Franked Dividend

Updated on January 3, 2024
Article byWallstreetmojo Team
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What Is Franked Dividend?

Franked dividend refers to the dividend on which taxes have already been paid by the company, at the rate at which the company is liable to be taxed. In other words, the investors and the dividend receive a tax credit equal to the amount of taxes paid by the issuing company.

A franked dividend is accompanied with a tax credit, which indicates the amount to be paid as tax on the dividend. In short, these types of dividends relieves the tax burden of the investors. Plus, it prevents investors receiving dividend from double taxation.

Franked Dividend Explained

Franked dividend is a dividend paid by the company to the investors, post-payment of taxes applicable to it, and a franking credit given to the investors.

The concept is designed to avoid double taxation of income. Further, the credit so given helps in the tax burden of the investor, as he needs to offer the total amount of dividend, i.e., including the taxes paid by the company, as income but simultaneously gets credit for the taxes already paid and hence tax is applicable only on the balance dividend. In effect, franking credit helps reduce the tax burden in investors’ hands to the extent of the franking credit.

At the time of payment of dividends, the company pays taxes on such dividends declaredDividends DeclaredDividend declared is that portion of profits earned that the company’s board of directors decides to pay off as dividends to the shareholders of such company in return to the investment done by the shareholders through the purchase of the company’s securities.read more and paid and provides the shareholder/investor with a tax credit. This becomes the franking credit.

Such dividend, on which tax is paid and franking creditFranking CreditThe franking credit is essentially a tax paid by companies or corporations prior to distributing dividend payments, so shareholders receive a tax credit and, depending on their tax structure, can receive a refund or proportionate reduction in their income taxes.read more provided to the investor, is referred to as Franked Dividend.

Any person earning income, subject to exemption thresholds, is liable to pay taxes at applicable rates on their annual income. Similarly, the company is responsible for paying the taxes at applicable rates on their annual profits. Post payment of statutory taxes, the balance is available to the company to retain or distribute to the shareholders in full or in part.

A dividend means the distribution of the portion of profits of the company. Thus, when a company pays dividends, it has already paid taxes on that portion of profits distributed to the investors.

From a shareholder’s point of view, a dividend is a taxable income in his hands and thus added to his annual income and taxed at the personal tax rate. At this juncture, it is highlighted that this dividend has already been taxed at a company level. Now, it may end up being taxed again in the hands of investors, thus leading to double taxation of incomeDouble Taxation Of IncomeDouble Taxation is a situation wherein a tax is levied twice on the same source of income. It usually occurs when the same income is taxed both at corporate as well as at the individual level.read more.

Hence, the concept of franked dividend evolved, thereby allowing to claim a tax credit, that is franking credit, on the dividend amount received by the investor.

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Formula

When we refer to this type of dividend, we refer to the cash dividendCash DividendCash dividend is that portion of profit which is declared by the board of directors to be paid as dividends to the shareholders of the company in return to their investments done in the company. Such a dividend payment liability is then discharged by paying cash or through bank transfer.read more received by the investor. Thus, it would be right to say that the franked dividend is the net dividend amount paid post considering the payment of applicable taxes by the company.

Franked-Dividend

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For eg:
Source: Franked Dividend (wallstreetmojo.com)

Franked Dividend = Shares Owned * Net Dividend Received Per Share.

Further, it shall also be important to understand the calculation of franking credit received by the investor.

Franking Credit = (Dividend Received / 1 – Company Tax Rate) – Dividend Amount

Calculation Example

Let us consider the following instance to understand the concept and also check how to calculate franked dividend.

Edwina held 100 shares of Hudson Works Ltd., valuing $2300. She received a dividend at the rate of $8 per share. Further, Hudson Works Ltd pays taxes at a rate of 30%. Calculate what will be the franked dividend and how much will franking credit be available to Edwina?

Solution

Calculation of Dividend can be done as follows,

Franked Dividend Example 1
  • = 100 * 8
  • = 800

Calculation of Franked Credit can be done as follows,

Franked Dividend Example 1.1
  • = (800 / 1 – 0.3) – 800
  • = 342.86

Thus, Edwina received a dividend of $800 and a credit of $342.86.

Advantages

Franked dividends are special kinds of dividends that help investors gain their share of profits from a company, while earning tax credits. These credits allow them to avoid double taxation and enjoy reduced tax burden. In short, offering these dividends prove to be beneficial to investors in many ways.

Let us have a look at some of the advantages of the same:

  • Franked dividend comes with an attached tax credit.
  • The investors benefit from the tax credit while filing their tax returns.
  • The tax rates are higher for corporations than for personal income. Thus, it is possible that the investors may also be eligible for a refund, provided other provisions are complied with.

Disadvantages

The company must pay taxes on its annual income for the financial year. The company declares dividends from a portion of the post-tax profits. In other words, it will be right to say that the company is liable to pay taxes, whether or not it distributes dividends. Thus, the company, as such, does not have the advantage of paying it.

Besides having numerous benefits to offer to investors, these dividends have certain limitations as well. Investors and companies must know of them before they decide to activate this franked dividend option. Let us have a quick look at the disadvantages of these dividends:

Franked vs Unfranked Dividend

The basic difference between the franked and the unfranked dividend lies in the tax credit aspect attached to the dividend.

  • While a franked dividend is a dividend paid to investors with a tax credit attached to such dividends. This tax credit refers to the extent of corporate taxes paid by the company on such dividends being distributed, unfranked dividend refers to dividends with no tax credit attached to them.
  • For franked dividend, the shareholder receiving it is eligible for tax relief to the extent of tax already paid by the company. On the other hand, in case of unfranked dividend, the investor will have to bear the additional tax burden on the dividend amount received.

Thus, the differences between them have been summarized below:

Franked DividendUnfranked Dividend
Tax Credit attached to a dividendNo tax credit attached to the dividend
Taxes already paid at the company level. An investor is eligible to claim tax credit to the extent tax paid by the company.An investor will have to bear the taxes applicable to such dividend income.
Taxes paid by the company at corporate tax ratesTaxes to be computed and paid at personal income tax rates

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