CFA Practice Question

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CFA Practice Question

Assume the marginal ordinary income tax for an investor is 30% but for capital gains it is 15%. What would the investor prefer: $100 in dividends or $80 in capital gains?

A. $100 in dividends.
B. $80 in capital gains.
C. The investor would be indifferent.
Correct Answer: A

After taxes the $100 dividend income is worth 100 (1 - 0.30)/(1 - 0.15) = $82.35. He would certainly prefer $100 in dividends.

User Contributed Comments 3

User Comment
REITboy Isn't $100*(1-30%)=$70,
while $80*(1-15%)=$68?
joywind the same thing... two way to look at it
ericczhang I don't think it's the same thing, actually... $70 would be the gross proceeds of the dividends, while $82.35 is the economic oppurtunity cost.

Oppurtunity cost is $82.35 because you lose 30% in income taxes, but you avoid 15% in capital gains tax from company reinvestment of dividend. Although this implicity assumes you're going to sell the equity this year.
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