Many people are surprised to discover the numerous benefits that Employee Stock Ownership Plans (ESOPs) provide to both employees and business owners, including the alignment of worker and owner incentives, increased job stability and workplace productivity, sound exit strategies for retiring business owners, and a way to close the gap for wage and wealth inequity. Those unfamiliar with ESOPs may assume this benefit-heavy category of employee ownership is fairly new. However, enabling employees to earn and hold a stake in the company where they work is not new. In fact, the history of employee ownership goes back to the earliest days of our nation.
The Founding Fathers’ Pursuit of Economic Fairness
In 1733 – before the United States of America was officially established – Founding Father Ben Franklin instituted a form of employee ownership within his printing business. Franklin sent journeymen employees to various cities to set up new print shops, paid for the shops’ upfront capital costs and covered a third of the expenses, while taking a third of the profits for the first six years. After the initial six-year period, he let the journeymen purchase and own the businesses using the profits they had earned. In Franklin’s business, employees earned their ownership through sweat equity, which was more readily available to them than cash.
Several other Founding Fathers believed that employee ownership was instrumental to economic fairness. George Washington, Thomas Jefferson and Alexander Hamilton all worked to enact legislative measures that encouraged employee ownership. For example, all three supported one of America’s earliest legislative actions that provided tax breaks to New England cod fisherman, whose industry had been destroyed in the Revolutionary War. The catch? Federal assistance was only available to those employers whose employees shared in the profits. This issue, promoting employee ownership, was one of the few things upon which political adversaries Jefferson and Hamilton agreed.
Industrial Leaders Support Long-Time Employees
Later, in the mid-19th Century Industrial Era, several leading American companies adopted a form of employee ownership to ensure long-time employees would have income in retirement. Companies including Proctor & Gamble, Railway Express, Sears & Roebuck and others set aside company stock to be given to employees upon the end of their careers – giving employees an ownership stake based on their work.
Kelso: Father of the ESOP
A major turning point in the history of employee ownership occurred thanks to American economist, attorney and “Father of the ESOP,” Louis Kelso. In 1956, Kelso conceived of and later became a passionate advocate of the employee stock ownership plan. Kelso founded Kelso & Co., a company that helped other businesses establish ESOPs. Kelso & Co. itself was an ESOP. Beyond starting his company, Kelso was known for his ideas on more equal distribution of capital – he felt that capital needed to be shared fairly with employees, and that economic inequality was a key cause of the Great Depression.
ERISA, ESCA and Modern Employee Ownership
In 1974, Congress enacted the Employee Retirement Income Security Act (ERISA) in response to instability among employer retirement plans. ERISA protects employee retirement program participants and formally established ESOPs as a retirement plan.
Then, with the 1997 Tax Act, Congress allowed ESOPs to own stock in an S Corporation (effective January 1, 1998) – a measure passed to encourage ESOPs. Essentially, this legislation meant that any profits attributable to the ESOP’s ownership of stock in an S Corporation have no federal income tax obligations. For example, when an ESOP owns 30% of a company, no tax is due on that 30%, while a 100% ESOP-owned company owes no federal income tax at all. Though this legislation applies to federal income tax, many states follow the provision in their own tax laws as well. To support S ESOPs, the Employee-Owned S Corporations of America (ESCA) was founded in 1998. ESCA now represents over 220,000 employee-owners nationwide.
Today, ESOPs are the most common and successful form of employee ownership in the U.S., though there are numerous ways employees can own stake in the business where they work. These many forms of employee ownership, combined with the history described above, illustrate that employee ownership is a key element of the American economy. The benefits of employee ownership, and especially ESOPs, encourage us to grow employee ownership in the U.S. and give more individuals a chance to own a piece of the businesses where they work. To see if ESOPs or other forms of employee ownership are viable for your business, click here to contact Dan Markowitz today.