Why this investment pro is eyeing the services sector


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Check Engine Soon

That’s the dashboard light no one likes to see. Occasionally it’s a simple malfunction and no big deal, but other times it’s a more ominous sign.

The check engine light came on in the services sector of the US economy last Friday. Namely, the ISM Services PMI clocked in at 49.6 for December, missing expectations, and dropping from 56.5 in November. Perhaps the more important shift was that it fell below 50 (considered the “neutral” reading), which indicates that services are now in contraction territory along with manufacturing.

ISM Services PMI

Strong Winds on Bridge

After a high in February 2022, the goods component of inflation has been trending downward, falling materially in Q4. I would expect this trend to continue. And given the outrageously high readings in the first half of 2022, we may see outright deflation in goods CPI this year. A battle won, but not the war.

Core CPI

Inflation has also come down overall, but the services component has kept it propped up despite the cooling in goods. Services inflation includes things like shelter (a.k.a. housing, which I’ll cover in a minute), medical care, transportation, recreation, and education, among others. Until last week’s contractionary reading, many still pointed to the services sector as the bright spot that may get us across the economic bridge without much trouble.


Alas, trouble is in the air. Some of it won’t be so bad. In fact, I don’t think we’ll hear many complaints over airfare or hotel accommodations falling in price. But there’s another side to every coin: as services inflation comes down it may benefit consumers, but hurt the business providing said services as their revenue falls.


We are now in an environment I’d label as “pick your poison.” Prices may come down quite dramatically for things we spend money on everyday, and by the middle of this year we could find ourselves in a very different inflation situation than we were just 6 months before. But inflation doesn’t come down for no reason, it comes down because the demand/supply equation gets more in balance. If demand is falling, so is consumer spending. If demand and consumer spending are falling, so is corporate revenue. You’ll probably tire of hearing me say this, but I have to do it again: we can’t have it both ways.


One of the major components of the CPI chart above is shelter. I’ll stop short of describing the wonky way it’s measured in CPI because it’s not a direct read of home prices like you’d expect. In any event, home prices and rents remain quite elevated and can take an irritatingly long time to reflect what we already know…that activity has slowed. Mortgage activity has fallen 81% since the peak in early 2021, and it took a real dive last year with rising rates — down 67% since the end of 2021.

Mortgage application activity

Even if it takes some time for slower mortgage activity to bake through the sector completely, this does point to a cooling trend in home prices and rents in 2023. But it also means anyone who bought homes at the top could see the value of said properties fall meaningfully from where they were at the time of purchase. Two steps forward, one step back.

Traction Control

As someone who learned how to drive in Wisconsin and spent 16 cold winters driving (not always successfully) through snowy, icy, and windy conditions, I’m all-too-familiar with traction control on a vehicle.


Unfortunately, I think it’s going to be necessary in the economy for a while. We wait with bated breath for Q4 earnings season to kick off, while the lagged effects of tighter financial conditions and reduced demand make their way into economic data.

Markets will no doubt cheer cooler inflation data, but we can’t declare victory until (and unless) we know we didn’t create a lot of employment, corporate, and economic casualties along the way. Keep your hands on the wheel at 10 & 2.


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Investment tax rules every investor should know


Investing can feel like a steep learning curve. In addition to having a clear grasp of types of investment vehicles available and understanding the role investments play in overall financial strategy, it’s a good idea to understand how taxes may affect your investments. Knowing tax implications of various investment vehicles and investment decisions can help an investor tailor their strategy and end up with fewer headaches at tax time.


Related: What is leverage?


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Tax requirements for investments can be complicated, and it can be helpful for investors to work with a professional to see how taxes might impact a return on their investment. Doing so might also help ensure that investors aren’t overlooking anything as they explore avenues for favorable tax treatments.

That said, it’s always helpful to enter into any discussion with some solid background information on when and how investments are taxed. Typically, investments are taxed at one or more of these three times:

  • When you sell an asset for a profit. This profit is called capital gains—the difference between what you bought an investment for and what you sold it for. Capital gains taxes are typically only triggered when you sell an asset; otherwise, any gain is an “unrealized gain” and is not taxed.
  • When you receive money from your investments. This may be in the form of dividends or interest.
  • When all profits from investments are considered under an umbrella. This view may trigger a tax called the Net Investment Income Tax (NIIT).
  • In the following sections, we delve deeper into each of these situations that can lead to taxes on investments.




Capital gains are the profits an investor makes from the purchase price to the sale price of an asset. Capital gains taxes are triggered when an asset is sold (or in the case of qualified dividends, which is explained further in the next section). Any growth or loss before a sale is called an unrealized gain or loss, and is not taxed.


