Edited version of private advice

Authorisation Number: 1051770761402

Date of advice: 23 October 2020

Ruling

Subject: Employee share scheme

Issue 1 - Income Tax

Question 1

Is Company A ('the Company') as head company of an income tax consolidated group ('TCG') entitled to a corporate tax deduction under section 8-1 of the Income Tax Assessment Act 1997 ('ITAA 1997') for the irretrievable cash contributions made by the Company to the trustee of Trust B ('the Trust') to fund the subscription for, or the acquisition on or off market, of shares in the Company in respect of employees and directors of the Company or the TCG?

Answer

Yes

Question 2

Will the Company obtain an income tax deduction, pursuant to section 8-1 of the ITAA 1997, in respect of costs incurred, other than those which are capital in nature, in relation to the on-going administration of the Trust, including expenses relating to preparation of tax returns and obtaining tax advice for the Trust?

Answer

Yes

Question 3

Will the Commissioner of Taxation make a determination that Part IVA of the Income Tax Assessment Act 1936 ('ITAA 1936') applies to deny, in part or in full, a deduction claimed by the Company for the cash contributions made by the Company to fund the subscription for, or acquisition on or off market, of the Company shares by the Trust?

Answer

No

The rulings for questions 1 - 3 inclusive each apply for the following periods:

Income tax year ended 30 June 20xx

Income tax year ended 30 June 20xx

Income tax year ended 30 June 20xx

Income tax year ended 30 June 20xx

Income tax year ended 30 June 20xx

Issue 2 - Fringe Benefits Tax

Question 4

Will the cash contributions made by the Company to fund the subscription for, or acquisition on or off market, of the Company shares constitute a fringe benefit within the meaning of subsection 136(1) of the Fringe Benefit Tax Assessment Act 1986 ('FBTAA')?

Answer

No

Question 5

Will the provision of Options, Performance Rights and Service Rights by the Company or Trust to employees of the Company or members of the Company Group constitute a fringe benefit within the meaning of subsection 136(1) of the FBTAA?

No

The rulings for questions 4 - 5 inclusive each apply for the following periods:

Fringe benefits tax year ended 31 March 20XX

Fringe benefits tax year ended 31 March 20XX

Fringe benefits tax year ended 31 March 20XX

Fringe benefits tax year ended 31 March 20XX

Fringe benefits tax year ended 31 March 20XX

Relevant facts and circumstances

The Company

The Company is an Australian public company whose shares are listed for trading on the ASX. It has one class of shares on issue, namely ordinary shares.

The Company is the head company of an income tax consolidated group ('TCG'). The Company has foreign subsidiaries (together, 'the Group').

The Company and members of the Group are not involved predominantly in the business of acquiring, selling or holding shares, securities or other investments.

The Plan

The Company established an ESS Plan ('the Plan').

The Plan is part of the Company's global remuneration framework which is designed to attract, retain, motivate and reward high performance individuals with the key skills required by the Company and its related body corporate to undertake their daily activities and to align the interests of these Participants with the interests of the Company and shareholders.

The Plan provides the following types of awards as long-term incentive to Participants:

i. Options

ii. Performance Rights,

iii. Service Rights.

The Options, Performance Rights and Service Rights (collectively referred to as 'Awards') are over ordinary shares in the company.

Awards under the Plan can be made to employees, officers and directors of the Company or a related body corporate ('Participants').

Awards made under the Plan are provided to both Australian resident and foreign resident employees of the Group. (Amounts paid to foreign resident employees by overseas Group members for work performed overseas are not subject to PAYG withholding obligations under Schedule 1 to the Taxation Administration Act 1953.)

Awards under the Plan are also provided to employees, officers and directors of foreign resident contractors who work for foreign subsidiaries of the Group, but are employed by third-party payroll providers. These contractors' employees, officers and directors do not have Awards provided to them through the Trust and are not included in this ruling.

When shares are provided to employees of overseas Group members, the Company has a policy which permits the company to charge a fee to the overseas Group employer for the provision of the shares to the foreign resident employee.

Options are issued for nil consideration with various exercise prices. Performance Rights are issued for nil consideration and may not have an exercise price. Service Rights are issued for nil consideration and do not have an exercise price.

The Options, Performance Rights and Service Rights are issued subject to performance hurdles or continued service requirements. The Participant cannot exercise the Award and may risk losing the Options, Performance Rights or Service Rights until the conditions are met.

The Company has confirmed that any cash payment to Participants with respect to any Cash Rights will be paid by the Company directly to the Participant. Such payment will not be made via the Trust.

