9. Employee Stock Ownership Plans
Introduction
An employee stock ownership plan (ESOP) allows companies to share ownership with
employees without requiring the employees to invest their own money. With an ESOP,
shares of company stock are contributed to the ESOP on behalf of the employees. Although
other employment-based plans, such as stock bonus and profit-sharing plans (covered in
chapter 6), may contain company stock, an ESOP is required to invest primarily in company
stock.
ESOPs are unique among employee benefit plans in another way: they may borrow
money. This feature can be beneficial as a corporate finance tool. Because of special tax
benefits accorded ESOPs, they can also lower the cost of financing corporate transactions.
Louis O. Kelso is generally credited with creating the ESOP concept. Kelso believed that
by providing employees with access to capital credit, ESOPs would broaden the distribution
of wealth through free enterprise mechanisms. Employees who were made owners of the
productive assets of the business where they work, Kelso reasoned, would benefit from the
wealth produced by those assets and would thus acquire both a capital income and an
incentive for being more productive.
Kelso attracted a powerful ally in Sen. Russell Long (D-LA), who used his influence to
spearhead legislative efforts to promote ESOPs. Political support for the ESOP concept has
grown steadily, and through the end of the 1980s Congress encouraged ESOPs through a
number of favorable laws, including the Employee Retirement Income Security Act of 1974
(ERISA), the Tax Reduction Act of 1975, the Tax Reform Act of 1976, the Revenue Act of
1978, the Economic Recovery Tax Act of 1981, the Deficit Reduction Act of 1984, and the
Technical and Miscellaneous Revenue Act of 1988. However, in 1989, ESOPs came under
congressional scrutiny when the large amount of debt incurred by some ESOPs was
connected with heavy corporate takeover activity. Congress considered major ESOP changes
that would have dramatically reduced their attracti