There’s no doubt that subjects like income inequality and the growing wealth gap in our society have become topics of much debate in recent years. And while there is much consensus that these trends are problematic, there is less agreement on how to solve them.
Enter Employee Stock Ownership Plans or ESOPs.
I’ve written before about some of the benefits to companies or business owners when they sell to an ESOP. But it’s the employee owners of the company that reap some of the most profound returns from ESOPs – especially when they’re ready to retire.
That’s why if ESOPs continue to multiply, they have the potential to broadly impact wealth and income inequality in a positive way, according to research published by Jared Bernstein, Vice President Joe Biden's former chief economist and Senior Fellow at the Center on Budget and Policy Priorities. “I particularly have little doubt that a more widely shared distribution of firm ownership and business capital through ESOPs would further reduce wealth inequality,” Bernstein writes.
Consider that ESOP-owned S Corporations, so-called S ESOPs, outperform the S&P 500 in terms of average annual growth. A study by EY found that S ESOPs returned 11.5% average annual growth from 2002 to 2012 compared to a growth rate of just 7.1% for the top publicly traded companies. Of course, when an ESOP company grows its value, that means the employees who own the company see their shares in the ESOP grow – which means they have more money saved for their retirement.
Another study, this time conducted by researchers at the University of Pennsylvania and the Wharton School of Business, found that S ESOPs contribute $14 billion in new savings to their workers each year beyond the income they would otherwise have earned. The study also found that S corporation ESOPs’ higher productivity, profitability, job stability and job growth generate a collective $19 billion in economic value that otherwise would not exist. That’s something those of us who don’t work for an ESOP benefit from.
If that wasn’t enough to convince you about the value of ESOPs, a survey by the National Center for Employee Ownership found that employee-owners had ESOP account balances three to five times higher than the U.S. average for 401(k) plan participants. Even more impressively, employee-owners nearing retirement boasted ESOP account balances five to seven times the average balances in other defined contribution plans. (Employee-owned companies are also far more likely to offer 401(k) plans in addition to their ESOP plan compared to most other businesses.)
Even with results like that, ESOPs aren’t without their critics – especially when it comes to the idea that they encourage employees to put their eggs in a single basket. The concern is that employees will have all their wealth tied up in the same place they work.
It’s worth noting that ESOPs already embrace the idea of diversification in that they allow employee owners aged 55 and older who have participated in the ESOP for at least 10 years to diversify up to 25% of their company stock. When they hit age 60 and beyond, they can then further diversify that stock up to 50%.
But betting on your ESOP-owned company might be even less risky that you might think. According to additional research by the NCEO, ESOP-owned companies are 20% more likely to survive than other businesses and are also far less likely to default on their loans compared to other firms.
To put that another way, ESOP-owned companies might be some of the best investments around.
