Should your client’s SMSF participate in the Telstra share buyback?
Despite some excitement from SMSF trustees, participating is not as straightforward as it seems.
The announcement of the Telstra share buyback has had many SMSF trustees salivating at the prospect of franking credits to boost their SMSF investment returns for the 2014/2015 financial year. The decision to participate is not, however, a straightforward decision, with taxpayers needing to consider their tax position to determine whether a benefit is obtained through participation.
For an SMSF in pension phase, it is a ‘monty’ to obtain a tax benefit through participating in the buyback, even to the point of offering the shares at the maximum 14 per cent discount to the current market price. The chart below outlines the after-tax result for a pension fund and accumulation fund:
Accumulation |
Pension | |
| Current share price | $5.65 | $5.65 |
| Discount to market | 14% | 14% |
| Capital component | $2.33 | $2.33 |
| Dividend component | $2.53 | $2.53 |
| Offer price for TLS buyback | $4.86 | $4.86 |
| Capital component | ||
| Capital proceeds | $2.33 | $2.33 |
| Add: adjustment for excess of CGT value price over the buyback price | $0.79 | $0.79 |
| Less: CGT cost base | -$3.60 | -$3.60 |
| Capital gain / (loss) from disposal in buyback | -$0.48 | -$0.48 |
| Tax rate | 15% | 0% |
| Tax payable | $0.00 | $0.00 |
| Net proceeds from capital component | $2.33 | $2.33 |
| Dividend component | ||
| Franked dividend from buyback | $2.53 | $2.53 |
| Add: Grossed-up franking credit | $1.08 | $1.08 |
| Assessable income | $3.61 | $3.61 |
| Tax rate | 15% | 0% |
| Tax on assessable income | $0.54 | $0.00 |
| Less: Franking credit tax offset | -$1.08 | -$1.08 |
| Tax payable / (refundable) | -$0.54 | -$1.08 |
| Cash dividend component | $2.53 | $2.53 |
| Franking credit refund | $0.54 | $1.08 |
| Total proceeds from dividend component | $3.07 | $3.61 |
| Total after tax proceeds from TLS buyback | ||
| Capital component | $2.33 | $2.33 |
| Dividend component | $3.07 | $3.61 |
| Total after tax proceeds from TLS buyback | $5.40 | $5.94 |
You can see from the above example that whilst it is a worthwhile exercise for pension funds, a decision to offer the shares at a discount to participate in the share buyback in accumulation phase is not an effective outcome. However, if the shares were sold at a 6 per cent discount to the current market price, then the after-tax proceeds for an accumulation fund would be $5.95.
To understand this further, lets take a look at the following example:
TLS buyback example
ABC Super Fund holds 5,000 shares in Telstra (TLS) which were purchased in the T3 float in October 2006 for $3.60 per share. Both fund members are paying pensions, with all fund income being exempt from tax (0 per cent). The trustees are interested in participating in the TLS share buyback and wish to maximise their participation by completing the offer document offer the shares at a 14 per cent discount to the current market price of $5.65.
The following table outlines the overall after-tax proceeds from participating in the buyback:
| Current shareholding | 5,000 |
| Current share price | $28,250.00 |
| Discount to market | 14% |
| Capital component | $11,650.00 |
| Dividend component | $12,650.00 |
| Offer price for TLS buyback | $24,295.00 |
| Capital component | |
| Capital proceeds | $11,650.00 |
| Add: adjustment for excess of CGT value price over the buyback price | $3,950.00 |
| Less: CGT cost base | -$18,000.00 |
| Capital gain / (loss) from disposal in buyback | -$2,400.00 |
| Tax rate | 0% |
| Tax payable | $0.00 |
| Net proceeds from capital component | $11,650.00 |
| Dividend component | |
| Franked dividend from buyback | $12,650.00 |
| Add: Grossed-up franking credit | $5,421.43 |
| Assessable income | $18,071.43 |
| Tax rate | 0% |
| Tax on assessable income | $0.00 |
| Less: Franking credit tax offset | -$5,421.43 |
| Tax payable / (refundable) | -$5,421.43 |
| Cash dividend component | $12,650.00 |
| Franking credit refund | $5,421.43 |
| Total proceeds from dividend component | $18,071.43 |
| Total after tax proceeds from TLS buyback | |
| Capital component | $11,650.00 |
| Dividend component | $18,071.43 |
| Total after tax proceeds from TLS buyback | $29,721.43 |
As you can see from the above table, the fund trustees will be 5.21 per cent better off by participating in the buyback ($1,471.43), effectively through the benefit obtained the fund paying pensions (0 per cent tax rate). Again, the investment return is improved should the trustee offer the shares at a lower discount (e.g. 6 per cent) to the current market price.
There are a range of important factors to consider when determining whether to participate in the TLS share buyback – fund tax position, capital gains tax, and the discount to be offered to the market price are just some of the decisions for consideration.
Aaron Dunn will be speaking at the 8th Annual SMSF Adviser Strategy Day in October. Tickets for this not-to-be-missed event are strictly limited, so register today or visit www.smsfstrategyday.com.au for more information
