Employee Ownership Trusts: $10M Tax Exemption

Introduction

Over the next decade, an estimated 76% of Canadian business owners plan to exit their businesses, representing over $2 trillion in assets. Yet only about 9% have a formal succession plan in place. In response to this looming succession challenge, the federal government has introduced Employee Ownership Trusts (EOTs) as a new option for business owners to transition ownership to their employees. Recent legislation in 2023–2024 created a legal framework and tax incentives for EOTs as part of a broader push to encourage Employee Share Ownership Plans (ESOPs) in Canada. This report provides an in-depth look at EOTs – what they are, why they matter now under the new federal laws, the trade-offs for small business owners considering an EOT as an exit strategy, and the legal, financial, and administrative steps required to establish and maintain an EOT. The focus is on traditional small and medium-sized businesses (e.g. retail, manufacturing, services) across Canada, rather than tech startups, to ensure broad national relevance.

What is an Employee Ownership Trust (EOT)?

An Employee Ownership Trust (EOT) is a special form of trust that allows a business to become employee-owned by holding a controlling stake of the company’s shares in trust on behalf of all its employees. In practical terms, an EOT enables a business owner to sell their company to employees as a group, without requiring individual employees to buy shares with their own funds. Instead of employees purchasing stock directly, an EOT is an irrevocable trust that becomes the shareholder of the company, and employees are beneficiaries of the trust. Key aspects of how an EOT functions include:

• Trust Ownership of Shares: The EOT acquires a significant portion of the company’s shares (at least a controlling interest, generally 51% or more of the stock) from the owner. The trust holds these shares for the benefit of all current and future employees of the company. Employees do not individually own the shares; rather, the trust collectively owns the business on their behalf.

• Financing the Purchase: A hallmark of EOTs is that employees do not pay out-of-pocket to buy the business. The purchase is typically financed by the business’s own future earnings. The EOT can borrow funds – often via a loan from the company itself or a bank – to pay the selling owner, and then use the company’s profits to repay this debt over time. Canadian EOT rules specifically allow the trust to borrow from the underlying company to fund the purchase and repay the loan over a period of up to 15 years, without the usual tax penalties that would normally apply to shareholder loans. This “borrow from the company” mechanism is a relieving provision designed to address financing concerns and make it feasible for employees to take ownership even if they lack personal capital.

• Employee Beneficiaries: All active employees of the business are generally included as beneficiaries of the trust (former employees can also be included, if the trust deed allows, though at inception the beneficiaries are the current employees). The trust’s sole purpose must be to benefit the employees as a group. No single employee or subset of employees can be favored to the exclusion of others – for instance, an EOT cannot just benefit the previous owner’s family members or a few managers while excluding other staff. In fact, Canadian EOT rules explicitly exclude certain individuals from being beneficiaries if they were significant shareholders or related to the former owners. This ensures the trust truly serves a broad-based employee ownership purpose.

• Distributions to Employees: The EOT, as the shareholder, will receive any dividends the company declares (as well as any proceeds if the company or its assets are later sold). Those amounts can then be distributed to the employee beneficiaries. However, distributions must be made on a fair and pre-defined formula basis – for example, dividends or eventual sale proceeds can be allocated to employees in proportion to objective criteria such as each employee’s length of service, hours worked, or relative salary. The law prohibits the trustees from exercising discretion to favor any one employee; all beneficiaries of similar class must be treated equitably according to the formula. (Notably, remuneration-based formulas are allowed but with limits – e.g. very highly paid individuals’ compensation is capped for the formula to prevent skewing distributions.) This formula-based approach is meant to ensure the economic benefits of ownership are shared in a manner that reflects employees’ contributions, without turning the trust into a mechanism to disproportionately enrich a select few.

