A common question we get from people is how much tax they need to pay if they were issued with dividends from their company.
In reality the tax treatment is fairly straightforward – once you get your head around the Imputation System Australia uses to ensure we aren’t double taxed on the income.
1. “Imputation Credits” and “Franking Credits” are the same thing. It’s just a fancy, probably grammatically correct way, of saying tax credits go with the cash
2. To be able to give you tax credits with the dividend the company needs to have paid tax (as in cash received by the ATO)
3. Only companies can pay dividends. Trusts make distributions.
4. Shareholders can get a refund if their tax on the dividend is less than the franking credit
5. Shareholders will pay tax if their tax on the dividend is more than the franking credit
6. Large companies pay 30% tax, and small companies pay 25%
The answer is your marginal tax less any franking credits (imputation credits) received as part of that dividend. But there’s some kinks in the calculation so lets go through an example
Assumptions:
Company is a tax resident of Australia. It’s small business entity. Tax Rate is 25%.
Shareholder is an individual, Australian tax resident. Has owned the shares for more than 45 days (it’s a thing, but it’s only a thing if you don’t hold the shares for less than 45 days – so if you’ve held them for more than 45 days don’t worry about it).
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Company
Taxable Profit $100,000
Tax Payable $25,000
After Tax Profit $75,000 (amount available as a dividend)
The company pays the tax lickity split on 31 July and then declares a fully franked dividend to the shareholders on 15 August of $75,000
Individual
Dividend Received $75,000
Plus
Franking Credits $25,000
Taxable income $100,000
(notice how the individuals’ taxable income is the same taxable income as the company? – that’s not by coincidence)
Tax Payable (inc Medicare Levy) $24,967
Less Franking Credits Received $25,000
Net Tax Payable/(Refundable) ($33)
So in this case, the franking credits attached to the dividend are just enough to cover the tax payable on that dividend. But say you had some salary and wages too, that would push your tax up, and could push you into tax payable territory.
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Or on the other hand, let’s say you don’t need all that cash from the dividend and decide to squirrel some away into super, it could look like this;
Example 2
Individual
Cash Dividend Received $75,000
Franking Credits $25,000
Assessable Income $100,000
Less Concessional Super Contribution $10,000
Taxable Income $90,000
Tax Payable (inc Medicare Levy) $21,517
Less Franking Credits Received $25,000
Net Tax Payable/(Refundable) ($3,483)
Plus your super fund will pay $1,500 (15% tax) on the contribution you made. So total tax position would be;
$21,517+$1,500-$25,000 = $1,983 refund
And that’s it.
People often ask why the franking credits are added on to their income when they haven’t received them in cash. The easiest way to think of it is like your pay packet. You earn the gross amount, your employer withholds some tax and sends it off to the ATO. You then include in your tax return the gross amount you earned and get a credit for this tax in your tax return. Same logic applies for dividends. If all that is doing your head in, let us help with our accounting and tax services.