Pearls and Irritations

This article examines the claims that people with relatively modest incomes will be hard hit by Labor’s proposal to stop cash rebates of dividend franking credits to people whose taxable income is insufficient to make full use of those franking credits. Instead, this examination of the evidence shows that these claims are almost totally exaggerated. 

Of the Morrison Government’s (many) scare campaigns, one that seems to have taken off is the allegation that masses of retirees will be seriously impoverished if they no longer have access to cash rebates for their dividend franking credits when they have no or insufficient taxable income. Furthermore, individual retirees are being encouraged (often by the discredited finance industry) to add substance to this scare campaign by well-publicised claims about how they personally will suffer.

Nevertheless, these claims have been largely refuted by serious analysis, such as that bythe Grattan Institute in its submission to the Parliamentary Inquiry into the Implications of removing refundable franking credits, (November 2018), and by Josh Gordon of the ABC (see “Will Labor’s dividend imputation policy overwhelmingly affect the low paid”, Pearls and Irritations, 1 February 2019). In addition, the Parliamentary Budget Office (PBO) has provided information on who will be affected. This article tries to summarise these other analyses, in the hope that this will allow readers to reach the sensible conclusion that the claims that large numbers of retirees will be devastated, represent a massive exaggeration.

Instead the key facts are as follows.

First, according to analysis of tax data by the PBO, in 2014-15, 87 per cent of the individuals who received refunds of their imputation credits had taxable incomes below $35,000. However, this finding is to be expected, as it is difficult to see how someone could get a cash refund unless their marginal tax rate is less than the company tax, and that only applies to individuals whose taxable income is less than $37,000. That means that these cash refunds are really only relevant to people aged 65 and over (mostly retirees), as younger people who are working would typically have a taxable income in excess of $37,000 per annum. Although some workers would earn less than $37,000 in a year, they would almost always be people who only worked for part of the year, and who are unlikely to have a significant share portfolio. These part-time workers would also typically live in a family unit and be partly supported by other members of that unit.

Second, retirees can, however, have a low taxable income while having quite a high total income and/or considerable wealth, because their superannuation pensions are not included in their taxable income, and they therefore pay no tax on this pension income. For instance, the Grattan Institute cites as an example, ‘a self-funded retiree couple with a $3.2 million super balance, plus their own home, and $200,000 in Australian shares held outside super. Even drawing $130,000 a year in superannuation income, and $15,000 a year in dividend income, they would report a combined taxable income of just $15,000 and pay no income tax whatever.’ This couple are not poor. They are in the highest income decile, they are among the top few percentiles of the wealthiest Australians, and they pay no tax.

Third, just over 80 per cent of retirees are eligible for an age pension or a part-pension. As the proposed withdrawal of cash rebates for franking credits does not apply to pensioners, this means that less than 20% of retirees are even potentially affected by this loss of franking credits. Furthermore, according to the PBO, the loss of additional revenue from exempting pensioners would only amount to $300 million in 2021-22, around 5 per cent, which is a reminder of how most lower and middle income people do not own shares directly and therefore receive no dividends.

Fourth, the wealthiest retirees own most shares. Indeed, the PBO has estimated that the bottom 50 per cent of households by net wealth own just 3.2 per cent of the total value of Australian shares, with 72 per cent of the value of all shares held by the top 10 per cent. These wealthy households are likely to have sufficient taxable income to be able to offset their franking credits against their taxable income; that will include retirees who have more than $1.6 million in their self-managed superannuation fund (SMSF) account. These high-income retirees who own most of the shares will therefore be unaffected by this change to cash rebates and will suffer no loss. Similarly, those retirees whose superannuation account is with a fund with multiple members will suffer no loss.

Fifth, those people affected will mainly be retirees with quite large self-managed super funds close to the pension limit of $1.6 million dollars each, and retirees who own shares directly. Thus, the PBO estimates that almost all the extra tax raised from ending the rebate of excess franking credits comes from these two sources – 60 per cent from SMSFs and 33 per cent from people who own shares directly. Furthermore, most of the extra revenue from SMSFs comes from the top 10 per cent of funds with balances of $2.4 million or more. Similarly, the richest 20 per cent of households aged over 65 own 86 per cent of the shares.

So, against this background, what are we to make of claims that lots of retirees are significantly dependent on the relatively modest amounts of cash rebates they receive in lieu of their franking credits? To answer this question, take the example of a retiree who presently receives a cash rebate of $5000 each year. If the shares in question are being held in their SMSF, then the dividends would be around $33,000, which would imply an Australian share portfolio worth somewhere between $600,000 and $800,000. Furthermore, if the assets of that SMSF are properly diversified then its total value would be around $1½ million or more. That value for such an SMSF is not far short of the $1.6 million limit that has been set for superannuation funds paying tax-free pensions, and this SMSF would be paying a very substantial pension of more than $100,000 a year; the exact amount depending upon the superannuant’s age. In sum, the person concerned could hardly be described as being “dependent” on that $5000 cash rebate. While on the other hand, that person’s SMSF has been enabled to accumulate so much money partly because of the very substantial tax concessions received while the SMSF was in its accumulation stage.

Alternatively, if we assume that the recipient of the cash rebate of $5000 each year holds their shares outside their superannuation fund, they would still have a share portfolio of at least $300,000, assuming their income is sufficiently high that they are not eligible for the age pension – in which case Labor’s policy to abolish cash rebates for franking credits would not apply. Furthermore, if their total taxable income was more than $27,000 a year for a married retiree and $33,300 if they are single, they would be paying some tax which their franking credits would then reduce. The loss of $5000 each year could make a difference to retirees who are not eligible for and age pension, but whose taxable income is below these tax thresholds. However, most of these retirees will also have some non-taxable superannuation income and so their proportionate income loss will be less, typically much less, than for the relatively few retirees whose sole source of income is their low taxable income.

In sum, very few people are likely to experience a serious drop in their living standards under Labor’s policy to abolish cash rebates where taxable income is insufficient to cover their entitlement to dividend franking credits. Almost all the people affected have very substantial incomes and wealth. Indeed, that is why the vast bulk of the extra tax revenue from Labor’s policy will come from retirees who are right at the top of the income and wealth distribution. And it is these people who have benefited disproportionately from the tax concessions that helped them to accumulate so much in their superannuation funds. Furthermore, the concessional tax treatment of retirees is probably the principal reason for the finding by the Grattan Institute that ‘the proportion of Australian seniors paying any income tax has almost halved in 20 years, from 27 per cent in 1995 to 16 per cent in 2014’.

Michael Keating is a self-funded retiree and he and his wife have their own self-managed superannuation fund.

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