Capital Gains Tax - A testing issue

Currently in New Zealand we have a Clayton’s capital gains tax on investments especially on property.  If a property is bought for the intention of making a profit on sale, tax is supposedly paid on the difference between purchase price and sale price, being the capital gain.  If you are a builder or closely related to one, then it should apply regardless of intent. 

It is hard to imagine that anyone would purchase an investment property without the intention of making a profit, when they finally come to sell the property.  Similarly it is hard to imagine that people would buy shares without the intention of making a profit come the time to sell the shares.  That is, they make a profit on the realised gains from the investment. 

If it were only that simple.  Unfortunately the playing field is not level.  New Zealand unit trust investments currently face paying tax on unrealised gains on their investments.  In other words they pay tax before they even have the realised profits.  Currently direct share holders do not face this, and only relatively few pay tax on any realised gains or profits.  New Zealand investors in Australian unit trusts, only pay tax on the distributions that the trusts make, and these are effectively on realised gains.

To level the playing fields, it would have been very simple to adopt the same sort of procedure that is used for taxing the distributions of realised gains for unit trust holders and direct shareholders.  However the last budget made mention of forthcoming changes.  NZ unit trusts will no longer be subject to paying tax on non realised gains, instead tax would be paid on the distributions.  However unit trusts that hold assets outside of New Zealand will have to pay tax on unrealised profits.  Under this proposed regime, effectively the government is telling you where to invest if you do not want to be tax disadvantaged.  The major problem is the distortion of where investments are held, and what sort of investment is made. 

Effectively the current government has decided that there will be a capital gains tax on non New Zealand investments.  The Greens and Jim Anderton’s Progressive Party also appear to want New Zealanders to pay capital gains tax.  Unlike Labour, who are targeting offshore investment, they seem to be targeting property investments, an area where little in the way of tax is paid on capital gains.  Between these three parties, any capital gains tax could be all encompassing, which may not be good news especially for property investors.

Naturally any form of tax will decrease investment returns, and may also be a disincentive to invest.  The real difficulty with introducing a comprehensive capital gains tax on investments is that it may not be politically desirable to have people pay tax on unrealised gains.

We have always adopted the principle of not investing solely for tax purposes, as the investment returns may be unduly influenced by political interference with regard to taxation treatment.