Categories
Investing

The Immediate Economic Future Of NZ

In April I wrote an article about the economic future of NZ, in which I postulated that the economy could be changed for the long term and we could see some new / increased taxes in the future. Specifically, I believe that we are looking at a Capital Gains Tax (CGT) because it’s already popular with some folk who believe there’s a fairness issue at play, and the NZ government has a history of looking abroad for policy ideas (rightly or wrongly).

I’m not ready to revisit the accuracy of my predictions because things haven’t had time to play out yet, but I would like to take the opportunity to offer my thoughts about the immediate future of the NZ economy. I won’t cover the state of play currently, because that’s already covered very well by the likes of John Ryder (which I recommend you subscribe to), various sources of stats, and the general media. Instead I would like to offer my opinion of the share market recovery and whether it’s currently a good time to be investing / trading.

I recently read a very interesting opinion piece in Stuff about mortgage holidays, which I think gives insight into the timing of the bear market. To summarize the article, 114,000 people are experiencing post COVID-19 lockdown hardship and 52% of these have been given a mortgage repayment holiday by the banks. These mortgage holidays will be expiring after 6 months (September through December), at which point people may be entering positions of financial hardship in which they do not have the means to support themselves.

This will be coming into Christmas when people typically spend more money. Without this extra spending, businesses will struggle through the traditionally quiet months following Christmas. I suspect this grim time for business will cause us to see more business closures and job losses in early 2021.

Therefore I think the recovery we have seen in recent times will likely recind towards the end of the year, and we will once again be in a bear market coming into 2021.

That said, much of NZ’s tiny economy relies on trade with larger foreign economies, so perhaps a better way to predict the economic future of NZ would be to predict the economic future of larger, foreign economies such as the USA, China and Europe.

In any case, I think that it is wise for investors to be divesting and saving their cash for a real, full recovery; traders should cautiously enjoy the volitility as they always do; and employees should enjoy as much security as they can, by working hard to ensure the success of their employer and saving money in case things don’t go well.

Things To Remember About Stock Prices

It’s better to invest in bull markets than gamble by buying stocks selling at a fraction of their former price in the hope that they will return to previous values. It’s worth remembering that a stock that halves in price has to double in price to reach it’s previous value. For example, a stock that was a dollar has to fall by 50% to reach 50c, but a 50c stock has to increase by 100% to reach a dollar.

Buying during a bull market gives confidence that prices will continue to rise and is a safer investment which will be a better investment over a period of years. For example, an investor would rather be guarranteed 30% ROI per annum compounding for 5 years, than a year of the posibility to get 100% without any certainty, but at the same time have the risk of losing 50%. So be careful what you wish for if you are hoping stock prices will fall.

It’s also worth remembering that stocks aren’t “cheap” because they are selling for half their current value. A stock’s price is based on the company’s capacity to earn money, which may then be returned to stockholders in some fashion (which is how the stock price is derived – it’s all about ROI on your investment).

How To Invest

There’s a lot of stuff going on right now: turmoil in the USA with racial/police problems, riots in the streets, and COVID-19 out of control. Thinking about this calmly and unemotionally, these things probably won’t effect the economy. What will effect the economy are the trade wars happening with USA-China, trade issues with Oz-China, lockdowns in the USA, the effects of the previous lockdowns effecting tourism, the aviation industry, subsequent job losses, the prospect of falling commercial property prices as people work from home and businesses close, the prospect of falling residential property prices from reported economic hardship, the corresponding reduction in equity and borrowing capacity from falling property prices and the effect that will have on spending. The potential for governments to become financially over extended from stimulus packages could cause future taxes and austerity measures that would be detrimental to the economic recovery.

On the flip side there are massive stimulus packages.

Over all, I feel that this year is a good time to cash up if you can. I think that retail stocks carry particular risk because people will be saving, spending at Christmas will be low and the following months will be baron. I think that tourism and aviation will continue to struggle, and Oz mining stocks (and general economy) will suffer from the current relationship with China.

