Feeding the dividend-tax monster

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Perhaps part of Mr. Smith's dilemma is that he apparently thinks there should be a wealth tax rather than a tax on realized income. The solution is easy - if he doesn't want to pay income tax, he should arrange his affairs so as to minimize taxable income. That means trading the mutual funds for ETFs and keeping all investments in the most tax efficient locations. The rules of the game are clear, and the resolution is easy. If he is unwilling to do that, I'm unwilling to sympathize.

P.S. - In my state of CT, as I believe is common in most of the states in the USA, we pay real property tax (which is a wealth tax) on the current assessed value of the house. It doesn't matter if I bought it 30 years ago or yesterday. Property is reassessed every 5 years, but the mill rate changes every year. Currently, the mill rate in my town is 29.14 The assessed value of my house is supposed to be 70% of current market value, so that means I pay about 2.04% of the market value of my house every year. And, unlike financial assets, my house does not generate any income that I can use to pay that tax. So Mr. Smith should not be so jealous of homeowners.
Assuming these are Vanguard funds, the ETFs won’t be any more tax efficient than the index funds he already holds.
 
This is new, not the problem you brought up in the OP. The OP was “working just to pay taxes on dividends”, this is “Smith pays more than Jones”.

Smith is confused, and now so am I. Maybe you should lay out this problem with some numbers so we all can have a more thorough discussion.
I agree with all of this. I'd have to see numbers to believe there is any real problem here, and certainly it can be solved by not reinvesting part of the dividends.

As for two people of similar net worth paying vastly different tax rates, there are some easy explanations for that. Here's one: I pay virtually no fed income tax, and moderate state taxes these days (which will change when I start SS). In my prime earning years, when I amassed and exercised stock options that led to my ER, I paid a very high rate of taxes: 45.2% real (not marginal) fed+state taxes, on a 7 figure income in the highest year, and 43% in the second highest with 1/2 mill income. So don't whine about my low income tax rate now. I've paid my taxes. And I'm smart enough to know how to limit taxes now, unlike this Smith person, while still building some wealth.
 
P.S. - In my state of CT, as I believe is common in most of the states in the USA, we pay real property tax (which is a wealth tax) on the current assessed value of the house. It doesn't matter if I bought it 30 years ago or yesterday. Property is reassessed every 5 years, but the mill rate changes every year. Currently, the mill rate in my town is 29.14 The assessed value of my house is supposed to be 70% of current market value, so that means I pay about 2.04% of the market value of my house every year. And, unlike financial assets, my house does not generate any income that I can use to pay that tax. So Mr. Smith should not be so jealous of homeowners.
CT is notoriously high-tax, but some states have a staircase system. By this I mean, that when a house changes hands, the property tax is reset, to a new and higher level. While the house is continuously owned, tax increases are capped.

Consider Smith's former neighbor, Grandma Doe. Mrs. Doe bought her house in Los Angeles in 1993, during a nadir in the market, as the aerospace-defense industry was collapsing and property values followed. She scored a nice but unassuming bungalow in a dodgy neighborhood for $100K, locking-in her property tax for the next 30 years. She passed away in 2023. Rufus Robertson bought her house, for $1.2M (the neighborhood gentrified). Poor Rufus saw the property tax jump 5X, literally overnight.
 
So are we still on the subject of dividend taxes? I'm losing track (or maybe it's my third martini of the day)
 
CT is notoriously high-tax, but some states have a staircase system. By this I mean, that when a house changes hands, the property tax is reset, to a new and higher level. While the house is continuously owned, tax increases are capped.

Consider Smith's former neighbor, Grandma Doe. Mrs. Doe bought her house in Los Angeles in 1993, during a nadir in the market, as the aerospace-defense industry was collapsing and property values followed. She scored a nice but unassuming bungalow in a dodgy neighborhood for $100K, locking-in her property tax for the next 30 years. She passed away in 2023. Rufus Robertson bought her house, for $1.2M (the neighborhood gentrified). Poor Rufus saw the property tax jump 5X, literally overnight.
Very few states (are there any besides CA?) lock in tax rates for your lifetime. And Rufus never paid that low rate so they didn't see the property tax jump at all. Would anyone but the Uber rich ever buy a new house if they got the tax valuation it had when it was first built? That would never work for the state. You should think these things through before posting and expecting any sympathy for you or any of your characters.
 
