Backwards Backup

Backwards Day strikes again!

A couple months ago I wrote about “Backwards Day”: the day back in high-school where if someone asked how you were, you said “bad” if you meant good, people walked backwards down the halls, and put as many of their clothes on backwards as they could. Up was down; no was yes.

I noted that with capital gains tax rates going up, it’s backwards day in tax-planning. Well, now it’s backwards day in corporate finance, too.

Companies are declaring special dividends and paying bonuses early. They’re expecting that treatment of dividends will shift from the capital gains rate to ordinary income, and that income tax rates and the Obamacare surtax will push rates up for the highest earners. And it doesn’t matter if Congress doesn’t enact a final rule until later in the year; in August of 1993 Bill Clinton signed a tax bill that was retroactive to the first of the year. In fact, Congress has enacted retroactive taxes 26 times since the Federal Income Tax was imposed a hundred years ago.

So early payment of dividends and bonuses doesn’t guarantee protection from the long arm of the government. Still, it beats the alternative of sitting around waiting for the IRS to compute higher withholding tables. Thus far 144 companies have announced special dividends in the fourth quarter totaling $21.4 billion. Accelerating bonuses into 2012 can be more complicated, but many finance, law, and consulting firms are doing that as well. It doesn’t cost the company more than a few administrative headaches, and it increases the employees’ take-home pay, so why not?

All this tax-planning is putting cash into government coffers now, at the expense of next year. So expect to hear stories about how the deficit has magically shrunken, or how incomes have risen. Don’t believe it: that money is just pulled forward from early 2013. Government revenues in early 2013 will be depressed.

Because the government gives, and the government takes away. And when they take it away early, there’s less for them to take later.

Douglas R. Tengdin, CFA

Chief Investment Officer

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