On 13 March 2018, the Opposition Leader: Bill Shorten announced that a Labor Government would, if elected (and the Senate permitted), abolish cash ‘refunds’ of excess dividend imputation credits for individuals and superannuation funds.
On 27 March 2018, the Treasurer (Chris Bowen) ameliorated this measure by exempting pensioners and pensioner SMSFs (what they call the ‘Pensioner Guarantee’). The result is, they will still get refunds of unused Franking Off-sets (classic Labor).
What the primary announcement means
The announcement is that franking tax offsets would no longer be refundable, under Div 67-25 of the ITAA97.
- This means that a resident individual could only use franking credits to reduce their tax and could not get a refund of any unused excess.
- The same would be the case for resident, complying superannuation funds. Those receiving taxable contributions, should have no problem using all their credits. Those in accumulation phase might be able to use all their credits (but not if all their investments were in resident company shares paying fully franked dividends (because they’ll be paying 15% tax on their earnings and franking credits are at 30% or 27.5%). There’ll be less problem using all the franking credits if the fund is receiving taxable contributions. A fund in ‘pension phase’ (paying $nil tax on its investments) will not be able to use all their credits (and will lose the refund) unless it has enough tax to pay on contributions it receives.
- The measure is principally aimed at Self Managed Superannuation Funds (SMSFs), which typically only have 1 or 2 members, and when in pension phase, are most unlikely to be able to use all it’s franking credits.
- Other victims include retirees receiving exempt superannuation benefits, who also have some shares in their own name. Unless they have enough tax to pay, from other sources, they too, will lose refunds.
- Further victims include non-retiree individuals, with low taxable income (for whatever reason) and some franked dividends, in their own name. This might include persons who negatively gear, or it might those with truly modest means.
What’s exempted from this measure
Labor’s policy would NOT apply to:
- ATO-endorsed income tax exempt charities; and
- Not-for-profit institutions (eg universities) with deductible gift recipient (DGR) status.
- The Future Fund, which received $0.8 billion in the 2016/17 year (in other words nearly $1 billion a year).
Ameliorative Pensioner exemption
Also exempt from the refunds ban, are ‘pensioners’ and ‘pensioner SMSFs’ (albeit the latter are ‘grandfathered’). Specifically, those exempted will be:
- Every recipient of an Australian Government pensioner allowance, with individual shareholdings, will still be able to benefit from cash refunds. This includes individuals receiving the Age Pension, Disability Support Pension, Carer Payment, Parenting Payment, Newstart and Sickness Allowance.
- Self-managed Superannuation Funds (SMSFs) with at least one pensioner or allowance recipient, before 28 March 2018, will be exempt from the changes.
Costings – before and after the pensioner relief
Labor says that refunds of unused franking franking credits will soon cost $8 billion a year. They’ve estimated that this measure will save about $5 billion a year (the missing $3 billion being the exempted entities – nearly $1 billion of which is paid to the Future Fund).
More specifically, they’ve costed this further exemption (of pensioners) as costing about $0.4 billion a year (so, for instance, in the 2021/22 year, the previously budgeted saving of $5.6b is reduced to $5.2b).
Rationale for the measure
Labor says that $8 billion a year is a lot and it’s unsustainable with the budget having been in deficit so long. It notes that this is more than the Federal Government spends on Australia’s public schools this year (saying it would be better that it’s spend on schools and cutting hospital waiting lists).
Labor also says that the refund is ‘unfair’. In aid of this assertion, they say the following.
- 80 per cent of the benefit accrues to the wealthiest 20 per cent of retirees.
- 90 per cent of all cash refunds, to superannuation funds, accrues to SMSFs (though, they are unique in having ‘seasons’ where the whole fund has low or no tax).
DATE OF EFFECT would be: 1 July 2019.
28.3.18
[ALP Factsheets: Initial, Pensioner Exemption; Shadow Treasurer’s website: media release, media release2; FJM; LTN 49, 13/3/18; LTN 59, 27/3/18; Tax Month March 2018]
Subsequent commentary
The announcement has provoked an avalanche of comment. For a taste of it, ‘google’ something like: Labor’s plan to end refunds of franking credits. But here is a list of the comments that have taken my eye.
- This measure caused Labor unexpected grief, in the lead up to Batman by-election, but in the end they beat the Greens and felt emboldened (albeit it, ‘softened up’ enough to belatedly give pensioners relief).
- Exempting the ‘Future Fund’ from this measure, exposes Labor to claims of hypocrisy (why exempt this tax free fund, which is accumulating to fund public sector defined benefits..
- A 5% fully franked dividend, would reduce to only 3.5% (if the 1.5% refund was removed). On the other hand, the same dividend would still yield 5%, in a publicly offered fund, with plenty of ‘off-setable’ tax (from many members making taxable contributions and many members still in accumulation phase with taxable earnings).
- SMSF’s could get some relief by switching to direct or transparent investments, in other classes of assets – where the whole economic yield makes it through (otherwise the gross return is diminished by the company tax that is not refunded to the shareholder).
- In a similar category are international equities (where there are no ‘franking credits’ to lose).
- Originally, ‘imputation’ did nothing more than stop company profits being double taxed, but after Howard/Costello made them ‘refundable’, the rationale for franking ‘morphed’ into, allowing company profits, to be taxed at the rate applicable to the shareholder.
- This ‘shareholder tax rate’ rationale does stop tax driven distortions from optimal economic investment.
Abolition of franking more generally
Many pundits have flirted with the idea of abolishing imputation, as a means of raising additional Federal Revenue.
- The architect of ‘imputation’: Paul Keating, is opposed to dismantling imputation, entirely, but supports abolition of the Howard/Costello refunds.
- If the corporate tax rate were as low as 10%, total abolition of franking, might be an acceptable cost.
- A cheaper, alternative answer, might be to have a ‘dual rate’ company tax system (say 10% and 25%). 25% tax paid, would generate franking credits, as normal. But 10% taxes would not generate tax credits. The rationale is to leave more, of the company’s profits, to re-invest.
Study questions (answers available)
- Was the measure, that Labor announced, to abolish refunds of franking tax off-sets, that cannot be used by simply off-setting other income tax?
- Would this affect large superannuation funds?
- Would this affect the funding of private sector superannuation through SMSFs?
- Would this affect funding of public sector super through the Future Fund?
- Would this affect private sector exempt charities and DGRs?
- Would this affect pensioners?
- Would ‘imputation’ as Keating introduced it, be maintained under this measure?
- Might the ‘shandy’ idea be to have the non-frankable rate of tax at 25% and the frankable rate at 10%?
[answers:1.yes;2.no(theirMembershipProfileLeavesEnoughTax);3.yes(withLow/NoTaxOnIncome/Contributions);
4.no(FutureFundIsExcempted);5.no(exempted);6.no(subsequentlyExempted);
7.yes(itWasHoward-CostelloWhoAddedRefunds);8.no(OtherWayRound)]