• Governance and Decision-Making: The EOT is managed by trustees who vote the shares and make decisions on behalf of the trust beneficiaries. Canadian rules mandate that the trust be governed in a democratic and transparent way. For example, at least one-third of the EOT’s trustees must be employee beneficiaries (i.e. employees of the company). The trustees are generally elected by the employees (active beneficiaries) at least once every five years. Additionally, to prevent the original owner (or their close associates) from exerting control through the trust, at least 60% of the trustees must be independent of the selling owner’s group (unless the employees themselves elected the trustee). Each trustee gets an equal vote in trust matters. Because the trust typically will control the company (by owning a majority of shares), the company’s Board of Directors will be reconstituted to reflect the new ownership: at minimum, a majority of the board must be persons independent of the prior owner. In practice, many EOT-owned firms also give employees a voice in corporate governance – for example, it is recommended (and was initially proposed as a requirement) that at least one-third of the company’s board seats be held by employee representatives to align with the trust’s employee-focused mission.

• Irrevocability and Long-Term Ownership: An EOT is generally set up as an irrevocable trust, meaning it is intended to hold the shares long-term for the employees’ benefit (rather than being a temporary trust that can be easily unwound or repurposed). Canadian EOTs are specifically exempted from the usual 21-year deemed disposition rule that applies to trusts. (Normally, most trusts are treated for tax purposes as if they sell and re-acquire their assets every 21 years, triggering capital gains tax; an EOT will not be subject to this, allowing it to hold the shares indefinitely without forced tax events.) This enables stable, long-term employee ownership. If the company is eventually sold to an outside buyer down the road, the trust would distribute the sale proceeds to the employees per the set formula, effectively sharing the equity value with those who worked in the business. In the meantime, as long as the company remains under trust ownership, the employees collectively benefit from the company’s profits (via any trust distributions) and have enhanced job security and engagement as co-owners.

In summary, an EOT allows a business owner to sell the company to its employees via a trust, with the purchase financed by the company’s future earnings. The trust then holds majority ownership on behalf of all employees, giving them a stake in the business’s success. This model has been inspired by successful examples in other countries (such as the U.K.’s EOT regime and U.S. employee stock ownership plans), but has been tailored for Canada’s context. EOTs are intended to facilitate broad-based employee ownership without requiring individual investment, thereby empowering employees and preserving the legacy of businesses in their communities.

Why EOTs Matter Now: New Federal Legislation (2023–2024)

Until recently, selling one’s business to employees in Canada was uncommon and lacked a dedicated legal structure or tax advantages. That changed with new federal legislation in 2023–2024 that officially enabled Employee Ownership Trusts. The idea was first floated in Budget 2022, and the 2023 Federal Budget delivered on that promise by introducing draft rules to create EOTs as a recognized structure under the Income Tax Act. These rules came into effect on January 1, 2024, fundamentally altering the landscape for business succession. Importantly, additional incentives were added in late 2023 to sweeten the deal for owners considering this route.

Several legislative changes have now put EOTs on the map:

• Creation of the EOT Framework: The initial framework for EOTs was enacted via federal budget implementation legislation. Draft EOT provisions were released in mid-2023 and then included in Bill C-59 (Fall Economic Statement Implementation Act, 2023), which received Royal Assent on June 20, 2024. This legislation added definitions and conditions for “Qualifying Employee Ownership Trusts” into the Income Tax Act, establishing the legal existence of EOTs in Canada. In short, as of 2024, Canada now legally recognizes an EOT as a specific kind of trust designed to facilitate employee ownership of a business.

• Tax Incentives for Sellers – Capital Gains Deferral: One key incentive is an extension of the capital gains reserve for sellers who finance the sale to an EOT. Normally, when a business owner sells shares and does not receive full payment upfront (for example, if they take back a promissory note or installment payments), they can defer reporting the capital gain over a maximum of five years. Under the EOT rules, the capital gains reserve is extended to 10 years for sales to a qualifying EOT. This means a seller who is paid over time can spread out the recognition of the gain (and the tax payable on it) across up to a decade, easing the immediate tax burden of a financed sale. Only 10% of the gain needs to be reported as income each year, instead of the usual 20%. This extended deferral aligns with the typical structure of EOT transactions, where the purchase price might be paid out of company earnings over many years.

