Franking credits - gone?

From the linked article:

The absence of grandfathering provisions is a real problem for those that have planned for their retirement under existing rules which have been around a long time. There should at least be a limit (eg max $10k refund) so those of lesser means who saved under the current rules don’t have their retirement savings decimated.

In regard to the proposed Negative Gearing / CGT changes Labor highlighted that unlike the Liberals with other recent changes they were great believers in grandfathering to protect those who invested in property under the existing rules. Yet when it comes to franking credits grandfathering is out the door!

 

Taxpayers with lowest tax rate are hardest hit - Cuffelinks

 

ALP holds firm on tax reform to dividends despite retirees' protests



I just hope these people who have never done a manual day's work in the hot sun understand when they clumsily trying to sell something to the Australian public that ""Wealthy is meaningless"" for those that wanted a different outcome when retired ..

 

Sorry if this has been asked before but......

I've heard it mentioned that the changes may lead to LICs being less popular because they pay fully franked dividends and ETFs being more popular because they generally pay either unfranked or less franked dividends.

So I just want to make sure I understand this correctly. The way I figure it is.....

ETF and LIC both invest money in companies and receive dividends from those companies which they then distribute to share or ETF holders. Because LIC is a company it must pay 30% tax and because ETF is a trust it pays no tax. Therefore assume ETF and LIC both earn the same amount, the ETF will distribute 100% of the money received and the LIC will distribute only 70%.

Is that about right or have I misunderstood?

 

Pretty much.

Though the old LICs pay much less tax than that because most of their dividends they receive are fully franked meaning no tax payable.

They only pay tax on capital gains realised, partly franked dividends and unfranked dividends so that’s where we’ll lose out versus the ETF... I think

 

Ok think about it like this. Both ETFs and LICs receive dividend income, with franking attached. They will both also receive unfranked dividends (Int'l earnings, REIT. Infra etc). The ETF will just pass through as received, they will not pay tax on the unfranked dividends, but pass to investors as part of distribution with a lower franking level. The LIC will pay tax itself on the unfranked dividend thus creating franking credits to attach to the dividend paid to investors.

ETF higher yield, lower franking
LIC, lower yield, fully franked

Someone paying 20% tax is disadvantaged by holding a LIC post removal of franking refunds.
I expect more interest in REITs and Infrastructure/utilities in the future, as these are both typically set up as pass through vehicles and will be attractive to low tax rate holders. Expect products to be developed around this soon.......

 

Are you thinking the LIC only distributes 70% because it is taxed 30%?

The 70% is net paid into your bank account and comes with a 30% franking credit. It gets added together to form 100% which becomes the taxable income for the dividend recipient. If the dividend recipient's tax rate is above 30% they will pay top up tax at tax time, if it's less they receive a refund.

The ETF pays 100% into your bank account, and at tax time the recepient pays the applicable tax.

If the ETF chose to retain a portion of the income rather than pay out 100% those retained funds would be taxed at top marginal rate and no tax credit when eventually paid out. This is because it is a trust structure. All trust structures work this way.

On the otherhand due to the way Company's are taxed and the franking credit rules if the LIC chose to retain a portion of the income so they could keep a buffer to smooth out future payments, they are taxed at a maximum of 30% and when that income is eventually paid out the receipient gets a tax credit (franking credit) for the company tax paid. So not a big tax disadvantage in retaining income in the Company like there is with a Trust.

 

Take into the mix the managers take the fee from income not capital gains which is why the declared franking rate is higher in some ETFs. One of the quirks of the game.

 

Sounds spot on. Expect “real asset” products already available like the following active ETF and other new ones both active and passive:

https://www.betashares.com.au/files/factsheets/RINC-Factsheet.pdf



Bugger all franking.

Vanguard is also rumoured to be looking at product to deal with the loss of franking credit refunds if it occurs.

Between tax strategies many already being put out there and new product Labor won’t get anywhere near the forecast revenue gain. But unfortunately they will promise / spend based on fairy tale rubbish forecasts then someone else will need to clean up the mess later.

 

Yes I meant what you have written but was not precise in my wordng. The dividend a LIC would pay would comprise 70% into my account and 30% to the tax department whereas an ETF would pay 100% into my account. (assuming no franking)

Thanks for the replies everyone.

 

Global reit and infra also comes into the mix for yield hungry investors with removal of franking refunds. US Reits and utilities for example are also pass through vehicles.

 

Of course. I suppose currency is the main deterrent for some especially the “income” seekers who tend not to think in terms of “capital” in which case investing in ”hedged” versions of these funds would not be an appealing option especially for retirees trying to manage income from “yield”.

Out of curiousity I recall you opting for hedged Infrastructure but unhedged REITs. If a hedged Global REIT was available would you have chosen that instead of DJRE?

Personally if I wanted to invest in infra / REITs (but unlikely as happy with Index weighting) I’d favour Global over Local. Local is too small / concentrated and should franking change get legislated it could result in a nasty bubble in these ASX sectors. In my mind it’s not worth way overpaying for assets purely for a tax outcome as it usually ends in tears.

 

To your question, yes probably. It’s always a balance re distribution smoothing vs total portfolio currency exposure.

 

The case for the other side

https://www.smh.com.au/money/tax/re...-are-not-average-joannes-20181122-p50ho7.html

 

I have no problem with the changes if they are applied equally and fairly to all Super fund members. Superannuants, including wealthier members, can be a member of either an Industry / Retail Fund or SMSF. Super pension members in the majority of Industry / Retail Funds aren’t impacted by the changes and would still continue to receive franking credit refunds. However a pension member of a SMSF will lose all franking credit refunds.

Is it fair that a SMSF member with the same Pension balance as an Industry fund member lose his / her franking credits when the other doesn’t?

 

The author clearly has an axe to grind on this front... see her latest effort:

https://www.smh.com.au/money/tax/qu...ing-credits-just-a-bonus-20181123-p50hzq.html

 

I notice in the article the interviewee with SMSF supports a cap on the refund of franking credits to help out those receiving smaller self-funded pensions. Surely, this would be quite acceptable to many people? Let those who have structured their SMSF to continue receiving franking credit refund to a cap that is reflective of amounts required for comfortable retirement and no more? There would be no excess.

 

But once the franking credits go, neither party will bring them back in, it will just become the new normal.

 

Nice unbalanced political article.

If you include all the people on the aged pension, yes, this policy doesn't effect the bottom quartile of retirees in terms of income. But it does impact the bottom quartile of the self-funded variety; the ones who have saved their entire lives for retirement and probably paid the full brunt of the tax in the process.

If the policy goes ahead, these are the things that will happen:
- increased number of self-funded retirees moving to the aged pension to get the discriminating benefit. There are legal ways of doing this and they will be monetarily better off than accepting the legislation.
- restructuring of investment vehicles to pay gross yield (e.g. LITs Avoiding the great 'Labor franking credit grab')
- reallocating to different investments (E.g what @The Falcon said about REITs)
- restructuring tax vehicles

After which Labour will have a policy that reaps almost no monetary benefit except for the politically motivated "us and them" debate that polarises voters.

 

https://www.smh.com.au/politics/fed...pe-this-federal-election-20181128-p50iy7.html