Edited version of private advice

Authorisation Number: 1052253333363

Date of advice: 24 May 2024

Ruling

Subject: Deductions - employment expenses

Question 1

Will Company X as head company of the Company X tax consolidated group (Company X Group) obtain an income tax deduction, under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997), in respect of the irretrievable cash contributions made by the Company X Group to the Trustee for the Trust to fund the subscription for or acquisition of on-market of ordinary shares in Company X by the Trust to satisfy the issue of Shares by the Trustee to Participants under the Plan Rules?

Answer

Yes.

Question 2

Will Company X Group Limited as head entity of the Company X tax consolidated group obtain an income tax deduction, pursuant to section 8-1 of the ITAA 1997, in respect of costs incurred by Company X or any subsidiary member of the Company X income tax consolidated group in relation to the on-going administration of the Trust?

Answer

Yes.

Question 3

Will Company X as head entity of the Company X tax consolidated group obtain an income tax deduction, pursuant to section 40-880 of the ITAA 1997, in respect of costs incurred by Company X or any subsidiary member of the Company X income tax consolidated group in relation to the establishment of the Trust?

Answer

Yes.

Question 4

Will irretrievable cash contributions made by the Company X to the Trustee, to fund the subscription for or acquisition of on-market of Shares by the Trust, be deductible to Company X at a time determined by section 83A-210 of the ITAA 1997 where the contributions are made before the acquisition of the relevant 'ESS interests' (as defined in subsection 83A-10(1) of the ITAA 1997)?

Answer

Yes.

Question 5

If the Trust satisfies its obligation under the Plan Rules by subscribing for new shares in Company X, will the subscription proceeds be included in the assessable income of Company X under section 6-5 or 20-20 of the ITAA 1997 or trigger a CGT event under Division 104 of the ITAA 1997?

Answer

No.

Question 6

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 X in respect of the irretrievable cash contributions made by the Company X Group to the Trustee to fund the subscription for or acquisition on-market of Shares by the Trust?

Answer

No.

Question 7

Will the provision of rights or shares by Company X to employees of Company X, or employees of other employer entities within the Company X Group under the Plan Rules be a fringe benefit within the meaning of subsection 136(1) of the FBTAA 1986?

Answer

No.

Question 8

Will the irretrievable cash contributions made by Company X, or other employer entities within the Company X Group to the Trustee, to fund the subscription for or acquisition on-market of Shares, be treated as a fringe benefit within the meaning of subsection 136(1) of the FBTAA 1986?

Answer

No.

Question 9

Will the Commissioner seek to make a determination that section 67 of the FBTAA 1986 applies to increase the fringe benefits taxable amount to Company X or any employer entity within the Company X Group by the amount of tax benefit gained from irretrievable cash contributions made by the Company X Group to the Trustee, to fund the subscription for or acquisition on-market of Shares?

Answer

No.

This ruling applies for the following periods:

For ruling questions 1 to 6 Income tax years ended 30 June 20XX to 30 June 20XX

For ruling questions 7 to 9, the ruling period is the fringe benefit tax years ended 31 March 20XX to 31 March 20XX.

The scheme commenced on:

In a particular income year

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below including the following documents, or relevant parts of them, which are to be read with the description:

1. Company X Invitation to Participate in the FY 20XX Plan 1 Offer (Plan 1 Grant Letter), and
2. Company X Invitation to Participate in the FY 20XX Plan 2 Offer (Plan 2 Grant Letter).

Overview

1.    Company X is an Australian public company.

2.       Company X is an Australian resident for income tax purposes and is the head entity of a consolidated group (Group).

3.       Company X's group has subsidiary members which are employee entities in respect to Company X's Australian based employees.

Plans

4.    As part of the overall remuneration strategy, in addition to fixed remuneration, Company X offers certain employee and executives, payments of shares upon the satisfaction of certain performance conditions. This is implemented through the following share plans (collectively the "Plans"):

1. Plan 1; and
2. Plan 2.

5.    The Plans also allow access to Participants who are or who become non-residents. Contributions to the Trust may be made to acquire Shares in relation to awards granted to non-resident Participants. The consideration of contributions made with respect to non-resident Participants (and any associated Australian tax implication for Company X) is outside the scope of this ruling.

