What Are Franking Credits?
A franking credit is a tax credit attached to “franked” dividends that shareholders receive from companies. Is it where the company issuing the dividend has already paid taxes on the income used to pay the dividend. To an individual, it is similar to PAYG taxes than your employer pays on top of your net wages.
Franking credits are not a worldwide concept – Australia, Malta and New Zealand have full imputation systems. Canada, Korea and the United Kingdom have a partial imputation system. Germany had a dividend imputation system until 2000 and France until 2004.
Why Do Franking Credits Exist?
The franking credit system in Australia’s income tax landscape is designed to prevent company profits from effectively being taxed twice: once at the company level and then again in the hands of the individual shareholder when they receive a dividend.
How Are Franking Credits Taxed?
First, let’s go through how wages are taxed to set the scene.
The money you receive in your bank from wages/salary isn’t the amount that you’re taxed on – you’re taxing on the “gross” wage that you’ve received which is the net banked amount plus the taxes your employer has paid on you.
Someone who is on $65,000 a year will only receive $50,000~ of actual cash – the rest is tax paid on their behalf to the ATO.
Franking credits work very similar to this, however the tax paid to the ATO is based off the company size instead of the taxable income of the recipient. The rates in the 2020 financial year are either 27.5% or 30%.
For someone who has received a $1,000 dividend into their bank, the actual income is $1,428 – with the $428 difference being a potentially refundable income tax credit.
Why Are Franking Credits So Important To Older Australians?
Due to the time that franking credits have been a refundable tax credit and the superannuation system that Australia has in place, shares (and therefore dividends) have been an extremely attractive investment opportunity for all older Australians. It has allowed them to save for retirement in a historically lengthy bull market and then receive tax credits back while the retire on a lower income (and therefore lower tax bracket).
Franking credits have undoubtedly changed the way that financial planners advise their clients, and the removal of these credits would cause problems for ongoing investment strategies.
The recent Labour Party proposed changes have been slammed by critics who claim the proposed changes unfairly target retirees with self-managed super funds. Labor does call out SMSFs on its campaign website arguing that the top one per cent of SMSFs received an average cash refund of more than $80,000 in 2014/15.
If need franking credits dealt with in your personal income tax return or thinking it’s time you made a change to a better accountant who looks after yours, please give us a call on (03) 8568 3606. With over ten years of combined experience working with a diverse range of clients, Bookkept is well equipped to assist both your personal taxes & business tax & accounting.