Accounting
Tax deadline is pivotal for funding markets, Fed’s balance sheet
As April’s tax deadline nears, so does the risk of disruptions in U.S. funding markets, according to Wall Street analysts.
That’s because, broadly speaking, the annual rush to pay Uncle Sam tends to suck hundreds of billions of dollars from the banking system. With Americans expected to owe more than usual this year due to higher incomes and a booming stock market, bank reserves could potentially fall below a key level many speculate is critical to funding-market stability.
For some, it’s rekindling memories of 2019, when a sudden increase in corporate tax payments along with a slug of bond issuance and other factors prompted demand for liquidity to suddenly surge, causing overnight lending markets to go haywire and forcing the Federal Reserve to intervene. While nobody’s predicting turmoil on that scale, the potential for ructions shouldn’t be ignored either, market watchers say.
Daniel Acker/Bloomberg
“The most important thing to watch out for is how close we’re actually getting to the lowest comfortable level of reserves,” said Teresa Ho, head of short-term interest-rates strategy at JPMorgan Chase & Co. “This time we’re seeing liquidity being withdrawn from the system. It’s a slightly different dynamic than month- and quarter-end, but still has the potential to be disruptive.”
Bank reserves, cash that institutions park at the Fed to meet unexpected demands, stand at $3.5 trillion, and with Wall Street forecasting potential tax-related outflows nearing at least $400 billion, reserves could slide close to the comfortable level generally seen in the low $3 trillion level.
In short-term funding markets, the first place any tax-related stresses are likely to appear is in a rising Secured Overnight Financing Rate — a key benchmark tied to day-to-day needs of the financial system — as investors scramble for cash and liquidity dries up, according to Ho. Volumes in the federal funds market should also be watched for a pickup in borrowing activity, she said.
SOFR hit peaks at the end of November and December amid a confluence of events including banks paring back lending for regulatory purposes.
So far, cumulative tax receipts for individuals through March are $44 billion higher than the same time last year, according to strategists at Societe Generale, led by Subadra Rajappa, who predict a stronger April this year than in 2023 when it was $381 billion, but not as strong as 2022.
Two years ago, the Treasury collected nearly $600 billion in tax revenues due to an exuberant stock market and a powerful economic recovery, and $446 billion left the banks, according to government and Fed figures. Those payments are deposited in the Treasury General Account, or TGA, which operates like the government’s checking account at the central bank. The Fed keeps tabs on this side of the balance sheet because as TGA rises, reserves fall.
Back in 2022, the effect on funding markets was negligible because the Fed had yet to start unwinding its balance sheet, a process known as quantitative tightening. Even after the tax-related decline in reserves, institutions still had about $3.32 trillion parked at the central bank and roughly $1.8 trillion stashed at the overnight reverse repo facility, or RRP, a barometer of excess liquidity in the financial system.
While reserves are higher now, there’s concern that this month’s tax-related drain will pull the total down to the lowest comfortable level around $3 trillion to $3.1 trillion, according to a New York Fed
Factor in RRP levels tumbling by three-fourths over the past two years, and market watchers are on alert for a potential liquidity squeeze and even the Fed is debating when to slow its balance-sheet unwind to avert another 2019 event sent overnight funding costs skyrocketing.
Chair Jerome Powell said
“The Fed is really scared by the ghost of 2019,” said John Velis, a foreign-exchange and macro strategist at Bank of New York Mellon Corp., who estimated the drawdown in reserves of around $500 billion if payments behave more like 2022. “They’re generally afraid that if 2019 happens again in some form or another, they’re going to wind up reversing QT and expanding the balance sheet.”
In
Fast forward, and fears of such ructions this time around appear unfounded, according to some market watchers.
More robust tax receipts mean the Treasury could issue less short-dated debt. With diminished supply, excess cash in the front-end of the market could wend its way into the Fed’s RRP facility as a liquidity backstop, according to Bank of America Corp. strategists including Mark Cabana and Katie Craig, who anticipate funding markets will likely stay well-behaved.
For BNY Mellon’s Velis, it’s wait and see. Risks remain with individuals dipping even more than usual into their bank accounts to cover the tax bill as they avoid taking cash from other vehicles that yield well above 5%. There’s also the large pool of California taxpayers, who had extensions for natural disasters last year, now facing the April deadline.
“If we see repo rates spike in the middle of the month then you’ll know there’s a problem,” Velis said. “There’s a nontrivial chance and that’s enough to be aware of.”
