We're getting mighty close to June, and that means that the abacuses over at the Australian Taxation Office (ATO) are being primed, as we speak, for tax time.
Although our tax returns are not eligible to be lodged until the beginning of July, June is an important month for our taxes (as you might notice from the flurry of tax-related advertisements we'll be seeing). That's because the end of next month represents the last chance we have to buy any work-related goods or services if we wish to claim them for our FY2025 tax returns.
No one enjoys handing over their cash to the government. But, as an American judge once said, "tax is the price we pay for a civilised society".
However, that doesn't mean we have to pay more than what is required of us. That's why I think all Australians should take advantage of one of the best (legal) tax dodges available to us. It comes from owning ASX dividend shares.
As income investors would know all too well, the dividends that we receive from ASX shares are, for all intents and purposes, income. We have to declare any dividends we receive in a financial year on our tax returns, right alongside our salaries from our day jobs.
However, most ASX dividend shares also give us the opportunity to bag ourselves a significant tax break. That tax break comes in the form of franking credits.
Franking credits are a uniquely Australian feature of our tax system. They come attached to many (though not all) dividends that ASX shares regularly pay their investors.
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Beat the Australian Tax Office with franking credits
A franking credit is, in essence, a tax receipt. Companies that pay out dividends have to do so from a pool of profits that has already been taxed. If those profits are made in Australia, that tax will usually be the 30% corporate tax.
As we've already covered, dividends received by individuals must be declared as ordinary income. However, this means that when a dividend arrives in your bank account, it has been taxed twice – once at the corporate level and once at the personal level as your own income.
This is an inherently unfair arrangement. To compensate investors for this, the dividends that come from an already-taxed profit reserve also come with those franking credits attached.
This enables the recipient of those foreign credits to claim back the tax already paid on those corporate profits. In effect, it gives us a 'free' tax deduction on our income tax returns.
In this way, franked dividends are some of the most tax-advantaged income we can receive as Australian taxpayers. Almost every other form of income, whether it be employment salary and wages, interest from a bank account, term deposit or bond, or rent from a positively-geared property, does not offer this kind of benefit. Dividend shares do. So if you want to get the ATO off your back this tax time, buy an ASX dividend share or two.
