Fiscal Cliff Averted, Confrontation Postponed-BMO Private Bank Looks Ahead
- High-income earners will be most affected by tax hikes
- $3.6 trillion USD of additional deficits expected over the next 10 years
- Spending cut decisions to be made in late February
TORONTO, ONTARIO and CHICAGO, ILLINOIS--(Marketwire - Jan. 4, 2013) - Investors breathed a sigh of relief on New Year's Day with the passage of the hastily-negotiated package that the U.S. would not fall off the Fiscal Cliff, and BMO Private Bank expects interest rates to remain stable until lawmakers get back to the table next month.
The anticipated Fiscal Cliff consisted of $600 billion USD in automatic spending cuts and tax increases that were set to go into effect in early 2013. Without this agreement, they likely would have had a negative impact on U.S. economic growth and a ripple effect around the world.
"The House approval of the Senate bill was a big win for President Obama, who pledged to raise taxes on higher income earners," said Jack Ablin, Chief Investment Officer, BMO Private Bank. "Surprisingly, there were virtually no spending cuts included in the compromise."
Mr. Ablin noted that the most difficult decisions will take place in late February, including the sequestering of automatic spending cuts amounting to more than $100 billion USD per year. He also said that the return of the debt ceiling debate would dominate news headlines in the coming weeks.
The last-minute negotiations this week resulted in the following:
- Individuals making more than $400,000 or couples earning more than $450,000 USD (0.7 per cent of U.S. households) will see the top marginal income tax rate rise to 39.6 per cent in 2013, up from 35 per cent last year
- Tax rates for income earned below those thresholds have been extended
- Investment-related tax rates increased
- Taxes on long-term capital gains and dividends increased to 20 per cent from 15 per cent on high income households
- Taking the new 3.8 per cent Affordable Care Act tax into account, the new effective rate rises to 23.8 per cent for those filers
- Congress extended the $5-million estate tax exemption, raising the tax rate from 35 per cent to 40 per cent
In addition, Congress allowed Federal Insurance Contributions Act (FICA) taxes to rise by two percentage points for all Americans. BMO estimates that the payroll tax will take roughly two per cent out of consumer spending in the first quarter of 2013.
"Investors may be celebrating, but the bond market isn't too happy," said Mr. Ablin. "As it stands now, the deal sets the stage for roughly $3.6 trillion of additional deficits over the next 10 years. The 30 year treasury yield just broke above three per cent, its highest level in months. While we do not expect a dramatic rise in interest rates, in-action by Washington could be a cause for concern for bond holders."
About BMO Private Bank, a Part of BMO Financial Group:
BMO Private Bank offers a comprehensive range of wealth management services that include investment advisory, trust, banking and financial planning to meet the financial needs of high net worth clients. Through integrated teams of experienced financial professionals, BMO Private Bank helps its clients realize their financial and lifestyle goals with solutions that are custom tailored and delivered with the highest level of personalized service.
BMO Private Bank is a brand name used in the United States by BMO Harris Bank N.A. Member FDIC.
Patrick O'Herlihy, Chicago
Rachael McKay, Toronto
Valerie Doucet, Montreal
Laurie Grant, Vancouver