Tuesday, November 30, 2010

Tax Cut Expiration Could Create Profit Opportunity

It is not clear at this point whether or not the Bush tax cuts will be extended or not. They are set to expire 31 days from now, but almost all leading politcians wants to prevent that from happening. However, as they disagree on whether or not the tax cuts should be extended also for people with a family income above $250,000 per year or an individual income above $200,000 per year, it is not certain that there will be any extension at all, much less if there will be an extension for people with high income. I am not familiar enough with the inside dealings with the political establisment in America to predict whether or not there will be a full, partial or no extension. But what I do know is that if there is no extension or only a partial one, then a profit opportunity for investors will arise. If there is no full extension, then the capital gains tax will rise from 15% to 20%. As a result, people who were planning to sell anyway in the near future will have an incentive to sell before the end of the year so that their capital gains tax will be lower. This will create an extra selling pressure that will depress stock prices and other asset prices until the new year. However, this depressed price level will create an opportunity for other investors totake advantage of the depressed price level created by the planned tax hike. Both the sellers and the buyers will be able to benefit from this because the lower current tax wedge compared to the future one will both mean that the sellers will receive a higher net price and that the buyers will have to pay a lower price.