Capital Gains Tax and the IFS

I have been told by journalists that the IFS are putting it about that taper relief for CGT is not a good idea. Mr Chote, their Director, wrote an article in the Sunday Times backing the “Liberal/Lawson” view against taper relief. The IFS is a registered charity employing 46 staff (in 2008 – the last date for which they have published accounts) in receipt of a substantial grant from the Economic and Social Policy Research Council and with a membership, conference and publications income. They say their aim is to offer “objectivity and impartiality” in their approach to economic and tax issues, and to avoid party political argument. So let’s look objectively at the evidence they present on this sensitive political issue.

Mr Chote helpfully published the government figures for CGT receipts from 1978-9 to the present day. These figures are most revealing. They show that CGT was raising more than £4 billion prior to Nigel Lawson’s introduction of the 40% rate and bringing it into line with Income Tax. The year of the introduction saw a surge in revenues, followed by a long slump (1991-8) when revenues fell back below £3 billion and stayed there until 1998-9 when Gordon Brown introduced taper relief. Revenues rose back over £4 billion in 2000-1, only to be interrupted by the market crash of the early noughties.

His chart usefully shows that over the last 30 years in the UK CGT revenues have been at their lowest under the 40% regime and at their highest under the 18% regime. It shows that taper relief helped increase the revenue and income tax alignment helped depress the revenue.

Perhaps Mr Chote would like to recognise that my proposal of 40% CGT for one year gains, 30% for 2 year gains, 20% for 3 year gains and 10% for 4 year plus gains would be fairer and offer higher revenue than 40% on all gains. It would also meet the stated intentions of the Coalition agreement.

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25 Comments

  1. Andrew Fletcher
    Posted June 10, 2010 at 9:40 am | Permalink

    Does your analysis of the effect of income tax alignment take into account the fact that when income tax are aligned, the incentive to categorise receipts as capital gain is removed, so income tax receipts may rise?

    I raise this not because I disagree with your general thesis but in the interests of accuracy.

    Reply: it is difficult to disaggregate the Income Tax receipts, but there is no evidence they were swelled by the 40% CGT rate.

  2. Mark
    Posted June 10, 2010 at 10:51 am | Permalink

    I would be interested to know what justification the IFS has for promoting short termism and investment churn via a lack of indexation or taper relief.

  3. Mike Wood
    Posted June 10, 2010 at 12:01 pm | Permalink

    The overall tax system has been over-complex for too long and so it does not lend itself to optimisation of revenue and economic activity, therefore we get in lost in the process of trying to optimise at the level of individual tax categories. Until the system is radically simplified, this type of debate seems rather pointless as it is failing to address the big picture of total revenue generation and economic activity maximisation.

  4. nonny mouse
    Posted June 10, 2010 at 12:11 pm | Permalink

    The problem with the CGT figures in the table is that they do not reflect other things going on in the economy at the same time.

    1988 marked the peak of house prices which I know to my cost because I bought a house in October of that year. The peak in sales was in part due to Lawson removing double MIRAS and giving notice that he was going to do it. This in part explains the extra CGT because of the higher number of houses sold that year.

    The dip between 1991 and 1998 could well be more to do with falling house prices. than CGT rates.

    Time to dig out my dog eared copy of Lawson's 'The View from No.11: Memoirs of a Tory Radical '. It is the best economics book I have ever read.

  5. nonny mouse
    Posted June 10, 2010 at 1:25 pm | Permalink

    The more I think about it, the more I'm convinced that the CGT tax take has a lot more to do with asset prices/sales than it does CGT rate.

    I'm going to stick my neck out and predict that whatever happens to the CGT rate the CGT tax take is going to show a rising graph over the next five years because of the sales drought caused by the lack of mortages over last year or two.

    Also, because negative equity is a lot lower than it was in 1991-1995 and because of the deficit cuts, growth wont be as steep as it was in 1995-2002.

    I'm still a fan of your CGT proposals though John.

  6. Javelin
    Posted June 10, 2010 at 1:29 pm | Permalink

    John I think your efforts would be much better received by the public if you excluded second homes in your argument. By doing so you are giving the impression that you are supporting rich Tory landlords and not true entrepeneurs.

    You only have to look at the 98% support of CGT on second homes in the Daily Mail or The Times to know that even your core supporters want this Tax on second homes. These supporters are not left wing infiltrators but the same people who posted pro-Tory messages before the election.

