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Edited version of private ruling

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Ruling

Subject: Employee Share Scheme (company issues)

Question 1

Will an employer company (Employer) obtain a deduction under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for irretrievable cash contributions made by the Employer or a subsidiary member of the Employer's income tax consolidated group (Employer Group) to the trustee of an Employee Share Trust (EST)?

Answer

Yes.

Question 2

Will the Employer obtain a deduction under section 8-1 of the ITAA 1997 for costs incurred by the Employer Group in relation to the implementation and ongoing administration of the EST?

Answer

Yes.

Question 3

If the answer to question 1 is yes, when will the irretrievable cash contributions be deductible in the hands of the Employer?

Answer

When the relevant option has been granted and an irretrievable cash contribution has been made to the EST to acquire shares.

Question 4

Do the subscription proceeds paid by the trustee of the EST (Trustee) constitute assessable income of the Employer under Division 6 of Part 1-3 of the ITAA 1997?

Answer

No.

Question 5

Do the subscription proceeds paid by the Trustee constitute assessable income of the Employer under section 20-20 of the ITAA 1997?

Answer

No.

Question 6

Does a capital gains tax event under Division 104 of the ITAA 1997 arise when the Trustee subscribes for fully paid ordinary shares in the capital of the Employer (Employer Shares)?

Answer

No.

Question 7

Will the Commissioner make a determination that Part IVA of the ITAA 1936 applies to any aspect of the Employee Option Plan (EOP) to deny, in part or in full, any deduction claimed by the Employer in respect of the irretrievable cash contributions made to the Trustee by the Employer or any subsidiary member of the Employer Group to fund the subscription for or acquisition of Employer Shares on market by the EST?

Answer

No.

Question 8

Does the provision of an option to an employee of the Employer or any subsidiary member of the Employer Group constitute a fringe benefit under subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Answer

No.

Question 9

Will the irretrievable cash contributions made by the Employer or any other subsidiary member of the Employer Group to the Trustee of the EST to fund the subscription for or acquisition of Employer Shares on market constitute a fringe benefit within the meaning of subsection 136(1) of the FBTAA?

Answer

No.

Question 10

Will the Commissioner make a determination under section 67 of the FBTAA in respect of any aspect of the EOP?

Answer

No.

This ruling applies for the following periods:

Other/Substituted Accounting Period 1 May 2010 to 30 April 2011 (in lieu of income year ending 30 June 2011)

Other/Substituted Accounting Period 1 May 2011 to 30 April 2012 (in lieu of income year ending 30 June 2012)

Other/Substituted Accounting Period 1 May 2012 to 30 April 2013 (in lieu of income year ending 30 June 2013)

Other/Substituted Accounting Period 1 May 2013 to 30 April 2014 (in lieu of income year ending 30 June 2014)

Other/Substituted Accounting Period 1 May 2014 to 30 April 2015 (in lieu of income year ending 30 June 2015)

Relevant facts and circumstances

The Employer (Employer) is the head company of an income tax consolidated group (Employer Group).

The Employer has an equity based compensation plan, the Employee Option Plan (EOP) which is administered by the Employer in accordance with governing rules (Plan Rules). The EOP has been operating since its inception prior to 1 July 2009.

The Employer has established the Employee Share Trust (EST) that is operated by a Trustee, in accordance with the Employee Share Trust Deed (Trust Deed).

The EST is established for the sole purpose of obtaining fully paid ordinary shares in the capital of the Employer (Employer Shares) for the benefit of eligible employees of the Employer Group.

The EST constitutes an employee share trust under subsection 130-85(4) of the ITAA 1997.

Under the EOP, the Employer invites eligible employees of the Employer Group (Participants) to apply for a specified number of options to acquire fully paid ordinary shares in the Employer. The options are acquired for nil consideration by the Participants.

For options acquired prior to 1 July 2009, each option constitutes a 'qualifying right' for the purposes of former section 139CD of the ITAA 1936.

The Employer provides irretrievable cash contributions to the Trustee to be used in accordance with the Trust Deed and Plan Rules for the sole purpose of subscribing for and/or acquiring Employer Shares for the benefit of Participants.

In order to exercise an option, the Participant pays an exercise price to the Employer Group equal to the closing price on the Stock Exchange Automated Trading System, excluding special crossings, overnight sales and exchange traded option exercises of the shares on the grant date or such other price as is determined by the Board.

Subsequently, the Trustee acquires or subscribes for Employer Shares utilising the cash contributions paid by the Employer as directed by the board of directors of the Employer in accordance with the Plan Rules and Trust Deed.

Employer Shares acquired by the Trustee are allocated to the relevant Participant who becomes absolutely entitled to those shares at that time.

