Labor is teasing CGT reform in the May budget.
McKell has been strongly advocating for such a change for years, but in particular since last July, when our proposal for a tiered, housing-only CGT regime was released.
CGT reform is the clearest lever to pull for structural, economy-wide impacts on the housing market.
There is desire within the government for such reform. But despite Labor’s parliamentary dominance, landing a meaningful CGT reform won’t be easy.
Its path through the Senate requires either Greens or Coalition support.
The Greens will likely demand a flat 25 per cent, economy-wide reduction to the CGT discount.
Then there’s the Coalition, who in their gasp for relevance and a base will throw whatever they have in the tank at a CGT tax debate. Shadow Treasurer Ted O’Brien fired an opening salvo this week. His opinion piece in the AFR repeated stale tropes in what has become a deeply stale debate, claiming blankly that any change to the discount would be bad for supply and is a tax grab.
While they are distracted by leadership tussles, it’s tempting to dismiss the Coalition.
But they will do all in their power to trip up reform to CGT and use it as a binding agent as they fragment further. New leader Angus Taylor will be looking for an issue to articulate his values. And in any policy as significant as CGT discount reform, they will find windows of opportunity and loyal allies in the media resisting any change.
The two open doors for opponents to reform are clear: complexity, and a negative impact on housing supply.
Both can be navigated by a sound design and housing-focused argument, but should be taken seriously by the government and those pushing for change to the CGT discount.
Complexities risk becoming a debate quagmire
The blanket 50 per cent discount currently applies to all assets. With property comprising around 40 percent of total assets affected (investment property only, as primary residence is exempt), this means profits on all other asset sales across the economy would be subject to change should asset-blind reform be pursued. I am fine with this if it happens — as my colleague Alison Pennington recently wrote, we have a deeply unfair system where working incomes are now taxed much heavier than capital incomes, distorting incentives to work. Reform is overdue.
But the complexities associated with impacts on farmers, superannuation, trusts, dividends, and other proceeds of capital held by investors risks opening a quagmire in the CGT debate. There are risks that too heavy a reduction to the discount would disincentivise the dispensing of assets, slowing down transfers in certain investment classes as investors wait longer to achieve higher capital gains. These are navigable design complexities that would certainly arise during debate around an asset-blind reform to the CGT discount, but are issues unlikely to be resolved by May.
History has shown that under such pressure, this Labor government accedes and adjusts the scope of their reform appetite downward. We saw this on super tax changes.
Given the time required to find a path through this complexity, and the time we are losing on housing affordability, why wouldn’t we isolate this reform to housing from the outset?
About forty per cent of the tax expenditure of the CGT discount goes to housing, costing around $10bn a year. The entire rationale, and political opportunity, associated with changing the CGT regime this year is due to housing pressures. It therefore makes sense to clearly and unequivocally isolate proposed changes to housing only.
This is technically possible with amendments to the tax code that defines housing as a specific asset type subject to its own arrangements.
Focusing on housing only reform will neuter opposition arguments about complexity. And it will ensure that housing remains front and center in the debate around changes to the CGT discount.
Critics will claim CGT reform will harm supply, but this can be avoided
So if the complexity argument is struck down before it begins, the only other argument the Opposition will have is on housing supply.
This too can be countered in the policy design. There is no reason that we can’t reform the CGT discount to be positive for supply, by orienting or retaining existing incentives for new builds, and curtailing them for established houses.
Last year, McKell released a paper that explored a new path to CGT reform that did just this.
We intentionally crafted a circuit-breaker in this debate, injecting a new way forward that was positive for supply, revenue neutral, and still ensured that older properties would be subject to a smaller investment incentive.
Our proposal went further, exploring whether we could actually increase the incentive to build new attached dwellings, which was designed to shift both institutional and ‘mum and dad’ investment capital towards new medium and high density projects that are often starved of investment. This would have the additional benefit of withdrawing speculative capital from existing stock, ameliorating price and rental growth.
Our model was a thought experiment to identify what we could do as a country if we reoriented the tax expenditure associated with the CGT discount towards more productive ends. Importantly, we wanted to simply show you can have a more creative reform approach to the CGT discount than simply rehashing old proposals that haven’t ever materialised.
It showed that by reorienting these incentives, CGT reform can be positive for supply, revenue neutral, and place downward pressure on house price growth.
I’m agnostic on the final form of the CGT changes. In a perfect world, a universal reduction to 25 per cent or similar would be swiftly enacted. But that is unlikely to occur, especially by this year’s budget. So, instead, why not frame the debate to come from day one that neuters the political arguments that are certain to come, and addresses the pre-eminent issue that is housing.
A housing-only, supply-positive reform to the CGT discount is possible, politically feasible, and implementable within a short time frame. It wouldn’t preclude future CGT reform, would be up and running before the election, and would demonstrate that Labor is willing to do the big things needed to get housing right.
Ed Cavanough is CEO at the McKell Institute.
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