A fair go in favour of Labor’s franking policy

PeterT

"The nonsensical situation where the government (which again, is almost alone in the world today, in doing this) imputes the corporate earnings of its BHPs, CBAs, Telstras, etc. to a demographic of shareholders who sit outside the taxation regime. And in so doing, the government implicitly elects to pay for roads and schools and hospitals, etc. without taking a clip from those corporate earnings. That, I’m afraid, is pure nonsense."

You miss the point entirely, Peter. Government imputes the corporate earnings of its BHPs, CBAs, Telstras etc to ALL Australian resident taxpayer shareholders. Not just to super funds, who, by the way, do NOT sit outside the taxation regime. In the interest of equity, if government allows one taxpayer to offset fully the value of franking credits against an otherwise fully payable tax bill, fairness dictates that those credits be refunded if no outstanding tax bill exists.

The point is, in the case of either franking tax offsets, or refunds, the government imputes the entire value of the corporate to the shareholder. In neither case does the government receive a "clip from those corporate earnings". As I said, you have missed this point.

In the interest of fairness, the denial of cash refunds to one group of shareholders demands the denial of tax offsets to the other. The old, tired counter argument that those that receive offsets do pay "some" tax is moot. It is the amount of tax that they do NOT pay, as a result of the allowance of the offset that is the issue. On a given parcel of shares, the value of the offset able to be claimed is exactly the same as the cash refund which would apply. In fact, the operation of the offset is identical to the shareholder receiving a cash refund, and then paying their tax bill in full.

If you take the view you describe as the "Keating view", that you tax every "single dollar of corporate earnings just once, at a rate equal to the higher of the corporate tax rate and the shareholder’s marginal tax rate.", then Labor's so called "pensioner's guarantee" fails this test. The current Labor policy provided exemtions for many, which means that under Labor's current proposal pensioners and others will receive cash refunds of excess franking credits which were never received under Keating. So Labor's policy is not a return to Keating at all.

In any case, the concept that income should be taxed at the higher of the marginal tax rate of the payer, or the receiver, is defective. Such a concept applied to wages, for example, would have many employees paying tax on their wages at the employers marginal rate. Absurd ? Not really, it is the same principle. Allowing government to by-pass the marginal tax rate it has set for the receiver, and instead apply the higher marginal tax rate of the payer.

Predictibly, such a policy produces unsound results. For example, a corporation with a tax rate of 30%, receiving a dividend of $7,000 cash with $3,000 attached franking credits would receive $7,000 net income from that dividend. An SMSF with members in "pension phase", receiving the same dividend would also receive only the same $7,000 net income.

If taxpayer's marginal tax rates are circumvented, as in the example above, why bother even having them?

Furthermore, if you really are trying to explain this to someone in another company, just equate the tax outcomes of interest income, with share dividend income.

If the income was the same $10,000 as above, but interest income, no tax would be paid by the payer prior to paying the receiver.

If the receiver was a SMSF with a 0% vtax rate, the fund would retain the entire $10,000 as net income and the government would receive NO TAX. To the payer, the interest payment is a tax deduction. The result is the payer paid $10,000, the receiver received $10,000 and the ATO received no tax.

Our imputation system, in its present form replicates this exactly.

The payer pays out $10,000 in total. The receiver receives $7,000 from the company plus a $3,000 refund from the ATO = $10,000, and the ATO receives no tax. The ATO did receive $3,000 but refunded it.

So you could simply explain that our system replicates exactly the tax outcomes that would apply for other types of income, taxed outside the imputation system.

As a tax-paying investor, and as a self funded retiree i have taken advantage of any legal tax minimization scheme available, from negative gearing, or installment warrants or franking credits, whatever. From 2002 when i retired, i took advantage of the franking credits cash 'refund' against zero taxable income. I recognized it was a rort. I don't understand why others do not see that it is a rort. When it is paid to persons with no taxable income it reduces government revenue by more than the corporate tax rate on dividends. That makes it also stupid policy.
The ins and outs of how the proposed new policy works are beside the point: The best solution is to to dump franking credits altogether and reduce corporate tax on retained earnings more than on dividends. That grows businesses and the economy.

