Dog, Gain, Link, Link July 17, 2001February 20, 2017 I suppose you’ve seen the e-mail about the new canine breeds (breed a Collie with a Lhasa Apso and you get a Collapso, a dog that folds up for easy transport). If not, the only one you need be aware of, at least for now, is the Newfoundland crossed with a Basset Hound. That’s right: a Newfound Asset Hound. (Come December, you might check out the Pointer crossbred with an English Setter to produce a Poinsetter, the traditional Christmas pet.) Ralph Sierra: ‘I don’t understand your July 11 column [about the guy with the $150,000 capital loss]. On the one hand, you say he can, ‘offset $3,000 of his income each year for the next 50 years,’ but on the other you say, ‘the first $140,000 or so of gains, should he happen to realize any, will be ‘tax-free.’ I’d heard of the former provision, but not the latter.’ ☞ Let’s say you have $150K loss in 2001, only $3,000 of which you can ‘use.’ You carry forward the rest to 2002. Now let’s say that in 2002 you sell something for a $100,000 gain. Do you pay tax on that gain? No! Because you still have a $147,000 loss to offset it. In that sense, the $100,000 gain is tax-free. So in 2002 you use up $100,000 of the big tax loss carryforward, plus another $3,000 to lower your taxable income . . . and you would still have a $44,000 loss to carry forward to 2003. Thanks to Paul Lerman for this link to a Philadelphia Inquirer editorial concerning my college classmate Elliot Abrams’ appointment at the National Security Council. The essence of it: ‘It is hard to imagine someone less suited to be the council’s senior director for democracy, human rights and international operations. Manuel Noriega? Don King? The hiring of Mr. Abrams – who makes Jesse Helms seem like a milquetoast – mocks the President’s saccharine pledge of civility.’ And thanks to several of you for this affecting piece from a Minnesota Mom in Sunday’s Minneapolis Star Tribune (‘Does Jake ring a bell? Not for the Salvation Army anymore’). It follows in the wake of the Bush administration’s quiet deal to support job discrimination at the Salvation Army in return for $110,000 a month in lobbying efforts – a deal quickly backed off of once it came to light.
QUIDS, Pros, and Cons July 16, 2001February 20, 2017 George: ‘I found a stock that pays an 8% dividend. I am new to this. What is the difference between this type of security and a CD? (I am sure it’s not FDIC insured, but other than that.) The two I am referring to are called ‘quids’ – PGB and PEQ.’ ☞ QUIDS are Quarterly Income Debt Securities, issued by many utility companies to cope with a changing environment (‘laughingly referred to as ‘deregulation,” reports the estimable Less Antman, ‘by people intent on blaming the free market for recent disastrous changes in government regulation of utilities’). Portland General Electric Company 8.25% (PGB) and Potomac Edison 8.00% (PEQ) are two examples. They are shares of preferred stock that pay quarterly interest . . . unless the company wants to not pay dividends for a while, in which case it may defer them for up to five years (just tell your landlord to wait, ‘it’s coming’) . . . and that mature in 20 to 50 years . . . unless 8% turns out to be more than the company need pay to borrow, in which case, after five years, it can simply call in your shares and borrow someplace cheaper. So you are on the hook to the utility for 20 to 50 years, but the utility is on the hook to you for no more than 5. Of course, you can always get off the hook by selling your shares in the open market. But these shares are not likely to rise to much of a premium even if interest rates decline (buyers will know they can be called), and could fall to a major discount if the company got into trouble or if the general level of interest rates rose. (Why should anyone pay much for your rotten 8% when they can get, say, 10% down the street?) What’s more, if the utility went bankrupt altogether, your claim would come after everyone else except the common shareholders. You might not get a dime. So, no, they’re not CDs! And if you do buy them, and they do decide to defer interest payments for a few years, note that you may still have to pay taxes, currently, on the money you won’t receive until later. And it’s not just QUIDS. All this is basically true of MIDS, MIPS, QUICS, QUIPS, TOPrS, and TruPS. The name for the entire group is FRCS (Fixed Rate Capital Securities). The pros who developed these, perhaps hoping to entice unsophisticated investors like George, may be known in some circles (suggests Less) as Promoters Routinely Inventing Confusing Securities.
