Freeing Dividends from Tax January 9, 2003January 22, 2017 WAIT A SECOND! Bob Fyfe: John forgot the :06 seconds – 01/02/03 04:05:06. ☞ And now he’ll have to wait 1000 years to get it right. But Brooks Hilliard offers solace: ’01/02/03 04:05 may be gone,’ he writes, ‘but it won’t be long before 03/03/03 03:03:03. And 03/04/03 04:03:04 should be a lot of fun too – not to mention the rest of the first few weeks of March up through the 23rd.’ MORE PLASMA TV Paul Lerman writes that David and Hans’s advice about waiting to buy a flat screen TV was wise. LCD displays that could cost (and weigh!) just half as much as today’s plasma screen are not too far off. See, for example, this mention of Samsung’s plans. Ivan Maltz: ‘I don’t want you to miss out the quality-of-life improvement offered by Plasma TVs. I bought a 42″ Panasonic from an Internet vendor for $3500. Watching a DVD is more like going to the movies than watching TV. Learn the FAQs before spreading misconceptions about power consumption and product lifespan. Power consumption is moderate – 350 watts. This is offset by turning off all the lights when watching to get that theatre experience. The displays have rated lifespan of 30,000 hours till they lose half their brightness – this is in excess of 10 years of normal viewing. The AVS Forum has a great section on Plasma displays. For starters, check out the FAQ page. Just like TiVo, plasma TVs must be experienced to be appreciated.’ ☞ Well said, though personally I don’t like watching TV in the dark no matter how good the screen. And to me, the even-better picture is nice, but TiVo is truly life-changing. And costs, all in, one-sixth as much. MAKING DIVIDENDS TAX-FREE Say you are an elderly person with half a million shares of Merck. Merck pays a $1.44 dividend, so you get $180,000 a quarter (500,000 times $1.44 divided by four). The taxman currently grabs $70,000, give or take, leaving you with just $110,000 a quarter. President Bush’s new initiative would give you $70,000 extra every 12 weeks to buy all the things you always wanted but could not afford. What better way to help the elderly and stimulate the economy? I’m sold. And even if blowing $30 billion a year on this doesn’t much help the economy (which it won’t) . . . and even if it cuts into state budgets that are already reeling (by making tax-free municipal bonds relatively less attractive, thus raising states’ borrowing costs; and by cutting revenues in states that tie their income tax to federal taxable income) . . . and even if it encourages less investment (by encouraging companies to pay out more of their earnings rather than reinvesting them; and by encouraging investors to favor stodgy income over job-producing growth) . . . and even if it adds to our federal deficit and increases our national debt, weakening our finances and placing a greater burden on our kids . . . I’m still sold. Why? Because the rich in this country have had it too rough for too long, and it’s high time we addressed some of their problems. Sure, we’re forever hearing about people like Amandeep Kaur, a New Yorker profiled in the Wall Street Journal (November 12, 2002) . . . ‘working seven days a week in the newsstand, she earns barely enough to pay for necessities and buy her eye drops’ . . . and about the excruciating pain in her eye. And, yes, we’re sorry for her. (‘Uninsured and Ill, a Woman Is Forced to Ration Her Care,’ the Journal headlined its story.) But what about my friend who owns 2 million shares of International Flavors & Fragrances and must get socked for close to $600,000 a year in federal, state, and city taxes on his dividends. What about his aches and pains? It’s really hard not to get sarcastic about this (and I think my friend with the 2 million shares – a Democrat – would agree). The fact is, there ARE some good things to be said about getting rid of double taxation of dividends. For one thing, it’s a lot harder to fake dividends than earnings, so if dividends ever again came into vogue, it could be an ‘accounting reform’ at least as valuable as anything we have gotten so far. But it is just silly to suggest that this is the best way to jumpstart the economy and get people back to work. And it is the worst kind of bullying to paint dissent as ‘class warfare.’ There IS class warfare being waged, but not in the way that phrase is intended by the Republicans. They came into power after eight years when almost everyone had done well. Yes, the top 1% had done better than everyone else. Even after tax, they were getting richer at a faster pace than everyone else (thank you very much). But it was a time of expanding prosperity and wide opportunity in part because we had found a good balance. All had come to see that the 90% top federal tax bracket of the Eisenhower years was crazy – as was the 70% top bracket of the Kennedy, Johnson, Nixon, Ford and Carter years and the 50% top bracket of the first Reagan term. But many had also come to realize that going all the way down to 28% in the second Reagan term (and 31% once Bush, Sr. inched it up) had overshot the mark. We added $3 trillion to our national debt, interest rates were high, the economy was not so hot. Clinton/Gore set the top rate at 39.6%, significantly expanded the Earned Income Tax Credit to give a break to the working poor, a lot of lives improved, 22 million jobs were created, a lot of red ink turned to black. So into office came George W. with a proposal to cut taxes by $4 trillion in a decade (once the cuts were fully phased in, which he now wants to do much faster and make permanent), with the great bulk of that tax cut going to the top 2% or 3%. He told us we were headed for a recession (always a good way to help precipitate one, if you’re President) and told us that if we eliminated the estate tax on the wealthiest 1% of families in 2010, that would surely help to avert said imminent recession. Oh, give, me, a, break. So please don’t tell me that making dividends tax-free is the most effective way to get the economy moving again, any more than eliminating the estate tax in 2010 (or any other time) is. As to the unfairness of double taxation – take a number! What makes this particular unfairness worth $30 billion a year, ahead of all the others? Or, as faithful reader Hank Gillette e-mailed last night when he saw today’s topic, ‘Mr. Bush has such a finely tuned sense of fairness when it comes to issues that benefit the powerful and wealthy, while being completely oblivious to issues of fairness in other areas.’ ‘To save money,’ noted the New York Times December 23, ‘Kentucky is freeing prison inmates. In California, the governor is threatening to slash financing for the state’s proud university system and cut subsidized syringes for diabetics. Oklahoma plans to scale back health care for children under 6.’ What’s fair about that if you’re under 6? When I was a lad, the first $400 of dividends was tax free. It was so long ago my memory may be playing tricks – maybe it was $200 – but it was something like that. I always assumed there were two reasons for this: one, to simplify tax filing and, two, to give the average gal or guy a little extra incentive to invest in America. Adjust that upwards for inflation to perhaps $2,000 and you would be making dividends tax-free for most Americans. Most Americans today do not have more than $50,000 of dividend-paying stocks outside their already tax-sheltered retirement plans. You’d still see most of the benefit going to the wealthiest Americans, for two reasons. First, unlike most Americans, virtually all of them would get this tax break, because almost all of them own enough stock to use the $2,000 exemption. Second, for them it would be worth $800 or so, because they are taxed at the top bracket, whereas for many, taxed at lower brackets, it would be worth much less. If we did a $2,000 exemption – and I don’t think we should – it would cost the treasury a lot less (saving that hypothetical Merck senior $800 a year in tax instead of $280,000 and my friend with the two million IFF shares $800 instead of $600,000). And when the wealthy did want a tax-free return, they’d continue to buy municipal bonds. (You may be thinking, “These examples are unfair. Almost nobody owns 500,000 MRK or 2,000,000 IFF.” Well, you’re right. Almost nobody does. So why are we proposing to spend the better part of $30 billion a year to help almost nobody?) Surely no one would argue that taxation of dividends starved the stock market of inflows in the 1990s. Or that venture capital, which seeds new enterprises, cares much about dividends one way or another. If tax-free dividends had been Bush’s one great gift to the wealthy in 2001, well, such are the spoils of class warfare, and it could have been worse. But wanting now to make permanent and even to accelerate last year’s gargantuan cut for the top 1%, adding this to it is just ridiculous. Shocking. Depressing. And – because of the massive deficits we’re headed for – irresponsible. Other than that, I like it.
