J. Kent Poff

(University of North Georgia, Dahlonega, GA 30597, USA)

 

 

Abstract: The capital gain and dividend tax rate for higher income taxpayers increased from 15% to 23.8% in 2013. Increasing the tax on capital assets is thought to decrease investment, but some disagree. This research addresses the issue by constructing a mathematical model of an investment, deriving the effective tax rate, and analyzing the changes in the effective tax rate when the capital gain and dividend tax rate changes. This research has three basic findings. First, increasing the capital gain and dividend tax rate unambiguously increases the effective tax rate, unlike an increase in the capital gain tax rate alone. Second, an increase in the capital gain and dividend rate increases the effective tax rate for stocks that increase or decrease in value. Finally, an increase in the capital gain and dividend tax rate increases the effective tax rate for stocks that pay an increasing or decreasing dividend. These results show that a change in the capital gain and dividend rate is neutral with respect to the creation of new capital (that tends to rely on growth) or buying and selling mature capital (that tends to pay a larger dividend). While the overall amount of capital available may decline because of an increase in capital gain and dividend rates, there is no distortion between new firms and mature firms.

 

 

Key words: effective tax rate; capital gain; dividend; distortion

 

JEL codes: H21, K34, C60