President Joe Biden’s comprehensive tax, health, and environment package now includes a new 1% excise tax on corporate stock buybacks, which imposes a new fee on the divisive practice.
On how it would impact investors, though, there are differing opinions.
Starting in 2023, a section of the Inflation Reduction Act imposes a 1% excise tax on the market value of net corporate shares repurchased.
How share buybacks operate
A successful public business can buy its own stock on the open market or make an offer to shareholders, which is known as a stock buyback or share repurchase, when it has extra cash.
It’s a method of giving money back to shareholders that is more popular than paying dividends, according to Amy Arnott, portfolio strategist at Morningstar. It involves consistently giving investors a percentage of firm profits.
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Stock repurchases may increase earnings per share, one metric used to assess a company’s financial success, if total shares outstanding are decreased.
But detractors contend that buybacks frequently coincide with the issuing of new stock options to executives and other workers. The gains of share reduction for regular investors from buybacks may be offset in part or whole by the issuance of new shares.
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According to S&P Global statistics, S&P 500 businesses bought back a record $881.7 billion of their own shares in 2021, up from $519.8 billion in 2020, as low interest rates increased profitability and stock values.
Five businesses — Apple, Google parent Alphabet, Facebook parent Meta, Microsoft, and Bank of America — account for one-fourth of the dollar value of stock buybacks during the past year, making them a considerable portion of the total.
How investors may be impacted by the 1% tax on stock buybacks
Although the entire effects on the stock market are still unknown, analysts have differing views on how the provision may impact specific portfolios.
Investors shouldn’t be significantly impacted, according to Arnott. However, she added that on the margin, businesses with extra cash may be “somewhat more inclined” to pay dividends than to repurchase shares.
According to the Tax Policy Center, a 1% tax on share repurchases might result in a 1.5% rise in corporate dividend payments.
Additionally, depending on where investors keep these assets, rising dividends might have an unexpected effect, according to Alex Durante, a federal tax economist at the Tax Foundation.
People who have taxable accounts “may possibly be affected,” he said.
Naturally, Durante continued, the switch from buybacks to dividends may also alter the anticipated tax revenue.
According to recent projections from the Joint Committee on Taxation, the provision is anticipated to generate nearly $74 billion in revenue over the following ten years.
Although the new rule won’t go into effect until January 1, 2023, some industry experts believe businesses will speed up “tax-free” stock buybacks through 2022, especially given that stock prices are still much below their earlier levels.
GM stated on Friday that share repurchases would continue and be increased to $5 billion from the previous $3.3 billion. Additionally, on Thursday, Home Depot disclosed a $15 billion share repurchase plan.