How Labor can’t touch this multi-millionaire and their franking credits

There is one thing for sure in the lead up to this election – it seems everyone is getting fired up over refundable franking credits and they aren’t holding back on their criticism.  However, there is one thing I have learned over the last few months, and that is, that most still don’t understand how the imputation system works and exactly how the proposed policy from Labor will impact on different situations.   There is also a misconception in this debate that the proposal by Labor reverts the rules back to how they used to be.  This is not so – this proposal has exemptions and specific rules that makes it very different.

While there is also a lot of criticism around self-funded retirees enjoying tax free income and “lapping up” benefits from the government, it appears that the proposed policy is missing the mark when it comes to putting an end to “wealthy welfare” as Mr Bowen calls it.

Let’s take Barry and Lesley as an example.  Multi-millionaires with all of their superannuation sitting in their two large APRA-regulated funds totally $3 million.  They are both 67 years of age and draw an income of $150,000 per year from their super fund which sits in pension phase.  They don’t pay any tax personally and their super fund is tax free.  Better still, their super balance each year is topped up by franking credits of nearly $13,000.

Compare this to Gloria, a 53-year-old divorced mother of three.  She has very little in superannuation, a cash emergency fund and a share portfolio worth $300,000 from her divorce settlement.  She earns dividend income of $13,500 per year and receives a refundable franking credit of just under $6,000 per year.

Under Labor’s proposed policy to abolish refundable franking credits, Barry and Lesley, the retired multi-millionaires, will continue to get nearly $13,000 of franking credits to boost their super balance, however Gloria, the divorcee, will lose her refundable credit of around $6,000 per year.

So how does it make sense that the multi-millionaires keep their franking credits to top up their super but the single divorcee who is struggling, loses it?   And is this equitable?

According to the Association of Super Funds of Australia (ASFA), there are more than 210,000 people who have superannuation account balances of more than $1 million.  Two thirds are self-managed superannuation fund (SMSF) account holders and the remaining one third are in APRA-regulated funds including those with big banks and industry funds.

While Labor is trying to target members who receive the biggest refunds, they appear to be focusing on those bigger balances (140,000 members) within Self-Managed Super Funds, where the refunds are easily identifiable.

Where Labor has missed the mark, is with the remaining one third of members (70,000) with more than $1 million sitting in APRA-regulated funds, that will continue to enjoy the so called rort of refundable credits. Large APRA fund members in pension phase will continue to earn tax free money in their super fund, pay no tax personally and their superannuation balance will be boosted by their franking credits even after Labor’s proposed changes.

While the Labor government argues that refunds are mostly going to Self-Managed Super Fund’s, APRA funds have been somewhat ignored as their tax is consolidated amongst members, so trying to determine and target those effectively receiving refundable credits is much harder.

ASFA states that the reason for very little refunds going to APRA funds is that the larger APRA funds are generally receiving sufficient taxable contributions from employers and the self‐employed.  Together with tax liabilities in regard to investment earnings from funds in the accumulation stage, they have a net tax liability even after the benefit of franking credits, returning the franking benefit back to the tax-free pension account holders.

Sounds confusing?  It is, but the bottom line is Barry and Lesley are laughing all the way to the bank and will continue to live off the “wealthy welfare”, regardless if Labor wins the election.

So, will there be a rush to move super balances to APRA regulated funds to try and keep the refundable credits?  Unlikely.   There is skepticism from retirees that Labor will turn on APRA regulated funds as the next target.

While there may be some consideration to move a proportion of the Australian shares that would create a refundable credit to an APRA regulated fund, the cost to hold the shares in such a fund, may dilute the benefit greatly.  If these strategies were employed, it would also reduce the anticipated revenue Labor hopes to gain from abolishing the refundable franking credits, forcing them to look elsewhere to raise revenue, cut costs, or as many believe, turn on APRA regulated funds.   A hidden trap for many retirees is that they also hold grandfathered pensions for Centrelink purposes and changing super funds may affect benefits such as Health Care Cards.

So multi-millionaires in large APRA funds won’t batter an eyelid to Labor policy to abolish refundable credits and instead will continue to enjoy the benefit.  Meanwhile, those with SMSF’s who may lose some benefit, will employ new smart strategies to utilise the franking credits to mitigate the impact.

In fact, with some smart strategies, an SMSF with $6 million will still enjoy an entirely tax-free status even after the abolishment of refundable credits.

While some may think this is policy misses the mark in many places and targets those that it should probably avoid, let’s spare a thought for Gloria, the single divorcee who is struggling the most, and appears to take a hit, should these policies come to fruition.

Olivia Maragna is the co-founder of Aspire Retire Financial Services and is a respected financial expert.  Olivia’s advice is general in nature and readers should seek their own professional advice before making any financial decisions.

You can follow Olivia on Facebook or Twitter at https://twitter.com/oliviamaragna