Edited version of private advice

Authorisation Number: 1051899725228

Date of advice: 19 October 2021

Ruling

Subject: Employer remuneration trust

Question 1

Will the contributions of monies by the Employer to the Trustee pursuant to Trust Deed be included as assessable income of the Employee under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes, in circumstances where those contributions are later applied in making a payment to the Employee under clause JJ of the Trust Deed.

Question 2

Will the contributions of monies by the Employer to the Trustee pursuant to the Trust Deed be included as assessable income of the Employee under section 15-2 of the ITAA 1997?

Answer

No.

Question 3

Will the loans of monies by the Employer to the Trustee pursuant to the Trust Deed be included as assessable income of the Employee under section 6-5 of the ITAA 1997?

Answer

Yes, in circumstances where those loans are later applied in making a payment to the Employee under clause JJ of the Trust Deed.

Question 4

Will the loans of monies by the Employer to the Trustee pursuant to the Trust Deed be included as assessable income of the Employee under section 15-2 of the ITAA 1997?

Answer

No.

Question 5

Will the acquisition of the Allocated Investments by the Employee in return for payment of market value consideration be included as assessable income of the Employee under subsection 83A-25 of the ITAA 1997.

Answer

No.

Question 6

Will the acquisition of the Allocated Investments by the Employee in return for payment of market value consideration be included as assessable income under section 6-5 of the ITAA 1997 for the Employee?

Answer

No.

Question 7

Will the issue of Allocated Investments to the Employee in return for payment of market value consideration give rise to any assessable income under section 15-2 of the ITAA 1997 for the Employee?

Answer

No.

Question 8

Will the first element of the CGT cost base of the Allocated Investments acquired by the Employee, in accordance with section 110-25 of the ITAA 1997, equal the amount paid for those Allocated Investments?

Answer

No.

Question 9

Will the distribution of dividends and other income included in the calculation of the net income of the trust estate under section 95 of the Income Tax Assessment Act 1936 (ITAA 1936) by the Trustee to the Participants, to which they are presently entitled, be included as assessable income of the Employee under section 97 of the ITAA 1936?

Answer

No.

Question 10

Will the proceeds received by the Employee upon redemption of the Allocated Investments constitute assessable income under section 6-5 of the ITAA 1997?

Answer

No.

Question 11

Will the proceeds received by the Employee upon redemption of the Allocated Investments constitute assessable income under section 15-2 of the ITAA 1997?

Answer

No.

Question 12

To the extent that any proceeds received on the redemption of the Allocated Investments constitute assessable income for the Employee under the provisions of section 6-5 or section 15-2 of the ITAA 1997, will the net proceeds (i.e. gross proceeds less the cost of the Allocated Investments) be assessable, rather than the gross proceeds?

Answer

Given the responses to Question 10 and Question 11 respectively, this question does not require a response.

Question 13

Where the Trustee disposes of the Allocated Investments issued to the Employee and makes a capital gain from that disposal, will that capital gain be treated as the Employee's capital gain pursuant to Subdivision 115-C of the ITAA 1997?

Answer

Yes.

Question 14

(a)          To the extent that the proceeds received on the redemption of the Allocated Investments do not constitute assessable income under section 6-5 or 15-2 of the ITAA 1997 for the Employee, will the redemption of the Allocated Investments constitute a CGT event as set out in Division 104 of the ITAA 1997?

Answer

Yes.

(b)          To the extent that the proceeds received on the redemption of the Allocated Investments do not constitute assessable income under section 6-5 or 15-2 of the ITAA 1997 for the Employee, will the proceeds received by the Employee upon the redemption of the Allocated Investments be taken into account in calculating his net capital gain under Division 102 of the ITAA 1997?

Answer

Yes.

(c)          To the extent that the proceeds received on the redemption of the Allocated Investments do not constitute assessable income under section 6-5 or 15-2 of the ITAA 1997 for the Employee, will the CGT discount provisions in Division 115 of the ITAA 1997 apply where the Allocated Investments were acquired at least one year before the redemption?

Answer

Yes.

(d)          To the extent that the proceeds received on the redemption of the Allocated Investments do not constitute assessable income under section 6-5 or 15-2 of the ITAA 1997 for the Employee and to the extent the proceeds are distributed by the Trustee and paid to the Employee in respect of Subdivision 115-C of the ITAA 1997 (whether due to present entitlement or specific entitlement), as part of the consideration for redemption of their Allocated Investments, will the CGT event arising from the redemption of the Allocated Investments as per question 14(b) of this ruling be the sole taxing event for the Employee in respect of that distribution?

Answer

This is not a valid Ruling question. A particular provision has not been identified by the Applicant.

Question 15

To the extent that the proceeds from any given redemption of Allocated Investments are included in assessable income of the Employee under section 6-5 or section 15-2 of the ITAA 1997 and are taken into account in calculating a net capital gain, will the anti-overlap provisions of section 118-20 of the ITAA 1997 operate to reduce the capital gain by the amount included in assessable income or to zero in accordance with subsections 118-20(2) and 118-20(3) of the ITAA 1997?

Answer

Given the responses to Question 10 and Question 11 respectively, this question does not require a response.

Question 16

If the Allocated Investments are redeemed at a time that coincides with the cessation of the Employee's employment, will the proceeds on redemption be an employment termination payment under section 82-130 of Part 2-40 of the ITAA 1997?

Answer

No.

Question 17

If the Trustee, pursuant to clause JJ of the Trust Deed, decides to pay salary to the Employee on behalf of the Employer, will the amounts paid to the Employee be included as assessable income of the Employee under section 6-5 of the ITAA 1997?

Answer

Yes.

Question 18

If the Trustee, pursuant to clause KK of the Trust Deed, decides to provide discounted rights to shares to the Employee on behalf of the Employer, will the discount to the market value of the rights provided to the Employee be included as assessable income of the Employee under section 83A-25 of the ITAA 1997?

Answer

No.

Question 19

If the Trustee, pursuant to clause KK of the Trust Deed, provides discounted rights to shares to the Employee, will the value of the rights provided to the Employee be included in the Employee's assessable income under section 6-5 of the ITAA 1997?

Answer

No.

Question 20

If the Trustee, pursuant to clause KK of the Trust Deed, provides discounted rights to shares to the Employee, will the value of the rights provided to the Employee be included in the Employee's assessable income under section 15-2 of the ITAA 1997?

Answer

No.

Question 21

Where the Employee does not qualify for the small shareholder exemption pursuant to former subsection 160APHT(1) of the ITAA 1936, will the Employee be entitled to tax offsets for franking credits attached to franked distributions (within the meaning of Subdivision 207-B of the ITAA 1997) that the Employee receives from the Trust?

Answer

No.

This ruling applies for the following periods:

Income year ending 30 June 20XX

Income year ending 30 June 20XX

Income year ending 30 June 20XX

Relevant facts and circumstances

The employer entity intends to implement a long-term equity plan for the purpose of providing a long-term equity incentive structure to deliver equity based benefits to employees and/or contractors selected by the board of the employer entity.

Relevant legislative provisions

Fringe Benefits Tax Assessment Act 1986 subsection 136(1)

Income Tax Assessment Act 1936 section 23L

Income Tax Assessment Act 1936 subsection 23L(1)

Income Tax Assessment Act 1936 subsection 23L(1A)

Income Tax Assessment Act 1936 section 95

Income Tax Assessment Act 1936 section 97

Income Tax Assessment Act 1936 subsection 102AG(3)

Income Tax Assessment Act 1936 Division 6E

Income Tax Assessment Act 1936 former Division 1A of Part IIIAA

Income Tax Assessment Act 1936 formersection 160APHJ

Income Tax Assessment Act 1936 former section 160APHL

Income Tax Assessment Act 1936 formersubsection 160APHL(2)

Income Tax Assessment Act 1936 formersubsection 160APHL(4)

Income Tax Assessment Act 1936 formersubsection 160APHL(7)

Income Tax Assessment Act 1936 formersubsection 160APHL(10)

Income Tax Assessment Act 1936 formersubsection 160APHL(11)

Income Tax Assessment Act 1936 formersubsection 160APHL(12)

Income Tax Assessment Act 1936 formerparagraph 160APHL(12)(a)

Income Tax Assessment Act 1936 formerparagraph 160APHL(12)(b)

Income Tax Assessment Act 1936 formersubsection 160APHL(14)

Income Tax Assessment Act 1936 formerparagraph 160APHL(14)(c)

Income Tax Assessment Act 1936 formersubsection 160APHM(2)

Income Tax Assessment Act 1936 formersubsection 160APHM(3)

Income Tax Assessment Act 1936 former section 160APHO

Income Tax Assessment Act 1936 former section 160APHP

Income Tax Assessment Act 1936 formersubsection 160APHP(2)

Income Tax Assessment Act 1936 former section 160APHQ

Income Tax Assessment Act 1936 former section 160APHR

Income Tax Assessment Act 1936 former section 160APHT

Income Tax Assessment Act 1936 former subsection 160APHT(1)

Income Tax Assessment Act 1936 former section 160APHU

Income Tax Assessment Act 1936 section 318

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 subsection 6-5(2)

Income Tax Assessment Act 1997 subsection 6-5(4)

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 subsection 6-15(2)

Income Tax Assessment Act 1997 subsection 6-15(3)

Income Tax Assessment Act 1997 section 6-20

Income Tax Assessment Act 1997 section 6-23

Income Tax Assessment Act 1997 section 10-5

Income Tax Assessment Act 1997 section 15-2

Income Tax Assessment Act 1997 subsection 15-2(1)

Income Tax Assessment Act 1997 subsection 15-2(3)

Income Tax Assessment Act 1997 paragraph 15-2(3)(d)

Income Tax Assessment Act 1997 Division 82

Income Tax Assessment Act 1997 Subdivision 82-C

Income Tax Assessment Act 1997 section 82-130

Income Tax Assessment Act 1997 subsection 82-130(1)

