Citi Flag

Citigroup (NYSE:C) is one of the lowest-paying dividend stocks in the banking sector with a paltry $0.20 annual dividend -- a yield of less than 0.5% as of this writing. Many shareholders have been wondering when Citigroup will finally pay a meaningful dividend again since the bank was forced to get rid of its dividend and ask for permission to increase it every year. Here's what we know, and what may be in store for 2016.

It's not completely up to Citigroup
Since 2011, Citigroup and other U.S. banks with $50 billion or more in assets are required to submit annual capital plans to the Federal Reserve. Basically, in order to ensure another financial crisis doesn't occur, the Fed wants to be sure that the big banks have adequate capital on hand to absorb unexpected losses.

Part of the capital plan Citigroup will submit will detail the planned capital actions over the next year, including dividends and share buybacks. Based on a stress test, the Fed determines whether or not the bank can distribute its capital according to plan, while maintaining a sufficient cushion if a worst-case scenario were to occur.

The details of the stress testing and capital planning are complex, but the point is that Citigroup can ask to increase its dividend, but the Federal Reserve has the ability to say no.

The numbers certainly make a dividend increase possible
2015 wasn't a stellar year for Citigroup, or for the banking industry as a whole. Overall, Citigroup's revenue fell by 1% from 2014, driven primarily by a 6% decline in global consumer banking (GCB) revenue. However, the news wasn't all bad: Thanks to expense reduction of 21% (15% on an adjusted basis), the bank was able to produce 49% higher net income in 2015.

Asset quality and capital levels also saw improvement. Net credit losses dropped by 19% year over year, and the Citi Holdings "legacy asset" division now only has $74 billion in assets, down 43% from the end of 2014. The bank's improving capital levels are also certain to impress regulators. The common equity Tier 1 capital ratio has improved from 10.8% to 12% over the past year, and the supplementary leverage ratio now stands at 7.1%, an improvement from 5.9%.

As a result of all of this, Citigroup had a pretty efficient and profitable year. Its return on assets (ROA) of 0.94% is within arm's length of the 1% industry benchmark.

The better question: Do shareholders really want a higher dividend?
I think there is a good chance that Citigroup will be allowed to increase its dividend in 2016, and while nobody knows for sure, my best guess would be that it would about double the current payout.

However, if I were a Citigroup shareholder, I'm not sure I would want a higher dividend just yet. Management has said that share buybacks are the preferred way to return capital to shareholders, and in 2015 the buybacks represented 93% of the $8.4 billion that was returned. The emphasis on buybacks is likely to remain the case for the foreseeable future, especially after the recent share price drop.

Shareholders should be thrilled when Citigroup buys its own shares right now. As of this writing, Citigroup trades for just 67% of its tangible book value -- so the bank can essentially buy its own assets for two-thirds of what they're worth. In other words, $1 billion spent on buybacks can instantly create about $333 million in value for shareholders, which I would say is a far better use of profits than paying higher dividends.

Matthew Frankel has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.