ETF Trends
ETF Trends

Could there have been a better way to ring in 2013 and this New Year than the captivating Senate and then House of Representatives vote to resolve the Fiscal Cliff?

An 11th hour deal on New Year’s Eve between President Obama and Republicans staved off a full expiration of the Bush tax cuts that were set to expire January 1, 2013. In a stunning 89-8 vote, the Senate passed a fiscal cliff resolution with strong bi-partisan approval, despite the deal angering both sides of the aisle on key terms1. The House of Representatives, despite protests about a lack of spending discipline introduced in this resolution, voted the next night to ratify the law.

We believe that there are two key features of the deal that should comfort investors, particularly those in dividend paying stocks:

-For those individuals with adjusted gross income less than $400,000 or couples with less than $450,000 (“highest income earners”), the Bush tax cuts were made permanent, including the 15% tax rate on dividends and capital gains2.

-For those individuals with adjusted gross income above that threshold, the tax rates on dividends and capital gains are being increased from 15% to 20%. On top of that, one must add the 3.8% investment income surcharge that was previously placed as part of President Obama’s health care law to get dividend and capital gains tax rates of 23.8% for the highest income earners3.

Upon Obama’s election, there were many who feared a worst-case scenario of dividend tax rates returning to being taxed at the same rates as ordinary income, which could have seen dividend tax rates at 43.4% for the highest income group.

Obama initially advocated for raising taxes for all households with over $250,000 in adjusted gross income. At that particular threshold, we found from Internal Revenue Service (IRS) data that approximately 40% of qualified dividends went to people below that level for the 2010 tax year—the most recent available4. The IRS data that we have examined does not provide the exact breakdown of qualified dividends going to tax filers above and below $450,000 in adjusted gross income. But the data does show that approximately 49% of qualified dividends went to people with incomes above $500,0005 for the 2010 tax year. So by those numbers, it looks to me that approximately half of investors who received qualified dividends will see those tax rates being held constant at 15%—at least according to the most recently available 2010 IRS figures.

I published a paper following Obama’s election that outlined what I envisioned then as the worst case scenario for dividend taxes, which would have been the Bush tax cuts expiring for those families with adjusted gross incomes above $250,000, with dividend tax rates rising to 43.4% for those qualifying within the highest tax bracket.

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