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Accelerated Capital Loss Deduction Rules
Are a Fairer Way to Help Investors

The investor was lied to. He was lied to by stock analysts like Henry Blodget and Jack Grubman, and the companies they worked for. He was lied to by accounting firms like Arthur Anderson. He was lied to by the CEOs and upper management of corporations like Enron, WorldCom, Tyco and Global Crossing, to name only a few, who used a wide variety of financial tricks to mislead investors about the true financial footing of their companies. He was mislead by investment research firms whose shameful compliance policies allowed analysts to own or short stocks that they covered, while never requiring any disclosure of this information, or of any investment banking or market-making relationship with these covered companies by their firms. And while all of this lying was going on, a deliberately under-funded and understaffed SEC was unable to perform its oversight role, and protect the rights of the investor. And the impact of these lies cast a great pall over the financial markets, sending equity values plummeting over the past two years. And small investors have paid the price -- through losses in in both 401K and private investment accounts, losses that they may never recoup in their lifetimes, and will doubtless force many of them to postpone early retirement plans.

Now, through his proposal to eliminate the tax on stock dividends, President Bush is looking to goose the stock market by rewarding a single class of investors -- the most conservative, those who buy stocks to collect the dividend -- while completely ignoring the plight of the growth investor, whose capital reserves have been greatly diminished due to the scandals of 2001-02 (and hence, doesn't have a lot of cash around to afford to purchase dividend granting stocks). Bush's proposal to eliminate taxation on dividends does nothing to heal the pain of this wider class of investor, who suffered most in the downturns of 2001-02 - downturns that were at least partially induced by these revelations of corporate and analyst deception. And even the speculative frenzy of the internet bubble itself was set in motion by hucksters like Blodget - who, it appears, will not spend a single day in prison -- who said one thing to technology investors, and something completely different to company insiders.

A substantial increase in the targeted deductibility of capital losses accumulated in the years from 2000-2002, say $10,000 per year, would introduce a degree of fairness into this situation -- allowing individuals to write off these tremendous losses over a much shorter period of time. For instance, under current rules, a small investor who lost $40,000 in WorldCom or Tyco over the past two years, and was forced to sell these positions due to losing a job or other economic hardship, is currently married to a $3,000 deduction against ordinary income for the next 13 years. This hardly seems like an equitable situation -- not when 100% of an investor's profits are taxable in any given year. And this accelerated deductibility could be paid for by a scaling back, or outright rejection, of the Bush dividend proposal, or a restoration of a modified inheritance tax (as advocated by Warren Buffet and William Gates, Sr.) -- and would materially impact a much larger percentage of Americans than would any elimination of double taxation on dividends. Moreover, these capital losses are already on the books for future years, and hence do not represent any significant increase in the nation's debt, and would have a dramatic short-term stimulus effect on both financial markets and the American economy. For instance, assuming a $10,000 capital loss deduction per year until all targeted losses were accounted for, a middle-class taxpayer with a marginal tax rate of 28% would see an increase in this benefit from $740 to $2,800 in fiscal 2003. And, to repeat, the beauty of this proposal is that this is a deduction the Federal government will eventually owe a surviving investor (or their spouse) anyway -- under current rules, with a large percentage of the deduction becoming due at a time when the problem of funding Social Security becomes critical, in the years 2008-2020.

The bottom line is that Bush's current proposal does not address the need for fairness and closure in regard to the massive corporate/investment banking scandals of 2000-02. However, an accelerated capital loss deduction, even one only targeted to losses incurred during the period of 2000-02, would go a long way to providing an appropriate measure of justice and closure.

Matthew Carnicelli © 2003. All rights reserved.