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How do franking credits work?

Franking credits are a kind of tax credit that allows Australian companies to pass on the tax paid at company level to shareholders.

Franking credits can reduce the income tax paid on dividends or potentially be received as a tax refund.

Where a company distributes fully franked dividends (and those dividends are included in the taxable income of the taxpayer) the taxpayer can claim a credit against their taxable income for the tax that has already been paid by the company from which the dividend was paid.

For example, an individual who owns shares in a company receives a fully franked dividend of $700 from the company. The dividend statement says that there is a franking credit of $300 (the tax the company has already paid). This means the dividend would have been $1,000 ($700 + $300) before company tax was deducted.

At the end of the financial year, the individual must declare $1,000 (the $700 dividend + the $300 franking credit) in their taxable income.

If the individual’s marginal tax rate was 15 per cent, they would have to pay $150 tax on the dividend. But because the company has already paid $300 in tax, the individual receives a refund of the difference, which is $150.

If the individual was in a higher tax bracket, they may not have been entitled to a refund of any of the franking credit, and may even have had to pay additional tax. However, if they are a low-income earner, it is possible to be refunded the full amount of the franking credit.

Posted on 17 February '16 by , under Tax.

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Self-managed super funds (SMSF) aren’t just about financial investment

Individuals may be looking to opt for an SMSF because these provide entire control over where the money is invested. While this sounds enticing, the downside is that they involve a lot more time and effort as all investment is managed by the members/trustees.

Firstly, SMSFs require a lot of on-going investment of time:

  • Aside from the initial set-up, members need to continually research potential investments.
  • It is important to create and follow an investment strategy that will help manage the SMSF – but this will need to be updated regularly depending on the performance of the SMSF.
  • The accounting, record keeping and arranging of audits throughout the year and every year also need to be conducted up to par.

Data shows that SMSF trustees spend an average of 8 hours per month managing their SMSFs. This adds up to more than 100 hours per year and demonstrates that compared to other superannuation methods, is a lot more time occupying.

Secondly, there are set-up and maintenance costs of SMSFs such as tax advice, financial advice, legal advice and hiring an accredited auditor. These costs are difficult to avoid if you want the best out of your SMSF. A statistical review has shown that on average, the operating cost of an SMSF is $6,152. This data is inclusive of deductible and non-deductible expenses such as auditor fee, management and administration expenses etc., but not inclusive of costs such as investment and insurance expenses.

Thirdly, investing in SMSF requires financial and legal knowledge and skill. Trustees should understand the investment market so that they can build and manage a diversified portfolio. Further, when creating an investment strategy, it is important to assess the risk and plan ahead for retirement, which can be difficult if one is not equipped with the necessary knowledge. In terms of legal knowledge, complying with tax, super and other relevant regulations requires a basic level of understanding at the very least. Finally, insurance for fund members also needs to be organised which can be difficult without additional knowledge.
Although SMSFs have the advantage of autonomy when it comes to investing, this comes at a price. Members/trustees need to invest time and money into managing the fund and on top of this, are required to have some financial and legal knowledge to successfully manage the fund.

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