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Capital gains tax is best of a bad bunch

Let's be honest. For certain elements of the Conservative Party, there is no tax rise that is acceptable.

The hostility being whipped up by some right-wingers towards proposals for higher capital gains tax rates would be equally vociferous if we were contemplating higher income taxes, business taxes or VAT (as we soon may be).

The difficulty for those opposed to higher CGT on non-business assets — shares, second homes and so on — is that the current 18 per cent rate sticks out like a sore thumb. Where the top rate of income tax is 50 per cent — or even 40 per cent as it was until the beginning of this financial year — it is intellectually incoherent to have a top rate of tax on gains that is so low. It isn't equitable and it encourages those with access to smart accountants to find ways to convert income into capital gains.

Nor should we fall for the superficial attractions of the sort of tapered rates of capital gains tax that those such as John Redwood are proposing. Why should you pay less tax on gains on an asset simply because you choose to hold on to it for an extended period?

The argument seems to be that “long-term” savers and investors are somehow more deserving of a lower tax bill than “speculators” who buy and sell over shorter timeframes. But though the word speculation has pejorative connotations these days, all this thesis really says is that saving for the future is a more worthy pursuit if you choose to sit on your investments for extended periods rather than to trade more actively.

Moreover, setting time thresholds beyond which tax bills come down distorts the decisions savers should be taking for investment reasons. Do you, say, hang on to a property for another six months in order to theoretically pay less tax even if you suspect a housing market downturn is imminent?

Some tinkering with the CGT rules will be needed if the rate is raised. For instance, it is not fair to tax people on gains made only because of inflation. The option of discounting for inflation was taken away when the CGT rate was cut to 18 per cent but, with a much higher level of tax, this concession should be reinstated. Similarly, the rules that prevent many directors of small companies classing their shares as business assets are too inflexible and need reform.

That said, there are already substantial CGT breaks available — not least the £10,100 of gains that everyone is entitled to make each year before any tax at all is due. Investment losses can be used to mitigate CGT bills — even carried forward from year to year — and there are endless tax-free savings schemes, from simple shelters such as individual savings accounts and private pensions to more sophisticated options such as venture capital trusts.

No one welcomes tax rises. In an ideal world we would eradicate the inconsistencies of income and capital gains tax rates by lowering the former. But this is not an ideal world. Even with huge spending cuts, we will need some tax rises too. If not CGT, then what?