New Developments in Australian Tax and Securities Laws for Equity Awards

On February 10, 2022, the Australian Parliament passed legislation which eliminates termination of employment as a taxable event for Employee Share Scheme (ESS) awards that qualify for tax deferral (i.e., stock options, restricted stock, restricted stock units (RSUs), or an employee stock purchase plan offered to employees).  

ESS awards that qualify for tax deferral are subject to taxation when an “ESS Deferred Taxing Point” occurs.  Currently, an employee’s termination of employment is one of the possible ESS Deferred Taxing Points if the employee does not forfeit their equity awards at the time of the termination.  If an ESS Deferred Taxing Point occurs at termination of employment, this can pose tax issues for the employee because tax may become due on the award before the award itself generates economic income for the employee.  Furthermore, the issuing company must report the taxable amount at termination on the company’s annual ESS statements to the employee and the Australian Tax Office.

From July 1, 2022 termination of employment will no longer be an ESS Deferred Taxing Point. Accordingly, an ESS award that qualifies for tax deferral generally would become subject to tax at the earliest of the following points (even if the employee had already terminated employment without forfeiting their award):

• for share awards (i.e., restricted shares) - when there is no risk of forfeiture and no restrictions on disposal of the shares;
  

• for rights to acquire shares (i.e., RSUs or options) - when the employee exercises the option or the RSU vests and there is no risk of forfeiting the resulting shares nor any restriction on disposal of the shares; and
  

• 15 years from the grant date.

Please note that this new legislation does not impact the requirement that if the shares are sold within 30 days after the relevant times in the first two bullet points, the taxable event will be moved to the date of sale.  There is also no change to the current annual ESS tax reporting requirements (although of course, termination of employment will no longer be a reportable event).

The new legislation will become effective for taxable events occurring on or after July 1, 2022 (i.e., the beginning of the new Australian tax year), even if the awards had been granted prior to July 1, 2022. Until then, companies still need to treat termination of employment as a taxable event if awards are not forfeited upon termination.

Securities

Securities law reforms aimed at making it easier for businesses to implement employee share schemes have been adopted and will become effective on October 1, 2022.  Originally announced last year, the reforms change the way in which ESS offers are regulated.  The new law is expected to replace the current exemptions from prospectus and licensing requirements contained in ASIC Class Orders 14/1000 (for publicly-traded companies) and 14/1001 (for privately-held companies). 

As background, companies making ESS offers in Australia must prepare a prospectus (or similar document) and hold an Australian financial services licence (AFSL) for the offer, unless an exemption applies.  The conditions in Class Order 14/1000 are often easy to satisfy and many public companies have relied on Class Order 14/1000 to operate their equity plans in Australia.  On the other hand, Class Order 14/1001 contains a number of restrictions which have made it more difficult for privately-held companies to use.  Certain statutory exemptions (such as the senior manager and the 20-in-12 exemptions) are separately available for stock options, but are typically only helpful to privately-held companies with relatively small populations in Australia.  Unfortunately, these statutory exemptions also do not apply to RSUs, making it challenging for many privately-held companies to grant equity awards in Australia.

The new securities law reforms aim to ease these difficulties.  While these reforms offer helpful changes in some respects, they do not eliminate all restrictions on companies seeking to offer equity awards in Australia.  Broadly speaking, the key changes to the prospectus and licensing exemption requirements under the new law will be as follows:

• Distinguishing between ESS offers that do and do not require monetary payment:  ESS offers that do not require monetary payment either at grant or at issuance of shares (i.e., RSUs) can be made without an AFSL and without any prescribed form of disclosure, as long as the offers state that they are being made under the new rules.  This applies to both public and private companies.

• • In contrast, ESS offers which require monetary payment at grant or at issuance of shares (e.g., stock options or shares under a share purchase plan) must be accompanied by an “ESS offer document” and must comply with an issue cap (generally 5% for a listed company and 20% for an unlisted company).  Again, this applies to both public and private companies.
  • For public companies, the ESS offer document requires only certain basic disclosure.  For private companies, however, the ESS offer document must contain additional disclosures which private companies may find undesirable.  For example, private companies need to provide employees with copies of certain company financials and share valuation information, either at grant in conjunction with the ESS offer document (if the awards have a grant price) or otherwise no later than 14 days before the awards vest or are exercised (if the awards have an exercise price).

• Raising the monetary cap for ESS offers made by unlisted companies:  ESS offers made by private companies that require monetary payment will need to comply with a “monetary cap,” which is generally AUD 30,000 per employee in any 12-month period (which may be increased in limited circumstances).  The “monetary cap” refers to the amount of money payable by a participant for the shares in any 12-month period.  Nevertheless, this is an improvement on Class Order 14/1001, which had imposed a cap of AUD 5,000 on the value of awards per employee per year.

• Removing the 3-month listing requirement:  Companies no longer need to be listed on a major stock exchange for 3 months in order to be treated as “listed” for the purposes of the new rules.  This is an improvement on Class Order 14/1000, which was problematic for some newly-public companies because it was available only to companies that had been listed (without interruption) for at least 3 months before the ESS offer was made.

Notably, the new rules do not alter the existing statutory exemptions (i.e., the senior manager and the 20-in-12 exemptions noted above).  These exemptions will remain available for offers that are not covered by the new rules.

Finally, the new rules contain an elaborate liability regime which is intended to protect employees, but may be problematic for some companies. For example, offers requiring monetary payment now must include terms which specifically make issuing companies, their directors and certain third parties named in the offer documents (which could potentially cover an auditor or independent valuation expert) responsible for correcting any misleading statement given to employees, and which make them liable to employees for any misleading statements (subject to certain permitted defenses).

These provisions are supplemented by a statutory liability regime under which a company or its directors can be criminally liable for materially misleading statements or omissions in an ESS offer document (or any accompanying documents).  Furthermore, the Australian Securities & Investments Commission can issue “stop orders” (i.e., orders that no ESS offers be made) if it is satisfied that an ESS offer document (or any accompanying information) does not comply with the applicable requirements, or is not worded and presented in a clear, concise and effective manner.

Conclusion - Why Are These Changes Significant?

The changes to Australian tax rules taking effect on July 1, 2022 are significant because they eliminate a requirement (tax upon termination of employment) which was potentially burdensome both to companies and their employees.  Companies offering equity awards in Australia no longer need to treat the termination of employment as a reportable tax event and employees no longer face the risk of owing taxes on equity awards at termination before receiving any economic benefit from the awards.  This development is particularly impactful for companies granting options with lengthy post-termination exercise periods, or RSUs which may continue to vest following an employee’s termination of employment.

Meanwhile, the changes to Australian securities laws taking effect on October 1, 2022 offer significant improvements in some respects.  The changes are especially noteworthy for private companies.  For example, private companies now may grant RSUs (or other awards which do not require any monetary payment) without any significant restrictions, which is a substantial departure from the current restrictions under Class Order 14/1001.  Furthermore, private companies launching an IPO no longer need to wait 3 months following the IPO to offer awards in Australia.  For public companies, the new law is less impactful but eliminates some of the disclosure requirements which had applied under Class Order 14/1000. 

However, companies still should be mindful of the disclosure requirements which continue to apply under the new rules for offers which require monetary payment.  Private companies in particular may be discouraged from offering such awards due to the potentially sensitive nature of the information which must be disclosed under the new rules, unless these companies are able to rely on one of the statutory exemptions which remain in place.  Lastly, companies offering equity awards in Australia will need to carefully consider the enhanced liability regime under the new rules before proceeding