How ETF Dividends Are Taxed (2024)

The profits you make from selling an exchange-traded fund (ETF) are taxable, just like the profits from selling a stock or withdrawing money from a mutual fund. If you receive dividends from an ETF, they are taxable as well.

As usual, the details are a bit complicated.

Key Takeaways

  • Some but not all equity ETFs pay dividends to their shareholders.
  • Not all ETF dividends are taxed the same; they are broken down into qualified and unqualified dividends.
  • Qualified dividends are taxed between 0% and 20%.
  • Unqualified dividends are taxed from 10% to 37%.
  • High earners pay additional tax on dividends, but only if they make a substantial income.

Overview: ETFs and Taxes

An ETF is a selection of investments that might include stocks, bonds, currencies, or commodities. Most ETFs select their investments to precisely mimic an index such as the S&P 500 or the Russell 2000 Index.

That makes them "passively-managed" funds, and it's why the fees are so low. No buying and selling decisions need to be made from day to day. The performance tracks the index as closely as possible.

For their investors, the tax implications are virtually the same as those for the investments that are included in the fund. The tax treatment of these investments is similar to that of the underlying asset:

In short, if you make a profit you owe the taxes.

Taxes from Sale of Stock ETF Shares

You're taxed for an ETF composed of stocks in the same way as the sale of those stocks.

  • If you hold an equity ETF for more than a year and make a profit on its sale, you will pay capital gains tax.
  • If you hold it for less than one year, the profitsare treated as ordinary income. The tax will be the same as you owe on other income for the year, given your tax bracket. For many, this is higher than the capital gains rate.

Although the required taxes are usually similar, there are extenuating circumstances for certain types of ETFs and their dividends, provided they meet certain criteria.

Taxes on Commodity or Currency ETFs

For ETFs that invest in commodities, precious metals, or currencies, you can expect different tax requirements.

That's because the tax rules for these underlying assets are different from the rules for stocks .

Qualified vs. Unqualified Dividends

Qualified dividends are taxed at a lower capital gains tax rate than unqualified or ordinary dividends. Depending on the investor's tax bracket, qualified dividends are taxed at 0% to 20%.

The lower rate is applied to dividends that meet certain requirements put in place by the Internal Revenue Service (IRS). The following are the requirements:

  • The dividend must be paid by a U.S. company or a qualifying foreign company.
  • The dividends weren't previously excluded by the IRS as qualified dividends.
  • The holding period is met.

Unqualified dividends are taxed at the taxpayer's federal income tax rate. This ranges from 10% to 37% for the 2023 and 2024 tax years.

Most dividends fall into this category as they are considered unqualified by default. They only become qualified if the above criteria are pursued and met.

Most ETFs are passively managed. The holdings only change when the index or other benchmark it parallels is revised.

ETFs and Dividend Taxation

The stocks that are held by ETFs usually pay dividends quarterly or once a year. ETFs holding bonds usually pay interest monthly. If you’re investing in an ETF that holds stocks, make sure it pays qualified dividends.

Qualified

To receive a qualified dividend, you must hold an ETF for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date and ends 60 days after that date. This is the last day when new owners can qualify for the next dividend.

The current tax rates on qualified dividends are 0%, 15%, and 20%, depending on your filing status and tax bracket. However, if you hold the stock for fewer than 60 days during that 121-day period, the dividends are not taxed as qualified dividends.

You could pay 0% taxes on qualified ETF dividends if you are in one of the lower tax brackets. Granted, you would still pay tax when you sold the ETF itself, but would not pay taxes as long as you satisfy the qualified dividend requirements for holding mentioned above.

For single taxpayers, this threshold is $44,625 for 2023 and $47,025 for 2024. As long as your modified adjusted gross income (MAGI) is below this level, you would pay no taxes on qualified dividends. The next dividend rate is 15% for incomes between $44,625 and $492,300 for 2023 and 47,025 and $518,900 for 2024. Individuals who make more will pay a 20% tax on their qualified dividends.

Unqualified Dividends

If you hold an ETF for fewer than 60 days, dividends will be taxed as ordinary income. All dividend income is reported onForm 1099-DIV.

