11 Ways to save tax on shares & make tax-free capital gains

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Save tax on share portfolio - Get your tax refund from Government

Shareholders may need to consider several key tax concerns while owning shares.

The complexity of tax returns for most Australians significantly increased with the introduction of dividends, franking credits, share buybacks, rights issues, margin loans, capital gains tax, and similar financial instruments.

If you own shares, the ATO mandates that you maintain accurate documents for tax purposes, such as:

This article will walk you through the tax repercussions of having a share portfolio and examine future strategies for reducing potential capital gains tax obligations.

11 Ways to save tax on shares & make tax-free capital gains

1. Dividends

You are entitled to a portion of a company's profits, which are often distributed as dividends if you are a shareholder. 

There are two sorts of dividends that you can assess for tax purposes in Australia:

  • Franked dividends are payments made by Australian businesses from previously taxed profits. Fully franked dividends are dividends that are eligible for tax credits on the whole amount of the dividend.
  • Unfranked dividends are those that Australian businesses pay out of profits that haven't had any corporate tax withheld from them.

Tax Saving Tip:

Generally, bank fees and any interest paid on money borrowed to buy shares are tax deductible.

An Australian corporation is required to provide you with a statement together with the dividend payment that advises:

  • the amount of the unfranked dividend
  • the amount of the franked dividend
  • franking credits, if any
  • any TFN withholding taxes deducted from dividends that aren't franked.

To avoid having unfranked dividends withheld at the highest marginal rate (47%) of withholding tax, ensure to provide your TFN to each company that pays you a dividend.

Dividends

Franking credits

Franking credits are sums of tax the business has already paid and applied to your franked dividend. An unfranked dividend has no franking credit attached to it.

An "imputation" method, in which tax paid by a firm may be credited to shareholders, is used to tax dividends given to shareholders by Australian companies. 

Any taxes paid by the business are distributed to shareholders as franking credits included in dividend payments.

Use the following formula to determine the franking credit's amount:

Franking Credit

For enterprises with a turnover of more than $50 million, the corporation tax rate is 30%; however, for small and medium-sized businesses with less than $50 million in revenue, the rate is 25%. 

As a result, to determine the franking credit if you receive a dividend from a public corporation, follow these steps:

Franking Credit 30

Example :

Peter, a resident, received a fully franked dividend of $700 and an unfranked payout of $500 from XYZ Ltd, an Australian-based corporation, on February 15, 2022.

Regarding the dividend, Peter's assessable income for the years 2021–2022 is:

Unfranked dividend - $500

Franked dividend - $700

Franking Credit ($700 X 30/70) - $300

Total assessable dividends - $1500

Tax Saving Tip:

While looking to purchase shares, consider the companies that do so because they offer a 30% credit for previously paid corporate taxes. Dividends are tax-free if your income is less than $120,000, while the marginal tax rate is 32.5 per cent which is not unfavorable.

There is no compulsion to claim the tax offset in your tax return aside from declaring it as income. It will be automatically included on your notice of assessment by the ATO. Use the offset to lower any liabilities from net taxable capital gains as well as from any other source of income.

Because you receive a credit for the 30% income tax already paid, companies that pay fully franked dividends offer a higher yield after tax than those that do not.

Plans for reinvesting dividends

Dividends are not always paid in cash. If the business is private, it may be charged to the shareholder's loan account. Or you can use a "dividend reinvestment plan" (DRIP) or similar scheme to get fresh shares in place of the dividend.

You must pay tax on reinvested dividends since they are part of your Australian taxable income and were used to purchase shares through the DRIP.

Risk - 

Many believe the dividend is not taxable because they did not receive it in cash, but rather more company shares through a DRP. That is untrue. All dividend payments, cash or stock, must be counted toward your yearly taxable income.

When you sell shares you got through a DRP, you must pay taxes on any capital gains. The cost of the shares purchased under a DRP is taken as the market price on the date of the dividend, as shown on the statement, in order to determine any capital gain or loss.

