## An easy guide to franking credits

We have all heard about dividend imputation and franking credits. However, my experience is that if you ask an investor to calculate the benefit after tax, most will struggle to do it correctly. Here is a quick and easy guide to dividend imputation that you should bookmark for future reference.

What is dividend imputation?

To avoid double taxation, the government introduced the dividend imputation system which allows shareholders to account for the tax which has already been paid by the company.

If the company has issued a fully franked dividend this means the company has already paid 30 per cent tax on its profits (the company tax rate). This can be passed to the shareholder as a tax concession and is referred to as a franking credit.

Example: 100% Fully Franked Dividend

Shares = 1000 shares

Uniquely combining both Fundamental and Technical Analysis

Dividend per share=33 Cents

Dividend payment = \$330

Franking credit calculation:

Dividend Amount * Company Tax Rate/(100% – Company Tax Rate)

= \$330 *(30/70)  [30% is used as the dividend is fully franked and companies pay 30% tax]

= \$141

Effect on Income Tax: Assuming Tax Rate of 32.5%

 Tax Rate 32.50% Dividend \$330 Franking Credit \$141 Taxable Income (\$330+\$141) \$471 Tax Payable on Taxable Income (\$471*0.325) -\$153.08 Franking Credits \$141 Tax Payable (\$153.08 – \$141) -\$12.08 Income After Tax \$317.93

Effect on Income Tax with No Tax Credits:

 Tax Rate 32.50% Dividend \$330 Franking Credit \$0 Taxable Income \$330 Tax Payable on Taxable Income (\$330*0.325) -\$107.25 Franking Credits \$0 Tax Payable -\$107.25 Income After Tax \$222.75

As you can see from the above example, the franking credits has reduced the tax payable and maximised the income received from the dividend as the investor has only paid \$12.08 in tax on this \$330 dividend. In contrast, the investor with no franking credits has had to pay \$107.25 in tax for the whole dividend amount.

Also, the lower your tax rate, the higher the income received. This is why franking credits tend to be more attractive to SMSF’s and those on lower tax brackets.

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