Of course, this only applies to the dividend. All sales of an ETF under one year will result in a short-term capital gains tax, which for most taxpayers is significantly higher than the tax you would pay if you would have held it for a year or more.

Individuals who are in the highest tax brackets will be required to pay an additional 3.8% net investment income tax (NIIT). For single filers, this threshold is $200,000. Married filing jointly is $250,000, and filing separately is $150,000. The income amounts that trigger the NIIT are based on the filing person's MAGI.

ETFs only trigger a taxable event when they are sold. This is a tax advantage that favors ETF investing, and it differs from investments in mutual funds.

Dividend ETFs

Some investors find that having dividend-paying ETFs can add a solid core to their portfolios. It can offer tax advantages as well as provide a steady stream of income in the form of qualified dividends.

For an example, let's take a look at two dividend-paying ETFs: The SPDR Portfolio S&P 500 High Dividend ETF (SPYD) and the Schwab U.S. Dividend Equity ETF (SCHD).

SPDR Portfolio S&P 500 High Dividend ETF vs. Schwab U.S. Dividend Equity ETF
SPDR Portfolio S&P 500 High Dividend ETF (SPYD)Schwab U.S. Dividend Equity ETF (SCHD)
IssuerState StreetSchwab Asset Management
Inception DateOct. 21, 2015Oct. 20, 2011
Assets Under Management$6.8 billion$52.2 billion
Expense Ratio0.07%0.06%
Annual Dividend Yield4.67%3.62%

SPYD is one of the larger high-dividend ETFs on the market today. It aims to track the High Dividend Index of the S&P 500. This index measures the 80 highest-dividend-yielding companies in the index. The ETF pays a healthy dividend which is derived from mostly large-cap stocks in financials, utilities, and real estate.

SCHD tracks the total return of the Dow Jones U.S. Dividend 100 Index. It is similar to SPYD above as it is a relatively straightforward, low-cost ETF designed to offer investors broad exposure while providing a quarterly dividend payment. Out of 104 names, this ETF's top three holdings are Abbvie, Merck, and Broadcom. The ETF is heavy in industrials, financials, and consumer staples.

What Are Dividend ETFs?

Dividend ETFs can either track a dividend-paying index or an ETF that pays a dividend to its shareholders. Many investors use dividend ETFs as the core of their portfolio.

How Are You Taxed on ETFs?

Tax rates on ETFs are the same as those for holding common stock. ETFs held less than a year before they are sold are taxed at the short-term capital gains tax rate. For most taxpayers, this is much higher than if they were held for a year or longer.

Will I Pay Taxes on ETF Dividends?

In some cases, you could be exempt from paying taxes on ETF dividends. You would need to meet specific income criteria, as well as be receiving dividends deemed qualified by the IRS.

In most cases, people will be paying taxes on their ETF dividends. This will range from 0% to 37% depending on the taxpayer's income bracket.

How Are Reit ETF Dividends Taxed?

Dividends paid by REIT ETFs are generally considered unqualified, which means they are taxed as ordinary income. As such, you may be taxed up to37% depending on your income threshold.

The Bottom Line

Taxes on ETF dividends depend on whether they’re classified as qualified or unqualified. If they’re unqualified, they will be taxed at your normal income rate. Qualified dividends are taxed between 0% and 20%.

Discussing an ETF dividend strategy is best done with a qualified investment advisor and accountant if you are not clear on the complexities involving your income and tax brackets.

Correction—Aug. 13, 2022: This article has been updated to clarify the rules surrounding the holding period for qualified dividends and to make clear who is eligible for those dividends.

How ETF Dividends Are Taxed (2024)

FAQs

How are dividends from an ETF taxed? ›

Key Takeaways

Not all ETF dividends are taxed the same; they are broken down into qualified and unqualified dividends. Qualified dividends are taxed between 0% and 20%. Unqualified dividends are taxed from 10% to 37%. High earners pay additional tax on dividends, but only if they make a substantial income.

How are ETFs so tax-efficient? ›

By minimizing capital gains distributions, ETF tax efficiency lets investors defer tax bills until they sell shares, preserving more capital for market investment and potential compounded returns over time.

