Practitioners' views on alternative capital gain tax structures for New Zealand
Alvin (M.H.) Cheng1 and Sue (S.E.) Yong2
ABSTRACT
New Zealand is one of the few OECD countries at present that does not have a
comprehensive capital gains tax (CGT). In the last decade, there has been much debate and
several attempts to introduce a CGT but with no success. This is largely due to the complexity
of the tax itself with strong public resistance towards it. The aim of the current research is to
study the tax practitioners’ views regarding alternative forms of a CGT. The findings indicate
that tax practitioners generally do not support a CGT regime and are especially opposed to
an accrual-based CGT.
1
Unitec Institute of Technology
Email: acheng@unitec.ac.nz
2
School of Business, Auckland University of Technology
Email: sue.yong@aut.ac.nz
Keywords: Capital gains taxation, mixed methods, New Zealand Taxation
1
Introduction
Under New Zealand tax legislation, the terms “income” and “capital gain” are not
exhaustively defined. However, Part C of the Income Tax Act 2007 provides considerable
guidance as to what is to be included as income for tax purposes. Part C lists a number of
general categories of income, such as business income, income from property, royalties,
interest, dividends and various types of gains. Added to this, there are 10 or more specific
subsections of the Income Tax Act which capture a wide range of potential capital gains such
as income from land sales, income from the disposition of personal property, and all gains by
holders of debt instruments. In addition, there is a “catch-all” provision in section CA 1(2)
which captures all income under ordinary concepts. The meaning of ordinary concepts
requires reliance on common law principles (Alley & Maples, 2006). The result is that New
Zealand currently has a hybrid approach towards the taxation of capital gains (CGT) (Burman
& White, 2003).
The lack of a comprehensive CGT regime has attracted much criticism from academics,
politicians and the public. In response to those criticisms, the New Zealand government has
made several attempts to address the capital gains debate. The first was in 2001 by the
McLeod Committee (McLeod Committee, 2001), the second in 2005 was the release of the
Taxation of Investment Income discussion document (New Zealand Government, 2005), and
in 2009 the Tax Workings Group was formed (Tax Working Group, 2010).
The McLeod Committee (2001) acknowledged there were problems associated with not
having a comprehensive CGT but felt that the complexity and compliance problems
associated with implementing a CGT far outweighs the benefits. Instead of recommending a
2
CGT regime, they suggested incremental policy changes to eliminate the current flaws in the
system. The consequence of the discussion document on the Taxation of Investment Income
(New Zealand Government, 2005) resulted in two major tax reforms in New Zealand relating
to the exemption of capital gains on investments in New Zealand and certain Australian-listed
shares and the introduction of a tax on the „fair dividend‟ rate of return on other foreign
investments. The intention of the reforms was to align the tax treatment between portfolio
investment entities (such as managed funds) and individual taxpayers‟ direct investment.
However, because of the non taxable nature of gains made from property investments, the
differential treatment between domestic and foreign investments created further distortions in
the New Zealand hybrid tax system.
The Tax Working Group acknowledged the existence of many problems inherent in the
current taxation of capital in New Zealand. It considered several base-broadening solutions
including introducing a CGT, imposing a land tax, and taxing the risk free return on
residential investment property. In evaluating these alternatives, the group first acknowledged
that a CGT could be an attractive option because of the comprehensiveness of such a tax.
However, the group expressed concern that the introduction of a CGT could pose “practical
challenges and efficiency implications” (Tax Working Group, 2010, p.66). In particular, it
mentioned concerns about the complexity of a CGT, the CGT treatment of owner-occupied
housing, and the lock-in effects of a realisation-based CGT. Given that, the Tax Working
Group finally concluded that it would not support the introduction of a CGT.
The main rationale given for the failure of the three attempts to introduce a CGT in New
Zealand was the complexity of administering the tax regime. If such is the case, the question
remains why other countries have a CGT regime despite the inherent complexity? To probe
3
the issue further we sought out the views of a powerful lobby group for tax policies: tax
practitioners. This study gathered the perceptions of tax practitioners on CGT issues by
sending surveys to 507 tax practitioners in 2005.
Realisation- versus Accrual-based Taxation
An overwhelming majority of the OECD countries have in place some form of general CGT
regime. These countries‟ CGT systems are based on realised capital gains instead of
comprehensive accrual-based gains. In general, these countries‟ tax systems can be
characterised as having either “semi-comprehensive” tax systems (where capital gains are
taxed at progressive rates – the same as ordinary income) or “semi-dual” tax systems (where
capital gains are taxed at a lower, flat tax rate) (OECD, 2006a, p. 84). Moreover, some
countries (such as the United States) have a stepped rate whereby the tax rate for capital gains
decreases with the increase in the holding period. Some countries (like Ireland) have a flat
