House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello MP)

Chapter 3 - Roll-over of income taxing point for shareholders in employee share schemes

Outline of chapter

3.1 Schedule 3 to this bill amends the Income Tax Assessment Act 1936 (ITAA 1936) to allow taxpayers who have deferred the income tax liability on a discount received on shares or rights acquired under an employee share scheme (ESS) to roll-over any taxing point that would otherwise occur because of a corporate restructure.

Context of amendments

3.2 Employees may defer their income tax liability arising from a discount on shares or rights acquired under an ESS. The deferral can be for up to 10 years, unless a 'cessation time' occurs. At that time, employees must include any discount they have received in their assessable income for that income year. Currently, a corporate restructure may give rise to a cessation time by triggering a disposal of the shares or rights or by breaking the employment relationship between an employee and the company that originally granted the shares or rights.

3.3 In response to the House of Representatives report Shared Endeavours: An inquiry into employee share ownership in Australia (the Nelson Report), the Government announced that, from 1 July 2004, employees who have deferred their ESS income tax liability would be able to roll-over their income taxing point in the event of a corporate restructure. The amendments in Schedule 3 will allow employees to roll-over an income taxing point in the event of a corporate restructure, subject to certain conditions, including continuity of employment in the restructured entity or group.

Summary of new law

3.4 This amendment would allow employees who have deferred their ESS income tax liability to roll-over their income taxing point in the event of a corporate restructure such as a takeover, merger or demerger that gives rise to a cessation time.

3.5 The roll-over relief from the taxing point is available for shares or rights provided to the employee in the new company or companies that match the original shares or rights prior to the restructure, if after the restructure:

•

the shares or rights are held in a company in which the taxpayer is employed; and

•

the shares or rights in the restructured entity meet certain qualifying conditions under Division 13A. These conditions are explained in paragraphs 3.42 to 3.45.

[Schedule 3, item 11, section 139DQ]

3.6 The new shares or rights are treated as a continuation of the old shares or rights for roll-over purposes provided they are held in the company in which the employee is employed after the restructure.

3.7 The deferral period will continue to run from the acquisition of the shares or rights in the old company, and the maximum deferral period will still be 10 years.

Comparison of key features of new law and current law

Detailed explanation of new law

Background

3.8 Division 13A of the ITAA 1936 provides that, where a discount is given in relation to a share or right acquired by an employee under an ESS, that discount is included in the employee's assessable income in the income year in which the share or right was acquired (section 139B of the ITAA 1936). The discount represents the difference between the market value of a share or right and what the employee paid to acquire it. However, in relation to a 'qualifying share or right' (section 139CD of ITAA 1936), the employee can defer tax on that discount for up to 10 years.

3.9 While taxpayers may defer their income tax liability for up to 10 years, certain events - 'cessation times' under sections 139CA and 139CB - can trigger a taxing point for a taxpayer, which requires the discount to be included in assessable income in the year that the cessation time occurs. A cessation time includes when the employee disposes of the shares or rights or when the employee ceases to be employed in the entity that issued the shares or rights.

3.10 A corporate restructure may cause a cessation time under sections 139CA and 139CB because some or all of the shares or rights held in the old company may be disposed of and replaced with shares or rights in new companies or because the employee may become employed by a different company. This can trigger a taxing point that would require the employee to include the value of the discount in their assessable income in the income year in which the corporate restructure occurs.

Roll-over of the taxing point

3.11 A taxpayer who has deferred an income tax liability on a discount provided as part of acquiring shares or rights under an ESS will be able to roll-over a taxing point subject to certain conditions being met (refer to paragraphs 3.42 to 3.45), provided that:

•

a cessation time is caused by a takeover or corporate restructure;

•

the employee receives matching shares or rights in the new company (or group) to replace shares or rights in the old company (or group) as a result of the takeover or restructure; and

•

the employee works for the new company (or group) after the takeover or restructure.

[Schedule 3, item 11, section 139DQ]

3.12 The roll-over relief will not apply to cessation times that occur outside of corporate restructures. A taxing point will still arise when an employee's employment ceases with the employer or when the shares or rights are disposed of, for reasons other than a corporate restructure or when the maximum 10 year deferral period expires, whichever event occurs first. For shares or rights with restrictions preventing their disposal and conditions resulting in forfeiture, a taxing point will still arise when the disposal restrictions expire or the 10 year maximum tax deferral period from the date the rights or shares were acquired expire, whichever event occurs first.

