‘Fairness’ gives wrong investors a free ride

When it comes to unintended consequences, a capital gains tax will create a few. Consider the impact of the Tax Working Group’s proposals on the local sharemarket, something dissident working group member Robin Oliver, the former deputy commissioner of Inland Revenue, has been warning about for days.

New Zealanders would only see a difference when they buy New Zealand shares. There would be no change in tax when we buy foreign shares, and the tax would not apply to foreigners buying and selling shares in our companies.

This means that you (or more likely your KiwiSaver manager) will be encouraged to put your savings into overseas companies. As a natural consequence, shares in our companies will be cheaper for foreigners to buy.

There are practical reasons why this is the case – or rather, why this is difficult to avoid. Suddenly, though, the report looks like a Government held up by a party that calls itself NZ First looking to screw the scrum towards encouraging foreign ownership of many of our largest and most strategically significant companies.

The Government, as it works out what on earth it will do with the report Sir Michael Cullen delivered, is attempting to maintain the line that nothing is being ruled in or out, as a war rages around it. Sitting on the sidelines will not help it build the case for such controversial changes.

The initial attacks – that CGT is an ‘‘assault on the Kiwi way of life’’ – are easy to bat away because the term is so vague. But as often as ministers repeat that possible tax reforms are ‘‘about fairness’’, and talk up how few people (it thinks) will pay it, eventually, it will have to get down in the mud and debate some details.

This will force it into a very difficult argument about what fairness means, which is far more complex and subjective than Labour would want us to believe.

If fairness is about reducing income inequality, then CGT might seem perfect. Almost by definition, those who will pay are in a position to pay it. If the money is redistributed in income tax cuts, that might feel fair, especially to those on the receiving end. The idea that I will get the same income tax cut as someone who really needs it seems like a rather strange kind of ‘‘fair’’.

But CGT is not as simple as taking from the wealthy and giving to the poor. It is a tax on the benefits of ownership and saving. That might also seem fair, but not all types of saving and investing are the same, and we want some more than others.

In certain key respects, the form of CGT being proposed favours the type of saving we do more than enough of (owner-occupied homes) and discourages the types we need more of (building more homes or starting businesses).

It seems ingrained among supporters of CGT that people who own homes (and especially rental properties) have been getting a free ride from rising house prices. But a CGT that excludes the family home will do next to nothing to fix this.

That free ride may become a kind of subsidised activity. In relative terms, we will have even more incentive to invest in our homes than before. Not only do the gains remain tax-free, they are assumed to continue.

When you break down the Treasury’s estimate of what CGT will raise – $8.3 billion over five years – a major chunk is based on the assumption that house prices will continue to rise faster than inflation, effectively forever.

For anyone caught outside the housing market, CGT might not bring the benefits you hoped for. Not only will rising house prices be paying for your income tax cuts, the Tax Working Group report acknowledges warnings that CGT is likely to increase rents.

The bigger question is whether the tax should hit those that start and run businesses. Some might think that is completely fair, but that is very much up for debate. Businesses tend to create jobs, and the prevailing wisdom is that New Zealand suffers from a lack of investment in business.

Is it fair that we will tax someone who invests in the next Xero, Trade Me or Rocket Lab more than we will tax someone who invests all of their money in their home?

CGT will certainly not destroy entrepreneurialism, and there are other ways in which the coalition is looking to encourage investment in research and development. But taking billions of dollars out of the hands of investors and giving it to those who are likely to either spend it consuming or put it in housing would, all else being equal, run against the Government’s stated goals of a more productive and sustainable economy.

Soon enough, the Government will have to explain how that matches with its dogmatic insistence that it amounts to fairness.

In relative terms, we will have even more incentive to invest in our homes than before.