Edited version of your written advice

Authorisation Number: 1013015517519

Date of advice: 3 June 2016

Ruling

Subject: Employee Share Scheme

Issue 1 - Fringe Benefits Tax

Question 1

Are the contributions of funds made by the Employer to the Employee Share Scheme Trust ('Trust') fringe benefits for the purpose of the Fringe Benefits Tax Assessment Act 1986 ('FBTAA')?

Answer

No

This ruling applies for the following period<s>:

Year ended March 20YY

The scheme commences on:

April 20XX

Issue 2 - Deduction for irretrievable cash contributions

Question 1

Are the irretrievable contributions made by the Employer to the Trust to enable the Trust to acquire shares, by subscribing for those shares or purchasing them on market, allowable income tax deductions to the Employer under section 8-1 of the Income Tax Assessment Act 1997 ('ITAA 1997')?

Answer

Yes

Question 2

Is the deduction for the Employer in respect of the irretrievable contributions to the Trust allowed in the year of income when the contribution is made to the Trust, provided it is in respect of rights to acquire shares that have previously been granted to employees?

Answer

Yes

This ruling applies for the following period<s>:

Year ended 30 June 20YY

The scheme commences on:

1 July 20XX

Issue 3 - Part IVA

Question 1

Will Part IVA of the Income Tax Assessment Act 1936 ('ITAA 1936') apply to the arrangement whereby irretrievable contributions are made by the Employer to the Trust to enable the Trust to acquire shares, either by subscribing for those shares or purchasing them on market?

Answer

No

This ruling applies for the following period<s>:

Year ended 30 June 20YY

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The Employer is an Australian listed company, which is engaged in developing and selling residential land. Its operations also include the development, construction and sale of house and land packages.

The Employer has established two employee share plans, the Option Plan and the Executive Long Term Incentive Plan, collectively the 'The Employee Share Schemes' ('the Plan').

The Employee Share Schemes ('the Plan')

Under the Option Plan, senior executives are provided with options (being a right to acquire shares in the future at an agreed exercise price) subject to vesting conditions.

Under the Executive Long Term Incentive Plan, senior executives are provided with performance rights (being a right to acquire shares in the future at no cost) subject to vesting conditions.

The Plan, with the participation of the Trustee, will at all times be operated in accordance with the requirements of Division 83A of the Income Tax Assessment Act 1997 ('ITAA 1997').

Employee Share Scheme Trust ('the Trust')

In order to facilitate the Plan, the Employer has established the Employee Share Scheme Trust ('the Trust') by way of a declaration of trust by the Trustee on a specific date. Parties to the Employee Share Scheme Trust Deed ('the Trust Deed') are the Employer and the Trustee.

The stated purpose of the Trust is to obtain ordinary shares of the Employer for the benefit of participating senior executives, through which it subscribes for, acquires, allocates, holds and delivers shares in the Employer under the Plan. The Trust also intends to facilitate the requirements of any future equity plans to be implemented by the Employer. Pursuant to clause 4.2 of the Trust Deed, the Trust must, at all times, be managed and administered so as to satisfy the Sole Activities Test and the definition of 'employee share trust' for the purposes of section 130-85(4) of the ITAA 1997.

Use of an Employee Share Trust to facilitate the Plan

The Employer provides the following reasons for implementing the Plan by way of the Trust:

• the Trust provides employees with the knowledge that the shares, and any incidental dividend income or associated rights, are held independently of the Employer and the trustee has a fiduciary obligation to act in the interests of its beneficiaries, i.e. The employees;

• the Trust can enable the shares to be acquired progressively over time either on-market or by subscription;

• The Employer can manage its costs and share capital position by having the Trust acquire shares to hold on executives' behalf for a period of time, before the executives meet the vesting criteria and become entitled to the shares. If the executives do not meet the vesting criteria, the Trust can reallocate the shares to back future grants;

• the Trust provides the opportunity to improve cash flow planning as the Employer can make contributions to the Trust periodically throughout the vesting period, thus giving the Employer the flexibility to determine the most appropriate time to make contributions;

• the Trust is the most appropriate vehicle to be used to acquire shares and accumulate dividend income during the vesting period for the purpose of acquiring further shares, meeting the costs of the plan or distributing dividends to employees;

• the Trust enables easier administration of the Employee Share Schemes.