• Tax Incentives for Sellers – Temporary $10 Million Capital Gains Exemption: Perhaps the most headline-grabbing incentive is a new temporary capital gains exemption for sales to an EOT. For qualifying business transfers occurring in 2024, 2025, or 2026, an individual selling shares to an EOT can potentially exclude up to $10 million of their capital gain from taxation. In other words, the first $10 million of gain on the sale of a qualifying business to an EOT can be tax-free for the seller under this measure. This is a substantial benefit, designed to make selling to employees as attractive as selling to other buyers. By comparison, under ordinary rules many small business owners already benefit from the Lifetime Capital Gains Exemption (approximately $971,000 in 2024, indexed) on the sale of qualified small business corporation shares – but the $10 million EOT exemption is an order of magnitude larger. The EOT exemption can apply in addition to the extended deferral above, providing a powerful tax break. It was introduced in the 2023 Fall Economic Statement and legislated via Bill C-69, which also received Royal Assent on June 20, 2024. (Note: This $10 million exemption is currently time-limited through 2026, presumably as a pilot incentive; it may be revisited by the government for extension or modification after 2026.)*

• Other Tax Benefits: In addition to the above, the legislation provided two other technical but important tax accommodations: (1) EOTs are exempt from the 21-year deemed disposition rule, allowing the trust to hold shares indefinitely without an automatic tax event, and (2) as noted earlier, EOTs are permitted to borrow from the company and repay over 15 years without adverse tax consequences. The latter is a special exception to shareholder loan rules and is crucial for financing EOT deals. Together, these provisions remove tax obstacles that would otherwise hinder a trust-owned, employee-funded buyout.

Why did the federal government enact these changes? The policy rationale was to facilitate employee buyouts of businesses as a succession option and to encourage broad-based employee ownership. With so many owners retiring, Ottawa saw EOTs as a way to keep businesses locally owned and protect jobs, rather than having them sold off to large consolidators or simply closed down. In the words of the ESOP Association of Canada, this initiative comes at a “critical time” – it gives owners an alternative to selling to private equity or competitors, “at no cost to the workers,” and promises to create meaningful wealth for employees, protect local jobs, and build more resilient local economies. By making the EOT model tax-efficient, the government is effectively reducing the financial friction for owners to choose an employee buyout. The combination of a generous tax exemption and deferral can help offset cases where selling to employees might yield a slightly lower price or a slower payout than a third-party sale. In short, EOTs matter now because the law now makes them viable and attractive: before 2024, this path wasn’t realistically available, but today it is backed by explicit legal structures and tax-driven incentives.

Establishing an EOT: Structure and Requirements in Canada

Setting up an Employee Ownership Trust involves meeting several legal and regulatory requirements. The Canadian rules are designed to ensure that an EOT truly serves employee interests and is not abused for unintended purposes. Below is an overview of the key requirements and conditions to establish a qualifying EOT and transfer a business into its ownership:

• Canadian Resident Trust: The EOT must be a trust resident in Canada for tax purposes. This means its central management and control must be exercised in Canada (for example, having Canadian resident trustees). Practically, the trust deed will specify that the trust is governed by Canadian law, and trustees will need to be Canadian residents or a licensed trust company in Canada. Keeping the trust under Canadian control is important for it to qualify for the tax benefits.

