Research & Media

Submission to the Treasury Consultation on the Capital Gains Tax Treatment of Early-Stage Investments

Introduction

This submission is prepared by academics from the Finance and Technological Innovation Research Cluster within RMIT University's Department of Finance. Our research examines how financial markets, investors, corporate governance and public policy influence technological innovation, with particular expertise in measuring and analysing frontier innovation, namely the breakthrough and pioneering discoveries that generate the largest long-run gains in productivity and economic growth. A growing body of international evidence, together with our own research, indicates that these innovations are becoming increasingly scarce despite sustained growth in research and development. This is particularly concerning because addressing many of Australia's most pressing long-term challenges, including net zero emissions, healthcare, population ageing, national resilience and technological competitiveness, will depend on generating more frontier innovation.

Overall, we support the Government's objective of encouraging investment in innovative start-ups and welcome the proposed concessions as an important step towards strengthening Australia's innovation ecosystem. Our central observation, however, is that the proposed framework largely reflects the economics of commercially promising, high-growth firms rather than frontier innovation. Frontier innovation differs fundamentally from more routine forms of innovation, as it is characterised by substantially greater technical uncertainty, longer development horizons, larger knowledge spillovers and far more asymmetric returns. These characteristics mean that policy settings designed to support innovation more generally will not necessarily provide appropriate incentives for the investments that generate the greatest long-run economic and productivity gains.

Within this context, we recommend three broad refinements to the proposed concessions. First, eligibility criteria should better reflect the lifecycle of frontier innovation by increasing the turnover threshold to at least $100 million, extending the standard eligibility period to 15 years, or introducing a supplementary Frontier Innovation Pathway for firms that demonstrate frontier innovation characteristics. Second, the innovation criteria should place greater emphasis on technological novelty, scientific and technical uncertainty, original intellectual property and research intensity, rather than predominantly on early commercial potential. Third, Treasury should reconsider the proposed $10 million lifetime cap, including the possibility of a higher cap or additional flexibility for investments that satisfy clearly defined frontier innovation criteria. Together, these refinements would better align the concessions with the forms of innovation most likely to generate transformative technologies, sustained productivity growth and long-term economic prosperity.

Responses to Consultation Questions

1. Does the concession help attract investment to innovative start-ups?

We believe the proposed concessions are an important and necessary component of the broader Capital Gains Tax reforms. Without targeted concessions, the reforms would likely reduce the relative attractiveness of investing in innovative start-ups, particularly those characterised by long development horizons and uncertain returns. By preserving more favourable tax treatment for eligible firms, the concessions should help attract capital towards innovative businesses and away from more established and comparatively lower-risk investments. In this respect, the proposed approach represents a positive step.

The effectiveness of the concessions, however, depends critically on their design. Current evidence on the economics of innovation suggests that not all innovation faces the same financing challenges. Frontier innovations are characterised by substantially greater uncertainty, longer development horizons, and more extreme return distributions than routine or incremental innovation. As discussed below, several features of the proposed concessions do not appear to fully reflect these differences. As a result, the reforms may improve access to capital for firms engaged in more routine forms of innovation while providing comparatively weaker incentives for investment in the frontier technologies that are likely to generate the largest long-term economic and productivity gains.

We therefore welcome the proposed concessions, while suggesting that aspects of their design could be refined to better align investment incentives with the characteristics of frontier innovation.

2. Do the 10-year age limit and $50 million turnover cap target the right businesses?

The proposed eligibility thresholds are simple, transparent, and administratively practical. However, they are imperfect proxies for the firms most likely to generate frontier innovation.

Our research suggests that the firms producing the greatest number of breakthrough and pioneering innovations are not always those captured by the proposed turnover and age thresholds. Using global data on start-ups and detailed measures of patent quality, we find that patenting firms with annual turnover between $50 million and $100 million produce around 50% more inventions, including frontier inventions, than otherwise similar firms below the proposed turnover threshold. This suggests that some of the firms making the largest contributions to technological progress would not qualify for the concession.

A similar issue arises with the proposed 10-year age limit. While innovative start-ups patent most intensively during their early years, this period is often characterised by experimentation and technological exploration. As firms mature, innovation typically becomes more incremental as they refine and commercialise existing technologies. Our research indicates that many of the most radical and technologically significant innovations emerge only after firms have accumulated the capabilities, knowledge, and complementary assets developed over a much longer period, often beyond the proposed eligibility window (in our sample, this happens only after around 15 years).

