The following examples will help you understand indeterminate rights.
Example 2: At employer's discretion, employee receives cash
The facts are the same as for example 1, except that on 31 March 2015 Lanh receives cash to satisfy his rights. Lanh will not be assessed under the ESS rules. Instead, Lanh will be assessed on the cash received as salary and wages under the relevant provisions of the income tax law in the year in which he receives the cash.
Example 3: Employee has a deferred taxing point in earlier income year
On 15 February 2011, Padma is granted rights by her employer, Metals Ltd, to acquire either 1,000 shares in Metals Ltd or a cash equivalent. The rights are provided in relation to Padma's employment with Metals Ltd, and she does not pay anything to acquire the rights.
The rights will vest in three years' time if performance hurdles are satisfied. Metals Ltd will decide whether to give Padma shares or cash once the performance hurdles have been met. Metals Ltd will advise their employees of this decision before the actual transfer of shares or payment of cash.
Padma ceases employment on 31 March 2013 and is entitled to keep her rights, which remain subject to satisfaction of the same performance hurdles.
On 20 March 2014, Metals Ltd determines that the performance hurdles have been met and advises Padma that it will transfer shares in Metals Ltd to her in satisfaction of her rights.
The rights are not rights to acquire shares at the time they are granted to Padma. However, when Metals Ltd makes their decision to issue shares on 20 March 2014, the ESS rules treat Padma's rights that were granted on 15 February 2011 as if they had always been rights to acquire shares.
In this case, the rights were acquired under a tax-deferred scheme. Padma's taxing point for the rights occurred when she ceased employment on 31 March 2013. Padma amends her 2012–13 income tax return and includes the discount for the rights.
Example 4: Indeterminate rights are forfeited or lapse
The facts are the same as for example 3, except that the performance hurdles are not met and Padma's rights are forfeited. Because Padma's rights never become rights to acquire shares, she will not be taxed under the ESS rules.
End of example
Example 5: Number of shares cannot be determined at grant
On 15 October 2015, Senka is granted rights under a tax-deferred scheme to acquire shares in her employer, Design Ltd, in three years' time. At the time that Senka acquires the rights, she holds more than 10% of the shares in Design Ltd. The rights are provided in relation to Senka's employment with the company – she does not pay anything for the rights.
The rights are indeterminate rights because the number of shares that Senka is entitled to acquire will be determined on 30 October 2018 in accordance with a formula that depends on the share price of the company at that future time. At the time the rights are granted (October 2015), the number of shares that may be acquired cannot be determined.
On 30 October 2018, the number of shares that Senka is entitled to acquire under the formula is worked out to be 5,000.
The rights are not rights to acquire shares at the time they are granted to Senka. However, when the number of shares that Senka is entitled to acquire is determined, the rights become rights to acquire 5,000 shares. The ESS rules apply to the rights as if the rights acquired on 15 October 2015 had always been rights to acquire shares.
Although the rights were granted under a tax-deferred scheme, the conditions for deferral were not satisfied at the time the rights were acquired because Senka held greater than 10% of the shares in Design Ltd. As a result, the discount for the rights is assessable in the year of acquisition, which is in the 2015–16 income year.
Senka requests an amendment to her income tax return for 2015–16 income year to include the discount.
Example 6: Rights to shares vest subject to performance conditions
Ruyun is granted 5,000 rights to shares in his employer company, Artco, on 31 May 2015. The rights will vest in three years. The exercise of rights is subject to the company meeting certain performance conditions and Ruyun remaining an employee of Artco during the vesting period. Ruyun will be entitled to the 5,000 shares if all performance conditions are met; if the performance conditions are only partially met, only a proportionate percentage of the rights will vest. The rights will lapse if performance conditions are not met or Ruyun ceases employment within three years of the date of grant.
The rights granted to Ruyun are rights to shares, not to indeterminate rights. As the rights are subject to a real risk of forfeiture, the rights are granted under a tax-deferred scheme and any discount in respect of the rights is assessed at the deferred taxing point.
Example 7: Rights to shares granted subject to shareholder approval
Kaleb enters into an employment contract with his employer, Travel Ltd, on 5 May 2014. Under that contract, he is granted rights to acquire 1,000 shares subject to shareholder approval. If shareholder approval is not obtained, the company will pay Kaleb a cash equivalent. Kaleb does not pay the company anything for these rights.
The rights in the employment contract are indeterminate rights, not rights to acquire shares at the time they are granted to Kaleb.
On 10 November 2014, the company holds its AGM and shareholders approve the grant of rights to Kaleb. The ESS rules apply to Kaleb's rights as if they had always been rights to acquire shares from the time that Kaleb entered into the employment contract on 5 May 2014. In this case, the rights were acquired under a taxed-upfront scheme. Kaleb includes the discount for the rights in his assessable income in the 2013–14 income year, being the year in which he acquired the rights under his employment contract.
