Dividend cuts erode retirement resources

BOSTON — A basket of dividend-paying stocks accounts for about two-thirds of Elaine Durham Mobley’s annual income of $64,000. Her biggest and most reliable dividend holding? About 5,000 shares of Bank of America Corp. But in late December — when the bank makes its next quarterly distribution of earnings to shareholders — the retired accountant will see just half of the $3,200 she had been counting on. Three weeks ago, Bank of America said it would slash its usual quarterly payout of 64 cents per share to 32 cents.

For Mobley, that means she’ll be taking a hit of $6,400 in the coming year, or 10 percent of her income — all because the bank broke a string of increasing annual dividend payments dating to 1978.

Normally, the 74-year-old widow could expect dividend increases from her other stocks to offset the Bank of America cut. But another of her biggest holdings, General Electric Co. — a name that’s almost synonymous with dividends because it had increased its payout the last 32 years — said last month it would suspend its typically reliable annual increase.

“I depend on that income,” said Mobley, who relies on cash from Social Security and rental properties to supplement her dividends. “So now I’ll just have to cut my spending.”

Tops on her list of possible cuts: travel, donations to orphanages and her church, and tuition assistance for a granddaughter in graduate school.

Those are some of the casualties from a surge in dividend cuts that Standard & Poor’s says made last month the worst September for dividends since it started keeping such records in 1956.

And of the 7,000 or so publicly traded companies that report dividend information to S&P, 138 decreased their dividends during the third quarter — a 15-fold increase from the same period last year.

Most companies outside the financial sector continue to maintain or increase dividends, since S&P expects 1.2 percent growth overall in dividends paid this year by the S&P 500.

But this year’s growth rate is expected to the lowest since 2001, when payments dipped 3.3 percent — a decline that followed modest dividend increases in the late 1990s, when technology companies that reinvested in their growth, rather than pay dividends, led the market.

This year’s slow dividend growth is largely due to cuts in financial services, typically a reliable sector for dividend investors. The sector makes up about 15 percent of the overall market, but contributes 21 percent of dividends, according to S&P.

But cuts by some three-dozen financial services companies this year will take a total $31 billion from investors’ pockets — 10 times greater than the $3.1 billion in dividend reductions the sector made over the past five years combined

How it got this way

With profits shrinking dramatically amid the slowing economy, many companies that traditionally pay dividends are emulating less-mature growth companies by holding onto most or all of their profits. But dividend-paying companies that are cutting payouts or declining to increase them are frequently doing so to restore financial health. That’s especially so for many banks that need to shore up balance sheets battered by losses from the credit crisis and mortgage-related securities.

In explaining his company’s cut, Chief Executive Kenneth Lewis said Bank of America “cannot pay out what we have not earned. Our goal is to resume dividend increases from the new level as soon as our earnings performance warrants.”

The notion of bank stocks as reliable sources of dividend revenue “has to some degree been blown apart,” said Howard Silverblatt, a senior index analyst with S&P.

And with volatile markets gouging many companies’ share prices, investors unloading stocks in response to dividend cuts are getting far less from selling those shares than they would have a few months ago.

“If I’m down 25 percent in dividend income, but the stock is down 35 percent, if I sell the stock, can I afford to lose another 10 to 15 percent by selling?” Silverblatt said. “Younger investors can wait the market out and sell the stock when it bounces back. But older people are really stuck in a bad spot.”

The outlook

While many typically younger dividend investors plow cash back from the payouts into their retirement savings, dividend-paying stocks are attractive for retirees because the payouts are taxed at a lower rate than other income. But there could be an unpleasant surprise when tax bills come due next year. If a dividend-paying company fails to make a profit this year amid the financial turmoil — and consequently doesn’t pay federal income taxes — dividends that investors take as cash could be taxed at a 35 percent rate rather than the typical 15 percent for so-called qualified dividend income, Silverblatt said.

And the recent surge in dividend cuts could accelerate as more companies run into financial trouble. S&P on Oct. 21 reduced its estimate for the collective annual dividends paid this year by S&P 500 companies by 80 cents per share — from $28.85 to $28.05.

S&P also expects total dividends paid by S&P 500 companies for the fourth quarter will drop 10 percent, to around $60 billion from $67 billion in the fourth quarter of 2007 — the biggest year-to-year decline since 1958.

Some fear more companies will feel free to cut dividends now that a trend has set in.

“With so many others cutting, companies will ask, ’Do we really want to raise our dividend?”’ said Charles Carlson, editor of DRIP Investor, a newsletter for investors who automatically reinvest their dividends.