tax implications of the 2020 Election

With the election less than two months away, I wanted to take the time to discuss any potential changes whether Trump wins reelection or if Biden and the Democrats sweep (winning the senate, the house, and the presidency). Historically, markets initially react negatively to regime changes with lower returns for the first few months. Nevertheless, based on the robustness of today’s market I believe that markets will continue to trend upwards regardless of who wins. 

Trump win: Maintaining the status quo likely means a continuation of lower taxes and relaxed regulations. These market-friendly factors could be offset by potential headwinds created by ongoing trade tensions as we saw during 2018 and 2019.

Here’s a brief summary of each candidate’s proposed tax plan

potential impact on markets if Democrats win?

At a glance, a Democrat sweep would most likely increase corporate taxes which could potentially affect markets. A general rule of thumb is that every percentage point change in the effective corporate tax rate has about a $2 impact on earnings per share (EPS) on the S&P 500. If we assume the corporate tax rate is lifted from 21% to 28%, S&P 500 EPS could take a hit up to $14. Nevertheless, it’s important to consider that the Democratic platform also includes increased spending, for instance Biden has proposed a $2.5T green infrastructure plan which could create jobs and benefit many companies. Additionally, we can expect that the Democratic control of the White House would bring more favorable China relations. Although Biden has a “tough on China” stance, he may not use tariffs as a negotiating point.

Diving deeper into the tax changes, a higher federal statutory rate would negatively impact sectors with primarily domestic revenues and don’t have pass-through structures which includes: Financials, Communication Services, Consumer Discretionary, and Healthcare. Technology companies on the other hand derive 56% of revenues from outside the United States and could be affected by Biden’s proposed increase to US global intangible low-taxed income (GILTI). GILTI acts as a minimum tax on income from intangible assets such as patents, trademarks, and copyrights generated by an affiliated foreign corporation. Taking a look into the current situation regarding GILTI, most corporations just simply refuse to disclose these provisions. For example, Apple Inc. reveals nothing about these provisions on its taxes and is one of the biggest tax dodgers shifting as much as $230B into low tax havens in 2016. The SEC requires companies to disclose on their annual reports the effect or any specific tax provisions that affects their income taxes by 5 percent or more, but in practice companies routinely group the effects of multiple tax provisions into one broad estimate. Based on this, it’s unlikely for GILTI tax increases would affect many Tech corporations’ bottom line without the closing of tax loopholes. With a Democrat sweep, I can see even more money move towards Tech away from industries like Financials and Consumer Discretionary.

Another potential change which could affect markets is a change in the qualified dividend income tax (QDI). Currently, QDI can be taxed at a better rate than ordinary income, if this advantage were lost for assets such as preferred equity, we could see lower prices and higher yields as these are seen as less valuable.

Ultimately, history tells us that equity markets increase over the long run, regardless of who is in office. Awareness of the possible short term affects can help one position their investment portfolio allocations away from industries which could be negatively impacted to equities that will benefit. Remember, you have the power to change your own situation!