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.

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What counts as eligible pay or eligible compensation to receive an ESOP allocation?

Eligible pay refers to all the payroll on the ESOP, not your company's total payroll. Eligible pay is further defined in a number of other ways.

First, you may have one or more employees in the ESOP who cannot receive an allocation of any shares where the seller has taken advantage of the Section 1042 rollover provision for tax deferral of gains from the sale of stock to an ESOP. This includes sellers, their children, parents, siblings and spouses, as well as any 25% shareholders who are employees. Companies can provide these employees with synthetic equity (phantom stock or stock appreciation rights) to help make up for the foregone allocations.

Second, there is a limit on the amount of pay that is eligible for any one participant. That limit is $260,00 in 2026 indexed for inflation after that in $5,000 increments.

Third, pre-tax elective deferrals under Code Sections 401(k), 403(b), 457, 125, and 132(f)(4), as well as certain amounts for totally disabled participants under Section 22(e)(3) qualify as compensation. Generally, payments made after severance are excluded from compensation, but payments made within 2½ months after severance for accumulated sick leave, vacation or other paid time count, as well as payments that would have been paid absent severance for work outside normal working hours, commissions, bonuses, etc.

These requirements apply to all ESOPs. Some ESOP companies further limit eligible compensation by placing a lower cap on eligible pay as a way to allocate shares more evenly. Others base allocations partly on tenure, which can also limit the total eligible payroll because some more senior, but lower paid, employees will be getting larger allocations than they would under a straight pay formula.

For a detailed description of the rules and uses for ESOPs, see Understanding ESOPs.

Link to this FAQ Topic: ESOP Plan Design & Participation