against the sale of company assets. Participants will be provided with detailed financial information prior to the vote. Interestingly, the trustee can reject the outcome of the vote if they determine that the outcome is not in the ESOP’s best interests. This is extremely rare, but can happen.
  2. Purchase of stock sale. The buyer purchases the company’s stock and acquires the liabilities as well. The ESOP trustee can decide to move forward with the sale without obtaining input from the participants.

There are many steps involved in selling an ESOP and there are shareholder protections at every stage to help ensure plan participants do not lose their ESOP account retirement savings.

Reasons for Selling an ESOP Company

ESOPs are traditionally formed to avoid selling a company or closing it down. The expectation is that by forming an ESOP the business will remain in place, growing and thriving over time. Unfortunately, expectations don’t always align with reality and an ESOP company must be sold.

The reasons for selling an ESOP company are as varied as the reasons for establishing one in the first place. In many cases, the ESOP is approached by a competitor or by a private equity firm interested in purchasing the company. This is very common, particularly if the ESOP company is successful. In other cases, the business is faltering and a sale is the only option. Sometimes, a board may decide to seek a sale as the best option for the business, particularly if they are struggling to meet their ESOP repurchase obligations.

Benefit of Selling an ESOP Company

Selling an ESOP provides several benefits to plan participants.

1. Financial Benefits

Selling an ESOP can increase the value of ESOP shares, especially if buyer is willing to pay a market premium.

2. Strengthens the Business

Selling an ESOP can add new capabilities or open up new markets to the business, putting it in a stronger position for future growth and transformation. A sale also eliminates any uncertainty about succession issues that may have been of concern prior to the sale.

3. Asset Protection

Market volatility may necessitate a sale. An ESOP may be open to a merger or acquisition to avoid loss of company assets during a downturn in the industry. There may also be an industry trend toward consolidation. In that case, the board might act preemptively to remain competitive.

Disadvantages of Selling an ESOP Company

Selling an ESOP can have disadvantages as well, which should be considered if a sale is suggested.

1. Damage to Company Legacy

ESOPs are often formed to protect the original business owner’s vision for the company, leave a legacy, and create a specific company culture. After a sale, this can all be lost, absorbed into or overwritten by the new company’s culture and way of working, which could affect employee morale and performance.

2. Consolidation

Depending on the capabilities of the two businesses, some job losses may occur due to consolidation. Facilities may be shut down and redundant functions may be eliminated.

3. Leadership Changes

Similar to consolidation, the new company will have new leaders. This change in governance can be hard for employees to accept and may result in the loss of existing leaders.

What Happens with ESOP Distribution When a Company is Sold?

If the sale of your ESOP company results in the immediate termination of the ESOP, all current and former plan participants will receive their ESOP distribution or payout in time.

We say “in time” because you will not receive the full amount of your ESOP distribution immediately upon the sale closing. Most distributions are paid out in two installments. A partial payment is made within a few months of the sale with the remainder being paid in the year following the sale. This means it can take as long as two years to receive the full amount of your ESOP account. During this time, the ESOP trustee remains in place, acting on participants’ behalf, until all termination activities are completed.

Participants can roll their distribution into a 401(k) plan or cash out their account based on the fair market value of the stock. If you cash out, you will have to pay income taxes on the distribution.

If your ESOP is going to be rolled over into the purchasing company’s ESOP, you will not receive a distribution. Instead, your shares will be rolled into the new company’s ESOP.

Learn more about ESOP distributions here.

Employees Do Not Need to Fear an ESOP Sale

It is always nerve-wracking to learn that your employing company is being sold. It is natural to worry about your job security, the change in leadership and company direction, and your retirement plan contributions. The good news is that as an ESOP participant, you have the ESOP trustee looking out for you and several protections provided by law.

The ESOP trustee is legally required to make sure that all company decisions, including any sales decisions, have the employees’ best interests in mind. In many cases, an ESOP sale actually boosts the value of shares and increases account balances. Beyond that, ESOPs that have a strong company culture are more likely to ensure the sale does not negatively impact their employees than non-ESOP companies.

If you are worried about a pending sale and what will happen to your ESOP distribution when the company is sold, take a look at your ESOP plan document, which you should have received when you enrolled in the ESOP. This document will outline the plan for ESOP distributions upon the sale of the business, which can ease your mind. If you have other questions about your ESOP, contact your HR department.

About Aegis Trust Company

Aegis Trust Company is an ESOP Trustee. Our fiduciary services are available to businesses for ESOP Transactions, Ongoing Trustee Services, and ESOP Consulting.

If you have specific questions about your ESOP plan or distribution payouts as an employee, contact your company’s plan administrator.

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