The Tax Working Group released this week its much-anticipated “Future of Tax” report, which recommends introducing a broad-based taxation of capital gains at full income rates.
As proposed, the 33% headline rate would be one of the highest among industrialised economies.
And given New Zealand’s recognisably low income tax thresholds by international standards, a new CGT would disproportionally hit middle-income earners already struggling to invest for retirement.
The new tax would also tarnish the simplicity and competitiveness of our internationally-praised tax system.
Ironically, despite all these drawbacks, CGT would still raise miniscule revenue.
According to the Tax Working Group’s own numbers, the new tax would raise a mere 1% of GDP after ten years of introduction. And that is based on optimistic forecast assumptions, such as taxing capital gains for all types of land and domestic shares, consistent annual asset appreciation across the board, and no behavioural changes among taxpayers.
So the question is why bother at all?
For its supporters, a full CGT regime might seem a perfect and sensible tax change. It would allegedly increase fairness, progressivity, and integrity of the tax system – and probably resonate with “tax the rich!” feelings that some might secretly (or overtly) carry.
Yet all previous government-mandated reviews – from the 1987 Consultative Committee to the 1998 Committee of Experts to the 2001 McLeod Tax Review to the 2009 Victoria University of Wellington Tax Working Group – have either refrained from recommending extensive capital gains taxes all together or expressed serious concerns regarding their practical challenges.
Even the current Tax Working Group recognises “the administrative complexity of a broad-based capital gains tax, in particular, should not be underestimated.”
At closer inspection, fully taxing capital gains would likely have undesirable effects on productivity, investment and growth, and impose significant compliance costs.
Attempts to implement a comprehensive CGT regime, therefore, would quickly emerge as an intricate can of worms at the expense of economic efficiency. Surely a windfall for lawyers and accountants.
The bottom line is that much capital income is already taxed in New Zealand, including the capital gains on the sale of any residential property (family home excluded) within five years of purchase.
Extending the CGT asset list should always be under the scrutiny of strict cost-benefit analyses. A cautious incremental approach would be wiser – and in line with international best practices.
The government must consider the full costs and complexities of a new capital gains tax regime before acting on the report recommendations.
After all, a broad CGT would inflict much pain for little gain in return.
You can read our policy note on the Tax Working Group’s proposed rate of capital gains tax here.