WHAT DO I NEED TO KNOW IF WE HAVE AUSTRALIAN EMPLOYEES PARTICIPATING IN US STOCK, OPTION OR RSU PLANS?
Australia has highly regulated rules in relation to employee equity incentive plans (Employee Plans). These rules apply where Australian employees participate in US stock, option or RSU plans. A failure to adapt to these rules can have adverse consequences for employees and employers and can ultimately undermine the intended purpose of such a plan.
This paper highlights some of the legal and tax issues that US parent and Australian subsidiary companies need to consider when Australian resident employees participate in US-based Employee Plans.
WHAT ARE THE SECURITIES LAW ISSUES?
Disclosure document needed? A company wishing to issue shares and/or options over unissued shares to Australian resident employees under an Employee Plan must issue a Disclosure Document (eg a prospectus) with the offer, unless an exemption or relief applies.
What exemptions apply? Broadly speaking, a company is exempted from issuing a Disclosure Document if:
- The grant will be made to fewer than 20 people in 12 months; or
- The grant will be made only to executive officers of the company or sophisticated/professional investors.
What relief is available? Relief from the requirement to issue a Disclosure Document arises if:
- The relevant securities have been quoted on an approved exchange (eg New York Stock Exchange or NASDAQ) for the 12 months preceding the offer without suspension for more than a total of two trading days during that period; and
- The number of shares that may be received on exercise of an option or vesting of RSUs does not exceed 5% of the total number of issued and outstanding shares of the company at the time of the offer; and
- The offer is only extended to:
- Full- or part-time employees of the company or an associated body corporate
- Casual employees and contractors (in certain circumstances); or
- Directors of the company or an associated body corporate; and
- If the offer relates to options, the grant of the option must not require more than nominal consideration (although the exercise price may be set higher).
All offers made to employees under an Employee Plan must satisfy certain other procedural requirements and include certain statements in order to obtain the relief.
Any Australian financial services requirements? Normally the offering company would be required to obtain an Australian Financial Services (AFS) licence in order to make the offer, to deal in or to undertake certain other activities in connection with the shares as options being offered.
However, relief may be available from this requirement if the Employee Plan is exempt from the requirement to provide a Disclosure Document (as outlined above). This relief will only apply for the circulation or explanation of the terms and conditions of the Employee Plan and if only general advice is given. A warning must be given that any advice provided is general advice only and each employee should consider obtaining their own financial product advice.
Further, if the intention is to offer options over issued shares, phantom shares or RSUs that can be settled in cash, it should be noted that Australian law treats these products as derivatives. In such case, the exemptions and relief noted above do not apply and a Disclosure Document and an AFS licence are likely required unless specific relief (which is not guaranteed and may contain onerous conditions) is obtained.
HOW DO THE AUSTRALIAN TAX RULES APPLY?
Tax liabilities and obligations: The Australian tax rules include a specific taxing regime in relation to employee stock plans. Employees are responsible for tax arising from Employee Plans and employers are not required to withhold tax amounts from employees (except in very limited circumstances). This tax is included in the individual's income tax return as assessable income (and not as a capital gain). The Australian tax rules will also apply to an expatriate who is participating in an Employee Plan when they become an Australian tax resident.
Although not liable for the tax, employers are required to
prepare calculations and file an annual report identifying each
participating employee, the number of interests they received and
the discount provided. See:
Calculation of benefit: Employees are taxed in relation to any "discount" they receive. A discount is generally the difference between what they pay and the market value of the interest acquired. Options or rights that are "out of the money" when granted can still have a positive market value, based on the value of the underlying shares and the time period during which they can be exercised.
Timing: The default position is that employees receiving restricted shares, RSUs or options under an Employee Plan will be taxed in the year of grant or receipt. This creates issues for employees, who therefore are taxed "up front" before they can realise value to settle or offset the tax liability.
However, an employee can defer the timing of Australian tax if there is a real risk of forfeiture with respect to the shares, options or RSUs acquired (and certain other conditions are met). The test is based on whether a reasonable person would consider there is a real risk the employee would lose the interest, or never receive it, other than by selling or exercising it, or through the interest losing all of its market value. A real risk of forfeiture can exist where vesting is dependent on a minimum term of employment or the satisfaction of reasonable performance hurdles.
Many US stock plans require an employee to be employed for a minimum period. Assuming that other requirements are satisfied, the requirement to remain employed will enable a plan to satisfy the requirement of a "real risk of forfeiture". In such case, the taxing point is deferred, generally to the earliest of:
- When there is no longer a real risk of forfeiture, and no genuine restriction on disposing or exercising the relevant share/option
- Cessation of employment; or
- Seven years after acquisition.
Plans do not need formal approval by the Australian Tax Office in order to obtain this deferral, rather the individual reports any tax due on a self-assessment basis.
Capital Gains Tax (CGT): In addition to the above, Australian tax rules also impose CGT on a subsequent disposal of the interest. Typically this capital gain or loss will be net of the amount paid to acquire the interest and any discount which has been previously taxed.
Other Australian tax issues: Other tax issues can arise for employees of Australian subsidiaries participating in Employee Plans. For example, where an Australian subsidiary pays an amount to its US parent in connection with the participation of its Australian employees in an Employee Plan, issues arise regarding the deductibility and timing of deductibility of the payment and transfer pricing.
EMPLOYMENT LAW ISSUES
It is important to remember that Employee Plans are also subject to all the general employment law considerations which apply to any employment contract. Decisions with regard to the award and operation of any benefit under Employee Plans must not contravene any anti-discrimination laws. In addition, any non-competition or other restraints within the terms of a particular Employee Plan will need to be drafted with the usual care to ensure the intended restraints are as enforceable as possible.
It is particularly important to give careful consideration to the operation of benefits under an Employee Plan when the employment contract terminates. Employers should also expect that any claim for damages following an alleged breach of an employment contract will also focus on the loss of actual or potential benefits under any Employee Plan.
The above comments provide a high-level overview of the Australian tax and legal landscape relating to Employee Plans. In addition, there are significant employment law and accounting implications of operating an Employee Plan in Australia. A failure to comply with these rules can upset the effectiveness of a plan for an employee, or create significant compliance breaches for an Australian subsidiary or for the US parent company.
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