In accordance with the Plan Rules and Trust Deed, the Trustee may acquire or subscribe for Employer Shares as directed by the Employer that will be held as Unallocated Trust Shares (as defined in the Trust Deed) for the benefit of Participants.

The Employer pays the Trustee for services provided in connection with the EOP and the EST, including to:

(a) maintain Participants' EOP records;

(b) produce and dispatch holding statements to Participants;

(c) provide the Employer and Participants with information relating to Employer Shares held by the Trustee to assist with their tax return and/or reporting obligations; and

(d) acquire and allocate Employer Shares to Participants.

The Employer pays the costs incurred in relation to the implementation and ongoing administration of the EST, including costs incurred in:

(a) preparing communication booklets issued to Participants in relation to the tax treatment of Employer Shares held by the Trustee; and

(b) lodging a tax return for the EST.

The commercial reasons for the operation of the EOP and EST are to:

(a) provide an arm's length vehicle for administering the EOP and acquiring and holding shares in the Employer, either by way of new issue or acquiring on market;

(b) assist the Employer with meeting its requirements under the Corporations Act 2001, in relation to dealing with its shares;

(c) allow for Employer Shares to be acquired and warehoused in the EST prior to vesting to effectively allow for a price hedge. The EST will also assist the Employer in dealing with any insider trading issues as the Trustee is an independent party;

(d) assist the Employer in managing any ASX Rules applicable to issuing new shares;

(e) provide the Employer with capital management flexibility by allowing for on market purchases of shares using either cash or a new issue of shares by the Employer where cash is retained;

(f) provide the Employer with better visibility of share transactions under the EOP;

(g) give effect to disposal restrictions/vesting conditions;

(h) allow for easy recycling of shares through reallocation of shares when options don't vest; and

(i) provide the Employer with an efficient mechanism for the administration and operation of any new employee option plans which it introduces in the future.

Reasons for decision

Question 1

(a) Single entity rule

Pursuant to Taxation Ruling TR 2004/11, section 701-1 of the ITAA 1997 (the single entity rule) provides that if an entity is a subsidiary member of a consolidated group for any period, it and any other subsidiary member of the group are taken for 'head company core purposes' and 'entity core purposes' to be part of the head company, rather than separate entities during that period.

The intended operation of the single entity rule is to apply the income tax laws to a consolidated group as if it were a single entity (being the head company).

Therefore, when the Employer or a member of the Employer Group makes irretrievable cash contributions to the Trustee, whether a deduction is allowable to the Employer will be determined by considering whether the requirements of section 8-1 of the ITAA 1997 will be met as follows.

(b) Section 8-1 of the ITAA 1997

Subsection 8-1(1) of the ITAA 1997 is a general deduction provision. Broadly, the provision provides an entitlement to a deduction from assessable income for any loss or outgoing, to the extent that it is incurred in gaining or producing your assessable income or it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income.

However, subsection 8-1(2) of the ITAA 1997 (so far as it is relevant) prevents such a deduction to the extent that it is a loss or outgoing of capital, or of a capital nature.

Losses or outgoings incurred

The Employer provides cash contributions to the Trustee to be used in accordance with the Trust Deed and Plan Rules for the sole purpose of subscribing for and/or acquiring Employer Shares for the benefit of Participants. Such contributions will be irretrievable or non-refundable to the Employer.

On this basis, it is concluded that the irretrievable cash contributions made by the Employer will be considered to be losses or outgoings incurred for the purpose of subsection 8-1(1) of the ITAA 1997.

Relevant nexus

The EST is established for the sole purpose of obtaining fully paid ordinary shares in the capital of the Employer (Employer Shares) for the benefit of eligible employees of the Employer Group.

Under the EOP, the Employer invites eligible employees of the Employer Group (Participants) to apply for a specified number of options to acquire fully paid ordinary shares in the Employer.

The Employer provides irretrievable cash contributions to the Trustee to be used in accordance with the Trust Deed and Plan Rules for the sole purpose of subscribing for and/or acquiring Employer Shares for the benefit of Participants.

The purpose of the contributions is to provide an incentive to employees linked to the performance of the Employer's business.

Accordingly, there is a sufficient nexus between the Employer's contributions to the Trustee and the derivation of its assessable income (Herald and Weekly Times Ltd v. FCT (1932) 48 CLR 113; (1932) 2 ATD 169), Amalgamated Zinc (De Bavay's) Ltd v. FCT (1935) 54 CLR 295; (1935) 3 ATD 288, W Nevill & Co Ltd v. FC of T (1937) 56 CLR 290; 4 ATD 187; (1937) 1 AITR 67, Ronpibon Tin NL v. FCT (1949) 78 CLR 47; 4 AITR 236; (1949) 8 ATD 431, Charles Moore & Co (WA) Pty Ltd v. FCT (1956) 95 CLR 344; (1956) 6 AITR 379; (1956) 11 ATD 147).

