Edited version of private advice

Authorisation Number: 1051997007794

Date of advice: 28 June 2022

Ruling

Subject: Employee share scheme - reporting obligation

Question

Where Sub-Co provides rights to acquire shares (Units) in Parent-Co to its Australian resident employees (Participants) under the Unit Agreement (Agreement) and in accordance with the Incentive Plan (Plan), does Sub-Co have a reporting obligation under Division 392 of the Taxation Administration Act 1953 (TAA) and if so, when does the reporting obligation arise?

Answer

Yes.

This ruling applies for the following periods:

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

The scheme commenced on:

XX XXXX date

Relevant facts and circumstances

1.    Sub-Co is an Australian company registered with the Australian Securities and Investment Commission.

2.    The predominant business activity of Sub-Co is not the acquisition, sale or holding of shares, securities or other investments. Sub-Co is a wholly owned Australian subsidiary of Parent-Co, a foreign corporation.

3.    The current Incentive Plan (the Plan) replaced an existing Incentive Plan. The purpose of the Plan is to advance the interests of the company's stockholders by enhancing the ability of the company to attract, retain and motivate employees who are expected to make important contributions to the company and by providing such persons with equity ownership opportunities and performance-based incentives that are intended to better align the interests of such persons with those of Parent-Co's stockholders.

4.    All of Parent-Co's employees, including employees of its Australian subsidiary, are eligible to be granted awards under the Plan.

5.    The awards that can be granted under the Plan include Units.

6.    The Plan is administered by the board of Parent-Co (the Board). The Board shall grant awards and adopt, amend and repeal such administrative rules, guidelines and practices relating to the Plan as it shall deem advisable.

7.    To the extent permitted by applicable law, the Board may delegate any or all of its powers under the Plan to one or more committees or subcommittees of the Board.

Units

8.    The Board may grant Units entitling the Participant to receive shares of common stock or cash to be delivered at the time that such Units vest. Australian Participants will only receive shares of common stock (and not cash) when their Units vest.

Grant of Units

9.    The granting of Units to Australian Participants is governed by the terms of the Agreement.

10.  Units are granted at the sole discretion of the Board.

11.  Each Unit represents the right to receive one share of common stock upon vesting of the Unit. The Participant agrees that the Units shall be subject to the vesting conditions set forth in the Agreement and the notice of grant under which that particular Unit is granted to the Participant.

12.  The notice of grant will also include details about vesting schedule, number of Units granted, the vesting start date, etc.

13.  All the Units are unlisted and are granted for nil consideration.

Vesting Conditions

14.  Provided that the Participant remains employed by Sub-Co on the occurrence of certain events or dates, the Units will vest to the Participants.

15.  Upon vesting, each Participant will be issued and delivered one share of common stock in Parent-Co for each vested Unit. No consideration is paid by Participants upon vesting of the Units and distribution of shares represented by the vested Units.

Forfeiture

16.  Unless otherwise provided in the Agreement, if the Participant ceases to be employed by Parent-Co for any reason or no reason, with or without cause, before the Units vest, all of the Units that are unvested at the time of such employment termination shall be immediately forfeited to Parent-Co.

Transfer Restrictions

17.  The Participant cannot sell, assign, transfer, pledge or otherwise dispose or encumber the Units granted.

Shareholding and Voting Power

18.  Australian Participants receiving Units under the Plan on or after X date will not, immediately after they acquire the ESS interest, hold a beneficial interest in more than 10% of the shares or be in a position to cast or control the casting of more than 10% of the maximum number of votes that might be cast at a general meeting of Parent-Co.

Relevant legislative provisions

Taxation Administration Act1953 Schedule 1 Division 392

Income Tax Assessment Act 1997 Division 83A

Reasons for decision

Division 392 of Schedule 1 to the TAA

19.  Division 392 of Schedule 1 to the TAA relates to employee share scheme reporting.

20.  Subsection 392-5(1) provides that an entity (the provider) must give a statement to the Commissioner and to an individual for a financial year if:

(a)  both of the following subparagraphs apply:

(i)      the provider provides ESS interests to the individual during the year;

(ii)     Subdivision 83A-B or 83A-C of the ITAA 1997 applies to the interests; or

(b)  all of the following subparagraphs apply:

(i)      the provider has provided ESS interests to the individual (whether during the year or during an earlier year);

(ii)     Subdivision 83A-C of the ITAA 1997 applies to the interests;

(iii)    the ESS deferred taxing point for the interests occurs during the year.

21.  Under subsection 392-5(5) of the TAA 1953, the statement must be given:

(a)  to the individual no later than 14 July after the end of the year; and

(b)  to the Commissioner no later than 14 August after the end of the year.

