Private ruling: Employee share scheme - Deferred taxing point - Selling restrictions continue after rights vest
Date of advice: 24 October 2016
Published: February 2017
Ruling period: 20XX-YY income year
Date scheme commenced: 20XY

Ruling: Q1: Did the deferred taxing point occur during the 20XX-YY income year in relation to the Rights that vested during the 20XX-YY income year? | A1: No | Q2: Do you need to include any amount in your assessable income for the 20XX-YY income year in relation to the Rights that vested during the 20XX-YY income year? | A2: No.

Relevant facts and circumstances: You are employed by company A. You have received an employee share scheme (ESS) statement from company A for the 20XX-YY income year advising that the deferred taxing point has occurred for certain ESS interests during the 20XX-YY income year and of the assessable amount. The amount mentioned in the employee share scheme statement relates to Rights that were granted to you X years earlier under the company A Employee Relevant Plan and that vested during the 20XX-YY income year. The Guidance Notes for the company A Employee Relevant Plan outline the operation of this Plan including: ● Who is eligible to participate ● That the Right is a right to acquire ordinary shares in company A ● The Vesting Period attached to the Rights ● What happens on vesting of the Rights ● What happens if you leave company A ● That you cannot transfer your Rights ● That there no performance hurdles attached to the Rights ● That you can forfeit the Rights until they vest ● That there are no selling restrictions for most employees, but there are further restrictions on those employees with inside information The Guidance Notes also provide some commentary about the income tax consequences and explain that the company A Employee Relevant Plan is a deferral scheme. The Guidance Notes advise that company A will report on the basis that the deferred taxing point occurs when the options vest and shares are issued. However, they also acknowledge that a small number of employees may have continuing selling restrictions beyond this date due to holding restricted information. Company A has a detailed ABC Policy related to insider trading and requires certain employees to obtain specific authority before they can trade in company A shares. You are an employee who is subject to these authorisation requirements which means you are unable to sell these shares unless you successfully obtain authority to trade from your direct manager. You have been in possession of inside information due to the nature of your duties with company A for the whole of the period from the vesting date until mid 20XX. You sought and received confirmation from your manager that you held non-public information that would have prevented the manager from authorising any ABC dealings by you and consequently you were not authorised to deal in company A shares. Certain documents were provided with the application. They are to be read with and form part of the description of the scheme for the purpose of this ruling.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 83A.

