Labour's second best, politically palatable capital gains tax stance; Why not actually do what the IMF and OECD recommend?

Labour's second best, politically palatable capital gains tax stance; Why not actually do what the IMF and OECD recommend?

Alex Tarrant looks at Labour's tax policy

The Labour Party's response to the government's housing affordability release included the expected reference to the need for a capital gains tax.

For our benefit, finance spokesman David Parker even included comments made by the IMF and OECD on New Zealand's tax settings (with the important bits in bold), and the support they gave to the need for a capital gains tax here.

So does Labour's policy actually follow what these two economic agencies recommend, or does the party need to take a step further with its policy if it wants to claim their support?

At the moment, if you asked the OECD, Labour's policy may be a second best option with exemptions to appease the public. And if you asked the IMF, they'd probably say it's not using the revenue raised from its CGT for the right reasons.

But Labour reckons it's policy is along the right lines - considerably so, compared to the status quo. But given recent comments by leader David Shearer, has the party taken a backwards step? Read what Parker thinks a bit further down.

What they said

The IMF had recommended "continuing efforts to broaden the tax base by looking at capital gains tax settings and introducing a land tax to fund growth-enhancing tax rate reductions.”

ie. Tax one type of income (capital gains) more, so that company taxes or other tax rates, like on wages, can be reduced - a tax switch.

Now the Labour Party did contest the 2011 election with a promise to cut income taxes, by making the first NZ$5,000 of income earned tax free. On the mark with that recommendation, right?

Well, leader David Shearer has implied the party will scrap that policy.

Meanwhile, the company tax rate would have stayed the same, and a new top tax rate would have been introduced to pay for GST off fresh fruit and vegetables. 

While the GST off fruit and veg policy is expected to be scrapped too (the IMF supports broad-based consumption taxes, so wouldn't have liked the policy anyway), it's still not clear whether Labour will stick with its new top tax rate stance.

No other tax rate changes were mooted as being allowed for due to the introduction of Labour's capital gains tax.

Neither did Labour consider a land tax as a further way of base-broadening as proposed by the IMF. So I reckon Labour's a wee way off before it can claim tax policy mateyness with the IMF. Its election policy actually had a few more ticks, but by doing away with the tax-free band, any capital gains tax revenues currently aren't being put towards other rate reductions.

Second best

Meanwhile, here's what the OECD had to say about how it would like NZ tax setting to change:

"Introducing a comprehensive realisation-based tax on capital gains would further reduce the bias towards housing investment relative to other assets.  Excluding primary residences from taxation would diminish the effectiveness of such a tax, but partial exemption or rollover relief could act as a “second best” solution so as to facilitate public acceptance."

A "second best” solution so as to facilitate public acceptance.

OK, so that's better than nothing, but the OECD is basically saying that in terms of tax policy, Labour's suggestion is a bit economically silly. To be fair to Labour, the OECD implies the status quo is even more silly.

Yet despite it's support for a comprehensive capital gains tax, the OECD even suggested what the government should do if it wasn't going to move on that front:

"The government has so far refrained from introducing a capital gains tax.  In such circumstances, it should consider other alternatives including reducing the taxation of alternative savings to level the investment playing field and further limiting the extent to which property investment losses can be deducted for tax purposes. Such measures should be accompanied by higher property or land taxes that could be designed to achieve the same objectives as a tax on imputed rent."

To Labour's credit, it did announce a policy to ring-fence property losses so they could only be written off against future property income, but not against other earnings. Now that's something the OECD would like to see happen. A tick there.

If you're not going to tax capital gains properly, then both the OECD and IMF reckon adjusting tax on savings for inflation, an idea mooted by the Savings Working Group in 2010.

This is a hard one for Labour to support, because it's effectively a tax break for those who can afford to have term deposits. The biggest gains would go to the wealthy. But on the other hand, if you implemented the flip-side of the recommendation, people (like property investors) would only be able to write off the real portion of interest costs against their other income.

So will Labour get closer to the OECD and IMF recommendations?

That's not likely, and we're not really going to find out about the party's thinking on tax until much closer to the next election.

Finance spokesman David Parker told the party knew about the criticism on excluding the family home from a capital gains tax.

