ESOPs: A Must-Consider Exit Strategy for Business Owners, with Colorado’s Innovative Tax Credit Leading the Way

Business owner reviewing data on laptop screen

Has your business reached the point of success where an exit strategy seems like the next logical step? A smart business owner plans ahead and understands all their options when it comes to implementing an exit strategy so that they can get the most out of their business while it’s profitable.

One such strategy for doing so is utilizing an Employee Stock Ownership Plan (ESOP), whereby a business in part or in whole is sold to its employees through a qualified defined contribution plan (IRC section 401(a)). And, if your business is lucky enough to be in a handful of states like Colorado, there are tax and other financial incentives available so that owners of any sized business can use this strategy to cash out. In addition to Colorado, California, Massachusetts, Missouri, and Washington have set up centers to encourage employee ownership. And, other states including Iowa, Nebraska, New York, Pennsylvania, and Tennessee are considering comparable tax and financial incentive proposals.

At Quist, we’ve helped many business owners achieve successful exit strategies. Follow along as we outline the pros and cons of ESOPs, detail the specifics of Colorado’s tax credit program, and how Quist plays a key role in aiding companies through major transitions.

Understanding ESOPs and Their Benefits

ESOPs are employee benefit plans that give employees ownership in their companies in the form of stock. The success of their companies results in financial rewards and tax benefits. When a business owner plans a succession plan, ESOPs are often highly considered options. ESOPs are set up as separate accounts funded by a company’s newly issued shares, cash buyouts of existing shares, or borrowing money through the company to buy new shares.

The Pros of ESOPs

ESOPs come with many benefits, especially for small businesses, including:

  • Promotion of employee ownership.
    Employees feel a sense of pride knowing they’re directly contributing to their company’s success.
  • Encouragement and incentivization of employee engagement.
    Employee ownership leads to increased dedication and involvement.
  • Enhanced productivity.
    A sense of ownership drives employees to perform better for themselves and the company.
  • Retirement security.
    ESOPs provide employees with a secure retirement savings option.
  • Reliable leadership.
    Business owners can exit without compromising or losing strategic power to a third-party buyer.

Get a full scope of all ESOP pros, cons, and important comparisons to other exit strategies, here.

How Colorado Leads the Way for ESOPs with the Colorado Tax Credit Program

“The Employee Ownership Tax Credit is available to current Colorado-headquartered businesses and their employees as an incentive to establish or expand eligible employee ownership structures” (Colorado OEDIT).

As of May 2023, Governor Polis signed into law an expansion of eligibility criteria that does the following:

  • Increases the cap for converting a qualified business to an ESOP
  • Expands the tax credit to include 50% of the costs of a qualified ESOP expanding its employee ownership by 20%
  • Expands the tax credit to include 50% of the costs of a qualified business converting to or expanding an alternate equity structure

The Colorado tax credit program elevates these plan improvements by also offering a lucrative ESOP incentive. Business owners, please review the Colorado ESOP Guide to learn how this incentive delivers financial benefits beyond standard ESOP tax benefits.

For eligibility criteria, details on the application process, business assistance, timeline, implementation process, and funding structure, please visit the Employee Ownership Grant page for small businesses.

The Anticipated Impact on the Small Business Landscape:

With this program and tax incentive, Colorado’s small business scene will thrive. Not only will there be increased business stability and growth due to employee ownership, but small businesses on the rise will also positively contribute to their local economies. It’s a win-win-win for employees, business owners, and the community.

As with any business strategy, there will always be potential challenges to consider. Keep in mind:

  • Financial considerations.
    Initial costs and long-term financial implications for both businesses and employees.
  • Management changes.
    Dealing with the transition to employee ownership and associated cultural shifts.

It’s also important to consider the long-term effects of the Colorado tax credit. For example, there’s the possibility of similar tax credits being enacted in other states, making it more of a broader exit strategy trend.

How Quist Helps Business Owners Through the ESOP Implementation and Transition Process

Quist is here to help you throughout every step of your exit strategy journey. Here are six ways how:

  1. ESOP Feasibility Analysis
    We’ll conduct an analysis to determine if an ESOP is a viable option for your company. This involves evaluating the financial health of the company, its growth prospects, and assessing how well an ESOP aligns with the company’s goals and culture.
  2. Business Valuation
    Retained by the ESOP trustee, Quist provides an accurate and comprehensive valuation of the company. This valuation is a critical step in the ESOP process as it determines the fair market value of the business and pricing for the ESOP-owned shares.
  3. Regulatory Compliance
    ESOPs are subject to various regulations and compliance requirements. We help ensure that the ESOP transaction adheres to all legal and regulatory standards set by bodies like the Internal Revenue Service (IRS) and the Department of Labor (DOL).
  4. Post-Transaction Support
    After the ESOP is established, ongoing valuation services may be needed for various purposes, such as annual compliance reporting, valuing company shares for employees, and other services. Quist provides these services to ensure continued compliance and transparency.
  5. Transaction Structuring
    We assist in helping business owners find the right transaction advisory partner specializing in ESOPs.
  6. Expertise and Experience
    With expertise in business valuation and ESOPs, Quist provides valuable insights and guidance throughout the entire ESOP transition process.

Do you feel more confident in your exit strategy now that you understand the benefits of ESOPs? ESOPs have the potential to revolutionize your small business and the entire small business landscape in the state of Colorado.

For more information about ESOPs and to determine if the ESOP strategy is right for your business, contact Quist today.

Shina Culberson, CFA

As the President of Quist, Shina Culberson brings over two decades of financial and valuation experience to her leadership and guidance of the firm. Known for her direct style and laser focus, Shina specializes in business and securities valuation engagements for corporate finance, financial reporting, and tax purposes. Prior to joining Quist, Shina was an Equity Analyst for Cohen Independent Research Group where she provided security valuation and investment recommendations on public companies in the biotech, high-tech, and entertainment industries. Additionally, she served as a Director at Charles Schwab Investment Management where she managed the International Credit Research Team covering international financial institutions and emerging market Asia and Latin America sovereign investments. The team covered over 50 debt issues and had oversight responsibility for approximately $32 billion in portfolio holdings. Shina is a Certified Exit Planning Advisor and is a faculty member for the Exit Planning Institute teaching the valuation section of EPI’s certification course. Shina is also President of EPI’s Rocky Mountain Chapter where like-minded professionals collaborate to ensure better outcomes for business owners in transition and exiting their businesses. Shina graduated with a bachelor’s degree in Economics from Claremont McKenna College, holds the CFA designation, and is a member of the Society of Analysts in Denver.

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