6.    Company X and a number of wholly owned subsidiaries of the Company X TCG are employers of individuals that participate in the Plans (Employer Entities).

Plan 1

7.    Plan 1 was adopted by Company X's board of directors (Board) on a certain date. The terms and conditions of Plan 1 are set out in the Plan 1 Rules.

8.    The terms on which Participants are invited to participate in Plan 1 are set out in the Plan 1 Grant Letter.

9.    Broadly under Plan 1, the Board may issue an invitation to Employees to participate in a grant of, or grant to Employees a number of awards (for nil consideration), being the right to acquire a fully paid ordinary share in Company X (Share) and will only vest once the board determines that any relevant conditions have been satisfied.

Plan 2

10.  Plan 2 was approved by the Board on a particular date. The terms and conditions of Plan 2 are set out in the Plan 2 Rules. The Plan 2 Rules were approved by the Board on another date.

11.  The terms on which Participants are invited to participate in Plan 2 are set out in the Plan 2 Grant Letter.

12.  The key terms of the Plan 2 Rules are the same as the Plan 1 Rules although an award may also be an option or other instrument providing a right to acquire a share.

Company X Employee Share Trust

13.  Company X established the Trust on a specific date under the terms of a trust deed.

14.  The trustee of the Trust (Trustee) is an external trustee acting in an independent capacity on behalf of the beneficiaries of the Trust.

15.  The Trust will be managed and administered so that it satisfies the definition of "employee share trust" for the purposes of subsection 130-85(4) of the ITAA 1997.

Contributions to the Trust

16.  Company X does not and will not pay cash contributions to the Trust prior to the issue of Rights under the Plan to Participants.

17.  Company X where possible, will wait until the Rights vest before providing the Trust with cash necessary to acquire Shares to satisfy the acquisition or subscription of Shares related to those Rights. In relation to Restricted Shares Company X will wait until the grant of relevant Shares to make relevant contributions to the Trust.

18.  Where it makes commercial sense to do so, Company X may make cash contributions to the Trust prior to the Rights vesting, and where relevant, prior to Rights being exercised by the Participants or in the event that Restricted Shares are granted to Participants. In this case, Company X will contribute to the Trust enough funding to enable purchase of Shares in advance of when Rights are likely due to vest or are exercised by Participants or in the case of Restricted Shares, prior to the grant.

19.  Contributions to the Trust may be made by Company X on behalf of Australian tax residents and non-Australian tax residents. This ruling only relates to contributions made in relation to Australian tax residents or non-Australian tax residents who are working in Australia.

Associated costs

20.  Company X will incur various on-going costs associated with the services provided by the Trustee of the Trust in respect of the on-going administration and management of the Trust.

21.  Company X will incur on-going administration costs associated with the company's accounting and legal advisors in relation to the Plan.

22.  Company X will incur various costs in relation to the establishment of the Trust.

Relevant legislative provisions

Income Tax Assessment Act 1936 Part IVA

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 section 20-20

Income Tax Assessment Act 1997 subsection 25-5(1)

Income Tax Assessment Act 1997 section 40-880

Income Tax Assessment Act 1997 section 83A-10

Income Tax Assessment Act 1997 section 83A-210

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 subsection 130-85(4)

Fringe Benefits Tax Assessment Act 1986 section 67

Fringe Benefits Tax Assessment Act 1986 subsection 136(1)

Reasons for decision

Question 1

Summary

Yes, Company X will be entitled to a deduction under section 8-1 of the ITAA 1997 in respect of the irretrievable cash contributions made by Company X to the Trustee of the Trust to fund the subscription for, or acquisition on-market of Company X shares, as the contributions are part of an on-going series of payments in the nature of remuneration of Company X's employees.

Detailed reasoning

Subsection 8-1(1) of the ITAA 1997 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 X is an Australian incorporated company involved in a certain industry. Company X operates employee share schemes (ESS) as part of its remuneration strategy.