• Qualifying Business: The company being sold must be a “qualifying business.” Generally, this means a Canadian-controlled private corporation (CCPC) that is an active business (not an investment holding company). Immediately before the sale, “all or substantially all” (generally at least 90%) of the company’s assets must be used in an active business in Canada. (Note: A restrictive draft rule that the business be carried on “primarily in Canada” was removed in the final legislation, so the company can have some foreign operations, but it still must be primarily an active operating business, not a passive investment vehicle.)* In addition, after the sale, the EOT must own a controlling interest in the business – the trust must acquire more than 50% of the company’s shares (by fair market value and voting rights). EOTs can acquire 100% of the business, or a majority stake (with the original owner or others potentially retaining a minority), but at least 51% must end up under the trust to meet the definition of an EOT transaction. Furthermore, at least 90% of the EOT’s own assets must be the shares (or related assets) of qualifying businesses it controls. In essence, the trust can’t be used as a general investment fund; it must concentrate on owning the operating company for employees’ benefit.

• All-Employee Benefit: The beneficiaries of the trust must include all or substantially all employees of the business. The intent is that every active employee becomes a beneficiary of the trust (usually upon completion of a reasonable probationary period, up to 12 months). The rules explicitly carve out a few exceptions to prevent conflicts of interest: any employee who individually owns a significant stake in the company outside the trust (generally 10% or more of a class of shares) cannot be a beneficiary, and anyone who was part of the previous owner’s controlling group (or related to them) is also excluded. These exclusions ensure the trust is focused on rank-and-file employees rather than serving as a vehicle for former owners or major shareholders. Aside from these, every full-time and part-time employee, from the factory floor to management, would be included as a beneficiary of the EOT. This broad inclusion is what differentiates an EOT from other plans that might only reward a handful of key employees.

• Trust Purpose and Distributions: The EOT must be structured for the exclusive purpose of benefiting the employees and supporting the continued operation of the business. It cannot exist for any other primary purpose (e.g., it can’t be a family trust or a charitable trust on the side – it’s specifically an employee benefit trust). As mentioned earlier, any distributions from the trust (whether sharing annual profits or eventual sale proceeds) must be allocated in a nondiscriminatory way using a formula tied to objective employee metrics (service, hours, salary). The trust’s deed and governance documents must reflect these distribution rules. Importantly, the trustees must act impartially and cannot favor one beneficiary over another. In fact, the law stipulates that the trustees must not act in the interest of one beneficiary to the prejudice of others. This fiduciary duty is similar to how pension plan trustees must act in all members’ best interests. The EOT also must be an irrevocable trust (so that the employees’ collective ownership cannot be easily revoked).

• Trustees and Governance: Trustee requirements are an important part of EOT setup. All trustees must be either individuals (natural persons) or a trust company licensed in Canada. They are generally elected by the employee beneficiaries (active employees) at least once every five years, keeping the trust’s governance accountable to the workforce. The law requires that a minimum of one-third of the trustees are employee beneficiaries (active employees of the company). This ensures employees have direct representation in the trust’s decision-making. Conversely, to prevent influence from the selling owner, at least 60% of the trustees must be at “arm’s length” from the former owner and their affiliates (unless those trustees were chosen by the employees themselves). Each trustee vote is equal, so no single trustee (or small group) can dominate decisions purely by weighting. On the company side, after the sale, the corporation’s board of directors must also reflect the new ownership. The EOT, as majority shareholder, will elect the board. The rules require that the majority of directors (over 60%) must be persons who were not part of the previous owner’s control group (and who are dealing at arm’s length with the former owner). This means the prior owner and their relatives or cronies cannot simply remain in control of the board after selling to the EOT. Although not a strict requirement in the final law, it is generally expected (and was part of the ethos of the EOT design) that employees will also hold some board seats – indeed, the Canadian Employee Ownership Coalition recommends that at least one-third of the company’s board consist of employees, mirroring the trustee rule. In any case, the governance structure is set up to balance professional management, employee representation, and independence from the former owners.

