Edited version of your written advice

Authorisation Number: 1051380837775

Date of advice: 31 May 2018

Ruling

Subject: Early stage investors offset

Question 1

In respect of the shares issued by Company A on 10 November 201x does the Taxpayer meet the eligibility criteria for Tax incentives for early stage investors in qualifying innovation company under Subdivision 360-A of the ITAA 1997?

Answer

No

Question 2

If the answer to question 1 is yes, is the Taxpayer able to claim an offset of $X under section

360-25 of the ITAA 1997?

Answer

Not answered.

Question 3

In respect of the additional shares that will be issued by Company A by 30 June 201x does the Taxpayer meet the eligibility criteria for Tax incentives for early stage investors in a qualifying innovation company under section 360-15 of the ITAA 1997?

Answer

Yes.

Question 4

If the answer to Question 3 is yes, is the Taxpayer able to claim an offset of $X under section

360-25 of the ITAA 1997?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 201x

The scheme commences on:

10 November 201x

Relevant facts and circumstances

1. The Taxpayer is a trust.

2. Company A was incorporated on 10 November 201x with a $X investment from the Taxpayer (and three other unrelated shareholders).

3. Company A is a qualifying Early Stage Innovation Company (ESIC) for the period from 10 November 201x to 30 June 201x on the basis that it satisfied the principle-based test.

4. On Date X Company A received a ruling to advise that they were an ESIC.

5. The Taxpayer has advised that they will be investing an additional $X in Company A during the year ending 30 June 201x.

6. The Taxpayer has stated that they are not an affiliate of Company A or its directors.

7. Your tax agent advised us that the Taxpayer is not a sophisticated investor for the 201x-1x financial year.

8. Company A issued no share options to the Taxpayer during the year ending 30 June 201x.

Information provided

9. You have provided information in a number of documents and phone conversations in relation to the shareholding including:

a. your private ruling application, and

b. supplementary information.

10. We have referred to the relevant information within these documents and conversations in applying the relevant tests to your circumstances.

Relevant legislative provisions

ITAA 1997 Subdivision 360-A

Income Tax Assessment Act 1997 section 360-15

Income Tax Assessment Act 1997 subsection 360-15(1)

Income Tax Assessment Act 1997 subsection 360-15(2)

Income Tax Assessment Act 1997 subsection 360-15(3)

Income Tax Assessment Act 1997 section 360-30

Income Tax Assessment Act 1997 section 328-130

Income Tax Assessment Act 1936 section 98

Income Tax Assessment Act 1936 section 99

Income Tax Assessment Act 1936 section 99A

Further issues for you to consider

N/A

Reasons for decision

All legislative references are to the ITAA 1997 unless otherwise indicated.

Question 1

In respect of the shares issued by Company A on 10 November 201x does the Taxpayer meet the eligibility criteria for Tax incentives for early stage investors in qualifying innovation company under Subdivision 360-A of the ITAA 1997?

Answer

No

Summary

11. The Taxpayer is not entitled to the tax incentives described under subdivision 360-A of the ITAA 1997 for the shares issued by Company A on 10 November 201x.

Detailed reasoning

Background offset for members of partnership or trust and trustee of a trust

12. Subsection 360-15(2) states that a member of a trust is entitled to a tax offset for an income year if the trust would be entitled to a tax offset, under subsection (1), for the income year if the trust were an individual.

13. Once the entitlement is determined, the amount a member can claim is determined under section 360-30. If the member is entitled to a fixed proportion of any capital gain from a disposal the percentage of offset they can claim is based on that fixed proportion. Otherwise the trustee of the trust must provide the member with a written determination that will allow the member to determine the amount of offset they are entitled to.

14. A trustee of a trust is entitled to a tax offset under subsection 360-15(3) for an income year if the trustee would be entitled to a tax offset, under subsection (1), for the income year if the trustee were an individual. However for subsection subsection 360-15(3) to apply, the trustee must be liable to be assessed (or has been assessed), and is liable to pay tax, on a share of all (or a part of), the trust's net income under section 98, 99 or 99A of the Income Tax Assessment Act 1936 for the income year.

