Capital Gain Tax and Exemptions
In this report, an attempt is made to discuss the capital gain tax main residence exemption. In addition to this, the report also discusses the main reason for which the exemption should be abolished. The Australia is one of the highly taxed countries. In Australia, a taxpayer is required to pay the individual income taxes. One of the important components of the individual income tax is the capital gain tax. The capital gain tax is applied in Australia in accordance with the income tax laws and rules (Jones 2015). The report briefly focuses on the capital gain taxes and the exemption that is allowed for the transfer of the main residence. The main aim of this report is to discuss the reasons for abolishing the capital gain tax exemption for the main residence.
The section 100-35 of the Income Tax Assessment Act 1997 states that if the amount received from the CGT event is more than the costs of the assets then it is a capital gain. On the other hand, if the amount received from the CGT event is less than the costs of the assets then it is a capital loss (Vann 2016). The section 100-20 of the ITAA 1997 states that capital gain tax is attracted if it is a CGT event. The CGT event includes selling of the CGT assets. There are few of examples of CGT assets given in the section 100-25 of the ITAA 1997 to describe the meaning of the CGT assets. This includes some commonly known assets like building, shares, goodwill, contractual rights etc. The capital gain made from selling of the CGT assets should be included in the assessable income of the taxpayer as per section 102-5 of the ITAA 1997. The capital should be reduced by any capital loss made during the year. If there is any capital loss of the previous year then it should be adjusted against the capital gain of the current year. The section 102-22 of the ITAA 1997 states that there are two different methods of calculating the capital gain or loss. These two methods are indexation method and the discounting method (Becker et al. 2015).
The Division 118 of the ITAA 1997 provides various exemptions from the capital gain tax. The subdivision 118B provides exemption related to the capital gain exemption for the main residence. The section 118-10 of the ITAA 1997 states that if an individual makes capital gain or loss from the sale of the CGT assets then it is disregarded provided the assets was the main residence of dwelling for the individual (Evans et al. 2015). Therefore, it is important to determine whether the dwelling is the main residence because the capital gain tax is exempted. The factors that are responsible for determining whether a dwelling is the main residence, this are:
- The length of time that is lived in the dwelling;
- If the family and the taxpayer lives in the dwelling;
- The intention of the occupying the dwelling house;
Reasons for Abolishing the Main Residence Exemption
The capital gain exemption for the main residence should be abolished and the arguments in favor is discussed in this section of the report. In Australia, the capital gain tax exemption for the main residence is the largest tax concessions that are given to the taxpayers. It has been historically seen that this concessions costs around $46 billion and it is expected to cost $189 over the period of next four years. It has been seen that the costs of the main residence exemption is more than the defense, education or Medicare (Schellekens 2014). In 2014, the government tried to reduce the deficit by cutting spending. The proposal of the reducing the budget deficit only by cutting the spending is rejected by both the parliament and the public. The government will not be able to reduce the budget deficit reduce should look for avenues for increasing revenues cannot reduce the current. The government can significantly improves its revenue if the tax concession provided for the main residence is abolished. Therefore, it can be said that one of the main reason for abolishing the CGT, main residence exemption is to reduce the budget deficit of the government (Boadway 2015).
The right incentives should be provided so that the peoples are encouraged to production in the economy. It is assumed in the economics that the production will lead to consumption and hence the wellbeing will be increased (Feld et al. 2016). In case of capital gain, earning is made from increase in value so from the prospective of the economy it is a less useful form of income. This should not be implied that the earnings from the capital gain should be discouraged however, it should be noted that the earnings from the production and wages is more productive. The capital gain from the sale of the main residence is tax-free so the excessive incentive for for capital gain can distort the market (Larrimore et al. 2016). This can create a bubble where the assets are overvalued because the individual buy the assets for continuous increase in value rather than the main value of the assets. Therefore it can be said that the exemption can crease bubble that can crash and cause damage to both the individual and the economy.
