Bernie’s Tax Plan: Costly for Average Investors
The 2020 presidential campaign has begun, which means we’re getting subjected to all sorts of pandering promises from politicians. In a bid that seems aimed at winning over younger college graduates, U.S. Senator Bernie Sanders (I-VT) just rolled out a plan to forgive all $1.6 trillion of U.S. student loan debt.
Sanders says he will pay for this plan with a new “Wall Street tax.” Sanders tweeted his reasoning:
During the financial crisis, Wall Street received the largest taxpayer bailout in American history. Now it is Wall Street’s turn to help rebuild the middle class. #CancelStudentDebt.
The plan would include a 0.5% fee on all stock trades, a 0.1% fee on all bond trades, and a 0.005% fee on all derivatives trades. Sanders expects the plan to raise over $2 trillion in 10 years.
Many of my Millennial acquaintances were extremely enthusiastic about this plan. But the same short-sighted financial attitude that caused many of them to take on too much debt in the first place was readily apparent in my interactions with them. Several insisted to me that the proposed tax is “trivial,” and primarily a tax on the wealthy.
Let me digress for a moment and say that I agree that skyrocketing college tuition costs are a problem in this country. If the trend isn’t addressed, college will increasingly become available only to wealthier families. That’s not a recipe for a happy, educated population. However, Bernie’s plan does not effectively address the dilemma.
I have two objections to Bernie’s tax proposal. The first is that some portion of those who took out student loans — and I personally know some of these people — blew a big chunk of their student loans on wasteful spending. Unless there is some way to differentiate between those who responsibly used their loans to get a degree, and those who blew through their student loans as if they were a windfall, there will be staunch opposition to this plan.
But my second objection is more relevant to the typical purpose of this column. Let me pose a question I posed to my Millennial friends. How much do you think a 0.5% transaction cost might impact you? The answers I got back were effectively “very little.” The truth is that it could cost you more than your home cost.
Here is an example to illustrate. Let’s assume that you plan to save for your retirement. You could be a new college graduate who wants to maximize their 401K. You want to sacrifice and save so you have a nice retirement. Let’s say that over time you put away $1,000 a month into a mutual fund that returns the long-term average of the S&P 500, which is about 9.8% annually.
At the end of 30 years, you would have accumulated $2.17 million. That should make for a decent retirement.
A Steep Price
But what could be the impact of a 0.5% transaction cost on stock trades? The average turnover of a mutual fund is around 100%. That means that on average every stock in the portfolio is bought and sold once a year. Bernie’s tax would add 1% onto the costs for this mutual fund (0.5% when the stock is bought and 0.5% when it is sold). That will reduce the performance of this mutual fund by ~1% relative to a baseline without this tax.
What does our hypothetical retirement look like now? If we assume the same conditions as above, but drop the long-term average annual return to 8.8%, the money we have at retirement is $1.76 million. For many, that’s still an incredible sum of money, but it is $410,000 less than in our baseline case. That’s more than double the median home price in the U.S. of $200,000.
What’s worse is that the more disciplined you are at saving money, the higher the cost will be to you. Further, the group that will be most harshly punished are those just entering the workforce. That’s the same generation that Sanders is proposing to help under this plan.
The average college student today graduates with debt of about $30,000. This is up from about $10,000 in the 1990s. Bernie’s plan would erase this without addressing the underlying problem. The ultimate bill to the student, assuming they saved diligently for retirement, could be more than 10 times that cost.
Thus, this plan is definitely not just a tax on wealthy Wall Street fat cats, which is how Sanders is trying to sell it. Sure, it would impact them as well, but it’s a tax on anyone trying to invest in the market. The plan is a disincentive against saving and investing money, which is absolutely not what the U.S. needs.
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