“All of the economic purists say that the family home ought to be included in a capital gains tax. But virtually no country does it, because it’s politically untenable, and we’re of the same view," Parker said.

“So no, we’re not saying that we would extend it to the family home," he said.

I asked Parker whether the party had considered doing away with the 'capital gains' label, and treating everything just as income, net of inflation, as economist Norman Gemmell reckons should happen.

Labour did consider that, Parker said.

"We decided in the end that we didn’t want to tax the inflationary component of the increase, because it’s not real income," he said.

“You can do that in two ways: You can either say 50% of it, which is a proxy for inflation, is taxed, and it’s all taxed at the marginal tax rate as if it were income; Or you can say all of the gain will be taxed at a lower rate. It’s a similar answer.

“In the end we went with saying all of it will be taxed, but at a lower rate,” he said. Labour's policy was for a flat 15% tax rate on all capital gains, regardless of inflation.

Parker also defended against the suggestion that the CGT revenue was not being put towards reductions in other tax rates like the IMF wanted to see.

“We had the NZ$,5000 tax-free zone. That was effectively being funding out of mainly capital gains tax revenue," he said.

While Shearer had implied Labour will do away with the band, the party would “for some time” not reveal its tax policy for the next election.

“At the last election we said that by far and away most of the CGT revenue was being used to reduce other taxes. It was a combination of funding some of the KiwiSaver tax costs, and the GST off fresh fruit and vegetables, and the NZ$5,000 tax-free zone," Parker said.

“So it wasn’t being spent on consumption.”

Revenue needed

However, Labour also needed the revenue from its new top tax rate to fund its policies.

Meanwhile, Labour had not moved any further on where it stood with regard to the proposal to adjust tax on interest earning for inflation.

“There are two sides to that. You can say that savings are over-taxed relative to capital, or you could say that interest is overly deductible compared with real costs," Parker said.

“It’s the other side of savings being arguably over-taxed. That’s arguable, I can see the logic in that. The flip-side of that is you’re giving too much deduction for interest," he said.

"If you were going to adopt that approach and say you ought to be taxing only the real component of interest earnings, you ought only to be getting a tax deduction for the real component of interest payments."

Would Labour consider this further though?

“That’s not under active consideration from us," Parker said.

“That’s not to say I think that’s wrong in principal, but that’s getting quite complex. It would be wrong to address only one side of that equation," he said.

Finally, the party was giving no consideration to a land tax, like the IMF had recommended.

“Their advice is very sound. But you can’t do everything," Parker said.

From David Parker's notes:


Staff supported the recommendations of the Savings Working Group on tax reforms to raise saving and improve the efficiency of the tax system.  They include a further switch from income to consumption taxation over the medium term, while maintaining the broad base of the GST, and that interest income and expenses be indexed at a standard rate for tax purposes that reflects the rate of inflation (e.g., 2 percent per annum).  Staff also advised continuing efforts to broaden the tax base by looking at capital gains tax settings and introducing a land tax to fund growth-enhancing tax rate reductions”


The Overview of the 2011 OECD Economic Survey of New Zealand states that:

Favourable tax treatment of housing and inefficient regulatory constraints on supply should be removed.  These distortions exaggerated the surge in house prices, given rise to wider wealth inequalities and a heavy dependence of households’ long-term financial positions on volatile property values.  The shallowness of capital markets that results from low national saving also contributes to the attractiveness of housing as a savings vehicle relative to financial assets.  Despite the slump in housing demand, property prices remain at high levels relative to rents and average incomes, keeping affordability low for less affluent households and intensifying pressures on the social housing sector.  While the government has made progress in addressing some tax distortions and inefficiencies in social housing delivery, policy priorities should include further tax reforms to level the playing field for savings and investment decisions, while improving the efficiency of land-use policies and the overall urban planning system”.

“The exclusion of imputed rents and capital gains from the NZ tax base contributes to diverting household portfolios towards housing.  Because nominal interest income and dividends are taxed, the absence of a capital gains tax raises the relative returns to assets with good prospects for price appreciation, which tends to favour property and farm investments, given their greater leverage possibilities and a thin domestic equity market.  In addition, rental property investments benefited from generous tax provisions that led to increasing losses claimed by investors against their other income in order to reduce overall tax liabilities.  The tax advantages helped to prolong the housing boom, further inflating property values.  They are also regressive in that they benefit high-income investors more, at least to the extent that losses can be deducted at the marginal tax rate, and low earners are priced out of the market.  The government addressed some of these distortions in the 2010-11 budget. 

