An imputation credit is a tax credit you receive when you are paid a dividend.
Companies are permitted to attach imputation credits to their dividends equal to the amount of tax the company has paid.
This prevents you (the receiver of the dividend) from paying tax, as the company has already paid tax on those profits before distributing them to you.
Let's look at an example so it makes sense.
Let's say Fletcher Building makes $100m in profit.
The company tax rate is in New Zealand is 28%, so Fletcher Building will pay $28m tax on that $100m of profit.
After paying tax, they will be left with $78m.
Now let's say Fletcher Building wants to distribute that whole $78m to shareholders via dividend.
We'll assume you're a Fletcher shareholder, and your dividend works out to be $1,000.
When tax season arrives, you will need to declare that $1,000 in your tax return.
Assuming you're in the 33% tax bracket, your tax bill on that dividend will be $330.
But - that doesn't sound fair, right? Fletcher Building already paid tax on that money!
How does it make sense for Fletcher to make $100m in profit, pay 28% tax on it, then when they send it to shareholders, we pay tax on it again at 33%?
That's exactly why we have the imputation credit system.
What will happen is Fletcher will attach imputation credits of 28% to your dividend when you receive it.
This tells the IRD that Fletcher has already paid tax on this money, so you don't have to.
Also, currently they are required to top up those credits to 33%, so Fletcher will also pay 5% of withholding tax on your behalf so you receive a full 33% of tax credits.
In short - when you receive a dividend, you shouldn't have to pay any additional tax on them, unless you're in the 39% tax bracket ($180k income and above).
Simply include the tax credits in your tax return and it will get chopped off your tax bill.
How To Read A Dividend Statement
Let's break this down. We have the following items:
- Dividend declared $414.00 - This is the amount you will receive in your bank account.
- Imputation credit $161.00 - This is your imputation tax credit. Include it in your tax return and it will be deducted off your tax total.
- Resident Withholding Tax $28.75 - This is the additional 5% withholding tax paid on your behalf. Include it in your tax return and it will be deducted off your tax total.
- Gross dividend $575 - This is how much your dividend is worth in total - the amount you received ($414) plus all the tax credits.
How To Include This In Your Tax Return
In your tax return you will need to include any dividends you've received during the year.
When you get to the Income section, there will be a space to include your dividends.
Simply add up all the gross dividends you've received during the year and include them in the Total gross dividends section.
Then add up all the tax credits (that's imputation credits plus withholding tax credits) and include them in the Total dividend credits section.
Assuming the above Spark dividend is the only dividend I receive all year, then my dividend section in my tax return will look like this:
What about overseas tax credits?
Remember that imputation credits only apply to New Zealand dividends.
If you hold shares in Australia companies, you may receive dividends with franking credits applied.
Franking credits work exactly the same as imputation credits, but only for Australian tax residents.
Unfortunately, you cannot claim franking credits in your New Zealand tax return.
The IRD confirms this here:
Under current legislation shareholders in receipt of Australian dividends cannot claim 'franking credits' in their New Zealand tax returns.