The Centre for International Finance and Regulation (CIFR) has released two pieces of research which find dismantling the imputation system could have detrimental effects for both shareholders and the Australian economy.
The first paper is authored by Andrew Ainsworth and Graham Partington of University of Sydney, along with CIFR Research Director, Geoff Warren. It finds that the impact of imputation credits on share prices and the cost of capital is subject to much debate, with no consensus amongst academics.
Warren said “There’s a notion that imputation does not lower the cost of capital because share prices are set by international investors. This an extreme position. For instance, imputation clearly impacts share prices around dividend payments; and can matter for smaller, domestic companies where investors are substantially local.”
Warren said there should be more attention placed on how imputation influences the behaviours of investors and companies. The research found the impact of imputation on payout policy is perhaps its clearest effect, with ample evidence that Australian companies have lifted payout ratios in order to distribute franking credits. He said a key benefit of the imputation system is that higher payouts contribute to more disciplined use of capital. It essentially reduces the money ‘burning a hole in the pocket’ of companies, and requires a case to be made for seeking additional funding.
Warren said dismantling the imputation system would thus lead to a less efficient deployment of capital, with negative impacts on both shareholders and economy.
The research found that while imputation may also influence aspects like the equity-debt mix and how investors set their portfolios, its impact in these areas is less clear. Any effects from adjusting the imputation system also depend on other concurrent changes, particularly any reduction in the corporate tax rate.
Warren said the findings of the research provided a counterbalance to the Tax Discussion Paper which appeared heavily influenced by concepts and assumptions from economic literature.
In a second paper, Geoff Kingston of Macquarie University considers the macroeconomic impacts from removing imputation to fund a reduction in the corporate tax rate. He argues that any such adjustment should only be undertaken after considering other interactions and effects.
Kingston notes, “My research helps identify some serious implications that must be considered before any changes are made to the current system. For instance, the removal of imputation would reduce equity returns available to superannuation funds, and could result in a loss of earnings to support retirement incomes.”
Kingston highlights that imputation offsets some idiosyncrasies of the Australian tax system, including high marginal personal tax rates and taxation of retirement savings in accumulation rather than rundown. He recommends that any changes should occur in conjunction with a reduction in the top marginal tax rate, and a rebalancing of taxation of superannuation towards the retirement phase.
CIFR’s recommendations have been put forward in a submission to Treasury, available on the CIFR Website at: http://www.cifr.edu.au/site/Library/CIFR_Tax_White_Paper_Submission_June_2015.aspx.
Source: Centre for International Finance and Regulation
