AustralianSuper receive a lot of questions from members on how franking credits work in relation to their super so we’ve put together answers to some of the most commonly asked questions.
But first, let’s cover some basic concepts about taxable profits, dividends and income tax.
Generally, if a company's taxable income is greater than its deductible expenses, it’s made a taxable profit. In ordinary circumstances, this profit is taxed at the legislated rate, which for big companies is 30 cents in the dollar.
After the tax is taken out, companies can pay some of what's left to shareholders as a dividend. Dividend payments can vary. For example, last September Telstra paid shareholders a dividend of 15.5 cents per share. The previous March it was 11 cents. It depends on the company’s performance and strategy as to what it pays in dividends to shareholders.
Personal income tax
Generally, unless someone’s income is classified as not taxable or is below the $18,200 tax-free threshold, tax is paid on the amount of income earned. The rate of tax depends on the level of income. The more income, the higher the tax rate. Anyone earning more than $180,000 (the top threshold) pays 45 cents on each extra dollar earned plus 2% Medicare Levy.
Dividends from shares are considered as income and so are taxed along with other income.
What are franking credits?
When companies distribute profits to their shareholders, they have the option of passing on – or 'imputing' – credits for the tax that’s already been paid by the company. This is designed to prevent double taxation and is called ‘franking’ the distribution. The franking credits are attached to the distribution and can be used by the recipients as tax offsets.
Companies can pay a fully or partially franked dividend. A fully franked dividend means the company pays tax on the entire dividend, so the investor receives all the tax paid on the dividend as a franking credit.
Franking credits are refundable to people whose total franking credits exceed their income tax liability for the year. This can increase the income of people with portfolios of fully franked shares who don’t pay tax (such as retirees in pension phase and charities), and those on lower marginal tax rates than the company tax rate of 30%.
How does AustralianSuper currently manage franking credits?
Currently super funds pay a maximum of 15% tax on contributions and investment earnings for members’ accounts in the accumulation phase (and for members in Transition to Retirement (TTR)). Investment earnings on members’ accounts in the pension phase are exempt from tax.
Franking credits are generated by the Australian shares that AustralianSuper holds on behalf of members. We use our franking credits to reduce the total tax we pay as a fund. We achieve this because the assets supporting each investment option across the accumulation and pension phases are held in the one entity.
Members in the accumulation and pension phases both receive their respective share of the benefit of franking credits.
Credits aren’t transferred between other groups of members. The benefit is allocated to each investment option through the crediting rate process and is attributed to each investment option’s return to the extent those options have exposure to Australian shares. This means both our super (accumulation) and retirement income (pension) members are provided with their respective share of the benefit of the franking credits throughout the year.
Accordingly, the benefit of franking credits on investment returns is reflected in the performance of the option. The rate applicable will depend on the investment option, given the exposure to Australian shares is different for each option.
How are franking credits treated in the Member Direct option?
Member Direct is AustralianSuper’s direct investment option. With Member Direct, members can choose from shares in the top 300 companies listed on the ASX, a selection of exchange traded funds (ETFs) and term deposits with varying maturities. Members can combine these with the managed options on offer so they can dial up or down how much of their portfolio they want to invest directly themselves.
Franking credits received in the Member Direct investment option are attributed to members in the option based on their investment choices, so they receive their respective benefit of those franking credits. This is reflected in members’ investment returns.