 Introducing a comprehensive realisation-based tax on capital gains would further reduce the bias towards housing investment relative to other assets.  Excluding primary residences from taxation would diminish the effectiveness of such a tax, but partial exemption or rollover relief could act as a “second best” solution so as to facilitate public acceptance.  The government has so far refrained from introducing a capital gains tax.  In such circumstances, it should consider other alternatives including reducing the taxation of alternative savings to level the investment playing field and further limiting the extent to which property investment losses can be deducted for tax purposes.  Such measures should be accompanied by higher property or land taxes that could be designed to achieve the same objectives as a tax on imputed rent”.

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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CGT? Hits only on actual sale of property. Require a threshhold rate and an inflation adjustment or discount.
Land Tax . Hits every year year in,year out and can easily be altered in value within the annual Budget process. No brainer.
C'mon Raf , give it a rev.

Rates is the land tax.
You will have to think of another silly idea.

Wrong. Whatever you call rates, they mainly give you some services which you may not need. Perhaps a muddy track is all you need at the front of your letterbox. No need for water or sewage. You will be able to cope, I am sure.
Blame Central Government if you must for all of the silly regulations and extra services unrelated to property that are now included in your rates bill.

Rates is effectively a land tax, but collected by the local govn.  Hence why a National land tax is so easy. You just add a % to the rates bill and pass it on, so low cost to collect and all but impossible to dodge which is a huge plus. It also encourages productive use of banking speculation then becomes less attractive.  However it has to be or should be balanced by a reduction elsewhere eg PAYE.
NB whats PAYE collected for? it also gives you "some services which you may not need" but on a National basis, kind of hair splitting IMHO.

Nice comparative analysis, Alex - really useful, thanks.

If you want less of something then slap a Tax on it . You want Less housing ? Who is going to provide housing rental stock ? Housing New Zealand ?... get real .
Kiwi's already resent the amount they pay in PAYE , INCOME TAX , GST and Rates and municpial taxes .
As long as labour bang this drum they will never get into office .
Labour ignore that with any tax the user pays in the end , in the case of the house , the buyer is the payer , the seller simply passes it on to the IRD
Labour also conveniently ignore that gains on NZX shares are already taxable, its effectively only property  thats got no tax on the gain. 
They also convenietly ignore that CGT has never prevented house  prices going up ... just look at Australia , Canada and Singapore.
John Key will be happy that Labour are still onto  this loser-idea  of taxing middle New Zealand who are simply trying to create some personal fiancial security for themselves

Yip agree Boatman. If a CGT goes on, I will be kicking my tennants out and hospital passing the housing issue to the Govt to sort. Being a landlord was my last option for retirement plans. I got ripped off big time by an investment pension fund that I put into for years and trusted a massive company who was supposed to be smarter than me and ended up flushing about 70% of my investment with them down the loo. My rentals have plumetted in market value below QV, the QV subsequently followed them and so I wonder if the goveernemnt would pay ME my losses against my investment as opposed to the CGT,,,yeah right,,,This would close the last bastion of incentive to invest in NZ so I will start gambling.... :-)

The housing price is not largely determined by new build cost but by the supply-demand position for the existing stock.
So CGT or land tax or even other taxes will ultimately set a price for a particular property. You will see this more easily in the commercial property world where rents determine the value of the building.
Distortions in the residential market are the result of competition between those who want to owner-occupy and those who see it as an investment. Right now there are big influences in Auckland from external investors that are not seen in Oamaru for example.
The conclusion is that any investment made after imposition of any tax will be priced accordingly and tough luck on existing holders if they do not include that in their risk assessment.
The test will be whether the balance is shifted back from the investor to the owner occupier.
I suggest you do your 'hospital pass' sooner rather than later if you feel so concerned
Reminder; QV is a reflection of recent valuations and not the distant past or even the immediate future.

Good feedback.Understand it all. Assessing "risk" of legislative change is like going to a tarot card reader from election to election... :-) Thank you.. And yes,,,we are actively now selling the one that is the biggest PITA.