The Company will have ongoing administration costs with respect to the Plan. Ongoing administration costs are paid directly by the Company, not by the trustee of the Trust ('the Trustee'). These include:

·         preparation of income tax returns

·         ASIC fees

·         Preparation of accounts and audit

·         Accounting services

·         Obtaining legal advice.

The Trust

At establishment of the Plan, the Company established the Trust to assist with the administration of the Plan.

The Trust is established for the sole purpose of obtaining Shares for the benefit of Participants, including subscribing for or acquiring, allocating, holding and delivering Shares under the Plans for the benefit of Participants.

The Company arranges for the Trustee of the Trust to subscribe for newly issued Shares or to purchase Shares on or off market so that the Shares can be provided to Participants on exercise of the Options, Performance Rights or Service Rights in accordance with the Plan.

The off-market share acquisitions are contemplated being valued using a value-weighted average price ('VWAP') method or through independent valuation. The valuation of shares acquired off-market will not exceed market value.

The Company is required to make cash contributions to the Trust for the price of the shares.

The contributions by the Company or any Associated Company constitute accretions to the corpus of the Trust and will not be repaid to the Company.

Neither the Company nor any member of the Group (including the Trustee) are entitled to obtain any beneficial interest in the Trust Assets, other than in respect to the Trustee's right of indemnity.

No specific Participant is entitled to receive any funds from the corpus of the Trust or Net Income of the Trust.

The contribution by the Company to the Trust is made at the time the Company directs the Trustee to purchase the shares, which may be in advance of the time any Participant exercising their Options or Rights.

The Trustee has the power to reinvest dividends and participate in or decline to participate in Share entitlements. 'Share entitlements' means a right to a share or an option to acquire such a right.

Upon exercise of Options, Performance Rights or Service Rights by Participants, the Company determines how many Shares are to be issued and then confirms this number to the Trustee. The Shares may continue to be held by the Trustee post exercise on behalf of the employee or they may be delivered by the Trustee to Participants upon request by the Participant and approval by the Company.

The Trust Deed determines how the Trustee is to deal with any Shares held in the Trust.

Subject to the Trust Deed and the Plan Rules, the Trustee in its discretion has the full power to do all things a trustee is permitted to do by law in respect of the Trust and the Trust Assets. The Trust Deed confirms that Company and the Trustee agree that the Trust will be managed and administered so that it satisfies the definition of 'employee share trust' as defined in section 130-85(4) of the ITAA 1997.

The limitations on Trustee are outlined in the Trust Deed.

Termination of the Trust disallows Trust Assets to be returned to the Company or member of the Group on winding up of the Trust.

Neither the Company nor any member of the Group is a beneficiary of the Trust.

Reasons for decision

Questions 1 to 3 - application of the single entity rule in section 701-1

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

The meaning and application of the SER is explained in Taxation Ruling TR 2004/11 Income tax: consolidation: the meaning and application of the single entity rule in Part 3-90 of the Income Tax Assessment Act 1997.

As a consequence of the SER, the actions and transactions of the subsidiary members of the TCG are treated, for income tax purposes, as having been undertaken by the Company as the head company of the TCG.

Questions 4 and 5

The SER in section 701-1 has no application to the Fringe Benefits Tax Assessment Act 1986. The Commissioner has therefore provided a ruling to the Company and each company that is an employing entity in the TCG in relation to questions 4 and 5.

Question 1 Detailed reasoning

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

The Company carries on a business which produces assessable income. The Company operates an employee share scheme ('ESS') to the extent that ESS interests are provided to employees and directors of the Company and the Group as part of its remuneration strategy.

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

Incurred in carrying on a business

The Company must provide the Trustee with all the funds required to enable the Trustee to subscribe for or acquire those Company shares.

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

·         The Company and members of the Group do not have or cannot obtain any beneficial interest in the Trust Assets

·         All funds received by the Trustee from the Company will constitute Accretions to corpus of the Trust and will not be repaid to the Company

·         On termination of the Trust, the Trustee must not pay any balance of Trust Assets to the Company or member of the Group, and

·         Neither the Company nor any member of the Group is a beneficiary of the Trust.

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

Foreign employees

The fee the Company charges to overseas Group members for provision of the shares to foreign resident employees will be assessable income of the Company. Therefore, the irretrievable contributions made by the Company to enable the Trustee to acquire shares on behalf of foreign resident employees who participate in the Plan will be incurred in gaining assessable income.

Not capital or of a capital nature

The costs will be an outgoing incurred for periodic funding of an ESS for employees and directors of the Company and members of the Group. Costs incurred are likely to be in relation to more than one grant of Awards (rather than being one-off), and the Company intends to continue satisfying outstanding Awards using shares acquired by the Trust. This indicates that the irretrievable contributions to the Trust are ongoing in nature and are part of the broader remuneration expenditure of the Company.

