The dividend washing strategy became increasingly prevalent in early 2013 following the release by the Australian Taxation Office (ATO) of a series of private rulings that appeared to give it the all-clear.
Whilst a private ruling is only binding on the specific arrangements that it covers, the steps in a dividend washing trade do not tend to vary from trade to trade and therefore, some might say quite legitimately, the volume of these trades grew exponentially following the release of the private rulings.
That is, until the May 2013 Federal Budget, when the government, off the back of ATO consultation, announced that it would legislate to close the perceived loophole from 1 July 2013. It was at this point that adoption of the strategy came to a halt and industry and Government were satisfied that they had reached a palatable resolution.
What came next was surprising. The ATO issued an October 2013 Media Release which stated that a dividend washing arrangements are caught by the anti avoidance rules – a clear reversal of their previous views expressed in private rulings they had issued – and seeks to target these arrangements retrospectively, calling on all taxpayers who have participated ‘to correct their tax affairs voluntarily otherwise they risk an audit’.
The ATO also stated that it has ‘access to information which will identify those involved in dividend washing’.
Those hardest hit by the media release will be the banks and financial institutions that facilitated growth in the strategy off the back of the rulings through their private wealth teams, as well as asset managers and superannuation funds who have participated directly.
The key issue for many of these participants is that the ‘excess’ franking credits in question have already been claimed by many of their clients and beneficiaries and, whilst the exposure will usually technically rest with these parties, it is inevitable that the private wealth teams and asset managers will be under significant pressure to step in to manage the process and potentially foot any resulting tax bill.
So how should financial market participants respond to the media release? One thing for sure is that the decision to make a voluntary disclosure should not be taken lightly. It carries with it a number of considerations such as corporate reputational risk and promoter penalty risk, to name a few.
Putting voluntary disclosure to one side, it is nevertheless imperative that participants have positioned themselves so they have a well formulated strategy for managing any potential exposure. At a minimum, this means undertaking the appropriate internal due diligence by:
- investigating the presence of dividend washing (e.g. extracting samples of cum-dividend trade data to validate the presence of dividend washing)
- quantifying the potential level of exposure (i.e. the total ‘excess’ franking credits that have been generated)
- ensuring that protective controls are in place to prevent further exposure
- escalating the issue through the appropriate channels to the key decision makers (e.g. investment committee, board of directors, internal audit, etc.) to determine the best course of action in response to the media release.
Finally, the ATO has also announced it intends to issue a Public Ruling on this point, which should provide some welcome relief in the form of an opportunity for consultation.
The party may well be over, and for many participants they have been left questioning why they were sent an invitation in the first place.