Edited version of private advice

Authorisation Number: 1051924567045

Date of advice: 19 September 2022

Ruling

Subject: Employee share scheme

Question 1

Will Company P obtain an income tax deduction, pursuant to section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) in respect of the irretrievable payments made by Company P to the Trustee to fund the acquisition by the Trust of Company P's shares either on market or via a new subscription of shares?

Answer

Yes.

Question 2

Will Company P obtain an income tax deduction, pursuant to section 8-1 of the ITAA 1997, in respect of costs incurred by Company P in relation to the on-going administration of the Trust?

Answer

Yes.

Question 3

Will the irretrievable cash contributions made by Company P to the Trustee of the Trust, to fund the subscription for, or acquisition on-market and / or off-market of, Shares by the Trustee to satisfy ESS interests issued pursuant to the Plan, be deductible to Company P under section 8-1 of the ITAA 1997 at the time determined by section 83A-210 of the ITAA 1997?

Answer

Yes.

Question 4

Will the Commissioner seek to make a determination that Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) applies to deny, in part or full, any deduction claimed by Company P in respect of the irretrievable cash contributions made by Company P to the Trustee to fund the subscription for, or acquisition on-market, of Company P's shares by the Trustee, pursuant to the Plan?

Answer

No.

Question 5

Will the provision of rights to acquire Shares ('Share Rights') or Shares by Company P to employees of Company P under the Plan be a 'fringe benefit' within the meaning of the term in subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Answer

No.

Question 6

Will the irretrievable payments made by Company P to the Trustee, to fund the acquisition by the Trust of Company P shares either on market or via a new subscription of shares pursuant to the Plan, be treated as a 'fringe benefit' within the meaning of the term in subsection 136(1) of the FBTAA?

Answer

No.

Relevant facts and circumstances

All legislative references are to provisions of the ITAA 1997 unless otherwise indicated.

Background

Company P is an Australian listed company.

Company P aims to maintain a remuneration policy where employee reward is aligned with the achievement of the company's overall strategic objectives, outcomes and creation of value for shareholders. Company P rewards key employees with a mix of remuneration commensurate with their position and responsibilities. Remuneration structures are reviewed regularly to ensure that:

•                     remuneration is competitive by market standards

•                     rewards are linked to strategic goals and performance, and

•                     accountabilities and deliverables are clearly defined to minimise potential conflicts of interest and promote effective decision-making.

Remuneration of employees is evaluated against comparative positions in similar companies and

industries. The remuneration of key employees comprises the following elements:

•                     Fixed remuneration, which includes base pay and other benefits

•                     Performance linked remuneration, which consists of performance rights or options, and

•                     Employee share ownership, through the grant of ordinary shares subject to dealing

restrictions granted under a salary sacrifice, tax exempt or tax deferred arrangement.

Company P Employee Incentive Plan (the Plan)

The Plan is an employee incentive plan operated by Company P for employees. The objective of the Plan is to:

•                     align the interest of Eligible Employees with those of shareholders;

•                     provide incentives to attract, retain and motivate Eligible Employees for the long term benefit of Company P; and

•                     provide Eligible Employees with the opportunity to acquire Share Rights, and ultimately Shares, in accordance with the Plan rules.

The Plan allows Company P to offer a right to acquire a fully paid share in Company P (Share Right) to an Eligible Employee subject to the terms of the particular offer and the Plan.

An Eligible Employee becomes a participant of the Plan (Participant) on issue of a Share Right and is taken to have accepted the offer to acquire and hold the Share Rights by completing an acceptance form.

There have been several separate grants of Share Rights made under the Plan to date.

Share Rights

Share Rights do not carry dividend or voting rights. Certain grants (i.e. the long-term incentive and short-term incentive deferral grants, listed above) carry notional dividend equivalent payments for vested awards which are granted as Share Rights (with a nil exercise price) that vest immediately.

Once vested, the Board must procure the transfer of Shares to the Participant in satisfaction of the vested Share Rights.

