Tax-Aware Investing: How to Improve Returns Without Taking More Risk

How we invest can make a big difference come tax time. At the more basic end, this could mean factoring franking credits as part of our share portfolio. Or it could mean decisions on when to sell to manage capital gains.

It can be more complicated too, such as what type of vehicle you invest in for the most efficiency in terms of your tax return, such as using your superannuation compared to external structures.

While tax is not always front-of-mind (except at annual return time), being mindful of tax in your investment decisions can change your outcomes and affect your final investment returns, without adding to the risk levels of your investments. Tax laws are complex and can change, so while I’ll explore some basics in this article, consider speaking to a tax expert to ensure you stay up-to-date and apply the rules correctly to your portfolio.

Back to Basics – How Franking can Boost Returns

The idea of franking credits is a particularly popular strategy with retirees and zero-tax investors, but it’s not one that any Australian investor should forget about.

When an Australian company pays tax before paying dividends to investors, it can attach a franking credit to those dividends to the value of the tax already paid. You can use these credits in your tax return to claim a discount on your return (based on the difference between the company tax paid and your marginal tax rate).

Zero-tax investors are able to use those credits to claim a refund on tax.

It can be an income boost where the level of risk you’ve taken on hasn’t necessarily changed. The amount of franking credits available can vary, and not all Australian companies offer it. You cannot claim franking credits on investments in foreign companies.

Company A is listed in Australia and pays fully franked dividends. If it is fully franked, that means the company has paid the full company tax rate of 30% - sometimes companies will pay partial franking, often the case when they have international revenue streams so are paying foreign taxes on those portions of their revenue. The investor in this example has a marginal tax rate of 19%.

When you invest in an Australian company, your annual statement will outline whether there is a franking credit attached or not.

Some investors will deliberately invest for franking credits as part of their investment strategy. You can find out whether a company offers these by looking at their investment pages on their websites, or alternatively, some websites, like Market Index, have lists which show you standard dividends paid and applicable franking.

There are also managed funds which invest specifically with franking in mind. Some examples of this are the Plato Australian Shares Income Fund and the Betashares Australian Dividend Harvester Fund (managed fund) (ASX: HVST) which both target franked income (with their key clients typically retirees or zero-tax investors who can best utilise this).

Even funds that don’t specifically target franking in their strategy will offer franking credits if applicable and you can find this in your annual return statement. Don’t forget to apply this in your tax return, you can find instructions at the ATO website.

Capital Gains Tax Varies Depending on How Long You Hold Your Investments

Another basic tax rule that investors should keep in mind is capital gains tax.

If you hold an asset for 12 months or longer, you can claim a 50% discount on tax on the proceeds of selling the asset. If held for less, then your marginal tax rate would apply to the full capital gain you make on the sale.

Bear in mind that changes to the capital gains tax were announced in the recent Federal Budget. Pending the final legislation, the changes will apply to gains coming after 1 July 2027. Under the proposed changes, rather than a 50% capital gains tax discount, there will be a new minimum tax of 30% on capital gains and a discount will be based on inflation.

It’s something to consider in how you manage your investments. For example, if you’ve held an asset for 11 months and want to sell it, waiting a few more months can change your tax outcomes. That said, this might also come at a gains cost if there’s a particular market opportunity you are seeking to take advantage of.

If capital gains could be a challenge for you at tax time, using managed strategies with low turnover can reduce the capital gains you receive and then need to account for.

It’s also something to factor into the managed funds you invest in.

Any capital gains you receive when you’ve held units in a managed fund for under 12 months are taxed at your marginal tax rate and considered a short-term gain. If you hold your units for over 12 months, then you’ll be able to claim the Capital Gains Tax discount on the returns you make from your unit holdings.

If you are planning to sell holdings or units where you are likely to make a capital gain, it can also be valuable to consider timing for the sale.

For example, investors who know that a gain will push them into a higher marginal tax bracket and that the brackets will change in a way that benefits them in the next financial year, may choose instead to delay their gains for the next financial year. Or vice versa, if they know the tax rate is increasing in the next financial year, they may choose to crystallise their gain in the current tax year under existing tax rates. There is complexity to this approach and it can be worth speaking to a tax specialist to assist in the decision.

