Tuesday, 11 September 2007

“Tax free” dividends?

If you hold shares in the stock market, or your father or mother or grandfather or grandmother hold shares in the stock market, the newly proposed single-tier tax system which results in tax exempt dividends in the hands of shareholders sure sounds like a good deal right?

I am sorry to burst your bubble but you might need to think again. In fact, I think it is detrimental for most of us. And before some of my friends in the industry think that I copy the analysis from anyone, it hit me 2 hours after the budget was announced. I have also made
a comment here on Saturday morning.

Why the exempt dividend arising from the single-tier tax system may not be a good move… hopefully I can explain it without using too many technical terms…

Currently, the full imputation tax system is in force where tax paid on profits at the company level will be distributed to the shareholders as dividends with a credit attached to it. This is why you will see the following breakdownin the dividend warrants based on the prevailing tax rate of 27%:

Gross dividend ------------------>100
Tax deducted at source ------->(27)
Net dividend ----------------------->73

As you may know by now, the actual cash received by you is only 73 because it is a taxable dividend. But you don’t need to pay additional tax because taxes have already been paid at the company level, thus “deducted at source”… deducted from the gross dividend. Hope I am making sense here.

So you will then report this dividend as your income in your annual headache a.k.a. tax return during tax filing season. Then you will need to pay tax based on your chargeable income as per the table shown below. Please note that having a chargeable income of RM12,000 does not mean your monthly salary is RM1,000. A lot of relieves are deducted from your annual salary before arriving in chargeable income, e.g. the newly proposed RM300 deduction for purchase of sports equipment.
As you can see, your will only be taxed at 27% for your chargeable income exceeding RM100,000, all the way till RM250,000 where anything beyond that will be taxed at 28%.

So, assuming that you are a slightly above average income earner of about RM7,500 a month (how many here?), you will then have an annual salary of RM90,000. After deducting all the insurance payments, EPF, medical expenses, fees, children allowances, sports equipment, books, etc… you then arrive at your chargeable income of say… RM68,000 (just an estimate). Based on the table, your highest tax rate is only 19%.

What exactly happens here? This simply means that the dividends which you received are to be taxed at 19%. But since tax has already been paid at 27% (as above), you will actually get a refund of 8% and this refund is being incorporated into your tax via the Section 110 set-off. Okay… it’s getting a bit technical here but let’s just say you will have a tax benefit. The lower your chargeable income, the higher the tax benefit.

Now, if you are a person who earns only RM2,500 a month; you will not be in a tax-payable position. If you; or your parents or grandparents are pensioners, you will then be totally exempted from paying tax. This simply means that when such persons receive dividend income, the “tax deducted at source” will be FULLY refunded. With reference to the calculation above, the company will pay you 73 and 27 will be refunded by the government.

Now… what happens now when the dividends under the single-tier tax system are exempt from tax? Referring to the calculation above again… you will receive a net dividend of 73 and it’s exempted from tax. And because it is tax free dividend, you don’t need to report it in your tax form and because you don’t need to report it, you will not get the refund in respect of taxes paid on the profits at company level.

It basically means that the government will tax companies at the prevailing corporate tax rate (27% for 2007) and if you happen to be a shareholder of that company, and so happened your tax bracket is lower than 27%... too bad, you’re screwed. If you’re a pensioner and hold a lot of shares, you’re wonderfully screwed.

Now, how many here are going to say hallelujah to tax free dividends?

Disclaimer: This is purely a personal opinion and does not constitute tax advice. Please consult your own tax advisor for a clearer picture.

51 comments:

penang-kia said...

very informative zewt..kudos to you.
the business now is screwing slow,sooner or later everybody will get screwed."(chow tuck fai ho sai kai"

the reviewer said...

Tax and death go hand in hand. Hahahaha! So, "we got screwed to death".

cirnelle said...

I can't believe you're talking about 110 set off in your blog.

Anonymous said...

well, well...

the thing is, the govt is already imposing a flat brokerage fee of RM40 per transaction.

plus the single tier system, it is sounding more like the govt is attempting to discourage small time players from entering the stock market. there is just too much costs involved!

Sunflower said...

I am COMPLETELY lost. Gaaah.

On the bright side... I don't own any shares and am not in a tax-payable position.

