Monday, March 1, 2010

Taxes, The World, Your Money, and You...

As previously stated, I am not an economist, nor do I practice in a field related as such. From time to time in this blog I will discuss things outside the realm of stocks and bonds, and hopefully it give us an opportunity to learn together.

I have been crafting this blog post in my head for quite some time now. Through the course of my six years of higher education, my recent relentless studying for the CPA Exam, and my new found love for the Glenn Beck program on Fox, I have come to worry about the economic conditions in America. In this post, I am going to discuss what is on my mind, and what I think other people should be analyzing.

For those who are not aware, the current debt of The United States is almost $12.5 trillion. That is a level which is unsustainable, and as that compiles, much like your credit card bills do, the national debt will soon overwhelm the yearly budget. I think there are things that should be done to fix this mess, and this post is going to discuss those measures, and how they related to you.

First, the government should adopt a flat tax that EVERYBODY pays into. Art Laffer was recently on the TV and stated that the United States could begin to eat away at the national debt if we adopted a 12% flat tax that everybody pays into, as well as tacked on some sin taxes. Sin taxes would be tax on guns, alcohol, gambling, and the like. Think about your current tax rate, and then think about how attractive 12% is. Are you with me?

The idea is that more people need to pay more of the tax. The recent statistics indicate that something like half of Americans pay no tax at all. In fact, some people actually get PAID BY THE GOVERNMENT thanks to Refundable Tax Credits (discussed in a previous post). The theory is, and I agree with Laffer, if more people pay more tax then a small percentage of people get big cuts.

Second, cut government spending. The bigger the ship, the harder it is to turn, and that's our government. The larger government gets, the more inefficient and costly it gets. Cut programs not consistent with the intent of the Constitution, frivolous spending, and pet projects. The government should not have to fund wooden arrow makers in Oregon via the stimulus bill. Capitalism dictates if that business is a worthwhile venture, the free market will prop up that business on its own.

Third, do away with the double taxation of dividends. I am betting some readers of this blog don't even know this is happening. If you own a stock that pays a dividend, you know that you get a check in the mail from that corporation every so often. You also know that come April 15th, you pay taxes on those dividends. However, did you know that the dividend that you receive is actually AFTER-TAX proceeds from the corporation? That is, you own part of a company (a share of stock), that company makes money which you have a right to (that's the purpose of buying stock, a stake in future cash flow), that money is then taxed (effectively, since you are a part owner, you are being taxed), that money is paid out to shareholders, and then that money is taxed AGAIN. The effective tax rate of $100 in dividends is 44.75%! Do the math, $100 profit to the company is taxed at the corporate tax rate of 35%, reducing the corporation's (your) cash to $65. That money is then distributed to the shareholders, and taxed at 15%, or $9.75. You are then left with $55.25 from your original $100.

But Chris, why do I care? Dividends are only for the rich! Tax them and throw rocks at them!
Not so fast young Skywalker. I am not rich, nor do I care to have rocks thrown at me. However, I do collect dividends, and if you have any sort of retirement plan, so do you. Individual stocks are owned in mutual funds. A mutual fund is a collection of stocks, basically. When those stocks pay dividends, they flow into the gains realized by mutual funds, which are also owned in your IRA and 401k accounts. As of 2007, there were 64 million participants in 401k plans alone in this country. That is roughly 1/5 of the population. In addition, when accounting for the funds held in only IRA and 401k accounts, those funds held $6.1 trillion in assets as of 2004. How much is $6.1 trillion? Well, that is roughly half of our national debt, and it is greater than the 2009 GDP of Japan, the world's second largest economy. A lot of people have a lot of money invested in stock market assets, therefore I think it is exceptionally wrong to say that taxes on investments are a tax of the rich. Keep that in mind next time you're at an anti-Exxon-Mobil rally.

Third, and finally, I believe we should cut the corporate income tax rate. Of the world's five largest economies, the United States has the highest corporate tax rate. The world's five largest economies, in order, are 1) The U.S., 2) Japan, 3) China, 4) Germany, and 5) France. Their tax rates are 35%, 30%, 25%, 33%, and 33.3%, accordingly. To go one step further, their 2009 unemployment rates were 9.4%, 5.6%, 4.3%, 8.2%, and 9.7% accordingly.

Now, what does all of this mean? I did a simple regression analysis of the tax rates and corresponding unemployment rates of these five countries. There is an 88% correlation (relatively strong) between the corporate tax rate and unemployment in these countries. However, among the four largest (throw out France), there is a 93% correlation.

By lowering the corporate tax rate, it becomes more attractive for corporations to start, maintain, or re-enter the U.S. market. In doing so, jobs are created, and we increase the available tax pool. The countries listed all have strong labor and education bases. Simple logic tells us that if a company can get similar labor, cheaper, and pay less tax on profits (8% less) in China, why would they stay in the U.S.?

This is all food for thought. As always, please feel free to pass this on or comment on this web page. I will post back later this week with the Portfolio Update.

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About Me

DISCLAIMER: I started this blog as a way for people to exchange ideas relating to investing and finance, primarily. I am in no way a professional in these areas, merely a student of the financial world. The thoughts expressed on these pages have no connection to my employer in any way. Anybody reading this blog should do so with caution, exercise their own judgment, and do their own due diligence on any financial undertaking. About Me: I reside in New Jersey with my wife and my two dogs. I have a B.S. degree in Accounting with a minor in Finance, as well as an MBA in Accounting. Currently, I am employed as a forensic accountant, and am pursuing my CPA designation. I love the stock market, and picking stocks. I spend a great deal of time analyzing market data, as well as individual names.

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