Capital

The Employer's contributions will be recurring and be made from time to time as and when Employer Shares are to be subscribed for or acquired pursuant to the Trust Deed. Therefore, to this end, it is concluded that the contributions are not capital in nature, but rather outgoings incurred by the company in carrying on its business.

In support of this conclusion, the Court held in Pridecraft Pty Ltd v. FC of T [2004] FCAFC 339; 2005 ATC 4001; 58 ATR 210; FC of T v. Spotlight Stores Pty Ltd [2004] FCA 650; 2004 ATC 4674; 55 ATR 745 that payments by an employer company to a trust established for the purpose of providing incentive payments to employees were on revenue account and neither capital nor of a capital nature. This confirms the view expressed in ATO Interpretative Decision ATO ID 2002/1074 that a company will be entitled to a deduction under section 8-1 of the ITAA 1997 for irretrievable contributions made to the trustee of its employee share scheme.

Question 2

Detailed reasoning

The Employer pays the costs incurred in relation to the implementation and ongoing administration of the EST, including costs incurred in:

(a) preparing communication booklets issued to Participants in relation to the tax treatment of Employer Shares held by the Trustee; and

(b) lodging a tax return for the EST.

Further, the Employer pays the Trustee for services provided in connection with the EOP and the EST, including to:

(a) maintain Participants' EOP records;

(b) produce and dispatch holding statements to Participants;

(c) provide the Employer and Participants with information relating to Employer Shares held by the Trustee to assist with their tax return and/or reporting obligations; and

(d) acquire and allocate Employer Shares to Participants.

The abovementioned costs incurred by the Employer in relation to the implementation and on-going administration of the EST are deductible under section 8-1 of the ITAA 1997 as either:

§ costs incurred in gaining or producing the assessable income of the Employer; or

§ costs necessarily incurred in carrying on the Employer's business for the purpose of gaining or producing the assessable income of the Employer.

The view that the costs incurred by the Employer are deductible under section 8-1 of the ITAA 1997 is consistent with ATO ID 2002/961 in which it was decided that such costs are part of the ordinary employee remuneration costs of a taxpayer.

Consistent with the analysis in Question 1 (above), the costs are revenue and not capital in nature on the basis that they are regular and recurrent employment expenses and therefore, are not excluded from being deductible under paragraph 8-1(2)(a) of the ITAA 1997.

Question 3

Detailed reasoning

The deduction for the irretrievable cash contributions under section 8-1 of the ITAA 1997 would generally be allowable in the income year in which the Employer incurred the outgoing. However, under certain circumstances, the timing of the deduction is specifically determined under section 83A-210 of the ITAA 1997.

Options issued on or after 1 July 2009

Pursuant to subsection 83A-5(1) of the Income Tax (Transitional Provisions) Act 1997 (IT(TP)A), Division 83A of the ITAA 1997 will apply to options acquired on or after 1 July 2009.

Division 83A will apply, broadly, if an ESS interest is acquired at a discount, under an employee share scheme. If Division 83A applies, then either Subdivision 83A-B or 83A-C will apply.

A Participant's beneficial interest in an option will constitute an ESS interest as it constitutes a right to acquire a beneficial interest in an Employer Share to be held on their behalf by the Trustee.

The term 'employee share scheme' is defined in subsection 83A-10(2) of the ITAA 1997 as:

For the purposes of subsection 83A-10(2) of the ITAA 1997, subsection 995-1(1) of the ITAA 1997 defines the term 'scheme' as follows:

The EOP is an employee share scheme as it constitutes an arrangement that is operated in accordance with the Plan Rules and incorporates the use of the EST operated in accordance with the Trust Deed.

Under the EOP, an ESS interest (being a beneficial interest in an option) is provided to Participants - being employees of the Employer or subsidiaries of the Employer - in relation to their employment.

The ESS interests will be acquired at a discount as the Participants will acquire the options for no consideration.

Options issued before 1 July 2009

Subdivision 83A-C of the ITAA 1997 (and the rest of Division 83A of that Act, to the extent that it relates to that Subdivision) will apply to all options issued before 1 July 2009, that satisfy subsection 83A-5(2) of the IT(TP)A 1997.

Subsection 83A-5(2) of the IT(TP)A 1997 is satisfied as the relevant options have yet to been exercised, which would be the relevant cessation time for the purposes of former section 139B(3) of the ITAA 1936, and fall within the definition of 'qualifying right' for the purposes of former section 139CD of the ITAA 1936.

Consequently, as Subdivision 83A-C of the ITAA 1997 (and the rest of Division 83A of that Act, to the extent that it relates to that Subdivision) applies to Options granted both before and after 1 July 2009, the current section 83A-210 of the ITAA 1997 applies to determine when the irretrievable cash contributions made by the Employer Group to the trustee of the EST are deductible to the Employer.

