Major implications of President Trump’s recently passed tax reform on equity investments
What Exactly Is Trump’s Tax Bill?
President Trump signed the tax bill into law on Dec. 22, 2017. While it’s not possible to go into everything covered in President Donald Trump’s 1,100 plus page tax reform bill that was signed into law in this short article, Mr. Trump stated that it was going to be a huge gift to the middle class of the United States, “the best they’ve ever gotten for Christmas.” Both corporations as well individual taxpayers will be affected so you will likely notice changes first-hand as we head into 2019 (when people will be filing 2018 returns).
First of all, the new tax law provides a reduction of the maximum corporate tax rate from 35% all the way down to a much slimmer 21%, and on top of that, does away with the corporate alternative minimum tax. The United States will actually be joining the majority of other middle-of-the-road countries around the world in this regard — coming down from what was formerly one of the highest corporate tax rates in the world.
The bill also moves the U.S. toward a territorial tax system in which companies are taxed on profits earned in the U.S.
Individuals will see lower tax rates and rather notable inflation adjustments, although they all come with an expiration date in 2026, with adjustments becoming less and less generous as the we approach the expiration year. As an individual, you will also be seeing increases in the standard deduction for individuals.
The most complex aspects of the law have to do with changes to taxation of pass-through organizations, such as LLCs and S-corporations. Such “pass-through entities” will receive favorable tax treatment, helping manufacturing and real estate organizations for example, however, other types of organizations such as law firms, medical practices, consultancies and investment management groups are amongst those who won’t be able to take advantage of the tax benefits of pass-through income.
What Will Be the Effect of Trump’s Tax Law on the Stock Market Over Time?
- The Federal debt will increase.
Although the budget deficit may not rise by a significant amount, long-term issues surrounding entitlements such as Medicare and Social Security continue to be unaddressed on top of any potential increases due to the new tax law.
- The Fed is likely to hike interest rates at a faster pace.
Higher interest rates equate to larger net profit margins for banks, and when banks experience higher profit margins, individuals have to pay higher interest rates to borrow money, which makes it tougher on them, but acts to fuel the fire of the stock market overall.
- Specific Industries Looking Toward Positive Growth.
The industries that will experience lower tax rates are most notably retailers, financial services companies, health insurers, telecommunications, technology and energy. So, if you invest in stocks related directly to these types of industries, you may feel more confident over the long-term in these types of investments.
- Incentives to Repatriate to the U.S.
President Trump’s new tax plan also provides incentives for companies to repatriate cash by bringing profits received from ventures overseas over prior years, back home to the United States. Some economists argue that with repatriation comes vast contributions to the U.S. economy. These incentives are especially tailored to benefit those in technology sectors, such as Apple, Google, Oracle and Microsoft. They all stand to benefit and how that plays out as it relates to the use of any repatriated capital, such as for stock buy-backs, may affect the share prices of many of the largest publicly-traded U.S. companies for years to come.
- Individuals Will Spend More on Goods & Services
People tend to spend more when they are enjoying an increase in net income, and this may be no different, unless they are considering the purchase of a new home. Consumers that do not own their homes, may find themselves leaning toward renting for a longer period of time, as real estate prices continue to rise and rates potentially increase. The question is how the new tax law affects discretionary income and will consumers spend more and drive revenue for goods and services. If the numbers increase or even stay on the same path that has been seen over the last few years, all may continue to power forward positively as it relates to the stock market.
- Standard Deduction Increases Will Affect Home Buying.
This element of the tax law may limit the number of households that choose to itemize deductions, and that may reduce the financial incentive to buy a home rather than rent. Expensive real estate markets in high tax states such as California, New York, New Jersey, etc. are all seeing sellers’ markets with many priced out of real estate purchases. Such states may see a reduction in demand as a consequence of caps on mortgage interest deductibility as well as severe reductions in the deductibility of state and local taxes. Reduced supply of homes for sale in those markets may provide a partial offset for the demand loss, as current homeowners may be less likely to sell given the tax changes. Regardless, rising real estate prices typically fuel the stock market across the board as well as boost consumer confidence for those owning real estate.
The David Rounick Conclusion
Overall, I would say that investments will increase in the stock market overall for the short-term, but the jury is still out on how this affects the economy long-term as it relates to debt, etc. One extremely positive without a doubt are the booming corporate stock buybacks triggered by the Republican tax cuts. The stock buybacks deliver a built-in positive for the equity markets that also extend through a short-term time frame. The consensus appears to be that the new tax law will benefit the middle and upper class over the long-term as well as medium to large businesses. The health of many sectors may benefit from the new tax law, but as economies move in cycles and we see how the debt numbers play out plus how the future elections affect governing in the U.S., it will be interesting to see how the new tax law pans out over the longer term.