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Edited version of private advice
Authorisation Number: 1052165362365
Date of advice: 14 September 2023
Ruling
Subject: Early stage innovation company
Question
Does Company A meet the criteria of an Early Stage Innovation Company (ESIC) under subsection 360-40(1) of the Income Tax Assessment Act 1997 (ITAA 1997)[1]?
Answer
Yes.
This ruling applies for the following period:
Year ending 30 June 20XX
The scheme commenced on:
1 July 2022
Relevant facts and circumstances
1. Company A was incorporated in Australia on XX XX 20XX.
2. Company A has issued ordinary shares to various shareholders since its registration in XX 20XX.
3. Company A's total expenditure over the last financial years was $XX.
4. Company A's assessable income over the last financial year was $XX.
5. Company A's equity interests are not listed for quotation in the official list of any stock exchange, either in Australia or a foreign country.
6. The Company is developing a product and information that details its development was provided.
7. In a private binding ruling (PBR) for a previous period, Company A qualified as an ESIC at relevant test times. The basis for the decision was that the company satisfied the principles based test in respect of the 'product' being developed.
8. Since the PBR issued, Company A has continued to develop their 'product'. They predict that there is still approximately x months of development required before the 'service' is fully developed.
Relevant legislative provisions
Income Tax Assessment Act 1997 Subdivision 360-A
Income Tax Assessment Act 1997 section 360-15
Income Tax Assessment Act 1997 section 360-40
Income Tax Assessment Act 1997 section 360-45
Reasons for decision
SUMMARY
Company A meets the eligibility requirements of an ESIC pursuant to subsection 360-40(1).
Detailed Reasoning
Qualifying Early Stage Innovation Company
9. Subsection 360-40(1) outlines the criteria required for a company to qualify as an ESIC at a particular time in an income year. This time is referred to as the 'test time'. The criteria are based on a series of tests to identify if the company is at an early stage of its development and it is developing new or significantly improved innovations to generate an economic return.
'The early stage test'
10. The early stage test requirements are outlined in detail within paragraphs 360-40(1)(a) to (d).
Incorporation or Registration - paragraph 360-40(1)(a)
11. To meet the requirement in paragraph 360-40(1)(a), at a particular time (the test time) in an income year (the current year) the company must have been either:
- incorporated in Australia within the last three income years (the latest being the current year); or
- incorporated in Australia within the last six income years (the latest being the current year), and across the last three of those income years before the current year the company and its 100% subsidiaries incurred total expenses of $1 million or less; or
- registered in the ABR within the last three income years (the latest being the current year).
12. The term 'current year' is defined in subsection 360-40(1) with reference to the 'test time'; the 'current year' being the income year in which the company issues shares to the investor.
13. A company that does not meet any of these conditions will not qualify as an ESIC.
Total expenses - paragraph 360-40(1)(b)
14. To meet the requirement in paragraph 360-40(1)(b), the company and its 100% subsidiaries must have incurred total expenses of $1 million or less in the income year before the current year.
Assessable income - paragraph 360-40(1)(c)
15. To meet the requirement in paragraph 360-40(1)(c), the company and its 100% subsidiaries must have derived total assessable income of $200,000 or less in the income year before the current year.
No stock exchange listing - paragraph 360-40(1)(d)
16. To meet the requirement in paragraph 360-40(1)(d), the company must not be listed on any stock exchange in Australia or a foreign country.
INNOVATION TESTS
17. If the company satisfies the early stage test, the company must also satisfy one of two innovation tests: the objective (100 point) test or the principles-based test.
'100 point test' - paragraph 360-40(1)(e) and section 360-45
18. To satisfy the 100 point test the company must obtain at least 100 points by meeting the innovation criteria in the table within section 360-45. The criteria are tested at a time immediately after the relevant shares are issued. If a company satisfies this test it does not need to satisfy the principles-based test.
'Principles-based test' - subparagraphs 360-40(1)(e)(i) to (iv)
19. To satisfy the principles-based test, the company must meet five requirements in paragraph 360-40(1)(e). This is tested at a time immediately after the relevant new shares are issued to the investor.
20. The company can demonstrate that it meets each requirement through existing documentation such as a business plan, commercialisation strategy, competition analysis or other company documents. The company must be able to show that tangible steps have been or will be taken in relation to each of the requirements.