My Lucky Day! July 13, 2001February 20, 2017 So I’m going to Omaha, and the Sheraton offers me a $129 weekday special off the normal $185 rate for this nice room. I book it, but then offer Priceline $74 (which becomes $80 with their $5.95 service charge) for any 3-star hotel in downtown Omaha. Five minutes later, my offer is accepted and I have a room – at the same Sheraton. I call to cancel my $129 reservation and go with Priceline’s $80. The one big disadvantage, other than not getting the frequent guest points, or whatever, is that the reservation is nonrefundable. So if I were to cancel the trip, I’d be out $80. Only use Priceline for trips you wont cancel. But gee? A $185 room discounted to $129 but, for me, $80? That seems like a $49 saving, but it’s actually $56.37, because the 13.4% room tax is levied on only $74 instead of $129. Meanwhile, those of you following Calton (CN) see that my triumph was short-lived. Yes, we got our $5 dividend. And, yes, the stock then opened the next day at $1.40 – giving those of us who bought at $5.80 or so a quick 60-cent gain on an effective 80-cent investment. But if you didn’t get out on the open, you saw the stock fall back quickly and close yesterday at 96 cents. What’s more, it turns out I was wrong, and rather than having a bit more than $2 a share in cash, CN now has a bit less – barely $8 million, if that, divided over 4.2 million shares, give or take. So the cautions in last week’s gloating column were real. This company really could blow through its small pile of remaining cash, leaving us shareholders penniless. But for the same reasons I didn’t sell at $1.37 or $1.40, I’m certainly not selling at 96 cents. I’d only sell at this price if I couldn’t afford to see the stock go to zero. Happily, because of a lifetime of deeply discounted hotel rooms, I can afford to see it go to zero. And probably will. (That gloating column was the one in which I revealed the mysteries of the forgotten bread, a common human experience. Herewith another small revelation: That contact lens that fell off your finger as you were leaning over the sink, putting it in your eye? The one where you instantly fear it’s gone down the drain? It’s not in the sink at all. It’s on the ledge of the sink, or on the faucet handle! Those of you with 20-20 vision will have no idea what I’m talking about. But for the rest of us vainglorious souls? I’m certain it’s in the sink, I see all those lens-like water droplets in the sink, I was leaning over the sink, I heard a slight ‘plip’ coming from the direction of the sink – but no, when I am about to give up hope, I see it sitting there on the faucet handle, or the ledge above the basin. It’s a law of physics yet to be explained. And, if you ask me, another reason for Seinfeld to regroup for a new season.)
Don’t Buy My Book July 12, 2001February 20, 2017 No, I’m not punishing myself for failing to post a column last night (although that was very, very bad and your subscription has been extended). Rather, I am advising you that the reason I missed the column is that I was working on the latest update to The Only Investment Guide You’ll Ever Need, which should be out around the end of the year. I’d feel a little rotten if you bought the current edition only to discover it failed to take account of the new tax law, or other breakthroughs in financial technology, and that a new one was right around the corner. Joe Cherner (who shorted a few shares of GE around 52): ‘Would you rather own all of GE or all of Sony, NEC and Hitachi and have $350 billion left over?’ ☞ Can I just have the $350 billion? GE is a wonderful company, and is likely to be well-run even post-Jack Welch. But Joe makes an interesting point. Should this colossus really be valued at 34 times earnings? Will it be nimble enough to grow its profits at a rate to justify that? A company selling at 34 times earnings is, essentially, providing you with a 3% return. (Right? You are paying $34 for each $1 of earnings, or about $100 for $3 of earnings – a 3% return.) You don’t get 3% on your money; currently, you get a dividend of about 1.4% (minus whatever taxes you have to pay), with the rest of your share of the profits reinvested for you in exciting new ways to make the earnings even bigger in the future (like factories to make more Compact Fluorescent Light bulbs, please). Yesterday, for example, GE reported a 15% jump in quarterly earnings. But the question is . . . and I don’t know the answer . . . how long can GE keep growing at an above-average pace? If it could keep growing at 15% for the next 100 years, it would be more than a million times as large in 2101 as today, which isn’t impossible for a little hamburger stand with $60,000 in sales – McDonalds could certainly grow to $60 billion in sales by its 100th anniversary – but would be a neat trick for a company like GE with sales, today, of around $130 billion. (They would have to grow to $130 quadrillion, which would be about 400 times the current total gross domestic product of Planet Earth.) Just how sharply GE’s earnings growth will tail off, or even someday