SMSF (Self Managed Superannuation Fund) trustees may potentially lower the tax liability owed by their fund by choosing to invest in completely franked Australian securities.
The company tax rate for businesses under the $50mil gross turnover threshold will be 25% from the 1st of July 2021 (30% is the typical company tax rate in Australian, as mentioned above), while the maximum amount of tax paid by an SMSF is just 15%. This makes it an enticing tax break for SMSFs buying fully franked stocks with high yielding dividends. If a large portion of the investment portfolio of the fund consists of entirely franked securities, their net tax bill can be greatly reduced.
The franking credit will offset the tax payable on the dividend if an SMSF earns fully franked dividend income in the accumulation process. Franking credits can also be used to minimise or reduce taxes due on all other SMSF profits, including the tax on capital gains, rental income and tax on concessional contributions. In the absence of any other taxable income from the SMSF, the ATO shall provide the SMSF with a cash refund for the company tax charged.
When the SMSF tax rate is lowered to 0% through the pension process, franking credits become much more valuable since the full value of the franking credit is returned to the SMSF.
For high-income earners trying to reduce the amount of tax levied on concessional super contributions, franking credits may be especially beneficial. The tax on concessional super contributions is expected to rise from 15% to 30% for individuals earning over $300,000. Individuals may look at raising the investment of their SMSF in fully franked Australian shares, rather than investing additional funds in super.
Proposed Franking Credit Reforms & Why They’re Controversial
The Labor government has repeatedly claimed that a backdoor for rich investors is the franking credit scheme. The opposing view is that many retirees aren’t affluent and rely on franking credits as a main source of income. Nevertheless, economists estimate that the government loses around $5 billion a year for franking credit deductions.
While most governments offer some form of tax relief on dividends, the Australian scheme is unique because it facilitates the conversion of imputation credits into cash. New Zealand, by comparison, provides imputation credits but the tax bill of a shareholder can only ever be reduced to zero.
Labor has suggested that Australia return to its pre-2001 scheme (which resembles New Zealand’s) where franking credit refunds outside of superannuation will be scrapped. In March 2019, opposition leader at the time Bill Shorten revealed Labor’s intention to restore the dividend imputation scheme to the original 1987 format by scraping excess franking credit cash refunds.
The problem is especially troubling for the SMSF industry since SMSF funds will not be eligible for refunds under this scheme, while standard super funds will be.
So What Is Better – Franked Or Unfranked Dividends?
While franking credits can be advantageous for an individual’s particular tax situation, it is always best to seek input from professional accounting or tax specialists and financial planning advice to determine what investments are right for you.
More information about investing in securities listed on the ASX which show both solid growth performance in terms of capital return and dividends for investors, contact the experts at Flagship Investments Limited (ASX Code: FSI) on 1800 FLAGSHIP (1800 352 474).