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Ruling

Subject: Employee Share Schemes

Issue 1

Question 1

Will the entity obtain an income tax deduction, pursuant to section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997), in respect of the irretrievable cash contributions made by the entity to the Trustee of the employee share trust (EST) to fund the subscription for or acquisition on-market of the entity's shares by the EST in respect of Performance Rights issued pursuant to the entity's Incentive Plan?

Advice/Answers

Yes

Question 2

Will the entity obtain an income tax deduction, pursuant to section 8-1 of the ITAA 1997, in respect of costs incurred in relation to the implementation and on going administration of the EST?

Advice/Answers

Yes

Question 3

Are irretrievable cash contributions made by the entity to the Trustee of the EST, to fund the subscription for or acquisition on-market of the entity's shares by the EST, deductible to the entity at a time determined by section 83A-210 of the ITAA 1997?

Advice/Answers

Yes

Question 4

Will the Commissioner seek to make a determination that Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) applies to deny, in part or full, any deduction claimed by the entity in respect of the irretrievable cash contributions made by the entity to the Trustee of the EST to fund the subscription for or acquisition on market of the company's shares by the EST?

Advice/Answers

No

Question 5

Is the provision of Incentives or Shares by the entity to the entity's employees under the entity's Incentive Plan a fringe benefit within the meaning of subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Advice/Answers

No

Question 6

Will the irretrievable cash contributions made by the entity to the Trustee of the EST, to fund the subscription for or acquisition on-market of the entity's shares, be treated as a fringe benefit within the meaning of subsection 136(1) of the FBTAA?

Advice/Answers

No

Question 7

Will the Commissioner seek to make a determination that section 67 of the FBTAA applies to increase the Fringe Benefits taxable amount to the entity, by the amount of tax benefit gained from irretrievable cash contributions made by the entity to the Trustee of the EST, to fund the subscription for or acquisition on-market of the entity's shares?

Advice/Answers

No

This ruling applies for the following period

Year ended 30 September 2012

Year ended 30 September 2013

Year ended 30 September 2014

Year ended 30 September 2015

Year ended 30 September 2016

The scheme commenced on

31 August 2011

Relevant facts

The scheme the subject of the ruling has been ascertained from the following facts:

Application for Private Ruling

The entity's Employee Incentive Plan document

The trust deed of the Employee Share Trust

The entity's Offer of Performance Rights document

Assumptions

All rights on issue or to be issued under the Incentive Plan fall under Subdivision 83AB or 83AC of the ITAA 1997.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 83A-10

Income Tax Assessment Act 1997 Section 83A-210

Income Tax Assessment Act 1997 Subsection 130-85(4)

Income Tax Assessment Act 1997 Section 995-1

Income Tax Assessment Act 1936 Section 177A

Income Tax Assessment act 1936 Section 177C

Income Tax Assessment Act 1936Section 177D

Fringe Benefits Tax Assessment Act 1986 Subsection 136(1)

Fringe Benefits Tax Assessment Act 1968 Section 67

Reasons for decision

Issue 1

Question 1

Section 8-1 of the ITAA 1997 states:

8-1(1)

You can deduct from your assessable income any loss or outgoing to the extent that:

(a) it is incurred in gaining or producing your assessable income; or

(b) it is necessarily incurred in carrying on a ^*business for the purpose of gaining or producing your assessable income.

8-1(2)

However, you cannot deduct a loss or outgoing under this section to the extent that:

(a) it is a loss or outgoing of capital, or of a capital nature;

The entity has established its employee share plans as part of its remuneration policy with the intention of attracting, retaining and rewarding suitable employees in its business

The cash contributions made by the entity to the Trustee of the EST to fund the subscription for or acquisition on-market of the entity's shares by the EST are irretrievable and non-refundable under the Trust Deed.

The stated purpose of the entity in establishing and funding its employee share plan is to

…ensure reward for performance is competitive and appropriate for the results delivered. The framework aligns executive reward with achievement of strategic objectives and the creation of value for shareholders, and conforms with market practice for delivery and reward.

Essentially, the company embodies the following principles in its remuneration framework:

· Competitiveness and reasonableness;

· Acceptability to shareholders;

· Performance linkage / alignment of executive compensation;

· Transparency; and

· Capital management.

Therefore, the irretrievable cash contributions it makes to the Trustee under the rules of the plans are directed to enhancing the profitability of its business and producing assessable income.

In Pridecraft Pty Ltd v. FC of T [2004] FCAFC 339; 2005 ATC 4001; FC of T v. Spotlight Stores Pty Ltd [2004] FCA 650; 2004 ATC 4674; 55ATR 745, the Court held that payments by an employer company to a trust established for the purpose of providing incentive payments to employees were on revenue account and not capital or of a capital nature. This is consistent with the opinion 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 non-refundable cash contributions made to the trustee of its employee share scheme.

