Tax incentives for investing in Early-Stage Innovation Companies (ESIC)

Are your investors missing out on tax breaks?

To encourage investment in innovative Australian companies, from 1 July 2016 the Government introduced incentives for investing in an early-stage innovation company (ESIC).

There are two tax incentives:

  1. A tax offset equal to 20 per cent of the investment, which arises in the year of the investment and may be carried forward if not fully used in that year
  2. For shares that qualified for the offset, modified CGT treatment which includes disregarding the capital gains (and losses) on shares held in an ESIC between one and 10 years.

For a sophisticated investor, there is no investment limit but the maximum offset is capped at $200,000 (i.e. $1 million investment). If you are a not a sophisticated investor, there is a maximum investment of $50,000.

Who can access the ESIC incentives?

There are several conditions that have to be satisfied to claim these tax incentives, including:

  • The Australian company invested in is an ESIC
  • The investment is in newly issued shares which are equity interests in the ESIC
  • The shares are not acquired under an employee share scheme
  • The investor is not a trust, partnership, ESVCLP, widely held company, or a 100 per cent subsidiary of a widely held company
  • Neither the investor nor the ESIC is an affiliate of each other
  • Immediately after the investment, the investor does not hold or carry the right to more than 30 per cent of the distributions of income, distributions or capital, or votes.

What is an ESIC?

For an Australian company to be qualify as an ESIC it must satisfy two tests:

  1. The early-stage test; and
  2. The innovation test, being either the:
    • 100-point innovation test or
    • Principles-based innovation test.

The conditions for the early-stage test include:

  • The company must have been incorporated or registered in the Australian Business Register (ABR) within the last three income years, or incorporated within the last six income years and across the last three income years have incurred total expense of $1 million or less
  • The company (plus the wholly owned subsidiaries of the company) must have:
    • Total expenses of $1 million or less in the previous income year
    • Assessable income of $200,000 or less in the previous income year
  • The company’s equity interests are not listed.

To satisfy the 100-point innovation test, the company must obtain at least 100 points by meeting certain objective innovation criteria, such as whether the company has claimed the research and development tax incentives, participated in an eligible accelerator program, or previously obtained external investment.

The alternative to the 100-point innovation test, the principle-based innovation test, requires:

  • A genuine focus on developing for commercialisation one or more new, or significantly improved, products, processes, services or marketing or organisational methods
  • High growth potential
  • Ability to scale
  • Potential to address a broader than local market
  • A competitive advantage.

 How BDO can help

BDO can assist in determining whether an entity is considered an ESIC. We also help clients obtain private binding rulings to provide certainty to investors, mitigating the risk of souring investor relations where a company purports to be an ESIC but this is later found to be incorrect.

If you would like to find out more about the early-stage innovation company incentives, please contact a BDO adviser.