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ESOP POWER An Advanced Planning Strategy For Privately Held Companies Presented by: ATI Capital Group, Inc.
ATICG © 2002-2006ATI Capital Group, Inc.2 What is an ESOP ESOP = Employee Stock Ownership Plan An ESOP is a QUALIFIED PLAN under the Employees’ Retirement Income Security Act of 1974 (ERISA) See Sections 401(a), 4975(e)(7), and 501(a) of the Internal Revenue Code of 1986, as amended, and Section 407(d)(6) of ERISA, 1974
ATICG © 2002-2006ATI Capital Group, Inc.3 Unique Features of ESOT An ESOP trust “ESOT” has three very unique features: 1.ESOT must own “principally” stock in its sponsor company. 2.An ESOT is the ONLY qualified plan under ERISA allowed to BORROW MONEY!! 3.The trust can purchase the Company in “Stages” (multiple transactions).
ATICG © 2002-2006ATI Capital Group, Inc.4 Powerful Use #1: Exit Strategy ESOP $ Loan 2 Stock $ 3 QRPs Sec. 1042 Qualified Replacement Property= Stocks & Bonds Div’d $ $ 4 5 Collateral No Tax on Transaction Company Deducts Princ. On Loan Lender The Basic Transaction Corporation 1 $ Loan
ATICG © 2002-2006ATI Capital Group, Inc.5 Benefits to the Corporation 100% deductibility of PRINCIPAL and interest on ESOP loan to buy-out Shareholder. Increased cash flow due to deductibility of principal on loan. 100% deductibility of DIVIDENDS paid to reduce ESOP debt or distribute to participants. Collateral for ESOP created outside company. Preferred terms on ESOP loan. Principal shareholder bought out for $0.66 dollars, compared to $1.52 dollars.
ATICG © 2002-2006ATI Capital Group, Inc.6 How to Deduct Principal Under ERISA Results: Tax Deductible Principal & Interest Assumptions: $10,000,000 ESOP transaction Terms: 8% APR; 10 yr. Amortization Monthly P + I = $121,328 Lender Step 3 Co. makes payment to lender $121,328 Step 2 ESOP makes mirror payment on Note Payable to Co. $ ESOP ABC Manufacturing Company Step 1 $121,328 Co. makes contribution to ESOP (fully deductible) $
ATICG © 2002-2006ATI Capital Group, Inc.7 Benefits to the Selling Shareholder Tax Deferral on 100% of the proceeds from the sale of stock to the ESOP, under Sec. 1042 of the Internal Revenue Code! If the transaction is structured properly, capital gains tax may be permanently deferred!! NO CAPITAL GAINS TAX ON THE SALE OF YOUR STOCK TO AN ESOP – EVER!
ATICG © 2002-2006ATI Capital Group, Inc.8 Avoiding Taxation! What’s it Worth?? Benefit to the Corporation: $3,400,000 ($10mm x.34) Benefit to the Seller: 2,000,000 ($10mm x.20) Plus: Earnings on additional $2mm invested for 7 yrs. @ 7% (net of tax) 730,000 Total SAVINGS $6,130,000 Assuming a $10,000,000 transaction, with loan terms of 7 yrs. @ 7% APR -all numbers are approximate- Available 61.3% Savings
ATICG © 2002-2006ATI Capital Group, Inc.9 Powerful USE #2: Purchase of Capital Goods Lender Corporation ESOP Capital Goods 1 $ Loan 2 Stock 3 4 5 The Basic Transaction Collateral Capital Goods Purchased With Pre-Tax Dollars = INCREASED CASH FLOW $ Cash Cap. Goods CAUTION: Dilution!!
ATICG © 2002-2006ATI Capital Group, Inc.10 Benefits to the Corporation 100% deductibility of PRINCIPAL and interest on ESOP loan to buy capital goods. In addition to above deduction, can write-off capital goods a second time by means of DEPRECIATION. Increased cash flow due to deductibility of principal on loan. Collateral for loan created by acquiring the capital goods. Preferred terms on ESOP loan to acquire capital goods. Capital Goods Acquired for $0.66 dollars (PT), compared to $1.52 dollars (AT).
