If new PM Scott Morrison can smoke the peace pipe with the conservative right, the Liberal Government might survive to fight an election on Saturday 18 May 2019, the last possible day that a half Senate election can be held in conjunction with the House of Representatives. And if he can re-invigorate the Government, he might even beat Bill Shorten at the election.
However, after last week’s bloodletting, the probability that Bill Shorten will be Australia’s 31st Prime Minister has increased materially. On paper at least, some of the policies he has announced are hostile to both business and investors. What actions can you take now to prepare for this possibility of an ALP Government? Here is my assessment.
1. Capital gains tax discount
In the medium term, the halving of the capital gains tax discount from 50% to 25% could be the most significant change as this will apply to all investments – shares, property, managed funds, collectables etc.
Presently, an investor who holds an asset for more than 12 months pays tax on half the gain. This means that an individual who is paying tax at the highest marginal tax rate of 47% pays an effective tax rate of 23.5% on a gain.
Under the ALP plan, only 25% of the gain will be exempted, so tax at the marginal rate will apply to 75% of the gain. For an investor paying tax at the highest rate of 47%, the effective tax rate will rise to 35.25%.
The good news is that the ALP says that the change in tax rate won’t be applied retrospectively so that all investments made before the effective date of the change (“sometime after the election”) will be fully grandfathered.
Super funds won’t be impacted, so that the current discount of one-third that applies to investments owned by a super fund (which effectively brings the tax rate down to 10% for an SMSF in accumulation) will be maintained.
No action required.
2. Negative Gearing
The ALP says that it “will limit negative gearing to new housing from a yet-to-be-determined date after the next election. All investments made before this date will not be affected by this change and will be fully grandfathered.”
The policy will also impact margin lending.
While the grandfathering will protect investors with existing properties, the impact on the property market could be material, if there is a “buyers’ strike” around the start date. Some sort of market dislocation is inevitable if the transition is not handled carefully.
Although negative gearing will still be allowed on new housing, listed home builders such as Mirvac (MGR) or Watpac (WTP) could see some business disruption as the change washes through the system.
No action required, but if you are considering investing in an existing rental property and negatively gearing, you may want to act sooner.
3. Dividend imputation
The ALP will stop the re-funding of excess franking (imputation) credits. Persons in receipt of a government benefit such as a pension, or SMSF where one member is on a government benefit, will be exempted.
The policy will apply from 1 July 2019, which means it will only affect future earnings and franked dividends that start flowing in the 19/20 financial year.
Importantly, the change will have no impact on taxpayers paying tax at a marginal tax rate of 30% or higher (above the company tax rate), very limited impact on most institutional investors, and no direct impact on foreign investors.
It will, however, impact low or zero rate taxpayers such as an SMSF in pension mode or a non-working spouse who owns shares, and some SMSFs/super funds in accumulation mode, which have excess credits and presently receive a cash refund. If they don’t receive a cash refund, they aren’t directly impacted.
As a tax change, it will need to be legislated and pass through the Senate. The position of a “populist” Senate cross bench is unknown and could be interesting.
So, should you take any action now?
The major banks and other “high yielders” such as Telstra could be impacted if some of the “SMSF army” decide to reduce their holdings. The data says that they are, on average, overweight these stocks. Against this is the proposition is that the yield on these stocks will still be relatively attractive, notwithstanding the loss of the tax refund.
My sense is that some of the recent underperformance in the financials sector is due to concerns about the prospect of a Shorten government. Given the uncertainty around the legislation and that only part of the investor community is impacted, I am not convinced that we are going to see a further markdown on these stocks.
Listed investment companies paying fully franked dividends could be more severely impacted, particularly if they are trading at a premium. This is because they have retail investor bases (very few, if any, institutional or foreign investors), a finite number of buyers and (if trading at a premium to the LIC’s net tangible asset value), are arguably over-valued.
Examples of LICs in this category include Geoff Wilson’s WAM Capital (WAM), which was trading on 31 July at a premium to NTA of 20.4% (NTA $2.01, ASX price $2.42).
Consider selling LICs trading at a premium.
4. Industry specific policies
Industries that are subject to regulation, or which rely upon the Government for subsidies or spending, are always vulnerable to a change of government and a redirection of priorities or policies. This category includes healthcare, telecommunications, energy, education, financial services and media.
Healthcare is right up there, and one of the earlier announcements from the ALP opposition was a proposal to cap the increase in health insurance premium increases to 2% per annum. There has been some commentary that this policy is under review as it could have unintended consequence on some of the smaller regional health funds. If the policy is implemented, potential losers would include Medibank (MBL) and NIB (NHF). Private hospital operators Ramsay Health Care (RHC) and Healthscope (HSO) could also feel the pressure if the insurers are being squeezed.
Review exposures to the hospital/insurance sector and other sectors that could be negatively impacted.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.