What is Labor’s franking impact outside of super and pensions?

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Cuffelinks received the following letter from a reader on the little-covered impact of Labor’s proposed franking policy on those who do not have an SMSF and are not pensioners. Jon Kalkman responds.

To the Editor, Cuffelinks Newsletter.

Firstly I have to thank you for your informative and interesting newsletter. I do enjoy reading it.

There has been much discussion about Labor’s plan to stop reimbursing excess franking credits to SMSF investors whose franking credits exceed their tax payable and I can understand why a political party would be upset to see some very wealthy SMSF owners with several million dollars paying no tax or little tax and receiving tens of thousands of dollars in reimbursed franking credits.

The Labor Party’s attempt to claw back some of this money is not the proper way to do it as most commentators agree. However, there is another group of investors who do not seem to feature in the discussions I have seen so far. That is the retirees who have for whatever reason elected to remain outside of the superannuation system, invest in Australian equities and pay the required tax on their income. My wife and I are in that situation.

If I have interpreted Bill Shorten’s proposals correctly, and I may not have, it seems to me that people in our position will be taxed on their grossed-up income that includes their franking credits but will end up paying tax on income they never receive.

Let me give you an example to illustrate the unfair loss someone like us would incur if your proposal goes ahead in the manner that you outlined.

Let us take the example, for simplicity, of a couple who have $1,000,000 in Australian equities in joint names earning a fully franked 4% dividend from those shares. They cannot claim the aged pension because they have too many assets.

Their income would be $40,000 in net dividends plus $17,143 in franking credits – a total of $57,143. Their individual incomes would be $28,571 each. Their tax payable on that income would be $4,121.70 each or $8,243.40 for the two.

If they do not receive their franking credits of $17,143 they will lose $8,899.40 of the income they have paid tax on.

Has the Labor Party considered these tax payers? I wonder if they will take these people into account?

Regards, Dean Lines

Here is Jon Kalkman’s response:

The legal foundations for imputation credits

The owner of an asset is responsible for the tax on the income produced by that asset. Thus, shareholders are responsible for the tax on the dividends they receive as income. The tax payable depends on their marginal rate. If the shareholder is a super fund the tax paid by an accumulation fund is 15%, and a super pension fund pays no tax on any income it earns. Some readers are astonished at this, but this has been the case since 1992 for all super funds paying a pension, including retail and industry funds as well as SMSFs.

A PAYG taxpayer has tax withheld at source. If she earns $50,000 then her employer has to send $8,500 to the ATO. Her taxable income is $50,000 not $41,500. She might claim she is paying tax on money she never sees but her taxable income includes the tax already paid.

The same applies to franking credits. They are not a gift from the company or the government. They are part of the taxpayer’s taxable income. Any person whose taxable income is $30,000 has an after-tax income of $28,203. But under Labor’s policy, the shareholder whose taxable income of $30,000 happens to include $9,000 of prepaid tax has an after-tax income $21,000. This in the name of fairness?

Franking credits are prepaid taxes

According to the Australian Tax Office (ATO) website (update 28 June 2017):

“Dividends paid to shareholders by Australian resident companies are taxed under a system known as imputation. This is where the tax the company pays is imputed, or attributed, to the shareholders. The tax paid by the company is allocated to shareholders as franking credits attached to the dividends they receive.”

Shareholders are the owners of the company and therefore also owners of the profits, some of which are distributed as dividends. The effect of the imputation system, introduced in 1987, is to provide Australian shareholders (taxpayers) with a tax credit for tax already paid by the company on their behalf. This tax credit can then be applied to their own tax liability according to their marginal tax rate. Before 2001, if that tax credit exceeded their tax liability, the excess was retained by the ATO. That applied to all taxpayers. Since 2001, any excess tax paid has been refunded as cash to every eligible taxpayer (shareholder) without exception.

As the company tax rate is currently 30%, if the shareholder’s marginal tax rate is 47%, the tax credit is insufficient to meet the tax liability and the taxpayer needs to pay the difference of 17%. If the marginal tax rate is below 30%, the excess is refunded to the shareholder as cash.

The purpose and effect of the present system of imputation credits is to ensure that shareholders pay tax on their dividends at their marginal tax rate.

Avoiding double taxation

The imputation system applies to all Australian shareholders and taxpayers whether they are an individual, super fund, church, charity or some other legal entity. The refund of excess tax is identical to PAYG employees whose tax deductions are such that they find they have paid too much tax. What matters is the marginal tax rate, not the type of taxpayer.

Under the Labor policy, any taxpayer who presently receives a cash refund for the excess tax already paid will no longer receive it unless the shareholder meets one of the criteria of the policy exemptions: age pensioner or welfare recipient, a church, a charity or a union. In these cases, the franking credit is a tax credit refundable as cash, even if their marginal tax rate is below 30%. For some taxpayers, the franking credit will be as good as cash to pay their tax, for others it will be actual cash, and for many others, it won’t be either.

Super funds have low marginal tax rates. An industry fund is a single taxpayer covering members in both accumulation and pension phase and it will have income from a range of assets, and will therefore have sufficient tax liability to be able to use these tax credits to set against that tax. It is possible for large SMSFs to mirror industry funds with some members in accumulation phase, because either they are not yet retired or they are retired and have more than $1.6 million and are forced to hold the excess in accumulation phase. They too will likely have sufficient tax liability to be able to use these tax credits.

By definition, an SMSF exclusively in pension phase, typically run by a retired couple, only has income that pays no taxes, regardless of the size of that income. Therefore, the SMSF presently receives a full cash refund from franking credits for this excess tax paid. Under Labor’s policy, many SMSFs will lose a significant portion of their income, depending on their asset allocation to Australian shares. Many believe that mid-sized SMSFs are the target group of this policy.

The reader question: application to individual taxpayers

Now, more directly on to the reader question.

The proposed policy applies equally to individual taxpayers, for whom marginal tax rates are progressive. Because the franking credit is attributed to the shareholder, it is money withheld by the ATO until the shareholder’s tax return is completed, just like a PAYG taxpayer. As attributed income it becomes part of the shareholder’s taxable income.

