Australian Tax Treatment of Employee Share Schemes for Non-Residents and Expats

The Employee Share Scheme (ESS) tax treatment for expats and non-residents is often an area of confusion. The article below outlines the Australian ESS rules and broadly how they apply to Australian expats and non-residents of Australia.

Employee Share Schemes

The concept of an ESS is defined as a scheme under which “ESS interests” in a company are provided to employees or associates of employees in relation to the employee’s employment.  ESS interests can either be by way of shares or options in the company.

ESS Interests

The assessable worth of the ESS stake equates to the markdown obtained in comparison to the market valuation at the moment of taxation. The markdown represents the gap between the market worth of the stock (or choice) and the payment made by the worker upon acquisition or utilization.

Upfront or Default Taxing Point

In a general sense, the standard taxation stance dictates that a person obtaining an ESS (Employee Share Scheme) interest, with a lower valuation than the prevailing market rate, will be subject to taxation on the discounted amount assessed during the initial issuance of shares or options.

In cases where upfront taxation is applicable, the taxpayer includes the discount’s value in their assessable income when they receive the shares/options.

Deferred Taxing Point

However, where certain conditions are satisfied, a deferral of tax may be available to a later income year where the shares or options are subject to a “real risk of forfeiture”.

If the shares or options meet the criteria for deferred taxation, the taxpayer won’t include an amount in their assessable income when acquiring the ESS interest. Instead, they’ll defer it until the “deferred taxing point,” which essentially represents the gain achieved on the ESS interest up to that deferred taxing point.

When the taxing point of the ESS interest is postponed, the recipient will be considered to have acquired the ESS interest at its current market value for Australian CGT purposes. In other words, any future increases in the value of the shares at this point will be subject to taxation under the CGT provisions. The 50% CGT may be available going forward).

ESS Start-Up Concession

The ESS start-up concession is available to employees of certain small start-up companies who acquire shares or options in the employer on or after 1 July 2015.

In a general sense, when the concession is applicable, one can benefit from an exemption on income tax for the discount received on shares, along with the opportunity to delay the payment of income tax for the discount received on specific options. Further, the ultimate gain in respect of the sale of the shares/exercising the options will be taxable under the CGT rules with the 50% CGT available where the shares or options held for greater than 12 months and by an Australian resident taxpayer. In a general sense, the cost basis for CGT will equate to the price paid for exercising the options.

Importantly, you must satisfy several strict conditions to access the start-up ESS concessions.

International Tax Issues for ESS Interests

Where Australian expats or foreign resident taxpayers receive ESS interests, it gives rise to further complexities.

The inclusion of an ESS interest in a taxpayer’s assessable income, as per the ESS regulations, hinges on the taxpayer’s residential status and the origin of the revenue.

Australian resident taxpayers are subject to Australian income tax on discounts they receive under ESS interests regardless of whether they received it in relation to employment in Australia or outside Australia. Australia’s double tax treaties and the temporary residents rules might affect this.

Non-resident resident taxpayers are only subject to Australian income tax on discounts they receive under an ESS to the extent that the discount relates to employment in Australia- that is, the employment has an Australian source. Whether or not the employment has an Australian source will be a question of fact based on the circumstances of the taxpayer’s employment. Hence, if a non-resident’s ESS investments become fully vested before they become tax residents in Australia, there ought to be no tax consequences related to Australian income. However, note that there will be Australian CGT implications relation to the shares going forward.

More about International Tax Issues for ESS Interests

When an Australian resident taxpayer moves abroad, CGT event I1 should not trigger any capital gain (or loss) at the time of departure from Australia, provided that the deferred taxing point for the ESS has not occurred and the taxpayer has not included any amount in their assessable income.

In cases where it’s applicable, it’s important to take into account the relevant Double Tax Treaty when an Australian resident taxpayer moves abroad and later sells their shares. To illustrate, consider the Australia and US DTA, which specifies that any potential Australian CGT (Capital Gains Tax) triggered by selling shares and choosing to defer the Australian CGT ‘exit charge’ might only be subject to taxation in the United States if the sale occurs while the taxpayer is residing in the United States.

Temporary residents

For temporary residents of Australia, Capital gains (and losses) realised on ESS interests acquired under an ESS are eligible for the temporary residents CGT exemption in a similar manner as other CGT assets provided the income taxing point has occurred under the income tax provisions.

Please do not hesitate to get in contact with us if you have any questions in relation to your ESS and we would be happy to assist you further.