CT is notoriously high-tax, but some states have a staircase system. By this I mean, that when a house changes hands, the property tax is reset, to a new and higher level. While the house is continuously owned, tax increases are capped.

Consider Smith's former neighbor, Grandma Doe. Mrs. Doe bought her house in Los Angeles in 1993, during a nadir in the market, as the aerospace-defense industry was collapsing and property values followed. She scored a nice but unassuming bungalow in a dodgy neighborhood for $100K, locking-in her property tax for the next 30 years. She passed away in 2023. Rufus Robertson bought her house, for $1.2M (the neighborhood gentrified). Poor Rufus saw the property tax jump 5X, literally overnight.
It is my understanding that California's Proposition 13, which established this regime, was passed in 1978. I personally think it is a foolish system, but the people of California have had 46 years to adjust their affairs accordingly.

In any event, I thought the problem was taxes on mutual fund dividends.
 
...In any event, I thought the problem was taxes on mutual fund dividends.
More specifically, the false problem is based on the premise that, as your taxable account gets into the multi-millions, the taxes from the dividend monster become close to or greater than your salary income, thus preventing you from having any leftover salary to contribute to your investments, thus causing your investible asset wealth to plateau at some level...
 
In any event, I thought the problem was taxes on mutual fund dividends.
I think the OP seems happy to modify his strawmen without end. This thread has morphed enough to demonstrate that.
 
More specifically, the false problem is based on the premise that, as your taxable account gets into the multi-millions, the taxes from the dividend monster become close to or greater than your salary income, thus preventing you from having any leftover salary to contribute to your investments, thus causing your investible asset wealth to plateau at some level...
If he reinvests all the dividends and uses salary to pay the taxes, doesn't the portfolio value continue to grow due to the reinvested dividends alone, even if no salary can be invested?
 
If he reinvests all the dividends and uses salary to pay the taxes, doesn't the portfolio value continue to grow due to the reinvested dividends alone, even if no salary can be invested?
When a dividend is paid, the share price drops by that same amount. If you reinvest the dividend, you have exactly the same amount you started with.
 
More specifically, the false problem is based on the premise that, as your taxable account gets into the multi-millions, the taxes from the dividend monster become close to or greater than your salary income, thus preventing you from having any leftover salary to contribute to your investments, thus causing your investible asset wealth to plateau at some level...
Clearly, Mr. Smith just needs to make a higher salary. :D
 
If he reinvests all the dividends and uses salary to pay the taxes, doesn't the portfolio value continue to grow due to the reinvested dividends alone, even if no salary can be invested?
Yes, the portfolio continues to grow over time, even though no more salary is added to it.
 
When a dividend is paid, the share price drops by that same amount. If you reinvest the dividend, you have exactly the same amount you started with.
For an instant in time.

Otherwise you are assuming the investments pay dividends but don’t grow at all which is not generally correct for equity index funds over long periods of time.
 
For an instant in time.

Otherwise you are assuming the investments pay dividends but don’t grow at all which is not generally correct for equity index funds over long periods of time.
Exactly. And even if the investments didn't grow at all, you now have an extra X shares (from the dividend reinvest) that will now throw off future dividends ad infinitum. That is what is so amazing about compounding.

To the OPs point, I think the W2 and dividend income is all just a big pile of income that is taxed accordingly as it comes in. OP's Smith is just choosing to "invest" some amount that is equal to the dividend. If Smith is at the point where W2 income (after taxes) is all going to pay the taxes on dividend income, I agree with others that some adjustments should be made to remove the W2 income entirely (retire) and live within the more favorable LTCG/qualified brackets.
 