3.13 The roll-over works by treating the shares or rights in the new company that match the shares or rights in the old company as a continuation of the shares or rights in the old company that they are matching, and treating the employment in the new company as a continuation of the employment in the old company.

Matching shares or rights

3.14 The roll-over relief is limited to shares or rights that can reasonably be regarded as matching the shares or rights in the old company. Matching shares or rights are the replacement shares or rights provided to put the employee in the same position financially after the corporate restructure as before it. Matching shares or rights should be no more than that which is required to place the employee in the same position financially as if the restructure had not occurred. The roll-over relief is limited to matching shares so that the taxpayer does not receive any additional benefit as a result of the restructure than he or she would otherwise have received. [Schedule 3, item 11, subsection 139DQ(1)]

3.15 To be eligible for the roll-over relief, it must be possible to identify the shares or rights that the employee holds as a result of the restructure and they must reasonably match the employee's original holding of shares or rights immediately before the restructure.

Example AA: Matching the value of shares

Fred acquired 100 shares at a discount under an ESS in Company A in 1999 and deferred his tax liability on the discount. In 2004, Company A shares are valued at $0.50 per share. Following an announcement of a takeover by Company B, the price of Company A shares increases to $1. Company B buys out all shares in Company A. Fred's shares are replaced by 200 Company B shares valued at $0.50 per share. Following the restructure, Fred is employed by Company B. The shares in Company B are matching for the purposes of the roll-over, as they have the same value as the original shares in Company A. (This example assumes no shifting in value from non-ESS shares to ESS shares.)

3.16 While the taxpayer should not receive any additional benefit, there need not be a one to one ratio between the old and the new shares or rights in order for them to be matching, provided that the value of the new shares or rights relative to the old shares or rights remains unchanged.

Example 3.1

Stanley acquires 200 shares under an ESS in Streetcar Pty Ltd. Busline Pty Ltd then buys out all shares in Streetcar Pty Ltd on the basis of two shares in Busline Pty Ltd for each share held in Streetcar Pty Ltd. As a result of the takeover, Stanley is issued 500 shares in Busline Pty Ltd. He receives 400 shares in exchange for his 200 shares and a further 100 shares by way of an employee bonus. The matching shares are the 400 shares in Busline Pty Ltd. The additional 100 shares that Stanley received are over and above what is required to put him in the same position financially after the restructure as before it. The 400 shares Stanley holds in Busline Pty Ltd are matching for the purpose of accessing the roll-over relief, as these shares have the same value as the old shares. (This example assumes no shifting in value from non-ESS shares to ESS shares.)

3.17 To be matching, the market value of the original shares or rights immediately before the restructure (or a reasonable estimate of the market value of the shares or rights) should be the same or equivalent to the value of the replacement shares or rights as a result of the restructure.

Example 3.2

Marian acquires 1,000 shares in Pebbles Inc as part of an ESS. Immediately prior to a takeover by Granite Pty Ltd, the shares have a market value of $1 per share. Granite Pty Ltd acquires all shares in Pebbles Inc and gives shareholders two shares in Granite Pty Ltd for one share in Pebbles Inc. As replacement for her shares in Pebbles Inc, Marian was given 1,600 shares in Granite Pty Ltd and $800 in cash. The market value of the replacement share package after the restructure exceeds the value of her old shares by $600. The $600 was by way of an employee bonus. The 1,600 shares in Granite Pty Ltd and only $200 (of the $800) 'match' the original shares, as they are similar in value to the shares held by Marian prior to the takeover. Marian has acquired interests as a result of the restructure that exceed the value of her old shares worth $600. (This example assumes no shifting in value from non-ESS shares to ESS shares.)

