Some accountants will be salivating over an unsettled issue in Australia's draft laws for shares in startups

Image: Fishburners.

While the draft employee share scheme legislation has so far pleased many small tech startups, there is one problem and it’s around how the Australian Tax Office deals with valuations.

Fishburners GM Murray Hurps told Business Insider: “It’s fantastic to see what they’ve got so far but there’s one big question mark left, which is this valuation question.”

The ATO is currently running a consultation process to figure out how to determine a startup’s valuation. This will ultimately be critical to determining the effects of the scheme when it’s in place.

Solicitor Raena Lea-Shannon, who specialises in legal advice for startups, said the valuation approach could potentially spawn a whole new industry for accountants and valuers.

While the new legislation gets rid of upfront taxation on employee shares that was brought in by the Labor government in 2009, Lea-Shannon said the proposed legislation was still a regime requiring shares to be valued when they’re issued.

“They’re still treating the shares as a form of income and therefore a taxable income or a taxable capital gain,” Lea-Shannon said.

So, startups will need a “face valuation” to allow the capital gain to be calculated when they’re offloaded at a later date.

“Even with their simplified valuation system and what’s called the safe harbour valuation tables it still requires an accountant,” she said, adding startups would still have to go through due diligence to arrive at a figure and that means another bill the fledgling company has to pay, at a time when they’re counting every cent and probably living on two-minute noodles.

Many startups offer share options as a way to attract talent when they can’t afford to pay market salaries. Under the Labor legislation many companies had to set up complicated loan agreements to ensure employees weren’t burnt with tax bills on income that hadn’t been earned yet.

Lea-Shannon says one way to deal with the issue is to bring in a standard valuation system where an early stage startup’s value can be verified by the ATO.

She said there should be a mechanism where a startup can be put in a category which doesn’t require them to get a valuation.

Without this, “there will be a suite of [tax advisors] that want to take advantage of the new regime” which would be a “gravy train for valuers and accountants”.

Hurps said while “sometimes it’s nice to have government create new industries, I’m not sure this needs to be encouraged as an industry.”

Paying capital gains when shares are sold isn’t the issue – it’s avoiding cash-poor startups being forced to pay for valuations.

“This is the real coal face of the very early startup, they’ve got nothing.”

Hurps agreed saying bringing in an accountant or valuer to put a figure on the shares would add an additional cost to startups.

“The startups we’re seeing down at Fishburners are watching every cent to extend their runway,” Hurps said.

“Providing the option to have a zero valuation or a standard valuation would be a good idea.

“Especially with funding being a little short in Australia at seed stage to just to make it easier.”

NOW WATCH: Tech Insider videos

Want to read a more in-depth view on the trends influencing Australian business and the global economy? BI / Research is designed to help executives and industry leaders understand the major challenges and opportunities for industry, technology, strategy and the economy in the future. Sign up for free at research.businessinsider.com.au.