In part 2 of this 3 part series we discuss the implications of issuing equity, a common way many IT Start-Ups pay for the services of programmers and experts.

When starting out through a company or Unit Trust, IT software developers commonly use the unpaid services of programmers and other experts to launch the business. In return, those contributors receive equity (units in a Unit Trust, or shares in a company).

Many people don’t appreciate the implications of issuing equity in this way, for both the employees and for the business.

Equity assessed as personal income

Firstly, the ATO may deem equity issued to a contributor in lieu of salary or wages, as assessable income. This means that the market value of the equity (or the discount) forms a part of their assessable income and is taxed in their hands at their personal tax rate.
Value shifting
The issue of equity for no consideration or at a discount may trigger the ‘value shifting’ provisions under Division 725 of the Act, resulting in a CGT liability for existing shareholders.
Value shifting occurs when:

• a transaction or arrangement takes place where there is a decrease in market value of one or more equity interests;
• the decrease in value is reasonably attributable to one or more things done under a scheme; and
• it has resulted from the issue of shares at a discount or for no consideration.

Issuing equity either for free or at a discount is likely to create a value shift involving equity interests of the existing shareholders or unit holders, as their interests will decrease in value.

Losing small business CGT concessions eligibility

The small business CGT concessions allow certain eligible small business owners to absorb a capital gain on a sale of the business.
Issuing equity may result in shareholders or unit holders losing the advantage of the small business CGT concessions. This is because the introduction of new classes of equity and shareholders can affect the eligibility of individuals to qualify for the concessions.

Removing equity holders

Another issue that should be considered is the way in which people are removed if things don’t work out. Many people don’t realise the importance of properly structuring their business so as to avoid complications and conflict down the track.