CGT reform for innovative start-ups risks limiting effectiveness

“Several aspects of the proposed design risk limiting its effectiveness in supporting the innovation system.”

ATSE said the recommendations outlined in its submission are intended to be “targeted and fiscally contained”, consistent with the government’s objective of providing the concession to genuine innovation start-ups.

The IBCC exposure draft legislation explanatory memorandum stated that an IBCC company is broadly one that has been incorporated for less than 15 years, remains based in Australia, and is not controlled by another company that has been incorporated for 15 or more years.

ATSE submission said an unresolved issue in the draft legislation is that the proposed 15-year eligibility limit would still exclude much of the capital that innovative start-ups require, particularly in the deep tech and biotechnology sectors.

“Because eligibility is tested when shares are issued, the limit does not affect early investors whose exit comes after 15 years,” the submission said.

“Its effect is on later funding rounds: capital raised after a company’s 15th year, often the larger rounds that fund late-stage clinical trials, manufacturing scale-up and market entry, would not qualify.”

While noting that 15 years is an improvement of the original 10-year limit proposed by the government, the submission underscored that many innovative businesses need longer periods to progress from research and development through to regulatory approvals, commercialisation, and scale-up. As such, they would continue to need considerable new capital well beyond their 15th year.

“Capping the time frame to 15 years would result in some innovative companies being arbitrarily excluded,” the submission said.

“More importantly, this would discourage investment in high-risk ideas that are less likely to achieve commercialisation within that period.”

While recognising the government’s objective of limiting the concession to genuine start-ups, ATSE said a more targeted approach would be to measure the eligibility period from a company’s first commercial sale rather than its incorporation or provide a longer period for companies that must complete lengthy regulatory pathways.

Another recommendation is for the government to ensure the affiliate rule and innovation test do not exclude university and research institute spin-outs.

The exposure draft’s requirement for companies to satisfy an innovation test should be fit for purpose for the pathways through which innovation typically occurs, including university and research spin-outs, the submission said.

It said the affiliate rule poses a risk as it excludes a company that acts in accordance with the directions or wishes of a company incorporated for 15 years or more.

“Universities, CSIRO and medical research institutes are long-established bodies corporate, and early-stage spinouts in which they hold a controlling interest could be excluded on this basis,” the submission said.

“The legislation or a safe harbour should make clear that a controlling interest held by a publicly funded research organisation does not, by itself, disqualify a spinout.”

The exposure draft also requires that an IBCC company must not be listed or have aggregated turnover exceeding $50 million. ATSE urged Treasury to consider indexing or periodically reviewing the turnover cap to provide greater certainty for businesses, investors, and the wider sector and future-proof the legislation.

Furthermore, ATSE recommended that the government commit to an evaluation and review of the IBCC and its impacts on innovation within five years of commencement. It said this could be done by extracting registration and annual reporting data on the age of companies at each capital raising, the amount and source of capital raised, and effects on business expenditure on research and development.

“This would provide the evidence base for adjusting the eligibility period, turnover cap and listing restriction over time,” the submission said.