Broadly, a company’s share capital account is tainted where there is a transfer of an amount to the account that is not an ‘excluded amount’. Excluded amounts include amounts that can be identified as share capital, certain amounts that are transferred under debt or equity swaps, certain amounts that are transferred from an option premium reserve and certain amounts that are transferred in connection with the demutualisation of non-insurance and insurance companies.
Where a company’s share capital account is tainted a franking debit arises in its franking account at the end of the franking period in which the transfer occurs. Subsequently, any distribution from the account is taxed as an unfranked dividend in the hands of the shareholder and the account is generally not taken to be a share capital account for the purposes of the tax legislation.
Once a share capital account is tainted it remains so until the company chooses to untaint the account. If a company chooses to untaint its share capital account, the company may have a further franking debit to its franking account and a liability to pay untainting tax.
When clients are seeking to pay amounts to shareholders out of a share capital account, tax agents should first consider whether these rules could have been triggered previously, in addition to considering whether other integrity rules could apply to the payments.