David Drakar and Leslie O’Rourke both own 100 shares of stock in a German corporation that makes €1.00 per share in pre-tax income. The corporation pays out all of its income as dividends. Drakar is in the 30% individual tax bracket while O’Rourke is in the 40% individual tax bracket. The tax rate applicable to the corporation is 30%. Drakar and O’Rourke live in the United Kingdom, which uses an imputation tax system for corporate dividends. What is the effective tax rate on the dividend for each shareholder, assuming no effects from the exchange rate? Drakar O’Rourke A) 40% 48% B) 38% 44% C) 30% 40%
C?
Earnings before tax = 100 Earnings after tax = 70 Dividend received by investor = 70 Credit allowed under imputation system = 30 O’Rourke tax = 70*.4 = 28 - 30 = -2 Drakar tax = 70*.3 = 21 - 30 = -9
I also think it is C. The imputation tax system has a tax credit so that you end up paying the tax rate of your domestic country, so they each pay their own invididual tax rate.
C
What’s the answer OP?
Answer is C. I somehow calculated the effective tax rate as : Drakar: 1-(1-.3)*(1-.3) = 51% O’Rourke: 1-(1-.3)*(1-.4) = 58% and got it wrong!
anupamjain008 Wrote: ------------------------------------------------------- > Answer is C. I somehow calculated the effective > tax rate as : > > Drakar: 1-(1-.3)*(1-.3) = 51% > > O’Rourke: 1-(1-.3)*(1-.4) = 58% > > and got it wrong! That formula can only be used for double taxation and split rate. I got thrown off since the effective tax rate for the imputation method does not include the corporate tax credit. So effective tax rates are as follows: O’Rourke = 28/70 = .40 Drakar = 21/70 = .30
So if your tax bracket is higher than the corp tax bracket, u effectively pay your tax bracket, correct? Because you’re getting a tax credit for the difference. If your tax bracket is lower than the corp tax bracket, then you have to pay a tax payment for the difference. Is that right?
JP, do You mean if your tax bracket is HIGHER than the corporate rate , you have to pay the difference . Of course. That’s the tax system isn’t it ? You pay marginal rates on income.
JP_RL_CFA Wrote: ------------------------------------------------------- > So if your tax bracket is higher than the corp tax > bracket, u effectively pay your tax bracket, > correct? Because you’re getting a tax credit for > the difference. > > If your tax bracket is lower than the corp tax > bracket, then you have to pay a tax payment for > the difference. > > Is that right? Are you referring to the imputation method? Stalla actually says the opposite. Individuals with lower taxes actually benefit from more dividends under imputation, while the opposite holds true for individuals in higher tax brackets (see pgs. 93-94). It won’t affect the effective tax rate calculation since it is calculated before the corporate tax credit.
janakisri Wrote: ------------------------------------------------------- > JP, do You mean if your tax bracket is HIGHER than > the corporate rate , you have to pay the > difference . > > Of course. > > That’s the tax system isn’t it ? > > You pay marginal rates on income. Yea ur right. Sorry it was getting late there when I made that post. It’s beneficial for you to be in a lower tax bracket because you pay your individual tax bracket on dividends.