Law Dictionary

accumulated earnings tax

noun
Updated on: 26 Jul 2017

Legal Definition of accumulated earnings tax

  1. :  a tax levied on the taxable income of a corporation that is accumulated by the corporation rather than distributed to shareholders and that is not retained for the reasonable needs of the business


Financial Definition of ACCUMULATED EARNINGS TAX

accumulated earnings tax

What It Is

The accumulated earnings tax is a charge levied on a company's retained earnings. Also called the accumulated profits tax, it is applied when tax authorities determine the cash on hand to be an excessively high amount.

How It Works

The accumulated earnings tax, also called the accumulated profits tax, is a tax on abnormally high levels of earnings retained by a company. It compensates for taxes which cannot be levied on dividends.

This tax evolved as shareholders began electing to have companies retain earnings rather than pay them out as dividends, in an effort to avoid high levels of taxation. Historically, this excessive retention of earnings resulted in an increase in the market value of the company's stock. Instead of collecting the dividend payments (and then paying a high tax rate on the added income), shareholders would then net the profit by selling a few shares of their now inflated stock and pay the lower capital gains tax.

Why It Matters

While this strategy is great for investors (who end up paying a lower tax rate for the same additional income), it's terrible for the IRS. In this respect, the accumulated revenue tax protects the public sector from not receiving money due on taxable income by encouraging companies to issue dividends rather than just sit on cash.


Seen and Heard

What made you want to look up accumulated earnings tax? Please tell us where you read or heard it (including the quote, if possible).

Love words? Need even more definitions?

Subscribe to America's largest dictionary and get thousands more definitions and advanced search—ad free!

WORD OF THE DAY

to fight against or to call in question

Get Word of the Day daily email!

Love words? Need even more definitions?

Subscribe to America's largest dictionary and get thousands more definitions and advanced search—ad free!