• Employee Approvals for Major Changes: To further protect employees, certain major corporate decisions require approval by the employee beneficiaries. Specifically, if the company (under trust ownership) plans to undertake any transaction or series of events that would result in 25% or more of the employees losing their jobs, then a majority of the employee beneficiaries must approve that decision. (For example, a proposal to sell off a division that employs a large portion of staff, or a massive downsizing, would presumably trigger this rule – employees would effectively have a veto if it’s not in their interest.) Likewise, any plan to wind-up, amalgamate, or merge the business (except mergers with affiliate companies) must be approved by more than 50% of the employee beneficiaries. These provisions give employees a collective say in protecting their employment and prevent a situation where, for instance, trustees or new managers could sell or break up the company without employee knowledge. It aligns the strategic decisions with employee consent when jobs are on the line.

• Regulatory Compliance and Oversight: From an administrative standpoint, creating an EOT requires careful legal and financial planning. The sale transaction to the EOT (or a corporation owned by the EOT) must be structured as a “qualifying business transfer” under the Income Tax Act. This involves meeting all the conditions above and making the appropriate elections with the Canada Revenue Agency to claim the tax benefits. For example, to utilize the $10 million capital gains exemption, the seller(s), the EOT, and any EOT-owned purchasing corporation must jointly file an election to have the exemption apply. This election is made in a prescribed form and must be filed by the trust’s tax return due date for the year the sale occurs. Similarly, the extended 10-year reserve is claimed through the seller’s tax filings (requiring careful reporting of the installment payments each year – at least 10% of the remaining gain must be reported annually). Professional advice from lawyers and accountants is almost a necessity to set up an EOT correctly, given the technical conditions. The trust itself will be a taxable entity (albeit with special status), so it must file annual trust tax returns and remain compliant with the EOT criteria over time. If at any point the trust or transaction ceases to meet the qualifying conditions (a “disqualifying event,” such as the trust losing its majority ownership or the trust benefiting non-eligible persons), there could be adverse tax consequences – for example, the previously deferred or exempt gains might become taxable. Thus, maintaining the EOT’s compliance (keeping the trust in place, the majority ownership intact, and abiding by the distribution and governance rules) is an ongoing responsibility.

• Timeframe and Suitability: Establishing an EOT is not an overnight process. Owners need to evaluate if their business is suitable – EOTs work best for profitable, stable companies with predictable cash flows, because the company’s future earnings will fund the buyout. It may take many years (often 5–10+ years) for the trust to pay off the purchase price fully. During this period, the business must generate sufficient profits to service the acquisition debt (whether that’s paying down a bank loan or paying the former owner directly). This makes EOTs less practical for highly volatile or distressed businesses. Before closing an EOT sale, an owner will typically need a professional valuation of the company to determine a fair market price for the shares (since the transaction should be done at fair market value). The sale agreement will then be structured, financing arranged, and the trust documents prepared in compliance with the law. Once the trust is in place and the sale occurs, the former owner steps back (they can remain as an employee or consultant in some cases, but they must relinquish control and not retain special rights that could influence the company materially). The new trustees and company board assume leadership, and the company begins operating as an employee-owned firm.

In summary, the legal and administrative requirements to set up an EOT in Canada are detailed and somewhat complex. They are meant to ensure the EOT is genuinely transferring ownership to employees in a fair manner. While the process requires careful planning, the result is a structure that can perpetuate the business for the long term, with employees as the new owners. Business owners considering this route should be prepared to engage legal, tax, and valuation experts to guide the establishment of the EOT and to ensure ongoing compliance with the trust’s obligations.

Benefits and Trade-offs of an EOT as a Succession Option

For a small business owner evaluating an Employee Ownership Trust as an exit strategy, there are several advantages and trade-offs to weigh. EOTs present a different value proposition compared to more traditional exits like selling to a third party, passing the business to family, or management buyouts. Below we outline the key pros and cons of choosing an EOT:

Potential Benefits of an EOT

• Preservation of Business Legacy and Continuity: Selling to an EOT helps ensure the company you built continues operating independently, rather than being absorbed by a competitor or dismantled. The business stays in the hands of people who are already dedicated to it – your employees. This can be important for owners who care about maintaining the company’s mission, culture, and presence in the community. Unlike a sale to an outsider, an EOT keeps the decision-making local and aligned with the founder’s values, since employees have a vested interest in the business’s long-term success.