No interest in Shares will arise until the relevant vesting conditions are met and a Share Right has vested. All unvested Share Rights will generally lapse immediately upon the Participant's cessation of employment, except in special circumstances details in the Plan.

Company P Employee Share Trust (the Trust)

The Trust was established to facilitate the acquisition, holding of and allocation of Shares to Participants in accordance with employee equity plans, including the Plan. The Trustee of the Trust is not a related entity of Company P.

Company P's reasons for using an employee share trust arrangement for the existing and any future equity based incentive plans include:

•                     a company is unable to hold its own shares. The Trust is a vehicle which will enable Company P to effectively acquire and hold its own Shares for the purpose of fulfilling its obligations resulting from new and existing grants under the Plan;

•                     the Trust will facilitate the acquisition of Shares either on-market or by new issue of Shares by Company P;

•                     the Trust provides an arm's length vehicle for acquiring and holding Shares in Company P, either by way of new issue or acquiring on-market, i.e. providing flexibility relating to capital management;

•                     the Trust will be an efficient structure for giving effect to vesting conditions. As the Trustee is the legal owner; employees have no ability to deal in the Shares;

•                     contributing to the Trust to acquire Shares before Share Rights vest may enable Company P to hedge against a potential increase in costs to satisfy Share Rights due to share price growth, as well as the potential for insufficient Shares being available on-market immediately prior to vesting;

•                     the Trust provides the flexibility to acquire and hold Shares that will be allocated to employees under the Plan. When vesting conditions are not met, Share Rights are forfeited, and the Trust enables Shares held for such forfeited Share Rights to be 'recycled' to satisfy other grants of Share Rights; and

•                     the Trust establishes independent records and accounts for Participants.

Company P states the Trust broadly operates as follows:

•                     The sole activities of the Trustee will be acquiring Shares for the purpose of providing them to Participants on vesting of their Share Rights under the Plan and the administration of the Trust. The Trustee will acquire Shares at market value and will either acquire them on-market, by way of off-market transaction or subscribe for new.

•                     Under the terms of the Trust Deed, Company P will instruct the Trustee to subscribe for, purchase or allocate a number of Shares specified in the notice. This instruction may occur at any time Share Rights are granted or at a later time depending on Company P's capital management strategy.

•                     In determining whether to request the Trustee to subscribe for or purchase Shares on-market, the Company P Board will consider the following:

o        Company P's current capital management strategy;

o        the dilution impact any issue of new Shares will have;

o        the liquidity (trade volume) of Company P Shares;

o        the Board's expectations regarding Company P's Share price movements and volatility over the short and longer term; and

o        trading restrictions or anticipated activity that may prompt restrictions in trading of Company P shares.

•                     The Trustee will, in accordance with instructions received pursuant to the Plan Rules, acquire, allocate and deliver Shares to Participants, provided the Trustee receives sufficient payment from Company P to subscribe for or purchase Shares and/or sufficient unallocated Shares are available in the Trust.

Contributions to the Trust

The Trust will be funded by Company P through irretrievable contributions to the Trustee, as required. All funds received by the Trustee will constitute accretions to the corpus of the Trust contributed by Company P will be used to acquire Shares and those Shares will be provided to the relevant Participants within one day of Company P initially making the contributions to the Trust.

Any funds contributed to the Trust (other than funds contributed for fees or reimbursement of expenses incurred by the Trustee in accordance with the Trust Deed) cannot be refunded, repaid or returned to Company P (or any Group member) other than by way of the Trustee paying the issue price where it subscribes for Shares.

The Trustee must carry out the objects of the Trust in a manner consistent with the definition of 'employee share trust' in section 130-85.

The Trustee is not permitted to acquire any Share or deliver any Share to any Participant if to do so would contravene applicable law.

Funds to the Trust are transferred immediately prior to vesting in order to fund the acquisition of shares on market, so effectively the funds are provided at vesting. No contributions are made to the trust in advance of vesting. Shares will be provided to employee participants within one day of the contributions being made to the Trust.

