The workings of franking credits within a self-managed super fund (SMSF) continue to cause confusion, according to Graeme Colley, director, technical and professional standards, for the SMSF Professionals' Association of Australia (SPAA).
"There is a common misconception, which some advisers and accountants promote, that a franking credit is like a gift from the Government that reduces the amount of tax payable by the fund," he said.
"Although this may be the outcome, it couldn't be further from the truth, as franking credits are really a timing issue in relation to the tax to be paid.
"In effect, the tax paid by the company is potentially dividend income foregone by the shareholder, who later gets the opportunity to reclaim some of this tax via franking credits," Colley continued.
"A franking credit alters the timing of paying tax payable by the SMSF."
"This occurs at the time the company pays income tax, which may end up as a franking credit on dividends paid to the fund and included in the fund's income."
Similarly, Colley said many trustees did not appreciate that their eligibility to claim franking credits against the tax payable by their SMSF had some limitations.
"The entitlement to use the franking credit may not be available where the company paying the dividend is involved in a dividend streaming or stripping arrangement, or where there is a franking credit trading scheme in place," he said.
"Remember, too, that to be eligible for the franking credit offset shares must satisfy the holding period rule that requires the superannuation fund to retain the shares 'at risk' for at least 45 days, excluding the days of acquisition and sale, and for some preference shares for at least 90 days.
"An exemption to this rule applies to small shareholdings where the total franking credit entitlement is less than $5,000."
So while there are undoubted advantages from franking credits in SMSFs, especially in the pension phase, Colley's warning to trustees was that they would be well served seeking professional advice.
Originally published by SMSF Essentials.
