Private ruling: Employee share trust
Date of advice: 17 May 2016
Published: July 2016
Ruling period: For the income years ending: | 30 June 2016 | 30 June 2017 | 30 June 2018

Ruling: Q1: Are the irretrievable cash contributions made by the Company or a subsidiary member of the Company's income tax consolidated group (the Group) to the Trustee as of the Employee Share Trust (the EST) be assessable income of the EST under Division 6 Part 1-3 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No | Q2: Will a capital gain or capital loss arise under section 104-75 of the ITAA 1997 for the Trustee of the EST at the time when the employees become absolutely entitled to the Shares of the Company acquired by the Trustee of the EST? | A2: No

Relevant facts and circumstances: Background The Company is an Australian company listed on the Australian Securities Exchange the head company of an income tax consolidated group (the Group). The Company considers its employees important to its success as a business. The remuneration policy of The Company is designed to be competitive and equitable with the aim of aligning the economic interests of key company executives with those of the shareholders by providing an opportunity for key executive employees to potentially earn significant rewards by participating in the Short Term Incentive Scheme (STI) and the Executive Performance Rights Plan (EPR), together referred to as the Employee Equity Plans. The Company has established the Employee Share Trust (EST) to obtain Shares for the benefit of participants in the Employee Equity Plans operated by the Company. The EST is operated by an unrelated corporate trustee (the Trustee). Short Term Incentive Scheme (STI) The Short Term Incentive Scheme 20ZZ Rules (20ZZ Rules) provide the rules for remunerating eligible employees for the service period from 1 July 20VV to 30 June 20ZZ. Where the Company offers a STI in future years, the STI will operate in accordance with the terms and conditions provided in the 20ZZ Rules. 20ZZ Rules The objective of the STI is to drive a high performance culture and retain key talent with a tangible incentive scheme as part of a total rewards package. Participation in the scheme is by invitation only. The STI can consist of a cash component and a deferred rights component. Where an employee is eligible to participate in the Company's deferred STI arrangements, the Board determines the portion of the reward to be deferred and the employee will be provided with deferred STI documentation at that time. Under 20ZZ Rules the reward amount comprised of two components - a cash component and a deferred rights component. The cash component comprises X% of the overall reward amount whereas the deferred rights component represents the remaining Y% of the reward amount. The cash component was paid to employees after the ASX release of the Company's annual financial results in August 20ZZ. The deferred rights component was delivered in the form of rights to acquire ordinary shares in the Company. The number of rights issued equated to Y% of the overall reward amount divided by the Company volume weighted average share price for the five business days up to October 20ZZ (following the performance period ending June 20ZZ). The rights vested on June 20AA. The rights would have lapsed if the employee resigned or was summarily dismissed before this date, unless the Board determines otherwise. Once the deferred rights vested, the Company either allocated a Share for each right that vested, or instructed the Trustee of the EST to subscribe for, acquire or allocate one share in the Company for each right which vested. Any Shares issued/allocated on vesting may be held via the EST. In the event that the Shares are held on trust in the EST on behalf of the employees, the employees are the beneficial owner of the Shares, with full voting and dividend rights. The Shares the employee received following the vesting are subject to trading restrictions. No amount was payable by the employee to the Company or the Trustee on the vesting of the rights. Executive Performance Rights Plan (EPR) The purpose of the EPR is to encourage key executives to focus on long term Company performance and the achievement of sustainable growth. It provides key executives with the opportunity to receive equity-based reward and thereby aligns their interests with shareholders' interests and encourages them to take a shareholder's perspective. The EPR is administered by the Board of the Company in accordance with the Executive Performance Rights Plan Rules which commenced in November 20VV (the Plan Rules). There are currently three programs operating as part of the EPR. It is at the Board's absolute discretion to issue an invitation to certain employees (Eligible Executives) to apply for the grant of specified number of Performance Rights on the terms set out in the Plan and on such additional terms and Performance Conditions as the Board determines (Clause 2.1). Unless the Board otherwise determines, no amount is payable in relation to the grant or vesting of a Performance Right (Clause 2.1). The Eligible Executive may apply for up to the number of Performance Rights