21. The five requirements of the principles-based test, as outlined in paragraph 360-40(1)(e) are:
i. the company must be genuinely focussed on developing for commercialisation one or more new or significantly improved products, processes, services or marketing or organisational methods
ii. the business relating to that innovation must have a high growth potential
iii. the company must demonstrate that it has the potential to be able to successfully scale up the business relating to the innovation
iv. the company must demonstrate that it has the potential to be able to address a broader than local market, including global markets, through that business, and
v. the company must demonstrate that it has the potential to be able to have competitive advantages for that business.
Foreign Company test - paragraph 360-40(1)(f)
22. At the test time, the company must not be a foreign company within the meaning of the Corporations Act 2001 (Cth).
23. The dictionary in section 9 of the Corporations Act 2001 (Cth) defines a foreign company to mean:
(a)a body corporate that is incorporated in an external Territory, or outside Australia and the external Territories, and is not:
(i) a corporation sole; or
(ii) an exempt public authority; or
(b) an unincorporated body that:
(i) is formed in an external Territory or outside Australia and the external Territories; and
(ii) under the law of its place of formation, may sue or be sued, or may hold property in the name of its secretary or of an officer of the body duly appointed for that purpose; and
(iii) does not have its head office or principal place of business in Australia.
APPLICATION TO YOUR CIRCUMSTANCES
TEST TIME
24. For the purposes of this ruling, the 'test time' for determining if Company A is a qualifying ESIC, will be upon the issue of qualifying shares on a particular date or dates on or after 1 XX 20XX, and on or before 30 YY 20YY.
Current year
25. Therefore, for the purposes of subsection 360-40(1) ITAA 1997, the current year will be the year ending 30 June 20XX. For clarity, in relation to particular requirements within subsection 360-40(1), the last 3 income years will include the years ending 30 June 20XX, 20XX and 20XX, and the income year before the current year will be the year ending 30 June 20XX.
THE 'EARLY STAGE TEST' - paragraphs 360-40(1)(a) - (d)
Incorporation or Registration - paragraph 360-40(1)(a)
26. Company A was incorporated in Australia on x XX 20XX which is within the 3 income years.
27. Company A satisfies the requirements of subparagraph 360-40(1)(a)(i).
Total expenses - paragraph 360-40(1)(b)
28. In applying the requirements of paragraph 360-40(1)(b), Company A and any of its 100% subsidiaries must have incurred total expenses of $1 million or less in the 20XX income year, being the income year before the current year.
29. Company A incurred expenses of $xx.00 in the 20XX income year. Consequently, paragraph 360-40(1)(b) is satisfied.
Assessable income - paragraph 360-40(1)(c)
30. In applying the requirements of paragraph 360-40(1)(c), Company A and any of its 100% subsidiaries must have derived total assessable income of $200,000 or less in the 20XX income year, being the income year before the current year.
31. Company A earned $XX.00 assessable income in the 20XX income year. Consequently, paragraph 360-40(1)(c) is satisfied.
No Stock Exchange listing - paragraph 360-40(1)(d)
32. In applying the requirements of paragraph 360-40(1)(d), Company A must not be listed on any stock exchange in Australia or a foreign country at the test time.
33. Company A was not listed on any stock exchange in Australia or a foreign country at relevant test times, so paragraph 360-40(1)(d) is satisfied.
CONCLUSION FOR EARLY STAGE TEST
34. Company A satisfies the early stage test for the 20XX income year, as each of the requirements within paragraphs 360-40(1)(a) to (d) have been satisfied.
THE '100 POINT TEST' - paragraph 360-40(1)(e) and section 360-45
35. Company A has not provided sufficient evidence of satisfying the 100 point test under section 360-45 for the year ending 30 June 20XX. For Company A to be a qualifying ESIC, it will need to satisfy the principles-based test.
THE 'PRINCIPLES-BASED TEST' - paragraph 360-40(1)(e)
36. While the 'product' is still being developed, Company A will continue to satisfy the requirements of the principles based test, within subparagraphs 360-40(1)(e)(i) to (v).
CONCLUSION FOR PRINCIPLES BASED TEST
Company A satisfies the principles based test as it will satisfy the requirements within subparagraphs 360-40(1)(e)(i) to (v) for the period commencing 1 July 20XX until 30 June 20XX.
Foreign Company Test - subparagraph 360-40(1)(f)
As Company A was incorporated in Australia, it is not a Foreign Company and paragraph 360-40(1)(f) is satisfied.
CONCLUSION
Company A meets the eligibility criteria of an ESIC under section 360-40 for the period 1 July 20XX to 30 June 20xx.
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[1] All future references to the legislation are to the Income Tax Assessment Act 1997, unless otherwise stated.