CGT – Tax the rich by cutting the rate

I have often argued we need to tax the rich more – ever popular with Lib Dems and Labour. The way to do it is to lower the rates.

The Adam Smith Institute has just sent out the figures for the impact on capital gains tax collection from raising and lowering rates in the USA since the 1950s. Whenever the rate has been cut revenue has risen – often in the first year and normally in the second. In 1981 the US collected $28.5 billion with a tax rate of 24%. In 1982 they raised $26.95 billion with a lower 20% rate, only to see receipts soar to $37.85 bn the next year and as high as $97.33 billion in 1986.

In 1987 they raised the rate to 28%. Revenue plunged to $59.83 billion. They raised it again to 33%. Revenue briefly rose to $66.23 billion in 1988 then plunged again to $57.3billion, lower than when the rate was 28% and well below the levels when they had a 20% rate.

In 2002 they raised $55 billion with a 20% rate. In 2004 this soared to $78 billion by lowering the rate to 15%. In 2006 they were bringing in $110 billion at the 15% rate.

The Uk experience is similar. Lower rates increase the yield. Austria, Switzerland, Belgium and Luxembourg have a zero rate. The USA has a 15% rate and Japan a 10% rate. If the UK hikes its rate too much it will end up with less revenue, and make itself needlessly uncompetitive in a world where capital and talent is footloose.

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37 Comments

  1. Mike Stallard
    Posted May 25, 2010 at 8:03 am | Permalink

    This paradox is indeed oxymoronic. But it is true, nevertheless.
    The problem is this:
    Will the Authorities and Ministers have the courage to put it into practice?
    If only……

    • peter
      Posted May 26, 2010 at 2:46 pm | Permalink

      Three points:- 1. John Redwood for prime minister 2 Get rid of this ridiculous/proposed C.G.T tax at 40%
      3 Ban imports of all manufactured goods and put our 2.5 million unemployed back to work making them.
      Simple enough, but it wont happen!!

    • Sebastian Head
      Posted May 27, 2010 at 11:18 am | Permalink

      I am absolutely delighted that you have started a campaign to moderate the proposed increase in CGT.

      As a lifelong Tory voter I was appalled at the way in which Mr Cameron was so easily manipulated by the Lib Dems on this crucial matter which goes to the heart of the Conservative ethos. I find the idea of giving Tory backing to a proposal to double a level of CGT set by a Labour administration utterly repugnant. Your proposed compromise, to "catch" short term gains, whilst leaving a proper motive to promote long term savings is admirable and would still allow the lib dems to say that they had carried out their pledge. I thoroughly support it.

  2. Mick Anderson
    Posted May 25, 2010 at 8:05 am | Permalink

    I rather suspect that having a zero rate for CGT will not increase the yield directly….

    Presumably those countries who have decided on a zero rate for CGT either don't need the money it would raise, have more focussed taxes with different names, or have decided that the increased economic activity that a zero rate produces improves the tax take elsewhere in the system.

    Most of the population will never have anything to do with CGT directly, and as such would not notice if it was at 0%, 50% or 110%.

    However, many new companies are floated with an "exit strategy" which often involves eventually selling the successful firm to a new owner. Reducing CGT to zero may encourage more start-ups, or people starting such firms to grow them more enthusiastically.

  3. Rob Calhoun
    Posted May 25, 2010 at 8:16 am | Permalink

    Hi John

    I enjoy reading your posts and I fundamentally agree in a low tax economy being the best way to increase revenues and the wealth of all.

    However, having read some literature by Fred Harrison, I am interested to understand why successive governments have failed to act on his recommendations as this would seem the best way to me of taxing what is a finite resource… namely land. This seems unarguably to be the way to ensure a functioning economy where the vagaries of property prices would become a thing of the past, and the landed few would no longer benefit so much from what is an unproductive sector.