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

Question 2 Detailed Reasoning

Section 8-1 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, incurred in producing exempt or non-assessable non-exempt income or where a provision of the tax law prevents the deduction.

The Company carries on a business which produces assessable income. The Company operates an ESS to the extent that ESS interests are provided to employees and directors of the Company and the Group as part of its remuneration strategy.

The Company incurs on-ongoing administration costs for operating the ESS such as

·         preparation of income tax returns

·         ASIC fees

·         Preparation of accounts and audit

·         Accounting services

·         Obtaining legal advice

These costs are regular and recurrent employment expenses which are deductible under section 8-1 as they are costs necessarily incurred in running the ESS while carrying on its business for the purpose of gaining or producing its assessable income.

Relevantly, these costs are not capital or of a capital nature as the loss or outgoings are regular and recurrent and are part of the ordinary employee remuneration costs of the company (ATO ID 2014/42 Employer costs for the purpose of administering its employee share scheme are deductible).

Question 3 Detailed Reasoning

Part IVA of the Income Tax Assessment Act 1936 ('ITAA 1936') is a general anti-avoidance provision which gives the Commissioner the power to cancel a 'tax benefit' that has been obtained, or would, but for section 177F of the ITAA 1936, be obtained, by a taxpayer in connection with a scheme to which Part IVA applies.

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

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

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

Question 4 Detailed Reasoning

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

In general terms, a 'fringe benefit' is defined in subsection 136(1) of the FBTAA as being a benefit provided to an employee or an associate of an employee 'in respect of' the employment of the employee. However, certain benefits are excluded from being a 'fringe benefit' by virtue of paragraphs (f) to (s) of the 'fringe benefit' definition.

One benefit excluded from being a 'fringe benefit', pursuant to paragraph (ha) of subsection 136(1) of the FBTAA 1986, is 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.

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

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

·         The Trust acquires shares in a company, namely the Company; and

·         The Trust ensures that ESS interests as defined in subsection 83A-10(1) (being Options, Performance Rights and Service Rights in the Company shares according to the Plan) are provided under an ESS (as defined in subsection 83A-10(2)) by allocating those shares to the employees or directors of the Company and the Group in accordance with the Trust Deed and the Plan.

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

The Commissioner's views on the types of activities that are merely incidental and not merely incidental are set out in Draft Taxation Determination TD 2019/D8: Income tax: what is an 'employee share trust'?.

Activities that result in employees being provided with additional benefits (such as the provision of financial assistance, including a loan to acquire the shares) are not considered to be merely incidental.

In the present case, the activities that the Trustee is permitted to undertake under the Trust Deed are indicative of those required to administer an employee share trust and are incidental to the primary purposes stated in paragraphs 130-85(4)(a) and (b). This is consistent with the purpose of the Trust, namely for the sole purpose of undertaking activities that are in line with the definition of an employee share trust under section 130-85(4).

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

Question 5 Detailed Reasoning

One benefit excluded from being a 'fringe benefit', pursuant to paragraph (h) of subsection 136(1) of the FBTAA 1986 is:

(h) a benefit constituted by the acquisition of an ESS interest under an employee share scheme (within the meaning of the Income Tax Assessment Act 1997) to which Subdivision 83A-B or 83A-C of that Act applies;

The Commissioner accepts that the Plan is an ESS to the extent that ESS interests are provided to employees and directors of the Company and the Group, the Options, Performance rights and Service rights for the Company shares provided under the Plan are ESS interests and that Subdivision 83A-C applies to those ESS interests.

Accordingly, the provision of ESS interests to employees and directors of the Company and the Group under the Plan will not be subject to FBT on the basis that they are acquired by Participants under an ESS (to which Subdivision 83A-C 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.

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

Foreign employees

As discussed in question 4, a 'fringe benefit' is defined in subsection 136(1) of the FBTAA as being a benefit provided to an employee or an associate of an employee 'in respect of' the employment of the employee generally.

An employee is defined to mean a current, future or former employee under subsection 136(1) of the FBTAA. The concept of employee in the FBTAA hinges on whether the person receives or is entitled to receive 'salary or wages'. 'Salary or wages' are defined in subsection 136(1) to mean a payment made to the person and the payment is subject to PAYG withholding obligations in Schedule 1 to the Taxation Administration Act 1953.

Where amounts paid to foreign resident employees by overseas Group members for work performed overseas are not subject to PAYG withholding obligation, those amounts will be not 'salary and wages' as defined in subsection 136(1) of the FBTAA. This means that there are no obligations arising under the FBTAA for benefits (such as Options, Performance Rights or Service Rights) provided to foreign resident employees by overseas Group members.