    So please focus on true entrepeurs, where capital is invested and value is added rather than appearing to support rich landlords.

    • forthurst
      Posted June 10, 2010 at 5:30 pm | Permalink

      I agree and would add that specifically, buy-to-let does not constitute investment so much as leverage on relative interest rates and house price inflation – more likely to yield blocks of empty flats sold off by receivers and houses for purchase shortages than provide the seed corn of the 'technological revolution'.

      As to taper relief, I would prefer short term tapering to sting churners coupled with RPI indexation for the remainder of the term.

      • Baldwin
        Posted June 10, 2010 at 6:10 pm | Permalink

        I agree that John Redwood's formula coupled with indexation after five years is an elegant solution.

    • sm1
      Posted June 10, 2010 at 11:11 pm | Permalink

      Agreed, but allow the'1' btl owner a rollover into a money purchase plan tax free on entry subject to annual cap. After all they were probably only trying to avoid legalized theft from money pension plans by GB et all in the first place.

      Close all final salary schemes in the public sector, particularly special schemes like MP's and Senior schemes. Money purchase should be norm as like in the private sector.

    • Richard1
      Posted June 11, 2010 at 8:42 am | Permalink

      This is an irrelevant distinction. Any investment decision is an entrepreneurial action. Why is it so much better to invest in shares of a company (perhaps which owns properties to rent) than 100% of a single property? Once the government starts trying to judge which sorts of investment are 'good' and which not we end up in the muddle which Gordon Brown bequeathed to the tax system.

  7. Andrew gately
    Posted June 10, 2010 at 1:41 pm | Permalink

    People in the private sector have a big problem.

    The problem is that they are not going to be able to save enough for retirement.

    I think if this was the starting point for any debate on CGT it would make for a more sensible discussion.

    John Redwoods proposals should be adopted in their entirety as they balance the problem of employees attempting to treat income as CGT to avoid tax whilst not hurting savers,

  8. Jim
    Posted June 10, 2010 at 1:58 pm | Permalink

    Thats far too sensible a suggestion (tho I would suggest doubling the time scales ie 2 years @ 40% down to 10% after 8), and therefore will not be implemented.

  9. Alan Jutson
    Posted June 10, 2010 at 2:22 pm | Permalink

    So pray tell, what is Mr Chotes Salary ?

    What is the total salary cost for running this organisation.

    Interesting that this organisation you say has charity status and is in reciept of (Government) grants.

    How else does it raise its finances, do they have street collections or are they paid by someone else. ?

    Sounds like one for the hit list of cuts (government grants that is).

    Once again the link is lower rates, more tax collected.

    Reply: In 2008 the top paid person was paid over £120,000. The total costs of the organisation were over £5m that year, with salaries a substantial element.

    • Alan Jutson
      Posted June 10, 2010 at 5:42 pm | Permalink

      Thank you John, most interesting.

      One is forced to wonder how exactly do these organisations get Charity Status.

  10. DBC Reed
    Posted June 10, 2010 at 7:42 pm | Permalink

    In view of your opposition to bringing Capital Gains Tax up to an equal level with Income Tax perhaps you should push for bringing Income Tax down to 18% instead.

  11. lola
    Posted June 11, 2010 at 12:59 am | Permalink

    1. So, it is proposed to align CGT rates with income tax rates'? As increase CGT rate to income tax rate to stop people using CGT as income. Why not just cut income tax rates? Why raise CGT rates?

    2. CGT is not a tax on capital (in respect to shares) – it is a tax on income, as a share price reflects the future discounted income stream of the underlying business. The price of a share reflects investors views of the earnings prospects of the business.

    3. Apply CGT to shares is therefore a Bad Thing. However, in the UK, property, as the third factor of production (Labour, capital and land) is too lightly taxed. Why not apply a fairer tax to land – and at the same time slash taxes on the genuine wealth creating factors of labour and capital? Land appreciates by reasons of scarcity and by external factors, Houses or commercial property do no really appreciate in price, the depreciate. Land apprciates in price from scarcity/over supply of money at the wrong price/whatever.

    4. So personally I'd scrap CGT and apply a higher tax to land.

  12. Richard1
    Posted June 11, 2010 at 8:38 am | Permalink

    I can understand the argument for taper relief in an inflationary environment – but Conservatives should resist an assumption of inflation. Please can you explain why a Conservative should be in favour of a scheme which arbitrarily favours longer holdings – it sounds Brownesque to me. The powerful evidence from your piece above is: lower tax rates = higher revenues. The real argument here is we need lower marginal tax rates. Get the marginal rates down and we can sign up to the Lawson/Liberal argument that differential rates of CGT vs Income Tax is a recipe for avoidance.