specified in their invitation (clause 3.2). A Performance Right may be: a) a right to acquire a Share or a right to subscribe for a Share, or b) a right for the Trustee to subscribe for, acquire and/or allocate a Share and to hold the Share on behalf of the relevant Participant (Clause 4.1). Each Performance Right granted under the Plan will vest on the date specified in the invitation and is conditional on the satisfaction of the Performance Conditions attaching to the Performance Right or as determined by the Board (Clause 5.1). A Participant is a person who has been granted a Performance Right under the Plan (Clause 1.1). Clause 5.2 provides the circumstances when an unvested Performance Right will lapse. Where a Participant ceases to be an employee of the Company or one of its subsidiaries, the Board in its discretion may determine some or all Performance Rights held will lapse, vest (immediately or subject to conditions), or will no longer be subject to some conditions or restrictions previously applied (Clause 5.3). Unvested Performance rights may be cancelled if a Participant and the Board have agreed to the cancelation in writing (Clause 5.7). Upon the vesting of Performance Rights, the Participant becomes entitled to be issued, transferred or allocated the relevant Shares as soon as practicable after the date of vesting (Clause 5.8(b)). Once the Performance Rights vest, the Board must determine to either: a) issue or transfer the Share in respect of each Performance Right to the Participant, or b) instruct the Trustee of the EST to subscribe for, acquire and/or allocate one Share in respect of each Performance Right of the Participant, such Shares are to be held by the Trustee in the Trust on trust for the Participant subject to the terms of the Trust Deed (Clause 5.8(c)). Performance Rights do not carry voting or dividend rights, however Shares allocated upon vesting of Performance Rights will rank equally in all respects with Shares of the same class (Clause 5.8(d)). The Board may determine that a restriction period will apply to the Shares following the vesting of the Performance Rights (Restricted Shares) up to a maximum of 7 years from the Grant Date (Clause 6.1). Any Shares held in the Trust for the benefit of the Participant will remain in the Trust until the Participant submits a Withdrawal Notice to the Company which is approved by the Board and the Shares have ceased to be Restricted Shares (Clause 8). A Participant is entitled upon vesting of a Performance Right, to receive in addition to the Share, the number of Securities issued by way of a 'bonus issue' which the Participant would have received if the Performance Right had vested before the record date for the bonus issue (Clause10.1). The Employee Share Trust The EST is operated by the Trustee in accordance with the Trust Deed. The EST has been established for the sole purpose of obtaining shares for the benefit of Participants, including subscribing for or acquiring, allocating, holding and delivering Shares in the Company under the EPR, and any other employee equity plans for the benefit of Participants (Recitals B). The Trust Deed defines Participant as 'a former, current or future employee or director of the Group who is participating, or who may participate in the future, under the terms of a Plan or Plans and who receives Shares to be held by the Trustee under the terms of this Deed' (Clause 1.1). The Group is defined as 'the Company and any Related Body Corporate of the Company, but not including the Trustee (Clause 1.1). The Shares acquired or subscribed for by the EST are held by the Trustee on trust for the Participant on the terms of the Trust Deed and subject to the Plan Rules and Terms of Participation (Clause 3.1). The Company does not have any charge, lien or any other proprietary right or interest in the Shares acquired by the Trustee (Clause 3.4). At no time will any member of the Group or the Trustee be entitled to obtain any beneficial interest in the Trust Assets, other than the Trustee's right of indemnity (Clause 3.5). Subject to the Trust Deed, the Trustee has the full power to do all things a trustee is permitted to do by law in respect of the Trust, the Trust Shares and the Trust Assets, including the activities listed in Clause 4.1. Without limiting the generality of clause 4.1, the Company and the Trustee agree that the Trust will be managed and administered so that it satisfies the definition of "employee share trust" for the purposes of section 130-85(4) ( Clause 4.2). If the Trustee holds Shares otherwise than for a specified Participant, the Trustee may, on instructions from the Board, sell the Shares to a third party or accept the offer to buy back the Shares by the Company (Clause 4.3). Clause 4.5 of the Trust Deed deals with remuneration of the Trustee and provides: The Trustee is not entitled to receive from the Trust any fees, commission or remuneration in respect of its performance of its obligations as trustee of the Trust. The Company may pay to the Trustee from the Company's own resources any fees, commission or remuneration and reimburse any expenses incurred by the Trustee as the Company and the Trustee may