Keep track of any dividends that have been reinvested to calculate any capital gains or losses you may experience when selling shares. The amount you previously declared as a dividend must match the cost base.

2. Shares owned by people with low incomes

Because dividends (and capital gains) are taxed at a reduced rate, keeping shares in the spouse's name with the lesser income can have considerable advantages.

Tax Saving Tip:

Franked dividends are nearly tax-free for those making less than $120,000 because they receive a credit for the 30% already paid in company tax, comparable to the marginal rate at that level.

You can use the excess franking tax offsets to lower your tax liability from other sources of income, such as net taxable capital gains, or even be refunded if you have a lower marginal tax rate.

Example:

Suzie makes $200,000 while Tom makes $310,000. They recently sold their home and are debating buying a share portfolio of blue-chip companies' stocks.

Suzie's marginal tax rate is 21% (including the 2% Medicare levy), which makes it more advantageous for her to hold the portfolio in her name than Tom's, who is in the highest tax bracket at 47%.

The tax savings on a portfolio of shares in Suzie's name that produces a franked dividend income stream of $20,000 each year would amount to $6,204, or 31% of the income received.

The low-income person may be forced into a higher tax rate if their portfolio contains several sizable capital gains, which would cancel out some potential tax advantages. In this case, spreading the disposal over a few revenue years would make sense.

Additionally, it's essential to predict the income levels of spouses in the future, especially if the current income is meagre, and make sure that factors like returning to work when the kids start school are fully considered before making any purchases.

While it is feasible to move shares into the other partner's name through an off-market transfer, doing so would likely result in CGT, which could offset any advantages of the swap.

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3. Borrowing to purchase shares 

Borrowing money to purchase shares, typically through a margin loan, has been a popular but dangerous investment strategy employed by share investors.

In a market that is expanding, borrowing is a wise move. However, in a declining market, it can amplify any losses. You don't want to have a debt to pay back but no shares to show for it. If you are new to investing, avoid borrowing.

Similar to the tax regulations for investment properties, if you borrow money to purchase a share portfolio, you can claim a tax deduction for the loan interest as long as you expect the investment to generate assessable income (dividends or capital gains).

Only the interest paid on the portion of the loan utilised to buy the shares will be eligible for reimbursement if the loan contains a private component.

The advantage of such a plan is that any dividend income should be offset by the interest expense, producing franking credits that you can apply to other taxable income. This technique aims to enhance the value of the shares while deferring any capital gains until a later year, maybe in retirement, when the taxpayer's tax rate is lower.

Tax Saving Tip:

Prepaying interest on your margin loan 12 months in advance before year-end is a great strategy to consider if you anticipate having a lower income the following tax year (for instance, as a result of being laid off or taking maternity leave). It will maximize your tax deduction based on the higher marginal tax rate.

For tax-filing reasons, you may write off borrowing costs (such as setup fees, legal fees, and stamp duty on loans). If borrowing costs more than $100, they must be spread out over five years or the loan's term, whichever is shorter. Under $100 in borrowing costs are entirely deductible in the year they are incurred.

Risk -

You must obtain a return more significant than the cost of the interest rate you are paying (which is typically at a premium for margin loans) for a borrowing strategy to be profitable. Otherwise, even if you get the tax benefits, you are slipping further behind. 

A capital-protected borrowings method is employed by some investors, in which shares are purchased utilising a borrowing arrangement. In this, the borrower is wholly or partially covered against a decline in the market value of the investments.

Any interest paid under a capital-protected borrowing arrangement for shares for capital protection is not deductible; rather, it is regarded as a payment for a put option.

4. Other share deductions

You may be entitled to deduct the following expenses when claiming income from shares.

Other share deductions

Ongoing administration costs

Ongoing management fees are eligible for deductions. However, only a portion of the cost is deductible if the advice relates to investments that don't generate assessable revenue or deal with non-investment concerns.

It is not tax-deductible to pay for the creation of an initial investment plan.