reverse, is beyond our knowing. If earnings keep growing at 15% for the next five years, they will have doubled. So if the stock didn’t budge for five years, it would then be selling at 17 or 18 times earnings and ‘returning’ 6% on the same share price instead of 3%. You would have done better in a Treasury Bond. The hope of those who are buying today, of course, is that the stock will budge nicely over those five years, as people keep bidding it up, anticipating ever-higher earnings. And they well may. After all, if GE grew at a still healthy 9% a year for the next century, it would only become 5,000 times as large as it is today, not 1 million times. And does anyone doubt GE can do that? All I know is that GE was a better short at 60, six months ago, or at 52 a few weeks ago (where I, too, shorted a few shares), than it is today, at 46. And that shorting stocks is a loser’s game for most people (me! me! me!). But that Joe is right: GE does still seem pricey.
The 50-Year Loss Carryforward July 11, 2001February 20, 2017 Dan Flikkema: ‘I recently met a casualty of the market. He was temporarily rich selling Celgene stock (CELG) for a big capital gain in 2000. His ‘advisor’ then invested all the proceeds in another company which promptly went bankrupt in 2001. He now has a tax bill of $40,000 on his 2000 gain, no cash left, and a capital loss of $150,000 which he apparently can only use to offset $3,000 of his income each year for the next 50 years. Individuals cannot carry back capital losses to offset a previous years income the way corporations can. Does that seem fair to you? Do you know of anything this person could do? Woody Allen was right when he said that a stockbroker is someone who invests your money until it is gone. Apparently you can lose all your money and then some.’ ☞ Ah. If we could only turn back time and shake this fellow by the lapels. What was he thinking? But we can’t, unless we fly very, very, very fast, and that’s that. As to the taxes, one obvious thing to say is that, no, it doesn’t seem fair not to allow us to ‘carry back’ our capital losses as well as carry them forward, so that his 2001 loss could be offset against his 2000 gain. But we can’t, no matter how fast we can fly, and that’s that. On the other hand, it may not be 50 years before your acquaintance realizes some capital gains against which to offset some or all of what, after the first year, will be his $147,000 ‘capital loss carryforward’ (and what, after the second year, will be his $144,000 carryforward, and then his $141,000 carryforward – each year using $3,000 of it to lower his taxable income). Indeed, for him, the risks of the stock market will, in a sense, be more worth taking than for the average guy, because for him, the first $140,000 or so of gains, should he happen to realize any, will be ‘tax-free.’ (This is not to say he should take imprudent risks. There’s always the chance, through bad luck or bad choices, he could just keep growing, rather than shrinking, his capital-loss carryforward.) Two other thoughts: He could marry a woman with lots of appreciated securities. Even without his tax-loss, this recommends itself if it would require divestiture of a current spouse. I believe his tax-loss carryforward could then be applied to her capital gains, if she choose to realize some and they were filing jointly. (I’m not a tax attorney or matchmaker, however, so this should be further researched before purchase of a ring.) Does your acquaintance have wealthy parents who are already each giving him $10,000 a year in order to shrink their taxable estate? (This is the most any one person can give another without triggering reporting requirements and the gift tax.) If so, they might be able to give him that $20,000 a year not in cash but in appreciated securities, if they happen to have some. His “cost basis” for the shares would be whatever theirs had been, so if each $20,000 chunk had, say, a cost basis of just $4,500, he’d have a further $15,500 capital gain each year against which to offset the loss, and the whole thing would be used up in just eight years or so. That might or might not put him ahead of the game, depending on what happens with the estate tax and the treatment of appreciated securities at death. Sat this went on for eight years and then, tragically, both parents died. The size of their taxable estate would be unchanged whether they had given him cash or stock, so the gift tax would not be affected. But if they had given him cash, he wouldn’t have used up the rest of his loss carryforward . . . and yet, under current law, the appreciated securities in his parents estate would pass to him free of capital gains tax (because he could elect to have the “basis” of their shares “step up” to the price as of their death). So he would have used up his loss carryforward for . . . what, exactly? Nothing, if I’m thinking this through clearly (and I know I can rely on any number of you to set me straight if I am not). So as with most fancy tax maneuvers, I wouldn’t rush into this one, either. Mainly, though, I repeat – what was he thinking?