We therefore recommend that Treasury increase the turnover threshold to at least $100 million and extend the standard eligibility period to 15 years. These changes would better align the concession with the lifecycle of frontier innovation while remaining straightforward to administer.

If Treasury wishes to retain the proposed thresholds, we recommend establishing a supplementary Frontier Innovation Pathway. Under this pathway, firms that exceed the turnover or age thresholds could remain eligible if they satisfy independently verifiable criteria demonstrating frontier innovation, such as substantial R&D intensity, ownership of high-quality patents, participation in nationally recognised innovation programs, or operation in strategically important technologies with long commercialisation horizons. This would provide a practical mechanism for identifying firms whose innovation characteristics, rather than their revenue or age alone, justify continued eligibility for the concession.

3. What conditions should apply to extend the age limit to 15 years for sectors that take longer to commercialise?

We strongly support extending eligibility where commercialisation horizons are structurally longer.

Importantly, eligibility should not be determined solely by industry classification. While biotechnology, medical technology and deep technology frequently require extended development periods, long commercialisation horizons also arise in areas such as advanced manufacturing, quantum technologies, clean technologies, advanced materials, defence technologies and certain artificial intelligence applications.

Our evidence supports this broader view. Across patenting firms, radical innovation continues to increase well beyond the first decade of a firm's life, rising from an average of 0.80 radical inventions among firms aged 5–10 years to 0.87 for firms aged 10–15 years, 0.99 for firms aged 15–20 years, and 1.37 for firms older than 20 years. This pattern is evident across multiple frontier technology domains rather than a single industry. Firms operating in advanced manufacturing and advanced materials generate more than 2.5 radical inventions on average after 20 years, while firms developing digital and emerging technologies, including artificial intelligence, software and financial technologies, produce between 1.4 and 1.7 radical inventions on average. Similarly, firms in clean technology and energy-related sectors continue to generate more than 1.3 radical inventions after two decades. These findings suggest that the need for patient capital reflects the characteristics of frontier innovation, technological uncertainty, engineering complexity and lengthy commercialisation cycles, rather than industry labels alone.

Rather than defining eligibility by sector alone, we suggest that extensions should be available where firms can demonstrate characteristics associated with frontier innovation, including:

• substantial technological uncertainty;
• significant research and development intensity;
• long validation, regulatory or engineering development cycles;
• significant investment in intangible knowledge assets;
• delayed revenue generation resulting directly from the innovation process rather than commercial performance.

These characteristics could guide the designation of eligible technologies or sectors, ensuring that the concession remains administratively practical while better reflecting the economic conditions that justify extended investment horizons. This would better align the policy with its objective of supporting frontier innovation rather than relying solely on broad industry classifications.

4. Are the innovation criteria appropriate?

The proposed innovation criteria are well intentioned and provide a practical framework for identifying commercially promising start-ups. However, they are better suited to identifying high-growth businesses than the frontier innovations that generate the largest long-run economic and productivity gains.

Most of the proposed criteria, including scalability, large market opportunities, and sustainable competitive advantage, focus on a firm's commercial potential rather than the nature of its innovation. This distinction matters because frontier innovation is inherently difficult to evaluate at an early stage. Many transformative technologies initially lack a clear commercial pathway, address no established market, and cannot demonstrate a sustainable competitive advantage until the underlying technology has matured. The internet, semiconductor technology, and many modern biotechnology innovations all illustrate this pattern.

By requiring firms to demonstrate commercial promise at such an early stage, the proposed criteria are likely to favour innovations that are already closer to commercialisation (typically incremental improvements) over the more speculative and technologically ambitious projects that historically have generated the largest productivity gains and knowledge spillovers.

We therefore recommend broadening the innovation criteria so that they place greater emphasis on characteristics associated with frontier innovation, such as technological novelty, scientific and technical uncertainty, original intellectual property, and research intensity, rather than relying primarily on evidence of early commercial potential. This would better align the concession with the forms of innovation that are most likely to deliver long-term economic benefits.

5. Is the 5-year holding period appropriate for long-term investment?

A minimum holding period is an appropriate mechanism for encouraging patient capital and discouraging short-term, tax-driven investment behaviour. In this respect, the proposed five-year requirement is broadly consistent with the long development horizons typically associated with innovative firms.

At the same time, the commercialisation of frontier innovation rarely follows a uniform timeline. Our research shows that firms are approximately three times more likely to be acquired after their first five years than during them, reflecting the lengthy process through which breakthrough technologies mature, are validated, and ultimately become commercially valuable. While some frontier ventures may achieve successful exits earlier, many of the innovations with the greatest long-term economic impact require substantially longer development periods.