• the Trust provides the flexibility that the Employer requires for its capital management and cash flow purposes including the ability for shares to be acquired progressively for employees over the vesting period;

• the Trust provides the opportunity to distribute dividends to employees (including those who hold rights to acquire shares that will not vest until future years); and

• the current Plan proposal gives the Trustee the alternative of receiving funds from the Employer and subscribing for shares, or purchasing the shares on market, as well as distributing dividends to beneficiaries prior to the rights vesting

Operation of the Trust

The Trust broadly operates as follows:

• The Trust is funded by cash contributions from the Employer to be used for the purchase of shares in accordance with the Trust Deed, the relevant Plan Rules and/or the relevant Terms of Participation, such that the shares can be provided to employees of the Employer in satisfaction of any share or right grant (Clause 6.7 of the Trust Deed).

• These funds will be used by the Trustee to acquire shares in the Employer either on-market or via a subscription for new shares in the Employer (Clause 4.1.2 of the Trust Deed), based on written instructions from the Employer (Clause 6.1 of the Trust Deed).

• The structure of the Trust and the Plan are such that shares allocated on exercise of Options or Performance Rights post vesting will be held by the Trustee. At the direction of the Participant, the shares may be sold by the Trustee or transferred into the name of the Participant (Clause 12 of the Trust Deed).

• The Trustee shall hold all the shares acquired on capital account, and be registered as the legal owner of the shares at any time.

• Clause 3.2.1 of the Trust Deed states that each Participant will be absolutely entitled to shares held by the Trustee from the time the Trustee allocates shares on their behalf as a result of the Participant exercising their Options or Performance Rights.

• Pursuant to clause 4.1 of the Trust Deed, the Trustee has all powers that are legally permissible for the Trustee to exercise, including the power to establish and/or support the employee share plan. Further, the Trustee can exercise its discretion to distribute any capital receipts, dividends, distributions or other entitlements received in respect of any shares to beneficiaries of the Trust.

• The Trust Deed limits the Trustee to be bound by any applicable law with respect to the offer, issue or acquisition of any share or any right to any share (Clause 4.4 of Trust Deed). Similarly, the Trustee is not permitted to carry out activities which are not necessary to maintaining the Trust for its sole purpose.

• Clause 4.2 of the Trust Deed provides that the Trust be managed so that it satisfies the legislated sole activity test. Recital B to the Trust Deed also states that the Employer wishes to establish a trust for the sole purpose of obtaining shares for the benefit of Participants.

• Clause 4.5 of the Trust Deed allows for separate cash contributions to be made by the Employer to the Trustee for the purpose of remuneration.

• Clause 12.1 of the Trust Deed provides for the sale of Shares held by the Trustee on behalf of Participants. From the proceeds of sale paid to the Participant, sale costs will first be applied. Clause 12.2 provides for the transfer of Shares to a Participant when required to do so under the Plan, if the Trust is terminated or at the Board's discretion.

Contributions to the Trust

The Employer submitted that it would make initial contributions to the Trust commencing in 20YY, with the expectation that the first potential vesting of ESS interests will occur later that year.

In respect of the potential vesting in 20YY and subsequent years, the Employer submitted that it would make further contributions to the Trust prior to the vesting date to ensure an appropriate number of shares are held to satisfy the exercise of the respective rights. Additional options and performance rights granted under the Plan will also vest in future years.

