Employee Benefit Trust: What Is It, How Does It Work, and Tax Considerations

An Employee Benefit Trust (EBT) is a trust set up by a company to provide benefits to its employees. It can have shares, cash, or other assets to back employee incentive and reward plans. 

An EBT can be employed to assist employee share plans, retain key employees, facilitate the transfer of shares in a private company, or support longer-term employee ownership arrangements. 

In this guide, we’ll discuss what are employee benefit trusts, where you can use an EBT, and the primary tax considerations that businesses should be aware of. 

What is an Employee Benefit Trust?

An employee benefit trust is set up by an employer for regular and 1099 employees and, under the terms of the trust, for former employees, directors, or others who are allowed to benefit from the trust. 

The company that creates the trust is commonly referred to as the settlor. Trustees holding the assets then act on behalf of the people to whom the trust deed is given for their benefit. 

An EBT may contain a variety of assets, such as: 

• Company shares 
• Cash 
• Investments 
• Other financial assets 

For example, a company can set up an EBT and offer funding, which enables the trustees to purchase shares in the company. This can be done with these shares being held by the trust and used to meet future employee awards under an incentive plan. 

This can provide a company with a more formal means of providing rewards to employees without the transfer of shares or other assets right away. 

An EBT may be applied to a limited number of senior staff members or to every employee. Who and how beneficiaries are determined, what the benefits are, and what they will do will depend on the trust deed. 

How Does an Employee Benefit Trust Work?

The operation of an EBT is dependent on the trust deed and on the purpose for which it was created. But the general steps in the process are explained here: 

• Company Creates the Trust: The company forms the EBT and draws up a trust deed that outlines the purpose, the beneficiaries, and the powers of the trustees. 
• Trustees are Appointed: Trustees are appointed to hold and manage the trust’s estate. These can be individuals or a professional corporate trustee. 
• The Trust Obtains Funding: The company can contribute the funds for EBT or alternatively, loan funds to the EBT. The trustees can then utilize the trust funds for purposes outlined in the trust deed. 
• EBT Holds Assets: An EBT can contain company stocks, cash, or investments. For example, a company could purchase shares with the trust to transfer over time to employees under a share incentive plan. 
• Employees Receive Benefits: Once an employee becomes eligible under the applicable incentive program, the trustees can transfer shares or grant a benefit as allowed by the incentive program. 

Who are Trustees?

The trustee has the duty to operate the EBT and the trust’s resources. Their role is to exercise their powers and to do their duties as prescribed by law. They are not just an extension of the company’s management. 

They can be responsible for: 

• Holding trust assets
• Maintaining trust records
• Administering employee benefits 
• Purchasing or transferring shares 
• Making decisions about the trust
• Managing transactions 
• Collaborating with tax, legal, and accounting professionals. 
• Compliance with the rules for reporting and compliance. 

A professional trustee is likely to be particularly helpful when an EBT involves many employees, large shareholdings, or complex incentive structures. 

For this reason, the trustee’s experience and independence are important factors to consider when creating an EBT. 

Main Uses of an Employee Benefit Trust

The use of an EBT could facilitate employee incentives, share ownership, succession planning, and other long-term employee benefit strategies for the employer. 

Some of the common uses of an employee benefit trust include: 

• Employee Share Incentive Plans: An EBT can also contain stock in a company and subsequently give it to workers as a component of an employee share scheme. This can be a part of a business’s strategy to set up long-term incentives to be rewarded with respect to the contribution of employees for their contributions to the business. 
• Encourage Staff Retention and Incentives: It can be utilized by companies for benefits to be used to attract and retain key employees. These can be shares, bonuses, or other types of employee rewards, depending on the trust arrangement. The arrangement may enable an employer to offer advantages over a longer term than just a single day.
• Providing Assistance for a Share Market: It can be especially helpful in a private company where employees might have trouble selling their shares. For example, trustees can take up the shares from an employee who is exiting the enterprise and retain them for awarding shares to employees in the future. This can offer a way to regulate the share ownership of employees without having to introduce an outside shareholder into an organization. 
• Business Succession and Employee Ownership: An EBT may also form a part of a company’s broader succession or employee ownership plan. An Employee Ownership Trust (EOT) is a particular kind of EBT. In an EOT, the company is to be owned and managed by the employees through its trustees. 

What are the Benefits of an Employee Benefit Trust?

If set up and utilized for an actual employee benefit, there are several benefits to an employee trust fund. 

• Helps Reward Employees: It provides companies a structured means of rewarding and incentivizing workers. 
• Promotes Employee Share Ownership: An EBT can own company stock and pay it out to employees via the proper incentive plans. 
• Helps Retain Key Employees: Other longer-term payment or benefit plans may be implemented to incentivize workers to stay on board and invest in the company’s future. 
• Provides Flexibility: Depending on the terms of a trust, an EBT can include various kinds of assets, such as shares, cash, and investments. 
• Can Support Succession Planning: It can be a part of a greater succession strategy or employee ownership program for private businesses.

Check Out: What is Payroll and Why is it Important for Every Business? 

What are the Drawbacks to an Employee Benefit Trust?

While an EBT offers several advantages, the creation of an EBT introduces extra legal, administrative, and tax obligations. 

These are the possible pitfalls: 

• The expense of setting up the trust. 
• Trustee and professional advisor fees. 
• Additional record-keeping and administration. 
• Complex tax considerations. 
• Compliance requirements 
• Prohibitions on the use of trust property. 
• Tax implications of transferring benefits or assets. 

The trustees are also required to follow the trust deed and their legal obligations. An EBT should not, therefore, be regarded as just an extension of the company’s own assets. 

Tax Considerations for an Employee Benefit Trust 

An employee benefit trust will be treated tax-wise depending on the way it is set up, funded, and benefits are distributed to employees. While the creation of an EBT can raise tax issues for the company, tax rules also need to be taken into account before creating or funding an EBT. 

Let’s discuss them here: 

1. Income Tax Considerations 

A benefit received via an EBT may be subject to income tax. The tax treatment will be dependent on the nature of the benefits and the context in which the benefit is provided. 

For instance, if an EBT is incorporated into an employee share arrangement, various employment-related securities regulations may apply. The company should thus think of the tax implications before shares are transferred to employees or other benefits. 

2. Capital Gains Tax Considerations 

The tax on capital gains also applies in cases of acquisition, holding, or disposal of assets like company shares by the EBT. 

The tax status may be affected by the nature of the asset, its acquisition, and the nature of the transaction involved. In planning the transfer or disposal of assets of an EBT, companies should take into account the potential capital gains tax implications. 

3. Inheritance Tax Considerations 

Another significant factor to consider with certain EBT arrangements is inheritance tax. 

There are specific provisions in UK tax legislation relating to employee benefit trusts, including conditions that could apply in order to have certain tax treatments in relation to inheritance tax. 

Final Words 

An employee benefit trust may be an appropriate mechanism for companies to reward employees, support employee share arrangements, and create longer-term incentive arrangements. An EBT will allow the use of assets like shares, cash, or investments, and the trustees will be the ones to care for these assets for the benefit of eligible employees and other permitted beneficiaries. 

If structured properly and advised by professionals, an employee benefit trust can be a valuable asset to help ensure that employee incentives are aligned with the long-term goals of a business. 

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FAQs 

Sources: 

• Employee benefit trusts: introduction – HMRC internal manual By GOV.UK