Taxable income = dividends plus franking credits

As an example, consider a couple with $1,000,000 invested in Australian shares outside super and no other income. Assume they earn 4.2% dividends. Their dividends are $42,000 and their franking credits are $18,000. Their taxable income together is $60,000, and the franking credit represents 30% of the total which is the company tax portion of the profit attributed to the shareholder. So their taxable income is $30,000 each and they are each entitled to a franking (tax) credit of $9,000. The tax on $30,000 is $1,797 after the Low Income Tax Offset but their tax credit is $9,000 so they are each entitled to a tax refund of $7,203 or $14,406 together. Their after-tax income as a couple is $56,406.

According to Chris Bowen, they do not pay any tax so they shouldn’t get a refund. Under the proposed policy, this couple’s after-tax income is $42,000 from the dividends alone or a reduction of about 25%. They each have taxable incomes of $30,000 but they only receive $21,000 each after tax. For these individuals, having their tax refund of $7,203 withheld is effectively a new tax.

If this couple were of pension age, they would not be eligible for the age pension because of the assets test. If instead, this couple had less assets, say, $800,000, they would be eligible for a small part age pension of about $100 per fortnight but, because they now qualify for the exemption, they also keep their franking credits. For this couple, their dividends are $33,600 (4.2%) and their franking credits are $14,400. Their taxable income together is $48,000. Their taxable income is $24,000 each and they are each entitled to a franking (tax) credit of $7,200. The tax on $24,000 is $657 after the Low Income Tax Offset but their tax credit is $7,200 so they are each entitled to a tax refund of $6,543 or $13,086 together. Their after-tax income is $46,686 plus the age pension of $2,852. They are better off for income than the couple who have $1 million.

Labor’s misguided imputation policy

This policy therefore creates perverse incentives for retirees to reduce their assets to qualify for both the age pension and the franking credit cash refund.

Any individual whose marginal tax rate is below 30% will be denied the cash refund if they do not meet one of the exemption criteria. Think of the couple with a non-working spouse where the shares are placed in name of the spouse with the lower marginal tax rate or a worker on a low marginal tax rate with some Australian shares. They will lose a refund of their franking credits under this policy.

Labor’s franking policy is not a return to pre-2001 conditions. Before 2001, no taxpayer received a cash refund for excess franking credits. With these proposed exemptions, it is difficult to escape the conclusion that this policy is a political exercise rather than an economic one.

 

Jon Kalkman is a former Director and Vice President of the Australian Investors Association. This article is general information and does not consider the circumstances of any investor.

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57 Responses to What is Labor’s franking impact outside of super and pensions?

  1. David June 21, 2018 at 9:34 AM #

    I find myself wondering – without wanting to start a political bunfight on these pages – whether Labor actually understand the consequences, and the perhaps unintended consequences, of this policy proposal? And if they actually do, do they actually care?

    Whenever they mention it, the rhetoric is all around “cash refunds for millionaires” and other divisive commentary.

    As has been said many times elsewhere on Cuffelinks with regards to this issue, if we need to have a discussion about tax rates on pensions, then let’s have the conversation – clearly the demographics are changing and what’s been OK up to date may well not be sustainable. So let’s talk.

    But this type of tinkering is not the way to do it, and allows people – perhaps Labor’s core constituency – to deliberately not understand the proposal and to dismiss it, because it’s a bit complicated, and because it largely doesn’t affect them. So it’s all about politics. Again.

    • Chris O'Neill September 21, 2018 at 9:51 PM #

      “if we need to have a discussion about tax rates on pensions, then let’s have the conversation”

      Indeed there was never any conversation when Costello unilaterally decided to destroy the principles of horizontal and vertical equity in the taxation of superannuation pensions.

      Once one government decides principles don’t matter, every other government thinks they can do the same (in a way that suits them).

    • John Bedson December 5, 2018 at 7:33 PM #

      The reader’s question does not seem to have been answered. Will he pay tax on the franking credit amount that he has not been allowed to claim a refund on. In other words, will he have to pay tax on income that he never received because he could not claim a refund on his excess franking credits?

  2. Rob June 21, 2018 at 10:22 AM #

    Excellent article and I totally agree with the premise this move is purely political, given the nature of the so-called exemptions. It is a pure and simple attack on SMSFs, nothing more.

    Interestingly, Treasury has already been quoted in the media (Eureka Report 19/6) as stating the proposed policy WILL NOT raise the sums the ALP is quoting, because the numbers quoted do not take into account any likely response from affected taxpayers, investors, etc.

  3. Simon N June 21, 2018 at 11:00 AM #

    Labor’s policy as it stands also breaches the principles outlined in their National Platform (available from their website).
    Point 126 where they outline the principles of fairness as including horizontal and vertical equity –
    Horizontal equity, meaning that taxpayers on the same income pay about the same amount of tax;
    Vertical equity, meaning that taxpayers on higher incomes pay a progressively higher rate of tax;
    Point 129 any future reforms will “minimise high effective marginal tax rates, particularly on those moving from welfare to work and on second income earners in low- to middle-income families”;
    Point 130 All future tax reforms will:
    …. Simplify the tax system for individuals and businesses while preventing avoidance activity.

    As a voter in the Braddon by-election I have asked Bill Shorten, Chris Bowen and Justine Keay to try and explain these glaring conflicts. I have also asked them why the do not address the question of tax rates for high value SMSF accounts directly given that their rhetoric on this issue implies that is their actual target.

    So far, no response, so my preferences are drifting to the right.

    For what its worth, I earn almost exactly the national average income, and my wife is unemployed, not eligible for NewStart based on my income, but has some investment income (less than the tax free threshold), which would be impacted by the policy.

    • Chris O'Neill September 21, 2018 at 9:40 PM #

      Indeed conditional imputation will smash vertical equity between franked dividend incomes of $27,500 and $175,000 – both will get no refund and both will be liable for 2% Medicare levy. The same percentage tax treatment over a huge range of incomes.

      What use is a Party that doesn’t follow its own principles?

