Tax Day: What April's tax cheques say about the debt ceiling

Millions of Americans filed their federal income tax returns by 18 April, and money market desks on Wall Street spent the day doing sums of their own. Tax Day is the biggest single factor in the countdown to the debt ceiling "X-date." By tracking the daily flow of non-withheld tax cheques into the Treasury General Account (TGA) at the Federal Reserve, bond strategists can estimate how long the government can keep paying its bills. The early returns are in, and they look grim for Washington.

After the asset boom of 2021, the Treasury enjoyed a record tax haul in April 2022, collecting hundreds of billions in capital gains taxes that pushed the TGA toward $1 trillion. In 2023 the bill for the 2022 market rout has arrived.

How the nowcast works

The method is simple bookkeeping done at speed. Every business day the Treasury publishes its Daily Treasury Statement, which lists cash coming into and going out of its account at the Fed by category. Strategists add up the line for non-withheld income taxes, the payments people make with their returns and their quarterly estimates, and compare the running total with the same number of business days last year. The gap, projected to the end of the month, gives an estimate of how much cash the Treasury will have at the start of May.

That figure then goes into a second calculation. The government's borrowing has been frozen at the ceiling since 19 January, so its cash balance plus the remaining room from extraordinary measures is all it has to cover the gap between spending and revenue. Divide that pool by the expected daily shortfall and the answer is the X-date. Small errors in April receipts shift the date by weeks, because April is the one month in which the Treasury usually runs a large surplus.

Capital gains dry up

With shares down 20 per cent and government bonds suffering historic losses, realised capital gains in tech and finance vanished. Early receipts suggest that non-withheld individual income tax is running thirty to forty per cent below last year.

That shortfall means the Treasury's usual mid-April cash top-up will be thin, tens of billions short of government forecasts. The debt ceiling clock is now running much faster.

The comparison with last year is brutal because last year was extraordinary. In April 2022 the Treasury ran a record monthly surplus of $308 billion, fed by taxes on the gains of 2021, when share prices, crypto assets and house prices all rose sharply. Those gains were realised and taxed once. A year of falling asset prices produces losses that investors can carry forward to offset future gains, which depresses receipts for more than one year. Withheld taxes on wages, by contrast, are holding up well because employment and pay are still growing.

A delay, not only a shortfall

One complication makes the April numbers look worse than the underlying picture. After severe winter storms, the Internal Revenue Service postponed the filing and payment deadline for most of California until 16 October. California's residents pay an outsized share of federal capital gains tax, and much of that money will now arrive in the autumn rather than this month. Part of the shortfall is therefore a matter of timing, and the Treasury will eventually collect it.

That is little comfort for the debt ceiling. Money that arrives in October cannot pay bills in June, and the X-date depends only on the cash that is in hand. The deferral does mean that analysts extrapolating April's weakness into a permanent collapse in revenue are probably too gloomy about the deficit for the full year.

The money may run out in June

The tax take was supposed to carry the government comfortably into July or August. On current receipts, the TGA could be empty as early as the first week of June.

That shrinks the time Congress has to negotiate from months to a few frantic weeks. Legislation of this kind needs time to draft, pass both chambers and sign, so the practical deadline for a deal falls well before the Treasury's cash actually runs out.

The calendar holds a trap and an escape hatch. Quarterly estimated taxes from individuals and companies fall due in mid-June and bring in a large sum, and at the end of June the Treasury gains fresh headroom from the scheduled treatment of certain federal pension fund investments. If the government can reach those dates with cash to spare, it can probably last into July or beyond. The danger lies in the first half of June, before the quarterly payments arrive, and that is exactly where the weak April receipts point.

What earlier deadlines suggest

In 2011 and 2013 Congress settled its disputes only days before the Treasury's deadline, and in 2011 the brinkmanship cost America its top credit rating from Standard & Poor's. On both occasions the market's estimate of the deadline mattered as much as the politics, because it set the moment when bills maturing just afterwards became hard to sell. The same pattern is visible now: Treasury bills maturing in early June have traded at much higher yields than those maturing in May.

A shorter runway changes the negotiation. House Republicans want spending cuts in exchange for raising the limit and the White House wants an increase without conditions, and each side had assumed it could wait until the summer. An early June deadline removes that assumption and forces talks to start sooner, or leaves less time to recover if they stall.

What to watch

The daily statements over the rest of April will settle the arithmetic, and Janet Yellen is likely to give Congress an updated estimate of the X-date once the receipts are counted. The Congressional Budget Office will probably revise its own forecast too. A clear sign that the Treasury expects to run short before the mid-June tax payments would bring the deadline into sharp focus for both parties.

The 2022 market slump has starved the Treasury of capital gains tax, pulling the likely X-date forward to early June. Congress now has only weeks to strike a deal, and very little room for brinkmanship.