Couple tax questions

[Jon Miller]

What I was saying in 60 is that at a certain point where liquidity is at a maximum and risk is at a minimum... it is no longer thought of as an investment but is rather money not put somewhere else.

This can either be under the mattress or in a bank account. The reason why bank accounts have such low rates of return are for this reason, I and many others like me keep money in bank accounts because we need it liquid and want to keep it safe.

If I Was interested in investing, rather then just having some money I didn't want to spend, I would put it in a CD/money market/etc.

Banks are taking advantage of this and using it to invest.

In this language, I would say that there are three things I can do with my money:

1. Spend - New computer/etc
2. Invest - CD/Index/etc
3. Save - Mattress, Bank Account

The third option doesn't give and isn't meant to give the same benefit, it is unallocated. And a portion (thanks for clearing up my misunderstanding on leverage) gets allocated when you put it in the bank (which the bank benefits from).

JM

[KrazyHorse]

Seriously, Jon:

http://en.wikipedia.org/wiki/Fractional-reserve_banking

Fractional-reserve banking is the banking practice in which banks keep only a fraction of their deposits in reserve (as cash and other highly liquid assets) and lend out the remainder, while maintaining the simultaneous obligation to redeem all these deposits immediately upon demand.[1][2] Fractional reserve banking necessarily occurs when banks lend out any fraction of the funds received from demand deposits. This practice is universal in modern banking.

[Jon Miller]

????

Do what? That's what they do. Borrow money from people. Lend it to others. They keep some reserves to satisfy regulatory and liquidity constraints, which keeps them from an infinite leverage ratio.

Seriously, I've explained this to you three times. And I have work to do. Read up on it in an intro finance or micro book.

I understand that. I am asking why they don't do differently, not saying that they do do differently.

I can take a loan out based on my assets (of a house, for example). This leaves me with both the house and the cash on hand from the loan, with just the liability of having to pay the loan back in the future.

Dude, what asset is the bank going to borrow against? The asset they get when they accept liabilities (deposits) is cash. And this cash is offset by the liabilities.

I understand the issues that can arise from it, but it seems to be an issue with taking out a loan with something else as collateral that you keep on hand in general.

Dude, the cash can't be used as collateral because IT ALREADY HAS A CLAIM AGAINST IT (deposits). You can't take out as many mortgages as you want against your house (up to multiples of its original value)!

I know that the deposits have a claim against it. I am referring to the loans.

JM

[Jon Miller]

Seriously, Jon:

http://en.wikipedia.org/wiki/Fractional-reserve_banking

Fractional-reserve banking is the banking practice in which banks keep only a fraction of their deposits in reserve (as cash and other highly liquid assets) and lend out the remainder, while maintaining the simultaneous obligation to redeem all these deposits immediately upon demand.[1][2] Fractional reserve banking necessarily occurs when banks lend out any fraction of the funds received from demand deposits. This practice is universal in modern banking.

I understand that. I had a misunderstanding due to not understanding what people meant when referring to leverage ratios.

I am asking why they can't use the loan (promise of future repayment) as an asset, like I could do with a house.

JM

[KrazyHorse]

it is no longer thought of as an investment but is rather money not put somewhere else

By the people who put it there, perhaps. But it's immediately turned into an investment by the bank.

Taxes on interest will not affect people who are going to save the money in a non-interest-bearing account....obviously. But nobody who actually saves a significant amount keeps that money in a ****ing chequing account. But they might well put it in other interest-bearing accounts (CDs, money market, bonds). And taxes on interest affect THESE people. In fact, the way these accounts are taxed is a HUGE disincentive to saving in them. Even long-term equity investments have this problem, but the disincentive is far lower.

[Solomwi]

Trying to look up the law. I don't understand your notation here. Can you link to it?

What are the qualifications? How often does the "general rule" apply, and what's the rate associated with it?

Here it is on Cornell Law's site. It's section 1 of title 26 of the U.S. Code.

The qualifications are pretty broad, encompassing all domestic corporations and some foreign corporations. I don't know how often the general rule applies, but would guess it's now in the minority of cases, based on paragraph 11 (but note that the size of the exception can't turn it into the general rule). The rate at which non-qualified dividends are taxed depends on the taxpayer. It's going to be the taxpayer's marginal ordinary income rate, just like wages, salary, etc.

[KrazyHorse]

I know that the deposits have a claim against it. I am referring to the loans.

