Federal Income Tax on Stock Dividends
Dividends paid from stock ownership is treated as normal income and should be lumped in with all other taxable income. In this case, dividends are amounts paid on a per-share basis on stock that permits the owner to share in the firm's profits. This is no obligation for the firm to do this, but it is often used as a means of rewarding long-term stock holders and to keep these long-term owners from selling their stocks. The IRS, in addition, also includes profit from the sale of stock as a "dividend."
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The only big issue that comes up when figuring taxes on stock dividends is whether or not the stock in question is paying a "qualified dividend." In this case, the income tax rates can be either 15 or 0 percent. Qualified dividends are assessed on the amount of time you own the stock that is now paying dividends. If the normal income tax rate you will pay this year is over 25 percent, you owe only 15 percent on the stock dividend. If your rate is lower than 25 percent, you pay no tax on the stock dividend. In addition, the stock in question must be traded in one of the United States' major stock exchanges.
Qualified Dividend
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What marks a qualified dividend is that the owner must have held the stock for at least 60 days prior to the date the firm announced its dividend payment. If you own preferred stock, the holding period goes up to 90 days. When figuring the holding period, never count the day you bought the stock, but you can count the day you sell the stock.
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Conditions
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Stock dividends that cannot come under the "qualified" label include sales of stock for which you are under a contractual obligation to sell. In addition, any short selling cannot claim qualified status. For those days that you fell under any of these labels, you cannot count them as part of your holding period. Any dividends paid from account money in U.S. or foreign banks or credit unions can never be considered "qualified dividends."
Misconceptions
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Capital gain distributions can never be considered dividends in any way. Often, mutual fund distributions are called "capital gain distributions" and should never be placed under "income." These are capital gains only and come under that prevailing rate. In addition, if you are granted stock in exchange for dividends, this stock should be listed under income and paid under the normal rate.
Non-Dividend Payments
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A non-dividend payment is when money is paid based on stock ownership that does not derive from firm profits. If a dividend is paid that reduces the value of the stock proportionate to the dividend, it is not taxed, since, technically, it is not income. When the stock reaches its full normal value, any cash generated from that basis can be taxed, but never before.
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