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The Taxation of Capital Gains: An Economic Analysis
Published online by Cambridge University Press: 07 November 2014
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Few areas of taxation have been the subject of more controversy than capital gains and losses. In some countries, Canada for example, capital gains are excluded from the concept of taxable income, while in others such gains are partially excluded or are subjected to preferential tax rates. This article is divided into two parts. The first deals with the economic nature of capital gains and the relation of these gains to ordinary income. The second examines critically the arguments for and against the taxation of such gains. Basically, it will be argued that there is no fundamental fiscal difference between capital gains and “ordinary” income which could justify preferential tax treatment of the former. While the two types of personal economic accretion exhibit superficial distinctions, these are of little, if any, relevance from the standpoint of the income tax. It is admitted that more complete taxation of capital gains will present some complications. While the problems are suggested, their solutions are properly left to the lawyer, accountant, and legislator. Suffice it to say that solutions exist.
The conceptual distinction between capital gains and ordinary income has been described as follows:
In both law and common speech, capital gains are generally regarded as the profits realized from increases in the market value of any assets that are not a part of the owner's stock-in-trade or that he does not regularly offer for sale; and capital losses, as the losses realized from declines in the market value of such assets. Ordinary profits and losses, in contrast, are realized on the sale of goods and services that are a part of the seller's stock-in-trade or that he regularly offers for sale.
- Type
- Research Article
- Information
- Canadian Journal of Economics and Political Science/Revue canadienne de economiques et science politique , Volume 28 , Issue 2 , May 1962 , pp. 235 - 244
- Copyright
- Copyright © Canadian Political Science Association 1962
References
1 For a historical treatment see Goffman, Irving J., “The Tax Treatment of Capital Gains in Canada,” National Tax Journal, XIV, no. 4, 12, 1961, 356–62.Google Scholar
2 Seltzer, Lawrence H., The Nature and Tax Treatment of Capital Gains and Losses (New York, 1951), 3.Google Scholar
3 The reader is not to infer from this that values of land and stocks have moved only in an upward direction. Capital losses are not a rare phenomenon, and more cases of this nature can probably be cited than of those mentioned above.
4 Cf. Pigou, A. C., A Study in Public Finance (3rd and rev. ed., London, 1947), 156 Google Scholar; Hicks, J. R., Value and Capital (Oxford, 1939), chap, XIVGoogle Scholar; Myrdal, Gunnar, Monetary Equilibrium (London, 1939), 59–62 Google Scholar; Keynes, J. M., The General Theory of Employment, Interest and Money (New York, 1936), 52–61.Google Scholar
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20 Actually, the funds can be diverted from current consumption rather than current saving. However, it seems reasonable to suppose that unexpected receipts are not counted on to meet ordinary consumption, nor are the consumption habits of the recipient likely to rise immediately to absorb them.
21 There is one limited exception, the case of a tax which is so high as to absorb the funds necessary to maintain the property and allow for its replacement.
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28 See, for example, the Supreme Court's decision in Eisner v. Macomber, 252 U.S. 189 (1920).
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31 While our present study leads us to the conclusion that capital gains, by virtue of their economic nature, ought to be taxed as ordinary income in order to establish an equitable tax structure, other objectives might lead to different conclusions. For example, it has been argued that regardless of equity, the taxation of such gains freezes investors in existing investments, and hence would impair economic growth. This has been referred to as the “locked-in” problem and has been a subject of controversy among economists for some time. In support of this position see Somers, H. M., “Reconsideration of the Capital Gains Tax,” National Tax Journal, XIII, no. 4, 12, 1960, 289–309.Google Scholar For a criticism of this contention, see Richman, R. L., “Reconsideration of the Capital Gains Tax-A Comment,” National Tax Journal, XIV, no. 4, 12, 1961, 402–4Google Scholar, and Gemmill, R. F., “The Effect of the Capital Gains Tax on Asset Prices,” National Tax Journal, IX, no. 4, 12, 1956, 289–301.Google Scholar This issue has been excluded from the present study because it is not directly within the sphere of the income tax as a source of revenue. Its significance comes to the fore when one considers tax policy within a broader framework such as its influence on secular growth. Such an objective is not undesirable, but our present study is concerned only with the revenue and equity objectives of taxation.