Are Reinvested Stock Dividends Taxable?

As an investor, it is possible for you to collect thousands of dollars in dividend payments over the course of one year. These dividends may be reinvested back into the stock market to compound wealth at even faster rates. Tax considerations, of course, are a critical element of the wealth creation process. Be advised that all cash dividends feature the same tax ramifications, whether they are reinvested or not.

Types

• Corporations can issue both stock and cash dividends to shareholders. Stock dividends pay you with additional shares of stock. Stock dividends carry no tax implications when they are received. Stock dividends, however may affect your portfolio's realized capital gains over time. You are responsible for taxes on realized capital gains when you sell shares at a profit. Investors are more so familiar with cash dividends, which are paid out of corporate profits.

Identification

• To understand the tax ramifications of cash dividends, you must first become familiar with the dividend payment schedule. The dividend payable schedule includes ex-dividend and payable dates. You must buy and hold shares of stock before and through the ex-dividend date in order to receive dividends on the payable date. The dividend payable date generally falls one month after the ex-dividend date. Corporation investor relations departments have specific dividend payment information for their corporation.

Features

• For tax purposes, dividends are defined as either ordinary or qualified dividends. As of 2010, ordinary dividends are taxed at ordinary income rates of 10, 15, 25, 28, 33 and 35 percent. Alternatively, qualified dividends receive preferential tax treatment, and are either tax-free or taxed at maximum 15 percent rates. As a single filer, your qualified dividends will be tax-free if you made less than $34,000 in taxable income. For qualified dividends, you must own shares of stock for at least 61 days out of the 120-day period surrounding their ex-dividend date.

Considerations

• At tax season, you will receive an IRS 1099-DIV form from your brokerage, which summarizes your dividend income over the past year. The 1099-DIV does categorize cash dividends into ordinary and qualified dividends. With this information, complete IRS Schedule D and Form 1040 to report and pay taxes on your dividends.

Strategy

• Through retirement accounts, you can defer taxes related to reinvested dividends. Special retirement accounts include 401k, Traditional IRA and Roth IRA plans. Retirement accounts allow for tax-deferral, where you do not owe taxes on any investment growth, until you actually withdraw money from these accounts. In exchange for these benefits, you cannot take money out of retirement accounts until age 59 1/2 without being subject to a 10 percent tax penalty.

  401k and Traditional IRAs allow for pretax contributions that reduce your current taxable income. Upon withdrawal at retirement, your 401k and Traditional IRA balances are taxed as ordinary income. Alternatively, you fund a Roth IRA with after-tax money. Roth IRA withdrawals are consequently tax-free at retirement.