Edited version of private advice

Authorisation Number: 1051648589103

Date of advice: 29 April 2020

Ruling

Subject: Employee share scheme

Question 1

Will the irretrievable cash contributions by Company A to the Trustee to fund the acquisition of, or subscription for, Company A shares by the Trustee be assessable income of the Trust under section 6-5 or 6-10 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

Question 2

Will a capital gain or capital loss that arises for the Trustee at the time when the employees become absolutely entitled to Company A shares (capital gains tax (CGT) event E5), or when the Trustee disposes of the shares to the employees (CGT event E7), be disregarded under section 130-90 of ITAA 1997 if the employees acquire the shares for the same or less than the cost base of the shares in the hands of the Trustee?

Answer

Yes

This ruling applies for the following periods:

Income years ending 30 June 20XX to 30 June 20XX

The scheme commences on:

XX December 20XX

Relevant facts and circumstances

Company A is an Australian resident company. It operates an employee incentive plan (the Plans) as part of its remuneration strategy.

The employees who are participants of the Plans (the Participants) will be granted with options/rights (the Options/Rights) to acquire shares in Company A.

Company A established the Trust to facilitate the acquisition, holding of and allocation of shares to Participants.

The Plans is governed by the Plan Rules and operates as follows:

·         Company A makes recurring irretrievable cash contributions to the Trustee to enable the Trustee to acquire Company A shares to satisfy the Rights; and

·         Company A has incurred costs in the on-going administration of the Trust.

·         The Options/Rights are offered by Company A to Participants. When the Options/Rights vest to a Participant, shares are released by the Trustee and allocated to the Participants.

·         Once Rights vest and shares are transferred to the Participants, the Participants are entitled to dispose of their shares (subject to complying with certain policies of Company A) according to their own wishes.

·         Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 section 130-90

Reasons for decision

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

Question 1

The total assessable income of a trust estate is calculated as if the trustee were a resident taxpayer in respect of that income (subsection 95(1) of the Income Tax Assessment Act 1936.

The assessable income of a taxpayer includes income under ordinary concepts (section 6-5) or statutory income (section 6-10).

None of the provisions listed in section 10-5 are relevant in the present circumstances. Therefore, non-refundable contributions made by Company A to the Trustee for the Trust will not be assessable income under section 6-10.

The contributions made by Company A are irretrievable and non-refundable to Company A in accordance with the Trust Deed as all contributions provided to the Trustee will constitute accretions to the corpus of the Trust and will not be repayable to Company A (clause 5.3 of the Trust Deed).

The funds provided to the Trustee are used in accordance with the Trust Deed and Plan Rules for the sole purpose of and under the employee share scheme. The contributions constitute capital receipts to the Trustee, and are not assessable under sections 6-5 or 6-10 (ATO Interpretative Decision ATO ID 2002/965 Income Tax - Trustee not assessable on employer contributions made to it under the employer's employee share scheme), and hence will not be assessed to the Trustee pursuant to section 95 of the ITAA 1936.

Question 2

Generally, CGT event E5 happens if a beneficiary becomes absolutely entitled to a CGT asset of a trust as against the trustee, subject to some exceptions (section 104-75).

If CGT event E5 happens, the trustee makes a capital gain or capital loss if the market value of the asset (at the time of the event) is more than its cost base or less than the asset's reduced cost base, respectively (subsection 104-75(3)). However, any capital gain or capital loss the trustee makes is disregarded for employee share trusts (Note in subsection 104-75(4)).

The meaning of an employee share trust is defined in subsection 130-85(4), which examines the activities of the trustee. The present Trust is an employee share trust because:

·         the Trust acquires shares in a company, namely Company A

·         the Trust ensures that ESS interests as defined in subsection 83A-10(1) (being Options or Rights in the Plans) are provided under an employee share scheme (as defined in subsection 83A-10(2)) by allocating those Shares to the employees in accordance with the Trust Deed and the Plans, and

·         the objects of the Trust are for the sole purpose of undertaking activities that are in line with the definition of an employee share trust under subsection 130-85(4) (clause 4.1 of the Trust Deed). The powers and activities allowed to be undertaken by the Trustee according to the Trust Deed are in line with the types of activities that are merely incidental as set out in Taxation Determination TD 2019/13: Income tax: what is an 'employee share trust'? (TD 2019/13)

Subsection 130-90(1A) applies to shares held for future acquisition under employee share schemes (as in the Executive Incentive Plan) while subsection 130-90(1) applies in respect of shares held to satisfy the future exercise of rights or options acquired under employee share schemes (as in the Performance Rights and Option Plan).

Subsection 130-90(1)

Subsections 130-90(1) applies to disregard any capital gain or loss made by an employee share trust if:

(a) the CGT event is CGT event E5 or E7;

(b) the CGT event happens in relation to a share; and

(c) the beneficiary had acquired a beneficial interest in the share by exercising a right; and (d) the beneficiary's beneficial interest in the right was an ESS interest to which Subdivision 83A-B or 83A-C (about employee share schemes) applied.

Paragraph 130-90(1)(a)

CGT event E5 is the CGT event that will apply under the terms of the Trust and Plans at the time the Participant becomes absolutely entitled to Company A Shares as against the Trustee when Exercise Conditions are met and the Right or Option is exercised.

Paragraph 130-90(1)(b)

Subsection 995-1(1) defines a share in a company to mean a share in the capital of a company. An ordinary Share in Company A held by the Trustee and to which a Participant is entitled upon exercise of a Right or Option is a share in the capital of a company (i.e. Company A). Accordingly, CGT event E5 happens in relation to a share.

Paragraph 130-90(1)(c)

Paragraph 130-90(1)(c) is satisfied as a Participant will have acquired a beneficial interest in a share (in Company A) by exercising a Right or Option provided under the Plans.

Paragraph 130-90(1)(d)

Subsection 83A-20(1) is the key condition that an ESS interest must meet for Subdivision 83A-B or 83A-C to apply. Subsection 83A-20(1) states:

This Subdivision applies to an ESS interest if you acquire the interest under an employee share scheme at a discount.

The Right or Option in the Plans is an 'ESS interest' under paragraph 83A-10(1)(b) because it is a beneficial interest in a right to acquire a Share in Company A.

Subsection 83A-10(2) defines an employee share scheme as being 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 Plans is an employee share scheme within the meaning of subsection 83A-10(2) because it is a scheme under which Rights or Options to acquire beneficial interests in ordinary Shares in Company A are provided to employees in relation to the employee's employment. Each Right or Option is acquired for no cost.

As the Participant acquires the Right or Option for no cost, the ESS interest is acquired by the Participant at a discount. Therefore, Subdivision 83A-B or 83A-C applies to the Right or Option under the Plans.

Accordingly, all the conditions in subsection 130-90(1) have been satisfied.

Provided a Participant does not acquire the beneficial interest in Company A Share for more than its cost base in the hands of the Trust at the time that CGT event E5 happens, subsection 130-90(1) will apply. Any capital gain or capital loss that the Trustee makes from CGT event E5 for the Plans is disregarded.