Could selling my business to an EOT be appropriate?

After Rachel Reeves’ Autum Budget in October, a sale to an employee ownership trust (EOT) is now perhaps even more attractive for owners of businesses looking to sell as a result of the increase to a 24% capital gains tax rate on the sale of shares to other purchasers.  

Whilst it may sound too good to be true, a sale of a ‘controlling interest’ in a company to an EOT should not trigger any capital gains tax at all for the selling shareholders so, effectively a ‘tax-free sale’!   

There are, inevitably, strings attached for business owners considering this option and it is very important to structure the deal correctly to benefit from the tax advantage available.    

The key point for sellers to wrap their heads around is, having held the helm of their business for many years, if they choose to sell to an EOT (and whilst they can stay involved) they can no longer be in control of the business. This is because the EOT must acquire (and retain) a “controlling interest” in the company. This mindset shift can be difficult for some business owners but that needs to be weighed up against the benefit for the employee base moving forwards and, of course, the tax benefits. Not only should the sale be effectively tax free for the sellers, but eligible employees should be able to benefit from tax free bonuses of up to £3,600 per year. 

What also needs to be considered is how the sale will be funded. Usually, there is an upfront payment financed by the company’s current cash reserves and the balance is payable over a suitable period of time from either future profit generated in the business or perhaps via third party lending. Whilst certain protections can be built into the legal paperwork, the selling shareholders will therefore need to be comfortable that the business will continue to perform and, as a result, to fund the deferred. Certain protections can be factored into the legal documentation to help protect the deferred consideration too.

Along with the sale of a controlling interest, there are other factors to consider including: 

• whether or not any tax clearance should be sought
• obtaining an appropriate valuation of the business to ensure the EOT is not paying over the odds
• appointing sufficient independent trustees (or trustee directors) to the EOT to ensure control truly passes
• whether any third-party consents are needed for the transaction (given there will be a change of control) and how best to address that; and
• how to ensure the ongoing management team will remain motivated (possibly via share options or similar).

How can we help?

Freeths has acted on numerous EOT transactions acting for the EOT itself or the selling shareholders. We are able to steer our clients through the rules and regulations that apply to facilitate the deal. We are also a full service law firm so can not only provide the legal advice and prepare the necessary legal paperwork but we can also provide the tax and structuring advice for the deal (including seeking any tax clearance).