Employee Ownership Trusts: an alternative to a trade sale

What is an Employee Ownership Trust (EOT)?

An EOT is a type of employee benefit trust established to purchase a controlling interest in the share capital of a company and to hold it for the benefit of that company’s employees. The EOT will be established by the target company and then run by trustee(s), often a corporate trustee.

The target company must be a trading company or the holding company of a trading group to qualify for an EOT transaction.

Sales to EOTs are becoming increasingly popular in the UK market. According to figures from the Employee Ownership Association as of March 2025:

• There are approximately 2,250 employee-owned businesses in the UK.
• In 2024, more than 500 businesses moved into employee ownership.

Why consider selling to an EOT?

In an economic downturn, when opportunities for business owners to sell to trade buyers or management teams are decreasing, a sale to an EOT may be a viable alternative. EOTs also offer tax advantages for the seller(s) and the employees of the target company.

The sale of shares to an EOT is treated as a disposal at no gain and no loss for Capital Gains Tax (CGT) purposes. As such, no CGT would be paid by the sellers on the price of their shares. This is subject to the disposal satisfying the qualifying conditions and there being no disqualifying event post-completion. By contrast, a seller who sells to a third party would be subject to paying CGT, likely at a rate of 24%, or 14% if Business Asset Disposal Relief is available.

A company owned by an EOT can pay bonus payments of up to £3,600 per employee per tax year, which are exempt from income tax, provided certain requirements are met.

What does an EOT transaction look like?

The EOT is created by the target company (the settlor) and the trustee(s), who enter into a trust deed to establish the EOT and outline its key rules.

A sale and purchase agreement is then entered into between the trustee(s), as purchaser on behalf of the EOT, and the seller(s), whereby the seller(s) transfer in excess of 50% of the shares in the target company (a controlling interest).

Purchase price:

• The trustee(s) will be obliged to ensure the purchase price represents a fair value for the shares being purchased. Accordingly, an independent valuation of the company is advisable prior to completion.
• Typically, the purchase price is paid by the EOT, with a portion paid upon completion and the balance paid over a period of months or years following completion. This is known as ‘vendor finance’.

Warranties and indemnities:

• Warranties regarding title, capacity, solvency, and valuation of the target company are typically provided by the seller(s).

• Unlike with a trade sale, commercial warranties and indemnities are likely to be limited in scope. This means the due diligence and disclosure process is likely to be considerably less onerous for an EOT transaction when compared to a trade sale.

Funding an EOT transaction

When initially established, the EOT will not have any assets. The EOT will need funding to cover the purchase price. This can be achieved in a number of ways:

1. Where the company has sufficient reserves, it can make gifts or contributions to the EOT, which the EOT can use to pay the purchase price. In this situation, the company’s profitability is indirectly being used to fund the purchase of the seller(s)’ shares.

2. It may be possible for an EOT to borrow money from a third party, such as a bank. The bank will typically require security when making funds available, which will likely require support from the target company.

3. The company could borrow money from a third party, such as a bank. The company could then use this money to make gifts or contributions to the EOT, as described in option one above. Again, the security position required by the bank would need to be taken into consideration.

We have typically seen companies and EOTs utilise option one above, at least for a first instalment of the purchase price. Where companies have built up levels of reserves, these reserves may be gifted to the EOT, allowing the EOT to make the first instalment payment to the seller(s).

Tax

EOTs require careful tax advice, and it is therefore essential to engage accountants or tax advisers experienced in working on EOT transactions.

As previously mentioned, the sale to the EOT will be treated as a disposal at no gain and no loss for CGT purposes, subject to the disposal satisfying the qualifying conditions and there being no disqualifying event post-completion. The EOT will pay stamp duty on the purchase price at the normal rate of 0.5%.

Advantages of
an EOT

For the seller(s):

• NGNL and other tax advantages.
• Creates an immediate purchaser where the employees may not wish to buy the shares in person, or a trade buyer is not available.
• Addresses succession issues if there is no one in the family / management willing or able to continue to run the business.
• Avoids selling to a competitor or other third party who may be undesirable for the employees and/or directors.
• Allows a partial exit for a majority where minority shareholders may not be willing to sell their shares (the EOT only needs to acquire a controlling interest).
• Motivating for employees – and therefore good for the business – they are able to take a more active interest and feel invested in the company.
• The sale process is likely faster and simpler than if a third party were involved.
• Can complement an existing share scheme.

For the employees:

• Employees feel empowered to act in the best interests of the company.
• Many EOTs have an employee representative as trustee/director of the corporate trustee, giving the employee group input in the running of the business.
• The board is more likely to be open and transparent about the company’s financial performance.
• The company is still able to introduce share incentive schemes for the employees.
• Employees may be paid tax-advantaged bonuses of up to £3,600 per employee per tax year.

Working with DMH Stallard for your EOT transaction

The corporate team at DMH Stallard has the experience to guide you through the process of establishing an EOT and selling your shares to it. We have the legal knowledge and expertise to help you consider the various factors, including appointment of trustees, liaising with tax advisers, creating the documents required for the EOT transaction, and guiding you through the process.

If you have any questions about the above or would like to discuss EOTs more generally, please contact Chris Gleeson or Mark Diamond or call 03333 231 580.