Section 83A-210 of the ITAA 1997 provides that if:

Section 83A-210 of the ITAA 1997 will only apply if there is a relevant connection between the irretrievable cash contributions provided to the Trustee, and the acquisition of ESS interests (directly or indirectly) by the Employer under the EOP in relation to the Participant's employment.

An ESS interest in a company is defined in subsection 83A-10(1) of the ITAA 1997 as either a beneficial interest in a share in the company or a beneficial interest in a right to acquire a beneficial interest in a share in the company.

Under the EOP, an option granted to a Participant will be an ESS interest as it is a right to acquire a beneficial interest in a share in a company. This ESS interest will also be granted under an employee share scheme in relation to the employee's employment. A share acquired by the Trustee to satisfy an option, granted under the employee share scheme to an employee in relation to the employee's employment, is itself provided under the same scheme.

The granting of options and Employer Shares, the provision of irretrievable cash contributions to the Trustee under the arrangement, the acquisition and holding of the shares by the Trustee and the allocation of shares to the Participants are all interrelated components of the EOP. All the components of the scheme, including the provision of irretrievable cash contributions to the Trustee must be carried out so that the scheme can operate as intended.

Consequently, the provision of irretrievable cash contributions to the Trustee to acquire Employer Shares is considered to be for the purpose of enabling the Participants, indirectly as part of the EOP, to acquire the options. If the irretrievable cash contributions are provided before the options are acquired by the Participants, then section 83A-210 of the ITAA 1997 will apply. However, section 83A-210 of the ITAA 1997 will not apply to a deduction for the purchase of shares to satisfy the obligation arising from options already granted.

If any amount of money is used by the Trustee to purchase excess shares intended to meet a future obligation arising from a future grant of options, the excess payment occurs before the employees acquire the relevant options (ESS interests) under the scheme. Section 83A-210 of the ITAA 1997 will apply in that case and the excess payment will only be deductible to the Employer in the year of income when the relevant options are granted to the Participants.

Question 4

Detailed reasoning

If you are an Australian resident, your assessable income includes income according to ordinary concepts, which is called ordinary income (section 6-5 of the ITAA 1997).

Furthermore, section 6-10 provides that your assessable income also includes statutory income.

Section 6-5 Income according to ordinary concepts (ordinary income)

Income according to ordinary concepts is not defined in the ITAA 1997. However, there is a substantial body of case law which discusses factors which indicate whether an amount has the character of income according to ordinary concepts.

Dixon J in Sun Newspapers Limited and Associated Newspapers Limited v. FCT (1938) 61 CLR 337; (1938) 5 ATD 23; 1 AITR 403 (Sun Newspapers) outlined the three matters to be considered in determining whether a payment is on capital or revenue account, as follows:

§ the character of the advantage sought by the payment

§ the way it is to be used or enjoyed; and

§ the means adopted to obtain it.

The character of the advantage sought by the payment

As stated previously in this ruling, the stated purpose of the EOP in establishing and funding its employee share plans is to motivate achievement and promote longevity of employment by rewarding senior management and key executives for achieving performance criteria set by the Board. A general aim of the EOP is to enhance the profitability of the group's business. Therefore, the character of the advantage sought is one of reward and retention of the human resources of the business, as a contribution to its long term success, which distinguishes it as capital in nature.

The way it is to be used or enjoyed

The subscription proceeds are used for obtaining fully paid ordinary shares in the capital of the Employer.

While this treatment of the subscription proceeds is not decisive in itself, it is indicative of the Employer's treatment of the receipt and consistent with accounting principles.

The means adopted to obtain it

The payment is a premium or outlay to secure share(s) in the Employer as a means to structure the business to secure and enhance its long-term profitability.

Based on these three factors, the subscriptions proceeds are held on capital account.

Question 5

Detailed reasoning

Division 20 of the ITAA 1997 deals with amounts included to reverse the effect of past deductions and section 20-20 of the ITAA 1997 deals with assessable recoupments, which are described (at section 20-10 of the ITAA 1997) as 'an amount you receive by way of insurance, indemnity or other recoupment'.

The subscription proceeds received by the Employer from the EST are for shares and are integral to the arrangement, whereby the acquisition and holding of the shares by the Trustee and the allocation of shares to the participating employees are all interrelated components of the EOP. The character of the subscription proceeds paid to the Employer for the shares is not one of 'insurance, indemnity or other recoupment'.

Also, the table at section 20-30 of the ITAA 1997 which shows the deductions for which recoupments are assessable, does not include provision for funding an EST to acquire shares for employees.