rate while others (such as Australia and Canada) use a discount system for taxing capital
gains (Australian Government, 2006, p. 206).
Though most OECD countries have adopted a realisation based CGT regime, there are
problems associated with the implementation and administration of the regime. It is argued
that such a tax structure distorts market and taxpayers‟ behaviour because of the lock-in
effect and the bunching effect (Singleton, 2003).
The lock-in effect of a CGT refers to the increased reluctance taxpayers have for selling
capital assets. Taxpayers who have assets with a capital gain can avoid paying tax as long as
4
they don‟t sell the asset. In this sense they are psychologically „locked in‟ to holding the asset
for long periods. At the extreme, a CGT on a person‟s home could discourage people from
moving to take up new employment since the tax payment on the sale of their home would
mean losses to them. Sandford (1967) revealed that the lock-in effect would result in a loss of
economic efficiency as the tax might restrict the more economic use of assets.
On the other hand, the “bunching effect” affects certain taxpayers‟ income by significantly
alleviating their incomes due to property disposals made during the year. Under a progress
tax system, taxpayers may have to pay the CGT at a higher marginal tax rate because of the
„bunched‟ gain (Ross & Burgess, 1996).
There are several theoretical grounds to support the introduction of an accrual-based CGT.
An accrual-based system taxes capital gains at the same effective rate across all investment
types thus providing neutrality to the tax system. However, accrual taxation is difficult to
implement in practice due to its valuation and liquidity problems. In fact, no country has
applied an accrual-based comprehensive CGT and therefore most capital gains are taxed on a
realisation-basis (OECD, 2006b). However, New Zealand is one of two OECD countries
(other than Australia) that applies a partial accrual taxation on certain asset classes such as
expected gains on corporate bonds. Thus New Zealand might be open to considering an
accrual-based CGT.
Research Method
5
The survey targeted tax practitioners with sound working knowledge of the New Zealand tax
system. These practitioners include tax accountants, tax agents and tax lawyers with three or
more years of working experience. A request was sent to the Tax Agents‟ Institute of New
Zealand and the New Zealand Institute of Chartered Accountants (NZICA) to secure tax
practitioners for this research. The professional bodies assisted by providing the web
addresses for their members‟ databases. These databases are freely accessible by the public as
they are designed to assist potential clients in search of new tax agents. Other sources for
securing tax practitioners were obtained via the websites of major accounting and law firms
in New Zealand namely, KPMG, Deloittes, PricewaterhouseCoopers, Ernst & Young, BDO
Spicers and Chapman Tripp. As a result, a total of 507 tax practitioners were included in the
survey sample.
The surveys were mailed to the tax practitioners in October and November 2005. In total, 170
responses were received. 23 declined to participate in the research. As a result, 147
completed surveys were used for data analysis yielding a response rate of 29%. This response
rate is comparable to those achieved by other tax surveys. For example, a large postal survey
of 16,000 conducted by Inland Revenue achieved a 29% response rate (Oxley, 1993). In
addition, Evans (2003) who surveyed 667 tax experts in Australia and the United Kingdom
also achieved a 29% response rate. A survey of 600 small businesses conducted by Arthur
Andersen & Co (1985) only achieved a 7% response rate. The low response rate may be
attributable to the perceived sensitivity of the tax topics in the Andersen survey.
Of the total 147 respondents, 77% (n=113) were males and 23% (n=34) were females. The
geographic locations of the respondents were well distributed across New Zealand. Most of
the respondents were registered tax agents and members of NZICA, Certified Public
6
Accountants, the Taxation Institute of New Zealand and the New Zealand Law Society. In
addition, two thirds of the respondents had tax working experience of more than 10 years.
Results
The survey participants were asked to rate their level of support for three tax systems: the
status quo tax system, a comprehensive realisation-based CGT or a comprehensive accrualbased CGT). They were asked to use a five point Likert scale (ranging from strongly
disagree, with a value of one, to strongly agree, with a value of five).
Status quo tax system
Comprehensive realisation based
CGT
Comprehensive accrual based
CGT
Mean
4.1
2.8
*Level of support
Median
5
3
Mode
5
1
1.5
1
1
The respondents strongly supported the status quo tax system with a median score of five, a
mode of five and a mean of 4.1. They were neutral about a comprehensive realisation-based
CGT (median, three, mean, 2.8). The respondents expressed almost no support for an accrualbased CGT (median and mode 1.0 and mean 1.5).
To further examine their perceptions of a CGT, this study investigated tax practitioners‟
opinions on the wisdom of taxing capital gains on 14 types of assets. Answers were given in a
Yes/No format. Also the respondents sometimes provided additional feedback by writing
their comment beside a particular question. The result is shown in Table 1.
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Practitioners’ Views on Taxing Capital Gains on 14 Types of Assets
Frequencies (%)
Table 1
CGT asset
Yes
No

