On Wednesday, December 20, 2017, Congress passed the final version of their new tax bill. Since the campaign trail, President Trump has spoken of sweeping tax reform and this bill entails a number of changes to the U.S. tax code that will impact both corporations and individuals.
Many economists and experts believe this tax bill will provide a short-term boost to the economy, but by how much we don’t know. The Joint Committee on Taxation believes the bill will boost growth the total size of the US GDP by 0.8 percentage points over the first decade, while Goldman Sachs is estimating GDP growth will increase 0.3 percentage points above their baseline over the next two years.
Regardless of how much or how little economic growth we can expect in the coming years, the big question is, what exactly does this bill mean for you and your investments? In a nutshell, it lowers tax rates for individuals and corporations, increases the child tax credit, doubles the standard deduction, and caps or eliminates several deductions. Here’s what we can expect from this bill.
What Does it Mean for Households?
It’s estimated that around 80% of people will see a tax cut in the first year of the legislation, and the Tax Policy Center estimates that the average person will see a tax cut of $1,610 in 2018. However, the amount will vary based on income bracket. In general, the tax bill favors wealthier Americans, offering more tax breaks the more you earn, with fewer benefits to lower and middle class Americans. The TPC estimates that 65.8% of the total federal tax benefit will go to the top 20% of earners.
As a result of an increased after-tax income, some economists believe this may boost consumer confidence. However, the after-tax income increase may not be enough to see an economic change.
Will Businesses Benefit?
Big businesses will significantly benefit from the tax bill, namely with the federal corporate tax rate dropping from 35% to 21%. Companies will likely see a serious boost in their profits, with JPMorgan estimating that this bill could boost the earnings per share of S&P 500 companies by $10 per share in 2018.
Additionally, some experts estimate that giant companies like Google will save several billion dollars in 2018 due to the new tax code. With these tax cuts, businesses could use these savings to increase wages, pay down debt, invest, or pay for capital expenditures.
How May the Stock Market React?
Small and mid-cap stocks, consumer staples, telecoms, financials, and industrials pay the highest tax rate, so with the new tax cuts, values of these companies could go up in the short term. Many experts believe that stocks will rise as a result of the news, with the markets already seeing much activity. Experts at JPMorgan believe stocks could even rise 5% after the bill officially passes. However, they also anticipate volatility in the new year.
Remember the Historical Context
It’s important to remember that the stock market is already at an all-time high and values have been increasing for years. This current rally is just months away from being the longest rally in history, close to surpassing the dot-com rally of the 90s. How much higher can stocks go without a major correction? No one knows for sure. But history does tell us that markets do not go up forever and this bull market is no different.
With much uncertainty in the future including global political instability, natural disasters, and a growing federal deficit, it’s important to make sure your portfolio is prepared for temporary and long-term market corrections. Any major unexpected shock to the economy could cause a significant correction in the stock market. Especially for investors approaching or in retirement, now is not the time to gamble on predicted short-term market gains.
What Should You Do?
This tax bill is brand new, so there is still much to learn and understand to see how it will impact households and businesses in the near and far future. No one is sure exactly how the economy will behave in the coming months or years. If you are one of our clients, your portfolio has been built with tax reform in mind and we are continually monitoring the markets so we can make appropriate changes if needed. If you have any questions, call or email our office.
If your friends or family are concerned with so many potential swings in the markets, now is a good time for them to review their financial plan to see how their strategies may be impacted by this tax bill and whether or not it’s appropriate to make adjustments. We’re never too busy to help someone you care about, so feel free to put them in touch with our office.