Earning an extra stream of income by investing in dividend-paying stocks can be exciting. But understanding what taxes you'll have to pay on that dividend income could easily drive you insane.
Here's a breakdown of the various dividend tax rates to help you save time and money while you benefit from the power of dividend investing.
Image source: Getty Images.
Qualified dividends tax
If you're looking for a sweet tax deal, then qualified dividends should be in your portfolio. Dividends with the status of being qualified are subject to lower capital gains tax rates, giving you access to the 0%, 15%, and 20% tax brackets.
This tax perk comes with a few rules to be aware of. Here are the three main ones to obtain qualified dividend status:
- The dividend must have been paid by a U.S. corporation or a qualifying foreign company.
- The dividend must meet the IRS definition of a qualified dividend.
- The stock paying the dividend must be held by you for more than 60 days during the 121-day holding period that begins 60 days before the ex-dividend date.
Take a look at the tax brackets below to calculate how much you'll save by adding qualified dividends to your portfolio.
|
For Single Filers With Taxable Income of... |
For Married Joint Filers With Taxable Income of... |
For Married Couples Filing Separately With Taxable Income of... |
For Heads of Households With Taxable Income of... |
...This Is the 2021 Qualified Dividends Tax Rate |
|---|---|---|---|---|
|
$0 to $40,400 |
$0 to $80,800 |
$0 to $40,400 |
$0 to $54,100 |
0% |
|
$40,401 to $445,850 |
$80,801 to $501,600 |
$40,401 to $250,800 |
$54,101 to $473,750 |
15% |
|
Over $445,850 |
Over $501,600 |
Over $250,800 |
Over $473,750 |
20% |
Data source: IRS.
Ordinary dividends tax
There's a price to pay for being ordinary -- especially when it comes to dividends. All payouts that don't meet the rules for qualified-dividend tax treatment are considered nonqualified (or ordinary) dividends. You'll end up paying the same tax rates on the income you earn from working a job, which can climb as high as 37% for those in the highest income brackets.
Below are the 2021 ordinary-dividend tax rates. If you have real estate investment trusts (REITs) or master limited partnerships in your portfolio, you'll most likely receive distributions that are taxed at this higher ordinary income tax rate.
| 2021 Ordinary Dividend Tax Rate | For Single Taxpayers | For Married Couples Filing Jointly | For Married Couples Filing Separately | For Heads of Households |
|---|---|---|---|---|
| 10% | Up to $9,950 | Up to $19,900 | Up to $9,950 | Up to $14,200 |
| 12% | $9,951 to $40,525 | $19,901 to $81,050 | $9,951 to $40,525 | $14,201 to $54,200 |
| 22% | $40,526 to $86,375 | $81,051 to $172,750 | $40,526 to $86,375 | $54,201 to $86,350 |
| 24% | $86,376 to $164,925 | $172,751 to $329,850 | $86,376 to $164,925 | $86,351 to $164,900 |
| 32% | $164,926 to $209,425 | $329,851 to $418,850 | $164,926 to $209,425 | $164,901 to $209,400 |
| 35% | $209,426 to $523,600 | $418,851 to $628,300 | $209,426 to $314,150 | $209,401 to $523,600 |
| 37% | $523,601 or more | $628,301 or more | $314,151 or more | $523,601 or more |
Data source: IRS.
Net investment income tax
If you're on the higher end of the income scale, your dividend earnings may be subject to another level of taxes called the net investment income tax (NIIT). This is a 3.8% tax on certain income from investments. In addition to paying the ordinary income or qualified dividends tax, you might be required to pay NIIT if you have net investment income and modified adjusted gross income (MAGI) that exceed the thresholds shown below.
|
Tax Filing Status |
MAGI Threshold Amount |
|---|---|
|
Married filing jointly |
$250,000 |
|
Married filing separately |
$125,000 |
|
Single |
$200,000 |
|
Head of household |
$200,000 |
|
Widow(er) with dependent child |
$250,000 |
Data source: IRS.
Here's how it works: Let's say you're a single filer with earned income from your job of $175,000 and net investment income of $50,000, adding up to total MAGI of $225,000. Since the MAGI threshold amount for a single filer is $200,000, you exceed the threshold by $25,000. The $25,000 of income is the amount subject to the 3.8% tax in addition to the other dividend taxes.
Filing your tax returns
Be prepared to report the dividend income you receive every year to the IRS. Your financial institution will send you Form 1099-DIV Dividends and Distributions to make it easier for you to distinguish between ordinary and qualified dividends.
But if you want to skip taxes altogether, you can invest in a tax-advantaged retirement account such as a Roth IRA. It's the perfect way to reward yourself with tax-free dividends every year and bypass the annual tax-filing requirements.
