Edited version of private advice

Authorisation Number: 1052195998019

Date of advice: 7 December 2023

Ruling

Subject: Pay as you go withholding

Question 1

Will the Trustee of the proposed Trust be required to withhold an amount from a cash payment made to employees on the redemption of units in the proposed Trust at the end of the deferral period pursuant to section 12-35 of Schedule 1 to the Taxation Administration Act 1953 (TAA) on the basis that the redemption amounts constitute salary and wages derived by the employees at that time?

Answer

Yes.

Question 2

Will the Trustee of the proposed Trust be required to withhold any amount under section 12-35 of Schedule 1 to the TAA where there is a forfeiture, and title to the units in the proposed Trust do not pass to the relevant employees?

Answer

No.

This private ruling applies for the following periods:

Year ending 30 June 2024

Year ending 30 June 2025

Year ending 30 June 2026

Year ending 30 June 2027

This scheme commenced on:

1 July 2023

Relevant facts and circumstances

Entity A is a global firm.

Entity B is the Australian-domiciled employer entity.

One of its teams is based in Australia.

Entity C is an Australian-domiciled entity that is indirectly wholly owned by Entity A.

Entity B is proposing to establish an Australian resident unit trust (Trust) as part of an employee retention scheme for certain members of its Australian-based staff. Entity C will be the Trustee of the proposed Trust. Under this arrangement:

•         Entity B will agree with each employee that where certain performance-based revenue has been generated, it will make available non-transferrable units in the proposed Trust.

•         The units in the proposed Trust will not be redeemable unless and until certain retention pre-conditions have been met (such as remaining as an employee for a period of approximately three to five years from the receipt of the units).

•         Where the performance-based criteria have been met each year, Entity B will contribute capital into the proposed Trust in return for units which will be held as corpus ready for the provision to relevant employees.

•         The employees that have met the performance-based criteria will then receive units in the proposed Trust for no monetary value. During this time, employees will retain beneficial ownership of these units and will be entitled to their share of the taxable income and distribution of cash associated with that income based on the number of units they hold.

•         Once the deferral period has ended (which is expected to be for a period of approximately three to five years), Entity B will then transfer the title of the units to the relevant employees which they will then be obliged to redeem for market value.

•         Where an employee leaves employment with Entity B within the deferral period (other than where they have been classified under their employment agreement as a 'Good Leaver' and/or where other specified vesting conditions have not been met), a forfeiture arises. In these circumstances, no amount will be paid to the employee other than the income to which they were presently entitled to during the deferral period as a result of having beneficial ownership of the units.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 23L

Income Tax Assessment Act 1997 section 6-5

Taxation Administration Act 1953 section 12-35 of Schedule 1

Fringe Benefits Tax Assessment Act 1986 subsection 136(1)

Reasons for decision

Question 1

Will the Trustee of the proposed Trust be required to withhold an amount from a cash payment made to employees on the redemption of units in the proposed Trust at the end of the deferral period pursuant to section 12-35 of Schedule 1 to the TAA on the basis that the redemption amounts constitute salary and wages derived by the employees at that time?

Summary

The Trustee of the proposed Trust will be required to withhold an amount from a payment made to the relevant employees on the redemption of units in the proposed Trust at the end of the deferral period pursuant to section 12-35 of Schedule 1 of the TAA, as the amounts received by the employees on the redemption of the units in the proposed Trust constitutes salary or wages or bonus income of the employees.

Detailed reasoning

Section 12-35 of Schedule 1 to the TAA states that an entity must withhold an amount from salary, wages, commission, bonuses or allowances it pays to an individual as an employee (whether of that or another entity).

Therefore, the individual does not have to be an employee of the entity making the payment.

Where the relevant payment is made by a trustee of a trust, the trustee of the trust is the entity who must withhold an amount from the payment.

The nature and character of a payment must be determined first to ascertain whether a withholding obligation arises under section 12-35 of Schedule 1 to the TAA (that is, whether the payment is in the nature of salary, wages or bonus income which are remuneration in nature, as opposed to a provision of fringe benefits).

The nature and character of a payment

The nature of a payment must be determined in the hands of the employee[1]. It is irrelevant whether it is paid in advance of the services to be performed, or after, or is paid by another entity.

Taxation Ruling TR 2010/6 Income tax, Pay As You Go Withholding and fringe benefits tax: tax consequences on the issue, holding and redemption of bonus units as part of an employee benefits trust arrangement (TR 2010/6) outlines the tax consequences where bonus units are issued as part of an employee benefits trust arrangement.

Paragraphs 9, 11 and 12 of TR 2010/6 state:

9: An employee will not derive an amount of salary or wages or bonus income if that employee acquires only a right to receive the salary or wages or bonus income. As a mere right to receive salary or wages or bonus income, the receipt of bonus units is not a derivation of that income for the purposes of section 6-5.

