Ottawa reveals details of employee-ownership plan for businesses

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The federal government is proposing legislative changes that would encourage more companies to transfer ownership to their employees as a form of succession planning.

In the federal budget, the government unveiled its rules for employee ownership trusts (EOTs), which hold shares of businesses for employee beneficiaries. Similar forms of employee ownership have proved quite popular in the United States and Britain, allowing millions of workers to build equity in their companies or receive annual bonuses.

The Canadian version is modelled after Britain’s and would see company profits disbursed to employees under a formula that considers tenure, remuneration and hours worked.

“Employee Ownership Trusts enable employees to share in the success of their work,” the budget says. “They support participation in business decisions and allow workers to receive their share of profits.”

The tax changes supporting EOTs would go into effect next year. The government had previously stated its commitment to create these trusts in last year’s budget.

Several executives and financiers in corporate Canada have been pushing for EOTs for years and lobbying Ottawa on the issue. They say it would give business owners another option in exit planning, rather than selling to rival companies or private-equity firms.

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The country’s entrepreneurs are aging, much like the general population. The budget says more than 75 per cent of small-business owners are planning to retire in the next decade.

However, a prominent backer of employee-owned firms says the proposed legislation is unlikely to spur the widespread adoption of EOTs, given the lack of incentives for sellers.

“It’s just a missed opportunity,” said Jon Shell, the managing director of Social Capital Partners, a non-profit financing company in Toronto. “In the absence of incentives, all of the evidence that we have suggests that very few people will use it.”

To transfer ownership to employees, a sale is generally financed from company earnings over several years. The idea is that workers don’t have to go into their own pockets to buy the business.

In 2014, Britain started to exempt eligible sellers from paying capital gains taxes when transferring ownership to an EOT, leading to a wave of new employee-owned firms there after decades of little uptake.

However, there are no capital gains tax exemptions in the proposed Canadian legislation. And unlike in Britain, where participants in EOTs can each receive up to £3,600 ($6,000) in tax-free bonuses per year, Canadian beneficiaries would be taxed on their distributions.

Mr. Shell said incentives for sellers are necessary for a few reasons. First, those business owners are usually paid over several years, rather than immediately. The sales process can also be complex. And when they sell to a trust, the market value is determined by an accounting firm.

The owners “give up the opportunity to sell to the highest bidder,” he said.

To be sure, there are already employee-owned companies in the country. However, boosters of employee ownership say such firms are relatively rare, owing to the complexities of setting up and managing them with the trusts that are available.

The budget addresses some of these issues. For instance, it proposes that EOTs would be exempt from the 21-year deemed disposition rule, in which certain trusts must dispose of their capital property every 21 years to pay taxes on capital gains. This change would allow employees to hold company shares in a trust indefinitely.

Book manufacturer Friesens Corp. of Altona, Man., which has been employee-owned in various ways since the 1950s, uses several trusts to manage its shares.

“We’re constantly scrambling to try and draw down the assets in a trust before the maturity date of that trust,” chief executive Chad Friesen told The Globe and Mail earlier this year. “It creates a lot of extra administration around the management of our program that’s really unnecessary.”

In the budget, the government said it would solicit feedback on “how best to enhance employee rights and participation in the governance” of EOTs.

Mr. Shell hopes the corporate sector can provide more input.

“If they’re genuine about wanting there to be employee ownership in Canada, then they’ll need to be open to feedback, about more than just governance,” he said. “If it remains as is, there just won’t be much employee ownership in Canada. So governance becomes largely irrelevant.”