Edited version of private advice

Authorisation Number: 1051613425272

Date of advice: 6 February 2020

Ruling

Subject: Employee share scheme

Question 1

Will Company A obtain an income tax deduction, pursuant to section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997), in respect of the irretrievable cash contributions made by Company A or any of the subsidiary members of the Company A tax consolidated group to the Trustee of the Company A Employee Share Trust (EST) to fund the subscription for or acquisition of Company A shares, on-market, by the EST?

Answer

Yes.

Question 2

Are irretrievable contributions made by Company A (including contributions made by subsidiary members of the Company A income tax consolidated group), to the Trustee of the EST, to fund the subscription for or acquisition on-market of Company A shares by the EST to satisfy Employee Share Scheme (ESS) interests, deductible to Company A at a time determined by section 83A-210 of the ITAA 1997, in respect of those ESS interests which are subject to Division 83A of the ITAA 1997, where the contributions are made before the acquisition of the relevant ESS interests?

Answer

Yes.

Question 3

If the EST satisfies its obligation under the Company A Employee Incentive Plan by subscribing for new shares in Company A, will the subscription proceeds be included in the assessable income of Company A under sections 6-5 or 20-20 of the ITAA 1997 or trigger a capital gains tax (CGT) event under Division 104 of the ITAA 1997?

Answer

No.

Question 4

Will the Commissioner seek to make a determination that Part IVA of the ITAA 1936 applies to deny, in part or in full, any deduction claimed by Company A in respect of the irretrievable contributions made by Company A (including contributions made by subsidiary members of the Company A income tax consolidated group) to the Trustee of the EST to fund the subscription for or acquisition on-market of Company A shares by the EST?

Answer

No.

Question 5

Is the provision of Performance Rights, Options, Deferred Shares or Exempt Shares in Company A under the Company A Employee Incentive Plan to employees of Company A or any subsidiary member of the Company A income tax consolidated group, a fringe benefit within the meaning of subsection 136(1) of the Fringe Benefit Tax Assessment Act 1986 (FBTAA)?

Answer

No.

Question 6

Will the irretrievable contributions made by Company A or any subsidiary member of the Company A income tax consolidated group, to the Trustee of the EST, to fund the subscription for or acquisition on-market of Company A shares, be treated as a fringe benefit within the meaning of section 136(1) of the FBTAA?

Answer

No.

Question 7

Will the Commissioner seek to make a determination that section 67 of the FBTAA applies to increase the aggregate fringe benefits amount of Company A or any subsidiary member of the Company A income tax consolidated group by the amount of the tax benefit gained from the irretrievable contributions made by Company A or the subsidiary member of the Company A income tax consolidated group to the Trustee of the EST to fund the subscription for or acquisition on-market of Company A shares in accordance with the Trust Deed?

Answer

No.

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

Background

Company A's remuneration framework is underpinned by the 'acting as owners' philosophy and is guided by the notions of being market competitive and rewarding performance.

Total remuneration for executives includes a moderate fixed component relative to the Company's ASX-listed peer group, trading this in favour of a 'higher at-risk / performance related component' in the form of Short Term Incentives (STI) and Long Term Incentives (LTI).

The 'higher at-risk remuneration component' is reflective of the Company's operations in the relevant sector, in particular the Country A market, where a greater emphasis is placed on at-risk remuneration than typically occurs in Australian-listed companies.

STI and LTI is linked to the achievement of individual and Company performance targets. In setting the at-risk remuneration framework, the Company intends to align executive remuneration outcomes with shareholder outcomes and within the context of LTI share-based awards, seeks to link the value of Company A with individual performance.

The Company A Group Limited Employee Incentive Plan, which was established in 201X, provides Company A the flexibility to offer

• performance rights
• options or
• shares

to its key management employees. There are currently both unvested and vested options on issue under the Plan.

Company A Group Limited Employee Incentive Plan

The Company A Group Limited Employee Incentive Plan (Plan) has been has been designed with the flexibility to issue various types of incentive instruments to employees. Incentives may be in the form of

• Options and Performance Rights, which represent rights to acquire shares in the Company (Rights),
• Deferred Shares (Deferred Share Awards),
• Exempt Shares that may be treated as tax exempt (Exempt Share Awards).

(In this Ruling, Awards, Deferred Share Awards and Exempt Share Awards are referred to collectively as 'Awards' and 'Award' in the singular)

The Plan allows for the issue of Loan Funded Shares (Loan Shares). However Loan Shares will not be facilitated through the Trust and are excluded from this application.

The purpose of the Plan, as outlined in the Company A Group Limited Employee Incentive Plan Rules (Plan Rules), is to 'to encourage Employees to share in the ownership of the Company and to promote the long-term success of the Company as a goal shared by all Employees.'

The Plan broadly operates as follows (excluding Loan Shares):

Eligible employees entitled to participate under the Plan (Participants) may receive a grant of Options, Performance Rights, Deferred Share Awards or Exempt Share Awards (as determined by Company (being Company A) and at the discretion of the Board).

To participate in the Plan, the Company must make an Offer to the Participant. Each Offer must be in writing and will outline:

• the identity of the employee to whom the Offer is made;
• the type of Award offered;
• the number of each Award offered;
• any vesting conditions associated with the Award;
• the issue price and/or exercise price for each Award, or the manner in which the issue price and/or exercise price is to be determined
• the expiry date (if any);
• any restriction period;
• any other terms or conditions the Board decides to include; and
• any other matters required to be specified in the Offer by either the Corporations Act or ASX Listings Rules.

