CGT attacks are tall poppy syndrome

17 March 2017 | Ideas@TheCentre

tall poppy poppiesThis week has seen a renewed focus on targeting capital gains tax with the threat that the fifty per cent concession will be cut — a proposal that rears its unattractive noggin on nearly an annual basis. Essentially, this means there will be an increase in taxes on capital.  Tall poppy syndrome seems to be going into overdrive. What next? A tax only for the rich!

There are several reasons why it would be a terrible idea to increase capital gains tax levels.

First, capital gains tax creates what is called the lock-in effect. Meaning, owners of assets are incentivised to hold onto assets to avoid paying capital gains tax. One example where this is most prevalent is the housing market where investors are taxed on an investment property. This creates a decrease in housing available for sale. With housing affordability as a hot-button issue, any action that causes a restriction on the supply side should be avoided.

Second, capital gains tax inflicts an additional burden on capital that has already been taxed. An example of that would be company shares. Any capital that is first earned by a company is taxed. The issue is that if the company retains the profit, it then increases the value of the company’s shares. When the shares are sold, capital gains tax is applied.

The third reason is capital gains tax is not indexed to inflation. Taxing the inflation component increases the effective tax rate on savings above the official tax rate, as argued by the Henry Tax Review. This means capital gains can be overtaxed if there is no inflation adjustment. This works as another disincentive to invest .

Finally, there is a risk in any investment.  To reward the investors for contributing to the economy, a lower capital gain tax would provide incentives for people to invest. We need to stop demonising people for wanting to invest in housing or shares that help them make money. Neither are they cash cows to be milked whenever the government has a shortfall in the budget.

Herman Toh is a Mannkal Scholar and an intern in the CIS Economics Program
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