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-25

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Division 102

Income Tax Assessment Act 1997 section 102-5

Income Tax Assessment Act 1997 subsection 102-5(1)

Income Tax Assessment Act 1997 section 102-20

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 subsection 104-10(1)

Income Tax Assessment Act 1997 subsection 104-10(4)

Income Tax Assessment Act 1997 section 104-70

Income Tax Assessment Act 1997 subsection 104-70(4)

Income Tax Assessment Act 1997 section 108-5

Income Tax Assessment Act 1997 subsection 108-5(1)

Income Tax Assessment Act 1997 section 110-25

Income Tax Assessment Act 1997 subsection 110-25(2)

Income Tax Assessment Act 1997 Division 112

Income Tax Assessment Act 1997 section 112-15

Income Tax Assessment Act 1997 section 112-20

Income Tax Assessment Act 1997 subsection 112-20(1)

Income Tax Assessment Act 1997 Division 115

Income Tax Assessment Act 1997 section 115-10

Income Tax Assessment Act 1997 section 115-15

Income Tax Assessment Act 1997 section 115-20

Income Tax Assessment Act 1997 section 115-25

Income Tax Assessment Act 1997 Subdivision 115-C

Income Tax Assessment Act 1997 section 115-215

Income Tax Assessment Act 1997 subsection 115-215(3)

Income Tax Assessment Act 1997 section 115-225

Income Tax Assessment Act 1997 subsection 115-225(1)

Income Tax Assessment Act 1997 section 115-227

Income Tax Assessment Act 1997 paragraph 115-227(b)

Income Tax Assessment Act 1997 section 115-228

Income Tax Assessment Act 1997 subsection 115-228(1)

Income Tax Assessment Act 1997 section 118-20

Income Tax Assessment Act 1997 subsection 118-20(2)

Income Tax Assessment Act 1997 subsection 118-20(3)

Income Tax Assessment Act 1997 Part 3-3

Income Tax Assessment Act 1997 Subdivision 207-B

Income Tax Assessment Act 1997 subsection 207-35(1)

Income Tax Assessment Act 1997 subsection 207-35(3)

Income Tax Assessment Act 1997 subsection 207-35(4)

Income Tax Assessment Act 1997 section 207-37

Income Tax Assessment Act 1997 section 207-45

Income Tax Assessment Act 1997 paragraph 207-45(a)

Income Tax Assessment Act 1997 section 207-50

Income Tax Assessment Act 1997 subsection 207-50(3)

Income Tax Assessment Act 1997 section 207-55

Income Tax Assessment Act 1997 subsection 207-55(3)

Income Tax Assessment Act 1997 subsection 207-55(4)

Income Tax Assessment Act 1997 paragraph 207-55(4)(a)

Income Tax Assessment Act 1997 paragraph 207-55(4)(b)

Income Tax Assessment Act 1997 section 207-57

Income Tax Assessment Act 1997 section 207-58

Income Tax Assessment Act 1997 subsection 207-58(1)

Income Tax Assessment Act 1997 paragraph 207-145(1)(a)

Income Tax Assessment Act 1997 section 207-150

Income Tax Assessment Act 1997 paragraph 207-150(1)(a)

Income Tax Assessment Act 1997 section 960-410

Income Tax Assessment Act 1997 section 974-160

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

Tax Administration Act 1953 section 359-1 of Schedule 1

Reasons for decision

Question 1

Summary

Yes, in circumstances where those contributions are later applied in making a payment to the Employee under clause JJ of the Trust Deed.

Detailed Reasoning

The contributions of monies by an Employer to the Trustee pursuant to the Trust Deed will not be assessable income of an Employee under section 6-5 of the ITAA 1997[1] at the time they are contributed to the Trustee. However, where those contributions are later applied in making a payment to an Employee under clause JJ of the Trust Deed, they will be assessable income of the Employee at the time of the making of the payment.

Section 6-5 outlines that assessable income includes any ordinary income that a taxpayer derives directly or indirectly from all sources during the income year.

A taxpayer is taken to have derived an amount when it is received, or when it is applied or dealt with in any way on their behalf or as they direct (subsection 6-5(4)).

The Commissioner has issued Taxation Ruling TR 2018/7 Income tax: employee remuneration trusts (TR 2018/7), which sets out the Commissioner's view in respect of how the taxation laws apply to an employer remuneration trust (ERT) arrangement that operates outside of the employee share scheme rules in Division 83A.

We consider that the Plan meets the criteria in paragraph 8 of TR 2018/7, and thus the Taxation Ruling applies to the Plan.

Paragraph 30 of TR 2018/7 outlines when an amount paid under an ERT will be assessable as ordinary income to employees. It states:

30. A contribution to an ERT is assessable income of an employee under section 6-5 of the ITAA 1997 where it has the character of ordinary income, is applied or dealt with on the employee's behalf or as the employee directs, and is not excluded from the operation of section 6-5.

Does the contribution to the Plan have the character of ordinary income?

An employee's ordinary income includes 'benefits (in the form of money or money's worth) that the employee received for, or in respect of, services they provide under a contract of employment'[2].

The contribution to the Plan does not have the character of ordinary income in an Employee's hands as it is not paid to the Trustee for, or in respect of, services that Employees have provided under a contract of employment.

The Employee is employed under a contract which sets out duties and remuneration entitlements. Under this contract, the employee will be paid 'Total Remuneration Costs' of $X which includes salary, fringe benefits and superannuation. The contribution made by the Employer to the Trustee is a voluntary payment. It is not made pursuant to, or in satisfaction of rights that accrue to the Employee under the contract of employment. In no way does the contribution form part of the 'Total Remuneration Costs' identified under the employment contract. It is not a bonus or other employment related incentive or payment referable to service of an Employee.

The Employee will not enter into any other agreement with the Employer, whereby bonuses or other remuneration earned will be diverted to the Trustee under the Plan. The Employee will not agree to forego any part of their remuneration for the provision of the contribution. Should the Employee decide not to participate in the Plan, the Employee will not be entitled to any additional remuneration or other payment in lieu of the contribution. Similarly, the Total Remuneration Cost, which the Employee derives by completing the employment duties, will not be reduced should the Employee decide to enter into the Plan.

Rather, should the Employee receive an invitation to apply to enter the Plan and decide not to accept it, then the amount of contribution that would have funded a loan to the Employee will be offered to another Employee of the Employer.

We have concluded that the contribution will not be characterised as ordinary income in the Employee's hands at the time of making of the contribution.

However, where the contributed sums are subsequently applied in making a payment to the Employee under clause JJ of the Trust Deed, it is considered that this is an assessable payment made to the Employee in respect of their employment. It is sourced from the contribution made by the Employer to the Trustee under the Trust Deed. Therefore, a contribution of monies by the Employer to the Trustee will result in that amount being assessable to the Employee - at the time of receipt of the payment under clause JJ of the Trust Deed.

Question 2

Summary

No. The contributions of monies by the Employer to the Trustee pursuant to the Trust Deed will not be included in the Employee's assessable income under section 15-2 as to the extent that the contributions are assessable, they will be included in the Employee's ordinary income under section 6-5 and therefore section 15-2 will not apply.

Detailed Reasoning

Subsection 15-2(1) states:

Your assessable income includes the value to you of all allowances, gratuities, compensation, benefits, bonuses and premiums provided to you in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by you.

However, in accordance with paragraph 15-2(3)(d), the value of an amount that is assessable as ordinary income under section 6-5 is not included in assessable income under section 15-2.

We consider that the reasoning contained in the answer to Question 1 above applies equally here.

Question 3

Summary

Yes, in circumstances where those loans are later applied in making a payment to the Employee under clause JJ of the Trust Deed.

Detailed Reasoning

The Trust Deed provides that the Employer will settle on the Trustee from time to time for the benefit of their Employees 'such further contributions of amounts of moneys or loans of amounts of moneys as the Employer may decide is appropriate ...' [emphasis added].

Therefore, whether the Employer settles on the Trustee for the benefit of their Employees, either contributions of monies or loans of monies, the situation will be equally analogous.

As a result, we consider that the reasons given at Question 1 are equally applicable to answering this question.

Question 4

Summary

No. The loans of monies by the Employer to the Trustee pursuant to the Trust Deed will not be included in the Employee's assessable income under section 15-2 as to the extent that the loans are assessable, they will be included in the Employee's ordinary income under section 6-5 and therefore section 15-2 will not apply.

Detailed Reasoning

Subsection 15-2(1) states:

Your assessable income includes the value to you of all allowances, gratuities, compensation, benefits, bonuses and premiums provided to you in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by you.

However, in accordance with paragraph15-2(3)(d), the value of an amount that is assessable as ordinary income under section 6-5 is not included in assessable income under section 15-2.

We consider that the reasoning contained in the answer to Question 1 above applies equally here.

Question 5

Summary

No. The Plan is not an employee share scheme for the purposes of Division 83A.

In considering this question, we note that the Commissioner was not required to form a view about whether the Allocated Investments were acquired by the Employee for payment of market value consideration and has not done so for the purposes of answering this question.

Detailed Reasoning

Subsection 83A-10(1) 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) 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 employee's employment.

We do not consider that the Plan is an employee share scheme within the meaning of

section 83A-10 as the Investments that are acquired under the Plan are not shares or rights to acquire shares in a company that is the Employer of the Employees or a holding company of the Employer of the Employees.

Question 6

Summary

No.

In considering this question, we note that the Commissioner was not required to form a view about whether the Allocated Investments were acquired by the Employee for payment of market value consideration and has not done so for the purposes of answering this question.

Detailed Reasoning

The provision of an interest in a Trust under an arrangement entered into with the Employer is the provision of a benefit provided to the Employee in respect of the Employee's employment with the Employer. The type of benefit provided is property and the benefit is a property fringe benefit, as defined in subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA).

Section 23L of the ITAA 1936 provides that:

Income derived by a taxpayer by way of the provision of a fringe benefit is not assessable income and is not exempt income of the taxpayer.

