Edited version of private advice

Authorisation Number: 1052031473882

Date of advice: 28 September 2022

Ruling

Subject: Employee share scheme

Question 1

Will Company A, as head of the income tax consolidated group (ITCG) be entitled to deduct an amount under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for irretrievable cash contributions made by Company A (or a subsidiary member of the ITCG) to the trustee (Trustee) of the Company A Group Employee Share Trust (Trust) to fund the subscription for, or acquisition on-market of, fully paid ordinary shares in Company A (Shares), to satisfy employee share scheme (ESS) interests issued pursuant to the Performance Right and Option Plan and the Share Rights Contribution Plan (Plans)?

Answer

Yes

Question 2a

Will the irretrievable cash contributions made by Company A (or a subsidiary member of the ITCG) to the Trustee of the Trust, to fund the subscription for, or acquisition on-market of, Shares by the Trustee, be deductible to Company A under section 8-1 of the ITAA 1997 at a time determined by section 83A-210 of the ITAA 1997, if the contributions are made before the acquisition of the relevant ESS interests by Participants under the Plans?

Answer

Yes

Question 2b

Will the irretrievable contributions made by Company A (or a subsidiary member of the ITCG) to the Trustee of the Trust, to fund the subscription for, or acquisition on-market of, Shares by the Trustee be deductible to Company A under section 8-1 of the ITAA 1997 in the income year when the contributions are made, if the contributions are made after the acquisition of the relevant ESS interests by Participants under the Plans?

Answer

Yes

Question 3

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 in full, any deduction claimed by Company A for the irretrievable cash contributions made to the Trust by Company A (including contributions made by a subsidiary member of the ITCG) to fund the subscription for, or acquisition on-market of Shares by the Trustee, pursuant to the Plans?

Answer

No

Question 4

Will the provision of ESS interests to employees of Company A (or a subsidiary of the ITCG) under the Plans constitute a fringe benefit within the meaning of subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Answer

No

Question 5

Will the irretrievable cash contributions made by Company A (or a subsidiary member of the ITCG) to the Trustee of the Trust, to fund the subscription for, or acquisition on-market of, Company A Shares pursuant to the Plans, constitute a fringe benefit within the meaning of subsection 136(1) of the FBTAA?

Answer

No

This ruling applies for the following periods:

Income Tax

Income Tax year ended 30 September 20XX

Income Tax year ended 30 September 20XX

Income Tax year ended 30 September 20XX

Income Tax year ended 30 September 20XX

Income Tax year ended 30 September 20XX

Fringe Benefits Tax

Fringe Benefits Tax year ended 31 March 20XX

Fringe Benefits Tax year ended 31 March 20XX

Fringe Benefits Tax year ended 31 March 20XX

Fringe Benefits Tax year ended 31 March 20XX

Fringe Benefits Tax year ended 31 March 20XX

Relevant facts and circumstances

• Company A operates a business across Australia and one other country. Company A's shares were first listed on the Australian Securities Exchange in 20XX.
• Company A is the head of an ITCG. Company B is the Australian employing entity (Employing Entity) of the ITCG and is a 100% subsidiary of Company A and a member of the ITCG. The Employing Entity employs staff and makes contributions to Company A in relation to their employees who participate in the Plans.

The Plans

• As part of its strategy to attract, retain and motivate key staff, Company A operates the Plans for eligible employees of the ITCG.
• Company A operates 3 equity plans:

-       The Performance Right and Option Plan

-       The Share Rights Contribution Plan (Contribution Plan)

-       The Employee Share Acquisition Plan

• This Ruling applies to the Performance Right and Option Plan and the Contribution Plan (Plans).

