Wall Street tax has unintended consequences for Main Street retirement savers
Higher transaction costs would lead to more, not less market volatility, says Congressional Budget Office.
Bicameral legislation introduced Tuesday by Congressional Democrats would slap a new transaction tax on most securities sales.
The Wall Street Act of 2019, the latest iteration of Democratic lawmakers’ attempt to tax stock market trading, would levy a 10 basis-point charge on the sales of stocks, bonds, and derivatives.
That would create more stable equity markets by discouraging high frequency trading of the kind that spurred the “flash crash” in May of 2010, according to the bill’s sponsors. And it would raise a bundle of cash for federal coffers.
“High-frequency traders front-run the market and drive up prices for individuals, pension funds and other value investors,” said Rep. Peter DeFazio, D-OR, lead sponsor of the bill in the House of Representatives, in a press release.
“Some days high-frequency traders trade billions of shares that they sometimes hold for only seconds or less. They reap enormous financial benefits for themselves and their privileged elite investors but add no value to our economy. This legislation will curb unnecessary speculation and generate much-needed revenue to help the federal government fund national priorities and invest in the real economy to benefit all Americans,” added DeFazio.
A Senate version of the bill is sponsored by Sen. Brian Schatz, D-HI, and Sen. Chris Van Hollen, D-MD. Sen. Kirsten Gillibrand, D-NY, who has announced an exploratory committee for a presidential run, is a co-sponsor in the Senate.
‘High-roller’ fee
About $300 billion in stocks and $800 billion in bonds—mostly U.S. Treasury Securities–is traded on a typical business day, according to the Congressional Budget Office. Under current law, the transactions do not incur a per-transaction tax. The Securities and Exchange Commission does charge a small fraction of a basis point to cover regulatory costs.
The Wall Street Act would apply the 10 basis-point tax to the fair market value of equities and bonds, and payment flows under derivative contracts. Initial public offerings and short-term debt with maturity of less than 100 days would be exempted.
Democrats are billing the tax as a way to redirect Wall Street profits to common Americans.
“Wall Street has made an art of high-speed trading and rank speculation that has fattened the wallets of a few while putting everyday Americans at risk,” said Sen. Van Hollen. “This tiny high-roller fee will help curb this risky behavior while generating revenue that we can invest in growing our real economy and helping hard-working families.”
The CBO estimates the tax would raise $777 billion over the 10-year budget window.
A tax on Wall Street or a tax on Main Street?
But advocates for retirement savers say the Wall Street Act will have unintended consequences for middle-class Americans, as it would include new taxes on securities held in mutual funds by pensions, 401(k) plans, and collective investment trusts.
Analysis from the CBO suggests a transaction tax could make asset prices less stable, and potentially introduce more stock market volatility.
“In our view, it amounts to an effective investment management fee that is not insignificant over time,” said Brian Graff, CEO of the American Retirement Association, in an interview.
“The fixation is on going after Wall Street ‘high rollers,’ but they are not getting that a lot of working Americans are saving in the market too,” added Graff.
Sponsors of the legislation maintain the tax is small. But analysis by the Investment Company Institute shows a 10 basis-point tax would have reduced the return on long-term mutual funds by $23 billion in 2018.
“A financial transaction tax would ultimately harm individual investors who are saving for retirement, education, and other financial goals,” said Shelly Antoniewicz, senior director of industry and financial analysis at ICI.
As the proposed law is written, bi-monthly deferrals to 401(k) plans would not be subject to the tax. But participants would be taxed when selling shares of mutual funds to rebalance portfolios. The transactions of underlying securities holdings in mutual funds and target-date funds would be taxed.
The tax would have the same effect as increasing the average expense ratio on an equity mutual fund in a 401(k) by 31 percent, said Antoniewicz.
Money market fund investors would make out even worse. Money going into the funds would be exempted, but the tax would apply as money is redeemed and moved to other investments. In 2018, that would have meant an additional $20 billion in costs, or a reduction of 71 basis points on the return of money market funds, according to Antoniewicz.
“Transaction taxes hit Main Street—not just Wall Street,” she said.
Reaching beyond the target
The high frequency trading the Wall Street Act hopes to curtail is not found in 401(k) plans, says Jack Towarnicky, executive director of the Plan Sponsor Council of America.
Mutual fund sponsors and plan administrators already place prohibitions on excessive trading in 401(k) accounts, he said.
“If targeting high-volume traders is the goal of the legislation, then you have to ask whether or not the legislation matches the goal,” said Towarnicky. “It seems to reach well beyond the intended target.”
The tax would create administrative complexities and costs for 401(k) plans, says Towarnicky, as some transactions would trigger the tax, and some would not. Moreover, the 10 basis points in new taxes would exceed the current cost of administering 401(k) plans for more than half of today’s plan participants.
Management of public and privately sponsored defined benefit plans would also be impacted.
“The impact is not limited solely to high-volume trading,” added Towarnicky. “It reaches down to rank-and-file America. If they are going to exclude certain transactions, perhaps they should consider excluding retirement plan assets as well.”
According to ARA’s Graff, 70 percent of 401(k) participants make less than $100,000 a year.
“These are not ‘high rollers,’ and there’s no high frequency trading occurring in 401(k) plans,” said Graff. “Warren Buffet may not care about his $19,000 contribution to his retirement plan, but most Americans do.”
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