15. Regardless of whether subsection 360-15(2) or subsection 360-50(3) applies we need to treat the trust (or the trustee) as if it was an individual and determine if subsection 360-15(1) applies to the trust (or the trustee).

16. In our detailed reasoning to our answer to Question 3 we listed the criteria that need to be met by an individual under subsection 360-15(1) in order to be eligible for the offset for early stage investors.

17. One of the requirements is that the company issuing the shares must be an ESIC immediately after the relevant shares were issued.

18. Company A received a ruling that they were an ESIC on the basis that they passed the principles-based test in subsection 360-40(e). To pass this test the company must be genuinely focused of the development of their innovation for commercialisation.

19. The initial $X investment was made by the Taxpayer to become a founding shareholder and establish Company A. Therefore at the time of the founding investment Company A was not in existence and could not have been genuinely focused on developing the innovation for commercialisation. It was only after Company A became a legal entity that it could start to focus on developing the innovation even though another person may have developed the initial idea. Therefore at the time of initial $X investment Company A was not an ESIC and the Taxpayer is not entitled to claim the tax offset for the founding shares.

Question 2

If the answer to question 1 is yes, is the Taxpayer able to claim an offset of $X under section 360-25 of the ITAA 1997?

Answer

The answer to question 1 is no, therefore question 2 is not answered.

Question 3

In respect of the additional shares that will be issued by Company A by 30 June 201x does the Taxpayer meet the eligibility criteria for Tax incentives for early stage investors in a qualifying innovation company under section 360-15 of the ITAA 1997?

Answer

Yes.

Summary

20. The taxpayer is entitled to the tax incentives described under subdivision 360-A of the ITAA 1997 for the additional shares that will be issued by Company A by 30 June 201x.

Detailed reasoning

Subsection 360-15(1)

21. Under subsection 360-15(1) an individual is entitled to the offset if:

● at a particular time during the income year, a company issues them with equity interests that are shares in the company;

● the company was an ESIC immediately after that time;

● neither the individual nor the company is an *affiliate of each other at that time;

● the issue of those shares is not an acquisition of an ESS interests under an employee share scheme; and

● immediately after that time the individual did not hold more than 30% of the equity interests in the company or in an entity *connected with the company.

22. The investor must also satisfy section 360-20 to satisfy subsection 360-15(1).

23. In this case:

a. The Taxpayer was issued ordinary shares which would be an equity interest.

b. Company A issued no share options to the Taxpayer during the year ending 30 June 201x.

c. Company A was an ESIC from 10 November 201x.

d. The shares were not issued under an employee share scheme.

e. The equity interest held after 10 November 201x was 25%.

24. Therefore the only point that needs further examination is whether the Taxpayer and Company A were affiliates when the shares were issued and whether the Taxpayer also satisfies section 360-20.

Affiliates

25. The meaning of affiliate is set out in section 328-130. An individual or company is an affiliate of an entity where that individual or company acts, or could reasonably be expected to act:

a. in accordance with the entity’s directions or wishes in relation to the affairs of that individual or company’s business; or

b. in concert with the entity in relation to the affairs of the individual or company’s business.

26. Subsection 328-130(2) states that an individual or company is not your affiliate merely because of the nature of the business relationship you and the individual or company share.

27. The following factors may have a bearing on whether an individual or company is an affiliate of an entity to the extent that they show that two or more entities acting in concert:

a. family or close personal relationships;

b. financial relationships or dependencies;

c. relationships created through links such as common directors, partners, or shareholders;

d. the degree to which the entities consult with each other on business matters; or

e. whether one of the entities is under a formal or informal obligation to purchase goods or services or conduct aspects of their business with the other entity.

28. In examining the Taxpayer it is a discretionary family trust established for the benefit of the Director of the trustee company and his family group. The Director of the trustee company is sole director and sole shareholder of the trustee company. Therefore the Director of the trustee company is responsible for making all decisions for and on behalf of the Taxpayer.