Therefore, an interest in the Trust that is the provision of a fringe benefit is not assessable income and is not exempt income of the Employee.

Question 7

Summary

No.

In considering this question, we note that the Commissioner was not required to form a view about whether the Allocated Investments were acquired by the Employee for payment of market value consideration and has not done so for the purposes of answering this question.

Detailed Reasoning

We consider the reasoning in relation to Question 6 is equally applicable here.

Question 8

Summary

No. Section 112-20 provides that where the Employee does not deal at arm's length with the other entity in connection with the acquisition, the first element of the cost base of a CGT asset is its market value at the time of acquisition, and not the amount of consideration provided.

Detailed Reasoning

Under subsection 110-25(2), the first element of the cost base of a CGT asset is the total of the money the Employee paid, or is required to pay, in respect of acquiring it, and the market value of any other property the Employee gave, or is required to give, in respect of acquiring it.

However, note 2 to subsection 110-25(2) provides that the first element of the cost base of a CGT asset is replaced with another amount in many situations under Division 112. Division 112 tells you the situations that may modify the general rules about the cost base and reduced cost base of a CGT asset.

Under section 112-15, if a cost base modification replaces an element of the cost base of a CGT asset with an amount, Part 3-1 and 3-3 apply as if the amount that had been paid for the asset was the substituted value.

Under section 112-20, the first element of the cost base of a CGT asset you acquire from another entity is its market value (and not the amount paid or payable for acquiring it) if you did not deal at arm's length with the other entity in connection with the acquisition.

'Arm's length' is defined in subsection 995-1(1) as:

In determining whether parties are dealing at arm's length, consider any connection between them and any other relevant circumstance.

If it is concluded that the Employee and the Trustee were not dealing with each other at arm's length in connection with the acquisition of the interest in the Trust, the first element of the cost base will not be the amount paid to acquire it, but rather its market value. Section 960-410 provides that "In working out the market value of a *non-cash benefit, disregard anything that would prevent or restrict conversion of the benefit to money".

Are the Employee and the Trustee dealing at arm's length in connection with the acquisition of the interest in the Trust?

The interpretation of the phrase 'not dealing with each other at arm's length' was considered (for the purposes of interpreting the same phrase in subsection 102AG(3) of the ITAA 1936) by the Federal Court in The Trustee for the Estate of the late AW Furse No. 5 Will Trust v. FC of T[3] (Furse) where Hill J noted:

The first of the two issues [i.e. whether the parties to the relevant agreement were dealing with each other at arm's length] is not to be decided solely by asking whether the parties to the relevant agreement were at arm's length to each other. The emphasis in the subsection is rather upon whether those parties, in relation to the agreement, dealt with each other at arm's length. The fact that the parties are themselves not at arm's length does not mean that they may not, in respect of a particular dealing, deal with each other at arm's length. This is not to say that the relationship between the parties is irrelevant to the issue to be determined under the subsection. The distinction was pointed out by Davies J in connection with similar words used in sec. 26AAA(4) of the Act in Barnsdall v. FC of T 88 ATC 4565 at p. 4568, in a passage which with respect I agree: ...

What is required in determining whether parties dealt with each other in respect of a particular dealing at arm's length is an assessment whether in respect of that dealing they dealt with each other as arm's length parties would normally do, so that the outcome of their dealing is a matter of real bargaining.[4]

In line with Hill J's comments in Furse, parties are not dealing with each other at arm's length when they are not involved in real bargaining.

More relevantly, the authority in Barnsdall and Furse was considered and applied by the Federal Court in Granby Pty Ltd v. Federal Commissioner of Taxation[5] (Granby) in the statutory predecessor to the current market value substitution rule in the CGT rules. In Granby, Lee J followed Barnsdall and Furse and added:

... the term 'at arm's length' means, at least, that the parties to a transaction have acted severally and independently in forming their bargain. ...

If the parties to the transaction are at arm's length it will follow, usually, that the parties will have dealt with each other at arm's length. That is, the separate minds and wills of the parties will be applied to the bargaining process whatever the outcome of the bargain may be.

That is not to say, however, that parties at arm's length will be dealing with each other at arm's length in a transaction in which they collude to achieve a particular result, or in which one of the parties submits the exercise of its will to the dictation of the other, perhaps, to promote the interests of the other. As in Minister of National Revenue v. Merritt 69 DTC 5159 at 5166 where the parties to the transaction were parties at arm's length, the terms of a loan transaction made between them had been dictated by a unilateral decision of one of them and no independent will in the formation of that transaction had been exercised by the other.[6]

As concluded in Taxation Ruling TR 2006/7 Income tax: special income derived by a complying superannuation fund, a complying approved deposit fund or a pooled superannuation trust in relation to the year of income:

199. ...... if the relationship of the parties is such that one party has the ability to influence or control the other, this will suggest that the parties may not be dealing with each other at arm's length, but it will not be determinative. The Commissioner will only be satisfied that the parties are not dealing with each other at arm's length in relation to a transaction if it is established that the independent minds and wills of the parties are not applied to the transaction such that their dealing is not a matter of real bargaining.

The Employee is being offered an interest in the Trust by the Trustee as part of a suite of benefits provided to the Employee in the broader context of its employment relationship with the Employer. The relationship with the Employer and in turn the Trustee is not an inherently equal or arm's length relationship. In addition to the relationship itself, the transaction does not arise from a dealing at arm's length between the Employee and the Trustee. The terms of the acquisition are set out in the Employee Investment Trust Handbook, to be read together with the terms of the Trust Deed. There is no evidence that the offer (and acceptance) of the interest in the Trust is a result of independent minds and wills of each party striking a real bargain. There is no negotiation, no examination or alteration of the terms of the bargain following negotiation. It cannot be concluded that the acquisition of the interest in the Trust by the Employee is as a result of a dealing at arm's length between the parties.

As such, subsection 112-20(1) applies to substitute the amount paid to acquire the interest in the Trust for the market value. When arriving at market value, anything that would prevent or restrict the conversion of that interest to money is to be disregarded.

In order to work out the first element of the cost base of the interest in the Trust upon acquisition by the Employee, the Employee will need to arrive at the market value of that interest, having regard to all of the rights and entitlements, obligations and liabilities conferred on the Employee and Trustee of the Trust.

Question 9

Summary

No, it is Subdivision 207-B that deals with the inclusion in assessable income of franked distributions, not section 97 of the ITAA 1936. However, section 97 of the ITAA 1936 would deal with 'other income'. Our understanding of the arrangement is that if the Investments were to generate income, that income would largely be productive of 'franked distributions'. Therefore, it is unknown what 'other income' is likely to be made up of.

Detailed Reasoning

Will franked distributions be included in the Employee's assessable income?

Subdivision 207-B deals with franked distributions received by a trustee of a trust where the benefit is received by a beneficiary of that trust.

Section 207-50 contains rules for when a franked distribution flows via a trust to a beneficiary. Subsection 207-50(3) relevantly provides:

(3) A franked distribution flows indirectly to a beneficiary of a trust in an income year if, and only if:

(a) during that income year, the distribution is made to the trustee of the trust... and

(b) the beneficiary has this amount for that income year (the share amount):

(i) a share of the trust's net income for that income year that is covered by paragraph 97(1)(a) of the Income Tax Assessment Act 1936...

(whether or not the share amount becomes assessable income in the hands of the beneficiary); and

(c) the beneficiary's share of the distribution under section 207-55 is a positive amount (whether or not the beneficiary actually receives any of that share).

Section 207-55, and in particular, item 3 of the table in subsection 207-55(3), contains rules to ensure the amount of a franked distribution made to a trustee of a trust is allocated notionally amongst the beneficiaries of that trust and that allocation corresponds with the way in which those benefits were derived.

Column 2 of item 3 provides that where a trustee has a positive amount of net income for the income year, the trustee's share is the amount of the franked distribution. Otherwise, the trustee's share is nil.

Column 3 of item 3 provides the beneficiary's share of the franked distribution is the amount in subsection 207-55(4).

Subsection 207-55(4) relevantly states:

For the purposes of column 3 of item 3 of the table in subsection (3), the amount is the sum of:

(a) so much of the amount worked out under column 2 of item 3 of the table in subsection (3) to which:

(i) ... the focal entity is specifically entitled;...

(b) if there is an amount of the franked distribution to which no beneficiary is specifically entitled - that amount multiplied by:

(i)... the focal entity's adjusted Division 6 percentage of the income of the trust for the relevant income year...

The term 'specifically entitled' is defined in subsection 207-58(1) as:

A beneficiary of a trust estate is specifically entitled to an amount of a franked distribution made to the trust estate in an income year equal to the amount calculated under the following formula:

Where:

Net financial benefit means an amount equal to the financial benefit that is referable to the franked distribution (after any application by the trustee of expenses that are directly relevant to the franked distribution.)

Share of net financial benefit means an amount equal to the financial benefit that, in accordance with the terms of the trust:

(a) the beneficiary has received, or can be reasonably expected to receive; and

(b) is referable to the franked distribution... and

(c) is recorded, in its character as referable to the franked distribution, in the accounts or records of the trust no later than the end of the income year.

Under the Trust Deed, the Employee, in the capacity as a Participant, is considered to be presently and absolutely entitled to the net income of the Trust Fund derived during an Accounting Period that is 'attributable to [the Employee's] particular Allocated Investment Distribution Entitlement'.

The Investment Distribution Entitlement (IDE) is defined in the Trust Deed as being, in respect of an Accounting Period: 'a sum equal to any dividends or other income received by the Trustee during that Accounting Period on Allocated Investments referable to that Allocated Investment'.

In these circumstances, the Employee is reasonably expected to receive any franked distributions referable to the Employee's Allocated Investments under the terms of the Trust Deed. That is, the Employee's share of the franked distributions will be 100% of those franked distributions received by the Trustee during that Accounting Period on Allocated Investments referable to the Employee's Allocated Investment.

