Employee Ownership Trust (EOT): an alternative to succession planning?

Employee Ownership Trust (EOT): an alternative to succession planning?

By James Gosling, AJ Chambers

Employee Ownership Trust  (EOT): an alternative to succession planning?

The accountancy practice mergers and acquisitions market has been extremely active over the past 12 months or so, indeed since the Chancellor’s Budget announcement in March we have seen an increase in practice owners looking to engage our services to assist them with their exit plans. This increase in activity has been accelerated due to the combination of circumstances arising from the pandemic, where owners who were considering retirement are now expediting those plans because of the lack of energy to rebuild, in what has been one of the most intense times for accountants up and down the UK.

Alongside the pandemic, there has been an underlying issue that has been bubbling away for the last few years, and this is the struggle for practice owners or partners to put in place a workable and suitable succession plan. There are of course many variables and factors which come in to play with succession planning; sometimes this is down to the ability to attract the right talent to smaller firms, or a conscious decision by the owners to drive up profits by not building a senior team around them.

However, there are two overriding reasons which are at the forefront of many conversations held with partners – firstly; they find that many of the younger generation coming through the ranks do not have the desire to run a practice. They are extremely good accountants and portfolio managers, but do not wish to have the additional responsibility of ‘taking over the reigns’. Secondly, in the event that there are individuals who are ambitious and have the drive and aptitude to run a practice, they do not have the financial punch to buy out the outgoing partners or buy into the partnership. This scenario has been building for many years and is now manifesting itself among many accountancy practices within the UK.

Whilst there are partners who have identified this issue and have tried their best to remove barriers internally, such as dispensing of goodwill from the balance sheet to make the financial entry a little more achievable to aspiring partners, it is still a large financial investment when considering your personal life and financial commitments. Enter Employee Ownership Trust (EOT). This structure has been used in other sectors for some time, but up until recently has not been an avenue within the accountancy practice sector, however this may be changing before our very eyes. I am fully aware of the ACCA and ICAEW recently being approached for approval of such a model-; indeed as have ICAS, of which I will leave Jeremy Clark, Practice Assistant Director at the Institute of Chartered Accountants of Scotland (ICAS), speak more on within this article.

An EOT is a vehicle for a planned exit, providing the current owners with great tax incentives, whilst protecting the value they have built to date. Tying back in with succession planning, an EOT does provide the option for incentivising staff you wish to keep within the business, as well as removing some of the obstacles I have already discussed above for those aspiring partners or next generation of Practice owners by placing shares within the EOT, which are attributed to staff members you wish to have involved within the scheme. Of course, such structures come with many complex criteria which can be found online or, of course, by speaking with an accountant who has the relevant expertise.

EOT’s can prove to be beneficial for the right scenario or outlook of the outgoing partner. Many partners may consider this route as part of their legacy planning, as a way of rewarding longstanding team members for their dedicated service to the firm or conversely the outgoing partner may feel the practice will be hard to sell or prove difficult to attracting an appropriate buyer. Of course, the latter is very unusual. We here at AJ Chambers work with a variety of practices in all different shapes and sizes, all with different criteria for acquisition targets and level of risk appetite and we would be confident in helping achieve the right exit for the seller, setting expectations accordingly and guiding stakeholders through the whole process, so that they are tailored to each individual practice and Partner.

Jeremy Clarke has stated. “As James has already alluded to, EOTs have become an increasingly popular option to consider as a pragmatic solution to succession planning in the wider business world, partly because ‘co-operative ownership’ is being actively promoted by the central and devolved governments throughout the UK, but mainly because it is a bit of a ‘no-brainer’ in the right circumstances. If the succession planning benefits James has already discussed weren’t enough, for many, the tax benefits make it hard to ignore. 

No other business sale option gives the seller an effective CGT rate of zero percent, while allowing them to still retain a significant stake in the business and remain active in its management for as long as they want.  From the buyers’ perspective, in this case the employees through the EOT, they can take their destiny into their own hands by acquiring an interest in a well-established, profitable business with which they are (or at least should be) very familiar; retain management expertise while they ‘fill the gaps in their knowledge’; and possibly even get a tasty wee tax-free bonus of up to £3,000 every year, provided the business profits can justify it.