Offers are prevented from being made where the 5% dilution limit (as detailed in the Plan) is triggered.

The Plan rules set out default vesting conditions which apply to Options, Performance Rights and Loan Shares where vesting conditions are not specified in the Offer or the Offer does not expressly state that no vesting conditions apply. These default vesting conditions are:

• awards only vest if at the applicable vesting date:
• the employee remains employed with, continues to provide consulting services to, or acts as a director of, an XYZ group company at the applicable vesting date; or
• ceased to do so before the applicable vesting date, but the employee is a 'Good Leaver'; and
• the awards are to 'vest in equal one-third tranches on the first, second, and third anniversaries of the grant date of the awards (or of another date specified in the Offer)'.

Rights

Where the award is an Option or a Performance Right, unless otherwise specified in the Offer, the Options or Performance Rights:

• are restricted awards (i.e. cannot be sold or transferred) until they are exercised or expire;
• may have (if specified in the Offer) a restriction period for the Shares issued on the exercise of the Options or Performance Rights (as applicable); and
• may be subject to an adjustment in accordance with the Plan Rules.

Options and/or Performance Rights must be exercised by way of an exercise notice submitted from the Participant to the Company. For awards with a nil exercise price, the Company will treat the Award as having been validly exercised on the Vesting Date unless the offer letter specifies manual exercise.

An Offer of Rights may also state that the vesting and exercise of the Rights will be satisfied through an allocation of Shares or by the making of a cash payment.

Deferred Share Awards

Deferred Shares are intended to be offered to employees who elect to receive shares in lieu of remuneration or may be offered at the Company's discretion. The Plan Rules provide that the "Restriction Period", unless specified in the Offer Letter, is the earlier of when the Participant ceases to be an employee, when the Board agrees to end the Restriction Period or 10 years from the date of issue of the Shares.

Exempt Share Awards

Exempt Share Awards are to be offered to employees for no consideration or at a discount to market price with the intention that up to $1,000 of the total discount received by the employee will be exempt from tax. The Plan Rules provides that the Restriction Period, unless specified in the Offer Letter, is the earlier of 3 years from the date of issue of the Shares or when the Participant ceases to be an employee.

All shares issued under the Plan are considered fully paid ordinary shares in Company A (Shares) and will rank equally for dividends and other entitlements where the record date is after the date of allotment (refer to the Plan Rules).

Where there is a takeover bid, scheme of arrangement, selective capital reduction or other transaction, Participants are entitled to accept the bid and participate in the transactions with all or part of their Awards other than Exempt Share Awards, notwithstanding that the restriction period has not expired. The Board also has absolute discretion to waive unsatisfied vesting conditions in relation to all or some of the Awards.

The Plan allows Company A to issue new Shares or cause existing Shares to be transferred to satisfy the obligations under the Plan rules.

The Plan allows the Company to appoint a trustee to acquire and hold Shares, Options, or other securities of the Company either on behalf of Participants or for the purposes of the Employee Incentive Plan.

A Participant must not sell, transfer, grant an interest in or dispose of any restricted awards (or agree to do any of those things) during the restriction period. Furthermore, participants must not enter into transactions or arrangements, including by way of derivatives or similar financial products, which limit the economic risk of holding unvested Awards.

The Company may implement any procedures it considers appropriate to ensure that Restricted Awards (as defined in the Plan Rules) are not disposed of during the Restriction Period, including applying a holding lock in respect of the Shares or using an employee share trust.

Company A Group Employee Share Plan Trust

The Company A Group Employee Share Plan Trust (EST) was established on XXYYZZ pursuant to the Company A Group Employee Share Plan Trust Deed executed by Company A and the Trustee (Trust Deed). The Trustee is appointed under the Trust Deed to be the Trustee of the EST.

Pursuant to the Recitals in the Trust Deed the EST was established for the sole purpose of acquiring, holding and transferring shares in connection with equity incentive plans established by Company A from time to time for the benefit of the participants of those plans. For the purposes of this ruling and as noted above the EST will only be used to administer shares relating to Awards, Deferred Share Awards or Exempt Share Awards already on offer or to be offered under the Plan.

The EST provides Company A with greater flexibility to accommodate the incentive arrangements of Company A both now and into the future as the group continues to expand its operations. The EST provides capital management flexibility for Company A, in that the Trust can use the contributions made by Company A either to acquire shares in Company A on market, or alternatively to subscribe for new shares in Company A.

Similarly, the EST provides an arm's length vehicle through which shares in Company A can be acquired and held in Company A on behalf of employees. In effect, this aspect allows Company A to satisfy Corporations Law requirements relating to companies dealing in their own shares.

The Trustee is an independent third partyand will operate the Trust in accordance with the Trust Deed.

