A. On 13 March 2018, Chris Bowen, the shadow treasurer announced that Federal Labor’s tax reforms would abolish the net refunding of franking credits should they be elected to government. The policy announced does not seek to abolish franking credits but rather abolishes the tax refund for those who have franking credits in excess of the tax offset.
For those who claim franking credits and are still liable to pay tax, there is no change, they will continue to be eligible to use franking credits to offset any tax liability. Those who will be most impacted will be those paying little or no tax due to low income who have investments generating franked dividends in excess of their tax liability.
Following public criticism of the policy, twelve days after the original announcement, the Labor Party revised the proposal and announced the Pensioner Guarantee. The Pensioner Guarantee means Australian government pension and allowance recipients will continue to be eligible to claim cash refunds for the excess dividend imputation credits. This includes individuals receiving the Age Pension, Disability Support Pension, Carer Payment, Parenting Payment, Newstart and Sickness Allowance. Self-managed Superannuation funds with at least one recipient of an Australian Government pension or allowance as of 28 March 2018 will be exempt from the changes.
Those likely to be impacted the most will be self-funded retirees who do not qualify for the Age Pension or individuals who do not qualify for the Pensioner Guarantee who traditionally have received a franking credit refund from their tax return. Self-managed Superannuation funds which traditionally carry a concentration of share investments with franking credits will be disadvantaged. Others impacted will be investors in Retirement Income streams such as account-based pensions who pay no tax on earnings within the fund. Charities and “not-for-profits” have been exempted from the proposal.
Dividend franking was introduced by the Hawke/Keating Labor government in 1987. From 1 July 2000, amendments were made to the policy by the Howard/Costello Liberal Government, enabling taxpayers to claim franking credits as a cash refund from the ATO. For retirees, these franking credit refunds have formed a valuable source of supplementary income to offset the impacts of falling interest rates and reductions in age pension benefits as a result of changes to assets test thresholds.
If this proposal was to become law, the policy is due to commence from 1 July 2019.
Q. If Labor get elected and these proposals are passed into law, what investments should I avoid?
A. It is important that investors do not rush to make substantive changes to their investments in anticipation of the law change. In the first instance, Labor would need to win the election and legislation would need to pass through both the lower and upper house of parliament.
If this proposal was to become law, determine if you will qualify for the Pensioner Guarantee concession, you may find you are unaffected.
If you are impacted, there are a range of measures that investors should consider. Diversify your investment portfolio to include investments that do not rely on franked dividends to generate sustainable income. Include investments that generate partially franked dividends or dividends with no franking credits. These may include investments that generate income from offshore or international investments. Examples of these could be managed funds investing offshore, international shares or property trusts with investments held domestically or offshore.
Be careful of Australian listed hybrid notes and bond investments, where the yield is derived or boosted as a result of franking credits. Most likely if franking credit refunds were abolished, the market would reprice these investments in light of the change.
Share buybacks incorporating a large proportion of the payment as a franking credit may become less popular in future with less shareholders being able to benefit from the tax credits.
In assessing where to invest for retirement income, the investment yield must be sustainable regardless of tax policy. If you are relying on investment or fixed incomes in retirement, focus on lower risk and diversified income sources. Ultimately look for managed or direct investments that focus on the yield regardless of franking credits.