  4. John Bedson June 21, 2018 at 11:03 AM #

    Jon: You missed the point of the reader’s comment. He was complaining that he would be paying tax on franking credits that he would not receive. But that would not happen. The government would only tax the individual on the franking credits that they DID receive, and not on the credits that were not allowed. The reader is worrying unnecessarily.

    Moreover the Liberal coalition is so committed to the refunding of franking credits that even if they lost the election they would almost certainly reintroduce them the next time the were elected. So we may not have long to wait before we get them back again.

    I get approximately $80,000.00 of franking credits refunded every year so I am especially keen to see their refundability maintained. I am one of the wealthy muti-millionaires with a substantial SMSF that the Socialist want locked into railroad trucks and sent to death camps.

    But it is not going to happen. If Labor win power I will move to the UK with my family and live seven years tax free as a “Non-Dom” and return when Bill Shorten has wrecked the Australian economy and put everyone out of work and the Liberals will be left to clean up his mess. That way Bill will not be able to tax me a single cent and he can shove his franking credits …………………… I think you get my meaning!!

    • Jon June 21, 2018 at 3:30 PM #

      I am not a tax professional, but it is clear to me that the dividend is never separated from the franking credit. Even in a discretionary trust where the income can be streamed to different beneficiaries, the franking credit is always stapled to the dividend income. The reason is simple, the dividend and the franking credit belong to the same taxpayer and is part of their taxable income. Maybe others can comment.

      If the shareholder earns the dividend, all the associated franking credit are earmarked for that taxpayer by the ATO until their tax return is completed. As nobody knows their tax liability until after the tax return is completed, it is incorrect to say that some of the franking credits are taxable and others are not.

      All franking credits are included in the taxable income. What happens next is the interesting part. If the marginal tax rate is below 30% there is a cash refund at present, and that refund will be lost under the Labor policy – and the size of any refund depends on many other factors such as the marginal tax rate and the government policy about refunds.

      • John Bedson June 22, 2018 at 9:42 AM #

        Jon: You said it yourself: “I am not a tax professional.” No government on Earth has ever taxed an individual on money that is being confiscated by the government. Not even the Labor party would be so evil as to commit such an outrage. All the accountants that I have consulted say that we would not be taxed on franking credits that we don’t receive. That is one thing that we don’t have to worry about.

    • Chris O'Neill July 30, 2018 at 11:27 PM #

      “The government would only tax the individual on the franking credits that they DID receive, and not on the credits that were not allowed.”

      It will be interesting for taxpayers deciding how many franking credits to include on their tax returns because if they include credits that are non-refundable then these non-refundable credits will be wacked by Medicare levy even though these credits are completely worthless to the taxpayer.

      Just another silly outcome in this ludicrous proposal.

      Non-refundable franking credits can’t be used to pay Medicare levy either on the face of this proposal.

      • Steve August 1, 2018 at 9:29 PM #

        Hi Chris and John,

        I think you are getting slightly confused on what part of the imputation system the ALP proposal is targeting. In the following paragraphs, I am going to make a distinction between the term “franking credit” and the term “imputation credit”. For a long time, the tax industry has treated these terms as interchangeable although that may change if the ALP gets elected.

        First, you are taxed on the full amount of the grossed-up dividend not a portion of it. The grossed-up dividend consists of the franked dividend (cash or DRP) plus 100% of the franking credit related to that franked dividend. After you have calculated the tax payable on your taxable income (including the grossed-up dividend) at your (marginal) tax rate, you are then allowed to offset the imputation credit against the tax payable on the taxable income.

        What the ALP is proposing is a shift in the treatment of this imputation credit not the franking credit. Under tax law, taxpayers can claim tax credits (e.g. PAYG) or tax offsets (low income tax offset) to reduce their final tax liability. The difference is that the former are refundable but the latter are not (i.e. if your tax liability is reduced to nil, any unused tax offsets are lost whereas unused tax credits are refunded). By their very nature, tax offsets can only reduce tax payable, they cannot generate a tax refund and they cannot be carried forward to later income years. Since 2000, imputation credits have been classified as a tax credit. The ALP want to move the imputation credit from the tax credit bucket and place it into the tax offset bucket for ALL taxpayers (not just SMSFs).

        The effect is that taxpayers whose tax rate is less than the corporate tax rate will effectively forfeit their unused imputation credits. In essence, under the ALP, the imputation credit will revert to an imputation offset.

        This proposal has no impact on the amount or treatment of the franking credit that is included in the grossed up dividend.

      • Geoff F August 3, 2018 at 1:36 AM #

        Steve,
        Thanks for your explanation but a correction seems necessary regarding one part of your comments…

        “The ALP want to move the imputation credit from the tax credit bucket and place it into the tax offset bucket for ALL taxpayers (not just SMSFs).

        The effect is that taxpayers whose tax rate is less than the corporate tax rate will effectively forfeit their unused imputation credits. In essence, under the ALP, the imputation credit will revert to an imputation offset.”

        My understanding is that the ALP policy isn’t applicable to ALL taxpayers as it won’t apply to charities and churches who will continue to operate under current rules.

        This lack of consistency is part of the problem and is yet another carve-out like the ad hoc grandfathering of current rules in relation to SOME pensioners. When there are ad hoc exceptions to rules, it’s not possible for any political party or other group to fairly argue consistency and equity and fairness, and in this case Labor should be called out for their cynical, hypocritical and duplistic policy.

  5. Jeff June 21, 2018 at 11:25 AM #

    Superb Artlice, as I am in the same “leaky boat”, having saved for retirement (aged 50 now) I will loose approx $4000 a year (if Labour apply this policy if they win) in refund just because I have saved both inside and outside the super system. It is difficult, because my wife is still working and she is 10 years younger than I am, so we dont reach retirement age at the same time, which is an added complication.

