A reality check on Trump’s tax reform agenda

Still etched in my brain was the great income trust debacle that took place on Halloween of 2005. The Canadian conservative government won re-election promising not to change the tax preferred treatment of income trusts. That promise was broken and Canadian investors lost billions of dollars overnight. The value of my income trust holdings fell by 40% instantaneously.

Needless to say, as an investor in U.S. stocks, failure to appeal and replace Obamacare (ACA) makes me very nervous. Trump’s promise of massive tax cuts and infrastructure spending will need support from the Freedom Caucus (tea  party) who want a border adjustment tax to offset some of the loss revenue.

There is also a complicated Senate rule that would prevent Democrats from blocking the tax bill. Under the rule, the bill cannot add to long-term budget deficits. That means every tax cut has to be offset by a similar tax increase or a spending cut.

‘‘Yes this does make tax reform more difficult,’’ said Ryan. ‘‘But it does not in any way make it impossible.’’

Nevertheless, Treasury Secretary Steven Mnuchin said Friday the administration plans to turn quickly to tax reform with the goal of getting an overhaul approved by Congress by August.

House Republicans have released a blueprint that outlines their goals for a tax overhaul. It would lower the top individual income tax rate from 39.6 percent to 33 percent, and reduce the number of tax brackets from seven to three. The House plan retains the mortgage interest deduction but repeals the deduction for state and local taxes.

However, nearly 34 million families claimed the mortgage interest deduction in 2016, reducing their tax bills by $65 billion. Also, more than 43 million families deducted their state and local income plus personal property taxes from their federal taxable income last year. The deduction reduced their federal tax bills by nearly $70 billion.

On the corporate side, the plan would repeal the 35 percent corporate income tax and replace it with a 20 percent tax on profits from selling imports and domestically produced goods and services consumed in the US. Exports would be exempt from the new tax. (border adjustment tax)

The general goal for Republicans is to lower income tax rates for individuals and corporations and make up the lost revenue by reducing exemptions, deductions and credits. Overhauling the tax code is actually hard because every tax break has a constituency and the biggest tax breaks are among the most popular.

Over the past week, some investors are starting to doubt that the tax cuts will get passed. The value of the U.S. dollar has weaken and ten year bond yields have fallen  from 2.62% to 2.4%. Eight of the ten sectors that make up the S&P 500 were negative for the week. The biggest losers were U.S. financials (-3.72%), energy (-1.78%) industrials (-1.75%) and materials (-1.3%).

There is a lot of money on the sidelines that missed the Trump rally and are waiting for a stock market correction. I took some profits before the Canadian federal budget that hinted at tax increases so I also have some money to re-invest. The Canadian conservative government taught me a valuable lesson back in 2005. What government promises to do and what they actually do can have a negative affect on your investments.

 

Still doing tax returns for my adult children & their spouses

Every year I ask myself, should I continue to offer to do tax returns for my adult children and their spouses? All of them have university degrees and are smart enough to file their own tax returns. My daughter was willing to do it one year using tax preparation software with only a little help from me.

Part of my problem is Canadians are not even aware of how much tax they pay. Plus we keep voting for governments that buy votes using our tax dollars. The average Canadian family will pay 42.9% of their income in taxes imposed by all three levels of government in 2016. (Federal, provincial and local) Tax freedom day was June 7, 2016 if Canadians paid their total tax bill up front. Our U.S. neighbours tax freedom day was April 24th and they will only pay 31% of their income in taxes.

There are a number of reasons why I continue to offer to do tax returns for the whole family. Having worked as a financial advisor, tax planning is a key element when putting a financial plan together. My tax knowledge and skill comes from working many years with accountants and tax lawyers ensuring that my whole family pays the least amount of tax.

Plus, the Canadian tax system is very complicated and is constantly changing with every federal and provincial budget. For example: many tax credits that were given by the Conservative government have been taken away completely by a new Liberal government.

For the 2015 tax year, the Liberals cancelled income splitting for families, a maximum tax credit of $2,000 for transferring up to $50,000 of income to a spouse with a lower income if they had a child under 18 years of age.

