An employee stock purchase plan is a program that allows the employees of a company to purchase stock in the company at a discount. The discount can reach up to 15 percent below market range. Some plans may contain a provision to use a historic closing price of the stock, a so-called “look back provision”. This historic price may be either the date of the initial stock offering or the purchase date - usually it’s whatever price is lower.
The employee stock purchase plan deducts a certain amount of money from a contributing employee’s payroll. At a scheduled purchase date the plan uses the accumulated funds to buy stock in the employees’ name.
There are two categories of employee stock purchase plans: qualified and non-qualified. A qualified plan is required to be approved by the shareholders and gives all participants equal rights. Qualified plans are subject to restrictions with regard to the period of time over which it can be offered and the maximum price discount.
Non-qualified employee stock purchase plans do not have to adhere to as many restrictions as qualified ones. In exchange, however, they do not offer the possibility of after-tax deductions.
Employees that already own a certain amount of company stock are barred from participating in employee stock purchase plans as are individuals that have not been employed at the company for a specified period of time.
While some employee stock purchase plans may offer standard amounts to be deducted from an employee’s payroll, it is usually left up to the employee to specify the amount that they wish to contribute. There may be a limit to how much an individual employee is allowed to contribute to an employee stock purchase plan per year, depending on respective local legislation.
Employees should also consider if they would buy the company’s stock outside of an employee stock purchase plan or not. Should the answer be no then it would be wise to limit the investment. It can bear a significant risk to depend on the same company for different kinds of income if that company goes bankrupt due to unforeseen circumstances.