ESVCLP tax incentives and concessions
The early stage venture capital limited partnership (ESVCLP) program provides tax incentives for investing in early stage venture capital activities. Key benefits provided under the ESVCLP program include:
- flow-through tax treatment
- an ESVCLP tax offset for the investment made by a limited partner
- income and capital gains on the disposal of eligible venture capital investments (EVCIs) and other income earned on EVCIs not being subject to tax to
- limited partners (either foreign resident or Australian resident)
- general partners who are Australian resident or resident of a country that has a double tax agreement with Australia
- general partners' carried interests being held on capital account rather than revenue account.
From 1 July 2016, additional tax incentives are available to ESVCLPs and their investors and some requirements have been relaxed, which include:
- a non-refundable carry-forward tax offset of up to 10% on contributions made at any time to an ESVCLP that becomes unconditionally registered on and after 7 December 2015
- increase in the maximum fund size from $100 million to $200 million
- removal of divestiture requirement when the value of the investee exceeds $250 million.
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ESVCLP tax offset
The ESVCLP tax offset is a non-refundable carry-forward offset of up to 10% of the contribution made by a limited partner to an ESVCLP during an income year.
You are entitled to the ESVCLP tax offset if you contribute to an ESVCLP in the current income year and you are:
- a limited partner of the ESVCLP
- a partner of a partnership or a beneficiary of a trust which is a limited partner of the ESVCLP.
To be qualified for the ESVCLP tax offset, the ESVCLP must have become unconditionally registered on or after 7 December 2015. This includes an ESVCLP that was conditionally registered before this time and then became unconditionally registered on or after 7 December 2015.
Where a trust is a limited partner of an ESVCLP and the trustee of the trust is liable to tax, the trustee may be entitled to that part of the tax offset which the trustee has not apportioned to beneficiaries.
Where a superannuation fund or a self-managed superannuation fund is a limited partner of an ESVCLP and contributes to the ESVCLP during the income year, the superannuation fund or the self-managed superannuation fund is entitled to the tax offset, not its members.
Calculating the tax offset amount
The tax offset is calculated as an amount of up to 10% of the contributions made. The amount is reduced to the extent that the contributions have not been used in making eligible venture capital investments. It is worked out as the lesser of the following amounts:
- the sum of the contributions made by the partner to the ESVCLP during the income year, excluding contributions that
- are repaid to the partner within 12 months of it being made
- are repayable or will become repayable
- the partner can demand to be repaid
- are commitments to provide money or property in the future
- the partner's percentage share (worked out as the partner's interest in the capital of the ESVCLP at the end of the income year) of the sum of eligible venture capital investments made by the ESVCLP during the year and within two months after the end of the income year (unless already taken into account for an earlier year), including associated incidental and administrative costs.
Example 1 – Calculating the ESVCLP tax offset
Alex is a limited partner in ABC VC Fund LP (ABC), an ESVCLP. Alex has a 20% share in ABC's capital. Alex contributed $10 million to the ESVCLP during the 2016–17 income year of the total $50 million contributed by the partners. The total $50 million is used by ABC for making eligible venture capital investments within the required time period.
The total tax offset for partner contributions is 10% of the $50 million invested by ABC, which is $5 million. Alex has a 20% share in ABC’s capital and is entitled to a $1 million tax offset for the 2016–17 income year. This is also the same amount of offset as calculated on the basis of 10% of Alex's contribution made during the year.
If these were not the same amounts, Alex would be entitled to an offset for the lesser amount. If ABC only used $40 million out of the $50 million contributed by the partners to make eligible venture capital investments within the required time period, Alex's tax offset for the 2016–17 income year would be 10% of the lesser of Alex's:
- $10 million contribution to capital
- 20% share in ABC's capital of the total eligible venture capital investments made by ABC (20% x $40 million = $8 million).
Alex will be entitled to an $800,000 tax offset (10% x $8 million) in the 2016–17 income year.
As ABC did not use $10 million of the $50 million contributed within the required time period, ABC's limited partners are not entitled to an offset relating to that $10 million in the 2016–17 income year or any of the future income years.
