Reduction in company tax rate - but what is the impact on franking credits?

By Mitchell Killen - August 2, 2017

Companies with group turnover of up to $10 million may be eligible for the reduced corporate tax rate of 27.5% for the 2016-17 financial year.

New legislation enacted on 19 May 2017 reduced the corporate tax rate for companies that are carrying on a business with aggregated turnover below $10 million and this turnover threshold is set to increase to $50 million by the 2018-19 financial year. However, it is our understanding the reduced corporate tax rates will only apply to companies carrying on a business as opposed to companies which only receive passive income such as rent, interest, dividends and other investment income.

A lower corporate tax rate sounds attractive, but what are the consequences going forward when the company distributes profits that were previously taxed at 30%?

The company will effectively ‘lose’ a portion of its franking credits. For the 2016-17 financial year onwards, a company will frank its dividends based on the prior year aggregated turnover, rather than the current year aggregated turnover. For example, a company with a turnover of $3 million dollar in the 2015-16 financial year would have paid tax at 30%. However, in the 2016-17 financial year, as the turnover from the prior year is less than $10 million, any profits distributed can only be franked at 27.5%.

Using figures from the above example, the following table details the potential impact of the reduction in the corporate tax rate on franked distributions.

Retained earnings before change (Profit of $3m less tax of $900k)

Franking account balance before change

100% franked distribution at the lower rate (27.5%)

Loss of potential franking credits (additional tax payable)

2,100,000

900,000

825,000

75,000

The company has paid $75,000 of tax which can never be attached to dividends distributed to it’s shareholders.

The reduction in the corporate tax rate will result in reduced tax payable for companies now, but may eventually result in increased tax payable for the shareholders of those companies in the future.


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