"When it is paid to persons with no taxable income it reduces government revenue by more than the corporate tax rate on dividends.":

Persons with no taxable income would have no dividend income - as dividends, and franking credits, are taxable income.

Franking credits can not exceed the company tax paid -
. each $1 of company tax paid adds exactly $1 to the company franking credit account,
. each $1 franking credit assigned to a shareholder subtracts exactly $1 from the company franking credit account.

All the views expressed - for and against franking cash rebates - fail to argue their case based on the desire to create a agreed outcome from a national retirement policy.

Because Australia does not have such a policy, recommended to and adopted by Parliament, to be managed for the current and future generations, then the retirement system will be subject to change over and over again. Is that logical and is that in the best interest of our society? I don’t think so.

Whether cash franking rebates is logical or fair cannot be decided by changes the rules in an adhoc way or by pushing changes through an election campaign.

I do not believe that there is a higher level of integrity or fairness created by the ALP putting this forward as a policy in an election with dozens of other unrelated proposals.

Australia urgently needs to create a retirement policy with the intended outcomes clearly defined so changes or upgrades are tested against the desired stated outcomes - agreed by Parliament.

Maybe retirement policy should be ingrained in our constitution so it cannot be changed on a political whim.

Frankly, I can passionately argue for and against the logic franking credits. I do not that the overwhelming majority of OECD countries do not have franking - that tells you something.

The problem is caused by the fact that Australia adopted a franking regime with very little understanding of the long term consequences of that policy. Every time we propose changes we again have very little understanding of the consequences.

It is clear to me that if the ALP manages in government to force through its proposed changes in a vacuum of a agreed national retirement policy then we are destined for more changes as government swings back to LNP.

An obvious change to be argued by the LNP will be this -that contributions tax cannot be offset (avoided) inside pooled funds or indeed SMSF by franking credits. It will be argued that contributions tax is levied to be paid and not avoided. It will be argued that that was the intention of Keating (it sounds good) and so we are going back the original design.

The problem being that it was a design which failled because there was no clearly articulated outcome embedded in it.

In my view we need a total redesign of our superannuation, retirement and pension system, so we have stable rules and we can worry about more significant issues which confront our society and our families.

Sadly, a rational total overhaul of our tax system and a national retirement policy will always be a bridge too far! One of the disadvantages of democracy and the rise of minority parties and independents.

The pool of superannuation money in the honey pot is and will be too tempting to cash strapped governments. The whole concept of superannuation is at risk because of this.

Why on earth would anyone contribute one iota extra to superannuation given the continued unfavourable legislative risk. The minuscule tax benefit is outweighed by the risk.

"There IS a BIG difference between an employee who has an employer pay tax on their behalf ... and a shareholder and the refund of company tax paid at the standard rate. One gets tax back that’s owed to them by the ATO whereas the shareholder is a different entity to the company and is not entitled to any presumption as to what’s “owed”.":

Both involve a payer which pays tax on money owed to a payee.

The wage income taxation equivalent of the Bowen Franking Scheme is a payroll tax of 30% on wages for those individuals with a taxable income below their taxable threshold (non-senior $21,595; senior $29,608).

Wage earners are not entitled to any presumption of no introduction of a payroll tax of 30%.

So apparently some people believe that it is fair that SMSF retirees are essentially taxed at 15% less than people earning over $180k.
These same people also believe it is fair that full franking credits are used (and there for exactly the same amount of taxes foregone) to pay for some random other person's taxes when the investment is made in a pooled set of assets in an industry fund.

It's exactly the same problem folks, the only difference is that an SMSF is legislatively prevented from having more members, and hence fewer people to disburse franking towards. Rebates for SMSFs are a natural consequence of this restrictive legislation and are no more unfair than using my franking credits from my investment choices to pay for someone else's taxes in an Industry Fund.

