Impact of lowering the Australian Company tax rate

Let’s have a discussion about the impact of lowering the Australian Company tax rate in Australia and the impact on small business and investors.

By way of background, the Australian Federal Government is reducing the company tax rate. Prior to 1 July 2015 the Company tax rate was 30%, but going forward, it is proposing the following rates:

Income year

Turnover threshold

Company tax rate for entities under the threshold

Company tax rate for entities over the threshold

2015–16

$2m

28.5%

30.0%

2016–17

$10m

27.5%

30.0%

2017–18

$25m

27.5%

30.0%

2018–19 to 2023–24

$50m

27.5%

30.0%

2024–25

$50m

27.0%

30.0%

2025–26

$50m

26.0%

30.0%

2026–27

$50m

25.0%

30.0%

 

At first glance, it looks attractive, but looks can be deceiving.

Let me explain why.

Dividend Imputation v The Rest of the World

Australia adopted the dividend imputation system in 1987, which eliminates the double taxation of cash payouts from a Company to its shareholders. The shareholder does not have to pay tax on the dividend income. This is achieved through the use of tax credits called "franking credits" or "imputation credits".

In many other countries, corporate dividends are taxed twice i.e. the “classical model”. Double taxation of dividends occurs when both a Company and a shareholder pay tax on the same income. The Company pays taxes on profits and subsequently distributes a dividend out of its after-tax profits.

The dividend imputation regime makes it very attractive to invest in Australian shares.

So “what” you say!

Well, we all have superannuation and our superannuation funds have a significant exposure to Australian share market, so understanding the power of the Dividend Imputation is vital.

Let me illustrate how dividend imputation works as compared the “classical model” of double taxation.

Assume a Company has made a pre tax profit of $100,000 and the Company has a 30% tax rate and the shareholder has a tax rate of 32.5%.

 

Australia

Classical Model

Company pre tax profit

100,000

100,000

Company tax payable @30%

30,000

30,000

Dividend available to be paid to shareholders

70,000

70,000

The respective shareholder’s tax position is as follows:

 

Australia

Classical Model

Cash dividend received

70,000

70,000

Franking credit @30%

30,000

0

Taxable income in the shareholders hands

100,000

70,000

 

 

 

Tax payable by the shareholder @32.5%

32,500

22,750

Less Franking credit @30%

30,000

0

Net tax payable

2,500

22,750

The cash position after tax for the respective shareholder is:

 

Australia

Classical Model

Cash dividend received

70,000

70,000

Less Net tax payable

2,500

22,750

After tax dividend available to the shareholder from $100,000 profit made by the Company

67,500

47,250

Clearly, the Australian dividend imputation system generates a better result.

 

A discussion about headline Company tax rates is meaningless and is some sense misleading unless you understand how the individual is taxed on the dividends in each of the location.

In my next article, I will also explain why a reduction in the Australian corporate rate is meaningless, unless it is accompanied by personal tax rates.

If the Federal Government reduces the rate of Company tax in Australia without personal tax cuts, it will merely move the overall tax liability from the Company to the individual shareholder. So bit like smoke and mirrors. It looks attractive but does nothing for individual investors or superannuation funds.

connect with us


AMANDA TINNER

amanda.tinner@visaexecutive.com

+61 (0) 409 969 525

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Berry Treffers

Berry.Treffers@hica.com.au

+61 (0) 434 485 331

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Michael van Schaik

MichaelV@lzr.com.au

+61 (0) 418 844 105

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