Why ESOPs Are Gaining Ground in Construction and Beyond

(The following article is adapted from a presentation by Michael Bannon, a managing director at CSG Partners.)

If you’ve heard the term ESOP and immediately thought “retirement plan,” you’re only partly right.

An employee stock ownership plan (ESOP) is indeed a qualified retirement plan under the Employee Retirement Income Security Act (ERISA). But it’s also a powerful financial and strategic instrument. For many business owners, particularly in the construction, architecture and engineering sectors, an ESOP can provide a viable succession strategy, facilitate liquidity, preserve company legacy and optimize tax outcomes.

What Exactly Is an ESOP?

At its core, an ESOP is a trust set up by a company to hold shares of its own stock on behalf of employees. These shares are allocated over time to eligible employees (based on their compensation and tenure) at no cost to them. The company typically borrows money from a bank or private credit fund, or through seller financing, to buy back shares from the current owners. The borrowed funds are used to purchase stock, and the loan is repaid using company profits, often with the benefit of significant tax deductions.

This makes ESOPs quite different from traditional retirement plans. While 401(k)s and profit-sharing plans depend largely on employee contributions, ESOPs allow employees to benefit from company ownership simply by staying with the business and contributing to its success.

Why ESOPs Matter for Founders and Firms

Business owners in construction and related industries face some unique dilemmas when considering succession. Many founders have invested decades into building not just a profitable enterprise, but also a strong internal culture, committed workforce and deep community ties. Selling to a third-party, whether a strategic buyer or private equity firm, can feel like handing over that legacy to strangers.

Enter the ESOP, which offers some key benefits:

• Liquidity without losing autonomy: Founders can sell a minority stake (e.g., 30-49%) to the ESOP, gain liquidity and diversification and continue to lead their companies. Even if 100% of a business is sold to an employee trust, its board of directors will continue to operate the company.
• Legacy and culture preservation: Because employees become the beneficial owners, ESOPs often foster stronger employee engagement and retention. Business continuity is maintained, and jobs stay local.
• Significant tax savings: Sellers can take advantage of Internal Revenue Code Section 1042 to defer capital gains taxes indefinitely, provided certain requirements are met. Meanwhile, companies that become 100% ESOP-owned S corporations pay virtually no federal income tax because ESOPs are tax-exempt trusts. This enables faster debt repayment and reinvestment in growth.

A Natural Fit for the AEC Sector

Construction firms are some of the most active adopters of ESOPs, representing about one in six such plans nationwide. Why? Because these firms check several ESOP-friendly boxes:

• High payroll relative to value: Construction companies often have large payrolls compared to their enterprise value. This supports greater flexibility in taking advantage of non-cash tax deductions.
• Asset-heavy balance sheets: ESOPs are structured as stock sales rather than asset sales, eliminating the risk of depreciation recapture and minimizing capital gains exposure.
• Limited M&A market: Private equity often prefers recurring revenue models like HVAC or maintenance services. ESOPs offer fair market liquidity without relying on a traditional M&A process.
• Retention and recruitment: Offering employees a stake in ownership is a compelling retention tool, especially in a sector facing labor shortages.

Governance and Employee Participation

One of the more misunderstood aspects of ESOPs is governance. While the ESOP owns the shares, it does not “run” the company. A professional trustee oversees the ESOP trust, ensuring regulatory compliance and safeguarding employees’ interests. However, strategic decisions remain with company leadership and the board of directors.

This balance allows founders to maintain meaningful roles even after a majority sale to the ESOP. The board may be required to include independent directors, but these are often handpicked by the founder and serve to add external oversight and fiduciary credibility.

Employees, meanwhile, earn shares over time through a vesting schedule (usually over six years). Their accounts accumulate shares based on W-2 compensation, and shares appreciate as the company’s value grows. Upon retirement or departure, employees are paid the value of their shares (typically in cash), with the ability to roll it into an IRA to defer taxes.

When Is an ESOP the Right Fit?

Not every business is suited for an ESOP. Ideal candidates include:

• Companies with $3M+ EBITDA: This suggests professional management and operational resilience.
• Owners with a 5-10-year transition horizon: ESOPs allow gradual exits, providing owners flexibility.
• Firms with strong culture and community ties: Founders who care about their people and their town will appreciate the ESOP’s legacy-preserving nature.
• Business with a next-gen team: Even if the next generation lacks capital, they can still become leaders and equity holders via synthetic equity plans.

It’s also possible to blend an ESOP with traditional succession tools. For example, a founder might sell 40% to an ESOP and reserve 10-15% in synthetic equity for high-potential leaders, creating alignment without requiring large personal investments.

Risks and Realities

No strategy is without trade-offs. ESOPs require a commitment to professional governance and strategic financial planning. Companies need to ensure they can manage debt loads, maintain profitability and plan for repurchase obligations as employees retire.

Firms that undergo a rigorous analysis and structure the plan thoughtfully are well positioned for success. Experienced advisors, including investment bankers, ESOP counsel and CPAs, can help navigate the design, transaction and ongoing administration.

The Bottom Line

In a marketplace dominated by mergers, roll-ups and equity buyouts, ESOPs offer a distinctly values-aligned, tax-optimized alternative. They empower founders to take care of their people, preserve what they’ve built and still walk away with meaningful liquidity.

As more business owners seek succession strategies that balance financial gain with community and legacy, ESOPs are emerging as not just a retirement plan, but a holistic ownership solution.

If you’re advising a founder who hesitates to sell (or are you one yourself), don’t overlook the ESOP when exploring your succession options. It could be the solution that delivers for your future, your team and your legacy.

Talk to a James Moore professional today to learn how an ESOP might work for you.

All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a James Moore professional. James Moore will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.