Frequently Asked Questions

Employee Ownership FAQs

Common questions about employee stock ownership plans (ESOPs), employee ownership trusts (EOTs), and other forms of employee ownership, from the basics to technical topics.

This FAQ is written primarily for business owners, managers, and advisors involved in setting up or running an employee ownership plan. If you're an employee at an ESOP company looking to understand your own benefits and rights, see our articles on Working at an ESOP Company and The Rights of ESOP Participants.

NCEO employee ownership FAQ hero (keyboard)

How is net unrealized appreciation computed with respect to S ESOP company shares?

In Rev. Rul. 2003-27, the IRS ruled that an ESOP is required to adjust its basis in S corporation stock for the ESOP just as it would for any other shareholder. So in a lump-sum distribution of ESOP shares to a participant, the basis would be adjusted to reflect distributions made to the plan, meaning employees would have a higher basis in their stock than would otherwise be the case. This basis is taxed as ordinary income. Companies could distribute cash to the participant to reflect this basis adjustment, leaving the remaining value subject to net unrealized appreciation treatment (meaning it could be taxed as capital gains). In practice, this will rarely matter, as very few participants will retain stock in the company in any event, and the sale will make them subject to ordinary income treatment.

Link to this FAQ Topic: S Corporation ESOPs