Dividend Imputation

Submitted by Share Trading on 10 July, 2010 - 17:13

The term "Dividend Imputation" refers to a particular corporate taxation system under which the tax paid by a business organisation is attributed completely or partially to the investors (shareholders) in the form of tax credit which allows the organisation to slash its income tax payable on the distribution of its earnings.

The dividend imputation system is widely practiced in Australia and New Zealand where in UK, they have a "modified imputation system". The dividend imputation system was available in France as well until 2004. In Australia, they have this system which enables the companies to attach “franking credits” to the dividends paid. The companies get benefited from this system as those credits represent company tax paid already. In addition to this, the distributed profits of the company is taxed only once at the tax rate of the shareholders.

Corporate Profits and Dividend Imputation

The corporate profits were subject to two different taxes before 1987. At first the companies had to pay taxes on their earnings and secondly the individual investors who had shares in that company were subject to income tax on the dividends that they received from the company. However, this practice was seen as an unfair way of taxing due to the fact that the companies which were providing the dividends were already taxed for the underlying profits.

Later the duel tax system was replaced by the "dividend imputation" system which allows the companies to distribute dividends after being taxed on their earnings but the process eliminates the system of double taxation. Say for example, if a company is required to pay 30 percent of tax with a gross profit of $100, then it will have to pay a tax worth of $30 and will record $70 worth of net profit.

The shareholders who are receiving the franked dividends are then treated, due to the tax purposes, since they receive an assembled income both the dividend and imputation credit associated, and as having pre-paid as tax an amount which is equivalent to the imputation credit. The shareholders who are required to pay tax under a marginal rate lower than the company rate becomes entitled to a refund of an amount which has been overpaid. The refund may now be available to be paid in the form of cash if not required to make adjustments for the tax.

Unfranked Dividends

In case of Australia, sometimes companies distribute "unfranked" dividends. Say for example, in case of a company that earned profit abroad which did not result in the payment of taxes to the government of Australia. Sometimes companies go for distributing “partially franked” dividends as well where the franked portion divided by the entire amount is termed as “franked ratio”.

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