Edited version of private advice

Authorisation Number: 5010084139802

Date of advice: 1 November 2022

Ruling

Subject: Employee share scheme

Question 1

Is Company A entitled to deduct an amount under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997), for the irretrievable cash contributions made by Company A to the Trustee of the Trust to fund the acquisition of ordinary shares in Company A (Shares), either on market or via a new subscription of shares, to satisfy employee share scheme (ESS) interests issued to Employees, pursuant to the Plan?

Answer

Yes

Question 2

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

Answer

Yes

Question 3

Will Company A be entitled to deduct an amount under section 8-1 of the ITAA 1997, in respect of costs incurred by Company A for the on-going administration of the Trust?

Answer

Yes

Question 4

Will Company A be entitled to deduct an amount under section 40-880 of the ITAA 1997, in respect of costs incurred by Company A in the establishment or amendment of the Plan or the Trust?

Answer

Yes

Question 5

Will the Commissioner seek to make a determination under subsection 177F(1) of the Income Tax Assessment Act 1936 (ITAA 1936), as a result of section 177D of the ITAA 1936, to deny, in part or in full, any deduction claimed by Company A in respect of the:

a) irretrievable cash contributions made by Company A to the Trustee to fund the subscription for, or on-market acquisition of, Shares by the Trustee to satisfy ESS interests issued to Employees pursuant to the Plan, or

b) costs incurred by Company A in relation to the ongoing administration of the Trust?

Answer

No

Question 6

Will the provision of Performance Rights and Shares to Employees under the Plan constitute a 'fringe benefit' within the meaning of that term in subsection 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA)?

Answer

No

Question 7

Will the irretrievable cash contributions made by Company A, to the Trustee, in order to:

a) subscribe for and/or acquire on-market Shares pursuant to the Plan, and/or

b) fund the ongoing administration of the Trust

constitute a 'fringe benefit' within the meaning of that term in subsection 136(1) of the FBTAA?

Answer

No

Question 8

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

Answer

No

Relevant facts and circumstances

Company A is a public company listed on the Australian Securities Exchange and is the head company of a tax consolidated group (TCG).

The Plan was adopted by Company A's Board.

To assist with the effectiveness, structure and administration of the Plan, the Trust was established. The Trust is not part of the TCG.

Performance Rights Plan Rules

The Plan allows Company A to reward their employees for their performance and align their interests with the interests of the Shareholders. The Plan allows Company A to grant Performance rights to Participants.

Eligibility and invitation for Performance Rights

In accordance with the Plan Rules, the Board, acting in its absolute discretion, may invite Employees to participate in the Plan by applying for Performance Rights. This invitation will be made on such terms and conditions as the Board decides and may include the following:

•                     the number of Performance Rights for which that Employee may apply

•                     the grant date and grant conditions

•                     the performance hurdles and performance periods, and

•                     the exercise price (if any) applicable to the relevant Employee's Performance Rights.

Notwithstanding the discretionary powers of the Board, they are precluded from inviting an Employee to apply for Performance Rights if the aggregate of:

•                     the number of Shares that would be issued or transferred to the Employee on the exercise of those Performance Rights, and

•                     the number of Shares held by the employee,

is greater than or equal to five percent of the total number of issued Shares.

Application and grant of Performance Rights

On receipt of an invitation, an Employee may accept the offer by giving Company A an application by the final acceptance date. By accepting the offer the Employee agrees to be bound by the Plan Rules and the Constitution of Company A.

Following receipt of a completed and signed application form, Company A will grant the Employee the relevant number of Performance Rights, subject to the terms and conditions set out in the invitation and the Plan Rules.

Lapse of Performance Rights

Performance Rights Lapse where it is not exercised within the applicable Exercise Period, or where it is transferred or purported to have been transferred without the Board's prior written consent.

Upon Lapse of a Performance Right under the Plan Rules, the Participant will have no further rights or entitlements in relation to that Performance Right.

Exercise of Performance Rights

A Performance Right (which has not lapsed under the Plan Rules) becomes a Qualifying Performance Right if:

•                     the performance hurdles set out in the invitation have been met within the Performance Period, or

•                     an Event, being:

o        a person together with his or her associates acquires more than 50% of the issued Shares in Company A, or

o        pursuant to applications under section 411 of the Corporations Act, the court orders a meeting to be held in relation to a proposed compromised or arrangement for the purpose of or in connection with reconstruction of the company or its amalgamation with another, or

o        Company A passes a resolution for voluntary winding up, or

o        an order is made for the compulsory winding up of Company A, or

•                     the Performance Rights otherwise become a Qualifying Performance Right under the Plan Rules.

