There are 2 types of dividends paid by a company, franked or unfranked.

A franking credit, or imputation credit, is the tax credit attached to a franked dividend. The credit is for the tax already paid by the company on their share of the dividend. When the company pays a franked dividend to a shareholder, the franking credit is attached to the payment.

When the shareholder lodges their tax return, the franked dividend is grossed up in the shareholder’s tax return and they pay tax at their tax rate. Then they receive a credit for the tax already paid by the company. This in turn, reduces their actual tax payable amount.

If the shareholder is in a tax bracket higher than the company tax rate, then they have to top up the tax payable. If they are in a tax bracket lower than the company tax rate, then this reduces tax on other income & maybe even results in a refund.

Unfranked dividends aren’t issued with a franking credit as tax has not been paid on the dividends to shareholders.

Franking credits were introduced in 1987 to eliminate the government double-dipping on company profits and investors being taxed twice on dividends. Franking credits were extended by the Howard government so that shareholders who paid no income tax (e.g. retirees) would also get a refund from the ATO. Of the 34 OECD nations, Australia is 1 of only 4 nations that calculates franking credits. Further, Australia is the only nation to provide a cash refund of any unused franking credits.

If you have questions in relation to the above, or any other matters, please do not hesitate to contact our office on 1300 620 345.