Raising capital gains taxes?
According to a summary released by the Ways and Means Committee, House Democrats have proposed raising the top federal long-term capital gains tax from 20% to 25%. If passed, the highest earners would pay a total of 28.8 percent, plus a 3.8 percent surcharge on net investment income.
Because the proposed changes are retroactive for sales after September 13, 2021, it will be difficult to lock in lower rates. Legislators may, however, continue to postpone the effective date.
Meanwhile, investors looking to sell assets should consider their entire tax picture before selling, according to financial experts.
“The devil is always in the details when it comes to taxes,” said certified financial planner Peter Palion, founder of Master Plan Advisory in East Norwich, New York.
Top earners may be enticed to sell before the proposed changes in order to save 5% in taxes. Taking those gains off the table, however, may result in higher costs elsewhere, according to him.
Whether a person is nearing retirement or has already retired, selling assets at a profit increases their modified adjusted gross income and may have other consequences, according to Palion.
Retirees should consider how having a higher income may affect their future monthly Medicare costs.
Surcharges for Part B medical insurance and Part D prescription drug coverage could reach $504.90 and $77.10, respectively, in 2021.
Another potential stumbling block is Social Security taxes, which kick in once half of an individual’s benefits plus modified adjusted gross income exceeds $25,000 ($32,000 for married filers), making up to 50% of Social Security income taxable.
Once the same calculation exceeds $34,000 ($44,000 for joint returns), up to 85 percent of an individual’s benefits may be taxable.
Furthermore, if older investors want to leave assets to their children, they can avoid paying taxes by holding their investments until death, according to Palion.
In this manner, the heirs’ inheritance receives a so-called step-up in basis, which generally adjusts the purchase price of the assets to the value on the date of death, he explained.
The advantage of the step-up in basis is that the heir receives the asset without having to pay taxes on unrealized gains that could be years old.
Younger investors looking to sell assets should keep an eye on their adjusted gross income, as it may have an impact on financial aid, income-based student loan payments, child tax credits, and other benefits.
“It’s not a simple 20 percent versus 25 percent question,” Palion explained. “You should sit down, take a few deep breaths, and talk to your CPA.”
The Fed “issue”
More than 70% of respondents believe it is time for the Fed to scale back its massive asset purchases.
The 10-year Treasury yield will rise when the rollback begins, according to 70% of respondents.
Bond yields are inversely related to bond prices. As a result, when the Fed reduces asset purchases, bond prices fall and yields rise.
According to the survey, in a rising-rate environment, investors expect financial stocks to outperform. Bank stocks benefit from higher interest rates because they increase profit margins. Banks can profit more from the growing spread between the short-term interest rate they borrow at and the long-term interest rate they lend at.
On the back of the economic recovery, the Dow Jones financial sector has been one of the biggest winners in 2021. Year to date, the sector is up nearly 24%.
Investors also believe that the technology and energy sectors will outperform the broader market over the next year.
Meanwhile, overnight and morning action on the DJIA showed more forceful buying urgency, with more than 90% advancing volume, as traders apparently see reduced China “tail risk” combined with an abundance of oversold stocks and a pending Fed decision as reasons not to be overly bearish.
The S&P 500 is trading slightly higher than yesterday’s morning high and is approaching 4,400. The “gap” left by Monday’s opening drop is around 4,433, making it something of a first stop and a borderline between “just a bounce” and “possible full recovery underway.”
Longer-term analysis reveals that this is also where the July-August break to new highs began.
According to Bespoke’s calculations, the percentage of stocks that were statistically oversold vs. overbought at the start of the day was also extreme:
Treasury yields have remained firm this week, and credit markets have been stable, implying that the jitters and positioning imbalances were in stocks. The overnight news of Evergrande making an interest payment on China’s first open business day of the week was perfectly scripted/timed to provide a rush of relief.
All of this indicates that the market is primed for a rebound. However, the market will only reveal which factors truly hold sway after we see how the Fed reacts, ongoing margin pressures due to labor/supply strains (FDX, etc.), and the rest.
Just as everyone has internalized the slowdown story for GDP and earnings growth – and as cyclical parts of the market have lagged since early June – the Citi Economic Surprise Index is bouncing back. Sure, it’s partly due to economists lowering their forecasts, but it’s a welcome possible turn.
As previously stated, early market breadth is quite strong, and if we stay above 90% upside volume on the NYSE, we’ll be treated to statistics on how such “breadth thrusts” – especially when they occur in clusters – tend to bode well for stocks looking out weeks/months.
The VIX is giving way, with hedgers apparently taking the China scare more seriously than expected, and the market itself putting some distance between itself and the lows. A nice spike peak in the VIX chart – though above 21 still suggests a somewhat agitated tape – could plunge post-Fed if the market takes the expected message to heart, about how tapering soon is benign, appropriate, and not a prelude to real tightening.