Investors have been flocking to dividend focused exchange traded funds in search of income and capital appreciation. But are they ready for what is in store for them if the Bush tax cuts are allowed to expire?

“Dividend income benefits millions of Americans who are not wealthy, including many seniors and those investing for the future of their families,” Lew Hay, chairman of EEI and executive chairman of NextEra Energy said. “Raising taxes on dividends would harm every American who owns dividend-paying stocks, as well as anyone who has an interest in a mutual fund, 401(k) plan, pension plan, or life insurance policy that invests in those stocks.”

Qualified dividends are taxed at 15% right now. When the Bush-era tax breaks expire, the difference between ordinary and qualified dividends will be no more, and all dividend income will be taxed at 28%, the rate of ordinary income. [Breaking Down a Trio of Top Dividend ETFs]

Congress and the President have the power to intervene and extend these tax cuts. Edison Electric Institute reports that if no action is taken, dividend tax rates for all income levels will rise with the maximum rate capped at 43.4%, a 189% increase. [Appraising the Largest Dividend ETF]

If tax rates increase, higher income investors will likely trade in their dividend shares and ETFs for investments that lower the tax liability but offer a rate of return. Not only would this create a drop off in the value of dividend paying companies, but larger sectors of the economy such as utilities, telecom, retail, and food and drug companies would suffer.

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