From my reading of all the reader comments on Cuffelinks over the past 12 months regarding dividend imputation and franking credits and Labor's proposed changes culminating with Mr Shorton's Q&A performance regarding franking credits on Monday night is that:

1/ The Labor Party uses emotive, divisive and incorrect terminology and language and misleading arguments to lie and misrepresent facts regarding Australia's current just and equitable franking policy. Labor's proposed policy will introduce major inequity into the taxation of individual's income in Australia, no matter what income level or source. Income should be taxed equitably and progressively at different rates as we currently have, and tax avoidance should be detected and punished.

2/ Labor is able to get away with this emotive and false propaganda to support their policy because the majority of adult Australians have limited financial assets/resources, do not own shares, pay no net personal tax (because of government rebates or benefits) and have no or limited understanding of how personal taxation works in Australia. It is not just an inter-generational thing. I see this "confronting proposition" of little knowledge evidenced by the number of people who comment to Cuffelinks emotively and/or with obviously little understanding or knowledge of superannuation, lifetime saving and investment, building self reliance as much as you can, imputation, franking credits and personal taxation policy principle.

3/ Too much emphasis is placed on the policy impact on SMSF, which will be substantial, but always allows the franking and taxation conversation to be clouded and confused by superannuation/trust taxation law which is not the same as personal taxation. Again this super/trust taxation is an area that is not well understood by most adults and misinformation and wording is easily manipulated by politicians who do not not want the public to correctly understand the policy proposal and detrimental consequences on individuals.

4/ Too few simple examples are provide that allow most people to understand the principle about of what Labor is proposing, again this clouds what is really being proposed:

Most people would understand that if franking/imputation was applied to interest payments from bank accounts, that out of each $1 of interest earned that you would only receive 70c deposited to your bank account. The other 30c is sent to the ATO and you are provided with an tax credit /franking credit of 30c to offset any personal income (from any source) tax liability. I guess most people would agree that if your tax liability - even if zero - was less that the amount of tax the bank sent to the ATO, then you would expect to get refunded your excess tax paid. Most people would not see it as "unfair/rort" or a "gift" from other taxpayers or the ATO.

4/ How can it be fair and equitable in Australia that pensioners (at a certain date when Labor is not even in power) can be promised to be refunded excess franking credits (tax paid on their income) when they often do not have a personal taxable income >$18,200, when a non pensioner or new pensioner (after the announcement date) will not able to be refunded excess franking credits (tax paid on their income) from the ATO when they also do not have a taxable income > $18,200. Currently there is equity and all people are treated equitably under the law regarding their personal income and how much tax they pay. Labor policy is proposing inequity dressed up as fairness. Is that fair?

5/ The fair thing to do if we as a country can no longer allow refund of excess tax paid (franking credits) to resident Australians is to come up with another option that is equitable to all super funds, trusts, individuals (pensioners or not), charities etc.

I had a quite regular and equitable exchange with Chris Bowen's Office via a Mr McCrudden, until I asked (for a second time), what tax obligation would a politician have on their superannuation payout? At this time I was told that the original document I received had answered all my questions - but it did not. From this outcome I firmly believe there is no tax obligation. From what I saw in the superannuation link, supplied by the Bowen Office, a parliamentarian's payout would be more than my income and franking credits combined.
Am I wrong to think this is a hypocritical, shouldn't those with greater incomes pay greater tax. I know that politicians are not the only group paying no tax on their superannuation - they include personal friends!
I proposed a 'fairer' and a more sustainable taxation scheme with 0% (pensioners), 5% (low income), 10% (high income) and 15% (the targeted rich) rather than the 30% from dollar one for everyone. This includes pensioners who receive their pension after 28/3/2018, and have franking credits from shares, if I have understood the proposal correctly.
I cannot understand why the presence of a pensioner in any fund, can influence the retention of franking credits for others in the fund. I sought information on the ATO requirements for retirees and was told that all are required to submit a document indicating their fund balance and an income so that minimum required pension is removed from the fund each year. So each individual can be treated separately.
I retired in July 2015 with all of the money I will ever have in my fund balance. I chose to invest in Australian shares as -
I knew something about Australian shares!
I wanted to receive dividends because I did not want to have to sell shares, when the market was down, losing money!
In truth I did not know about the franking credit return until I retired! I would add, this was not something I had any say in!
Since this IS all the money I have to live on AND I don't know how long I will live, I want to preserve as large a balance as I can for as long as I can! The larger my balance the more I must take as a pension!
Investing in housing was not a viable option in retirement - as I had no tax obligation, I could not claim any deductions; I did check with the ADF housing as this would give the best renter but found the fees much too high, without deductions!
I salary sacrificed for 12 years to obtain as much money as I could - my parents struggled on the pension and I was driven to avoid this for myself. As a sole parent I received no 'Government money' nor did I want it.
If I removed myself from my SMSF fund I would be $5000 to $7000 better off, with the tax-free threshold, lower tax rate and deductions - none of which I have access to now.
Is it fair to have so many exemptions for people in the same situation and having the same income to be treated so differently??

