When Dividends Pay Dividends

For most taxpayers, the fiscal cliff deal made permanent the 15% rate on dividends and long-term capital gains -- for investments longer than a year -- that had been temporary since the Bush tax cuts of the early 2000s. Though the recent deal raised those rates to 20% for taxpayers with incomes exceeding $450,000 for filers of joint returns, and $400,000 for single filers, this is still low compared to ordinary income tax rates that apply to interest earnings, salaries and other income. That rate is as high as 35% for taxpayers not in those high brackets, and 39.6% for those who are. With the "temporary" label removed from dividend and capital gains tax rates, investors can feel more secure about long-term commitments to dividend-paying stocks, Siegel says.

"If you buy for dividends, you should not worry so much about day-to-day fluctuations in the stock market," Siegel states. Bogle concurs, noting that long-term investors should not fixate on the ups and downs of their stock prices, but should instead focus on the dependability -- or lack of volatility -- of dividend payments. Because firms are loathe to cut dividends, he adds, that income stream is quite reliable -- suitable for part of the holdings investors might otherwise keep in bonds. "I like dividends," Bogle says. "If you're talking about a fairly assured [income] stream, I think they're a reasonable option."

Source: Knowledge @ Wharton

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