Why Obama’s Assault on Dividends Puts a Shine on REITs

President Obama has declared war on the dividend by wanting to raise the maximum tax rate on dividends from 15% to 39.6%.

Toss in his planned phase-out of deductions and exemptions, and the rate hits 41%. And don’t forget the 3.8% investment tax surcharge in Obamacare.

Add them all up and you get new dividend tax rate of 44.8% in 2013 — nearly three times today's 15% rate.

Another thing, dividends are paid to shareholders only after the corporation pays taxes on its profits. So with a maximum 35% corporate tax rate and a 44.8% dividend tax, the total tax on corporate earnings ending up in your hands would be 64.1%.

In other words, for each dollar the company you invest in earns, the Federal government will get 64 cents and you’ll get 36 cents!

Pretty lousy deal if you ask me.  

This new rate would apply only to those individuals who make $200,000 a year or $250,000 if you're a couple ... a tax-the-rich scheme in the Obama camp’s eyes.
But there is more to the story that the administration fails to mention …

You see, corporate dividend payouts are highly sensitive to the dividend tax. Dividends fell out of favor in the 1990s when the dividend tax rate was roughly twice the rate of capital gains. And when the rate fell to 15% on January 1, 2003, dividends reported on tax returns nearly doubled to $196 billion from $103 billion the year before the tax cut.

By 2006 dividend income had grown to nearly $337 billion, more than three times the pre-tax cut level.

So if you use history as your guide, you can expect fewer dividend payouts if Obama gets his way.

And who would get hurt the most?

According to the IRS’s data, retirees and near-retirees who depend on dividend income would be hit especially hard. Almost three of four dividend payments go to those over the age of 55, and more than half go to those older than 65.

In short, when Obama suggests raising the tax rate on dividends, he’s taking aim right at your retirement nest egg.

Now here is where real estate investment trusts (REITs) could help you out …

REITs are required to pay 90% of their earnings to shareholders. These payouts are before corporate taxes, therefore you end up with 35% more of what a REIT makes compared to a dividend-paying company. And in case the tax hike goes through, it could mean you’ll get 55 cents of every dollar your investment earns instead of 36 cents.

Don’t get me wrong, I like dividend-paying stocks. In fact, I own several including

McDonald’s (MCD), Home Depot (HD), and Walgreen (WAG).

However, I’ve written many times that real estate can play an important role in diversifying your portfolio. And this latest potential tax change adds to my case.

Best wishes,

George