How does the Comprehensive Capital Income Tax work?

How does the Comprehensive Capital Income Tax work?

Gareth MorganTax and Welfare8 Comments

In June I released a report detailing my idea for a Comprehensive Capital Income Tax (CCIT). This reform would close the loopholes in the New Zealand tax system, eliminate speculation in the housing market and importantly improve the capital available for business. It would also raise a lot of money, which could be used to reduce other taxes.

How does the Comprehensive Capital Income Tax work?

Here’s an example of how a CCIT might work insofar as persons are concerned. This is not example of how it would apply to a business.

Let’s say the tax rate is 30%, the deemed income is 5%, and the lower threshold at which the tax applies is $100,000 per person. A minimum threshold or exemption for CCIT isn’t necessary, but it greatly reduces the number of people who would be subject to CCIT (no exemption means all 3.5million adults would need to be assessed each year, a $100k minimum would reduce that to 2 million, a $200k exemption to 1.5 million).

Now if we take a couple with a $350k house and a $50k mortgage, then the CCIT applicable is as follows;

Equity in house = $350k – $50k = $300k

House is jointly owned so lower threshold = 2 * $100k = $200k

Value of asset to which CCIT applies = $300k – $200k = $100k

Deemed taxable income = 5% *$100k = $5,000

Tax on deemed income = 30% * $5,000 = $1,500 per annum

A lot of people ask if they can write off expenses such as depreciation upkeep or interest costs for a rented or owner-occupied dwelling. Under the CCIT this wouldn’t be allowable; the whole idea is that an investment should generate at least the risk free rate of return (5%) after expenses.

Now remember that CCIT expands the tax base only, it is not an increase in taxation overall. So it’s “matched” by a cut in tax rates – not one dollar of additional tax is being raised. The government of the day would decide how that is done, but for the purposes of illustration let’s assume it’s just a cut in tax rates across the board – so an equal cut in all tax rates.

My estimate is that a CCIT of this magnitude would reap about $6bn in additional tax on an income tax base that currently provides government with $30bn pa. So that’s enables a cut in all tax rates of 6/30 or 20%.

Back to the example above then. Let’s say the family above has one income of $70,000 per annum. The current tax on that is $14,000 or 20%. Now a 20% cut in tax rates would see that tax burden drop by $2,800 to $11,200.

So while the couple pays an additional tax of $1,500 on their owner occupied house, they save $2,800 on the rest of their income tax. They are ahead.

Now let’s look at the impact of this on some rich dude like me.

I have a home worth say $4m with no mortgage. It’s jointly owned let’s say (it’s not but I’ll deal with Trusts elsewhere) with my wife.

Equity in house = $4,000,000

House is jointly owned so lower threshold = 2 * $100k = $200k

Value of asset to which CCIT applies = $4m – $200k = $3.8m

Deemed taxable income = 5% *$3.8m = $190,000

Tax on deemed income = 30% * $190,000 = $57,000 per annum

Our current taxable income (let’s say) is $230k, all earned by me. Tax on that currently is $67k or 29%. A 20% tax cut would reduce that tax by $13,400.

So we pay an additional tax of $57,000 pa on the house but save $13,400pa from the overall cut in tax rates. We are worse off by $43,600 pa.

The issue then comes down to whether the status quo is fair. That status quo sees me enjoying tax free the benefits of living in a $4m house whereas the tax free benefit the couple get is from their $350k house. Now this is not an argument about whether we should all be the same – it has nothing to do with that. The question is whether by virtue of having more money I should compound that financial advantage via the tax loophole on rental benefit. We get much more gain from the loophole than the other couple do.

Let’s put it another way – if their $300k was in a bank deposit and so was our $4m – we’d both get taxed on the interest from that. We’d still be better off, but the tax regime wouldn’t amplify that advantage. To the extent we all choose to buy houses (one or more, larger rather than smaller) rather than bank deposits because of the tax break is the anomaly that needs addressing. It is especially pertinent given that 90% of New Zealanders are closer to the situation above of the couple, than to the one I enjoy.

Finally, a note on trusts.

The above example is for joint ownership with the owners using their personal exemption to minimise their CCIT liability. What if a trust owns the house or there are more than two owners? My approach would be to not allow the personal CCIT exemption (if indeed one was even favoured) to apply in those cases.

The reaction of many people to the idea of having their house taxed is one of incredulity. But they don’t realise that these tax loopholes are exploited by the rich far more than by the middle and working class. Therefore a Comprehensive Capital Income Tax – even levied at a flat rate – would be an incredibly progressive change to our income tax regime.

How does the Comprehensive Capital Income Tax work? was last modified: August 15th, 2016 by Gareth Morgan
About the Author

Gareth Morgan

Facebook Twitter

Gareth Morgan is a New Zealand economist and commentator on public policy who in previous lives has been in business as an economic consultant, funds manager, and professional company director. He is also a motorcycle adventurer and philanthropist. Gareth and his wife Joanne have a charitable foundation, the Morgan Foundation, which has three main stands of philanthropic endeavour – public interest research, conservation and social investment.