3.18 The replacement of old shares or rights with an equivalent combination of new shares and cash is considered to be matching. Where some additional benefit is received as part of the replacement of the shares and rights in the old company following a restructure, the additional benefit is not matching. However, a cessation time will arise to the extent that the old shares or rights are replaced by cash that is matching, as roll-over relief only applies to matching shares or rights that are treated as a continuation of the shares or rights in the old company. [Schedule 3, item 11, subsection 139DQ(2)]

3.19 To be regarded as reasonably matching, the attributes of the shares or rights immediately before the restructure need to be the same, or substantially the same, immediately after the restructure. Attributes include whether it is a share or a right. The replacement of shares for rights, or vice versa, following a restructure would not qualify for roll-over relief as the essential characteristic of the employee's interests (shares or rights) provided after the restructure would have substantially changed.

3.20 The tax treatment of non-matching shares or rights immediately after a corporate restructure will be determined on the basis of the application of the existing law and will depend on the circumstances in each case.

Continuation of shares and rights

3.21 Treating the matching shares or rights as a continuation of the shares or rights in the old company means that the replacement of shares or rights is not treated as a disposal of the shares or rights in the old company or as an acquisition of shares or rights in the new company. [Schedule 3, item 11, subsection 139DQ(1)]

Example AA: Continuation of shares or rights

Using the scenario in Example AA above, following the restructure, Fred is employed by Company B. As Fred also holds replacement shares in Company B that match the value of the shares in Company A, the replacement shares he gets in Company B are deemed to be a continuation of the shares in Company A for the purpose of the roll-over.

Example 3.3

Keith acquires 500 shares in Deco Corp Ltd as part of an ESS. Subsequently, Luci Pty Ltd acquires all the shares in Deco Corp Ltd. Keith remains employed by Luci Pty Ltd. As part of the takeover, all of Keith's shares in Deco Corp Ltd are replaced by 500 shares in Luci Pty Ltd. If they reasonably match the original Deco Corp Ltd shares, the 500 Luci Pty Ltd shares Keith holds are treated as a continuation of the original shares for the purposes of the roll-over relief.

3.22 Treating the matching shares or rights as a continuation of the shares or rights in the old company means that the characteristics of the old shares or rights are mirrored in the matching shares or rights.

3.23 Where a taxpayer holds shares or rights in the old company that were acquired at different times, the matching shares or rights are also held to be acquired at those different times. The 10 year maximum deferral period will continue to run from the date the original shares or rights were acquired.

Example 3.4

Rob acquires 100 shares in Island Pty Ltd under an ESS in the year 2000 and acquires a further 100 shares in 2002. Friday Pty Ltd acquires all the shares in Island Pty Ltd and gives all shareholders one share in Friday Pty Ltd for each share held in Island Pty Ltd. Rob now holds 200 shares in Friday Pty Ltd, 100 of which will face a maximum cessation time by 2010 and 100 of which will face a maximum cessation time by 2012.

3.24 Currently, a cessation time arises at the time of acquisition for shares acquired under an ESS that do not impose restrictions preventing the taxpayer from disposing of the share before a particular time. Matching shares or rights received by the taxpayer as part of the corporate restructure may be the same shares or rights granted to all shareholders and so may not impose such restrictions. However, the replacement of shares or rights with restrictions, with shares or rights without restrictions following a restructure is considered matching. By treating the matching shares as a continuation of the shares in the old company, the matching shares will not be treated as an acquisition of shares that do not impose restrictions and so no cessation time will arise. [Schedule 3, items 3 and 4]

Example 3.5

Olive acquires 100 shares in Twist Pty Ltd in the year 2005, that impose a restriction that they cannot be sold until 2008. In 2006 all the shares in Twist Pty Ltd are bought by Beadle Pty Ltd and Olive's 100 restricted shares in Twist Pty Ltd are replaced by 100 unrestricted shares in Beadle Pty Ltd. Olive is employed by Beadle Pty Ltd following the restructure. As the shares in Beadle Pty Ltd match the shares in Twist Pty Ltd, the acquisition by Olive of unrestricted shares will not give rise to an immediate taxing point and she can continue to defer her income taxing point until no later than 2015.

Continuation of employment

3.25 The roll-over also provides for a continuation of employment. In a takeover situation, the employee is regarded as having continued their employment in the old company if, following the restructure, they are employed by the new company, a subsidiary of the new company, a holding company of the new company or a subsidiary of the holding company of the new company. [Schedule 3, item 11, subsection 139DQ(3)]

Example AA: Continuation of employment

Using Example AA above, following the restructure, as Fred is employed by Company B and gets replacement shares in Company B, Fred's employment with Company B is deemed as a continuation of his employment with Company A.

