The Tax and Superannuation Laws Amendment (Employee Share Schemes) Bill 2015 (Bill) will:
- create new opportunities in providing employee equity
- remove some of the complexity of the existing law
- expand the potential range of instruments which may be issued
- may require changes to the existing plan rules, particularly for tax deferral plans
The Bill was introduced into Parliament on 25 March 2015 and proposes certain amendments to the employee share scheme provisions in Division 83A of the Income Tax Assessment Act 1997, which are to come into effect from 1 July 2015. The Bill follows on from the earlier exposure draft legislation released by the Treasury for public comment in January 2015 (see our earlier Alert).
Broadening of eligibility requirements of rights for deferred taxation
Options and performance rights no longer need real risk of forfeiture to access deferred taxation
Under the Proposed Amendments, an ESS interest that constitutes a “right” may qualify for tax deferral even if the plan does not provide for a real risk of forfeiture with respect to the right. This includes an option, a performance right or other right to acquire shares in a company
Extension of deferred taxing points
- Extended tax deferral
- Greater opportunities for use of options
Maximum deferral 7 to 15 years
The Proposed Amendments extend the time at which both shares and rights issued under an ESS which qualify for deferred taxation from 7 years to 15 years.
Exercised rather than exercisable
The deferred taxing point is extended from the time when the right becomes exercisable under a scheme rules to the time when it is actually exercised by employee (provided certain other requirements are satisfied).
The Proposed Amendments do not revive the pre-2009 position in former Division 13A of the Income Tax Assessment Act 1936, where an employee receiving a share or right under an ESS could elect to be taxed either on an upfront basis or on a deferred basis.
Refunds for unexercised options
The Proposed Amendments provide that an employee who chooses not to exercise a right (for example, because it is out of the money) may be entitled to a refund of any income tax previously paid in respect of acquiring the right
Introduction of “safe harbour” valuation methods of broad application
Safe harbour valuation provisions provide relief for valuation difficulties faced by unlisted companies on sale
The Proposed Amendments introduce a power for the Commissioner of Taxation (Commissioner) to approve methods for the calculation of the value of assets or non-cash benefits. Once approved, the methodologies will be binding on the Commissioner, although the taxpayer will not be bound to adopt such methodologies.
The development of safe harbour valuation methods will be a significant improvement to the current valuation difficulties faced by employees of unlisted companies.
The safe harbour valuation provisions will apply for general income tax purposes and will not be limited to valuations of ESS interests.
The valuation tables which are used by companies to value employee options will also be updated in the relevant regulations to reflect current market conditions.
Start-up companies concessions
Start-ups will be able to provide participants with the opportunity to only be taxed under the discount capital gains tax rules
Concessions that will be available for eligible start-up companies are:
- shares issued at a discount of less than 15% at grant will be exempt from income tax; and
- rights that have an exercise price that is greater than or equal to market value will not be taxed at grant.
The benefit is that the right, and the share acquired upon exercise of the right, is instead taxed under the capital gains tax rules, with a greater opportunity to access the discount capital gains tax concession.
- The company and any members of its corporate group must not be listed on any stock exchange (Unlisted Requirement).
- This requirement must be satisfied at the end of the company’s most recent income year before the relevant ESS interest was issued. This differs from the earlier exposure draft which required that the company must be unlisted at the relevant ESS issue date;
- The company’s aggregate turnover must be less than $50 million for the most recent income year prior to the year in which the relevant ESS interests were issued (Turnover Threshold).
- The company must have been incorporated for less than 10 years before the time the ESS interests are issued.
- The employing company (which may or may not be the company which issues the ESS interest) is also required to be an Australian resident for tax purposes.
In addition, the shares must be held by the employee for at least three years unless the employee ceases to be employed. This condition is relaxed.
The Bill also proposes that the three year period may be shortened if the Commissioner is satisfied that certain criteria have been fulfilled. This was not previously contained in the exposure draft.
Incentives for structuring investments in start-ups using VCLPs
In determining the Unlisted Requirement and the Turnover Threshold for the start-up concessions, the Bill requires that eligible venture capital investments by certain eligible venture capital entities and investments by tax exempt deductible gift recipients are to be disregarded. This was not previously contained in the exposure draft legislation.
The exclusion of contributions by eligible venture capital investors in determining the availability of the start-up concessions creates a strong incentive to invest in start-up entities through eligible venture capital structures, rather than other forms of collective investment vehicles.
Important next steps to assist unlisted entities
- Alignment of prospectus rules
- Effective buyback mechanisms also needed to facilitate employee equity offerings
These developments can provide a significant opportunity to expand the offerings of employee equity in Australia, in particular by unlisted companies. A critical aspect will be the corresponding development and alignment of the relevant corporations law restrictions on offering of securities. This may either require either legislative change or extensions to the existing ASIC relief.
A key aspect which may continue to restrict the ability of companies to conduct offerings of employee equity is the absence of an effective buyback mechanism. The revision of the tax rules dealing with the buybacks in this context would provide a critical improvement to facilitate effective employee equity offerings.