On balance, we consider the proposed five-year holding period to be an appropriate and administratively practical threshold. It is sufficiently long to encourage patient capital while remaining consistent with the development timelines of many innovative firms. We would not recommend reducing this period, as doing so could weaken incentives for genuinely long-term investment. Equally, the concession should remain available regardless of how long an investment is ultimately held. Many frontier technologies require considerably more than five years to reach commercial maturity, and the tax system should continue to reward investors who provide capital throughout these extended development cycles.

6. Is the $10 million lifetime cap set at the right level?

We recognise the rationale for introducing a lifetime cap as a means of targeting support and managing fiscal costs. However, from the perspective of frontier innovation, the proposed cap warrants careful reconsideration.

The economics of frontier innovation differ fundamentally from those of conventional investment. Returns are highly skewed: most investments generate modest returns or fail altogether, while a very small number produce transformative technologies that create entirely new industries, deliver substantial productivity gains, and generate knowledge spillovers far exceeding the returns captured by investors. It is these rare successes that sustain the innovation ecosystem. Investors finance highly uncertain, long-horizon technologies not because the average investment performs well, but because the prospect of exceptional upside compensates for a much larger number of unsuccessful investments. Preserving the potential for these outlier outcomes is therefore central to maintaining incentives for frontier investment.

Our research is consistent with this economic logic. Using the size of individual investments as a proxy for investors' willingness to finance highly uncertain ventures, we find that startups receiving larger investments subsequently generate significantly more technological and radical innovation. We also find that serial entrepreneurs are substantially more likely than first-time founders to produce radical innovations. These entrepreneurs frequently reinvest the proceeds of successful ventures into the next generation of innovative firms, contributing not only capital but also experience, networks, and mentorship. The continued recycling of entrepreneurial success has been a defining characteristic of leading innovation ecosystems such as Silicon Valley.

A lifetime cap may therefore have broader consequences than simply limiting the tax benefit available to successful investors. By reducing the upside associated with the most successful investments, it risks weakening the economic incentives that underpin both the financing of frontier innovation and the recycling of entrepreneurial capital into future generations of high-risk ventures.

For these reasons, we encourage Treasury to reconsider whether a single lifetime cap is the most appropriate mechanism. Consideration could be given to a higher cap or to additional flexibility for investments meeting clearly defined frontier innovation criteria. Such an approach would better align the concession with the economics of frontier innovation while maintaining appropriate fiscal discipline.

7. Do the transition rules for shares issued before 30 June 2027 work well?

The proposed transition arrangements appropriately recognise the importance of policy certainty and minimise retrospective impacts on existing investment decisions.

As a broader principle, maintaining predictable and stable policy settings is likely to be as important as the specific design of individual concessions in supporting long-term investment into frontier innovation.

About the authors

This submission has been prepared by members of the Finance and Technological Innovation Research Cluster at RMIT University: Professor Edward Podolski, Associate Professor My Nguyen and Dr Anh Pham.

Our research examines how financial markets, corporate governance, investors and broader institutional settings influence firm investment, entrepreneurship and technological innovation. A particular focus of our work is frontier innovation, the breakthrough and pioneering innovations that generate the largest long-run productivity gains and underpin economic growth.

Our comments are informed by research on innovation economics, entrepreneurial finance, financial markets and corporate innovation, and are offered in the spirit of contributing constructively to the design of Australia's innovation ecosystem.

Submission on the Innovative Business CGT Concession Exposure Draft

Introduction

This submission is prepared by academics from the Finance and Technological Innovation Cluster within RMIT University’s Department of Finance: Professor Edward Podolski, Associate Professor My Nguyen and Dr Anh Pham. Our research examines entrepreneurial finance, financial markets, corporate governance and technological innovation, with a particular focus on frontier innovation: highly novel and pioneering forms of innovation with the potential to generate substantial long-run productivity and economic gains.

In our previous submission, we supported the proposed Innovative Business CGT Concession but identified several features of the original design that could inadvertently weaken incentives for investment in frontier-pushing innovation. We therefore welcome the extension of the eligibility period to 15 years for all firms and the removal of the lifetime cap, both of which are consistent with recommendations in our earlier submission and better recognise the long development horizons and highly asymmetric returns associated with ambitious technological innovation. We also acknowledge the decision to reduce the minimum holding period to three years and do not seek to revisit that issue.

