Whether we like it or not sometimes politics touches on our day to day lives and the current $3.5 trillion package being debated in Congress could do just that. While many pundits focus on the political fight for the drama element, while ignoring the policy implications of the bull is passed as is, I wanted to take some time to hit the main points of the bull and how it could affect all classes of people as well as investors.
First, to put this in perspective, this bull is a massive increase in spending. Entire political movements were built on $800 billion bailouts in 2008 yet only 12 years later, a $1.9 trillion Covid stimulus package was passed, increasing the national debt by around 10% and now Congress is looking to increase that by another 15%.
I was remarking to my partner the other day that the way the system is evolving is favoring the older generation and becoming increasingly unfair to younger workers who will be required to bear much of the burden in the future for greater medical coverage and pet projects of government. Despite the debates you may read or see in the media, the elephant in the room of the budget is entitlement spending. Medicare and Social Security make up large portions of the current spending plan and the reforms being proposed only seem to increase the cost. Millennials and Gen-Z are already behind where their parents were at the current age and much of the recent gains in asset prices have benefitted those that are older as well, further skewing the divide. Although social spending alleviates some of the collective guilt of providing more meager social programs compared to other wealthy countries, the question remains whether it will have the desired effect of assisting working people or if it will just act as a subsidy for those that are already doing well.
With that in mind, I wanted to cover the main highlights of the bill and discuss the potential implications here.
To keep it short and summarize, here are some of the main facets of the current bill on the tax side which may affect investors:
Changes to Taxes
• The top tax rate would increase from 37% to 39.6%. This would be applied to individuals with incomes over $400,000 or married couples with a combined income greater than $450,000.
• The estate and gift tax exemptions which currently total $11.7 million would be cut in half per individual and the old limit would expire in 2021.
• It will attempt to stop the wealthy from benefitting from IRA’s eliminating “back door” Roth conversions for those in the top tax bracket.
• Wash Sale Rules – currently the wash sale rule let’s you declare a loss if you sell a security for a loss and buy a “substantially identical” security 30 days later. This would extend to currencies commodities and digital assets meaning, yes, crypto.
• Capital Gains – The too capital gains rate, currently at 20% would be increased to 25%. This still leaves a 14% difference between capital gains and wage income so won’t significantly impact the incentive to earn from capital as opposed to working.
On the spending side, their are a slew of ideas being put forth to put that $3.5 trillion to work. These ones are likely most relevant to our day to day lives:
Spending and Benefit Changes
• Universal Pre-K – There is currently no universal pre-k in the US and a family can spend as much as $13,000 a year on child care, a significant expense which continues to outpace inflation. Offering this universally is intended to relieve working parents of this burden.
• Community college tuition would be free for 2 years. The federal government would take 75% of the cost of this with states taking the rest.
• Paid family and medical leave would be offered to workers giving them up to 12 weeks of guaranteed paid parental, family and personal illness or safety leave.
• The child tax credit would be enhanced. Families this year can receive a child tax credit totaling $3,600 for each child under 6 and $3,000 for each one under age 18.
• Dental and hearing benefits would be added to Medicare. Nearly half of Medicare beneficiaries, or 24 million people, did not have dental coverage, as of 2019.
• Obamacare subsidies are included to ensure that Obamacare enrollees have to pay to no more than 8.5% of their income and make assistance available to more Americans.
There are a rash of other proposals and the fact that no one has put a price tag on just the above is worrying enough. Additional proposals in the bill include investing in “racial justice health measures“, improving VA hospitals, additional green cards for immigrants, consumer rebates for use of renewable energy, and federal programs covering those in states that rejected Obamacare’s expansion of Medicaid and Medicare.
Potential Problems
It’s easier to add things onto an already existing system than it is to reform the entire system. If the US were to start from scratch with an entirely new healthcare system I doubt we would have anything that looks like what we currently have. The fact that the government cannot negotiate prices for their own purchase of prescription drugs is a ridiculous and is a form of state capture by the pharma industry.
Although many of the wealthy will cry for higher taxes, the changes on the collection side make some sense. Above millions of dollars, it doesn’t make sense that an individual collecting dividends should pay less tax than someone working who made the same income. Although the argument that this money is already taxed at the corporate level is valid, the practical outcome benefits those with entrenched wealth more. Whether the rich will continue to stay in states like New York and California is another question, facing a top tax rate of over 60% could potentially induce some of the 80,000 people in NYC who fund 42.5% of the revenue the city collects, a strong incentive to move away.
Some studies have shown that increased subsidies for childcare have helped maintain or even stimulated the birth rate, which has been falling and been weak since the financial crisis. Childcare assistance could definitely help many and encourage people to take the financial burden of having children. Additionally, setting some standard for leave for families and health brings the US in line with much of the rich world.
However, all the spending and increased revenue ignores the looming issue of entitlement spending. In order to see how much Medicare, Medicaid and Social Security take up currently, it helps to look at a recent year that doesn’t include the exceptional measures of 2020 and 2021. So be low take a look at federal spending for the year 2018.
These 3 programs take up about 48% of the entire budget and the current proposal has the federal government expanding them further. Again, the intentions here are good: we want to care for those in old age and those who have been injured and aren’t able to work, but the current system has a one size fits all model.
It doesn’t make any sense that social security and Medicare are not means tested. My parents can well afford their own private healthcare, even in their old age but the current system forces them to have Medicare unless one of them is still working. This means that the middle and working class are directly paying for the care of wealthy people and it will be even more the case when dental and hearing is added.
Additionally, social security works in much the same way. I know of a few people who don’t need the social security check and are able to wait until they turn 70 to collect the maximum monthly payment of $3,895. Although there are actuarial tables showing the rates of interest and the worked years, these are just so everyone knows there payouts, the reality is the money just goes from a workers paycheck to grandpa’s account each month. Again there are plenty wealthy older people who don’t need this money and still collect it, while all the politicians look the other way because older voters represent such a powerful voting block.
Add to this the fact that 80% of the stock market is owned by the wealthiest 10% and the wealthiest 10% tend to be made up mostly of older people in their 50’s and 60’s and you start to see a moral dilemma about who should be paying for this in the long run. Those with assets (i.e. that top 10%) have disproportionately benefitted from the low interest rate environment we are currently in. The rates have produced higher prices in everything from real estate to equity markets. Much of this has benefitted the older generation who is now poised to receive even more handouts. Although those older ones can claim “we did our work and paid for previous generations” they did benefit from a demographic dividend in the post WWII world of which we are now experiencing the hangover.
Although the ideals and empathy in this spending increase are well intentioned, the methods should be scrutinized more thoroughly and uncomfortable questions need to be addressed now to avoid more problems down the road.
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