  6. Jenny June 21, 2018 at 11:45 AM #

    Yes I am that stay at home mum, who works a little but earns well under the tax-free threshold. I have saved $25-$50 a week for the 15 years I have had kids and funnelled it into a managed fund and now have quite a nice share portfolio outside super. I too will lose the imputation tax refund. The ALP has never thought about my type either. Labor is all about keeping their constituents in penury in order to maintain their electoral base. They never develop policies that help the middle to rise further up the food chain. They are against aspiration and financial independence. This policy is a disgrace and I hope it never sees the light of day.

  7. Ken June 21, 2018 at 11:49 AM #

    Yes I was wondering about the same point as John B. If an individual is not going to get the franking credits refunded or only partially refunded do you still have to include the full franking credit amount in the taxable income in the first place.

    • John Bedson June 22, 2018 at 9:44 AM #

      See my reply above.

    • Chris O'Neill July 30, 2018 at 11:46 PM #

      If you include the full franking credit amount then you will have to pay Medicare levy on the full amount even though the non-refundable part is worthless to you.

  8. Robert G June 21, 2018 at 11:56 AM #

    The bigger question is whether given the “averaging” going on in Retail and Industry Funds, my belief is that retirees in those Funds, right NOW, are not getting 100c in the $ of franking credits

  9. Goz June 21, 2018 at 12:59 PM #

    The only thing running through my mind is, unless they mandate all companies offer franking at 100%, why couldn’t share holders just hold a vote to have all dividend paid and let the shareholders worry about tax on their level rather than companies. Then this whole debate is out the window as it makes no sense what so ever.

    • Derek O'Hare June 24, 2018 at 10:52 PM #

      Goz, this is what crossed my mind also. To date I’ve never heard or seen any commentary that denies it.

      Hey Ed, can we get some comment on this in a future newsletter please?

      • Warren Bird June 25, 2018 at 9:54 AM #

        Franking isn’t the result of a company’s policy, it’s a function of tax law and how much of their earnings are paid as company tax. So the government can’t ‘mandate’ companies to fully frank their dividends any more than a company could decide by its own whim to only pay unfranked dividends.

        And they certainly can’t just decide to pay zero company tax.

        I’m not sure what Goz and Derek are even trying to say here ???

        But perhaps something I said in my original article on the topic (https://cuffelinks.com.au/basics-franking-credit-refunds-fair/) is what they’re trying to suggest. In that paper I mention the case for the system having no/zero company tax, a withholding tax on retained earnings and dividends paid to non-residents and dividends simply included as income in the domestic tax payers tax calculations. (So cuffelinks.com has already had comment on the issue if that’s what they’re suggesting.)

  10. Jan H June 21, 2018 at 1:31 PM #

    Jon, you say: “If this couple were of pension age, they would not be eligible for the age pension because of the assets test. If instead, this couple had less assets, say, $800,000, they would be eligible for a small part age pension of about $100 per fortnight but, because they now qualify for the exemption, they also keep their franking credits.”

    As I understand it, under Labor’s plan, only Govt full and part pensioners as of 28 March 2018 will continue to receive cash refunds. All other present (SMSF retirees in pension mode) and future Govt pensioners will NOT receive cash refunds.

    Hence, Labor will create two classes of pensioners (Shorten’s Chosen Ones and the rest). Such a policy is deeply flawed and is contrary to Labor’s oft-stated policy of Fairness and Equity and “Pensioners do better under Labor”.

    I have just received a belated reply from Tanya Plibersek in which she advises that Labor’s policy is necessary to repair the Budget Deficit. Yet, in supporting Turnbull’s tax low income tax cuts and promising even more, if elected, Labor is clearly not being honest. If they genuinely wanted to reduce the deficit, they could lower the tax-free threshold back to $6000 (from $18200 or somewhere in between), raise the Medicare Levy, or forego tax cuts altogether. As it currently stands: everyone is entitled to $18200 tax free. Yet, under Labor’s plan SMSF retirees will LOSE up 30% of their income–manifestly injust!

    At the very least, to put all of Shorten’s EXCLUDED pensioners (present and future) on an equal footing with wage earners, cash refunds should be allowed up to $18200.

    • Graham Hand June 21, 2018 at 3:22 PM #

      Hi Jan H, to correct your comment:

      “As I understand it, under Labor’s plan, only Govt full and part pensioners as of 28 March 2018 will continue to receive cash refunds. All other present (SMSF retirees in pension mode) and future Govt pensioners will NOT receive cash refunds.”

      The 28 March 2018 date applies only to welfare ‘pensioners’ in SMSFs. I does not apply to future welfare recipients outside SMSFs.

      The Labor policy says: “The Pensioner Guarantee means pensioners and allowance recipients will be protected from the abolition of cash refunds for excess dividend imputation credits when the policy commences in July 2019. Self-managed superannuation funds with at least one pensioner or allowance recipient before 28 March 2018 will also be exempt from the changes.”

  11. Steve June 21, 2018 at 1:33 PM #

    John,

    The taxpayer is being assessed on the grossed-up dividend (cash dividend plus 100% of the attaching imputation credit) at his or her marginal tax rate. If the tax paid on that grossed-up dividend is less than the imputation credit, he or she loses the value of that imputation credit. That is like telling a PAYG employee that you are not allowed a full credit at tax time for the amount of tax withheld from your salary or wages during the year. Imagine the furore. Would dispense with the need for H&R Block, etc.

  12. Maurie June 21, 2018 at 1:46 PM #

    “What matters is the marginal tax rate, not the type of taxpayer”

    I laud the reader and Jon’s above remarks. You are not alone in your thoughts, Dean Lines. If its all about politics and not economics then it’s time for Cuffelinks readers to send a message to the ALP at the ballot box.

    “It’s time”

  13. Chris June 21, 2018 at 2:05 PM #

    To add further to Labors misguided & unfair imputation policy, I have thought out a strategy to combat this if it is implemented. Can someone please advise me (other than CGT implications & my wife’s reluctance) whether this has merit. My wife receives a modest super income (non SMSF) & a modest amount of imputation cash refund from her share portfolio (We are not aged pensioners). If I were to transfer all her shares to my a/c putting me into a higher tax bracket I can then offset whatever tax I owe by utilising her franking credits which she would have lost..