agree from time to time. The Trustee is entitled to retain for its own benefit any such remuneration or reimbursement. If the Trustee receives a notice from the company (as specified in clause 6.1), subject to the Trustee receiving sufficient payment or having must sufficient capital as required by that notice, the Trustee must within seven days after the receipt of that notice, a) purchase the requisite number of Shares on behalf of the Participants either on market or off market b) subscribe for Shares of the Company on behalf of the Participants c) allocate Shares that are trust assets (not being held on behalf of any other Participant) to be held on behalf of the Participants, or d) effect a combination of the above acts (Clause 6.2). The subscription price of the Shares must be the market value of the Shares as determined by the Board on the date the shares are issued to the Trustee unless the Board determines otherwise (Clause 6.3). Clause 6.4 of the Trust Deed deals with the funding of the EST: (a) The Company must provide the Trustee, or cause the provision to the Trustee of, any funds required by the Trustee in order to comply with its obligations under clause 6.2 (after application by the Trustee of any capital as provided by clause 6.1(d)(ii). (b) Subject to clause 6.4(c), all funds received by the Trustee from the Company will constitute Accretions to the corpus of the Trust and will not be repaid to the Company and no Participant shall be entitled to receive such funds. (c) Funds received by the Trustee from the Company may be paid to the Company where the Trustee subscribes for Shares in accordance with this Deed, the relevant Plan Rules or relevant Terms of Participation. (d) Where an amount paid by the Company to the Trustee in respect of the acquisition of Shares for the benefit of a Participant is in excess of the amount required by the Trustee to subscribe for, acquire, allocate, or deliver those Shares, the Board may require the Trustee to: (i) apply such amount to subscribe for, acquire, and/or allocate and deliver Shares in accordance with this Deed, the relevant Plan Rules or the relevant Terms of Participation; or (ii) deposit the funds into any account opened and operated by the Trustee in accordance with clause 4.1(k) to be used for the purposes set out in clause 6.4(d)(i) above. The Trustee may not exercise any voting rights, participate in rights issues or hold any bonus shares in relation to unallocated trust shares. The Trustee may, however, apply any capital receipts, dividends or other distributions received in relation to the unallocated shares to purchase further shares to be held on trust (Clause 8.1). The structure of the EST and the rules of the Employee Equity Plans, are such that shares allocated to each Participant will generally be transferred into the name of the relevant Participant (or their nominee) on receipt of a Withdrawal Notice, subject to any Restrictive Period (Clause 11.2). The Trustee will also, after any relevant restrictions lift, be permitted to sell shares on behalf of a Participant where permitted by the relevant Plan rules (Clause 12.1). If the EST is terminated, the Trustee must not pay any balance remaining after the distribution of trust assets to any member of the Group (clause 17.3).

Relevant legislative provisions: Income Tax Assessment Act 1936 Section 95 | Income Tax Assessment Act 1997 Section 6-5 | Income Tax Assessment Act 1997 Section 6-10 | Income Tax Assessment Act 1997 Section 10-5 | Income Tax Assessment Act 1997 Division 83A | Income Tax Assessment Act 1997 Section 104-75 | Income Tax Assessment Act 1997 Section 130-90 | Income Tax Assessment Act 1997 Section 130-85

Reasons for decision: Summary: Subsection 95(1) of the ITAA 1936 defines net income of a trust as the total assessable income of the trust calculated as if the trustee were a resident taxpayer in respect of that income, less all allowable deductions. Assessable income consists of ordinary income and statutory income. Subsection 6-5(1) provides that your assessable income includes income according to ordinary concepts, which is also called ordinary income. Section 6-10 provides that assessable income also includes some amounts that are included in assessable income by provisions about assessable income called statutory income (the relevant provisions are summarised in section 10-5). None of the provisions listed in section 10-5 are relevant in the present circumstances. Therefore, irretrievable cash contributions made to the Trustee will not be assessable income under section 6-10. Accordingly, the irretrievable cash contributions will only be included in the calculation of the net income of the EST under section 95 of the ITAA 1936 if the amounts are assessable as income according to ordinary concepts under section 6-5. The leading case on ordinary income is Eisner v Macomber 252 US 189 (1919). It was said in that case that: The fundamental relation of "capital" to "income" has been much discussed by economists, the former being likened to the tree or the land, the latter to the fruit or the crop; the former depicted as a reservoir supplied from springs, the latter as the outlet stream, to