Example 3.6

Julie acquires 100 shares under an ESS in Feeney group. Following a restructure, Feeney group is demerged into KMC group and Coopers group; Julie is employed by a subsidiary of KMC group. As a result of the restructure, one share in Feeney group will be exchanged for one share in KMC group and half a share in Coopers group. The 100 shares Julie acquires in KMC group and 50 shares in Coopers group are deemed to be matching shares for the 100 shares in Feeney group. However, the 100 shares in KMC group are treated as a continuation of the same proportion of the shares in the Feeney Group, for which Julie can obtain a roll-over relief, as her employment with KMC group is considered as a continuation of her employment with Feeney group. For the 50 Coopers group shares that Julie holds that match the shares in the Feeney group, an income taxing point for the same proportion of shares in the Feeney group arises. A cessation time will occur because there is no continuation of employment with the Coopers Group.

When is the roll-over available?

3.26 The roll-over is available to a taxpayer who has acquired shares or rights under an ESS but has deferred being taxed on the discount, and who faces a taxing point solely as a result of a restructure of the entity in which the taxpayer is employed.

3.27 Not all corporate restructures give rise to a taxing point. If there is no disposal of shares or change in the company in which the employees are employed then no cessation time will arise.

3.28 If no cessation time arises as a result of a restructure, then the roll-over does not apply. These roll-over provisions will apply only to those taxpayers for whom a cessation time under sections 139CA and 139CB would arise were it not for this measure.

3.29 The roll-over will also apply to shares acquired by the taxpayer as a result of exercising a right acquired under an ESS where the shares contain restrictions that prevent the taxpayer from disposing of the share or impose a condition that could result in the taxpayer forfeiting the ownership of the share. The law currently provides that the cessation time for such shares occurs at the time when the last restriction or condition ceases to have effect. This amendment ensures that shares acquired in this way are held to be acquired under an ESS for the purposes of the application of the roll-over.

3.30 Where the exercise of a right results in the issue of restricted shares, a cessation time will arise for these shares at the time of a restructure. Where replacement shares are issued in respect of these shares following the restructure, this amendment ensures that the roll-over relief will apply. The roll-over relief will not apply to unrestricted shares that result from the exercise of a right, as a cessation time will already have occurred prior to the restructure. [Schedule 3, items 5 to 7]

Example 3.7

Scott holds 100 rights, acquired at a discount, in Nether Pty Ltd under an ESS, which he exercised and, as a result, he holds shares with restrictions. Following a takeover of Nether Pty Ltd by Ball Pty Ltd, Scott's shares are replaced by shares in Ball Pty Ltd - his new employer. The replacement shares Scott is issued are deemed to be a continuation of the old shares for the purposes of the roll-over relief.

3.31 However, the law also provides that a cessation time will occur either when the last restriction or condition ceases to have effect, or when the 10 year period starting from when the taxpayer acquired the right expires, whichever event occurs first.

3.32 The roll-over is also available where, following a restructure, shares or rights with restrictions are replaced by shares or rights with or without restrictions. In that case, a taxing point arises when the maximum 10 year deferral period from the date when the original shares were acquired in the old company, expires. The cessation time for the replacement shares or rights is a maximum of up to 10 years after acquisition of the original shares or rights.

3.33 The roll-over does not apply to shares or rights acquired under an ESS that are not qualifying shares for the purposes of Division 13A of the ITAA 1936. The roll-over also does not apply to shares or rights acquired under an ESS where the employee has elected to bring the discount to tax in the year that the shares or rights were acquired.

3.34 The roll-over does not apply to cessation times triggered by actions other than corporate restructures, such as a voluntary disposal of shares or rights. This includes situations where a partial takeover offer is made and the employee voluntarily accepts the offer and disposes of their shares or rights.

What kind of corporate restructure can give rise to the roll-over?

