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By Jeremy Glaser | 02-08-2012 01:00 PM

Peters: What Higher Taxes Could Mean for Dividend Investors

Don't let yourself get caught up in the idea that dividend-paying stocks are attractive only because of the current tax treatment, says Morningstar's Josh Peters.

Jeremy Glaser: For Morningstar.com, I'm Jeremy Glaser. We are looking at taxes this week, and one big question a lot of investors have is about how their dividends are going to be taxed.

I am here today with Josh Peters to discuss dividends and taxation.

Josh, thanks for joining me.

Josh Peters: Good to be with you, Jeremy.

Glaser: So, let's talk a little bit about the best place to hold dividend-paying stocks. Obviously, you have your choice between your tax-advantaged accounts, like your IRAs or maybe just regular taxable brokerage account. Can you walk us through some of the decisions that investors need to make in deciding where to put these dividend stocks?

Peters: Well, I think it depends on where the dividends are going. If you are retired, then there is a pretty sizable advantage to maybe biasing your fixed-income holdings, where you pay full ordinary income tax rates, into your tax-deferred accounts, where the tax rate on dividends being lower isn't of any assistance. And then, try to own your dividend-paying stocks just in an ordinary taxable account, where you can benefit from that reduced 15% maximum federal rate on dividend income.

If, on other hand, you are somebody who is younger, you are still accumulating your savings, you want to reinvest your dividends, then I would try to herd as much money into your tax-deferred accounts as possible. That way you don't have to pay any taxes on the income that you are just going to reinvest anyway.

Glaser: So, you mentioned reinvesting dividends in your tax-deferred accounts, your tax-advantaged accounts. Is that something that you recommend for most people? Or would it make sense to maybe use that cash and deploy it into other securities or have other uses of that cash?

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