Question

Which of the following statements is correct?A) Under our current tax laws, when investors pay taxes on their dividend income, they are being subjected to a form of double taxation.B) The fact that a percentage of the interest received by one corporation, which is paid by another corporation, is excluded from taxable income has encouraged firms to use more debt financing relative to equity financing.C) A corporation's payments for capital—interest and dividend payments—are tax deductible; therefore, the government does not encourage companies to use one form of financing over the other.D) If the tax laws stated that $0.50 out of every $1.00 of interest paid by a corporation was allowed as a tax-deductible expense, companies would use more debt financing than they presently do, other things held constant.E) In order to avoid double taxation and to escape the frequently higher tax rate applied to capital gains, stockholders generally prefer to have corporations pay dividends rather than to retain their earnings and reinvest the money in the business. Thus, earnings should be retained only if the firm needs capital very badly and would have difficulty raising it from external sources.

Answer 1

Answer:

The answer is: A) Under our current tax laws, when investors pay taxes on their dividend income, they are being subjected to a form of double taxation.

Explanation:

A general complain by investors is that many times they suffer from double taxation.

If a corporation pays out dividends, it means that it has already paid its corporate income tax. Dividend payments are based on net profit (after taxes are paid).

Once an investor gets his dividends, they generally are included in their gross income. Some qualified dividends are taxed at lower rates. But whatever the rate used, they are being taxed again.

This happens since corporations exist as separate entities from their stockholders, so the corporation and the stockholders are taxed separately.