Broadly, the EST operates as follows:

• Company A must provide the Trustee with the funds required for the purchase of Shares in accordance with the Plan
• The Trustee must not repay Company A any amount received as contributions of funds for the acquisition of Shares
• These funds are used by the Trustee to acquire Shares in Company A either on-market or via a subscription for new Shares in Company A based on written instructions from Company A
• Where Company A notifies the Trustee to acquire Shares and allocate them to a Participant, as soon as reasonably practicable, the Trustee must allocate the Participant the number of Shares as specified in the notice
• Where Company A notifies the Trustee under the Trust Deed to acquire Shares without yet being allocated to a Participant, the Trustee will hold the Shares on trust for the Participants generally and in accordance with the terms of the Trust Deed
• The Trust is precluded from exercising voting rights in relation to the unallocated plan shares
• Following a written request from the beneficiary, Company A, or termination of the Trust, the Trustee must promptly transfer registered title in the Share that forms part of the trust property, together with any related trust property, to which the beneficiary is entitled

Contributions to the Trust

Company A does not and will not pay cash contributions to the Trust prior to the issue of Awards under the Plan to Participants.

Company A may wait until the Awards vest, and to receive the exercise notice from Participants where relevant, before providing the Trust with the cash necessary to acquire shares to satisfy the acquisition or subscription of shares related to those Awards. The Company will also typically wait until grant of Deferred Share Awards and Exempt Share Awards to make related contributions to the Trust.

However, where it makes commercial sense to do so, Company A may make cash contributions to the Trust prior to the Awards vesting and exercise by the Participant, or prior to the grant of Deferred Share Awards or Exempt Share Awards. In this case, Company A will contribute to the Trust enough funding to enable purchase of shares in advance of when Awards are likely to vest or be exercised or in advance of the grant date of the Deferred Share Awards or Exempt Share Awards. This allows the Trustee to have enough shares in the Trust ahead of when they need to be allocated to Participants, and avoids delays in times such as blackout trading periods.

Contributions in respect of foreign based employees

Contributions to the Trust may be made by Company A on behalf of Australian tax residents and non- Australian tax residents. This Application does not relate to a tax deduction for contributions made to acquire shares in relation to awards granted to non-Australian tax residents that are not working in Australia. The tax deductibility question only relates to contributions made in relation to Australian tax residents or non-Australian tax residents which are working in Australia.

When Company A makes a contribution to the Trust, it will clearly identify the contribution that will be made in relation to shares to be acquired in respect of Awards offered to Australian tax resident employees and the non-residents working in Australia and claim a tax deduction for this portion only.

Independent Contractors

Independent contractors are eligible to participate in the Plan provided they meet the definition specified in section 83A-325 of the ITAA 1997.

Relevant legislative provisions

Fringe Benefits Tax Assessment Act 1986 section 66

Fringe Benefits Tax Assessment Act 1986 section 67

Fringe Benefits Tax Assessment Act 1986 subsection 136(1)

Fringe Benefits Tax Assessment Act 1986 paragraph 136(1)(h)

Fringe Benefits Tax Assessment Act 1986 paragraph 136(1)(ha)

Income Tax Assessment Act 1936 Part IVA

Income Tax Assessment Act 1936 section 177A

Income Tax Assessment Act 1936 subsection 177D(2)

Income Tax Assessment Act 1936 subsection 177F(1)

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 subsection 8-1(1)

Income Tax Assessment Act 1997 subsection 8-1(2)

Income Tax Assessment Act 1997 paragraph 8-1(2)(a)

Income Tax Assessment Act 1997 Division 83A

Income Tax Assessment Act 1997 section 83A-10

Income Tax Assessment Act 1997 subsection 83A-10(1)

Income Tax Assessment Act 1997 subsection 83A-10(2)

Income Tax Assessment Act 1997 section 83A-210

Income Tax Assessment Act 1997 paragraph 83A-210(a)(i)

Income Tax Assessment Act 1997 subsection 130-85(4)

Income Tax Assessment Act 1997 paragraph 130-85(4)(a)

Income Tax Assessment Act 1997 paragraph 130-85(4)(b)

Income Tax Assessment Act 1997 paragraph 130-85(4)(c)

Income Tax Assessment Act 1997 section 701-1 and

Income Tax Assessment Act 1997 subsection 995-1(1).

Reasons for Decision

These reasons for decision accompany the Notice of private ruling for Company A Group Limited. While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Question 1

Subsection 8-1(1) of the ITAA 1997 is a general deduction provision. Broadly, the provision provides an entitlement to a deduction from assessable income for any loss or outgoing, to the extent that it is incurred in gaining or producing your assessable income or it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income. 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.

Losses or outgoings

Pursuant to the Trust Deed, Company A must provide the Trustee with all the funds (contributions) required to enable it to subscribe for, or acquire Company A shares in accordance with the Trust Deed. The Trustee will, in accordance with instructions received pursuant to the Plan, acquire, deliver and allocate Shares for the benefit of Participants provided that the Trustee receives sufficient payment to subscribe for or purchase such shares and / or has sufficient unallocated trust shares available. These contributions made to the Trustee by Company A or any subsidiary member of the Company A income tax consolidated group will be irretrievable and non-refundable. On this basis, it is concluded that the irretrievable contributions made by Company A or any subsidiary member of the Company A income tax consolidated group are considered to be a loss or outgoing for the purpose of subsection 8-1(1) of the ITAA 1997.

Relevant nexus

The purpose of Company A in establishing and making irretrievable contributions to the Trustee of the EST is to provide benefits to certain eligible employees in the form of shares in Company A.

All the documentation provided indicates that the contributions are made to the Trustee of the EST solely to enable the Trustee to acquire Company A shares for eligible employees of the business.

