If you’re an investor in the Australian stock market, it can be helpful to understand how dividends and franking credits work. But where do you start? Read on to get a grip on the basics.
Dividends represent the return companies pay shareholders on their share investments, generally out of their profits. The reason you need to keep track of them is because in Australia, dividend income is considered part of your assessable income and needs to be declared on your tax return. How much tax you pay on your dividends depends on your marginal tax rate – see example below.
In Australia, we have a dividend imputation system in place. Here’s the part where franking credits come in – they may provide you with a tax offset.
Franking credits are like tax offsets or credits that come with your dividends. They help reduce the tax you owe on your dividend income and the ATO might refund you in cash where your tax liability is less than your franking credits.
Here's how it works: suppose you get a $1,400 dividend with a $600 franking credit. This means the company has already paid $600 in tax on that dividend. When you complete your tax return, you report both the $1,400 dividend and the $600 franking credit, resulting in $2,000 of assessable income.
Now, let’s assume that:
Normally, you’d expect to owe $740 in tax on that $2,000. However, thanks to the $600 franking credit, you could be eligible to offset the $740 tax with the $600 franking credit, so your tax liability is $140. So, franking credits could potentially offset the amount of tax you have to pay.
Any dividends you’ve received from foreign companies during the income year generally need to be included in your Australian tax return as foreign income. If any foreign tax was withheld from your dividends, you might be entitled to a “foreign income tax offset” (also known as a “FITO”). The FITO is designed to ensure that you’re only taxed once on the foreign dividends, although some additional Australian tax may be payable on the dividend if the foreign tax rate is lower than your Australian tax rate. The FITO rules are complex and there are certain limits that may apply, so we suggest seeking independent advice from your accountant or tax adviser.
Taxation considerations are general and based on present taxation laws and may be subject to change. You should seek independent, professional tax advice before making any decision based on this information.
Commonwealth Securities Limited (CommSec) is also not a registered tax (financial) adviser under the Tax Agent Services Act 2009 (Cth) and you should seek tax advice from a registered tax agent or a registered tax (financial) adviser if you intend to rely on this information to satisfy the liabilities or obligations or claim entitlements that arise, or could arise, under a taxation law. For the latest information, check the ATO website or speak to your accountant or financial advisor.
Past performance is not a reliable indication of future performance.