Tax Tip 397: Living Tax Free on Bonus Shares

There are some companies out there that pay bonus shares instead of dividends. These are treated differently for tax purposes than dividend reinvestment schemes as bonus shares are not taxed until the shares are sold whereas dividends are taxed as investments even if they are never received and are reinvested.

Because bonus shares are not taxed as income, one potential strategy is for someone to sell enough shares per year to earn double the tax free threshold and then use the 50% CGT discount so that their taxable income is just below the threshold at which they pay tax.


Currently the tax free threshold is $18,200, but there are 2 different low income tax offsets available which mean and individual could earn up to $22,801

See

Tax Tip 197: How much can be earned without having to pay tax? Tax Tip 197: How much can be earned without having to pay tax?

This means a person could earn capital gains of $45,602 per year and not pay CGT – potentially.

That is $91,204 for a couple


Example

Homer and Marge have been investing in shares while working and have chosen shares that pay bonus shares instead of dividends. They have let the shares compound over the years and there is a huge amount there.

They quit their job

Each year they sell enough of their shares so that they generate an income of $91,204 and with this split between them and the 50% CGT their taxable income will be $22,901 each with no tax payable.

They have fully paid off their home and feel that having $91,204 per year to spend tax free is more than enough to live on.

Homer’s mate earns $125,000 per year to end up with $91,213 per year after paying his $33,787 in tax.

This makes Homer feel good as its as if he earns $125,000 per year.


Note that by selling shares they are slowly killing the goose that lays the golden eggs, but the remaining shares are generating bonus shares each year which helps offset the capital they are eating into.


Other posts covering bonus shares:

Tax Tip 267: Income tax Issues on Bonus Shares Tax Tip 267: Income tax Issues on Bonus Shares




Tax Tip 275: What is the Acquisition Date of Bonus shares for CGT purposes? Tax Tip 275: What is the Acquisition Date of Bonus shares for CGT purposes?

 

AFIC returns arent that high. A 3% yield tax free could compare poorly with a gross up on say VGS or bank shares for example. Then individual income should be a factor. A person on low income ($45K and under perhaps) may see benefits of
1. Concessional contributions strategies to reduce taxable income; and
2. Obtain refund of franking credits to enhance yield.

The benefit of AFIC DSSP shares which pay bonus shares in lieu of dividends is the 3% yield can be received tax free and defer income (CGT) which can also be at a lesser rate IF income is expected to reduce eg post retirement. Then there is the minimum12month capital risk window to achieve a 50% discount.

 

Is there an issue of determining which shares they sell? Ie, they continue to acquire so some of the shares have been held for less than 12 months.

 

The taxpayer chooses to allocate the sale parcels.

 

Tax Tip 275: What is the Acquisition Date of Bonus shares for CGT purposes? Tax Tip 275: What is the Acquisition Date of Bonus shares for CGT purposes?

 

ATO Class Ruling on the AFI DSSP from AFI web-site.

https://assets.afi.com.au/documents/132138DSSP_Tax_Ruling-4.pdf

A class ruling is available on the web-sites of WHF, MIR, DJW and AMH which also have bonus share plans in operation. The names of the companies have been changed in each but the wording is the same.

PS: Some other companies, such as ANZ, also have bonus share plans.