Federal Taxation of Qualified Dividends
Dividends can be taxed at different rates
Qualified dividends are a type of investment income that's generated from stocks and mutual funds that contain stocks. They represent a share of corporate profits paid out to investors, and they're considered taxable income by the Internal Revenue Service. This presents some special considerations at tax time regarding filing requirements and various applicable taxes.
What Is a Qualified Dividend?
Dividends can be taxed at either ordinary income tax rates or at preferred long-term capital gains tax rates. Dividends that qualify for long-term capital gains tax rates are referred to as "qualified dividends."
An investor must hold or own the stock unhedged for at least 61 days during the 121-day period that begins 60 days before the ex-dividend date for the dividends to be considered qualified.
Ordinary dividends are more common, and they should be clearly designated as such.
The holding period can be longer for preferred stock. These assets must be held for at least 91 days during a 181-day period that begins 90 days before the ex-dividend date. This rule applies if the dividends result from time periods exceeding 366 days.
Tax Treatment of Qualified Dividends
The tax treatment of qualified dividends has changed somewhat since 2017 when they were taxed at rates of 0%, 15%, or 20%, depending on the taxpayer's ordinary income tax bracket. Then the Tax Cuts and Jobs Act (TCJA) came along and changed things up effective January 2018.
The rates are still set at 0%, 15%, and 20%, but now long-term gains have their own tax brackets. They're no longer tied to ordinary income brackets.
As of the 2020 tax year, you'll fall into the 0% long-term capital gains tax rate for qualified dividends if:
- Your income is $40,000 or less if you're single
- Your income is $80,000 or less if you're married and you file a joint return with your spouse
- Your income is $53,600 or less if you qualify as head of household.
The 15% tax bracket kicks in at incomes above the 0% thresholds up to:
- $441,450 for single filers
- $469,050 for head of household filers
- $496,600 for married filers of joint returns in 2020.
Only taxpayers with incomes in excess of the 15% thresholds are faced with the 20% capital gains tax rate as of 2020.
Ordinary dividends are taxed as ordinary income according to a taxpayer's tax bracket.
Other Types of Dividends
Ordinary dividends are taxed exactly the same way and at the same rates as your salary, wages, or other earned income.
You might also receive dividends from a trust or an estate, from an S-corporation, or from a partnership. Regardless of whether the corporation or partnership pays you in cash, stock options, or tangible property, the transaction still represents dividends and the value must be reported on your tax return.
You should receive Schedule K-1 for dividends from these sources. All other dividends are reported to investors on Form 1099-DIV.
Reporting Dividend Income: Form 1099-DIV
Form 1099-DIV is issued to investors by mutual fund companies, brokers, and corporations when $10 or more in dividend income is paid out during the year. Form 1099-DIV reports dividends information in the following places:
- Box 1a: Ordinary dividends reflecting the total amount of dividends paid to you
- Box 1b: Qualified dividends – the portion of total dividends that qualify for the preferred capital gains tax rate
- Box 3: Non-dividend distributions, which are a nontaxable return of capital
Some investors opt to have taxes withheld from their dividends. These amounts will appear in box 4.
Dividends are typically ordinary unless a Form 1099-DIV specifically states otherwise.
Reporting on Form 1040
Report dividend income on your 2019 tax return in the following places:
- Ordinary dividends are reported on Line 3b of your Form 1040.
- Qualified dividends are reported on Line 3a of your Form 1040.
Be sure to use the Qualified Dividends and Capital Gain Tax Worksheet found in the instructions for Form 1040 to calculate the tax on qualified dividends at the preferred tax rates.
Non-dividend distributions can reduce your cost basis in the stock by the amount of the distribution.
You must still report dividend income on your tax return even if you don't receive a Form 1099-DIV for some reason.
Dividends are taxable regardless and must still be reported if you reinvest them, purchasing additional stock.
Using Schedule B
Schedule B is a supplemental tax form used to list interest and dividend income from multiple sources. Using Schedule B is required if you have over $1,500 in interest income and/or dividends.
Part 1 details bank interest earned, and Part 2 pertains to dividend payments.
It can be helpful to use the form to tally up your interest and dividends for reporting on Form 1040 even if you're not required to file it with your tax return.
Other Taxes—The Additional Medicare Surcharge
Dividend income can also prompt the Additional Medicare Tax, which has been in place since the 2013 tax year. This tax is in addition to any income tax you might pay on your dividends.
You must pay an additional 0.9% of your net investment income toward this Medicare tax if you're single with a modified adjusted gross income (MAGI) of $200,000 or more, or if you're married and your MAGI is more than $250,000. The income threshold is $125,000 if you're married but file a separate return.
The Net Investment Income Tax
The Net Investment Income Tax (NIIT) is a heartier 3.8%. It kicks in at the income thresholds of your net investment income or at the same limits as for the Additional Medicare Tax, whichever is less.
All taxable dividends are considered investment income, even if they're taxed at ordinary rates.
Tax laws change periodically. You should always consult with a tax professional for the most up-to-date advice. The information contained in this article is not intended as tax advice and it is not a substitute for tax advice.
IRS. "2020 Instructions for Form 1099-DIV," Page 1. Accessed Jan. 24, 2020.
The Tax Foundation. "2020 Tax Brackets," Page 4. Accessed Jan. 24, 2020.
IRS. "Instructions for Form 1099-DIV (2020)." Accessed Jan. 24, 2020.
IRS. "1040 and 1040-SR Instructions," Pages 22-23. Accessed Jan. 24, 2020.
IRS. "2019 Instructions for Schedule B," Page 1. Accessed Jan. 24, 2020.
IRS. "Topic No. 560 Additional Medicare Tax." Accessed Jan. 24, 2020.
IRS. "Questions and Answers on the Net Investment Income Tax." Accessed Jan. 24, 2020.