A New Apollo Project January 8, 2003February 22, 2017 MAYBE THEY’LL TURN TO BOREALIS Click here to read Congressman Jay Inslee’s call for a new Apollo Project. Wouldn’t it be nice to wean ourselves off Mid-East oil? Improve our balance of trade, our national security, our environment? Our perceived piggishness in the world? Improving our energy efficiency will make us richer and more secure. Only an oil man could fail to be enthusiastic. STILL USING MYM DOS? ME, TOO! Judy Brown: ‘I wrote you a few days ago about MYM12 displaying half screen since we converted to Windows XP. Well I found the solution. Assuming you have a short cut to MYM, right click on it and go to Properties and then Screen and set it to ‘Window.’ When you bring up MYM, the display will be in a window. You then hit “ALT+ENTER” which brings it to a full screen display. I am very happy and will continue to use MYM.’ Tomorrow: A Few Thoughts on the President’s Dividend Plan
Well, IS the Stock Market Safe Again? January 7, 2003February 22, 2017 The market is never safe – as in, ‘risk-free’ – but that’s not news. It is always relatively safe for those with a very long time horizon (but that’s not news, either). Safer still for those able to keep investing periodically over that long time horizon. If you’re 23 and planning to put 10% of your income into the market each month for the next 40 years, to gradually withdraw it over the 35 that follow, who cares where it goes in the next five or ten? Indeed, the lower the better. Just sit back and enjoy the relative certainty that if humans have a future (increasingly a question, but still a good bet), you should do fine. Even more fine if you put perhaps a third of your funds into international markets, not just the U.S. But what if you’re 63, not 23? Is it safe? Is it safe? You have surely heard by now that the last time the stock market fell three straight years was forever ago, and that the chances, thus, of its falling yet a fourth year – let alone in the third year of a presidential term (when any president will pull out all the stops to assure reelection, and in this case has majorities in both houses of Congress to help him) – are slim indeed. Or so many say. A financial writer interviewed on the Today Show this past Saturday, whom I will not embarrass by quoting him by name, all but guaranteed it. (‘Nobody wants to invest in the stock market right now which tells you what? That’s where the bargains are right now!’) But is the Dow a bargain at 8600? Disclaimer: Obviously, I don’t know. Still, consider that this past Friday, Japan’s Nikkei Dow closed at 8578, down from a hair under 40,000 thirteen years earlier, and that our own Dow closed at 8601, up from 2700. Theirs had fallen 78% after 13 years, ours had tripled. If you had asked people in January, 1990, when, if ever, they thought the US Dow, at 2700, would overtake the Japanese Dow, at 40,000, few would have guessed ‘a dozen years.’ (Friday, by the way, was not the first day this happened. The two have been dancing around each other for some time.) Gee, time flies when you’re having fun. I’d venture to guess that the ’90s flew by a lot faster in Omaha than in Osaka. So: Was the US market as preposterously overvalued at the start of 2000 (when it finally cracked) as the Japanese market was at the start of 1990 (when it finally cracked)? On the whole, no. Only the wildest sectors of our market were. Those sectors are better reflected by the NASDAQ than the Dow – and the NASDAQ is down from 5200 to 1400. But thirteen years earlier, it was 450. So, like the Dow, it, too, has about tripled since 1990. I am not suggesting that we face the same fate as Japan. (And I am not suggesting that you sell the US Dow to buy the Nikkei Dow. Even after 13 years, Japan may not be out of the woods.) I am just looking for points of reference. Here is another one. I have trotted it out in this space many times before: On December 5, 1996, just a little more than six years ago, Fed Chairman Alan Greenspan and Treasury Secretary Robert Rubin had become so concerned with the breathtaking, relentless, unsustainable rise in US stock prices that Greenspan floated his famous ‘irrational exuberance’ phrase. It was carefully oblique, but, as we know from reading (or listening to) Bob Woodward’s Maestro, it was also quite intentional. With the Dow having soared to 6500 and the NASDAQ to 1250, Greenspan and Rubin were really worried. (In hindsight, one of Greenspan’s rare mistakes, I think – but a big one – was not using the Fed’s power to raise the margin requirement from 50%, where it has been for a very long time, to 55% or 60% and gradually even higher, if need be. True, such a measure would have been largely symbolic. Anyone wanting to gamble on rising prices could just have substituted options for direct stock ownership and skirted higher margin requirements that way. But in markets, signals and symbolism are important. Had Greenspan sent this one, the bubble might not have inflated as far it did, and thus the ‘dislocations’ and subsequent hangover might not have been as bad. At worst, sending this signal would not have