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Early dividends endeavor to evade tax bite

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As 2012 winds to a close, a number of midstate companies are doing what they can to help their investors beat the taxman.

Like many companies nationwide, they are paying fourth-quarter dividends now, ahead of 2013's expected tax hikes on investment income.

The Bon-Ton Stores Inc., with headquarters in York County, is paying its dividend Dec. 21 — 5 cents payable to shareholders of record Dec. 14.

Also accelerating dividends are at least three midstate bank holding companies: Susquehanna Bancshares Inc., Fulton Financial Corp. and Mid Penn Bancorp Inc.

"It is primarily a tax-driven issue," said Jeffrey Horst, the partner who leads accounting firm Reinsel Kuntz Lesher's tax services group.

Today, dividends are taxed at 15 percent. As of Jan. 1, owing to the expiration of the Bush tax cuts, they will be taxed as ordinary income, which means marginal rates of up to 39.6 percent will apply.

It's unlikely those rates will ever actually apply; most political experts expect Congress and President Barack Obama to address dividend tax rates as part of their deficit reduction negotiations. But observers doubt rates will come all the way back down to 15 percent, especially for high-income earners.

Moreover, those earners face a new tax next year of 3.8 percent on net investment income, including dividends, a measure imposed as part of the federal health reform law.

The bottom line: Better for investors to pay 15 percent tax on a dividend this year than an unknown but almost certainly higher rate on one next year.

"It makes all the sense in the world from the point of view of enhancing value," said William Reuter, chairman and CEO of Lititz-based Susquehanna, the parent company of Susquehanna Bank.

Susquehanna said it plans to pay a 7-cent dividend Dec. 31. Mid Penn Bank, based in Millersburg, said it will pay a 5-cent dividend the same day. Fulton Financial Corp., the Lancaster-based parent of Fulton Bank and other community banks, plans to pay an 8-cent dividend Dec. 27.

Most public companies and many private ones are structured as C corporations. They have earnings and profits that are subject to tax, unlike S corps, which are pass-through entities.

Virtually every C corporation should consider paying an early dividend if it can, said Pamela Bazella, a principal in the Lancaster office of Cumberland County-based CPA firm Brown Schultz Sheridan & Fritz.

The tax advantages are that compelling, she said.

They should even consider borrowing money to make the payment, she said. The amount investors will save on their taxes dwarfs the interest that would be paid on a loan at today's low rates, she said.

Costco Wholesale Corp. is applying that logic in a big way. The Washington state-based warehouse club retailer raised eyebrows in November by financing the $7-per-share special dividend it paid Tuesday — $3 billion in all — out of $3.5 billion in new borrowing.

Not every company is accelerating dividends, of course. Asked why companies might balk at an early payout, Bazella suggested cash flow concerns could be an issue.

Another potential reason to hold back, said Tim Finnerty, co-chairman of the business group at Harrisburg law firm McNees Wallace & Nurick: Covenants on bank loans.

Banks often require companies to maintain a particular net worth or make other stipulations before lending money, he said. An early dividend could potentially violate such agreements, he said.

However, two local companies not paying early dividends simply said they are hewing to their long-term strategy.

"We're not as focused on short-term dividend policy changes," said Derek Leckow, vice president of investor relations for York-based Dentsply International Inc., which said it will pay a 5.5-cent dividend on Jan. 11.

Investors in Wormleysburg-based Harsco Corp. "value the predictability and consistency of our dividend," spokesman Kenneth Julian said. The company announced a 20.5-cent dividend to be paid Feb. 15.

As their name indicates, pass-through corporations are structured not to have earnings; hence they normally pay no dividends. However, an S corp that was previously a C corporation may possess frozen earnings and profits that were never distributed, Finnerty said. Some are considering declaring a dividend to get that money out while today's tax rates apply, he said.

Procedurally, authorizing an early dividend is no different from a regular one, Finnerty said. The board of directors simply votes on the matter in accordance with the corporation's bylaws.

To count as 2012 income, of course, the dividend must be paid this year, not just declared, Horst said.

There's one curious exception. Hersha Hospitality Trust said Dec. 7 it will pay a 50-cent dividend Jan. 15. Because it is a real estate investment trust, or REIT, a rule called the "January procedure" allows dividends declared in December and paid in January to be treated as paid in December, said Hersha's chief financial officer, Ashish Parikh.

Companies that normally pay dividends in December had no need to accelerate them. The Hershey Co., based in Derry Township, paid a 42-cent dividend Dec. 14; Milwaukee-based Harley-Davidson Inc., which has facilities in York County, said it will pay a 15.5-cent dividend Dec. 28.

Several local companies, including Rite Aid Corp. and Armstrong World Industries Inc., do not pay dividends. Cumberland County's Rite Aid has had losses every year since it acquired the Brooks-Eckerd chain in 2007 and last paid a dividend in 2008; Lancaster County-based Armstrong has not paid a regular dividend since emerging from bankruptcy in 2006.

Armstrong paid a special dividend of $8.55 in April, funding about half of the roughly $500 million cost with new debt.

Select Medical Holdings Corp., the Cumberland County-based hospital operator, announced a special cash dividend of $1.50 per share to be paid Dec. 12. The total cost would be about $211 million, the company said.

"The dividend allows us to return capital to stockholders without diminishing our ability to pursue investment and acquisition opportunities," CEO Robert Ortenzio said in a statement.

Ortenzio did not specifically reference the 2013 tax issue. Select Medical did not return calls seeking additional information.


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