Question 6

Detailed reasoning

Subsection 102-5(1) of the ITAA 1997 provides that your assessable income includes your net capital gain for the income year.

Given that a capital gain or capital loss is made only if a CGT event happens, the initial step is to ascertain whether such an event has occurred. Also, given that the transaction is the payment of subscription proceeds by the EST to the Employer for shares, the possible events are:

§ D1 Creating contractual or other rights; or

§ H2 Receipt for event relating to a CGT asset.

Subsection 102-25(3) provides that CGT event D1 applies in preference to CGT event H2.

Subsection 104-35(1) states that CGT event D1 'happens if you create a contractual right or other legal or equitable right in another entity'.

Also, paragraph 104-35(5)(c) of the ITAA 1997 states that event D1 does not happen where a company issues or allots equity interests in the company, which is the case when the Trustee subscribes for Employer Shares.

As event DI is excluded, CGT event H2 is to be considered. Event H2 happens if an act, transaction or event occurs to a CGT asset owned by a taxpayer and the occurrence does not result in an adjustment to the cost base or reduced cost base (subsection 104-155(1) of the ITAA 1997).

Again, consideration of the subscription proceeds received by the Employer from the EST establishes that they are for shares and are integral to the arrangement whereby the acquisition and holding of the shares by the Trustee and the allocation of shares to the participating employees are all interrelated components of the EOP. As part of the EOP contractual rights of employees are exercised on their behalf to acquire shares in the Employer, rather than an act, transaction or event relating to a CGT asset owned by the Employer.

Paragraph 104-155(5)(c) of the ITAA 1996 provides that CGT event H2 does not happen where a company issues or allots equity interests in the company, which is applicable here.

Accordingly, a CGT event under Division 104 of the ITAA 1997 does not arise when the Trustee subscribes for fully paid ordinary shares in the capital of the Employer.

Question 7

Detailed reasoning

Law Administration Practice Statement PS LA 2005/24 deals with the application of the general anti-avoidance rules, including Part IVA of the ITAA 1936. Part IVA gives the Commissioner the discretion to cancel a 'tax benefit' that has been obtained, or would, but for section 177F of the ITAA 1936, be obtained, by a taxpayer in connection with a scheme to which Part IVA applies. This discretion is found in subsection 177F(1). The following requirements must be met before the Commissioner can exercise the discretion in respect of Part IVA under subsection 177F(1) of the ITAA 1936:

§ a 'tax benefit', as identified in section 177C, was or would, but for subsection 177F(1), has been obtained;

§ the tax benefit was or would have been obtained in connection with a 'scheme' as defined in section 177A; and

§ having regard to section 177D, the scheme is one to which Part IVA applies.

The Scheme

Subsection 177A(1) of the ITAA 1936 provides that 'scheme' means:

It is considered that this definition is sufficiently wide to cover the proposed arrangement under the relevant EOP, which utilises a payment made by the Employer to the Trustee of an EST (in accordance with the Trust Deed), to fund the acquisition of Employer Shares on behalf of participating employees by that Trustee.

Tax Benefit

'Tax benefit' is defined in subsection 177C(1) of the ITAA 1936 as including:

In order to determine the tax benefit that would be derived by the Employer from this scheme, it is necessary to examine alternative hypotheses or counterfactuals, that is, other schemes the company might reasonably have been expected to enter into to achieve its aims in relation to employee remuneration.

The applicant, at pages 30-31 of its application, has provided two possible counterfactuals as follows:

A comparison between these counterfactuals / alternative forms of remuneration and the proposed scheme would likely reveal no tax benefit because the deductible amounts under both of them would be the same or similar from the Employer's tax perspective.

However, there is at least one other reasonable counterfactual (also referred to in the quoted paragraph above) to the scheme the Employer proposes to establish. If the Employer were to issue new shares, it would not be entitled to any deduction unless section 83A-205 of the ITAA 1997 were satisfied. This provision requires that:

§ the Employer must have provided an ESS interest to an individual under an employee share scheme

§ the Employer must have done this as the individual's employer (or as the holding company of the employer)

§ with the exception of paragraph 83A-35(2)(b) of the ITAA 1997, section 83A-35 must have applied to reduce the amount included in that individual's assessable income under subsection 83A-25(1).

The use of the EST arrangement permits the Employer, subject to the requirements of sections 8-1 and 83A-210 of the ITAA 1997, to claim a deduction for the full amount of the contributions it makes to the EST. It is probable that this amount would exceed that which would be allowable under section 83A-205 of the ITAA 1997 in the counterfactual above. Therefore, to the extent of any increased deductions because of the trust arrangement, the Employer obtains a tax benefit.

While, for the reasons noted above by the applicant, it is unlikely that it would choose any other incentive plan that did not give rise to an allowable deduction (and therefore there would not be the necessary tax benefit), the analysis below proceeds on the assumption that the Commissioner would in fact be able to identify a relevant tax benefit.

