Technical Update:

Tax office concession for small companies with overfranked dividends

01 June 2017

THE TAX OFFICE HAS ISSUED PRACTICAL COMPLIANCE GUIDELINES PCG 2017/D7, WHICH CONSIDERS HOW COMPANIES SHOULD DEAL WITH CHANGES IN THE TAX RATE FOR COMPANIES CARRYING ON A SMALL BUSINESS.

From 1 July 2016, companies that are carrying on a business with a turnover less than $10,000,000 will be taxed at a rate of 27.5%. From a franking perspective, companies that are carrying on a small business with a turnover less than $10,000,000 in the year ended 30 June 2016 will only be able to frank dividends in the 30 June 2017 year using the 27.5% franking rate, meaning their maximum franking amount is reduced. In many cases, these companies have already paid franked dividends during the 2017 income tax year at the 30% franking rate.

This will otherwise result in an overfranking of the dividend, which may result in a loss of franking credits, especially where shareholders have already been notified of their dividend and imputation entitlement (at the 30% rate).

The Tax Office addresses this issue in PCG 2017/D7. In this release, the Tax Office states that affected entities that issued 2016/17 dividend statements before 19 May 2017 (the date the law reducing the tax rate was passed), may notify their members of the correct franking amount without having to reissue the distribution statement. In particular, the Tax Office makes the following statements:

“The Commissioner will not impose penalties on the corporate tax entity for giving a member an incorrect distribution statement provided it gives written notice to each of its members clearly showing the correct amount of the franking credit. The notice should be provided in the same way as the distribution statement was provided (which may be electronically by email).”

The corporate tax entity can provide this notice to their members without seeking an exercise of the Commissioner’s discretion to allow amendment of the distribution statement.

The notice should indicate that the distribution statement previously provided was incorrect and should contain the following details:

  • Name of the entity making the distribution
  • Date on which the distribution was made
  • Amount of the distribution
  • Revised amount of franking credit allocated to the distribution, rounded to the nearest cent
  • Franking percentage for the distribution, worked out to two decimal places
  • Amount of any withholding tax deducted from the distribution
  • Name of the member.

The members must use this to correctly report on their tax return.

The corporate tax entity should adjust its franking account to reflect the fact that the franking debit to the account should be calculated by reference to the 27.5% corporate tax rate.

This is an alternative to the more complex mechanism in the tax law that allows the company to apply to the Commissioner for permission to amend the distribution statement under section 202-85 of the Income Tax Assessment Act 1997. If the Commissioner grants permission, the corporate tax entity would then be able to provide the member with a new distribution statement and no penalty would be imposed for the initial incorrect statement.

Example

  1. ABC Co pays a fully franked distribution to a member of $100. The distribution was madeon 31 December 2016 before the law change. Applying the 30% tax rate, the companycalculates the franking credit to be allocated to the distribution as $100 x 0.30 / (1-0.30) =$42.86.
  2. ABC Co provides a distribution statement to the member that states that the franking crediton the distribution is $42.86.
  3. Subsequently the law change occurred which reduced the corporate tax rate for smallbusinesses with an aggregated turnover of less than $10 million to 27.5% for their 2016-17income year.
  4. Instead of seeking an exercise of the Commissioner’s discretion to allow an amendeddistribution statement, ABC Co sends a letter to each of its members containing the detailsset out in paragraph 12 of this draft Guideline, and explaining that the distribution statementwas incorrect.
  5. When members lodge their tax return, they will be able to use the information in this letter todetermine the maximum franking credit on the distribution based on the 27.5% tax rate. Using section 202-65 of the ITAA 1997, this would be calculated as $100 x 0.275 / (1-0.275) = $37.93.
  6. No penalty is imposed by the ATO.

If your company has paid a dividend and has issued dividend statements which show a higher levels of franking than is now permitted, this is the solution to correct the position without having to approach the Tax Office for permission to correct the dividend statements already issued. This produces the same result as amending the dividend statement, and you do not have to approach the Tax Office.

If you choose to issue a notice to shareholders to correct the incorrect dividend statements, you should do exactly as required by the Tax Office in PCG 2017/D7 (discussed above).