Under the Trust Deed, the Employer has agreed to reimburse the Trustee for all expenses incurred in the operation of the Trust. Therefore, the net financial benefit will also be 100% of those franked distributions received by the Trustee during that Accounting Period on Allocated Investments referable to the Employee's Allocated Investment.

As such, for the purposes of paragraph 207-55(4)(a) and section 207-58, the amount of a franked distribution to which the Employee is specifically entitled is calculated as follows for each franked distribution:

To the extent there are any Unallocated Investments for which the Trustee receives franked distributions, and the Trustee exercises its discretion to make the Employee presently entitled to a share of those franked distributions, the Employee will also include an amount representing the Employee's share of these franked distributions for the purposes of paragraph 207-55(4)(b).

The Employee's share of franked distributions received by the Trustee will therefore include, for the purposes of column 3 of item 3 of the table in subsection 207-55(3), the sum of:

•                    each franked distribution received by the Trustee during that Accounting Period on Allocated Investments referable to the Employee's Allocated Investment as the amount to which the Employee is specifically entitled per the formula above (per

•                    paragraph 207-55(4)(a)), and

•                    the Employee's share of any franked distributions to which the Employee is entitled as a result of the Trustee exercising its direction (per paragraph 207-55(4)(b)).

As such, under section 207-50, where a franked distribution is paid to the Trustee during an income year:

(a)          there will be a distribution made to the Trustee

(b)          the Employee will have a share amount (being a share of the Trust's net income will be included in the Employee's assessable income (per the Trust Deed, the Employee will be presently and absolutely entitled to a share in the net income that represents the Employee's Allocated Investment)), and

(c)          the Employee's share of a franked distribution, under section 207-55, will be positive.

The Employee's assessable income for that income year, per section 207-37, therefore includes the Employee's share of the franked distributions.

Will franking credits attributed to those franked dividends be included in the Employee's assessable income?

Under subsection 207-35(1), the assessable income of a trust includes the amount of a franking credit where:

(a)          a franked distribution is made to the trustee

(b)          the trust is not a corporate tax entity when the distribution is made, and

(c)          the trust is not a complying superannuation entity or FHSA trust when the distribution is made.

Under subsection 207-35(4), a beneficiary's assessable income also includes so much of the franking credit attributed to their share of the franked distributions where the following conditions in subsection 207-35(3) are met:

(a)          a franked distribution is made to the trustee of a trust

(b)          the assessable income of the trust includes an amount under subsection 207-35(1)

(c)          the distribution flows indirectly to a beneficiary of the trust, and

(d)          disregarding Division 6E of the ITAA 1936, the beneficiary would have been presently entitled to an amount of assessable income under section 97 of the ITAA 1936.

Under the Plan, the Trustee is likely to receive franked distributions in respect of the Investments.

The Trust is not a corporate tax entity, complying superannuation fund or FSHA trust. As such, the assessable income of the Trust would include franking credits per subsection 207-35(1).

As outlined above, the distribution would flow directly to the Employee, as a beneficiary of the Trust, through the Employee's IDE.

But for Division 6E of the ITAA 1936, the Employee's assessable income would have included the franked distribution and franking credits as the Employee was presently entitled to the Employee's IDE (which includes franked distributions) under the Trust Deed.

As such, the Employee's assessable income also includes, under subsection 207-35(4), the Employee's share of the franking credits. The additional amount included in the Employee's assessable income is calculated under section 207-57 for each franked distribution using the following formula:

Question 10

Summary

No. The proceeds received by the Employee on the redemption of an interest in the Trust will not be included in the Employee's ordinary income under section 6-5.

However, we are unable to consider whether the proceeds from redemption are ordinary income for other reasons.

Detailed Reasoning

We consider that TR 2018/7 applies to the Plan.

Paragraphs 72 and 73 of TR 2018/7 outline how a gain from the disposal or redemption of an interest in an ERT is assessed to an employee. They state:

72. When an employee disposes of or redeems an interest (including units) in an ERT, a CGT event occurs. The employee must include a capital gain made from a CGT event in the calculation of their net capital gain (or loss) for each year of income.

73. A capital gain is reduced to the extent that, because of the CGT event, an amount is otherwise included in the employee's assessable income under section 6-5 of the ITAA 1997[7] ....

That is, a gain made on the disposal or redemption of an interest in an ERT will be assessable to an employee under section 6-5 of the ITAA 1997 where:

•                    the profit or gain is otherwise ordinary income of the employee, or

•                    the employee acquires the interest with the intention of making a profit or gain on its disposal or redemption (in the course of a business or commercial transaction).[8]

In the context of remuneration received from an ERT, and whether it is ordinary income of the employee, paragraph 57 of TR 2018/7 states:

57. Remuneration received from an ERT is assessable to an employee under section 6-5 of the ITAA 1997 where it has the character of ordinary income and is not statutorily excluded. An employee's ordinary income includes benefits (in the form of money or money's worth) that the employee receives for, or in respect of, services they provide under a contract of employment.

And further, at paragraph 60 of TR 2018/7, it states:

60. Benefits [will] have an insufficient connection with employment and are unlikely to be remuneration or remuneration in nature when they are received by the employee other than in their capacity as an employee, such that it can be concluded after consideration of all relevant circumstances, that the benefit is not being provided to the employee in respect of employment.

Therefore, it is necessary to determine whether the proceeds received by the Employee from the redemption of an interest in the Trust is a gain that is revenue in nature. Firstly, this requires a consideration of whether the proceeds may be considered remuneration in the form of benefits paid to the Employee, to the extent that they are received by the Employee in respect of the Employee's employment. Secondly, whether the Employee acquires the interest with the intention of making a profit or gain on its disposal or redemption (in the course of a business or commercial transaction).

Will the proceeds form part of the Employee's remuneration such that they are benefits provided in respect of the Employee's employment?

In the case of Federal Commissioner of Taxation v. McArdle[9] (the McArdle appeal), the Full Court of the Federal Court considered whether a payment made by an employer to an employee as consideration for the surrender of options to acquire shares in the employer would constitute a benefit in respect of employment. In ultimately determining that the payment received by the taxpayer was received as a result of negotiating, for consideration, the surrender of rights outside the employment context, the Full Court expressly approved the decision and reasoning of Fisher J in McArdle v. Federal Commissioner of Taxation[10] (the McArdle decision), around the term 'in respect of employment'.

In making his ruling, Fisher J cited the various judgments of the Court in the cases of Smith v. Federal Commissioner of Taxation[11], Constable v. Federal Commissioner of Taxation[12] (Constable) and Federal Commissioner of Taxation v. Dixon[13]. Fisher J relevantly held at pages 4236-4237:

In my opinion the passages cited indicate clearly that it is necessary to go beyond the historical or temporal connection which had existed or presently existed between an employer and an employee. It is necessary to consider whether the taxpayer received the payment in any capacity other than that of employee, whether there was any consideration other than services rendered or to be rendered, and whether it could be said that the payment was in consequence only of the employee's service or of some other consideration.

Both Constable's case and Dixon's case, supra, are in accord with and confirmatory of this approach. Constable's case has some significant factual differences, as identified by counsel for the Commissioner. The payment to the taxpayer employee was not made by the employer but by the trustees of a provident fund and was not a voluntary payment. It was made because the employee became as a matter of law entitled to call upon the fund for payment.

Fisher J further held at pages 4237-4238:

At p. 564 [of Dixon] Fullagar J. said:

"The fact of the respondent's employment explains the selection of him as recipient but it in no degree characterizes the payment. The payment does not partake in any degree of the character of a reward for services rendered or to be rendered.

[Emphasis added.]

These two sentences can be aptly applied to the present matter, where the taxpayer was selected as a recipient of options because he was an employee, which fact however has no bearing on the character of the payment received by him under the surrender agreement.

In my opinion the test of assessability of benefits under sec. 26(e) as stated by the majority of the High Court in Smith's case is that the benefit must be the consequence of the employment relationship. In the present matter the crucial fact was that by the month of November 1981 the taxpayer had significant rights in contract as the option holder to acquire shares. These rights to call for shares were capable of being exercised subsequent to the termination of his employment or after his death. It was these contractual rights, and his entitlement as an option holder, which enabled him to deal with Delhi International in relation to the surrender arrangements. The mere existence of an employer-employee relationship in November 1981 was nothing to the point if he had not been the holder of options...

If... one looks to the consideration for the payment of $1,100,000, this consideration was the surrender, or perhaps more strictly the extinguishment or abandonment, of his rights to acquire shares or alternatively to obtain cash under the LSAR agreements. That consideration passed from the taxpayer as holder of the options and not by virtue or in consequence of the employer-employee relationship.

Under the Plan, the Employee acquires an interest in the Trust and continues to hold the interest until the Employee either decides to dispose of it or the Employee terminates their employment with the Employer. While the Employee would only be selected as a participant in the Plan because the Employee is employed by the Employer, this does not characterise all payments made through the Plan as payments made in respect of the Employee's employment.

When the Employer cancels the Employee's interest in the Trust, the Employee becomes entitled to a Cancellation Entitlement under the Trust Deed.

The Cancellation Entitlement, to be paid, does not require the recommendation or direction of the Employer. It does not depend on the Employee remaining in employment with the Employer, nor does the Employee have to perform or achieve employment related hurdles or activities prior to receiving the Cancellation Entitlement. All that the Employee is required to do is request cancellation of the Employee's interest in order to receive the Employee's Cancellation Entitlement.

The payment/proceeds the Employee receives are not remuneration in the form of benefits paid to the Employee for the purpose of providing a reward for the Employee's services in respect of the Employee's employment. As in the Constable and the McArdle decisions, the payment of the Cancellation Entitlement is made for the surrender of the Employee's interest in the Trust. The Cancellation Entitlement passes to the Employee primarily as the holder of the interest and not by virtue or in consequence of the employer-employee relationship.

Are the proceeds revenue in nature because the Employee acquires the interest with the intention of making a profit or gain on its disposal or redemption (in the course of a business or commercial transaction)?

