As a shareholder, you’ve probably heard of dividends and capital gains tax but may be unfamiliar with the concept of franking credits.
The franking credit system, introduced in 1987, is designed to prevent the double taxation of company profits, so shareholders are not required to pay taxes on their dividends.
But how do they work? And as a shareholder, are franking credits even relevant?
Franking credits (often known as imputation credits) are a form of tax credit that eligible shareholders of Australian companies receive from dividends funded through after-tax profits.
Australian companies are required to pay taxes on profits. Dividends that are funded by after-tax profits and then paid to shareholders are known as franked dividends.
To prevent double taxation, franking credits allow a business to pass on a tax credit to its shareholders, helping them to receive a refund on any excess tax paid on their dividends. If a shareholder’s tax rate is lower than the corporation’s tax rate, the shareholder may be eligible for a tax refund of the excess franking credits, with the Australian Taxation Office (ATO) paying once the shareholder files their tax returns.
To better understand how franking credits work, let’s look at an example.
A company pays a dividend of $500 to John, a shareholder. The company has also already paid taxes on its profits. John receives this $500 dividend, and a franking credit of $150 is attached to the received dividend. When John lodges his taxes, he will include the $500 dividend as part of his taxable income but will also claim the $150 franking credit as a tax payment made on his behalf.
If the ATO determines that John’s tax is lower than the corporation’s, he may be eligible for a refund of the excess franking credits.
For instance, if John is meant to be taxed $100 on his shareholder income, he could be eligible for a refund of $50.
As an individual shareholder, you may be eligible for franking credits depending on your tax residency status and what type of entity you are.
If you hold shares in Australian companies, you may be eligible for franking credits if you meet the following criteria:
For individual shareholders, the following anti-avoidance rules apply:
If you’re unsure of how many franking credits you’ll receive as part of your tax rebate, fear not. There is an easy franking credit formula you can use to calculate how much you could receive:
(Dividend Payment ÷ (1- Company Tax Rate) - Dividend Amount) x Franking Percentage
Let’s look at the below example. If you’re paid a dividend of $200, and the company tax rate is 30%, the franking credit amount would be:
(($200 / 1 - 30)) - $200 ) x 1 = $85.71
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To learn more about unfranked dividends, read our explainer article on Division 7A.
While every care has been taken to ensure the accuracy of the information presented as at 12 April 2024, Intuit is not providing you with professional advice and we recommend you obtain your own professional advice. Intuit is not liable for your use of the information presented.
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