The House unanimously passed four bipartisan bills Tuesday concerning taxes and the Internal Revenue Service that were all
- H.R. 1152, the Electronic Filing and Payment Fairness Act, sponsored by Rep. Darin LaHood, R-Illinois, Suzan Delbene, D-Washington, Randy Feenstra, R-Iowa, Brad Schneider, D-Illinois, Brian Fitzpatrick, R-Pennsylvania and Jimmy Panetta, D-California. The bill would apply the “mailbox rule” to electronically submitted tax returns and payments to allow the IRS to record payments and documents submitted to the IRS electronically on the day the payments or documents are submitted instead of when they are received or reviewed at a later date. The AICPA believes this would offer clarity and simplification to the payment and document submission process while protecting taxpayers from undue penalties.
- H.R. 998, the Internal Revenue Service Math and Taxpayer Help Act, sponsored by Rep. Randy Feenstra, R-Iowa, and Brad Schneider, D-Illinois, which would require notices describing a mathematical or clerical error to be made in plain language, and require the Treasury to provide additional procedures for requesting an abatement of a math or clerical error adjustment, including by telephone or in person, among other provisions.
- H.R. 517, the Filing Relief for Natural Disasters Act, sponsored by Rep. David Kustoff, R-Tennessee, and Judy Chu, D-California. The process of receiving tax relief from the IRS following a natural disaster typically must follow a federal disaster declaration, which can often come weeks after a state disaster declaration. The bill would provide the IRS with authority to grant tax relief once the governor of a state declares either a disaster or a state of emergency and expand the mandatory federal filing extension under Section 7508(d) of the Tax Code from 60 days to 120 days, providing taxpayers with more time to file tax returns after a disaster.
- H.R. 1491, the Disaster related Extension of Deadlines Act, sponsored by Rep. Gregory Murphy, R-North Carolina, and Jimmy Panetta, D-California, would extend the amount of time disaster victims would have to file for a tax refund or credit (i.e., the lookback period) by the amount of time afforded pursuant to a disaster relief postponement period for taxpayers affected by major disasters. This legislative solution would place taxpayers on equal footing as taxpayers not impacted by major disasters and would afford greater clarity and certainty to taxpayers and tax practitioners regarding this lookback period.
“The AICPA has long supported these proposals and will continue to work to advance comprehensive legislation that enhances IRS operations and improves the taxpayer experience,” said Melanie Lauridsen, vice president of tax policy and advocacy for the AICPA, in a statement Tuesday. “We are pleased to work closely with each of these Representatives on common-sense reforms that will benefit taxpayers, tax practitioners and tax administration and we’re encouraged by their passage in the House. We look forward to continuing to work with Congress to improve the taxpayer experience.”
The bills were also included in a recent Senate
The House also passed two other tax-related bills Tuesday that weren’t endorsed in the recent AICPA letter.
- H.R. 1155, Recovery of Stolen Checks Act, sponsored by Rep. Nicole Malliotakis, R-New York, would require the IRS to create a process for taxpayers to request a replacement via direct deposit for a stolen paper check. If a check is determined to be stolen or lost, and not cashed, a taxpayer will receive a replacement check once the original check is cancelled, but many taxpayers are having their replacement checks stolen as well. Taxpayers who have a check stolen are then unable to request that the replacement check be sent via direct deposit. The bill would require the Treasury to establish processes and procedures under which taxpayers, who are otherwise eligible to receive an amount by paper check in replacement of a lost or stolen paper check, may elect to receive such amount by direct deposit.
- H.R. 997, National Taxpayer Advocate Enhancement Act, sponsored by Rep. Randy Feenstra, R-Iowa, would prevent IRS interference with National Taxpayer Advocate personnel by granting the NTA responsibility for its attorneys. In advocating for taxpayer rights, the National Taxpayer Advocate often requires independent legal advice. But currently, the staff members hired by the National Taxpayer Advocate are accountable to internal IRS counsel, not the Taxpayer Advocate, creating a potential conflict of interest to the detriment of taxpayers. The bill would authorize the National Taxpayer Advocate to hire attorneys who report directly to her, helping establish independence from the IRS.
House Ways and Means Committee Chairman Jason Smith, R-Missouri, applauded the bipartisan House passage of the various bills, which had been unanimously passed by the committee.
“President Trump was elected on the promise of finally making the government work better for working people,” Smith said in a statement Tuesday. “This bipartisan legislation helps fulfill that mandate and makes improvements to tax administration that will make it easier for the American people to file their taxes. Those who are rebuilding after a natural disaster particularly need help filing taxes, which is why this set of bills lightens the load for taxpayers in communities struck by a hurricane, tornado or some other disaster. With Tax Day just a few days away, we must look for common-sense, bipartisan ways to make filing taxes less of a hassle.”
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