Under the Plans, Company X grants awards to employees and makes cash contributions to the Trust (in accordance with the Trust Deed) which the Trustee uses to acquire Shares (either on-market or by subscription) for allocation to Participants to satisfy their Awards or allocation of Shares.

Company X must provide the Trustee with all the funds required to enable the Trustee to subscribe for, or acquire, the Company X shares.

The cash contributions made by Company X to the Trust are irretrievable and non-refundable to Company X in accordance with the Trust Deed, as:

a.    All funds provided to the Trustee will constitute accretions to the corpus of the Trust and will not be repayable by the Trustee; and

b.    On termination of the Trust, the Trustee must not pay any of the Surplus Assets to any Group Company.

Therefore, if Company X makes a cash contribution to the Trust to acquire or subscribe for Company X shares to satisfy the grant of Awards pursuant to the Plans, the amount has been incurred for the purposes of subsection 8-1(1) of the ITAA 1997.

The costs incurred by Company X for the acquisition of shares to satisfy its obligations under the Plans in respect of the grant of Awards or Shares arise as part of Company X's remuneration arrangements, and contributions to the Trust are part of an on-going series of payments in the nature of remuneration of its employees. As such, it is incurred in the process of carrying on a business for gaining or producing Company X's assessable income.

The cash contributions will be an outgoing incurred for periodic (rather than once-off) funding of an ESS for employees of Company X. The cash contributions are made as part of an ongoing process of remunerating employees, with the Trust expected to acquire shares regularly. Nothing in the facts suggests any intention for any contribution to be retained in the Trust for an extended period of time.

While 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.

Company X will be entitled to a deduction under section 8-1 of the ITAA 1997 in respect of the irretrievable cash contributions made by Company X to the Trustee of the Trust to fund the subscription for, or acquisition on-market, of Company X shares.

Question 2

Summary

Yes, the on-going administration costs incurred by Company X associated with the services provided by the Trustee of the Trust are deductible to Company X under section 8-1 of the ITAA 1997 as they are costs necessarily incurred in operating the ESS while carrying on its business for the purpose of gaining or producing its assessable income.

Detailed reasoning

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income, except where the outgoings are of a capital, private or domestic nature, incurred in producing exempt or non-assessable non-exempt income or where a provision of the tax law prevents the deduction.

Company X carries on a business in a particular industry. Company X operates an ESS as part of its remuneration strategy.

Company X has and will incur various on-ongoing administration costs associated with the services provided by the Trustee of the Trust in respect of the on-going administration and management of the Trust.

Pursuant to the Trust Deed, the Trustee is not entitled to receive from the Trust any remuneration in respect of its performance of its obligations as trustee of the Trust. Instead, Company X is required to pay or reimburse to the Trustee any fees, commission or other remuneration incurred by the Trustee, as Company X and the Trustee agree from time to time.

These costs are regular and recurrent employment expenses which are deductible to Company X under section 8-1 of the ITAA 1997 as they are costs necessarily incurred in operating the ESS while carrying on its business for the purpose of gaining or producing its assessable income.

For completeness, these costs are not capital or of a capital nature as the loss or outgoings are regular and recurrent and are part of the ordinary employee remuneration costs of the company (see also ATO ID 2014/42 Employer costs for the purpose of administering its employee share scheme are deductible).

Question 3

Summary

Yes, the costs incurred by Company X in respect of the establishment of the Trust are deductible under section 40-880 of the ITAA 1997 as they are incurred by Company X in relation to its business.

Detailed reasoning

Establishment expenses and section 40-880

As explained in FC of T v Sharpcan Pty Ltd [2019] HCA 36 (Sharpcan), section 40-880 covers deductions that are allowed for business related expenses, its purpose being to target (at [46]):

"black hole" expenditure, namely business expenses incurred by taxpayers that fall outside the scope of deduction provisions of income tax law. Thus, as s 40-880(1) provides, a deduction under s 40-880 is "only allowed to the extent that the expenditure is not taken into account in some way elsewhere in the income tax law".

Section 40-880 (in part) provides that:

(1) The object of this section is to make certain *business capital expenditure deductible over 5 years, or immediately in the case of some start-up expenses for small businesses, if:

(a) the expenditure is not otherwise taken into account; and

(b) a deduction is not denied by some other provision; and

(c) the business is, was or is proposed to be carried on for a *taxable purpose.