Do not get me wrong but one of the true myths about property investment is that 'risk' is nil or is much less than the certainty of capital gain. The support of banks in granting large mortgage finance may some day come back to haunt them because we have been used to growth for growths sake. That includes immigration and one day quite soon that will have to stop.

Yep. With you there too... we should form a club :-)

By the sound of it you have been gambling for decades....join the club.
Now at 17 I'll admit I was nieve in taking out a pension with a big provider, fortunately it wasnt a lot....its changed hands 3 or 4 times, made no money for a decade and lost 22% in 2008 alone. Rememember Northern Rock? I got $900 back from $ was over $1000 until the bastards took out their fees....after losing almost 9k...
They say the second most importnat purchase after a house is a bed, I dont agree on either its your pension/retirement.  I now do my own, I dont need to employ politically blinkered and economically encumbered half wits to lose it for me and charge fat fees for awful advice Im to lazy to read up on.
Personally I think the housing market is set to pop and big time (over 50%)....IMHO...lots of others dont agree of course.

steven, the only way you'll get large drops in house prices is for the supply (houses) to greatly exceed demand (people) - that doesn't seem likely at all in NZ at this point.
People generally don't build if the house would be worth less than it cost them (why would you?), so in times of falling prices construction dries up until demand catches up again, and yes there are countries (and even local towns) where the population is declining and the demand will never be there. With NZs small population this can happen quite quickly, larger countries overseas can take a lot longer to go through the same process.

Murray, actually no, thats sort of economics 101, yet we know the world is far more complex, right?
If the present price of housing was only determined by population need thats possible....but it isnt.  
Short term,
So for instance the boom in Auckland is up significantly 11%? in the "rich" areas, is that demonstratably due to a 11% increase in numbers of rich ppl in Auckland?  I'd suggest not, or at least I'd like to see some real evidence that is so.
Take the report that there is a lot of money flooding out of China and consider how small our market is relatively speaking....and how easy it is to get the money that a factor? I suspect it is, a big one? I suspect it is.  One way to find out maybe to compare houses to their electricity bills. If you could get a % of houses using little power or not even connected then that's a minimum speculative component....maybe even the % disconnects in the affulent areas per year might prove interesting.
In terms of drops, what would be the effect of that money that came from china moving on? it could be quite significant.
Medium term
Look at the average occupancy per m2 floor area of a house...right now its dropping a few % per year....consider the reversal of that....and its effects on demand for housing.
Consider that most ppls wages are flat....and the less well off you are the more likely you are to see a wage decrease.
Consider that many bills like rates alone are increasing at 4~5% per annum ie squeezes on the afore mentioned flat wages that cannot be avoided.
Consider what is happening in OZ right now....mining is going bye bye and their housng market looks to be in decline, our biggest export market.
Our crazy over-valued $ killing our exporters.
Consider the size of private debt and when it was last this big.  That was the principle cause of the 1930s depression IMHO.
Consider what happened to house prices then, ie a credit event.
Yes I think you are right on houses wont be built at least not unless the costs fall more than the depreciation of the present stock.
Consider the high price of oil will now keep the world in recession for decades....if not worse and longer.
Consider how far the US market has fallen so far, 30 to 40%. There are also huge Qs on how much property is on the banks books that should be out there in a mortgagee sale....this keeping prices up and of course the banks dont have then to book an actual loss.
Consider the drop, when its starts just what is going to stop it? (falling) 
Consider the state of the EU and its likely one or more PIIGS will exit and default, and Greece looks really son < 6months)....which will cause mayhem and fear....many EU banks will close or have to be nationalised......
In the USA many states are in equal dire straights except they cannot exit the Union.  Its looking likely that a Republican win is on the cards and then its bye bye helicopter Bernanke, hello austerity and then bye bye US economy....big time.
and some ppl dont think house prices will fall a long way.
Now try and counter balance all of the above with significant reasons why house prices will double in real terms as Oily thinks.....(and yes I think he's a slippery customer, but no not a shark).....even staying here is a hard ask IMHO.

