Back in March, I testified before a House committee that was looking for ways to prevent Enron-style disasters. Don't bother with more nitpicking accounting rules or changes in pension regulations, I told the members.
Instead, get tough on enforcing the anti-fraud laws already on the books. And do one more thing: End the double-taxation of dividends.
Panel members were baffled, but the connection is really simple. Small investors can't plow through thousands of pages of SEC filings and dozens of footnotes in quarterly statements to determine how a company is really performing. But they can focus on a single number that distills all that information--the dividend.
A dividend is the most transparent and accurate reflection of how a company is doing. You can't easily fudge it because it's real cash out the door, not an accounting entry. And, since companies are extremely reluctant to reduce their dividends, it tends to be a reliable, conservative manifestation of long-term financial health.
Unfortunately, dividends are rapidly disappearing, and the main culprit is the tax code. Making dividends visible would go a long way toward increasing trust in financial reporting and bringing more Americans into the stock market.
A dividend is a distribution of profits that a company makes to its shareholders, typically every three months. A firm might have earnings of $4 million after taxes in a quarter. It keeps $3 million to reinvest in the company or keep in the bank. It sends the remaining $1 million to its investors. If there are 1 million shares outstanding, then each share is assigned a one-dollar dividend.
But here is where it gets tricky: Dividends are again taxed as ordinary income--currently at a top federal rate of about 39 percent, plus state taxes. Consider Maytag, the third-largest appliance maker in the U.S. It earned $2.64 per share last year. The shareholders got just 43 cents of that; governments took $1.16 in taxes; the company kept $1.05 for capital investments or to put in the bank. Maytag's dividend, before all taxes, was $1.07. The tax collectors got three-fifths of the dividend. …