    I look forward to a response
    Yours – Rob Calhoun

  4. Richard
    Posted May 25, 2010 at 8:25 am | Permalink

    Very true. It would be insane to raise CGT in the way apparently contemplated. But it is also true that it doesn’t work to have CGT at 18% and a marginal income tax rate of 51%. The same argument as you set out about applies to income tax – you raise more money by lowering rates and vice versa, as proved in the UK in the 1980s and in numerous other countries in recent decades. So let’s persuade the Coalition to be really radical, dispense with historic prejudices and declare the UK really open for business – by abolishing the 50% rate and setting out a long-term objective to make income tax in the UK competitive with the best.

  5. Posted May 25, 2010 at 8:33 am | Permalink

    I agree with what you said before, the CGT rate on shares and business assets ought to be zero (profits have been taxed already and what you are selling is the after tax profits); but I'd add that the tax system also ought to be revamped so that house prices stay low and stable, instead of being a government-backed one-way bet and a means of loading ever larger mortgage debts onto the next generation.

    • Mick Anderson
      Posted May 25, 2010 at 2:16 pm | Permalink

      You could argue that this is the function of stamp duty – both a tax on property purchase, and increasing in size as the property value rises. CGT only applies when selling a house that is not your main home, and partly why so many MPs were pillioried for dodging CGT by "flipping" homes within their expenses system.

      However, stamp duty can also be seen as a tax on people wanting/needing to move house in order to find work.

      I have rather come to the conclusion that there is no such thing as a good tax, only one necessary to raise money. As such, the less money Government spends, the fewer taxes have to be applied.

    • Posted May 25, 2010 at 10:00 pm | Permalink

      Apart from the nasty ways to keep house prices low (increase interest rates, increase the transaction costs, restrict buy-to-let, let inflation return to 1970s levels etc.) there are positive ways.
      1. Reduce planning restrictions on new build and speed up the process of consents.
      2. Remove the taxes on pensions, so that property ceases to becomes a vehicle for savings.
      3. In the long-term, make more selective use of interest rates as a way of avoiding recession. The 2000 and 2001 reductions avoided mild recessions whilst creating the house price bubbles in many countries.

  6. JohnRS
    Posted May 25, 2010 at 8:37 am | Permalink

    John

    The numbers tell their own story – but only to someone of a conservative inclination. DemTories seem to be far away from conservative positions on many areas of policy. I fear this is another one and traditional Conservative financial sense will be compromised on the Limp Dim altar of equality and redistribution.

    Having had our pensions raided by a decade of Brown's vile, anti-middle class tax rises, many folk attempted to use other ways of saving for their retierment. Now it looks as if these too are to be heavily taxed making the future a very poor one (in all senses) for many ordinary people.

    So much for personal responsibility and rewarding effort and achievment under this government.

    As usual, it appears that although Cameron is a Conservative, he really isnt conservative.

  7. Stuart Fairney
    Posted May 25, 2010 at 9:04 am | Permalink

    Quite remarkable that these manifestly obvious points need to be made to an apparently tory Chancellor.

    Is Mr Osborne (and by extension Mr Cameron) a Thatcherite or merely Blu-Labour? In the coming months we will see.

  8. Simon2
    Posted May 25, 2010 at 9:54 am | Permalink

    I saw you on Hardtalk at the weekend John, I disagree that we need to encourage people to own multiple homes to rent out, we need more homes full stop. Problem is that of the few there are many are being snapped up by investors at the expense of younger people who are forced to rent them , effectively paying the richer landlords. The wealth gulf is getting wider, this is not right.

    Anyone who can afford 2 3, 4, 5+ homes in todays environment isn't exactly going to be hard up. What about the pensions of those of us who don't even have a home to live in? The pensions crisis in future will make this one look like nothing if people are going to be forking out top whack rent when they're retired.

    I'm sure you said it was unfair to tax people who had bought second homes to boost their pensions by increasing CGT, but the likelihood is that the vast majority of these were bought while CGT was 40% anyway since it was only changed fairly recently, so no unfairness there. Anyone who bought in the last 3 years since the change must be very well off anyway given prohibitive prices, so no problems there either. I think you're wrong on this one.

    • Kevin Peat
      Posted May 25, 2010 at 11:49 pm | Permalink

      We need fewer – and better skilled – people.

