Chief executives from the nation’s biggest utilities are in Washington lobbying Congress and the Obama administration to make sure that tax rates on dividends do not exceed the rates on capital gains.
Resigned to believing that the White House will win a deal with Congress to raise personal income tax rates for wealthy individuals starting in January, the group said it was seeking “parity” between the dividend and capital gains rates.
Utility stocks, which usually pay higher-than-average dividends, have long been favorite investments for retirement plans, senior citizens and other people looking for steady income. But they are not growth stocks, rewarding investors with capital gains, because electricity consumption is relatively flat as residential, commercial and industrial customers become more energy efficient.
If there is no agreement between President Obama and House Republican leaders on how to avoid the “fiscal cliff,” the utility executives fear that dividends will be treated the same as personal income while capital gains will be taxed at a lower rate. Because investors would be paying higher taxes on dividend income, the CEOs say, the stock price would probably drop and the companies would have more trouble raising capital, making it hard to finance improvements at power plants and on transmission lines.
“If we go over the cliff, the rate on dividends goes from 15 percent to 43.4 percent while the rate on capital gains goes from 15 percent to 23.8 percent,” said Lewis Hay, chairman of NextEra Energy. “This year, the industry will invest $94 billion, and anything that increases the cost of capital will result in less capital being invested.”
Many if not most utility shares are not taxed at all because they are in tax-sheltered retirement plans. Only 37 percent of Midwest utility giant American Electric Power’s common stock is individually owned outside of 401(k) or pension plans, AEP said.
But Hay said the shareholders who pay taxes on dividends would be numerous enough to drive down the price of utility stocks if they sell their shares. He said that would not only make it harder for the utilities to raise capital, but would also hurt remaining shareholders by lowering the value of their nest eggs.
He also said high taxes on dividends could push companies in the wrong direction. “If we increase the cost of capital by increasing taxes, it will have a perverse incentive that companies will shift their capital structure toward more debt. Isn’t that what we just lived through?” Hay said.
William H. Spence, chief executive of PPL, said that for utilities, “growth prospects are low.” He said that sales have declined in the industry and that, because utilities are regulated, they cannot poach on other utilities’ territories and grab market share.
Another concern: The need to upgrade facilities remains great. “This year, our capital expenditures will be $7 billion while our earnings will be about $2 billion,” Hay said. “Our cash flow has not been enough to fund capital expenditures. So almost every single month, we are in markets trying to raise capital.”
Thomas A. Fanning, chief executive of Southern Co., that the top priority is to avoid the fiscal cliff and to leave broader tax reform to a later date. He said the economy would suffer a setback otherwise.
Nicholas Akins, chief executive of AEP, said that the uncertainty about the fiscal cliff is already hurting the economy and that AEP has seen industrial firms scaling back.
Akins said AEP was also scaling back and bolstering its cash position. “We’ve been working to shore up our balance sheet . . . to make us stronger,” he said. “On the heels of 2008, we learned not to overextend ourselves, and we don’t need this second event. We’ve pared back as much as we can.”
The utility executives said they were not going to follow the path of other companies, including The Washington Post, which have paid out some of next year’s dividends to avoid rates that are widely expected to go up at the first of the year.
“We don’t have a ton of money on the balance sheet ready to deploy,” said PPL’s Spence.