Warren Buffett on Tax Reform

Warren Buffett speaking to reporters.

It's no secret that the recently passed corporate tax cut will have a positive impact on the profits of many American corporations. Warren Buffett-led conglomerate Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) is no exception. In fact, Berkshire is likely to benefit more than most.

Buffett, however, isn't necessarily a big fan of the new corporate tax cuts, or on the lower tax brackets that will be imposed on the highest earners. Here's a rundown of how Buffett thinks the tax-reform bill will affect the stock market, why it probably won't help everyday Americans too much, and what tax changes he would or would not have made.

The corporate tax cut will be great for investors

The stock market delivered excellent returns in 2017 and rallied in the weeks leading up to tax reform. And the first week and a half of 2018 have been the best start to a year for stock market performance in over 30 years.

However, Buffett doesn't think the tax cut is priced in just yet. "I think 21% was not baked in. That's a huge reduction," Buffett told CNBC in a recent interview.

Buffett explained the impact of the tax cut on stock valuation like this. "You had this major change in the silent stockholder, the U.S. government, in American business who has been content with 35%, and now instead of getting a 35% interest in the earnings, they get 21%, and that makes the remaining stock more valuable."

In other words, with a 35% corporate tax rate, businesses effectively "owned" 65% of their profits. Now with a 21% corporate tax rate, they get to keep 79%. That's a big difference.

Berkshire should get a nice boost from tax reform. Analysts from Barclays estimate that the company's book value increased by $37 billion instantly because of tax reform, and that the company's operating earning power could rise by 12% on an ongoing basis.

But don't expect the tax cuts to benefit everyday Americans

While Buffett acknowledges that Berkshire's bottom line will be helped by the new tax law, and he predicts the stock market is likely to rise, that doesn't mean he thinks the GOP's tax-reform bill is in the best interest of the American public.

Buffett recently wrote an article for Time magazine in which he explained why trickle-down economics doesn't really work.

The whole idea behind the GOP's tax-reform bill is that the massive tax cut for corporations will "trickle down" to the American public in the form of more jobs and higher wages. And the early indications are that this is somewhat true -- several high-profile companies announced bonuses for their workers or higher minimum wages in the wake of the legislation.

However, Buffett points out that historically, trickle-down economics hasn't had the promised effect. He gives the example of the Forbes 400 list of the richest Americans. Between the first version of the list in 1982 and today, the wealth of the top 400 has multiplied by a factor of 29, from $93 billion to $2.7 trillion. Buffett says that at the same time, "many hardworking citizens remained stuck on an economic treadmill." He added: "During this period, the tsunami of wealth didn't trickle down. It surged upward."

And Buffett doesn't think the massive corporate tax cut was necessary

It's true that the 35% corporate tax rate in the U.S. was at the higher end of the spectrum among industrialized nations around the world. And cutting corporate taxes wasn't just a GOP idea -- in fact, former President Obama expressed his support for a 28% corporate tax rate, which would have been a significant, but not dramatic, cut all by itself.

In a 2017 CNBC interview, Buffett said such a drastic cut wasn't necessary. "We [at Berkshire Hathaway] have a lot of businesses," he said. "I don't think any of them are non-competitive in the world because of the corporate tax rate."

Rich people don't pay enough, Buffett included

It may surprise you to learn that Buffett thinks the rich, for the most part, don't pay enough taxes . And he's got a point. According to a White House report, the 400 richest American households paid less than 23% of their income in taxes in 2013, and about one-fourth of millionaires pay a lower effective tax rate than average middle-income household.

Buffett, who actively campaigned for Hillary Clinton, has said many times that the wealthiest Americans, including himself, are not paying enough taxes, and there was even a tax change proposed by President Obama named after him.

In a nutshell, the Buffett Rule would apply a minimum 30% tax rate on individuals making more than $1 million per year, which would affect roughly 0.3% of all taxpayers.

To sum it up

While Buffett thinks investors will benefit from the corporate tax cut, he doesn't seem convinced that middle-income Americans will benefit as well. Buffett doesn't think a massive tax cut for corporations was necessary, and if he had his way, he probably would have shifted tax rates on the rich in the other direction, or limited deductions for the wealthy.

10 stocks we like better than Berkshire Hathaway (A shares)

When investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor , has tripled the market.*

David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now... and Berkshire Hathaway (A shares) wasn't one of them! That's right -- they think these 10 stocks are even better buys.

Click here to learn about these picks!

*Stock Advisor returns as of January 2, 2018

Matthew Frankel owns shares of Berkshire Hathaway (B shares). The Motley Fool owns shares of and recommends Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

More Related Articles

Info icon

This data feed is not available at this time.

Sign up for the TradeTalks newsletter to receive your weekly dose of trading news, trends and education. Delivered Wednesdays.