      • Simon2
        Posted May 26, 2010 at 10:45 am | Permalink

        Unless we have a mass exodus of people we need more houses.

        • Simon2
          Posted May 26, 2010 at 10:46 am | Permalink

          Fewer people is of course the way to tackle the problem from the demand angle, not sure if that will happen though.

        • Kevin Peat
          Posted May 26, 2010 at 9:19 pm | Permalink

          Then there should be more realistic expectations if we are not to have a compact and skilled population.

          That unskilled people in a global market should demand their own front doors, their own kitchens and their own bathrooms is unrealistic in global terms (Skilled Chinese bunk twenty to a dormitory.) How can we afford this without government subsidy of some form ?

          There is plenty of spare living capacity in Britain – it takes the form of spare bedrooms. Generations better than ours lived in multi-generational occupancies.

          The problem is not with supply – it is with unrealistic and unjustified demand. People need to get real.

          I fully expect to have granny with me at some time and my boys living with me well into adulthood.

    • Carol
      Posted May 26, 2010 at 9:00 pm | Permalink

      To say that second homes brought for pensions happened while CGT was 40% is not always the case – for us, we had a property lived in it for 25 yrs then brought old renovation property did it up ourselves whilst working, let out 1st property for retirement prension.Now we shall have a large CGT bill if we sell it – although it was our main home for so many years – I just cannot see the fairness in that.

      • Simon2
        Posted May 27, 2010 at 12:05 pm | Permalink

        If you sell , at the end of the day it's income. A basic rate tax payer has to pay 20% on their earnings and savings , and a higher rate taxpayer has to pay 40% on theirs. Why should second homes get special treatment? Plus the first 10k is tax free!

        • Carol
          Posted May 27, 2010 at 12:57 pm | Permalink

          The reason for our compaint is: that at the time a taper relief was in place and the IR advice to us was that due to our long term domicile in the property as our MAIN home,this was a fair measure of any gain.
          Seems its OK for MP's to flip which property is their main home, but not taxpaying working people

  9. Brian Tomkinson
    Posted May 25, 2010 at 10:03 am | Permalink

    You will need to work hard to get this sensible message across particularly with the irresponsible attitude shown by much of the media. I heard Professor Blanchflower yesterday on the BBC berating the government for cutting spending by £6billion. He also said that no other country was doing such things – he obviously hasn't heard about what has happened in Ireland, Greece, Spain and Portugal. The BBC naturally allowed him to make such erroneous points without challenge. He also said that Mervin King had said that he supported these early cuts to save his job. How did he ever become a member of the MPC? The interest costs of all this borrowing aren't mentioned sufficiently either. People can relate to that. Fancy borrowing £156billion in one year of which £40billion will go on just paying the interest on the £940billion (and rising) national debt and it is going to get worse.

    • Stuart Fairney
      Posted May 25, 2010 at 11:21 am | Permalink

      Time to abolish the MPC (thereby saving money and firing some bureaucrats) and the nonsense of a government set interest rate.

  10. Javelin
    Posted May 25, 2010 at 10:06 am | Permalink

    I agree.

    But would I always exempt investment in homes from the list as this is a necessary living expense and will create misery which will mean not getting elected next. I am constantly amazed at politicians who don't make it clear that homes are not an investment.

  11. Posted May 25, 2010 at 10:54 am | Permalink

    I believe that CGT should be tapered in a way to encourage longer term investment and not the short-termism of many funds who have no interest in the actual investment whatsoever.

  12. Sally C.
    Posted May 25, 2010 at 12:00 pm | Permalink

    Completely agree with your assessment, JR. The government has to look at our place in the international tax rankings to make the UK as attractive as possible for businesses. Part of this assessment should include a review of National Insurance Contributions which definitely make businesses think twice about employing more people. Also, I do not understand why the burden for employee NICs falls so heavily in the £5000 – £43000 bracket. Why not broaden and flatten it a bit?

  13. Chris
    Posted May 25, 2010 at 3:08 pm | Permalink

    If the rate on business assets is increased all that will happen is more use of roll-over relief, possibly through complex schemes. It used to be that if proceeds were reinvested the gain was deferred, however with the 10% rate everyone just pays the tax.