Should further contributions be required, the Employer will assess such need in accordance with the Trust Deed and the protocols (applied by the Board to the Trust for the acquisition of the shares using past and future contributions by the Employer), as follows:

• the Trust may acquire the Employer's shares as deemed appropriate and necessary by the management of the Employer;

• funds are then transferred to the Trust to enable it to acquire the Employer's shares;

• the amount of funds transferred will be determined based on an estimated forecast following a review of the quantum of outstanding unvested options and performance rights, together with consideration of the likelihood of rights vesting to determine if the Trust holds sufficient shares to satisfy future potential vesting of rights;

• the management of the Employer will review these forecasts and provide recommendations to the Board periodically;

• the Board will provide its instructions to the Trustee on how the Trustee should acquire the shares whether by way of on market purchase or subscription (Clause 6.1 of the Trust Deed);

• The Trustee will then consider the Board's instructions and having regard to its broader obligations under the Trust Deed and under trust law will then act accordingly;

• If that course of action includes subscription then the Employer must issue to the Trustee the requisite number of Shares on behalf of the Participants;

• To ensure these contributions are timely, the CEO, and any nominees of the CEO, have the authority to approve contributions to the Trust

The amount of the contributions made by the Employer to the Trust will also depend on:

• the number of rights granted to employees;

• the estimated forecast of options and performance rights vesting; and

• the number of shares held at that time by the Trustee.

Both the initial contributions and any additional contributions required to fund the Trust, cannot be refunded, repaid or returned to the Employer or Participants (other than by way of the Trustee paying the issue price where it subscribes for shares in the Employer).

Beneficiaries of the Trust

Under clause 3.7 of the Trust Deed, the Employer has no legal or beneficial entitlement to any of its shares forming part of the Trust fund at any time, and may not acquire such an interest. Instead, the beneficiaries of the Trust are ESS Plan Participants. The Trust was established and maintained for the benefit of all employees of the Employer tax consolidated group.

Corpus and income of the Trust

Employees will have no beneficial entitlement to the shares (corpus) or the income of the Trust at any time, unless the Trustee exercises its discretion to distribute its corpus or income, under the terms of the Trust Deed and in fulfilment of the Trustee's fiduciary duty to beneficiaries.

Pursuant to clauses 8.1 and 9.1 of the Trust Deed, should the interest or dividend income derived from the holding of shares be in excess of the costs of the Trust, the excess may be used to acquire more shares to deliver to employees or may be distributed to employees who have become beneficially entitled to the income. To the extent that there is no one presently entitled to the income of the Trust, the Trustee will pay tax on this income.

Assumption

This ruling is provided on the assumption that all the rights provided under the scheme can only be settled by the provision of shares. As the rights cannot be settled in cash, they are not indeterminate rights under section 83A-340 of 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-25,

Income Tax Assessment Act 1997 Section 83A-35,

Income Tax Assessment Act 1997 Section 83A-205,

Income Tax Assessment Act 1997 Section 83A-210,

Income Tax Assessment Act 1997 Section 102-5,

Income Tax Assessment Act 1997 Section 102-25,

Income Tax Assessment Act 1997 Section 130-85,

Income Tax Assessment Act 1997 Section 995-1,

Income Tax Assessment Act 1997 Part IVA,

Income Tax Assessment Act 1997 Section 177A,

Income Tax Assessment Act 1997 Section 177C,

Income Tax Assessment Act 1997 Section 177D,

Income Tax Assessment Act 1997 Section 177F,

Income Tax (Transitional Provisions) Act 1997 Section 83A-5,

Income Tax (Transitional Provisions) Act 1997 Section 83A-10 and

Fringe Benefits Tax Assessment Act 1986 Subsection 136(1).

Reasons for decision

Issue 1 Question 1

Summary

The contributions of the funds by the Employer to the Trust are not fringe benefits for the purpose of the FBTAA.

Detailed reasoning

The term 'fringe benefit' is defined in subsection 136(1) of the FBTAA to mean benefits provided by an employer, an associate of the employer or by an arranger under an arrangement with the employer, to employees, in respect of the employment of the employee.

Pursuant to subsection 136(1) of the FBTAA, a fringe benefit is defined to exclude:…

(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; or

(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)…

Subsection 995-1(1) of the ITAA 1997 provides that the meaning of 'employee share trust' is defined 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:

(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

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

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 right to acquire a beneficial interest in a share in the company.

An employee share scheme is a scheme under which the ESS interests in a company (or its subsidiaries) are provided to employees of the company, or their associates, in relation to their employment (subsection 83A-10(2) of the ITAA 1997).