Accordingly, there is a sufficient nexus between the outgoings (contributions made by either Company A or any subsidiary member of the Company A income tax consolidated group) and the derivation of Company A'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, Ronpibon Tin No Liability v The Federal Commissioner of Taxation(1949) 78 CLR 47; 4 AITR 236; (1949) 8 ATD 431, Charles Moore & Co (W.A.) Pty Ltd v Federal Commissioner of Taxation (1956) 95 CLR 344;(1956) 6 AITR 379; (1956) 11 ATD 147).

Capital or Revenue

Company A's contributions will be recurring and be made from time to time as and when Company A shares are to be subscribed for or acquired pursuant to the Trust Deed. Therefore, to this end, it is concluded that the contributions are not capital in nature, but rather outgoings incurred by the company in carrying on its business. In support of this conclusion, the Court held in Pridecraft Pty Ltd v Federal Commissioner of Taxation [2004] FCAFC 339; 2005 ATC 4001; 58 ATR 210; Spotlight Stores Pty Ltd v Federal Commissioner of Taxation [2004] FCA 650; 2004 ATC 4674; 55 ATR 745 that payments by an employer company to a trust established for the purpose of providing incentive payments to employees were on revenue account and not capital or of a capital nature. This confirms the view expressed in ATO ID 2002/1074 that a company will be entitled to a deduction under section 8-1 of the ITAA 1997 for irretrievable contributions made to the trustee of its employee share scheme.

Apportionment

A contribution to the trustee of an employee share trust is of capital or of a capital nature, where the contribution secures for the 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 contended workforce.

Where a contribution is, ultimately and in substance, applied to the trustee of an employee share trust to subscribe for equity interests in the employer (for example shares), the employer has also acquired an asset or advantage of an enduring nature.

The combined operation of subsections 8-1(1) and 8-1(2) of the ITAA 1997 may require apportionment of a loss or outgoing into deductible and non-deductible components, where a single loss or outgoing is incurred for more than one purpose or on items of a different nature.

Where a contribution is made for the purpose of securing for the employer advantages of both a revenue and capital nature but the advantages of a capital nature are only expected to be very small or trifling by comparison, apportionment may not be required.

In this case, the outgoings incurred by Company A in carrying on its business are either not capital in nature or any capital component is sufficiently small or trifling such that the Commissioner would not seek to apportion the deduction.

Finally, nothing in the facts suggests that the contributions are private or domestic in nature, or are incurred in gaining or producing exempt income, or are otherwise prevented from being deductible under a specific provision of the ITAA 1997 or the ITAA 1936.

Therefore, when Company A or any of the subsidiary members of the Company A income tax consolidated group makes irretrievable contributions to the Trustee of the EST to fund the acquisition of Company A shares in accordance with the Trust Deed, those contributions will be an allowable deduction to Company A under section 8-1 of the ITAA 1997.

Single entity rule

The single entity rule in subsection 701-1(1) of the ITAA 1997 does not affect the answer to the question of whether the contributions made by Company A or any subsidiary member of the Company A income tax consolidated group to the Trustee of the EST are deductible under section 8-1 of the ITAA 1997.

On the basis of the facts and circumstances that form part of this Ruling, the operation of the single entity rule cannot affect the fundamental questions that will determine deductibility. Those questions are:

(a)   were the amounts contributed held for the exclusive benefit of entities who are not members of the Company A income tax consolidated group?

(b)   to what extent are the contributions incurred in gaining or producing Company A's assessable income and are not of a capital, private or domestic nature?

Therefore, when Company A or a subsidiary member of the Company A income tax consolidated group makes irretrievable cash contributions to the Trustee of the EST to fund the acquisition of Company A shares and in accordance with the Trust Deed, those contributions will be an allowable deduction to Company A under section 8-1 of the ITAA 1997.

Question 2

The deduction for the irretrievable cash contributions under section 8-1 would generally be allowable in the income year in which Company A incurred the outgoing. However, under certain circumstances, the timing of the deduction is specifically determined under section 83A-210.

Section 83A-210 states that if:

(a) at a particular time, you provide another entity with money or other property:

(i) under an arrangement; and

(ii) for the purpose 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 purpose 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 applies under an arrangement where there is a relevant connection between the irretrievable cash contributions, provided to the Trustee, and the acquisition of ESS interests (directly or indirectly) by an employee under an employee share scheme, in relation to the employee's employment and the contributions are made before the acquisition of the ESS interests.

Arrangement

The implementation of the Plan, establishment of the EST and provision of money by Company A to the Trustee, are considered as constituting an arrangement for the purpose of subparagraph 83A-210(a)(i).

ESS interest

An ESS interest in a company is defined in subsection 83A-10(1) as either a beneficial interest in a share in the company or a beneficial interest in a right to acquire a beneficial interest in a share in the company.

Under the Plan, each Performance Right and Option provided to a Participant when an offer is made under the Plan is an ESS interest as it is (or may later become) a right to acquire a beneficial interest in a share in a company (Company A).

Likewise, each Deferred Share Award and Exempt Share Award provided to a Participant when an offer is made under the Plan is an ESS interest as it represents a beneficial interest in a share in a company (Company A).

Employee share scheme

Subsection 83A-10(2) defines 'employee share scheme' as:

a scheme under which ESS interests in a company are provided to employees, or associates of employees, (including past or prospective employees) of:

(a)   the company; or

(b)   subsidiaries of the company;

in relation to the employees' employment.