  14. Mark
    Posted May 25, 2010 at 4:24 pm | Permalink

    Falling stock markets may be at least in part prompted by the proposed CGT increase. I hope that Cable and Osborne and Cameron understand this. Undermining the financial system isn't going to make the job of managing the economy easier.

    A good tax regime is stable – not one where the rules keep changing – with rates that reflect Laffer curve effects, and which operates fairly (rather than taxing inflation as can easily happen with CGT).

  15. Posted May 25, 2010 at 11:20 pm | Permalink

    I completely agree that in the medium to long term higher tax rates reduce revenue. However, looking at the ASI’s graph on page 3 there is also something important for short-term tax policy as well.
    In 1986, the year before tax rates rose from 20% to 28%, revenue rose 96%. In 2002, the year before tax rates dropped from 20% to 15%, tax revenue dropped 26%.
    The expectation of a change in tax rates has the opposite effect, which is far more significant.

    We had just the same effect in March. The deficit for the last financial year was £11bn lower than forecast in the last budget, (due to higher tax receipts from top earners than expected), and over £20bn lower than forecast last Autumn.

    In the budget I would there expect an adjustment for lower expected tax revenues from the top earners in next month’s budget of at least £10bn.

    See http://adamsmith.org/files/capital-gains-tax.pdf

  16. Kevin Peat
    Posted May 25, 2010 at 11:40 pm | Permalink

    It's not just about cutting tax to avoid tax avoidance. It's about showing value for money – and by this I don't mean taking the lowest tenders so that taxpayers end up having to foot hefty welfare bills that often accompany privatisation schemes (these don't appear on the balance sheets, do they.)

    However, you can kill a number of birds with one stone and prove to us that you are real Tories at virtually zero cost:

    What is community service all about ? Do we ever see criminals doing anything constructive within the community in penitence ? No.

    – You can (at virtually zero cost) have justice being seen to be done.

    – You can (at virtually zero cost) provide a humane deterrent to recidivism.

    – You can (at virtually zero cost) reassure the law-abiding public that the authorities are in control and on their side.

    – You can (at virtually zero cost) better the environment immeasurabely by having community service offenders clearing the litter and grafitti which the councils have not budgetted to deal with.

    I expect the Human Rights Act will get in your way somewhat even if you really wanted to do the above. That your party won't do anything about it is a sign that most of your number don't live among this muck whereas I do.

    So I won't stick my neck out and cross a picket line in support of your government. Your party have not honoured the manifesto which they promised.

  17. Lola
    Posted May 25, 2010 at 11:43 pm | Permalink

    Capital isn't 'footloose' as such – it just doesn't belong to governments. It belongs to us. All of us. The best way to keep the Government honest, all governments honest is to have competing tax regimes. The statists don't like this at all. In my view this is why the Greek Crisis is a Godsend to them. They can use it to try and 'eliminate harmful tax competition.

    So in every way you are right. Taxes need to be low, and lower than everywhere else. We do that and the capital will pour in. Bye Bye unemployment.

  18. Kevin Peat
    Posted May 25, 2010 at 11:45 pm | Permalink

    Of CGT.

    A lot of people have invested in property to compensate for stolen pensions. They need and deserve protection.

  19. Edward J. Dodson
    Posted May 26, 2010 at 4:46 am | Permalink

    British citizens should be very cautious about referring to U.S. tax policy as an example of a rational approach to the raising of revenue for public goods and services. Our elected respresentatives have acted irresponsibly for decades; and yet, we repeatedly re-elect encumbents (when we actually vote).

    As a consequence of the changes in our tax system over the last thirty years, income and wealth has become more concentrated than at any time in U.S. history. The last time the concentration of wealth was as high as it is today was right before the Great Depression. The reductions in marginal tax rates on high incomes and on so-called capital gains has not resulted in growth in U.S. capital goods (i.e., plant and equipment, and goods production capacity); rather, the huge increases in disposable income have gone into nonproductive and highly speculative investments — in land markets, in real estate, in the stock and bond markets, in collectibles and in precious metals. With each year, the U.S. economy has lost more of its capacity to produce actualy physical wealth and become more of a casino economy.

