Succession Plus CEO, Craig West, who recently completed a doctoral thesis on Using ESOPs for Business Succession in Australian SMEs, responds to the Owning a Share of Your Work: Tax treatment of Employee Share Schemes – House of Representatives Inquiry into the taxation treatment of Employee Share Schemes (ESS). Here are his opinions.
I have multiple examples in my client base of businesses who are now strong advocates of ESOP’s, for succession, for asset protection, and to simply ‘share the wealth’ amongst key employees.
ESOP’s used in an SME are normally great economic multipliers with a disproportionate impact and a win-win-win scenario where employees, founders, and the business are better off. They are a great mechanism to allow private individuals to build (and manage) wealth outside of industry super.
I also have several clients where aspects of the current legislation are a real barrier – the proposed changes will make a real difference to these examples.
The recommendations within the House of Representatives Inquiry into the taxation treatment of Employee Share Schemes (ESS) are a massive step forward in encouraging the use of employee ownership by small-to-medium businesses.
2.43 The Committee recommends that the Australian Taxation Office obtains and publishes up-to-date data on Employee Share Scheme use.
Response: Positive – There is little data available on ESS take-up or effectiveness in Australia and improved data will help dispel the myths. Any possible data is not centralised and is not publicly accessible.
2.45 The Committee recommends that the Australian Taxation Office establish a public awareness program to inform current and potential business owners of the existence and benefits of Employee Share Schemes, and where and how to access the available resources.
Response: Negative – An independent agency with representation from academic, industry, treasury etc would produce a far more practical and commercial outcome for all stakeholders – the ATO has a very poor record of administering ESOPs (a recent client waited 9 months for tax ruling).
2.47 The Committee considers any changes to legislation resulting from this inquiry and the 2019 Treasury consultation referred to in Chapter 4 of this report should be reviewed by the Productivity Commission five years after the date of commencement of the changes.
Response: Positive – Always worth reviewing and monitoring changes and see what impact they have had and whether any fine-tuning is needed.
2.50 The Committee recommends that the Productivity Commission investigate how the use of employee ownership trusts can be facilitated and encouraged.
Response: Positive – Trusts are definitely part of the solution – direct shares are public record (ASIC search) and many clients don’t like this aspect because confidentiality both internally and externally is important.
2.51 The Committee recommends that the Productivity Commission explore the structure of Employee Share Schemes and their related taxation treatment in other countries, and how this could be adapted to the Australian taxation system to support productivity and innovation.
Response: Positive – Several other countries have far better tax treatment (no CGT in USA if business is sold to ESOP).
3.75 The Committee recommends that the following changes be made to the definition of a ‘start-up’ for tax concession purposes:
- The definition be extended to listed companies that otherwise fulfil the criteria to be considered a ‘start-up’.
- The aggregated turnover test be removed to relate to wholly owned groups or entities that can be shown to be controlled by the entity as per the definitions of control under the Corporations Act 2001.
Response: Positive – The more businesses able to access the very generous start-up concessions the better.
3.79 The Committee recommends that the definition of ‘safe harbour’ valuation contained in Legislative Instrument – Income Tax Assessment (ESS 2015/1) be extended to all unlisted companies.
Response: Positive – This is unlikely to be implemented and slightly risky – safe harbour valuations are nearly always lower than the actual market valuation of the business (in some cases substantially).
3.82 The Committee recommends increasing the $1,000 limit in section 83A.35(2)(a) of the Income Tax Assessment Act 1997 to $50,000.
Response: Positive – very high impact – increasing the salary sacrifice limit will encourage more employees to acquire shares (in a reasonably tax effective manner).
3.84 The Committee recommends that the Government remove the taxation point on the cessation of employment by removing sections 83A-115(5) and 83A-120(5) of the Income Tax Assessment Act 1997.
Response: Positive -but low impact – for many SMEs having employee hold shares after they exit.
4.70 The Committee recommends that the Government proceed with the proposals announced on 13 November 2018 and discussed in the Treasury Employee Share Schemes Consultation Paper dated April 2019.
Response: Positive- reducing the admin burden and compliance complexity will improve the take up and reduce complexity, time and cost.
4.72 The Committee recommends that the requirement for a maximum 15 per cent discount under the Income Tax Assessment Act 1997 start-up regime be scrapped.
Response: Positive – increasing the discount available will encourage more employees to buy into ESOPs.
4.73 The Committee recommends that the Australian Taxation Office simplify its documentation to no more than two pages, and make recommendations to the Government of any legislative changes that could further simplify this process.
4.74 The Committee recommends that the Australian Taxation Office establish a one stop shop approach to ESS, including documentation, processes and Australian Securities and Investments Commission reliefs to enable start-ups in particular to find all they need in one place, combined with a help line to answer any questions specific to their circumstances.
Response: Negative – I think an independent agency with representation from academic, industry, treasury etc would produce a far more practical and commercial outcome for all stakeholders. The ATO is inefficient and generally unsupportive of ESOPs in my experience. I also don’t think many SMEs are going to go to the ATO for business advice.
4.75 The Committee recommends that the Australian Taxation Office re-instate the option for lodgement of the ESS annual report in a spreadsheet format.
Response: Neutral – but properly no impact – it is not too hard to use ELS to simplify the process.
4.79 The Committee recommends that a ‘safe-harbour’ methodology be introduced for ESS buy-backs for the purposes of determining the dividend / capital split and administrative treatment be allowed when no part of the purchase price paid under an ESS buy-back is deemed to be capital.
Response: Positive but low impact – not really a big issue for most SMEs and certainly not a barrier to employee takeup.
4.82 The Committee recommends that the Australian Taxation Office (ATO) clarify whether sections 109F(4) and 245-35(a) of the Income Tax Assessment Act 1997 and ATO Interpretive Decision Fringe Benefits Tax (2003/317) mean that Fringe Benefits Tax is not in fact payable for discharged ESS loans.
Response: Positive – In a recent ruling application the ATO refused to answer several questions – especially in this area – simplicity and clarity as to tax treatment is removal of a clear barrier.
4.85 The Committee recommends that the Australian Taxation Office include in its examples of ‘merely incidental’ activities in Taxation Determination Income tax: what is an ‘employee share trust’ (2019/13), actions that are taken in common corporate transactions such as rights issues, demergers and other capital raising transactions.
Response: Positive – the ATO obsession with items which are not merely incidental is unreasonable and clearly a barrier.
4.87 The Committee recommends removing the real risk of forfeiture requirement for shares and removing the 75 per cent offer requirement for shares.
Response: Positive – very high impact – both are a real issue for business owners – especially for succession planning where in smaller businesses ESOPs might be used to transition to a small number of owners (the 10 % limit per person nor the 75 % broad based plan both limit the use of plans for succession).
4.88 The Committee recommends that the Australian Taxation Office expand its model documents to include documents similar to those produced by the United Kingdom Department for Business Innovation and Skills.
Response: Positive – BUT – not sure the ATP is the best body to provide this advice / support see recommendation 12.
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