Performance Right and Option Plan

• Participants are granted performance rights (Rights) and/or options (Options) to acquire Shares (or cash of equivalent value).
• Participants' Rights may vest subject to the achievement of performance and/or service conditions, and on vesting may be exercised at no cost. Upon the valid exercise of Rights, participants are allocated one fully paid Share for each Right exercised (or cash of equivalent value).
• Participants' Options may be either immediately vested or may vest subject to the achievement of performance and/or service conditions. Upon vesting, Options may be exercised by participants at the prescribed exercise price. Once Options are validly exercised and the prescribed exercise price is paid, participants are allocated one Share (or cash of equivalent value) for each Option exercised.
• Where the grant terms allow, vested Options may be satisfied at the discretion of the Board by the allocation of a 'net' number of Shares equivalent in value to the gain that would be realised by the participant (in excess of the Options' exercise price) if the Options were exercised in full and all the Shares immediately sold at the prevailing market price.
• Where such 'net settlement' is not provided for in the grant terms, the Board may in its discretion determine to offer net settlement to participants when vested Options are to be exercised to allow participants to acquire the 'net' number of Shares in respect of the vested Options without payment of the prescribed exercise price.
• Awards will only vest once the Board, in its discretion, determines any relevant conditions have been satisfied. Provided such discretion was stated in the Invitation Letter, vested, or exercised awards, as relevant, may be satisfied, at the discretion of the Board, in cash rather than Shares, by payment to the participant of the cash equivalent amount.
• The Trust will be used to facilitate the satisfaction of future grants under the Performance Right and Option Plan
• Rights and Options do not carry dividend and voting rights. As soon as practical after vesting and compliance with the exercise procedure, the Board must procure the transfer of Shares to the participant in satisfaction of the vested and exercised Rights and Options.
• Unless otherwise specified in the invitation, a Right or Option will lapse on the earliest to occur of:

a)    The expiry date;

b)    An event described in any of the rules, and

c)    Failure to satisfy the vesting conditions by the end of the vesting period

Contribution Plan

• Participants are granted Rights in return for contributing an agreed dollar amount or percentage of pre- or post-tax remuneration (as applicable). Rights may vest, and Shares are allocated, subject to the achievement of applicable conditions (if any) and compliance with the applicable exercise procedure.
• The Trust will be used to facilitate the satisfaction of grants under the Contribution Plan.
• Rights do not carry dividend or voting rights. As soon as practical after vesting and compliance with the exercise procedure, the Board must procure the transfer of Shares to the participant in satisfaction of the vested and exercised Rights.
• Unless otherwise specified in the invitation letter, a Right will lapse on the earliest to occur of:

a)    The expiry date;

b)    A relevant event described in any of the rules; and

c)    Failure to satisfy the vesting conditions by the end of the vesting period

Employee Share Trust

• Company A established the Trust in 20XX under the terms of the Company A Group Employee Share Trust Deed (Trust Deed), with the Trustee, to facilitate the acquisition, holding of, and allocation of Shares to participants in accordance with employee equity plans that the Company A operates from time to time (including the Plans).
• Company A (or any other member of the ITCG) cannot be a beneficiary of the Trust.
• Company A makes contributions to the Trust for the purposes of funding the acquisition of Shares once awards have been granted or offers to be allocated Shares have been made to a participant.

Obligations of the Trustee

• Under the Trust Deed, the activities of the Trustee are to:
  • acquire and hold Shares for the purpose of providing them to participants of the Plans on vesting of awards or to make a grant of Shares; and
  • administer the Trust

Allocating Shares to the Trust

• Under the terms of the Trust Deed, Company A instructs the Trustee to subscribe for, purchase or allocate a number of Shares specified in the notice. This instruction may occur at any time, depending on Company A's capital management strategy.
• The Trustee, in accordance with instructions received and pursuant to the Trust Deed acquires, delivers, and allocates Shares to participants provided that the Trustee receives sufficient payment from Company A to subscribe for or purchase Shares and/or has sufficient unallocated Shares available in the Trust.
• In respect of awards subject to vesting conditions, no interest in the Shares will arise until vesting conditions are met.
• Company A makes irretrievable contributions to the Trust as required under the Trust Deed.