Travelling costs

To the extent that the trip's main objective is to attend an annual general meeting or stockbroker, all related travel expenses are tax deductible. Only the expenses related to serving your portfolio will be eligible for a tax deduction if the trip is primarily private, such as a vacation.

Publications and periodicals

You can deduct the cost of specialized investing magazines, publications, subscriptions, or share market information services from your investment income.

Online accessibility

The cost of internet access will be deducted to the extent that it is used for managing your portfolio over the internet, such as when purchasing and selling shares online. Private use cannot be claimed and must be added back.

Tax Saving Tip:

Based on the percentage of your total computer use related to managing your assets, you can deduct the proportion of the fall in the value of your computer and printer.

5. Capital gains tax on shares

Capital gains tax CGT, which can potentially go to 47 per cent, can significantly reduce the net return on investment. It is a tax levied on profits obtained from the sale of assets purchased after September 19, 1985, typically shares or investment properties.

Any time a net capital gain occurs, it is added to your taxable income and is taxed at the marginal rate.

When a "CGT event" happens, you either make a capital gain or loss. These occasions could include:

  • selling your shares
  • having them redeemed, cancelled, surrendered, or determined to be worthless by a liquidator
  • receiving a payment from a corporation as a shareholder (other than dividends)
  • giving away your shares.

The capital gain is determined by subtracting the proceeds from the sale of your shares from the price you paid for them initially. Your cost base includes brokerage.

Tax Saving Tip:

Keeping the investment for longer than 12 months is the most straightforward strategy to lower CGT. Since September 1999, shares held for more than a year are eligible for a 1% discount on capital gains.

A capital gain or loss is realized when shares are sold back to a firm under a buyback agreement. For income tax purposes, a portion of the buyback price can be regarded as an assessable dividend.

A class ruling is typically made if the repurchase is from a publicly traded corporation to help shareholders with potential tax consequences.

6. Realizing capital losses 

Offsetting any profits you have achieved throughout the financial year with losses on other share investments is one of the best strategies to lower your CGT charge. 

It is crucial to remember that for losses to be applied to any capital gains; they must first be "crystallized" (or "realized"). If a loss is still unrealized (not sold) at the end of the fiscal year, you cannot deduct it from your return until the year the investment is sold.

Examining the possibility of reducing the tax on gains realized earlier in the year by selling a few underperforming shares is a wise tax planning move. It is essential if the stock market is fluctuating and has a decline after a significant advance earlier in the year.

Tax Saving Tip:

Keep a stock-by-stock record of the cost basis and market value of your share portfolio in an Excel spreadsheet. It will help with tax planning by making it easier to identify which equities you can sell to offset capital gains that have already been generated throughout the year.

No need to crystallise whatever losses you bear in your share portfolio if you haven't achieved any profits this year.

While it is possible to buy back shares that have been sold for a loss, it is not recommended. The ATO has cautioned that the practice of "wash sales" could be viewed as an attempt to avoid paying income tax under Part IVA of the tax code, even though it hasn't yet been legally challenged. There are severe tax penalties attached to this.

Also, before any 50% discount is applied to shares held for longer than 12 months, capital gains must offset capital losses.

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7. Share traders vs share investors

For tax purposes, there is a difference between share traders and investors, which affects how gains and losses are handled.

If your business operations aim only to generate income from buying and selling shares, the ATO will classify you as a share trader. 

Losses incurred are handled the same as any other business losses, and if the non-commercial losses conditions are met, a direct deduction from other taxable income is allowed.

It is common for taxpayers to classify themselves as share dealers during financial years when equities plunge.

The ATO may ask you to provide evidence to support your claim that you are operating a share trading business, which may include 

  • Demonstrating your regular share purchases and sales
  • Your use of share trading investment strategies
  • Your decision-making based on careful analysis of pertinent market data
  • Your contingency plan in the event of a significant market shift
  • Your trading plan demonstrates your analysis and research of each potential investment and the market.

