Qualified versus Non-Qualified Dividends – What is the Difference?

By: ,

qualified vs non-qualified dividends

While seeking stocks with high-dividend yields to maximize their dividend income, investors also must differentiate between equities that pay qualified versus non-qualified dividends.

Qualified dividends are taxed different from non-qualified dividends — qualified dividends are subject to the same tax rate as long-term capital gains, which is lower than the ordinary income tax affecting non-qualified dividends.

The Internal Revenue Service (IRS) treats these two types of dividend payouts differently under the current tax code and applies different tax rates. The tax rate difference could generate a significant taxation advantage that can make investing in a lower-yield equity with a favorable tax rate more profitable than investing in a higher-yield equity taxed at regular income rates.


Normal cash dividend distributions, or non-qualified dividends, are subject to taxation at the same rates as ordinary income. Regardless of whether the source of dividend distributions are a company’s earnings, interest payments, asset distributions or any other source, the tax liability generally applies to the year in which the dividend distributions are paid. There are scant exceptions for certain types of equities.

Mutual funds, exchange-traded funds (ETFs), unit investment trust (UITs) and other types of regulated investment companies (RICs) can pay dividends for the current tax year in January of the following year. As long as the equity declares the dividend in the current year and the Date of Record falls in October, November or December, the IRS will consider the distribution to have been paid on Dec. 31. Therefore, those distributions require inclusion in that year’s taxable income despite the actual payout occurring in January of the following year.


Dividends are periodic payments used by a public company to distribute to shareholders. The companies, funds, trusts and other types of equities generally distribute a dividend in the form of cash payments. However, occasionally, equities will choose a different form of dividend distribution, such as in-king dividends. In-kind dividends can be stock dividends, property dividends, bonds of the company distributing dividends, bonds of a different corporation, government bonds, accounts receivables and promissory notes. The IRS generally treats stock dividend as stock splits. Classified as unrealized gains, stock dividends carry no immediate tax liability in the year in which the dividends were paid – unlike cash dividend distributions. Investors carry tax liability on stock dividends only after the sale of shares and at the capital gains tax rate, which is generally lower than ordinary income rates.

Qualified versus Non-Qualified Dividends

To explain the difference between qualified versus non-qualified dividends, I will generally refer to cash dividend distributions in this article.

The main advantage of qualified versus non-qualified dividends is that qualified dividends incur lower capital gains tax rates. Depending on the investor’s income level, the total return of qualified versus non-qualified dividends could be significantly higher from qualified dividend distributions. Investors that are subject to the top tax bracket could save up to 46% of their federal tax bill on their dividend distributions collected for the year.


Ordinary Dividends

  1. Investors will generally receive a Form 1099-DIV that will include the total amount of ordinary dividend distributions. Unless otherwise noted, dividends received on common and preferred stock are ordinary dividends and the amount will appear in box 1a of the 1099-DIV form.
  1. However, even if the dividend payouts meet the eligibility requirements for qualifying dividends listed in the next section, certain dividend distribution types will still be only ordinary dividends. For instance, dividend distributions from real estate investment trusts (REITs), master limited partnerships (MLPs) and tax-exempt companies are always treated as ordinary dividends. Additional examples of dividends that are not eligible for qualified dividends status are classification and special, one-time dividends and employee stock option dividends.
  1. Dividend distributions that are technically interest distributions, such as payouts from money market accounts, must be reported as interest income. Also, any dividend distributions associated with hedging – call options, put options, short sales, etc. – can not be classified as qualified dividends and are subject to taxation at the higher tax rates reserved for ordinary income.

Qualified Dividends

To attain the qualified dividends status and benefit from the reduced taxation at the lower tax rates, dividends must meet all three of the requirements listed below:

1. The dividends must be distributed by a U.S. corporation or a qualified foreign corporation. The IRS defines a Qualified Foreign Corporation as any company that meets all of the following three criteria:

a.  The corporation is incorporated in a U.S. possession.

b.  The corporation is eligible for the benefits of a comprehensive income tax treaty with the United States that the Department of the Treasury determines is satisfactory for this purpose and that includes an exchange of information program. The IRS website contains the full list of eligible treaties in Table 3. List of Income Tax Treaties.

c.  The corporation does not meet (a) or (b) above, but the stock for which the dividend is paid is a readily tradable stock on one of the established National Security Exchanges in the United States. These securities markets must be registered under Section 6 of the Securities Exchange Act of 1934 or on the Nasdaq Stock Market.

2. The dividends are not of the type listed by the IRS as “Dividends that are not qualified dividends.” The dividends listed below are not qualified dividends even if they are listed in box 1b of Form 1099-DIV,

a.  Capital gain distributions.

b.  Dividends paid on deposits with mutual savings banks, cooperative banks, credit unions, U.S. building and loan associations, U.S. savings and loan associations, federal savings and loan associations and similar financial institutions. Dividends from these institutions are interest income.

c.  Dividends from a corporation that is a tax-exempt organization or farmer’s cooperative during the corporation’s tax year in which the dividends were paid or during the corporation’s previous tax year.

d.  Dividends paid by a corporation on employer securities held on the date of record by an employee stock ownership plan (ESOP) maintained by that corporation.

e.  Dividends on which the investor must make related payments for positions in substantially similar or related property.

f.  Payments in lieu of dividends, but only if the shareholder knows or has a reason to know the payments are not qualified dividends.

g.  Payments shown on Form 1099-DIV, box 1b, from a foreign corporation, which the shareholder knows or has a reason to know that the payments are not qualified dividends.

3.  The investor must own the shares of the equity for a specific time period. The holding period condition for qualifying dividends, as well as dividends paid on preferred shares that are due for periods of less than 367 days, is more than 60 days during a 121-day period, which starts 60 days prior to a declared ex-dividend date. However, the holding period for dividends on preferred shares that are due for periods totaling more than 366 days is more than 90 days during a 181-day period that starts 90 days before the ex-dividend date. When shares change ownership, the transaction date counts towards the seller’s holding period. The buyer’s holding period begins the day after the transaction. 

Tax Rates

The three brackets and rates for capital gains – 0%, 15% and 20% – remained unchanged after Congress passed the Tax Cuts and Jobs Act (TCJA) on December 22, 2017. However, the brackets no longer align with the reduced cutoffs for ordinary income tax brackets. The table below shows the new tax brackets.

Qualified versus Non-Qualified Dividends

The tax advantages of qualified versus non-qualified dividends make qualified dividends attractive to income-seeking investors. All other criteria being equal, the choice of qualified versus non-qualified dividends should always tilt towards qualified dividends as this type of dividend yields higher total returns.

Dividend increases and dividend decreases, new dividend announcements, dividend suspensions and other dividend changes occur daily. To make sure you don’t miss any important announcements, sign up for our E-mail Alerts. Let us do the hard work of gathering the data and sending the relevant information directly to your inbox.

In addition to E-mail Alerts, you will have access to our powerful dividend research tools. Take a quick video tour of the tools suite.


Jonathan Wolfgram is an editorial staffer who writes website content at Eagle Financial Publications. He graduated from the University of Minnesota with Bachelor’s degrees in Finance and Philosophy. Jonathan writes for www.DividendInvestor.com and www.StockInvestor.com.



Search Dividend Investor