We do not have enough personal information of the Employee to be able to provide an answer to this aspect of this question.

Question 11

Summary

No. The proceeds received by the Employee on the redemption of an interest in the Trust will not be included in the Employee's assessable income under section 15-2.

Detailed Reasoning

As noted above, subsection 15-2(1) states that 'Your assessable income includes the value to you of all allowances, gratuities, compensation, benefits, bonuses and premiums provided to you in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by you ...'

We consider that the reasons given at question 10 are equally applicable to answering this question.

As such, the proceeds received by the Employee upon the redemption of an interest in the Trust, to the extent that they constitute the Cancellation Entitlement, do not constitute allowances, gratuities, compensation, benefits, bonuses or premiums are not assessable under section 15-2.

Question 12

Reasoning

Given the responses to Question 10 and Question 11 respectively, this question does not require a response as the proceeds received on the redemption of the Allocated Investments are not included in the assessable income for the Employee under either section 6-5 or section 15-2.

However, it is noted that without further information, an answer cannot be provided in respect of whether the gain from the Allocated Investment is a revenue gain (not connected with employment) and therefore would constitute ordinary income as addressed at Question 10.

Question 13

Summary

Yes. Where the Trustee disposes of the Investments which are allocated to the Employee's rights to Allocated Investments, and makes a capital gain from that disposal, that capital gain (or part thereof) will be treated as the Employee's capital gain pursuant to Subdivision 115-C.

Detailed Reasoning

Subsection 102-5(1) provides that the Employee's assessable income includes the Employee's net capital gain, if any, for an income year. Under section 102-20, the Employee can make a capital gain or capital loss if and only if a CGT event happens. The capital gain or loss is made at the time of the event.

Under subsection 104-10(1), CGT event A1 happens if you dispose of a CGT asset. Shares in a company and units in a unit trust are considered to be CGT assets for the purposes of section 108-5.

When the Employee sells those shares or units and a change of ownership occurs from the Employee to another entity, this is considered to be a disposal of a CGT asset for the purposes of section 104-10. A change of ownership does not occur if the Employee stops being the legal owner of the asset but continues to be its beneficial owner.

The Employee will make a capital gain if the capital proceeds from the disposal are more than the cost base of the share or unit as per subsection 104-10(4). The Employee will make a capital loss if those capital proceeds are less than the asset's reduced cost base.

Once the Employee has worked out the capital gain or loss from CGT event A1, this gain or loss will be factored into Step 1 of working out the Employee's net capital gain under the method statement in subsection 102-5(1). Where a trustee of a trust estate holds an asset such as a share or unit and disposes of that share or unit, the trustee must include that gain or loss in its calculation of the net capital gain of the trust estate in that income year.

Subdivision 115-C applies where a trust estate has a net capital gain for an income year and that net capital gain is taken into account in working out the trust estate's net income.

Broadly, Subdivision 115-C provides the mechanism by which a net capital gain made by a trustee of a trust estate is attributed to a beneficiary of a trust.

Subsection 115-225(1) applies to calculate a beneficiary's 'attributable gain'. The attributable capital gain is the product of:

(a) the capital gain remaining after applying steps 1 to 4 of the method statement in subsection 102-5(1), and

(b) the beneficiary's share of the capital gain (section 115-227) divided by the amount of the capital gain.

A beneficiary's share of the capital gain of the trust pursuant to section 115-227 is the sum of:

(a) the amount of the capital gain to which the beneficiary is specifically entitled, and

(b) if there is an amount of the capital gain to which no beneficiary of the trust estate is specifically entitled and to which the trustee is not specifically entitled, that amount calculated in accordance with paragraph 115-227(b).

Section 115-228 prescribes when a beneficiary is specifically entitled to an amount of a capital gain. In subsection 115-228(1), to be specifically entitled to an amount of a capital gain made by the trust estate, a beneficiary must identify their relevant 'share of net financial benefit'. This is defined to mean the amount equal to the financial benefit[14] that, in accordance with the terms of the trust including in accordance with the exercise of a power conferred by the terms of the trust:

•                    the beneficiary has received, or can be reasonably expected to receive (paragraph (a) of the definition)

•                    is referable to the capital gain (paragraph (b) of the definition), and

•                    is recorded in its character as an amount referable to the capital gain in the accounts or records of the trust within 2 months after the end of the income year (paragraph (c) of the definition).

Where the Trustee disposes of the Investments, makes a capital gain and distributes to the beneficiary the proceeds from the sale all in the same income year, paragraph (a) of the definition of "share of net financial benefit" in subsection 115-228(1) is satisfied. However, where the sale of Investments occurs in one year but proceeds are received and distributed in the subsequent financial year, the matter is not as straightforward.

Taxation Determination TD 2012/11 Income tax: capital gains: for the purposes of subsection 115-228(1) of the Income Tax Assessment Act 1997, can a beneficiary of a trust estate be reasonably expected to receive an amount of a financial benefit referable to a capital gain made by the trust estate in an income year if the fact that the capital gain was made is not established until after the end of the income year? (TD 2012/11) discusses what is meant by 'can be reasonably expected to receive'. The requirement that a beneficiary be 'reasonably expected to receive' an amount equal to a financial benefit does not focus on whether the beneficiary has a reasonable expectation of the relevant capital gain arising. The provision is premised on there being such a gain. Accordingly, the requirement instead focuses on whether the beneficiary has a reasonable expectation of receiving an amount referrable to that gain (should the gain arise). The test is whether, assuming there is a disposal that gives rise to a capital gain, there is a reasonable expectation that an amount of a financial benefit that is referable to any such capital gain made by the trust estate will be received by the beneficiary.

The expression 'reasonably expected' is not defined for the purposes of the ITAA 1997 and accordingly takes its ordinary meaning in the context in which it appears. TD 2012/11 provides a full discussion of the expression 'reasonably expected'. In summary, the Commissioner's position, as articulated in TD 2012/11, is that a beneficiary can establish a reasonable expectation of receiving an amount referable to a capital gain in the context of paragraph (a) of the definition of 'share of net financial benefit' in subsection 115-228(1) if there are grounds to justify an expectation that, in accordance with the terms of the trust, the receipt of the amount (should such a gain be made) is likely. It follows that a reasonable expectation of receipt of the amount (should the capital gain be made by the trust estate) is an expected outcome that is reliably based, rather than one that is a mere possibility. It necessarily excludes a predicted outcome that is unreasonable, irrational or absurd.

Then, under subsection 115-215(3), for each capital gain of the trust estate, Division 102 is taken to apply to each beneficiary as if that beneficiary had a capital gain amount equal to, twice or four times the amount mentioned in subsection 115-225(1), depending upon the circumstances of the gain as calculated by the trustee (and access by the trustee to various concessions).

In accordance with the Trust Deed, the Trustee has the power to calculate and distribute a 'Cancellation Entitlement' to an Employee (beneficiary). In accordance with clause X and subject to repayment of outstanding loan moneys:

The Trustee shall on cancellation of an Investment distribute to the Participant the Cancellation Entitlement pursuant to Clause ... for that the Allocated Investment....

The distribution shall be made as soon as practicable after the cancellation of the relevant Allocated Investment.

A Cancellation Entitlement arises from a cancellation of Allocated Investments (the descriptor used in relation to the nature of the interest the beneficiary obtains in the Trust) upon request by the Employee/Beneficiary or upon termination of employment of the Employee. The operation of these provisions in the Trust Deed enable a conclusion that the Employee/Beneficiary will receive or at the least, can be reasonably expected to receive a financial benefit that is referable to the capital gain.[15]

Therefore, in accordance with Division 115-C, the Employee/Beneficiary will have an amount of a gain attributable to them under section 115-215. This amount of the gain will be calculated in accordance with section 115-225 as the Employee/Beneficiary has a share of the capital gain to which the Employee/Beneficiary is specifically entitled. Depending upon the circumstances, this amount may be grossed up in accordance with section 115-215.

Question 14(a)

Summary

Yes.

Detailed Reasoning

A CGT asset is defined in subsection 108-5(1) as any kind of property, or a legal or equitable right that is not property. An interest in a trust is a CGT asset.

We consider that the rights that the Employee has acquired under the Plan, is an interest in a trust for the purposes of subsection 108-5(1).

In accordance with section 104-70, CGT event E4 happens if the trustee of a trust makes a payment to the employee in respect of their interest in the trust (except where CGT events A1, C2, E1, E2, E6 or E7 happen in relation to that interest) and some or all of the payment is not included in the employee's assessable income. This is called the non-assessable part.

None of CGT events A1, C2, E1, E2, E6 or E7 happen to the Employee's interest in the Trust upon redemption of the rights to the Allocated Investments and some of the payment that the Employee receives from the Trustee is not included in the Employee's assessable income. As such, CGT event E4 happens when the Trustee makes that payment to the Employee.

Question 14(b)

Summary

Yes.

Detailed Reasoning

Under subsection 104-70(4), the Employee makes a capital gain from CGT event E4 if the sum of non-assessable parts of the payments are more than its cost base.

Therefore, the amount of the Cancellation Entitlement that is non-assessable to the Employee is taken into account in calculating the capital gain that the Employee might make from CGT event E4. If the Employee makes a capital gain from CGT event E4, this will be taken into account in calculating the Employee's net capital gain under section 102-5.

Question 14(c)

Summary

Yes.

Detailed Reasoning

For the purposes of Division 102, the amount of the capital gain attributed to the beneficiary under sections 115-215 and 115-225 will be factored into the calculation of the beneficiary's net capital gain for the purposes of subsection 102-5(1).

At Step 3 of the method statement in subsection 102-5(1), a beneficiary can reduce each amount of a discount capital gain by the discount percentage (assuming that there is a positive amount left after applying Step 2).

In order for the attributed capital gain to be a discount capital gain, it must meet the requirement of sections 115-10, 115-15, 115-20 and 115-25.

