III. Specific Issues

Transitional Provisions

23.31. Only capital gains arising after the introduction of the tax should be liable to tax. The Committee however rejects the view that only gains on assets acquired after the introduction of the tax should be liable. Such an approach would be inequitable and would have a very powerful lock-in effect for existing owners of appreciating assets.

23.32. To ensure that only capital gains arising after the date selected for commencement of the tax are subject to levy, and also that a deduction is given for losses incurred after that date, it is necessary to lay down a procedure for valuing all assets (other than those exempted from the tax) at the commencement date, usually referred to as ‘valuation day’. Furthermore, to reduce the scope for investors to rearrange their affairs so as to benefit from advance notice of the date from which the tax will commence, it is proposed that the valuation day be selected and announced after the decision to introduce the tax has been publicised and after the date selected as valuation day has passed. This should be the case even if the recommendation as to the deferment of introduction of the tax and publication of the Green Paper is adopted. This procedure was followed in Canada, apparently with success.

23.33. The major transitional problem is fixing the value of all assets (other than assets the gains from which are exempt from tax) at the valuation date. In the United Kingdom and Canada specific provisions were introduced to reduce to a minimum the occasions when special valuations by independent or government valuers would be required. The transitional provisions in the 1974–75 Budget proposals have drawn on the United Kingdom and Canadian experience. While there are numerous aspects

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of the transitional provisions not yet announced, the Committee is in general agreement with the principles which it appears are to apply, with the one exception referred to in the next paragraph.

23.34. One method of determining a gain or loss, called the ‘valuation method’, involves comparing the proceeds from the disposal of an asset with the value on a particular day—17 September 1974 in the Budget proposals. The method, as proposed, will apply subject to an over-riding rule that no taxable gain or allowable loss may exceed the difference between the proceeds of the disposal of the asset and its cost. This rule is fair if, for example, the taxpayer can establish that an asset sold in 1975 for $21,000 was purchased early in 1974 for $20,000 although its value on 17 September 1974 was $18,000. The rule limits the gain to $1,000. The rule is unfair where an asset is sold in 1975 for $21,000 and its value on 17 September 1974 was $25,000, as the Commissioner will be obliged to deny the loss to the taxpayer until the taxpayer can establish that the cost of the asset was in excess of $21,000. The ‘cost’ may include some expenditure incurred by the taxpayer and of which he now has no record. The Committee considers that the rule should be limited to gains and not be extended to losses.

Bunching and Spreading

23.35. Since capital gains will usually have accrued over a period of years, it is considered excessively harsh to tax the gain as if it were ordinary income by simply adding half the gain to the other income of the taxpayer in the year of receipt of the gain. With a progressive tax structure this would often mean that the taxpayer would move into a higher tax bracket and the gain be taxed at a higher rate than if it had been subject to tax as it accrued. There are several ways of mitigating such bunching. These include averaging the gain and reopening past assessments, spreading the gain over the period of ownership, and spreading all gains over a fixed period. The Committee recommends that the third method be used and that all gains be spread over a fixed term of years, say five. It is recognised that the choice of an arbitrary period will be generous in the case of assets held for shorter periods and harsh in the case of assets held for longer periods. Nonetheless these inequities are outweighed by the advantages of a fixed period as far as ease of understanding and administration are concerned.

23.36. As an example of how spreading over a five-year period will work, consider three taxpayers A, B and C who earn taxable income (other than capital gains) of $25,000, $15,000 and $5,000 respectively. Assume that in the income year in question each taxpayer sells an asset at an actual gain of $40,000, thus producing a taxable gain of $20,000 (i.e. half the actual gain). Instead of simply adding this $20,000 to the taxpayer's other taxable income, it is divided by five and $4,000 is added to give taxable incomes of $29,000, $19,000 and $9,000 respectively. The additional tax attributable in each case to the addition of the $4,000 is then calculated and multiplied by five to give the total additional tax payable in respect of the capital gain. The results are summarised in Table 23.B on the basis of 1974–75 tax rates.

