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Fairness and Demagogy

The Wall Street Journal has a lead editorial today describing how companies are rushing to send out dividends in 2012 to avoid what will almost certainly be much higher taxes on dividends next year. Right now dividends are taxed at 15 percent. If the Bush tax cuts simply expire on January 1, then dividends will be taxed as ordinary income, up to 39.6 percent. For someone earning over $250,000, the tax rate on “unearned income”—a phrase that is pure, undiluted demagogy—will be 43.4 percent, as those people will be slapped with a 3.8-percent surcharge on dividends and capital gains to help pay for Obamacare.

This rush to pay dividends early is about as predictable as the sun rising in the east. Just consider: Costco is issuing a special dividend of $7 a share. If it is paid on December 31, the owner of 1,000 shares (worth $102,580 as of yesterday’s close) would owe taxes amounting to $1,050 on the $7,000 in dividend income. Paid on January 1, however, someone in the top bracket would owe $3,038 in taxes on that dividend.

Also as predictable as the sun will be a large fall-off in dividends next year. Quite possibly federal revenues from taxes on dividends in 2013 will be lower than they will be for 2012, despite the higher rates. President Obama has already said that that’s OK, in the interest of “fairness.” Fairness—or the liberal version thereof—is more important than actually doing something about the oncoming fiscal crisis.

But, of course, there’s nothing fair about it. Dividends are paid out of after-tax corporate income. That’s why the British—not exactly famous for coddling the rich when it comes to taxes—give people a 28-percent credit on dividend income, equal to the British corporate tax rate. (Ours is 35 percent, the highest in the world.) So if you count the corporate rate plus the personal rate, dividends will be taxed at up to 63.21 percent. So why bother to issue them at all, when they will be effectively confiscated?

Giving a tax credit like the British would be one way to make the taxation on dividends really fair. Another way would be to make dividends a deductible expense for the corporation, just as the interest paid on corporate bonds is deductible. Then tax that income at the personal level as ordinary income, just as the interest in bonds is so taxed. This would not only be fair, it would eliminate the bias in favor of raising capital through debt rather than equity that is the inevitable result of higher taxes on dividends than on interest payments.

Of course, it would also eliminate an opportunity for liberals—who care as much about fairness as a pig cares about Mozart—to demagogue an issue while the fiscal house burns.


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