A taxation policy designed to close a loophole is penalising technology start-up businesses that want to offer stock options to employees to compete on the world stage.
Australian software developer Atlassian bore major expenses to offer stock options to about 500 employees, with the bet poised to pay off later this year when the company is expected to list on the US tech stock index NASDAQ.
Australian e-commerce software maker Bigcommerce today announced it has issued stock to its employees at a great cost to the company.
"From day one, it was obvious we needed an ESOP – timing was the only question," Bigcommerce founders Mitchell Harper and Eddie Machaalani said in an opinion piece running in IT Pro today.
"This July, every one of our team members (all 170 of them) in the US and Australia became a stock owner of Bigcommerce. It was one of our proudest moments as founders."
Other small companies and employees have not been so lucky. Niki Scevak, founder of business accelerator Starmate said there are unnecessary hurdles for start-ups wanting to offer Employee Share Option Plans (ESOPs).
"People should pay tax when they get the money from the sale. In Australia you pay tax upfront on a sketchy, best-effort valuation of the equity. It's about paying tax when you get money, rather than paying tax before you get money," Scevak said.
ESOP offers discounted shares to employees in the hope of a financial benefit when the company's share price rises. The instrument incentivises hard work and long tenure.
For cash-strapped, unlisted companies stock options complement wages,secure highly-skilled workers and allow them to compete with larger salaries offered by corporates. They are a cornerstone of the Silicon Valley entrepreneurial culture, having underpinned the growth of Google, Apple, Microsoft, and Facebook.
In the US the tax is paid when the option vests. In Australia, companies must pay tax when the stock option is issued or acquired by the employee.
This is prohibitive for those generating small revenues, according to Atlassian vice president of human resources Joris Luijke, whose company offer options to every employee including the receptionist.
"As an example, for a receptionist, to [get] $20,000 worth of options, you may have to put on the table $4,000," according to Luijke.
Atlassian afforded the expense but Luijke said many others can't.
"To do that across the organisation will cost you too much. That's why so many [companies] don't do it. It's a really big decision for us because we want people to feel that as Atlassian grows, they grow as well, and feel the direct result."
The offending piece of legislation is Division 83A of the Income Tax Assessment Act 1997, according to Remuneration Strategies Group director Gary Fitton. Div83A stipulates employees be taxed when the options are issued.
The tax can be deferred until vesting, Fitton said, but very limited conditions imposed by the ATO and Treasury prevent start-ups from qualifying for exemptions.
"Div83A is messy, restrictive, and a disincentive to offering stock options," he said.
The bureaucrats have imposed their idea of how an option should work, not what's best for a start-up or company.
Div83A was introduced in 2009 to curb exploitation of the system, but according to Andreyev Doman partner Andrew Andreyev, the law has regressed so far there's no legitimate stock options regime for entrepreneurs.
"There were a lot of employee-type benefit arrangements that happened in early 90s and 2000s that were clearly artificial structures exploiting the system. They were turning what would be normal remuneration into an exempt benefit or capital gain, which was clearly contrary to the whole intention of the scheme.
"But [the government] has gone too far . There's no legitimate regime for entrepreneurial businesses to offer equity in a high-growth business in Australia. That puts us at a competitive disadvantage."
99designs CEO Patrick Llewellyn said the law was overly complex.
"It would be terrific to see a simplification of the tax treatment of ESOPs in Australia so that more start-ups could cost-effectively use them."