...

Deduction

(2) You can deduct, in equal proportions over a period of 5 income years starting in the year in which you incur it, capital expenditure you incur:

(a) in relation to your *business; or

...

However, there are limits to the deductions that are allowed under section 40-880. This is discussed below.

Application of section 40-880 to the expenses incurred by Company X

In the present case, Company X has incurred a number of costs in relation to the establishment of the Trust for employees of the Employer Entities. In order for the expenses incurred by Company X to be deductible under subsection 40-880(2), they must not only be in relation to a business, but they must be in relation to the business being carried on by Company X.

When considering what is meant by 'in relation to' in paragraph 40-880(2)(a), paragraph 2.25 of the Explanatory Memorandum (EM) to Tax Laws Amendment (2006 Measures No. 1) Bill 2006 states:

The provision is concerned with expenditure that has the character of a business expense because it is relevantly related to the business. The concept used to establish this character or requisite relationship between the expenditure incurred by the taxpayer and the business carried on (current, past or prospective) is "in relation to". The connector "in relation to" allows the appropriate latitude to enable the deductibility of qualifying capital expenditure incurred before the business commences or after it has ceased.

Taxation Ruling TR 2011/6 Income tax: business related capital expenditure - section 40-880 of the Income Tax Assessment Act 1997 core issues provides guidance on the nature of the connection required between the expense and the business being carried on. Paragraphs 73 and 75 state:

73. The use of the expression 'in relation to' in subsection 40-880(2) rather than 'in carrying on' or the preposition 'on' to qualify the closeness of the required connection indicates that Parliament intended there to be greater latitude in the connection that needs to exist.

...

75. The words 'in relation to', whilst positing a test that is not as strict as 'in carrying on' however indicate that the expenditure in question is sufficiently relevant to the business to impress on it the character of a business expense of that business.

The phrase 'in relation to' was considered by the High Court in PMT Partners Pty Ltd (In Liquidation) v Australian National Parks & Wildlife Service [1995] HCA 36, whereBrennan CJ, Gaudron and McHugh JJ observed, in considering the application of the Commercial Arbitration Act 1985 (NT), at [26]:

Inevitably, the closeness of the relation required by the expression 'in or in relation to' in s 48 of the Act, indeed, in any instrument - must be ascertained by reference to the nature and purpose of the provision in question and the context in which it appears.

Toohey and Gummow JJ also observed:

The question of sufficiency of nexus is, of course, dependent on the statutory context. (at 330)...

The connection which is required by the phrase 'in relation to' is a question of degree. There must be some "association" which is "relevant" or "appropriate". The question of the relevance or appropriateness of the connection is a question which cannot be divorced from the particular statutory context. (at 331)

Expenditure that relates to remuneration of employees who work within that business, can be said to be incurred in relation to that business. As explained by the High Court in W Nevill & Co Ltd v Federal Commissioner of Taxation [1937] HCA 9 (W Nevill), all such expenses are:

part of the necessary expenses of conducting the business... connected with the ever recurring question of personnel.

Whilst voluntary and indirect remunerative expenses will usually be sufficiently connected to the business being carried on, there will be some instances where the connection is not established (see, Benstead Services Pty Ltd v FC of T [2006] AATA 976).However, this will usually only occur where the purpose (or benefit) of the expense can be attributed to someone or something other than a genuine employee.

In relation to the present case, it is not suggested that the establishment of the Trust in the context of the ESS arrangement and the costs related thereto can be attributed to something other than a need to remunerate genuine employees of the business. In the Explanatory Memorandum to the Tax Laws Amendment (2009 Budget Measures No. 2) Bill 2009 which introduced the Bill for Division 83A, the benefits of employee share schemes as a remuneration vehicle to businesses were observed:

1.25 However, the rules also specifically aim to improve the alignment of employee and employer interests. In recognition of the economic benefits derived from employee share scheme arrangements, the rules provide for tax concessions for employees participating in employee share schemes.