worked – but would at least have spared some naïve small investors, who were heavily margined, a portion of the wipe-out.) So what has happened in the six years and one month since Greenspan gave us that handy reference point at Dow 6500 and NASDAQ 1250? We’ve worked hard, we’ve invented amazing stuff (TiVo!), we’ve laid a zillion miles of fiber optic cable (that is only 3% utilized now, but may well find fantastic uses in the decade ahead) . . . we’ve even had a smidgeon of inflation . . . so perhaps 6500 and 1250 are no longer so irrationally exuberant. Maybe we’ve grown into those valuations. In which case, the Dow would have only about 24% to drop from here, and the NASDAQ 10%, to return to fair value. The problem is that markets tend to go to wild extremes beyond fair value in both directions. It’s not an immutable law, but it’s linked to human nature, which doesn’t change. So just as “fair value” was of absolutely no interest to investors as the Dow shot past 6500 to nearly 12,000, and as the NASDAQ shot past 1250 to 5200 . . . so must one be prepared for the possibility – not the prediction, the possibility – that it may disregard “fair value” on the way down, as well. One big difference from six years ago is that interest rates are lower. Indeed, the lowest they’ve been in 37 years. But about the only way they could go much lower still, it seems to me, is if they were to do so for “bad” reasons. (Rates have long been, for example, very, very, very low in Japan.) That would not augur well for stocks. And if interest rates should head up, that could be a problem for stocks, also. Another big difference from 1996 is that instead of our being in the midst of a long trend toward lower unemployment and lower budget deficits (surpluses in 1999 and 2000!), we instead find “all the numbers that we’d like to see going up going down, and all the numbers we’d like to see going down going up.” And a $450 billion balance of trade deficit. And huge deficits at the state and local level. And a lot of people borrowing against home prices that have risen 40% since 1997. We are becoming increasingly disliked around the world, compared with 1996, which is an intangible thing but likely to have its costs. (Could we not have acknowledged the importance of the Kyoto accord and taken a more conciliatory tone, even while requiring modifications before signing it? Could we not have begun with a multilateral approach to Iraq rather than having had to be pushed to it?) The fleeting peace dividend of the ‘90s is being replaced by the military’s rising share of our GDP. (If bigger military budgets improved national economies, the USSR, instead of collapsing, would have become the world’s most prosperous nation.) It can’t be good for the economy to have 250,000 reservists plucked from their jobs and their good incomes. Most of South America is in scary shape – and Europe and Japan have problems. Beefing up domestic security – at airports to take just the most obvious example – may well be necessary, but is not likely to make us more prosperous. As the populations of the industrialized countries age, the demographics become a challenge to prosperity. There’s preserving Social Security and shoring up Medicare. But there’s also the question of where the demand will come from, a decade or two from now, to absorb all the shares we baby boomers will want to sell off to supplement our retirement. And all this is before imagining something really bad, which is actually not all that hard to imagine. So, yes, in some ways things are a lot better than they were in 1996. But in more than a few trivial ways they are not. Is the Dow, up 32% from its irrationally exuberant level of 1996, a bargain? I am an optimist. Not only will “the sun come out tomorrow,” the days are getting longer. Have you noticed? I have! I love that! I never imagined the US and the USSR would annihilate each other. And I like to think we will meet most of our contemporary challenges in at least a vaguely sensible and successful way. (Who will buy our Intel, IBM and Coke as we sell off shares in our dotage? Well, among others, a billion newly middle-class Chinese and Indian households saving for their retirements, I like to think.) Technological progress only accelerates, as more and more pieces of the puzzle fall into place, and this is force that – for all the very real risks and challenges it poses – has the potential, at least, to solve almost any economic problem. In short, it’s possible that things will go well. There will be no major terrorist event to disrupt our economy. The war in Iraq will be averted (or won easily to the cheers of an Iraqi population eager to embrace peace and democracy). Venezuelan oil will