22.  Subsection 392-10(1) requires that if the provider becomes aware of a material change or material omission in any information given to the individual or the Commissioner under Division 392, the provider must:

(a)  tell the individual or the Commissioner of the change in the approved form; or

(b)  give the omitted information to the individual or the Commissioner in the approved form.

Whether Sub-Co has a reporting obligation under Division 392 of Schedule 1 to the TAA?

23.  A provider will have reporting obligations under Division 392 of Schedule 1 to the TAA in relation to the Units issued to the Participants if either paragraph 392-5(1)(a) or paragraph 392-5(1)(b) is satisfied.

Paragraph 392-5(1)(a)

24.  For paragraph 392-5(1)(a) to be satisfied, there must be a grant of an ESS interest to the Participant and either Subdivision 83A-B or 83A-C applies to the ESS interest.

ESS Interests

25.  An ESS interest in a company is defined in subsection 83A-10(1) of the ITAA 1997 as either a beneficial interest in a share in the company or a right to acquire a beneficial interest in a share in the company.

26.  Units that are granted to the Participants pursuant to the Plan and the Agreement are rights to acquire a beneficial interest in a share in Parent-Co. The Units are therefore ESS interests as defined in subsection 83A-10(1) of the ITAA 1997.

Subdivision 83A-B of the ITAA 1997

27.  Section 83A-20 of the ITAA 1997 provides that Subdivision 83A-B applies to an ESS interest if a taxpayer acquires the interest under an employee share scheme at a discount.

28.  An employee share scheme is defined in subsection 83A-10(2) of the ITAA 1997 as a scheme under which ESS interests in a company are provided to employees of the company or subsidiaries of the company in relation to the employees' employment. The Participants are employees of Sub-Co (the Australian subsidiary). Parent-Co provided the Units to the Participants in relation to their employment. Hence, the Participants acquired the Units under an employee share scheme.

29.  The term 'discount' is not defined in the ITAA 1997. However, paragraph 1.102 of the Explanatory Memorandum to the Tax Laws Amendment (2009 Budget Measures No. 2) Bill 2009 states '[t]he discount is the market value of the ESS interests less any consideration paid or to be paid by the employee'.

30.  As Participants do not pay any consideration for the grant of the Units, nor do they pay any consideration upon the vesting of the Units, the Units are therefore acquired at a discount.

31.  Therefore, the Units are ESS interests acquired by Participants under an employee share scheme at a discount and, as such, Subdivision 83A-B of the ITAA 1997 would apply to the Units but for the operation of section 83A-105 of the ITAA 1997.

Subdivision 83A-C of the ITAA 1997

32.  Section 83A-105 of the ITAA 1997 provides that Subdivision 83A-C applies and Subdivision 83A-B does not apply to an ESS interest that is a beneficial interest in a right to acquire a beneficial interest in a share if certain conditions are satisfied. Among all the conditions, a key requirement that distinguishes whether Subdivision 83A-B or 83A-C applies to the relevant ESS interest is, when the employee acquires the interest, whether there is a real risk under the conditions of the scheme that the employee will forfeit or lose the interest or the beneficial interest in the share after the interest is exercised (subsection 83A-105(3)).

33.  The Explanatory Memorandum (EM) to the Tax Laws Amendment (2009 Budget Measures No.2) Bill 2009, which inserted Division 83A into the ITAA 1997, explains the real risk of forfeiture test at paragraphs 1.156 and 1.158:

The 'real risk of forfeiture test' does not require employers to provide schemes in which their [ESS interests] are at significant or substantial risk of being lost. However, real is regarded as something more than a mere possibility. Something is not a real risk if a reasonable person would disregard the risk as highly unlikely to occur or as nothing more than a rare eventuality or possibility.

...

The 'real risk of forfeiture' test is intended to provide for deferral of tax when there is a real alignment of interests between the employee and employer, through the employee's benefits being at risk. The test is a principle based test, intended to deny deferral of tax where schemes contrive to present a nominal risk of forfeiture without complying with the intent of the proposed law.

34.  Further, ATO Interpretative Decision ATO ID 2010/61: real risk of forfeiture - minimum term of employment and good leaver provisions states that:

In considering whether a condition in a scheme imposes a real risk of forfeiture, regard should be had to whether a reasonable person would consider that there is a genuine connection between the forfeiture condition and aligning the interests of the employee and employer. If the risk of forfeiture is over a very short period of time to gain access to a relatively long period of deferral the risk will not be considered real.

35.  The ATO ID 2010/61 suggests that a condition imposing a minimum employment period of 12 months is considered to satisfy the test of 'real risk of forfeiture'. Conditions that impose minimum and meaningful terms of employment should normally be considered to give rise to a real risk of forfeiture, given that a reasonable person, after having considered all the relevant circumstances, would consider the risk for the employee to ultimately lose the economic value of the ESS interest is more than a rare eventuality or possibility.

