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Strategies & Market Trends : Value Investing -- Ignore unavailable to you. Want to Upgrade?

To: Bob Rudd who wrote (16139)	1/11/2003 3:58:32 AM
From: Don Earl	Read Replies (1) \| Respond to of 78573

Bob, I'd pretty much picked up on that part from this article Paul posted a few days ago: forbes.com The real twist is in these paragraphs: <<<A company's earnings are only eligible for tax-free distribution to the extent that the company actually paid taxes to the Internal Revenue Service the year before. So if you own shares in a company that generates lots of cash but pays little to the IRS--say, because it issues a lot of stock options, claims a lot of tax credits or makes aggressive use of dicey tax shelters--you may not benefit. This is highly significant because, in recent years, the gap between what companies report as earnings to shareholders and the lesser amount they report to the IRS has become a chasm. The Bush plan wisely makes a point of only rewarding the shareholders of companies who actually are forking over some cash to the Treasury. The object is to eliminate the double taxation of earnings at the corporate and then the individual level--not to make them tax-free at any level.>>> Aside from the paperwork headaches, the real kicker is GAAP goes bye-bye, and distributed and/or retained earnings are the amounts reported to Uncle Sam. All of a sudden a whole lot of light gets shined into those dark little corners where expenses are capitalized as assets, and equipment is still on the books years after its useful life is over. The potential impact on earnings ratios and credit ratings is almost too ugly to imagine.

To: Bob Rudd who wrote (16139)	1/15/2003 5:18:41 AM
From: Bob Rudd	Read Replies (2) \| Respond to of 78573

Dividend article: At the risk of repetition, I offer this fairly lucid [IMO] description of the plan and implications: >>1/14/03 FRIEDMAN BILLINGS: Proposed Capital Gains Tax Change Levels the Playing Field: Some fears have been voiced that President Bush`s proposal to eliminate taxes on dividends at the individual level may end up causing companies to pay dividends with funds that would otherwise have been reinvested back into the business (to make capital expenditures, etc.) and thus could actually end up harming the economy. To us, these fears seem misplaced for several reasons. A thus far little publicized aspect of the President`s plan is a provision that, in effect, eliminates the capital gains tax from being applied, at the individual level, to earnings that have already been taxed once at the corporate level. The intent of the provision is, seemingly, to keep companies that decide to retain earnings from being placed at a disadvantage relative to companies that pay out earnings in the form of dividends. Based on a conversation with a representative of the Treasury Department, our understanding of this provision is that retained earnings, which are eventually "monetized" by investors by selling shares at a higher price, would be tax free for individuals, just like dividends (or "non-retained" earnings) would be tax free for individuals. For example: An investor buys a stock for $10. Over the period of time that he owns the stock, the company has retained earnings (i.e., earnings that are not paid out as dividends) of $2. The investor sells the stock for $12. The investor would owe no capital gains tax because the amount of his gain equaled the amount of earnings the company retained during the investor`s holding period. If the investor, instead, sold the stock for $13 dollars, he would have a taxable capital gain of $1 (total capital gain of $3 less retained earnings of $2 = $1). At a 20% capital gains tax rate, the total tax owed would be $0.20. This provision would presumably eliminate any bias in favor of paying out dividends versus retaining earnings. In our view, if the President`s plan is enacted, companies will not necessarily feel undue pressure to increase nominal dividend payouts, anyway. For investors who had previously been paying taxes on dividend income at the top 38.6% marginal income tax rate, eliminating the income tax on dividends would raise the effective, after-tax, yield on those same dividend payments by 62.8%. The pressure on companies to increase the nominal amount of dividend payments would, we think, be greatly mitigated by the fact that the government had already raised the effective after-tax yield by such a large amount. We would also note that companies that did divert funds that really should have been retained (to make capital expenditures, etc.) to paying dividends would likely not benefit in the long-run. True, if the tax on dividends is eliminated, or even just reduced, the dividend yield will likely (and seemingly has already) become a more important stock market metric. However, we doubt that the P/E metric will go totally by the wayside. Generally speaking (with perhaps some exceptions), companies that do not reinvest in their businesses will not grow, and thus their multiples would contract. Thus, companies that attempt to increase their stock price by "overpaying" on dividends would likely, in the end, be penalized via a lower market multiple. We would also surmise that a company that fails to reinvest when it really ought to be doing so will be surpassed by its competitors, and that the viability of that company`s dividend would ultimately come into question. CONCLUSION: This capital gains tax "detail" of the President`s stimulus plan is, in our view, potentially just as important as the proposal to eliminate taxes on dividends at the individual level and, if enacted, would be a very positive development for the equity markets.