As many of you would be aware, if elected into Government this year, the Labor party is proposing to remove the refund of excess franking credits from July 1, this year. This policy announcement has triggered lots of media commentary and as advisers, many clients have been asking what plans we have been considering “if this happens” and what they should do to protect their income. For the moment, the answer is not much.
Franking credits, also known as imputation credits, are a tax credit attached to dividends paid by Australian companies. Where an investors tax rate is below the company tax rate, there are more tax credits than tax payable by the investor. Currently, those excess tax credits can be refunded back to the investor when they lodge their tax return. Those with low incomes, such as retirees and superannuation funds, who are not in receipt of a Government pension, are the investors that will be most impacted by this policy as the franking credits they receive as a refund would stop.
There has been a lot of confusion around this proposed measure and several key points require clarification. Firstly, refunding franking credits is not a cash grab for the wealthy. As explained above, investors only receive a refund of franking credits when their tax rate is less than the company tax rate (currently 27.5%). Most would agree that these are not high-income earners. In fact, high-income earners will not be impacted by the change at all given that they will continue to be able to use franking credits to offset tax on company dividends.
Further, with the introduction of the superannuation balance cap from 1 July 2017, only earnings on the first $1.6 million within superannuation are exempt from tax, with the balance being taxed at 15%. Therefore, for those with balances in excess of $1.6 million, refunds of excessive franking credits have already been reduced substantially.
It could be argued that the introduction of this proposal also creates an unequal playing field between Australian company shares and other asset classes, namely property. For example, the Tax Office does not deduct 27.5% tax from rent paid by tenants to landlords and rental income is taxed in the hands of the investor.
The group that I consider most disadvantaged from this proposal are those self-funded retirees who just miss out on the age pension i.e. couples with more than $853,000 and singles with more than $567,250.
In the case of a couple with say $900,000, their investments could generate income of around $40,000 per annum, plus they may receive a refund of excess franking credits of around $5,000 per annum. Following the introduction of the proposed change, this couple would be $5,000 worse off.
Compare the above with a couple with say $800,000. In addition to investment income of say $35,000 per annum, they would also receive a part pension of around $4,000 per annum and retain their refund of franking credits of around $4,000 per annum, providing total income of $43,000 per annum, or $3,000 per annum better off than the couple with $900,000. Is this the outcome we want, where we are providing a disincentive to accumulate wealth for retirement?
There is still an election to be held, firstly Labor would need to win, then pass the legislation through Parliament. As we have seen in recent years, passing legislation through the Senate can be extremely challenging and many previous government policies have been watered down. It could even be argued that Labors proposed policy is unlikely to gain the support of the conservative-leaning Independents, who may hold the balance of power.
Given the contentious nature of the proposed franking credit policy, it is reasonable to expect that there could be changes to the policy before it becomes law. Therefore, with all the uncertainty and all the hypotheticals, my suggestion would be to adopt a wait and see approach.
If you are a client of Hewison Private Wealth, your portfolio is tailored to your individual and family circumstances and we would need to carefully review the impact of policy change, should it occur, at the appropriate time, which is not just yet.
Hewison Private Wealth is a Melbourne based independent financial planning firm. Our financial advisers are highly qualified wealth managers and specialise in self managed super funds (SMSF), financial planning, retirement planning advice and investment portfolio management. If you would like to speak to a financial adviser on how you can secure your financial future please contact us 03 8548 4800, email firstname.lastname@example.org or visit www.hewison.com.au
Please note: The advice provided above is general information only and individuals should seek specialised advice from a qualified financial advisor. The views in this blog are those of the individual and may not represent the general opinion of the firm. Please contact Hewison Private Wealth for more information.