For the purposes of subsection 83A-10(2), subsection 995-1(1) defines the term 'scheme' as follows:

(a)   any arrangement; or

(b)   any scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise.

The Plan is an employee share scheme for the purposes of Division 83A as it is an arrangement, which provides an ESS interest (i.e. a beneficial interest in a right to acquire a beneficial interest in a share (Rights and Options) or a beneficial interest in a share (Deferred and Exempt Share Awards) to a Participant in relation to their employment in Company A in accordance with the Trust Deed.

A share acquired by the Trustee to satisfy a right or share provided under an employee share scheme, to an employee in relation to the employee's employment, is itself acquired under the same employee share scheme.

Relevant connection

The making of an offer under the Plan, the providing of Performance Rights, Options, Exempt Share Awards and Deferred Share Awards under them, the provision of irretrievable cash contributions to the Trustee under the arrangement, the acquisition and holding of the Shares by the Trustee and the allocation of Shares to Participants are all interrelated components of the Plan. All the components of the scheme, including the provision of irretrievable cash contributions to the Trustee must be carried out so that the scheme can operate as intended. As one of those components, the provision of money to the Trustee necessarily allows the scheme to proceed. Accordingly, the provision of money to the Trustee to acquire Shares is for the purpose of enabling Participants, indirectly as part of the Plan, to acquire relevant Rights or Shares (that is ESS interests).

If Company A provides irretrievable contributions before a Participant acquires the relevant ESS interests, then section 83A-210 will apply to determine the timing of a deduction for the irretrievable contributions under section 8-1. In this instance, the contribution will only be deductible to Company A in the income year when the relevant Performance Rights, Options, Deferred Award Shares or Exempt Share Awards (ESS interests) are provided to Participants. This is consistent with the ATO view expressed 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.

Rights - Indeterminate rights

Performance Rights and Options provided under the Plan are indeterminate rights for the purposes of section 83A-340. That is because the option exists to either deliver a Share or make a payment of a cash equivalent to satisfy the Performance Right or Option, at the discretion of the Board. In this circumstance the Performance Right or Option is not a right to acquire a beneficial interest in a share unless and until the time when the Board determines the Performance Rights or Options will be satisfied by the provision of Shares.

Once determined, section 83A-340 operates to treat these Performance 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 Performance Rights or Options are acquired (and the Performance Rights and Options do subsequently become ESS interests), then section 83A-340 operates to deem the Performance Rights and Options 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 to fund the exercise of the Performance Rights and Options would be available to Company A in the income year in which Participants acquire the Performance Rights or Options.

Note

Where the Performance Rights and Options do not become ESS interests because they are ultimately satisfied in cash, the outgoing should not flow through the Trust. This is because the Trust would not be satisfying the sole activities test for the purposes of subsection 130-85(4) in those circumstances.

As discussed in the analysis above, section 83A-210 will only apply if there is an arrangement under which there is a relevant connection between the irretrievable cash contributions provided to the Trustee and the acquisition of ESS interests (directly or indirectly) by an employee under an employee share scheme in relation to the employees employment and the contributions are made before the acquisition of the ESS interests.

Accordingly, section 83A-210 will not apply where Company A makes irretrievable contributions to the Trustee to fund the acquisition of Shares where the contribution is made after the acquisition of the relevant Performance Rights or Options.

In such a situation, the irretrievable contributions by Company A to the Trustee will be deductible under section 8-1 in the income year in which the irretrievable contributions are made.

Question 3

Ordinary Income

Section 6-5 of the ITAA 1997 provides that your assessable income includes income according to ordinary concepts which is called ordinary income. The classic definition in Australian law was given by Chief Justice Jordan in Scott v Commissioner of Taxation (1935) 35 SR (NSW) 215. Chief Justice Jordan considered that:

The word "income" is not a term of art, and what forms of receipts are comprehended within it, and what principles are to be applied to ascertain how much of those receipts ought to be treated as income must be determined in accordance with the ordinary concepts and usages of mankind, except in so far as the statute states or indicates an intention that receipts which are not income in ordinary parlance are to be treated as income, or that special rules are to be applied for arriving at the taxable amount of such receipts.

The leading case on ordinary income is Eisner v Macomber 252 US 189 (1919). It was said in that case that:

The fundamental relation of "capital" to "income" has been much discussed by economists, the former being likened to the tree or the land, the latter to the fruit or the crop; the former depicted as a reservoir supplied from springs, the latter as the outlet stream, to be measured by its flow during a period of time. ...Here we have the essential matter: not a gain accruing to capital, not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable value proceeding from the property, severed from the capital however invested or employed, and coming in, being "derived" that is, received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal; ...that is income derived from property. Nothing else answers the description.

In G.P. International Pipecoaters Proprietary Limited v The Commissioner of Taxation of the Commonwealth of Australia (1990) 170 CLR 124 the High Court of Australia held that whether a receipt is income or capital depends on its objective character in the hands of the recipient. Brennan, Dawson, Toohey, Gaudron and McHugh JJ stated at page 138 that:

To determine whether a receipt is of an income or of a capital nature, various factors may be relevant. Sometimes, the character of receipts will be revealed most clearly by their periodicity, regularity or recurrence; sometimes, by the character of a right or thing disposed of in exchange for the receipt; sometimes, by the scope of the transaction, venture or business in or by reason of which money is received and by the recipient's purpose in engaging in the transaction, venture or business.

