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What the Tax Working Group did and didn’t do

The Tax Working Group (TWG) has reported back. The reactions to the proposal for taxing the income from capital gains have ranged from the sublime to the ridiculous and from “it doesn’t go nearly far enough” to “this is the end of the kiwi way of life”. They have exposed a class society where one group of people seemingly believe that almost everyone owns at least one investment property and a bach (no wonder they didn’t believe there is a housing crisis) while the experience of most is that buying even one house is increasingly unaffordable.

A crucial function of the tax system is to reduce inequality. In the September Bulletin I showed how weak New Zealand’s tax and transfer (income support) system was at doing this. Taxing the income from capital gains as proposed by the TWG would be a significantly inequality-reducing move. However it won’t be enough to revitalise the inequality-reducing power of the income tax system, nor raise sufficient funds to restore our public services and welfare system. That would require higher top income tax rates which have been ruled out by the Government. If a tax on the income from capital gains is defeated, it seems that high inequality and insufficient revenue will remain for many years a permanent, yet avoidable, blight on New Zealand society.

The TWG report covered not only taxing the income from capital gains but many other matters some of which the commentary describes briefly: Environmental taxes, business taxes, savings, personal income tax, understanding high wealth and income, and stopping cheating.

The main case for taxing income from capital gains is fairness. It reduces inequality and ensures this kind of income is treated equally with wages, salaries, interest and other types of income that are already taxed. It is unfair that someone make a $50,000 profit on the sale of rental property and not be taxed while some earning $50,000 from wages will be. If the share of the nation’s income going to wage and salary earners continues to fall, whether due to automation, globalisation or unfair employment law, then the importance of taxing capital is only going to increase.

Almost every other OECD country taxes income from capital gains, and it is uncontentious. As a Canadian professor told Radio New Zealand, we would be “joining the modern world, tax-wise.”

The commentary responds to some of the assertions being made about the proposed tax. Should capital gains be taxed at the same rate as other income? Yes, it always has been, and otherwise leaves loopholes and unfairness. Will it hurt investment? It should move some investment from inflating property prices to more productive purposes. It is unlikely to hurt other investment. What will it do to rents and house prices? The TWG concluded that it would lead to small upward pressure on rents and downward pressure on house prices. These impacts were likely to be small. The family home exemption, complexity, avoidance by the rich, effect on small business and holiday homes are also discussed.

Download the full bulletin: Economic Bulletin 207 – February 2019