Generally there is a lot of risk in the market, and given the liquidity of stocks there is no need to take on the risk of investing right now. Trade as you will if you are a trader, but I think it’s currently a bad time to be investing. If you are intent on investing, I have mentioned that Ebos are well priced right now, Scales and A2 Milk are probably about fair value (apologies for the old analysis in the link), though there will possibly be better times to buy later next year (less risk, but with less gains). There may be some bargains available in the residential property market in coming times – which is probably the best bet given lower interest rates.

Categories
Business

Do I Need To Repay The Wage Subsidy?

A few weeks ago I wrote an article about the economic future of NZ, in which I praised the government’s reaction to COVID19 and the associated financial policies arising from it. Specifically I said that I liked the wage subsidy as an implementation of Helicopter Money.

Why I liked it so much, is because it directed money straight to all businesses (small and large), and forced those businesses to ensure their staff were looked after. Trickle- Down Economics, anybody? I think this is better than Quantitative Easing because the money goes straight where it’s needed (though arguably there are better ways to implement Helicopter Money).

Every business owner I talked to, had applied for and got the wage subsidy. Comments on the no-questions-asked ease of acquiring the subsidy, along with the soft eligibility requirements of “…a 30% decline in predicted revenue…” and soft wording on repaying it, stating that you can repay it if you become no longer eligible, all suggested that the wage subsidy was actually Helicopter Money.

Now it seems that numerous large law firms are repaying the wage subsidy and the wage subsidy page on the Work and Income website is dominated by large red text talking about repayments.

So the question for employers is do i need to repay the wage subsidy? I don’t have the answer to this, but I suspect that the fact that the law firms are repaying it might be a clue.

In some ways it’s no surprise that the government is asking for the money back. In fact, I stated that there would be a need to replenish the coffers in the very same article in which I praised the wage subsidy policy. I’m just a little disappointed in the way the Work and Income website phrased the repayment, because for me, to say that you are eligible if you predict a 30% drop, then say that it has to be paid back if you are no longer eligible, I would have thought that having had predicted the 30% drop made you eligible.

Additionally I think that in the case of a growing company (especially those who have recently done capital raises or increased investment to fund growth), it’s quite possible that revenue could be up from last year, but 30% less than predicted. This could validly cause an increase in staffing costs that is not sustainable as returns didn’t fit the anticipated financial modeling, and such a company could be in need of the wage subsidy.

I think there’s scope for arguing a position here, but I suspect that increased need to replenish the coffers in the coming year may result in the IRD comparing past and present returns for those who kept the subsidy, and correspondingly auditing those who didn’t report at least a 30% drop. I expect that this will result in a lot of unpleasant words like “fraud” being thrown around.

It is my understanding that in cases where tax law is based on your opinion (such as whether you’re a share trader or share investor), the opinion of the taxman overrides any thoughts the business owner may have had on their intentions.

To leave on a positive note, while we may not have got any Helicopter Money, the alternative methods of replenishing the coffers are less attractive.

If you are wondering whether you need to repay the wage subsidy, you may wish to talk to your lawyer, accountant or ring the number on the Work and Income wage subsidy page that offers advice on whether you need to repay (though I expect in the case of any ambiguity, a ruling would not be in favor of these business).

Categories
Investing

Should There Be A Capital Gains Tax?

Capital Gains Tax (CGT) is a very emotive subject. Left leaning people believe that not having CGT is unfair because self centered people are allowed to use certain types of investment to earn money without paying tax, while others have to work to pay all the tax. Right learning people tend to see those left learning people as lazy brats with Tall Poppy syndrome who don’t work or save hard enough to invest.

There’s probably some truth in each side… and now that I’ve riled everyone up, lets accept that looking at CGT from an emotional perspective is the wrong approach.

