If you run a growing business, you’ve probably faced this problem: you’ve found a brilliant candidate, but you can’t match the salary a larger competitor is offering. Or you have a key team member you can’t afford to lose, and a pay rise alone won’t be enough.
An employee share scheme (ESS) can help bridge that gap. Instead of paying more cash, you offer your people a genuine stake in the business: shares, or options to buy shares later. When the company succeeds, they share in that success. It aligns everyone behind the same goal, and it doesn’t affect your cash flow today.
Historically, the challenge has been tax. When an employee receives shares at a discount, the tax rules generally treat that discount as assessable income. This can create an income tax liability before the employee has received any cash benefit. For employees in private companies, where shares may not be readily sold, this can be particularly difficult.
That’s exactly the problem the ESS start-up concession was designed to address.
In this article, Sylviana Martinus and Eric Zheng explain how the employee share scheme start-up concession works, the eligibility requirements and the key considerations for employers.
What the start-up concession does
Under the concession, eligible employees who receive qualifying shares or options generally pay no income tax when they receive them. There’s no tax when options vest, and no tax when they’re exercised. Instead, tax is generally only triggered when the employee eventually sells the shares. At that point the gain is taxed under the capital gains tax (CGT) rules, rather than as employment income.
For shares issued under the concession, the CGT cost base is generally the market value of the shares when acquired, meaning the initial discount (up to 15%) is effectively never taxed. For options, the cost base is broadly what the employee pays to exercise them. Either way, only the growth in value from that point is taxed, and as a capital gain rather than employment income.
That distinction matters for two reasons:
- No tax payable until sale. Your employee isn’t hit with a tax bill on paper wealth. They pay tax when they actually sell and have money in hand.
- A much lower tax rate. If the shares (or the options plus shares) have been held for at least 12 months, the employee generally qualifies for the 50% CGT discount. In practical terms, a gain that might have been taxed at up to 47% as employment income can instead be taxed at a significantly lower effective rate. For options, the holding period generally counts from when the option was granted, not just from when it was exercised, which makes the 12-month test much easier to satisfy.
While the tax outcomes can be attractive, employees should also remember that startup equity carries risk. Shares may have limited liquidity for many years, and there is no guarantee the business will achieve a liquidity event or that the shares will increase in value
Does your company qualify?
The concession is aimed at genuine early-stage businesses. When the shares or options are granted, your company (and any companies in your corporate group) must meet all of these conditions:
- Unlisted: no company in the group is listed on a stock exchange
- Genuine operating business: the company can’t be mainly in the business of investing in or trading shares, securities or other investments
- Under 10 years old: every company in the group was incorporated less than 10 years ago
- Turnover under $50 million: aggregated (group-wide) turnover in the most recent income year
- Australian resident: the employer must be an Australian tax resident company
Then the offer itself must meet some conditions:
- Shares: any discount must be no more than 15% of market value, and the share offer must generally be open to at least 75% of longer-serving Australian employees
- Options: the exercise price must be at least the market value of an ordinary share at the time of grant
- Ordinary shares only: the scheme must relate to ordinary shares, not preference or special classes
- 10% cap: the employee can’t end up holding more than 10% of the company or its voting rights
- Three-year rule: the scheme must generally require the employee to hold the shares or options for at least three years (or until they leave the business)
Miss any of these and the concession isn’t available, which is why it is important to ensure the structure and documentation are properly considered before offers are made.
If your company doesn’t qualify for the start-up concession, for example, it has passed the 10-year or $50 million threshold, other ESS deferral rules under the tax law may still be available and are worth exploring.
What’s on the horizon
The Government has proposed changes to the way capital gains are taxed from 1 July 2027, these proposals remain subject to consultation and legislative change.
Treasury is consulting on a proposed Innovative Business CGT Concession that may allow some eligible startup shareholders, including certain ESS participants, the choice of retaining access to a 50% CGT discount.
Businesses and employees holding startup equity may wish to consider how these proposals could affect longer-term planning.
Employer obligations matter too
The start-up concession does not remove employer obligations. ESS statements and annual reporting obligations generally continue to apply, and payroll tax considerations may also arise.
Where eligibility criteria or documentation requirements are not properly met, the concession may not apply, and different tax outcomes can arise.
Why the timing matters
For an eligible startup, an ESS is one of the most tax-effective tools available to attract and retain talented employees. Done properly, your team gets real ownership with no upfront tax; done without the right structure, employees can face a tax liability on shares they cannot readily sell.
The eligibility windows also close over time, once your company turns 10, lists, or passes $50 million in turnover, the concession is no longer available for new offers. If you’re thinking about employee equity, the best time to get the structure right is before you extend the first offer.
