The corporate tax has long been a "double" tax
I was not aware you guys still had the double tax - we have imputation credits (called franking credits in Australia), with any dividends paid being able to carry tax credits up to the rate of the corporate tax (to the extent it was paid by the corporate). In essence, the dividend is tax free (to a level of 33%) to the investor. Probably explains why our market has a gross dividend yield of about 7%.
If you eliminate or significantly reduce personal income tax rates on dividends, I would argue that the double taxation either goes away, or is largely alleviated.
Very true.
The flat tax has implications for corporate governance, also. In the current environment most corporations don't issue dividends, they plow back excess profits as retained earnings and reinvest in the business.
Presumably as (a) there is a double-tax penalty to distributing profits, and (b) lets them build a bigger empire
You're an investment banker, right?
Sorta. Yeah. Just me and another guy now (no more big bank) so I work less. I'm investment banking-lite. I guess I'm writing a prospectus right now (when not reading this, haha), so I must be a big important investment banker
Dressed in jeans and a t-shirt.
So you have probably run the model that shows the impact on equity value of distributing the dividend vs. retaining it and committing to a positve net present value project. With a tax on dividends, the corporation makes the decision FOR YOU-- the earnings yield on an internal project doesn't have to be as high
I am pretty sure this is right. Easiest way is to imagine if they instead paid the dividend and asked you to reinvest the funds in the same project (after being clipped for tax). You are obviously worse off.
Anyway, consider the effect of a zero tax on dividends in empowering the shareholder to be more active in reviewing the actions of the board, and the activities of management. . . Joe shareholder says, if you can't find a way to increase EPS, then give me my damn money back and I'll go find somebody who will! Management wakes up and realizes that they had better come up with some positive NPV projects or they are going to find the well drying up real fast.
Interesting line of thought. It could raise the bar for the company WRT to the positive NPV projects. I wonder what it does to expected returns (eg CAPM).
I think it is important to make the distinction as to who actually owns the assets - and in particular who is the marginal investor (the one in the company's mind when it makes its decisions). I see a few possibilities:
- 0% tax payers (unlikely - they don't have the money to be, in aggregate, a material owner of the stock market)
- 10% tax payers - possibly.
- mutual funds etc ----> I don't know what tax they pay? Corporate tax? Tax related to their investors?
This could make mutual funds tax inefficient if they pay the corporate rate. There could be a huge shift in the investment base.
Another thought
I guess I am also thinking about small companies etc too. Is there a strange incentive to avoid company structures to avoid tax? Does an owner/employee just pay themselves a dirty great big wages cheque and reintroduce as capital (if they want to grow the business rather than withdraw cash), rather than have positive profits and retained earnings in the company?
I guess I just get the feeling there would be some unforseen effect causing a dramatic decrease in the amount collected as corporate tax. We all know we'd start looking for loopholes if there was such a huge gap...