Accordingly, the conditions of paragraph 8-1(1)(b) of the ITAA 1997 are satisfied.

The entity has advised that the company will make contributions to the Trust to provide benefits to eligible employees in the form of shares. It is anticipated such contributions will be made by the entity when the Participants exercise their Performance Rights granted under the Incentive Plan. Under the entity's incentive Plan, the entity will fund the EST so that the EST can acquire the entity's shares and allocate them to the employees. The EST may hold the shares for a period of up to 7 Years after which date the shares will be legally transferred to the employees. Furthermore, the entity's shares will be acquired by the EST either on market or via a new issue of shares by the entity.

The entity has advised that the contributions to the EST will be a recurring outgoing which forms part of the remuneration costs of the Participants (The occurrence is anticipated to transpire periodically). Consequently, it will be making contributions on a regular basis as required.

The irretrievable cash contributions are an on-going expense of conducting its business to which the Company has committed itself by establishing the share plans and entering into the Trust Deed with the Trustee. Therefore, they are not capital in nature and paragraph 8-1(2)(a) of the ITAA 1997 is satisfied.

Accordingly, the irretrievable cash contributions the entity makes to the Trustee of the EST to enable it to acquire shares, whether by on-market purchase or subscription, are allowable deductions.

Question 2

As provided in question 1 above, you can deduct an amount under section 8-1 of the ITAA 1997 if the expense is incurred in gaining or producing assessable income, or is necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income.

In respect of costs in administering an employee share trust, ATO Interpretative Decision ATO ID 2002/961 provides that costs incurred in implementing and administering an employee share scheme will be deductible under section 8-1 of the ITAA 1997 as they are part of the ordinary employee remuneration costs.

The entity incurs various costs in relation to the implementation and on-going administration of the Trust. For example, the entity will incur costs associated with the services provided by the Trustee of the Trust, including but not limited to:

· Employee plan record keeping;

· Production and dispatch of holding statements to employees;

· Provision of annual income tax return information for employees;

· Costs incurred in the acquisition of shares on market (e.g. brokerage costs and the allocation of Shares to participants);

· Management of employee termination; and

· Other Trustee expenses including the annual audit of the financial statements and annual income tax return of the Trust.

These expenses form part of the ordinary employee remuneration costs.

Consistent with the analysis in question one, the costs are revenue and not capital in nature on the basis that they are regular and recurrent employment expenses. Accordingly the costs are deductible under section 8-1 of the ITAA 1997 in the year they are incurred.

Question 3

The provision of money to the trustee of the EST by the employer for the purpose of remunerating its employees under an ESS is an outgoing in carrying on the employer's business and is deductible under section 8-1 of the ITAA 1997.

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

With effect from 1 July 2009, section 83A-210 of the ITAA 1997 determines the timing of a deduction for contributions, as follows:

83A-210 If:

(a) at a particular time, you provide another entity with money or other property:

(i) under an arrangement; and

(ii) for the purposes of enabling an individual (the ultimate beneficiary) to acquire, directly or indirectly, an ESS interest under an employee share scheme in relation to the ultimate beneficiary's employment (including past or prospective employment); and

(b) that particular time occurs before the time (the acquisition time) the ultimate beneficiary acquires the ESS interest;

then, for the purposes of determining the income year (if any) in which you can deduct an amount in respect of the provision of the money or other property, you are taken to have provided the money or other property at the acquisition time.

Section 83A-210 of the ITAA 1997 will only apply if there is a relevant connection between the money provided to the Trustee, and the acquisition of ESS interests (directly or indirectly) by the entity under the Incentive Plan, in relation to the employee'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 Incentive plan, a performance right granted to an employee will be an ESS interest as it is a right to acquire a beneficial interest in a share in the entity. This ESS interest is granted under an ESS in relation to the employee's employment. The share acquired by the Trustee of the EST to satisfy such a right is granted under the ESS to an employee, in relation to the employee's employment.

The granting of the beneficial interests in the Performance Rights, the provision of the money to the Trustee of the EST under the arrangement, the acquisition and holding of the shares by the Trustee of the EST and the allocation of shares to the participating employees are all interrelated components of the entity's Incentive Plan. All the components of the scheme must be carried out so that the scheme can operate as intended.

As one of those components, the provision of money to the Trustee of the EST necessarily allows the scheme to proceed. Consequently, the provision of money to the Trustee of the EST to acquire the entity's shares is considered to be for the purpose of enabling the participating employees, indirectly as part of the Incentive Plan to acquire the Performance Rights. If that money is provided before the rights are acquired 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 rights already granted, and that deduction is accordingly allowable to the entity in the year in which the money was paid to the Trustee of the EST, under section 8-1 of the ITAA 1997.