...

11: A right to receive salary or wages or bonus income is not a fringe benefit as defined in subsection 136(1) of the FBTAA. Paragraph (f) of the definition of "fringe benefit' in subsection 136(1) of the FBTAA excludes from fringe benefits tax 'a payment of salary or wages'. A step in a series of steps having the effect of delivering a payment of salary or wages or bonus income to an employee does not in itself constitute a separate benefit provided to the employee with separate taxation consequences. The purpose and the effect of the bonus unit aspect is to deliver salary or wages or bonus income to an employee.

12: When the employee redeems the bonus units and receives a payment from the trustee, the payment received by the employee is considered to be a derivation of salary or wages or bonus income, and therefore of ordinary income, for the purposes of section 6-5 or 'allowances and other things provided in respect of employment or services' for the purposes of section 15-2.

These principals are reinforced in paragraph 27 of Taxation Ruling 2018/7 Income tax: employee renumeration trusts (TR 2018/7) which provides:

27: A contribution is not a fringe benefit if it is a payment of salary or wages, or to the extent to which it is to be applied by the trustee to make payments of salary or wages, to employees on behalf of the employer within a relatively short period of the contribution being made. A step in a series of steps having the effect of delivering a payment of salary or wages to an employee does not in itself constitute a separate benefit provided to the employee with separate taxation consequences.

Paragraph 59 of TR 2018/7 outlines the following factors which evidence that benefits provided by a trustee are remuneration or remuneration in nature:

•         It is agreed between the parties that the benefit is consideration for services rendered by the employee and is a payment of salary, wage or bonus

•         The benefit arises from a contract, arrangement or plan established by the employer for employees, to enable or facilitate the delivery of remuneration to employees

•         The benefits provided by the trustee can also be provided by the employer, in lieu

•         The benefits are conditional on meeting individual or specific performance targets

•         The benefits depend upon continued employment with the employer and are forfeited when employment ends, or

•         The benefits are provided at the discretion of either the employer or the trustee who takes direction or recommendations from the employer.

Within the current circumstances, a consideration of each of these factors tends towards the conclusion that the benefits should be characterised as remuneration or remuneration in nature rather than fringe benefits.

We consider the issue of units in this case to be the first step in a series of steps having the effect of delivering a payment of salary or wages or bonus income to an employee. This would be the case even if the employees were not compulsorily required to redeem the units for cash.

Therefore, the amount received by an employee on redemption of the units should be classified as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 and must be included in the employee's assessable income in the income year it is received. The issue of the units is not considered to be a 'fringe benefit' under the definition in subsection 136(1) of the Fringe Benefits Tax Administration Act 1986, and therefore the amount received by the employee is not non-assessable non-exempt income under section 23L of the Income Tax Assessment Act 1936.

Pay As You Go Withholding Implications

Based on the outcome stated above that the provision of units results in the payment of salary or wages or bonus income to the employee, it will follow that there are Pay As You Go Withholding implications to consider.

At the end of the deferral period, where an employee's entitlement to their performance-related bonus (plus any capital growth) has been discharged by a payment of cash, an amount must be withheld under section 12-35 of Schedule 1 to the TAA.

Question 2

Will the Trustee of the proposed Trust be required to withhold any amount under section 12-35 of Schedule 1 to the TAA where there is a forfeiture, and title to the units in the proposed Trust does not pass to the relevant employees?

Summary

Where there is a forfeiture, and title to the units in the proposed Trust does not pass to the relevant employee, no amount will be required to be withheld on the basis that no payment has been made.

Detailed reasoning

In the case of forfeiture, title to the units in the proposed Trust do not pass to the relevant employee. Accordingly, there is no amount received by the employee on redemption that would constitute salary or wages or bonus income of the employee.

As previously noted, in TR 2010/6 in paragraphs 9 and 12:

9: An employee will not derive an amount of salary or wages or bonus income if that employee acquires only a right to receive the salary or wages or bonus income. As a mere right to receive salary or wages or bonus income, the receipt of bonus units is not a derivation of that income for the purposes of section 6-5.

...

12: When the employee redeems the bonus units and receives a payment from the trustee, the payment received by the employee is considered to be a derivation of salary or wages or bonus income, and therefore of ordinary income, for the purposes of section 6-5 or 'allowances and other things provided in respect of employment or services' for the purposes of section 15-2.

It follows that where an employee's entitlement to units in the proposed Trust has been forfeited during the deferral period, no payment will be made to that employee. As no payment will be made to that employee, no amount will be required to be withheld under section 12-35 of Schedule 1 to the TAA.

[1]Paragraph 58 of Taxation Ruling TR 2018/7 Income tax: employee renumeration trusts.