End of example
If you are a partner of a partnership or a beneficiary of a trust which is a limited partner of an ESVCLP, the amount of offset you receive as a member of a partnership or trust is at the discretion of the partnership or trustee. The offset is allocated amongst its members independently of how income or capital was distributed. However, if you are entitled to a fixed proportion of any capital gain from investments that gave rise to the offset, then your share of the tax offset must be the same proportion as that entitlement.
Example 2 – Calculating the ESVCLP tax offset for members of trusts
XYZ Venture Capital Fund is an ESVCLP that became unconditionally registered on 8 December 2015. There are four limited partners in the ESVCLP. Two of these partners are trusts (Trust A and Trust B) and two are individual investors.
Trust A is a fixed trust with two beneficiaries, with each beneficiary entitled to 50% of the income and capital gains of the trust. Trust B is a discretionary trust with three beneficiaries. The trust deed for Trust B does not contain a default beneficiary clause.
On 1 July 2016, each of the four limited partners contributes $20 million. Accordingly, XYZ received total contributions of $80 million. The total $80 million was used by the ESVCLP for making eligible venture capital investments during the 2016–17 income year.
The tax offset for each partner is 10% of that partner's $20 million contribution, which is $2 million. The same offset amount results when worked out on each partner's share of the $80 million investments made by the partnership within the required time period. Given that each of the limited partners has a 25% share in the ESVCLP's capital, each partner is entitled to a tax offset of $2 million.
Were the investments instead held and disposed of by Trust A, each unitholder in Trust A would be entitled to a 50% share of the capital gains on the disposal of the investments that were made with the contributions that gave rise to the tax offset entitlement. Each unitholder is entitled to a $1 million tax offset, which is a 50% share of the trust's $2 million tax offset.
The trustee of Trust B would determine the amount of the offset each beneficiary receives. Trust B has a non-resident beneficiary and the trustee exercises its discretion to make a distribution to that beneficiary. The trustee is liable to pay tax on the net income of the trust estate distributed to the non-resident beneficiary. In this situation, the trustee is entitled to an amount of the tax offset of $2 million less any other amounts of the tax offset the trustee has allocated to its beneficiaries.
End of example
In general, the ESVCLP tax offset applies to contributions made on and after 1 July 2016. However, a transitional rule allows for the tax offset to be claimed for contributions made prior to 1 July 2016 to an ESVCLP that becomes unconditionally registered on or after 7 December 2015, including contributions made before unconditional registration. You can claim the ESVCLP tax offset for such contributions in the first income year commencing on or after 1 July 2016, including contributions made in that income year or in an earlier income year.
Example 3 – Contributions made in prior income years
DFG venture capital fund became conditionally registered on 1 October 2015 and unconditionally registered on 15 March 2016.
The ESVCLP has four limited partners who each made the following contributions to the ESVCLP:
- $2 million each on 1 November 2015
- $4 million each on 1 March 2016.
These contributions totalling $24 million are used by the ESVCLP for eligible venture capital investments during the 2015–16 income year.
As the ESVCLP was unconditionally registered on or after 7 December 2015, the tax offset applies to contributions made on 1 November 2015 and 1 March 2016. Under the transitional rule, these contributions are deemed to be made in the first income year beginning on or after 1 July 2016.
As a result, each of the limited partners is entitled to claim a tax offset of $600,000 in their 2016–17 tax return being 10% of their $6 million contributions.
End of example
Substituted accounting period (SAP)
If your 2016–17 income year starts:
- before 1 July 2016 and you made contributions to a qualifying ESVCLP in your 2016–17 income year or in an earlier income year, you
- are taken to have made those contributions in your 2017–18 income year
- can first claim your ESVCLP tax offset in your 2017–18 tax return
- after 1 July 2016 you can first claim your ESVCLP in your 2016–17 tax return, including contributions made in that income year or in an earlier income year.
Example 4 – Contributions made by limited partners with SAP during and after the transitional period to ESVCLP
ABC Venture Capital LP (ABC) became unconditionally registered on 7 December 2015. Two of the limited partners, Alex Co and Ben Co are on substituted accounting periods. Alex Co's 2016–17 income year begins on 1 March 2016. Ben Co is on a SAP with its 2016–17 income year starting on 1 September 2016.
