44.8% Dividend Drench
Retirees dependent on dividends will be placed under pressure and those who look to be more conservative with their investments will be "bubbled" into riskier assets. At least abortion will be secure...which is nice ("Caddyshack").
Obama's Dividend Assault
A plan to triple the tax rate would hurt all shareholders.
WSJ Editorial, February 22, 2012
President Obama's 2013 budget is the gift that keeps on giving—to government.
One buried surprise is his proposal to triple the tax rate on corporate
dividends, which believe it or not is higher than in his previous budgets.
Mr. Obama is proposing to raise the dividend tax rate to the higher personal
income tax rate of 39.6% that will kick in next year. Add in the planned
phase-out of deductions and exemptions, and the rate hits 41%. Then add the 3.8%
investment tax surcharge in ObamaCare, and the new dividend tax rate in 2013
would be 44.8%—nearly three times today's 15% rate.
Keep in mind that dividends are paid to shareholders only after the
corporation pays taxes on its profits. So assuming a maximum 35% corporate tax
rate and a 44.8% dividend tax, the total tax on corporate earnings passed
through as dividends would be 64.1%.
In previous budgets, Mr. Obama proposed an increase to 23.8% on both dividends and capital gains. That's roughly a 60% increase in the tax on investments, but at least it would maintain parity between taxes on capital gains and dividends, a principle established as part of George W. Bush's 2003 tax cut.
With the same rate on both forms of income, the tax code doesn't bias
corporate decisions on whether to retain and reinvest profits (and allow the
earnings to be capitalized into the stock price), or distribute the money as
dividends at the time they are earned.
Of course, the White House wants everyone to know that this new rate would
apply only to those filthy rich individuals who make $200,000 a year, or
$250,000 if you're a greedy couple. We're all supposed to believe that no one
would be hurt other than rich folks who can afford it.
The truth is that the plan gives new meaning to the term collateral damage,
because shareholders of all incomes will share the pain. Here's why. Historical
experience indicates that corporate dividend payouts are highly sensitive to the
dividend tax. Dividends fell out of favor in the 1990s when the dividend tax
rate was roughly twice the rate of capital gains.
When the rate fell to 15% on January 1, 2003, dividends reported on tax
returns nearly doubled to $196 billion from $103 billion the year before the tax
cut. By 2006 dividend income had grown to nearly $337 billion, more than three
times the pre-tax cut level. The nearby chart shows the trend.
Shortly after the rate cut, Microsoft, which had never paid a dividend,
distributed $32 billion of its retained earnings in a special dividend of $3 per
share. According to a Cato Institute study, 22 S&P 500 companies that didn't
pay dividends before the tax cut began paying them in 2003 and 2004.
As former Citigroup CEO Sandy Weill explained at the time: "The recent change
in the tax law levels the playing field between dividends and share repurchases
as a means to return capital to shareholders. This substantial increase in our
dividend will be part of our effort to reallocate capital to dividends and
reduce share repurchases."
If you reverse the policy, you reverse the incentives. The tripling of the
dividend tax will have a dampening effect on these payments.
Who would get hurt? IRS data show that retirees and near-retirees who depend
on dividend income would be hit especially hard. Almost three of four dividend
payments go to those over the age of 55, and more than half go to those older
than 65, according to IRS data.
But all American shareholders would lose. Higher dividend and capital gains
taxes make stocks less valuable. A share of stock is worth the discounted
present value of the future earnings stream after taxes. Stock prices
would fall over time to adjust to the new after-tax rate of return. And if
investors become convinced later this year that dividend and capital gains taxes
are going way up on January 1, some investors are likely to sell shares ahead of
paying these higher rates.
The question is how this helps anyone. According to the Investment Company
Institute, about 51% of adults own stock directly or through mutual funds, which
is more than 100 million shareholders. Tens of millions more own stocks through
pension funds. Why would the White House endorse a policy that will make these
households poorer?
Seldom has there been a clearer example of a policy that is supposed to soak
the rich but will drench almost all American families.
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