Mr Gregory Brown is a partner in Holland & Knight's Chicago office

Bloomberg Tax sponsored a program titled, "New Era of Material Wealth Creation with ESOPs" which explored the 2017 Tax Act and its impact on ESOPs, alternative structures for ESOP transactions, and wealth creation and succession planning. The upshot is that ESOPs are alive and well after the enactment of the 2017 Tax Act. The panelists also discussed a variety of alternative structures for ESOP transactions, including a structure in which an existing ESOP company would utilize the ESOP tax benefits to acquire target companies in a tax-efficient manner.

2017 Tax Impact

The 2017 Tax Act lowered the tax marginal rate for C corporations to 21 percent, making C corporations an attractive alternative to J corporations, limited liability companies (LLCs) and partnerships in many instances. At the same time, the 2017 Tax Act did not alter existing ESOP tax incentives, including the selling of shareholders tax-deferred rollover provisions of Internal Revenue Code Section 1042 and the provisions which allow an S corporation that is 100 percent owned by an ESOP to be exempt from federal income taxes.

ESOP Adoption

Under the 2017 Tax Act, an existing LLC can now make an election to be taxed as a C corporation to lower its top marginal federal income tax rate, whether it is exploring adoption of an ESOP or not. If it later decides not to adopt an ESOP, it can still enjoy the reduced taxes. If it decides to adopt an ESOP later, the decision to incorporate (an ESOP company must be a corporation)and many of the tax issues surrounding whether the change  from an LLC to incorporation as a tax-free reorganization become less troublesome. The shareholders of a C corporation may then sell all or a portion (at least 30 percent in aggregate) to the newly-formed ESOP in a tax-deferred sale, if they meet the other requirement for such treatment.

If the sale to the ESOP results in the ESOP owning 100 percent of the outstanding shares of the company, the ESOP trustee may elect to be treated as an S corporation in the following tax year, and the corporation will thereafter be exempt from federal income taxes.

Greg Brown of Holland & Knight moderated the tax discussion for the panel on 2017 Tax Act and Its Impact of ESOPs with Alexis Gelinas of Sadis & Goldberg LLP and Noor Rajah of Optimizing Foundations LLC

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