ASX Index tracking fund that reinvests instead of paying dividends

[go_green]

Hi All,
New here.
I have some investments in Vanguard ASX 300 fund (VAS.ASX) which regularly pays out dividends, which I have set to automatically reinvest.
But because it pays dividends I have to pay tax on it.

I am in a fairly high tax bracket and looking for a fund that does not pay out dividends but internally reinvests the funds.
I am hoping that way I do not have to pay tax on the dividends and the dividends get reinvested.

Is there any such thing out there?

Thanks.

 

[Sharkman]

i am not a tax accountant so i could be wrong, but i don't think such a thing is possible.

my understanding is that managed funds must distribute all income earned from underlying holdings to the unit holders - that's why the managed fund itself doesn't pay any tax (well, it does pay corporate tax on the management fees it charges, but that's something separate) on the income it makes from its underlying holdings, because it's distributed that income to the unit holders, who then pay the tax on that at their own rates.

if its underlying holdings include dividend paying assets and it retained those dividends for "internally reinvesting" instead of distributing them, i suspect it would then have to pay the ATO the non-TFN withholding rate (48.5% i think? can't remember, it's been a few years since i moved overseas), which would lower their NAV and hence unit price accordingly. the unit holders would then have to declare that as withheld tax in order to claim some of it back if their own tax rate was lower. which sounds much messier than just distributing the income in the first place.

maybe LICs are able to do something like what you've mentioned, as they operate under a different structure to managed funds, but i don't invest in LICs so can't really comment on that. i'm not sure that would help you all that much either though, because whilst LICs don't have to distribute all their income like managed funds, i think they'd still end up having to pay corporate tax on the income that they didn't distribute, so you still get taxed, just indirectly instead of directly.

this is part of the reason why i mainly invest in international rather than Australian ETFs these days. the underlying stocks tend to pay far lower dividends than Aust (esp. S&P 500) as there's less incentive for them to do so under their tax environment, so they retain more of their earnings and use it to grow their businesses, instead of paying it out like we tend to do in Aust. everyone's different though, so this might not be the right approach for you, but it's something to think about nonetheless.

 

[go_green]

Thanks for the response.
I believe you are right. Lets see if someone here has a different opinion.

This is such an important topic.
Because unless you need the cash, dividends are a waste and really impact your long term returns.

I also have US S&P 500 ETF. Which I believe have a 15% withholding tax. So, I am paying that but its much lower then my marginal tax rate.

 

[qldfrog]

Thanks for the response.
I believe you are right. Lets see if someone here has a different opinion.

This is such an important topic.
Because unless you need the cash, dividends are a waste and really impact your long term returns.

I also have US S&P 500 ETF. Which I believe have a 15% withholding tax. So, I am paying that but its much lower then my marginal tax rate.

I might be wrong but i believe you might have to pay extra tax on your US ETF.with the tax agreement, the 15% will be deducted from your tax rate giving credit or bill based on your australian tax rate.which probably means a bill at tax time here
would be happy to be proven wrong

 

[monkton]

As @Sharkman said there are 2 LIC's that I know of, code afi & whf, that do dssp or dividend substitution share plan as well as drp or dividend reinvestment.
With dssp the dividends are reinvested & no tax is payable until you sell these shares.

 

[go_green]

I might be wrong but i believe you might have to pay extra tax on your US ETF.with the tax agreement, the 15% will be deducted from your tax rate giving credit or bill based on your australian tax rate.which probably means a bill at tax time here
would be happy to be proven wrong

You are correct. That is how it works. You get a 15% tax credit on the tax already paid in the US.

 

[Craton]

G'day and welcome go_green.

You've spoken to a financial advisor no doubt.

Am assuming you are receiving tax concessions through dividend imputation or franking credits?

LIC's usually pay a 100% franked divvy taxed at the company rate of 30%. As a high earner that 30% tax credit probably isn't enough but better than nothing.

I suspect that there isn't a model that can reinvest income without accounting for it, well, not here in Oz anyways. Just like accounting for divvy income, all income needs to be accounted for. Best we can do in minimize the tax we pay.

 

[Sharkman]

i didn't mention DSSP as technically that's not retaining the dividends to internally reinvest them and avoid the unit holders incurring tax on them. it still distributes the dividends, it just does it in the form of special units which morph the tax from income tax into capital gains tax so as to defer it, rather than avoid it.

DSSP may or may not be the answer, it's highly dependent on your individual situation. it comes with a couple of potentially huge downsides - you give up the franking credits, and you also lose flexibility. the "special" units you are issued in lieu of the dividend come with a zero cost base, limiting your ability to reallocate capital in the future eg. what if the investment style of the LIC changes in the future such that it is no longer in line with your own objectives and you want to switch to something else, you'll have a ton of CGT to pay.

and it's not like you can do a partial sell and pick the parcel with the higher cost base to sell either - the zero cost base of the special units is spread across your entire holding ie. once issued, it lowers the cost base of all your units. depending on how you track your investments, this increased CGT liability could come as a nasty surprise if you didn't account for it in your records.

if you're reasonably certain that you're going to stick with the LIC issuing the DSSP and hold them for years, even decades, until such time as you're no longer on a high tax bracket, then sure, i can see how DSSP could work well. but if there's any chance you might need to sell units in the short/medium term for whatever reason, it's probably better to just take the tax hit and use the franking credits to help mitigate it to retain the flexibility to reallocate the capital if the need arises.