    • Laine June 21, 2018 at 4:40 PM #

      Chris

      Be a bit careful about doing this. If your wife earned say $7k in divs with $3k in franking then her taxable income is $10k on which no tax is payable, so she currently receives the franking refund of $3k. Under the new policy she would no longer get this.

      Now think about what happens if you transfer the shares to your name. You now have a taxable income $10k higher than at present. If you are earning more than about $40k then your marginal tax rate is 32.5% plus 2% medicare lavy. So you would owe $3450 in tax on your extra $10k of income. Yes you would offset this with the $3k franking credit, but you would still owe the extra $450, so your net benefit would be less than $7k.

    • Michael June 21, 2018 at 6:44 PM #

      Jon,

      could you comment or do some numbers on the following idea.

      A part solution may be to incur some capital gains each year by more active management of the portfolio.

      Assume each portfolio is $500,000 in value ( a total value for a couple of $1m as used in your example) and it increases in value by 3% a year which is a $15000 capital gain each year. If this capital gain is incurred( through selling part of the portfolio each year but the couple use the proceeds to reinvest) taxable income increases by $7500 but this will in effect be reimbursed by being able to use the franking credits to offset the CGT.
      There are different cash flows but if you cash out the portfolio in later years no CGT will be payable.
      Alternatively if the capital gain is not reinvested the cash flow could be maintained ( no thanks to Bill and Chris)

      • Rob June 22, 2018 at 9:11 AM #

        Hi Michael,
        Yes this is what I will be doing for my wife’s and my investments outside SMSF if the Labor plans get up. If I am going to “lose” the imputation credits, then I may as well fully “use” them instead, to soak up some capital gains management.

        Just another reason why Labor will NEVER see the $ amount of tax savings they purport in their policy statements.

  14. Mark June 21, 2018 at 2:29 PM #

    Thank goodness this thread has not attracted (so far) the leftist do-gooders championing the theft of excess franking credits from SMSFs for some pie in the sky fiscal repair that would never happen under a Labor regime anyway.

    To John Bedson, I say all power to you, mate. I’m sure your financial position is a result of hard, smart work and entrepreneurship that provided many people with less means than yourself an opportunity to further themselves….a point the envy brigade never mention.

    Just one possible correction, Jon, in that a SMSF with, for simplicity’s sake, $1.6M in pension phase and 1.6M in the accumulation account receiving, say, a combined dividend income of $144,000 with attributed franking offsets of $60,000 would need to apportion both income and franking credits 50/50 between the two accounts. While the accumulation account could use its $30,000 credits to offset other taxable elements, the $30,000 of credits apportioned to the pension fund would be totally lost.

    So, success in life and work again punished by those who, by and large, have NEVER filled in a pay slip for anyone in their lives. God help us.

  15. Chris Eastaway June 21, 2018 at 3:22 PM #

    I’m in a similar position to Simon N, in that our assets are in my non-working spouse’s name, she’s not eligible for Centerlink assistance because of my earnings, and the generated investment income (grossed up) is a fraction below the tax free threshold (TFT). These assets are also not held within Super.

    There’s a lot of hurdles to pass before this proposal becomes law – including a federal election and the senate crossbench who are already making noises about protections for people on low incomes – so really, we’re in the dark. But the thought experiment is good for everyone; here’s a question I’ve been pondering…

    Assume my wife generates $18,000 in investment income made up of $12,600 payments received and $5,400 in franking credits (which under this proposal she will lose because her income is below the TFT), then also assume she has an unrealised capital gain of $10,000. Labour has been explicit in their language that “…[for] those who claim franking credits who are still liable to pay tax, there is no change”, so does it not make sense for my wife to create a tax liability equal to the credit that reduces the unrealised gains within her portfolio?

    By selling the holdings attached to the $10,000 gains and then rebalancing this capital back into the portfolio a CGT liability will become payable. If this liability is equal to or less than the $5,400 available tax offset then my wife has effectively utilised her otherwise lost franking credit to reduce the CGT payable on future trades with no change to the value of the portfolio (assuming no loss due to price fluctuations or frictional costs). And yes, I can hear some people thinking “that’s a wash trade”, but is it? No loss has been taken to offset the gain and Labour is clear that the credit is there to be used. You also don’t have to repurchase the same stock or asset if that was a concern.

    This transaction might not be as beneficial as receiving the franking as cash, but it seems to me it’s better than nothing for the group of people that this example might relate – ie. those whose assets are outside of superannuation, with credits in excess of taxes, and unrealised capital gains in their portfolio.

    Clearly people would need to seek their own professional advice.

    • Jon June 21, 2018 at 4:30 PM #

      Chris, the proposed policy will allow a taxpayer to use their tax credit derived from franking to pay some or all of their tax bill. A taxpayer can earn over $96,000 in dividends and pay no additional tax because the franking credits cancel out the tax payable. That is why people with large dividends, industry funds and large SMSFs will not be affected. Note that none of them will get a cash refund unless they belong to the exempt group.
      The people affected are taxpayers that up until now receive a cash refund for excess tax paid because of their low marginal tax rate, but that will cease under this policy.
      There is nothing special about CGT. The net gain is added to your taxable income in the financial year that you make the sale (less the 50% discount if the asset was held for more than 12 months, if applicable). If that extra income pushes you into a higher tax bracket so that you can then use some or all of the tax credit to pay your tax, that is exactly what the policy allows. However, you still won’t get a cash refund – regardless of what your taxable income is.

      • KMT June 25, 2018 at 3:19 PM #

        Is that right?

        What about their PAYG credits, Which comes first if they have salary and dividend income??

  16. Ian June 21, 2018 at 5:35 PM #

    A hybrid currently paying a 4.2% franked dividend would include 1.8% imputation credit. The 6% is taxable, even if the 1.8% imputed credit is lost. If income included a mix of 6% income as franked and unfranked, then the imputed credits that were to be lost could be replaced by unfranked income – so that there is no cash loss to the investor. This could present an opportunity for hybrid issuers to offer both franked and unfranked issues, even if for example the margin for an unfranked issue was a few points lower than the franked issue – a win – win solution.