steven, yes it is more complex than that, but the underlying drivers - and the same is true for any free market - are still supply & demand.
Consider what would happen to house prices here if the entire population left for Oz (we won't go into the odds on that!), and then consider what would happen if we let in 200,000 new immigrants next year. In that regard, it really is that simple.  The "rich" areas, as you call them, are more expensive because lots of people want to live there... demand... simple.
If you want evidence just browse around on TradeMe for a while, you'll find the popular areas are expensive and the unpopular areas are cheap.  There's plenty of houses on there for under $100k, but guess what? nobody wants to live there! everybody wants to live within spitting distance of the Auckland CBD - have you considered that just maybe that has an effect on prices?!!
The Great Depression, yes I've considered that, and I decided had I been alive then & bought a property or 3 against all the doomsters recommendations - I'm fairly certain that upon my death my children would have been quite happy with their inheritance!
There will always be booms, busts & crisis, but I've never met anyone who's regretted paying off a mortgage over 20 years or so leaving them with a freehold property.

A bed is looking like a good with a heavy mattress to hide my money under lol...

haha ergo, I don't know, haven't you heard of the bed price boom?? A decent one will cost you around $2,000 which was a whole years wages not so long ago...
I'd hold off and wait for the 50% crash that's just around the corner!.... ;)

Get one with no legs and you will not feel the shock as much when it collapses.

Socialist Policies for Dummies"...a soon to be released edition...the foundation policy will always be....promise whatever it takes to entice votes....if a CGT does the trick then so be it....if it's money for babies we can do that too...a free house for the 'needy' is always a winner...higher minimum wage is worth a shot every time...lower taxes for lower incomes harvests votes...we will govern the country for the benefit of all new Zealanders....harrrrrrrrrrrrrrrrhahaahaahaaaaaaa
Notice that they never ever never speak of reducing the govt splurge...of chopping off the red tape....that no mention is made of past failed socialist blunders....and always you should expect to be told that under a socialist govt employment will be created leading to growth and higher living standards...

The best thing about your comments Wolly, is they exhibit a definite sense of humour, but I was a bit confused by your reply last time I brought this up. Pardon my french, but is it not the job, the very raison d'etre, of the political parties to bribe as many voters as possible? You seem to be implying they ought to behave otherwise and its an affront that they do not.
Also, a CGT, free housing for the needy, or higher minimum wage or lower taxes for lower incomes don't seem like policies which would actually benefit the average voter. Seems like these policies would only attract votes if people felt some kind of altruistic urge. Doesn't that kind of undermine your left wing pork barrel politics narrative?

You expect logic from Wolly?
I read for the laugh.

I agree Ivan and the trouble is some people have a short or selective memory or perhaps both. I have never voted for them as all they do is create dependency in larger numbers making everyone worse off.   They target specific groups to offer assistance too and target other groups to do the paying and they never solved the real problems.  They implement copious amounts of compliance and they obviously hate private enterprise with a passion. The ramifications of their policies and legislation after their nine years of rule will be with NZ for a very long time and that is why many of our young and bright have left the country and continue to leave the country.

I'm sure the proponents of CGT are accountants and lawyers looking for business. The only taxes you can't avoid and are cheap and simple to collect are GST, land tax and financial transaction tax. Make them all 5% and do away with the rest
In the mean time I would tax trusts at a higher tax rate than companies and individuals. Lets see how much that extra asset protection and lack of transparency  is worth to people. I'm picking many trusts would evaporate.
Interesting that the US, that self proclaimed bastion of self reliance and individual liberty still has an inheritance tax, though the wealthy avoid it with trusts.

what about a flat tax rate on everything including trusts etc and no ability to claim anything off your taxes.
seems just about to easy apart from unemployed tax specialists and accountants.

Yep depreciation schedules and other tax deductions are the accounting profession's bread and butter. Most businesses wouldn't need them otherwise. A company either makes money for its owner(s) who pay tax on their earnings, or it doesn't, and they go out of business. Paper losses are meaningless except for tax minimisation.

So you'll eliminate depreciation, so that taxpayers can upfront deduct the full value of the asset they bought? And you think this will increase the tax take? WTF indeed.

what about a flat tax rate on everything including trusts etc and no ability to claim anything off your taxes.
seems just about to easy apart from unemployed tax specialists and accountants.