Example 8: Shareholder approval to grant rights to shares in future
The shareholders of Health Research Ltd resolve at the company's AGM on 22 November 2014 to authorise the company to grant rights to acquire shares to key employees, including Brin.
On 15 August 2015, Health Research Ltd enters into a contract with Brin granting her rights to acquire shares in the company.
Brin does not acquire indeterminate rights when the AGM is held. At the AGM, the shareholders resolve to approve the company granting rights to shares in the future. No rights are created in Brin at that time – she acquires rights to shares on 15 August 2015 when she enters into a contract with Health Research Ltd. The ESS rules will apply to determine when Brin will be assessed on the rights acquired.
Example 9: Contractual right, no direct connection
Lauren works for Maximum Force Pty Ltd. She is advised in July 2016 that she will be entitled to a $50,000 incentive made up of cash and/or rights to acquire shares (to be determined by the remuneration board) if she meets key performance goals. On 10 August 2017, she is advised that she has met all of her key performance goals and is entitled to receive her $50,000 incentive. Lauren still does not know if she will receive this incentive as cash and/or rights to acquire shares.
On 12 December 2017, the remuneration board decides to provide Lauren's incentive as $10,000 cash, along with rights to acquire shares valued at $40,000. Both are provided to Lauren.
There is no direct connection between the original advice in July 2016 (that if she meets key performance goals she will receive a $50,000 incentive) and the cash and rights to acquire shares Lauren receives in December 2017. Any right Lauren may have had at that time did not directly become a right to acquire a share. This is because the first step was for Lauren to meet the performance goals and the second step was for the remuneration board to determine what the $50,000 incentive would be made up of. Therefore, Lauren did not hold an indeterminate right in July 2016.
When Lauren is advised she has met her performance goals on 10 August 2017, she then has a right to receive cash and/or rights to acquire shares. At that point, Lauren has the right to enforce the payment of $50,000. This right, that became the right to acquire shares, was an indeterminate right.
Example 10: Contractual right, employer to fulfil condition
On 28 July 2016, Richard enters into an employment contract with Woodmill House Pty Ltd. The contract states Richard will start his role with Woodmill House Pty Ltd on 15 August 2016. His remuneration will be a cash salary of $350,000 plus 20,000 shares in the company. However, the grant of shares is subject to shareholder approval at the Annual General Meeting (AGM) in September 2016.
On 15 August 2016, Richard commences working for Woodmill House Pty Ltd. On 26 September 2016 the shareholders approve the issue of the shares to Richard at the AGM, and the shares are issued on 3 October 2016.
Although Richard obtains something of value on signing the employment contract, he has no right at that time that could be enforced against Woodmill House Pty Ltd in relation to the later acquisition of the rights to acquire shares. When Richard starts working for Woodmill House Pty Ltd, he has an indeterminate right in relation to the 20,000 shares. Although Richard can't make the company give him the shares, he can compel the company to request shareholder consent at the AGM.
Example 11: Contractual right, employee to fulfil condition
William is employed by Finn Darcy Forensics Ltd. His employer would like him to accept a promotion to Senior Forensic Analyst and offers him 50,000 rights to acquire shares. His entitlement to the rights is conditional on William accepting the promotion.
The offer also includes further conditions before the rights can be exercised. Once the position is accepted, William is unable to exercise the rights unless he meets certain performance goals for the next 3 years. If William does not meet the performance goals, he will forfeit his rights to acquire shares.
William obtains an indeterminate right at the time he accepts the new role. At this time, a binding agreement comes into existence. The further conditions attached to the exercise of the rights are not conditions precedent to obtaining the rights themselves. However, those additional conditions may be relevant in working out if William's rights are subject to a real risk of forfeiture.
End of example
Transitional interests are shares or rights to shares that you acquired under an employee share scheme before 1 July 2009 if:
Under the transitional rules, some of the rules in former Division 13A are preserved. Also, some of the rules in Division 83A do not apply, or are modified in the way that they apply to a transitional interest.
If you received indeterminate rights before 1 July 2009 that are later treated as rights to acquire shares under an employee share scheme after 1 July 2009, you must include the discount you received on those rights as part of your assessable income. The year in which you include the discount depends upon whether the indeterminate rights are treated as qualifying rights and whether you elected to be taxed upfront for the year you acquired the indeterminate rights. If the former Division 13A rules result in tax being deferred to a time after 1 July 2009, the rights will be transitioned into the Division 83A rules and treated like other ESS interests as detailed above.
As a result, at the time the indeterminate rights become rights to acquire shares, you may be required to amend your income tax assessment for an earlier year to include the discount amount, either for the year in which the rights were acquired or in the year in which the cessation time or deferred taxing point occurred.