How proposed dividend credit changes may impact your retirement
Having worked through massive changes to the age pension rules in January 2017 and significant super reforms in June 2017, retirees are facing new worries with the recent announcement by the Australian Labor Party (ALP) that if they win the next election, refunds of dividend credits will end from 1 July 2019.
This proposal will still allow the tax credits associated with dividends (known as franking credits or imputation credits) to be used to offset tax on other income but will seek to stop dividend credits being returned to investors as a refund. Amendments were subsequently announced on 27 March 2018 to exempt age pensioners who own shares in their personal name from the proposal and provide grandfathering to age pensioners who own shares inside their self managed super fund (SMSF).
If this proposal were to proceed, it is likely to affect people who hold Australian shares in a zero-tax rate environment – so what could this mean for your retirement savings? Here’s what you need to know.
It’s important to understand how a refund of franking credits occurs
Some Australian companies pay out income in the form of dividends to their shareholder owners. As the company has already paid tax at the company tax rate (currently 30 per cent) before these dividends are paid out, if the shareholder is on a tax rate that is lower than 30 per cent, then they receive some – or all – of that tax back, so they don’t pay more than their normal tax rate requires.
The proposal covers a wide range of different situations
Although the announcement was positioned as stopping the ‘big end of town’ from receiving these tax refunds, if the proposal is implemented in its current form it could reduce household cash flow for a range of people who have invested in Australian dividend-paying shares. Although the 27 March 2018 amendments exempt age pensioners, more than 800,000 shareholders will still be impacted – some of whom may be self funded retirees who are not far over the age pension thresholds. In particular, it will affect people who hold shares within SMSF pension accounts, and low-income earners including non-working spouses who own shares in their personal name.
There are several factors that will influence who may be impacted, and by how much
Most important is your tax rate. As mentioned above, those with Australian shares in zero-tax environments would be the worst affected. The July 2017 super changes meant there are no huge tax-free SMSFs anymore – the most any one person can hold in a tax-free pension account is $1.6 million (as it is for industry and retail pension accounts too).
The greater the percentage of the SMSF in the accumulation phase (where up to 15 per cent tax is payable on income) generally the lower the impact (all other things being equal). In most cases, people who are still contributing and growing their super money in the accumulation phase of super are less likely to be impacted as there is usually enough tax payable from employer contributions and other investment income to use up the dividend franking credits. Likewise, SMSFs that have both pension and accumulation accounts within the same fund are less likely to be affected, or for the impact to be lower than a SMSF in full pension phase. Having said that, SMSFs in the accumulation phase with a large allocation to Australian shares or that are not receiving concessional contributions could still be impacted.
Consider the proportion of your money in Australian shares and what type you hold
In general, as an investor, the higher the percentage of your savings held in Australian equities, the greater the possible impact of the proposed reforms. Likewise, the more of your money held in Australian equities with very high yields or very high levels of franking, the greater the potential impact.
Consider any other income you’re receiving if you’re not entirely on a zero-tax rate
This is very important and includes income from the non-share component of the portfolio such as from US investments, infrastructure or commercial property. If you own shares in your personal name, employment income should be considered. SMSFs should include concessional contributions paid into the fund, such as those received from an employer. The higher these other income types, then generally the impact of this proposal will be lower (all other things being equal). This is because if the other income creates a tax liability, the franking credits can be used to pay this tax liability.
For now, please remember this is a proposed policy only but keep appraised of your investments
The ALP need to get elected and then to have the proposal legislated by the parliament, further adjustments or concessions can occur before a proposal becomes law.
If legislated, however, it’s important to continue making investment decisions according to the underlying quality of each investment. Even if the cash flow from a particular share investment was to reduce, it may still have a better outlook than other non-proven investments. So, keep doing your due diligence in line with your tolerance to risk.
It is important to recognise the following:
- Diversification may mitigate impacts, so look for assets that provide gross income or don’t have franking credits and are taxable, for example, international shares, property, fixed interest, infrastructure assets
- If you have an SMSF, consider the merits of non-retired family members (such as adult children) joining the SMSF
- For retired SMSF members comfortable to reduce their regular pension payments, rolling an amount back to the accumulation account may no longer have the impact of increasing funds tax bill.
If you have any questions about or wish to discuss your current concerns and how it could impact your savings, speak to a professional advisor. You can also find out more by viewing my interview on ABC News 24 where I discussed some of these implications. As discussions progress, I’ll post further updates here on our Dixon Advisory Insights page.
This insight may contain general financial advice and was prepared without taking into account your objectives, financial situation or needs. Before acting on any advice, you should consider whether the advice is appropriate to you. Seeking professional personal advice is always highly recommended. Any forward-looking statements are based on current expectations at the time of writing. No assurance can be given that such expectations will prove to be correct.