29. In this case, the relationship between the Taxpayer and Company A is summarised as:

a. Company A has four directors; and one is the Director of the Taxpayer’s trustee company.

b. Company A has four unrelated shareholders; and one is the Taxpayer.

c. Each shareholder holds an equal proportion of ordinary shares in Company A.

d. The Taxpayer is a founding member of Company A with an initial investment of $25 (25% of the total).

e. Upon incorporation of Company A the Taxpayer was appointed as a Director, by themselves in their capacity as sole director and sole shareholder of the trustee company to represent the Taxpayer’s 25% interest in Company A.

f. All shareholder and board resolutions for Company A are passed by simple majority unless a separate shareholder resolution (of 75% of shareholder votes) is required by law, under the Corporations Act 2001.

g. The constitution of Company A indicates that:

i. The directors must elect one of their number as chairman of their meetings.

ii. Questions arising at a meeting of directors are determined by a majority of votes of the members present and voting.

iii. The chairman of a meeting of directors has the casting vote (in addition to their own vote).

iv. A director may, with the approval of the other directors, appoint a person (whether a member of the company or not) to be an alternate director in his or her place during such a period as they think is suitable. The alternate director is entitled to attend meetings and vote.

30. As a Director of both the trustee company and Company A you could not conclude that when the Director of the trustee company is making a business decision as a Director of Company A he is acting independently. When making decisions in his capacity as a Director of Company A the Director of the trustee company is equally acting in his capacity as the controlling individual of the trustee company.

31. However the Taxpayer only controls 25% of Company A and at least two other Directors need to agree on business decisions for them to be passed in Company A.

32. In examining the above factors there is no indication that Company A would act, or reasonably be expected to act, in accordance with the Director of the trustee company’s directions or wishes in relation to the affairs of the business of Company and vice versa.

33. In this case, prior to the additional shares being issued Company A is being effectively controlled evenly by the four shareholders.

34. Therefore the Taxpayer and Company A are not affiliates of each other.

Section 360-20

35. Section 360-20 placed restrictions to the amount certain kinds of investors can invest in ESICs and still be entitled to the offset.

36. In effect an investor who is not a 'sophisticated investor' under the Corporations Act 2001, will not be entitled to the offset if their total investment across all ESIC’s is more than $50,000 in the income year.

37. In this case you have advised that the Taxpayer is not a sophisticated investor so section 360-20 applies. You also advised that their investment will be at least $X and no more than $X in this income year. So section 360-20 would not have applied as the total investment has not exceeded $50,000.

38. However if the Taxpayer has invested in other ESICs in the year the total investment in all companies is more than $50,000 then the Taxpayer would not be eligible for the offset.

Question 4

If the answer to Question 3 is yes, is the Taxpayer able to claim an offset of $X under section 360-25 of the ITAA 1997?

Answer

Yes.

Summary

The Taxpayer is seeking a ruling to determine her eligibility to claim an offset under section 360-25 of the ITAA 1997.

Detailed reasoning

Section 360-25 of the Income Tax Assessment Act 1997 (ITAA 1997)

39. If subsection 360-15(1) applies, the amount of the *tax offset is 20% of the total amount paid for the *shares to which paragraph 360-15(1)(b) applies.

40. Note: If subsection 360-15(1) applies for shares issued to you at several times during the income year, then this subsection uses the total amount paid for all of those shares.

Subsection 360-25(2)

41. However, reduce this amount to the extent necessary to ensure that the sum of the following does not exceed $200,000:

(a) the sum of the *tax offsets under this Subdivision for the income year for which you and your *affiliates (if any) are entitled;

(b) the sum of the tax offsets under this Subdivision that you and your affiliates (if any) carry forward to the income year.

42. If Subsection 360-25(2) applies to the Taxpayer’s circumstances it is up to the Taxpayer and their affiliate investors to determine who gets the offset.

43. Setting aside possible investments by affiliates of the Taxpayer as we concluded that the Taxpayer would be entitled to the offset the amount of offset available to them for the $X investment is $X.

44. If subsection 360-15(3) applies and the trustee is liable to pay tax in the income year then the trustee rather than the beneficiaries can claim the offset.

45. If subsection 360-15(2) applies then in order for the beneficiary to claim the offset subsection 360-40 requires the trustee to provide to the relevant beneficiary with a written notice of their share of tax offset. This notice must include information to enable the member to work out their share of the tax offset and it must be given to the member by 30 June 201x (or at a later date if the Commissioner allows).

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