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  • Employee benefit arrangements of concern

    Employee benefit arrangements of concern to the ATO involve:

    Names of employer benefit arrangements

    Employee benefit arrangements may also be called a number of names, including:

    • employee bonus arrangements
    • employee share trusts
    • employee investment trust/plans
    • employee incentive trust/plans
    • employee savings plans
    • employee entitlement funds
    • employee reward schemes.

    They do not include:

    Employee benefit trust arrangements

    A typical employee benefits trust arrangement has the following features:

    • An employer entity sets up an employee benefits trust.
    • The employee may enter into an agreement to direct salary to be paid to the trust.
    • The entity contributes to the trust for employees or other people nominated by the employees. Often this contribution is financed through a loan or overdraft.
    • The trust invests these contributions on behalf of the employees or their nominees, often by loaning an amount equal to the contributions back to the employer entity or an associate of the employer entity or purchasing shares in the employer or associated entities.
    • A selected employee or person may be invited to acquire an interest (for example, by taking up ordinary units) in the trust. This is generally financed by money borrowed from the trust.
    • The holders of ordinary units are generally entitled to distributions of income in proportion to their holding.

    Our concerns with employee benefit trusts

    These arrangements are designed to defer or avoid tax on the employer company's profits. They are structured to purportedly provide a large tax deduction to the employer and avoid fringe benefits tax liability.

    Our concerns are:

    • the deduction claimed under section 8-1 of the Income Tax Assessment Act 1997 for the contribution to the trust may be disallowed
    • Part IVA of the Income Tax Assessment Act 1936 may apply to cancel the deduction
    • the amount contributed on behalf of employees may be assessable to the employee under section 6-5 of the Income Tax Assessment Act 1997
    • Part IVA of the Income Tax Assessment Act 1936 may apply to include the income that has been directed by the employee, as assessable income in the same income year the contribution is made to the trust
    • where the contribution is made to benefit a specific employee, fringe benefit tax may be payable on the employer's contribution
    • fringe benefits tax may apply to loans provided by the trustee of the employee benefits trust.

    Employee share or incentive plans

    An employee share or incentive plan scheme has the following characteristics:

    • The employer entity establishes a special purpose company.
    • Shares or membership interests are allocated to selected employees for a nominal amount in the special purpose company.
    • The employer contributes a sum of money to the special purpose company, increasing the value of the employees' shares or membership interests.
    • The special purpose company invests the contribution amounts on behalf of the employees, often lending the contribution back to the employer entity or their associate.
    • Employee share or incentive arrangements are designed to provide the employer with an effective incentive plan for employees. However, the only employees who generally participate in such plans are the controllers of the employer's business.

    Our concerns with employee share or incentive plans

    These arrangements are designed to defer or avoid tax on the employer company's profits. They are structured to purportedly provide a large tax deduction to the employer and avoid a fringe benefits tax liability.

    Our concerns are:

    • the deduction claimed under section 8-1 of the Income Tax Assessment Act 1997 in respect of the contribution to the company may be disallowed
    • Part IVA of the Income Tax Assessment Act 1936 may apply to cancel the deduction
    • the amount contributed on behalf of employees may be assessable to the employee under section 6-5 of the Income Tax Assessment Act 1997
    • Part IVA of the Income Tax Assessment Act 1936 may apply to include the income that has been directed by the employee, as assessable income in the same income year the contribution is made to the trust
    • where the contribution is made to benefit a specific employee, fringe benefit tax may be payable on the employer's contribution
    • the deduction claimed under section 8-1 of the Income Tax Assessment Act 1997 in respect of the value of the employer entity's contribution to the special purpose company may be disallowed
    • deductions under section 8-1 of Income Tax Assessment Act 1997 for adviser's fees may not be allowable.

    Employee remuneration trusts

    An employee remuneration trust (ERT) is an arrangement that has the following essential elements:

    • it is established by an employer or an adviser of the employer for the purpose of providing remuneration or incentives to Australian resident employees
    • it involves the establishment of a trust by or at the instruction of the employer
    • the trustee of the trust
      • receives money or assets from the employer (or the employer's associate)
      • provides benefits to the employees (or their associates).

    Our concerns with ERTs

    In Taxation Ruling TR 2018/7 we have established the view of the tax treatment of ERTs which will depend on the way the arrangement is implemented.

    • If you are an employer, contributions you make to the trustee of an ERT are generally deductible if you have a genuine purpose for it being applied within a relatively short period towards remunerating employees (to the extent that the contribution is not capital or of a capital nature).
    • As an employer, if you made a contribution to an ERT at the direction of, or on behalf of, your employee and that contribution is remuneration, you are required to withhold an amount from the contribution as a pay as you go withholding amount.
    • Fringe benefits tax can apply to contributions made by an employer to the trustee of an ERT, to benefits provided by the trustee of the ERT and on loans provided by the trustee of the ERT to employees.
    • Ongoing maintenance and management fees for running an ERT may be deductible.
    • If you are an employee and you receive a benefit from the ERT, the benefit will be assessable to you if it is your remuneration and is not a fringe benefit. In some cases, a contribution may be made on your behalf to the trustee of an ERT as part of your remuneration (and not as a fringe benefit) – in these cases, that contribution will be assessable to you.
    • If a contribution is made by an employer to a trustee of an ERT, and that trustee is already a shareholder of the employer, the contribution may in some circumstances be deemed to be a dividend.

    See also:

    • TR 2018/7 Income tax: employee remuneration trusts

    Tax consequences for an employer

    As an employer, you should consider:

    • your intention when making a contribution to an ERT
    • your understanding of how it will be used by the trustee of the ERT.