ATICG © 2002-2006ATI Capital Group, Inc.11 Powerful USE #3: Purchase of a Target Company Lender Corporation ESOP Target Company 1 $ Loan 2 Stock 3 4 5 The Basic Transaction Collateral Target Company Purchased With Pre-Tax Dollars = INCREASED RETURN ON INV. $ Cash Ownership CAUTION: Dilution!!
ATICG © 2002-2006ATI Capital Group, Inc.12 Benefits to the Corporation 100% deductibility of PRINCIPAL and interest on ESOP loan to buy Target Company. Increased cash flow due to deductibility of principal on loan. Collateral for loan created by acquiring the Target Company. Preferred terms on ESOP loan to acquire Target Company. Target Company Acquired for $0.66 dollars (PT), compared to $1.52 dollars (AT).
ATICG © 2002-2006ATI Capital Group, Inc.13 Powerful USE #4: Payoff Existing Debt with PT $ Lender Corporation ESOP 1 New Loan $ $ Loan 2 Stock 3 The Basic Transaction Existing debt paid off with Pre-Tax Dollars = INCREASED CASH FLOW!! $ Cash CAUTION: Dilution!! Existing Debt Pay-off Orig. Loan 4
ATICG © 2002-2006ATI Capital Group, Inc.14 Benefits to the Corporation 100% deductibility of PRINCIPAL and interest on ESOP loan to pay off existing debt. Increased cash flow due to deductibility of principal on loan. Collateral for loan follows new loan. Existing debt paid off for $0.66 dollars (PT), compared to $1.52 dollars (AT).
ATICG © 2002-2006ATI Capital Group, Inc.15 Who Should Consider an ESOP? A corporation – (‘C’ or ‘S’). No PCs or PAs!! Corporation must have unused debt capacity. Corporation must be profitable and able to easily cash flow add’l ESOP acquisition debt. Corporation should be paying taxes at, or near, the top marginal rate. Corporation in business for at least five years. Corporation with annual payroll of at least $1 million (not counting selling S/Hs). Corporation doing at least $7 mm in annual revenues.
ATICG © 2002-2006ATI Capital Group, Inc.16 Who Should Consider an ESOP? (Cont’) Corporation doing business in a solid industry with a positive future. Corporation must have strong secondary management in place. Majority S/H interested in selling-out, or starting the retirement process. Majority S/H who is favorable toward employee ownership. Secondary management interested in ownership and capable of taking over business. Management interested in acquiring capital goods, another company, or paying off existing debt with pre- tax dollars.
ATICG © 2002-2006ATI Capital Group, Inc.17 Solution vs. Tool
ATICG © 2002-2006ATI Capital Group, Inc.18 Difficult Questions Are you interested in getting some of your investment out of your company without any tax consequences at all? Are you interested in starting the retirement process? Do you have a solid plan as to how you will retire, or pass your company on to the next generation, or even sell your company to an outside party? Would you like to sell your company and pay no tax on the gain, and at the same time, significantly reduce estate taxes? Did you know that your company can purchase your stock and fully deduct the entire purchase price?
ATICG © 2002-2006ATI Capital Group, Inc.19 Results For the Seller 1)No tax on the gain, when stock is sold to an ESOP. 2)Seller can greatly reduce estate tax by combining an ESOP with an FLP. 3)Seller does not lose effective control after sale. 4)Seller can choose next generation of mgmt.
ATICG © 2002-2006ATI Capital Group, Inc.20 Results For the Company 1)Can deduct the full purchase price of Seller’s stock. 2)Can purchase Seller’s stock using a long-term loan with desirable terms. 3)Can deduct entire purchase price of capital equipment plus depreciate it. 4)Can payoff existing long-term debt with pre- tax dollars. 5)Can purchase a Target Company with pre-tax dollars.
ATICG © 2002-2006ATI Capital Group, Inc.21 Results For the Employees 1)Maintain jobs as company ownership passes. 2)Share in growth of company. 3)Good retirement plan. 4)Have Put Option and independent valuation. 5)Have funded market for company stock. 6)Have no liability on the loan to purchase stock. 7)Plan is 100% contributed by company.
ATICG © 2002-2006ATI Capital Group, Inc.22 The Alliance Project Manager/Consultant CPA Attorney for ESOP Attorney for Corporation Valuation Professional Insurance Professional Trustee Plan Administrator Lender Investment Advisor We Provide Your One-Stop-Shop ESOP Alliance Your Strategic Partner
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