I seem to recall that Costello removed income tax from self funded pensions in 2000 to offset the introduction of the GST for those retirees .
Just as he introduced a 50% discount on capital gains tax to simplify the process of bringing to account inflation in the cost base of assets.
It's a shame that the history is forgotten so that sound measures at the time can now be repositioned as rort's or largess to serve a new political argument.

My objection all along is, and continues to be, that the policy simply makes no sense. It penalises a sub group of franked dividend recipients with low incomes, and of self-funded retirees sitting at the lower end of self sufficiency, while leaving their genuinely wealthy counterparts more or less untouched.

The only argument in favour of the Labor proposal that would seem to have a shred of reason to it, is the idea that the earnings of a company are completely divorced from the earnings of the part owning shareholders, and should be taxed at the 30 percent flat company tax rate irrespective of who they flow to.

Setting aside the numerous machinations that companies use to avoid paying this tax, that is not how those earnings are currently treated, and to portray this element of existing tax law as some kind of rort is poor form. Historically, Labor have been supportive of the current arrangements. They are certainly entitled to change their position, but not to paint it as something akin to a scam.

Bill and Chris could demonstrate that they really care about robust outcomes by getting another opinion on their proposed changes, and giving some thought to who is really being hurt by this very poorly conceived bit of policy. If they are sincere about addressing this issue in a manner which is fair to all and doesn't leave gaping holes for the wealthy to steer through, they will take a look at the appropriateness of the personal income tax rates paid by the various classes of franked dividend recipients.

Under Labor's plan, the multiple exempted groups continuing to receive refunds, which I understand to include the Labor supporting unions themselves, make a lie of the claim that the refunds are unaffordable, or constitute a "tidy little arrangement".

If Labor follow through with their idea that it is important for companies to pay tax on their earnings at the 30 percent company tax rate, then there is no possible excuse for giving the likes of charities, NFPs, churches, unions, and pensioners refunds. If Bill and Chris do get their way, these refunds really will constitute a "gift" from taxpayers. As a taxpayer myself, I would like to see some justification and accountability for that largesse.

How can FC be a GIFT?
I invest, I take the risk, Company pays the tax and deposit imputed credit with ATO. ATO calculates my Tax obligation and any surplus is paid back to me.
So where is the Gift? Was I GIFTED for past 19 Years not knowing. Clever or Confused?

Shiraz

Thank you Cuffelinks for republishing these 'for' comments. As I see it, readers who have left comments 'for' or 'against' (mostly 'against') on the franking credit issue, fall into two fairly defined camps. Camp #1: Those who stand to lose, either presently or in the future, the access to franking credits and see that the current system of refunding tax to non tax payers is an unsustainable distorting practice despite the fact that they (Camp#1) will lose the benefit as it currently stands. Camp #2: Those who stand to lose access to franking credits...........and just don't like it!

Or Camp #3: Those who see the proposal as planned to be an exceptionally flimsily designed and ineffective bit of policy which will actually serve to further entrench the very inequity it claims to address. At the same time increasing the complexity, and subsequent loopholes, inherent in already outrageously convoluted tax law!

