Employee Trust Fund

What Is an Employee Trust Fund?

An employee trust fund is a long-term investment plan that an employer establishes as a job benefit. The most common forms of employee trust funds are employee stock ownership plans (ESOP) and pension plans.

In an employee trust fund, the company is called the grantor and the employees are the beneficiaries. The person who manages the trust is called the trustee.

Understanding Employee Trust Funds

Each trust establishes its own rules for eligibility, vesting period, and the terms of participation. Both the employer and the employee may be required to contribute to a trust fund.

When the Trust Fund Is an ESOP

If the trust fund is an employee stock ownership plan (ESOP), the company contributes regularly to a trust fund, and the trustee uses the proceeds to purchase company stock on behalf of the beneficiary.

An ESOP is a qualified defined-contribution employee benefit plan. That is, it is qualified by the Internal Revenue Service because it includes special tax benefits for both the employer and the employee. The plan thus must meet standards for participation, vesting, and proper administration that are set by the federal government.

Generally, when the employee cashes in stock, the cost of the stock purchases is taxed by the IRS as income but the appreciation is taxed at the lower capital gains rate.

Companies often use stock ownership plans to give employees an incentive to align their interests with those of its shareholders.

When the Trust Fund Is a Pension Plan

A pension plan is designed to help employees build retirement income over time and then withdraw it in the form of annuity payments for life. It is perhaps the best-known form of an employee trust fund.

Pension plans are not as common in America as they once were. In fact, in 2019 only 14% of Fortune 500 companies still offer them. However, pensions are still available to most public employees. The federal government, all 50 state governments, and many local public employers have pension plans.

A few employers offer both a pension plan and a tax-advantaged retirement plan such as a 401(k), but they are rare exceptions.

Some trust funds that manage pensions are enormous. The California Public Employees Retirement System (CalPERS) administers pension benefits for about 1.5 million retirees and their families. It has about $397 billion in overall assets in 2020.

Generally, both the employer and the employee make regular contributions to the pension plan trust fund. The employee begins receiving regular payments after retirement, with the amounts based on length of service, age, and salary history.

The proceeds of a pension plan are taxable as regular income when they are withdrawn.