More specifically, the false problem is based on the premise that, as your taxable account gets into the multi-millions, the taxes from the dividend monster become close to or greater than your salary income, thus preventing you from having any leftover salary to contribute to your investments, thus causing your investible asset wealth to plateau at some level...
Yes, exactly this.

Our prime mission as young people was to keep saving, to increase our portfolios. As we get older, the mission doesn't wane, but its execution does. A savvier version of Smith might change jobs or up-skill (whatever that means) to keep the W2 growing, but as happens in many professions, salaries plateau as one reaches one's mid 30s or early 40s, and then at best, track inflation. The result is a running-in-place, exactly as you describe.

As for the meanderings into lament about other forms of taxation, such as property tax, the theme goes like this. Suppose that a more enterprising version of Mr. Smith relocates to a VCHOL area, where salaries are higher... following the advice, to boost his income. This generally means much higher property taxes too. We're again in a running-in-place situation.

Let me phrase it another way. Suppose that a person has $100K and wants to grow that amount to reach $1M. This can be done with combination of riding the market, boosting W2 and increasing one's savings. Not easy, but doable. Not overnight, but in less than a decade, in today's dollars, assuming the salary of an engineer or an accountant or something like that. Right? Now suppose that somebody has $10M, and wants to grow that amount to reach $100M. That's a much bigger challenge. Don't folks find it to be rather odd, that the financial literature is awash in advice on how to get from $100K to $1M, but is pretty darn silent on how to get from $10M to $100M?
 
There are not many ways to reduce dividend income tax other than reducing dividend income. Mr. Smith could gradually shift toward non-dividend paying investments.
 
... Don't folks find it to be rather odd, that the financial literature is awash in advice on how to get from $100K to $1M, but is pretty darn silent on how to get from $10M to $100M?
No, not odd at all.
To get to Major Wealth generally requires a level of entrepreneurism and risk that most people have no idea how to do.
In fact, most sources would advise AGAINST putting 50% of your assets into a likely to fail startup like Microsoft or Apple (back 40 years ago)...
 
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But I do wish that folks would realize, that Financial Independence merely means having no literal necessity to work. It doesn't mean self-absolution to start enjoying one's money, or to conclude the stage of life, that made accumulation possible in the first place.
It doesn't "mean" you have to retire, but that you can, if you want to. Or you can start a business without worrying about having a boss or a profit. Or not. The point is the "independence" part of FI is for each of us to define.

And ask most any of us at 2, 5, 12, 20 years after the RE - the accumulation is still happening - i.e. portfolios growing - just without us having to slog out the hours at the office/factory/whatever.
 
As for the meanderings into lament about other forms of taxation, such as property tax, the theme goes like this. Suppose that a more enterprising version of Mr. Smith relocates to a VCHOL area, where salaries are higher... following the advice, to boost his income.
Now you're just trolling us. There was a lot of advice given here, but if this one was mentioned it certainly wasn't the main theme.
 
It doesn't "mean" you have to retire, but that you can, if you want to. Or you can start a business without worrying about having a boss or a profit. Or not. The point is the "independence" part of FI is for each of us to define.

And ask most any of us at 2, 5, 12, 20 years after the RE - the accumulation is still happening - i.e. portfolios growing - just without us having to slog out the hours at the office/factory/whatever.
These freedoms, though doubtless valuable, are only partially consequences of money. They're also psychological... just as is the "freedom" to cease adding to one's portfolio, to buy a house, and so on. Of course, lacking money, the question is academic. But if already having money, it's nowise clear, that we can proceed to doing A or B or C, just because the dollar-amounts pencil out.

Yes, of course these are "first world problems", but last I checked, we all live in the first world. That some villagers somewhere don't have clean water, and live miserable lives in corrugated-tin shacks, is tragic from a geopolitical point of view. But that doesn't lighten our burdens or concerns in the here-and-now. After all, if we lived in an unstable society were property could be confiscated at any moment, etc., then we'd not bother to save in the first place, and would just live for the present. I doubt that the people in Syria or Sudan are worried about their income taxes at the moment, or the direction of the stock market.
 
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