When an asset is liquid and publicly traded, we know its value minute by minute.
When an asset is sold, we know its value as of the transaction date, because someone wrote a check to buy it.
How would you value an asset that is not publicly traded, or transacted, but needs a valuation?
Lately, there have been talks by Janet Yellen and the Administration of taxing the rich and having them pay for the $6T deficit caused by the pandemic.
Let’s break down this proposed tax legislation piece by piece, and then see the forest for the trees.
- This new proposal would only apply to people with a net worth greater than $1 billion, or whose income is over $100M annually for three years. Affecting only 700 Americans out of 330 million.
- It would collect $200 billion in tax revenue over 10 years or $20 billion a year. The annual tax collected by the US government is $3.3 trillion.
- Tax will apply on liquid assets that appreciate in value, including stocks, bonds, real estate, bullion, crypto, and art. Generally, capital gains apply to the appreciated portion of sold assets. However, this law would be taxing unrealized capital gains. For example – if someone purchased $200 of Bitcoin, which is now worth $100 million, even if they have not sold any Bitcoin they will be asked to pay capital gain tax on the difference between $100 million and $200. Taxing paper profits.
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Here is why this new law makes sense –
- The 700 richest Americans avoid taxes by using a strategy of buy, borrow, and die. They buy an asset, it appreciates in value, they take a loan against it, get tax write-offs on the loans, and when they die their descendants inherit the wealth without paying any capital gains on the appreciated value.
- US citizens are supporting the growth in valuations of public corporations by buying their goods and services. Why should the government not tax the owners of such corporations for the increased wealth that is built on the backs of Americans?
- The government needs the money. They can’t tax the middle-class or the poor any more than they already have, and the top 0.0002% have enough to share the spoils. What is wrong with asking them to pay more?
Counter-arguments against the tax legislation –
- This proposed legislation creates $200B in taxes over 10 years which is only 3% of the $6 trillion deficit caused by the pandemic. Why does it at all?
- Give an inch they take a mile. This tax will eventually be applicable to everyone. How income tax was temporarily levied in 1862 for the first time to pay for the civil war and affected only 10% of the population. Income tax became permanent in 1914 starting out at 1% and designed only to tax millionaires. And we all know how over the last hundred years, taxes collectively grew to over 50% including federal, state, sales, property, capital gains.
- Valuation is a moving target. Say Tesla stock trades at $1000 a share, and Elon decides to sell 5% of his stake in Tesla. Do you think Tesla will continue to trade at $1000 per share? No. The market will panic at the slight mention of Elon cashing out. This creates a valuation problem.
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The top 700 for whom this law is originally designed will do three things to avoid paying Uncle Sam.
- Use their ammunition against them. They will use tax loopholes including creating trusts and foundations or charities – to transfer wealth to families and enjoy tax deductions.
- Become an ex-pat. Tax havens like Puerto Rico protect against US capital gain tax. Or take citizenship in Malta, or Luxembourg, or St. Kitts.
- Don’t IPO. There are other ways to raise capital or hide assets. Go public outside the US. Create special ownership structures using private shell companies.
Between you and I…all this legislation is great for my business because it will mandate an annual valuation for every soul in America. Creating an exponential demand for my services.
Taxing Unrealized Capital Gains