Read his example again. It compared options where in one, you received €30k minus taxes into your account, and in the other, €100k minus taxes into your account.
In your specific scenario where €30k minus taxes is needed for living, his example isn’t valid. It’s enough to withdraw €30k from the €100k pot, whereby capital gains tax is paid only on the profit portion and not on the entire €30k withdrawal. And thus, selling is more tax-efficient than dividends.
I’m returning to the discussion, and I’m doing so mainly because I want to challenge myself a bit and see if my thinking is delusional. Regarding the question at the start of the thread, my opinion is that I don’t want the company to invest in growth at any cost; rather, I believe management’s most important task is to allocate capital efficiently. If there isn’t a good enough place to allocate the money, I think it’s pointless to let it sit idle in the firm—it should be distributed to the owners. Share buybacks are more tax-efficient, but even then, one shouldn’t buy back shares at any price.
I’ve calculated that dividends are profitable for me because I have investment-related deductions, such as internet, cybersecurity, and other tools needed for investing. If you don’t claim these deductions, you can’t get them retroactively. I’ve found several hundred euros worth of deductions, though the approval for those has tightened somewhat recently. Theoretically, a dividend should lower the stock’s valuation by the amount of the dividend, so at the same time, the capital gain should decrease by the dividend amount. I’ve even tracked and owned two otherwise identical ETFs, one that pays a dividend and one that doesn’t. Currently, I think I’m receiving too many dividends because I likely don’t have enough deductions to offset the taxes. Due to the large number of holdings, making decisions is actually quite challenging to calculate. I currently find the US stock market valuation reasonably challenging, and I’m happy to receive dividends that force me to think about capital allocation myself. Reading these posts, the immediate thought is that I should sell, for example, my Sampo shares and move them to an Equity Savings Account (osakesäästötili). However, the shares have returned 17%, and selling them would trigger capital gains tax. I’m satisfied with Sampo in the current phase of the interest rate cycle; I think it’s a good investment for the current economic climate and I’m happy with its dividend payment. I think it’s good to reflect on what I’ll do with the dividends in the spring and what the market situation will be then. I might sell some portions, but I don’t want to sell the whole lot due to tax consequences. My Sampo position is five figures, but seeing the sales costs and taxes as a four-figure sum makes me grit my teeth. Now, if I get the same amount into my account, with 15% automatic tax taken out and the rest covered by deductions, I’m quite satisfied. When I pay 15% tax and Sampo doesn’t exactly skyrocket in price, I feel the risk-reward ratio is just right.
Another example in my portfolio is Apple, which, upon checking, has returned 624% and will soon, in my opinion, move into a better deemed acquisition cost (hankintameno-olettama) bracket. I personally find the stock extremely difficult to sell because of taxes, and I’m happy that it buys back shares and pays a dividend. I expect the company to raise its dividend steadily and I’m happy with the situation. I’m interested to see if anyone thinks my logic is delusional. I think Apple’s valuation is expensive, but it generates excellent cash flow which it then distributes to its owners. I can still consider it an excellent investment.
If this forum delved into companies’ growth potential with the same enthusiasm, maybe we would avoid getting mixed up with the laggards of the Helsinki Stock Exchange.
Whichever one we end up talking about, it’s ultimately just about the distribution of profits. If the business doesn’t develop, the distribution of profits can’t be increased either, and the investment’s long-term return will remain poor. Regardless of how that money is paid out.
Exactly. A miserable company is valued accordingly, with a P/E of 6. The company’s cash flow matches its net income. The company uses its entire cash flow to buy back its own shares. The company’s business isn’t developing and earnings are treading water year after year—not a drop of growth—and the valuation stays the same. What is that miserable return on the stock?
The company’s earnings per share (EPS) growth is 20% per year thanks to the buybacks. The company miserably returns only 20% per year. In practice, what happens on top of this is that the company forces valuation multiples up thanks to the buybacks. So, this adds a second lever. If the P/E rises to ten in five years, the stock has returned a miserable 33% per year.
If only there were dividends or promises of growth hype.
You have a bit of a logical error here. You find it difficult to sell at a 24% tax rate but you like receiving dividends at a 25.5% tax rate.
