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So if I'm understanding you correctly, a dividend is just as good as a buyback from the POV of a shareholder but a buyback is preferred because it makes options

So if I'm understanding you correctly, a dividend is just as good as a buyback from the POV of a shareholder but a buyback is preferred because it makes options holders more money. If this is the case, can you explain why there are companies that issue dividends at all? Are these companies that are paying their execs with few options? How are buybacks a tax dodge? If they have the desired effect of boosting share price, then there will be increased taxes paid by shareholders when those positions are exited, no?

judk 12y ago
Dividends are taxed immediately. Stock buybacks are unrealized gains.
- hkmurakami 12y ago
  to expand, since Dividends are taxed immediately, you can only reinvest the nontaxed portion, whereas with buybacks, you effectively reinvest the entirely amount and can have better compound returns. Also, some people will need dividends for cash flow needs.
  - nandemo 12y ago
    I think that's mistaken. You can invest the not-yet-taxed amount, but eventually you're gonna pay the tax. The real advantage (apart from the lower rate) is that the taxes are deferred.
im3w1l 12y ago
With buybacks your profit is taxed once. With dividends, you first pay tax on your dividends. When you reinvest your dividends, you then pay tax again on the return of those reinvested dividends, and so on. Let's see what happens to two companies, one of which pays 10% dividend each year, and the other which increases in price 10% each year. Use a tax rate of 15%. The first company: Every year we get 10% dividend, pay 15% tax on that, have 8.5% post tax dividend. Reinvest in company. value = initial * (1.085)^nyears The second company: Every year it increases in value by 10%. If we ever were to sell we would have to pay 15% tax on appreciation. value = initial + initial * (1.1^nyears-1) * 0.85
- crazycanuck 12y ago
  This isn't really the issue. See my comment above, which in your example translates to the tax rate in company one's scenario being ~2x the rate in company two's.
crazycanuck 12y ago
While both are indeed taxed, dividends are taxed as ordinary income, whereas gains from sale of stock are considered and taxed as capital gains. In the US at least, the capital gains rate is somewhere around 1/4 to 1/2 of the ordinary income rate, so it's much more "tax efficient" to do a buyback than to pay dividends.
- im3w1l 12y ago
  Uh, what about Qualified Dividends? http://en.wikipedia.org/wiki/Qualified_dividend http://en.wikipedia.org/wiki/Qualified_dividend
  - crazycanuck 12y ago
    Very good point, I was unaware these were still in effect (haven't been a US tax payer in several years).
- ElComradio 12y ago
  In the popular media the impression is that dividends are not taxed as ordinary income. The reason those evil rich trust fund guys pay lower taxes than the secretary etc.

judk 12y ago

Dividends are taxed immediately. Stock buybacks are unrealized gains.

hkmurakami 12y ago
to expand, since Dividends are taxed immediately, you can only reinvest the nontaxed portion, whereas with buybacks, you effectively reinvest the entirely amount and can have better compound returns. Also, some people will need dividends for cash flow needs.
- nandemo 12y ago
  I think that's mistaken. You can invest the not-yet-taxed amount, but eventually you're gonna pay the tax. The real advantage (apart from the lower rate) is that the taxes are deferred.

im3w1l 12y ago

With buybacks your profit is taxed once. With dividends, you first pay tax on your dividends. When you reinvest your dividends, you then pay tax again on the return of those reinvested dividends, and so on. Let's see what happens to two companies, one of which pays 10% dividend each year, and the other which increases in price 10% each year. Use a tax rate of 15%. The first company: Every year we get 10% dividend, pay 15% tax on that, have 8.5% post tax dividend. Reinvest in company. value = initial * (1.085)^nyears The second company: Every year it increases in value by 10%. If we ever were to sell we would have to pay 15% tax on appreciation. value = initial + initial * (1.1^nyears-1) * 0.85

crazycanuck 12y ago
This isn't really the issue. See my comment above, which in your example translates to the tax rate in company one's scenario being ~2x the rate in company two's.

crazycanuck 12y ago

While both are indeed taxed, dividends are taxed as ordinary income, whereas gains from sale of stock are considered and taxed as capital gains. In the US at least, the capital gains rate is somewhere around 1/4 to 1/2 of the ordinary income rate, so it's much more "tax efficient" to do a buyback than to pay dividends.

im3w1l 12y ago
Uh, what about Qualified Dividends? http://en.wikipedia.org/wiki/Qualified_dividend http://en.wikipedia.org/wiki/Qualified_dividend
- crazycanuck 12y ago
  Very good point, I was unaware these were still in effect (haven't been a US tax payer in several years).
ElComradio 12y ago
In the popular media the impression is that dividends are not taxed as ordinary income. The reason those evil rich trust fund guys pay lower taxes than the secretary etc.