Shares and Taxation

Taxation implications of owning shares

Income Tax• Any income that you make is able to

be taxed.• Everyone is entitled to the first

$18200 of income being tax free – Tax Free Threshold.

• With shares returns from dividends and capital gains are both classed as income and as such are both able to be taxed.

• Capital Gains Tax (GCT) is a tax levied on any capital gain (profit) made on an investment.

• Laws relating to capital gains seem to continually change. Some of the general changes are:

• Shares purchased pre 1985 are not subject to CGT.

• Shares purchased pre September 1999 the Capital Gain can be calculated using the indexation model or the discount model.

Capital Gains Tax

• The INDEXATION MODEL takes into account inflation and the “real” gain in price of the shares to calculate the CGT. *

• Shares that are purchased after September 1999 and held for less than 12 months have the capital gain calculated on the entire gain.Capital Gain = Total Return – Total Cost

(in other words your profit)

• For shares purchased after September 1999 and held for more than 12 months the DISCOUNT RULE applies – you find 50% of the gain and pay tax on that.

Capital Gain = (Total Return – Total Cost)/2

Or

Capital Gain = (Total Return – Total Cost)* 50%

• Once the capital gain has been calculated, investors pay tax at their marginal rate (the tax bracket they are in)

Capital Gains Tax = Capital Gain x Marginal Tax Rate

Example

• Cassie purchased 3000 AMP shares at $6.75 each. Brokerage is 2% and a GST of 10% is applied to brokerage. 9 months later he sells them for $8.98. Cassie’s marginal tax rate is 42%

a) Calculate the capital gain

b) Calculate the CGT owing

c) Calculate the after tax return

Consideration : 3000 x 6.75 = 20250

Brokerage : 2% x 20250 = 405

GST : 10% x 405 = 40.50

Total : (20250 + 405 + 40.50)

$20695.50

Step 1 – Buy and Sell the Shares

Consideration : 3000 x 8.98 = 26940

Brokerage : 2% x 26940 = 538.80

GST : 10% x 538.80 = 53.88

Total : (26940 – 538.80 – 53.88)

$26347.32

Step 2 – Sell the Shares

Capital Gain = Total Return – Total CostCapital Gain = 26347.32 – 20695.50 = $5651.82

Step 3 – Calculate the Capital Gain

Capital Gains Tax = Capital Gain x marginal tax rate

Capital Gains Tax = 5651.82 x 42% = $2373.76

Since the shares were held for under 12 months no discount rule applies and tax must be paid on the entire capital gain.

b)

c)After Tax Return = Total return – total cost – CGT

After Tax Return = 26347.32 – 20695.50 – 2373.76

After Tax Return = $3278.06

Capital Losses• Most investors at some point make

poor decisions regarding investments and make a loss.

• The decision needs to be made to hold on to them and hopefully they will rise in value or sell them.

• If you sell them for less than you bought them for it is called a CAPITAL LOSS.

• A capital loss can be used to offset any capital gains – this reduces the amount of CGT payable.

• Capital losses are offset against the full value of any discountable capital gains. (i.e. before the 50% rule is applied)

• If your capital losses exceed your capital gains in a year – then the net capital loss (the amount left over) will be carried into the next financial year.

• It is best to offset the loss against any gain that the 50% rule doesn’t apply to.

Tax on Dividends

• Before 1987 a company would pay tax on their profits (dividends) and then you as a shareholder would pay tax on your income – so the Government was kind of getting 2 lots of tax out of one payment.

• DIVIDEND IMPUTATION - is a method that gives tax advantages to shareholders who receive dividends.

• FULLY FRANKED Dividends have the tax paid on them by the company at the company rate 30%.

• This means when you get the dividend tax has already been paid – giving you the possibility of :– not paying tax on the dividends– Paying reduced tax on the dividends– Getting money back in the form of a tax

return– Depending on your marginal tax rate

• If your marginal tax rate is below the company tax rate you will get a refund!

• This system has benefits for shareholders, making dividend payments more attractive.

Calculating the Imputation Credit

• In all these calculations we assume that the Business Tax rate is 30%

0.24 x 1260 302.40 x 30/70

30 is the tax rate

Questions to Do• Page 12

–Exercise 7D.5• Q 1,2

• Page 12–Exercise 7D.6

• Q 1,2,3,5