Our comments in this submission focus on how the innovative company test operates across the exposure draft legislation, explanatory memorandum and draft legislative instrument. Requiring firms to satisfy all five elements may make qualification particularly difficult for ventures pursuing the most radical and technologically uncertain forms of innovation.

Accordingly, we recommend amending proposed subsection 115-155(2) of the Income Tax Assessment Act 1997 so that paragraph (a), which requires a genuine focus on developing an innovation for commercialisation, remains mandatory. We propose adding two criteria:

• whether the innovation represents a material technological or scientific departure involving substantial technical uncertainty; and
• whether its successful development would overcome a material technological limitation or enable a materially new capability.

A company would then need to satisfy at least four of the six remaining criteria, including at least two of the existing commercial criteria in paragraphs (b)–(e).

The Explanatory Memorandum should explain how early technical evidence can demonstrate commercial potential. For companies incorporated before 1 July 2027, sections 8 and 9 of the Draft Legislative Instrument should provide additional ways to demonstrate scaling or broader-than-local market potential where a company relies on those criteria. These changes to the instrument would complement the proposed amendment to the innovative company test; they would not require every frontier company to satisfy both commercial criteria.

1 Exposure Draft Legislation and Explanatory Memorandum

Our concern is focused on the innovative company test in proposed subsection 115-155(2) of the Income Tax Assessment Act 1997, which states that:

Innovative company test

(2) For the purposes of paragraph (1)(g), the requirements are:

(a) the company is genuinely focussed on developing for commercialisation one or more new, or significantly improved, products, processes, services or marketing or organisational methods; and

(b) the business relating to those products, processes, services or methods has a high growth potential; and

(c) the company can demonstrate that it has the potential to be able to successfully scale that business; and

(d) the company can demonstrate that it has the potential to be able to address a broader than local market, including global markets, through that business; and

(e) the company can demonstrate that it has the potential to be able to have competitive advantages for that business.

The test requires a company to satisfy all five conditions. The Explanatory Memorandum similarly describes these characteristics as requirements of the innovative company test.

The existing conditions provide useful indicators of commercial potential, but do not fully capture the characteristics of frontier innovation. The test places substantial weight on commercial characteristics that may be difficult to substantiate while fundamental technological uncertainties remain unresolved. Requiring all of these characteristics to be demonstrated compounds that difficulty and may disadvantage firms pursuing highly novel and technologically ambitious innovations. The test is easiest to apply where innovation occurs within relatively established technological and market environments. Where the technology, customer need and competitive landscape are reasonably understood, a company can more readily articulate how its innovation will be commercialised, how the business will scale, the markets it will address and its expected competitive advantage. Incremental innovation within established technological trajectories will often fit this framework relatively naturally.

Some genuinely radical innovation follows a different path. At the point at which investment is most speculative, a firm may be attempting to overcome a fundamental limitation of existing technology using an approach that materially departs from established solutions. Precisely because the technological trajectory remains unresolved, the eventual business model, scalability, market boundaries and source of competitive advantage may also be difficult to establish. The use of the word “potential” in the proposed test reduces this problem but does not eliminate the uncertainty created by requiring firms to demonstrate potential across every commercial dimension.

The development of mRNA technology illustrates the issue. In-vivo expression of injected mRNA was demonstrated in 1990, but early development was constrained by fundamental problems including instability, innate immunogenicity and inefficient delivery. These early results consequently attracted relatively limited investment until subsequent technological advances progressively changed the commercial prospects of the technology. At that earlier stage, a commercial venture pursuing mRNA technology could have demonstrated that it was attempting to solve important problems through a fundamentally different technological approach. It would have been considerably harder to demonstrate confidently the eventual scalable business model, market structure or sustainable source of competitive advantage before the key technological uncertainties had been resolved.

ARPANET provides a more extreme analogy of the underlying innovation process, although it was a government research program rather than a commercial company. ARPANET began in 1969 as a four-node network addressing specific communications and research needs. Its underlying technologies developed progressively, with TCP/IP adoption occurring much later and the modern internet emerging from a substantially longer technological evolution. Looking forward from the earliest stage rather than backward from today’s internet, the eventual form of successful scaling, global commercial markets and competitive advantage was far from obvious. What could be identified much earlier was the pursuit of a fundamentally different technological architecture capable of enabling a new form of communication.

The risk is therefore an asymmetry in eligibility. Firms pursuing improvements within established technological and market environments can more readily demonstrate every required commercial characteristic, while firms pursuing highly speculative technological departures may face greater uncertainty about qualification precisely because the eventual market architecture and business model have not yet been discovered.

