You’re the CFO of an ASX listed company that has established an Employee Share Trust (EST). The EST has been setup in order to hold shares or rights to shares for the company’s employees who participate in an Employee Share Scheme (ESS).
Why an Employee Share Trust?
There are various capital gains and fringe benefits tax concessions available to the trustee, beneficiaries and employer if the trust satisfies the definition of an EST as defined in section 130-85(4) of the Income Tax Assessment Act 1997 (ITAA1997).
The ATO has now issued Tax Determination TD 2019/13 (originally draft TD 2019/D8) outlining the Commissioner’s views on the definition of an EST.
Employee Share Trust definition in detail
s130-85(4) ITAA1997 provides that an EST for an ESS 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 ESS to employees, or to associates of employees, of:
- the company; or
- a subsidiary of the company; and
c. other activities that are merely incidental to the activities mentioned in paragraphs (a) and (b).
The focus of TD 2019/13 is on the term “merely incidental” per paragraph “c” above.
The ruling notes that activities that meet the criterion of merely incidental if they include:
- opening bank accounts;
- receiving dividends in respect of shares held;
- paying dividend equivalent payments to participating employees;
- accounting for shares forfeited under the ESS;
- transferring shares to participating employees;
- bookkeeping, preparation of financial, tax and regulatory statements and other record-keeping and administrative actions necessary to operate the trust;
- borrowing money for the purpose of acquiring shares or rights in the employer company; and
- receiving dividends in respect of unallocated shares and interest from bank accounts and using these funds to:
- acquire additional shares for the purpose of the ESS;
- pay necessary and incidental costs of administering the EST; and/or
- paying interest on loans provided for the acquisition of shares or rights in the employer company, where the interest payable does not exceed the arm’s length commercial rates.
What is not considered merely incidental
The Commissioner lists the following activities that will be not considered ‘merely incidental’:
- providing financial assistance;
- distributing income or accrual capital from unallocated shares to beneficiaries (or to employees who do not hold a beneficial interest in the employer under the trust);
- exercising a general discretion to make distributions of income or capital to pay a class of participating employees or other beneficiaries of the trust amounts unrelated to their ESS interests;
- investing in assets other than shares or rights in the employer;
- engaging in trading activities, other than purchasing and selling shares to satisfy obligations under the ESS;
- distributing mainly cash payments to participating employees rather than shares or ESS interests;
- providing additional benefits to participants and/or employees, over and above the delivery of the ESS interests or resulting shares and any dividend equivalent payment that accrues directly from the employee’s ESS interest;
- waiving or relinquishing certain entitlements; and
- borrowing money:
- for a purpose other than purchasing shares or rights in the employer company;
- with security provided over any of the trust’s assets for the loan; or
- where the interest payable on the loan is more than arm’s length commercial rates.
Implications of failing Employee Share Trust definition
Should a trust fail to meet the statutory definition it will cease to be an EST. Furthermore, once the definition is failed, a trust is unable to regain its EST status.
This will result in the trust losing access to the following tax concessions:
- being disregarded for most capital gains tax purposes by treating ESS interests owned by the trustee as being directly owned by the beneficiaries of the trust instead;
- being able to disregard capital gains and capital losses made by the trust for certain CGT events that happen; and
- allowing contributions made by the employer company to the trust to be exempt from fringe benefits tax.
In light of this guidance from the ATO it is crucial that EST operators ensure their trust is in compliance with the EST legislative definition.
Should you currently operate an Employee Share Trust, or are considering creating an Employee Share Trust, we recommend you reach out to your local RSM tax advisor in order to gain comfort over whether your trust is eligible to access the Employee Share Trust tax concessions.