Once we’ve calmed down and removed our emotion from the subject, lets look at another approach in deciding whether we should have a CGT. Let’s first consider what tax is for.

Why Do We Have Tax?

Tax is used to correct flaws in Capitalism. Without tax, pure Capitalism would be unjust and result in a less successful society by all measures. People would be unable to get things that should be available to all, such as education and medical care. Inaccessibility of such things is bad for society overall – workers are less efficient because they’re unwell, under-educated and society as a whole would ironically be less happy without tax.

But tax also has a negative effect, which is why we should tax as little as possible to achieve the governments goals. That said, that same negative effect can be a good thing as another purpose of tax is to dissuade the populace from things that have negative effects if left untethered. For example, a tax can be good on cigarettes (reducing consumption) or petrol (which causes people to think more if they need to make the journey; reducing the damage to the environment).

Do We Need A CGT?

Given the purpose of tax, we should try to take the emotion out of our discussion about whether we should have a CGT, and instead ask ourselves if we need a CGT. Lets look at the benefits and disadvantages of a CGT on investing in shares and property.

Remember: The purpose of tax is not to redistribute wealth (with the exception of Communist societies). The purpose of tax is not to take money*, it’s to put money into area’s where it’s needed to fix the failings of pure Capitalism (we don’t do pure Capitalism in NZ). If increased tax is required, money should be taken from places where tax will cause the least harm to society.

*The exception to this rule is where the aim of taxation is to adjust demand for something who’s restriction of demand does not consider the negative effects on society, like tobacco or petrol.

Do We Need A CGT On Investing In Shares?

The Advantages Of Taxing Shares

There is no advantage of specifically taxing shares over other things, because remember that the purpose of tax is not to redistribute wealth and we’re not aiming to damage the stock market by tempering demand.

The only advantage of taxing shares is that tax revenue would increase.

The Disadvantage Of Taxing Shares

Since there are different types of shares and different types of investors in shares, we’ll have to identify the differences so we can analyse the impact to each.

Firstly the IRD defines two types of investors in the stock market, Share Traders and Investors. Share Traders already effectively pay CGT as they pay tax on their share trading income at the end of the financial year, at the normal income tax rate. Investors do not pay tax on the sale of their businesses / shares. See this article for more information on the differences between investors and traders.

To add to the confusion, there are multiple types of investors within the group broadly classed as “Investors” by the IRD. Business owners own shares in their privately owned company, and then there are Angel Investors / VCs who buy shares in a company not listed on the stock market – which is implicitly a long hold due to the lack of liquidity.

The Disadvantage Of Taxing Stock Market Traders

Essentially traders play the stock market and have no loyalty to the companies they own. If the company needs additional capital, a trader will likely be gone well before the subject is even risen (this is a bit of an assumption – a trader may indeed find the offer of a capital raise attractive as an investment in itself). Therefore it’s arguable that Traders bring little benefit to the companies they own, except perhaps helping to push the price of stocks upwards, which is good for the economy as investors get better returns and this helps Joe Public (think: Kiwisaver, etc.). Some may argue that this doesn’t really help anyone because it doesn’t contribute to GDP.

While Traders don’t really bring benefit to the economy through their trading activity, they are wealthy entities, and a CGT could cause them to leave the country (to set up an entity, such as a business or trust, as a tax resident elsewhere). This would be highly probable as they already pay tax at typically 33%, an extra ~30% CGT would be too much. When I talk about that being too much, I’m not referring to it being unfair, because tax is nothing to do with what’s fair – just what people will accept. The net effect of increasing tax to traders would be a movement of money out of the country, which would be a bad thing.

The Disadvantage Of Taxing Stock Market Investors

Like traders, investors will be less likely to partake in investing if the risks are higher (as the ROI will be lower). This means that it will be harder and more expensive and more risky for companies to raise capital. This is obviously bad for the economy.

If the taxes for being a trader are the same as being an investor, all investors would be traders. This is also bad, for the reasons mentioned above in the section about taxing traders. We want to incentivize traders to be investors, if anything.