The proposal to nullify tax refunds derived from a
franking credit surplus may enhance Bill Shorten's
credentials with anyone espousing " class warfare ",
but it has done nothing to allay concerns that the Labor agenda is disingenuous, devious, and discriminatory.
Shorten, together with treasury spokesman Chris Bowen
have targeted self funded retirees, especially anyone who utilises a smsf structure with punitive fiscal measures which amount to the imposition of a wealth
tax. Shorten then upped the ante by referring to this
measure as " fair go economics " but is undermined by
a simple statement of fact that tax refunds are NOT
taxpayer funded gratuities and will never be issued until
an assessed tax liability has been extinguished. This issue could have been clarified by ATO, but Shorten and Bowen have remained intransigent....
By any reasonable standard, Shorten and Bowen
demonstrate an alarming lack of fiscal expertise, coupled
with an abundance of refutable populist rhetoric. The
electorate would be wise to wise to question ALP competence to efficiently and effectively deal with complex fiscal issues. This stuff underpins the country's
future economic performance and ultimately our future
standard of living.........

For every share sold there is always a buyer. So if a lot of SMSF share holders move to other investments and sell their franked shares, these will inevitably be bought by others who are exempt from the policy or by those who can use them to offset their tax liability. If taken to the extreme then Labor will profit nothing by this policy except income stress for many retirees. As it is, I believe they will eventually gain very little of their boastful $5.4bn.

this is a push by labor to get more money into industry funds from which the unions and labor will get a slice... how cunning …. their own little annuity stream.

the tax was paid by the company - you as a shareholder have received income and have had tax paid on your dividend for you.... if when doing your tax you have paid too much tax then the excess is refunded

Ok let's for a moment say that the policy is fine, no cash refunds if you don't pay tax. If that is Labor's strong principle, which we keep hearing over and over again, why do they BREAK that principle and allow so many exemptions to the principle?

Go to https://www.chrisbowen.net/media/183744/180604-updated-factsheet-dividend-imputation.pdf and read for yourself - this policy only applies to individuals and super funds, no-one else. So it won't apply to tax exempt bodies like charities, nor to universities or employer associations or trade unions. (Nor pensioners nor pensioners in an SMSF on 20 March 2018).

So that is where the policy, if you accepted it, is so wrong to allow such bodies to be exempt. Once you break a principle, you break the strength of the argument and it falls in a heap. So much for Labor's principled view on this matter.

The exemptions still fit in with the overall principal because the crux of the policy is that refundable franking credits are unsustainable tax concessions to those who essentially do not need it and who have, in a chief measure, actually benefited from this largesse over the last two decades. The exemptions simply honour the view that tax-exempt bodies and pensioners should continue to receive these specific tax concessions. Whether or not you think these entities deserve concessional treatment is a separate argument all together but it certainly doesn't contradict the policy position. People need to remember that the policy is not an attack on the imputation system in general.

The exemption for tax exempt bodies and pensioners absolutely contradicts the policy position. If the Labor policy is introduced as proposed, those exempted groups will no longer be receiving a refund of excess tax paid above their tax rate (zero), which is what the refund system currently does.

As those exempted groups have a nil tax rate, they will actually be receiving a gift of the relevant amount directly from the taxpayer.

If company earnings are to be taxed at a base rate of the circa 30 percent company tax rate, it is unavoidable - there is no refund to be given because the exempted entity has incurred no real or imputed, tax liability. Therefore any monies paid to those entities in lieu is an entirely separate payment from revenue. Or in the words of Bill perhaps, "a gift".

Yes good for Cuffelinks to summarise the points of view in favour. Within these comments I still struggle to understand how quite a few of these comments believe that the ATO payments are somehow a refund. Without a change to imputation policy I believe that the franking system is really a zero sum game. When a company pays tax on profits, both the company and the Govt are essentially ignorant of the tax status of the shareholders. At an extreme point should all shareholders be zero taxpayers then the current policy would give the Govt one pile of x dollars in and there would have another negative pile, also of x dollars to pay out. So what will happen with the proposed changes is that both zero, 15 and 19 cents tax payers will sell down their franking dividend shares until they reach a zero tax position whilst others will pick up the franking credit benefits as per today's system. Sure the negative pile will diminish and Labor will point to the refund drop as being a success. But in reality the overall tax result will be much the same as now. The low tax people will have moved on.