Contributions to the Trust

• All funds received by the Trustee from Company A (or the subsidiary members of the ITCG) constitute accretions to the corpus of the Trust and no participant is entitled to receive a distribution of or from such funds. The funds are not returned or repayable to Company A or any member of the ITCG, except where they are used for subscribing for Shares in Company A.
• The Trustee is not permitted to acquire any Share or deliver any Share to any participant, if to do so would contravene applicable law (including rules around insider trading) or would not be consistent with the operation of the Plans. Generally, the Trustee is not permitted to carry out activities that are not matters or things which are necessary or expedient to administer and maintain the Trust. It is not permitted to carry out activities which result in the participants being provided with additional benefits other than the benefits that arise under the Trust Deed.
• Company A or any member of the ITCG are not beneficiaries under the Trust Deed and any funds Company A contributes to the Trust, other than specifically in the form of a loan, are not refunded, repaid or returned to the Company A(or any member of the ITCG) other than by way of the Trustee paying the issue price where it subscribes for Shares in the Taxpayer.
• Company A (or any member of the ITCG) has no interest in the Shares held by the Trust.
• Where Options or Rights to Participants are settled by payment of cash equivalent amount, such payments will not be made by the relevant ITCG member, and not from the corpus or income of the Trust.

Reasons for decision

This is to explain how we reached our decision. This is not part of the private ruling.

Unless specified otherwise, all legislative references are to the Income Tax Assessment Act 1997

Questions 1, 2a, 2b and 3 - application of the single entity rule in section 701-1 of the ITAA 1997

The consolidation provisions of the ITAA 1997 allow certain groups of entities to be treated as a single entity for income tax purposes. Under the single entity rule (SER) in section 701-1 of the ITAA 1997, the subsidiary members of a consolidated group are taken to be parts of the head company. Consequently the subsidiary members cease to be recognised as separate entities during the period that they are members of the consolidated group with the head company of the group being the only entity recognised for income tax purposes.

Because of the SER, the actions and transactions of the subsidiary members of the consolidated group are treated, for income tax purposes, as having been undertaken by Company A as the head company of the ITCG.

Questions 4 and 5

The SER in section 701-1 of the ITAA 1997 has no application to the FBTAA. The Commissioner has therefore provided a ruling to the relevant entities in their capacity as the employer/employing entity providing benefits to employees in relation to questions 4 and 5.

Question 1

Subsection 8-1(1) will allow you to deduct from your assessable income any loss or outgoing to the extent that it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income. However, pursuant to subsection 8-1(2), you cannot deduct a loss or outgoing to the extent that it is a loss or outgoing of capital, or of a capital nature.

Company A carries on a business where employee salary and wage costs are necessarily incurred in the carrying on of this business. Company A operates an employee share scheme (ESS) as part of its remuneration strategy.

Under the Plans, Company A grants Options or Rights to employees and makes irretrievable contributions to the Trust (in accordance with the Plan Rules and the Trust Deed) which the Trustee will use to acquire Shares (either on-market or by subscription) for allocation to Participants to satisfy their Options or Rights.

Incurred in carrying on a business

Company A (including any member of its corporate group) (Corporate Group) must provide the Trustee with all the funds required to act as requested by Company A.

The contributions made by Company A are irretrievable and non-refundable to the Corporate Group in accordance with the Deed as:

• On termination of the Trust, Company A and any member of the Corporate Group do not have any entitlement to any part of the Trust Fund, including any shares that form part of the Trust Fund, at any time and
• Company A may not acquire any interest in the capital (or corpus) or be entitled to any Income of the Trust Fund.

Company A has granted (and will in the future grant) Rights or Options under the Plans as part of its remuneration and reward program for Participants. The costs incurred by Company A for the acquisition of shares to satisfy Rights or Options arise as part of these remuneration arrangements, and contributions to the Trust are part of an on-going series of payments in the nature of remuneration of its employees.

Not capital or of a capital nature

The costs will be an outgoing incurred for periodic funding of a bona fide employee share scheme for employees of Company A. Costs incurred are likely to be in relation to more than one grant of awards made under the Plans (rather than being one-off), and Company A intends to satisfy outstanding obligations under the Plans using Shares acquired by the Trust. This indicates that the irretrievable contributions to the Trust are ongoing in nature and are part of the broader remuneration expenditure of Company A.

While the contributions may secure an enduring or lasting benefit for the employer that is independent of the year-to-year benefits that the employer derives from a loyal and contented workforce, that enduring benefit is sufficiently small. Therefore, the payments are not capital, or of a capital nature.

Accordingly, Company A as head of the ITCG will be entitled to deduct an amount under section 8-1 for irretrievable cash contributions it makes to the Trustee of the Trust to acquire shares in Company A to satisfy ESS interests issued pursuant to the Plans.

