Here are some highlights from their conversation:

  • “While increases in federal taxes don’t impact states directly unless their income tax code is tied to the federal code, it can have implications on a state or local government’s ability to adjust their own taxes. It can also have demographic impacts as well.” – Jennifer Johnston
  • “We’re interested to see if the SALT [state and local tax] deduction comes back. This is going to be particularly helpful in high-tax states. In terms of spending priorities, Biden has already mentioned putting more money towards infrastructure as well as health care.“ – Jennifer Johnston
  • “The CARES Act was very helpful to states because it allowed for the reimbursement of some COVID-related spending that they were taking on. But there was never aid made available to replace the lost tax revenues that the shelter-in-place policies were creating.“ – Jennifer Johnston
  • “COVID is going to continue to be impacting state and local governments…. And in general, we’re not expecting there to be massive defaults or huge increases in bankruptcies. We don’t see that. We think there could be pockets of stress.”– Jennifer Johnston

Transcript

Katie Klingensmith: Jennifer, let’s jump right into the impact politics can have on the municipal bond space. While we don’t have final election results yet, it’s clear there was no blue wave. What does that mean for munis and, how do you view a Joe Biden presidency for the sector?

Jennifer Johnston: So we definitely closely watched the presidential election because so many of the policies that a president will ultimately decide can be impactful. One area, as an example, would be tax policy. While increases in federal taxes don’t impact states directly unless their income tax code is tied to the federal code, it can have implications on a state or local government’s ability to adjust their own taxes. It can also have demographic impacts as well. So we’re definitely watching this. Second, the spending priorities. Where are the priority areas for a president, whether it supports general economic growth or it’s targeted at certain sectors or municipal entities, that can certainly be a positive. Of course, the flip side is also true. If a president comes in and wants to curtail certain spending programs, that could be a negative. Unique to this election would be the concept of stimulus. It’s something we’ve been hearing about for six months now. And it’s very important to the states and important as an outcome of this election. And then, as you mentioned, while not really financially focused, we didn’t get the blue wave that a lot of people were projecting. And so we always watch to see how Congress and Senate majorities move. And in this case, it’s going to be impactful on how much the president can actually get implemented with essentially a divided government. So clearly campaigned on increasing tax rates. And I already mentioned that this could impact a state or local government’s ability to raise their own taxes and impact demographics. But another impact is that it can also increase the attractiveness of munis as an asset class for investors. So that can be another outcome.

Jennifer Johnston: We’re interested to see if the SALT [state and local tax] deduction comes back. This is going to be particularly helpful in high-tax states. In terms of spending priorities, Biden has already mentioned putting more money towards infrastructure as well as health care. So regardless of whether public option becomes a reality, we would expect to see more money in those segments. And then regarding stimulus, Biden has been supportive of a package and we would expect the package to be larger, and come right after inauguration, as compared to if Trump had been elected.

Jennifer Johnston A lot there, but, again, no blue wave, although Democrats could take control of the Senate pending the two Senate seats in Georgia. So regardless of how the two Georgia Senate runoffs are decided, we really don’t expect Democrats to have the majority in the Senate that they really need to help Biden carry his policies through at the level he wanted. So we do expect there to be some gridlock and that could hamper some of his policies.

And just as I noted, so many of those topics are ones we’re going to want to explore today. I just level set for everybody who is listening today, what is it that federal taxes matter to you in this full bond investing?

Katie Klingensmith:
Can you talk more about the importance of federal taxes and how they can impact municipal bond investing?

Jennifer Johnston: Sure. So federal taxes do matter, but they also can have other to actually approve tax increases. This isn’t the case in every state. It would depend on state law, but if taxpayers feel like they have less money because they’re sending more of it to the federal government, they might have less of an appetite for approving tax increases at the local level. And as states and locals are grappling with COVID-related budget cuts, that could mean there are less options and using taxes to close those gaps. So, we definitely think there could be an outsized risk in jurisdictions where voters are required to approve tax increases. Second, it could also impact the ability for issuers to get voter approval for bonds. In most areas, general obligation bonds require voter approval. Especially at the local level, this is essentially a tax increase because voters are allowing in many cases property taxes to be levied to pay for the bonds. So voters certainly could be less likely to increase tax and approve voter-approved bonds if federal taxes go up. And third, there’s the potential that tax rates could result in businesses or individuals moving to lower-tax states. Even though federal tax rates would essentially impact everybody similarly, people can move to impact their state and local tax bills. And this has always been a concern, especially in high-tax states like New York, New Jersey, California. But we actually think there’s an interesting twist on this now, and that is the whole working-from-home model that most people are using right now. And what we’re hearing is that it’s successful. So we’re interested to watch what this means after a vaccine is available and we can go back to whatever the new normal is. Are people going to return to the office? Are they going to be able to work from home? And will their companies allow them to work anywhere? Because if what’s kept you in your jurisdiction, was your job. if you can now do that from anywhere, will you take advantage of this opportunity and actually make the move? So we want to be watching that to understand how demographics could change that.

Katie Klingensmith: Certainly there are many big impacts, if people living in high cost of living areas will relocate to more affordable places. Let’s take a step back to the federal level and what the chances are of progress on infrastructure spending and expanding the Affordable Care Act, as a Biden administration would like.