As the 2019 Federal Election approached, the Australian Labor Party unveiled a series of controversial taxation reforms aimed at creating a fairer system and bolstering the Commonwealth budget. Among these proposed changes (which never came to fruition as they lost the election) was a significant modification to the dividend imputation system and franking credits. We’ve updated this article from 2019 to recap the proposed policy. We’ll also explore the concept of franking credits as a tax strategy for investors and how Labor's franking credit policy might impact them if it became law in the future.
What Are Franking Credits?
The dividend imputation system was introduced by Paul Keating to eliminate double taxation on dividends from company profits. Under this system, companies can attach franking credits to dividends paid to its shareholders. The shareholders in turn:
- include the value of the franking credit and cash component of the dividend in their assessable income
- use the imputation credits to reduce their overall tax liability.
To put it simply: dividends received by shareholders are paid out of company profits that have already been taxed. To avoid this income being taxed twice, these dividends are ‘franked’, which means that the shareholder will receive a tax rebate, otherwise known as a franking credit or imputation credit, that is equal to the tax that has already been paid by the company.
Under the Keating Government, any excess credits went unused. However, the original dividend imputation system was extended under the Howard Government to allow individuals and superannuation funds to receive a refund if the franking credit exceeds their income tax liability. If the tax rate of the shareholder is less than the company’s tax rate, they receive a refund from the ATO. That means a cheque in the mail come tax time.
How Would Labor’s Proposed Changes To The Dividend Imputation System Have Impacted Investors?
If Labor were to be elected, they announced that starting from 1st July 2019, they would amend the imputation system to prevent individuals and superannuation funds from receiving cash refunds of franking credits. However, franking credits would still be available to reduce income tax liability, ensuring the tax system's fundamental benefits remain intact.
Labor's franking credit policy raised concerns among investors who historically received cash refunds on unused franking credits. Under the new policy, individuals and superannuation funds would no longer be eligible for such refunds. However, Labor clarified that this policy would not apply to charities, not-for-profit organisations, and pensioners. The party contended that 92% of taxpayers do not receive cash refunds, and the refunds predominantly benefit wealthier retirees and self-managed superannuation funds (SMSFs).
The Debate About Franking Credits
The proposal ignited a heated debate, with the Liberal Government arguing against it, labelling it a 'retirement tax' that could negatively impact low-income earners and self-funded retirees. Supporters of the policy believed it would address inequities and generate significant savings for the government.
Franking Credits as a Tax Strategy
Regardless of the proposed policy changes, franking credits continue to present a valuable tax strategy for investors. Individuals and SMSFs can still use these credits to offset their tax liabilities. However, with the potential removal of cash refunds, careful planning and strategic review are essential for managing any unintended implications.
Talk to our Experts About Protecting Your Investments
Franking credits have long served as an essential tax strategy for investors, preventing the double taxation of company profits. While Labor's franking credit policy did not come to fruition, it highlighted the importance of understanding tax strategies and seeking expert advice to protect and maximise your investments. As the political landscape evolves, staying informed about potential changes remains crucial for investors seeking financial security and growth.
If you have concerns about how a potential revamp of Labor's franking credit policy could affect your investments, seeking advice from financial advisors and tax experts is crucial. It’s important to note that no such policy is being proposed, but reviewing and implementing effective strategies for your family group or SMSF can help optimise your investments and mitigate potential risks.
