In Tuesday evening’s budget, Labor delivered an unexpected announcement regarding the tax treatment of off-market share buybacks undertaken by listed companies.
Namely, the government said it intends to “improve the integrity of the tax system” by aligning the tax treatment of off-market share buybacks with the treatment of on-market share buybacks.
Accordingly, the share buyback amount will be considered capital proceeds for capital gains tax purposes, as opposed to a portion being considered a franked dividend.
This measure, which applies from the announcement on budget night, is estimated to increase receipts by $550.0 million over the four years from 2022–23.
Reacting to the announcement, Liam Telford, national tax technical director of RSM Australia, told InvestorDaily that the government has completely blindsided the market.
“I hadn’t heard of concerns related to off-market share buybacks for several years, and nothing was announced in the lead-up to the budget,” Mr Telford said.
“We’ve seen a lot of off-market share buybacks in recent times by large, listed companies, and the $550 million the government expects to collect over the next four or so years demonstrates the significance of this measure,” he continued.
One of Mr Telford’s main concerns is that this announcement could signal the “death knell” of off-market share buybacks, given that it likely removes any incentive for shareholders to sell at below prevailing market value.
“This is the second measure announced by the government in the last couple of months that targets franking credits — cynics would say that we are starting to see a pattern consistent with the ALP’s 2019 campaign against franking credits,” Mr Telford said.
The first measure, Mr Telford alluded to, was Labor’s pre-budget announcement which revealed its intention to prevent Australian companies from paying franked dividends to shareholders in circumstances where the Treasury believes that the fully franked pidend can be directly or indirectly linked to funding received through capital raising.
Super funds to suffer
Law firm Clayton Utz also alerted its clients to Labor’s latest changes in a statement published on Wednesday.
In it, the law firm stressed that the impact of this measure will be felt hardest by superannuation funds.
“While [super funds] are typically able to access a 10 per cent rate on the capital gain associated with an on-market share buyback, access to the franking credits that came with an off-market share generally resulted in refundable franking credits,” the firm said.
“These refundable franking credits boosted the post-tax returns of the investment. For those members in the pension phase where their income is exempt, the access to the refundable franking credit was especially beneficial.”
Clayton Utz explained that for the majority of the industry, which has significant stakes in the ASX 200 that have undertaken considerable off-market share buybacks in recent years, this measure will have a cost to their Australian equities portfolio.
Prior to the budget announcement, tax law prescribed different tax treatments for on-market share buybacks compared to off-market share buybacks.
This differential in tax treatment has to date seen companies engage in off-market share buybacks at a lower price by utilising franked dividends to ultimately sweeten the deal for selling shareholders.
The government’s concern has been that entities like superannuation funds are able to reap a refund on franking credits, which then leads to government revenue leakage.
As such, as of 25 October, Tuesday, 7.30pm, companies will continue to be able to conduct on-market buybacks or pay franked dividends out of retained profits.
