20 April 2018
In the great franking credit debate someone has got their sums horribly wrong. Either Opposition Leader Bill Shorten and his shadow treasurer Chris Bowen are right and enormous sums are going to be raised or, alternatively, the financial planning and accounting industries, which are dealing with the people who must pay these taxes, are right and, apart from a particularly select vulnerable group, there are no vast sums to be raised.
We won’t know who is right until around May or June next year and by that time the election will be rapidly approaching.
I believe that Shorten and Bowen have made a horrendous mistake in their money-raising estimates and this represents the first big mistake that Shorten has made since he became opposition leader.
Worse still, Shorten and Bowen are promising vast expenditure and tax reductions on the basis of these fictitious money raisings. Most accountants, financial planners and myself believe that when Scott Morrison introduced his superannuation pension mode taxes and a $1.6 million pension mode tax-free cap last year he absorbed most of the franking credit bonanza.
If I am right then he is the Liberals’ best chance to achieve an improbable victory in the next election.
But I can’t emphasise too strongly that Chris Bowen honestly believes I am wrong and is adamant that he has taken into account the Turnbull government’s 2016 budget superannuation measures, including the $1.6 million pension mode balance cap.
Bowen says that Labor’s policies have been fully costed by the parliamentary budget office, which is independent and legally obligated to cost out policies, including the $1.6 million superannuation cap.
So for me to be right the budget office must be wrong.
But Treasury is notorious for making such mistakes and in this case there are no past figures available because the superannuation tax did not start until last July and it will not be until this time next year that we start to see the results.
So let’s look at how the investment communities are adjusting their strategies to make sure that there is no revenue bonanza for Bowen and Shorten. The essence of the Bowen proposal is that if an investor/superannuation fund receives franking credits and those franking credits can’t be offset against other taxes payable but rather come to the investor/superannuation fund via direct cash payment, then franking credits will be lost.
In other words as long as an investor/superannuation fund has sufficient other taxable income they can receive franking credits.
Starting with individuals, there is no doubt that a lot of people have big holdings in banks and other investments that carry full franking credits on the dividends.
If they have no other income those investors then will not get their franking credits. But most people with private investment portfolios have properties and other investments that produce non-franked taxable income and many are also working and that also provides taxable income. But there will be a group of people or companies without offsetting income and therefore they going to lose their franking credits under the Bowen plan. .
But Bowen can’t start the new regime until July 1, 2019 so there is the balance of this financial year and all of the next financial year to make sure portfolios are properly balanced for franking credits. Only the mugs will be caught and those that are currently receiving large franking credits into personal accounts are usually not mugs.
And then the next vulnerable group are ordinary non-pension mode superannuation funds whether they be industry, retail or self-managed. These are funds not in pension mode and therefore income is taxed at 15 per cent and again it is possible that some self-managed funds in this situation are stacked to the eyeballs with listed investment franking credit investments, but it is an imprudent investment strategy. Superannuation is about a balanced approach.
But once again those who have adopted this imprudent policy will certainly change it prior to July 2019.
Then we get to the most vulnerable people — those with superannuation funds in pension mode. The only figures we have available to us at this stage are those for the year ended June 30, 2017 and those figures show that there are substantial cash sums being paid in franking credits because the money in the pension mode funds was not taxable and so all the franking credits came as a direct credit.
But on July 1, 2017 a new tax system started and balances over $1.6 million are now taxed at 15 per cent — the same rate as non-pension mode superannuation funds. Accordingly exactly the same situation as non-pension mode applies. Again most superannuation funds will have a mix of assets and the non-franking credit assets and will produce taxable income which can offset the franking credits and enable them to be retained.
Yes, there will be some taxation raised by the Bowen measures but people are going to adjust their portfolios to ensure that the amount paid is small.
If people have pension mode superannuation assets under $1.6 million then they are a prime Bowen target because income from these assets is tax free so all franking credits are a separate payment and will be lost under the Bowen plan.
But the shadow treasurer has exempted those on government pensions.
We don’t know exactly how this will work but it seems those with assets that are low enough to entitle them to a government pension will receive franking credits, so in the roughest of terms it is only those people with assets between $800,000 and $1.6 million that will cop it in the neck.
Those with assets close to the government pension cut off point are planning to reduce those assets to protect the franking credits and obtain a part pension.
But there are still a lot of people in the asset bracket of $800,000 to $1.6 million but there will not be any massive lump payments and people will change their portfolios especially as banks have not been performers. It is this group of savers who saved to avoid being a burden to the public who Shorten and Bowen are attacking.
But even for these targeted people it looks like there could be a let-out. Bill Shorten said that those who have their money in retail and industry funds — the so-called APRA funds — will be protected. Now Chris Bowen is not as clear so this is an area of major doubt and we’ll have to wait closer to the election to have it clarified.
But if industry and retail funds are treated as one organisation rather than a series of individual members then they have substantial tax payments that easily offset franking credits. Those with vulnerable portfolios in self-managed funds will simply hand the management of their equity to industry or retail funds and their franking credits will be protected. If that’s the way it turns out then the real result of the Shorten-Bowen plan is an attack on self-managed funds.
This would be grossly unfair. As I understand it, the industry funds believe Shorten will deliver and are planning a massive campaign to destroy large segments of the self-managed super fund movement.
The accounting and financial planning people can’t see a major money pot — Morrison took it away last budget. But to be certain, we will have to wait for May-June 2019, as that is when the actual 2017-18 figures from superannuation funds will be available. And if there is no pot of money Shorten will have to recant on promises or borrow the money. Not a good way to start an election campaign.
Meanwhile this is an incredibly wonderful opportunity for the government because it creates uncertainty around pensions and has a hint of chaos.
If I was the government I would freeze all superannuation tax measures for five years and I would also be briefing my marketers to prepare a pension scare campaign that equates to the ALP’s Medicare scare campaign.
Both have no validity but like all good scare campaigns it doesn’t matter.