Question:
Consider a U.S. corporation with a corporate income tax rate of 40 percent. The corporation needs to report as taxable income only 30 percent of dividends received from other corporations—that is, it takes a 70 percent deduction on that type of dividend income in calculating taxes owed. Assume that both capital gains and reported dividends (dividends net of any deductible amount) are taxed at 40 percent. What is $1 of dividends worth in terms of capital gains for such a corporate investor?
answer:
Because 70 percent of the dividend is excluded from taxation, the effective tax rate on dividends, TD, is 0.4(1 ?? 0.7) ?? 0.12. Thus, a $1 dividend is worth (1- 0.12)/(1 - 0.4) = $1.47 of capital gains for the corporate investor described.
(Level II Volume 3 Corporate Finance , 5th Edition. Pearson Learning Solutions 141).
$1 dividend, deduct taxable part = 1-1*0.3*0.4=1-0.12
$x? capital gain, deduct taxable part = x-x*0.4
To make them equally profit earned,
1-0.12=X-X*0.4, calculate X
