Taxing Crypto? And Just Where Is That Consumer Recession?

January 6, 2025 | Premium Service | As the New Year began, worries were being expressed about the uptick in consumer delinquency seen as 2024 ended. Is the US economy finally slipping into recession after several false alarms last year? Maybe. Will consumer loan default rates be higher in Q4 2024? Probably, but this is not yet a crisis or even a traditional credit downturn comparable to 2008.

While loss rates in percentage terms are rising, the volume of loss affecting US banks remains very low, as we discuss below in our latest update on the largest US consumer lenders. Our suspicion is that the excess liquidity pumped into the US economy by the Federal Open Market Committee in 2020-2022 is finally dissipating, part of a recession of the monetary tide that caused crypto currencies to peak near $100k as measured by bitcoin. 

Like all games of chance, trading in crypto currencies is a zero sum game that does not result in an increase in aggregate wealth. The buyer of bitcoin provides liquidity to the seller, but there is no increase in money in the system.  The value of crypto can go up or down, but there is no carry and no net economic benefit. But the Internal Revenue Service and other tax agencies around the world are certainly focused on the exchange of value represented by trading in crypto tokens.

“The recent surge in Bitcoin prices has been a financial boon to its investors. Many have been cashing out with gains exceeding their wildest expectations,” notes Chris Amundson, President of Accounting Solutions in Chicago. Amundson publishes a must read comment on taxes and accounting each week that goes from individual to corporate perspectives.

“Bitcoins were trading in the $97K range yesterday,” Amundson wrote last week. “If you had invested in this asset four short years ago, your capital gain would be around $80K per unit. In response to this windfall, the IRS has significantly increased its oversight on these transactions.”

Amundson notes that new IRS initiatives include: 1) A question on both business and personal income taxes of whether or not the entity has sold any crypto assets inside the tax period, 2) -Broker / Dealers will be required to report all sales of digital assets to the IRS on newly created form 1099 - DA (Digital Assets) next year for the 2025 tax season, and 3) IRS and Justice Department Enforcement of the tax and criminal codes has increased substantially.”

He concludes: “Taxpayers should note that if you use a crypto currency to purchase anything directly from an investment account, that this constitutes the sale of the asset. As such, Short or Long Term Capital Gains Taxes are due and payable that year.” And yes, if you work in the world of banking, FINRA or the SEC and touch crypto assets, you are flagged by compliance for enhanced monitoring. Thank you.

The increased tax revenue collected by the IRS as a result of trading in crypto in 2024 does not represent true growth in economic terms, merely the allocation of losses to the seller (aka the greater fool). Warren Buffett noted that Bitcoin's price is rising only because Bitcoin holders are trading with each other – the private equity fund approach to investment. With each round, you hope that a greater fool will buy your asset for a higher price than you paid for it. 

Of note, Gordon law writes that the IRS has issued guidance on how to claim losses from worthless and abandoned cryptocurrency investments on your tax returns. According to IRS Memo: 202302011, if an individual’s cryptocurrency has decreased significantly in value, they may be able to deduct the loss under IRC Section 165. But only maybe, we’re told by informed auditors.

The speculative gains on crypto are a blissful concern compared with the dire situation facing many low income consumers as Donald Trump returns to the presidency. There is even speculation that President Trump will attempt to start his second term with a $2,000 "stimulus" payment to struggling consumers, a modern version of the "bread and circuses" of ancient Rome.

The Consumer Lenders

In the final days of December, the Financial Times and other media published several reports about the fact that the Q3 2024 delinquency rate on credit cards was back up to 2010 levels, this after years of loss experience muted by the action of the FOMC. "Consumers are ‘tapped out’ after years of high inflation and as pandemic-era savings have evaporated," the FT reports.

The chart below showing data from the FDIC going back 40 years is the series in question. Yes, net loss rates in percentage terms post default are back up to 2010 levels, but the dollar volume of net charge-offs remains very low. Also, we should all note the total outstanding receivables for bank credit cards have almost trebled since 2008. What is the problem?

Source: FDIC

While the net charge-off rate in percentage terms has crawled up to 2010 levels, in dollar terms the volume of loss is smaller vs the $1.1 trillion total asset credit card book.  Net-charge offs is another way to say loss per dollar of default. Net charge-offs in Q3 2024 were just $1.5 billion. Is delinquency on credit cards rising? Yes. Is it yet a significant negative for bank credit or earnings? Not yet. Could card delinquency rates move higher? Yes, but we’ve been waiting for that upward inflection in consumer credit for a year and more. 

