Pay no tax on dividends? That can’t be possible, right? Wrong! You can pay $0 in tax on your dividends if you go about it the right way!
This is one of the best parts of dividend income.
How to do it
Firstly, there are qualified and non-qualified dividends. Non-qualified dividends come from REITs, MLPs, tax-exempt corporations, and foreign corporations. Qualified dividends mostly come from United States corporations and are subject to the same tax rates as long-term capital gains. Long-term capital gains are defined as a gain from a qualifying investment owned for longer than 12 months. If you’re in the 15% tax bracket (or below) you pay 0% tax on your long term capital gains. The 15% tax bracket for 2016 if you’re filing single is up to $37,650. If you’re married and filing jointly it is up to $75,300.
Use this to your advantage
So if you’re single and you’ve owned all your qualifying dividend stocks for over a year and they total less than $37,650 in income you’ll pay $0.00 in taxes! Another way this can be used to your advantage is if you’re approaching your $37,650 limit. For example, you bought 100 shares of Company 1 in 2012 for $20 a share. Totaling $2,000, this is your cost basis. Now in 2016 you’re approaching your $37,650 limit. Company 1 now trades for $30 per share. You sell your shares of Company 1 for a profit of $1,000 that you won’t have to pay tax on. Now you repurchase another 100 shares of Company 1 at $30.
So what?
What’s the point of this? The point is you’ve just reset your cost basis. So what? Gain is calculated by sale price minus the cost basis. Now you’ve significantly reduced your gain on Company 1 and thus giving yourself more room to increase gains and stay in the 15% tax bracket.
How much tax do you pay on your dividends every year?
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August 3, 2016 at 4:00 pm
It is certainly a good concept. One of the best ways to drive your income down to this level, after deductions, is to contribute to a pre-tax account such as a 401(k) or similar saving vehicles. I plan on doing this to hopefully get my income into this bracket to pay 0% on my dividends and gains.
August 3, 2016 at 4:12 pm
Exactly. A 401k is an excellent option another route to consider is tax deductible donations!
August 3, 2016 at 4:17 pm
Thanks for sharing these tips. They’re really useful, especially for someone who’s a little oblivious about it like me 🙂
August 3, 2016 at 4:19 pm
Of course, that’s what I’m here for! 🙂
August 3, 2016 at 8:09 pm
I get crushed on cap gains taxes…do the qualifying stocks yield decent div’s like corps? Are the speculative stocks or blue chips?
August 3, 2016 at 10:00 pm
Most regular corporations are qualified. You can research individual companies to find out further information though!
August 4, 2016 at 8:45 pm
What about the “wash rule”? Does it apply to gains?
August 4, 2016 at 8:48 pm
Good question! I’m not sure how it would apply to gains. I’ve only ever heard the wash rule applies to loses. Maybe someone else can chime in here.
August 4, 2016 at 11:29 pm
No worries about the “wash rule” since it was a gain. That only applies to losses.
August 4, 2016 at 11:50 pm
Thanks for clearing that up Annette!
August 7, 2016 at 3:31 pm
Hey I’m new to this but I would like to know how I can buy shares and how many I should buy at a company.
August 21, 2016 at 5:24 pm
You’ll have to sign up with a broker to buy shares. How many is an entirely different question. It depends on your financial situation, goals and risk tolerance.