Qualifying Performance Rights may be exercised by:

•                     lodging a notice of exercise, and

•                     payment of the applicable exercise price (if any).

Following the exercise of Qualifying Performance Rights, Company A must procure the transfer or issue (at its election) of Shares in accordance with the Plan.

Shares transferred or issued on the exercise of Qualifying Performance Rights rank equally with all other Shares from the date of allocation. A Participant will be entitled to receive any dividends that have a Record Date for determining entitlements on and from the date of allocation.

Restriction on disposal and risk of forfeiture of Shares

The Shares may be subject to further restrictions before they can be disposed of by the Participant. The invitation sets out the performance hurdles and Performance Periods that apply.

Company A may make such arrangements as it considers necessary to enforce the restriction on disposal of Shares.

A Share issued to a Participant on the exercise of a Performance Rights is issued to the Participant on the terms that it will be forfeited while the Shares are subject to the restriction on disposal upon the Participant:

•                     perpetrating fraud as against Company A or the Company A Group

•                     acting dishonestly to Company A or the Company A Group

•                     committing a breach of the Participant's obligations to Company A or the Company A Group

•                     becoming an employee of, or providing services to, an entity considered to be a competitor of Company A or the Company A Group, or

•                     engaging in any activity considered by the Board to be detrimental to Company A or the Company A Group.

The Employee Share Trust

Company A established the Trust for the purpose of holding shares for the benefit of Participants who are, or will become, the beneficial owners of Shares pursuant to a Company Plan.

Operation of the Trust

The Trust must be operated in accordance with the Trust Deed and the Plan Rules.

Company A must pay all Trust Expenses; however, the Plan Trustee may pay Trust Expenses from Cash Dividends received in relation to Unallocated Shares and interest earned on funds held in the Trust.

Plan Trustee

The Trustee has the power to administer, maintain and preserve the Trust in the performance of its obligations under the Trust Deed. These powers including entering into and executing all contracts, deeds and documents and doing all acts or things necessary for the purpose of giving effect to and carrying out the trusts, powers and discretions conferred on the Trustee by the Trust Deed.

The Trustee is prevented from charging and is not entitled to receive from the Trust any fees, commission or other renumeration in respect of its office, but Company A may pay to the Trustee, from Company A's own resources, such fees as Company A and the Trustee agree from time to time.

No Encumbrance may be granted over any assets of the Trust by any persons, including the Plan Trustee or any company in the Group.

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

How the Trust works

Company A may provide funds to the Trustee to fund the acquisition of Shares for the purposes of a Company Plan. The Trustee must not accept any contribution of money or money's worth from Participants.

The Trustee must, if directed by the Board, acquire:

•                     Shares in the ordinary course of trading on the market conducted

•                     Shares, at market value, by way of an off-market transaction, and/or

•                     New Shared issued by Company A,

for the purpose of enabling Company A to satisfy its obligations to allocate Shares under the terms of the Plan.

Company A must provide the Trustee with any funds required in order to comply with its obligations to acquire Shares for the purpose of the Plan.

Unless and until Shares are allocated to a Participant, the Trustee will hold those Shares on trust for benefit of Participants generally from time to time in accordance with the Trust Deed. Until the Shares are allocated, the Trustee may apply any capital receipts, dividends or other distributions received in respect of the Unallocated Share to purchase further Shares to be held on trust for the purposes of the Trust.

On receipt of a direction by the Board to do so, the Trustee must allocate to any Participant nominated by the Board, the number of Plan Shares specified by the Board, on the date specified by the Board.

Plan Shares acquired in accordance with the Trust Deed and allocated to a Participant must, subject to the relevant Plan Rules, be held by the Trustee on the terms and conditions of the Trust Deed and on behalf of the relevant Participant, who is the beneficial owner of the Plan Shares.

Nothing in the Trust Deed confers, or is intended to confer, on Company A any Encumbrance, proprietary right or proprietary interest in the Shares acquired by the Trustee.

A Participant may forfeit any right or interest in their Allocated Plan Shares in accordance with the Plan Rules. Forfeited Shares (or the proceeds of sale of such Forfeited Shares) may be reallocated to other Participants for the benefit of the Plan. The Trustee must not pay the proceeds of sale of any Forfeited Shares or transfer the Forfeited Shares to a company the Company A Group.