Some assets, like investment bonds, are not subject to capital gains as they are taxed internally and withdrawals are tax-free when held over 10 years.

Capital Losses to Offset Gains and Change Tax

Selling at a loss may sound counterintuitive, but sometimes you may find yourself in this situation. If you’ve made a capital loss, you can use that in your tax return to reduce your taxable income and in turn, the amount of tax that might apply to you.

This could apply to crystallised losses from a managed fund investment, or from direct asset holdings. You may have chosen to sell the assets or managed fund units because they no longer fit your strategy, no longer meet the investment thesis you selected them for or perhaps because you need to free up cash.

Be careful of ‘wash sales’ which is where people sell for the sole purpose of creating a tax loss to reduce tax and then repurchase the asset a short time later. This is not allowed under Australian tax laws.

Certain Assets are Treated Differently Under Tax Laws

You may not realise that the returns or income you receive from your investments can be treated differently depending on the type of assets they’ve come from.

For example, shares and equity-based managed funds and ETFs can be more tax-efficient because they might come with franking credits.

Investment bonds can be tax-efficient too as earnings are taxed internally at 30%, compared with an investor’s marginal rate and personal capital gains tax does not apply. Withdrawals from investment bonds are tax free if held for more than 10 years.

By contrast, interest received from fixed income investments is treated as assessable income and taxed at an investor’s marginal tax rate.

Those using direct property as investments can find it varies in terms of tax treatment. Rental yield is considered assessable income, however investors may be able to use negative gearing to offset income, along with capital gains discounts if selling a property held over 12 months. You generally can’t claim deductions on an investment property that isn’t rented or available for rent. Those using managed funds that invest in property will find distributions are treated as assessable income and taxed at the investor’s marginal tax rate, though managed fees may be deductible in certain circumstances.

The Investment Structure Matters for Tax

Investing with a tax lens means also being mindful of the tax treatment of different structures.

Your marginal tax rate will typically apply to any income or gains from investments held outside of your superannuation (alongside the ability to apply franking credits and capital gains tax discounts).

Superannuation is considered a tax-effective vehicle for a range of reasons:

• Concessional (before tax) contributions are taxed at 15%. This includes superannuation guarantee payments made by your employer. You can contribute up to $32,500 in concessional contributions in the 2025/2026 financial year. Please note an additional 15% tax applies to high income earners.

• Earnings within your superannuation are taxed at 15%, compared to your marginal tax rate.

• Low income earners may be able to access the Low Income Super Tax Offset for a refund of the 15% tax on their concessional contributions up to the value of $500.

• You may be able to claim a tax offset of up to $540 a year if you make a contribution on behalf of a spouse who earns below $40,000.

• If you are aged over 60 and retired, any withdrawals from your superannuation are generally tax free.

Bear in mind that your access to superannuation is restricted, except under special circumstances if you are aged below 60 years and it doesn’t offer you the ability to take advantage of items like franking credits. If you need access to your funds earlier, using structures outside of superannuation may be more suitable and offer you more flexibility in terms of managing your portfolio.

Some financial advisers will target using certain assets in certain structures to better optimise tax outcomes for their clients, or allocate certain assets to members of a trust based on their tax brackets. You can see examples of what this might look like at wealth management organisations.

The complexity of these strategies can range and it requires diligent and active management to ensure it meets tax laws and still fits with the needs and objectives of the investment strategy.

Factoring Tax as Part of Your Strategy

The only certainties in life are death and taxes. Being mindful of tax implications in your approach to investing can change your investment outcomes and the returns you end up with. It can also give you better structure as to when and how you make decisions on what to invest in.

Tax is not simple though, and taking the time to understand what applies to you is critical to ensuring you don’t run foul of the law. Some investors will find seeking expert tax advice can be invaluable. Tax laws also change over time too so ensure you are up-to-date with the latest laws, requirements and how to apply these by regular review and visiting the Australian Taxation Office website.

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Disclaimer: This article is prepared by Sara Allen. It is for educational purposes only. While all reasonable care has been taken by the author in the preparation of this information, the author and InvestmentMarkets (Aust) Pty. Ltd. as publisher take no responsibility for any actions taken based on information contained herein or for any errors or omissions within it. Interested parties should seek independent professional advice prior to acting on any information presented. Please note past performance is not a reliable indicator of future performance.