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Selling to an ESOP vs. a Conventional Sale: Pros, Cons, and Costs

The table below compares the issues that arise in the sale of a company to an ESOP compared to a sale to a third party. It was prepared with the advice of professionals who have done both kinds of transactions. The table indicates that the overall level of complexity is similar, but ESOPs are much less risky in terms of the likelihood of finding a buyer.

When people describe the pros and cons of ESOPs, they often note that the plans are complex. ESOPs are somewhat more complex than 401(k) and similar retirement plans and do cost substantially more to install and somewhat more to operate, mostly because an annual appraisal is required for closely held companies. But ESOPs are not more complex than selling to a third party.

ESOPs are also considerably less costly than a third-party sale, mostly because in the case of a sale to a third party, in addition to substantial legal, accounting, and sometimes other fees, the price paid to the seller is usually reduced by brokerage commissions paid by the buyer.  Sales to third parties also do not qualify for as special tax benefits, as is the case with ESOPs.

This comparison focuses on leveraged ESOPs. If the ESOP is based instead on periodic cash or stock contributions to the plan used to buy stock over time, the cost to set up the plan can often be under $100,000.

 

ESOP

Sale to Another Company

Key legal documents
  • ESOP plan document
  • Trust agreement
  • Lender agreements
  • Corporate resolutions
  • Stock purchase agreements
  • Corporate governance agreements
  • Employee contracts/management incentives
  • Detailed selling memorandum
  • Sale agreement (similar to stock purchase)
  • Non-compete agreements (often)
  • Liens, escrow, security agreement, and personal guarantees
  • Corporate resolutions
  • Employee contracts/management incentives

Feasibility studies and preparation

Feasibility studies assess whether the company has sufficient payroll and cash flow to buy the desired amount of stock. Can be performed internally or with expert advice. Forensic due diligence is rarely needed.

Companies must prepare a detailed and accurate description of the firm and its finances, prospects, and risks. Buyers will want to do a forensic due diligence investigation, and sellers should do the same to assess the financial soundness of the buyer and the terms of the offer.

Valuation

Outside appraisal required; valuation based on fair market value.

In smaller deals, outside appraisal not required but recommended; in larger deals, price usually set by controlled auction.

Terms and risks

Plans can be structured in a variety of ways:

  • Flexibility in financing.
  • Rules for operating the plan must comply with ERISA, but there is lots of flexibility in design.
  • Escrow may be, but usually is not, required.

Buyers will typically have multiple contingencies:

  • Earn-outs are often required, often in the 10% to 20% range.
  • Escrow held back.
  • Purchase price adjustments in companies that underperform post-transaction may be required based on working capital or earnings requirements.
  • Buyers prefer to purchase assets, with potential tax and liability implications for sellers.
  • Financing may fall through.
  • Private equity firms often want 30% to 50% of the sale proceeds invested for a period of time in the private equity firm.

Time to sell

Once the seller has decided on doing an ESOP and its basic structure, four to six months.

Median formal offer to sale time is 10 months for companies in the small to mid-market range.

Role of seller post-transaction

Flexible depending on seller interests.

Buyer will usually determine the role in smaller deals; in large deals, the role is usually negotiable.

Sale of minority interest

ESOPs can buy any percentage of stock from any number of sellers.

Buyers almost invariably want to buy the entire company.

Success rates

If an ESOP is determined to be feasible, only rarely do transactions fall through once a decision to proceed has been made.

Overall, only about 25% of privately held businesses put up for sale are sold and only about 50% of businesses with 100 or more employees are sold.

Transaction costs (as of 2026)
  • Overall costs for an ESOP typically are 2% to 4% of the transaction price.
  • An ESOP feasibility study typically ranges from $25,000 to $50,000.
  • Legal fees typically are $50,000 to $150,000
  • Valuation ranges from $20,000 to $50,000, depending on the size and complexity of the deal.
  • Trustee fees range from $25,000 to $70,000 in most deals, but much more in larger deals, plus any corporate legal fees and personal financial advisor fees for the seller. 
  • Some ESOPs, especially larger deals and those where the seller is considering other sale options, will require investment banking assistance to raise financing, adding to costs. In these cases, an M&A advisor will normally charge a success fee, but it will be about half of the success fee charged in a non-ESOP sale.
  • The ESOP pays the diligence, financing, and legal fees out of tax-deductible contributions from the company.
  • If the ESOP is not leveraged but rather acquires shares through company contributions over time (either from cash contributions to the trust or stock contributions), costs can be lower.
  • Bottom line: Sales to an ESOP are about half as expensive as sales to third parties.
  • Legal costs are about $100,000 to $200,000 for a $10 million to $50 million company and higher as the company value goes up.
  • Accounting and advisory costs are $25,000 to $150,000 for a $5 million to $50 million company and higher as the company value goes up.
  • Due diligence costs add $25,000 to $150,000 for a $5 to $50 million company and higher as the company value goes up.
  • Appraisal costs, if needed, would be similar but would be somewhat less expensive than an ESOP appraisal.
  • The buyer usually pays the diligence, financing, and legal fees. Broker success fees are generally between 4% and 9% of the sale price, with higher percentages for less valuable companies. These additional fees mean, for instance, that a $5 million sale might require about $450,000 in broker or investment banker fees; a $30 million sale would require at least $1.5 million in these fees. These fees are in addition to other costs.
  • Many costs are deductible, but success fees are subject to negotiation about whether the buyer or seller takes the deduction.
Tax Issues

If the company is or becomes a C corporation at the time of sale, and the plan acquires 30% or more of the shares, then that sale, plus any subsequent sales, qualify the seller to defer capital gains taxes by reinvesting in stocks and bonds of U.S. operation companies. No taxes are due until the replacement investments are sold.

Sales to third parties generally are taxable as capital gains.