The Australian Government has released a ‘Policy Statement - Final Framework for the taxation of Employee Share Schemes’.  It is stated to be the Government’s final position, and takes into account some of the concerns raised by us and others after release of the public consultation paper and draft legislation.  The new legislation is expected to be introduced in the spring sittings of parliament.

Overall, we believe these new tax rules should enable suitably drafted employee shares and rights schemes to continue to provide employees with a performance-based incentive, where taxation is deferred until the employee is able to benefit from the value of the shares or rights.  Existing plans will obviously need to be suitably modified to accommodate the changes.

As with all legislation, the ‘devil’ will be in the detail.  We will be reviewing the draft legislation when available, and making appropriate submissions where the drafting doesn’t adequately implement the announced Policy Statement.

Key changes

The new rules will apply to shares and rights acquired on or after 1 July 2009, and differ from the existing tax rules in Division 13A as follows:

• employees can no longer elect to be taxed at grant on ‘qualifying shares’ or ‘qualifying rights’
  
  
  
• ‘qualifying shares’ and ‘qualifying rights’ will generally be taxed at grant where there is no real risk of forfeiture.  However, deferral will also be available without a real risk of forfeiture for up to $5000 worth of shares under a ‘capped’ salary sacrifice based scheme
  
  
• the maximum tax deferral period for ‘qualifying shares’ and ‘qualifying rights’ will now be 7 years (reduced from 10 years)
  
  
  
• the $1000 exemption for certain qualifying plans will apply only to employees with ‘adjusted taxable income’ below $180,000 in the particular tax year
  
  
  
• employees can seek a tax refund or credit where forfeited shares or rights have been taxed, unless the extinguishment, forfeiture or inability to vest results from a choice made by the employee.  A refund will be denied where the choice relates directly to a loss in the market value of the shares or rights
  
  
• tax reporting will be required by the employer (the number of shares and rights at grant, and both the number and value of shares and rights at the respective taxing point), and tax withholding is required where the employee does not quote their Tax File Number (similar to existing PAYG arrangements for salary and wages, etc), and
  
  
  
• the Board of Taxation will be asked to consider:
  
  
  1. the existing valuation rules for employee shares and rights (which will continue to apply in the interim), and
     
     
  2. whether tax deferral should be permitted without the need for a real risk of forfeiture, for employee share and rights plans offered by start-up, research and development and speculative-type companies.

The Government has also determined that for ‘qualifying shares’ and ‘qualifying rights’:

• cessation of group employment will continue to be a taxing point, and
  
  
• sales restrictions at grant may afford further tax deferral (provided the other requirements for deferral are also satisfied).

The new legislation will also be subject to a consultation process ‘to ensure the policy is accurately reflected in the application of the law, including consultation on a range of technical issues raised in submissions that will be contained in the Exposure Draft Bill.’   These would be expected to include the following matters (which were raised in our Submission):

1. the tax rollover relief provisions in the event of a 100% takeover or restructure,
   
   
2. exclusion for 'sole purpose' employee share trusts,
   
   
3. the modifications for 'stapled securities', and
   
   
4. the tax exemption for non-residents in respect of the foreign source portion of the discount on employee shares and rights.

Whilst the Government and the Australian Taxation Office are developing explanatory materials to provide additional guidance on the meaning of ‘real risk of forfeiture’, there are a number of other uncertainties arising out of the Government’s announcements, in particular relating to the requirements for tax deferral.  It is to be hoped that the legislation will adequately address these issues. 

Other considerations

Companies will also need to have regard to whether changes to their existing plans as a result of these new tax rules will require them to obtain fresh shareholder approvals of their plans for the purposes of applicable Listing Rule and Corporations Act requirements.