This is what I don’t understand about these share buybacks. In that way, you can withdraw €30k from a €100k pot for three years. In the fourth year, you can withdraw €10k + the change in share price, and after that, nothing. The dividend proponent has paid more in taxes over those four years, but they still have €100k + the change in share price and future dividends remaining.
Of course, it would be best if it were possible for the shareholder to choose for themselves whether to take dividends or share buybacks. (As far as I understand, some companies in the USA/Canada have some kind of option like this, but I’m not sure).
The point, however, was likely that those 30 thousand euros in sales would be made specifically to correspond to the profit distribution performed via share buybacks, not to reduce the original exposure to the company. In the original example, this wasn’t understood at all, which is why this discussion hasn’t really borne much fruit.
That’s a pretty good dividend payer if you get €30k in dividends from a €100k investment. That’s about a 30% dividend yield.
Or did I misunderstand something?
Dividends are just a transfer of wealth from the left pocket to the right. With the taxman in between.
Do you really think dividends are a free lunch and that your example makes any sense at all?
No, that’s not how it works. If you want to compare profit distribution methods, at least do it in a remotely sensible way. Either the company pays out cash as dividends, the share price drops by the amount of the dividend, and the taxman takes the dividend taxes; or the company buys back its own shares for the same amount and cancels them, which increases the shareholders’ ownership stake by the amount of the distribution, which you can then sell off and get a tax advantage. In the end, the ownership stake is the same in both cases, but with buybacks, the shareholder is left with more money in their pocket.
But if you use a completely nonsensical example that doesn’t describe the situation at all, then of course the result is going to be way off.
I honestly don’t understand why this is such an endlessly difficult thing to grasp for so many investors, regardless of their level of education. Finland is full of professional investors, authors of investment books, and analysts who spout complete and utter nonsense on this topic.
That previous quote wasn’t mine, but rather a selection from the ones above.
But regarding this quote, I wonder about the fact that the shareholder’s number of shares decreases with every sale. In that case, you always have to sell a larger proportion of your holdings—doesn’t the number of shares approach zero over time? The upward effect of share buybacks on the stock price doesn’t seem to correlate with the number of shares repurchased and cancelled. I completely agree that selling provides a tax benefit compared to dividends.
You are making a mistake here by thinking of ownership as the number of shares rather than as a relative ownership stake in the company. If you sell the same amount as the company buys back and cancels, then your ownership stake remains exactly the same.
Thanks for the comments. My previous example and the euro amounts were poorly chosen in a rush. My apologies. Here is a better, comparable calculation from real life and some background information; I will now try to write it in a way that doesn’t leave the details hidden:
Investment pot size €600,000; the returns from this must fund my life (for the next 40+ years). Capital must not be depleted. Long-term stock investor. I buy undervalued stocks and take the dividends into my bank account. If/when the undervaluation resolves to a neutral level or a price bubble forms, I sell the entire position (future expected returns would be dismal; I won’t stay holding and wait for the bubble to burst and my capital to be destroyed in a -50% price drop). Money back to the account, search for the next position, and put the money there.
Option 1:
In January, I buy €600,000 worth of Aspo shares at €6 per share. In the spring, dividends (€0.30 per share) are paid into my account, totaling €30,000. Then in December, I sell the shares at €6 per share (the price has returned to the starting point because the operations generate more cash for the company’s coffers every day). The selling price returns €600,000 to my bank account.
Final calculation:
Capital gains: €0
Dividend: €30,000
Taxes paid: €7,650
Net profit remaining: €22,350 as a reward for the investor’s work; I use this to cover my living expenses.
Option 2:
In January, I buy €600,000 worth of Aspo shares at €6 per share. No dividend is paid in the spring, but the share price rises to €6.30 per share by the end of the year. Then in December, I sell all the shares due to reason X (the CEO gets fired, the overdemand in the freight market ends, the ECB raises interest rates, etc.). It looks like the price won’t rise any further and could slowly collapse by -50% over the next year if market rumors are true. The risk-reward ratio is therefore really poor; holding is foolish. As a sensible investor, I sell everything immediately. €630,000 is returned to the bank account.
Final calculation:
Capital gains: €30,000
Dividend: €0
Taxes paid: €9,000
Net profit remaining: €21,000 as a reward for the investor’s work; I use this to cover my living expenses.