be measured by its flow during a period of time. …Here we have the essential matter: not a gain accruing to capital, not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable value proceeding from the property, severed from the capital however invested or employed, and coming in, being "derived" that is, received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal; …that is income derived from property. Nothing else answers the description. In G.P. International Pipecoaters Proprietary Limited v The Commissioner of Taxation of the Commonwealth of Australia (1990) 170 CLR 124 the High Court of Australia held that whether a receipt is income or capital depends on its objective character in the hands of the recipient. Brennan, Dawson, Toohey, Gaudron and McHugh JJ stated at page 138 that: To determine whether a receipt is of an income or of a capital nature, various factors may be relevant. Sometimes, the character of receipts 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. Receipts of a capital nature do not constitute income according to ordinary concepts, whether or not incurred in carrying on a business. The EST was established under the Trust Deed by the Company for the sole purpose of obtaining Shares for the benefit of the Participants, including subscribing for or acquiring, allocating, holding and delivering Shares under the Employee Equity Plans. Clause 6.2 of the Trust Deed provides that If the Trustee receives a notice from the Board then subject to the Trustee receiving sufficient payment or having sufficient capital, the Trustee must within seven days purchase the requisite number of Shares on or off market, subscribe for Shares or allocate Shares that are trust assets, or effect a combination of these alternatives. The Company must provide the Trustee any funds required by the Trustee in order to comply with its obligations under the Deed. Clause 6.4(b) of the Deed provides that, subject to clause 6.4(c), all funds received by the Trustee from the Company will constitute accretions to the corpus of the Trust and will not be repaid to the Company and no Participant will be entitled to receive such funds. Clause 6.4(c) allows funds received by the Trustee to be paid to the Company where the Trustee subscribes for Shares in accordance with the Trust Deed, the relevant Plan Rules or relevant Terms of Participation. Accordingly, the irretrievable contributions made by the Company or a subsidiary member of the Group to the Trustee to acquire the Company Shares in accordance with the Trust Deed and Employee Equity Plans will constitute capital receipts of the Trustee and will not be assessable income of the EST under section 6-5. Note: clause 4.5 of the Trust Deed provides that whilst the Trustee is not entitled to receive any fees, commissions or remuneration in respect of its performance of its obligations as trustee of the EST, the Company may pay to the Trustee any fees, commission or remuneration and reimburse such expenses incurred by the Trustee as the Company and the Trustee agree from time to time. Such receipts will be assessable income of the EST in contrast to the irretrievable contributions made to facilitate the acquisition of the Shares of the Company. Section 104-75 provides that CGT event E5 happens at the time a beneficiary becomes absolutely entitled to a CGT asset of a trust as against the trustee. Subsection 104-75(3) provides that the trustee will make a capital gain if the market value of the asset (at the time of the event) is more than its cost base, but will make a capital loss if that market value is less than the asset's reduced cost base. Accordingly, where a Participant becomes absolutely entitled to the Company Shares as against the Trustee, CGT event E5 will occur, and pursuant to subsection 104-75(3), the Trustee will make a capital gain or loss. However, section 130-90 operates to disregard that gain or loss where specified conditions are satisfied, as follows: | Detailed Reasoning - 130-90(1): Disregard any *capital gain or *capital loss made by an *employee share trust, or a beneficiary of the trust, to the extent that it results from a *CGT event, if: (a) the CGT event is CGT event E5 or E7; and (b) the CGT event happens in relation to a *share; and (c) the beneficiary had acquired a beneficial interest in the share by exercising a right; and (d) the beneficiary's beneficial interest in the right was an *ESS interest to which Subdivision 83A-B or 83A-C (about employee share schemes) applied. | Detailed Reasoning - 130-90(2): Subsection (1) does not apply if the beneficiary acquired the beneficial interest in the *share for more than its *cost base in the hands of the *employee share trust at the time the *CGT event happens. Employee share trust The term 'employee share trust' referred to in subsection 130-90(1) is defined in subsection 995-1 as having the meaning given by subsection 130-85(4). Subsection 130-85(4) provides that an employee share trust for an employee share scheme (as defined in subsection 83A-10(2)) 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). An employee share scheme is a scheme under which ESS interests in a company (or subsidiaries of the company) are provided to employees of a company, or their associates, in relation to their employment (subsection 83A-10(2)). 