Re:The ETF Tax Dodge
by cheerlessbog on Sunday March 31, 2019 @01:07PM
(#19536714)
It's only double taxation if you arbitrarily consider the transfer of the dividend from the company to yourself to be a non taxable event. Until that point the money isn't "yours" in the full normal sense. If I buy 1% of Exxon I don't have the legal right to extract 1% of its income.
Another argument for "double" taxation : corporations are artificial entities created by law with significant privileges, such as shielding owners from direct liability in most cases. That's a privilege society extends and it is arguable reasonable that it is subject to a different tax regime than capital which is owned directly by the individual.
So imagine an S&P 500 ETF went from a $10B valuation to $15B in 5 years. Lots of transactions took place as the index gets rebalanced. Companies leave the index. Others take their place. No tax is paid by the fund. You're tempted to be outraged. Let's say that the offset tax amounts to $1B for simplicity.
But consider: someone invested $10k in that fund and held for 5 years. They sell and owe taxes on $5k.
If the ETF had been paying taxes that $15B would be $14B and the seller would owe taxes on $4k instead of $5k.
In Australia, when you hold a company and it, say, pays dividends. It typically pays corporate taxes on that. As a stockholder you not only receive that dividend but you receive a credit for taxes paid (called "franking credits"). If the dividend is fully franked (meaning the full corporate tax rate was paid) then you might receive a $700 dividend and $300 (30% of the gross $1000 dividend) in franking credits. When you do your taxes, if your tax rate is higher than 30% you pay the difference. If it's less you'll get a refund.
This is to avoid double taxation, basically. In the US, you don't have this. Earn income through a company, it pays taxes, it pays a dividend and you pay taxes again. This was the whole reason for the (misguided) passthrough entity tax break with the Trump tax cuts. It would be a lot easier if US dividends were just taxed at source and they came with a tax credit that could be applied to, say, US tax liabilities.
So, you can view heartbeat trades as simply a way of avoiding double taxation. It's at least debatable. After all, if you invest in a company you only pay taxes when you sell on the gain (dividends notwithstanding) so this is really just treating ETFs the same way.