1.26 Tax support is provided on the grounds that aligning the interests of employees and employers encourages positive working relationships, boosts productivity through greater employee involvement in the business, reduces staff turnover and encourages good corporate governance.

Therefore, it is accepted that where an expense is incurred by an employing entity in relation to the establishment of an EST to which Division 83A applies, and the employees who are to be provided the ESS interest are the employees of that employing entity, such expenses have the requisite connection with the business being carried on. They are, as was described in W Nevill, an expense connected with the ever-recurring question of personnel.

Before being entitled to a deduction under section 40-880, it is necessary to consider whether any limits or exceptions may apply. The subsections that may be relevant to Company X are:

(5) You cannot deduct anything under this section for an amount of expenditure you incur to the extent that:

(a) it forms part of the *cost of a *depreciating asset that you *hold, used to hold or will hold; or

(b) you can deduct an amount for it under a provision of this Act other than this section; or

(c) it forms part of the cost of land; or

(d) it is in relation to a lease or other legal or equitable right; or

(e) it would, apart from this section, be taken into account in working out:

(i) a profit that is included in your assessable income (for example, under section 6-5 or 15-15); or

(ii) a loss that you can deduct (for example, under section 8-1 or 25-40); or

(f) it could, apart from this section, be taken into account in working out the amount of a *capital gain or *capital loss from a *CGT event; or

(g) a provision of this Act other than this section would expressly make the expenditure non-deductible if it were not of a capital nature; or

(h) a provision of this Act other than this section expressly prevents the expenditure being taken into account as described in paragraphs (a) to (f) for a reason other than the expenditure being of a capital nature; or

(i) it is expenditure of a private or domestic nature; or

(j) it is incurred in relation to gaining or producing *exempt income or *non-assessable non-exempt income.

(6) The exceptions in paragraphs (5)(d) and (f) do not apply to expenditure you incur to preserve (but not enhance) the value of goodwill if the expenditure you incur is in relation to a legal or equitable right and the value to you of the right is solely attributable to the effect that the right has on goodwill.

The only possible relevant paragraph that may have application is paragraph 40-880(5)(f), which provides that you cannot deduct an amount to the extent it could (apart from this section), be taken into account in working out a capital gain or loss from a CGT event. However, there is an exception to this paragraph, it being contained in subsection 40-880(6).

The expenses incurred establishing the Trust are not taken into account in working out the amount of a capital gain or loss in relation to the CGT assets of the Trust or the Company X TCG.

In addition, the Trustees of the Trust hold the ESS interests on behalf of the employees who have a beneficial interest in the ESS interests (being shares or rights). The expenses incurred in establishing the Trust would not be taken into account in working out any capital gain or capital loss to the employees in relation to the ESS interests.

As a consequence, paragraph 40-880(5)(f) does not apply and there is no need to consider the application of subsection 40-880(6).

It is accepted that the Trust was established for the benefit of its employees. The costs incurred in the establishment of the Trust are deductible to Company X under section 40-880 as they are in relation to its business and none of the exceptions or limitations in section 40-880 apply.

Question 4

Summary

Yes, pursuant to section 83A-210 of the ITAA 1997, where irretrievable cash contributions are made at a time before the Participants acquire the relevant ESS interest, the irretrievable cash contribution can only be deducted from the assessable income of Company X in the income year when the ESS interest is acquired by the Participant under the Plan.

Detailed reasoning

It is often the case that an outgoing will be both incurred and paid in the same year of income, and as such, the amount is deductible in that income year for the purposes of section 8-1 of the ITAA 1997.[1]

However, section 83A-210 of the ITAA 1997 modifies this rule in certain circumstances in respect of contributions provided by an employer to a trust to purchase shares under an ESS.

The effect of section 83A-210 is to deem the timing an employer incurred the outgoing to be the time when the ESS interest is acquired by a beneficiary under an arrangement, rather than the time when the employer makes the contribution to the trust, if the contribution was made before the ESS interests are acquired. 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.

An ESS interest in a company is defined in subsection 83A-10(1) as either a beneficial interest in a share in the company, or a beneficial interest in a right to acquire a beneficial interest in a share in the company. Shares that are purchased by the Trustee to satisfy its obligation under the Company X ESS, and subsequently granted to Company X Participants pursuant to the Plans, are ESS interests for the purposes of section 83A-210.