Sections 115-10 to 115-25 set out the conditions under which an entity will make a discount capital gain. The conditions are:

•                    the capital gain must be made by an individual, complying superannuation fund, trust or life insurance company (section 115-10)

•                    the capital gain must be made after 21 September 1999 (section 115-15)

•                    the capital gain must not have an indexed cost base - which is only relevant to assets acquired prior to 21 September 1999 under Division 114 (section 115-20), and

•                    the discount capital gain must result from a CGT event happening to a CGT asset acquired at least 12 months before the CGT event (section 115-25).

As the Employee is an individual, and the Investments will be acquired by the Trustee after 21 September 1999, then as long as the Investments are held for at least 12 months prior to their disposal, the capital gain will meet all of the criteria in sections 115-10 to 115-25 and will be a discount capital gain.

Question 14(d)

Summary

This is not a valid ruling question. A particular provision has not been identified by the Applicant.

It is not clear what is meant by the term "in respect of Subdivision 115-C".

Furthermore, a private ruling is a written expression of the Commissioner's opinion about the way in which a relevant provision applies to a taxpayer (section 359-1 of Schedule 1 to the Taxation Administration Act 1953 and paragraph 4 of Taxation Ruling TR 2006/11 Private Rulings).

Presently, whilst specific provisions are identified in this question, they aren't the subject of the question. Instead, the question asks whether the CGT event is the sole taxing event. This does not allow for the Commissioner to readily identify the provision that the question specifically asks about.

Question 15

Summary

Given the responses to Question 10 and Question 11 respectively, this question does not require a response as the proceeds received on the redemption of the Allocated Investments are not included in the assessable income for the Employee under either section 6-5 or section 15-2.

However, it is noted that without further information, an answer cannot be provided in respect of whether the gain from the Allocated Investment is a revenue gain (not connected with employment) and therefore would constitute ordinary income as addressed at Question 10.

Question 16

Summary

No. The Cancellation Entitlement received at a time that coincides with the employee's termination of employment will not be considered an employment termination payment under section 82-130.

Detailed Reasoning

Subsection 82-130(1) provides that:

A payment is an employment termination payment if:

(a) it is received by you:

(i) in consequence of the termination of your employment...

(b) it is received no later than 12 months after that termination... and

(c) it is not a payment mentioned in section 82-135.

Taxation Ruling TR 2003/13 Income tax: employment termination payments (ETP): payments made in consequence of the termination of any employment: meaning of the phrase 'in consequence of (TR 2003/13) provides the Commissioner's view of the meaning of the phrase 'in consequence of' in the context of the expression 'in consequence of the termination of any employment' as used in Subdivision 82-C. Paragraphs 5 to 6 of TR 2003/13 state:

5. The phrase 'in consequence of' is not defined in the ITAA 1997. However, those words appeared in the former provisions of the ITAA 1936 and have been interpreted by the courts in that context. The phrase 'in consequence of' in the former provisions conveys the same idea as in Division 82 of the ITAA 1997, and accordingly the consideration of the phrase by the courts in the context of the former provisions is also applicable to the interpretation of the phrase in Division 82 of the ITAA 1997. Whilst there are divergent views as to the correct interpretation of the phrase, the Commissioner considers that a payment is received by a taxpayer in consequence of the termination of the taxpayer's employment if the payment 'follows as an effect or result of' the termination. In other words, but for the termination of employment, the payment would not have been received by the taxpayer.

6. The phrase requires a causal connection between the termination and the payment, although the termination need not be the dominant cause of the payment. The question of whether a payment is received in consequence of the termination of employment will be determined by the relevant facts and circumstances of each case.

TR 2003/13 relies on the decision of the Full High Court of Australia in Reseck v. Federal Commissioner of Taxation[16]in interpreting the meaning of the phrase 'in consequence of' in Division 82 of the ITAA 1997. Paragraphs 12 to 13 of TR 2003/13 relevantly state:

12. The Full High Court of Australia considered the expression 'in the consequence of the termination of any employment' in the context of former paragraph 26(d) of the ITAA 1936 in Reseck v FCT. The relevant issue in that case was whether amounts paid to a taxpayer by his employer at the end of two periods of employment, to which the taxpayer was entitled under an agreement between the employer and the taxpayer's union, were an allowance paid in a lump sum 'in consequence of retirement from, or the termination of, any office or employment...' Gibbs J concluded that the amounts were an allowance within section 26(d) of the ITAA 1936 and were made in consequence of the termination of the taxpayer's employment. His Honour said at 4216-17 that:

'Within the ordinary meaning of the words, a sum is paid in consequence of the termination of employment when the payment follows as an effect or result of the termination... It is not in my opinion necessary that the termination of the services should be the dominant cause of the payment... In the present case the allowance was paid in consequence of a number of circumstances, including the fact that the taxpayer's service had been satisfactory and that the industrial agreements provided for the payment, but it was none the less paid in consequence of the termination of the taxpayer's employment.' (emphasis added)

13. Jacobs J also concluded that the amounts constituted an allowance that was paid in consequence of the termination of the taxpayer's employment. His Honour said at 4219:

'It was submitted that the words 'in consequence of' import a concept that the termination of the employment was the dominant cause of the payment. This cannot be so. A consequence in this context is not the same as a result. It does not import causation but rather a 'following on'.'

Under the Plan, upon termination of the Employee's employment, the Trustee may cancel the Employee's interest in the Trust. Upon cancellation of the interest in the Trust, the Trustee will provide the Employee with the Employee's Cancellation Entitlement (subject to repayment of outstanding loan amounts) as either an in specie distribution of Investments being held by the Trustee or, at the Employee's election, payment in cash. However, as noted above, the Trustee may also cancel the Employee's interest in the Trust upon receipt of the Employee's request in writing. This means that for the Cancellation Entitlement to be paid it does not necessarily require the recommendation or direction of the Employer, nor does it depend on the employee's employment with the Employer terminating. All that the Employee is required to do is request cancellation of the Employee's interest in order to receive the Employee's Cancellation Entitlement.

It is considered that the Cancellation Entitlement received by the Employee in respect of the cancellation of the Employee's interest in the Trust is not a payment received by the Employee in consequence of the termination of the Employee's employment, for the following reasons:

1.            The Employee may choose to cancel their interest at any time prior to the termination of their employment. As such, the Cancellation Entitlement may be provided at any time while the Employee remains employed by the Employer and does not necessarily need to be made only when the employment is terminated.

2.            The Cancellation Entitlement is made as a consequence of the contractual obligations between the Employee and the Trustee.

3.            The Cancellation Entitlement is made for the redemption of the Employee's interest in the Trust, and not as a consequence of the termination of the Employee's employment.

4.            The Cancellation Entitlement received by the Employee is dependent on the Employee's repayment of outstanding loan amounts.

As such, the cancellation of the interest in the Trust held by the Employee at a time that coincides with the cessation of the Employee's employment is not received by the Employee as a consequence of the termination of the Employee's employment and therefore is not an employment termination payment under section 82-130 of Part 2-40.

Question 17

Summary

Yes. Salary provided to the employee, by the Trustee, under clause JJ of the Trust Deed will be included in the Employee's assessable income under section 6-5.

However, it is noted that under the terms of the Trust Deed, the Trustee does not appear to have the power to "decide" to pay salary to the Employee. The Trust Deed provides that the Trustee "will" make such a payment when the Employer so instructs.

Detailed Reasoning

Subsection 6-5(2) outlines that the Employee's assessable income includes any ordinary income that you derive directly or indirectly from all sources during the income year. As stated in Question 1 above, an Employee's ordinary income includes 'benefits (in the form of money or money's worth) that the Employee received for, or in respect of, services they provide under a contract of employment'.[17]

The Employee is employed under an Employment Contract which sets out the Employee's duties and remuneration entitlements. Under this contract, the Employee will be paid 'Total Remuneration Costs' of $X which includes salary, fringe benefits and superannuation. Amounts provided to the Employee under clause JJ will not be included in the Total Remuneration Costs but rather provided to the Employee as an additional bonus at the discretion of the Employer.

Clause JJ of the Trust Deed provides that the Trustee will pay amounts to the Employee from repayments of the finance under clause HH the Trust Deed as salary minus amounts withheld as Pay As You Go tax instalments. This payment is only made at the direction of the Employer. Under the Plan the Employer has advised that it is envisaged that they will instruct the Trustee to pay out an amount under clause JJ (or provide benefits under clause KK of the Trust Deed in all instances).

Amounts received by the Employee under clause JJ of the Trust Deed have a number of factors broadly characteristic of income according to ordinary concepts:

•                    it is an amount that is identifiable and convertible into money or money's worth

•                    it is paid to the Employee in relation to the Employee's services provided and/or the Employee's employment relationship with the Employer, i.e. salary or bonus income

•                    it may be periodic, recurrent and regular, and

•                    it is not a windfall or a gift.

As such, it will constitute assessable income according to ordinary concepts and will be assessable income of the Employee under section 6-5.

Question 18

Summary

No.

Detailed Reasoning

As noted at Question 5, we do not consider that this Plan is an employee share scheme within the definition in subsection 83A-10(2). Therefore, Division 83A will not apply to this arrangement.

Question 19

Summary

No. If the Trustee, pursuant to clause KK of the Trust Deed, provides discounted rights to shares to the Employee, the value of the rights provided to the Employee will not be included in the Employee's assessable income under section 6-5.

Detailed Reasoning

Division 6 provides that there are two types of income. Section 6-5 includes income according to ordinary concepts, termed 'ordinary income', 'derived' by a person during the year of income in their assessable income. Section 6-10 includes in the assessable income of a person 'statutory income', being amounts that are not ordinary income, but are included in assessable income under other provisions about assessable income.

Within these two types of income, amounts can then be categorised into assessable income, exempt income and non-assessable non-exempt income.

Subsection 6-15(2) provides that if an amount is exempt income it is not assessable income. Subsection 6-20 provides that an amount of ordinary income or statutory income is exempt income if it is made exempt from income tax by a provision of the ITAA 1936 or ITAA 1997 or another Commonwealth law.

