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Unformatted text preview: which has been
treated and taxed as capital gains. Consequently, dividend payments create a tax
disadvantage for investors and should reduce the returns to stockholders after personal
taxes. Stockholders should respond by reducing the stock prices of the firms making these
payments, relative to firms that do not pay dividends. In this scenario, firms will be better off
either retaining the money they would have paid out as dividends or repurchasing stock.
The double taxation of dividends –– once at the corporate level and once at the
investor level ––has not been addressed directly in U.S. tax law until very recently2, but it
has been dealt with in other countries in a couple of ways. In some countries, like Britain,
individual investors are allowed a tax credit for the corporate taxes paid on cash flows paid
to them as dividends. In other countries, like Germany, the portion of the earnings paid out
as dividends are taxed at a lower rate than the portion reinvested back into the firm.
Dividends are good: The Clientele and Signaling Stories
Notwithstanding the tax disadvantages, many firms continue to pay dividends and
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This note was uploaded on 01/17/2012 for the course ECON 101 taught by Professor Econnorm during the Spring '11 term at Art Institutes Intl. Minnesota.
- Spring '11