This is a timeline of significant events in the development of employee stock ownership plans (ESOPs) as a financial instrument, as well as some of the key personalities involved in developing the basic concepts, laws and organizations related to ESOPs.
Note: This article is centered on the United States, since ESOPs are a benefit plan and ownership instrument defined specifically in American tax law; for a global overview of cooperative enterprises and worker ownership, see History of the cooperative movement.
1921 – Stock Bonus Plans are first defined in the Revenue Act of 1921, which also includes significant tax reductions.
1956 – Peninsula Newspapers, Inc., approaches Louis O. Kelso to develop a succession plan. Co-owners, both in their 80s, seek retirement without selling the company. Employee ownership is their desired option, but employees lack the capital to purchase the company. This leads Kelso to suggest borrowing through the company's IRS tax-qualified profit-sharing plan, which allows the loan to be paid off with before-tax dollars. Kelso dubs his innovation the "second income plan."
1958 – Expanding the employee ownership concept, Louis Kelso creates the world's first Consumer Stock Ownership Plan (CSOP), a trust that provides equity shares to consumers. The SCOP allows a group of dairy farmers in California's Central Valley to become customer/owners of Valley Nitrogen Producers.
1958 – Louis Kelso and Mortimer Adler coauthor The Capitalist Manifesto. The book presents the economic and moral case for employee ownership, arguing that a) wealth disparity is a negative force in society; b) most workers are excluded from ownership and prosperity, as they can only rely on their paychecks and have no way to acquire capital; c) with technological advances, capital will continue to become more productive, labor will find itself at an ever-greater disadvantage, and inequality will continually increase; and d) the working class can acquire an ownership stake in the economy with borrowed capital. Kelso calls this the "second income" principle.
1961 – Kelso and Adler's second book, The New Capitalists, is published by Random House. The book expands and develops their ideas for "capitalist democracy," proposing a number of methods to broaden the base of capital holders. The authors propose a regulatory and legal framework that would allow the average worker to borrow insured bank loans as investment capital.
1964 – The Internal Revenue Service (IRS) relaxes its rules for benefits plan sponsors. Previously, plan and trust documents could only be submitted for approval at the IRS National Office; under the new rules, regional offices are empowered to issue approvals, as well. This greatly simplifies the process of setting up ESOP benefits plans.
1967 – Kelso and Patricia Hetter publish a third book on "capitalist democracy:" "Two-Factor Theory: The Economics of Reality." (Originally published under the title "How to Turn Eighty Million Workers Into Capitalists on Borrowed Money.") The book restates Kelso's thesis concerning productivity and broad access to capital, and discusses a number of policy suggestions, such as requirements for corporations to make monthly pay-outs of their entire pre-tax income to shareholders, which would then be taxed as ordinary income rather than capital gains.
1973 – The Employee Retirement Income Security Act (ERISA) is scheduled for a Congressional vote. The original version of the law prohibits any kind of lending within qualified retirement plans, effectively making leveraged ESOPs illegal. Kelso is introduced to Russell B. Long (D-LA), head of the Senate Finance Committee and "arguably the most powerful member of the Senate" at the time. Long sees merit in the ESOP concept and becomes a supporter, helping introduce language into ERISA that defines ESOPs and preserves their tax-advantaged status. In the words of Corey Rosen, a Senate Small Business Committee staffer in 1975–80 and later founder of the National Center for Employee Ownership (NCEO), "There'd be no ESOPs without Russell Long."
1974 – ERISA passes in Congress. The law contains requirements for companies with defined benefit plans to keep enough cash reserves to fund repurchase when employees retire. It's the first law to put a reference to ESOPs in the Internal Revenue Code (IRC); due to the fact that ERISA included extensive regulations prohibiting borrowing in context of defined benefit plans, Sen. Long's ESOP provisions took the form of an exception to these regulations. To this day, much of the ESOP framework is defined in the prohibited transaction section of the IRC: § 4975.
1975 – The Tax Reduction Act of 1975 created a corporate tax credit for ESOPS (TRASOPs). This 1% credit was available to the corporate taxpayer with respect to qualified investment where at least one percent of the qualified investment is contributed to an ESOP.
1975 – The Economic Recovery Tax Act of 1981 (ERTA) replaced the TRASOP with the PAYSOP, which provided a tax credit of 1/2 percent of payroll based on the compensation.
1977 – Robert Smiley Jr. and Richard Acheson found the ESOP Council of America.
1977 – The Department of Labor attempts to introduce rules that would "kill" ESOPs. Dickson Buxton contacts his friend, Senator Robert Packwood (R-OR), who tells him that many senators oppose the new rules and recommends rallying ESOP companies to lobby against them. This leads Buxton, Harry Orchard, and a number of representatives of ESOP companies to form the National Association of ESOP Companies in San Francisco. Initial funding is provided by three CEOs of ESOP companies, who also become the first board and executive committee of the Association: Joe Dee of Brooks Cameras, Bob Pittman of Superior Cable, and Bill Hart of Pacific Paperboard Products. Two years later, the organization merges with the ESOP Council of America to form the ESOP Association.
1978 – The Revenue Act of 1978 puts new ESOP rules on the books, creating IRC Section 409A which regulates nonqualified deferred compensation: § 409A. This section defines which benefit plans can qualify as a "tax credit ESOP."
1979 – The National Association of ESOP Companies and the ESOP Council of America merge and form the ESOP Association.
1979 – The auto maker Chrysler is on the verge of bankruptcy, and chairman Lee Iacocca approaches Congress for an emergency bailout credit. Congress passes the Chrysler Corporation Loan Guarantee Act of 1979 and saves the company; one condition of the emergency credit line is that an ESOP be set up that benefits at least 90% of eligible employees, and totals no less than $162.5 million in contributions over four years. (Public Law 96-185, Section 1866)
1984 – Major tax bill passes Congress: the Tax Reform Act of 1984 includes a number of tax incentives, both general and specific to ESOPs. In order to incentivize bank lending to ESOPs, the law includes a 50% exclusion from income tax for interest paid on ESOP loans. The law also introduces deduction limitations for ESOPs, and allows owners who sell to ESOPs in C corporations that own at least 30% of the stock to defer capital gains taxes by reinvesting in other companies. The Act repealed the payroll based ESOP tax credit.
1989 – Chairman of the House Ways & Means Committee Dan Rostenkowski makes a revenue reconciliation proposal (H.R. 2572) that would repeal the interest exclusion for ESOP loans, which permitted the lender to avoid paying taxes on 50% of the interest received for an ESOP loan. Rostenkowski's proposal estimates the action to bring over $10 billion in revenue in the 1990–94 fiscal years. Due to intensive lobbying by the ESOP Association, the tax benefits remain on the books, but with a number of restrictions adopted in the Omnibus Budget Reconciliation Act of 1989. (101st Congress (1989–1990) H.R.3299.ENR, Section 7301-7304)
1991 – Louis Kelso dies at 77 in San Francisco, CA.
1992 – Interest income exclusion for ESOPs repealed by Congress in the Taxpayers Relief Act.
1996–7 – The Small Business Job Protection Act (SBJPA) of 1996 widened the availability of ESOPs by allowing S corporation shareholders to participate.