Source: FDIC

When we look at some of the larger bank players in consumer credit, the picture that comes across is hardly alarming. Net loss rates across the industry have normalized since COVID, but the dollar volume of losses remains very low relative to the total portfolio. The chart below shows the net loss rates for the members of out consumer lenders group, including Ally Financial (ALLY), American Express (AXP), Axos Financial (AX), Barclays US LLC, Capital One Financial (COF), SoFi Technologies (SOFI) and Synchrony Financial (SYF). Together they represent over $1 trillion in industry assets.

Source: FFIEC

Notice that Axos and SOFI are both below the loss rate for ALLY and Peer Group 1, a remarkable performance. The negative Hindenberg Research thesis on AX is still not validated. Even as the group has seen net loss rates on loans flatten out in the past several quarters, pricing on loan portfolios has also moderated after several years of increases. We are probably past peak levels for loans yields in the industry for this interest rate cycle, but the moderation in language coming out the last FOMC meeting probably indicates a slower downward trend in loan yields, as shown below. 

Source: FFIEC

SYF is the leader in the group in terms of the average gross loan spread near 18%, but the bank also has a net loss rate above 6% or around a “B” bond equivalent. Most banks have loan yields of 6%. After SYF we have the US unit of Barclays followed by CapitalOne. ALLY has the lowest spread of the group but thankfully is still above the average spread for Peer Group 1. Loan spreads have improved dramatically since 2022, but the yield on securities not so much, as shown in the chart below. 

Source: FFIEC

As you might expect, almost all of the lenders in the group are above the average securities yield for Peer Group 1, even though many larger lenders have securities yields well-below average. COF is slightly below the average along with ALLY, an enormous embarrassment but still better than Bank of America (BAC).

Axos is the best in the group in terms of yield on securities, followed by SOFI and American Express. What this means for the leaders is that the bank is focused on managing its portfolio and that the investment book is not a drag on earnings. Like operating efficiency, watching a bank's returns on its securities book is a good measure of whether management is paying attention. 

After credit, perhaps the most important measure for any consumer lender is the cost of funds, which along with SG&A determines the bank’s net spread over its earning assets. Since Q4 of 2022, all banks have seen funding costs normalize after the extraordinary period of 2020-2021. For the past year or more, funding costs have been quite stable and spreads on corporate debt have rallied significantly, giving many issuers access to cheaper funding. 

Source: FFIEC

Barclays remains the outlier of the group in terms of funding costs, but all of the members of the consumer group remain well-above the average cost of funds of Peer Group 1 of around 2.5%. COF has the lowest funding costs in the group vs average assets, followed by SOFI and AX.

Stable net loss rates and funding resulted in relatively stable net income, but the results for specific banks are remarkable. AXP is best in class in terms of asset returns, followed by SFY, which displays a large degree of variability in its results due to the high loss rate and variable funding costs.

AX is dead center of the group and quite stable going back years, while the rest of the members of the group are at or below the industry average for asset returns. ALLY, as usual, is at the bottom of the distribution with SOFI next in terms of ROA.  Notice that SOFI peaked above 1% ROA in Q1 2024 but has sunk since then.

Source: FFIEC

When you see the poor asset returns generated by the US business of Barclays Bank (BCS), it certainly begs the question as to the LT objective of BCS in the US consumer segment. American Airlines (AMR) has announced that Citigroup (C) will be the exclusive card partner for American's advantage program going forward, thus we have speculated that Barclays may make a move for the Apple (AAPL) card program currently operated at a loss by Goldman Sachs (GS). Last October, the CFPB fined GS and AAPL almost $100 million for lapses in servicing. Nothing yet.

AXP has high single digit growth estimates from the Street for Q4 2025 and 2025. The operative term her is consistent, with little variability in the operating metrics or analyst estimates. In all of the factors presented in this report, AXP moves less quarter to quarter than the other banks. At 3.4x book value, AXP is a full multiple above where it was a year ago and has been making new all-time highs all of 2024. But you can also argue that AXP is the most overvalued of the largest banks.

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