• Employee Welfare and Morale: Transitioning to employee ownership rewards the very people who contributed to the company’s success – it can be seen as a way of “giving back” to loyal staff. Employees stand to gain financially (through profit distributions and potentially a share of any future sale proceeds) and have greater job security. Knowing that the company is now owned by a trust for their benefit can significantly boost morale, engagement, and retention. Employees may feel more invested and motivated when they are, collectively, the owners. Moreover, an EOT structure includes provisions to protect employees – for example, employees get representation in governance and a say in major decisions like preventing large-scale layoffs. This alignment of interests can foster a resilient, positive workplace with higher productivity and innovation driven by employee-owners.

• Tax Advantages for the Seller: The financial incentives introduced by the federal government can make an EOT financially attractive. Qualifying owners can potentially sell a portion of their business tax-free (up to $10 million in capital gains) if the sale is done via an EOT in 2024–2026. Even beyond that exemption, sellers benefit from deferral of tax on any remaining gains over a 10-year period, easing the tax impact. Additionally, because the EOT is effectively a facilitated management/employee buyout, the selling owner may be able to negotiate a price that, while fair market value, is paid over time with interest – possibly yielding a better after-tax outcome when combined with the exemption and deferral. These tax breaks can narrow the gap if an outside buyer were offering a slightly higher upfront price. In short, Ottawa’s incentives like the 10-year reserve and $10M exemption are specifically meant to compensate the owner for choosing an employee sale.

• Flexibility in Exit Timing and Process: An EOT sale can often be structured with flexibility. The owner might sell a controlling stake (e.g. 60%) to the trust now and retain a minority stake temporarily, or gradually transition out over a period (though care must be taken that the owner fully gives up control to qualify). The owner could also stay involved in a management or mentorship capacity during the transition (without controlling the company). This gradual handover can be smoother than an abrupt change of control to a third party. It gives employees time to adjust to ownership and possibly for the owner to ensure the business is on solid footing for them. By contrast, third-party sales are usually a clean break. For owners who prefer a phased retirement or to see the business evolve under employee ownership, EOTs offer more tailored possibilities.

• Social and Economic Benefits: From a broader perspective, choosing an EOT supports a more inclusive form of capitalism. It can help share wealth with the workers and reduce inequality, as employees accumulate financial benefits of ownership. Communities often benefit when businesses remain locally owned – profits stay local rather than being extracted by external owners. The employee-owned company may be more committed to local jobs and philanthropy. Some owners take pride in knowing that by selling to their employees, they are contributing to a more equitable economy and preserving jobs in their town. In fact, policy makers instituted EOTs for these very reasons, to encourage “creating meaningful wealth for workers, protecting local jobs, and creating a more resilient economy”. Owners who value these outcomes might see it as a legacy worth leaving.

Potential Drawbacks and Challenges of an EOT

• Delayed Payout and Financing Risk: One of the most significant trade-offs is that as a seller, you typically won’t receive the full sale price upfront. In an EOT transaction, the payment to the owner usually comes in installments over several years, funded by future company earnings. This means the owner is effectively financing the sale (or the company is taking on debt to do so). There is an inherent risk: if the business underperforms in the future, or a recession hits, the trust might struggle to make the promised payments. The owner’s payout is thus dependent on the company’s ongoing success post-sale. By contrast, an external sale often provides a lump-sum payment or payment over a much shorter term. Owners who need immediate liquidity may find an EOT less appealing. Even though the tax deferral eases the tax on installments, the timing of cash flow is a real consideration. In short, an EOT requires confidence in the business’s future performance and patience to get paid over time.