The Employer has established the Trust and under the Trust deed, the Trust's sole activities are to acquire shares and to hold these shares until the relevant employee share scheme rights vest and are exercised by the Participants at which time they are allocated to those Participants. There are some incidental activities undertaken by the Trustee to operate and administer the Trust, such as clerical and administrative functions.

ATO ID 2010/108 states that a trust that obtains shares in a company to satisfy the exercise of rights acquired under an employee share scheme and on exercise allocates and holds those shares for the benefit of employees of the company, is an employee share trust within the meaning of subsection 130-85(4) of the ITAA 1997, providing the condition in paragraph 130-85(4)(c) of the ITAA 1997 is also met. As the only other activities undertaken by the Trustee are incidental activities to operate and administer the Trust, the condition in paragraph 130-85(4)(c) is met.

Therefore, the Trust is an employee share trust as defined in subsection 995-1(1) 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.

Therefore, the irretrievable contributions the Employer makes to the trustee of the Trust, to fund the on market acquisition of, or subscription for, the Employer's shares are not fringe benefits within the meaning of subsection 136(1) of the FBTAA 1986.

Issue 2 Question 1

Summary

The Employer will be entitled to a deduction under section 8-1 of the ITAA 1997 for its irretrievable contributions made to the Trust to fund the acquisition of and subscription for the shares of the Employer.

Detailed reasoning

An employer is entitled to a deduction under section 8-1 of the ITAA 1997 for a contribution paid to the trustee of a Trust that is either incurred in gaining or producing the employer's assessable income, or necessarily incurred in carrying on a business for the purpose of gaining or producing the employer's assessable income ('positive limbs').

However subsection 8-1(2) of the ITAA 1997 prevents such a deduction to the extent that it is a loss or outgoing of capital, or of a capital nature, is a loss or outgoing of a private or a domestic nature, is incurred in gaining or producing exempt income, or is prevented from being deductible under a specific provision of the ITAA 1997 or the ITAA 1936 ('negative limbs').

First positive limb

To qualify for a deduction under section 8-1 of the ITAA 1997, a loss or outgoing must be incurred.

Although the term 'incurred' is not defined in the legislation, reference can be made to Taxation Ruling TR 97/7 Income tax: section 8-1 - meaning of 'incurred' - timing of deductions (TR 97/7) and Taxation Ruling TR 94/26 Income tax: subsection 51(1) - meaning of incurred - implications of the High Court decision in Coles Myer Finance (TR 94/26).

Broadly, a taxpayer incurs an outgoing at the time the taxpayer owes a present money debt that they cannot escape. Otherwise a loss or outgoing is incurred when a taxpayer is definitively committed to the loss or outgoing (refer to FC ofT v James Flood Pty Ltd (1953) 88 CLR 492).

It is important to establish that the contributions are irretrievable and not refundable, as they will otherwise not be a permanent loss or outgoing incurred.

A contribution made to the trustee of a Trust is incurred only when the ownership of that contribution passes from an employer to the trustee of the Trust and there is no circumstance in which the employer can retrieve that contribution - Pridecraft Pty Ltd v Federal Commissioner of Taxation [2004] FCAFC 339; Spotlight Stores Pty Ltd v Commissioner of Taxation [2004] FCAFC 339.

In the present case, the Employer has established the Trust for the purpose of facilitating the acquisition, holding and allocation of shares to meet its obligations under the Plan, by making irretrievable and non-refundable contributions to the Trust (Clauses 6.7 to 6.10). The Trustee will then follow instructions or notices from the Board to acquire, deliver and allocate the Employer's shares for the benefit of Participants, subject to receiving sufficient contributions (Clause 6.5).

On this basis, it is concluded that the Employer will incur an outgoing at the time it makes irretrievable contributions to the trustee of the Trust, for the purpose of subsection 8-1(1) of the ITAA 1997.

Second positive limb - Necessarily incurred in carrying on a business

To be deductible under section 8-1 of the ITAA 1997, a contribution must have been incurred in gaining or producing assessable income or necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income.