    A real lesson could be learned by re-reading Adam Smith and following his advice. Tax policy must distinguish between earned and unearned income flows and between real and paper assets. There is a prescription for a full employment economy that would not suffer from periodic booms and busts (read Fred Harrison's book, "Boom Bust: House Prices, Banking and the Depression of 2010" for sound ideas of how to get out from under the stresses of a speculation-prone economic system).

    Britons have been dominated by its landed interests for centuries, and we in the United States have made land speculation a part of our national creed. Thomas Paine tried to warn us in his pamphlet "Agrarian Justice," but he was ignored. Winston Churchill, somewhat remarkably, tried to do the same early in the 20th century, but he was ignored.

    We are paying a heavy price around the world for listening to economists who repeatedly demonstrate they have little understanding of the destructive power of credit fueled speculative property markets.

  20. CB
    Posted May 26, 2010 at 3:22 pm | Permalink

    I am not convinced by these numbers.

    They appear to compare the US economy at different times on a like-for-like basis without any adjustment for the size of the economy or adjustment for the economic cycle.

    The US was in a hard recession at the beginning of the 1980s, the uptake in CGT revenue could easily have been caused by the boom in economic growth that followed.

    Likewise the US in 2002 was at the trough of a recession, in 2004 it was in the middle (and in 2006 at the peak) of another boom.

    If the ASI has done any adjustments to the raw tax numbers, could you say so?

  21. Mike Wilson
    Posted May 26, 2010 at 5:46 pm | Permalink

    There is no mystery here. When CGT is high people hang on their assets for longer. When it is low they sell them more frequently and realise their gains.

    What we need is high CGT for 20 years or more, so that more sales take place. Then we'd get a better comparison.

    For my money, CGT should be high on anything that requires little or no effort – buying property or gold, for example.

    CGT should be zero on anything that involves investment in business like shares.

    Business creates wealth, not people borrowing fortunes from the bank to buy property and charging other people exorbitant rents to live in it. Who wins from that? Just removes demand from the economy.

  22. Mark Culme-Seymour
    Posted May 27, 2010 at 10:10 am | Permalink

    Having read your very interesting letter and the subsequent comments I am surprised that no-one has pointed out that capital gains is largely a tax on the elderly and savers. And as such it is largely a voluntary tax in as much as those with investments can decide that they do not want to pay the higher rates and wait before realising their gains until rates fall. This is why there is ample evidence from research done in many countries that capital tax revenues increase (sometimes dramatically) when rates go down. The world average for capital gains is 15%.

    The argument that there is a switch between income tax and capital gains is not bore out by evidence. This is largely explained that those on high income tend to be younger workers who have not yet had the chance to build up capital. However a rate equal to the higher income tax rate for gains in their first year may reduce some of the volatility in the market caused by day traders who benefit from a lower capital gains rate.

  23. Posted May 27, 2010 at 12:31 pm | Permalink

    John

    Congratulations to you and your colleagues for making a stand on this critical issue. as ever, those who display common sense and are willing challenge will be portrayed as disloyal and disruptive.

    You have been there before afterall, but to those of who believe that politics is a matter of conviction not convenience, it is reassuring to know that there are still some political leaders who are prepared to speak out.

    I suspect that most Conservatives have mixed feeling about this coalition. Great to have a Tory PM. Great to have Labour out. great to be able to do some of the things we know are right for our country. BUT, at what price through a deal with the Lib Dems.

    Before being agent to the great Lady, I was agent to Jeremy Hanley. He used to tell this story which might be a good thought as Conservative MPs look at their new friends…

    He found himself sitting on the green benches in front of the redoubtable Unionist the Revd Ian Paisley MP. Jeremy tells how he turned to the Revd Paisley and said “I hadn’t realised that we were on the same side” to which the firebrand of Ulster Unionism retorted in his stadium-filling cadence: “Laddie, you should never confuse sitting on your side with being on your side!”