Question 2a

In respect of the contribution provided to the trust to purchase shares that is more than the number required to grant the relevant Options or Rights to the employees arising in the year of income from the grant of Options, Section 83A-210 applies to determine the timing of the deduction. Further information is available in ATO Interpretative Decision ATO ID 2010/103 Income Tax Employee share scheme: timing of deduction for money provided to the trustee of an employee share trust.

The Contribution Plan is an employee share scheme for the purposes of subsection 83A-10(2) as it is a scheme under which ESS interests (i.e. a beneficial interest in a right to acquire a beneficial interest in a share) are provided to employees (i.e., Participants) in relation to their employment with Company A.

The Performance Right and Option Plan is also an employee share scheme for the same reasons as described above, however, it also includes securities that can be cash settled. These are discussed below under indeterminate rights.

These Plans contain a number of interrelated components which includes the provision of irretrievable cash contributions by Company A to the Trustee of the Trust. These contributions enable the Trustee to acquire Shares for the purpose of enabling each Participant to acquire ESS interests as per the Plans.

The irretrievable cash contribution can only be deducted from the assessable income of Company A in the income year when the relevant beneficial interest in a share in Company A, or beneficial interest in a right to a beneficial interest in a share in Company A, is acquired by a Participant under the Plans.

Indeterminate rights

Rights and Options granted under the Performance Right and Option Plan can be indeterminate rights for the purposes of section 83A-340. That is because, where the invitation indicates, the right can be settled by either a Share or making a payment of a cash equivalent amount. In this circumstance, the Right or Option is not a right to acquire a beneficial interest in a share unless and until the time when the Board determines it will be satisfied by the provision of a Share.

Once it is determined that it will be satisfied by provision of a Share, section 83A-340 operates to treat these Rights or Options as though they had always been rights to acquire beneficial interests in shares.

If irretrievable contributions are provided to the Trustee before these Rights or Options are acquired (and they do subsequently become ESS interests), then section 83A-340 operates to deem the Rights to always have been ESS interests. Where this occurs, section 83A-210 will apply (retrospectively) to modify the timing of the deduction claimed under section 8-1. In such a case, a deduction for the contribution to fund the Rights or Options would be available to Company A in the income year in which Participants acquire the Rights.

Question 2b

Consistent with the analysis in question 2(a) (above), where the irretrievable contribution is made after the acquisition of the relevant ESS interests, it will be deductible under section 8-1 in the income year in which the contribution is made by Company A or subsidiary member of the ITCG.

Question 3

Part IVA of the ITAA 1936 is a general anti-avoidance provision which gives the Commissioner the power 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.

The Commissioner generally accepts that a general deduction may be available where an employer provides money or other property to an employee share trust where the conditions of Division 83A are met.

In this case, the scheme does not contain the elements of artificiality or unnecessary complexity and the commercial drivers sufficiently explain the entry into the use of the EST arrangement.

Therefore, having regard to the eight factors set out in subsection 177D(2) of the ITAA 1936, the Commissioner has concluded that the scheme is not being entered into or carried out for the dominant purpose of enabling Company A to obtain a tax benefit.

Question 4

An employer's liability to fringe benefits tax (FBT) arises under section 66 of the Frings Benefits Tax Assessment Act 1986 (FBTAA), which provides that tax is imposed in respect of the fringe benefits taxable amount of an employer for the relevant year of tax.

In general terms, a 'fringe benefit' is defined in subsection 136(1) of the FBTAA 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 subsection 136(1) of the FBTAA excludes the following from being a 'fringe benefit':

(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 83A-B or 83A-C of that Act applies;

The Commissioner accepts that the Plans are employee share schemes. Specifically, the awards provided under the Plans are ESS interests and that Subdivision 83A-B or 83A-C applies to those ESS interests as they are provided at a discount.

Accordingly, the provision of Rights and Options under the Plans will not be subject to FBT on the basis that they are acquired by Participants under an employee share scheme (to which Subdivision 83A-B or 83A-C will apply) and are thereby excluded from being a fringe benefit by virtue of paragraph (h) of the definition of a fringe benefit in subsection 136(1) of the FBTAA.

