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Jordan Goodman is the author of Everyone's Money Book, available at 888-201-6300. This is the third edition of the book. You can also visit his Web site at www.moneyanswers.com. He talks with us on Thursday mornings.
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January 30, 2003
"The Bush Tax-Free Dividend Plan"
 Listen
Now that President Bush has formally proposed his plans to stop the double
taxation of corporate dividends, there are lots of questions I have been
hearing about how the plan would work and how it might affect the stock
market. Here are a few answers to the most commonly asked questions about
the plan:
- Would all corporate dividends become tax-free?
Not exactly. For example,
shareholders in real estate investment trusts, which already are not
taxed at the corporate level, would have to pay taxes on their dividends as
they do now. Also, companies would have to be profitable and pay taxes on
their profits in order to be able to distribute tax-free dividends. So, if a
company had losses or did not pay taxes in the prior year, its dividends
would still be taxable. For example, dividends paid in 2004 would be based
on whether a company was profitable in 2002. A company would tell its
shareholders in advance if its dividends were taxable or tax-free, based on
its profitability status for 2 years earlier.
- Would tax-free dividends affect many investors?
Fewer than you might
think. The vast majority of dividend-paying stocks today are held in
tax-deferred accounts like pension plans, life insurance plans, 401(k)s and
IRAs, which don’t pay taxes on the dividends now. So, the only direct
beneficiaries would be people who hold stock in taxable accounts.
- How would the plan affect the stock market?
It should make the shares of
dividend-paying stocks rise relative to non-dividend-paying stocks. This
might help move capital into older, more established companies that tend to
pay dividends, and away from smaller growth companies that do not pay
dividends.
- How would the plan affect alternative income-producing investments?
In
general, it would make tax-free dividends more attractive than taxable
Treasury bonds or tax-free municipal bonds because the stocks have growth
potential that the bonds do not. So, it could mean that the rates the
Treasury and cities and states have to pay would rise to attract investors.
- Will the plan stimulate the economy?
It is not primarily designed to
stimulate the economy, but to take away a long-term inequity in the tax code
where corporate profits are taxed twice. It would put a modest amount of
money into the economy as people got to keep more of their dividends. It
might ignite the stock market, which can help the economy indirectly. But
this is being done in a context of a potential war with Iraq, and weak
business and consumer confidence, so you shouldn’t expect this plan to turn
around the economy on its own -- even though it will cost the government $300
billion in lost revenues over 10 years.
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