To satisfy the second positive limb of section 8-1 of the ITAA 1997, there must be a sufficient nexus between the outgoing (contributions made by the Employer) and the derivation of the Employer's assessable income - The Herald and Weekly Times Limited v The Federal Commissioner of Taxation (1932) 48 CLR 113; (1932) 2 ATD 169, Amalgamated Zinc (De Bavay's) Limited v The Federal Commissioner of Taxation (1935) 54 CLR 295;(1935) 3 ATD 288, W. Nevill And Company Limited v The Federal Commissioner of Taxation (1937) 56 CLR 290;4 ATD 187;(1937) 1 AITR 67, Charles Moore & Co (W.A.) Pty Ltd v Federal Commissioner of Taxation (1956) 95 CLR 344;(1956) 6 AITR 379; (1956) 11 ATD 147.

An expense will have the relevant connection to the business when it is 'desirable or appropriate in the pursuit of the business ends of the business - Ronpibon Tin NL and Tongkah Compound NL v Federal Commissioner of Taxation (1949) 78 CLR 47 at 56) and Magna Alloys & Research Pty Ltd v Federal Commissioner of Taxation (1980) 33 ALR 213.

Draft Taxation Ruling TR 2014/D1 Income tax: employee remuneration trust arrangements provide the Commissioner's view on a broad scope of taxation consequences for employers, trustees and employees who participate in an employee remuneration trust ('ERT') arrangement.

Paragraph 14 of TR 2014/D1 relevantly provides that where an employer:

• carries on a business for the purpose of gaining or producing assessable income and engages employees in the ordinary course of carrying on that business;

• makes a contribution to the trustee of an ERT [employee remuneration trust]; and

• at the time the contribution is made, the primary purpose of the contribution is for it to be applied, within a relatively short period, to the direct provision of remuneration of employees (who are employed in that business),

then such a contribution will satisfy the nexus of being necessarily incurred in carrying on that business.

The remuneration 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 shares in the company are provided to employees in relation to the employee's employment.

Under the remuneration scheme, the employer has also established a trust to acquire shares in the company and to allocate those shares to employees to satisfy the rights acquired under the scheme. The beneficial interest in the share is itself provided under an employee share scheme because it is provided under the same scheme under which the rights to acquire the shares are provided to the employee in relation to the employee's employment, being an employee share scheme as defined in subsection 83A-10(2) of the ITAA 1997.

Although at the time of making the contribution the employer cannot be certain that the rights will be exercised within a relatively short time, the provision of the funds to the Trust indirectly allows the employer to provide the direct remuneration in the form of the ESS interests which are rights to shares in the Employer. Furthermore, although at the time that the contribution is made it is not certain that the rights will be exercised by the Participants it is the intention of the employer at the time of making the contribution to provide such a direct benefit within a relatively short period.

Accordingly, it is considered that the irretrievable contributions made by the Employer to the trustee of the Trust will be an employee remuneration cost incurred in carrying on the Employer's business and will satisfy the nexus of being necessarily incurred in carrying on that business for the purpose of gaining or producing assessable income.

Negative Limb

Where a contribution satisfies the positive limbs of subsection 8-1(1) of the ITAA 1997, it may not be deductible to an employer under subsection 8-1(2) of the ITAA 1997 to the extent that such contribution is a loss or outgoing of capital, or of a capital nature, is a loss or outgoing of a private or a domestic nature, is incurred in gaining or producing exempt income or is prevented from being deductible under a specific provision of the ITAA 1997 or the ITAA 1936.

On the facts, nothing has suggested that the contributions are private or domestic in nature, or are related to producing exempt income or non-assessable non-exempt income, or are otherwise prevented from being deductible under a specific provision of the ITAA 1997 or the ITAA 1936.

