What is the 45-day holding rule?

June 24, 2021 08:49 AM AEST | By Ashish
 What is the 45-day holding rule?
Image source: Miha Creative,Shutterstock

Summary

  • Dividend stripping involves purchasing shares before a dividend is declared and then selling them when they go ex-dividend.
  • The investors gain in case of income being more than the loss or if the tax treatment of the two offers an advantage.
  • The Australian government introduced the 45-day rule to stop investors from manipulating the tax system through dividend stripping.

Have you ever heard about dividend stripping? The practice involves purchasing shares a short period before a dividend is declared or cum-dividend and then selling them when they go ex-dividend.  Dividends are part of the profit given out by the companies to shareholders as a reward for investing in equity. The board of directors announces dividends after the consent of the shareholders.

The practice of dividend stripping helps investors to earn dividend income or a capital loss. The investors gain in case of the income being more than the loss or if the tax treatment of the two provides an advantage.

There have been cases of companies using dividend stripping to avoid tax. Dividend stripping or cum-ex trading helps a company to distribute profits to the owners in the form of a capital sum, as against dividend.  The expectation is to receive the dividend, the franking credit and a capital gain at the same time, or a capital loss smaller than the dividend gain.

Source: © Mb2006  | Megapixl.com

READ MORE: How do I start trading penny stocks in Australia?

To stop investors from manipulating the tax system through dividend stripping, the Australian government introduced the 45-day rule.

What is the 45-day rule?

Under the 45-day rule, the taxpayers are required to continuously hold shares "at-risk" for at least 45 days to be entitled to the franking credits.  It includes 90 days for preference shares, not including the day of acquisition or disposal. The rule was originally set out in section 160APHC-E of the Income Tax Assessment Act 1936 (1936 Act).

This holding period rule generally applies to shares bought on or after 1 July 1997. It is not applicable where an individual’s total franking credits entitlement for the financial year are below AU$5,000.

READ MORE: Which are the top dividend stocks in Australia?

In Australia, ordinary external investors are free to purchase shares before the dividend is announced and sell them ex-dividend and treat the dividend income and capital loss the same as any other investment. However, anti-avoidance provisions of Part IVA of the Income Tax Assessment Act 1936 come into the picture in case of a deliberate arrangement by the company's owners to avoid tax.

Who is eligible for a franking credit?

A franking credit or an imputation credit is a kind of tax credit paid by corporations to their shareholders along with their dividend payments. Several countries, including Australia, allow franking credits to reduce double taxation.

Source: ©Jgroup  | Megapixl.com

The franking credit allows companies to allocate a tax credit to their shareholders since they have already paid taxes on the dividends distributed to their shareholders. The shareholders might then get a reduction in their income taxes depending on their tax situation.

READ MORE: 29Metals set to debut on ASX; Here’s how to invest in an IPO

To put it in simple words, the investor who gets the dividend receives a tax credit from the firm. This informs tax authorities that the company has already paid for the needed income tax on dividends.

As already explained, the taxpayers who continuously hold shares "at-risk" for at least 45 days are entitled to the franking credits as a franking tax offset.

Source: © Moth   | Megapixl.com

READ MORE: How are Laybuy shares performing? Does the Company pay dividend?

How to calculate franking credits?

Here is the standard formula for the calculation of franking credit:

Franking credit = (dividend amount / (1-company tax rate)) - dividend amount

If an investor receives a $60 dividend from a company paying a 30% tax rate, their full franking credit would be AU$40 for a grossed-up dividend of AU$100.

READ MORE: Which are the 10 hottest biotech stocks on the ASX?


Disclaimer

The content, including but not limited to any articles, news, quotes, information, data, text, reports, ratings, opinions, images, photos, graphics, graphs, charts, animations and video (Content) is a service of Kalkine Media Pty Ltd (Kalkine Media, we or us), ACN 629 651 672 and is available for personal and non-commercial use only. The principal purpose of the Content is to educate and inform. The Content does not contain or imply any recommendation or opinion intended to influence your financial decisions and must not be relied upon by you as such. Some of the Content on this website may be sponsored/non-sponsored, as applicable, but is NOT a solicitation or recommendation to buy, sell or hold the stocks of the company(s) or engage in any investment activity under discussion. Kalkine Media is neither licensed nor qualified to provide investment advice through this platform. Users should make their own enquiries about any investments and Kalkine Media strongly suggests the users to seek advice from a financial adviser, stockbroker or other professional (including taxation and legal advice), as necessary. Kalkine Media hereby disclaims any and all the liabilities to any user for any direct, indirect, implied, punitive, special, incidental or other consequential damages arising from any use of the Content on this website, which is provided without warranties. The views expressed in the Content by the guests, if any, are their own and do not necessarily represent the views or opinions of Kalkine Media. Some of the images/music that may be used on this website are copyright to their respective owner(s). Kalkine Media does not claim ownership of any of the pictures displayed/music used on this website unless stated otherwise. The images/music that may be used on this website are taken from various sources on the internet, including paid subscriptions or are believed to be in public domain. We have used reasonable efforts to accredit the source wherever it was indicated as or found to be necessary.


AU_advertise

Advertise your brand on Kalkine Media

Sponsored Articles


Investing Ideas

Previous Next
We use cookies to ensure that we give you the best experience on our website. If you continue to use this site we will assume that you are happy with it.