I have operated as described above with Aspo, Fortum, Nordea, and many other stocks. The market is constantly changing, and decisions must be made according to the news flow. For example, I have owned Fortum on several occasions, sometimes for 1 year and sometimes for 8 years. For instance, in at €10 and out at €17. A full 30% tax was paid on the price increase, but only 25.5% on the dividends received during the ownership period, meaning a significant tax advantage was gained thanks to the dividends.
Addition: I am not a millionaire; the figures do not correspond to the actual size of my own stock portfolio. Previously, many commented that dividends are almost unequivocally a bad thing. Based on the calculation, the matter is not black and white.
I don’t really understand this thought experiment. If splits don’t occur, that game will eventually reach its end. You can’t just steadily sell small amounts like that, depending of course on the amounts invested and the nominal value of the share.
You know how stock prices move one way or another, so that kind of mechanical selling is definitely not optimization in any sense. The matter should be considered at the portfolio level, as it has been noted that for some companies, share prices might not please the eye, or at least match one’s own assumed fair value for the company’s shares, for years.
Share buybacks have their place, but unfortunately, they are usually done most when everything is going well and share prices are exactly at the level you would expect them to be at that time. Few management teams realize at what point it’s actually worth buying back shares, which causes the benefit to diminish to some extent regardless of tax advantages etc.
On a theoretical level, yes, it does correlate if valuations and other key metrics do not change. If the company’s earnings and balance sheet remain the same—meaning profit is not added to equity but is mechanically paid out as dividends or share buybacks—the company’s market value also remains the same. If not, then for some reason the market begins to demand higher or lower valuation multiples.
In reality, a randomness factor takes effect in market reactions and valuations, and the correlation only becomes visible through averaging over several decades. But during that time, the price can also rise more than share buybacks would suggest.
Not a larger portion if you don’t try to live beyond your means. You are right about the number of shares approaching zero.
Let’s assume that nothing in the world changes, only the number of the company’s shares due to share buybacks.
The company makes a profit of 100 every single year. The company’s market capitalization is 1,000. Initially, the company has 1,000 shares, so the price is 1 unit of money per share. The company’s earnings are 0.1 per share.
An investor owns, for example, 100 shares of the company and needs 10 units of money in dividends every year. The value of the share lot is 100 units because the price is 1 unit per share. If the company were to distribute its entire profit as dividends, the investor would receive exactly those 10 units.
However, the company uses its entire profit for share buybacks and cancellations. After this, the company has 1,000 - 100 / 1 = 900 shares outstanding. The company’s profit doesn’t change, however, because it still has the same factories and sales; it has only spent the proceeds from sales on buybacks. Thus, in the following year, the company’s profit is still 100 and its market capitalization is 1,000, but now the price is 1.11111111 units per share and EPS is 0.11111111 units…
In the first year, with the price still at 1 unit per share before the buybacks, the investor compensates for the lack of dividends by selling 10 shares to get the needed 10 units. 90 shares remain.
A year later, the share value is thus 1.1111111 and the value of the share lot is 90 * 1.1111111 = 100 units. The investor wants to receive 10 units in dividends again, so they sell 10 / 1.11111 = 9 shares. 81 shares remain.
The same repeats. The company buys back its own shares with its entire profit and the value of the investor’s share lot is again 100 units a year later; they want 10 units in dividends and have to sell even fewer shares to get the sum together.
After a while, there might be only, say, 5 shares left, the value of which is still 100 units. Now the investor sells 1 share and gets 20 units—the equivalent of two years’ needs—and they don’t have to sell the following year. With five shares, they can manage for over 22 years before the money runs out.
This is a valid example of when dividends are more tax-efficient. That is, if the holding period is practically a maximum of one year.
It’s a bit ironic that traders get a tax benefit from dividends, but long-term owners would benefit from a share buyback + selling a slice combo.
Many people are misled by the fact that when a company buys back its own shares, the shareholder’s number of shares remains the same, but at the same time, the ownership stake increases even though this isn’t visible anywhere. Furthermore, contrary to what is sometimes claimed, the value of a share does not change during a buyback. So, in theory, when a company exchanges its cash for shares of the same value and cancels them, the price should not rise or fall. On the one hand, for example, earnings per share (EPS) rises; on the other hand, cash per share decreases. Correspondingly, when a dividend is paid, the price drops by the amount of the dividend (+ other market fluctuations of the day).