36.  The ATO ID 2010/61 also noted that the presence of good leaver conditions that allow interests to be retained in the event that beyond the employee's control, e.g. death, invalidity or bona fide redundancy, should not normally prevent an ESS interest being at real risk of forfeiture for the purposes of Subdivision 83A-C.

37.  The present scheme has been designed to motivate, reward and retain employees of Sub-Co. The scheme operates so that employees who are granted rights have an interest in remaining employed with the company and act in line with the interest of the company.

38.  The risk of forfeiture arises under the conditions of the scheme if employees cease to be employed by Sub-Co before the Units vest as all unvested Units at the time of termination will be forfeited to Parent-Co.

39.  The standard vesting schedule for Units will take at least 12 months to vest. The only exception will be when some Units are granted during Parent-Co's annual process, however, even in this case, the vesting will take at least 11 months. In the absence of any evidence that could suggest the existing vesting rules are intended to only create nominal or contrived risks so that the deferred taxation under Subdivision 83A-C is achieved, the Commissioner considers the Units to be subject to a 'real' risk of forfeiture. Paragraph 392-5(1)(a) is therefore satisfied and a reporting obligation will arise accordingly.

40.  However, in special situations where the vesting conditions may differ from the standard schedule, consideration must be given to the detailed rules and all the relevant circumstances before a conclusion under section 83A-120 can be reached. If the relevant circumstance suggests that the scheme is designed to only give the employees a tax deferred benefit rather than to retain or motivate employees, it is unlikely that there is a risk of forfeiture for the purposes of section 83A-120, therefore, Subdivision 83A-C will not apply.

Paragraph 392-5(1)(b)

41.  For paragraph 392-5(1)(b) to be satisfied, there must be a grant of an ESS interest to the Participant, Subdivision 83A-C must apply to the ESS interest and the ESS deferred taxing point, as defined in section 83A-120 of ITAA 1997, occurs during the year.

Deferred Taxing Point

42.  Where Subdivision 83A-C applies, paragraph 392-5(1)(b) is also satisfied in a financial year when the deferred taxing point as described in section 83A-120 occurs in relation to the Units.

43.  The ESS deferred taxing point for an ESS interest that is a beneficial interest in a right to acquire a beneficial interest in a share (under subsection 83A-120(7)) is the earliest time when:

(a)  the taxpayer exercises the right; and

(b)  there is no real risk that, under the conditions of the scheme, the taxpayer will forfeit or lose the beneficial interest in the share (other than by disposing of it); and

(c)   if at the time the taxpayer acquired the interest, the scheme genuinely restricted them from immediately disposing of the beneficial interest in the share - the scheme no longer restricts them.

44.  However, the ESS deferred taxing point for the interest is the time the taxpayer disposes of the interest (other than by exercising the right), or the time the taxpayer disposes of the beneficial interest in the share if that time occurs within 30 days after the time worked out above (subsection 83A-120(3)).

45.  The ESS deferred taxing point for the Units will arise, pursuant to paragraph 83A-120(7)(a) when the Units vest (as shares are automatically issued upon vesting of the Units), or on the date when the shares are disposed if the shares acquired at vesting were disposed of within 30 days of the vesting date of the Units under paragraph 83A-120(3)(b).

46.  Consequently, Sub-Co will also have a reporting obligation under paragraph 392-5(1)(b) when the deferred taxing point in relation to the Units occurs.

When does the reporting obligation arise?

47.  A reporting obligation arises, under paragraph 392-5(1)(a) of Schedule 1 to the TAA, for a financial year in which Parent-Co/Sub-Co provides a Participant with the Unit under the Agreement and in accordance with the Plan.

48.  Where Units are subject to a real risk of forfeiture for the purposes of subsection 83A-105(3), a further reporting obligation arises under paragraph 392-5(1)(b) of Schedule 1 to the TAA, in the financial year when a ESS deferred taxing point for the Units occurs. That is either when Units are automatically exercised upon vesting due to vesting conditions being satisfied, or in the event the Units vest as a result of termination of employment in accordance with the Agreement.

49.  For completeness, where Units are granted under special situations where there is no real risk of forfeiture, only paragraph 392-5(1)(a) will apply.

50.  Sub-Co is required to give a statement to the Commissioner and to the individual Participant in the relevant financial year in which the reporting obligation arises. Subsection 392-5(4) requires that the statement must be given to the individual no later than 14 July after the end of the year and to the Commissioner no later than 14 August after the end of the year.

51.  Furthermore, Sub-Co is required, under section 392-10 of Schedule 1 to the TAA, to report any material change or material omission in the information given to the individual or the Commissioner under Division 392 within 30 days after it becomes aware of such change or omission, which would include, for example, forfeiture of the Units where the original grant of the Units had been previously reported.