Did the Fiscal Cliff Deal Destroy Dividend Stocks?

We survived. On Dec. 31, Congress screeched to a halt and narrowly avoided a fiscal cliff free fall. But even though markets are up and we've been told we should be celebrating, there's still a lot of number crunching to be done. Let's take a look at some dividend-dealing stocks and see how their newly taxed profits hold up for your portfolio.

No more nightmares
There's bad news and good news. The bad news is that dividend tax rates increased, but the good news is that it could've been much worse. Before the cliff fix, effective rates could've jumped from 15% to as high as 43% for those in the highest tax bracket.

With a bit of bilateral finagling, Congress agreed to a flat 20% rate for any dividend-derived income. That's a hefty increase of five percentage points over the previous rate, but it only applies to individuals and joint filers earning $400,000 and $450,000, respectively.

Number crunching
After the Great Recession, injured investors crawled to dividend stocks as a more stable form of income. But, in the past year, many corporations with high dividend yields have felt their stocks squeezed as Mr. Market prepared for the worst.

Now that Wall Street's worst nightmares turned out to be nothing more than a made-up monster under the bed, let's see how a $1,000 investment holds up to Congress' new dividend tax.

Company

Dividend Yield

15% Tax Loss

20% Tax Loss

Tax Difference

Atlantic Power (NYSE: AT  )

10.1%

$15.15

$20.20

$5.05

Exelon (NYSE: EXC  )

7.1%

$10.65

$14.20

$3.55

First Energy (NYSE: FE  )

5.3%

$7.95

$10.60

$2.65

Duke Energy (NYSE: DUK  )

4.7%

$7.05

$9.40

$2.35

Southern Company (NYSE: SO  )

4.5%

$6.75

$9.00

$2.25

Consolidated Edison (NYSE: ED  )

4.3%

$6.45

$8.60

$2.15

Dominion Resources (NYSE: D  )

4.1%

$6.15

$8.20

$2.05

National Grid (NYSE: NGG  )

4.0%

$6.00

$8.00

$2.00

NextEra Energy (NYSE: NEE  )

3.4%

$5.10

$6.80

$1.70

Source: Yahoo! Finance and Author's Calculations

Every dollar counts, but it's hard to argue that the new tax hike should have a significant effect on investment decisions. Even for Atlantic Power's 10.1% yield, Uncle Sam only pockets an extra five bucks for every $1,000 invested. For a company like NextEra that's investing heavily in itself, the new dividend hike ends up amounting to just $1.70.

Wise words
In a 1789 letter, Benjamin Franklin wrote: "Our new Constitution is now established, and has an appearance that promises permanency; but in this world nothing can be said to be certain, except death and taxes."

Famed investor Warren Buffet postulated similar prose in a New York Times opinion article 223 years later:

Suppose that an investor you admire and trust comes to you with an investment idea. "This is a good one," he says enthusiastically. "I'm in it, and I think you should be, too."

Would your reply possibly be this? "Well, it all depends on what my tax rate will be on the gain you're saying we're going to make. If the taxes are too high, I would rather leave the money in my savings account, earning a quarter of 1 percent."

For Mr. Franklin, taxes are inevitable. Mr. Buffett's rational addendum argues that, in spite of taxes, good investments are still good investments. The high dividend utilities listed above are perfect examples of a marginalized sector with plenty of hidden gems. In the past year, utilities have underperformed the S&P 500 (SNPINDEX: ^GSPC  ) by more than 13%, even as some corporations have been setting themselves up for sustainable profits.

^SPX Chart

^SPX data by YCharts

Dive into dividends
Benjamin Franklin and Warren Buffett know best. Congress avoided the fiscal cliff, dividend taxes bumped but didn't soar, and the markets lived to see another day. Make your investment decisions based on more than a fear of taxes, and you'll have taken the first step to pulling in long-term profits for your portfolio.

Exelon is the perfect example of a company that has a lot more going for it than its 7.1% dividend yield. As the nation moves increasingly toward clean energy, one company in this space that is perfectly positioned to capitalize on having the largest nuclear fleet in North America is Exelon. This strength combined with an increased focus on renewable energy, along with its recent merger with Constellation, puts Exelon and its best-in-class dividend on a short list of top utilities. To determine if Exelon is a good long-term fit for your portfolio, you're invited to check out The Motley Fool's premium research report on the company. Simply click here now for instant access.


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  • Report this Comment On January 03, 2013, at 2:25 PM, NewHampshireFool wrote:

    National Grid has a dividend yield well above 4%. They are unusual in their dividend payout, and it confuses most analysts. Their dividend payout is essentially Annual, but they dole out about 35 - 40% of what they estimate the annual dividend to be, and pay it out in January. Then in August the dole out the balance. Look at their pay date history and you will see what I mean. If you look at last August (2012) , and this January, the annual dividend yield will be roughly $3.17 on the current share price of 57.20 (Jan 3'13) which is over 5.5%.

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