Equities Trade Dirty Causing Investors to Lose Billions (Part 1)

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Investors – your clients – are paying unnecessary taxes when they purchase stocks, equity mutual funds and other securities.

The accounting treatment used for dividends and capital gains (“distributions”) overvalues income-producing equities by an amount equal to the security's accrued, but unpaid, distributions. This causes investors to pay tens of billions of dollars in taxes they do not owe. This problem is a known risk financial services firms and auditors recognize and is referred to as "buying a dividend."

We all know about “dirty pricing” in the bond markets. When we buy individual bonds offered on the secondary market (OTC) we are quoted two prices: the price of the bond (the “clean price”) and the accrued interest due to the seller of the bond since the previous coupon date. The two prices together are referred to as the “dirty price.” When the next coupon is paid, the amount that represents the accrued interest paid to the seller by the new purchaser of the bond will not be taxed. The reason – it is return of the buyer’s capital. The process of deducting the accrued interest paid to the seller from the total coupon received by the buyer ensures the buyer pays taxes only on the interest that is earned.