Private ruling: ESS interest and employee share trust
Date of advice: 24 August 2018
Published: October 2018
Ruling period: 1 July 2018 to 30 June 2019 | 1 July 2019 to 30 June 2020 | 1 July 2020 to 30 June 2021 | 1 July 2021 to 30 June 2022 | 1 July 2022 to 30 June 2023

Ruling: Q1: Will the irretrievable contributions made pursuant to the Plans to the Trustee of the employee share trust (EST) to fund the acquisition of Company A shares by the EST in accordance with the deed of trust, be assessable income of the EST? | A1: No. | Q2: Will a capital gain or capital loss that arises as a result of CGT event E5 or E7 for the Trustee of the EST at the time Participants become absolutely entitled to the Company A shares under the Plans be disregarded under section 130-90 of the Income Tax Assessment Act 1997 (ITAA 1997) if the Participants acquire the shares for the same or less than the cost base of the shares in the hands of the Trustee? | A2: Yes

Relevant facts and circumstances: Company A has implemented a number of equity based compensation plans, namely Plan A and Plan B which are collectively referred to as the Plans. Company A established the employee share trust ( EST) pursuant to the Company A Employee Share Trust Deed and entered into between Company A and the Trustee (Trust Deed) facilitate the provision of ordinary shares in Company A under each of the Plans to Australian employees and directors of: ● Company A and certain other entities that form part of the Company A income tax consolidated group; ● Company B and certain other entities that form part of the Company B income tax consolidated group ( Company B Group ); and ● Company C as trustee for the Company C Unit Trust. The Trustee is an unrelated entity. The applicant submits that the EST was implemented to provide Company A with greater flexibility to accommodate the long term incentive arrangements of Company A whilst the business continues to expand in terms of operation and employee numbers in future years. The EST also accommodates capital management flexibility for Company A in that the EST can use the contributions from Company A to either acquire shares in Company A on-market or alternatively, subscribe for new shares in Company A. Similarly, use of the EST allows for a streamlined approach to the administration of the Plans. The EST can also be used to provide a range of incentives involving shares in Company A as circumstances change in the labour market and can be used in conjunction with the different incentives required to be provided in order to attract, reward and retain key employees. The key features of the Plans and EST are outlined below. Plan A The purpose of the Plan A is to attract and retain quality personnel and to further align the interests of staff and shareholders. Plan A has been in place over ten years and has been regularly approved at annual general meetings. Plan A broadly operates as follows in accordance with the Plan A Rules: ● It is at the employer’s discretion to extend the invitation to certain employees to apply for the number of Options specified in the invitation. ● An option may only be offered under Plan A to: ● a full time or part-time employee of Company A, any of its associated bodies corporate and any other entity the results of which form part of the consolidated financial results of the company for financial reporting purposes; ● an executive director of Company A or any of its associated bodies corporate who has been such a director for a continuous period of at least one year; and ● any other person that provides services to Company A or any associated body corporate who the Board deems to be an employee for the purposes of Plan A. ● An Option is ordinarily granted under Plan A for no consideration. Any monetary consideration payable for an issue of Options must not exceed the lesser of 1 cent and 1% of the exercise price of the Option. ● The maximum number of shares that can be issued under Plan A at exercise must not at any time exceed 5% of the total number of shares in Company A on issue, disregarding issues of Options or issues of shares on the exercise of Options following an offer or invitation to a person situated outside Australia or by an excluded offer or invitation. ● An Option issued pursuant to Plan A is personal to the employee and cannot be assigned, transferred, encumbered or otherwise dealt with by the employee. ● No Option holder has any right pursuant to their award of Options to participate in any other share issue of Company A or of any other entity except in certain circumstances as described the Plan A Rules. ● Subject to any terms or conditions set out in the terms of issue, Options granted under the plan expire after 58 months and carry no dividend or voting rights. When exercisable, each Option is convertible into one ordinary share in Company A ( Company A share ). ● Subject to any terms or conditions set out in the terms of issue, Options granted are able to be exercised subject to the following vesting periods: ● up to 50% may be exercised after 30 months from the date of grant; ● up to 75% may be exercised after 42 months from the date of grant; and ● up to 100% may be exercised after 54 months and before the end of 58 months from the date of grant. ● Unless stated otherwise in the terms of issue, the exercise price of the Options is determined using the Volume Weighted five day Average Market Price (5 day VWAP) for Company A shares preceding the date of grant. ● If an Option holder ceases to be