Opinion - Personal Finance

Op-Ed: This stock trade tax will not hurt the average investor

Taylor Lincoln, research director for Public Citizen
Key Points
  • As talk increases of a financial transaction tax, some industry groups are raising the alarm that average Americans will be hurt by such a levy.
  • These warnings, however, misleadingly rely on selective and often inappropriate data, invoke suspect methodologies or withhold key details.
  • Public Citizen estimates the average middle-income family with a retirement account would experience about $13 a year in costs from a 0.1% tax.
Sam Edwards | Getty Images

Financial industry groups claim that implementing a tax on the sale of stocks, bonds and derivatives would boomerang on everyday Americans by taking huge chunks out of their retirement and college-savings accounts.

In fact, a financial transaction tax would limit the effects of unfair trading, raise revenue and help reduce income inequality. The costs to most Americans from such a tax would likely range from minimal to zero.

At Public Citizen, we estimate that the average middle-income family with a retirement account would experience about $13 a year in costs from a 0.1% financial transaction tax. Applying information from the Investment Company Institute, which is privy to detailed data from mutual funds, we calculated that a middle-income family would pay about $13 a year if invested solely in index funds and up to $35 a year if invested in a blend of index and actively managed funds.

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About half of middle-income families do not hold any assets that would be taxed and, thus would owe zero. Costs for families in the top 10% of income — with a median income of $260,200 — would be higher, but hardly onerous.

Meanwhile, this tax offers the potential to raise significant revenue (estimated by the government at about $777 billion over a decade) that could be used for public projects, such as expanding health care or fixing our crumbling roads. The benefits would far exceed the tax costs for most Americans.

The tax also would likely put the brakes on high-speed trading. We believe that would be a welcome development. High-speed trading is both unfair to ordinary investors and potentially dangerous.

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There is evidence that various financial industry groups have based their alarming estimates on a foundation of dubious assumptions. The costs of a financial transaction tax are highly dependent on the turnover rate of the underlying investments, and the anti-tax groups have tended to plug suspect turnover numbers into their models.

Here's an example of a claim that could use more scrutiny. Mutual fund company Vanguard issued a brief paper in September claiming that the average retirement saver would have to work an extra 2½ years if a 0.1% tax on financial trades were implemented.

Vanguard's paper provided little insight into how it arrived at its conclusion but did include one key detail. The paper said its calculation was based on an investment in a small-capitalization actively managed fund.

It's time to look at the devil in the details.
Taylor Lincoln
research director for Public Citizen

This was a strange choice. Vanguard, of course, is famous for pioneering passively managed index funds. Actively managed funds tend to have much more turnover than index funds. Vanguard's Strategic Small Cap Equity Fund (VSTCX) — which meets the description of the fund its study incorporated — has an annual turnover of 67%. Its Total Market Index Fund (VTSMX) has an annual turnover of just 3%.

A Vanguard spokesman e-mailed Michael Edesess, an author of consumer financial advice books and a financial professional, that the financial transaction tax costs for an investor in its total market index fund would be 1/20th as much as for investors in the small cap fund. Edesess incorporated that answer into a column he wrote on the subject.

Vanguard's total market index fund has 650 times more money invested than the strategic small cap fund yet Vanguard chose to highlight financial transaction tax costs relating to the boutique small-cap fund.

Other industry studies have either cited the Vanguard findings, invoked their own suspect methodologies and/or withheld key details on how they arrived at their conclusions.

It's time to look at the devil in the details.