Subsection 6-15(3) provides that if an amount is non-assessable non-exempt income, it is not assessable income. Section 6-23 provides that an amount of ordinary income is non-assessable non-exempt income if a provision of the ITAA 1936 or ITAA 1997 or another Commonwealth law states that it is not assessable income and is not exempt income.

For an amount received to be income according to ordinary concepts, it must be money or something that can be converted into money (see Alexander Tennant v. Robert Sinclair Smith[18]; FC of T v. Cooke & Sherden[19]). Accordingly, if a benefit provided is in respect of a person's employment and that benefit is convertible into money, the amount will form part of the employee's ordinary income and will be derived as either:

•                    assessable income (determined by whether the income is paid as salary or wages)

•                    non-assessable non-exempt income if it is a fringe benefit (within the meaning of that term in subsection 136(1) of the FBTAA) and subsection 23L(1) of the ITAA 1936 applies, or

•                    exempt income if it is an exempt benefit and subsection 23L(1A) of the ITAA 1936 applies.

Therefore, even though the fringe benefit or exempt benefit may be income in nature, it is non-assessable non-exempt or exempt income, respectively and subsection 6-15(2) and subsection 6-15(3) ensure that they do not form part of the assessable income of the employee under section 6-5 or section 6-10.

Under the Plan the Employer may at their discretion instruct the Trustee to provide to the Employee discounted rights to shares (pursuant to clause KK and as defined in the Trust Deed). Until the Employer exercises its discretion under clause KK of the Trust Deed, the Employee has no rights to receive the benefits afforded to the Employee under this clause of the Trust Deed.

Under the Plan, the Employer has advised that it is envisaged that they will always instruct the Trustee to provide a benefit to the Employee under clause JJ or KK of the Trust Deed.

The provision of this benefit is provided to the Employee in respect of the Employee's employment with the Employee's employer. The type of benefit provided is property and the benefit is a property fringe benefit, as defined in subsection 136(1) of the FBTAA. This benefit is not excluded from the definition of a fringe benefit in subsection 136(1) of the FBTAA, nor is it an exempt benefit under the FBTAA. Therefore, subsection 23L(1) of the ITAA 1936 will apply to the income derived by the Employee by way of the provision of a fringe benefit such that it is not assessable income and is not exempt income of the Employee. This means that the value of the discounted rights to shares provided to the Employee will not be included in the Employee's assessable income under section 6-5.

Question 20

Summary

No. If the Trustee, pursuant to clause KK of the Trust Deed, provides discounted rights to shares to the Employee, the value of the rights provided to the Employee will not be included in the Employee's assessable income under section 15-2.

Detailed Reasoning

Section 15-2 states:

15-2(1)

Your assessable income includes the value to you of all allowances, gratuities, compensation, benefits, bonuses and premiums provided to you in respect of, or for or in relation directly or indirectly to, any employment of or services rendered by you.

15-2(2)

This is so whether the things were *provided in money or in any other form.

15-2(3)

However, the value of the following are not included in your assessable income under this section:

(a) a superannuation lump sum or an employment termination payment;

(b) an unused annual leave payment or an unused long service leave payment;

(c) a dividend or non-share dividend;

(d) an amount that is assessable as ordinary income under section 6-5 ;

(e) ESS interests to which Subdivision 83A-B or 83A-C (about employee share schemes) applies.

Note:

Section 23L of the Income Tax Assessment Act 1936 provides that fringe benefits are non-assessable non-exempt income.

Section 6-10 and the list of provisions in section 10-5 provide that section 15-2 includes an amount in the Employee's assessable income as statutory income.

The provision of the discounted rights to shares is a benefit provided to the Employee in respect of the Employee's employment with the Employer. Therefore, prima facie, subsection 15-2(1) may apply to include the value of the rights in the Employee's assessable income as none of the items mentioned in subsection 15-2(3) apply to not include the value from being included in the Employee's assessable income.

However as noted in Question 19 above, the provision of discounted rights to shares to the Employee is a fringe benefit for the purposes of the FBTAA. Therefore, subsection 23L(1) of the ITAA 1936 will apply to the income derived by the Employee by way of the provision of the fringe benefit such that it is not assessable income and is not exempt income of the Employee. This means that the value of the discounted rights to shares provided to the Employee will not be included in the Employee's assessable income under 6-10, and more particularly as statutory income under subsection 15-2(1).

Question 21

Summary

No. The Employee will not be entitled to a tax offset for franking credits attached to the franked distributions, unless the Employee qualifies for the small shareholder exemption in former subsection 160APHT(1) of the ITAA 1936.

Detailed Reasoning

Under paragraph 207-45(a), an individual is entitled to a tax offset equal to their share of franking credits on franked distributions which flow indirectly to that individual (e.g. through a trust). (See the analysis above at Question 9 for further explanation about what happens when a franked distribution flows indirectly to a beneficiary).

However, where any of the circumstances set out in section 207-150 apply, including where the Trustee or the Employee is not a 'qualified person' in respect of those distributions for the purposes of Division 1A of former Part IIIAA of the ITAA 1936, the Employee will not be entitled to a tax offset for their share of any franking credits attached to those distributions. Section 207-150 relevantly states:

(1) If a franked distribution flows indirectly to an entity in an income year in one or more of the following circumstances:

(a) the entity is not a qualified person in relation to the distribution for the purposes of Division 1A of former Part IIIAA of the Income Tax Assessment Act 1936;

...

Then, for the purposes of this Act:

(f) subsection... (3)... applies to the entity in relation to that income year; and

(g) the entity is not entitled to a tax offset under this Division because of the distribution...

...

(3) If the franked distribution flows indirectly to the entity as a beneficiary of a trust under subsection 207-50(3), the entity can deduct an amount for that income year that is equal to the lesser of:

(a) its share amount in relation to the distribution that is mentioned in that subsection; and

(b) its share of the franking credit on the distribution.

In accordance with Taxation Determination TD 2007/11 Income tax: imputation: franked distributions: qualified persons: does an entity have to be a qualified person within the meaning of Division 1A of former Part IIIAA of the Income Tax Assessment Act 1936 to avoid the application of paragraphs 207-145(1)(a) and 207-150(1)(a) of the Income Tax Assessment Act 1997 in respect of a franked distribution made directly or indirectly to the entity on or after 1 July 2002? it is necessary to have regard to the rules in Division 1A of former Part IIIAA of the ITAA 1936, as in force at

30 June 2002, in determining whether an entity is a qualified person for the purposes of paragraphs 207-145(1)(a) and 207-150(1)(a) in respect of a franked distribution made directly or indirectly to the entity after 30 June 2002.

TR 2018/7 sets out the general rules for when an employee having a relevant share of the franked distributions of an ERT is entitled to a tax offset for their share of any franking credits attached to those distributions. TR 2018/7 states, at paragraph 75, that a beneficiary of an ERT will generally not satisfy the qualified person test in respect of the franked distributions because their interest will not be vested and indefeasible, unless they qualify for the small shareholder exemption.

Former section 160APHO of the ITAA 1936 sets out the definition of a 'qualified person' for the purpose of Division 1A of the former Part IIIAA of the ITAA 1996. It provides 'qualified person', in relation to a dividend paid on shares, has the meaning given by former sections 160APHO, 160APHP, 160APHQ, 160APHR or 160APHT of the ITAA 1936 as that meaning is affected by former section 160APHU of the ITAA 1936. In this case, former sections 160APHP and 160APHT of the ITAA 1936 are relevant.

A taxpayer is a qualified person pursuant to former subsection 160APHT(1) of the ITAA 1936 if they are a small shareholder. A taxpayer is a small shareholder if they are an individual and the total of all franking credits they are entitled to (directly or indirectly) does not exceed $5,000.

On the information provided, it is not possible to determine if the Employee will be a small shareholder, and therefore, a qualified person under former section 160APHT of the ITAA 1936.

TR 2018/7 refers to the case of Soubra v Commissioner of Taxation[20] (Soubra). In Soubra, the Administrative Appeals Tribunal considered an appeal to a similar private binding ruling question. That is, whether a participant of an ERT, which it is noted has similar features to the ERT in which the Employee will be a Participant, was entitled to tax offsets equal to their share of the franking credits on the franked distributions under section 207-45.

In reaching its decision, that Ms Soubra was not entitled to tax offsets equal to her share of the franking credits on the franked distributions from an ERT, the Tribunal provided an instructive explanation of how the provisions in Division 1A of former Part IIIAA of the ITAA 1936 operate regarding a participant of an ERT. This explanation has been adopted in TR 2018/7, and is applied below. Former section 160APHL of the ITAA 1936 sets out how a taxpayer's interest in the relevant shares is to be calculated in determining whether the taxpayer is a qualified person in relation to a dividend paid on the shares (i.e. under former section 160APHP of the ITAA 1936). Former subsection 160APHL(2) of the ITAA 1936 applies in respect of a widely held trust.

A taxpayer who as a beneficiary of a widely held trust has held an interest in shares contained in the trust holding (within the meaning of former subsection 160APHL(4) of the ITAA 1936) of the widely held trust is a qualified person, under former section 160APHP of the ITAA 1936, in relation to a dividend paid on any of the shares to which a distribution from the trust to the taxpayer is attributable, where they have held an interest in the shares contained in the trust holding as a beneficiary of the trust for a continuous period of not less than 45 days.

In the Employee's case, it is envisaged that a franked dividend will flow indirectly to the Employee through the Employee's interest in the Trust being the rights to Allocated Investments. Through these rights, the Employee will hold an interest in the shares (i.e. the Investments allocated to the Employee by the Trustee referred to as Allocated Investments) for, presumably, more than 45 days when a franked distribution is made to the Trustee.

However, under former subsection 160APHP(2) of the ITAA 1936, in calculating the number of days for which the taxpayer continuously held the interest, any days on which the taxpayer has materially diminished risks of loss or opportunities for gain in respect of the interest are to be excluded.