Dividends

Where the Trustee holds Allocated Plan Shares on a Participants behalf, the Participant is entitled to receive all Cash Dividends paid in respect of their Allocated Plan Shares, and the Trustee must pay those Cash Dividends to the Participant.

Rights issues

Participants are entitled to Share Rights which accrue to their Allocated Plan Shares held by the Trustee on their behalf. Where the Trustee acquires Shares pursuant to a Share Rights, the Trustee must transfer those Shares to the Participant (after costs). Where the Trustee sells the Share Rights, the Trustee must pay to Participant the proceeds of sale (after costs).

Company A, or any company in the Company A Group, may not acquire any interest in the capital, or be entitled to any income, of the Trust.

Reasons for decision

All legislative references are to provisions of the ITAA 1936 and the ITAA 1997, unless otherwise indicated.

Question 1

Detailed reasoning

Subsection 8-1(1) will allow 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 capital nature.

Company A carries on a business to generate assessable income. Company A operates an employee share scheme (ESS) as part of its renumeration strategy.

Under the Plan, Company A grants Performance Rights to employees and makes irretrievable cash contributions to the Trust (in accordance with the Plan Rules and the Trust Deed) which the Trustee will use to acquire Shares for allocation to Participants.

Incurred in carrying on a business

Company A must provide the Trustee with funds required to enable the Trustee to subscribe for or acquire on-market those Shares.

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

•                     all funds received by the Trustee from Company A will constitute Accretions to the corpus of the Trust and will not be repaid to Company A, unless funds received by the Trustee from Company A are paid to Company A where the Trustee subscribes for Shares in accordance with the Trust Deed and the Plan Rules

•                     Company A may not acquire any interest in the capital (or corpus) or be entitled to any income of the Trust.

Company A has granted (and will in the future grant) Performance Rights under the Plan as part of its remuneration and reward program for Employees. The costs incurred by Company A for the acquisition of Shares to satisfy the Performance Rights arise as part of these remuneration arrangement, 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

The costs will be an outgoing incurred for periodic funding of an ESS for employees of Company A. Costs incurred are likely to be in relation to more than one grant of Performance Rights, and Company A intends to continue satisfying outstanding Performance Rights using Shares acquired by the Trust. This indicates that the irretrievable contributions to the Trustee are ongoing in nature and are part of the broader renumeration expenditure of Company A.

While the irretrievable cash 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 contended workforce, that enduring benefit is considered to be sufficiently small. Therefore, the payments are not capital, or of a capital nature, and paragraph 8-1(2)(a) is not satisfied.

Accordingly, Company A will be entitled to deduct an amount under section 8-1 for its irretrievable cash contributions to the Trustee to acquire Shares to satisfy ESS interests issued pursuant to the Plan.

Question 2

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 purchase Shares in excess of the number required to grant the relevant ESS interests to the employees arising in the year of income from the grant of rights to Shares, under the ESS. Further information is available in ATO Interpretive 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 ESS for the purpose of subsection 83A-10(2) as it is a scheme under which ESS interests (that is 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 A.

Company A's ESS contain a number of interrelated components which includes the provision of irretrievable cash contributions by Company A to the Trustee. These irretrievable cash contributions enable the Trustee to acquire Shares for the purpose of enabling each Participant, indirectly as part of the Plan Rules, to acquire ESS interests.

The deduction for the irretrievable cash contributions can only be deducted from the assessable income of Company A in the income year when 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 3

Detailed reasoning

In addition to the reasoning provided in question 1, Company A incurs on-going administration costs for operating the Trust and has appointed the Trustee to administer the Trust. Company A must pay all Trust Expenses which include brokerage fees, audit fees, tax return fees, bank charges and other on-going administrative expenses.

These costs are regular and recurrent which are deductible under section 8-1 as they are costs necessarily incurred by Company A in running the ESS while carrying on its business for the purpose of gaining or producing its assessable income. These costs are not capital or of a capital nature as the loss or outgoings are regular, recurrent and part of the ordinary employee remuneration costs of Company A (ATO Interpretative Decision ATO ID 2014/42 Employer costs for the purpose of administering its employee share scheme are deductible).

Question 4

Detailed reasoning

Establishment expenses are outgoings associated with the creation of an ESS and include fees and start-up costs incurred in establishing the employee share trust (EST) and ESS plan rules. Amendment expenses include legal fees paid amending the EST and the ESS plan rules.

