How Are Dividends Taxed?

When I log into my taxable brokerage account, I look up the dividends paid so far this year, and I find the following: NATURAL RESOURCES ROYALTY (HGT) $8.28. QUALIFIED DIVIDEND (MCD) $12.15. Notice there are different types of dividend income payments. As with dividends from REITS, the natural resources royalty paid by Hugoton Royalty Trust does not receive the qualified dividend treatment that the dividend from McDonald's does. Qualified dividends paid by most public companies like McDonald's, Starbucks, General Electric, etc., receive a special tax treatment that is usually much lower than the investor's marginal rate. Most investors, like yours truly, get to pay just 15% tax on qualified dividends. On the other hand, if the investor's marginal bracket is 33%, he would keep only 67% of an ordinary dividend paid by a REIT or a natural resources royalty paid by a royalty trust. However, if the investor's marginal bracket is 39.6%, he also gets nailed with a 20% tax on qualified dividends--not 15%. So, while most investors pay 15% on qualified dividends, the wealthiest investors now pay 20%. And, investors whose marginal bracket is no higher than 15% pay a tax rate on qualified dividends of . . . zero percent. What does any of this mean to an investor? Well, if he's only getting $12.15 quarterly from Micky Dee's, not much. But, if he were receiving $120,150 quarterly on top of a decent salary, that would push him into the 39.6% bracket, and he'd be keeping 80%, not 85% of that income. How much difference would that 5% make? Enough to buy his daughter a new baby-blue Subaru. Real money. To Mitt Romney, it means no more 13.7% tax rate. He'll continue to live mostly on qualified dividends, but that will start him out at 20%, not the kinder, gentler, 15%. Again . . . real money. One thing is clear, when Democrats call the new tax code changes a "tax on millionaires and billionaires," we now see how dubious the claim is. First, the 39.6% marginal bracket and the associated 20% tax on dividends kicks in on the income above around $400,000 a year--is that anyone's definition of a "millionaire-and-billionaire"? Also, the true millionaires-and-billionaires out there can, like Mitt Romney and Warren Buffett, live mostly on qualified dividends, so that whole 39.6% marginal bracket is meaningless--you can bump it up 5 points, but they're still paying 20% or less on their dividend income. When the tax-hiking Democrats change the tax code like this, they end up hitting folks in the middle brackets much more. Folks living paycheck to paycheck don't receive a lot of dividend income, so when politicians push the "millionaires and billionaires" up to higher brackets, the folks below them get pushed up, too. Since they live paycheck-to-paycheck, bumping the rate they pay on that income hits them square in the face. Because of the 15% tax on my qualified dividends, I now fund my taxable account regularly, the way most people fund their IRA. In addition to my SIMPLE IRA contribution, I make sure to put more and more $ into my taxable account, where I try to buy mostly dividend-paying stocks. By the time I retire, I hope to collect a decent income stream on these dividends and keep 85% of it. And, if I sell any stocks for a long-term capital gain, I keep 85% of that, too. While it's nice to build up the SIMPLE IRA, all withdrawals from there will be taxed as ordinary income. So, as you can see, the changes to the tax code make the taxable brokerage account something worth considering in addition to true retirement accounts.

Suitability of Investment Recommendations - Free Online Class

Suitability of recommendations is an important part of your Series 7 exam. Use the link at the end of this brief post to sign up for a FREE class starting in just a few hours. We'll break down 10 practice questions similar to what will show up on your test, and we'll dig into key concepts including: time horizon, liquidity needs, investment objective, and risk tolerance as they relate to various investment vehicles. Sign up now!

How to Calculate Tax-Equivalent Yield for a Series 7 Question

When an investor has found two 10-year bonds, both rated A-, should she invest in the 6% tax-free municipal bond or the 8% taxable corporate bond?

The answer depends entirely on her marginal tax rate. A test question could go something like this . . .

When deciding between a 6% tax-free bond and an 8% taxable bond, at which marginal bracket does an investment in the tax-free bond become advantageous?