Some changes for 2017 include the elimination of the following credits:

  1. Education and textbooks credit
  2. Children’s fitness credit
  3. Children’s arts credit
  4. Public transit tax credit

Now, most retired Canadian seniors who don’t have a pension from their former employer are not even aware of a $2,000 pension credit. It requires opening a RRIF account, transferring $2,000 from their RRSP and then taking it out. They don’t have to wait until they reach the age of 71 in order to open a RRIF account. Plus, RRIF income can be split with your spouse if both of you are 65 years of age which could potentially add up to $4,000 of income tax free per year.

The Federal Liberal government will introduce a new budget on March 22 and there are rumors of more tax increases. Three things that Canadians should worry about;

  1. Higher capital gains inclusion rate from 50% to 75%
  2. Reducing the dividend tax credit
  3. Taxing your principal residency 

I will end this post with two well known proverbs. ” In this world nothing can be said to be certain, except death and taxes.” & “A penny saved is a penny earned.”

 

Will Trump disappoint Wall Street & America?

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There is no doubt that the Republican Party was totally surprised and unprepared by the November election results. Trump’s management style is going to drive his management team, the media, most of the American people and the world nuts. A new reality show has come to Washington, “The Billionaire Apprentice”, who will be the first to get fired?

I think that there is going to be more than the usual amount of personnel turnover in the first six months. The media will be writing about how Trump can’t keep people and about all the chaos in the White House. The world has never seen an American president with this type of management style. It is going to make most of us uncomfortable.

The stock market has high expectations regarding less regulations, infrastructure spending, a new tax policy and the replacement of Affordable Care Act. Failure to deliver something that at least comes close to meeting those expectations is going to have a significant negative impact on the markets and the economy. Some market watchers believe that a correction will show up in the next 60 days if there are cracks in Trump’s agenda.

Being Canadian, I am not an expert on American politics. In my humble opinion, a civil war maybe brewing between Trump and the Republican Party on the implementation of a new tax policy and infrastructure spending. Repealing and replacing the ACA isn’t going to be easy without some bipartisan cooperation. Some republicans maybe hesitant to support some of Trump’s agenda in fear of losing their seat in upcoming congressional elections in Nov. 2018! Trump’s team could be stuck in the Washington swamp!

If you have any doubts that protectionism is at the top of Trump’s agenda, you clearly need to watch Trump’s inauguration speech. President Trump’s first few days in office was to pull out of the Trans-Pacific Partnership and signed an executive order to renegotiate NAFTA.

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My buy American and hire American playbook

Avoiding:

  • Auto industry (including part suppliers)
  • Canadian lumber producers
  • Health care and biotech
  • Oil & gas (watching U.S. fracking companies)
  • Retail & Restaurants
  • U.S. industrials that depend on infrastructure spending

Investments that could be Trump Free

  • U.S. banks (including some regional banks)
  • Tech stocks (including semi-conductors, cloud plays)
  • Some U.S. domestic stocks
  • Gold & silver stocks
  • Cash (in case of a correction)

What do you think? Has President Trump over promised and will he under deliver?

 

Carbon tax: a sign that oil prices will stay lower for longer

The federal government of Canada plans to impose a national carbon tax on any province that refuses to establish one on their own. They argue that putting a price on carbon will give people and companies an incentive to look for lower emission options to save money.

In reality, Canada is the second largest country in the world, just ahead of the United States and behind Russia However, our population is one-tenth the size of our largest trading partner, the United States and one-quarter the size of Russia. I estimate that 75% of Canadians live in rural areas where driving is a necessity and switching to electric heating or electric cars is way too expensive.

At the Golden Globe Awards, Meryl Streep called Canadian actors nice. I would like to add that we, as a nation, are dumb when it comes to energy. Refineries in Eastern Canada are spending billions to purchase about 700,000 barrels a day of foreign oil to meet customer needs while 3 million barrels of Western Canadian oil is sold to the United States at a discount due to lack of pipeline capacity between producing fields in Western Canada and refineries in the East.

