CGT, Negative gearing and franking

CGT, Negative gearing and franking

In the lead up to an election political spin doctors go into overdrive to attack the policies of their opposition. A casualty of this process is that voters often can’t differentiate between spin and facts.

We are finding a lot of misinformation being spread about the proposed ALP tax changes for dividend imputation, capital gains tax and negative gearing.

So here are the facts, without the spin, so you can work out your personal position.


How it works: Dividend imputation was introduced by then Treasurer Paul Keating in the 1980s to stop the double taxation of dividends received by shareholders.

Back then companies would earn a profit, pay their 30 per cent company tax, then pay a dividend to shareholders from these after-tax profits which would then be taxed a second time at the shareholders’ marginal rate.

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Dividend imputation attaches a tax credit to dividends. If a company pays a 30 per cent tax on its profits, its dividends carry a 30 per cent tax credit.

For a taxpayer on a 45 per cent tax bracket, the dividends would be taxed at 15 per cent.

They become tax-free for shareholders on a 30 per cent marginal rate, and for those on a lower tax bracket the excess franking credits could be used to offset other taxable income.

In 2000, the Howard/Costello government changed the rules so that if the franking credits more than offset an investor’s entire tax bill, they’d receive a cash refund on any excess franking credits.

The cost: When the Howard government first changed the rules, the cash refund total was estimated at about $400 million a year. This has now risen to $5 billion a year as investors worked out how to benefit from the change.

Proposed ALP changes: To take dividend imputation back to the original rules of simply stopping double taxation of dividends. No cash refunds. If you pay no tax then you don’t need a franking credit because you’re not being double taxed. Pensioners and part-pensioners would be exempt and still receive cash refunds.

Impact: The biggest impact will be felt by self funded retirees who structured their investment portfolios so they pay no tax, plus super funds in the pension phase that also pay no tax.

A large number of self-managed super funds use excess franking credits to claim cash refunds.

While the proposed changes bring the rules back to what they were intended for, many investors and super funds have become dependent on the refunds and are fighting to maintain them.

High-yielding fully franked stocks will still be attractive but won’t be supercharged by potential cash refunds.


How it works: Investing in direct property has always been difficult. It needs a hefty deposit, transaction costs are high and it can take a while to sell and get your money out.

We need a large pool of investment properties to provide rental stock for those who can’t, or don’t want to, own a home.

Negative gearing has helped investors to get over those early financial hurdles on their way to earning a positive return. It is where you borrow money to invest and the income, such as rent received, is less than the expenses such as loan interest and other costs.

Essentially this means you are making a cash loss, which can be claimed against other taxable income to lower your overall tax rate and payments.

Over the years there has been a trend of investors on high marginal tax rates being permanently negatively geared and claiming the tax concessions.

The cost: The total cost of negative gearing tax concessions is $4.5 billion a year

Proposed changes: All existing negatively geared investments will be quarantined and continue under the existing rules. But the ALP will limit future negative gearing to new housing only. Losses from negative gearing other investments, like shares, will not be allowed to be claimed against salary and wage income but can be claimed against other positively geared assets and carried forward.

The impact: Existing investors won’t be affected. Limiting future property negative gearing to new housing will encourage new developments but logically see investors reassess existing properties, which could reduce demand. Having said that, positively geared property can be a good investment in its own right.


How it works: Capital gains tax is applied to the capital profit made between the buying and selling price of an asset (after costs are deducted) and is added to your income and taxed at your marginal rate.

However, if you’ve held the asset for longer than a year just half the capital gain is added to your taxable income — a 50 per cent discount.

The logic of this discount was to offset some of the risk associated with investing in assets as against safer interest-based investments like term deposits and savings accounts.

The cost: The total cost of capital gains tax concessions is $8.6 billion a year.

Proposed changes: All existing investments will continue under existing CGT rules. All new investments will be subject to a 25 per cent discount, rather than the existing 50 per cent. New investments by superannuation funds and small businesses will be exempt from the changes.

Impact: The tax advantage of capital gains on new investments by individual investors will be lower.

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