The opposite of a capital gain is a capital loss. This occurs when an investor sells an asset at a lower price than purchased. Why would an investor trigger a capital loss? That depends on the investor. Sometimes, an investor needs to sell an asset at a suboptimal time because they need the cash.


At other times, an investor may sell “losing” assets at the same time they sell assets that have gained as a way to minimize their overall tax bill, by using a strategy called tax-loss harvesting. This strategy allows investors to “balance” any gains by deliberately selling profits at a loss, which, according to IRS rules, can be carried over through subsequent tax years.


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There are two types of capital gains, depending on how long you have held an asset:

  • Short-term capital gains. This is a tax on assets held less than a year, taxed at the investor’s ordinary income tax rate.
  • Long-term capital gains. This is a tax on assets held longer than a year, taxed at the capital-gains tax rate. This rate is lower than ordinary income tax. For 2021, as per the IRS , the long-term capital gains tax was $0 for individuals with taxable income less than $80,0000 and no more than 15% for most individuals (for those making more than $496,600, the rate jumps to 20%).


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Dividends are distributions that a corporation, S-corp, trust or other entity taxable as a corporation may pay to investors. Not all companies pay dividends, but those that do typically pay investors in cash, out of the corporation’s profits or earnings. In some cases, dividends are paid in stock or other assets.

Dividends that are part of tax-advantaged investment vehicles are not taxed.


Generally, taxpayers will receive a form 1099-DIV from a corporation that paid dividends if they receive more than $10 in dividends over a tax year. All other dividends are either ordinary or qualified:

  • Ordinary dividends are taxed at the investor’s income tax rate.
  • Qualified dividends are taxed at the lower capital-gains rate.

In order for a dividend to be considered “qualified” and be taxed at the capital gains rate, an investor must have held the stock for more than 60 days in the 121-day period that begins 60 days before the ex-dividend date. (Additionally, said dividends must be paid by a U.S. corporation or qualified foreign corporation, and must be an ordinary dividend, as opposed to capital gains distributions or dividends from tax-exempt organizations.)


Both ordinary dividends and interest income on investments are taxed at the investors regular income rate. Interest may come from brokerage accounts, or assets such as mutual funds and bonds. There are exceptions to interest taxes based on type of asset. For example, municipal bonds may be exempt from taxes on interest if they come from the state in which you reside.


Victoria Gnatiuk / istockphoto


Net investment income tax (NIIT) is a flat 3.8% surtax levied on investment income for taxpayers above a certain income threshold. The NIIT is also called the “Medicare tax” and, as per the IRS , applies to all investment income including, but not limited to: interest, dividends, capital gains, rental and royalty income, non-qualified annuities, and income from businesses involved in trading of financial instruments or commodities.


In 2021, NIIT applies to individuals with an adjusted gross income (AGI) over $200,000 for single filers and $250,000 for married couples filing jointly. For taxpayers over the threshold, NIIT is applied to the lesser of the amount the taxpayer’s AGI exceeds the threshold or their total net investment income.


For example, consider a couple filing jointly who makes $200,000 in wages and has a NIIT of $60,000 across all investments in a single tax year. This brings their AGI to $260,000—$10,000 over the AGI threshold. This would mean the taxpayer would owe tax on $10,000. To calculate the exact amount of tax, the couple would take 3.8% of $10,000, or $380.


g-stockstudio / istockphoto


Certain types of investments may be exempt from tax implications if the money is used for certain purposes. These investment vehicles are called “tax-sheltered” vehicles and apply to certain types of investments that are earmarked for certain uses, such as retirement or education.

There are two types of tax-sheltered accounts:

  • Tax-deferred accounts. These are accounts in which money is contributed pre-tax and grows tax-free, but taxes are taken out when money is withdrawn. For example, a 401(k) retirement account grows tax-free until you withdraw money, at which point it is taxed.
  • Tax-exempt accounts. These are accounts—such as a Roth 401(k) or Roth IRA, or a 529 plan—in which money can be taken out tax-free if the funds are taken out according to qualifications. For example, money in a Roth account is not taxed upon withdrawal in retirement.

Beyond investing in tax-sheltered accounts, investors may also choose to research or speak with a professional about tax-efficient investing strategies. These are ways to calibrate a portfolio that may help minimize tax hits, grow wealth, and ensure that key portfolio goals—such as ample savings for retirement or ensuring adequate liquidity —are met.




Dividends, interest, and gains can add up, which is why it’s important for a taxpayer to be mindful of investment taxes not only at tax time, but throughout the year. Understanding the implications of sales and keeping capital gains taxes in mind when planning sales can help investors make tax-smart decisions.


Because there are so many different rules regarding taxes, some investors find it helpful to work with a tax pro to ensure they’re not overlooking anything in their portfolio. Tax law also varies by state, and a tax pro should be able to tailor strategy to a taxpayer’s home state to minimize liability.


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