SHADOW STOCK - REVISITED
What do you do for any of these employees who do not cost you money NOW?
The answer to that question is often found in the concept of Shadow Stock (link here for the original article on Shadow Stock or see Volume 26, Issue 3, March 2012 PIPELINE).
We previously expressed Shadow Stock as a vehicle to give an employee a value equivalent to a percentage (of your choosing) of the agency’s value without making that employee a partner or shareholder. It certainly makes any Shadow Stock holder more interested in the progress and value of the agency since their future compensation depends on whether or not the entire agency grows in value. There is no voting or ownership rights transferred through this vehicle but the employee knows that they must stay with the agency for the rest of their career to validate the tool. If they leave before retirement they give up an amount equal to a percentage of the value of the agency that would have been paid to them or their estate in the event of their retirement from the business of insurance, their full and permanent disability or their death.
This is NOT a tax avoidance mechanism. Ask your accountant about whether it is most beneficial for the employee to accrue the taxes at the time of the award or when the Shadow Stock is redeemed. The redemption can be in cash but is usually done over a timed payout and is a perfectly acceptable tool to use in sponsorship of a non-competition and non-piracy agreement, further validating those agreements in the eyes of the courts.
Many agents have found this a wonderful way of cementing relationships with employees in the form of a Golden Handcuff.
Producers who become successful sometimes try to explore their options. The agency may have spent years maturing the producer and sponsoring the producer to find that the producer feels that (s)he is now getting less benefit from the agency than (s)he is providing to the agency. Shadow Stock gives them a growing financial incentive that could be tied to their own continued growth without the hint that they may have some interest in the book of business they have created on behalf of the agency. While the advent or enhancement of Shadow Stock may be tied to the producers continued growth, the value of the Shadow Stock is only tied to the value of the agency as a whole. If the Shadow Stock bears a significant dollar value, the producer understands that they give up more than they can get by changing positions when considering the loss of this asset as well as the legal battles they would encounter by trying to steal agency customers in defiance of their non-competition/non-piracy agreements.
Tying producers to you for their career is one way of employing Shadow Stock. But be warned that it will only work if the producer’s only reason for considering leaving is for ‘greener’ pastures. If the producer no longer likes you or vice versa, Shadow Stock will probably not make a difference. However, this tool should not be considered only for producers.
We have encountered many agencies that have developed or found strong managers and insurance professionals that the agency owners feel would make fine generational successors. If the owners are not ready to retire or not ready to take on new minority owners on the route to ownership transition, Shadow Stock is a great tool to reward and cement relationships with these employees, as well.
We have seen Shadow Stock employed within Contingency Buy Sell Agreements when an owner wants an employee to become the next agency owner in the event of the current owner’s death or disability.
The key to this tool is the use of vesting periods (usually five years) to mature the full value of the Shadow Stock. This assures the continuity of employment for at least that period. Some agencies use Shadow Stock increments for employees whose value continues to grow. But the increments themselves also carry vesting agreements that extend the duration of employment in order for the employee to gain full benefit. We even have one agency that awards 1% Shadow Stock of the agency for incremental growth levels of producers or profit increments for managers. Each increment starts a new vesting period. For the employee’s benefit, all Shadow Stock vests fully in the event of the death or total and permanent disability of the employee. For the agency’s benefit, all Shadow Stock is terminated if the employee leaves without full and permanent retirement from the business of insurance. If the employee retires during the vesting period, some agencies fully vest the Shadow Stock and others only provide the vested benefit (20%/yr. for 5 years).
We encourage you to consider a vesting program in Shadow Stock to secure your most valued employees to the agency with Golden Handcuffs. The benefits of not losing a key producer or key manager far outweigh the financial exposure. The agency should purchase life insurance on the employee for the amount of the Shadow Stock to offset any financial risk prior to the employees’ retirements.