With reform of franking credit refunds being pushed so far back on the back-burner it’s effectively off the stove, individuals who might never have heard of the things are wondering if they should jump on the gravy train. It’s a very fair question.

Let’s state up front that Labor’s franking credits policy wasn’t fair – but not for the reason most commonly claimed. It was wrong of Labor to propose exempting pensioners and charities.

As previously reported, people close to the franking credits refund fight tended to see what they wanted to see. But try shelving self-interest or ideology for a moment to consider two people on full pensions living in an aged care home. 

Let’s say nonagenarian widows Mary and Maud both sold their homes some years ago to pay the accommodation bond generally required for decent aged care, leaving them with a few modest possessions, full pensions (that the home takes for room and board) and $50,000.

Mary, reflecting many of her generation, is cautious about money and has little financial experience. She, or family members on her behalf, deposit the $50,000 in a bank term deposit that pays her 2 per cent (which is on the high side given that the Reserve Bank will be cutting interest rates further) – about $20 a week.

Maud sticks her $50,000 into shares instead. At this stage of her life, it doesn’t matter if the share prices rise or fall, it’s all about the dividends. A half dozen of the usual suspects offer an average 5 per cent dividend yield – about $50 a week. And those dividends are fully franked, so the Australian Tax Office pays her an extra $20 a week.

(OK, that ATO money only arrives once a year with Maud’s tax return, a $1000, but you know what I mean.)

Maud gets another $20 a week from the government on top of her pension that Mary does not, simply because of where Maud (or someone on her behalf) keeps her savings.

(Yes, the $20 is government money, provided by taxpayers, as there’s no company tax paid on it. Remember this is not “avoiding double taxation” of company profits – it’s avoiding all taxation.)

Hats off to Maud doing 250 per cent better than Mary with $70 a week instead of a miserable $20, but $20 of that is an unfair extra welfare payment. Why not top up Mary with an extra $20 as well?

Australia’s Mauds are individually small beer compared with the multi-million dollar self-managed super funds that cream most of the franking credit government welfare payments, but there are too many Mauds for Labor to risk offending, so pensioners, including part-pensioners, were exempt from their policy.

Ditto exempting charities, providing an extra government payment to the big charities rich enough to have share portfolios, unlike the many charitable institutions scraping along.

That wasn’t fair either – it was politics.

And yet it turned out that Labor communicated policy so poorly (and the Coalition and its allies misled so effectively), that a great many retirees who stood to lose nothing from franking credit reform – and gain from other Labor policies – ended up voting against their own best interests. Go figure.

Franking credits: too hard to explain, too easy to exploit #InsidersExtra @barriecassidy #Insiders #auspol pic.twitter.com/cuCPjSD03j

— Insiders ABC (@InsidersABC) May 24, 2019

Treasurer Josh Frydenberg has talked about having a review of retirement income policy. The odds of such a review getting into franking credit refunds? Very long, I’d guess. As argued previously, the terms of reference of any such inquiry will be a quick test of the government’s integrity.

To repeat a previously reported example some millions of dollars away from Mary and Maud – within the limits introduced by Scott Morrison as Treasurer – a retired couple can have $3.2 million in their superannuation fund earning a conservative 5 per cent yield through share dividends – $160,000 a year – and collect another $68,000 in franking credit refunds from the government, delivering an income of $228,000 a year, totally tax free and without touching their capital.

To put that in perspective, to receive that much after tax, an individual would need a taxable income approaching $400,000 a year – putting them in the top 1 per cent of earners.

Nice work if you can get it.

The government’s political success in demonising franking credit refund reform does have a downside – the enormous publicity has more people wanting a piece of the action which means the cost to the budget is likely to blow out to more than the previously forecast $11 billion a year.

Combined with the extra incentive of bank term deposit interest shrinking even further, it’s time for people with little interest in or knowledge of the stock market to be more like Maud than Mary.

With a couple of caveats, that’s a good thing.

Over the medium and longer terms, putting money in term deposits will see miserable interest income and the value of the capital eroded. Over the medium and longer terms, a conservative share portfolio is much, much more rewarding, with higher dividend income (“How good are franking credits!”) and capital appreciation.

One caveat is that a sensible investment portfolio should have a degree of diversification and not have all the eggs in the one basket.

The other is that the individual has to have the savings and time buffers to weather stock market volatility.

Yes, the stock market rises and falls in the short term, while it progresses steadily higher in the long term. For an individual who needs to draw down capital for expenses, that market volatility can be dangerous.

Depending on how comfortable the individual might be with risk, a rule-of-thumb in such circumstances is to have a year’s worth of likely capital withdrawals in cash so as to ride out the most likely stock market storms. That buffer means shares don’t have to be sold in a slump.

For Maud, who has no need to draw on capital and therefore doesn’t worry about share prices at all, it’s all about the dividend stream.

If she has the interest herself or someone to help her, she can concentrate on a small portfolio of stocks paying rich, sustainable dividends.

Or, to keep it simple, she could just buy one of the “old school” listed investment companies, such as Australian Foundation Investment Co, Milton and Argo. They have extremely low management expenses and broad portfolios.

(“New school” LICs tend to have much higher management costs and often lack the performance to justify it.)

And with that simple decision, the government will top up her pension and her dividends with franking credit refunds.

Yes, it’s crazy – but that’s politics.

Disclosure: The Pascoe family super fund holds AFIC, Argo and Milton shares, as well as many others.