Will There Be a Dividend Paid Deduction
Nov 25, 2017
Under current law, a corporation pays a tax and then the shareholder will pay an additional tax on any dividends paid by the corporation. There is no deduction to the corporation for these dividends.
The Senate Finance Committee has a provision in their bill allowing for a deduction for dividends paid. Currently, this deduction rate is zero, therefore, it is a moot point. However, if the Senate and the House is unable to get the corporate tax rate all the way down to 20%, this may be a way for them to get the net tax rate to the same result.
Let's go over an example:
Suppose Farmer Jane owns 100% of ABC Farm Corporation. If the corporation earns $100 under current law, the corporation owes $35 of tax for a net retained earnings of $65. If the corporation pays a dividend to Jane of $65, then Jane will owe 23.8% on this dividend or $15.47 of tax. This results in Jane finally getting $50 of the $100 earned by the corporation. This is why it is called a double tax.
Now, let's assume the 20% top rate goes through. In this case, the corporation will have $80 after-tax and then it pays a $80 dividend to Jane. The tax on this is about $19 resulting in Jane have $61 after tax (an $11 improvement over current law).
Now, let's assume that the corporate tax rate only falls to 25% and there is a 15% dividend paid deduction for the corporation. If the corporation pays the same $80 to Jane, its taxable income is now $100 less $12 ($80 X 15%) or $88. 25% of this number is $22, leaving the corporation with $78. It is not quite equal to a tax rate of 20%, but it is fairly close.
Even though the current deduction is set at zero, this provision is in place to provide for a deduction either to get a corporate rate not quite to 20% of allow for a deduction at a later point in time.
We will keep you posted.