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Comment by cced | Hacker News Reader

Can someone explain to me the theory of stock buybacks? How is this not just financial engineering? How are you meant to differentiate companies who’s stock goes up because they’ve been productive and made great products from those that increase their stock prices using buybacks? Are there rules against taking out loans and using them to perform stock buybacks?

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Stock buybacks are mathematically identical to dividends if you work it out.

And yes, people track that, and yes taking loans to pay dividends is a favorite trick of dying companies.

Aren’t they taxed differently, though? To my knowledge, dividends are taxed as ordinary income, whereas sales following a stock buyback may be taxed as capital gains (if they were held long enough before that point).

As a shareholder, dividends are income. Cash going in to your account that is taxed immediately.

A stock buyback of 1000 shares means that your one share now represents 1/999,000th of the company, not 1/1,000,000th. Thus the share is worth more. It isn't income until you sell the share and pay taxes on the gains. This flexibility is useful and can result in tax savings depending on the situation.

"Qualified" dividends from long-term-held stocks are taxed in the same way as long-term capital gains.

You only have to hold a stock for 60 days to get qualified dividends. For long term gains it's a year.

The real problem with dividends is they're taxed at the corporate level (corporate income tax) and then taxed when distributed to the shareholders (the shareholders pay income tax on the dividend).

Eliminating the double taxation of dividends would likely solve most of the buyback problems.

That sounds like a non sequitur. The same would be true of money spent on stock buybacks.

Even if it isn’t a business expense (it may be) the shareholder doesn’t have to sell his shares and so incurs no tax liability- that year.

Rich people borrow against appreciated assets. They don't sell and incur capital gains tax. That's why company leadership loves buybacks.

Ordinary people have to sell assets to take advantage of appreciation. So unless they can time sales to optimize taxes - really only an option for retirees - they might as well get regular dividends.

> Ordinary people have to sell assets to take advantage of appreciation

Not entirely true.. Ordinary people can take advantage of appreciation of their home value via a standard home equity loan.

No one's talking about houses here. I thought that was obvious.

Also rich people get way, way lower interest rates borrowing against their assets than us poors do on HELOCs.

> Ordinary people have to sell assets to take advantage of appreciation

> No one's talking about houses here. I thought that was obvious.

For most ordinary Americans, the largest asset they will ever own is their house. Owning that asset is the essence of the old American Dream. So it seems like your original comment was primarily about housing assets.

Anyone can get a home equity loan to access the appreciation the house might have. They don't pay taxes on the loan, and many people use the money on improvements that further increase at value of the asset. That combined with further asset appreciation and the loan pays for itself when the house is later sold.

Ordinary people can and do do this. The rich just do it at a much larger scale.

My original comment was about stock buybacks and how they boost stock prices. I repeat, no one was talking about houses. I thought it was obvious "assets" meant "stock" for the purposes of this comment thread. But since this is HN there's always at least one pedant.

Finally primary homes don't have any capital gains tax on sale (or at least not up to a pretty high limit). So this whole discussion is irrelevant. Ordinary people can always sell their "biggest asset" without paying much in tax.

If you're talking about the US, then no, dividends are given special tax treatment at a reduced rate if they are "qualified dividends". If they aren't, then yes, they are taxed as regular income.

Do you have to pay taxes on dividend under American law ? If so I guess that makes stock buyback better from a point of view of shareholders

You pay taxes in Dividends, which is one reason shareholders generally don't like them. A lot of shareholders are also in the savings phase of their life - they are working some other job and don't need the income from Dividends yet and so getting a dividend is a bad thing as it is more money they have to invest (particularly if you have to pay for each trade which is common). Shareholders who are retired like dividends because it is a simple paycheck without needing to sell their shares and they would be paying those taxes anyway.

This makes no sense. A dividend is more akin to an annuity, paying out periodically.

Stock buybacks are cashing in your chips, a one-off payment.

Stock buybacks used to be illegal in the States up until 1982. You can thank Raegan for that too.

> Stock buybacks used to be illegal in the States up until 1982. You can thank Raegan for that too

This is not true, but seems to come up a lot. I guess it makes for one of those fun "internet facts" that people like to repeat without any investigation. Bonus points for blaming Reagan.

Stock buybacks were not illegal before 1982. If you sit down even think through it, it doesn't even make sense they were illegal. Just like issuing new shares (or doing a stock split), companies have legitimate business needs to buy back stock (reduce the quantity of outstanding shares).

What happened in 1982 was that the government made Rule 10b-18, which outlined the "safe harbor" requirements for stock buybacks, where if followed, the company could not be found liable for stock manipulation.

https://www.skadden.com/-/media/files/publications/2020/03/t...

So stock buy backs were legal before 1982, but companies faced a risk of stock manipulation if they were reckless in how they did it.

> So stock buy backs were legal before 1982, but companies faced a risk of stock manipulation if they were reckless in how they did it.

Sounds like a much better state of affairs.

Really? You think it's bad that the government is explicit in its rules?

I think that's a good thing. I'd rather have it be clear to all parties what is acceptable and what isn't, rather that a murky legal framework where you never know if you're breaking the law.

Being explicit is good unless it yields outcomes that are strictly worse, which seems to be where we are. I expect plenty of lobbying to clarify rules and be more explicit naturally comes with carefully crafted loopholes that permit unethical behaviour. In that case, being less explicit meant the regulators had discretion to go after truly abusive actors. This has upsides and downsides. I would always prefer more explicit rules if the rule-making process were not compromised.

This subject brings up so much rancor that I think you might have missed the possibility that there was no sarcasm intended in the post you responded to.

That’s why I asked

I mean, from what I can read online, it seemed the practice was generally regarded as market manipulation prior to 1982 and so was de facto illegal. So yeah, thanks Reagan indeed. There are good reasons to blame him for his part in the current state of affairs.

Not sure what you’re reading online, but it’s not correct.

Stock buybacks were legal and happened before 1982.

The “thanks Reagan indeed” is just your own internal biases. The President didn’t draft the law and the Democratic Congress passed it.

So quite odd to blame a single person.

It should be a warning against believing things on the internet because they conform to your biases. Check your sources.

I'm not even American... When I say "blame Reagan", I obviously don't mean him personally, rather his government or his neoliberal ideology even.

And you keep acting like the 1982 law had no effect when it made the largely marginalized practice of stock buybacks mainstream. Maybe you should check your biases.

https://corpgov.law.harvard.edu/2020/10/23/the-dangers-of-bu...

https://crsreports.congress.gov/product/pdf/LSB/LSB10266

https://www.vox.com/2018/8/2/17639762/stock-buybacks-tax-cut...

https://www.sciencedirect.com/science/article/abs/pii/S01651...

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