Whether an outgoing is capital or revenue in nature can generally be determined by reference to the test articulated by Dixon J in the leading case on the capital/revenue distinction, Sun Newspapers Ltd v Federal Commissioner of Taxation (1938) 61 CLR 337. In that case Dixon J stated that:

There are, I think, three matters to be considered, (a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay…

TR 2014/D1 also indicates when a contribution made to the trustee of an employee share trust may be of a capital nature. Relevantly paragraphs 186 and 187 of TR 2014/D1 state:

186. A contribution to the trustee of an ERT is of capital or of a capital nature, when the contribution secures for an employer an asset or advantage of an enduring or lasting nature that is independent of year to year benefits that the employer derives from a loyal and contented workforce.

187. A contribution by an employer to the trustee of an ERT is considered to be capital or of a capital nature, in whole or in part, where the contribution…

• is ultimately and in substance, applied by the trustee to acquire a direct interest in the employer (for example shares).

In this case, irretrievable contributions are provided by the Employer, as an employer to the Trustee of the Trust. The contributions may ultimately and in substance be applied by the trustee of the Trust to subscribe for equity interests in the Employer's shares. Thus the Employer could be considered as having acquired an asset or advantage of an enduring nature which is capital or of a capital nature, in whole or in part.

Apportionment

In cases where a contribution is made for the purpose of securing advantages for the employer of both a capital and revenue nature, section 8-1 of the ITAA 1997 may require the contribution to be apportioned into deductible and non-deductible components. However, paragraph 198 of TR 2014/D1 provides that where the advantages of a capital nature are only expected to be very small or trifling in comparison, apportionment may not be required.

Relevantly, paragraph 202 of TR 2014/D1 states:

…where the primary purpose of the employer in making the contribution is to remunerate employees within a relatively short period (as discussed in paragraph 178…) of the contribution being made, it is considered that any amount of the contribution attributable to securing a capital structure advantage will only be very small or trifling where the employer:

• intends that any direct interest in the employer acquired by the trustee of the ERT (for example shares) will be transferred to employees within that relatively short period, and

• does not anticipate that such shares will be on-sold to third parties at that time or shortly thereafter.

Paragraph 178 of TR 2014/D1 makes clear that the Commissioner will generally accept a relatively short period of time for the trustee of an ERT to diminish a contribution for the direct provision of remuneration to employees to be up to five years from the date the contribution was made by an employer to the trustee of a Trust ('contribution date'). However, where the contribution has been made to facilitate an employee having an interest in the Trust corresponding to a particular number of shares (or right to acquire shares) in the employer or in its subsidiaries to which Subdivision 83A-C of the ITAA 1997 applies, a relatively short period of time for these arrangements will generally be accepted as being up to seven years from the date the contribution is made.

As detailed above the remuneration 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 shares in the company are provided to employees in relation to the employee's employment.

Under the remuneration scheme, the employer has also established a trust to acquire shares in the company and to allocate those shares to employees to satisfy the rights acquired under the scheme. The beneficial interest in the share is itself provided under an employee share scheme because it is provided under the same scheme under which the rights to acquire the shares are provided to the employee in relation to the employee's employment, being an employee share scheme as defined in subsection 83A-10(2) of the ITAA 1997.

Although at the time of making the contribution the employer cannot be certain that the rights will be exercised within a relatively short time, the provision of the funds to the Trust indirectly allows the employer to provide the direct remuneration in the form of the ESS interests which are rights to shares in the Employer. Furthermore, although at the time that the contribution is made it is not certain that the rights will be exercised by the Participants it is the intention of the employer at the time of making the contribution to provide such a direct benefit within a relatively short period.

Under the arrangement the contribution by the Employer to the Trust facilitates the provision of a direct benefit in the form of a right to acquire a share. The rights are provided in the expectation that they will ultimately be exercised and the shares delivered to the Participants.

Therefore the Commissioner accepts that any capital advantage accruing to the Employer in relation to the contribution to the Trust is either very small or trifling and apportionment is not required.

Conclusion

Irretrievable contributions made by the Employer to the trustee of the Trust are deductible under section 8-1 of the ITAA 1997.

Issue 2 Question 2

Summary

Irretrievable contributions made by the Employer to the trustee of the Trust before the acquisition of the relevant ESS interests are deductible to the Employer at a time determined by section 83A-210 of the ITAA 1997.

