In Australia, there are two types of dividends: franked dividends and unfranked dividends. Depending on what type of dividend you hold, there could be a substantial difference when it comes to the amount you take home. But what is a franked dividend? Find out everything you need to know with our simple guide. We’ll explain fully franked dividends, partially franked dividends, and more.
Franked dividend meaning
Here’s what you need to know about franked and unfranked dividends:
A franked dividend is a dividend that has a tax credit attached to it.
An unfranked dividend is a dividend that doesn’t have a tax credit attached to it.
So, why do franked dividends have tax credits, while unfranked dividends don’t?
It’s actually pretty simple. Basically, companies pay an annual tax on their profits. Generally, it’s a flat tax rate of 30%. A dividend is then paid to shareholders from the profits that have been left over after tax. However, for shareholders, a dividend is taxable income, meaning that in the pre-franking system, the dividend was essentially being taxed twice – first when the company paid their taxes, and secondly when the shareholders paid their taxes. In essence, the government was “double-dipping.”
Consequently, the concept of franking credits was introduced in 1987, following the introduction of the Imputation System. Basically, if the company has already paid tax on their income, the Australian tax office passes a personal tax credit (referred to as a franking credit) onto shareholders. So, what are unfranked dividends? Well, it’s possible that a percentage of the business’s profit didn’t attract any tax. This may have happened if the company sold a tax-exempt asset, for example. In this case, a franking credit would not be attached to the dividend.
And that, in a nutshell, is the meaning of franked dividends. Now, let’s explore how franked dividends actually work in a little more detail.
Fully franked dividends vs. partially franked dividends
There are two types of franked dividends: fully franked dividends and partially franked dividends.
Whether a dividend is considered fully franked or partially franked depends on the amount of tax that the business has paid. If it’s a fully franked dividend, 30% tax has been paid prior to the shareholder receiving their dividend. However, if it’s a partially franked dividend, 30% tax has been paid on part of the dividend, but not all of it, prior to the receipt of the dividend.
This is usually expressed in percentage form, i.e., a partially franked 80% dividend is a dividend that the company has already paid 90% of the tax on (at the 30% flat tax rate). However, the company hasn’t paid tax on the remaining 20%.
How do franked dividends work?
Now that you know a little more about franked dividends, let’s explore how they work in practice. Basically, when you fill in your tax return, you’ll need to include the dividend as well as the franking credit. If your personal tax rate is 30% (the same as the company tax rate), then dividends are essentially tax-free. On the other hand, if your personal tax rate is 40%, then you’ll pay 10% on dividends (after subtracting the 30% franking credit).
As you can see, franked dividends might seem complicated, but once you get the hang of them, it’s all fairly straightforward. If you don’t feel confident enough, you can always find an accountant who can handle your taxes for you, taking all the stress out of franked dividends.
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