Former subsection 160APHL(4) of the ITAA 1936 provides, in applying former section 160APHL of the ITAA 1936 in relation to a widely held trust, 'trust holding' is all the shares and interests in shares that the trustee has held or holds.

A beneficiary of a trust is taken to have 'materially diminished' risks of loss or opportunities for gain on a particular day in respect of their interest in shares held by the trust if their 'net position' on that day in relation to their interest in the shares is less than 30% of those risks or opportunities (former subsection 160APHM(2) of the ITAA 1936). Therefore, in order to be a qualified person, the Employee must be exposed to at least 30% of those risks and opportunities (a delta of at least 0.3).

The Employee's 'net position' (former section 160APHJ of the ITAA 1936) in relation to the shares held by the Trustee, is worked out by netting off positive deltas (long positions) and negative deltas (short positions) (see former subsection 160APHM(3) of the ITAA 1936).

Due to the combined operation of former subsections 160APHL(7) and 160APHL(10) of the

ITAA 1936, the net position of the Employee's interest in the shares held in the Trust by the Trustee will start at 0. Former subsection 160APHL(10) of the ITAA 1936 provides a taxpayer has an additional short position equal to the taxpayer's long position under former

subsection 160APHL(7) of the ITAA 1936 and an additional long position equal to so much of the taxpayer's interest in the trust holding as is a fixed interest. In accordance with former

subsection 160APHL(11) of the ITAA 1936 a taxpayer's interest in the trust holding is a fixed interest to the extent that the interest is constituted by a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding.

Former subsection 160APHL(12) of the ITAA 1936 deems certain interests in trust holding to be defeasible, such as when the interest may be redeemed under the terms of the trust for less than its value or where the value of the interest may be materially reduced.

Paragraph 77 of TR 2018/7 outlines circumstances which are relevant and likely to impact whether an interest in the ERT is vested and indefeasible sufficient to conclude that the individual is a qualified person with respect to the dividends that pass to them through the ERT:

(a)          Vesting or holding periods: an employee may not be able to redeem interests in an ERT until a minimum period of employment has been satisfied.

(b)          Investment powers conferred on the trustee or the administrators by the trust deed that have the effect of reducing or diminishing the employee beneficiary's right to capital in the trust: this may include a power conferred on the trustee to acquire, sell or otherwise dispose of the property of the trust (such as shares held by the trustee), without regard to the interests of the employee beneficiary.

(c)          Amount payable on redemption: the amount payable upon redemption of an employee beneficiary's interest in the ERT at a particular point in time might be less than the acquisition/subscription price paid by the employee beneficiary for the interest in the ERT.

(d)          Dilution of value of interest: an effect of increasing the number of employee beneficiaries of the ERT without a corresponding accretion to the capital of the ERT may have the result of diminishing the interest of existing employee beneficiaries in the ERT.

Having regard to the terms of the Trust Deed, we have concluded the Employee's interest in the Trust to not be vested and indefeasible. In particular:

•                    The Trust Deed does not confer on the Employee a right to the shares which are referrable to the Employee's Allocated Investments. The Employee only obtains, per the Trust Deed:

-        rights to receive a distribution in respect of each Accounting Period equal to the Employee's Investment Distribution Entitlement

-        rights to a Cancellation Entitlement in accordance with clause Y of the Trust Deed

-        voting rights in respect of Investments in accordance with clause Z of the Trust Deed

-        rights to request the Trustee cancel the Employee's Allocated Investments in accordance with clause V of the Trust Deed, and

-        voting rights attaching to Allocated Investments in accordance with clause U of the Trust Deed.

•                    The Trust Deed provides that the Trustee may from time to time cause Allocated Investments to be created and may increase the number of Allocated Investments on issue by accepting in whole or in part applications for Allocated Investments, which may result in the Employee's overall entitlement to the interest in the Trust being diluted. Therefore, under former paragraph 160APHL(12)(b) of the ITAA 1936 the Employee's interest in the Trust is deemed to be defeasible.

•                    The Trust Deed provides the Employee 'cannot transfer or assign or otherwise deal with [the Employee's] Allocated Investments in favour of any person nor can any equitable, contingent, future or partial interest or other security interest be created in an Allocated Investment', meaning the Employee's interest in the Trust is not vested in possession because the Employee will not be able to deal with it in any way.

•                    The Trust Deed provides the amount payable to the Employee on redemption is subject to the repayment of any outstanding loan monies. In particular, where the Employee's Cancellation Entitlement is insufficient to repay this loan (i.e. the shares referrable to the Allocated Investment have declined in value), the Employee's Allocated Investment is surrendered to the Trustee. This means the Employee may ultimately receive nothing from the Trust. Therefore, under former paragraph 160APHL(12)(a) of the ITAA 1936 the Employee's interest is deemed to be defeasible.

•                    Under the Trust Deed, the Trustee must cancel some or all of the Allocated Investments registered in the Employee's name on notification by the Employer of the termination of the Employee's employment together with a request by that Employer that some or all of the Allocated Investment registered in the Participant's name should be cancelled immediately or on a particular date or dates. This means the Employee's interest in the Trust is defeasible by the actions of the Employer and the Trustee.

•                    Under the Trust Deed, the Trustee is empowered to meet a Cancellation Entitlement from the Trust Fund or any part thereof any monies in its hands whether received, held or deemed to be income or being cash contributed to the Trust, meaning the Employee's interest in the whole of the Trust can be diluted.

•                    The Trust Deed, as in Soubra, 'vests in the Trustee the power to purchase or otherwise acquire and to sell or otherwise dispose of property, rights and privileges on such terms and conditions as it thinks fit.' This means the Employee's interest in the Trust can be defeated by the actions of the Trustee.

Under former subsection 160APHL(14) of the ITAA 1936, the Commissioner has a discretion to determine an interest to be vested and indefeasible. ATO Interpretative Decision ATO ID 2014/10[21] considers the circumstances in which the Commissioner might exercise his discretion under former subsection 160APHL(14) of the ITAA 1936. In accordance with ATO ID 2014/10, a conclusion that a beneficiary of a unit trust cannot satisfy the qualification period in the former section 160APHO of the ITAA 1936 is not a relevant matter for the Commissioner to consider in exercising the discretion to treat the unit holder's interest as vested and indefeasible under former

paragraph 160APHL(14)(c) of the ITAA 1936.

Whether the discretion will be exercised in a taxpayer's favour is dependent on an examination of the circumstances so as to understand where the true economic ownership of the shares is held.

ATO ID 2014/10 sets out some factors which indicate that a unitholder may not be sufficiently exposed to the risk of loss or opportunity for gain in respect of their shares. These include:

•                    The limited recourse nature of the loan (so that the unit holder is wholly protected from a fall in the market value of the shares);

•                    The loan not being interest bearing;

•                    The requirement for the unit holder to repay the loan from their own funds before being eligible to an in specie distribution;

•                    The arrangement being generally promoted or operated on the basis that a unit holder will, upon cancellation of the units, receive cash rather than an in specie distribution; and

•                    The various discretions of the trustee affecting the vesting of the shares.

Other than when the shares are directly transferred to the Employee as an in specie distribution under the Employee's Cancellation Entitlement and clause KK of the Trust Deed, we consider the Employee will not be exposed to the risk of loss in respect of these shares due to the following reasons:

•                    The Employee will obtain rights to the Allocated Investments, which grant the Employee an interest in the shares, through an interest free, limited recourse loan. To the extent that the shares, which are referrable to the Employee's Allocated Investments, fall in value, the Employee will only be required to repay the amount of the loan that represents this reduced value. This means that the Employee will be protected from any risk if the shares decline in value.

•                    The Employee is required to repay the loan from the proceeds of the sale of the shares or from accepting that the value of shares assigned to the Employee's rights will be applied by the Trustee to repay the loan. This means that, until the Employee repays the loan, the Employee has no entitlement to call for the shares. To the extent that the shares or the profits from the sale of the shares are used to service the loan, the Employee's interest in them is not indefeasible.

•                    The Employee can elect, under clause Y of the Trust Deed, to receive cash rather than an in specie distribution of the shares; this means that the Employee may never receive a vested and indefeasible interest in the shares themselves.

Having regard to the matters in former subsection 160APHL(14) of the ITAA 1936 and ATO ID 2014/10, the Commissioner considers it is not appropriate to exercise his discretion in the Employee's case.

We therefore consider that the Employee will not be a 'qualified person' within the meaning of Division 1A of former Part IIIAA of the ITAA 1936. Unless the Employee is a qualified person because the Employee is a small shareholder, under Division 1A of former Part IIIAA of the ITAA 1936, the Employee will not be entitled to a tax offset for franking credits attached to the franked distributions from the Trust.

[1] All legislative references are to the ITAA 1997 unless otherwise stated.

[2] Paragraph 58 of TR 2018/7.

[3] (1990) 21 ATR 1123; 91 ATC 4007.

[4] (1990) 21 ATR 1123 at 1132; 91 ATC 4007 at 4014-15.

[5] (1995) 129 ALR 503.

[6] (1995) 129 ALR 503 at 507.

[7] Refer to section 118-20 of the ITAA 1997.

[8] Refer to paragraph 73 of TR 2018/7.

[9] 89 ATC 4051

[10] 88 ATC 4222.

[11] 87 ATC 4883.

[12] (1952) 86 CLR 402.

[13] (1952) 86 CLR 540.

[14] Defined in section 974-160.

[15] See paragraph 30 of TD 2012/11.

[16] (1975) 133 CLR 45.

[17] Paragraph 57 of TR 2018/7.

[18] [1892] 3 TC 158; [1892] AC 150.

[19] 80 ATC 4140; (1980) 10 ATR 696.

[20] [2009] AATA 775.

[21] ATO ID 2014/10 Income Tax Entitlements to franking credits in an employee remuneration arrangement: Commissioner's discretion.