  13. A.Sedgwick
    Posted June 11, 2010 at 10:05 am | Permalink

    The 2-3 year solution is to slash the tax bureaucracy. Combine IT, CGTand NI on a flat tax basis, abolish NI for employers (the argument against an increase is the argument to remove it altogether – tax profit not people) and have a flat corporation tax system.

  14. forthurst
    Posted June 11, 2010 at 2:11 pm | Permalink

    In point of fact I do not accept the premise of this article as it stands. Lawson perhaps only now remembered for the 'Lawson's boom' did actually reform the structure of direct taxation. He removed the confiscatory rates of income tax and introduced PEPs as well as attenuating CGT. At the time, people's investment behaviour was determined by the high rates of Income Tax and the need to avoid them even if it meant splashing out and bunging the bill on tax-relieved expenses; bond-washing was a favoured expedient and no doubt there were other mechanisms for converting income into capital appreciation. So the issue should be considered in terms of the total personal tax take rather one tax in isolation: numbers tell a story but they can also hide the truth. I do not deny the merit of the argument; I merely assert that it has not been proven.

  15. Richard Teather
    Posted June 12, 2010 at 9:50 pm | Permalink

    John,

    Although it looks like there was a "surge in revenues" the year Nigel Lawson increased the CGT rate from 30% to 40%, that's a mis-reading of the statistics.

    CGT is collected a year or more in arrears, so the money collected (and reported by the Treasury) in one tax year is actually the previous year's tax, charged at the previous year's rates and with the previous year's incentives.

    See my blog post at the Adam Smith Institute for the figures of what really happened when Lawson increased the CGT rate – recepts fell off a cliff immediately.
    http://www.adamsmith.org/blog/tax-and-economy/mor

    Richard

    • Mark
      Posted June 20, 2010 at 12:28 pm | Permalink

      Darling's move to 18% has already brought forward a lot of CGT: the special offer rate has caused people to crystallise gains that they had been deterred from realising under the previous regime. The only losers from 18% were the long term holders of business assets, who saw rates increased from 10% of unindexed gains. Since those gains have already been realised and taxed, we can expect a sharp fall in revenue whatever the new regime (including no change) – unless there is a delayed implementation of a harsher regime. That might provoke an asset selloff that would undermine the collateral value of bank loan security (mainly house prices and mortgages) which would lead to a bank bailout cost that would exceed by perhaps a factor of 100 the added short term revenue.

  16. King_peter
    Posted June 19, 2010 at 4:13 pm | Permalink

    There is an inequality between the treatment of rural first home owners and town dwellers, when it comes to CGT on gains. My experience of living in Wales, is that the majority of homes in the countryside have a small area of pasture or paddock, and often a larger garden than would be found in town. I am not referring to businesses, farms or large country estates, but modest homes, often owned by retired people. Private Residence Relief is limited to properties with less than half a hectare of land, so a large number of rural first homes are subject to CGT on part of the gain, whereas there are rarely any CGT on gains on first homes in town (unless exceptionally large). John Redwood's suggestion for taper relief would help us rural first home owners, as much as the second home owners and small investers who have been identified as losers in the CGT debate.

  17. Duncan
    Posted July 8, 2010 at 2:35 pm | Permalink

    Dear Mr Redwood I must thank you for all your hard work regarding
    Bringing some sense on CGT unfortunately we are now stuck with
    One of the highest CGT regimes in Europe. For myself I had a property
    On the market and was in line to pay £27 K to the treasury that would
    Have leapt to £ 42 K Tax ,I have simply pulled out of the sale as I have
    owned the property for 11 years I feel a bit grieved that inflation is not
    taken into account now the Treasury will not see a penny in terms of CGT

  • About John Redwood


    John Redwood won a free place at Kent College, Canterbury, and graduated from Magdalen College Oxford. He is a Distinguished fellow of All Souls, Oxford. A businessman by background, he has set up an investment management business, was both executive and non executive chairman of a quoted industrial PLC, and chaired a manufacturing company with factories in Birmingham, Chicago, India and China. He is the MP for Wokingham, first elected in 1987.

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