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We’ve been down this road before.
President Trump tried, but was thwarted in pushing his tax reforms through Congress earlier this year. He has retrenched and regrouped. He’s ready to roll again.
The tax reforms themselves are little changed.
On the individual side, Trump’s tax reforms would reduce the tax brackets to three rates from seven. The rates would remain progressive (the more you make, the higher percentage you pay on the margin), but the progression consumes income in 12%, 25%, and 35% bites.
Trump’s tax reforms would also double the standard deduction to $12,000 for individuals and $24,000 for married couples. Many middle-class earners would find less of a tax burden and a burden easier to calculate under Trump’s reforms. The higher standard deduction would reduce the number of taxpayers who itemize.
Tax Reforms Would Affect Dividend Stocks
Simpler and less is preferable to complicated and more where individual income taxes are concerned. But what occurs with corporate income taxes could have much greater effect on the economy and dividend-paying stocks than anything on the individual side of the ledger.
The knee-jerk reaction is to equate lower corporate income tax rates with the swelling of some idle fat cat’s coffers. Nothing is farther from the truth.
I offer the rebuttal offered by the trained economist: Corporations don’t pay taxes, individuals pay taxes.
The corporate structure is no more than a legal fiction that enables individuals to organize and to conduct business more efficiently. Impose corporate taxes on Apple (NASDAQ: AAPL), for example, and no ethereal “Apple” being pays the taxes. The taxes are paid by Apple’s employees (lower wages), customers (higher prices), and shareholders (lower returns).
Something more insidious also occurs with the corporate income tax: capital formation is impeded.
Why does capital formation matter? Capital formation leads to higher economic growth.
The tax literature is clear that taxes on capital are destructive, much more so than taxes on labor income or on consumption (a sales tax). In fact, many economists believe a zero tax rate on capital is optimal. (If you’re interested in reading more on the subject, type “optimal capital income taxation” into Wikipedia.)
Corporations are hothouses of capital formation. A lower corporate tax rate would lead to more capital formation, more economic growth, and more earnings that culminate into more dividends.
If you think my capital-formation thesis is little more than highbrow hypothesizing, then consider corporate income taxes from an intuitive perspective: The less money corporations pay government as taxes, the more money corporations can pay to shareholders as dividends.
Tax Holiday in the Plan
A lower corporate income tax rate is good for dividends, and so is a repatriation-tax holiday. This is another aspect of Trump’s tax reforms that could offer dividends a lift.
As for repatriation-tax holiday (a lower tax rate), the script has been rewritten since the last go-around. The Wall Street Journal reports that Trump now seeks to tax foreign earnings that have accumulated in foreign countries as repatriated and charge a one-time tax.
Compared to previous incarnations of the repatriation tax reform, there is no choice: The foreign earnings get taxed whether repatriated or not, but any foreign income earned following the passage of the Trump’s plan would not be taxed by the federal government.
Under this latest rewrite, a higher level of U.S. corporate foreign earnings would continually flow home. More money, more dividends.
Love Trump or hate him, no middle ground exists, but appreciate the benefits of lower corporate income tax rates on your dividend stocks. Lower corporate income taxes could produce a surge in dividends paid on the stocks you already own. It will produce a surge in dividend-stock opportunities going forward.