Worked Margin Loan Example + Tax Implications

[Fluffmeister21]

Hi All

I'm just in the process of setting up a Margin Loan and just wanted to clarify the maths on it a bit, especially in regards to the tax conductibility of the interest on the loan. I've based the below on the 37c for each $1 tax bracket.....Mostly looking at the ability to service a loan with the dividends of a High Yield ETF. Not factoring in any capital gains.. (for those curious I'm using VHY for the maths)

https://static.vgcontent.info/crp/intl/auw/docs/etfs/profiles/VHY_profile.pdf?20140610|110100

They quote a 'grossed up' yield of 7.74% (from what i interpret of the clause it means that it extrapolates out the various franking levels of the companies it reflects to give a pre tax value of the income???)

50/50 Split with the Margin Loan.
Initial Equity Investment 10,000.00
Amount Borrowed 10,000.00
Initial Stock Price 66.80
Shares Purchased 299
Ending Stock Price 66.80
Cash Dividends 1 year $5.04 per share.
Total Dividends through year $1505
Margin Loan rate 8%
Interest on Margin Loan $800
So Net Income =1505-800=705

My question surrounds the tax deductions available on the interest of the loan which in effect from what I understand would reduce my tax bill .37*800...

Net income becomes (.67*705)+(37*800)=768.35

Have I messed up my maths here???

 

[Hodgie]

Hi All

I'm just in the process of setting up a Margin Loan and just wanted to clarify the maths on it a bit, especially in regards to the tax conductibility of the interest on the loan. I've based the below on the 37c for each $1 tax bracket.....Mostly looking at the ability to service a loan with the dividends of a High Yield ETF. Not factoring in any capital gains.. (for those curious I'm using VHY for the maths)

https://static.vgcontent.info/crp/intl/auw/docs/etfs/profiles/VHY_profile.pdf?20140610|110100

They quote a 'grossed up' yield of 7.74% (from what i interpret of the clause it means that it extrapolates out the various franking levels of the companies it reflects to give a pre tax value of the income???)

50/50 Split with the Margin Loan.
Initial Equity Investment 10,000.00
Amount Borrowed 10,000.00
Initial Stock Price 66.80
Shares Purchased 299
Ending Stock Price 66.80
Cash Dividends 1 year $5.04 per share.
Total Dividends through year $1505
Margin Loan rate 8%
Interest on Margin Loan $800
So Net Income =1505-800=705

My question surrounds the tax deductions available on the interest of the loan which in effect from what I understand would reduce my tax bill .37*800...

Net income becomes (.67*705)+(37*800)=768.35

Have I messed up my maths here???

You would also get the franking credits back as a tax off set. The dividends plus franking credits (grossed up dividends) are added on to increase you're taxable income while the interest charges are taken off you're taxable income as deductions. Then after tax has been calculated you add the franking credits back in to off set any tax payable.

 

[Fluffmeister21]

You would also get the franking credits back as a tax off set. The dividends plus franking credits (grossed up dividends) are added on to increase you're taxable income while the interest charges are taken off you're taxable income as deductions. Then after tax has been calculated you add the franking credits back in to off set any tax payable.

Yea I was working with a grosssed up figure to account for the franking credits... I believe...to treat it as Pre Tax Money for ease of calcuations.

I'm a bit confused by that in fact... they quote a yield at 5.58 but a grossed up yield of 7.54 which I assume is because not everything is fully franked else it would be 7.9 ish.

 

[Fluffmeister21]

I think i was asleep when i first posted this...as i deducted the interest twice...

50/50 Split with the Margin Loan.
Initial Equity Investment 10,000.00
Amount Borrowed 10,000.00
Initial Stock Price 66.80
Shares Purchased 299
Ending Stock Price 66.80
Cash Dividends 1 year $5.04 per share.
Total Dividends through year $1505
Margin Loan rate 8%
Interest on Margin Loan $800
So Net Income =1505-800=705


Net income becomes (.67*705)=514

 

[VSntchr]

Income = $1,500
Deductions = $800

Taxable Income = $1,500 - $800
= $700

Tax Payable = $700 x 37%
= $259

Net Income = $1,500 - $259
= $1,241


I think there is a question relating to whether all of the interest expense can be claimed as a deduction; i.e. have the loan proceeds been used to create enough taxable income to completely offset the interest expense. Perhaps someone can clarify this..

 

[craft]

I'm a bit confused by that in fact... they quote a yield at 5.58 but a grossed up yield of 7.54 which I assume is because not everything is fully franked else it would be 7.9 ish.

The 5.58% is a forecast yield and the 7.54% is the grossed up figure based on average franking levels over the previous 12 months.

Equity	$10,000	$10,000
Debt	$10,000
Capital	$20,000	$10,000
Net Dividend @ 5.58%	$1,116	$558
Imputation @ 7.54%	$392	$196
Interest	-$800
Taxable Income	$708	$754
Tax on Taxable Income @39%	-$276	-$294
Imputation Credit	$392	$196
Net Tax	$116	-$98
Net Cash	$432	$460

It will cost you $28 in net cash to hold the extra $10,000 of exposure through the margin loan after taking into account the tax effect. Make a capital gain, you win; Capital loss you loose, the margin loan whilst basically break even on cash flow, ups your exposure to capital growth/loss.

 

[Fluffmeister21]

The 5.58% is a forecast yield and the 7.54% is the grossed up figure based on average franking levels over the previous 12 months.

Equity	$10,000	$10,000
Debt	$10,000
Capital	$20,000	$10,000
Net Dividend @ 5.58%	$1,116	$558
Imputation @ 7.54%	$392	$196
Interest	-$800
Taxable Income	$708	$754
Tax on Taxable Income @39%	-$276	-$294
Imputation Credit	$392	$196
Net Tax	$116	-$98
Net Cash	$432	$460

It will cost you $28 in net cash to hold the extra $10,000 of exposure through the margin loan after taking into account the tax effect. Make a capital gain, you win; Capital loss you loose, the margin loan whilst basically break even on cash flow, ups your exposure to capital growth/loss.

Just to clarify, one doesn't actually calculate the taxable income based on the net dividend + imputation, this is purely to calculate the net after tax impact as opposed to what one would declare to the ATO?

 

[Fluffmeister21]

The 5.58% is a forecast yield and the 7.54% is the grossed up figure based on average franking levels over the previous 12 months.

Equity	$10,000	$10,000
Debt	$10,000
Capital	$20,000	$10,000
Net Dividend @ 5.58%	$1,116	$558
Imputation @ 7.54%	$392	$196
Interest	-$800
Taxable Income	$708	$754
Tax on Taxable Income @39%	-$276	-$294
Imputation Credit	$392	$196
Net Tax	$116	-$98
Net Cash	$432	$460

It will cost you $28 in net cash to hold the extra $10,000 of exposure through the margin loan after taking into account the tax effect. Make a capital gain, you win; Capital loss you loose, the margin loan whilst basically break even on cash flow, ups your exposure to capital growth/loss.

Just to clarify as far as the ATO is concerned though when you declare income they want the 558 number, the maths above is just to reflect the full after tax implication?

 

[Fluffmeister21]

Just to clarify, one doesn't actually calculate the taxable income based on the net dividend + imputation, this is purely to calculate the net after tax impact as opposed to what one would declare to the ATO?

Nevermind... sorted

https://www.ato.gov.au/Individuals/...page=7#The_dividend_or_distribution_statement