• Potentially Lower Sale Price: While employee-owned companies still must be sold at fair market value, in practice an EOT deal might not generate a bidding war or strategic premium that a third-party sale could. A competitor or private equity buyer might be willing to pay a higher price upfront (especially if they expect synergies or have cheap capital). An EOT, on the other hand, is constrained by what the company’s own cash flows can support in terms of debt. The company’s value in an EOT scenario is often what its sustainable earnings can finance over a reasonable period. Owners might have to accept a somewhat lower effective price or slower enrichment in exchange for the other non-financial benefits. The government’s $10 million tax exemption can offset some of this difference (effectively putting more after-tax dollars in the owner’s pocket to make up for a possibly lower gross price). Nonetheless, if maximizing sale price is the owner’s top priority, selling on the open market might still yield more. Each situation will differ, and owners should weigh the net outcome after taxes and time value of money.

• Complexity and Professional Costs: Establishing an EOT is more complex than a straightforward sale. There are intricate legal requirements (as detailed above) and trust administration to consider. The owner will need to engage lawyers to draft the trust agreement and sale contracts, tax advisors to navigate elections and compliance, and possibly trustees or independent valuators. The process can be lengthier and more involved than negotiating with a single buyer. Ongoing, the trust will incur administrative overhead – e.g. filing trust tax returns, holding trustee elections, managing distributions. Small companies not accustomed to such governance may find this burdensome. All of these complexities translate into professional fees and management time. In comparison, a third-party sale or family handover can be relatively simpler once a buyer is found. Owners must be willing to invest the effort into the EOT process. That said, organizations like the ESOP Association and specialist advisors are emerging to assist, as EOTs become more common in Canada.

• Loss of Control and Uncertainty: By selling to an EOT, an owner is typically fully exiting control of their business. After the sale, the former owner can no longer direct the company (and indeed, legal conditions require them to be at arm’s length and not retain control rights). For an entrepreneur used to being in charge, this can be a difficult adjustment. There may be emotional uncertainty about how the business will fare under employee ownership. The new trustees and management might make decisions differently. While employees have a vested interest in success, they may lack experience in running a company, and the business could underperform due to the new structure or collective decision-making challenges. The former owner has to “let go” and trust the process they put in place. Some owners may be uncomfortable with this, especially if their identity is tied up with the business. There’s also no easy way to undo an EOT if one has seller’s remorse – once the company is sold to the trust and the owner gives up control, regaining ownership would be complex (and likely contrary to the purpose of the rules). In contrast, an owner selling to family or even to a friendly buyer might feel they still have some indirect influence or could step back in if needed. With an EOT, the ship essentially sails, and the owner must be prepared to have faith in the new ownership.

• Not Suitable for All Businesses: As noted, EOTs are most suitable for companies with stable profits and a culture that supports employee involvement. If a business has thin margins or needs heavy reinvestment, diverting profits to buy out the owner might starve the company of needed capital. Highly leveraged buyouts via an EOT could put pressure on the company’s finances. Additionally, some businesses might rely heavily on the owner’s personal relationships or expertise – if those can’t be transitioned to the employee group, the business could suffer without the owner at the helm. In such cases, an EOT might not succeed. Certain industries also have regulatory or licensing issues (for example, professional services like law and medicine, where ownership is restricted to licensed professionals) which could complicate an EOT transition. While the EOT model is flexible, it is not a one-size-fits-all solution. Owners should carefully assess whether their company’s financial profile and team are capable of thriving under an employee-owned model. If not, other exit routes may be more appropriate.

In weighing these pros and cons, small business owners should consider both their personal goals and the well-being of the business and its stakeholders. Many owners value non-financial outcomes (like taking care of employees or community legacy) highly – for them, an EOT’s benefits can outweigh the drawbacks. Others may prioritize immediate financial return or simplicity – for those, a different route might be preferable. In the next section, we provide a side-by-side comparison of EOTs with other common succession options to further clarify these trade-offs.

Comparing EOTs to Other Exit Options

To put Employee Ownership Trusts in context, it’s useful to compare them against three common succession/exit paths for small business owners: (1) Sale to a Third-Party Buyer, (2) Family Succession, and (3) Management Buyout (MBO) by a few key insiders. The following table summarizes how EOTs stack up relative to these alternatives on key considerations:

Table: Comparison of an Employee Ownership Trust with other succession options (third-party sale, family transfer, management buyout).

