If we witness another political gridlock going into the “fiscal cliff” next year, investors may see a hefty tax hike on dividend-paying exchange traded funds. Nevertheless, dividend investors shouldn’t jump ship too quickly as the alternatives are still rather lackluster.

Dividends received will be taxed as ordinary income after Jan. 1 if Congress lets the bush-era taxes expire, with a maximum 39.6% rate, plus a new 3.8% tax to pay for the healthcare reform, reports Jonathan Burton for MarketWatch. [Stretching for Yield with ETFs]

Additionally, capital-gains tax rates, which have typically been half that of the income tax rates, will rise to a maximum 20% come Jan. 1, as well. [Where to Find Yield in ETFs]

While investors would have to pay more for their dividends, dividend-generating stocks and ETFs are still much more attractive than the alternatives.

“Where are you going to put that money?” Howard Silverblatt, senior index analyst at S&P/Dow Jones Indices LLC., asked in article. “Competitively, I don’t see what’s going to take dividends’ place. On a risk-reward basis, these are still attractive rates.”

“Income is very low and hard to come by,” Daniel Peris, co-manager of Federated Strategic Value Dividend, said in the article. “A dividend-focused strategy, even on a higher-tax basis, still compares favorably to the alternatives.”

Subscribe to our free daily newsletters!
Please enter your email address to subscribe to ETF Trends' newsletters featuring latest news and educational events.