Why Dividends, Capital Gains Are Big Part Of Fiscal Cliff Talks
As the White House and Congress debate how to steer clear of the fiscal cliff, one obstacle is the president's insistence that the wealthy should pay more in taxes. And one way that could happen is through changing the rules for dividends and capital gains.
If you own a share of stock in a company today, when the company pays out a dividend, the most you're taxed is 15 percent. And if you decide to sell the stock and cash out, you'd also pay 15 percent on your profits — the capital gains.
The tax code has long favored investment income over the money you get in your paycheck. But today's rates are especially low, dating to tax cuts installed under President George W. Bush.
Back in 2003, Congress set the top tax rates for both capital gains and dividends at 15 percent, lower than they had been since the 1930s.
Now, President Obama wants to raise those rates, but only for the wealthy.
Under his plan, for those earning more than $250,000 a year, capital gains would be taxed at 20 percent, and dividends would go back to being taxed as they had historically, as ordinary income, more than doubling the current rate.
"Of course it's never a bad time to be rich. But it's a worse time to be rich now because, you know, President Obama has clearly said he wants the wealthier Americans to shoulder a bigger burden of the tax liability," says Bill Smith, with accounting firm CBIZ MHM.
Raising rates on investment income, as the president has proposed, would bring in about $240 billion over a decade. If Congress and the president can't reach a deal and the Bush tax cuts expire for everyone, it would be even more.
Smith says that as a result, some companies are making sure to pay dividends before Jan. 1, and many people are cashing out investments to realize the capital gains in 2012. He speculates the tax changes may have been on filmmaker George Lucas' mind when he sold Lucasfilm to Disney earlier this year.
Roberton Williams of the Tax Policy Center says he was wondering the same thing when the deal was announced. Lucas "certainly will save if we have the president's plan go into place, or go over the fiscal cliff."
Like $400 million.
"He'll save more in tax than we will make in our entire lifetimes," says Williams.
Fewer than 20 percent of taxpayers report income from dividends, and even fewer get money from long-term capital gains.
There are certainly plenty of people who have the two shares of McDonald's their grandfather bought them, or are supplementing their income with dividends from the power company where they worked. But Williams says that's not what you should picture when you think about who is benefiting from the low rates in the current tax code.
"High-income people are much more likely to have investments in the first place and more likely to have income from those investments," he says. "And their tax savings are greater than those for people in lower income categories, because the difference between the capital gains rate and dividends rate and their ordinary tax rate is larger."
Williams says more than half of today's tax benefit on investment income goes to people in the top one-tenth of 1 percent.