June 9, 2008

Election 2008 - The Bad

I may be an optimist at heart, but I tend to match it with some pragmatism. That pragmatic side leads to me to conclude that our next Presidential Admiinistration will still leave some significant issues unresovled.

The first thing that I fear will be left to get worse is the situation of Medicare and, possibly, Social Security as well. I'm concerned less about the latter because, frankly, it's not as immediate of a concern, and also it affects more people so the issue will remain in the public consciousness. Medicare, on the other hand, is a train wreck waiting to happen. It'll be paying out more than the system takes in many years before Social Security. It's also more difficult to reform since at its core, it's about mroe than simply money. I may just have missed it, but I don't think either candidate has laid out any specifics on how to right the Medicare ship.

Along that same vein, I'm not holding my breath for either candidate to balance the budget. Growing government debt is quite possibly the most dangerous thing to America's long-term fiscal health than anything else. Every personal finance book expouses the need to reduce debt, but that lesson seems to be lost on the government. More likely is that every single lawmaker realizes the need to reduce this country's debt, but finds it more politically feasible to keep spending money we don't have. It's easier to sell the idea of increasing the debt by 2% than to cut back the dollars that the government gives to real people and businesses.

On a more abstract level, I don't look for either candidate to do anything to close the trade deficit either, which along with the afore-mentioned government debt, is by far the biggest reason that the U.S. dollar has been weakening. The weakening dollar itself will eventually finish closing that gap, but I don't think we want to wait for the dollar to drop that far. I think the Euro would pass the dollar as the global currency of choice before that happens, which would spell disaster for the U.S. financial system. Google "Balance of Payments Crisis" and see what would happen to the U.S. if the world decides to stop using the dollar as the currency of choice.

Finally, I fear what could happen to the tax code.under either of the main candidates. I'm concerned that overall tax receipts by the government will be reduced without a concomitant reduction in spending.I fear the permanent repeal of the estate tax. I'm afraid that dividends will continue to be trated as different from regular income. I really hope they leave the capital gains taxes lowered, especially when held for longer than a year, though that would require separating it from the dividend tax that it's always paired with in debates. This is not just because I own and will continue to own stocks for a very long time, but also because more and more people rely on stocks as part or all of their retirement savings.

It strikes me that the things that I've labeled as bad seem to be systemic problems with America. I don't want that to be construed to mean that I think the system is broken, but simply that it has some issues that should be addressed, as do all systems of governance. The folks over at Reddit have not yet convinced me that America isn't the best place to live.

Posted by chupathingy on June, 9, 2008 at 1:13 AM | Comments (4)

What's wrong with a low tax on dividends? Why is a low tax on cap gains better than a low tax on dividends? Dividends seem like a nice easy(er) way to generate a more reliable stream of income... Seems like most people need all the help they can get to accumulate enough for retirement, why raise the dividend tax?

Comment by: matt g at 10:49 AM, June, 9, 2008

"reliable stream of income"

That's the key. Dividends are a stream of income, like a paycheck that arrives every 3 months, and I believe they should be treated like regular income. Capital gains are much less regular and generally take longer to materialize, so why not encourage longer term investing?

Besides, taxes on retirement investing really aren't much of an issue for most people because of tax-deffered accounts like IRA's and 401(k)'s. However, any additional retirement investing on the side should still have the same long term time horizon. In this case, dividends should be reinvested, unless the income (that word again)is needed, which usually avoids the tax anyway.

And just so we're all on the same page, capital gains on stocks held less than a year are already treated as regular income. I probably should've mentioned that.

Comment by: neil at 1:39 AM, June, 10, 2008

I've got a few bugaboos with that...

1) It's pretty easy to find a company that will pay you a few percent for investing in them. They are typically large and relatively stable. It's a lot harder to pick one or more companies that are gonna make a lot of money, but aren't yet. There's a lot of speculation and volatility here, and the big "growth" industries like solar and tech are less of a clear bet. If someone has a limited amount of funds to save for something important (like retirement), I wouldn't fault them for looking for the "safer" return.

2) Even with dividends reinvested, aren't they taxed? This could be a huge drag on long-term returns, and does not reward long-term investing. This is really my biggest beef with the current system.

3) The money you bought the stock with was (presumably) already taxed. I know, the gov't wants a share of any money you make anywhere, but it just hurts a bit to get hammered on it twice. This is probably the weakest argument of the bunch...

Not that I really have to worry about any of this right now - I'm no where near maxing out tax-advantaged savings. When I do it will fall into the category of "things people with too much money pretend are huge problems."

Comment by: matt g at 1:48 PM, June, 10, 2008

I stand corrected on the dividend reinvestment, it's still taxed. I was thinking of a special case that lets you avoid it. But still, there is no double taxation, even if the money that you bought the stock with was already taxed. You are only taxed on gains. If I pay $100 for stock and then it goes to $120 and I sell it (unrealized gains are not taxed), then only the $20 profit is taxed. Or, if I pay $100 for a share of stock that pays a dividends of $2, then only that $2 is taxed.

Dividends are a piece of the company's net income that is paid to the owners of the company (shareholders). The rest of the net income is reinvested back into the company. Paying a higher dividend means having less money to reinvest to help the company grow. If a company pays a high dividend then it means they don't have much opportunity to grow and vice versa. There's a tradeoff between delivering the money to stockholders now through dividends or potentially delivering even more through capital gains later. As an investor, you should know the company's dividend policy beforehand so you can invest in companies that will payout on your own terms. If you need income, focus on dividends or if you'd like to try to grow your pool of money over time, focus on capital gains. In reality, a mix of capital gains and dividends is probably the answer. As in most things related to investing, diversification is key.

Comment by: neil at 2:46 AM, June, 15, 2008