????????????

The loans have claims against them too! The goddamn DEPOSITS are claims against them. And DEPOSITS get paid first in the event of bankruptcy.

Sure, a bank can issue bonds. But bonds are just another type of deposit (not demand deposit, so they're less liquid) and so are CDs.

[KrazyHorse]

I am asking why they can't use the loan (promise of future repayment) as an asset, like I could do with a house.

Because they DON'T OWN THAT LOAN FREE AND CLEAR!!!!!!!

[Jon Miller]

it is no longer thought of as an investment but is rather money not put somewhere else

By the people who put it there, perhaps. But it's immediately turned into an investment by the bank.

Taxes on interest will not affect people who are going to save the money in a non-interest-bearing account....obviously. But nobody who actually saves a significant amount keeps that money in a ****ing chequing account. But they might well put it in other interest-bearing accounts (CDs, money market, bonds). And taxes on interest affect THESE people. In fact, the way these accounts are taxed is a HUGE disincentive to saving in them. Even long-term equity investments have this problem, but the disincentive is far lower.

Right, I was saying the bank is getting the benefit from it.

And definitely taxing investment does discourage investment. However, if you tax spending (by things like sales tax) and don't tax investment, then isn't that inballancing things in favor of investment?

JM

[KrazyHorse]

I've already explained to you:

Liabilities: demand deposits plus issued bonds plus CDs plus etc. etc.
Assets: core capital (equity plus reserves) plus purchased assets

Those assets are PURCHASED WITH BORROWED MONEY

[Jon Miller]

I am asking why they can't use the loan (promise of future repayment) as an asset, like I could do with a house.

Because they DON'T OWN THAT LOAN FREE AND CLEAR!!!!!!!

So I guess that instead of taking out a loan on the asset, they just increase their leverage until the allowed point (just like you can take out multiple mortages until people stop giving you them/it stops being profitable).

JM

[KrazyHorse]

Right, I was saying the bank is getting the benefit from it.

And definitely taxing investment does discourse investment. However, if you tax spending (by things like sales tax) and don't tax investment, then isn't that inballancing things in favor of investment?

JM

Jon, money is only of value because it can BUY THINGS EVENTUALLY.

Say you had 1000$ in a world where the only tax was a 30% (tax inclusive basis) sales tax. To somebody who wants to purchase something today the after tax value of this 1000$ is 700$. To somebody who wants to purchase something in 30 years the after tax present value is STILL 700$ (assuming that the sales tax will still be around in 30 years). Even if the money is passed on to heirs the only good it will do them is if the BUY something with it. money by itself is valueless (well, I suppose some people look on it as a dick-measuring competition, but whatever).

[Solomwi]

I'm thinking of the financial services terms "actively managed" and "passively managed"

I know, but you started in a tax context, where active and passive investments have a different meaning. LT and ST aren't exactly right, either, but come closer to what you're thinking of. No big thing, though, as I think it's fairly clear to what you're referring.

JM:

I don't think it can be said that either active or passive investing is better as a blanket statement. Those with the knowledge and ability to run the business aren't always the same as those with the capital to fund it, and those aspects need to be brought together for a successful business. It's typically better that those who know how to run a business do so, and the capital of those who don't be available.

[KrazyHorse]

So I guess that instead of taking out a loan on the asset, they just increase their leverage until the allowed point (just like you can take out multiple mortages until people stop giving you them/it stops being profitable).

JM

Yes. A bank cannot keep accepting loans and making investments. Regulators (and hopefully depositors) will see trouble coming. That's why leverage ratios usually stay below infinity. But if a bank's investments go bad this leverage can go to inifinity and then they become insolvent (rather than just illiquid)

[Jon Miller]

Jon, money is only of value because it can BUY THINGS EVENTUALLY.

Say you had 1000$ in a world where the only tax was a 30% (tax inclusive basis) sales tax. To somebody who wants to purchase something today the after tax value of this 1000$ is 700$. To somebody who wants to purchase something in 30 years the after tax present value is STILL 700$ (assuming that the sales tax will still be around in 30 years). Even if the money is passed on to heirs the only good it will do them is if the BUY something with it. money by itself is valueless (well, I suppose some people look on it as a dick-measuring competition, but whatever).

What would happen with high sales taxes and high rates of return on investments? I am thinking of DanS describing this as happening in Japan and causing them to invest outside of the country and businesses struggling within the country.

JM