Pros and cons of scrapping dividend imputation

From Matthew Smith | 14 Apr 2016:

In a low-growth economy — which we are in — any barrier to future growth is fair game to be considered for removal, so it should come as no surprise that Australia’s beloved dividend imputation system is the target of some debate.

John McIntosh, a private investor and doyen of the finance industry, makes the case for scrapping dividend imputation along these lines: If companies are incentivized to pay dividends it takes money away from what they might otherwise use to invest to deliver future earnings.

An already high corporate tax rate relative to the rest of the world means multinationals are using every trick in the book to avoid paying tax here, he adds. The government could reduce corporate tax by as much as 20 per cent if it was to do away with franking credits, he reckons.

McIntosh also says the dividend imputation system is harbouring a dividend paying culture which is distorting the decision making of our corporate executives.“If you have the confidence in a corporate executive, surely you’d rather have them manage the money rather than leave it in the hands of a funds manager who makes money from fees,” McIntosh, who was the founding partner and chairman of McIntosh Securities before it was sold to US investment bank Merrill Lynch in 1996, says in an interview with FINSIA’s InFinance.

McIntosh joins finance luminaries including Bill Ferris, a veteran venture capitalist and chairman of Prime Minister Malcolm Turnbull’s innovation and science advisory committee, along with other prominent VC investors who have been beating the drums for a review of the dividend imputation tax system.

…..One thing we know for sure, the JASSA article [by Andrew Ainsworth and Graham Partington from University of Sydney Business School Department of Finance and Geoffrey Warren from the Centre for International Finance and Regulation] explains, is the imputation system has encouraged higher dividend payouts – there’s a stark divergence in the dividend payout ratios for the Australian and world equity markets after imputation was introduced.

I am all for a flat tax system, with the same low rate (between 10 and 15%) of income tax payable by both individuals and corporations, which would make dividend imputation redundant (you simply make dividends exempt from tax). But, with the present system, it doesn’t make any sense.

Removing dividend imputation would certainly encourage large corporations to distribute less of their profits, resulting in large risk-averse corporations with bloated balance sheets. That is not a formula for growth. Quite the opposite. And when large corporations decide to expand, many do so offshore, either because they already dominate or face fierce competition in local markets. And apart from the patchy record that Australian corporations (not just NAB) have with international investments, offshore investment won’t generate local jobs or taxes.

What is needed is to remove the structural impediments to growth. Until we improve the tax system, over-regulation, labor practices, infrastructure, and bloated cost structures, Australia will struggle to be internationally competitive.

In Queensland we pay 35.378 cents per Kilowatt hour for electricity, or 27 US cents (AUDUSD at 0.76). The average price in the USA is 12 cents with some states as low as 8 cents. That is just one of many impediments to establishing competitive industry in Australia.

To attract industry we need to create fertile soil for them to grow.

Source: The pros and cons of scrapping dividend imputation