Tax Tip 364: Company Dividends and Top up Tax

When a company pays a dividend to a shareholder the dividend can have franking credits attached to it. This will allow the shareholder to get a credit for the tax the company has already paid on that income. This is a system to avoid the same income being taxed twice – once in the hands of the company and once in the hands of the shareholder.


Example 1

Ho Pty Ltd makes $100,000 and is taxed at 30% (it’s a bucket company) so it pays $30,000 tax and is left with $70,000 in retained earnings.

Ho Pty Ltd pays a fully franked dividend to is sole shareholder Homer. Homer gets $70,000 with $30,000 in franking credits.


Since Homer is a separate entity to the company, he will need to declare the dividend of $100,000 as income and get a credit for $30,000 in tax paid.

This will mean that Homer might have to pay further tax on top, where his tax rate is more than 30%.


Example 2

Homer is earning $500,000 as a nuclear scientist and thus pays the top tax rate. In this case Homer’s tax rate is 47% so he would pay $47,000 in tax on the $100,000 dividend but will get a credit for the $30,000 in tax already paid.

Therefore, the top up tax would be $17,000 ($47,000 minus $30,000)

 

However its also easy for a company to pay a deemed dividend (unfranked) before tax is paid and credits available for franking. In that case the dividend could be unfranked and tax credits arent available. Tax advice is wise to ensure timing of tax payments, reporting for franking etc all align. Get it wrong and double taxation is a reality eg 30% + 47 % = 77% tax