Section 40-880 allows deductions for certain business capital expenditure that fall outside the scope of the deduction provisions of the income tax law. It requires the expenditure to be capital and in relation to the business. As this expenditure relates to remuneration of employees of the employer company who work within that business, the expenditure must be incurred in relation to that business.

Section 40-880 contains limitations and exceptions in subsections 40-880(3) to (9) which may prevent a deduction being allowed. Subsection 40-880(3) indicates that the expenditure is only deductible to the extent that the business is carried on for a taxable purpose. The other limitations and exceptions in subsections 40-880(4) to (9) do not prevent the expenses from being deductible under section 40-880.

Therefore, establishment and amendment expenses of the Plan or the Trust are deductible in equal proportions over five years under section 40-880 to the extent that the business carried on is for a taxable purpose (Taxation Determination TD 2022/8 Income tax: deductibility of expenses incurred in establishing and administering an employee share scheme).

Question 5

Detailed reasoning

Part IVA is a general anti-avoidance provision, which gives the Commissioner the power to cancel '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 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 commercial drivers sufficiently explain the entry into and use of the employee share trust arrangement.

Therefore, having regard to the eight factors set out in subsection 177D(2), the scheme is not being entered into or carried out for the dominant purpose of enabling Company A to obtain a tax benefit.

Question 6

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 the 'fringe benefit' definition in subsection 136(1) of the FBTAA excludes a benefit constituted by the acquisition of an ESS interest under an ESS (within the meaning of the ITAA 1997) to which Subdivision 83A-B or 83A-C applies.

The Commissioner accepts that the Plan is an ESS, the Performance Rights and Shares provided under the Plan are ESS interests to which subdivisions 83A-B or 83A-C of the ITAA 1997 applies.

Accordingly, the provision of ESS interests under the Plan will not be subject of FBT on the basis that they are acquired under an ESS (to which 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 Performance 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 Performance 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 7

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 EST within the meaning of 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 EST, a trustee's activities must be limited to:

•                     obtaining share or rights in a company (paragraph 130-85(4)(a))

•                     ensuring that ESS interests in the company that are beneficial interests in those shares or rights are provided under the ESS to employees, or to associates of employees, of the company or a subsidiary of the company (paragraph 130-85(4)(b))

•                     other activities that are merely incidental to the activities mentioned in paragraphs 130-85(4)(a) and (b) (paragraph 130-85(c)).

As stated above in the response to Question 6, the Commissioner accepts that the Plan is an ESS and a Share Right granted under the Plan is an ESS interest under paragraph 83A-10(1)(b), as well as an ESS interest to which Subdivision 83A-B or 83A-C applies.

Accordingly, paragraphs 130-85(4)(a) and (b) are satisfied because:

•                     the Trust acquires shares in a company, namely Company A

•                     the Trust ensures that ESS interests (as defined in subsection 83A-10(1)) are provided under an ESS (as defined in subsection 83A-10(2)) by allocating those shares to the employees in accordance with the Trust Deed and 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 define '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 view 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 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 EST under section 130-85(4), including paragraph 130(4)(c), as the other activities undertaken by the Trustee are merely incidental to managing the Plan.

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

Question 8

Detailed reasoning

Section 67 is a general anti-avoidance provision in the FBTAA. Subsection 67(1) is satisfied where a person, or one of the persons who entered or carried out an arrangement or part of an arrangement under which a benefit is or was provided to a person, did so for the sole or dominant purpose of enabling an eligible employer, or the eligible employer and another employer, to obtain a tax benefit.

The Commissioner will only make a determination under section 67 of the FBTAA if the arrangement resulted in the payment of less fringe benefits tax than would be payable but for entering into the arrangement.

As stated above in response to Question 6 and 7, without the provision of a fringe benefit, no amount will be subject to FBT. The benefits provided to the Trustee by way of irretrievable cash contributions to the Trust under the Plan are excluded from the definition of a fringe benefit for the reasons provided in response to Question 7. As these benefits have been excluded from the definition of a fringe benefit, the FBT liability is not any less than it would have been but for the arrangement.

The Commissioner will not seek to make a determination that section 67 of the FBTAA applies to increase the aggregate fringe benefits amount of Company A by the amount of tax benefit gained from the irretrievable cash contributions made by Company A to the Trustee to fund the subscription for, or on-market acquisition of Shares.