Takeover or merger

3.35 In a takeover (or merger) scenario, an employee of the old company becomes an employee of the new or restructured company and the employee's shares or rights in the former company are replaced by shares or rights in the new company. Roll-over relief in a takeover scenario will only apply where 100 per cent of the old company's shares and rights are acquired by the new company. In the case of a partial takeover, the taxpayer has a choice in whether or not to dispose of their shares or rights and their employment in the old company is not severed. In this case, a cessation time may arise but roll-over is not available or appropriate. [Schedule 3, item 14, section 139GCB; item 11, section 139DQ]

Example AA: Takeover or merger

Using the scenario in Example AA above, as all the shares in Company A were subsequently bought by Company B and Fred's shares in Company A were replaced by shares in Company B (his new employer) as a result of the takeover, and assuming that the other qualifying conditions are met, Fred can roll-over his taxing point for a maximum period of 10 years ending in 2009.

Example 3.8

Ron acquired shares at a discount under an ESS in the year 2000 in Q Holdings Pty Ltd and deferred his tax liability on the discount. Subsequently 51 per cent of the shares in Q Holdings Pty Ltd are bought by P Holdings Pty Ltd. Ron continues to hold his shares in Q Holdings Pty Ltd and is employed by Q Holdings Pty Ltd so no cessation time arises and no roll-over is necessary.

Example 3.9

Evan acquired 800 shares at a discount under an ESS in Rid Pty Ltd and deferred his tax liability on the discount. Subsequently 51 per cent of the shares in Rid Pty Ltd are bought by CCF Pty Ltd. Evan decides to sell 300 shares and is employed by Rid Pty Ltd. A cessation time arises for these 300 shares as the disposal of the shares was not the result of a corporate restructure for the purposes of the roll-over relief. The roll-over is not available because it is only a partial takeover.

Other corporate restructures

3.36 This measure also applies to any other change in ownership, or change in the structure of ownership, of a company or group of companies where some or all of the shares or rights in one company or group of companies are replaced by shares or rights in another company or group of companies. This can include demergers. [Schedule 3, item 14, section 139GCC; item 11, section 139DQ]

3.37 The amendments to Division 13A only apply if the employee's ownership of shares or rights in the old company ceases as a result of a takeover or restructure.

3.38 Generally, roll-over relief is not available in a demerger because none of the shares or rights in the old company cease to be owned by the employee. After the demerger, the employee will still hold all these shares or rights plus additional shares or rights acquired in the demerged entity. Accordingly, roll-over relief is not available.

3.39 However, roll-over relief may apply to a demerger where the employee is issued matching shares or rights in the demerged entity to replace some of their shares or rights in the old company, provided the employee is also employed by the demerged entity after the demerger.

Example 3.10

Jay is employed by Long Pty Ltd, and holds 100 shares in Long Pty Ltd. In 2008, the group demerges so that Egg Pty Ltd is no longer a subsidiary of Long Pty Ltd. Jay is employed in Egg Pty Ltd after the restructure. As part of the restructure, 20 shares of Jay's 100 shares in Long Pty Ltd are cancelled and replaced by 200 shares in Egg Pty Ltd. As Jay is no longer employed by Long Pty Ltd, an income taxing point is triggered for the 80 shares held in Long Pty Ltd. Assuming that the replacement shares are reasonably matching, roll-over relief will be available because Jay has received replacement shares in Egg Pty Ltd as a result of the restructure. These replacement shares are deemed to be a continuation of the shares in Long Pty Ltd and his employment with Egg Pty Ltd is deemed a continuation of employment with Long Pty Ltd.

Other conditions that must be met for roll-over relief to apply

3.40 The roll-over will be available for matching shares or rights to the extent that the matching shares or rights are held in the entity in which the taxpayer is employed following the corporate restructure and the matching shares and rights in the restructured entity meet the qualifying conditions (section 139DR). Where the restructure does not result in the employee being employed by a new entity, roll-over relief is not available. [Schedule 3, item 14, sections 139GCB and 139GCC; item 11, section 139DQ]

3.41 An employing entity can include:

•

the restructured company;

•

a holding company of the restructured company;

•

a subsidiary of the restructured company or a subsidiary of the holding company of a restructured company.

[Schedule 3, item 11, subsection 139DR(2)]

3.42 The other conditions are that:

•

immediately before the takeover or restructure, the taxpayer held shares or rights in the old company under an ESS;

•

the matching shares are ordinary shares and matching rights are rights to acquire ordinary shares; and

•

at the time the taxpayer acquires the matching shares or rights, the taxpayer does not hold a legal or beneficial interest in more than 5 per cent of the shares of the new company and is not in a position to cast (or control the casting of) more than 5 per cent of the maximum number of votes that may be cast at a general meeting of the new company.

