Top 3 Tax Topics – 2021 Q1

Tom’s Quarterly Reads

Here is what I’ve been thinking about, plus the best articles I read over the past three months, mostly all finance-related. Your feedback is always welcome, and please share this with anyone else who might be interested. Subscribe here.


Just Read This

Low Cost is Better Than Free (Dan Egan): While the article naturally focuses on investing, the lessons can be applied to any decision where you spend either time or money. “When something is ‘free’ the incentives for both the consumer and provider change dramatically, often in ways that are invisibly worse for consumers.”


Tom’s Thoughts: Top 3 Tax Topics

I’m not sure why I decided to put myself on a schedule that includes putting out a newsletter in the middle of tax season, but here I am reaping the whirlwind. But in the spirit of the season, here are the three biggest tax topics I’ve had discussions about over the last year. They may be old news to some, but could provide significant advance warning for others out there.

1) Home office expenses: If you’re an employee (did you get paid on a W-2?) then no, you can’t deduct home office expenses. I know, you worked basically all of 2020 from your jury-rigged home office, you used your home wifi, and you probably bought stuff like a chair that’s actually comfortable to sit in all day. But only taxpayers with self-employment income, reported on Schedule C, can deduct home office expenses – and even then the IRS has rules about exclusive use of the space and how best to calculate the deduction. The larger point is this: after the Tax Cuts and Jobs Act of 2018, if you’re an employee, you can’t deduct any employee-related expenses unless you fall into one of four very specific niches.

2) Capital gains from day-trading: Taxes are assessed on gains and losses that have been ‘realized’ by a taxpayer. If shares that you own gain value or drop in value, that gain or loss is only on paper -until you actually sell the shares, you don’t realize any gain or loss. This is great for those who buy and hold most of their investments; you don’t have to worry about capital gains taxes on the increase in value until you sell. But this can be trouble for those who buy and sell constantly during a year. If someone has realized a large amount of gains during a year, those are taxable the following spring. As a result, if you realize large amounts of gain early in a year, and then buy and hold something that drops in value, you could have an investment account worth less on December 31, 2021 than it was worth on January 1, 2021 – but still owe taxes.

3) Rental properties and depreciation: This is a complex topic, but my purpose here is to plant the seed for homeowners that rent out their place to tenants: we need to do some math. When you rent out your house, it becomes an income-producing asset that needs to be depreciated in value over time. For rental properties, that time period is 27.5 years. So every year, you get to reduce the rental income you make by 3.6% (1 ÷ 27.5) of your basis cost in the home. That’s great news because it reduces your taxable income each year. However, it’s not a free lunch – when you go to sell the home you’ve been renting out, that depreciation could mean a very large tax bill. In fact, you can sell a house for less than you paid for it, but still owe a stiff tax bill if you’ve been renting it out for long enough. Each house and holding period is different, and there’s often a lot more that goes into this calculation, so it’s worth it to sit down and do all the math.


Current Events

Robinhood Robinhooded Robinhood (Not Boring): This is a deep dive on the Gamestop/Robinhood insanity of a few months ago. Many articles covered this period, but this was my favorite one that covers all the crazy in one place: stock trading influenced by Reddit, a supposed class war, Robinhood revealing whose side they are really on (spoiler: not yours), and people making and/or losing gobs of money. If you want to learn more about T-2 clearing rules and exactly what happened when Robinhood stopped trading, this Twitter thread has the gory details.

A Primer on NFTs (Invest Like the Best): Another recent set of things making headlines are NFTs, or Non-Fungible Tokens. This podcast does a pretty good job of looking at what NFTs are, why they seem to be popular, and what the future may hold.

The American Rescue Plan Act of 2021 (Kitces): If you have kids, you’re probably going to owe much les in taxes for 2021 than you did in 2020. But, as it stands, that won’t continue for 2022. This has all the wonky details on the ARP, child tax credits, how and when your third stimulus check is calculated, and more.


Macroeconomic Views

Don’t Learn the Wrong Lessons from the Dot Com Crash (Intrinsic Investing): “So, as we seek to navigate a market in which speculative activity is surging, we will do our best to not be overly skeptical of the big fundamental changes at play, while remaining very skeptical about exactly which companies will capitalize on those trends.”

Notes on technology in the 2020s (Eli Dourado): A very big-picture look at potential technological changes over the next decade, and whether the lower productivity that we’ve seen for the last 15 years will continue. (Don’t confuse changes in productivity with the direction and size of changes of the stock market, but it’s natural to hope that increasing productivity means increasing returns.)

Two Worlds: So Much Prosperity, So Much Skepticism (Morgan Housel): “Consumers are in the best shape they’ve been in, ever. A huge portion of consumers think that’s bogus because they’re in the worst shape they’ve been in, ever. Both are true.”


Odds and Ends

Cryptodamages (Goodkind et al): A look at the potential downside of the cryptocurrency boom. Given the growing adoption of cryptocurrencies and many other things being built on blockchains, this is worth continued study. The outlook so far isn’t great: “Results indicate that in 2018, each $1 of Bitcoin value created was responsible for $0.49 in health and climate damages in the US and $0.37 in China.” I’m a year late to the paper, but seems even more relevant today.

The Magic of Overnight Stock Market Returns (Systematic Individual Investor): The graph at the top of this article visually captures what a paper by the NY Fed concludes: “We show that nearly 100 percent of the U.S. equity premium is earned over a window around the opening hours of European markets when U.S. cash markets are closed.” As noted in the article, this doesn’t appear to be something that can be captured easily (if at all) by day-trading due to slippage and transaction costs. But the finding astounded me, and I continue to think about it a lot, particularly in conjunction with the idea that markets react to new information, and that a lot of information (read: news) can flow into markets in a very short time.

A Concise Financial History of Europe (Robeco): Had to include this – its appeal won’t be broad but I love this stuff. The first stock exchange? Opened in Antwerp in 1531. The first IPO? 1602 in Amsterdam. The first short squeeze? Same city, only seven years later in 1609. WSB was late to the party by 412 years with Gamestop.


Claire wants YOU to stop day-trading.

Thanks,
Tom

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