Tax-free dividends? Yes, but no

George Bush’s rationale for making dividends tax-free has just enough truth in it to not be a lie. Yes, it is true that not just a wealthy few but many families and retirees with modest incomes own stocks and receive dividends. And yes, it is true that if those dividends were tax-free, many of these modest-income shareholders would spend some of the increase in their disposable incomes on purchases they would not otherwise have made, thus stimulating, however slightly, the economy.

But the really big money in making dividends tax-free won’t be going into the economy, it will be going into the pockets of those enormously wealthy individuals and families who have huge fortunes invested in dividend-paying companies. These zillionaires aren’t going off on a shopping spree if the tax on their dividends is eliminated. They haven’t been holding back because of a lack of disposable income. They already own all the vacation homes and private airplanes they can use. The only thing people in their income bracket can do with increased income is add it to their investment portfolios. Which means that the most tangible effect of removing the tax on dividends will be to make America’s wealthiest investors wealthier.

But the double taxation of dividends is clearly wrong. Taxing dividends twice – first when the corporation earns the profit out of which it pays the dividends, and a second time when the shareholder declares the dividend on his income tax – is not only unfair in principle, but also has a decidedly negative effect on business: It encourages corporations to take on more debt than they would have needed to incur if they were permitted to deduct the dividends they pay to shareholders the way they can deduct the interest they pay to banks.

Making dividends tax-free to investors does nothing to correct this problem. Making dividends a tax-deductible business expense to the paying company does. Making dividends tax deductible at the corporate level would increase the after-tax earnings of every profitable dividend-paying company in America, providing the increased cash flow these corporations need to expand current projects, initiate new projects, hire new workers – steps that are critical to the restoration of the economic growth that is so important for the financial well-being of the people on whom the health of our economy has always depended – employees, suppliers, customers and – yes, investors too.

Tax-free dividends for wealthy investors? No. End the double taxation of dividends? Yes.

Kenneth Mason is the retired president of a dividend-paying corporation. He resides in Sunset.