an employee or director by reason of dismissal, expiry of contract or resignation (other than as a result of the person reaching retirement age or suffering an illness or incapacity), the Options held by that person will lapse unless Company A determines otherwise. ● If an Option holder ceases to be an employee or director by reason of retirement (as defined in the Plan A rules), the Options held by that person will remain capable of exercise in accordance with the time period described above unless the Board determines otherwise. ● Any Option which has not been exercised by the expiry of the exercise period will automatically lapse. ● Administration of Plan A is vested in the Board or through a Committee of the Board as defined in the Plan A Rules. ● Plan A Rules were amended so that the EST must be used to administer Plan A as follows, for Australian resident Participants (as at the date of this ruling the EST will not be used in respect of foreign employees of Company A non-resident companies): ● on exercise of Options the Trustee of the EST will acquire the shares on behalf of each employee, either on market, via a new share issue or allocate shares already acquired by the Trustee to the relevant Participant. Such shares will rank equally with all other shares in Company A; ● while such shares are held on trust in the EST on behalf of the employees, the employees will be entitled to dividend and voting rights; ● employees are absolutely entitled to the shares as against the Trustee from when the shares are allocated to them; and ● by written notice, employees can apply for legal title to the shares held in the EST to be transferred to them or their nominee or to be sold on their behalf with a remittance of the sale proceeds (less any brokerage costs). Plan B ● Plan B has been established to assist in the reward, retention and motivation of employees, and align the economic interests of eligible employees with those of shareholders by providing an opportunity for eligible employees to earn significant rewards by potentially acquiring an equity interest in Company A based on creating shareholder value. ● Plan B broadly operates as follows in accordance with the Plan B Rules: ● it is at the Board’s discretion to extend an invitation to certain employees to apply for the number of Performance Rights specified in the invitation; ● no consideration will be paid by the employee for the grant of a Performance Right; ● the exercise price in respect of each Performance Right is nil; ● accordingly, where certain vesting conditions and performance conditions, as determined by the Board, are met, eligible employees will receive ordinary shares in Company A; ● once exercised, each Performance Right will entitle the holder to one ordinary share in Company A; ● the number of Performance Rights made available to the employee will depend on various factors such as their position within the Company A income tax consolidated group; ● the Performance Rights will vest if the employee satisfies the relevant vesting and/or performance conditions specified in the invitation letter; ● the employee will forfeit his/her Performance Rights where, for example, an employee commits an act of gross misconduct, ceases employment with Company A in certain circumstances, or fails to meet the performance criteria. However, the Board may in their absolute discretion, decide to allow an employee that is no longer employed by Company A to exercise part or all of the Performance Rights held by the employee that has not yet been exercised (Good Leavers as described in the Plan B Rules); ● Performance Rights are not transferable without written consent of the Board; ● If there are any bonus issues of shares (other than in lieu of a dividend payment) during the period in which an employee holds Performance Rights, on exercise of their Performance Rights, the employee will also receive the appropriate number of bonus shares in addition to their original allocation; ● Participants are not entitled to any voting rights, dividends or to participate in any rights issue as a result of solely holding Performance Rights, until the Performance Rights are exercised and the Trustee holds shares on behalf of those Participants; ● on exercise of Performance Rights, the Trustee of the EST is directed by the Board to acquire shares on behalf of each employee, either on market or via a new share issue or allocate any pre-acquired shares. Such shares will rank equally with all other shares in Company A; ● while such shares are held on trust in the EST, the employees are entitled to dividend and voting rights and to participate in any rights issue. Employees are absolutely entitled to the shares as against the Trustee from when the shares are allocated to them; ● by written notice, employees can apply for legal title to the shares held in the EST to be transferred to them. Options issued under the Plan A and Performance Rights issued under the Plan B are collectively referred to as Rights . Operation of the EST ● Pursuant to the Recitals of the Trust Deed, the EST has been established for the sole purpose of subscribing for or acquiring, allocating, holding and delivering Company A shares under the Plans (as well as any future plans established by Company A requiring shares to be held by the Trustee under the terms of the EST). ● The EST is funded by cash contributions from Company A or members of the Company A income tax consolidated group. ● Pursuant to the Trust Deed the Trustee is not permitted