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Worked Margin Loan Example + Tax Implications

Discussion in 'Stock Market Nuts and Bolts' started by Fluffmeister21, Jun 15, 2014.

  1. Fluffmeister21

    Fluffmeister21

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    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???
     
  2. Hodgie

    Hodgie

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    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.
     
  3. Fluffmeister21

    Fluffmeister21

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    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.
     
  4. Fluffmeister21

    Fluffmeister21

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    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
     
  5. VSntchr

    VSntchr

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    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..
     
  6. craft

    craft

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    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.

    [table="width: 500, class: grid"]

    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
    [/table]

    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.
     
  7. Fluffmeister21

    Fluffmeister21

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    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?
     
  8. Fluffmeister21

    Fluffmeister21

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    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?
     
  9. Fluffmeister21

    Fluffmeister21

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