However, if any amount of money is used by the Trustee of the EST to purchase excess shares intended to meet a future obligation arising from a future grant of rights, the excess payment occurs before the employees acquire the relevant rights (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 entity in the year of income when the relevant rights are subsequently granted to the employees.

Question 4

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 entity'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 entity in relation to irretrievable contributions made by the entity to the Trust to fund the acquisition of employer shares in accordance with the scheme as outlined above.

Question 5

An employer's liability to fringe benefits tax (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.

In general terms, 'fringe benefit' is defined in subsection 136(1) of the FBTAA 1986 as being a benefit provided to an employee or an associate of an employee 'in respect of' the employment of the employee.

However, certain benefits are excluded from being a 'fringe benefit' by virtue of paragraphs (f) to (s) of the 'fringe benefit' definition.

Paragraph (h) of the definition of 'fringe benefit' states that a fringe benefit does not include:

(h) a benefit constituted by the acquisition of an ESS interest under an employee share scheme (within the meaning of the Income Tax Assessment Act 1997) to which Subdivision 83AB or 83AC of that Act applies.

Subsection 83A - 10(1) of the ITAA 1997 defines an ESS interest as:

83A - 10(1) An ESS interest, in a company, is a beneficial interest in:

(a) a share in the company

(b) a right to acquire a beneficial interest in a share in the company

Subsection 83A - 10(2) of the ITAA 1997 defines an employee share scheme as:

83A - 10(2) An employee share scheme is a scheme under which ESS interests in a company are provided to employees, or associates of employees, including past or prospective employees of:

(a) the company, or

(b) subsidiaries of the company

in relation to the employees employment.

The entity has stated that it will grant ESS interests (comprising Performance Rights) to the participants of its Plan. The ESS interests offered to participants in the Plan are offered at a discount and are in connection with the participant's employment.

It is accepted that the Incentive Plan described in this private ruling comprises an employee share scheme and incorporates the use of an EST that is an employee share trust within the meaning of subsection 130-85(4) of the ITAA 1997.

Accordingly, the acquisition of ESS interests pursuant to the Incentive Plan will not be subject to fringe benefits tax on the basis that it is part of an employee share scheme and thereby excluded from the definition of 'fringe benefit' pursuant to subsection 136(1) of the FBTAA.

The provision of shares arising form the exercise of rights

Subsection 83A - 20(2) of the ITAA 1997 provides:

83A-20(2) However, this subdivision does not apply if the ESS interest is a beneficial interest in a share that you acquire as a result of exercising a right, if you acquired a beneficial interest in the right under an employee share scheme.

Essentially, this means that the entity's shares granted under the Incentive Plan, to satisfy Performance Rights exercised, are not ESS interests acquired under an employee share scheme. Consequently, the acquisition of the shares (as a result of exercising the Performance Rights) is not excluded from being a fringe benefit by virtue of the definition of fringe benefit in subsection 136(1) of the FBTAA.

However, for a benefit to be a fringe benefit, it must be provided in respect of the employment of the employee.

The meaning of the phrase 'in respect of' was considered by the Full Federal Court in J & G Knowles & Associates Pty Ltd v. Federal Commissioner of Taxation (2000) 96 FCR 402; 2000 ATC 4151; (2000) 44 ATR 22. The court at ATC 4158 said:

Whatever question is to be asked, it must be remembered that what must be established is whether there is a sufficient or material, rather than a, casual connection or relationship between the benefit and the employment.

The situation is similar to that which existed in FC of T v. McArdle 89 ATC 4051; (1988) 19 ATR 1901 where an employee was granted valuable rights in respect of his employment which he subsequently surrendered in return for a lump sum payment. The Full Federal Court noted that what had occurred under the surrender agreement was not the granting of a valuable benefit, but the exploitation of rights received from the employer in previous years.

When an employee accepts to participate in the Incentive Plan, they obtain a right to acquire a beneficial interest in a share in the entity and this right constitutes an ESS interest. When this right is subsequently exercised, any benefit received would be in respect of the exercise of the right, and not in respect of employment.

Therefore, the benefit that arises to an employee upon the exercise of Performance Rights under the Incentive Plan will not give rise to a fringe benefit as a benefit has not been provided in respect of the employment of the employee.