Other Matters

The Trust Deed originally contained a clause affording wide powers to the Trustee which compromised the sole activities test in s130-85(4) of the ITAA 1997. This clause was subsequently removed from the Trust Deed. For the period up to the date the Trust Deed was amended, the Trustee has not exercised the power under that clause of the previous Trust Deed.

Reasons for decision

All legislative references are to provisions of the ITAA 1997 unless otherwise indicated.

Question 1

Will Company P obtain an income tax deduction, pursuant to section 8-1 of the ITAA 97 in respect of the irretrievable payments made by Company P to the Trustee to fund the acquisition by the Trust of Company P's shares either on market or via a new subscription of shares?

Summary

Company P will be entitled to deduct an amount pursuant to section 8-1 in respect of the cash irretrievable contributions to the Trustee to fund the acquisition by the Trust of Company P shares either on-market or via a new subscription of shares pursuant to the Plan.

Detailed reasoning

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

Company P carries on a business in Australia and it operates an employee share scheme as part of its remuneration strategy

In accordance with the Plan Rules and the Trust Deed, Company P grants rights or shares to employees and will make irretrievable cash contributions to the Trustee to enable the Trustee to purchase shares in Company P to benefit its employees (Eligible Participants).

Incurred in carrying on a business

Company P must provide the Trustee with all funds required to enable the Trustee to subscribe for, or acquire, Company P shares. Further, pursuant to the Trust Deed, any contributions made by Company P to the Trustee will constitute accretions to the capital of the Trust and will be irretrievable to Company P, and non-refundable by the Trustee. As the funds are not repayable by the Trustee, the contributions will represent a permanent loss or outgoing incurred by Company P.

Company P has granted rights or shares under the Plan as part of its remuneration and reward program for employees. The costs incurred for the acquisition of shares to satisfy rights arise as part of these remuneration arrangements, and contributions to the Trust are part of an on-going series of payments in the nature of remuneration of its employees.

Not capital, or of a capital nature

Irretrievable cash contributions are outgoings incurred for periodic funding of an employee share scheme for employees and part of the broader remuneration expenditure of Company P.

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

While the deduction under section 8-1 would generally be allowable in the income year in which the employer provided the contributions to the trustee, in certain circumstances, the timing of the deduction is specifically determined under section 83A-210 (see question 3 of the Reasons for Decision).

Question 2

Will Company P obtain an income tax deduction, pursuant to section 8-1 of the ITAA 1997, in respect of costs incurred by Company P in relation to the on-going administration of the Trust?

Summary

Company P is entitled to an income tax deduction pursuant to section 8-1 in respect of costs it incurs in relation to the on-going administration of the Trust.

Detailed Reasoning

The Commissioner accepts that the on-going costs incurred by Company P towards the on-going administration of the Trust are deductible to Company P under section 8-1. The on-going costs are considered to be regular and recurring expenses in connection with employees. The Commissioner also accepts these costs are deductible in accordance with the Commissioner's view set out in ATO Interpretative Decision ATO ID 2014/42.

Question 3

Will the irretrievable cash contributions made by Company P to the Trustee of the Trust, to fund the subscription for, or acquisition on-market and / or off-market of, Shares by the Trustee to satisfy ESS interests issued pursuant to the Plan, be deductible to Company P under section 8-1 of the ITAA 1997 at the time determined by section 83A-210 of the ITAA 1997?

Summary

The deduction under section 8-1 would generally be allowable in the income year in which the employer provided the money to the trustee but under certain circumstances, the timing of the deduction is specifically determined under section 83A-210.

Detailed Reasoning

Section 83A-210 applies to determine the timing of the deduction, but only in respect of the contribution provided to the trust to acquire ESS interests in excess of the number required to grant the relevant ESS interests to the employees arising in the year of income under an employee share scheme. Further information is available in ATO Interpretative Decision ATO ID 2010/103 Income Tax- Employee share scheme: timing of deduction for money provided to the trustee of an employee share trust.

