Australian Taxation Office targets $100m in ‘possibly illegal’ franking credits

The Australian Taxation Office said more than $100 million worth of tax benefits dished out to shareholders as big companies raised money may have been tax avoidance.

In its second crackdown in a week on franking credits, the ATO is going after companies that are raising capital to make franked distributions to shareholders. These credits allow shareholders to get a credit for any tax the company has paid and use it to reduce their own tax bills.

The credits, whose cost has been questioned by the federal government’s tax reform process, are popular with shareholders because they can be used to save tax. If the shareholder’s top marginal tax rate is less than the company’s tax rate (30 per cent) the tax office refunds the difference.

The ATO crackdown means shareholders, including large institutional super funds and retail investors who benefited from the franking credits, may be forced to pay the tax back.

ATO deputy commissioner Tim Dyce said: “The ATO considers that these arrangements may not be compliant with the tax law, in particular the general anti-avoidance provisions. Therefore, there may be adverse implications for shareholders and companies involved in these arrangements.”

There could be a significant amount of tax at risk with more than $100 million of franking credits potentially released in cases known to the ATO.

“The ATO has concerns over the significant potential for franking credit refunds at the shareholder level arising from such arrangements,” Mr Dyce said.

“The ATO is reviewing arrangements where companies raise new capital to fund franked distributions and release accumulated franking credits to shareholders.”

The arrangements were being entered into by companies with accumulated franking balances. They would then release franking credits which the ATO said they otherwise would have retained.

He said a typical case was companies issuing rights to shareholders and using the funds raised to make franked distributions via special dividends or an off-market share buyback.

“These arrangements are distinct from ordinary dividend reinvestment plans involving regular dividends,” he said.

“The distributions are unusually large compared to ordinary dividends and occur at a similar time, and in a similar amount, to the capital raised.”

“So, a potentially large amount of franking credits is released with minimal net changes to the company’s economic position. There is also minimal impact on the shareholders, except in some cases they may receive refunds of franking credits and in the case of buybacks they may also get improved capital gains tax outcomes.”

Mr Dyce said the ATO was in discussion with large business stakeholders on the arrangement and would work with affected taxpayers to help them comply with the law.

Last week the tax office announced a crackdown on “contrived arrangements” that allow hundreds of wealthy individuals with self-managed superannuation funds to pay no tax on income from shares.