Rethinking the Capital Gains Tax

Rethinking the Capital Gains Tax

We’re getting closer to the federal budget in May and there’s been headlines in the finance pages flagging some big tax changes in store for investors. While nothing’s locked in, the revisions are part of an ongoing discussion about how to boost productivity and make the housing market fairer in Australia - and one particular tax has been getting a lot of attention: Capital Gains Tax. So in this Squiz Shortcut we’ll look at:

• What Capital Gains Tax is

• The reasons the government is looking to revise it

• And what the reaction has been

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Squiz the Shortcut

OK, let’s back it up a bit - what’s Capital Gains Tax?
CGT (as the cool kids call it) isn’t actually a separate tax - it’s calculated as part of your income if you happen to sell an asset for more money than you paid for it. The sale of a house or property is one common way people make a capital gain - but it only applies to investment homes, rather than primary residences. So in short, if you sell the house you live in, you won’t be up for paying tax on a capital gain.

Got it. Is it just on investment properties?
Nope… CGT is also applied to things like shares, small businesses and even cryptocurrency. Basically, if you make a profit on the sale of an investment, that profit is your capital gain - and it gets added to your taxable income for that year. So, it’s kind of like a tax on profit. But an important point to note is that it’s not calculated on the whole sale price; just the gain.

Give me a quick example…
Sure.. If I bought shares for $10,000 and sold them for $15,000, the difference of $5,000 is the capital gain, which would be added to my other taxable income - like my salary - and then taxed at the applicable income tax rate. That’s the straightforward part. Now, for Aussie residents, there’s a discount that can be applied to the gain - and this is the aspect of CGT that’s currently under review.

Tell me more about the discount…
If you’re an Australian resident and you’ve held an investment asset for at least a year, you can apply a 50% discount to your capital gain. So in our shares example, you’d be adding $2,500 to your taxable income instead of $5,000. Now think about that in terms of a larger example - for instance, an investment property, taking into account property prices in Australia which are among the world’s most expensive. 

So the discounts amount to a lot of dosh…
Bingo… The discount adds up to a lot of tax dollars that the government is missing out on. 

When was CGT introduced?
The Hawke/Keating Labor Government introduced it in 1985 as a way to make the tax system fairer. Back then, we were one of the only countries not taxing people on the profits they made from selling assets. If you earned money as a salary, you had to pay tax, but if you made money by selling an asset for a profit, it was tax-free. Reports say a lot of wealthy people were taking advantage of the system by asking to be paid in assets instead of cash which they could then sell and keep all the profits. 

And when did the discount come in?
The Howard/Costello Liberal Government brought in the CGT discount in 1999 to encourage investment… But the measure is in the spotlight after several think tanks and economic organisations - including the Organisation for Economic Co-operation and Development - have said it’s gone too far the other way. They say it now over-compensates investors, with approximately 86% of the benefits flowing to the top 10% of earners in Oz.

What is the discount costing the government?
Figures show it’s costing around $20 billion per year. And with that in mind, the idea of ‘fairness’ is again being put up as one of the reasons for the government review. Some economists say that generous tax breaks for wealthy investors are keeping house prices high (because they act as incentives for people to buy and profit from existing homes, which keeps demand high), and that in turn means the property market stays out of reach for younger and first-home buyers. They also say the tax breaks are holding back our productivity…

Just explain that link…
Some experts have argued that the money that gets poured into existing houses for investments is effectively ‘stagnant’ - it stays there and doesn’t do much. Whereas, if people instead put their money into say, a new house that had to be built, or if they invested it in infrastructure projects or maybe a new business, that would stoke productivity through job creation and industry. This is why the CGT discount has been in the news lately - because the government’s number crunchers are modelling changes to that 50% discount to possibly reduce it… 

What are they proposing?
There have been reports in the Australian Financial Review, The Australian and The Guardian saying the government is looking at cutting the discount to 33% or even to 25%, so investors would only be exempt from paying tax on a third or a quarter of a capital gain instead of half. And the CGT isn’t the only piece of tax policy making headlines… 

What else is on the cards…?
Negative gearing could also be in line for some changes. And just to explain what negative gearing is, it allows people to deduct any losses made through their investment properties against their other income, which reduces their overall tax bill. So, for example, if someone owns an investment home and rents it out - if the rent doesn’t cover the mortgage and expenses, that shortfall comes off their tax bill.

OK, is there a limit to the number of properties investors can negatively gear?
Currently there’s no limit, but the government is considering capping it at 2… So, come May, investors could be in for a package deal along with changes to CGT… And just on that, there’s currently a Green’s-led Senate enquiry happening into the way the CGT discount operates. 

What is it looking at?
It’s keen to examine whether the discount is contributing to inequality in Australia, particularly in relation to housing - and it’s due to hand down a report on 17 March. But even though there’s plenty of supportive commentary around, this is risky political territory for the government, and Labor has been burned before by these policies… 

How so?
When former Labor leader Bill Shorten was in Opposition, he took changes to negative gearing and the capital gains tax discount to the 2016 and 2019 elections, and both times he failed to get over the line… Then, in the lead up to the 2022 election, Anthony Albanese (while still in opposition) threw the proposed changes out. 

What about now that he’s in government?
As we know, Albanese won the election in 2022, but last year after Treasury again ran some numbers, the PM decided not to press it with voters in the election, instead focusing on policies to increase the supply of new housing. Labor won last year’s poll convincingly, and there’s pressure mounting on the government to now use that dominance to put in place economic reforms, which are expected to be announced in the budget. 

What has the reaction been?
Well, for one thing, the planned changes aren’t likely to be popular with investors… Property Investment Professionals of Australia (PIPA) Vice Chair Richard Crabb says the CGT discount makes investing in property viable for mum and dad investors, who make up the majority of landlords in Oz (about 70%). He says discouraging those investors from the property market would likely put more pressure on an already tight rental supply - which could end up adding to the government’s housing headache.

And what are the chances of the government getting the changes past the Senate?
Coalition leader Angus Taylor says it would be “highly unlikely” they’d  support winding back either policy, but a number of crossbenchers and the Greens are onboard. And if it comes to the crunch, that’s all the government would need to get the changes through. 

Are the changes likely to be retrospective?
Nothing’s certain just yet, but reports say the government is looking to introduce the changes on future purchases rather than making them retrospective, or applicable to current investments.

So what’s next?
We’ll have to wait and see, but it could be a case of getting the popcorn ready on budget night - because even if you’ve never owned or sold an investment, experts say what happens with these taxes has implications for all of us because they’re so integral to property values - and in turn, rents… 

Onto our Recommendations

Reading: This piece by the Grattan Institute’s CEO Aruna Sathanapally discusses how the clock is ticking on the Albanese Government’s window to put in place reforms…

Reading: This story in realestate.com.au talks about the impacts of the proposed tax changes on investors and the housing market…

Canberra, here they come

Squiz Kids has launched a competition, ‘PM For A Day’, and we’re asking Aussie kids to send in a video explaining the one thing they would do to make Australia a better place. The winning prize is a trip for 2 to Canberra for a private tour of Parliament House, a meeting with the Governor General Sam Mostyn - and maybe even a meeting with the (actual) PM Anthony Albanese himself…

It’s all part of The Squiz’s commitment to digital literacy and civics engagement among the next generation. To find out more about the competition and how to enter, go to Squiz Kids - but hurry, entries close on 13 March.

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