If you:

  • invest in shares with the sole purpose of receiving income from dividends and capital growth
  • are eligible for the 50% CGT discount on gain
  • claim losses incurred as a capital loss and not as an immediate deduction
  • carry forward capital losses to be used as a credit against future capital gains

Then the ATO will consider you to be a share investor.

The critical element in handling losses in the current tax year is how you handled your investing activities in earlier tax returns. You should continue to approach your investments the same way in the current year if there has been little to no change in your investing behavior.

The ATO may ask for proof that the transition is accurate and that your income was not wrongly reported in prior tax returns if you switch from being a share investor to a trader (or vice versa).

8. Options and Rights

Companies may grant their shareholders the right or opportunity to buy more shares.

In a "one-for-ten" rights issue, owners have the option to buy an extra share for every ten shares they currently own. The option to exercise, sell on the stock market, or let the right expire is available.

If you receive a put option (a right to sell your shares), the option's market value should be included in your assessable income at the time of issuance and, if exercised, will become a part of the cost base of the shares or rights.

Companies may also grant options to their stockholders. If you are given an option, you have the right to buy or sell business shares at a particular price on a particular date. These options may be sold on the stock market or may expire.

Options are comparable to rights, except they are often held for longer before expiring or needing to be exercised. According to the ATO, options may be offered to both current and non-shareholders, whereas original rights may only be issued to current shareholders.

Exchange-traded options are those that were not developed by the corporation but rather by unaffiliated third parties and are traded on the stock exchange. Options trading will typically be regarded as a business activity and be governed by the standard rules for company revenue.

The quickest way to make money is through option trading, but it's also the quickest way to lose it. Options have caused more people to lose money than to gain it, in my experience.

9. Employee share schemes

Some businesses offer discounted shares, rights, or options that employees can purchase as part of employee share schemes (ESS), allowing them to participate. Both the employee share plan rules and the CGT regime may apply to the taxation of ESS interests.

The ATO requires you to keep a record of the following information for tax purposes:

  • The dates, amounts, and number of ESS interests acquired, exercised or sold.
  • The amount of the discount you received on the date of acquisition.
  • The ESS rules.
  • Information regarding any elections made to include discounts in the year of acquisition for interests acquired before July 1, 2009.

The tax regulations for the various ESS kinds are as follows:

Employee share schemes

Taxed upfront

  • The reduction you obtain is taxable in the fiscal year you purchased the ESS interests.
  • If your adjusted taxable income is less than $180,000 and you don't own or manage more than 5% of the company, you are qualified for a $1000 tax credit.
  • The stake is assumed to have been acquired at market value on the day it was initially acquired for CGT purposes.

Deferred taxes

  • The tax on any discount is postponed until the "delayed taxing point," which is either 7 or 15 years after you acquire the share/right or when you leave your job. If you acquire less than $5000 worth of shares via salary sacrifice or if there is a genuine danger of forfeiture.
  • The market value of the ESS interests at the deferred taxing point, less the cost base, will determine the amount assessed. 
  • The "30-day rule" states that if you sell an ESS interest within 30 days of a deferred taxing point, the date of that sale replaces the earlier date as the delayed taxing point.
  • To evaluate any eligibility for the 50% CGT deduction, the interest is taken to have been reacquired immediately following the deferred taxing point.

10. Share portfolio within SMSF

In a super fund, capital gains on share sales are taxed at either 10% or 15%, significantly less than the 23.5% or 47% that you may otherwise be subject to if you held shares as an individual.

Because super funds only pay a flat tax of 15% on their income, fully franked dividend-paying stocks are particularly desirable because imputation credits come with a 30% tax benefit. It means you can apply the imputation credit to other income the fund has earned in addition to paying the tax on the dividend.

One of the major drawbacks of owning an SMSF is that you cannot access your funds until you fulfil the condition of release, which is often attaining your preservation age in retirement.

An SMSF can benefit significantly from an investing strategy with a share portfolio that primarily generates franked dividend income. The fund obtains excess franking credits on the difference between its 15% tax rate and the 30% corporate tax applied to the dividends. 