Business goodwill
38.6
61.4

Collectables e.g. jewellery, stamps
27.6
72.4

Copyrights and patents
48.6
51.4

Debt owed to a taxpayer
30.8
69.2

Farms
49.3
50.7

Land improvements
55.6
44.4

Listed bonds and capital notes
54.2
45.8

Personal-use property e.g. home appliance, private car
4.8
95.2

Private home (main residence)
6.2
93.8

Rental home
60.7
39.3

Second home e.g. beach house
40.3
59.7

Shares in a listed company
51
49

Shares in a small company (non-listed)
38.2
61.8

Share rights and options
49.3
50.7
Since the majority of respondents opposed the introduction of a comprehensive CGT, it is not
surprising to find that most of the respondents answered “No” to most of the listed assets. In
particular, over 90% of the respondents opposed the inclusion of personal-use property
(95.2%) and main residence (93.8%). For the remaining options, the majority of them wanted
exemptions, except for copyrights (48.6%), farms (49.3%), shares in a listed company (51%)
and share options (49.3%).
In regard to the valuation problems, the respondents were asked to express an opinion on
whether objective market values were obtainable for nine types of CGT assets. The answers
were given in a five point Likert scale format with a range of one to five, where one stands
for strongly disagree and five for strongly agree. The respondents generally agreed (with
medians of four and above) that an objective market price is obtainable for more than half of
the asset classes. However, a number of assets are also deemed to not have easily obtainable
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market values. These are: collectibles, intangible assets, personal use of property and shares
in private companies. The result is shown in Table 2.
Table 2
Asset Valuation
Do you think an objective market price is obtainable for the Mean*
following assets?
Median*
Mode*

Commercial property
3.45
4
4

Collectibles e.g. jewellery, stamps
2.46
2
1

Farms
3.31
4
4

Financial instruments e.g. bonds and capital notes
3.58
4
4

Intangible assets e.g. patents and copyright
2.3
2
1

Personal-use property e.g. private car
2.47
2
1

Residential property
3.22
4
4

Shares in a listed company
3.69
4
5

Shares in a small company (non-listed)
2.46
2
2
Another plausible reason for the strong opposition against a comprehensive, accrual-based
CGT is the potential for increased compliance costs, liquidity problems and the interpretation
surrounding the CGT legislation. When asked if taxpayers will suffer liquidity problems, the
respondents strongly agreed (median five) that that would be case.
Tax practitioners acknowledged that there were problems if capital gains were not taxed
comprehensively. Although most of the respondents opposed a CGT, the results from the
survey showed a general awareness of the tax planning potential for tax practitioners if a
CGT was not introduced (median four). However, most of the respondents were uncertain
(median three) about the issues of double taxation and the beneficial effects from the
introduction of a CGT. Common benefits attributed to implementing a CGT include the
protection of the income tax base and the distinction made between income and capital gains.
The result is shown in Table 3.
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Table 3.
Questions
Attitude Score on General CGT Issues
Mean
Median
Mode
1. The absence of any CGT in New Zealand provides
significant opportunities for tax planning
3.92
4
4
2. CGT is double taxing investors as the money they
invest in a business has already been taxed
3. CGT will raise revenue for the government if only
by protecting the income tax base
4. Taxing capital gains will clarify (and possibly
remove) the distinction between capital gains and
income, therefore it reduces the uncertainty in the
application of the tax law
*Ranging from 1 = strongly disagree to 5 = strongly agree
3.09
3
2
3.22
3
4
2.85
3
4
Overall, most of the tax practitioners were generally satisfied with the status quo i.e., no
CGT. This result was perhaps due to the uncertainties of having a CGT regime. Respondents
agreed that the current tax system had sufficient coverage for most capital gains issues and
that the government should only tax those who had intentions for resale and for profit-making
business pertaining to property transactions. Some respondents argued that the complexities
of implementing a CGT would create more tax loopholes than eliminating it. For example, a
taxpayer might choose to maximise capital losses to reduce his/her income tax.
The above discussion showed that there are still many contentious issues relating to CGT that
are not easily resolved just by implementing a CGT regime.
Conclusion
This research examined the issues of taxing comprehensive capital gains in New Zealand by
exploring the attitudes of New Zealand tax practitioners towards three CGT regimes. The
results showed that most of the tax practitioners preferred the status quo and opposed a
10
comprehensive CGT largely because of the added compliance costs and the complexity
associated with such a regime. Even though many preferred the status quo for the tax system,
they were well aware of the significant tax planning opportunities available to them due to
the lack of having such a tax.
The results also showed that a realisation-based CGT would be better than an accrual one. In
particular, the practitioners were concerned with the higher compliance costs such as
additional paperwork and the liquidity issues relating to an accrual based CGT regime.
However, tax practitioners agreed that the identification of an objective market price was
feasible for certain common assets such as commercial property, farms, financial instruments,
residential property and shares in a listed company. These findings contradict the traditional
assumption that objective market valuations of common assets are generally not feasible.
This paper has provided an overview of current thinking for policy making. In the future New
Zealand may experience pressure from other OECD countries to consider a CGT in order to
remain competitive globally. Even if that is not the case, it is evident that many tax
practitioners feel the need to address some capital gains issues. In this regard, this research
will enrich the literature by revealing the possibilities and difficulties, and suggesting the
appropriate asset coverage if one were to change the nature of capital gains taxation in New
Zealand.
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