What Is a Qualified Dividend?
Ordinary dividends are those dividends issued to the stockholders of domestic companies and some qualified foreign companies. A qualified dividend is an ordinary dividend that meets the criteria to receive the capital gains tax treatment.
Learn more about qualified dividends and what they mean for your investments and taxes.
- A qualified dividend is an ordinary dividend that meets the criteria to be taxed at the lower capital gains tax rates.
- Qualified dividends must meet special requirements put in place by the IRS.
- The maximum tax rate for qualified dividends is 20%; ordinary dividends are taxed at income tax rates, which for the 2022 and 2023 calendar years, has a maximum rate of 37%.
Watch Now: What Are Qualified Dividends?
Understanding Qualified Dividends
Dividends are separated into two classes by the IRS. A dividend is an ordinary dividend if you have held the stocks for less than 61 days in the 121-day period that began 60 days before the ex-dividend date. The ex-dividend date is one business day before a dividend is declared.
If you purchase it on or before that date and hold it for 61 days or more before the dividend, it is a qualified dividend, which "qualifies" it for the lower capital gains tax rate.
For example, imagine you owned XYZ stock, which declared a dividend payment on Nov. 21 (a Monday). The ex-dividend date is one business day before this date, so that is Nov. 18, the previous Friday. If you bought XYZ stock less than 60 days before Nov. 18 and received a dividend, it is counted as ordinary income.
If you bought XYZ stock more than 60 days before Nov. 18, you'd receive the next dividend as a qualified dividend if you held it for at least 61 days in the 121-day period before the next dividend. You'd then pay the capital gains tax rate on the dividend.
The ex-dividend date is also important for receiving dividends. If you purchase stock before the ex-dividend date, you'll be eligible to receive the next dividend. If you purchase it after the ex-dividend date, you won't receive the next dividend.
To qualify for the maximum tax rates of 0%, 15%, or 20% that apply to long-term capital gains, qualified dividends must meet other requirements, as outlined by the Internal Revenue Service:
- The dividend must have been paid by a U.S. company or a qualifying foreign company.
- The dividends are not listed with the IRS as those that do not qualify.
- The required dividend holding period has been met.
Where to Find Qualified Dividends
IRS Form 1099-DIV, Box 1a, Ordinary Dividends, shows all dividends you've received. Qualified dividends are listed in Box 1b on form 1099-DIV and are the portion of ordinary dividends from Box 1a that meet the criteria to be qualified dividends.
Qualified Dividend Tax Treatment
Qualified and ordinary dividends have different tax implications that impact your net return. The tax rate is 0% on qualified dividends if your ordinary income is taxed at 10% or 12%. If you pay income tax rates at 12% (for married filing jointly with incomes between $89,251 to $553,850 and $44,626 to $492,300 for single filers), you'll have a 15% tax rate on qualified dividends. If your income exceeds this, your capital gains tax will be 15%.
Note also that there is an additional 3.8% Net Investment Income Tax (NIIT), applicable if you have a modified adjusted gross income exceeding $200,000 for single filers, $250,000 for married filing jointly, and $125,000 for married filing separately.
Other Qualifying Dividend Requirements
A foreign corporation qualifies for the special tax treatment if it meets one of the following three conditions: the company is incorporated in a U.S. possession, the corporation is eligible for the benefits of a comprehensive income tax treaty with the United States, or the stock is readily tradable on an established securities market in the United States. A foreign corporation is not qualified if it is considered a passive foreign investment company.
Dividends That Do Not Qualify
Some dividends are automatically exempt from consideration as qualified dividends. These include dividends paid by real estate investment trusts (REITs), master limited partnerships (MLPs), employee stock options, and those on tax-exempt companies. In addition, dividends paid from money market accounts, such as deposits in savings banks, credit unions, or other financial institutions, do not qualify and should be reported as interest income.
Special one-time dividends are also unqualified. Lastly, qualified dividends must come from shares not associated with hedging, such as those used for short sales, puts, and call options. These investments and distributions are subject to the ordinary income tax rate.
Holding Periods for Other Investments
Preferred stock has a different holding period than common stocks. You have to hold preferred stock for more than 90 days during a 181-day period that starts 90 days before the ex-dividend date.
The holding period requirements are somewhat different for mutual funds. The mutual fund itself must have held the security unhedged for at least 61 days of the 121-day period, which began at least 60 days before the security's ex-dividend date. To receive capital gains tax treatment in your mutual fund, you must have held the applicable share of the mutual fund for the same period.
What It Means for Investors
For most everyday investors, whether a dividend will be qualified or not is usually a non-issue. This is because most regular dividends from U.S. corporations are considered qualified. Nonetheless, particularly if you're focused on foreign companies, REITs, MLPs, and other investment vehicles indicated above, the difference between qualification and the alternative can be significant when it comes time to calculate taxes.
On the other hand, there isn’t much you can do to have a bearing on whether or not your dividends will be considered qualified. The most important action you can take is to hold stocks for the minimum holding period as stipulated by the type of stock detailed above.
Why Are Qualified Dividends Taxed More Favorably Than Ordinary Dividends?
Qualified dividends are taxed at the same rate as long-term capital gains, lower than ordinary dividends, which are taxed as regular income. This was done to incentivize companies to reward their long-term shareholders with higher dividends; it also incentivizes investors to hold their stocks for longer to collect dividend payments.
What Are the Requirements for a Dividend to Be Considered Qualified?
The stocks that pay the dividends must be held for at least 61 days within a 121-day period that begins 60 days before the ex-dividend date, which is the first date following the declaration of a dividend on which the holder is not entitled to the next dividend payment. The number of days includes the day the recipient sold the stock but not the day they acquired it, and they cannot count days during which the "risk of loss was diminished," according to IRS rules.
How Do I Know If the Dividends I've Received Are Qualified or Not?
Your broker will break down the qualified and ordinary dividends that are paid to you and are reported in separate boxes on the IRS Form 1099-DIV that your broker will send you each tax year. Ordinary dividends are reported in box 1a, and qualified dividends in box 1b.
Correction—Nov. 9, 2022: A previous version of this article incorrectly defined ordinary dividends as being "nonqualified dividends." Dividends are classified as ordinary or qualified by the IRS; there is no "nonqualified" classification. Qualified dividends are ordinary dividends that meet the criteria to be treated as capital gains for tax purposes.
Correction—Jan. 24, 2023: A previous version of this article incorrectly listed the modified adjusted gross incomes subject to the 3.8% Net Investment Income Tax (NIIT) as $125,000 and $200,000 for single filers and "all others," respectively. The actual modified adjusted gross incomes were $200,000 for single filers and $125,000 for married filing separately.