Are Foreign Taxes Crushing Your Dividends?

Foreign stocks come with a lot of upside, but there could be a big down side when it comes to your dividends. Here's what you need to know.

Apr 21, 2014 at 2:00PM

As our era of intense globalization rages on, more and more companies are looking to reach investors outside of their own boundaries. In 2013, an estimated $1.06 trillion was held in global depositary receipts. That said, buying shares of foreign companies through American Depositary Receipts, or ADRs, is not for everyone. Today we're taking a quick look at ADRs in the beverage space to determine whether they belong in our portfolios.

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What are ADRs?
Any beer investor who has perused shares of the big beer companies on the New York Stock Exchange has likely come across a few ADRs. An ADR is essentially a certificate issued by an American bank that represents a certain number of shares of foreign company, for example Belgium's Anheuser-Busch InBev (NYSE:BUD) or the United Kingdom's Diageo (NYSE:DEO).

ADRs and the number of ordinary shares they represent can vary widely from company to company. For example, one ADR for Anheuser-Busch represents one ordinary share in the company, but one ADR for Diageo represents four ordinary shares in the company. Before you buy in, make sure you look up your company on one of two ADR-specific websites operated by JP Morgan or BNY Mellon so you know exactly what you're purchasing.

Which beverage stocks are ADRs?
According to adr.com, there are 161 companies in the "consumer non-durables" sector using depositary receipts of some kind worldwide, which includes beverage companies. When we narrow that list down to boozy ADRs we get a much smaller list of stocks, including some of the familiar names listed below:

CompanyHQDividend WithholdingExchangeTickerADR:ORD
Anheuser-Busch InBev Belgium 25% NYSE BUD 1:1
Diageo United Kingdom 0% NYSE DEO 1:4
SABMiller United Kingdom 0% OTC SBMRY 1:1
Heineken Netherlands 15% OTC HEINY 2:1
C&C Group Ireland 20% OTC CCGGY 1:3

Source: adr.com, Dow Jones

Based on this chart you can see that the New York Stock Exchange does not really dominate as the exchange of choice for these big name beverage players. Many companies will forgo listing on the American exchanges to avoid the fees and filing obligations required by the Securities and Exchange Commission. Trading "over the counter" forces companies to report to FINRA, but it does not subject them -- for better or for worse -- to the filing and reporting requirements of the SEC.

What else should investors know?
By and large, buying an ADR is a straightforward process, virtually the same as purchasing a domestic stock. Once you own an ADR, however, you will notice there is a big difference if and when dividend time rolls around.

Each foreign country has a different way of handling taxes on dividends. Some dividend tax withholding rates can be as high as 35% and as low as 0%. The motherland will take her share before the dividend hits your account, where it will then be subject to Uncle Sam's take, depending on what type of account you have it in.

Now, you can file for a foreign tax credit, but it will only cover withholding up to 15%. So if your stock is subject to foreign withholding taxes of 30%, you still lose 15% when it's all said and done. Therefore, it is crucial to know what the withholding rate will be for this particular stock before you make it the cornerstone of your dividend investment strategy. You can look up withholding rates by country here.

Bottom line
Buying foreign-based companies can add a new dimension to your portfolio, but they do require a little bit more work in the beginning, especially when it comes to dividend taxes, making it more important than ever to know exactly what you're getting when it comes to these foreign stocks.

Take advantage of this little-known tax "loophole"
Recent tax increases have affected nearly every American taxpayer. But with the right planning, you can take steps to take control of your taxes and potentially even lower your tax bill. In our brand-new special report "The IRS Is Daring You to Make This Investment Now!," you'll learn about the simple strategy to take advantage of a little-known IRS rule. Don't miss out on advice that could help you cut taxes for decades to come. Click here to learn more.

Aimee Duffy has no position in any stocks mentioned. The Motley Fool recommends Diageo (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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