The model commissioned by the income tax institute shows that the low-income households gets almost no benefit from the tax break. Whereas the 90% of the benefit goes to the high-income earners and the low income earners only get 11% of the benefits. In 2015-16, the main residence exemption was $46 billion that means only 10% of the household has received the incentive worth $17.1 billion. The top 20% got the incentives worth $25.1 billion whereas the bottom 30% got incentive worth $2.3 billion. Those that rents the house do not receive the concession and they are the low-income household (Feld et al. 2016). The prices of the houses are continuously rising as result it is becoming more difficult for the low-income household for purchasing their own house. This will further concentrate the benefit of the main residence exemption in the hands of the high-income households. It can be seen that the distribution of the main residence exemption is inequitable.
Economic and Equity Justifications for Abolishing the Exemption
The primary residence exemption for capital gain should be removed, as there is a strong economic case against the capital gain tax. The exemption causes distortion in the decision for making the investments. The exemption will encourage investing more in the main residence and less in other assets. This increase in investments for making gain from the increase in valuation of the property will increase price there by creating a property bubble. If the exemption is evaluated from the prospective of equity then also the exemption should be removed. It has been seen that the main beneficiary from this exemption are the high-income earners (Looney and Moore 2016). The proportion of benefits that the low-income earning household derives from this concession is extremely low. Therefore, on the ground of equity the exemption should be removed.
It is recommended that if it is not possible for completely abolishing the exemption then it is recommended that the exemption should be granted for the house that are sold worth less than the $2 million. In this case, a high-income earner selling the property more than $2 million and making capital gain will have to pay tax (Nel 2016). This will have an advantage, as the government will be able to raise revenue from the individuals that can afford the tax. It has also been seen that there is only one percent of the taxpayers that occupies house for more than $2million. The model of the NATSEM has shown that if the exemption for the primary residence is restricted to houses worth less than the 2 million then the government will be able to generate revenue of $2.9 billion and for the four-year period an extra revenue of $11.8 billion.
The revenue after the concession is limited to house that has value less than $2 million. It can be seen that more than half of the additional revenue is generated from the 10% of the household. Therefore, it suggested that the recommendation should be implemented (McLaren 2014).
Conclusion
The discussion above has shown that if the CGT exemption for main residence is removed then the government will generate an additional revenue of $ 2million or more. The removal of the tax concession can be justified on the ground of equity and economic reasons. There cannot be any justification for the continuation of the CGT exemption. If the policy change is implemented then only one percent of the housing sales will be impacted but the additional revenue generated will be $11.8 billion dollars for the next four years. Therefore if the government plans to reduce the budget deficit and promote equity then the CGT main residence exemption should be abolished.
Reference
Becker, J., Reimer, E. and Rust, A., 2015. Klaus Vogel on Double Taxation Conventions. Kluwer Law International.
Boadway, R., 2015. Tax Policy for a Rent-Rich Economy. Canadian Public Policy, 41(4), pp.253-264.
Evans, C., Minas, J. and Lim, Y., 2015. Taxing personal capital gains in Australia: an alternative way forward.
Feld, L.P., Ruf, M., Schreiber, U., Todtenhaupt, M. and Voget, J., 2016. Taxing away M&A: The effect of corporate capital gains taxes on acquisition activity.
Jones, S., 2015. Your primary residence and CGT: capital gains tax. Tax Breaks Newsletter, 2015(351), pp.5-6.
Larrimore, J., Burkhauser, R.V., Auten, G. and Armour, P., 2016. Recent Trends in US Top Income Shares in Tax Record Data Using More Comprehensive Measures of Income Including Accrued Capital Gains (No. w23007). National Bureau of Economic Research.
Looney, A. and Moore, K.B., 2016. Changes in the Distribution of After?Tax Wealth in the US: Has Income Tax Policy Increased Wealth Inequality?. Fiscal Studies, 37(1), pp.77-104.
McLaren, J., 2014. A uniform land tax in Australia: what is the potential for this to be a reality post the Henry Tax Review. Austl. Tax F., 29, p.43.
Nel, P., 2016. Primary residences, rental income, and tax: income tax. Tax Breaks Newsletter, 2016(366), pp.2-3.
Schellekens, M., 2014. European Tax Handbook 2014. IBFD Publications.
Vann, R.J., 2016. Hybrid Entities in Australia: Resource Capital Fund III LP Case.
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