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Edited version of your written advice
Authorisation Number: 1051208621288
Date of advice: 29 March 2017
Ruling
Subject: Early Stage Innovation Company
Question 1
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 periods:
1 July 20YY to 30 June 20ZZ.
The scheme commences on:
20XX.
Relevant facts and circumstances
1. The company was incorporated in Australia within the last three years. Its equity interests are not listed for quotation in the official list of any stock exchange.
2. The company has no subsidiaries and has expenses of less than $1,000,000 in the previous income year, i.e. the year ended 30 June 20YY. It had assessable income of less than $200,000 for the same year.
3. The company's eligible notional deductions for Research and Development (R&D) expenditure of are greater than 50% of its total expenses for the year ended 30 June 20YY.
4. The company is registered as an R&D entity under section 27A of the Industry Research and Development Act 1986.
5. One or more third parties that are not associated to the company have paid a total of at least $50,000 for the issue of new shares in the company at least one day before the test time.
6. The company is developing an innovative product.
Information provided
7. The company has provided information in relation to the Innovation and as evidence of the R&D expenses and shareholdings.
Relevant legislative provisions
Income Tax Assessment Act 1997 Subdivision 360-A
Income Tax Assessment Act 1997 section 360-40
Income Tax Assessment Act 1997 section 360-45.
Reasons for decision
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.
'100 point test' - paragraph 360-40(1)(e) and section 360-45
10. To satisfy the 100 point test the company must obtain at least 100 points by meeting the innovation criteria in the table within section 360-45. The criteria are tested at a time immediately after the relevant shares are issued. If a company satisfies this test it does not need to satisfy the principles-based test.
11.
100-point innovation test table | |
Points |
Criteria |
75 points |
At least 50% of the company's total expenses for the previous income year are eligible notional deductions for the research and development tax incentive. |
75 points |
The company has received an Accelerating Commercialisation Grant at any time. The amount of this grant is also excluded from the company's assessable income for the purposes of the early stage test. |
50 points |
At least 15% but less than 50% of the company's total expenses for the previous income year are eligible notional deductions for the research and development tax incentive. |
50 points |
The company has completed or is undertaking an eligible accelerator programme that provides time-limited support for entrepreneurs with a start-up business. This support may involve providing mentorship, training, education and access to networks. The programme must be provided to entrepreneurs that are selected in an open, independent and competitive manner. It is likely that an entity that has been selected through this process would also meet the principles-based test. The entity providing the programme has to have been providing eligible programmes for at least six months, and the programmes must have been completed by at least one cohort of entrepreneurs. |
50 points |
One or more third parties have previously paid a total of at least $50,000 for the issue of new shares in the company. These points are only available if: ● the third party was not an associate of the company immediately before it was issued with the shares. ● the company issued the third party with the shares at least one day before the test time ● the third party did not purchase those shares primarily to assist another entity to become entitled to early stage investor tax incentives Examples of entities that would be an associate of a company include: ● a partner of the company or a partnership in which the company is a partner ● a trustee of a trust estate under which the company or associate benefits ● another entity (including a person) that, acting alone or with another entity or entities, sufficiently influences the company ● an entity (including a person) that, either alone or together with associates, holds a majority voting interest in the company ● a second company that is sufficiently influenced by the company or the company's associates ● a second company in which a majority voting interest is held by the company or the company's associates. |
50 points |
A company has enforceable rights on an innovation through either: ● a standard patent granted in Australia in the last five years ● a plant breeder's right that has been granted in Australia in the last five years ● an equivalent intellectual property right granted in another country. A company that holds a license to intellectual property owned by another party is able to obtain these points. |
25 points |
A company has enforceable rights on an innovation through either: ● an innovation patent granted in Australia in the last five years ● design right granted in Australia in the last five years ● an equivalent intellectual property right granted in another country. A company that holds a license to intellectual property owned by another party is able to obtain these points. These points are only available if the company did not receive 50 points for holding a standard patent, plant breeder's right or equivalent right overseas under the previous criterion. |
25 points |
The company has a written agreement to co-develop and commercialise an innovation with either: ● an institution or body listed in Schedule 1 to the Higher Education Funding Act 1988 ● an entity registered as a Research Service Provider under section 29A of the Industry Research and Development Act 1986. |
'Principles-based test' - subparagraphs 360-40(1)(e)(i) to (iv)
12. 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.
13. 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.
14. 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
15. 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 20ZZ.
Current year
16. For the purposes of subsection 360-40(1), the current year will be the year ending 30 June 20ZZ (the 20ZZ income year). For clarity, in relation to particular requirements within subsection 360-40(1), the last three income years will include the years ending 30 June 20ZZ, 20YY and 20XX, and the income year before the current year will be the year ending 30 June 20YY (the 20YY income year).
Early stage test
Incorporation or Registration - paragraph 360-40(1)(a)
17. The company was incorporated within the last 3 income years, subparagraph 360-40(1)(a)(i) is satisfied.
Total expenses - paragraph 360-40(1)(b)
18. As the company had expenses less of than $1,000,000 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 for the prior income year is less than $200,000 and 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)(a)(d) is satisfied.
Conclusion on early stage test
21. The company will satisfy the early stage test for the entire 20ZZ income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied.
100 point test
Notionally deductible expenses - Item 1 in the table at sub-section 360-45(1)
22. The company has notional R&D expenditure greater than 50% of their total expenses in the income year ended 30 June 20YY.
23. This R&D expenditure is notionally deductible under section 355-205 of the Income Tax Assessment Act 1997 for the year ended 30 June 20YY.
24. The company has provided sufficient evidence of satisfying item 1 in the table at sub-section 360-45(1) of the 100 point test for the year ending 30 June 20ZZ.
Equity interests - Item 5 - table at sub-section 360-45(1)
25. One or more third parties not associated with the company have previously paid a total of at least $50,000 for the issue of new shares in the company at least one day before the test time.
26. The company has provided sufficient evidence of satisfying item 5 in the table at sub-section 360-45(1) of the 100 point test for the year ending 30 June 20ZZ.
Conclusion on 100 point test
27. The company satisfies the 100 point test as it satisfies the requirements within subparagraphs 360-45 for the period commencing 1 July 20YY until 30 June 20ZZ or the date when the innovation has been fully developed and is ready for sale, whichever occurs earlier.
Principles based test
28. As the company has provided sufficient evidence of satisfying the 100 point test under section 360-45 for the year ending 30 June 20ZZ, it will not need to satisfy the principles-based test
Conclusion
29. The company meets the eligibility criteria of an ESIC under section 360-40 for the period commencing 1 July 20YY until the earlier of 30 June 20ZZ or the date when the innovation has been fully developed and is ready for sale, whichever occurs earlier.