The Company X ESS satisfies the definition of an 'employee share scheme' in subsection 83A-10(2) as it is a scheme under which ESS interests in Company X are provided to the Participants of Company X in relation to their employment with Company X.

The granting of the ESS interest to the Participants, the provision of the cash contributions to the Trustee, the acquisition and holding of shares by the Trustee and the allocation of shares to Participants are all interrelated components of the Company X ESS. All the components constitute an arrangement for the purposes of section 83A-210 that must be carried out so that the scheme can operate as intended.

Company X will make irretrievable cash contributions to the Trust and intends to only hold sufficient shares in the Trust to settle obligations arising from Awards currently on issue under the Plans.

An Award provided under the Plans is an indeterminate right because that Award entitles the employee to acquire either a Share or cash, to be determined at a future time at the discretion of Company X. Although the indeterminate right is not an ESS interest within the meaning of subsection 83A-10(1) at the time it is granted, where it is ultimately satisfied with Shares instead of cash (or when the number of Shares the employee is entitled to receive is determined), the indeterminate right will, pursuant to section 83A-340, be treated as if it had always been an ESS interest.

Section 83A-210 applies equally to contributions made in respect of ESS interests and indeterminate rights. Therefore, an irretrievable cash contribution in respect of an indeterminate right is taken to have been paid at the acquisition time of the ESS interest. If an indeterminate right becomes an ESS interest, deductible contributions made in respect of those rights can be claimed in the income year when the ESS interest is deemed to have been acquired under section 83A-340 (this will be the year in which the indeterminate right was granted to the employee). Once this has been established, such contributions can be matched to ESS interests issued to the employee and where necessary the relevant earlier income year assessments can be amended to allow the deduction (Item 28 of subsection 170(10AA) of the ITAA 1936).

It is important to note that an indeterminate right which is satisfied by the provision of cash never becomes an ESS interest and the deduction in relation to the contribution to the Trust in respect of the provision of that right is permanently deferred. However, where that ESS interest is subsequently issued to another participating employee, this employee becomes the 'ultimate beneficiary' and the deduction is available in the income year that this participating employee acquired this ESS interest.

Therefore, where irretrievable cash contributions are made at a time before the Participants acquire the relevant ESS interest, the irretrievable cash contribution can only be deducted from the assessable income of Company X in the income year when the ESS interest is acquired by the Participant under the Plans, as provided by section 83A-210 of the ITAA 1997.

Question 5

Summary

No, if the Trust satisfies its obligation under the Plan by subscribing for new shares in Company X, the subscription proceeds will not be included in the assessable income of Company X under section 6-5 of the ITAA 1997 (because it is capital in nature); section 20-20 of the ITAA 1997 (because it is not an assessable recoupment); or trigger a CGT event under Division 104 of the ITAA 1997 (because it is excluded by paragraphs 104-35(5)(c) and 104-155(5)(c) of the ITAA 1997).

Detailed reasoning

Section 6-5

Section 6-5 provides that a taxpayer's assessable income includes income according to ordinary concepts. The expression "income according to ordinary concepts" is not a defined term. However, case law has identified certain factors which may assist in determining whether a receipt is properly characterised as income according to ordinary concepts.

As a general rule, amounts received as a result of carrying on a business should represent ordinary income. However, receipts of a capital nature do not constitute income according to ordinary concepts, whether or not incurred in carrying on a business.

In GP International Pipecoaters v. Federal Commissioner of Taxation (1990) 170 CLR 124; (1990) 64 ALJR 392; (1990) 93 ALR 193; (1990) 21 ATR 1; 90 ATC 4413; [1990] HCA 25 (Pipecoaters), the High Court of Australia found that:

To determine whether a receipt is of an income or of a capital character, various factors may be relevant. Sometimes, the character of receipt will be revealed most clearly by their periodicity, regularity or recurrence; sometimes, by the character of a right or thing disposed of in exchange for the receipt; sometimes, by the scope of the transaction, venture or business in or by reason of which money is received and by the recipient's purpose in engaging in the transaction, venture or business.