How are preferred stock ETF dividends taxed? ›

Dividends on preferred shares are taxable income, but the tax rate you pay depends on whether the IRS considers the dividends to be "qualified." Qualified dividends are taxed at lower rates than ordinary income. For 2023 and 2024, the tax rate ranges from 0 % to 20% depending on your tax bracket.

How are dividends paid in an ETF? ›

How Do Dividends Work in an ETF? ETF issuers collect any dividends paid by the companies whose stocks are held in the fund, and they then pay those dividends to their shareholders. They may pay the money directly to the shareholders, or reinvest it in the fund.

Can you live off ETF dividends? ›

So what does it mean to live off your dividends? If you invest in dividend-paying stocks, mutual funds, or ETFs, which provide distributions of stocks or cash to shareholders, over time, the cash generated by those dividend payments can supplement your income when you retire.

How are fund dividends taxed? ›

Qualified dividends are taxed at 0%, 15% or 20% depending on taxable income and filing status. Nonqualified dividends are taxed as income at rates up to 37%. IRS form 1099-DIV helps taxpayers to accurately report dividend income.

Do I pay taxes on ETFs if I don't sell? ›

At least once a year, funds must pass on any net gains they've realized. As a fund shareholder, you could be on the hook for taxes on gains even if you haven't sold any of your shares.

Are ETFs taxed differently than stocks? ›

When you sell shares in ETFs, you'll have a capital gain or loss, depending on your basis in the shares. This is no different than the tax treatment that applies to the sale of shares in individual stocks or in mutual funds. See chart below for 2024 rates.

Is a schd tax-efficient? ›

Since both VOO and SCHD are ETFs, they have the same characteristics when it comes to tax efficiency, tax loss harvesting, and minimum investment requirements. Overall, if you are looking for an ETF that generates high dividends, then SCHD is the better option.

What is the dividend rule for ETFs? ›

The amount an investor gets in dividends is dependent on how many shares of the ETF they own – for example, if 1,000 shares of an ETF are available and a single investor owns 10, then they would hold 1% of the portfolio, and thus be entitled to 1% of dividend payments.

How are Vanguard dividends taxed? ›

Dividends that are nonqualified are taxed at your usual income tax rate.

What is the best ETF for dividends? ›

7 high-dividend ETFs
TickerNameAnnual dividend yield
DIVGlobal X SuperDividend U.S. ETF6.97%
SPYDSPDR Portfolio S&P 500 High Dividend ETF4.56%
FDLFirst Trust Morningstar Dividend Leaders Index Fund4.43%
SPHDInvesco S&P 500® High Dividend Low Volatility ETF4.32%
3 more rows
May 1, 2024

How are ETF dividends taxed? ›

Dividends and interest payments from ETFs are taxed similarly to income from the underlying stocks or bonds inside them. For U.S. taxpayers, this income needs to be reported on form 1099-DIV. 2 If you earn a profit by selling an ETF, they are taxed like the underlying stocks or bonds as well.

What is the downside of dividend ETF? ›

Cons. No guarantee of future dividends. Stock price declines may offset yield. Dividends are taxed in the year they are distributed to shareholders.

Are ETF dividends automatically reinvested? ›

Automatic dividend reinvestment plans (DRIPs) directly from the fund sponsor aren't yet available on all ETFs although most brokerages will allow you to set up a DRIP for any ETF that pays dividends. This can be a smart idea because there's often a longer settlement time required by ETFs.

What are three disadvantages to owning an ETF over a mutual fund? ›

Disadvantages of ETFs
  • Trading fees. Although ETFs are generally cheaper than other lower-risk investment options (such as mutual funds) they are not free. ...
  • Operating expenses. ...
  • Low trading volume. ...
  • Tracking errors. ...
  • The possibility of less diversification. ...
  • Hidden risks. ...
  • Lack of liquidity. ...
  • Capital gains distributions.

What is the difference between ETF distribution and dividend? ›

Dividends are payments by a company out of its profits to investors who own shares in the company. A dividend is usually paid in the form of cash or in additional shares of the company. Distributions are payments made by a 'Fund' like a managed fund or an exchange-traded fund (ETF) to an investor.

How are REIT ETF dividends taxed? ›

By default, all dividends distributed by a REIT are considered ordinary, or non-qualified, and are taxed as ordinary income. REIT dividends can be qualified if they meet certain IRS requirements.

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