Coming tax changes: what it means for dividend stocks and real estate

On November 26, 2012 by Phil Champagne

By Phil Champagne, Managing Partner at Wren Investment Group

Since the Bush Tax cuts, dividends have been taxed at a rate of 15%, helping to improve on the net returns to stock investors. This unfortunately is about to change drastically in 2013 with a much higher tax rate on dividends going up as far as in the 30%+.


taxes (Photo credit: 401(K) 2012)

Meanwhile, real estate will keep benefiting from the depreciation schedule and the ability to re-invest without capital gain tax using 1031 exchange. Considering returns on blue chip stocks have yields in the 3% to 4% at best and that real estate benefits with lower interest rate, we may expect additional incentive for investors to look towards real estate.

We surely understand the frustration. These low tax rate on dividends allowed a good income, now it will impact it substantially. Someone with a yearly $100,000 cash inflow from dividends will see taxes going from $15,000 to more than $30,000.This means going net the year from $85,000 down to $60,000.

Assuming the investor decides to sell these stocks in 2012 (while the capital gain tax rate have not climbed up yet) and this investor invests in real estate with a cash on cash return at a conservative 8% will see a cash flow of $170,000 before tax. Because of the depreciation tax deduction, this investor might not pay a dime in taxes. In essence, this will mean this investor moving from $60,000 for the 2013 year after tax to $170,000 in such scenario – hence more than doubling the income after tax.

Side Note: we assume the investor with a $100,000 dividends yearly was on a 4% dividend yield. The value of the stock would then be $2,500,000 and subject to capital gain of 15%, hence $2,125,000 left to reinvest in real estate. With a real estate investment providing a cash on cash return of 8%, the new net income would then be 8% of $2,125,000 or $170,000. Assuming depreciation was sufficient to deduct all gains, the after tax income would stay the same for the first few years.  With so much advantages for real estate, this additional tax change makes it even more interesting for next year.

If you are interested to learn more, you are welcome to contact us.

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