A. 20%

B. 25%

C. 30%

D. 33%

In order to figure out the tax rate that first makes the 6% bond more attractive, you''ll have to keep taking the .06 the bond pays and divide it by .80, then, .75, then .70, and maybe even .67 until the tax-equivalent yield ends up higher than 8%. What happens when we take .06 divided by .75? We get a tax-equivalent yield of .08, which is exactly the same as what the corporate bond offers. Not surprisingly, when we take .06 and divide it by .70 (30% marginal bracket), we find that the tax-equivalent yield is now 8.57%, making C our answer. Yes, at 33% the investor should also be buying the municipal bond, but the question asked at which bracket the yield begins to rise above 8%. As always, the Series 7 expects you to do more than memorize a few terms and try a few little tricks to fudge your way through it.Pass your Series 7

The Often Overlooked Unit Investment Trust

Most Exchange-Traded Funds (ETFs) are set up as unit investment trusts that are only redeemable into large "creation units" by the broker-dealers who sponsor them. Everyone else trades the shares, which seek to mimic the performance of a particular index. That's all well and good, but the UIT that intrigues me is the fixed portfolio of preferred stock or bonds that has no investment adviser and, therefore, no management fee. A portfolio of, say, 50 preferred stock issues is purchased and placed in trust overseen by the trustee, who pays out the income produced by the securities in the portfolio after trustee and administrative fees have been deducted. Your exam might refer to such a UIT as a "supervised, non-managed portfolio, typically of fixed-income securities." That's exactly what it is, and since I'm pretty sure that trading in and out of preferred stocks is both expensive and unnecessary, I see no reason to pay an investment adviser to manage/trade the portfolio.
So, what's stopping me? Interest rates. Yields are still so low at this point that I can't get excited over parting with a large chunk of change just to watch 2-3% yields dribble in. I've told myself that when I can get a 5% yield or higher, I will start buying in. As your test wants you to know, my risk is that interest rates will keep climbing after I buy in--the value of my units will drop if that happens. Then again, I would still be collecting a decent yield from preferred stock, and I can check the credit quality of the issues and let the trustee handle it from there.
A likely test question on a UIT would point out that these securities are primarily regulated under the Investment Company Act of 1940.Need Help with your Series 7?

Traditional IRA or Roth IRA?

Even though individuals have until the tax filing deadline next April to make all of their contributions to a Traditional or Roth IRA, really it would be wiser to start thinking about that stuff now, before the holiday spending begins. Which one is best for you--Traditional IRA or Roth IRA?
Depends.
Do you make a decent six-figure income? If so, the Roth is not an option. If not, however, the Roth IRA is a great option for people who want to put away some money now that will come out tax-free in retirement. So, basically, if you have a job and are making less than $100,000 your tax planner will likely concur that you can make your maximum contribution to a Roth IRA--at least $5,500 currently.
Are you covered by a retirement plan at work? If not, you could instead fund a Traditional IRA, and it doesn't even matter how much money you make. Seriously. If you work for a n employer with no retirement plan, you can almost certainly maximize and deduct your contribution to a Traditional IRA. As always, check with a CPA first.
Just yesterday I was talking to a woman who is 59 and has very little saved up for retirement. After an extended set-back after losing a job and then taking a new one that paid about 1/2 of what she used to make, she is about to get re-hired by a good company with a 401(k) plan. In order to catch up, she needs to maximize her 401(k) option, which would let her put aside up to around $20,000 between her and her employer's contributions. Since she'll never earn $100,000, she can also take advantage of a Roth IRA. The Traditional IRA for her is not attractive, as her 401(k) participation plus her income level (around $70,000) will remove her ability to deduct a contribution to a Traditional IRA.  She could  put an after-tax contribution into a Traditional IRA, but I see no reason to do that, not when her income is well south of the cut-off for Roth contributions. Need help with your Series 7

But, How Do I Take the Series 7 Exam Itself?

Any textbook worth its salt lists the terminology tested on your exam. Most explain most of the main concepts reasonably well, depending on how much time you have for re-reading and highlighting.

Regardless, what few vendors do is show you how to take the series 7 exam itself--how to deal with the challenging questions. How do you take all those words and numbers you memorized and apply them to questions that are often trying to mislead you?

If you need help working practice and exam questions for the Series 7, you simply have to get our $49 access to test-taking skills lessons. For just $49, you get access to over 25 recording sessions that break down 10 unique practice questions step-by-step. Hit PAUSE to do the question. Hit PLAY to watch us break it down for you.

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Series 7 Online Classes Starting Soon

It has come to my attention that most people studying for the Series 7 could use a little help from a structured class. They need a schedule to stick to. They need a time and a place they have to be, or else. That's why we've set up a seven-week online class schedule launching September 10th allowing you to take in key Series 7 information in small, digestible bites. With the ability to watch the material again if you need, and--best of all--to participate in live Q & A sessions with the author of Pass the 7, me.

Classes will run two or three times a week at 12 noon Central for about 90 minutes. The final 30 minutes will be the live Q & A with the author, me, R Walker. To see the schedule and get on the bus, please click this link:

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Examzone and www.passthe7.com are one-in-the-same, by the way. Examzone focuses more on corporate accounts while www.passthe7.com focuses on the end-user. Either way, hope to see you online, soon.

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