8 Comments on “How does the Comprehensive Capital Income Tax work?”

  1. “Let’s say the family above has one income of $70,000 per annum”

    What if they’re a single person on a low fixed income – retired or disabled or long-term sick or just poor? How is the CCIT calculated in such a case? You can’t expect them to pay the same tax given that they have much less income to pay it with? Would they receive benefits to pay the tax with or would their CCIT tax be reduced in line with their ability to pay?

    1. They may not have much income, but given Gareth’s example they do have over $100k as an asset, and the ability to sell/use it.

    2. The CCIT is based on the equity and is roughly just less than 2% of the equity. If you have a mortgage of 100% of the value of the property, you pay no CCIT on that property.Gareth has always framed the CCIT in terms of a UBI to accompany it. A CCIT amounts to about 2% of equity in any property. But combined with the UBI you have to have over (12K/2%) 600K of equity for a single person and $1.2M if you are couple to be worse off.
      With a large broadening of the tax based, primarily amongst the tax ‘efficient’ asset rich, there is ample scope to transition many existing welfare arrangements so that people aren’t put on the streets.

      1. That doesn’t really answer my question: so the CCIT runs around 2% of the equity. How is the amount of tax actually payable adjusted to take account of the circumstances and income of the individual property owner? That detail of the implementation has never been made clear and this isn’t the first time I’ve asked in these discussions.

        (let’s assume there’s no mortgage for simplicity; we may often be dealing with people or families who have paid any mortgage decades or even generations ago and are now simply living on what may perhaps be a large and/or valuable section on a low and/or fixed income)

        And I don’t see the relevance of the UBI. Now that’s not a bad concept in itself – but I don’t see the link between it and the calculation and payment of this CCIT. What’s the point of giving UBI with one hand and clawing it back in CCIT with the other hand in some cases?

        1. ‘What’s the point of giving UBI with one hand and clawing it back in CCIT with the other hand in some cases?’
          It ensures that the tax is paid in the first place. Do you realise that historically or at least anecdotally, half the top 100 by wealth in NZ don’t even pay tax in the top tax bracket. This clearly demonstrates the shenanigans that goes on with tax accountants and legal entities to avoid paying tax.
          “How is the amount of tax actually payable adjusted to take account of
          the circumstances and income of the individual property owner?”.
          If your individual circumstances mean you have locked up all your equity in a house and you have no income earning assets, then to pay your CCIT, you will need to downsize the house. Do you seriously think it is fair or equitable for someone sitting on $1-2M of mortgage free property to expect the rest of the tax payer base to carry them?
          The UBI is extremely relevant because it offsets the CCIT tax for middle class New Zealanders and helps to heal the rift that is occurring between middle class NZers and welfare recipients.

  2. If I’m going to be taxed on a deemed 5% return, then I’ll be reluctant to put my money in the bank or anywhere else that earns less than 5%. 1) This will encourage/force people to take a bigger risk than they may be comfortable with to get a sufficient return. Or it may encourage them to spend it instead. 2) It may encourage people to buy a bigger/nicer house to least get a benefit from having to pay the tax. I wonder if it may actually increase speculation/investment in housing.

    Maybe the deemed return for certain investments such as bank deposits and government bonds could be capped at the actual return of the investment. But that would just be the start of exceptions that would end up being added.

  3. Not sure if I missed it, but I’m assuming CV value is used for house value….
    ran some numbers for my example..
    House $700k cv – $1m market value
    Mortgage $500k
    less $100k exemption (single)

    CCIT of $5k on $100k equity @ 5%

    Tax 30% on $100k Salary = $30k
    less 20% = $24k

    Tax relief value $6k
    less CCIT $5k

    Better off $1k..

    Now if I didn’t own a home I’d be $6k better off.. (combined with lower avg house price over time..this is a winner)
    If I had a partner who earned nothing…
    Zero CCIT – net benefit of reduced tax = $6k ?

    If I had a partner who earned $100k also.
    Net benefit via reduced tax $12k ?

    If I didn’t own a house net benefit via reduced tax $6k ?

    If I earned twice as much, net benefit $7k via reduced tax…

    Of course if the bank valuation number is used the numbers change.
    My 2 cents..
    Broaden the tax base, focus investment to productive areas of economy, Tick….
    Combined with UBI this looks like a winner to me, reduce the bureaucracy, allow people to live in dignity… cut WINZ and the govt bill in half…
    Go some way to healing the massive split in our society thats hatched in the last 5 years….
    normalise the housing market, and allow people the choice of home ownership…and a real hope for their future..and their families..

Leave a Reply

Your email address will not be published. Required fields are marked *