Reduced corporate tax rate and franked dividends
Brief Overview of the Interaction between the Reduced Corporate Tax Rate and Franked Dividends
LAST UPDATED SEPTEMBER 2017
The reduction in the Small Business Entity tax rate on 1 July 2015 to 28.5% then on 1 July 2016 to 27.5% were widely welcomed as providing relief to small businesses.
This has resulted in changes to the Imputation calculation when franking a Dividend. From 1 July 2016, entities eligible for the Reduced Corporate Tax Rate are only able to frank their Dividends to the Reduced Corporate Tax Rate (ie. franked to a rate of 27.5% instead of the general Corporate Tax Rate of 30.0%.)
This is the case, even if a Company accumulated its Imputation Credits/Franking Credits over several years while paying tax at the 30.0% tax rate, it will still be limited to franking its Dividends to a rate of 27.5%)
The reduction in the franking percentage means Companies are not able to attach as many Imputation Credits to Dividends compared to previous financial years. This may result in a direct loss to Shareholders of the Companies as this reduction will usually result in Shareholders paying more tax.
Example: A Company earned $10,000 in profits for the financial year ending 30 June 2015, paid $3,000 in tax and retained $7,000 as Retained Earnings. From 2017 FY onwards, if the Company decides to pay a Franked Dividend of $7,000 they would attach $2,655 in Imputation Credits (whereas prior to 1 July 2016 they would have attached $3,000 in Imputation Credits).
If the shareholder in receipt of this dividend is an individual taxed at 34.5% (including the Medicare Levy) then the table below shows the differing tax results:
Old System | New System | |
|---|---|---|
Dividend | $7,000 | $7,000 |
Imputation Credits | $3,000 | $2,655 |
Assessable Income | $10,000 | $9,655 |
Tax | $3,450 | $3,331 |
Imputation Credits Used | $3,000 | $2,665 |
Net Tax payable | $450 | $676 |
From the above example, we see that the shareholder is paying more tax under the new system due to the lower franking rate of Dividends paid by the Company.
This would be a reasonable outcome where the Company paid only 27.5% tax on these profits, however this is less reasonable where the Company paid 30% tax on these profits in a prior year.
It may be the case that the Imputation Credits (accumulated in prior years) that are not paid out by the Company to the reduction in the franking percentage will not be able to be utilised.
Using the above example to illustrate, in 2015 when the company paid $3,000 in tax they would have accumulated $3,000 in their franking account, but since they are only able to attach $2,655 in Imputation Credits (since 1 July 2016) to the dividend paid, the extra $345 in Imputation Credits will be stuck in the franking account. These would be unable to be utilised as the company does not have any Retained Earnings remaining to pay further Franked Dividends.
The above situation will not apply to Small Business Entity companies who are distributing dividends from profits that they derived during the 2017FY since there would be no difference between the tax rate and the franking rate.
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