Wait a minute, is that a good thing?!

Sunshine said...

woah... i didnt realise it until you pointed it out :S

rinnah said...

I don't own any shares, but I can see where you're coming from. All the more I have no reason to invest in the stock market loh... Say... can you be my tax advisor? *grin*

Hor ny Ang Moh said...

How cum even a simpleton like me is not surprise by this post arr???
Hemmmmm.....maybe I have already lost all my faith in our 'father'.I have being 'screw*ed' from day one.So do I want my son to be 'screw*ed' as well??
Well simpleton me can only play with starfish after playing I will throw back to sea.
Have a nice day!

jolcy said...

wow Zewt.. what do you do actually?? accountant??a tax advisor?? you seem pretty good at this.. :)

Anyway, have been super busy lately.. and just manage to have some time to visit your blog and BOOM!! there are so many updates already.. I think I really need to find one day to read all of it.. :)

Anyway, you have a good day.. I'll be back.. :)

Angie Tan said...

sigh... suck more blood.

i'll have to consult my friend who's a tax consultant. mmmm... she will also suck my blood first. (-_-)

sharlydia said...

Truly informative, but i lost u there a bit....

Anyhow, thx for elaborating the impact on us...I opted for employee stock purchase in the MNC i work for, so it hits me i guess...

tulipspeaks said...

an insight into the taxes! :) informative. thanks!


ammu.

Elizebeth D.L. said...

Hey zewt, thanks for this explanation. You make things clearer now.

yes, screwed is that we all.

j or ji said...

benci matematik.

Persamaan serentak mencari nilai X?

Thank u!

conan_cat said...

i took a really long read then only can understand the whole thing properly...

and in the end, only conclusion: my mom and dad are screwed!!

my mom and dad relies on the stock market for income because they are retired people... and macam tu ah, means will get 27% deducted regardless of how much they earn lor~ before that they still can get some refund right? haih...

alan zed said...

at the end of the day, government still win. :/

Helen said...

So technical one? :-P

I'm glad you're taking time to dissect this for folks out there.. pity I dun understand. lol

Elween said...
This comment has been removed by the author.
economist said...

i didnt know about this offset process but then again i didnt get any dividends over the last few years........

so AS USUAL the RICH GET RICHER?

Pookyma said...

thx for the review...learned alot from it...

"Joe" who is constantly craving said...

too much tax planning brainstorming after the budget la u..gila gila d isit??..

lesson learnt: don invest long term..make ur money and sell..

democratic junkie said...

Zewt,

you have officially been pimped by DAP's Tony Pua. Check out his site. Looks like he reads AZAIG.

dan said...

but, i thought the companies end up paying more to the shareholders. say a certain percentage of the profit goes into paying dividends, and that amount won't be taxed by the gov ryte? so shareholders get more too? no more tax at source, then it's simply 73+
27=100, am i wrong (sorry if i'm)?

Huei said...

*blur*

doesnt affect me..i dun gamble in shares..too stupid to! lol

haih..msia bulleh

zewt said...

penang-kia - hahaha... ho sai kai indeed. well, just wanna share some thoughts.

the reviewer - screwed till death... hahha... not that bad la.

cirnelle - me either... no more tax.

anon @ 7.52am - yup... that's a fair analysis. let's see what the big 4 have to say tomm.

sunflower - hahaha... means no dividend income for u. bad too :P

sunshine - hahaha... good or not?

zewt said...

rinnah - can...

hor ny - dont play too long... throw them back ya...

jolcy - me? hehe... i tot many already know what i do. what do u think i work as? :)

angie tan - consult me lor... me la tax consultant... kakakakaka...

sharlydia - yeah, you probably will when u receive dividend. but i think the impact is minimal. i just pity those pensioners.

tulipspeaks - you're welcome.

zewt said...

Elizebeth DL - you're welcome. not very screwed la. a bit only.

j or ji - x tu... eh, susah nak cari.

conan-cat - parents pensioners... oh, they will be the one who will feel it most. it's ok. time to divert investments.

alan zed - they always... can i be on their side?

Helen - aiyooo... read again la.

