In fact, it is fair to say that even politicians should stay out of tax policy.
The underlying philosophy behind taxation – which every Taxation 101 student learns at their first lecture – is that taxation must be applied fairly. ‘Fairly’ means, among other things, free from bias, political or otherwise. So, when a Labour government sets up a Taxation Working Group headed by a former Labour finance minister, it is inevitable that the recommendations are going to be laced with Labour policy. It is virtually unavoidable.
The same thing would have happened if it had been Bill English heading the working group. The outcome would have been different, but the biases would have remained.
When discussing the possibility of a Capital Gains Tax (CGT), the reaction of most people is that it is fair to tax investment property owners who make profits on the sale of their properties. There is already a tax in place for that particular scenario. It is called the Bright Line Test. It applies to the sale of investment properties (including second homes) that are bought and sold within a certain time period. Until this year, that time period was 10 years. The coalition government has now reduced it to 2 years.
It becomes clear that, while most supporters of CGT focus almost entirely on investment property, they ignore – or are unaware of – the fact that many other asset classes will get caught in the CGT net. Those who have bemoaned the lack of investment in business fail to understand that a CGT will apply to the sale of shares and businesses, not to mention cryptocurrencies, investment funds, collectibles, intangibles, foreign assets and other asset classes. It will be levied on assets owned by all sorts of people… not merely investment property owners.
That classic car being renovated to sell will attract CGT. The small business being sold before retirement will be subject to CGT. Those shares inherited from a late uncle will be subject to CGT. That painting bought for a song at an auction and is worth more than expected will be subject to CGT. (Michael Cullen recommended exempting art collectors, and he was a collector himself.) The CGT net is much wider than most people realise.
CGT is also more complicated than people realise. Let’s use the example of an individual selling a parcel of Infratil shares for $20,000 with a capital gain (sale price less purchase price ) of $10,000. The sale proceeds are then used to purchase $20,000 of shares in Genesis Energy Ltd. The capital gain is $10,000 but the proceeds are used to purchase further shares in the same asset class. At what point is the tax liability triggered? Presumably, it is triggered on the sale of the shares, but then there is less money available to invest in replacement shares. Is that fair? Or should the gain be taxed when the investor removes funds out of that asset class? Otherwise, the tax discourages investment in productive assets. CGT will not solve the lack of business investment that so many advisers expect.
Nor will it solve our social ills, as our left leaning politicians claim. Let us go back to that maxim that all taxation must be applied ‘fairly’. To do that, it cannot be applied retrospectively. On the date CGT is introduced, every asset owned will have to be ‘valued’. Then, on the subsequent sale date, the CGT will be levied only on the difference between the valuation on the CGT commencement date and the sale price.
So the gain on that rental property you bought in the 1980s for $70,000 and will sell for $700,000 after the introduction of CGT is safe. If the property is valued at $690,000 on the introduction of CGT and then sold for $700,000, CGT is levied only on $10,000.
How do we deal with capital losses? What if the same property, valued at $690,000 at the CGT introduction date, sells only for $650,000? There is still no way to tax the capital gain made before the introduction of CGT. Most likely, capital losses will be carried forward against future capital gains. How do the supporters of CGT feel about that?
Relying on valuations to establish an asset value is often difficult, as the value of an asset is never known until it is sold, but it is the only way to establish a starting point. When CGT was introduced in Australia, it took about 15 years before any meaningful amount of revenue was raised. The same will happen here, which will be a disappointment to our left wing politicians, who claim that enormous revenues will be raised from CGT in its first year. For some time, the tax will cost more to administer than it will raise in revenue.
I support the introduction of CGT, but only if all assets owned before the introduction date are exempted. Therefore, if CGT is introduced on 1st April 2028, only assets purchased after that date will be subject to CGT on sale. It removes the need for asset valuations, and the tax calculation becomes a simple matter of sale price minus purchase price. When it comes to real estate assets, any improvement costs should be added to the purchase price, as is currently allowed under the Bright Line test. This would be a fairer and simpler way of levying the tax.
CGT is not a magic bullet to fix all of our social woes. Politicians, journalists and even bankers need to realise that, even if CGT was introduced tomorrow, the effect on our society and tax take will be negligible for some years to come. All biases and emotions need to be taken out of the discussion, and the facts need to be brought to light. And above all, people who know nothing about taxation should remain quiet on the subject.