Money Market Funds July 10, 2001February 20, 2017 David Jelinek: I’m looking at opening a tax-free money market account. Let’s say the going rate for taxable money market funds is 4.75% and that I’m in the 36% federal bracket. That means that my goal is to find a tax-free MM account yielding at least 4.75% * (1-.36), or at least 3.04%. Now here are a few issues: 1. When I find the yield for a tax-free MM acct, that yield isn’t going to stay the same. So how do I judge? Should I just make a decision based on the current taxable and tax-free yields and figure they’ll stay about the same relative to one another? ☞ Yes. That’s a reasonable, if imperfect, assumption. 2. Should I even bother getting a tax-free MM acct in the first place? Maybe I’ll beat that 3.04% figure by 40 or 50 basis points if I’m lucky. Do you think that’s really worth it? ☞ No. No one should ordinarily keep huge amounts in a money market fund, and therefore, the difference in absolute dollars is pretty trivial, and not worth your time worrying about. Fifty basis points on $10,000 is $50. 3. It’s aggravating to think that I won’t even keep pace with inflation. I hate the way the tax code works. ☞ It’s much better in Burundi. Well, on balance, maybe not. To beat inflation safely and with a tax advantage, consider Series I savings bonds. 4. I found something very puzzling about the whole performance vs. expense ratio deal: According to imoneynet.com, two of the best performing tax-free MM funds are Strong Municipal MMF and Vanguard Tax-Exempt MMF. As it happens, Strong has beaten Vanguard every year since 1994 (which is the earliest year for which I have data). And yet, Strong’s total expenses total a whopping 1.1% while Vanguard totals .34% !!! ☞ You are reading the numbers wrong – adding the management fee to the expense ratio. Actually, the management fee is part of the expense ratio. Based on the web sites you linked me to, Strong’s municipal money market expense ratio is 0.6% and Vanguard’s is 0.18%. So Strong is consistently outperforming Vanguard by about 1% every year before expenses!?! Is the muni market THAT inefficient? What the heck is going on here? ☞ I haven’t studied it, but Strong may be taking a little more risk in the nature of the securities it will buy and the length of maturities it will accept. What do you do for a money market account? ☞ I don’t pay much attention to this. I just use the ones that come linked with my brokerage accounts.