As the table illustrates, an EOT occupies something of a middle ground between an internal sale (management or family) and an external sale, combining elements of both. It internalizes ownership among those who work in the company (like a family or MBO to insiders would), but it broadens it to all employees and introduces a formal trust structure to govern it. The trade-offs span financial, cultural, and complexity dimensions. Each option has its own merits: for instance, a third-party sale might maximize price and speed, family succession keeps legacy within family, an MBO rewards a few key insiders’ entrepreneurship, while an EOT empowers the entire workforce and can preserve the business’s independent legacy.

Conclusion

Employee Ownership Trusts represent a new and innovative succession path now available to Canadian business owners, thanks to recent federal legislation. For owners of traditional businesses – whether it’s a manufacturing firm, a retail operation, or a professional services company – an EOT offers an opportunity to sell the company to those who know it best (the employees) in a tax-advantaged and structured manner. Under the trust, employees collectively become stewards of the business, which can drive continuity, loyalty, and shared prosperity. The federal government’s support for EOTs, through measures like the temporary $10 million capital gains exemption and extended seller financing provisions, signals that this model is being encouraged at the highest levels.

However, EOTs are not a universal solution. They come with trade-offs: owners must be willing to forego an immediate full payout and cede control to a broad group, and the business must be robust enough to thrive under a new ownership structure. The legal and administrative requirements to set up and maintain an EOT are significant, and careful compliance is needed to retain the tax benefits and avoid pitfalls. That said, many of the initial strictures have been eased after consultation – for example, rules that might have constrained the business’s operations post-sale were relaxed to increase flexibility. This shows that the regime is designed to be workable in practice, not just in theory.

For small business owners contemplating their succession, an EOT is now a viable alternative to consider alongside more traditional exits. It aligns especially well for those who value their employees and community as much as (or more than) getting the highest bidder. By creating an employee-owned future for the company, owners can leave a legacy of empowerment and stability. As with any major transition, due diligence and professional guidance are crucial – owners should consult with legal and financial advisors experienced in the new EOT framework to assess suitability and navigate the process.

In summary, Employee Ownership Trusts, enabled by the 2023–2024 legislation, have added a powerful new tool in the Canadian business succession toolkit. They offer a path that can satisfy retirement goals for owners, provide significant tax advantages, and give employees a meaningful stake in the enterprises they work for. For many traditional businesses facing succession in the coming years, EOTs could very well be the bridge to the next generation of ownership, keeping the company’s foundation strong and its future bright under employee ownership.

Sources:

• Government of Canada, Budget 2023 – Proposal for Employee Ownership Trusts.

• Government of Canada, Fall Economic Statement 2023 – Employee Ownership Trust tax measures.

• Bill C-59 (Fall Economic Statement Implementation Act, 2023) and Bill C-69 – legislative provisions enabling EOTs and related tax incentives (Royal Assent June 20, 2024).

• Norton Rose Fulbright, “2023 Canadian Federal Budget: Employee Ownership Trusts” – Overview of EOT tax benefits.

• Borden Ladner Gervais (BLG), “Employee ownership trusts: Business succession alternative” – Detailed requirements and analysis of EOT regime.

• National Center for Employee Ownership, “Canada Employee Ownership Trust Legislation Now Law” – Summary of Canadian EOT rules.

• ESOP Association Canada, News Release on EOTs – Context and expected impact of EOT policy.

• BDO Canada, “Employee ownership trusts: A new tax incentive…” – Plain-language explanation of EOT and benefits.

• EY Canada Tax Alert, “Draft legislation to facilitate use of EOTs” – Succession planning context.

• Canadian Federation of Independent Business (CFIB) – Succession survey data (76% owners planning to exit; only 9% have plan).