The $3,000,000,000,000 Tax Hike

On a day when Moody's just barely reaffirmed the AAA credit rating of the US, let's take a look at what the future might hold.  The Heritage Foundation recently released its analysis of the estimated US government budget over the next 10 years.  Some highlights of its findings are:

• Government spending will permanently expand by 3% of GDP over 2007 levels 
• Taxes on all Americans will be raised by $3 trillion dollars over the next decade
• 42 cents of each dollar spent in 2010 will be borrowed
• $1.6 trillion deficit in 2010--$143 billion higher than the recession-driven 2009 deficit
• Would leave permanent deficits that top $1 trillion as late as 2020
• Would dump an additional $74,000 per household of debt into the laps of our children and grandchildren
• Would double the publicly held national debt to over $18 trillion

These numbers should grab your attention.  But what does this mean to investors?

1. Keep expenses low to maximize investor return.  The investor's job is not to make investment companies rich as they can pay multi-million dollar bonuses.
2. Tax efficient investing is more important now than ever.
3. This level of Government spending and borrowing will likely suck the life out of the private sector creating a slow growth domestic economy, so international diversification is essential. 
4. The thirty year bull market in bonds is likely over so prepare for interest rates to rise back to their historical averages.  Lock in today's low mortgage rates with a fixed rate loan.  Shorten up the duration of your bonds to preserve capital.
5. In taxable accounts, allocate a percentage of your fixed income investments to muni bonds, but don't overweight problem states like CA, IL, FL, NV, and NY.
6. The dollar will likely continue its long-term decline against other currencies so consider a small position in foreign bonds as a hedge.  For those who believe in the inflation story, a hedge position in commodities might be appropriate.

In other words, if you are practicing an appropriate asset allocation stay the course.  You will be fine. But those in high turnover funds that generate large distributions should be prepared to fork over a larger percentage of their returns to the government.  As Sir John Templeton said: For all long-term investors there is only one goal---maximum total return after taxes.