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. Subsection 995-1(1) defines the term 'scheme' to include any arrangement, or any scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise. The Employee Equity Plans are employee share schemes for the purposes of Division 83A as each is an arrangement under which an ESS interest (a right to acquire a beneficial interest in a share), is provided to a Participant in relation to their employment in the Group, in accordance with Trust Deed. The Company has established the EST under the Deed and the EST's sole purpose is to obtain and allocate Shares to satisfy the ESS interests (Performance Rights and deferred rights) of Participants acquired under the Employee Equity Plans. Therefore, paragraphs 130-85(4)(a) and (b) are satisfied. There are some incidental activities undertaken by the Trustee to manage and administer the EST as provided in clause 4.1 of the Trust Deed. Accordingly, paragraph 130-85(4)(c) is also satisfied. Therefore, the EST is an employee share trust, as defined in subsection 995-1(1), as the sole activities of the EST meet the requirements of paragraphs 130-85(4)(a) and 130-85(4)(b) and its other activities are merely incidental to those activities in accordance with paragraph 130-85(4)(c). Paragraph 130-90(1)(a) CGT event E5 is the CGT event that will apply under the terms of the Employee Equity Plans at the time the Participant becomes absolutely entitled to the Shares. Under the terms of the Trust Deed, the Trustee is required to deal with the Shares in accordance with the relevant Plan Rules. The Employee Equity Plan rules have a number of conditions that may restrict the Participant's access to the Shares. These restrictions may affect a Participant's absolute entitlement to the Shares as against the Trustee. When the Participants are no longer restricted by any of the conditions under the Plan Rules, then the Participants will become absolutely entitled to the Shares and CGT event E5 happens, and paragraph 130-90(1)(a) will be satisfied. Paragraph 130-90(1)(b) Subsection 995-1(1) defines a share in a company to mean a share in the capital of a company. An ordinary share in the Company held by the Trustee and to which a Participant is entitled upon the exercise of a Performance Right or a deferred right is a share in the capital of a company. Accordingly, paragraph 130-90(1)(b) is satisfied as CGT event E5 happens in relation to a share for the purposes of that paragraph. Paragraph 130-90(1)(c) Paragraph130-90(1)(c) is satisfied as a Participant will have acquired a beneficial interest in a share (in the Company) by exercising a Performance Right or a deferred right granted under the Employee Equity Plans. Paragraph 130-90(1)(d) Subsection 83A-20(1) of Subdivision 83A-B states: This Subdivision applies to an *ESS interest if you acquire the interest under an *employee share scheme at a discount. As established above, the Employee Equity Plans are employee share schemes for the purposes of Division 83A as each is an arrangement under which an ESS interest (a beneficial interest in a right to acquire a beneficial interest in a Company Share), is provided to an employee in relation to their employment by the Group. Under the Plans no consideration is payable by the employee on the grant or vesting of the rights. Accordingly, prima facie Subdivision 83A-B will apply to Performance Rights and deferred rights acquired under the Employee Equity Plans as pursuant to subsection 83A-20(1) the ESS interest will be acquired under an employee share scheme at a discount. However, Subdivision 83A-B will not apply if Subdivision 83A-C applies. Whether a Participant is ultimately taxed upfront on some or all of any discount received (under Subdivision 83A-B) or is able to defer the timing of the inclusion of an amount in their assessable income (under Subdivision 83A-C), will depend on which of the additional requirements in subdivision 83A-B or subdivision 83A-C have been satisfied. Under either circumstance paragraph 130-90(1)(d) will be satisfied. Accordingly, all the conditions in subsection 130-90(1) have been satisfied. Provided subsection 130-90(2) does not apply, that is the Participant does not acquire the beneficial interest in the Company Share for more than its cost base in the hands of the EST at the time that CGT event E5 happens, subsection 130-90(1) will apply. Under these circumstances, section 130-90 operates to disregard any capital gain or loss made by the Trustee of the EST arising at the time when a Participant becomes absolutely entitled to the Shares of the Company acquired by the Trustee of the EST.

ATO view documents: ATO ID 2002/965 Income Tax -Trustee not assessable on employer contributions made to it under the employer's employee share scheme | ATO ID 2010/108 Income Tax - Employee share trust that acquires shares to satisfy rights provided under an employee share scheme and engages in other incidental activities , | GP International Pipecoaters Pty Ltd v Federal Commissioner of Taxation (1990) 170 CLR 124