[Schedule 3, item 11, section 139DR]

3.43 In relation to the third dot point in paragraph 3.42, if the employee's total shares or rights in a restructured entity, consisting of shares or rights acquired privately and as part of an ESS, exceeds 5 per cent of the shares in the new company, roll-over relief will not apply.

3.44 A further condition to access the deferral of an income taxing point under Division 13A is that, at the time the shares were acquired, at least 75 per cent of permanent employees of the employer were (or at some earlier time had been) entitled to acquire shares or rights under the scheme. This condition ensures that participation in the ESS is offered widely to the employees. This condition is not applicable to a corporate restructure, where an offer is made to all shareholders, not as part of an offer to employees to participate in an ESS. This condition has therefore not been attached to the conditions that must be met to access the roll-over.

3.45 These conditions mirror those in section 139CD and ensure that the intention of Division 13A of encouraging participation in an ESS as a way of aligning the interests of employees and employers is maintained.

3.46 The roll-over is only available to the extent that shares or rights are held in the entity that employs the taxpayer following the corporate restructure. Shares or rights that the taxpayer receives as part of the restructure, in a company other than the company in which the taxpayer is employed, are not subject to the roll-over. This ensures that the employer-employee relationship that underpins an ESS continues. [Schedule 3, item 11, section 139DQ; item 14, sections 139GCB and 139GCC]

3.47 In a restructure other than a takeover or merger, the employee may be employed in one of the companies involved in the restructure and have shares or rights in that company and in other companies or group of companies (e.g. a subsidiary). The roll-over will only apply to the shares or rights in the old company to which the matching shares or rights relate, to the extent that the matching shares are issued by the new entity that employs the employee following the restructure. (See Example 3.10.) [Schedule 3, item 11, section 139DQ; item 14, section 139GCC]

Apportionment of consideration paid for the original shares and rights following a corporate restructure

3.48 Any consideration the taxpayer paid for the original shares or rights should be spread among the matching shares or rights in proportion to their market values immediately after the corporate restructure. This allows the calculation of the discount that is to be brought to tax to be calculated for those shares that will not be subject to the roll-over and those that will. [Schedule 3, item 11, section 139DS; item 12]

Example 3.11

Ian acquired 1,000 shares at a discount under an ESS in Acme Inc for which he paid $1 per share and the shares have a market value of $2 per share immediately before a corporate restructure. After the restructure, Acme Inc shares are worth $1.60 only and Ian also receives 400 shares in a subsidiary of the restructured entity valued at $1 per share. As the value of Acme Inc shares has fallen, in calculating the value of the discount to be brought to tax, the consideration Ian paid for the shares should also fall by a proportionate value, that is $0.80 a share. Hence the total consideration paid for Acme Inc shares is $800 (= $0.80 * 1,000 shares).

The total consideration attributable to the 400 new shares in the subsidiary is $200 or $0.50 per share ($200/400 = $0.50). The $0.50 would be relevant in calculating the discount to be brought to tax for the additional shares Ian received as part of the restructure.

3.49 Similarly, where an employee acquired different issues of shares or rights at different prices, the calculation of the discount that is to be brought to tax should reflect an average of the different prices paid in acquiring the different issues of shares or rights.

Example 3.12

Heather acquired 500 ESS shares in 1995 at a discount of $3 per share and 500 shares in the year 2000 at a discount of $5 per share. The consideration paid for both share issues total $4,000. The company that employs Heather is taken over by Rip Sol Pty Ltd. As a result of the restructure, Heather received 1,000 replacement shares. In 2005, a cessation time arises for the shares she acquired in 1995. At a market value of $8 per share, Heather would be required to bring a discount of $2,000 to tax ($8 less the average price paid for each share of $4 per share * 500 shares). In the year 2010, a cessation time will arise for the shares acquired in 2000.