CN, But First a Word About Bread July 9, 2001February 20, 2017 I have pointed out before that there’s no such thing as stale bread if you have a microwave – it’s a miracle! But today I want to point out now how much bread is wasted simply because we forgot the bread! Right? You come into the kitchen with the dinner plates, thinking about dessert and debating whether or not to make coffee . . . the place is a mess because cooking for eight people is no tidy affair . . . and off on the windowsill, or still in the oven, is this beautiful loaf of French bread. We forgot the bread! We turned off the oven that was heating it, we went to parsley the vichysoisse, we remembered the salt and to light the candles – doorbell! late guest! dinner’s served! great conversation, great chicken, what’s for dessert? how do you take your coffee? We forgot the bread! An entire Seinfeld could be baked around this common human experience – you can just see Kramer brandishing a 30-inch hardened loaf, accidentally knocking something, and then himself, down with it. The banter over the French. And the crust. George would certainly have some insights to share. But Seinfeld is over, there will be no new Seinfelds, and I just have to get used to that. So we got our $5-a-share dividend from CN Friday, and those of us who bought more of the stock in the last couple of weeks (see June 4 and June 25) at around $5.80 were pleased to see that our 80 cent investment (which is essentially what it was, less the extra $5 we had to put up briefly to play) closed Friday at $1.37, up 71%. I’m not selling here, even though I love a quick 71% as much as the next guy, because Uncle Sam would take 40% of it and because it’s possible – possible – the stock could be $2 or even more a year from now when the shares I bought earlier this month go long-term. But neither would I rush to buy more at this price. Theoretically, I guess it’s still a good value, what with $2 or so a share in cash, no debt, an American Stock Exchange listing, and interests in some tiny, iffy, dot-coms. After all, management owns a lot more of CN than any of us, so they have an incentive to make the stock grow. But they also just got a huge dividend themselves, so they won’t exactly starve if they fail – to them, as to some of us, this may be gambling money. And by now the cash horde is so small (around $10 million or so, I think), management could easily fritter it away over a period of years just by drawing large salaries and/or propping up the dot-coms. So it’s not a sure thing. I am fully prepared to see CN shrivel from $1.37 to nothing, and if you own it, you should be, too. $65OOPS! Susan Parkes: ‘In your 7/5 column you said that SIMPLE plans allow each employee to contribute up to $6,000 of earnings in 2001. It’s $6500!!!’
Some Other Good Things About The Tax Cut July 5, 2001February 20, 2017 Jim Ries: ‘What ever happened to the article about the new rules on retirement plans, promised in the one about education IRAs and 529 plans? It’s been more than a month. ☞ You’re right! That column was about the improvements in the college savings plans that were put into the tax bill, thanks largely to the efforts of the Chair of the Senate Education Committee, Republican … oops … Independent Jim Jeffords of Vermont. (A Republican by birth and choice, Jim Jeffords lasted through the Republicanism of Richard Nixon and of Ronald Reagan and even of Newt Gingrich, yet made it through only four months of the Bush/Lott/Armey years.) Those changes make saving for college far easier. But before you start spending all your money to fund college plans for your kids, make sure you’re taking care of yourself. As nice as it might be to pay for all their college costs, you’re helping your kids more if they don’t have to worry about YOU during your retirement years. Here’s the good news on that front, starting in 2002 (thanks to the estimable Less Antman for helping to pull it together for me – if it leaves you with specific questions, click at upper left to ‘Ask Less‘): IRA limits have increased. The IRA contribution limit stayed at $2,000 through decades of inflation, so for starters, the new tax bill hikes it to $3,000 on January 1, 2002, which is ideally the day you should fund your 2002 contribution (although it would not be unreasonable to wait until January 2). For people over 50, for whom retirement looms, it’s $3,500. By 2008, the limit rises to $5,000 ($6,000 for those over 50) and is indexed for inflation from then on . . . until the end of 2010, when the tax bill expires and the limit goes back to $2,000. Presumably, Congress will in fact not roll back the limits, which is why the so-called $1.35 trillion tax cut this decade will be more like a $4 trillion or $5 trillion tax cut next decade. Which is why a lot of this tax cut will wind up being chopped way back. No way will the estate tax ever really fall to zero for families with tens of millions or billions of dollars, nor should it. But the new retirement-fund limits may well hold and, as one who believes in savings, I