If you always want to convert the profit distribution into cash, you obviously don’t need to sell a growing proportion of your shares, but only the distributed portion. If the profit distribution is 3%, you sell 3%. If the company also generates earnings at least equal to that profit distribution for the next 100 years (meaning its valuation doesn’t otherwise change), then the value of your shares will not decrease in the long run, you will receive cash continuously at a lower tax rate, and your ownership stake will not decrease. Only the number of shares decreases.
Then there is the caveat related to fractional shares and other details that I don’t feel like repeating in every message. That is, if you have 1 share, you cannot sell a 3% portion of it through a Finnish broker. With a foreign one, you can. If, on the other hand, you have 1,000,000 shares, you can sell from that 3% pot for a very long time without it becoming an issue.
And here we are specifically talking about investors who buy dividend machines to hold for years or decades. Such a one-year example has no practical significance. I don’t think anyone should ever buy any stock, regardless of the distribution method, for only one year. Stocks are worth owning if you hold them for 10+ years. And in that case, share buybacks are a better distribution method for tax purposes than dividends.
The benefit of share buybacks is based on the fact that the tax applies only to a portion of the cash flow. If this condition is not met (as in the example where everything is bought and immediately sold off), then there is obviously no benefit. In the longer term, the advantage is emphasized because the tax liability remains to generate more capital gains.
This is also for @Nordman09’s information. Perhaps a relevant example for someone buying dividend stocks is that you buy some typical profit-making shares for a 20-year period and compare distribution methods in different situations. Compare distribution methods when the investor wants cash flow every year. And on the other hand, compare distribution methods when the investor always wants to reinvest dividends back into the same company. These reveal why share buybacks would be a better way (for tax reasons) to distribute those profits.
There are other exceptions, of course. For example, an unlisted company that has no liquid market. If you want profits out as cash, dividends are pretty much the only way. I also have shares in unlisted companies from which I cannot sell a single one except in certain situations. Dividends are the only way to get the profit distribution cashed out.
Here are some general reflections for the discussion. I am not directing my text at any specific previous poster, so please, fellow wealth-builder, do not read my text as a personal insult. I am commenting on the interesting thoughts I’ve read above that have sparked ideas for me. I would hope that you too would comment more broadly, rather than picking a single sentence and trying to torpedo it. You let yourself off too easily then, and fail to see the “forest for the trees” in the message. Well, one can always hope, I can almost hear some of you thinking already. 
There are two sides to this coin. The tax side and the realized return side. With dividends, you pay more tax and realize returns. With share buybacks, you pay less tax and likely do not realize returns. If you do realize them, you have to sell enough so that, for example, the €8 selling costs do not burden the sale too much. This, in turn, means the position must be of a significant size for sales corresponding to dividends to be sensible. Those €8 costs for, say, a €30 sale (3% of €1000) are at a ridiculous level + will there still be tax on that if you are in the black. Of course, many here are customers of services with a max 1% fee cap, in which case the situation with small sales is better.
It’s about taking a perspective, and the concept of being absolutely right is pretty much impossible. Examples of how everyone’s time horizon, age, goals, broker’s cost level, risk tolerance, current need for coins in the pocket, ability to optimize taxes to reduce them, and ownership preferences—i.e., what kind of shop one wants to own—are all different. One should not claim that one way of operating is categorically correct or better. The matter is not that simple. Hasn’t it already become clear here that there is always an argument and a counter-argument for any claim? When you change those investor characteristic parameters, the same point opens up in such different ways, as the discussion has clearly shown.
It is theoretical that by owning a larger share, one earns more in the long run. It is a fact, however, that one carries a greater risk. If the factory burns down, or legislation changes, or 500 American customers are injured by a product and file billion-dollar lawsuits, then with a larger ownership stake, one unfortunately has to enjoy a larger share of the realized risk as well. If everything goes blissfully and the company buys back 50% of its shares during the holding period while the business grows like bread dough, then with a larger ownership stake, one gets to enjoy this return with a larger share. Hopefully the latter. If/when it happens to some of us, then wow. 
