Saturday, October 6, 2012

US top dividend tax rate will become the highest in the world; tax increase will hurt savers, economy

Starting January 1 of 2013 the top tax rate on dividends in the US will officially become the highest in the developed world. If you live in NY for example, the top rate on stock dividends will be close to 50% - which is significantly higher than France.

Source: JPMorgan

Capital gains tax will also increase from 15% to 25%. Many in the US will of course say "great, tax those fat cats". But there are a few problems this policy.

1. With negative real interest rates hurting US savers (see post), for many investors who are trying to save for retirement, high dividend stocks have been a good option. But no longer. Savers have been penalized by the Fed for holding cash and now they will be punished by the government for owning high dividend stocks.

2. According to JPMorgan, this dividend tax will reduce mature firms' valuations by $1.5 trillion. That's going to hit private and state pensions as well as IRA, 401K, and 529 accounts. But that's OK because the "fat cats" deserve it.
JPMorgan: - Capitalizing this foregone capital income generates a $1.5 trillion reduction in equity market value, or about 6% of the $24 trillion value of corporate equities at the end of 2Q. Standard wealth effects suggest this will reduce consumer spending by a little over $50 billion, or about 0.5%.
3. Many firms will choose share buybacks instead of dividends. That hurts those who rely on dividend stream for income (such as retirees). It will also hurt the government because rather than getting some dividend tax revenue as they did in the past, in such instances the government will get none.

4. Smaller firms will have a tougher time raising capital due to the increase in capital gains tax. That will have a direct spillover into job creation.

With GDP growth under 2% and anemic labor markets, this is just what the US economy needs now.
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