On 1 March 2016, Alex Co and Ben Co each contributed $10 million to ABC and the funds were used by ABC for eligible venture capital investments shortly after they were received.
Alex Co is deemed to have made its contribution in the first income year starting after 1 July 2016, which is the income year starting 1 March 2017 and ending 28 February 2018 (2017–18 income year). As a result, Alex Co can claim the tax offset in its 2017–2018 tax return.
Ben Co is also eligible for the tax offset for its contribution to ABC; however, its 2016–17 income year starts after 1 July 2016. The contribution is deemed to be made during its 2016–17 income year. Therefore Ben Co will claim the tax offset in its 2016–17 tax return.
End of example
Non-refundable tax offset carried forward from a prior year
The amount of an unused ESVCLP tax offset can be carried forward to a later income year. However, before you can apply a tax offset brought forward from a prior year to reduce the amount of income tax that you will pay, you must apply it to reduce certain amounts of net exempt income. If the company is a base rate entity for the year, net exempt income is reduced by $1 for each 27.5 cents of the tax offset; otherwise net exempt income is reduced by $1 for each 30 cents of the tax offset.
Other tax concessions
Limited and general partners
Under the ESVCLP regime, Australian resident and foreign resident limited partners are exempt from income tax on revenue and capital gains from disposals of eligible venture capital investments made by the ESVCLP and on other income earned on these investments. This exemption also applies to general partners who are Australian residents or residents of a country that has a double tax agreement with Australia. A partial exemption for disposals may apply where the value of the eligible investment exceeds $250 million. Corresponding losses are also disregarded.
In general, income and capital gains derived from the disposal of eligible venture capital investments are exempt from income tax. However, you only obtain a partial exemption if:
- at the end of any income year before the income year in which the income or capital gain arises, the total asset value of the company or trust invested in and its connected entities exceeds $250 million, and
- the income or capital gain arises later than six months after the end of the income year in which the value first exceeded $250 million.
Instead of full exemption, the taxable amount of income or capital gain is worked out as follows:
- the amount that would ordinarily be assessable if no exemption is available, less
- the income or capital gain you would have made if the taxing event had happened at the end of six months after the income year in which the value first exceeded $250 million.
Gains which accrued before the end of that six month period will remain exempt from tax and gains which accrue after the end of that six month period will be taxable.
Example 5 – Calculation of partial capital gains exemption
ABC Venture Capital LP (ABC) acquired a 10% interest in Mystic, which qualifies as an eligible venture capital investment in a company. At the time of acquisition Mystic’s total asset value was $40 million. On 30 June 2016, Mystic’s total asset value is $270 million and on 31 December 2016 $300 million.
On 20 June 2017, ABC disposes its interest in Mystic when Mystic's total asset value is $320 million.
The exempt amount of capital gain equals the amount that would have been made if ABC had disposed of its 10% interest in Mystic on 31 December 2016 (the end of the six month period after the end of income year in which the value of the investment exceeds $250 million).
The taxable amount is calculated as follows:
1. The capital gain that would normally be taxable on the actual disposal (nominal capital gain):
($320 million - $40 million) × 10% = $28 million
2. The capital gain if the investment had been disposed of on 31 December 2016 (valuation year capital gain):
($300 million - $40 million) × 10% = $26 million
This amount of the gain is exempt.
3. The taxable amount of the gain is:
normal capital gain - valuation year capital gain
= $28 million - $26 million
= $2 million
A capital gain of $2 million is taxable to ABC’s partners.
End of example
The 'carried interest' of a general partner is the partner's entitlement to a distribution from the ESVCLP, normally contingent on profits attained for the limited partners in the ESVCLP. Carried interest does not include a management or similar fee that the partner is entitled to or a distribution attributable to an equity investment by the partner.
If you are a general partner of an ESVCLP, your entitlement to a payment of carried interest will be taxed as a capital gain rather than as income.
If you qualify for the CGT discount, it applies to carried interest if you became a general partner at least 12 months before the CGT event happened.
For tax concession enquiries, phone us on:
A limited partner of an early stage venture capital limited partnership (ESVCLP) that becomes unconditionally registered on or after 7 December 2015 may be entitled to a 10% non-refundable carry-forward offset of their contributions made to an ESVCLP on and after 1 July 2016.
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