Except that Labor will pick up only those who choose to forfeit or surrender their zero tax position.

I asked this question once before and one of the good souls at Cuffelinks worked out the answer - what is the actual net corporate tax rate once franking is taken into account?

The answer was in excess of 30% because more shares are owned by people on higher marginal tax rates than by people on lower marginal tax rates. Makes sense.

So the 0% / 15% / 19% people who sell these shares will have the effect of increasing the overall net corporate tax rate = more revenue for the government. Which is sort of what they want.

Using this blunt instrument the (assumed) incoming ALP government will force lower marginal tax rate people into different, perhaps more risky, investment strategies (depending upon your definition of such things) in order to maintain their pre-change income and eventually the outrage will die down, and they have an increased tax to spend anyway.

So I don't think it's necessarily a nil sum game at all.

And they are hunkering down and trying to get the issue out of the headlines.

Ok Geoff thanks for that and I can go with what you say about a non zero game up to a point. But the zero,/15/19% people will still exist and will surely move their investments elsewhere, perhaps to more risky vehicles as you note. And I am still to be convinced that from an overall tax take the Govt gains will not be anywhere near as much as anticipated.

"Seems logical":

Seems logical to let dividend imputation and franking credits do what they do perfectly - result in all types of taxable income being taxed at the receiving entity's legislated tax rate.

Seems logical to change the legislated tax rate of various entities to achieve the tax take / incentives sought.

There is inequity throughout the tax system and Labor is grabbing low hanging fruit. Attractive because it is an easy sell, likely wins votes rather than loses them and implementation by switching from refundable to non-refundable offset is simple. Despite the principle that the company tax be taxed at the shareholders' marginal rate being maintained, the company profit should be taxed somewhere. However there is something else going on here. On Q & A. The $1.6m cap on tax free super was mentioned, as was some people receiving a tax return of $250,000. $250,000 franking credits means a franked amount of $583,000 which is an average return on $1.6m of 36%. This is either a lie for dramatic effect or despite the cap balances will exceed it, (particularly if earning 36% with a dividend gathering strategy). Or (and I expect this is possible) super in accumulation mode at maximum 15% tax with earnings of 30% franking credits is also being skimmed. So more information please........ Like negative gearing changes. Ok, its revenue raising - I understand that and why. But the sell is a level playing field for young people by reducing competition for existing houses. True. And house prices will not fall as a result of this policy in itself. But irrespective of competition, if the house prices do not fall (or the rate of increase doesn't flatten) as a result of this policy and maybe rents go up, how does this assist young people to buy their first home. More information please. And finally on inequity generally. Remember Mr Bowen's nurse (young house buyer ?) on $67,000 paying $13,000 tax. Fair enough that's what we charge her. Next door is a mansion and the owner has investments of $10m. No gifts for this person, they pay full tax. Earnings of $500k, franking credits of $215k. Tax on taxable income of $325k less franking credits means $110k tax bill. Fair enough that's what we charge them. On taxable income, nurse pays 19%, investor pays 15%. Is that fair ? And should retirees with tax free status applying the same imputation provision lose 20 or 30% of their outcome because they are rorters ? The maximum tax return from dividend imputation on $1.6m would be about $50k (subject to clarification of the $250,000 refund Mr Shorten says happens). Few would hold shares exclusively fully franked. Seems logical to apply a cap to knock out the outliers and assist those who are most severely affected . Maybe $10k.

I think you are right Tim. If Labor manage to implement this policy largely as proposed, they need to at least apply some sort of cap on refunds as you suggest, to ensure that genuine low income earners don’t cop the outsized disadvantage they currently stand to.

That won’t make it good policy, but would at least mitigate some of the (hopefully) unintended consequences, while allowing messrs Shorten and Bowen to save face.