It's so important for you to know the dividend type before making an investment. Dividends are a great way to earn passive income however, you will need to pay taxes on any dividends you make.
The exact dividend tax rate you pay will depend on what kind of dividends you have. Non–qualified dividends are taxed at the regular federal income tax rate.
Qualified dividends get the benefit of lower dividend tax rates because the IRS taxes them as capital gains.
Dividends aren't free money, they're usually taxable income. But how and when you own an investment that pays them can dramatically change the dividend tax rate you pay.
If you don't hold the shares long enough, the IRS might deem them nonqualified, and you'll pay tax at the higher, non–qualified rate.
There are several kinds of stocks that are structured to pay high dividend yields and may come with higher tax obligations because of their corporate structures. The two most common are Real Estate Investment Trusts, or (REITs),.... and Master Limited Partnerships, or
(MLPs). Most dividend stocks pay "qualified" dividends, which, depending on your tax bracket, are taxed at a rate of 0% to 20%. That range is significantly lower than the ordinary income tax rates of 10% to 37% or more (an additional 3.8% tax is levied on certain investment income for the highest earners).
The difference in these rates can be substantial. Tax rates you'll pay for qualified dividends versus non–qualified dividends.
Please don't let all this tax talk overwhelm you. It's just a part your wealth building journey.
The primary benefit of qualified dividends is that they "qualify" to be taxed at the same rate as the long–term capital gains rate, whereas non–qualified or ordinary dividends are taxed at the higher ordinary income tax rate, often referred to as your marginal tax rate.
Here's a rough breakdown of the difference in the tax rate you'll pay for qualified dividends versus non–qualified regular dividends:
*If you are in the 15% or lower bracket, you pay 0% tax on qualified dividends.
*If your tax bracket is above 15% but below the top 39% tax bracket, you pay 15% on qualified dividends.
*If you are in the top 39.6% tax bracket, you pay 20% on qualified dividends.
The 0%, 15%, and 20% tax rate might look familiar to some of you who are active in the investing world right now. These are the long–term capital gains tax rates.
These tax rates are what investors pay on gains for any stock investment they've held for at lease one year. For qualified dividends you gain this same tax rate advantage.
"Earning dividend income is a great way to build long–term wealth. It rewards the patient investor, who's willing and able to buy great companies."