Stock investors don’t like tax increases, but they tend to get over it.
Tax hikes on maximum capital gains—like the increase the Biden administration will reportedly propose—have knocked the air out of the US equity market about half of the time, according to Tax Foundation data going back to 1945. Even when the S&P fell during the year of the tax increase on investment gains, stocks almost always went on to rally in the subsequent years and recoup the losses.
Are tax hikes on capital gains bad for the stock market?
The stock market stumbled yesterday, with the S&P falling the most in more than a month, after Bloomberg reported that president Joe Biden will seek to nearly double the capital gains rate to 39.6% for wealthy people. (The S&P was already looking perkier today, perhaps reflecting that the Biden proposals are an initial bid and will face opposition from Republicans in Washington.)
For people earning $1 million or more, the proposed top rate could go as high as 43% (including a surtax on income that’s already in place). The marginal rate could go up to 39.6% from 20%, and the proposal could also reduce the favorable tax treatment on carried interest, a share of investment profits that goes to people who manage hedge funds and private equity firms.
The levies are designed to help reduce inequality, Bloomberg reported. Biden is pushing to increase social spending via the “American Families Plan,” which includes new resources for education and children. The administration is aiming to fund its $2.3 trillion infrastructure initiative with corporate tax hikes.
The changes in capital gains tax could rebalance the levies on income earned by working class people and investment income. If history is any guide, as Bloomberg’s John Authers wrote, increases in capital gains taxes merely bring forward equity sales that might have happened anyway.
That said, the frothiest, most speculative stocks and assets, which produced the most capital gains lately, may have the most to lose. Bitcoin has fallen about 15% this week, and shares of crypto exchange Coinbase dropped more than 5% yesterday.