Private ruling: X Employee share scheme deferred taxing point
Date of advice: 10 May 2018
Published: July 2018
Ruling period: The period commencing immediately before the Employment Agreement is terminated and ending the day after the New Contract is entered into
Date scheme commenced: 201X

Ruling: Q1: Does a reporting obligation arise under Division 392 of the Taxation Administration Act 1953 for X in respect of the relevant options acquired by T if T ceases to be employed directly by X and is immediately indirectly engaged in accordance with the proposal detailed in the ruling request? | A1: No reporting obligation would arise directly as a result of the proposed changes.

Relevant facts and circumstances: Employee Incentive Plan X Ltd (X) has currently in place an employee incentive plan known as the X Performance Rights and Options Plan (the Plan) with its employees. The Plan was approved by X shareholders in 201X. Broadly, the Plan rules permit Directors, employees and any other person determined by the Board in its sole and absolute discretion to be granted Options. The options granted to the employees under this Plan (the Options) qualified for tax-deferral at the time of grant under Subdivision 83A-C of the Income Tax Assessment Act 1997 (ITAA 1997). T is currently employed by X as its chief executive officer (CEO) under an Employment Agreement on a permanent and full-time basis and is also a Director of X. T’s term as CEO is expected to come to an end in the near future. T was granted Options in 2015, 2016 and 2017 (T Options). Section 83A-120, which determines the ESS taxing point for rights to acquire shares, currently applies to the T Options. No taxing point has yet occurred in relation to the T Options under Division 83A of the ITAA 1997. The business and industry of X X operates in the Australian and global industry for a particular type of product. The industry is highly brand-focused and the importance of the particular producer of the product behind the brands is being promoted progressively by retailers. Consequently, from a business perspective, it has become imperative that the particular producer of the product become involved in the promotion and marketing of the business’ products. There is also a commercial need to maintain and grow existing relationships with distributors and retail partners to support the next phase of growth for the X business in an increasingly competitive market. The Proposed Change In the above context, the business has been considering transitioning T as the CEO to a new role to support the brand at industry events under a new contract (New Contract). If T is chosen for the new rule, this would be effected by entering into the New Contract and terminating the employment Agreement (the Proposed Change). Under the Proposed Change: ● T would transition from CEO on a date in the near future under the Employment Agreement to the new role on the day after under the New Contract; ● T would also resign as a Director of X; ● By way of a tripartite agreement, X would engage S (a consultant company), which will in turn procure that T is available to X to provide services to X as brand ambassador (i.e. T would be an independent contractor to X through S); ● X will be assigned all existing and future intellectual property rights (as defined in the New Contract); and ● T agrees to give a non-compete covenant to X.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 83A-10 | Income Tax Assessment Act 1997 section 83A-120 | Income Tax Assessment Act 1997 section 83A-325 | Income Tax Assessment Act 1997 section 83A-330

