Question

How would tax effect dividend and price. Please provide a full explanation.

Answer 1

If a share pays a dividend, then the price of the share gets adjusted to reflect the amount of dividend paid per share. Now if there is a tax on the dividend and if it is higher than capital gains tax, then a high dividend paying stock would tend to have a lower valuation as investors would prefer capital gains rather than immediate dividend because of lower tax on capital gains. On the contrary, if dividends are taxed lower, then a high dividend paying stock would have a higher price and valuation because of investor preference for dividend as compared to capital gains because of taxation advantage.