No case to raise CGT by 50%

Labor’s plan to hike capital gains tax (CGT) by 50% is based on flawed assumptions and poor calculations, according to a new paper by Centre for Independent Studies economist Robert Carling.

Mr Carling, the author of Myth vs Reality: The case against raising the GST, said the proposed higher tax rate would stifle investment, not fully compensate for inflation, was not an effective revenue tool, and would impact on a wide range of assets apart from housing.

“Right from the beginning of CGT in 1985, it was accepted that the tax should only apply to real gains — hence indexation of the cost base of assets to the consumer price index,” he said.

“However, Labor’s proposed halving of the CGT discount to 25% would not even compensate for inflation in many cases, and purely inflationary gains would be taxed.

“For example, a 25% discount would not compensate for the inflation component of long-run average house price or share gains.”

Mr Carling said there are other reasons to discount capital gains that go beyond mere compensation for inflation.

“The 50% discount — adopted as recommended by the expert Review of Business Taxation in 1999 — recognised those reasons and was never intended to be merely a simpler form of compensation for inflation,” he said.

“It was intended to stimulate investment and improve Australia’s appeal to mobile capital by bringing our CGT more into line with international practice.

“The proposal to halve the discount is presented as a housing affordability measure, yet CGT applies across the board to all assets, not just investor housing.”

Mr Carling said that the Labor case emphasises the revenue foregone by the 50% discount, yet actual CGT revenue has been stronger for most of the time since the discount than it was before.

“The reason is that the discount has eased the lock-in effect of CGT and stimulated asset turnover. If the discount were to be cut, that effect would go into reverse and the revenue gain would be nothing like what Labor expects,” he said

“There is a strong case either to keep the discount at 50% or to reinstate cost base indexation and apply a smaller discount to real capital gains.”

Robert Carling is a Senior Fellow at the Centre for Independent Studies, and a former official of the IMF and federal and state Treasury.