Reforming Australia’s 50 per cent capital gains tax discount incrementally

This article considers concerns about Australia’s capital gains tax (CGT) discount (providing generally for a 50 per cent discount on taxation of gains of resident taxpayers other than companies from disposal of assets held for more than 12 months) related to fiscal adequacy, and horizontal and vertical equity. We argue that, based on these concerns, there is a case for reform of the CGT discount. In considering reforms, there are two broad choices available to policy-makers. The CGT discount could be reformed by way of an incremental approach or, in the alternative, through its complete removal and replacement with new provisions. In this article, we argue that it may be more pragmatic to adopt the former approach. In the case of the CGT discount, an appropriate incremental reform would be to change the rate of the discount and introduce a non-cumulative annual CGT discount cap. Although there are arguments for abolishing the CGT discount and reverting to the taxation of capital gains at full marginal tax rates, this may be difficult to achieve in practice. The incremental approach has been used successfully in previous tax reforms in Australia and this type of reform does not preclude policy-makers from pursuing the taxation of capital gains at marginal tax rates as a longer-term policy goal. We argue that well-executed incremental reform can help avoid grandfathering of the former provisions and, in turn, avoid the complexity associated with such a rule.