Elween - hahaha... it's good to know a bit. show off to your fren mah.

zewt said...

economist - not really la... in all fairness... it's for better efficiency.

pookyma - good to know :)

constant craver joe - hahaha... if u can make then u sell la.. if you dont make... how to sell?

democratic junkie - yeah, i know... may not be a good thing. guess he does read AZAIG.

dan - when i said 100, 27 and 73 ... i am talking about percentage. you wont be able to get 100% of profits becos u need to pay tax... so you will ony get 73 (in terms of percentage). of cos, in absolute number... it could be 100, 120, 140, 150... 200... anything.

huei - gamble la... make some money... :P

may said...

errr... what? it takes more than 10 men to screw a lightbulb (and there's no such thing as "tax-free" dividends)?

cbenc12 said...

I am lost after the 1st paragraph.. so much for my financial knowledge.. >.<

Jonny said...

Wah, ppl like me sure will get screwed kau kau. Really wouldn't know that all kinda stuffs if you didn't mention it... hmmm...

Ben Gan said...

One-tier Corporate Tax System Vs Dividend Imputation System
Zewt, I am skeptical of what you have written. You are assuming that the dividend rate for one year will not be the same for next year. You can’t compare when you are assuming different rates.
Now let’s say the dividend rates remain the same at 10% for a RM1 par value counter. This means that in 2007, for every 1000 shares you own, you get RM73 with an IOU for RM27 which is taxable. In 2008, you get RM100 cash which is not taxable. Which is better? You be the judge.
Actually, whether you get more or less depends on how much adjustments the management will make. It all boils down to how much the company makes.

zewt said...

may - 10 men to screw a lightbuld... hmmm...very metaphorical.

cben12 - hey there! well... it's good to know a lil. but no more tax after this... i hope.

jonny - hahahaha... have to admit... not easy to understand la...

Ben Gan - You got me wrong... when i gave the 100 / 27 / 73 example... i am talking about percentage of profits.

to put it simply...100% of profits will be divided as 27% tax (paid to govt) and 73% goes to retain earning, from which dividends are paid.

so i may be talking about 73... but the actual amount could be 100, 1000, 1500, 20000, 500000.... what i am trying to say that the net dividend represents 73% of of the gross dividend... and with the new rule... the 27% tax portion is no longer refundable... because the 73% is declared as tax exempt.

i went to tax conference today and my analysis has been confirmed by consulting firms.

Kelvin said...

haha...i know where you are coming from...well best way is not the malaysian way...for christ sake...why on BURSA when you got only GE and all the other +++...its good to start looking outside malaysia guys...plenty more growth opportunities...$$$$

Anonymous said...

i realised i am thoroughly screwed when i saw the single tier tax system and i am still seething since budget day. this budget is designed for the rich to get richer. no thought at all for retirees. already our savings are gradually being depleted through inflation. now they even want to screwed my coffin money.

zewt said...

kelvin - yo! welcome! some of the big time investors are already making their way to be listed in singapore instead. they beat us by their sheer efficiency. thanks for dropping by.

anon @ 2.50am - well, let's hope that the govt will at least postpone the implementation of GST till a much much later date. i think that will be the ultimate killer blow.

yok hoong said...

a budget for everyone? nothing seems to benefit me in this budget. now, they even want to screw me on this dividend stuff in the name of simplicity.
thanks a lot Badawi.

zewt said...

yok hoong - yo! well... govt is smart after all. it's only us who thinks they arent.

F.O.N @ frostee said...

When I first heard it, it sounds sweet. but after that when you look into it... like you explained...we are screwed!

METAL said...

Hello Zewt. New reader here.

I need a clarification. Last year (2006) I was not under the taxable bracket but my dividends from stocks were taxed 28%.

I thought I was entitled to a refund and filled out my tax form but according to the official at LHDN, they do not refund on taxed dividends even if you do not fall under taxable bracket.

He explained that you can only deduct the taxed dividend amount from the final tax bill. If it becomes negative, you are still not entitled to a refund on taxed dividends.

This was confirmed by another officer at LHDN.

Is this true? Or was I lied to?

As well, how do I fill out my tax form so I can get a refund in future such cases?

zewt said...

fon @ frostee - hi there and welcome. yeah... something like this happened a few years ago. the prof bodies manage to highlight it.

METAL - hi and welcome. Yes, you are eligile to claim that refund. who is the person who said you cant??? that is ridiculous!!!

you must can fill in the 'tax deducted' in E11 of the Form BE and that should arrive at your refund at E16.

