The federal opposition’s proposal to end refunds of excess imputation credits will potentially “strangle” existing SMSFs and drive them into retail and industry funds, says the Tax Institute.
Franking changes tipped to ‘strangle’ SMSFs
Speaking to Accountants Daily, the Tax Institute’s senior tax counsel Professor Robert Deutsch said retail and industry funds would be in a much stronger position to withstand Labor’s proposal due to their capacity to utilise excess franking credits against other income internally within a fund across a broad combination of members who are in pension and accumulation mode.
“Retail and industry funds invariably have a combination of members – one group being in pension mode the income from which is tax-free and another group being in accumulation mode the income from which is taxed at 15 per cent. To the extent that one can marry the excess imputation credits derived by the pension-mode members against the extra tax which needs to be paid by the accumulation-mode members, Labor’s policy will have no impact,” said Professor Deutsch.
“SMSFs by comparison, have a much smaller capacity for utilising this principle since they are often two-member SMSFs where both members are in pension mode, or SMSFs with younger members who are all in accumulation mode. Situations where SMSFs have a combination of both pension-mode members and accumulation-mode members will be fairly limited.
“I don’t think the Labor party did this because they set out to make life as difficult as possible for the SMSF industry but it is going to be one of the victims of the change if and when it happens.”
Professor Deutsch believes the proposal will see a less than ideal outcome with SMSF members ultimately driven to retail and industry funds.
“The SMSF industry is an important sector and should be nurtured. People should be encouraged to have their own funds and take responsibility for the performance of those funds rather than leaving it to third-parties who having regards to everything we’ve seen in the royal commission, one might argue that you’re better taking responsibility for your own financial future rather than leaving it to a third party,” said Professor Deutsch.
“People often say we are returning to where we were from 1987 to 2001 where we had this very system with no excess imputation refunds. The difference is that the SMSF industry back then was in its infancy and wasn’t widespread.
“In the course of the last 18 years, we have encouraged the SMSF industry, partly I have to say through excess imputation credits but not entirely, and as a result, there’s been an explosion in the number of these funds and it’s not right to say we’re going back to where we were. Economically, it’s a very different environment and we’re going to strangle the existing SMSFs because they have built a reliance on excess imputation credits being returned to them and that will cease,” he added.
“We’re not enamoured at the idea of carve outs, we’re not enamoured of the idea of caps, we believe the system as it stands works well and is consistent with at least one theory of imputation and we think the status quo should remain but we’re realistic enough to know that if Labor are likely to win the election, they certainly would have a mandate to do what they are proposing.”
CPA Australia had earlier spoken out against the reforms, calling for other options to be considered to ameliorate the impact on investors, including introducing an annual cap on refundable credits, as well as holistic tax reform.
“One of our key suggestions was that if they were going to go down this path, in the absence of holistic tax reform and looking at other options such as an income tax discount on income from rents, interest and dividends, which is not on the table, then they should be considering whether perhaps there should be franking credit caps introduced for taxpayers so if you’re an SMSF or an individual, you might have a cap where you can only get a refund of say $20,000 per annum instead of just no refund,” said CPA head of policy Paul Drum.