The Plan is an employee share scheme for the purposes of subsection 83A-10(2) as it is a scheme under which ESS interests (i.e. a beneficial interest in a share or a beneficial interest in a right to acquire a beneficial interest in a share) are provided to employees in relation to their employment with Company P.

The employee share scheme contains a number of interrelated components which includes the provision of irretrievable cash contributions to the Trustee. These contributions enable the Trustee to acquire Shares for the purpose of enabling each Participant, indirectly as part of the Plan, to acquire ESS interests.

The deduction under section 8-1 for the irretrievable cash contributions is allowable in the income year the relevant beneficial interest in a Share, or beneficial interest in a right to a beneficial interest in a Share, is acquired by a Participant under the Plan.

Question 4

Will the Commissioner seek to make a determination that Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) applies to deny, in part or full, any deduction claimed by Company P in respect of the irretrievable cash contributions made by Company P to the Trustee to fund the subscription for, or acquisition on-market, of Company P's shares by the Trustee, pursuant to the Plan?

Summary

The Commissioner will not seek to make a determination that Part IVA of the ITAA 1936 applies to deny, in part or full, any deduction claimed by Company P in respect of the irretrievable cash contributions made by Company P to the Trustee of the Trust to fund the subscription for or on-market acquisition of Company P's shares by the Trust.

Detailed Reasoning

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

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

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

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

Question 5

Will the provision of rights to acquire Share Rights or Shares by Company P to employees of Company P under the Plan be a 'fringe benefit' within the meaning of the term in subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Summary

The provision of rights to acquire Share Rights and Shares by Company P to employees of Company P under the Plan rules will not be a 'fringe benefit' within the meaning of the term in subsection 136(1) of the FBTAA.

Detailed Reasoning

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

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

In particular, paragraph (h) of subsection 136(1) of the FBTAA 1986 excludes the following from being a 'fringe benefit':

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

The Commissioner accepts that the Plan is an employee share scheme, the rights for the shares provided under the Plan are ESS interests and that Subdivision 83A-B or 83A-C applies to those ESS interests.

Accordingly, the provision of rights for shares under the Plan will not be subject to FBT on the basis that they are acquired by Participants under an employee share scheme (to which Subdivision 83A-B or 83A-C will apply) and are thereby excluded from being a fringe benefit by virtue of paragraph (h) of the definition of fringe benefit in subsection 136(1) of the FBTAA.

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

Question 6

Will the irretrievable payments made by Company P to the Trustee, to fund the acquisition by the Trust of Company P shares either on market or via a new subscription of shares pursuant to the Plan, be treated as a 'fringe benefit' within the meaning of the term in subsection 136(1) of the FBTAA?

Summary

The irretrievable payments made by Company P to the Trustee, to fund the acquisition by the Trust of Company P shares either on market or via a new subscription of shares, will not be treated as a fringe benefit within the meaning of the term in subsection 136(1) of the FBTAA.

Detailed Reasoning

One benefit excluded from being a 'fringe benefit', pursuant to paragraph (ha) of subsection 136(1) of the FBTAA, is a benefit constituted by the acquisition of money or property by an employee share trust within the meaning in subsection 130-85(4) of the ITAA 1997.

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

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

•                     The Trust acquires shares in a company, namely Company P; and

•                     The Trust ensures that ESS interests as defined in subsection 83A-10(1) (being rights in Company P) are provided under an employee share scheme (as defined in subsection 83A-10(2)) by allocating them to the employees in accordance with the Plan.

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

The Commissioner's views on the types of activities that are merely incidental and not merely incidental are set out in Taxation Determination TD 2019/13: Income tax: what is an 'employee share trust'?.

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

In the present case, the objects of the Trust are for the sole purpose of undertaking activities that are in line with the definition of an employee share trust under section 130-85(4) including paragraph 130-85(4)(c) as the other activities undertaken by the Trustee are merely incidental to managing the Plan.

Therefore, the irretrievable cash contributions made to the Trust by Company P to fund the subscription for or acquisition on-market of Company P shares by the Trust will not be a fringe benefit within the meaning of subsection 136(1) of the FBTAA.