July 23, 2012

Biggest Group of Losers in Dividend Tax Hike? The Middle Class: Report

Tax increase would lead to share buybacks, fewer dividend-paying stocks, Ernst & Young report says

A plan to raise the dividend tax rate to 20% for households earning more than $250,000 will have negative consequences for the middle class, according to a new study from Ernst & Young.

The study finds that filed 68% of all tax returns with dividend income in 2009 (the latest year for which data is available) were filed by consumers earning less than $100,000 per year.  

According to the report, the Senate Democrats’ plan to shift the tax burden onto upper-income wage earners will likely cause them to shift their investments—here and abroad—to those that are taxed at lower rates. This in turn will likely cause dividend-paying companies to reduce the size of their quarterly dividend checks. 

In addition, the report claims that with investors selling dividend-paying stocks, the values of those stocks will likely fall.  And because the market is forward-looking, the stock prices will likely drop sooner rather than later. This will be another hit for the typical investor who holds dividend-paying stocks, either directly or indirectly through retirement plans or other mutual funds.

“One other thing it will do is reduce the value of all [dividend-paying] stocks by the amount of the tax increase, which would be a couple of trillion dollars,” says Charles Biderman, founder and CEO of the research firm TrimTabs. “This will affect anyone who has a pension, 401(k) or other retirement plan invested in stocks. Income is still off by about 10% across the board since 2007. How you boost after-tax income by boosting taxes is beyond me.”

The current 15% tax rate on dividends and capital gains is set to expire on Dec. 31. The plan by the Democrats in the Senate is one approach to extend them. The Obama administration has proposed allowing the top tax rate on dividends to rise as high as 39.6% for those earning more than $250,000. The House is expected to hold a vote in early August to extend today’s tax rate for all investors.

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