Receipts of a capital nature do not constitute income according to ordinary concepts, whether or not incurred in carrying on a business.

In accordance with an employee share scheme, the trustee subscribes to the company for an issue of shares, it pays the full subscription price for the shares and the company receives a contribution of share capital from the trustee.

The character of the contribution of share capital received by Company A from the Trustee of the EST can be determined by the character of the right or thing disposed of in exchange for the receipt. Here, Company A is issuing the Trustee with new shares in itself. The character of the newly issued share is one of capital. Therefore, it can be concluded that the receipt, being the subscription proceeds, takes the character of share capital, and accordingly, is also of a capital nature.

Accordingly, when Company A receives subscription proceeds from the Trustee of the EST where the EST has subscribed for new shares in Company A to satisfy obligations to Participants, that subscription price received by Company A is a capital receipt. That is, it will not be on revenue account, and not ordinary income under section 6-5 of the ITAA 1997.

Section 20-20 of the ITAA 1997

Subsection 20-20(2) of the ITAA 1997 provides that if you receive an amount as a recoupment of a loss or outgoing, it will be assessable income if you received it by way of insurance or indemnity and that amount can be deducted as a loss or outgoing in the current year or earlier income year.

Company A will receive an amount for the subscription of shares by the Trustee of the EST. There is no insurance contract in this case, so the amount is not received by way of insurance.

Further, the amount is not an indemnity because the receipt does not arise under a statutory or contractual right of indemnity, and the receipt is not in the nature of compensation.

Subsection 20-20(3) of the ITAA 1997 makes assessable a recoupment of a loss or outgoing that is deductible, or has been deductible or deducted in a previous income year, where the deduction was claimed under a provision in section 20-30 of the ITAA 1997.

Recoupment is defined to include any kind of recoupment, reimbursement, refund, insurance, indemnity or recovery, however described and a grant in respect of a loss or outgoing.

The Explanatory Memorandum to the Tax Law Improvement Bill 1997 states that the ordinary meaning of recoupment encompasses any type of compensation for a loss or outgoing.

So far as a deduction under section 8-1 of the ITAA 1997 allowed for bad debts or rates or taxes is concerned, section 20-30 of the ITAA 1997 will apply such that if there was a recoupment of that deduction, that amount would be assessable. However, it can be argued that in subscribing for new shares in Company A the EST is acquiring new shares in Company A and this cannot be said to be a recoupment under subsection 20-25(1) of the ITAA 1997.

In any event, the receipt by Company A made in return for issuing shares to the EST would not be a recoupment of previously deducted expenditure under section 8-1 regarding bad debts or rates and taxes to which section 20-30 of the ITAA 1997 could apply.

Therefore, the subscription proceeds will not be an assessable recoupment under section 20-20 of the ITAA 1997.

Capital Gains Tax

Section 102-20 of the ITAA 1997 states that you make a capital gain or loss, if and only if a CGT event happens. No CGT events occur when the EST satisfies its obligations under the Plan by subscribing for new shares in Company A.

The relevant CGT events that may be applicable when the subscription proceeds are received by Company A are CGT events D1 (creating a contractual or other rights) and H2 (receipt for event relating to a CGT asset).

However, paragraph 104-35(5)(c) of the ITAA 1997 states that CGT event D1 does not happen if a company issues or allots equity interests or non-equity shares in the company. In this case, Company A is issuing shares, being equity interests as defined in section 974-75 of the ITAA 1997, to the Trustee, therefore CGT event D1 does not happen.

In relation to CGT event H2, paragraph 104-155(5)(c) of the ITAA 1997 also states that CGT event H2 does not happen if a company issues or allots equity interests or non-equity shares in the company. Therefore, CGT event H2 does not occur.

Since no CGT event occurs, there is no amount that will be assessable as a capital gain to Company A.

Therefore, when the EST satisfies its obligations under the Plan by subscribing for new shares in Company A, the subscription proceeds will not be included in the assessable income of Company A under section 6-5 or section 20-20 ITAA 1997, nor trigger a CGT event under Division 104 of the ITAA 1997.

Question 4

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. 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:

(a)   there must be a scheme within the meaning of section 177A of the ITAA 1936

(b)   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

(c)   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)

On the basis of an analysis of these requirements, the Commissioner will not seek to make a Determination that Part IVA of the ITAA 1936 applies to deny, in part or full, any deduction claimed by Company A in respect of the irretrievable contributions it makes to the Trustee of the EST to fund the subscription for or acquisition on-market of Shares in Company A by the EST.

Question 5

The provision of Rights, Deferred Share Awards and Exempt Share Awards

An employer's liability to fringe benefits tax (FBT) arises under section 66 of the FBTAA which provides that tax is imposed in respect of the fringe benefits taxable amount of an employer for the relevant year of tax. The fringe benefits taxable amount is calculated under the FBTAA by reference to the taxable value of each fringe benefit provided. No amount will be subject to FBT unless a 'fringe benefit' is provided.

In general terms, '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 the definition of 'fringe benefit' states that a fringe benefit does not include:

...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.

Subsection 83A-10(1) of the ITAA 1997 defines an ESS interest in a company as:

...a beneficial interest in:

(a) a share in the company; or

(b) a right to acquire a beneficial interest in a share in the company.