Reasons for decision: Detailed Reasoning - Reporting requirements for X: Under Division 392 of the TAA 1953, a company that provides Employee Share Scheme (ESS) interests to an individual under an employee share scheme during a year must provide certain information to the Commissioner and the individual at the end of that year. Where the ESS interest is subject to “deferred” taxation under Subdivision 83A-C of the Income Tax Assessment Act 1997 (ITAA 1997), the employer must also provide information in the year during which the deferred taxing point occurs, which may be the year of acquisition or a later year. In determining whether a reporting obligation would arise under Division 392 of the TAA 1953 for X, we must establish whether the Proposed Change results in a deferred taxing point in relation to the T Options under section 83A-120(5) on the basis that the “employment in respect of which you acquired the interest ends ” (emphasis added) (which must then be reported by X). | Detailed Reasoning - Application of Division 83A: Division 83A of the ITAA 1997 applies to “employee share schemes”. An employee share scheme (ESS) is defined as a scheme under which ESS interests in a company are provided to employees, or associates of employees, of the company, or subsidiaries of the company, in relation to the employees’ employment (subsection 83A-10(2)). Under the New Contract, T would provide brand support services to X through S i.e. as an independent contractor. Therefore, a preliminary issue to settle is whether Division 83A applies to contractors. In this regard, section 83A-325 provides that Division 83A applies to an individual covered by column 1 of an item in the table below as if: (a) he or she were employed by the entity referred to in column 2 of that item; and (b) the thing referred to column 3 of that item constituted that employment. | Detailed Reasoning - and this constituted that employment:: 1 receives, or is entitled to receive, *work and income support withholding payments (otherwise than as an employee) the entity that pays or provides the work and income support withholding payments (or is liable to do so) the relationship because of which the entity pays or provides the work and income support withholding payments to the individual (or is liable to do so). 2 is engaged in service in a foreign country as the holder of an office the entity by whom the individual is so engaged the holding of the office. 3 provides services to an entity (other than services covered by a previous item in this table and services provided as an employee) the entity the *arrangement between the individual and the entity under which those services are provided. Item 3 is drafted broadly and would cover independent contractor arrangements such as the New Contract under which T would provide services to X through S as an independent contractor to support the brand. Accordingly, Division 83A applies to the New Contract as if T was employed by X, and the New Contract constitutes the employment (Item 3 of section 83A-325). Therefore, for the purposes of Division 83A, T would be considered an employee and X would be considered the employer, regardless of whether the Employment Agreement or the New Contract governs the terms of the engagement. | Detailed Reasoning - Application of Subdivision 83A-C: As noted in the facts, section 83A-120 currently applies to the T Options. Subsection 83A-120(2) provides that the ESS deferred taxing point for the ESS interest is the earliest of the times mentioned in subsections (4) to (7), which are: | Detailed Reasoning - 83A-120(4): The first possible taxing point is the earliest time when: (a) you have not exercised the right; and (b) there is no real risk that, under the conditions of the *employee share scheme, you will forfeit or lose the *ESS interest (other than by disposing of it, exercising the right or letting the right lapse); and (c) if, at the time you acquired the ESS interest, the scheme genuinely restricted you immediately disposing of the ESS interest - the scheme no longer so restricts you. | Detailed Reasoning - 83A-120(5): The 2nd possible taxing point is the time when the employment in respect of which you acquired the interest ends. | Detailed Reasoning - 83A-120(6): The 3rd possible taxing point is the end of the 15 year period starting when you acquired the interest. | Detailed Reasoning - 83A-120(7): The 4th possible taxing point is the earliest time when: (a) you exercise the right; and (b) [Repealed] (c) there is no real risk that, under the conditions of the scheme, after exercising the right, you will forfeit or lose the beneficial interest in the share (other than by disposing of it); and (d) if, at the time you acquired the ESS interest, the scheme genuinely restricted you immediately disposing of the beneficial interest in the share if you exercised the right - the scheme no longer so restricts you. As noted in the facts, the T Options have not yet vested. That is, currently none of the times mentioned in subsections 83A-120(4) to (7) have occurred. | Detailed Reasoning - Whether the Proposed Change causes a taxing point under subsection 83A-120(5): The issue to be considered is whether the Proposed Change would result in a taxing point under subsection 83A-120(5). In particular, this turns on whether the Proposed Change would result in the employment in respect of which T acquired the interest to have ended for the purposes of subsection 83A-120(5). We consider that T’s employment in respect of which he acquired the interest does not “end” upon the Proposed Change occurring due to: 1. The operation of subsection 83A-120(5); and 2. The interpretation of section 83A-330; 1. The operation of subsection 83A-120(5) Subsection 83A-120(5) states that “The 2 nd possible taxing point is the time when the employment in respect of which you acquired the interest ends”. Subsection 83A-120(5) is taken to apply when the employee is no longer with or has left the employer as distinct from when the employee remains with that employer. In the present case, following the Proposed Change, T will remain with X, pursuant to the terms of the New Contract. Accordingly, we consider the Proposed Change would not be a situation to which section 83A-120(5) applies. 2. The interpretation of section 83A-330 In determining whether the employment in which T acquired the interest has ended under subsection 83A-120(5), that subsection is informed by section 83A-330. Section 83A-330 states (emphasis added): | Detailed Reasoning - Section 83A-330: For the purposes of this Division, you are treated as ceasing employment when you are no longer employed by any of the following: (a) your employer in that employment; (b) a holding company (within the meaning of the Corporations Act 2001 ) of your employer; (c) a *subsidiary of your employer; (d) a *subsidiary of a holding company (within the meaning of the Corporations Act 2001 ) of your employer. An important requirement in there being a cessation of employment under section 83A-330 is that the employee is no longer employed by the employer. In this regard: ● This supports our position in respect of the interpretation of subsection 83A-120(5). That is, that the Proposed Change would not result in subsection 83A-120(5) applying as T will continue to provide services to X following the Proposed Change. ● Similarly, because T will remain “employed” (for tax purposes under Division 83A) by X (albeit as an independent contractor) under the New Contract, it cannot be said that he will no longer be employed by X. ● As discussed earlier, the fact that T will be engaged as an independent contractor, rather than as an employee, under the New Contract has no bearing on the application of Division 83A. In addition, the phrase “ that employment” in section 83A-330 is not to be read as a requirement that an employee must remain on the same terms of employment if he/she is to ensure a taxing point will not arise under subsection 83A-120(5). Rather, section 83A-330 is to be read as a single requirement that the employee remain employed with the same employer or employer group. This interpretation of section 83A-330 informs the operation of subsection 83A-120(5), such that a cessation of employment, and consequently a taxing point, would not arise where the employee remains employed with the employer. Accordingly, the operation of section 83A-330 confirms the proper operation of subsection 83A-120(5) to the present circumstances, that is, that the Proposed Change would not result in a cessation of employment. | Detailed Reasoning - Conclusion: Accordingly, we consider that a taxing point would not arise in respect of the T Options under subsection 83A-120(5) if and when the Proposed Change occurs. No reporting obligation would then arise directly under Division 392 of the Taxation Administration Act 1953 (TAA 1953) for X in respect of the relevant options acquired by T if T ceases to be employed directly by X and is immediately indirectly engaged in accordance with the proposal detailed in the ruling request.