Investments, Regulation, SMSFA, Tax

Imputation system bill problematic

Franking credits bill

The SMSF Association is worried about the impact proposed legislative amendments to the franking credit system will potentially have.

The SMSF Association has expressed concerns over a proposed bill to restrict companies from distributing franking credits to shareholders during share buybacks or capital raisings and has suggested broader criteria for determining eligibility.

In its submission to the Senate Economics Legislation Committee, the association highlighted these proposed changes could inadvertently impact legitimate commercial situations and put profitable and growing companies at a competitive disadvantage.

While supporting any measures that may prevent tax avoidance and the manipulation of the imputation system, the practitioner body highlighted the need for careful consideration of the impact on businesses and shareholders alike.

Association chief executive Peter Burgess laid out the contentious issues his organisation had identified in the proposed change to the law.

“The legislative amendments include several items that must be ‘tested’ to determine whether a distribution is funded by a capital raising and therefore ineligible for franking,” Burgess noted.

“Significantly, the first test stipulates that the distribution must not be consistent with an entity’s established practice of regularly making distributions of that kind.

“But there may be legitimate situations that would not satisfy the ‘established practice’ requirement, including new companies with no established record of paying dividends, those operating in highly volatile and uncertain industries where dividends may only be paid irregularly or those paying special dividends due to abnormal profits.

“In our opinion, what’s required to avoid the amendments applying to legitimate and normal business operations is a broader list of matters to determine whether a distribution satisfies the requirements of being funded by a capital raising.”

According to Burgess, the ability for franking credits to be disallowed should a capital raising fund all or part of a dividend payment is also problematic as it would impact companies that reinvest their profits instead of holding them as cash.

“The association contends that for these companies reinvesting profits and the raising of capital to pay dividends is merely prudent cash-flow management and nothing to do with tax avoidance or the manipulation of the franking system,” he said.

“Disallowing franking in these situations would expose the shareholders to double taxation. Company profits would still be subject to tax, but the shareholder would receive an unfranked dividend with no franking credit to offset the tax paid by the company. The company will have no retained profits, but will have a significant franking credit balance trapped within the company.

“To avoid these unintended consequences, the proposed amendments should be modified to make it clear they will not apply to distributions in situations where a company has made a taxable profit, those profits have been applied in funding the operations of the company and the company now intends to distribute those profits as a dividend.”

The proposed amendments are part of the Treasury Laws Amendment (2023 Measures No 1) Bill 2023 and the Senate Economics Legislation Committee is due to report on 26 May.

The government is also looking to scrap franking credits with regard to off-market share buyback schemes.

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