In addition, when a Right or Option is later exercised, it will not give rise to a fringe benefit as any benefit received (being the provision of an ordinary share in Company A) would be in respect of the exercise of the Option or Right and not in respect of employment (refer ATO Interpretative Decision ATO ID 2010/219 Fringe Benefits Tax Fringe benefit: shares provided to employees upon exercise of rights granted under an employee share scheme).

Indeterminate rights under the Plans

At the time the Rights or Options are granted under the Plans, it may be unclear if paragraph (h) of the definition of fringe benefit in subsection 136(1) of the FBTAA applies because those Rights or Options may be satisfied in cash instead of Shares. Hence, they may not be ESS interests within the meaning of subsection 83A-10(1).

However, where the Rights or Options are ultimately satisfied with Shares instead of cash, the indeterminate rights will, pursuant to section 83A-340, be treated as if they had always been ESS interests. In these circumstances, they will constitute the acquisition of ESS interests acquired under an ESS within the meaning of subsection 83A-10(2) to which Subdivision 83A-C applies. Accordingly, the Rights and Options that are satisfied with Shares will be excluded from the definition of a fringe benefit by paragraph 136(1)(h) of the FBTAA.

Where an employee's indeterminate rights are ultimately satisfied with cash instead of Shares, the granting of the Rights and Options will be viewed as a series of steps in the payment of salary or wages; and not a separate benefit to the payment of salary or wages which are excluded from the definition of a fringe benefit by paragraph 136(1)(f) of the FBTAA.

This outcome is consistent with ATO Interpretative Decision ATO ID 2010/142 Fringe Benefits Tax Employee share scheme: indeterminate rights not fringe benefits.

Question 5

One benefit excluded from being a 'fringe benefit', pursuant to paragraph (ha) of subsection 136(1) of the FBTAA, is a benefit constituted by the acquisition of money or property by an employee share trust within the meaning of the ITAA 1997.

In examining whether the requirements of subsection 130-85(4) are met, it is the activities of the trustee in relation to a particular trust that is relevant. To qualify as an employee share trust, a trustee's activities must be limited to those described in paragraphs 130-85(4)(a), (b) and (c).

Paragraph 130-85(4)(a) and (b) are satisfied because:

• The Trust acquires shares in a company, namely Company A and
• The Trust ensures that ESS interests as defined in subsection 83A-10(1) (being options/rights/shares in Company A) are provided under an employee share scheme (as defined in subsection 83A-10(2)) by allocating those shares to the employees in accordance with the Deed and the Plans.

Paragraph 130-85(4)(c) provides that a trustee can engage in activities that are merely incidental to those described in paragraphs 130-85(4)(a) and (b). The phrase 'merely incidental' takes its ordinary meaning, with further guidance drawn from the context and purpose of the legislation in which it appears. 'Merely incidental' is not defined in the legislation and has not been judicially considered in the context of subsection 130-85(4). The Macquarie Dictionary defines 'merely' to mean 'only as specified, and nothing more'. 'Incidental' is defined as 'happening or likely to happen in fortuitous or subordinate conjunction with something else'.

The Commissioner's views on the types of activities that are merely incidental and not merely incidental are set out in Draft Taxation Determination TD 2019/13: Income tax: what is an 'employee share trust'?

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 to be merely incidental.

In the present case, the Trust is in line with the definition of an employee share trust under section 130-85(4) because:

• The Trust acquires shares in a company, namely Company A
• The sole purpose of the Trust is the acquisition, holding, and ongoing administration of holding Company A shares under the Plans for the benefit of the Participants and the Commissioner accepts that the other activities undertaken by the Trustee will be merely incidental to this purpose 130-85(4)(c)
• The Trust ensures that ESS interests as defined in subsection 83A-10(1) are provided under an employee share scheme (as defined in subsection 83A-10(2)) by allocating those shares to the employees in accordance with the Trust Deed and the Plans
• the Trust Deed indicates that the Taxpayer and the Trustee agree the Trust will be managed and administered so that it satisfies the definition of 'employee share trust' for the purpose of subsection 130-85(4).

Therefore, the cash contribution made by Company A or any subsidiary member of the ITCG to fund the subscription for or acquisition on-market of Company A shares by the Trust will not be a fringe benefit.

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