For those of you who don’t understand the difference between general economics and financial economics, financial economics is your general economics with a focus on investments. That being said, I’m fairly interested in investments.
The frustrating part about investments is that if you do well, you might be sucked into a generalized comment about how evil you are. There’s a lot of people who don’t understand the truth about it: High risk does mean a high reward. But you don’t really make a whole lot of money. The first part, and one of the most unfortunate things, about investing money is that you need money to make money. Much of the time, $100 won’t get you very far. Another thing is that you lose money from commissions. With TD Ameritrade, you pay $10 per trade. $100 only allows you to invest $90. Thus, the previous statement couldn’t be any more true. This is because if you invest $100 and lose $10 due to commission, you need to make more than $90 to really have any kind of return.
Another part of the awful truth of investing money is that you have an interesting tax rate. By “interesting,” I mean that if you ask me what your tax rate is, the response will be, “It depends.” According to Charles Schwab, the tax you pay depends on what your normal tax bracket would be. If you would normally fall under the 10% or 15% tax bracket, your taxes would be 0%. If you fall under the 25%, 28%, 33%, or 35% tax brackets, you pay 15% in taxes. If your normal tax bracket is 39.6% or higher, you pay 20%.
If you understand how financial investments work, feel free to skip the next few paragraphs. For those who don’t understand very much about financial investments, there’s a few paragraphs you need to read to be caught up to speed.
There’s a few things that you need to figure out before you actually invest. You need to know what you want to make and whether or not you’ve got the patience to do it. You need a good idea of how much you’re wanting to make, or should I say, how much you’re willing to make. Don’t forget that when the price increases by one cent (1¢) you make only a penny per share. This means that you would need 100 shares in order to make a dollar. The average beginning investor doesn’t usually have hundreds of thousands of dollars.
The stock you choose to invest in is very important too. Let’s say that you’re wanting to invest $1,000. Apple, Inc. (AAPL) wouldn’t be a great investment for someone who could only commit $1,000 because you’d only put in about 9 – 10 shares seeing where they’re at right now ($99.16 per share). Before continuing, please note that “today” means August 18th, 2014. However, the average investor who bought 100 shares of Apple today will be happy to know that the stock rose by $1.18 today; giving a whopping profit of $118 after investing over $90,000. You would be much better off investing in something like Zynga, Inc. (ZNGA), which closed at $3.08 today with a 17 cent increase. Here’s the process of what it would look like if you were to buy into Zynga and sell after a period of time:
The date is August 12th, 2014. You start with $1,000 and decide to invest. You give account to the $10 commission, understanding that you can really only commit $990. With that $990, you discover that you can buy 353 shares of Zynga (ZNGA), which is at $2.80 per share. Fast forward to today. You decide that this past week has been a good run for you and you decide to sell all of your shares near the closing bell at $3.04 per share. You look at your balance and see the $10 commission for the sale of your stock. The amount that you made, after the commission was taken out, is $1,063.12. Congratulations! You just made $63.12 in one week!
Obviously, you would have been better off if the stock were to skyrocket like it did a year ago, hitting around $5.50 per share. You would have made a profit of $931.50. This would take a few months, of course. But you get the point.
Now that we understand what’s going on here, we can discuss the truth behind investing.
When it comes to taxes, you have to understand that you don’t have just capital gains tax to worry about. What I mean by this is that there is a net investment income tax (and yes, it’s federal). As I’ve said before, I don’t know exactly how this works, so I won’t touch on it. In this article, we will use capital gains tax. In our example, you wouldn’t owe anything. You would need to make more than $36,900 (if you’re single) in order to be required to pay taxes. When you do, you owe 15% in federal taxes. In other words, when you start paying taxes, you pay at least $5,535 to the federal government.
In Oregon, the combined federal and state capital gains tax is 31%. In this case, you would lose $11,439 in taxes. This leaves you with $25,461. Not really a whole lot of money when you start to think about it. But remember, that’s just what you would keep from your profit. If you’re married filing jointly, you need to make more than $73,800 before you pay taxes.
The political side of investments tend to be annoying for those who are investors. The left likes to rant and rave about how investors should pay more since, in all fairness, they pay about 10% less in taxes than those who “work.” The right likes to scream when they talk about raising that amount since, in all fairness, it’s extremely hard and stressful work to even make $5,000 from investing in the stock market. Most of my friends who know that I’m pretty conservative sometimes ask me which side I’m on. Not surprisingly, I don’t think we should raise the capital gains tax. I understand that by raising it we won’t lose investors. But there’s another debate for that later.
There are always those who rant and rave about “Wall Street” making billions are clueless about how it really is. Depending on where you live, you could pay anywhere from 25% to 33% in taxes. They tend to think that it’s “easy” for successful investors to make millions in one year. This assumes that at least $2 million are made by many investors.
Since individuals are the focus of our article, we will ignore banks and corporations. In order to make $2 million on Zynga (ZNGA), you would need to have had nearly 650,000 shares of their stock at $3.08 today. In fact, the exact number is 649,350 shares. Even if Zynga was bought cheap, let’s say at it’s lowest point in it’s history at $2.12 per share, you would need $1,376,632 (before commission). The date of that low price was November 9th, 2012. Obviously, it would have been best to sell it around $5.50 per share this year. Doing so would actually result in a profit of around $2 million. You would have had $3,517,415 (after commission). This means you would have had $2,194,793 in profit.
Let’s look at the tax rate of this about to be saddened day trader. They waited a year and a half to make $2 million in profit. Because this person lives in Oregon, their tax rate is 31%. I don’t know why people like to say that I’m wrong to feel sympathy for these guys. The question you should ask yourself is: How would you feel if you finally made $2,194,793 in profit, only to find out that you only get to keep $1,514,397.17 of it? You ended up paying $680,385.83. Most people in this situation, I would imagine, would look more at what they’re paying instead of what they keep. This includes anybody reading this article.
I’m very curious to see what you all think. Do you think we should raise the capital gains tax, lower it, or keep it where it’s at? Feel free to comment with your opinions or even share this with someone who agrees with your stance on this issue.