It also works well from a financing perspective, as EOT buy-outs can often be self-funding.  Early indications are that the banks seem to be quite comfortable lending to EOTs which often takes care of the down-payment, and the balance of the purchase price can be paid out over an agreed period from future generated profits.

It is no wonder then that an increasing number of forward-thinking accountancy practices are also investigating EOTs as an option to secure their future. However, all that said, EOTs are not a universal panacea. There are some practical and regulatory considerations to be taken into account.

On a practical front, as you need to have share capital for the EOT to purchase, this route is not available to sole traders or partnerships, only to limited companies. Therefore, the former will need to incorporate, ideally a year or two in advance of the buy-out completion date.  It is also important to get a realistic professional valuation of the business and shares to substantiate the purchase price, and that is not as straight forward as you might think.  A self-valuation is unlikely to satisfy HMRC, and there are a limited number of brokers willing and able to provide valuations in such circumstances.  As an aside, through years of helping people buy and sell accountancy practices, I have found that few accountants understand the market for accountancy practices and how they are valued, and are therefore probably not that well placed to provide a valuation of another accountancy practice.

So far as regulation goes, if the practice is owned by members of one or more of the professional bodies, then some thought needs to be given to the management structure, as this may impact on how the practice is allowed to describe itself.  Many of the professional bodies, especially the chartered ones, have rules about this, and it is well worth just checking before making any changes.

If the practice is undertaking statutory audit work, it gets even more complicated.  A registered auditor must be owned and controlled by “audit qualified” persons, so it cannot be owned by an EOT which, in terms of the legislation, must have a controlling interest through owning more than 50 percent of the shares. It will therefore be necessary to hive off the audit business into a separate entity, owned and controlled only by audit qualified individuals. This is possible, but it takes some forethought and careful planning.

In summary, I believe EOTs are a welcome addition to the succession planning toolbox, and are well worth considering in the right circumstances, However, realising the benefits without tripping up along the way requires some careful thinking and planning. To roll out a handful of cliches – you need to do your groundwork, line all your ducks up in a row, but where there’s a will, there’s a way.”


Our team has a wealth of combined experience in this market and welcomes existing and new clients to get in touch, for a confidential and discrete, no-obligation discussion to explore how we may work together. For more information, contact James on 020 8092 6220 or [email protected]

To find out more about our service offering and to watch the video version of our interview visit our Mergers & Acquisitions page on our website or watch on our YouTube here: https://www.youtube.com/channel/UClaLtle9vdK5kFtVIQxzQxQ

Jeremy Clark is writing in a personal capacity and the views expressed in the article do not necessarily reflect those of ICAS.

 

Resources & Whitepapers

Why Professional Services Firms Should Ditch Folders and Embrace Metadata

Professional Services Why Professional Services Firms Should Ditch Folders and Embrace Metadata

4m

Why Professional Services Firms Should Ditch Folde...

In the past decade, the professional services industry has transformed significantly. Digital disruptions, increased competition, and changing market ...

View resource
2 Vital keys to Remaining Competitive for Professional Services Firms

2 Vital keys to Remaining Competitive for Professional Services Firms

8m

2 Vital keys to Remaining Competitive for Professi...

In recent months, professional services firms are facing more pressure than ever to deliver value to clients. Often, clients look at the firms own inf...

View resource
Turn Accounts Payable into a value-engine

Accounting Firms Turn Accounts Payable into a value-engine

3m

Turn Accounts Payable into a value-engine

In a world of instant results and automated workloads, the potential for AP to drive insights and transform results is enormous. But, if you’re still ...

View resource
Digital Links: A guide to MTD in 2021

Making Tax Digital Digital Links: A guide to MTD in 2021

4m

Digital Links: A guide to MTD in 2021

The first phase of Making Tax Digital (MTD) saw the requirement for the digital submission of the VAT Return using compliant software. That’s now behi...

View resource