  ― 421 ―


Taxpayer A   Taxpayer B   Taxpayer C  
(1) Taxable income (before capital gain)  25,000  15,000  5,000 
(2) Tax payable on (1)  11,620  5,470  680 
(3) Taxable income plus one-fifth of taxable gain  29,000  19,000  9,000 
(4) Tax payable on (3)  14,180  7,820  2,300 
(5) Difference between (4) and (2)  2,560  2,350  1,670 
(6) Tax payable on taxable gain: 5 × (5)  12,800  11,750  8,100 
(7) Total tax payable: (2) + (6)  24,420  17,220  8,780 
(8) Rate of tax on gain: (6) as percentage of $40,000  32  29.4  20.3 
(9) Marginal tax rate on top bracket of income including taxable gain (per cent)  64  60  48 

23.37. By way of comparison, the tax payable by the three taxpayers if the whole $20,000 of taxable gain were treated as ordinary income is shown in Table 23.C. It can be seen, by comparing line 8 of Table 23.B with line 4 of Table 23.C, that spreading makes little difference to the tax liability of someone who already has a high taxable income; however, the difference is quite marked for anybody on a lower taxable income.


Taxpayer A   Taxpayer B   Taxpayer C  
(1) Taxable income (before capital gain)  25,000  15,000  5,000 
(2) Taxable income plus taxable gain  45,000  35,000  25,000 
(3) Tax payable on (2)  24,570  18,020  11,620 
(4) Rate of tax on gain (per cent)  32.4  31.6  27.4 

23.38. The Committee notes that the Budget proposals for a capital gains tax contain no reference to any form of spreading provisions. While such provisions involve a degree of administrative complexity, they are well justified. The differential effect of spreading provisions on high- and low-income earners in particular is to be noted: the absence of such provisions operates harshly in the case of low-income taxpayers who may realise one or perhaps two large capital gains during their lifetimes. Many taxpayers, especially those of fairly modest means, may not realise any capital gains during life but may have substantial accrued gains at death which will be brought to tax as notionally realised. The absence of spreading provisions is particularly harsh in these circumstances.

Determination of Amount of Gain

23.39. It is recommended that to determine the amount of the gain there should be deducted from the proceeds of sale of the asset:

  • (a) The cost of the asset, including all costs directly incurred in the purchase such as stamp duty, legal costs and agent's commission. This will apply in the case of assets purchased after the date of introduction of the tax, while to those already owned by the taxpayer at that date the provisions outlined in paragraphs 23.31–23.34 will apply.
  • (b) Expenditure incurred in enhancing the value of the asset or preserving the taxpayer's title to it. This would usually include the cost of improvements and

      ― 422 ―
    additions but not expenditure that has been previously allowed as a deduction for income tax purposes. In particular, expenditure related to the use or enjoyment of the asset would not form part of the cost base nor would outgoings such as repairs or interest which have been allowed as a deduction for income tax purposes.
  • (c) Costs directly incurred in the sale of the asset, such as stamp duty, legal costs and agent's commission.

The actual capital gain thus determined then will be halved to give the taxable gain.

Treatment of Companies

23.40. The Committee recommends that in general the treatment of capital gains realised by companies should be the same as for individual taxpayers: a proportion of the gain should be included in income. The Committee notes that the Budget proposals envisage the taxation of capital gains made by companies at a flat rate of 33½ per cent. The effect is the same as the inclusion in income of, approximately, three-quarters of the gain. The logic of this approach is difficult to discern and the reasons for treating companies in a significantly different fashion to individual taxpayers is not clear. If a proportion of a capital gain is to be regarded as income there is no reason why, in effect, different proportions should be deemed to be income depending upon whether the recipient of the gain is an individual or a corporate entity. The Committee thus disagrees with the Budget proposal. Further problems do, however, arise in considering the appropriate tax treatment of capital gains made by companies. These gains will ultimately be distributed to shareholders and the liability of the shareholders to tax on such distributions must be considered.

