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Dividends: What now?
If President Bush's plan goes through, investors will have to rethink portfolio management.
January 9, 2003: 10:12 AM EST
By Adam Lashinsky, CNN/Money Contributing Columnist

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PALO ALTO, Calif. (CNN/Money) - Okay, enough about politics; I've been called every name in the book (from "courageous" to "Marxist") since my last piece pooh-poohing the president's dividend tax cut ran here Monday.

Let's focus instead on what it means to each of us as investors.

Should the president's proposed elimination of taxes that investors pay on dividends be enacted by Congress, whole institutions and investments theories will be stood on their heads. (And even if full elimination doesn't pass, some reduction in the tax probably will.)

All of a sudden, tax-free municipal bonds and tax-deferred investment accounts like IRAs won't look so attractive to tax-averse investors. (401(k) plans will remain a boon because employees put pre-tax income into them, therby avoiding taxes for years.) By the same token, companies that pay dividends will suddenly look more attractive. Why plow my money into some restricted account or fixed-rate security when I can get the same bang from a dividend-paying stock whose proceeds also will be tax free?

Dividend-paying stocks absolutely can, should and will become more attractive. Don't mistake my policy perspective for a diss on dividends. If more companies start returning a bigger portion of their profits to investors, that's a good thing. And if I'm not going to be taxed on the dividends I receive, I'll definitely shift some of my savings into taxable accounts.

An interesting near-term fallout from all of this is that companies with generous dividends have become investor darlings. That makes sense for the truly optimistic.

It's unlikely tax-free dividends will be a reality before 2004. But it's the companies that currently don't pay dividends and have lots of cash that really should be attractive. If investors demand dividends, those are the companies most likely to start paying them. (Oracle (ORCL: Research, Estimates) was the first such company to jump on this bandwagon -- see more.)

But there's more to this picture...

Here's the inevitable "on the other hand" part of this column. There's more than one reason you buy a municipal bond. One certainly is for its tax-free status. The other is that it's generally pretty safe, seeing as it's backed by a government with taxing authority.

Stocks -- no matter how seductive the dividend yield attracted to it -- remains equity. That means it can go down. The typical high-dividend-paying stock is a mature, cash-flow-oriented, often brand-name company. (Think: Kodak, Phillip Morris, Caterpillar.)

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But great names can and do fail. Just because your current tax-free investments are protected and tax free doesn't mean your future investments will be.

When it comes to retirement funds, there's also the psychological benefit of their restrictions. That money is trapped until you're 59 1/2. You're not supposed to touch it, without paying penalties. Say what you will about investor independence, having discipline as an investor is tougher than it looks.

There's also a value to deferring your taxes. Trade a bunch of high-dividend stocks today in your taxable account and you'll still pay capital gains taxes now. Do it in your IRA account and you'll only pay income taxes when you retire -- when your income tax rates are at their lowest.

No one said this stuff would be easy. And more than ever, the decisions are yours. Whatever the political merits, the president's plan is about to give you many more decisions to make.

Minor memos from the dot-com world

A related product plug. I keep much of my retirement savings and current investments at Vanguard, the low-cost mutual fund purveyor extraordinaire. Vanguard offers a product it calls Consolidated View, which in turn is a Web service offered by a startup called CashEdge.

With CashEdge, I enter into Vanguard's secure (I hope) site the user names and passwords for all of my other savings accounts (banking, checking, brokerage, other mutual fund companies, etc.), and CashEdge automatically grabs my information and updates it at one site -- Vanguard -- all the time. I love having the ability to view all my investments at once. It's a time saver, and it's good for planning purposes -- letting me quickly see if I've got too much in one sector.

A handful of other financial firms use CashEdge. Here's a list. Another private company that offers a similar service is Yodlee, whose clients include Charles Schwab and American Express.

All former dot-commers (myself included) rejoice when they see one of the brethren land at a prestigious post. Credit Electronic Data Systems (EDS: Research, Estimates) for not omitting Webvan Group from the resume of its new CFO, Robert Swan. The 42-year-old Swan left General Electric to chase dot-com riches for two years at the doomed online grocery. He proves that having Internet stardust in one's eyes doesn't diminish one's more admirable qualities. Swan left Webvan in 2001 to become CFO at TRW, which Northrop Grumman bought last year.


Adam Lashinsky is a senior writer for Fortune magazine. Send e-mail to Adam at lashinskysbottomline@yahoo.com.

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.