Dividend Imputation

A dividend imputation is an arrangement in Australia and several other countries that eliminates the double taxation of cash payouts from a corporation to its shareholders. Australia has allowed dividend imputation since 1987. Through the use of tax credits called "franking credits" or "imputed tax credits," the tax authorities are notified that a company has already paid the required income tax on the income it distributes as dividends. The shareholder does not then have to pay tax on the dividend income.

Finland, Italy, Mexico and New Zealand also have dividend imputation systems.

In any other country, corporate dividends are taxed twice. Double taxation of dividends occurs when both a company and a shareholder pay tax on the same income. The company pays taxes on profits and subsequently distributes a dividend out of its after-tax profits. Shareholders must then pay tax on the dividend received. The double taxation system can cause corporations to prefer debt over equity, can make companies more likely to retain their earnings, and can drag down economic growth.

Taxpayers in countries wherein dividend imputation is offered will typically claim the appropriate credit when filing their taxes.

Dividend imputation has had a mixed history among different nations, as the circumstances of each country’s tax system prompt varying applications. Nine countries that once offered such an arrangement have either changed or ended the practice. These countries include the following:

• United Kingdom
• Ireland
• Germany
• Singapore
• Italy
• Finland
• France
• Norway
• Malaysia

The United Kingdom and Ireland, for example, previously offered partial imputation with tax credits that were, effectively, portions 12 cents to 25 cents on each dollar. The partial imputation in the United Kingdom provided a 20 percent refund against a 33 percent corporate tax rate. Starting in 1997, however, the government moved away from this, first by eliminating the refund to tax-exempt shareholders that includes pension funds. Then, in 1999, the refund rate was cut to 10 percent.

Germany, Finland, Norway, and France all previously offered full dividend imputation. France offered tax credits equal to 50 percent of the face value of the dividend. After the repeal, these countries taxed dividends at a rate of 50 percent or greater. Germany did away with its dividend imputation program with the intent of reducing the nation’s tax rate. Finland, likewise, lowered its corporate tax rate after dividend imputation as repealed. Norway, on the other hand, did not lower its corporate tax rate when dividend imputation ended.