First, stock buybacks are not tax exempt. If a firm earns $100 in profits and buys back $50 of shares, it still pays the corporate taxes on $100, not on $50. Unlike paying interest, corporations don't get to write off money spent on stock buybacks. So it doesn't affect their tax situation.
Second, for the investors in the company, the total aggregate amount of taxes is paid whether the investors are holding 10 stocks and get $1 per stock in dividends, or if they are holding 5 stocks and get $2 per stock in dividends. The number of shares outstanding does not raise or lower the ultimate value of the dividend stream, nor the tax obligation applied to the dividend stream.
What if a company never pays any dividends and just buys back stock? Then it's value is just the terminal liquidation value, and each time investors sell stock back to the company, that is a taxable event for them, probably taxed at the long term rate which is the same as the dividend tax rate, up until the company winds down, in which case the rest is taxed at the long term rate. The set of taxable events is the same as if the company had paid dividends, but the difference is that investors self-select as to who realizes the gain and who doesn't.
Really this is the difference when companies buy back stock -- some shareholders don't want to take any gains, while others do. The total gains are the same, and the total paid to the government is the same, and the time it's paid to the government is the same, but investors can sort themselves into those who want to to take the gain and those who don't. You get to decide when you want to take the gain, and this optionality has value for you. It's as if you could signal to the management -- don't pay out a dividend, re-invest the money that you would have paid out this quarter so that I'll get more later. That's basically what is going on for the individual investor, but for the government, they still get their quarterly taxes paid just in terms of capital gains by those who sell their shares.
What I mean that the tax you pay on dividends is often more than the capital gains tax. So you might prefer that the company spend money to prop up the share price by buying back stock rather than paying it out as dividends.
Perhaps there was some tax reform since I last looked, but generally speaking dividends are taxed at the long term capital gains rate. So they would be the same or less than capital gains (short term capital gains are just treated as income). I am not a tax accountant :)
But I agree that many do prefer buybacks, for the reasons I outlined -- it gives investors a choice as to when to realize the gain. Some investors may not want to receive the gain each quarter. And this can be a tax benefit, not because the rate is different, but because the timing may be more convenient.
