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Capital Gains Tax

AUTHOR: Matthew Gilligan

POSTED: 06 July 2011

Once again the topic of capital gains tax (CGT) has reared its ugly head. Speculation is that Labour will unveil a property investment targeted capital gains tax when it announces its tax policy in the next two weeks. The Greens have thrown their not so considerable economic muscle behind the proposed tax.

In light of this, let's examine some of the arguments that proponents of CGT put forth:

Capital gains should be taxed because there should be no difference in outcome between a taxpayer whom generates a gain of $50,000 through the sale of a capital asset and one whom earns $50,000 through salary. In other words, taxing capital gains is fair and would create a more “pure” tax system with less incentive to direct investment into assets where there will be no tax to pay on gains. This argument falters, however, when it seems inevitable that if there is a capital gains tax it will exclude one's private residence and furthermore it seems as though Labour have their gun sights fairly and squarely set on property investors as opposed to share investors, for example. There are also suggestions that there will be a threshold so that smaller capital gains are exempt. Where is the fairness and purity in the tax system if the tax does not apply across all investment classes and furthermore there are exemptions within property?
Capital gains tax will generate revenue to allow for tax cuts, possibly a tax free threshold. The difficulty here is that a proposed capital gains tax may not generate the revenue expected and certainly not in the short term. Again there is suggestion that property acquired prior to the introduction of the tax will not be subject to tax. Furthermore, a capital gains tax may create a “lock in” effect whereby investors defer selling assets in order to avoid triggering the gain.
Capital gains tax will make property more affordable particularly for first home buyers. It seems a bit defeatist to me to seek to solve the housing affordability problem by depressing house prices rather than raising real incomes.
A capital gains tax will rebalance investment and redirect investment away from property and into more productive forms of investment. In response to this may be tax is not the answer? With finance companies failing and questionable practices from some in the financial advisor industry in the past, it is perhaps little wonder that property is such a popular form of investment. Obviously there have been recent changes in relation to the regulation of financial markets, and it will be interesting to see what impact this has on investment biases of Kiwis moving forward.

Some other points of concern in relation to the introduction of a capital gains tax include the fact that it is inevitably complex. Once you move to exempt private homes or other classes of assets (for example, farms?) you exponentially increase the complexity of the proposed law. You create incentives for people to structure their affairs to work around the capital gains tax. There is also the issue of an immediate impact on property values. This point often raised how desirable would it be for property values to take a material hit when off the back of a global recession many property owners are already heavily geared and would end up with negative equity. What would be the knock on effects for lenders?

In the end, I can't see how a capital gains tax will produce the outcomes that its proponents seek. However, one outcome which I do see as a certainty is defeat for Labour at the ballot box if they proceed.

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Disclaimer: This article is intended to provide only a summary of the issues associated with the topics covered. It does not purport to be comprehensive nor to provide specific advice. No person should act in reliance on any statement contained within this article without first obtaining specific professional advice. If you require any further information or advice on any matter covered within this article, please contact the author.

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