Taxes on dividends

[younginvestor2013]

I am in somewhat of a "cash crunch" and am thinking of just pocketing my Q4 2013 dividends that I will receive at the end of the month instead of re-investing them.

The purchase dates of the securities that will distribute are anywhere from March 2013 to August 2013.

Is there any reason why (from a tax perspective) that I should re-invest the earnings and not pocket the dividends? Or is the tax treatment the same? I believe the tax treatment is the same either way, so I'm thinking it wouldn't make a difference as to whether or not I pocket them....

Thanks.

 

[Greencheese]

Tax treatment at that point should be the same (Long Term Capital Gains) since its been more than 60/90 days from the purchase date. Unless those funds are in an IRA/Roth.

If I'm wrong does anyone want to chime in?

 

[Alan]

Assuming that this is an after tax account (ie not an IRA) then the tax treatment is the same if you take them or reinvest them.

 

[Animorph]

Assuming they are in a taxable account, there would be no difference between pocketing the dividends or reinvesting them. You will be paying the tax on them no matter what. Reinvesting does not incur any additional tax, but it does not avoid any taxes either.

 

[Gill]

Tax treatment at that point should be the same (Long Term Capital Gains) since its been more than 60/90 days from the purchase date. Unless those funds are in an IRA/Roth.

If I'm wrong does anyone want to chime in?

They aren't long term capital gains but rather are ordinary income.
Bruce

 

[scrabbler1]

I am in somewhat of a "cash crunch" and am thinking of just pocketing my Q4 2013 dividends that I will receive at the end of the month instead of re-investing them.

The purchase dates of the securities that will distribute are anywhere from March 2013 to August 2013.

Is there any reason why (from a tax perspective) that I should re-invest the earnings and not pocket the dividends? Or is the tax treatment the same? I believe the tax treatment is the same either way, so I'm thinking it wouldn't make a difference as to whether or not I pocket them....

Thanks.

You sound just like a friend of mine who had a temporary cash crunch this month and wanted me to help him figure out how to raise some cash without selling off any of his holdings (which would trigger cap gains or losses). With several of his mutual funds paying special cap gains and dividend distributions in mid-December, I was barely able to help him switch the distribution options to "cash" instead of "reinvest" and that solved his problem. But the other thing I made sure to tell him was that it would NOT affect his income taxes.

In January we will switch the distribution option back to reinvest.

 

[Moneygrubber]

Anyone have any ideas on funds that produce qualified dividends vs non qualified? Non qualified are taxed at same rate as your income which can be quite high.

 

[lemming]

Isn't it just a matter of how long you have owned the investment that is paying the dividend?
http://wiki.fool.com/What_Is_the_Difference_Between_Qualified_&_Non-Qualified_Dividends?

 

[ziggy29]

Isn't it just a matter of how long you have owned the investment that is paying the dividend?
http://wiki.fool.com/What_Is_the_Difference_Between_Qualified_&_Non-Qualified_Dividends?

Not entirely. REIT dividends, for example, are generally taxed as ordinary income. That is largely because the special tax structure of REITs allow them to pass dividends to shareholders on a pre-tax basis, so there is no "double taxation" issue there. (For that reason, REITs are best held in accounts with special tax treatment, such as 401Ks, IRAs and HSAs.)

 

[scrabbler1]

Anyone have any ideas on funds that produce qualified dividends vs non qualified? Non qualified are taxed at same rate as your income which can be quite high.

From my experience in mutual funds, I have found that stock funds produce qualified dividends while bond (and other non-stock) funds produce ordinary dividends. There are probably lots of exceptions.

 

[Moneygrubber]

Yes I think it's mainly the balanced funds I own and bond funds throwing off all the non qualified vs the individual stock divvys

 

[ziggy29]

Yes I think it's mainly the balanced funds I own and bond funds throwing off all the non qualified vs the individual stock divvys

When you have balanced funds that own a lot of stocks and bonds, yes, the stock dividends will usually be "qualified" but the payout of bond interest as a "dividend" would not be.

 

[Alan]

Yes I think it's mainly the balanced funds I own and bond funds throwing off all the non qualified vs the individual stock divvys

I agree.

Just checked last year's 1099-DIV for Wellesley dividends that I received and ~28% of all dividends were qualified. This roughly matches the ~35/65 mix of Stocks/Bonds that the Wellesley fund holds

 

[Rustward]

Tax treatment at that point should be the same (Long Term Capital Gains) since its been more than 60/90 days from the purchase date. Unless those funds are in an IRA/Roth.

If I'm wrong does anyone want to chime in?

They aren't long term capital gains but rather are ordinary income.
Bruce

Correct that they are not capital gains. They are dividends which may or may not be qualified dividends.

Even if they were capital gains, they would not be Long Term Capital Gains, based on the holding period.