Paragraph 177D(b) of the ITAA 1936

Paragraph 177D(b) of the ITAA 1936 sets out the following factors that must be considered in deciding whether a scheme was entered into for the purpose of obtaining a tax benefit:

(i) The Manner of the Scheme

In considering whether Part IVA applies or not, the necessary comparison to be made in relation to the factors listed in paragraph 177D(b) of the ITAA 1936 is between the scheme as proposed and the relevant counterfactual.

The inclusion of the EST in the scheme does give rise to a tax benefit, but the Employer has provided the following commercial reasons for the operation of the EOP and EST:

§ provide an arm's length vehicle for administering the EOP and acquiring and holding shares in the Employer, either by way of new issue or acquiring on market;

§ assist the Employer with meeting its requirements under the Corporations Act 2001, in relation to dealing with its shares;

§ allow for the Employer shares to be acquired and warehoused in the EST prior to vesting to effectively allow for a price hedge. The EST will also assist the Employer in dealing with any insider trading issues as the Trustee is an independent party;

§ assist the Employer in managing any ASX Rules applicable to issuing new shares;

§ provide the Employer with capital management flexibility by allowing for on market purchases of shares using either cash or a new issue of shares by the Employer where cash is retained;

§ provide the Employer with better visibility of share transactions under the EOP;

§ give effect to disposal restrictions/vesting conditions;

§ allow for easy recycling of shares through reallocation of shares when options don't vest; and

§ provide the Employer with an efficient mechanism for the administration and operation of any new employee option plans which it introduces in the future.

Further, it is noted that the arrangement is not deliberately and intentionally established close to the end of the Employer's income year nor with a large up-front payment intended to provide for the trust's operations for several years into the future, as happened in Pridecraft Pty Ltd v FC of T [2004] FCAFC 339; 2005 ATC 4001; 58 ATR 210. The Employer intends to fund the EST on a recurring basis, as required, to satisfy the provision of shares in accordance with the terms of the EOP.

It is accepted that the EST provides benefits to the operation of the scheme that would not be available if the shares were provided directly by the Employer in the relevant counterfactual.

(ii) The Form and Substance

The substance of the scheme is the provision of remuneration in the form of shares to Participants who participate in the EOP. It takes the form of payments by the Employer to the Trustee which acquires the shares and transfers them to Participants.

While existence of the trust may confer a tax benefit, it cannot be concluded that it is the only benefit provided, as outlined above. The applicant has argued that the form of the arrangement with the trust provides the scheme with non-tax benefits and this is accepted.

(iii) The Timing of the Scheme

As noted above, the scheme has not been established at a time to provide a substantial year-end deduction to the company nor with a contribution sufficiently large to fund the trust for several years, but by recurring contributions. There is nothing regarding this factor that suggests a dominant purpose of seeking to obtain a tax benefit in relation to the scheme.

(iv) The Result of the Scheme

The result of the scheme is to provide the Employer with allowable deductions for the contributions it makes to the EST. However, it is noted that the contributions are irretrievable and reflect a genuine non-capital outgoing on the part of the Employer to achieve a business outcome. It is to be expected that a deduction would normally be allowable in these circumstances.

(v) Any Change in the Financial Position of the Employer

As noted above, the Employer makes irretrievable cash contributions to the EST and those contributions constitute a real expense with the result that the Employer's financial position is changed to that extent. While it is arguable that the quantum of the deductions is higher with a trust as part of the scheme, in contrast to the Employer providing shares to participants directly, there is nothing artificial, contrived or notional about the Employer's expenditure.

(vi) Any Change in the Financial Position of other Entities or Persons

The contributions by the Employer to the Trustee will form part of the corpus of the trust and must be dealt with by the Trustee in accordance with the terms of the Trust Deed, that is, for the acquisition of shares to ultimately be provided to participants in the EOP. The Employer is not a beneficiary of the EST and its contributions cannot be returned to it in any form except where the Trustee acquires shares from the Employer by subscribing for new shares at market value. Therefore, the contributions made by the Employer amount to a real change to the financial position of the Trustee. The financial position of participants in the schemes will also undergo a real change. There is nothing artificial, contrived or notional about these changes.

(vii) Any Other Consequence

This factor is not relevant to this scheme.

(viii) The Nature of any Connection between the Employer and any Other Persons

The relationship between the Employer and the participants in the EOP is one of employer / employee. The Trustee and the Employer are unrelated.

The contributions made by the Employer to the Trustee are commensurate with the Employer's stated aim of providing the participants with remuneration in a form that aligns their personal financial rewards with the risks and returns of the Employer's shareholders. There is nothing to suggest that the parties to the employee share schemes are not acting at arm's length to one another. Accordingly, there is nothing in relation to this factor to indicate a dominant purpose of obtaining a tax benefit.