By playing with dividends, one ensures money in their pocket. It might be less, but it might be more. It depends entirely on how the company fares. If two investors could invest in the same company such that one gets their return through share buybacks and the other through dividends, even then, only over time could one say which one happened to fare better this time. It doesn’t work so that it’s always the same person. If, for example, dividends are invested elsewhere and after 5 years, like a bolt from the blue, the company goes bankrupt, the dividend person made a bigger profit if the other didn’t sell but kept growing. The buyback person then literally gave their returns to those who sold those shares, meaning they went into someone else’s pocket. If dividends are invested completely poorly and taxes are lost, and this shared company is the next Tesla, then share buybacks appear as a brilliant strategy, as long as that buyback wealth is eventually realized into concrete money at some point (if one can even say that about money these days, hehehe).
I don’t feel that receiving dividends is moving money from one of my pockets to another, because in my book, it requires too much simplification to imagine that money tied up in a risky stock is already in my pocket. I would rather think of a dividend as a little golden egg from the hen that lays them. It’s not pure gold; it has a white tax coating, but it glitters inside. In the pocket analogy, it has also happened several times that all the money that was initially put into one pocket has already been moved back to the other pocket, and yet money is still being moved from there to that other pocket. Or is it some kind of bottomless magic pocket 
I own significant positions for myself in, for example, BRK and OMXH25. Dividends flow into both of them quite tax-efficiently. However, I am not 100% weighted in dividend stocks, even though I constantly rave about them. Still, I like my dividend papers very, very much and I grow my PADI every month, which I calculate in the form of dividends for the coming 12 months. It grows every single month. A pay raise every month. Through Coronas and crises, every month more than the previous one. The long-term annual growth rate of dividends is a large double-digit figure. The annual growth rate for dividends over the last five years is even higher. Compound interest, I suppose. I am at peace with the path I have chosen. I can handle it quite well when someone tells me I don’t know what I’m doing and that I’m always thinking wrong and can’t calculate even though I am highly educated. That does get personal, though. Every growing pile of coins clinking into the account wonderfully silences the discordant voices whispering in my ear.
It’s about taking a perspective. Let’s try to appreciate different views without belittling them. Diversify your perspectives as well, and you will build wealth even more surely. Let’s each see at the end which of the views used worked best this time on our own one-way investment career in terms of time.
Investors’ situations are different and although theoretical generalization is easy, pleasant & nice as well as fun, things in real life don’t go quite like that (or like this):
For a lower-income investor, dividends received from, e.g., Bermuda are quite moderately taxed compared to sales (including costs). At some income level, the situation might turn upside down.
With dividends or without? Both, at least here, and I think both are quite pleasant, nice, and above all, fun ways.
In my opinion, you are commenting here on many points where there is no major dispute. That is, if we compare A. receiving dividends and spending them on something other than the same stock and B. the shareholder not selling during share buybacks, we are talking about two completely different things, and in my opinion, there is little point in comparing them, nor do I think there has been much debate about this. In the former, the stock weight in this stock does not change; in the latter, it increases, meaning the portfolio allocation changes. And you are completely right that if the weight of a certain stock is quite different for two investors, only the future will show who fared better.
The previous heated discussion was related to which method of profit distribution is better IF the same stock weight is maintained in both cases. That is, either the profit distribution is cashed out, or it is not cashed out but the stock weight is increased, and this is compared with two different profit distribution methods. Then a very clear comparison can be made as to which one burns more in taxes under certain boundary conditions. In this, for example, the company’s future development does not matter. Only the method of profit distribution. (And costs and whether one can sell fractional shares and whether one uses a book-entry account (AOT)).
In my opinion, the biggest problem is that a surprisingly large number of people do not understand and do not know how to calculate that difference in taxation - even after seeing how it is calculated. Instead, they imagine that because 25.5% < 30%, dividends would be cheaper. Or they imagine that dividends are extra money appearing out of thin air. Which is not true for reasons that have been gone through N times with calculations. In my view, this misunderstanding is a quite significant problem, and I will certainly address it whenever I happen to read such a comment. That shouldn’t be taken as a personal insult either 
And absolutely everyone is allowed to do what they want and invest in whatever they please, as has been stated many times. If someone likes dividends, then just put dividend stocks in the portfolio! This discussion is only about as many people as possible making an informed choice based on facts.
I must clarify, however, that this is a misleading comment. On a conceptual level, an investor ensures money in their pocket in exactly the same way with share buybacks when they sell an amount equal to the profit distribution every year. It is then a matter of taste whether a few clicks are too much trouble or not, and there is no single right answer to that.