Detailed reasoning

Irretrievable contributions that are deductible under section 8-1 of the ITAA 1997 would generally be an allowable deduction in the income year in which the outgoing was made. However, under certain circumstances, the timing of the deduction is instead determined under section 83A-210 of the ITAA 1997.

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

(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 Employer under the Plan in relation to the employees employment.

The terms 'ESS interest' and 'employee share scheme' which are defined in section 83A-10 of the ITAA 1997, were considered previously in the Issue 1. It is accepted that the Plan is an employee share scheme under which ESS interests are provided to employees, or associates, or employees of the Employer.

Therefore, broadly, section 83A-210 of the ITAA 1997 will only apply if there is a relevant connection between the money provided to the trustee of the Trust, and the acquisition of ESS interests (directly or indirectly) by the employee under an employee share scheme in relation to their employment.

As established in Question 1 of Issue 2, the Employer makes irretrievable contributions to the Trust and under the terms of the Trust Deed, the trustee is required to acquire, hold, and where appropriate, vest shares to employees participating in employee share plans operated by the Employer.

The Plan Rules allow the Employer to offer employees the rights to acquire fully paid shares subject to the terms of the invitation and the Plan rules. The rights meet the definition of ESS interests (subsection 83A-10(1) of ITAA 1997) as they are rights to acquire beneficial interests in shares in the Employer.

The Plan meets the definition of an employee share scheme (subsection 83A-10(2) of ITAA 1997) in that it is a scheme under which the rights to shares in the Employer are provided to employees or their associates of the Employer in relation to the employee's employment.

The arrangement is constituted by the rules for the Plan, the creation of the Trust under the Trust Deed and the provision of money to the trustee of the Trust to acquire and hold shares to satisfy the vesting and exercise of rights issued to participants under the Plan. The granting of ESS interests, the provision of the money to the trustee under the arrangement, 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 ESS Plan. All the components of the scheme must be carried out so that the scheme can operate as intended.

The provision of money by the Employer to the trustee is considered to be for the purpose of enabling the participating employees, directly or indirectly, as part of the Plan, to acquire the ESS interests.

A deduction for the purchase of shares or to fund subscription for shares to satisfy the existing obligations arising from the grant of ESS interests is allowable to the Employer in the year in which the money was paid to the trustee, under section 8-1 of the ITAA 1997. This is consistent with the ATO view expressed in ATO Interpretative Decision ATO ID 2010/103 Employee share scheme: timing of deduction for money provided to the trustee of an employee share trust (ATO ID 2010/103) which considers the timing of deductions allowable to an employer in respect of money provided to the trustee of an employee share trust.

However, where the irretrievable contributions are made by the Employer to the trustee of the Trust before the income year in which the ESS interests are granted to the employee, section 83A-210 will apply. Under section 83A-210 of ITAA 1997, if an amount of irretrievable contributions are made to the trustee under the arrangement to purchase shares in excess of the obligations for the ESS interests already granted, the amount will be deductible in the income year in which the relevant ESS interests are granted to the participating employees, that is the income year in which the employee acquires the ESS interests.

Issue 3 Question 1

Summary

Part IVA will not apply to the arrangement where irretrievable contributions are made by the Employer to the Trust to enable the Trust to acquire shares, by subscribing for those shares or purchasing them on market.

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) of the ITAA 1936.

Before the Commissioner can exercise his discretion to make a determination in respect of Part IVA under subsection 177F(1) of the ITAA 1936, three requirements must be met. These are:

• there must be a scheme within the meaning of section 177A of the ITAA 1936;

• a tax benefit must arise based on whether a tax effect would have occurred, or might reasonably be expected to have occurred, if the scheme had not been entered into or carried out, and

• having regard to the matters in paragraph 177D(b) of the ITAA 1936, the scheme is one to which Part IVA of the ITAA 1936 applies (dominant purpose)

The Scheme

Subsection 177A(1) of the ITAA 1936 (subsection 995-1(1) of the ITAA 1997) provides that 'scheme' means:

(a) any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and

(b) any scheme, plan, proposal, action, course of action or course of conduct;

It is considered that this definition is sufficiently wide to cover the proposed arrangement under the Plan which utilises contributions made by the Employer to the trustee of the Trust (in accordance with the Trust deed), to fund the acquisition of the Employer shares on behalf of participating employees by the trustee.