Subsection 83A-10(2) of the ITAA 1997 defines an employee share scheme as:

...a scheme under which ESS interests in a company are provided to employees, or associates of employees, including past or prospective employees of:

(a) the company, or

(b) subsidiaries of the company

in relation to the employees employment.

The applicant has stated that ESS interests (being the Rights which are rights to acquire a beneficial interest in the share of a company, Company A, and the Deferred Share Awards and Exempt Share Awards representing a beneficial interest in a share in a company, again Company A) will be granted to Participants of the Plan. The ESS interests offered to Participants under the Plan are offered in connection with a Participant's employment by Company A (i.e. any entity of the Company A income tax consolidated group).

It is therefore accepted that each of the Plan comprises an employee share scheme (that incorporates the use of the EST which is an employee share trust within the meaning of subsection 130-85(4) of the ITAA 1997 - see question 6 below).

Accordingly, the acquisition of ESS interests (being the Rights, Deferred and Exempt Share Awards) pursuant to the Plan will not be subject to fringe benefits tax on the basis that they are acquired under an employee share scheme (to which Subdivision 83A-B or 83A-C of the ITAA 1997 will apply) and are thereby excluded from being a fringe benefit by virtue of paragraph (h) of the definition of fringe benefit in subsection 136(1) of the FBTAA.

The provision of Company A shares upon exercise of Rights

As stated above, in general terms, '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.

The meaning of the phrase 'in respect of' was considered by the Full Federal Court in J & G Knowles & Associates Pty Ltd v. Federal Commissioner of Taxation (2000) 96 FCR 402; 2000 ATC 4151; (2000) 44 ATR 22. Heerey, Merkel and Finkelstein JJ at page 410 stated:

Whatever question is to be asked, it must be remembered that what must be established is whether there is a sufficient or material, rather than a, casual connection or relationship between the benefit and the employment.

The situation is similar to that which existed in Federal Commissioner of Taxation v. McArdle 89 ATC 4051; (1988) 19 ATR 1901 where an employee was granted valuable rights in respect of his employment which he subsequently surrendered in return for a lump sum payment. Davies, Gummow and Lee JJ noted that what had occurred under the surrender agreement was not the granting of a valuable benefit, but the exploitation of rights received from the employer in previous years.

When an employee of the Company A income tax consolidated group accepts to participate in the Plan, they obtain a right to acquire a beneficial interest in a share in Company A and this right constitutes an ESS interest. When this right is subsequently exercised, any benefit received would be in respect of the exercise of the right, and not in respect of employment (refer ATO ID 2010/219).

Therefore, the benefit that arises to an employee upon the exercise of a vested Right (being the provision of a share in Company A) will not give rise to a fringe benefit as a benefit has not been provided in respect of the employment of the employee.

Question 6

Paragraph (ha) of the definition of 'fringe benefit' in subsection 136(1) of the FBTAA states that a fringe benefit does not include:

(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);

Employee share trust

Subsection 130-85(4) of the ITAA 1997 states:

An employee share trust, for an employee share scheme, is a trust whose sole activities are:

(a) obtaining shares or rights in a company; and Reasons for decision Case number:

(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).

A payment of money by Company A or a subsidiary member of the Company A income tax consolidated group to the Trustee of the EST will therefore not be subject to FBT provided that the sole activities of the EST are obtaining shares or rights to acquire shares in Company A.

In respect of Rights, the right to acquire a share and the beneficial interest in the share that is acquired pursuant to the exercise of the right are both ESS interests within the meaning of subsection 83A-10(1) of the ITAA 1997. Equally, Deferred and Exempt Share Awards are also ESS interests within the meaning of subsection 83A-10(1) of the ITAA 1997 as they each represent a beneficial interest in a share in a company (Company A).

An employee share scheme is defined in subsection 83A-10(2) of the ITAA 1997 as a scheme under which ESS interests in a company are provided to employees, or associates of employees (including past or prospective employees) in relation to the employees' employment.

The Plan 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 (rights to acquire shares in the company) and Deferred and Exempt Share Awards (shares in a company) are provided to employees in relation to the employee's employment.

Under the Plan, the employer has established the EST to acquire shares in the company and to allocate those shares to employees to satisfy Rights and Deferred and Exempt Share Awards acquired under the Plan. In respect of Rights the beneficial interest in the share is itself also 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.

Therefore, paragraphs 130-85(4)(a) and (b) of the ITAA 1997 are satisfied because:

·        the EST acquires shares in a company (being Company A); and

·        the EST ensures that ESS interests as defined in subsection 83A-10(1) of the ITAA 1997, being beneficial interests in those shares, are provided under an ESS, as defined in subsection 83A-10(2) of the ITAA 1997, by allocating those shares to the employees in accordance with the governing documents of the scheme (i.e. each of the Plan).

Undertaking the activities mentioned in paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 will require a trustee to undertake incidental activities that are a function of managing the employee share scheme and administering the trust.

