Franking credits – how the 45-day holding rule works

Franking credits – how the 45-day holding rule works

Franking credits (also known as imputation credits) arise from companies paying dividends on their earnings, where tax on these earnings has already been paid. These credits are granted to company shareholders in order to avoid the shareholders again paying tax on the dividend income.

Franking credits can significantly increase the return on your investment, so it's worth checking to see if you qualify for them. (And, as always, contact your adviser or tax agent if you’re not sure.)

Investors are required to hold their shares “at risk” for a minimum of 45 days to receive the benefits of franking credits, which is known as the 45-day holding period rule. Here's what you need to know about this rule:

  1. It doesn’t include the purchase date or the sale date. This means that you need to hold the shares for 45 days plus the date of purchase and plus the date of sale – so effectively 47 days.
  2. Preference Shares have double the holding period requirement. Preference Shares are shares which entitle the holders to a fixed dividend, whose payment takes priority over that of ordinary share dividends, and they must be held for 90 days at risk to receive the benefits of franking credits (again, not including the date of purchase or sale). 
  3. The small shareholder exemption. If you are an individual taxpayer, the 45-day rule does not apply where the franking credits being claimed are below $5,000 for a financial year. Any other taxpayers (for example, self-managed super funds) must adhere to the 45-day holding period rule, even if the credits being claimed are less than $5,000.
  4. “At Risk”. Transactions such as granting options or warrants over shares, or entering into a contract to sell shares, may have the effect of materially diminishing the investor’s risk of loss and opportunity for gain. These shares are not considered to be held at risk and therefore cannot qualify under the 45-day holding period.
  5. Last-In-First-Out (LIFO). For the purposes of the 45-day holding rule only, a ‘Last-In-First-Out’ method is used when calculating whether the taxpayer qualifies for a franking credit. This can be best illustrated with an example:
Day 1
Acquire 10,000 Telstra shares
Day 300
Acquire 6,000 Telstra shares
Day 330
Telstra shares go ex-dividend, paying 15c per share + franking credits
Day 340
Sell 6,000 Telstra shares

In the example above, we must assume that the 6,000 shares sold on day 340 were the shares that were acquired on day 300, not day 1. Since those shares were not held for 45 days, the franking credit on the dividend applicable to them cannot be claimed (the dividend being $900 and the franking credit being $385.71).

Note: the LIFO method is only used for the purposes of the 45-day holding period rule. For capital gains tax purposes alternative methods may be used.

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