Franking credits can be a complex topic for many Australians, but they are also an essential tax benefit that can significantly reduce investors’ taxable incomes. Understanding how franking credits work and how they are calculated can benefit investors, especially those investing in Australian companies. In this blog post, we will provide a detailed look into how franking credits are calculated in Australia and help you take advantage of this tax incentive to maximise your savings. 

Firstly, franking credits are also known as imputation credits, and they are a type of tax credit that Australian companies pass on to their shareholders in recognition of taxes paid by the company. These credits are calculated as a percentage of the dividend payment made by the company. In simple terms, it means that when a company pays tax on its profits, some of that tax is passed on to its shareholders in the form of franking credits. 

Secondly, to calculate your franking credit entitlement, you need to know the franking percentage of the dividend payment. The franking percentage is the percentage of tax the company has paid, and it varies based on the company’s tax rate. In Australia, the maximum company tax rate is 30%, so a company that has paid this rate will have a franking percentage of 100%, while a company that has paid a lower tax rate will have a lower franking percentage.

Thirdly, once you know the franking percentage of the dividend payment, you can use it to calculate your franking credits. To do this, you multiply the dividend amount by the franking percentage and then divide by 100, for example: 

Franking percentage: 100% 

Dividend amount: $1000 

Franking credit: (1000 x 100) / 100 = $1000 

In this example, $1000 is your franking credit entitlement. It means that the company has paid $300 in tax on the profits it used to pay out the $1000 dividend. As a shareholder, you can apply this $300 as a credit against your own tax liabilities. 

Fourthly, it’s important to note that franking credits can only be used to reduce your tax payable, not to generate a refund. If your franking credit entitlement is more than your tax liability, you can carry it forward to the next tax year or use it to offset future tax liabilities. 

Finally, if you are an individual investor and your marginal tax rate is less than the company tax rate, franking credits can provide significant tax benefits. For example, if your marginal tax rate is 20%, you will only pay an additional 5% tax on the dividend payment after applying your franking credit entitlement. It means that your overall tax liability will be lower and you will save money on your taxes. 

Understanding franking credits and how are franking credits calculated is key to taking advantage of tax benefits when investing in Australian companies. By knowing the franking percentage and applying it to your dividend payment, you can easily calculate your franking credit entitlement and use it to reduce your tax payable. Remember, franking credits can only be used to offset your tax liability, not generate a refund. So, if you haven’t already, it may be time to speak with a financial advisor and start making the most of franking credits.