The character of the subscription proceeds received by Company X from the Trust can be determined by the character of the right or thing disposed of in exchange for the receipt. Where Company X issues the Trust with new shares in itself, the character of the newly issued share is one of capital. Therefore, the receipt of the subscription proceeds takes the character of share capital, and accordingly, is of a capital nature.

In conclusion, the subscription proceeds should not be treated as ordinary income assessable in the hands of Company X under section 6-5 of the ITAA 1997.

Section 20-20

Subsection 20-20 relevantly provides for the assessment of recoupment received by way of insurance or indemnity or under a provision listed in section 20-30.

By its very nature, the subscription proceeds received by Company X from the Trust will not represent an amount received by way of insurance or indemnity. There is no insurance contract involved; and the receipt does not arise because of a statutory right or contract of indemnity nor in the nature of compensation. Therefore, the receipt of the subscription proceeds does not constitute an assessable recoupment under subsection 20-20(2) of the ITAA 1997.

As for subsection 20-20(3), an amount that Company X receives as recoupment of a loss or outgoing, except by way of insurance or indemnity, is an assessable recoupment if such loss or outgoing is deductible in the current or a prior income year because of a provision listed in the table in section 20-30.

None of the provisions listed in section 20-30 are relevant to the current circumstances. Therefore, the subscription amount also does not constitute an assessable recoupment under subsection 20-20(3) of the ITAA 1997.

Division 104

A capital receipt will only be included as an assessable net capital gain only if it arises as a result of a CGT event (section 102-20 of the ITAA 1997).

The only CGT events that may have possible application to the receipt of the subscription proceeds are CGT event D1 (Creating a contractual or other rights) and/or CGT event H2 (Receipt for event relating to a CGT asset).

Paragraphs 104-35(5)(c) and 104-155(5)(c) of the ITAA 1997 respectively provide that CGT event D1 and CGT event H2 do not apply if a company issues or allots equity interests or non-equity shares in the company.

As the ordinary shares of Company X constitute "equity interests" (see subsection 974-75(1) of the ITAA 1997), neither CGT event D1 nor CGT event H2 will occur.

Accordingly, the subscription proceeds will not be assessable as a capital gain to Company X.

Question 6

Summary

No, Part IVA of the ITAA 1936 will not apply to deny, in part or in full, any deduction claimed by Company X in respect of the irretrievable cash contributions made by Company X to the Trustee to fund the subscription for or acquisition from other shareholders of Company X 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 of the ITAA 1997 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 employee share trust arrangement.

Therefore, having regard to the eight factors set out in subsection 177D(2) 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 X to obtain a tax benefit.

Question 7

Summary

No, the provision of rights to acquire ordinary shares or shares by Company X to employees under the Plans will not be a fringe benefit within the meaning of subsection 136(1) of the FBTAA 1986 as they are excluded by paragraph 136(1)(h) of the FBTAA 1986 as ESS interests acquired under an 'employee share scheme'.

Detailed reasoning

An employer's liability to fringe benefits tax (FBT) arises under section 66 of the FBTAA 1986, 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 1986 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 definition.

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;

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, or associates of employees (including past or prospective employees) in relation to the employee's employment.

An ESS interest in a company is defined in subsection 83A-10(1) as either a beneficial interest in a share in the company, or a beneficial interest in a right to acquire a beneficial interest in a share in the company. Shares that are purchased by the Trustee to satisfy its obligation under the Plans, and subsequently granted to Company X Participants pursuant to the Plans, are ESS interests for the purposes of section 83A-10(1).

Therefore, Company X's ESS constitutes an 'employee share scheme' within the meaning of subsection 83A-10(2) because it is a scheme under which ESS interests in Company X are provided to the employees of Company X in relation to their employment with Company X.

As the rights to acquire ordinary shares or shares granted under the Plans will be acquired by the employees at a discount, they are ESS interests to which subdivision 83A-B of the ITAA 1997 applies.

Accordingly, the provision of rights to acquire ordinary shares or shares by Company X to Participants under the Plans 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 136(1)(h) of the FBTAA 1986.