Synchronisation between Division 13A and Subdivision 130-D

3.50 Subdivision 130-D of the ITAA 1997 is concerned with the interaction between the employee share provisions and the capital gains tax (CGT) rules. At present, Subdivision 130-D is concerned only with the CGT consequences of an employee acquiring shares or rights under an ESS at a discount. The amendments will extend the scope of Subdivision 130-D (and in particular that of subsection 130-80(1)) to apply also to new or replacement shares or rights acquired as part of a corporate restructure. [Schedule 3, item 17]

3.51 The amendments also recognise that there can be a corporate restructure resulting in a Division 13A roll-over without resulting in a CGT roll-over. The amendments provide that any capital gain or loss from the restructure is disregarded. This ensures that there is no double counting on eventual disposal of the new or replacement shares or rights. [Schedule 3, item 18]

3.52 Subject to certain conditions, section 130-90 deals with the circumstances where a capital gain or loss made by the trustee when the employee becomes absolutely entitled to a share or right held in the trust is disregarded. This amendment will extend the concession under subsection 130-90 to disregard a capital gain or loss made by the trustee with respect to new or replacement shares or rights acquired as part of a corporate restructure. [Schedule 3, items 20 and 21]

3.53 For the purposes of roll-over relief, an amendment to subsection 139C(4) treats shares acquired from the exercise of rights as being acquired under an ESS. Where a corporate restructure occurs and these shares are replaced with shares in the new company, the replacement shares will be treated as a continuation of the shares in the old company and are taken to be acquired under an ESS. As a result of the interaction of the amendments to subsection 139C(4) with the current definition of 'employee share scheme' in section 995-1 of the ITAA 1997, the replacement shares will be treated as being acquired under an ESS as defined. Accordingly, it is not necessary to amend the CGT provisions to treat the shares acquired from the exercise of rights as being acquired under an ESS. [Schedule 3, item 17]

Application and transitional provisions

3.54 The changes made by Schedule 3 apply to shares or rights that have been acquired as a result of corporate restructures that happen on or after 1 July 2004. [Schedule 3, item 22]

Consequential amendments

3.55 An amendment is required to substitute the reference to the Corporations Act 2001 in place of the 'Corporations Law' in section 139GC. [Schedule 3, item 13]

3.56 This amendment is added to the table of contents in section 139A of the ITAA 1936. [Schedule 3, item 1]

3.57 This amendment is included in sections 139CA, 139CB and 139CC of the ITAA 1936. [Schedule 3, items 4 to 8]

3.58 Section 139C(4) of the ITAA 1936 is modified by inclusion of the amendment. [Schedule 3, item 2]

3.59 The meaning of '100% takeover', subsidiary and restructure in the amendment are included in the index of definitions in section 139GH of the ITAA 1936. [Schedule 3, items 15 and 16]

3.60 Definitions of 'restructure' and '100% takeover' are added to Division G of the ITAA 1936. [Schedule 3, item 14, sections 139GCB and 139GCC]

3.61 Section 139DD allows an adjustment to a tax assessment and the benefit of a tax refund where tax has been paid on ESS rights, but the rights subsequently lapse without exercise. This amendment ensures that section 139DD will apply to replacement rights that meet the requirements of section 139DQ. [Schedule 3, items 9 and 10]

REGULATION IMPACT STATEMENT

Background

3.62 In March 1999, the Minister for Employment, Workplace Relations and Small Business, the Hon Peter Reith MP, requested that the House of Representatives Standing Committee on Employment, Education and Workplace Relations inquire into and report on: 'The extent to which employee share ownership schemes have been established in Australian enterprises and the resultant effects on workplace relations and productivity in enterprises and the economy.'

3.63 As a result of this inquiry, the Nelson report was released by the Committee in October 2000, supporting increased access to employee share ownership plans. The report made 45 recommendations that focused on ways in which ESS could be taken up by eligible workers and adopted by businesses, irrespective of their size or type.

3.64 Under the current taxation law, an employee may defer an income taxing point on a discount received as part of an ESS for up to 10 years. However, a taxing point will arise before 10 years if a cessation event occurs. A change of employment constitutes a cessation point and a corporate restructure can trigger a change in employment.

Policy objective

3.65 The Government's objective is to improve the attractiveness to employees of ESS participation in order to support the development of ESS as a means to further align the interests of employees and employers. The Government seeks to achieve this by ensuring that certain taxation concessions currently available to holders of ESS will continue to benefit employees in the event of a corporate restructure.