It seems that GreenCheese has confused Qualified Dividends with Long Term Capital Gains.

To the OP's original question, there is no difference in tax treatment whether the OP reinvests or takes the cash out.

 

[ziggy29]

To the OP's original question, there is no difference in tax treatment whether the OP reinvests or takes the cash out.

True, but you do need to remember to update your cost basis when you reinvest taxable dividends.

 

[Rustward]

True, but you do need to remember to update your cost basis when you reinvest taxable dividends.

Deja vu, my friend.
You may be assuming that the investor is always using average cost basis. If you view the entire holding as one lot, then yes, you would be correct.

If the investor uses a different basis accounting method (FIFO, LIFO, or specific lot identification), then each lot has it's own cost basis. A reinvestment results in the purchase of a new lot, which will have a cost basis that in all probability, will be different from previously acquired lots, and that reinvestment will not change the basis of previously acquired lots.

A reinvestment is absolutely no different from just taking income and buying more shares with it. So the effect on basis is the same whether the new shares were purchased with new cash added to the account, or with a distribution from the fund (dividends or capital gains).

 

[ziggy29]

Deja vu, my friend.
You may be assuming that the investor is always using average cost basis. If you view the entire holding as one lot, then yes, you would be correct.

If the investor uses a different basis accounting method (FIFO, LIFO, or specific lot identification), then each lot has it's own cost basis. A reinvestment results in the purchase of a new lot, which will have a cost basis that in all probability, will be different from previously acquired lots, and that reinvestment will not change the basis of previously acquired lots.

OK, fair enough -- but I guess I didn't state it clearly enough. One way or another you have to account for a new cost basis -- either an updated "average share" cost basis or a new block of shares with its own cost basis. The point is that you need to account for those additional shares as already taxed -- unlike you like paying taxes twice on the same shares.

 

[Rustward]

OK, fair enough -- but I guess I didn't state it clearly enough. One way or another you have to account for a new cost basis -- either an updated "average share" cost basis or a new block of shares with its own cost basis. The point is that you need to account for those additional shares as already taxed -- unlike you like paying taxes twice on the same shares.

I guess what you are saying is that when you sell shares you compute
gain (or loss) = proceeds - basis

As long as you do this, you will not pay taxes twice.

It works the same no matter how you bought the shares.

 

[ziggy29]

It works the same no matter how you bought the shares.

Yes -- you just have to remember that the shares you purchased through a dividend reinvestment have a cost basis, because you paid taxes on the dividends used to purchase them. I've known folks who have forgotten to update their cost bases with reinvested dividends and wound up paying too much tax when they liquidated the entire shebang.

 

[Rustward]

Yes -- you just have to remember that the shares you purchased through a dividend reinvestment have a cost basis, because you paid taxes on the dividends used to purchase them. I've known folks who have forgotten to update their cost bases with reinvested dividends and wound up paying too much tax when they liquidated the entire shebang.

All shares have a cost basis.

Would it be correct just to say that the investor has to track the basis of all shares?

That is where I am coming from.

 

[samclem]

Would it be correct just to say that the investor has to track the basis of all shares?

That is where I am coming from.

The broker now tracks all of this. You can do it if you want, but when you sell the broker will report the gain (to the IRS) according to what they have on file. Turn on "specific shares" cost basis method if that's what you want them to use for the shares purchased with dividends, it provides more flexibility than "average cost", FIFO, etc.

 

[Rustward]

The broker now tracks all of this. You can do it if you want, but when you sell the broker will report the gain (to the IRS) according to what they have on file. Turn on "specific shares" cost basis method if that's what you want them to use for the shares purchased with dividends, it provides more flexibility than "average cost", FIFO, etc.

I guess I thought we were referring to non-covered shares. Otherwise there would be no reason to even bring up the subject.

 

[samclem]

I guess I thought we were referring to non-covered shares. Otherwise there would be no reason to even bring up the subject.

Since the title of the thread and most of the comments are about what to do with dividends today, including reinvesting them, and since every dividend reinvested today in equities must buy a covered share, it seemed relevant. I guess not all would agree.

 

[MooreBonds]

I agree.

Just checked last year's 1099-DIV for Wellesley dividends that I received and ~28% of all dividends were qualified. This roughly matches the ~35/65 mix of Stocks/Bonds that the Wellesley fund holds

One other item to keep in mind - if a fund has short-term capital gains, then those distributions are treated as non-qualified dividends, and fully taxable at your marginal income tax rate.

 

[Alan]

One other item to keep in mind - if a fund has short-term capital gains, then those distributions are treated as non-qualified dividends, and fully taxable at your marginal income tax rate.

Wellesley usually pays out cap gains once per year and categorizes them as long term and short term.

Not saying that they don't report some short term gains as non-qualified dividends, I just don't know.