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What Happened to the Deficit Hawks Now That the National Debt Has Surpassed $22 Trillion?

It was reported in mid-February that the U.S. national debt had surpassed $22 trillion, an all-time high. As frightening as it may seem, we have been here before. Not $22 trillion in debt, but U.S., as a percentage of the U.S. GDP, the national debt was higher during and after WWII.

The big difference is that the debt from WWII accumulated due to a one-time, event while the current debt is being run up by annual entitlements. The positive take away is that, even when the debt gets to unsustainable levels, our country has the ability to reduce it. The negative side is that doing so will require significant changes in the current entitlement programs.

 

The National Debt Since the 1980s

You can see another example during the Reagan years. Debt increased to fight the Cold War, but started to decrease afterwards under Clinton. From there, borrowing to finance two wars along with two recessions sent debt to GDP to 77.3 percent by the time Obama took office. When Obama left, the level had risen to 103.6 percent. The increase in national debt during Obama’s tenure was due to residual war effects and entitlement expansion. President Obama’s administration racked up nearly as much debt in eight years as in the entire 232-year history of the country before he took office. He entered with $10.6 trillion in total debt and left with the country owing $19.9 trillion. That’s an average tab of $1.16 trillion a year.

us national debt

The Trump Administration began with the existing entitlement programs in place, and the latest round of tax cuts have compounded the issue. The Congressional Budget Office estimates that annual deficits will start topping $1 trillion in 2022 from an estimated $900 billion in 2019.  Each year, the deficit will pile roughly another $1 trillion onto the national debt.

 

What Does This Mean for Your Taxes?

The GOP had historically been known for its fiscal restraint; those days seem to be gone.  Although tax cuts for corporations were probably necessary to keep the U.S. competitive, they needed to be funded by something more than hopes of growth. This is where your taxes come into play.

There is a current push from Senator Marco Rubio (R-FL) to crack down on share buybacks by corporations. Share buybacks are a method of effectively returning capital to shareholders without creating taxes until the shares are sold by the investor. Then, at that time, they are only taxed at the current capital gains rate of 0% to 20%. There was a time, not so long ago, when capital gains and dividends were taxed at ordinary income rates. Rubio’s plan is to effectively reverse the reduction of capital gains rates that occurred since the 90’s. Ironically, Rubio was pushing for a 0% capital gains tax rate just two years ago.

The Democrats are pushing a multitude of higher taxation plans on everything from your wealth to income tax rates as high as 70%. Because both parties are starting to see the stagnating power of becoming overburdened by debt, it is quite possible that when this all comes to a head, we will see a compromise focused on tax rates on capital gains and dividends. It is likely those rates will be progressive and make the biggest impact on incomes over $500,000 or perhaps more. It doesn’t seem plausible that the ordinary income tax rates will come under much scrutiny, but stranger things have happened. In addition, it is almost certain that the Democrats will demand a repeal of the increasing exemptions on estate tax.

 

Summary

There will be ways to prepare for this onslaught of potential new taxes, but we will need to wait and see the details.  There are currently certain mechanisms in place that can help protect your income and wealth from increased capital gains rates, increased dividend tax rates and increased estate taxes.

The goal for all Americans should be continued peace and prosperity. This will result from sacrifices, otherwise the country will enter a period of stagnation. The lowest income earners will probably see a decrease in federal entitlements and the highest income earners will likely see higher taxes.

The increase in ongoing annual entitlements is the primarily threat to the national debt. An increase in the social security full benefits age and means related testing on Medicare and Social Security benefits are also conceivable changes. These are inevitable if we want to reduce the national debt. Of course, another additional option is to decrease federal spending overall and push back on any proposals that require additional spending that does not produce tangible growth, such as the New Green Deal being touted by many of the Democratic presidential hopefuls.

AlphaMark Advisors can help you successfully navigate the potential changes coming your way. We offer you expertise in tax advantaged investing, partnerships with excellent estate planning attorneys and CPAs who specialize in tax optimization strategies.

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