Ask that officer to go read S110 of the Income Tax Act 1967! One thing though, you will need to have the original dividend voucher. this is utmost IMPORTANT.

please note that i am not licensed to provide tax advice. so i suggest you get a proper consultant if the refund is substantial.

missy_K said...

Thanks for sharing. I had the same thought too but didn't have anyone to re-confirm my interpretation. You just did.

Jeezz... There goes my retirement dividend income plan in 30 years' time. :(

zewt said...

Missy_k - hey... not all is lost, you just have to invest properly. besides, 30 years is a long time. no one knows what will happen then :)

Peter Lim said...

The statement ," Referring to the calculation above again… you will receive a net dividend of 73 and it’s exempted from tax" is incorrect.

It should be a net dividend of 100 (because your dividends are not deducted from tax (as in current system).

This page explains it very clearly and simply : http://blog.thestar.com.my/permalink.asp?id=11407 .

Pasted here (from the above website) :
If you invest in a public company (buy shares in share market), you are entiltled to the dividends the company pays out. This dividends usually come from the “after tax profit” (single-tier) that the company had made. Before the dividends reach the shareholder, the government will bite another chunk out of it (double-tier). Then the shareholder will wait until the time to fill in the tax form to reclaim some of the chunk (the so-called dividend tax refund).

For example, BJToto is paying 10sen per share as a dividend. If you own 10,000 shares, you will get RM1000 minus 26% tax (RM260) , which will come to RM740. Then, depend on you personal tax bracket (usually lower than 26%), you can claim the refund which of course cannot be more than the RM260. At the end of the day, you will receive a maximum of RM1000 but not less than RM740.

Whereas, for the above scenario, in the single-tier tax system you will receive RM1000 from BJToto, full stop. No need to wait until time to fill in the tax form, not to mention that it will take forever for the refund cheque to arrive.

In other parts of the world, investors have been pestering their governments to change to a single-tier tax system for obvious reasons, but somehow here in Malaysia, people prefer the double-tier system. Is it because they love to fill in forms? Or is it because of the thrill of receiving 2 cheques -- even if their value will be less than 1 cheque?

zewt said...

Peter Lim - Just like how I commented in that entry, it is so damn wrong. Using the same example, when BJToto pays dividend of 10cents per share to a shareholder holding 10,000 shares amounting to RM1,000... RM740 is deducted from retained earnings and RM260 is deducted from tax credit S108 account. when the shareholder's tax bracket is below 26%, he/she can claim the tax credit from the govt.

Now, assuming BJToto is in it's first year of operation and made RM1,000 profit and pays RM260 tax. RM760 will be credited into retained earnings and RM260 into tax credit account.

Under the old system... BJToto can then declare 10cents per share dividend and then deduct RM760 from retained earnings and RM260 from tax credit account. Hence, gross of RM1,000 but since tax is deducted, shareholder will only receive RM740 and he/she can claim back the remainder RM260 from the govt depending on his/her tax bracket.

Under the new single-tier system... BJToto CANNOT pay dividend of 10cents per share. It is a regulation under Companies Act, not sure if it's Section 368 or 386 that dividend must be paid our of retained earnings or any other distributable profits. So... BJToto can only pay dividend of 7.4 cents per share, resulting in shareholder getting RM740 per share. Period.

Dear Mr Peter Lim, you will need to understand the dividend paying mechanism before concluding otherwise. Yes, a company can pay 10 cents and the shareholders can be happy becos everything is exempted. But the question is can the company still pay 10cents per share? Does the company have enough retained earnings? If you still think otherwise, do check with your qualified tax consultant friend.

The entire tax industry is aware of this. Am afraid to say not all accountant can see this, only tax consultants.

Ronli said...

Good for people to know.

zewt said...

ronli - hi, welcome to AZAIG. i am glad you agree.

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Thanks for the tips. I have been paying more attention to the idea of dividend stocks recently and it’s nice to hear some ones perspective on which ones are good.

zewt said...

dividend yield - you're welcome. the catch on tax free single tier dividend is currently a well known knowledge both in malaysia and singapore. and this seems to be the direction of tax authorities around the world so... can't run away from it.