In addition, when a right to acquire ordinary shares 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 to acquire shares and not in respect of employment (refer ATO ID 2010/219 Fringe Benefits Tax Fringe benefit: shares provided to employees upon exercise of rights granted under an employee share scheme).

Question 8

Summary

No, the irretrievable cash contributions made by Company X to the Trustee pursuant to the Trust Deed, to fund the subscription for or acquisition on-market of Company X shares will not be treated as a fringe benefit within the meaning of subsection 136(1) of the FBTAA 1986 by virtue of the exclusion in paragraph 136(1)(ha) of the FBTAA 1986 on the basis that the Trust Deed satisfies the definition of an employee share trust in subsection 130-85(4) of the ITAA 1997.

Detailed reasoning

Paragraph (ha) of subsection 136(1) of the FBTAA 1986 excludes from the definition of 'fringe benefit':

(ha) a benefit constituted by the acquisition of money or property by an employee share trust (within the meaning of the Income Tax Assessment Act 1997);

Therefore, for the irretrievable cash contributions to be excluded from the definition of 'fringe benefit', the Trust must be an 'employee share trust' as defined in subsection 130-85(4) of the ITAA 1997.

Subsection 130-85(4) provides that an employee share trust, for an employee share scheme, is a trust whose sole activities are:

(a) obtaining shares or rights in a company; and

(b) ensuring that ESS interests in the company that are beneficial interests in those shares or rights are provided under the employee share scheme to employees, or to associates of employees, of:

(i) the company; or

(ii) a subsidiary of the company; and

(c) other activities that are merely incidental to the activities mentioned in paragraphs (a) and (b).

In the present case, paragraphs 130-85(4)(a) and (b) are satisfied because:

a)    The Trust acquires shares in a company, namely Company X; and

b)    The Trust ensures that ESS interests as defined in subsection 83A-10(1) are provided under an employee share scheme by allocating those shares to the Participants of Company X in accordance with the Trust Deed and the Plans.

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 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'? (TD 2019/13).

According to paragraph 13 of TD 2019/13, 'investing in assets other than shares or rights to shares in the employer company' is not an activity that is 'merely incidental' as it is not a natural incident or consequence of administering an ESS.[2] Neither is the provision of 'additional benefits to participants and/or employees, over and above the delivery of the ESS interests or resulting shares and any dividend equivalent payment that accrues directly from the employee's ESS interest'.

Accordingly, the Trust Deed contains only powers and/or duties that are merely incidental, as required by subsection 130-85(4)(c) of the ITAA 1997.

The Trust Deed, therefore, satisfies the definition of an employee share trust in subsection 130-85(4) of the ITAA 1997 and, in turn, paragraph 136(1)(ha) of the FBTAA 1986 applies to exclude the irretrievable cash contributions made by Company X to the Trustee under the Trust Deed from being a fringe benefit.

Question 9

Summary

No, the Commissioner will not seek to make a determination that section 67 of the FBTAA 1986 applies to increase the aggregate fringe benefits amount to the Company X Employer Entities.

Detailed reasoning

PS LA 2005/24 Application of General Anti-Avoidance Rules (PSLA 2005/24) provides guidance on the application of Part IVA of the ITAA 1936 and other general anti-avoidance rules. In respect of section 67 of the FBTAA 1986, guidance is provided at paragraphs 185 to 188 of PSLA 2005/24.

As discussed above, the irretrievable cash contributions made by Company X to the Trustee (pursuant to both the Trust Deed) will not be a fringe benefit within the meaning of subsection 136(1) of the FBTAA 1986. Therefore, the fringe benefits liability is not any less than it would have been but for the existence of the arrangement.

In conclusion, the Commissioner will not seek to make a determination that section 67 of the FBTAA 1986 applies to increase the aggregate fringe benefits amount by the amount of the tax benefit gained from the irretrievable cash contributions made by Company X to the Trustee to fund the subscription for, or acquisition from other shareholders of, shares in Company X.

[1] Paragraph 15 of TR 97/7.

[2] See also paragraph 11 of TD 2019/13.