Government to revise franking credit changes after Senate Inquiry

A Senate committee has recommended that the government consider the changes it plans to make to franked distributions funded by capital raisings.

On Friday, the Economics Legislation Committee handed down its report on Treasury Laws Amendment (2023 Measures No. 1) Bill 2023.

While the Senate Committee report recommended that schedule 4 concerning off-market buybacks be passed unamended, it said the government should consider opportunities to clarify the proposed changes in schedule 5.

Schedule 5 of the bill is intended to prevent certain distributions that are funded by capital raisings from being frankable in response to concerns raised by the ATO.

Issues with the scope of the measure

During the Senate Inquiry process, industry stakeholders warned the proposed changes could lead to significant complexity and uncertainty and raised particular concerns about the scope of the measure in the bill.

The Tax Institute, CA ANZ and the Law Council of Australia warned schedule 5 would have far broader application than the original policy intent of the measure.

The Tax Institute stated in its submission that the provisions would impact commercial arrangements such as employee share schemes and dividend re-investment plans and unfairly penalise companies with infrequent distribution papers.

“The government should reconsider the scope of the proposed measure and ensure it only targets the category of transactions that are contrived and results in appropriate access to franking credits,” it said in its submission.

King & Wood Mallesons argued that the drafting of the bill set a low threshold to capture distributions and would create “commercial uncertainty and an administrative burden”.

Similarly, the Australian Banking Association commented that the schedule creates some uncertainty about whether certain capital raisings could be deemed ‘unfrankable’ despite those capital raisings not being intended to fund any dividend or distribution.

“Any additional uncertainty that impacts capital raising activities of banks should be minimised through clarifications to the bill and EM,” the ABA said.

Suggested changes from industry groups

Industry groups including the Financial Services Council recommended that the measure should only apply to the part of a distribution that is funded by a capital raising.

The SMSF Association said the proposed considerations should be extended to include a broader list of matters when considering whether a distribution satisfies the requirements.

“Without this modification, this subsection is too narrow and ambiguous and risks competitively disadvantaging profitable and growing companies,” the association said.

A large number of stakeholders also raised concerns with the fact that the proposed test to determine whether companies can pay out fully franked distributions looks at the established practice of a company’s dividend payments.

Industry groups said the current drafting of the bill would make it difficult for an entity to change the nature of distributions due extraordinary financial circumstances, such as those that occurred during the COVID-19.

“The legislative tests do not contemplate the need for entities to react to challenging corporate circumstances that require unusual capital raising, equity issue and franked distributions,” the Association of Independent Retirees said.

“The tests for consideration of relevant distributions should include circumstances that relate to exceptional economic events that require unplanned capital raisings or distributions.”

Wilson Asset Management said that redrafting the bill would be essential to ensure that the legislation provided clarity to the circumstances in which it could apply and would act as a clear anti-avoidance measure as intended by Treasury.

Committee response

The Senate committee said it was not convinced schedule 5 would result in unintended consequences.

“Treasury has engaged in an extensive consultation process with industry and individual stakeholders to ensure that this does not occur,” it said.

It also concluded that the existence of a purpose and effect test would be enough to ensure that smaller companies who are unable to meet the established practice test would not be unintentionally captured by the measure.

“The committee notes that the ATO will have a large number of factors to take into consideration, when determining whether a distribution should be affected by the measure,” it stated.

Despite this, the committee concluded that some of the feedback provided in submissions and in the Senate Inquiry hearings were worthy of further consideration by the government to improve the bill.

“Doing so will ensure the measure is targeted at the type of activity originally identified by the ATO, and reduce stakeholder concerns of unintended consequences,” it said.