  17. Chris Eastaway June 21, 2018 at 7:56 PM #

    “The people affected are taxpayers that up until now receive a cash refund for excess tax paid because of their low marginal tax rate, but that will cease under this policy.” Exactly Jon.

    The point I’m making is that my wife is one of those people and in the absence of any income other than the dividends that produced the franking she will lose them to the wind, we all understand this. I’m looking for a way to make some use of that credit, and in doing so I’m not suggesting there’s anything special about CGT. What I am suggesting is that people in our position consider walking up their capital base without fundamentally changing the construction of their portfolio by using tax credits that would otherwise be lost, which in turn will reduce any CGT that might be payable in the future if those same assets are sold a second time because tax will be calculated on a larger cost base, that’s all.

    In this way my wife’s portfolio may go from being worth $100,000 with an unrealised gain of $10,000, to being worth $100,000 with no unrealised gain – this is a small win when you consider the credit would otherwise have amounted to nothing and the unrealised gain would still carry a future liability if I had not re-balanced.

    • John Bedson June 22, 2018 at 7:15 AM #

      Under Labor crazy new policy capital gains on Australian shares will in effect be free of charge because the extra capital gains tax will be offset by the franking credits that you are losing. Therefore you will effectively never have to pay capital gains tax!

      This shows that a switch from income to growth stocks would be a profitable strategy under a Labor government.

      The new scheme is too silly for words. It was invented by someone who had no understanding of how the system works in the first place. In my opinion it is merely a corrupt attempt to bribe a section of society to vote Labor by giving them money extorted from thrifty retirees who are defenceless against this theft of their savings.

      • Chris Eastaway June 22, 2018 at 10:05 AM #

        If a tax payer is in a marginal bracket less than 30% and they hold Australian shares that provide franking, then looking at taking profits with tax payable up to the limit of the franking credit, or alternatively earning income from non franked sources (term deposits, bank interest, listed property, rental property etc.) becomes a potentially profitable strategy, as far as I can tell.

        As Jon said, there’s nothing special about capital gains, they won’t be tax free so to speak, just able to be offset up to a limit if they’re something you have available to you.

    • Rob June 22, 2018 at 9:16 AM #

      Spot on, Chris, this will be a valid action under the ALP proposed plans.

  18. William Borgas June 21, 2018 at 11:11 PM #

    I agree with David’s comments that Labor have not thought this through properly.
    I have contacted a dozen Labor Federal MP’s offices and I have not come across anyone that understands their policy or even understands how the imputation system works.
    A common response was,”how do you spell imputation?” or “franking what?”
    All Labor will do is push down the prices of Australian shares that pay franking credits and force SMSF’s to reweight into Australian companies that pay unfranked dividends, or, more likely, bearing in mind the massive sums involved, reweight into international equities.
    This seems to be a very unpatriotic thing for an Australian political party to do.
    To force SMSF’s to dump quality Australian shares and invest the money overseas.
    The end result will be a huge shortfall in the tax take Labor has estimated, a lot of pissed off SMSF trustees that will never consider voting Labor and a potential Labor instigated bear run on the Australian stockmarket as this reweighting occurs.
    Interesting that unions are exempt from this madness!
    Makes no sense to me.
    Have I missed something or has Labor really lost their marbles on this one?

    • Chris O'Neill July 31, 2018 at 12:41 AM #

      The Future Fund (which is a public servant superannuation fund) is also exempt because the Labor Party discovered that tax on contributions to the fund come nowhere near using up the franking credits earned by the fund.

      So yet another example of special pleading for this bizarre tax law.

  19. John Bedson June 22, 2018 at 10:41 AM #

    In the highly unlikely event that Labor do win the election, this is my advice to SMSF trustees if they want to minimise the damage to their income. (Cuffelinks note: we are not licensed to give financial advice and we have not verified the accuracy of comments made by our readers).

    Firstly you need to be grateful that under Labor you will still have the most generous tax concessions of any nation in the OECD by a very wide margin. It was wonderful to have our 100% tax free status for a few years, but it was crazy of the Howard government to let us be tax free in the first place. For retirees with a SMSF it was like living in a 100% tax free tax haven and it was not sustainable. It was grossly unfair on the younger members of society, parents struggling to bring up children and everyone else in employment, be they working class, middle class or the wealthy.

    Please don’t accuse me of class warfare because I’m a multi-multi-millionaire who retired young twenty years ago after building and selling a large company in Europe. I have enough money to last for eternity and I have a huge SMSF that sucks vast amounts of franking credit refunds out of an Australian government that is mired in deficits. That is not right.

    I felt guilty that our government was throwing large amounts of other people’s money at me and I was spending it on diamond jewellery for my wife and new top of the range Mercedes cars. Even my kids were driving expensive cars thanks to Peter Costello’s moment of mania when he declared me to be tax free for life. Thanks Peter, but what were you smoking at the time???

    In the UK they have abolished franking credits and you pay full rate tax on your retirement income, including the miserably small State pension that you have paid into all your life. No 1.6 million tax free over there! Even wealthy retirees live poor in the UK. I’m British so I should know. That’s why I moved to Australia, to enjoy your generous tax concessions to retirees.

    = AND THEY WILL STILL BE VERY GENEROUS UNDER LABOR!!!!!

    That’s the first thing to get into your head. Retiring in Australia, even with a Labor government, is like retiring in Heaven compared to retiring in any other advanced economy in the Free World.

    The next thing to realise is that you are NOT losing your franking credits. You still can keep them, but you won’t get a cash refund on them. So the obvious thing to do is to use them in the way that they are intended and soak up tax payable with your franking credits. That means tilting your SMSF away from income and towards making capital gains. Those capital gains will effectively be tax free under a Labor government because you will be able to use your excess franking credits to pay the CGT and therefore pay nothing in the way of CGT.

    Our GCT rate is ridiculously low in an SMFS. 15% for an asset held for less than a year and only a trivial 10% for assets held over a year! You can use that to mop up tens of thousands of dollars in franking credits that would otherwise be lost every year if you keep taking everything in income and not capital gains.