Christine de Lee BA (Hons) CA PP is a Chartered Accountant. This article was first published HERE
The same thing would have happened if it had been Bill English heading the working group. The outcome would have been different, but the biases would have remained.
When discussing the possibility of a Capital Gains Tax (CGT), the reaction of most people is that it is fair to tax investment property owners who make profits on the sale of their properties. There is already a tax in place for that particular scenario. It is called the Bright Line Test. It applies to the sale of investment properties (including second homes) that are bought and sold within a certain time period. Until this year, that time period was 10 years. The coalition government has now reduced it to 2 years.
It becomes clear that, while most supporters of CGT focus almost entirely on investment property, they ignore – or are unaware of – the fact that many other asset classes will get caught in the CGT net. Those who have bemoaned the lack of investment in business fail to understand that a CGT will apply to the sale of shares and businesses, not to mention cryptocurrencies, investment funds, collectibles, intangibles, foreign assets and other asset classes. It will be levied on assets owned by all sorts of people… not merely investment property owners.
That classic car being renovated to sell will attract CGT. The small business being sold before retirement will be subject to CGT. Those shares inherited from a late uncle will be subject to CGT. That painting bought for a song at an auction and is worth more than expected will be subject to CGT. (Michael Cullen recommended exempting art collectors, and he was a collector himself.) The CGT net is much wider than most people realise.
CGT is also more complicated than people realise. Let’s use the example of an individual selling a parcel of Infratil shares for $20,000 with a capital gain (sale price less purchase price ) of $10,000. The sale proceeds are then used to purchase $20,000 of shares in Genesis Energy Ltd. The capital gain is $10,000 but the proceeds are used to purchase further shares in the same asset class. At what point is the tax liability triggered? Presumably, it is triggered on the sale of the shares, but then there is less money available to invest in replacement shares. Is that fair? Or should the gain be taxed when the investor removes funds out of that asset class? Otherwise, the tax discourages investment in productive assets. CGT will not solve the lack of business investment that so many advisers expect.
Nor will it solve our social ills, as our left leaning politicians claim. Let us go back to that maxim that all taxation must be applied ‘fairly’. To do that, it cannot be applied retrospectively. On the date CGT is introduced, every asset owned will have to be ‘valued’. Then, on the subsequent sale date, the CGT will be levied only on the difference between the valuation on the CGT commencement date and the sale price.
So the gain on that rental property you bought in the 1980s for $70,000 and will sell for $700,000 after the introduction of CGT is safe. If the property is valued at $690,000 on the introduction of CGT and then sold for $700,000, CGT is levied only on $10,000.
How do we deal with capital losses? What if the same property, valued at $690,000 at the CGT introduction date, sells only for $650,000? There is still no way to tax the capital gain made before the introduction of CGT. Most likely, capital losses will be carried forward against future capital gains. How do the supporters of CGT feel about that?
Relying on valuations to establish an asset value is often difficult, as the value of an asset is never known until it is sold, but it is the only way to establish a starting point. When CGT was introduced in Australia, it took about 15 years before any meaningful amount of revenue was raised. The same will happen here, which will be a disappointment to our left wing politicians, who claim that enormous revenues will be raised from CGT in its first year. For some time, the tax will cost more to administer than it will raise in revenue.
I support the introduction of CGT, but only if all assets owned before the introduction date are exempted. Therefore, if CGT is introduced on 1st April 2028, only assets purchased after that date will be subject to CGT on sale. It removes the need for asset valuations, and the tax calculation becomes a simple matter of sale price minus purchase price. When it comes to real estate assets, any improvement costs should be added to the purchase price, as is currently allowed under the Bright Line test. This would be a fairer and simpler way of levying the tax.
CGT is not a magic bullet to fix all of our social woes. Politicians, journalists and even bankers need to realise that, even if CGT was introduced tomorrow, the effect on our society and tax take will be negligible for some years to come. All biases and emotions need to be taken out of the discussion, and the facts need to be brought to light. And above all, people who know nothing about taxation should remain quiet on the subject.
Christine de Lee BA (Hons) CA PP is a Chartered Accountant. This article was first published HERE
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