Understanding How Dividends Are Taxed: A Guide to Qualified and Nonqualified Dividend Rates

Dividends are payments made to shareholders from a company’s profits, providing a way for investors to earn income from their stocks. However, dividends aren’t just “free money”—they’re taxable income. Here’s a clear guide on how dividends are taxed, covering the differences between qualified and nonqualified dividends, the tax rates for each, and how to report them.

How Dividends Are Taxed

Dividends fall into two categories:

1. Qualified Dividends: These are taxed at lower, long-term capital gains tax rates.
2. Nonqualified Dividends (Ordinary Dividends): These are taxed at standard income tax rates, which can be as high as 37%.

What Is the Dividend Tax Rate?

• Qualified Dividends: Taxed at 0%, 15%, or 20%, depending on your taxable income and filing status. For example, if you’re a single filer with a taxable income of $45,000, your qualified dividends are taxed at 0%.
• Nonqualified Dividends: Taxed at your ordinary income tax rate, which ranges from 10% to 37%, based on your income bracket.

The advantage of qualified dividends is clear: lower tax rates compared to nonqualified dividends. However, dividends must meet specific requirements to qualify for these lower rates.

What Makes a Dividend “Qualified”?

To qualify for lower tax rates, dividends must meet three main requirements:

1. The Dividend Source: It must be paid by a U.S. corporation or a qualifying foreign entity.
2. IRS Definition: The dividend must meet the IRS’s criteria. Certain payments, such as annual distributions from credit unions, co-op dividends, and some insurance premiums, don’t count as dividends.
3. Holding Period: You must own the stock for at least 61 days during a specified 121-day period around the ex-dividend date. The ex-dividend date is the cutoff day to qualify for the next dividend payment.

Example
Suppose you own shares of a U.S. company like Ford, which paid dividends on September 1, with an ex-dividend date of July 20. To qualify, you would need to hold the shares for at least 61 days from May 21 to September 19. If you don’t meet this holding period, the dividend will be considered nonqualified, resulting in higher taxes.

Dividend Tax Rates for 2025

Here are the tax brackets for qualified dividends in 2025:

Nonqualified dividends are taxed at the regular income tax rate for your tax bracket, which can range from 10% to 37%.

How to Report Dividend Income on Your Tax Return

1. Form 1099-DIV: At the end of the year, you’ll receive a 1099-DIV form from your broker or any entity that paid you dividends. This form details your dividend income and whether the dividends were qualified or nonqualified.
2. Schedule B: If you earned more than $1,500 in dividends, you may need to fill out a Schedule B for your tax return.
3. Dividend Reinvestments: Even if you reinvest dividends (such as in a Dividend Reinvestment Plan or DRIP) to buy more shares, you still need to report them as income.

Tax Tips for Dividend Investors

Consider Using a Retirement Account
Investing in dividend-paying stocks through a retirement account, like a Roth IRA or a traditional IRA, can help defer taxes or avoid them entirely. Dividends in Roth IRAs, for example, grow tax-free. However, withdrawals from traditional IRAs are taxed as ordinary income, which might be higher than the qualified dividend rate.

Glossary of Key Terms

1. Dividend: A share of a company’s profit paid to its shareholders.
2. Qualified Dividend: A dividend meeting specific IRS requirements, taxed at a lower rate.
3. Nonqualified Dividend (Ordinary Dividend): Dividends taxed at regular income tax rates.
4. Ex-Dividend Date: The cutoff date to own shares and receive the next dividend payment.
5. Holding Period: The minimum time required to hold a stock for its dividend to be qualified.
6. 1099-DIV: A tax form that reports dividends and distributions paid to an investor.
7. Schedule B: A part of your tax return used if you earn over $1,500 in interest or dividends.
8. Dividend Reinvestment Plan (DRIP): A program allowing shareholders to reinvest dividends to purchase more shares rather than receiving cash.
9. Roth IRA: A retirement account offering tax-free growth, with tax-free withdrawals if certain conditions are met.
10. Traditional IRA: A retirement account with tax-deferred growth, where withdrawals are taxed as ordinary income.