hope they do. Employer-funded plan limits have increased as well. Happily for the average working man, defined benefit plans can now take into account annual wages up to $200,000 (versus a meager $170,000 before). And the annual funding of a defined contribution plan bumps up from $35,000 to a more compassionate $40,000. SIMPLE plans allow each employee to contribute up to $6,000 of earnings in 2001. The new law raises that $1,000 each year until it hits $10,000 in 2005. Contribution limits on 401(k), 403(b), 457, and SARSEPs are rising to $11,000 in 2002, then increase $1,000 each year until reaching $15,000 in 2006. All these plans have higher limits for folks over 50, and contribution limits are indexed for inflation once the top number is reached. Until 2011, of course, when it all reverts to today’s levels, which is why it’s really a modest and fiscally sound $1.35 trillion tax cut that was passed. Married couples previously earning too much to qualify to contribute to Education IRAs will now be able to do so unfettered unless their adjusted gross income exceeds $190,000 (at which point the contribution limit rapidly phases out for those whose incomes exceed $220,000). Another reason for the average guy-and-gal to cheer. (The $95,000 limit on single people and couples denied the right to marry remains unchanged.) Single taxpayers with up to $15,000 of adjusted gross income (and joint filers with up to $30,000) are given a 50% tax credit for contributions of up to $2,000 to retirement plans (including Roth IRAs!). The credit phases out rapidly above $15,000 ($30,000), and there is no credit for singles with income above $25,000 (or joint filers above $50,000). The problem is that people who earn so little may have a rough time putting $2,000 away in the first place. And the tax credit is not “refundable” (meaning that if you owe no tax, you get no credit). And it doesn’t apply to anyone who is a full-time student or is a dependent on someone else’s return. And it expires after 2006, in part, one assumes, to help pay for the estate-tax cuts for the very wealthy. That said, if you have kids or grandkids recently out of school and in the work force (or you are such a kid, with parents or grandparents of your own), you might want to explore this. A parent might give $2,000 to a child fresh out of school and earning $30,000 while his wife stays home with the baby, which the child could then use to fund a Roth IRA and recoup $1,000 on their tax bill. At least up to 2006. To me, the main deal here is the increased limits on Roth IRA’s. Everyone who can should put away the maximum each year. Roth IRAs will go a long way to providing a reasonable tax-free retirement income to supplement Social Security. Sorry this column was posted late. Can we all agree to make this a very lazy week and skip a separate Friday column? Slather on your sunscreen (really! It’s important!) and have a great weekend.
Lucky Us July 3, 2001March 25, 2012 If you should happen to see a teenager tomorrow, grab him gently by the skateboard and try to explain a little . . .
Fuzzy Math July 2, 2001February 20, 2017 Paul: ‘I just read Fuzzy Math, The Essential Guide to the Bush Tax Plan, by Princeton economics professor Paul R. Krugman. Easy, quick read that exposes the flaws of the Bush Tax Plan and the underlying political agenda that goes beyond just putting the government in a budget strait jacket to limit growth of government. The goal is to make the tax burden on the average voter greater than the benefits the voter perceives he/she receives from government, thereby creating an electorate sympathetic to small government and further tax cuts. By skewing the cuts to benefit a relatively few rich people, the tax burden on the middle class remains high in relation to the diminished government benefits they receive.’ Chris Ficklin: ‘I’d like to echo what Paul said about using the Internet to buy cars. I just bought a new Ford Truck but before even going to the dealer I researched what I wanted on CarPoint and Kelly Blue Book. I added a couple of hundred dollars to the invoice and that was my target price. I told the salesperson what I was willing to pay as if I were paying cash, which unfortunately I was unable to do, but my credit union was offering 6.5% so I’d have them finance it. They still tried to play their silly games on me. I stuck fast and got the price I wanted. Would have saved them some time if they would have just given me that price to begin with! In fact, they wanted my business so bad that they lowered the price even further to entice me to finance it through Ford Credit at 6.9% with the same payment. I figured that’d save me a trip to the Credit Union and since I’d likely pay the loan off early, I was glad they lowered the sales price for me.’ Tom Mathies: ‘You write: ‘Just remember that it’s still a lot cheaper to have Pepsi and pasta at home.’ But soft drinks have hidden costs. Aren’t you a tea man?’ ☞ Yes! Yes! Demand your Honest Tea! One good place for an iced cold sample: Barnes & Noble cafés.