Implementation Options

3.66 In response to the Nelson Report, the Government announced that, from 1 July 2004, employees who have deferred their ESS income tax liability would be able to roll-over their income taxing point in the event of a corporate restructure. This will provide roll-over for taxation liabilities that arise as a result of an ESS cessation time that occurs when an employee experiences a change of employer owing to a corporate restructure.

3.67 Under this option, roll-over relief would be provided where the employee's employment and the ESS in which they participate remain substantially the same following the restructure. Employees would need to remain employed by the restructured entity and the conditions that apply to the ESS shares that they hold in the new entity will need to satisfy the Division 13A qualifying conditions.

3.68 There are no other implementation options that are consistent with both the policy intent and integrity of the Division 13A concessions.

Assessment of impacts

Impact group identification

3.69 The groups that would be affected by this measure are employees who participate in ESS and have deferred the income tax liability that arises as a result of their ESS benefits and who may face a cessation time as a result of corporate restructure.

3.70 It is estimated that a small proportion of the estimated 65,000 taxpayers who have deferred their ESS liability may be affected. This depends on the extent and nature of corporate restructure activity in any given year.

Analysis of costs

Compliance costs

3.71 The compliance costs associated with this measure are expected to be minimal as the measure provides a potential concession for employers and employees and does not impose any additional compliance requirements on employers or employees.

3.72 However, some minimal costs may arise for employers as they may wish to provide information to employees regarding the tax implications on their ESS holdings in the event of a corporate restructure or seek advice on whether the relief is available. Employees may also incur some costs in confirming the tax liability of their ESS holdings in the event of a corporate restructure.

3.73 Costs for employees and employers would include seeking advice on whether or not relief is available for participants. They could seek this advice from a variety of sources including tax agents and the Australian Taxation Office (ATO).

Administration costs

3.74 The ATO would need to make changes to material prepared for taxpayers, tax practitioners and industry for education about the taxation arrangements that apply to ESS. ATO staff would also need to provide advice to taxpayers on the new arrangements, including as part of Private Binding Rulings.

Revenue costs

3.75 The cost to revenue of this measure is unquantifiable but expected to be small.

Analysis of benefits

3.76 As a result of the proposal, individuals who would otherwise face an ESS income tax liability arising from a corporate restructure may be able to defer such a liability. As a result these individuals may be encouraged to participate in schemes without concern that a tax liability will arise as a result of a restructure.

3.77 In addition, this will address the potential inequity whereby other shareholders may be eligible for capital gains tax roll-over in the event of a restructure but ESS shareholders may face an income tax liability.

Consultation

3.78 The House of Representatives Standing Committee on Employment, Education and Workplace Relations had consulted extensively on issues relating to ESS. They held public hearings across Australia and received more than 50 submissions from Government, unions, multi-national organisations, industry associations and Australian companies of all sizes.

3.79 Draft legislation and the explanatory memorandum to implement this measure were released on a confidential basis to CPA Australia, the Institute of Chartered Accountants in Australia, Taxpayers Australia, Australian Employee Ownership Association, the Australian Ownership Group, Ernst and Young, Pricewaterhouse Coopers and the National Australia Bank.

3.80 Stakeholders generally supported the proposed measure and considered it workable. Suggested changes to the legislation were minor and related mainly to providing more clarity around the application of the roll-over concession in different corporate restructure scenarios. These changes have been incorporated in the current legislation. In addition, various elements of the proposal (e.g. how matching shares or rights are determined for the purposes of the roll-over relief) were simplified following consultation with industry representatives.

Conclusion

3.81 The implementation option discussed above is the only one that achieves the outcome of providing relief from an ESS taxation liability without compromising the policy intent and integrity of the ESS tax concessions.

3.82 Compliance costs are considered to be relatively small, mainly relating to the information requirements of employers and employees regarding whether relief would be available to them in their individual circumstances.

3.83 Benefits of allowing roll-over for ESS tax liabilities include encouragement to participate in schemes without concerns that a corporate restructure may trigger an unexpected tax liability. The roll-over also provides equity of treatment between other shareholders.

3.84 The Treasury and the ATO will monitor this taxation measure, as part of the whole taxation system, on an ongoing basis.