  24. James Singleton
    Posted May 27, 2010 at 5:23 pm | Permalink

    I sent this to my local MP, Simon Hughs, but haven't heard anything back yet! Mr Redwood is a man of great shrewdness, please keep the presure on!

    Dear Mr Hughes

    I am writing in reference to the governments newly proposed increase in Capital Gains Tax.

    I am most unhappy about how this will be targeting a small group for a very large sum, rather than a large group for a small sum (such a hike in VAT would target).While I appreciate the need to raise funds after the recklessness of the previous administration, I regard this as an attack on the shrewd people who have invested in their future.

    I have had property investments for 7 years, I own three apartments in Southwark, and have been a resident here for 10 years. This has always been a long term strategy for me and I see very little profit in the running of this, since these are highly geared investments with mortgages.

    Because of this sudden dramatic change of government policy, all my efforts for many years might have been a large waste of time and money.

    While on paper I may appear wealthy, personally I am on a low salary, self employed and make no NI contributions. This was designed as an alternative to my pension. I took very large risks and ran my first buy-to-let at a loss for two years, looking to see profit in the long term. I pride myself on being a good and fair landlord, and have provided a very valuable service to my tenants.

    The nature of this proposal is that it scuppers decisions which have already been made. As an alternative a hike in VAT would at least allow people to adjust their decision making process accordingly.

    I predict that the result of this will mean there will be no new buy-to-let landlords being created, since there will be zero incentive to provide this service and take these risks. A shorter supply of rental properties in the borough will inevitably lead to higher rents. Many landlords will be forced to sell in the coming weeks to avoid the increased CGT. This will lead to an oversupply of property in the market which will cause prices to fall dramatically. Few people will benefit from this though since the cost of borrowing is still very high.

    As a senior MP, and with your party now being in government I would be grateful if you could pass on my thoughts, or attempt to influence the chancellor to at least not raise CGT to the foolish flat rates that are being speculated about. He might even consider reintroducing a taper relief for the long term investor, so as to only penalise than the short term speculators.

    As things stand this policy will either influence me to dump my properties as quickly as possible to crystallise a gain, or to leave the country for over five years, becoming non-domiciled and thus being exempt from all CGT. If many people follow this strategy the chancellor will end up seeing less CGT contribution in the pot, not more!

    Yours sincerely

    James Singleton
    07789 430 360

  25. Posted May 27, 2010 at 5:52 pm | Permalink

    At first glance I thought oh no, they are going to tax business investment. But in the detail it is really a tax on the unearned incomes from monopoly profits on stocks. And more importantly the unearned incomes on the capitalised value of second homes. Let's do a quick calc on the bigger homes part:

    Second homes liable for CGT 250,000
    Capital Gains Tax rate 50%
    Average house price £250,000
    Average sales cycle for a home 7 years
    ==============================
    Annual tax revenue £3.5 Billion

    Not bad. And because the value in land has a zero cost of production it won't effect Real economic productivity or investment in real wealth in any way whatsoever. The gap between earned and unearned wealth will narrow too. Better still.

    Of course the value of homes will fall immediately it is announced officially. In fact the Times tells us that people are already selling at discounted rates. Excellent! Not so good for those who borrowed at a bubble price as there will be negative equity. They will be relatively few though because mortgage applications are at a low point. The latest bubble price is just a result of QE propping up banking balance sheets at tax payers expense.

    Even better for the first time buyers and those who cannot yet afford a bubble priced home. They may be on the market sooner now. And fewer new homes will be required (though this is a myth anyway when there are already 1,000,000 empty homes in the country due to property speculation)

    No wonder Mr Redwood is fighting fiercely for his constituents in the city who own most of the homes as collateral on credit money created as mortgages. Desperate straights on the back bench.

    The irony is that I don't think Mr Osborne has a clue that these will be the effects. Wonderful. Roll on the Coalition of the Feckless. Serendipity is at play. We need some luck.

  • About John Redwood


    John Redwood won a free place at Kent College, Canterbury, He graduated from Magdalen College Oxford, has a DPhil and is a fellow of All Souls College. A businessman by background, he has been a director of NM Rothschild merchant bank and chairman of a quoted industrial PLC.

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