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ESOP Legislation Offers More Flexibility for Small Businesses to Transition Ownership

By Brett Murphy

The US Senate is currently considering the Main Street Employee Ownership Act of 2018 (S. 2786), which would provide additional capital opportunities for employee stock ownership plans (ESOPs) to purchase the stock of a small business.

Under the proposed legislation, a version of which was passed by the House earlier this year, the Small Business Administration’s (SBA) power to guarantee loans would be expanded.  The SBA’s lending power would be expanded to allow loans to a company that could then be re-loaned to a qualified employee trust, such as an ESOP, to finance the ESOP’s purchase of stock.  Current law allows such loans to be made only directly to the qualified employee trust, which can impractically limit the lender’s access to collateral and cash flow. The new rules would authorize the SBA to guarantee loans to a company when 1) the loan proceeds are used only to make a corresponding loan to the ESOP to purchase company stock (as well as for certain transaction costs associated with making that loan), and 2) the purchase will result in the ESOP owning at least 51% of the company.

The proposed changes to the law would align SBA practices with current commercial bank options for ESOP transactions. Bank-financed company purchases by ESOPs are often structured such that the bank makes an “outside” loan to the company, and the company then makes an “inside” loan to the ESOP to permit the ESOP to purchase company stock.  The bifurcated loan structure permits desirable flexibility for a company both to repay its senior debt on manageable terms, and also to provide a sustainable employee benefit.  Authorizing SBA-guaranteed loans to mirror the commercial practices of larger banks and companies will provide greater flexibility for small businesses to transition ownership to ESOPs.

Further, the legislation specifically authorizes SBA-guaranteed loans, whether made to companies or directly to ESOPs, to be made under the Preferred Lender Program, providing a more streamlined process for application and loan approval.

The Senate version of the bill was introduced by Sen. Kirsten Gillibrand and is co-sponsored by senators on both sides of the aisle. Supporters believe these changes will allow more privately-held businesses to survive and thrive, while permitting a smooth transition of ownership. In this way, the legislation offers the potential to support independent ownership, job protection, and retirement security to thousands of employees.

The Senate version of the bill was introduced by Sen. Kirsten Gillibrand and is co-sponsored by senators on both sides of the aisle. Supporters believe these changes will allow more privately-held businesses to stay open following the retirement of their owners, providing job and retirement security to thousands of employees.