    If you still have too many franking credits then reduce them, to avoid wasting them, by investing in companies that have a trust structure instead of a company structure. They pay increased dividends and have stronger growth but don’t issue franking credits because they don’t pay company tax, so they make more profit.

    It won’t be easy getting the new mix just right, but over time you will get the hang of operating this way and before long you will not be losing much, if anything, in the way of franking credits.

    Finally, I have been discussing with the Vanguard people and they tell me that they are looking at creating low cost funds to get around the new Labor policies if Labor do win power. If they do that you can let the Vanguard people do all the hard work for you and all you have to do is pay them a minimal management fee to defeat the possible Labor government confiscation of your beloved franking credits.

    See what I mean? All is not lost. Bill Shorten is not the Anti-Christ and SMSF Hell does not await us. This IS the ‘Lucky Country’ and we wealthy are still going to be the most fortunate people on Earth to own lucky SMSFs in this most glorious country of Australia.

    • Chris O'Neill July 31, 2018 at 1:05 AM #

      Please don’t confuse the inequity of tax-free superannuation pensions with franking credit refunds. Tax-free superannuation pensions are almost completely lacking in horizontal equity with other types of income while franking credit refunds are necessary for vertical and horizontal tax equity.

      Tax-free superannuation pensions are wrong.

      Non-refundable franking credits are wrong.

      Two wrongs don’t make a right.

  20. Jon June 22, 2018 at 10:54 AM #

    Once you accept that the cash refund for excess pre-paid tax will be permanently confiscated, but that the tax credit can be offset against your other tax liability, a number of strategies present themselves.
    That is the point: Investors are not sitting ducks – most investors will take evasive action and most would be taking advice to consider their options now rather than later.
    Any yet, the Labor policy is based on out-of-date 2014 figures and based on the ludicrous assumption that investors will not change their behaviour. But that may not stop them spending this illusionary tax revenue.

  21. Graham Hand June 22, 2018 at 11:29 AM #

    Cuffelinks note: while we greatly appreciate the comments and debate on our website, we are not licensed to give financial advice and we have not verified the accuracy of comments made by our readers. While this might sound like the usual disclaimer, we believe people should take advice on their own circumstances before acting.

  22. Macca McLennan June 22, 2018 at 3:27 PM #

    Hi All

    I agree with most of Jon Bedson comments
    Nearly every one can adjust their affairs so they suffer little if
    any loss if they their franking credits are lost.
    Simply the Labor plan to hit “High Net Wealth” will fail.
    Every “HNW” taxpayer should read Jon’s comments & discuss it with their adviser.

    It seems those SMSF’s whose member(s) with a balance below $1,600,000 & who are self funded retirees will be just about the only ones to be badly affected.
    Sure i can close the SMSF down & go to a APRA registered fund.
    My problem over the last ten years my returns are well above the the best of the APRA funds.

    I would be better off if all SMSF & APRA fund members paid a 15% tax regardless of whether they were in the retirement or accumulation phase.

    Maybe i should immigrate to NZ.
    My NZ friends tell me everyone gets the pension & everyone pays the appropriate
    tax which depends on their income.

  23. Davo June 22, 2018 at 9:54 PM #

    I think you are missing the point…it’s about helping the union based super funds, who are the money supply for the alp

  24. Martin June 24, 2018 at 12:17 PM #

    Dear Graham, your note regarding the future tax cuts for higher earners:

    “It’s a good political question from Shorten and rising inequality is not beneficial for society, but the aged care worker might not be paying much income tax.”
    I can only agree that it is a political question. It is neither good, fair or proper.

    I am retired. But I cannot accept that too many people in this country think that losing nearly half your salary in tax is fair.
    Shorten continues to throw misleading points out to the people of Australia. All the taxes that Shorten proposes will cost most of us paying tax, more tax, but where is the Labor Party on fairness?
    What about all the people who own very expensive homes but get a Pension and the Health benefits? Taxpayers are literally paying for their inheritances!
    It seems politicians (to be fair on both sides) can say anything and not get picked up by the press – ie the facts. What ever happened to good reporting?
    There seems to be a lack of argument of just how the Shorten plan of taxation (all his new taxes) will actually slow the economy and inhibit payment of our debt mountain. The LNP is poor in their explanations.

    Most of all, what is fair about the Labor proposal for franking credits? It means all the taxes I am overpaying will not be returned to me. Shame. Has anyone analysed what that might do to share prices?

    Regards, Martin

  25. John Bedson June 25, 2018 at 8:45 AM #

    It is naïve of Labor to talk about their proposals being “fair.” What is fair to one person can be grossly unfair to another, who may suffer undue hardship being victimised by politicians to give the other person “a fair go” and buy votes.

    We live in a free market economy that is energised by the “unfairness” in society. If everything were made perfectly “fair” our economy would grind to a halt and we would starve, which is what happened in the Soviet Union, China and more recently North Korea and Venezuela under extreme left wing politics.

    Politicians need to promote “fairness” but balanced against the need to motivate aspirational people to work hard, be thrifty and creative. The only way to accomplish this is to allow them to “unfairly” prosper in life without the politicians continually taking their hard earned wealth and redistributing it to their less fortunate voters. This is not “fair”, it is corruption and extortion.

    This is my point in my various comments above. I agree that we wealthy SMSF retirees have been unjustly rewarded with overly generous tax concessions in the past. But the new taxation by the Liberal Coalition has largely addresses those issues. But hitting us with the new Labor “Retirement Taxes” including the 30% tax on our fully franked shareholdings is a kneejerk reaction motivated by jealousy that is “fair” to the Labor voters who will, be receiving our money, but unjust on us victims.

    We are elderly, unsure of quite how to invest our savings, stricken with worsening ill health, losing our partners to the cruel grave, battling the forces of inflation that are eating away at our income to a greater extent every year and quite frankly terrified that large amounts of our money are threatened with being taken by a political party that is blatantly using our assets to buy votes and win power.

