Question

Consider a C corporation. The corporation earns $2 per share before taxes. After the corporation has paid its corresponding taxes, it will distribute 50% of its earnings to its shareholders as a dividend. The corporate tax rate is 35%, the tax rate on dividend income is 20%, and the personal income tax rate is set at 28%. How much is the total effective tax rate on the corporation earnings? Note: Express your answers in strictly numerical terms. For example, if the answer is 5%, enter 0.05 as an answer; or if the answer is $500, write enter 500 as an answer.

Answer 1

Effective tax on corporate earnings = Total tax expense / Earrings before tax

Earnings before tax = $ 2 per share

Corporate tax = $ 2 * 35% = $ 0.70

Earnings after tax = $ 2 - 0.70 = $ 1.3

Company distribute 50% of earrings after tax distribute as a dividend

Dividend amount = Earnings after tax * 50% = $ 1.3 * 50% = $ 0.65

Tax on dividend amount = Dividend amount * tax rate on dividend = $ 0.65 * 20% = $ 0.13

Total tax expense = $0.70 + 0.13 = $ 0.83

Effective tax rate on corporate earnings = Total tax expense / Earrings before tax

= $ 0.83 / 2

Effective tax rate on corporate earnings = 0.415