to carry out activities that are not matters or things which are necessary or expedient to administer and maintain the EST. In addition, it is not permitted to carry out activities which result in the Participants in the Plans being provided with additional benefits other than the benefits that arise from the relevant plan. ● Pursuant to the Trust Deed the Trustee of the EST is empowered to acquire Company A shares in Company A either on-market or via subscription for new shares in Company A. ● Pursuant to the Trust Deed the Board, on behalf of a Participant, will instruct the Trustee, by way of notice in writing, to subscribe for, purchase and/or allocate the requisite number of Company A shares in Company A specified in the notice. ● Pursuant to the Trust Deed, Company A must provide the necessary funds to the Trustee for the purpose of enabling it to acquire Company A shares as specified in the notice in accordance with the Trust Deed. ● The Trustee will, in accordance with instructions received pursuant to the rules of the Plans, acquire, deliver and allocate Company A shares for the benefit of Participants provided that the Trustee receives, when required and necessary, sufficient payment from a Participant to subscribe for or purchase such shares and/or has sufficient unallocated trust shares available (see the Trust Deed). ● The Trustee (or any other party which the Trustee considers appropriate) will establish and maintain a separate Trust Share Account or record in respect of each Participant in accordance with the Trust Deed. ● While shares in Company A are held in trust, the Participant will be entitled to dividend and voting rights (see the Trust Deed). By written notice, Participants can apply for legal title to the appropriate Company A shares held in the EST to be transferred to them (see the Trust Deed). ● All funds received by the Trustee from Company A will constitute accretions to the corpus of the trust and no Participant will be entitled to receive such funds. The contributions will not be repaid to Company A unless they are used to subscribe for Company A shares (see the Trust Deed). ● Where an amount paid by Company A to the Trustee in respect of the acquisition of Company A shares for the benefit of a Participant is in excess of the amount required by the Trustee to acquire those shares, Company A may require the Trustee to apply such amount to acquire, deliver or allocate the shares in accordance with the Trust Deed, the relevant plan rules or the relevant terms of participation or deposit the funds into any account opened and operated by the Trustee (see the Trust Deed).

Relevant legislative provisions: 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 104-85 | Income Tax Assessment Act 1997 Section 106-50 | Income Tax Assessment Act 1997 Section 130-90 | Income Tax Assessment Act 1997 Section 130-85 | Income Tax Assessment Act 1936 Section 95

Reasons for decision: Summary: Section 95 of the Income Tax Assessment Act 1936 (ITAA 1936) defines net income in relation to a trust as follows, insofar as it is relevant: net income , in relation to a trust estate, means the total assessable income of the trust estate calculated under this Act as if the trustee were a taxpayer in respect of that income and were a resident, less all allowable deductions Subsection 6-5(1) of the ITAA 1997 states: Your assessable income includes income according to ordinary concepts, which is called ordinary income. Further, subsection 6-10(1) of the ITAA 1997 states: Your assessable income also includes some amounts that are not ordinary income. Note: These are included by provisions about assessable income. For a summary list of these provisions, see section 10-5. None of the provisions listed in section 10-5 of the ITAA 1997 are relevant in the present circumstances. Therefore non-refundable contributions made to the Trustee pursuant to the Plans will not be assessable income under section 6-10 of the ITAA 1997. They will only be included in the calculation of the net income of the EST under section 95 of the ITAA 1936 if they are assessable as income according to ordinary concepts under section 6-5 of the ITAA 1997. The Trust Deed provides that all contributions made to the EST for the purpose of acquiring Company A shares constitute accretions to the corpus of the EST and that funds provided to the EST in excess of the amount required by the Trustee will not be refundable. The non-refundable cash contributions made to the Trustee of the EST to fund the acquisition of Company A shares in accordance with the Trust Deed will not be assessable income of the EST pursuant to sections 6-5 or 6-10 of the ITAA 1997. Note that the Trust Deed provides that whilst the Trustee is not entitled to receive any fees, commissions or remuneration in respect of the performance of its obligations as Trustee of the EST, it may be paid pursuant to the Plans from the payer’s own resources any fees, commission or remuneration as the payer and the Trustee may agree from time to time. Such receipts will be assessable income of the Trustee in contrast to the irretrievable contributions made to facilitate the acquisition of Company A shares. Note also that income derived by the employment of the property that is the fund or corpus of the trust and which the Trustee holds on trust will be income according to ordinary concepts. (See Federal Commissioner of v. Everett (1980) 143 CLR 440; (1980) 10 ATR 608; 80 ATC 4076 for a discussion of the distinction between the trust income and corpus) When a Participant becomes absolutely entitled to the shares as against the Trustee, CGT Event E5 will occur and under section 104-75 of the ITAA 1997, the Trustee will make a capital gain or loss. However, section 130-90 of the ITAA 1997 may operate to disregard that gain or loss where specified conditions are satisfied. Section 130-90 of the ITAA 1997 states: | 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 (1A) or (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 Subsection 130-85(4) of the ITAA 1997 states: 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). The right to acquire a share and the beneficial interest in the share that is acquired pursuant to the exercise of the right are both ESS interests within the meaning of subsection 83A-10(1) of the ITAA 1997. 