Tax Benefit

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

(b) a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out; or…

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

The applicant has provided the following counterfactuals:

• The Employer could remunerate employees by way of increased salary, bonuses or deductible superannuation payments. Under these alternatives, identical or similar level of deductible expenses would arise to that which will arise under the proposed arrangement; or

• The Employer could issue shares directly to employees for no consideration.

Consideration of the tax advantages of the counterfactuals or alternative forms of remuneration and the proposed scheme suggests there is no tax benefit for the first counterfactual. As payments of the additional cash amounts would be deductible to the Employer, the same or similar deductible expenses would arise, compared to the current ESS Plan arrangement.

If the Employer were to issue new shares directly to its employees, it would not be entitled to any deduction for the shares (except the costs incurred when issuing and transferring any shares) unless section 83A-205 of the ITAA 1997 was satisfied. This provision requires that:

• The Employer must have provided an ESS interest to an individual under an employee share scheme; and

• The Employer did this as the individual's employer (or as the holding company of the employer); and

• 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).

If the shares did meet these conditions, the Employer would be entitled to a deduction equal to the amount of the reduction allowable to the individual under section 83A-35 of the ITAA 1997 to a total amount of $1,000.

By contrast the use of the Trust 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 Trust. 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.

Section 177D of the ITAA 1936 provides that Part IVA only applies if, after having regard to certain factors specified in subsection 177D(2) of the ITAA 1936, it would be concluded that a person who entered into the scheme did so for the sole or dominant purpose of enabling the tax payer to obtain the tax benefit.

Subsection 177D(2) of the ITAA 1936

Subsection 177D(2) 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:

(a) the manner in which the scheme was entered into or carried out;

(b) the form and substance of the scheme;

(c) the time at which the scheme was entered into and the length of the period during which the scheme was carried out;

(d) the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme;

(e) any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme;

(f) any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme;

(g) any other consequence for the relevant taxpayer, or for any person referred to in paragraph (f), of the scheme having been entered into or carried out;

(h) the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in paragraph (f).

(a) The manner of the scheme

In considering whether Part IVA applies, 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 alternative.

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

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

(b) The Form and Substance of the scheme

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

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.

(c) The timing of the scheme

The irretrievable cash contributions made by the Employer to the trustee enable the trustee to acquire shares in the Employer in satisfaction of employee rights and to use market conditions advantageously to meet potential employee share requirements in advance.

The application of section 83A-210 to cash contributions made before the employee receives the right, prevents any timing advantage for the deductibility of those contributions.

(d) The result of the scheme

The result of the scheme is to provide the Employer with allowable deductions for the contributions they make to the Trust. 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.

(e) Any change in the financial position of the Employer

As noted above, the Employer makes irretrievable cash contributions to the Trust 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 employees directly, there is nothing artificial, contrived or notional about the Employer's expenditure.

(f) Any change in the financial position of other entities or persons

The contributions by the Employer to the trustee will form 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 Plan. The Employer is not a beneficiary of the Trust 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 employee participants and their associates in the scheme will also undergo a real change. This will be the case whether the shares are acquired through the Trust or provided directly by the Employer. There is nothing artificial, contrived or notional about these changes.

(g) Any other consequence

There are no other consequences for the Employer, their employees and or their associates that would be relevant as evidence of a dominant purpose of obtaining a tax benefit.

(h) The nature of any connection between the Employer and any other persons

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

The contributions made by the Employer to the trustee are commensurate with the Employer's 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 scheme 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 subsection 177D(2) of the ITAA 1936 leads to the conclusion that the dominant purpose of the scheme is to provide remuneration to the Employer Group's employees who participate in the scheme in a form that promotes the Employer'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 Trust to fund the acquisition of employer shares in accordance with the scheme as outlined above.