    This is not “fair.” This is unjust extortion. This is victimisation by bullies who are blaming the victims, which is what happened to the unfortunate Jews in Nazi occupied Europe. In my opinion this is naked corruption.

  26. Patrick Kissane August 2, 2018 at 12:22 PM #

    A bit of history on franking credits. In the UK until 1965, every dividend had a franking credit. It was regarded as tax paid at source much like tax paid under the PAYE system for wages. Dividends received were listed invariably as Gross, Tax, Net. Return-on-investment calculations were always based on the gross amount.Then the Labour government were elected in 1965, they abolished franking credits and dividends received were taxed as normal income on the amount received. I know from experience that southern Africa counties in the 1960’s followed a similar rule i.e. no franking credits. In the 1970’s in Australia, a similar rule was followed. However, some years ago, franking credits were introduced in Australia. However people had difficulty in just seeing them as equivalent to tax deducted under the PAYE scheme for wages and regarded them as somewhat in the nature of a bonanza.

  27. John Griffith August 3, 2018 at 5:19 AM #

    Is there any possibility in the Labor policy that they may isolate franking credits to only apply to the tax on the dividend for which they were issued ? In anything I have read by Labor on the topic there does not appear to be any suggestion that they could NOT slip this in as well. So, if you have dividend and “other” income, and your marginal tax rate is less than 30%, you would NOT be able to apply the excess FC’s to the tax on the “other” income. It seems to me that they would go this extra step, if they can?

  28. Jim Brooks August 28, 2018 at 5:38 PM #

    I am not a lawyer, much less a constitutional lawyer, but as I understand the ALP policy proposal, if it were to become law, the intention seems to be that tax rebates of those who can’t offset them against other income would be forfeited. Such tax rebates are the property of the investor are they not, as evidenced by the requirement to include them in the investor’s tax return as income.

    Section 51(xxxi) of the Constitution reads as follows:
    “The Parliament shall, subject to this Constitution, have power to make laws for the peace , order, and good government of the Commonwealth with respect to:
    ……(xxxi) the acquisition of property on just terms from any State or person for any purpose in respect of which the Parliament has power to make such laws;” (my emphasis)

    Why would S51(xxxi) not apply in the above circumstances ? Anyone?

  29. Anthony Donohue October 30, 2018 at 11:44 AM #

    John, please make sure Cuffelinks makes a submission to the parliamentary inquiry on this policy.
    Also anyone else who is adversely affected by this unfair policy.
    Submissions are due by 2nd November 2018.

    https://www.aph.gov.au/Parliamentary_Business/Committees/House/Economics/FrankingCredits

    • Warren Bird October 30, 2018 at 3:10 PM #

      The Inquiry website has begun to publish submissions. 240 have gone up so far!

      https://www.aph.gov.au/Parliamentary_Business/Committees/House/Economics/FrankingCredits/Submissions

      Mine will be coming up in a little while. I’ve been advised it’s #282.

      Most are just people venting their personal frustration or a personal opinion. Based upon a random sampling of these, most are next to useless for policy making, but that’s normal.

      Many don’t do much more than provide some data that could be helpful, about how much they’ll personally lose in franking credits. But the terms of reference asked for that sort of information, so the inquiry is getting what it wanted.

      Some address the policy principles that, in my view, should drive the outcome.

      There aren’t a lot of detailed submissions, well argued and fully supported.

      Some of the more notable submissions I’ve noticed so far include #119 (Australian Shareholders Association) and #158 from Geoff Warren (who wrote about this for Cuffelinks recently).

      • PeterT October 30, 2018 at 4:52 PM #

        Agree Warren. Many of those (first 240) submissions are indeed “next to useless for policy making”.

        I am fascinated to see how many respondents raise the psychological or mental health implications of removing the refund of excess credits, as a reason for not doing it…

      • Loz October 31, 2018 at 7:31 PM #

        Submission 102 is awesome, someone has gone to a lot of effort to quantify the effect on various taxpayers. Submission 222 also has some useful info

        I know quite a few people who have sent in submissions which are not online yet, so hopefully plenty more to come

        The terms of reference did ask for people to let them know the effect it would have, so the many stories of huge reductions in income for some retirees are relevant

        The terms of reference did not ask for alternative policies, only what effect this one would have.

  30. Chris O'Neill October 31, 2018 at 3:32 AM #

    One of the simpler arguments is that the Labor policy has no vertical equity in pension fund tax.

    This may not matter if there is little or no tax but once you have a heavy average tax rate like 30% then vertical equity becomes vital.

  31. Ian Bayley November 23, 2018 at 12:48 PM #

    We are a 73 & 71 year couple of self funded retirees. I voted labour all my life. We planned our lives for lifestyle and to be self reliant in our older age. We have a SMSF of about $550,000 that generates dividends of about $20~25,000pa. Adding franking credits brings our total income to about $30~35Kpa. And its not even as though the franking credits are the Govt’s money. We, as the shareholding owners of companies have already paid the tax on income. Franking credits were designed to ensure we do not pay it twice.
    We are far from rich, but have assets preventing us from being pensioners, being a home and weekender cottage on which in fact we pay land tax.
    We are no burden to the Govt. We get no free car rego, no phone rebate, no household rates rebates, no extra medical support and of course no pension. We should be seen as a blessing to the Govt, but not so it seems to Shorten & Bowen. To them we are the ‘super wealthy’ bleeding the Govt dry.
    There must be tens of thousands of couples like us, who worked hard, planned for their future, living financially modest lives but who are now being put under the guillotine by this class war driven, revenge obsessed Labour party.
    Find the rich and hit them as hard as you can, and don’t worry if in fact they are not rich. Stick to the mantra. Everyone must have 1 house before anyone gets 2. So they must be stinking rich.
    Bowen is now emphasising the correctness of his policy. What does he expect us to do?. We are too old to reformulate a life plan. Does he expect us to undo a lifes plan arranged completely within the rules, just to we can survive.
    This development has done it for me. It’s clear the Labour party I knew in my life is dead, and heartless zealots now own it. I shall never vote Labour again, and I never thought that day would come.

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