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 employees’ employment. Each of the Plans are employee share schemes within the meaning of subsection 83A-10(2) of the ITAA 1997 because each is a scheme under which rights to acquire shares in the company are provided to employees in relation to the employee’s employment. Under the Plans the EST has been established to acquire shares in the company and to allocate those shares to employees to satisfy the Rights acquired under the scheme. The beneficial interest in the share is itself provided under an employee share scheme because it is provided under the same scheme under which the rights to acquire the shares are provided to the employee in relation to the employee’s employment (being an employee share scheme as defined in subsection 83A-10(2) of the ITAA 1997). Therefore, paragraphs 130-85(4)(a) and (b) of the ITAA 1997 are satisfied because: ● the EST acquires shares in the company (that is, in Company A); and ● the EST ensures that ESS interests as defined in subsection 83A-10(1) of the ITAA 1997, being beneficial interests in those Company A shares, are provided under an ESS (the Plans), as defined in subsection 83A-10(2) of the ITAA 1997, by allocating those Company A shares to the employees in accordance with the governing documents of the respective scheme. Undertaking the activities mentioned in paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 will require a Trustee to undertake incidental activities that are a function of managing the employee share scheme and administering the trust. For the purposes of paragraph 130-85(4)(c) of the ITAA 1997, activities which are merely incidental, include: ● the opening and operation of a bank account to facilitate the receipt and payment of money ● the receipt of dividends in respect of shares held by the trust on behalf of an employee, and their distribution to the employee; ● the receipt of dividends in respect of unallocated shares and using those dividends to acquire additional shares for the purposes of the employee share scheme; ● dealing with shares forfeited under an employee share scheme including the sale of forfeited shares and using the proceeds of sale for the purposes of the employee share scheme ● the transfer of shares to employee beneficiaries or the sale of shares on behalf of an employee beneficiary and the transfer to the employee of the net proceeds of the sale of those shares ● the payment or transfer of trust income and property to the default beneficiary on the winding up of the trust where there are no employee beneficiaries ● receiving and immediately distributing shares under a demerger. Activities that result in employees being provided with additional benefits (such as the provision of financial assistance, including a loan to acquire the shares) are not considered merely incidental. For the purposes of the EST, the powers of the Trustee are set out in the Trust Deed. The Trust Deed limits the powers given to the Trustee under the Trust Deed so as to ensure that the powers of the Trustee under the Trust Deed are exercised pursuant to the Trust Deed Recitals “…for the sole purpose of obtaining shares for the benefit of Participants..”. Collectively, these provisions make it clear that the Trustee will only use the contributions received exclusively for the acquisition of shares for eligible employees in accordance with the Plans. To this end, all other duties/general powers listed in the Trust Deed are considered to be merely incidental to the functions of the Trustee in relation to its dealing with the shares to be acquired for Participants for the purposes of the Plans. Therefore, the EST is an employee share trust, as defined in subsection 995-1(1) of the ITAA 1997, as the activities of the EST in acquiring and allocating ESS interests meet the requirements of paragraphs 130-85(4)(a) and 130-85(4)(b) of the ITAA 1997 as concluded above, and its other activities (general powers) are merely incidental to those activities in accordance with paragraph 130-85(4)(c) of the ITAA 1997. Paragraph 130-90(1)(a) of the ITAA 1997 CGT event E5 is the CGT event that will apply under the terms of the Plans at the time the Participants becomes absolutely entitled to the shares in Company A as against the Trustee. Therefore paragraph 130-90(1)(a) will be satisfied. Paragraph 130-90(1)(b) of the ITAA 1997 Section 995 of the ITAA 1997 defines a share to mean a share in the capital of a company. An ordinary share in Company A held by the Trustee and to which a Participants is entitled to upon the vesting of a Performance Right or upon exercise of an Option is a share in the capital of a company (Company A). 