Question

Assume that it is 2008. You purchased CSH stock for ​$33 one year ago and it is now selling for ​$44. The company has announced that it plans a ​$11 special dividend. You are considering whether to sell the stock​ now or wait to receive the dividend and then sell.

a. Assuming 2008 tax​ rates, what​ ex-dividend price of CSH will make you indifferent between selling now and​ waiting?

b. Suppose the capital gains tax rate is 20 % and the dividend tax rate is 38 %​, what​ ex-dividend price would make you indifferent​ now?

a. Assuming 2008 tax​ rates, what​ ex-dividend price of CSH will make you indifferent between selling now and​ waiting?  

In​ 2008, the capital gains tax rate is 15 % and the dividend tax rate is 15 %. The tax on a ​$11 capital gain is ​$​     , and the tax on a ​$11 special dividend is ​$     . The​ after-tax income for both will be ​$    . ​(Round to the nearest​ cent.)

Answer 1

In 2008, the capital gain tax rate is 15% and the dividend tax rate is 15%.

Hence the tax on $11 capital gain is $11*.15 = $1.65

the tax on $11 special dividend is $11*.15 = $1.65

a. Calculation of ex-dividend price of CSH that will make you indifferent between selling now and waiting:

Let the ex-dividend price be x.

Total profit if sell shares after dividend = (Capital gain- tax on capital gain) + (Dividend income - tax on dividend)

=[(44-33) -1.65] + (11 - 1.65)

=18.70

To earn the profit of $18.70 the ex-dividend price should be

Total profit if sell shares before dividend = Capital gain(1- capital gain tax rate)

18.70 = [(x - 33)(1-.15)

x = $55

b.

Calculation of ex-dividend price of CSH that will make you indifferent between selling now and waiting if capital gain tax rate is 20% and dividend tax rate is 38%

Let the ex-dividend price be x.

Total profit if sell shares after dividend = (Capital gain- tax on capital gain) + (Dividend income - tax on dividend)

=[(44-33) -(11*.20] + [11 - (11*.38)]

=15.62

To earn the profit of $15.62 the ex-dividend price should be

Total profit if sell shares before dividend = Capital gain(1- capital gain tax rate)

15.62 = [(x - 33)(1-.20)

x = $52.53