Key Takeaways
- Dividends taxed as ordinary income up to 37%.
- No holding period required for ordinary dividends.
- Common from REITs, MLPs, and money market funds.
What is Ordinary Dividends?
Ordinary dividends are distributions of a corporation's earnings paid to shareholders that do not qualify for the lower tax rates applied to qualified dividends. These dividends are typically taxed at your ordinary income tax rates, which can range from 10% to 37% depending on your tax bracket.
They represent the default category of dividend payments reported on IRS Form 1099-DIV, specifically in box 1a, and differ from qualified dividends that meet specific IRS holding period and issuer requirements.
Key Characteristics
Ordinary dividends have distinct features that affect their taxation and reporting:
- Tax Treatment: Taxed as ordinary income rather than capital gains, impacting your overall tax liability.
- Issuer Types: Often paid by C corporations, real estate investment trusts, and some mutual funds that do not meet qualified dividend criteria.
- Holding Period: No minimum holding period is required to receive ordinary dividends.
- Reporting: Dividends are reported on IRS Form 1099-DIV in box 1a, with qualified dividends separately noted in box 1b.
- Sources: Includes dividends from money market funds, banks, and some foreign corporations.
How It Works
When you receive ordinary dividends, they are paid out from the profits of companies or other entities and recorded as taxable income on your federal tax return. Unlike qualified dividends, ordinary dividends do not require you to hold the stock for a specific period to receive favorable tax treatment.
Because ordinary dividends are taxed at your marginal income tax rate, this can significantly affect your after-tax return, especially if you invest in dividend-paying stocks or funds. Understanding the distinction helps you plan your portfolio to optimize tax efficiency.
Examples and Use Cases
Ordinary dividends appear in various investment scenarios and from multiple types of issuers:
- Airlines: Companies like Delta and American Airlines often distribute ordinary dividends, which investors should expect to be taxed at ordinary income rates.
- Mutual Funds and ETFs: Some funds paying dividends, including those featured in the best dividend ETFs, may distribute ordinary dividends if they do not meet qualified dividend criteria.
- Specialized Investments: Real estate investment trusts and master limited partnerships typically pay ordinary dividends due to their structure.
Important Considerations
When managing your portfolio, recognize that ordinary dividends can increase your taxable income and potentially push you into a higher tax bracket. Careful planning, including understanding the differences between dividend types, is essential for effective tax management.
Also, be aware of obligations related to dividend payments, such as dividend payment timing and reporting requirements, to maintain compliance and optimize your investment outcomes.
Final Words
Ordinary dividends are taxed at your regular income rate, often higher than qualified dividends, so it's important to identify their impact on your tax bill. Review your dividend income and consider consulting a tax professional to optimize your portfolio’s tax efficiency.
Frequently Asked Questions
Ordinary dividends are payments made from a corporation's earnings that do not meet the IRS criteria for qualified dividends. They are taxed at your regular income tax rates, which can range from 10% to 37%.
Ordinary dividends are taxed as regular income without a special holding period requirement, while qualified dividends benefit from lower capital gains tax rates and require holding the stock for at least 60 days within a 121-day period.
Ordinary dividends commonly come from sources like REITs, master limited partnerships (MLPs), money market funds, banks on deposit interest, and certain foreign corporations that do not meet qualified dividend rules.
Ordinary dividends are reported on IRS Form 1099-DIV in box 1a as total ordinary dividends, and you include this amount on line 3b of your IRS Form 1040 when filing taxes.
No, ordinary dividends do not require a minimum holding period, unlike qualified dividends which generally require holding the stock for more than 60 days during a 121-day window.
Yes, mutual funds often distribute dividends where a portion may be qualified and the remainder ordinary. For example, if a fund pays $2,000 in dividends with $1,500 qualified, the remaining $500 is taxed as ordinary dividends.
Ordinary dividends are taxed at your standard income tax rates because they don't meet the IRS criteria for qualified dividends, which are taxed at the lower long-term capital gains rates to encourage longer stock holding.
Yes, in addition to federal taxes, ordinary dividends may also be subject to state income taxes depending on your state's tax laws.