Conclusion - the Purpose of the Scheme

A consideration of all the factors referred to in paragraph 177D(b) of the ITAA 1936 leads to the conclusion that the dominant purpose of the scheme is to provide remuneration to the Employer's employees who participate in the scheme in a form that promotes the company's business objectives, rather than to obtain a tax benefit. Accordingly, the Commissioner will not make a determination that Part IVA of the ITAA 1936 applies to deny, in part or full, any deduction claimed by the Employer in relation to irretrievable contributions made by the Employer to the EST to fund the acquisition of Employer shares in accordance with the scheme as outlined above.

Question 8

Detailed reasoning

The Employer's liability to FBT arises under section 66 of the FBTAA which provides that tax is imposed in respect of the fringe benefits taxable amount of an employer for the relevant year of tax. The fringe benefits taxable amount is calculated under the FBTAA by reference to the taxable value of each fringe benefit provided.

No amount will be subject to FBT unless a fringe benefit is provided.

A fringe benefit will only arise under subsection 136(1) of the FBTAA where benefits are provided by employers to employees or associates of employees. Under the definition of fringe benefit a benefit must also be provided 'in respect of the employment of the employee'.

Paragraph (h) of the definition of fringe benefit in subsection 136(1) of the FBTAA, states that a fringe benefit does not include:

The terms 'ESS interest' and 'employee share scheme' are defined in section 83A-10 of the ITAA 1997.

Options issued on or after 1 July 2009

Pursuant to subsection 83A-5(1) of the IT(TP)A, Division 83A of the ITAA 1997 will apply to options acquired on or after 1 July 2009.

Division 83A will apply, broadly, if an ESS interest is acquired at a discount, under an employee share scheme. If Division 83A applies, then either Subdivision 83A-B or 83A-C will apply.

A Participant's beneficial interest in an option will constitute an ESS interest as it constitutes a right to acquire a beneficial interest in an Employer Share to be held on their behalf by the Trustee.

The term 'employee share scheme' is defined in subsection 83A-10(2) of the ITAA 1997 as:

For the purposes of subsection 83A-10(2) of the ITAA 1997, subsection 995-1(1) of the ITAA 1997 defines the term 'scheme' as follows:

The EOP is an employee share scheme as it constitutes an arrangement that is operated in accordance with the Plan Rules and incorporates the use of the EST operated in accordance with the Trust Deed.

Under the EOP, an ESS interest (being a beneficial interest in an option) is provided to Participants - being employees of the Employer or subsidiaries of the Employer - in relation to their employment.

The ESS interests will be acquired at a discount as the Participants will acquire the options for no consideration.

Options issued before 1 July 2009

Subdivision 83A-C of the ITAA 1997 (and the rest of Division 83A of that Act, to the extent that it relates to that Subdivision) will apply to all options issued before 1 July 2009, that satisfy subsection 83A-5(2) of the IT(TP)A 1997.

Subsection 83A-5(2) of the IT(TP)A 1997 is satisfied as the relevant options have yet to been exercised, which would be the relevant cessation time for the purposes of former subsection 139B(3) of the ITAA 1936, and fall within the definition of 'qualifying right' for the purposes of former section 139CD of the ITAA 1936.

Consequently, as Subdivision 83A-C of the ITAA 1997 (and the rest of Division 83A of that Act, to the extent that it relates to that Subdivision) applies to Options granted both before and after 1 July 2009, the current paragraph (h) of subsection 136(1) of the FBTAA applies in determining whether the provision of Options to employees of the Employer Group is a fringe benefit within the meaning of subsection 136(1) of the FBTAA.

An ESS interest in a company is a beneficial interest in a share in the company, or a right to acquire a beneficial interest in a share in the company (subsection 83A-10(1) of the ITAA 1997). An employee share scheme is a scheme under which ESS interests in the company are provided to employees (or associates of the employees) of the company or subsidiaries of the company, in relation to the employee's employment.

It has been submitted that Participants will acquire options in accordance with the EOP in respect of their employment. The Commissioner accepts that the EOP described in the applicant's private ruling application is an employee share scheme under which relevant ESS interests (being options) are acquired by employees of the Employer (or 'associates of those employees'), and the acquisition of those ESS interests are in relation to those employees' employment. The shares acquired by the Trustee under the EOP to satisfy options to acquire shares are also provided to employees under that same employee share scheme.

Therefore, the granting of options under the EOP to Participants will not be subject to FBT because they are specifically excluded from the definition of fringe benefits.