begin flowing again, averting an oil shock. Business activity here and abroad will begin to rev up, adding jobs, cutting deficits, and putting us back into the happy vortex (do I mean vortex?) of a virtuous cycle. But just as the in the once-in-a-lifetime bull market of the ’80s and ’90s people learned that every pullback was a chance to jump in (because it would always bounce back and go higher), people in bear markets come to view every rally is a chance to bail out. It takes a fundamental shift in psychology for greed to, once again, gain the upper hand over fear. It will happen – too many people are working too hard toward that end for it not to happen, and the natural bias of our economy is to grow ever more productive and prosperous. But with the Dow and NASDAQ already higher than they were at their irrationally exuberant levels of 1996, I don’t see either one of them as offering the kind of bargain-basement, mouth-watering opportunities – the astonishing dividend yields and fire-sale price/earnings ratios – that tend to mark the end of a bear market. There are always exceptions (and with hindsight, we’ll know precisely which they were); but, even as far as it’s fallen, much of the market still ain’t cheap. I hope I’m wrong. It would hardly be the first time.
Is the Stock Market Safe Again? January 5, 2003January 22, 2017 Ten! Nine! Eight! Seven! Six! Five! Four! Three! Two! One! HAPPY NEW YEAR! (Am I late? Sorry about that.) WELCOME TO 2003! FLEETING BLISS John Seiffer: ‘It’s now 01/02/03 at 04:05.’ BIG TV David and Hans: ‘We think you are wise to wait on the Plasma TV. The Plasma is an energy guzzler and has a very high drop off rate. The picture quality gets worse with each hour of use. We are waiting for the LCD TVs to get bigger. They use practically no energy and you don’t have to worry about losing your pixels.’ MORE FREE MONEY Tom Kirby-Smith: ‘I just picked up the latest edition of your Investment Guide and found out you can buy Series I inflation protected U. S. Savings bonds using a credit card. Now Fleet bank has given me an interest-free credit line of $20,000 until next August (as long as I make small monthly payments just to prove I am still alive, I guess). The Series I bond is paying better than 4%. You lose three-months’ interest cashing it in early. So if I buy $20,000 worth, cash them all in after six months, pay off the credit card, I get $200. What is wrong with this scenario? For that matter, how about I go out and get a 15-year $100,000 mortgage at 5.5%? It’s deductible, making it a real interest rate of about 3.5%. I buy $100,000 of Series I bonds and collect better than 4% interest that accumulates tax free. So I get paid $500 to hold $100,000 – and if inflation increases, so do my interest payments. At 6% inflation I start accumulating a profit of $2,000 a year tax free. There ought to be a law against this, and I am sure there is, but it’s just fun to think about.’ ☞ Yes and no. The first part – borrowing for 0% on a promotional credit card offer – should work OK if you’re careful and don’t accidentally make a late payment and trigger the ‘regular’ rate. I-Bonds are currently pegged to pay just 1.6% on top of inflation, and inflation is running very low. (Indeed, deflation is today’s worry.) But the current combined rate of 4.08% will be paid through May, even though you would lose half of it if you cashed the bonds in after six months (and would then have to pay tax on the rest). MBNA just called today to see if I wanted yet another zero percent card – this one with 12 months free interest. This cannot end well for the shareholders of MBNA, if you ask me; but it is certainly nice for us consumers. In your case, if you could find a deal like this, you’d earn interest on 9 of the 12 months after the penalty for cashing them in early. (Under the heading of Life Is Unfair – or at least the heading The Rich Get Richer – the best deals, like this one, are offered to those who need them least. So I don’t think you can actively ‘look for’ a deal like this. But you can keep your eye out for one if it shows up in the mail or interrupts your dinner. Just be certain not to apply if there’s a chance you’d fail to make the monthly payments on time and then pay off the balance in full before the 0% promotional rate ends.) Note that in addition to borrowing at zero percent you may also get 20,000 frequent flier miles from your scheme. Buy the bonds via Savings Bonds Direct with a credit card that gives miles, if you have one; use the new 0% offer to transfer $20,000 to that credit card. (To be safe – if you have any doubt the $20,000 zero-percent credit line will be granted and the balance transfer arrive in time – first transfer the