Question 6

Detailed Reasoning

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

(ha) a benefit constituted by the acquisition of money or property by an employee share trust (within the meaning of the Income Tax Assessment Act 1997);

An employee share trust (EST) 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 EST 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:

(a) obtaining shares or rights in a company; and

(b) ensuring that ESS interests in the company that are beneficial interests in those shares or rights are provided under the employee share scheme to employees, or to associates of employees, of:

(i) the company; or

(ii) a subsidiary of the company; and

(iii) other activities that are merely incidental to the activities mentioned in paragraphs (a) and (b).

A payment of money by the entity to the EST is therefore not subject to FBT provided that the sole activities of the trust are obtaining shares or rights to acquire shares in the entity.

Undertaking the activities mentioned in paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 will also require that the trustee undertake incidental activities that are a function of managing the option and share plans, and administering the EST.

For the purposes of paragraph 130-85(4)(c) of the ITAA 1997, ATO ID 2007/179 sets out the Commissioners views on when an employee share trust satisfies the sole activities test. In particular, the Commissioner considers that activities that are a necessary function of managing an employee share scheme and administering a trust will satisfy the sole activities test. Such activities include:

· the opening and operating 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 an 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 purpose 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.

· 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.

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

Under the Incentive Plan, the entity has established the Trust to acquire shares in the entity and to allocate those shares to employees. Therefore, paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 are satisfied because:

· The Trust acquires shares in the entity; and

· The Trust 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 Incentive Plan.

The trust is an employee share trust as defined in subsection 995-1 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 Trust 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 Trust to fund the acquisition of the entity's shares in accordance with the Trust Deed.

Question 7

Section 67 is the general anti-avoidance provision in the FBTAA. The operation of section 67 is comparable to Part IVA of the ITAA 1936, in that the section requires the identification of an arrangement, a tax benefit obtained by the employer that was the sole or dominant purpose for a person entering into the arrangement and is activated by the making of a determination by the Commissioner.

PS LA 2005/24 provides guidance on the application of section 67 of the FBTAA. Paragraphs 145-148 state:

145. Section 67 is the general anti avoidance provision in the FBTAA. The operation of section 67 is comparable to Part IVA, in that the section requires the identification of an arrangement and a tax benefit, includes a sole or dominant purpose test and is activated by the making of a determination by the Commissioner. The definition of 'arrangement' in subsection 136(1) of the FBTAA is virtually identical to the definition of 'scheme' in section 177A of Part IVA.

146. Subsection 67(1) of the FBTAA is satisfied where a person or one of the persons who entered into or carried out an arrangement or part of an arrangement under which a benefit is or was provided to a person, did so for the sole or dominant purpose of enabling an eligible employer or the eligible employer and an other employer(s) to obtain a tax benefit.

147. An objective review of the transaction and the surrounding circumstances should be undertaken in determining a person's sole or dominant purpose in carrying out the arrangement or part of the arrangement. Section 67 differs from paragraph 177D(b) in Part IVA in that it does not explicitly list the factors that should be taken into account in determining a person's sole or dominant purpose.

148 Subsection 67(2) of the FBTAA provides that a tax benefit arises in respect of a year of tax in connection with an arrangement if under the arrangement:

(i) a benefit is provided to a person

(ii) an amount is not included in the aggregate fringe benefits amount of the employer; and

(iii) that amount would have been included and or could reasonably be expected to be included in the aggregate fringe benefits amount, if the arrangement had not been entered into.

The Commissioner will only make a determination under section 67 of the FBTAA if the arrangement resulted in the payment of less FBT than would be payable but for entering into the arrangement.

In Miscellaneous Taxation Ruling MT 2021 under the heading "Appendix, Question 18" on the application of section 67, the Commissioner states:

…As mentioned in the explanatory memorandum to the FBT law, section 67 may only apply where there is an arrangement under which a benefit is provided to a person and the fringe benefits taxable amount in respect of that benefit is either nil or less than it would have been but for the arrangement…

ATO Practice Statement - Law Administration PS LA 2005/24 provides instructions and practical guidance to tax officers on the application of Part IVA and other General Anti Avoidance rules. Paragraph 151 of PS LA 2005/24 states:

151. the approach outlined in this practice statement (refer to paragraph 69 to 113) to the counterfactual and the sole or dominant purpose test in Part IVA is relevant and should be taken into account by Tax officers who are considering the application of section 67 of the FBTAA.

Under the entity's employee Incentive Plan, the benefits provided to the trustee by way of irretrievable cash contributions to the EST and to participants by way of the provision of options and shares under the Plans will not be subject to FBT. Consequently, no amount could reasonably be expected to be included in the aggregate fringe benefits amount, attributable to the scheme, if the arrangement had not been entered into. Therefore, the fringe benefits tax 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 entity in relation to a tax benefit obtained under the Incentive Plan.

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