What are franking credits?
In short: franking credits are a credit for the company tax an Australian company has already paid on the profits it distributes as dividends. Shareholders include the dividend plus the credit in their taxable income, then use the credit to reduce their own tax — and Australian residents can have any excess refunded.
Why do franking credits exist?
Franking credits exist so company profits are not taxed twice. Under Australia's dividend imputation system, a company pays tax on its profit, then attaches that tax to the dividends it pays as a credit. The shareholder is taxed on the dividend at their own rate, with the company's tax counted as already paid on their behalf.
Without imputation, profit would be taxed once in the company and again in the shareholder's hands. With it, the total tax on a dividend ends up roughly at the shareholder's own marginal rate.
How does a franked dividend work?
A fully franked dividend carries a credit for company tax at the company's rate — 30% for most large companies, 25% for smaller "base rate entities". At 30%, a $70 cash dividend carries a $30 franking credit, because the company earned $100 of profit and paid $30 of tax on it before paying out the rest.
| Amount | |
|---|---|
| Cash dividend received | $70 |
| Franking credit attached | $30 |
| Grossed-up dividend (taxable income) | $100 |
The shareholder declares the full $100, works out their tax on it, then subtracts the $30 credit.
| Shareholder's marginal rate | Tax on $100 | Less credit | Tax payable (or refund) |
|---|---|---|---|
| 0% (e.g. low income) | $0 | −$30 | $30 refund |
| 15% (e.g. a super fund) | $15 | −$30 | $15 refund |
| 30% | $30 | −$30 | $0 |
| 45% | $45 | −$30 | $15 to pay |
The rates above leave out the Medicare levy, for simplicity.
Partly franked and unfranked dividends
A dividend can be partly franked, carrying credits for only some of the profit, or unfranked, with none — usually because the profit was earned overseas or was not taxed in Australia. Many large Australian banks and retailers pay fully franked dividends; companies earning most of their profit abroad often pay little or no franking.
When are franking credits refunded?
Australian residents have been able to receive a refund of excess franking credits since 1 July 2000. If your franking credits are larger than the tax you owe — for example, because your income is low — the ATO refunds the difference after your tax and Medicare levy are settled. Non-residents generally cannot use franking credits at all.
The 45-day holding period rule
To claim franking credits, you must generally hold the shares "at risk" for at least 45 days (90 for preference shares), not counting the days you buy and sell. The rule stops people buying shares just before a dividend to collect the credit and selling straight after.
There is a small shareholder exemption: if your total franking credits for the year are under $5,000 — roughly $11,667 of fully franked dividends from companies taxed at 30% — the holding period rule does not apply. A separate "related payments" rule still applies to every dividend.
Franking and the dividend yields you see
Quoted dividend yields, including ShareSift's, are usually the cash yield. For eligible Australian investors the grossed-up yield is higher: a 4% fully franked cash yield from a company taxed at 30% grosses up to about 5.7%. Whether that extra is worth anything to you depends on your tax position — it is worth most to low-tax investors and super funds.
See also dividend yield and payout ratio.
Frequently asked questions
Are franking credits free money?
No. A franking credit is tax the company has already paid on your behalf, so the profit behind the dividend was larger than the cash you received. Whether the credit reduces your tax, is fully used or is refunded depends on your own marginal rate. Its value is real, but it comes from the company's profits, not a government payment.
Do ETFs pass on franking credits?
Yes. An ETF holding Australian shares receives franked dividends from the companies it owns and passes the franking credits through to investors in its distributions. The fund's annual tax statement shows the franked amount and the credits, which you declare in your tax return in the same way as dividends received directly.
Do I need to do anything to claim franking credits?
You declare the franked amount and the franking credit from your dividend statements in your tax return, and the ATO applies the credit against your tax. Pre-filling in myTax usually includes them. If you do not need to lodge a return at all, you can apply to the ATO separately for a refund of franking credits.
Sources
- Australian Taxation Office, Refund of franking credits for individuals — eligibility, the holding period rule and the $5,000 small shareholder exemption.
- ASIC Moneysmart, Choose your investments.
This information is general in nature and does not take into account your objectives, financial situation or needs. It is not tax advice: how franking credits apply to you depends on your circumstances. ShareSift is not a financial adviser or a registered tax agent and does not hold an Australian Financial Services Licence. Consider seeking advice from a registered tax agent or licensed adviser.