person on the phone discussing employee profit-sharing plans

What is an employee profit-sharing plan and what makes it work?

What is an employee profit-sharing plan and what makes it work?

Synopsis
3 Minute Read

Exploring three common reasons for employee ownership models and the impact they can have on your business.

Across industries, business owners are struggling to retain their top talent or attract employees that stay with the organization for the long term. Traditional solutions, like increasing wages or offering more vacation time, haven't delivered the results. That leaves the door open for a different approach, like an employee profit-sharing plan.

How does an employee profit-sharing plan work?

Employee profit-sharing plans are business structures that allow employees to earn a share of the company's annual profits. Typically, the employer puts a percent of the profits into a savings account for employees each year. Some plans also allow for individual employee contributions, although this is optional.

Employers are required to create a formula that determines how much they will contribute to the plan each year. The profits are paid to a trustee that holds and manages the funds for the employees.

Why would I adopt an employee profit-sharing plan?

Through client conversations and presentations to industry groups, we have found a few core reasons why business leaders are looking into sharing ownership value and growth with their employees.

Here are some key reasons why companies are considering sharing employee ownership, and how it is helping them accelerate growth:

Retention and recruitment

Many industries have seen a large-scale struggle to retain good talent. Organizations that share business profits in the right way with the right employees have seen an improvement in retention because the individuals can see a benefit to the hard work they're putting in. If they continue to contribute and grow the business, they will be the direct beneficiary of the financial success.

This compensation model can also be used as a feature for your recruiting efforts. Let's say a job hunter is deciding between two organizations. The offers are similar, but one offers a profit-sharing plan. That could tip the scales and result in more hires for your organization.

And consider the message that a profit-sharing plan sends: this action demonstrates that owners care about their team, building loyalty in the process.

Retirement planning

Some businesses do not have a structure in place to allow for their employees to build retirement capital. Adopting a profit-sharing plan is a way to provide some retirement planning options to your employees. Ultimately, how the money is used is up to the employee, but many will save it for their retirement.

While other retirement plans can be enticing for employees, they don't offer the multiple benefits to employers. Business owners appreciate the flexibility they get from these plans.

Transparency 

Business owners are increasingly looking for ways to make more of their team members feel like owners, either by actual ownership or by cultivating an environment in which they feel and act like owners. In many cases, the owners want to structure actual ownership along these lines as well, strengthening the behavior that makes everyone involved win. The adage “a rising tide lifts all boats” becomes real for everyone, and growth accelerates.

What are the tax implications?

The employer's contribution to a profit-sharing plan contribution is deductible.

The profits paid to employees are treated like taxable income. Employees pay tax on the annual contribution amount as well as any investment income from those contributions in each fiscal year, but they will not pay tax when they withdraw from the plan. Being a part of a profit-sharing plan does not impact RRSP contribution room.

How can employees use the funds?

Some will invest the funds for their retirement while others may keep it in a high-interest savings account.

The use will vary depending on the structure created by the employer. Some plans have a vesting period, where employees cannot access the employer contributions until they've worked at the company work a certain period of time. If the vesting period is long, this will impact the employee's decision-making and could alter how enticing the plan is.

Webinar: Recruiting and retaining your key talent: How can profit and equity sharing help you protect and grow your business?

Many companies, across all industries in Canada, are struggling to both retain their best talent and keep the star talent they already have. MNP’s SMARTshare™ team is approached frequently by concerned shareholders of companies who are looking for practical ways to help them deal with labour challenges.

Join Eben Louw and Michael Saxe to learn about sharing ownership, profits, and value with your employees. During the webinar, they will discuss how to create sustainable and transferable business value while delivering the best possible benefits to employees.

Start building your plan

Creating an effective profit-sharing plan requires a thoughtful approach and discussions to identify your true needs, and how it ties with where you want to take your business. Our SMARTshare process is designed around these discussions, taking you on a journey where we uncover what will work best, and then finding a scalable structure that is relevant for you and your company long term.

Contact us

To learn about profit-sharing strategies for your business, contact Eben Louw, CPA, CA, Partner, SMARTShare.

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