    Deductibility of contributions to an ERT

    The following checklists will help you decide whether a contribution made to the trustee of an ERT is deductible.

    Indicators that a contribution is deductible:

    • you carry on a business
    • you make a contribution to the trustee of the ERT
    • you understand that the trustee of the ERT intends to use your payment to provide benefits directly to employees over a short period of time as a reward for their work.

    Indicators that a contribution is not deductible:

    • you are not carrying on a business or you don’t have any employees
    • you make a contribution to the trustee of an ERT and the people who are most likely to benefit from that contribution are the business owners, controllers or shareholders, not employees
    • you understand that the trustee of the ERT is going to hold your contribution for a significant period of time (in excess of five years) before applying it to pay employees, if at all
    • your contribution is going to be used primarily to provide loans or financing to your employees that will remain outstanding for a significant period of time (in excess of five years)
    • your contribution is going to be used by the trust to buy the business' shares, options or other interests in the business without those interests then being transferred within a short period of time (within five years) to employees to hold for their own benefit
    • your contribution is not going to be used to provide benefits to your employees as a reward for their work.

    Purpose of making a contribution

    Sometimes you will contribute money to an ERT and you understand and intend that the money will be used by the trustee of the ERT to do more than one thing. The trustee of the ERT may use the contribution to:

    • make loans or provide other finance to your employees (financial advantage) and/or for the trustee of an ERT to acquire shares, options or securities in you (capital advantage)
    • provide direct remuneration to your employees.

    Where this is the case, the contribution will only be deductible to the extent it is used primarily to pay employees a reward for the work they have done or will do for you. The contribution should be apportioned on a fair and reasonable basis.

    You may be entitled to a deduction even where you obtain a financial or capital advantage if your main purpose in making a contribution is to pay employees a reward for their work within a relatively short period, for example, if:

    • contributions made to the ERT can be lent to your employees, but when the loan is repaid the funds are to be used to remunerate those employees, all within a relatively short period (generally within five years) from when the contribution was made
    • any shares in you (as the employer company) acquired by the trustee of the ERT are to be transferred to your employees within a relatively short period, to be held by them.

    Other benefits

    Fringe benefits tax may apply to benefits that are provided by the trustee of an ERT to your employees. This may occur where the trustee of the ERT delivers non-cash benefits to the employee. For example, benefits such as shares in a company or units in a trust are provided to the employee in respect of employment.

    Fringe benefits tax will apply where you, as an employer, pays amounts which have been salary sacrificed by an employee to the ERT as repayments of principal on an interest-free loan.

    PAYG withholding

    Where a contribution is made by you as an employer to the trustee of an ERT, you will be required to withhold an amount from that contribution where the contribution constitutes remuneration that is paid to an employee, or is applied or dealt with on the employee's behalf or as the employee directs.

    See also:

    Interest expenses

    If you are an employer and a contribution to an ERT is deductible to you, you are also likely to be entitled to a deduction for interest expenses incurred on borrowings to fund that contribution.

    Your purpose in borrowing is the key factor in determining whether a deduction is allowable for the interest expense incurred regarding that borrowing. This purpose will be determined on an objective basis in consideration of all the facts of your particular case.

    Taxation Ruling IT 2606 provides guidance about what you need to consider when determining whether your interest expense is deductible to you. IT 2606 states that you need to consider whether there is a connection between the interest expense and the activities of your business or the earning of assessable income.

    You may need to apportion your interest expense in line with Taxation Ruling TR 95/33 where your interest expense is much greater than the assessable income you earn in relation to that expense. This will be relevant where the interest expense is explained by reference to a purpose other than to earn assessable income.

    See also:

    • IT 2606 Income tax: deduction for interest on borrowings to fund share acquisitions
    • TR 95/33 Income tax: subsection 51(1) - relevance of subjective purpose, motive or intention in determining the deductibility of losses and outgoings

    Establishment fees

    As an employer, you may need to pay fees to establish the ERT arrangement. These fees may be calculated according to a percentage of the contribution amount that is made to the ERT. These are usually paid to set up and establish the ERT arrangement. These fees are considered to be capital in nature and not deductible to you.

    Ongoing maintenance fees

    As an employer, ongoing maintenance and management fees that you incur in the upkeep of the ERT arrangement may be deductible to you.

    These fees usually have the following features:

    • smaller than the establishment fees
    • set fees, calculated in relation to the services provided and not to the contribution size that you make to the ERT arrangement
    • usually in respect of management or administration of the trust
    • payable by you periodically – that is, annually, monthly.

    Taxpayer alerts

    You should check to see whether your employee benefit arrangement has features which are subject to a taxpayer alert. Taxpayer alerts are intended to be an early warning of our concerns about significant or emerging aggressive tax planning issues or arrangements.

    Relevant taxpayer alerts include:

    • TA 2007/2 Employee Entitlement Fund
    • TA 2008/13 Employee Savings Plan
    • TA 2008/14 Salary Deferral Arrangements
    • TA 2009/18 Discretionary Option Arrangement
    • TA 2011/5 FBT Avoidance through an arrangement where an employer repays an employee's loan from a purported employee share trust

    More information

    If you need more information about employee benefit arrangements, you can:

    • speak to your tax adviser
    • phone us on 1800 060 062
    • write to us at:
      Australian Taxation Office
      Locked Bag 9000
      ALBURY NSW 2640

    You can also apply to us for a private ruling:

      Last modified: 21 May 2019QC 50095