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Edited version of private advice

Authorisation Number: 1051566902526

Date of advice: 14 August 2019

Ruling

Subject: Early stage innovation company qualification

Question

Does the company meet the criteria of an Early Stage Innovation Company (ESIC) under subsection 360-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

1.    The company was incorporated in the 20XX income year. Its equity interests are not listed for quotation in the official list of any stock exchange. The company has no subsidiaries.

2.    For the income years ended 30 June 20XX and 20XX and 20XX the company's expenditure is not expected to exceed $1 million.

3.    In the previous income year, i.e. the year ended 30 June 20XX, the company did not derive assessable income.

4.    The company received a private ruling for the year ended 30 June 20XX that they were an ESIC on the basis that they passed the principles based test in respect of the product.

5.    The details of the development were included in the 'Relevant facts and circumstances' of the year ended 30 June 20XX ruling.

6.    Shortly after the ruling issued the company's circumstances changed. This delayed the development of the product.

7.    It is estimated that the company has months of development ahead, with the product expected to launch at the end of the 20XX income year.

8.    In addition to the above, The company has taken the following steps towards commercialisation:

  1. Raising funds to employ more staff.
  2. Networks have been established to assist in rolling out the product.

Information provided

9.    You have provided information in a number of documents and emails including:

a.       your original private ruling application

b.       your new private ruling application

c.       your emails

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

Relevant legislative provisions

Income Tax Assessment Act 1997 Subdivision 360-A

Income Tax Assessment Act 1997 section 360-40

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise stated.

Summary

The company meets the eligibility requirements of an ESIC under, subsection 360-40(1).

Detailed reasoning

Qualifying Early Stage Innovation Company

1.     Subsection 360-40(1) outlines the criteria required for a company to qualify as an Early Stage Innovation Company (ESIC) at a particular time in an income year. This time is referred to as the test time. The criteria are based on a series of tests to identify if The company is at an early stage of its development and it is developing new or significantly improved innovations to generate an economic return.

'The early stage test'

2.     The early stage test requirements are outlined in detail within paragraphs 360-40(1)(a) to (d).

Incorporation or Registration - paragraph 360-40(1)(a)

3.     To meet the requirement in paragraph 360-40(1)(a), at a particular time (the test time) in an income year (the current year) The company must have been either:

                 i.       incorporated in Australia within the last three income years (the latest being the current year); or

                ii.       incorporated in Australia within the last six income years (the latest being the current year), and across the last three of those income years The company and its 100% subsidiaries incurred total expenses of $1 million or less; or

               iii.       registered in the Australian Business Register (ABR) within the last three income years (the latest being the current year).

4.     The term 'current year' is defined in subsection 360-40(1) with reference to the 'test time'; the 'current year' being the income year in which The company issues shares to the investor.

5.     A company that does not meet any of these conditions will not qualify as an ESIC.

Total expenses - paragraph 360-40(1)(b)

6.     To meet the requirement in paragraph 360-40(1)(b), The company and its 100% subsidiaries must have incurred total expenses of $1 million or less in the income year before the current year.

Assessable income - paragraph 360-40(1)(c)

7.     To meet the requirement in paragraph 360-40(1)(c), The company and its 100% subsidiaries must have derived total assessable income of $200,000 or less in the income year before the current year.

No stock exchange listing - paragraph 360-40(1)(d)

8.     To meet the requirement in paragraph 360-40(1)(d), The company must not be listed on any stock exchange in Australia or a foreign country.

Innovation tests

9.     If The company satisfies the early stage test, The company must also satisfy one of two innovation tests: the objective (100 point) test or the principles-based test.

''Principles-based test' - subparagraphs 360-40(1)(e)(i) to (v)

10.  To satisfy the principles-based test, The company must meet five requirements in paragraph 360-40(1)(e). This is tested at a time immediately after the relevant new shares are issued to the investor.

11.  The company can demonstrate that it meets each requirement through existing documentation such as a business plan, commercialisation strategy, competition analysis or other company documents. The company must be able to show that tangible steps have been or will be taken in relation to each of the requirements.

12.  The five requirements of the principles-based test, as outlined in paragraph 360-40(1)(e) are:

                 i.       The company must be genuinely focused on developing one or more new or significantly improved innovations for commercialisation

                ii.       the business relating to that innovation must have a high growth potential

               iii.       The company must demonstrate that it has the potential to be able to successfully scale up the business relating to the innovation

              iv.       The company must demonstrate that it has the potential to be able to address a broader than local market, including global markets, through that business, and

               v.       The company must demonstrate that it has the potential to be able to have competitive advantages for that business.

Application to your circumstances

Test time

13.  For the purposes of this ruling, the test time for determining if the company is a qualifying ESIC will be a particular date during the income year ending 30 June 20XX.

Current year

14.  For the purposes of subsection 360-40(1), the current year will be the year ending 30 June 20XX (the 20XX income year).

Early stage test

Incorporation or Registration - paragraph 360-40(1)(a)

15.  As the company was incorporated in the 2017 income year, which is within the last 6 income years, subparagraph 360-40(1)(a)(ii) is satisfied if the incurred expenses for the last three income years (including the current year) being the years ending 30 June 20XX, 20XX and 20XX is $1 million or less.

16.  For the income years ended 30 June 20XX and 20XX and 20XX The company's expenditure is not expected to reach $1 million.

17.  The company will satisfy subparagraph 360-40(1)(ii) until such time that its total expenditure over the 20XX, 20XX and 20XX income years exceeds $1 million. Once the expenditure exceeds this, the company will no longer satisfy the conditions of this paragraph.

Total expenses - paragraph 360-40(1)(b)

18.  As the company had expenses of $1 million or less in the prior income year, paragraph 360-40(1)(b) is satisfied.

Assessable income - paragraph 360-40(1)(c)

19.  As the company's assessable income in the prior income year (the 2019 income year) is $200,000 or less paragraph 360-40(1)(c) is satisfied.

No stock exchange listing - paragraph 360-40(1)(d)

20.  As the company is privately owned and is not listed on any stock exchange in Australia or a foreign country, subparagraph 360-40(1)(d) is satisfied.

Conclusion on early stage test

21.  The company will satisfy the early stage test for the entire 20XX income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied.

Principles based test

22.  In the ruling previously issued we concluded that the company passed the principles based test in respect of the product they are developing. While the product is still being 'developed' they will continue to satisfy the principle based test.

23.  The ruling application provided an outline of the progress made since the ruling for the year ended 30 June 20XX issued and details of how long they think it will take to fully develop the app. Due to a change in circumstances commercialisation of the product is now expected for late 20XX.

24.  Therefore the company meets the eligibility criteria of an ESIC under section 360-40 for the period commencing 1 July 20XX until the earlier of 30 June 20XX or the date when the product has been fully developed and is ready for use, whichever occurs earlier.

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