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There’s a new 1% tax on stock buybacks — here’s what it means for your portfolio
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THERE’S A NEW 1% TAX ON STOCK BUYBACKS — HERE’S WHAT IT MEANS FOR YOUR PORTFOLIO

Published Fri, Aug 19 202212:44 PM EDTUpdated Fri, Aug 19 20229:31 PM EDT
Kate Dore, CFP®@katedore
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Key Points
 * When a profitable public company has excess cash, it can purchase shares of
   its own stock on the public market or make an offer to shareholders, known as
   a stock buyback.
 * The Inflation Reduction Act includes a 1% excise tax on this practice,
   beginning in 2023.
 * But there are mixed views on how it may affect investors.

U.S. President Joe Biden gestures as he delivers remarks on the Inflation
Reduction Act of 2022 at the White House in Washington, July 28, 2022.
Elizabeth Frantz | Reuters

The new 1% excise tax on corporate stock buybacks — a late addition to President
Joe Biden’s sweeping tax, health and climate package — adds a new levy to the
controversial practice.

But there are mixed views on how it may affect investors.



The Inflation Reduction Act provision levies a 1% excise tax on the market value
of net corporate shares repurchased starting in 2023.


HOW STOCK BUYBACKS WORK

When a profitable public company has excess cash, it can purchase shares of its
own stock on the public market or make an offer to shareholders, known as a
stock buyback or share repurchase.  

It’s a way of returning cash to shareholders, explained Amy Arnott, portfolio
strategist at Morningstar, and more widely used than dividends, a portion of
company profits regularly sent back to investors.

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If overall shares are reduced, stock buybacks may also boost earnings per share,
one method of measuring a company’s financial performance.



However, critics have argued buybacks often come with the new issuance of stock
options for executives and other employees. Adding new shares can negate some,
or all, of share reduction benefits for regular investors from buybacks.


‘BUYBACK MONSTERS’ DRIVE THE TREND

With low interest rates boosting profits and values, S&P 500 companies bought
back a record $881.7 billion of their own stock in 2021, up from $519.8 billion
in 2020, according to S&P Global data.

A significant percentage comes from a handful of so-called “buyback monsters,”
with five companies — Apple, Google parent Alphabet, Facebook parent Meta,
Microsoft and Bank of America — making up one-quarter of the dollar value of
stock buybacks over the past year. 

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HOW THE 1% TAX ON STOCK BUYBACKS MAY AFFECT INVESTORS

While the full impact on the stock market isn’t yet known, experts have mixed
opinions on how the provision may affect individual portfolios.

“I don’t think it should have a major impact on investors,” Arnott said. But at
the margins, companies with excess cash may be “slightly more likely” to pay
dividends than buy back shares, she said.

It’s estimated that a 1% tax on share repurchases may trigger a 1.5% increase in
corporate dividend payouts, according to the Tax Policy Center.   

And increased dividends may have an unexpected impact, depending on where
investors are holding these assets, said Alex Durante, federal tax economist at
the Tax Foundation.

“People with taxable accounts may potentially be impacted,” he said.

Of course, the shift from buybacks to dividends may also change the expected tax
revenue, Durante added.

The provision is expected to raise about $74 billion over the next decade,
according to recent estimates from the Joint Committee on Taxation.

However, since the new law won’t kick in until Jan. 1, 2023, some experts
predict companies will accelerate “tax-free” stock buybacks through 2022,
especially with stock prices still well below previous values. 

General Motors on Friday announced it will resume and boost share repurchases to
$5 billion, up from $3.3 billion previously left from the program. And Home
Depot on Thursday announced a $15 billion share buyback program.

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