It’s difficult to look at any news outlet today and not hear coverage on the impending “Fiscal Cliff” that looms over our nation. The implications of ending the Bush era tax cuts and potential tax increases and spending cuts are numerous, but specifically for one class of investors it raises a pointed question – what are the implications for dividend investors?
The simple answer is of course already on paper. Shareholders pay taxes on their dividend income according to their respective tax brackets. At present, taxpayers in the 10- or 15-percent tax brackets pay no taxes on their dividend income. For all other taxpayers, the tax rate on dividend income is capped at 15 percent. These rates are set to expire on December 31.
Bottom line – if nothing is done to avert this deadline then the maximum tax rate on dividend income will rise to 43.4 percent in just under a month. For individuals, the maximum individual tax rate will be 39.6 percent, with additional Medicare tax added on for households earning more than $250,000 or $200,000 if you’re single. It does not end there. For those lower income taxpayers in the 15 percent income tax bracket, who now pay zero taxes on dividend income, will pay 15 percent; and those in the 28 percent tax bracket – individuals making over $35,500 in 2013 – will see their dividend income tax almost double from 15 percent to 28 percent.
Companies’ responses to this potential issue have varied. In some cases, companies have tried to take action now to minimize near-term impact to their shareholders. As discussed in a recent Wall Street Journal article, several companies such as Oracle, Costco and Wal-Mart have accelerated dividend payments to allow investors to take advantage of existing lower tax rates. Others such as Las Vegas Sands have announced special dividends that will be paid before year-end to try and offset the potential impact.
While these acts have received praise from many investors, they also bring their own host of questions and its best companies are prepared to answer them beforehand. As some media outlets are highlighting, the big question is “if companies that have declared special dividends or accelerated dividend payments could have used the cash to fund growth opportunities instead?” Also, are “insiders the ones that will benefit the most from special dividends or a shift in regular dividend payments?”
The ultimate fate of the U.S. government’s fiscal plans is still unclear as bipartisan politics continues to fuel the uncertainty. From a financial communications standpoint, it requires at least a temporary reshaping of communications for affected companies to help their investors understand the potential impact. For the longer-term, this has the potential to significantly alter the investment thesis of companies that rely heavily on dividend / retail investors. If enacted, these companies will have to take a hard look at their core messaging strategies and possibly revisit them to ensure they remain attractive to dividend investors in the face of this new paradigm.
Scott Eckstein is a Director of Account Services at Financial Relations Board and brings over 15 years of experience in financial communications both in agency and corporate roles. Scott has worked with a number of companies developing integrated communications programs as well as developing targeted institutional and retail branding campaigns. He has also provided advisory services for a variety of small- to large-cap companies.