Question 9

Detailed reasoning

Subsection 136(1) of the FBTAA 1986 defines a 'fringe benefit', in relation to an employee, as a benefit in respect of the employment of the employee, but does not include:

An 'employee share trust' is defined in subsection 995-1(1) of the ITAA 1997 as having the meaning given by subsection 130-85(4) of the ITAA 1997.

Subsection 130-85(4) of the ITAA 1997 provides that an employee share trust for an 'employee share scheme' (having the meaning given by subsection 83A-10(2) of the ITAA 1997) is a trust whose sole activities are:

The right to acquire a beneficial interest in an Employer Share is an ESS interest within the meaning of subsection 83A-10(1) of the ITAA 1997.

An employee share scheme is defined in subsection 83A-10(2) of the ITAA 1997 as a scheme under which ESS interests in a company are provided to employees, or associates of employees (including past or prospective employees) in relation to the employees' employment.

The EOP is an employee share scheme within the meaning of subsection 83A-10(2) of the ITAA 1997 because it is a scheme under which either rights to acquire beneficial interests in shares in the Employer are provided to employees in relation to the employee's employment or beneficial interests in shares in the Employer are provided to employees in relation to the employee's employment.

Under the EOP, the employer has also established the EST to acquire shares in the Employer and to allocate those shares to employees. Therefore, paragraphs 130-85(4)(a) and (b) of the ITAA 1997 are satisfied because:

§ the EST acquires shares in the Employer; and

§ the EST ensures that the ESS interests being beneficial interests in those shares, are provided under an employee share scheme, to the employees in accordance with the Trust Deed and relevant Rules of the EOP.

Undertaking the activities mentioned in paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 will require that the Trustee undertake incidental activities that are a function of managing the EOP and administering the EST.

For the purposes of paragraph 130-85(4)(c) of the ITAA 1997, activities which are merely incidental include:

§ the opening and operation of a bank account to facilitate the receipt and payment of money;

§ the receipt of dividends in respect of shares held by the EST on behalf of an employee, and their distribution to the employee;

§ the receipt of dividends in respect of unallocated shares and using those dividends to acquire additional shares for the purposes of the employee share scheme;

§ dealing with shares forfeited under an employee share scheme including the sale of forfeited shares and using the proceeds of sale for the purposes of the employee share scheme;

§ the transfer of shares to employee beneficiaries or the sale of shares on behalf of an employee beneficiary and the transfer to the employee of the net proceeds of the sale of those shares;

§ the payment or transfer of trust income and property to the default beneficiary on the winding up of the trust where there are no employee beneficiaries; and

§ receiving and immediately distributing shares under a demerger.

Activities that result in employees being provided with additional benefits (such as the provision of financial assistance, including a loan to acquire the shares) are not considered merely incidental.

Therefore, the EST is an employee share trust, as defined in subsection 995-1(1) of the ITAA 1997, as the activities of the trust in acquiring and allocating ESS interests meet the requirements of paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 and its other activities are merely incidental to those activities in accordance with paragraph 130-85(4)(c) of the ITAA 1997. As such, paragraph (ha) of the definition of fringe benefit in subsection 136(1) of the FBTAA excludes the contributions to the Trustee of the EST from being a fringe benefit.

Accordingly, the Employer will not be required to pay FBT in respect of the irretrievable cash contributions it makes to the Trustee of the EST to fund the acquisition of Employer Shares in accordance with the Trust Deed.

Question 10

Detailed reasoning

Law Administration Practice Statement PS LA 2005/24 has been written to assist those who are contemplating the application of Part IVA or other general anti-avoidance rules to an arrangement, including in a private ruling. It succinctly explains how section 67 of the FBTAA operates. Most notably, paragraphs 145-148 provide as follows:

It is clear, therefore, that the Commissioner would only seek to make a determination under section 67 of the FBTAA 1986 if the arrangement resulted in the payment of less FBT than would be payable but for entering into the arrangement. The point is made effectively in Miscellaneous Taxation Ruling MT 2021 under the heading 'Appendix, Question 18' where, on the application of section 67, the Commissioner states:

Further, paragraph 151 of Practice Statement 2005/24 provides:

In the present case, the benefits provided to the Trustee by way of irretrievable contributions to the EST, and to Participants by way of the provision of options and shares under the EOP are excluded from the definition of a fringe benefit for the reasons given in the response to Question 5 (above). Therefore, as these benefits have been excluded from the definition of a fringe benefit and as there is also no FBT currently payable under the EOP, the FBT liability is not any less than it would have been but for the arrangement.

Accordingly, the Commissioner will not make a determination that section 67 of the FBTAA applies to include an amount in the aggregate fringe benefits amount of the Employer in relation to a tax benefit obtained under the EOP from irretrievable cash contributions made by the Employer to the Trustee of the EST to fund the acquisition of Employer shares in accordance with the Trust Deed.


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