Additionally, as investors hold stocks for longer, a CGT would to some effect end up being a tax on inflation – effectively causing a loss in real terms. So investors would be less likely to sell, which is economically inefficient as money is not free to move around in the “free market” as is required for capitalism to be successful.

The Disadvantage Of Taxing Business Owners

Again, this would be a tax on inflation, disincentivising sales. This is bad for the well being of business owners because they would have to work longer before retiring (remember much of NZ is made of small businesses / sole traders). This is bad for young people trying to make their way up the chain or even enter the workplace in the case of industries dominated by sole traders, which is not good for the well being of the country and stifles innovation.

Do We Need A CGT On Property?

A CGT on property implemented on peoples homes would be catastrophic. It would mean that as home prices went up with inflation, after people sell their home, they wouldn’t be able to afford a new one. This would cause geographic inelasticity of labour as people wouldn’t be able to leave the place they live to work elsewhere, even at the prospect of a very large pay rise. The would obviously damage the economy and push up house prices due to supply shortage.

A CGT on investment property would have different consequences. We have seen in the last year that policies aimed to help renters at the cost of landlords have decreased the number of landlords in the market (myself included) which has caused an increase in the price of renting. It follows that a CGT on investment properties would increase the cost of renting.

Looking into the LINZ ownership data, I can see that most people who have their name on one title, also have their name on another title. From this we can conclude what we already annocdotally know: there are a lot of mum and dad property investors out there, and this is what most people put their retirement savings into. A CGT on investment property would damage peoples retirement savings, having the effects described to retirees and the economy in the above section on taxing business owners.

Other Considerations

More types of tax decreases the efficiency of an economy, creating more administration an associated costs, such as Accountancy and Tax Lawyers.

As mentioned before, CGT is also a tax on inflation. Imagine if you buy an asset that is worth $100, each year inflation goes up 3% and the value of that asset with it. At the end of 10 years, if you sold the asset, you wouldn’t be able to buy an equivalent asset. Selling would always be at a loss, which is bad when that’s what your savings are invested in. This would make the population poorer, taking a slice of peoples savings, not take a slice of their profits.

While people might feel that it’s unfair that there are ways of making money that aren’t taxed, those people should remember that later in their life, they will be in the position to make such gains, so if your motivation of wanting a CGT is still based on a perception of justice, you may want to do the sums and see how retirement looks after a CGT on popular retirement investments.

Summary

There are a lot of disadvantages of introducing CGT on property and share investments, and the only advantage that I can see is adding more money into the governments coffers. It seems to me that the first question is not “Should we have a Capital Gains Tax?”, but “Should we have extra taxes?”.

After deciding whether we want extra taxes, we should then look at all the different things that can be taxed, and analyse the impact (disadvantages and advantages) of each type of tax, rather than running to CGT because it seems the fairest – remember, tax is nothing to do with what’s fair, it’s what causes the least harm to the population and economy.

Categories
Investing

Investors Vs Traders In NZ (Tax Law)

You might have heard stock market investors talking about share traders and share investors. These are two different types of stock market investors in terms of strategy, but this also has a significant impact on an investors tax implications.

NZ Tax Law defines two types of investors in shares: Traders and Investors. As usual with tax, the difference is grey and separated by “intention” – though it’s the IRD who will ultimately decide what your intentions were, so you’re going to want your intentions to be crystal clear.

What Is An Investor?

An investor is someone who buys shares with the intention of keeping them long term. They are investing in a company to enjoy the growth of a company with a view to getting an income as an owner of the company or having a long term exit plan.

Being an investor is arguably less stressful because investors don’t sweat the daily ups and downs of the stock market caused by market sentiment, as much as Share Traders do.

Investors typically use Financial Analysis (FA) techniques to justify their purchase, and try to purchase quality well run companies with good growth prospects, or speculative stocks.

