With the Bush tax cuts set to expire on December 31, 2012, rising taxes are on a lot of people’s minds. Even businesses are putting off making decisions such as hiring until they see what happens with taxes. The other day I had someone call asking if I thought taxes would go up. Apparently they were considering cashing out their IRAs so they could pay their taxes this year for fear their tax rate would be much higher in the future.
The other issue on the table is the Fiscal Cliff. The Bush tax cuts are part of the Fiscal Cliff but it also refers to other tax increases and pre-planned spending cuts that will go in to effect on January 1, 2013 if Congress does not come up with a plan to reduce the budget deficit by the end of the year.
There are only two ways to balance a budget, either increase your income or reduce your expenses. Our budget deficit is large enough now that the budget cannot be balanced by cutting expenses alone. They would have to be cut too much. We still need to function as a society and therefore still need things the government provides such as a police force, school systems and road maintenance to name a few. In order to balance the budget we will be forced to cut expenses AND raise income. One of the primary ways for a government to increase income is to raise taxes. So yes, I think taxes will eventually have to go up. The problem in raising taxes now is the timing. Our economy is still so fragile that raising taxes now could push the economy back into a recession. Most economists will tell you that if the Bush tax cuts are allowed to expire it will cut our country’s GDP by 3-5%. In other words, the growth of our economy would fall by 3-5%, most likely resulting in another recession.
We only have to look at Greece to see why raising taxes in a weak economy is counter-productive. When the European Central Bank told Greece they needed to take measures to balance their budget, Greece raised taxes and cut entitlements. And the rioting began. With sky high unemployment rates, its citizens now have less income and higher taxes, leaving them with even less income to buy the products and services its economy produces. Since about two-thirds of the economy is driven by consumer spending, you can understand why this is a problem. Raising people’s taxes and lowering their income, while at the same time hoping they’ll go out and buy a new car is an unrealistic expectation.
While some sort of tax reform will be a necessary part of balancing the budget, hopefully Congress will propose a way of doing that slowly over time as part of a long-term deficit reduction plan.
Linda Eden is a Registered Principal offering securities through Cambridge Investment Research, Inc., a Broker/Dealer, Member FINRA/SIPC. Investment Advisor Representative, Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Legacy Wealth Management, LLC and Cambridge are not affiliated. Cambridge does not offer tax advice.
Copyright ©2012 Linda Eden. All Rights reserved. Commercial copying, duplication or reproduction is prohibited.