Our governments rely on tax revenues from the oil and gas industry which are down with the price of oil. In truth, this carbon tax has nothing to do with lowering emissions but just another tax grab. This is a clear sign that the government believes a rebound in the price of oil is many years away.

The Canadian economy is fragile and the last thing it needs is yet another tax. The potential costs for the average Canadian family by 2022 is up to $2,569 per year. The carbon tax will also increase the price of food and clothing. It will mean lost jobs and make Canadian businesses less competitive.

Lack of pipelines makes me bearish on the Canadian oil patch

  1. It will take years to build the Keystone XL pipeline even if approved by Trump. Plus there will be a massive backlash, both on the ground and in the courts that could tie this project up for many more years.
  2. Prime Minister Justin Trudeau gave the green light to Kinder Morgan’s Trans Mountain pipeline expansion but I expect protestors will also delay this project.
  3. The Line 3 Replacement Program was also approved and is the largest project in Enbridge’s history. The anticipated in-service date for this project is 2019, pending U.S. regulatory approvals.

Additional reasons to be bearish on Canadian oil stocks

  1. Most Canadian oil companies are still losing money
  2. The profitable ones have very high price to earnings ratios (CNQ – EPS for 2017 is $1.04 or 39 times earnings and SU is 27 times earnings for 2017)
  3. Shipping oil by rail is way more expensive than by pipeline
  4. The biggest risk to the Canadian oil patch is Trump! He could put a 20% border tax on imported oil.

Foreign oil stocks that I own for yield

I bought some Royal Dutch Shell (RDS.A) for it’s 6.8% yield in my wife’s retirement account. The dividend is exempt from U.S. withholding tax because it is in a retirement account. Converting the U.S. dividend to Canadian dollars gives me a current yield of 6.8% times 1.32 or 8.98% which is much higher than owning bonds. Plus I can sell covered call options that could boost my returns by 5% or to protect against a fall in oil prices.

I also own Alerian MLP ETF (AMPL) which is a energy partners ETF with a 8% U.S. dollar yield. It has a 10.5% yield in Canadian dollars but does has a high management fee of 0.85%, still better than owning bonds. There are higher yielding limited partnerships but they carry more risk than owning an ETF.

U.S. Shale producers are on my watch list

The majority of these producers are still losing money. At the top of my watch list is Marathon oil (MRO) which is currently trading at $17. 45 but has a book value of $27.40. Their losses have been decreasing and the earnings estimates for a fourth quarter is for a loss of 15 cents a share. I am waiting for Marathon to release their results on Feb 15 to confirm that they are lessening their losses and that their revenue is increasing before I invest.

What oil stocks do you own and why?

Disclaimer: Please do your own research or consult with a qualified financial advisor.

 

 

 

 

Panama Papers: Tax Avoidance and Tax Evasion

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The recently leaked “Panama Papers” exposed the existence of thousands off shore bank accounts including some high and mighty political figures. The super-rich have been taking advantage of tax havens since World War I, paying tax lawyers to find loop holes in tax rules to avoid paying taxes isn’t something new.

Key differences between Tax Avoidance and Tax Evasion

Definition of Tax Avoidance

An arrangement made to beat the intent of the law by taking advantage of the shortcomings in the tax rules. It refers to finding out new methods or tools to avoid the payment of taxes which are within the limits of the law. The only purpose behind tax avoidance is to postpone or shift or eliminate the tax liability. This can be done investing in government schemes and offers of tax credits, tax privileges, deductions, exemptions, etc., which will result in the reduction in the tax liability without breaching any laws.

Definition of Tax Evasion

An illegal act, made to escape from paying taxes. Such illegal practices can be deliberate concealment of income, manipulation in accounts, disclosure of unreal expenses for deductions, showing personal expenditure as business expenses, overstatement of tax credits or exemptions. Tax evasion is a criminal activity and is subject to punishment under the law.

trust fund baby

A trust fund baby is the perfect example of tax avoidance by the rich. A trust fund is a legal entity that allows the rich to establishment an investment account for their children, grandchildren, nieces and nephews. The income earned in the account and the release of the funds to the beneficiaries are under specified conditions. (The U.S. Secretary of State, John Kerry married Teresa Heinz who has a trust fund valued around 500 million dollars).

