EOT Announcement in Budget and why it probably doesn’t mean much for Employee Ownership

Hello ESOP Community,

The government has proposed legislation regarding employee ownership trusts (EOTs) in the 2023 budget. Any talk about ESOPs in Canada is extremely positive and will bring great awareness to Employee Ownership in general.

The government has provided some detail compared to what they said in 2021 and 2022 and announced implementation of EOTs by January, 2024.

Unfortunately, while this could provide an additional mechanism for how to structure a Plan in certain limited circumstances, the proposed EOT has really missed the mark and the government does not seem to have listened to the recommendations given to create more Employee Ownership. These limited circumstances for its use would be a business that is steady, has stable cash available, not growing much, and the owner has no other exit options. As it is described now, there doesn’t seem to be much incentive, tax or otherwise, to create the Plan through the EOT. In the end, the employees do not actually own the shares, employees become beneficiaries of the EOT which owns the shares. The employees are only entitled to dividends while they are employed, therefore it is perhaps more like an employee benefit trust rather than an EOT.

The EOT doesn’t take away the mechanisms that have previously been used. There are many alternatives to achieve employee ownership that we have worked with (share equity purchase plans, stock option plans, and phantom plans (or EVOPs)) and now EOT is another mechanism. Which mechanism to use depends on the goals of the owner and the company. Since every company and owner is different, our process is geared toward identifying those goals from the outset to create a foundation to then drive how the plan is strategically designed.

We are hopeful that the government still has time to harness the opportunity to make amendments, and create a very meaningful and valuable structure that will be attractive to 1. business owners looking to exit and 2. employees who participate.

We will continue to monitor and provide updates as new information becomes available.

Here is an excerpt from the 2023 Budget:

Employee Ownership Trusts

An Employee Ownership Trust (EOT) is a form of employee ownership where a trust holds shares of a corporation for the benefit of the corporation’s employees. EOTs can be used to facilitate the purchase of a business by its employees, without requiring them to pay directly to acquire shares.

For business owners, an EOT provides an additional option for succession planning. Budget 2023 proposes new rules to facilitate the use of EOTs to acquire and hold shares of a business. The new rules would define qualifying conditions to be an EOT and propose changes to tax rules to facilitate the establishment of EOTs. These changes would extend the capital gains reserve to ten years for qualifying sales to an EOT, create an exception to the current shareholder loan rule, and exempt EOTs from the 21-year deemed disposition rule that applies to certain trusts.

Qualifying Conditions 

The following subsections describe the qualifying conditions and general rules that would apply to EOTs. Additional restrictions may be included, as necessary, to protect the integrity of the tax system. Definitions A trust would be considered an EOT if it is a Canadian resident trust (excluding deemed resident trusts) and has only two purposes.

First, it would hold shares of qualifying businesses for the benefit of the employee beneficiaries of the trust. Second, it would make distributions to employee beneficiaries, where reasonable, under a distribution formula that could only consider an employee’s length of service, remuneration, and hours worked. Otherwise, all beneficiaries must generally be treated in a similar manner.

An EOT would be required to hold a controlling interest in the shares of one or more qualifying businesses. All or substantially all of an EOT’s assets must be shares of qualifying businesses. A qualifying business would need to meet certain conditions, including that all or substantially all of the fair market value of its assets are attributable to assets used in an active business carried on in Canada. An EOT would not be permitted to allocate shares of qualifying businesses to individual beneficiaries. A qualifying business must not carry on its business as a partner to a partnership.
PDF Tax Measures:
Budget 2023 – Tax Measures: Supplementary Information

Full Budget webpage:
Budget 2023: A Made-in-Canada Plan: Strong Middle Class, Affordable Economy, Healthy Future

ESOP Town Halls go virtual

At ESOP Builders, we know there is value in doing things face to face, however certain circumstances require conducting business virtually. And why not conduct more and more business virtually? It’s almost more challenging to not conduct work virtually since there is motivation to do so in the form of COVID restricting in person contact, and ease or convenience to do it in the form of user-friendly technology.

As our previous ESOP clients will know, a key step in our implementation process is to have a Town Hall with employees to describe and explain the program, as well as educate and answer questions. Recently, however clients in the middle of the implementation process in March 2020 were suddenly thrown a completely unexpected curve-ball. One client moved forward with their ESOP, although delayed, and conducted our first ever virtual Town Hall. This client had moved all company meetings to virtual and said that overall it went well, but they found the need to significantly reduce meeting durations because people just can’t pay attention on a screen for that long. We worked with them to cut down the content from a 1-2 hour session to 30 minutes (including time for questions). However, the management team also did informal communication to ensure everyone understood the program, pushing to get everyone to ask questions, which was key when having such a short minute meeting for something that does require more. Also a key part of the Town Hall was having a detailed and straight forward employee info package for employees to review and contemplate after hearing about the plan during the Town Hall.  This is something we always provide, but it is particularly useful when dealing in a virtual environment.

This particular client experienced a 60% and 70% participation rate (they implemented ESOPs in two different companies) which is excellent given the norm is 60-75%. Under the circumstances we revised our expectations to around 50% participation, therefore we are very pleased with the result and commend the company for making it happen!

Fortunately, technology made it easy to adapt and work through a different way of doing things.

By Joanna Phillips, CHRL, CVB, Vice President