For the purposes of paragraph 130-85(4)(c) of the ITAA 1997, activities which are merely incidental, as set out in TD 2019/13, include:

·        the opening and operation of a bank account to facilitate the receipt and payment of money

·        the receipt of dividends in respect of shares held by the trust on behalf of an employee, and their distribution to the employee

·        the receipt of dividends in respect of unallocated shares and using those dividends to acquire additional shares for the purposes of the employee share scheme

·        dealing with shares forfeited under an employee share scheme including the sale of forfeited shares and using the proceeds of sale for the purposes of the employee share scheme

·        the transfer of shares to employee beneficiaries or the sale of shares on behalf of an employee beneficiary and the transfer to the employee of the net proceeds of the sale of those shares

·        receiving and immediately distributing shares under a demerger.

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 merely incidental.

For the purposes of the EST, the powers of the Trustee are set out in the Trust Deed. The Trust Deed limits the powers given to the Trustee under the Trust Deed so as to ensure that the powers of the Trustee under the Trust Deed are exercised in accordance with subsection 130-85(4) of the ITAA 1997. These provisions collectively make it clear that the Trustee can only use the contributions received exclusively for the acquisition of shares for eligible employees in accordance with the Plan. To this end, all other duties/general powers listed in the Trust Deed are considered to be merely incidental to the functions of the Trustee in relation to its dealing with the shares for the sole benefit of Participants in accordance with the Plan.

Therefore, the EST is an employee share trust as the activities of the EST in acquiring and allocating ESS interests meet the requirements of paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 as concluded above, and its other activities (general powers) are merely incidental to those activities in accordance with paragraph 130-85(4)(c) of the ITAA 1997.

Accordingly, as paragraph (ha) of the definition of fringe benefit in subsection 136(1) of the FBTAA 1986 excludes the contributions to the Trustee of the EST from being a fringe benefit, Company A or a subsidiary member of the Company A income tax consolidated group will not be required to pay FBT in respect of irretrievable contributions made to the Trustee of the EST to fund the acquisition of shares in Company A in accordance with the Trust Deed.

Question 7

Law Administration Practice Statement PS LA 2005/24 (PS LA 2005/24) has been written to assist those who are contemplating the application of Part IVA or other general anti-avoidance rules to an arrangement. It succinctly explains how section 67 of the FBTAA 1986 operates. Most notably, paragraphs 185-188 of PS LA 2005/24 provide as follows:

185. Section 67 is the general anti-avoidance provision in the FBTAA. The operation of section 67 is comparable to Part IVA, in that the section requires the identification of an arrangement and a tax benefit, includes a sole or dominant purpose test and is activated by the making of a determination by the Commissioner. The definition of 'arrangement' in subsection 136(1) of the FBTAA is virtually identical to the definition of 'scheme' in section 177A of Part IVA.

186. Subsection 67(1) of the FBTAA is satisfied where a person or one of the persons who entered into or carried out an arrangement or part of an arrangement under which a benefit is or was provided to a person, did so for the sole or dominant purpose of enabling an eligible employer or the eligible employer and another employer(s) to obtain a tax benefit.

187. An objective review of the transaction and the surrounding circumstances should be undertaken in determining a person's sole or dominant purpose in carrying out the arrangement or part of the arrangement. Section 67 of the FBTAA differs from subsection 177D(2) in Part IVA in that it does not explicitly list the factors that should be taken into account in determining a person's sole or dominant purpose.

188. Subsection 67(2) of the FBTAA provides that a tax benefit arises in respect of a year of tax in connection with an arrangement if under the arrangement:

(i) a benefit is provided to a person;

(ii) an amount is not included in the aggregate fringe benefits amount of the employer; and

(iii) that amount would have been included or could reasonably be expected to have been included in the aggregate fringe benefits amount, if the arrangement had not been entered into.

It is clear, therefore, that the Commissioner would only seek to make a determination under section 67 of the FBTAA 1986 if the arrangement resulted in the payment of less fringe benefits tax than would be payable but for entering into the arrangement.

Further, paragraph 191 of PS LA 2005/24 provides:

191. The approach outlined in this practice statement (refer to paragraphs 75 to 150) to the counterfactual and the sole or dominant purpose test in Part IVA is relevant (except that amendments corresponding to the 2013 amendments of Part IVA have not been made to section 67) and should be taken into account by Tax officers who are considering the application of section 67 of the FBTAA.

Under the Plan, if an EST was not used, no fringe benefits tax would be payable and nor is it likely that benefits provided to employees under other alternative remuneration plans would result in fringe benefits tax being payable.

In addition, under the Plan arrangements (with an EST), the benefits provided by way of irretrievable contributions to the EST and the provision of Rights (and the Company A shares received on their vesting) and Deferred and Exempt Share Awards to eligible employees are excluded from the definition of a fringe benefit for the reasons given in the responses to questions 6 and 7 above. Therefore, as these benefits have been excluded from the definition of a fringe benefit, no fringe benefit arises and no fringe benefits tax will be payable by using an EST with the Plan. Also, as there would be no fringe benefits tax payable under the Plan without the use of an EST (and nor likely would fringe benefits tax be payable under other alternative remuneration plans), the fringe benefits tax liability is not any less than it would have been but for the arrangement.

Accordingly, the Commissioner will not make a determination that section 67 of the FBTAA 1986 applies to include an amount in the aggregate fringe benefits amount of Company A or any subsidiary member of the Company A income tax consolidated group in relation to a tax benefit obtained from the irretrievable cash contributions made by Company A or any subsidiary member of the Company A income tax consolidated group to the Trustee of the EST to fund the subscription for or acquisition on-market of shares in Company A.