I am not a tax expert but many tax filers will pay more in taxes this year than they should. It is a simple case of missing available deductions and tax credits. The problem is understanding the tax rules, knowing what is available and whether you qualify.

Some unclaimed deductions & credits for U.S. citizens

  • Tax Preparation Fees
  • Child and Dependent Care Credit- summer camps fees are eligible
  • American Opportunity Tax Credit
  • Lifetime Learning Credit
  • Energy Credits
  • Savers Credit – for people with low to moderate income who make contributions to an eligible retirement plan
  • Mortgage Points – to lower an interest rate on a home loan
  • Moving expenses

Some unclaimed deductions & credits for Canadians

  • Equivalent-To-Spouse Credit – single mothers
  • Medical expenses – any 12 month period , combine with spouse and children under 18
  • Charitable donations – spouses can pool them together to get a bigger deduction
  • Childcare Expenses – include hockey schools and summer camp fees
  • Pension Income Credit RIF payments qualify
  • Moving expenses

Tax planning in order to defer taxes, to maximize deductions & credits and divide income among family members is something that all tax payers should consider doing.

Just remember that both Tax Avoidance and Tax Evasion are meant to ultimately reduce tax liability but in the eyes of the law, avoidance is legal and evasion is not.

Beware of identity theft & tax-return fraud

Tax season is the one time of year that a lot of sensitive personal data is on the move. Employers and financial institutions are sending you tax documents, you are then transmitting them to your accountant or using tax filing software. Take care to safeguard that data every step of the way. Tax season is already stressful enough, individuals increasingly have to contend with the possibility of fraud or identity theft involving their tax return. Tax return fraud is a huge problem for U.S. citizens.

Tax-return fraud is a mounting problem. In 2013, according to a Government Accountability Office report released last year, the Internal Revenue Service thwarted $24.2 billion in fraudulent refunds requested — but paid out $5.8 billion.”

Scammers can easily whip individuals into a panic, aggressive efforts to steal data and cash by masquerading as IRS officials. Some scam artists try to convince you that you are a victim of a fraudulent return and need to verity your personal information. Others threaten audits, fines, arrests and all manner of other dire consequences to victims who don’t wire cash immediately or click-through a link to confirm their personal information.

Here’s a conspicuous flaw in the system as currently set up: To file a tax return electronically, all someone needs is a name, date of birth and an SSN. The IRS accepts tax filings as soon as Jan. 1, but employers aren’t required to submit correct employment information to the agency until March, by which time roughly half of all refunds have been paid out. (For that matter, the IRS doesn’t begin matching employer-submitted data to tax returns until the summer.)

You might see official-looking seals and language in an email that have been pulled from legit IRS communiques, or hear background noise in a voice mail meant to resemble a call center. Don’t click on any links in emails or call back any numbers left for you in a voice mail. Pushing calls and emails are the easiest tax fraud to avoid. Your best defense, keep calm and think it through.

“The IRS and the CRA have said repeatedly that its first point of contact with you is going to be by mail. Not an email and not a phone call.”

The agency has suspended processing of 4.8 million suspicious returns so far this year, worth $11.8 billion, the IRS said in an email to CNBC. Among that number are 1.4 million returns with confirmed identity theft, totally $8.7 billion.

Additional pre-cautions:

  1. Not receiving an expected form could be a red flag of old-fashioned mail theft.
  2. Make a check list of documents or forms with the approximate date that they should have arrived.
  3. Use a secure file service to transmit documents electronically to your tax preparer
  4. Avoid sending tax information by email
  5. Personally drop off documents to your tax preparer.
  6. Delays in receiving last year tax refund could signal that you could have been targeted by scam artists.

When in doubt, your best bet is to hang up. Contact the entity directly through a phone number that you know is legitimate or by email. Even if you’re not a victim, be aware that government authorities have put in place safeguards to thwart tax fraud which could delay your refund or snarl your return.

This post was inspired by my daughter who reminded me that sending tax information via email isn’t very safe.