Paying taxes is a fact of life. We never worry about paying tax on share gains because it means we have a profit on the investment. We have prepared a simple primer on most common questions on this issue. Theses are our thoughts only and is not a substitute for professional advice.
Depending on individual circumstances, tax structuring can have a large impact on post tax returns. It is important to be aware of the most tax efficient means of holding investments, either in a company, or invest through superannuation to maximize long term post tax return.
What is Capital Gains Tax (CGT)?
Capital gains tax is a tax on sale of assets that has risen in value. If an asset is sold below its original cost, it is called capital loss. A CGT event happen where tax is payable when the gain is realized with asset sold. Then taxes will be payable on the difference between the sale price and original cost less any deductible expenses. This is paid when the individual lodges the tax return.
One year’s capital losses can be used to offset next years gains with no time limit.
Australians are taxed on their income world wide as long as the individual declare themselves resident for tax purposes. This means that the standard level of taxes applies for investments made offshore for example in US or UK stocks.
From this perspective, there can be considered double taxation of the dividends from overseas companies. The only claim domestic investors can make is the amount withheld by the overseas government or broker.
There is no double taxation on capital gains which means any gain from appreciation of the share price is only taxed once when the gain is realized.
Capital Gains Calculator
Sale Proceeds – Original Price – Costs = Net Capital Gain
How much is Capital Gains Tax?
The tax is applied to the individual’s marginal income. This means the net gain number from the above calculator is added to an individual’s income for the year.
Individuals also receive the benefit of 50% CGT discount if the asset is held for more than 12 months. This means that any potential taxes is halved for long term investors where only half the original amount is added to income.
Capital Gains Tax on Investment Property and Primary Residence
The taxes applies to real as well as financial assets. If for example the asset is real estate it can be complicated as any expenditure since original purchase can be added to the cost base, except for the amount already depreciated.
CGT only applies to investment properties and any amount paid to broker can reduce the total level of gain made. If capital expenditure was made during the holding period to improve the asset, the cost of the expenditure can be added to the cost base of the asset. This would reduce the total amount of capital on sale.
The sale of individual homes which the individual lives in and that meet requirements set out by the ATO are not subject to tax. For most of the population, the family home is its largest investment and the most tax efficient investment. Even as the family moves out, if the asset is sold within 6 years, no capital gains will be payable. However the interest on mortgage is no tax deductible when it is occupied by the owner unlike investment properties. The trend of offset income tax with interest expense even with a negative carry property is called negative gearing.
Taxes on Futures Contracts Trading
In some instances where futures contracts are used for speculation purposes, the gain and loss are considered taxable income but not actually as capital gains.
Company Capital Gains Tax
For some investors, it could be more tax efficient to hold assets in a company or trust. Most trusts can be structured as a tax pass pass through entity which means the gains and losses as well as income and losses are passed through directly to the investors.
Limited liability companies (Pty Ltd) on other hand is a self contained tax entity. Taxes on assets held in a company is paid by the company it self. Australia company tax rate of 30% means that capital gains are taxed at a maximum of 30%. The primary disadvantage of holding assets in a company is company do not have the benefit of 50% capital gain discount for assets held more than 12 month.
The small businesses enjoy an additional benefit of 28% tax rate (if all the income and taxes are paid in Australia, the fully franked dividend would still enjoy a 30% franking credit).
Tax on Super Fund Investments
Tax in superannuation can be complicated. Superannuation can be either concessional or non concessional. In simplest sense, if a contribution is made before income tax is paid on the income then it is taxed at 15%. If money has already been taxed, then contribution will not be taxed.
Investment gains and income are taxed at a flat rate of 15%. Specially on investments that have been held for more than 12 months in a suport fund, the long term capital gain rate has a 33% discount on the flat 15% tax rate. This means that the long term tax rate on capital gain in the superannuation account is only 10%.
Taxes on dividends are treated at the flat rate noted above. If the dividend is fully franked, they would be entitled for a refund for that position. The level of refund would be dependent on the level of franking credits that is attached to the dividend. Any dividends paid by companies that pays taxes in Australia means the income is franked with imputation credits and is not double taxed at the shareholder level when the cash flow.
Therefore from a holistic perspective for investors to think their investment portfolio in and outside super as one single portfolio, there can be tax advantages to have the super fund in holding positions that has a decent franked dividend yield.