Reasons for decision: Summary: The deferred taxing point did not occur during the 20XX-YY income year in relation to the Rights that vested during the 20XX-YY income year. | Detailed Reasoning - Detailed reasoning: The employee share scheme (ESS) provisions are contained in Division 83A of the Income Tax Assessment Act 1997 (ITAA 1997). In summary, the employee share scheme provisions recognise the dual nature of grants of shares or rights to acquire shares (collectively ESS interests) as both a component of an employee's remuneration package and also as an ongoing investment. To this end, the employee share scheme provisions provide a mechanism for recognising an appropriate value for remuneration purposes and an adjustment to the purchase price for investment purposes to reflect the amount treated as remuneration. The employee share scheme provisions achieve this outcome by determining: ● When a taxpayer needs to include any discount received in relation to ESS interests in their assessable income, and ● The amount of the discount. The attributes of the company A Employee Relevant Plan are such that Division 83A of the ITAA 1997 applies to you in the following manner: ● The Rights are ESS interests being rights to acquire beneficial interests in shares in a company ● The relationship between you, company A and the grants of Rights constitute an employee share scheme ● The Rights were granted at a discount to their market value (calculated as at the date of grant) ● The Rights meet the conditions to qualify for tax deferral ● The first potential deferred taxing point would occur for most employees when the Rights vested ● The amount of the discount is worked out and is assessable at the deferred taxing point The deferred taxing point for the Rights is determined in accordance with section 83A-120 of the ITAA 1997 (as applicable to ESS interests granted between 1 July 2009 and 30 June 2015) as the earliest of the following: ● The earliest time that there are no selling restrictions on the Rights ● Cessation of your employment ● X years from the grant date, or ● The earliest date that all of the following conditions are met: ● The forfeiture conditions on the Rights end ● Any exercise restrictions end (if there were some when they were granted) ● Any forfeiture conditions on the shares acquired by exercising the Rights end, and ● Any selling restrictions on the shares acquired by exercising the Rights end. At present, the first three possible deferred taxing points have not occurred. You are a continuing employee of company A, the Rights could not be sold and they were granted less than X years ago. Therefore we will be considering the fourth possible deferred taxing point. Subsection 83A-120(7) of the ITAA 1997 (as applicable to ESS interests granted between 1 July 2009 and 30 June 2015) states: The 4th possible taxing point is the earliest time when: (a) there is no real risk that, under the conditions of the scheme, you will forfeit or lose the ESS interest (other than by disposing of it, exercising the right or letting the right lapse); and (b) if, at the time you acquired the ESS interest, the scheme genuinely restricted you immediately exercising the right - the scheme no longer so restricts you; and (c) there is no real risk that, under the conditions of the scheme, if you exercise 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. The first three conditions within the fourth possible deferred taxing point were met when the Rights vested and the company A shares were issued. The forfeiture conditions on the Rights have ended, they have been exercised and there are no forfeiture conditions on the company A shares. Have you been genuinely restricted from selling the company A shares? The real question relates to the fourth condition in the fourth possible deferred taxing point. Restating this provision it would read: What is the earliest time when the scheme no longer genuinely restricts you from immediately disposing of your beneficial interest in the share (after the vesting date)? The test within this provision is 'genuinely restricts', which contrasts from the former Division 13A of Part III of the Income Tax Assessment Act 1936 where the equivalent test for rights to acquire shares at paragraph 139CB(1)(c) was 'any restriction'. The explanatory memorandum for the Tax Laws Amendment (2009 Budget Measures No. 2) Bill 2009 states the following in relation to genuine selling restrictions for shares and rights to acquire shares: 1.192 Genuine restrictions preventing disposal could include a condition of the scheme that contractually prevents disposal of shares. If disposing of an ESS interest would be a criminal offence, for example under a law regulating insider trading, then the employee would also be considered genuinely restricted from disposing of the share. 1.193 A company's internal share trading policy is only considered to be a restriction preventing disposal for the purposes of deferring the taxing point if the penalty for breaking the policy constitutes an effective sanction. This means that if there is no legal prohibition on the disposal of the ESS interest, there must be serious and enforced consequences for breaching the policy. 1.194 A restriction that otherwise meets the conditions for a genuine restriction, but is able to be lifted in cases of severe financial hardship, is nonetheless considered to be a genuine restriction. 1.195 Restrictions preventing disposal are considered to be lifted once an opportunity arises in which a taxpayer can realise the share. 1.196 In the case of a trading window, or restrictions that may lift and then re-engage, if the employee does not avail themself of the opportunity to dispose of the share and the window subsequently closes, there is no further delay in the taxing point. The taxing point would still be at the commencement of the first trading window. 1.197 The restriction and conditions covered by the deferred taxing points are only those that existed when the employee acquired the ESS interest. Conditions and restrictions that have been added subsequent to acquisition are ignored for the purposes for determining the deferred taxing point. … 1.200 The taxing point is the point at which the taxpayer can take some action to realise the benefit. It does not matter whether or not they chose to do so. Your situation You are a restricted employee and subject to strict limitations on your ability to deal in company A shares. You must submit a request to your direct manager and then to the ABC Panel and receive an acknowledgement from them before conducting any dealings in company A shares. This requirement would have been sufficient to continue the deferral period under the 'any selling restriction' test that applied under the former employee share scheme provisions. However, it is not sufficient without further analysis to constitute a 'genuine selling restriction' for the purpose of Division 83A of the ITAA 1997. Consequently, the 'genuine selling restriction' test could be re-stated in your case as: What is the earliest time (after the vesting date) that you could have submitted a request that could have been approved by your direct manager and the ABC Panel? For the purpose of this ruling, it is not required to determine when this 'earliest time' occurred; merely whether it occurred during the 20XX-YY income year. As a restricted employee, you are strictly prohibited from dealing in company A shares during the black-out periods and during periods that you held inside information. You held inside information for the whole of the period from the vesting date until mid 20XX. Consequently, you could not submit a request that would be approved by your direct manager or the ABC Panel and were prohibited from dealing with company A shares during the whole of this period. Therefore, you were subject to genuine selling restrictions for the whole of this period meaning that the deferred taxing point has not occurred during the 20XX-YY income year. Instead, the deferred taxing point will occur in a later income year. | Summary: You do not need to include any amount in your assessable income for the 20XX-YY income year in relation to the Rights that vested during the 20XX-YY income year. | Detailed Reasoning - Detailed reasoning: As stated above, the discount you received is worked out and is assessable at the deferred taxing point. For the reasons outlined above, the deferred taxing point in relation to the Rights that were granted to you about X years ago and that vested during the 20XX-YY income year has not occurred during the 20XX-YY income year. Consequently, the discount you received in relation to these Rights is not worked out and is not assessable during the 20XX-YY income year.