From a tax perspective, investors do not pay Capital Gains Tax (CGT) in NZ.

What Is A Share Trader?

Share Traders buy shares with the view of playing the share market. They buy the lows and sell the highs, with lots of trades. They use Technical Analysis (TA) techniques and spend a lot of time looking at graphs to determine where the share price of a stock might go. They may also do Short trades.

Share Traders tax on their earnings at the end of the year, but I assume can recover their costs if their investments make a loss (you’ll have to talk to an accountant to confirm this).

It’s possible to be an Investor and accidentally become a Share Trader, say if you buy shares with the intention of investing, but then have to sell because you need the money or market conditions become unfavorable and you decide to exit, or if you’re learning and make some incorrect purchases that you need to remove from your portfolio. Again, your accountant will be the best person to advice you on this.

Categories
Investing

The Economic Future Of NZ

Following the Black Swan event of COVID19, NZ is left in a state of uncertainty while we await the response of the economy to see how the recovery will look. One thing that concerns me more than the possibility of recession caused by businesses failing to survive the lockdown, is the possibility of NZ’s economy being changed for the longer term.

Firstly, while I am the last person to support the Labour government and Jacinda Ardern, I have to say that from what I can see they’ve done a great job with COVID19. The number of cases in NZ has been easily handled, there has only been one death (which represents a very low percentage, and the person had other medical complications), and I think the financial stimulus response has been excellent (QE + Helicopter Money via the Wage Subsidy) – though I have to say that I’m not impressed with the abuse of the State of Emergency which they have used to pass irrelevant social policy, but that’s beyond the scope of this website.

The negative effect of QE and the Wage Subsidy is that the government will need to replenish their coffers once all this is over, which means increased interest rates, increasing government debt, and/or increased taxes. Each of these have their own negative implications for NZ.

Increasing Taxes

The implications of increasing taxes is fairly obvious – this weakens the economy. Taxes on people reduce available income and reduce consumer demand for goods and services. Taxes on companies cause companies to make more effort to avoid taxes, such as becoming tax residents of foreign countries. Both types of tax reduce demand for goods and services, which reduces demand for labour, reduces wages, reduces demand and prices of property, which reduces consumers overall wealth and borrowing capacity, etc.

One would hope the government would only be able to do this when the economy has fully recovered and is healthy, though I expect that the idea of CGT may raise it’s head again.

Increasing Government Debt

This is also bad because it defers and compounds the problem as debt levels increase over time.

Increasing Interest Rates

This is actually the option that scares me the most. The Reserve Bank of NZ (RBNZ) could increase interest rates to recover funds back into the government coffers. This would have a direct and almost immediate effect on peoples wealth, through higher mortgage rates for property, pushing down prices and increasing costs, putting people into a negative equity situation, increasing rental costs for businesses, reducing demand for goods and services as people have reduced spending capacity, reduced borrowing capacity causing risks that weren’t previously there.

In addition to this, it could cause the value of the NZ Dollar (NZD) to increase compared to other currencies. This would be a problem for exporting companies, and cause a shift in the way NZ does business and increasing the trade surplus.

All this is a big problem because NZ relies heavily on it’s exporting industries (dairy, forestry, meat, and to some extent tourism as NZ would be more expensive to visit). New Zealanders also rely heavily on property investment, which is the staple investment for the average Joe investor (mum and dad, and many retirees).

How To Invest?

Assuming that this doesn’t cause further economic collapse, and of course assuming that this all transpires, investors might react by investing in stocks that benefit from a strong NZD, Importers, and companies with little or no debt. At the moment I’m waiting to see how the economy and government react, and building up some cash reserves so I’m ready to move when the opportunity presents itself.

Addendum (10/07/2020): Thinking about it, as things get worse, money will likely retreat to the USA, so the NZD may actually become weaker, rather than stronger. It all depends on the state of foreign countries relative to the impact on NZ, which is quite unpredictable so far out.