Key takeaways 

• Employee stock purchase plans can let workers buy company stock at a discount
• Qualified ESPPs may reduce taxes if IRS holding requirements are met
• Look-back provisions allow purchases at the lower of two stock prices, boosting value

Employee stock purchase plans (ESPPs) let workers buy company stock at a discount, often with tax perks if rules are met. About half of S&P 500 companies now offer them, and features like look-back pricing can boost value, but risks remain if stock prices fall.

Employee stock purchase plans (ESPPs) can be valuable wealth-building tools for workers at publicly traded companies if careful attention is paid to the plan’s structure, benefits and tax implications.¹

How ESPPs work 

An ESPP is a workplace benefit that allows employees to buy shares of a company’s stock at a discount through automatic, after-tax payroll deductions. Instead of buying shares on the open market, workers contribute a percentage of their paycheck during  “offering periods,” which are usually 6 or 12 months but can be longer.²

During the ESPP offering period, the company deducts after-tax payroll contributions and holds the funds until the purchase date.³ 

Most ESPPs offer a discount — typically 5% to 15% — when shares are purchased.⁴ Many also include a "look-back provision," which bases the purchase price on the stock’s value either at the beginning or end of the offering period — whichever is lower. This feature can give workers an immediate advantage if share prices rise.⁵

Read more: From 401(k) to ESOP: Why equity compensation matters more than ever

Qualified and nonqualified ESPP plans: What’s the difference? 

Not all ESPPs follow the same rules. The terms and tax treatment depend on whether the plan is a qualified ESPP or a nonqualified ESPP, along with the specific benefits a company chooses to attach to its plan.⁶ 

Qualified ESPPs must have features that comply with Section 423 of the Internal Revenue Code, including:⁷

• Discounts capped at 15%
• $25,000 annual purchase limit
• Offering periods cannot exceed 27 months

A key benefit of qualified ESPPs is that gains may qualify for typically lower longer-term capital gains treatment rather than ordinary income taxes. Employees can get favorable treatment if shares are held at least two years from the start of the offering period and at least one year from the purchase date.

Nonqualified ESPP aren’t subject to IRS requirement or tax benefits. Companies might offer such plans for several reasons, including:⁸

• Greater freedom to structure plans
• The potential for deeper discounts or other features such as stock matches
• The ability to extend eligibility to select employees or international workers   

Why companies are boosting ESPP benefits 

ESPPs have been around since 1964, but their popularity is climbing.⁹

Today, about 50% of S&P 500 companies offer a plan, with a higher adoption in industries that compete for highly skilled workers, such as technology, financial services, and healthcare.¹⁰

A 2023 Deloitte and National Association of Stock Plan Professionals survey found that 85% of qualifed plans now offer the maximum 15% discount (up from 70% in 2020) while 83% include a look-back provision (up from 60% in 2020).¹¹

Participation also rises with richer benefits. Qualified plans with the maximum discount had a median 48% participation rate, compared to 38% overall.¹²

Some companies are experimenting with stock matches instead of discounts. For example, Charter Communications recently launched an ESPP that matches employee purchases with restricted stock units (RSUs) vesting after three years — a design aimed at retention.¹³

ESPPs, RSUs, and ESOPs: How they compare 

ESPP purchases and RSUs are both forms of employee equity compensation, but differ in function. While ESPPs require employees to invest their own money, RSUs are given at no cost to the employee but come with vesting conditions.

Employee stock ownership plans, or ESOPs, are where employers typically allocate stock to employees as part of a retirement plan.¹⁴

Read more: Restricted stock units vs. stock options: What’s the difference?

Balancing ESPPS with broader financial goals 

Workers who use employer financial benefits are more likely to say those benefits improve their productivity and engagement (72%), and their decision to stay (71%), according to Empower research.

Worker engagement and retention are two reasons companies set up ESPPs or related stock benefits. ESPPs are seen as a way to build corporate loyalty, a shared culture, and align employees with shareholders. They can also give companies a recruiting edge in competitive industries.¹⁵

For employees, ESPPs are attractive because payroll deductions make saving and investing automatic, and features like a 15% discount or look-back provisions can deliver an instant upside.¹⁶

While those benefits can create a cushion amid stock price fluctuation, there are still risks involved. Workers need to align ESPP participation with their investing goals and strategies, as well as other benefits that companies offer like 401(k) matches, financial experts say.¹⁷

An ESPP is one part of a total compensation package, and for employees who understand the rules and risks, it can be a rare opportunity to build wealth.

Read more: Equity compensation: An employee guide