When will a distribution be a 'dividend' and who bears the tax burden?

After Congress added the “qualified dividend income” provisions of Section 1(h)(11) to the Code as part of JGTRRA in 2003, all of the strategies previously employed by tax advisors for “converting” dividend income into capital gains suddenly were rendered largely obsolete. At least through the close of the 2008 tax year, qualified dividend income will be included in net capital gain. As a result, such income will be taxed at the preferential rates previously associated exclusively with such capital gains. Planning for the tax consequences of dividends, once limited to definitional and timing considerations (and, for corporate shareholders, the dividends-received deduction), now must factor in the preferential rates afforded to “qualified dividends.” Careful implementation of a dividend strategy can ensure that the tax burden is borne by the intended party and at the least cost.