Established over 30 years ago, franking credits became a part of the Australian taxation system to remove the double taxation some corporate organizations were unduly subjected to. Shareholders can gain from this as a tax refund, however, it depends on their tax bracket. In this article, we will explain what franking credits are and how they work. Just keep reading!
What are franking credits?
Also goes by the name imputation credit, it is what investors or shareholders can receive alongside dividends from the company or business organization. This system of the tax credit is practiced in Australia and some other countries of the world.
This is because the corporation or business has already paid taxes on the dividends they intend to distribute to their investors or shareholders. This further implies shareholders or investors may have their tax reduced or even get a total tax refund.
How it works—the basics
Companies make profits, right? That’s what they were created for in the first place. Now, out of that profit, the company pays its investors or shareholders in the form of “dividends” that is, after paying company tax. The taxation office takes note of that so that eventually when shareholders or investors pay their monthly income tax, they receive credit. This credit is a result of the tax that has been paid on the dividend. All these are done in a bid to avoid double taxation. Unused franking credits will also be duly refunded.
Benefits of franking credits
When your dividend is fully franked before it’s received; this means your company paid a 30% tax flat rate. From this 30%, you could get a credit. And, if peradventure your personal tax rate is less than 30%, you can get a refund from the tax.
Let’s imagine, you have a share with company A. And, the company made a profit of $100 a month. When they eventually pay a tax of 30%, only $70 is left for the investor. Now, when you receive your dividend, you receive a credit for the $30 of tax that was paid by the company. As a shareholder, you’d have to declare $100 on your tax statement
Now, if hypothetically your marginal tax rate is 20%, you will get a partial refund.
Why do some companies pay unfranked dividends?
We are glad you asked. Remember, as we stated earlier, companies in Australia pay a tax rate of 30% on their profits or earnings which is enough to create enough franking credits.
Some companies pay unfranked dividends to investors or shareholders in Australia though they have made profits. Why? They are probably located outside the shores of the country. This means you are not entitled to receiving franking credits from a country domiciled outside Australia.
Keep the 45-day rule
You have to keep the 45-day rule if you don’t want to lose your franking credits. What’s this rule about? To qualify to claim franking credits on your tax returns, your shares must be held “at-risk” for 45 days or 90 days for preference shares (excluding days of acquisition and disposal).