This concern is particularly important in the current environment. Evidence generated by our Cluster indicates that the production of radical and frontier-pushing innovation has plateaued in recent decades. Broader international evidence similarly documents declining disruptiveness in scientific papers and patents and sharply declining research productivity despite increasing research effort (Park, Leahey and Funk, 2023; Bloom et al., 2020). These developments coincide with weak productivity performance. In Australia, for example, the Productivity Commission reported that labour productivity was flat in the June 2026 quarter and declined over the preceding year, while productivity remains only slightly above its 2015–19 average level.

Against this background, policy settings should, at a minimum, avoid inadvertently making investment in the most uncertain and technologically ambitious forms of innovation more difficult. By making eligibility easiest to establish where markets, business models and sources of competitive advantage are already comparatively well understood, the proposed test may favour innovations whose future commercial characteristics are easiest to articulate over more speculative technological pathways with the potential to produce substantially greater breakthroughs.

Proposed modification to the innovative company test

We recommend retaining commercialisation as an essential requirement, while providing an alternative route through which highly novel and technologically uncertain innovation can satisfy the remainder of the innovative company test.

In addition to the existing criteria, the test could recognise whether:

• the innovation represents a material technological or scientific departure from existing approaches and involves substantial technical uncertainty; and
• successful development would overcome a material technological limitation of existing approaches or enable a materially new technological capability.

Paragraph (a), requiring genuine focus on developing the innovation for commercialisation, would remain mandatory. Commercial potential should be assessed using evidence appropriate to the company’s development stage and the nature of its technology. The absence of current revenue, granted intellectual property rights, established customers or a settled business model should not, by itself, prevent qualification. Relevant evidence could include technical assessments, experimental results, research collaborations and documented development plans.

Rather than requiring every remaining condition to be satisfied, a company could then be required to satisfy at least four of the remaining six conditions, including at least two of the existing commercial criteria in paragraphs (b)–(e).

This structure would preserve a demanding commercial orientation. Technological novelty or uncertainty alone would never be sufficient. A conventional innovative company that did not satisfy the additional technological criteria would continue, in effect, to need to satisfy all four existing commercial criteria. However, where a company could demonstrate both an unusually novel and technically uncertain technological approach and the potential to create a materially new capability, strong evidence on those characteristics could substitute for uncertainty about one or two aspects of the eventual commercial architecture.

This would better distinguish absence of commercial purpose from uncertainty about the eventual form of commercial success. The latter is an inherent feature of some of the most technologically ambitious innovation and should not, by itself, make such ventures less capable of qualifying as innovative companies.

2 Draft legislative instrument for existing start-ups

The draft Income Tax Legislation (Innovative Company Test-Conditions for Existing Startups) Determination 2026 sets out conditions that companies incorporated before 1 July 2027 can use to establish requirements of the innovative company test in proposed subsection 115-155(2) of the Income Tax Assessment Act 1997. We welcome the recognition of R&D expenditure and intellectual property commercialisation in section 6, and research collaboration in section 10. These can provide evidence that a company is developing a genuine innovation.

Our concern is that some of the conditions for demonstrating commercial potential may be difficult to meet while a frontier technology is still being developed. Section 8 uses accelerator participation, an employee share scheme or specified venture capital investment as indicators of scaling potential. Section 9 uses indicators including regulatory approval, customer or partner commitments, export revenue and intellectual property applications in two jurisdictions to establish potential to address a broader-than-local market. A firm may have made substantial technical progress and identified wider applications for its technology before it has these forms of commercial validation. [Draft Determination, Sections 8–9; Income Tax Assessment Act 1997, proposed paragraphs 115-155(2)(c)–(d).]

We recommend that Treasury consider additional conditions in sections 8 and 9 for firms developing frontier technologies. Where a company seeks to demonstrate scaling potential under paragraph 115-155(2)(c), independently validated pilot results could be relevant if they show that the technology can operate on a larger scale and are accompanied by a credible plan to expand production or deployment. Where a company seeks to demonstrate broader-than-local market potential under paragraph 115-155(2)(d), evidence of applications beyond the initial local setting could be relevant if the company can identify those markets and explain how the technology could be deployed in them. These would be additional ways to establish commercial criteria, rather than requirements for every frontier company. They would complement our proposed amendment to the innovative company test, under which a company could qualify without satisfying all four existing commercial criteria. [Draft Determination, ss 8–9; Income Tax Assessment Act 1997, proposed paragraphs 115-155(2)(c)–(d).]