money to the frequent-flier card and only then, when you know it’s been received and you have a nice fat credit balance, go to Savings Bonds Direct to buy your bonds.) The most you can buy in a single transaction is one $5,000 I-Bond. But you can just do it up to six times in a row. (There is an annual $30,000 limit on any individual’s purchases in any calendar year, although you can buy them for your spouse and kids, too.) Buying $20,000 or $30,000 of bonds takes about 15 minutes, all told. Note also that with savings bonds, it doesn’t matter what day of the month you buy or sell – you get credited interest for the whole month. In other words, buying right near the end of the month and selling right near the beginning gives you nearly two months’ interest free. (More, in the sense that you get a little grace period from the time you charge them to your card and the time the payment is due.) Note, finally, that for those who don’t want to bother with actual, physical savings bonds, the Treasury now allows you to set up a paperless Treasury Direct account linked to your bank account. (They always did this with Treasury bonds and bills; it’s new for savings bonds.) But as best I can tell, there’s no way to put your purchases on a credit card, so you don’t get the miles. Note finally finally that no amount of finagling this way is going to make you rich. But neither will you lose any money with I-Bonds. And in some cases, they may even be cashed in tax-free to help with tuition. So in addition to Tom’s scheme for a quick little profit, you should also consider the possibility of buying them as a long-term investment. ☞ And now (if anyone remembers it) let me do the second part of Tom’s scenario – the $100,000 mortgage taken out at 5.5% pre-tax in order to buy I-Bonds. (‘There ought to be a law against this, and I am sure there is’ Tom wrote.) Well, no, there is not. If you were to borrow the $100,000 specifically to buy tax-free bonds – ‘municipal bonds’ – you might well find the IRS disallowing the interest deduction. But I-Bonds are not tax-free, merely tax-deferred, and you could buy up to $30,000 worth a year for yourself and each of your loved ones without fear of the IRS. Meanwhile, I-Bonds are free of state and local taxes, which is certainly good in a high-rate state. (Your state taxing authority might conceivably challenge your mortgage interest deduction, but I doubt it.) And even being just tax-deferred has these advantages: you have Uncle Sam’s share of your money working for you until you cash them in . . . and by the time you do begin redeeming the bonds, you might be in a lower tax bracket than you are today. So it’s not totally crazy. If you ever got tired of paying the mortgage, or if you ever ran into difficulty coming up with the $817 a month to do so – or if inflation fell to zero or (or below) so that the bonds yielded just their base rate of 1.6% instead of their current 4.08% – you could always just redeem them and pay off the mortgage. And in the event of really serious inflation, your I-Bonds would grow at a nice clip. Still, it doesn’t grab me. Let’s say inflation averaged 5%, which is quite high, giving the bonds a pre-tax return of about 6.6% (the base rate plus the inflation). Meanwhile, you’re paying 5.5% on the loan. So you’re clearing a mere 1.1% pre-tax, less the closing costs (and hassle) of taking out the loan – and any other problems I haven’t thought of. Then again, it could be a nice way to force yourself to save. At the end of the 15 years, your mortgage would be paid off! (You wouldn’t really have been paying 5.5% on $100,000 for 15 years; you’d have been paying 5.5% on $100,000 the first month, 5.5% on a remaining principal balance of just $50,000 or so by the 108th month, and 5.5% on a scant $813 principal balance in the last month of the loan.) What’s more, the tax-deferral aspect increases your return even if your tax bracket is no lower when you redeem the bonds than it is today. To get a sense of this, look at two identical $100,000 investments at 6.6% a year for 15 years and a 33.33% tax bracket. Without the deferral, the 6.6% becomes 4.4% after tax and the $100,000 grows to $190,760. But with the deferral, the $100,000 grows to $260,830, less 33.33% tax on the $160,830 appreciation, for a net of $207,209. That works out not to 4.4% but to 4.97%, which gives you an idea of the extra oomph you get by having temporary use of Uncle Sam’s portion of your money – and extra $16,449 in this example. But remember: this 6.6% I am using assumes a high compounded rate of inflation for those 15 years. And most mortgages do involve closing costs. IS THE STOCK MARKET SAFE AGAIN? I’ll give you a hint: No. Come back tomorrow.