You can use the surplus credits to lower the tax due on the income from other funds. The dividends are essentially tax-free.

In contrast to property, SMSF members are permitted to transfer shares "in-specie" into the fund. The quantity of shares that may be transferred each year at market value is subject to contribution limitations. 

The transfer may be tax deductible at the member's marginal tax rate but assessable to the fund at 15% (up to 30% for people with incomes over $250k). It depends on the member's tax situation.

11. Cryptocurrency 

The ATO's perception of how cryptocurrencies are taxed is gradually changing as more and more transactions are made using them. Although it varies from cryptocurrency to cryptocurrency, the ATO believes that they are taxable assets under CGT legislation and not "money" or "currency."

Non-fungible tokens (NFTs), units of data kept on a blockchain or digital ledger that can represent unique digital objects (such as art, audio, video games, and other types of creative work), are the newest technology trend being traded.

An NFT is a cryptographic asset, not interchangeable or fungible like cryptocurrencies.

Tax Saving Tip:

The ATO has not yet formally announced how they would approach NFTs in terms of taxes, but it doesn't imply they won't tax any gains generated from trading them. If the ATO treats them as collectibles under the CGT laws, you may be permitted to overlook any capital gains if you purchased the NFT for less than $500.

Each cryptocurrency has distinct characteristics that could lead to a different tax treatment than other digital assets.

Whether you bought bitcoin for personal use, investment, trading, or business, revenue and expenses will also affect how it is taxed.

No matter what, keep track of any transactions involving the purchase or sale of cryptocurrencies.

When you dispose of your bitcoin, a CGT event takes place. Some or all of the gain may be subject to taxation if you sell a cryptocurrency for a capital gain. Some capital gains or losses resulting from selling cryptocurrency that is an asset for personal use may not be considered.

For capital gains tax purposes, only capital gains from assets purchased for personal use and cost more than $10,000 are taxable. However, all capital losses are ignored on assets used for personal purposes.

If cryptocurrency is obtained, stored, or used in any of the following ways, it is not a property for personal use.

To be classified as a cryptocurrency trader for tax purposes; you must prove to the Australian Taxation Office that you: 

  • Conduct out your activity for commercial reasons and in a commercially viable fashion
  • Engage in activities in a business-like manner. It often entails creating a business plan and purchasing inventory or capital assets following the plan.
  • Creating accounting records, marketing a brand or product
  • Intending to make a profit or sincerely believing you will make one, even if it is unlikely to happen immediately.

Your commercial activities often involve repetition and regularity, yet occasionally one-time deals can qualify as a business.

If you are an investor in cryptocurrencies, you may not be eligible for the personal use asset exemption. You may be required to pay tax on any capital gains you realize upon selling your bitcoin holdings.

If you hold the cryptocurrency for more than 12 months, much like with investment properties or shares, you will be qualified for the 50% capital gains tax discount on any gain. A capital loss can be used to offset capital gains in the same year as the loss or in years to come. Net capital losses are not deductible from other income.

FAQs

How do you smartly save taxes on stock gains?

Okay, so there are a few things you can do to reduce the amount of taxes you pay on stock gains. First, if you're in a higher tax bracket, you can consider selling some of your stocks in a tax-deferred account such as an IRA or 401(k). This way, you won't have to pay taxes on the gains until you withdraw the money from the account (usually when you retire).

Another option is to take advantage of capital loss carryovers. If you have losses from previous years, you can use them to offset current gains and save on taxes.

At what limit is the dividend tax free in Australia?

Dividends are tax-free if your income is less than $120,000, while the marginal tax rate is 32.5 percent which is not unfavorable.

How are stock investments taxed in Australia?

There are a few different ways that stock investments can be taxed in Australia, depending on the circumstances. If you're buying and selling stocks on a regular basis, then you'll generally be taxed at your marginal tax rate on any capital gains you make. However, if you're holding onto stocks for the long term (i.e. over 12 months), then you may be eligible for the Capital Gains Tax discount, which reduces your tax rate on capital gains to half of your marginal tax rate.

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