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) of the ITAA 1997 Paragraph 130-90(1)(c) is satisfied as a Participants will have acquired a beneficial interest in a share (in Company A) by the vesting of a Performance Right under the Plan B or by exercising an Option granted under Plan A or Plan B. Paragraph 130-90(1)(d) of the ITAA 1997 Subsection 83A-20(1) of Subdivision 83A-B of the ITAA 1997 states: This Subdivision applies to an *ESS interest if you acquire the interest under an *employee share scheme at a discount. The term ‘employee share scheme’ is defined in subsection 83A-10(2) of the ITAA 1997. Subsection 83A-10(2) states: An employee share scheme is a *scheme under which *ESS interests in a company are provided to employees, or *associates of employees, (including past or prospective employees) of: (a) the company;…. in relation to the employees' employment. For the purposes of subsection 83A-10(2) of the ITAA 1997, section 995 of the ITAA 1997 defines the term 'scheme' as follows: scheme means: (a) any *arrangement; or (b) any scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise. The Plans are employee share schemes for the purposes of Division 83A of the ITAA 1997 as they are an arrangement/plan (scheme) under which an ESS interest, being a beneficial interest in a right to acquire a beneficial interest in a share of Company A, is provided to eligible employees in relation to their employment by Company A (or subsidiary member of the Company A income tax consolidated group), Company B (or any subsidiary member of the Company B income tax consolidated group) or Company C. Performance Rights under the Plans are acquired at no cost. Options are also granted for nil or negligible consideration and may be exercised upon the payment of an exercise price. Accordingly, prima facie Subdivision 83A-B of the ITAA 1997 will apply to the Rights acquired under the Plans as pursuant to subsection 83A-20(1) of the ITAA 1997 the ESS interest (issued under the Plans) will be acquired under an employee share scheme (for the reasons stated immediately in the preceding paragraph) at a discount or negligible cost). It should be noted however that whether a Participant is ultimately taxed upfront on some or all of any discount received (under Subdivision 83A-B of the ITAA 1997) or is able to defer the timing of the inclusion of an amount in their assessable income (under Subdivision 83A-C of the ITAA 1997), will depend on which of the additional requirements in Subdivision 83A-B of the ITAA 1997 or Subdivision 83A-C of the ITAA 1997 have been satisfied. Therefore, under either circumstance subparagraph 130-90(d) of the ITAA 1997 will be satisfied. Accordingly, all the conditions in subsection 130-90(1) of the ITAA 1997 have been satisfied. Provided then (pursuant to 130-90(2) of the ITAA 1997 as stipulated above) that the beneficiary does not acquire the beneficial interest in the 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. Where Participants do not pay any amount/exercise price to acquire their Company A shares upon the vesting or exercise of their Rights, subsection 130-90(2) of the ITAA 1997 will not apply to shares acquired by the grant of Rights – subsection 130-90(1) of the ITAA 1997 will still apply. However, where Participants are required to pay an exercise price upon vesting or exercise of a Right granted under the Plans, then provided that this total exercise price paid by a Participant in accordance with the terms of the Company A Equity Plan is not more than the cost base in the hands of the Trustee, and a Participant continues not to be required to pay/contribute any price that is more than the cost base in the hands of the Trustee under the Plans, subsection 130-90(2) will not apply - subsection 130-90(1) of the ITAA 1997 will apply. Under these circumstances, section 130-90 of the ITAA 1997 operates to disregard any capital gain or loss made by the Trustee under CGT event E5 on any share when a Participant becomes absolutely entitled to that share. Note: CGT Event E7 Subsection 104-85(1) of the ITAA 1997 provides that CGT event E7 happens if the trustee of a trust (except a unit trust or a trust to which Division 128 of the ITAA 1997 applies) disposes of a CGT asset of the trust to a beneficiary in satisfaction of the beneficiary’s interest, or part of it, in the trust capital. However, section 106-50 of the ITAA 1997 provides: If you are absolutely entitled to a CGT asset as against the trustee of a trust (disregarding any legal disability), this Part and Part 3-3 apply to an act done by the trustee in relation to the asset as if you had done it. The Participant, on allocation of the shares by the Trustee, becomes absolutely entitled to those shares. In accordance with the Trust Deed each Participant is absolutely entitled to the trust shares allocated to a Participant and held by the Trustee on their behalf and is entitled to the same rights in respect of the shares as if he or she was the legal owner of the shares (subject to the relevant plan rules and terms of participation). Once the Participant are absolutely entitled to shares held on their behalf by the EST, section 106-50 of the ITAA 1997 will deem the disposal of the shares by the Trustee to be done by the Participants. Therefore, section 106-50 of the ITAA 1997 will apply, such that if the Trustee disposes of the shares under the relevant the Plans (by way of transfer to a Participants), the Trustee will not make a capital gain or capital loss under CGT event E7.