Dividend Imputation and Franking Rebates

Shares have an established record of providing long term capital growth. Dividend imputation adds the significant benefit of reduced tax on share dividends, enhancing after-tax returns.
Its most important feature is that individual shareholders and superannuation funds get a rebate that reflects tax the company has paid on income paid out as dividends — the "franking" rebate. Depending on their tax status, dividends are referred to as fully franked, partly franked or unfranked.
Dividends are usually franked, meaning that tax paid by most investors on their dividend income will be significantly less than tax on a similar level of income from most other investments, including government securities, bank deposits and debentures. This can mean that the net yield obtained from shares can compare very favorably with the net yields from other forms of investment — with shares having the added attraction of potential for long term capital growth.
The effect of dividend imputation on individual shareholders depends mainly on two things: the individual’s taxable income and how much tax the company has paid before distributing the dividend.
Most companies pay tax, and pass on franked dividends to shareholders. Most large industrial companies pay enough tax to attach a full tax credit to their dividends, making them fully franked.
A fully franked dividend means that the whole dividend carries a tax credit at the applicable company tax rate. This provides the maximum benefit of dividend imputation to shareholders.
A company’s tax circumstances can change and, consequently, its ability to pay franked dividends. Companies may claim various tax deductions, including losses from previous years. This means a company does not always pay the full rate of tax on its profits in a particular year.
The result may be that the company has not paid enough tax to attach a tax credit to the whole of the dividend it pays. Then, a tax credit is attached to only part of the dividend: the dividend is referred to as partly franked. A shareholder who gets such a dividend pays the usual income tax on the part that is unfranked but is able to claim a tax credit for the franked portion.
Companies that pay franked or partly franked dividends provide details with the dividend cheques sent out, to help shareholders file their tax returns.
The extent of the benefits of franking credits will depend on an investor’s marginal tax rate. If it is higher than the company tax rate at which the tax credits have been calculated, the shareholder will have to pay tax only to the extent needed to make up the difference between his or her marginal rate and the company rate.
If the shareholder’s marginal tax rate is lower than the company rate, not only will no tax be payable on the franked dividend, but the shareholder will get a tax credit that can be used to offset tax payable on other income.
If a shareholder’s total income is below the tax threshold, franking credits are of no value. Excess franking credits cannot be carried forward.