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Are DIY funds facing a dividend disaster?

28 May 2014  |  Investing

DIY disasterThere are "growing calls" to change the dividend imputation system. This would hit the investment strategy of self managed super funds hard. Dividend imputation has made it relatively easy to get strong returns in super funds in the post-GFC world. Investors have not had to rely on capital gains. They have simply relied on share prices remaining the same, and received tax advantaged returns from stable dividend payments. No suprise that there is a heavy bias in share investing towards the banks and Telstra, which have the strongest dividend policies.

There is a push by banks to have it changed. The argument is that this would help deposits and push people away from buying shares. Apart from the curious implication that they want lower share prices -- which would be the inevitable result of the tax being withdrawn -- it is an extremely bank-centric view of the world. It is not as if investors only have two choices: buying bank shares or putting money into deposits. There are many options, and no reason to believe that investors would simply shift from giving the banks their money in one form to giving it to the banks in another.

The real reason is that corporates want to pay a lower rate of tax. Economist Nicholas Gruen estimates that it could be as low as 20%. The other aspect of dividend imputation that corporates do not like it that it encourages them to pay the full rate of tax. The "growing calls", in other words, are a push by companies to ease their tax burden.

Gruen estimates it is "costing the Australian tax system" $20-25 billion a year.

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Imputation has changed the character of share investing in Australia. After the GFC, which has been a  prolonged period of asset deflation, getting returns from rises in shareprices has largely been removed as an option. The All Ordinaries Index has gone nowhere for years. But because of imputation, whereby super funds get a tax rebate if they pay a lower rate of tax than company, there has been a way of getting consistent returns from dividends that has been aggressively exploited.

It has been an easy investment option. If it is removed, investment will become a lot harder.

Here is the ABC's canvassing of the issue:

http://www.abc.net.au/news/2014-05-27/australian-shares-versus-deposits-bankers-spoiling/5482380

As Scott Phillips from Motley Fool observes, grossed up dividends get about 8%, compared with 2-3% in term deposits. It is a huge difference and if it is invested in banks, it is close to as safe as a bank deposits. If it is altered, it would be a huge change to the investment environment:

http://www.abc.net.au/news/2014-05-27/in-the-studio-with-scott-phillips/5482388

It is unlikely that an already unpopular Government will scrap the dividend entirely. But it is possible that there will be changes to the tax break. Dividend imputation is unlikely to change completely, but it may change.

 


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