23.41. Several different approaches are possible, but the Committee favours, at least at the outset, the simple one of regarding half the gain as income of the company and the other half as a non-income receipt. The half regarded as income will be treated as such for all purposes, and thus it will enter the calculation of a sufficient distribution for purposes of undistributed profits tax when the company is a private one. If the amount treated as a non-income receipt in the hands of the company is the subject of a dividend it will, to this extent, be included in the income of the shareholder. There will, in the result, be some failure to carry through to the shareholder the quality of capital gain which the gain had in the hands of the company. However, if the system of imputation credit on the Canadian model as proposed by the Committee in Chapter 16 is adopted, the shareholder will be entitled to credit in respect of the whole of the dividend, both that part of it representing the amount of the gain taxed to the company and that part representing the amount not taxed. There will, in the result, be some correction of the over-taxation of the gain. If, however, Australia comes to adopt the method of advance corporation tax used in the United Kingdom, which restricts the imputation credit by reference to the amount of tax paid by the company, special provisions will be necessary to give some recognition to the quality of capital gain in the receipt by the shareholder. Thus, one-half of a capital gain derived by the company and treated as not being income might be held in a separate account, and a distribution from that account given favourable treatment in the hands of the shareholder. Canada, in relation to such distributions by private companies, gives an exemption from tax.

23.42. The introduction of a capital gains tax will require a reconsideration of section 47 of the Act. That section deems distributions on the liquidation of a company to be dividends to the extent that they represent income derived by the company. While

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the section remains, there will be two elements that have to be distinguished in distributions on liquidation. To the extent that they represent income derived by the company, they will be dividends taxable as such to the shareholders with whatever imputation credit is allowed. For the rest, they will be proceeds of realisation of shares.

23.43. In the United States and the United Kingdom receipts by a shareholder in the liquidation of a company are in general treated as the proceeds of realisation of his shares, which may give rise to a capital gain or a capital loss depending on whether the proceeds exceed or are less than the cost to the shareholder of his shares. This approach has the advantage on the score of simplicity. Section 47 gives rise to some perplexing problems of interpretation and application. If a significant amount of imputation credit comes to be given, the section might be repealed. The present advantage of section 47 to the Revenue in terms of the amount of tax collected would be diminished by the availability of an imputation credit. If a substantial imputation credit is given, and section 47 remains, the advantage to the Revenue will disappear.

23.44. Income may be derived by a company in the course of liquidation, for example from the disposal of trading stock. If section 47 is repealed, there should be provision whereby the liquidator may pay a dividend out of such income or out of income accumulated in periods prior to liquidation which will qualify for imputation credit. In a parallel fashion it could be provided that capital profits generated in the course of a liquidation by the disposal of fixed assets might also be the subject of a dividend. However, if such disposal is simply not recognised for capital gains tax purposes it will be possible to avoid two impositions of tax: there will be no tax to the liquidator. The United States law does not recognise the realisation of a capital asset in liquidation for purposes of taxing company capital gains, though assets distributed in specie are deemed to have been received by shareholders at their market values for purposes of determining the capital gains tax liabilities of shareholders on the deemed realisations of their shares. However, the United States law has not been proof against tax avoidance: if that example is followed, protective provisions will be necessary.

Treatment of Trusts

23.45. As in the case of capital gains derived by companies, the Committee sees no reason for treating capital gains derived by a trust estate in a markedly different manner from the treatment of capital gains derived by an individual. The same proportion of the gains should be included in the income of the trust estate as would be the case with a capital gain realised by an individual taxpayer. However, particular problems arise in apportioning the liability of the tax on a capital gain between the beneficiaries entitled to the income from the trust estate and those who will ultimately be entitled to the capital of the estate. Capital gains will not generally be income according to trust law principles and, unless the terms of the instrument creating the trust estate direct otherwise, will not be available to those beneficiaries entitled to income: they will become accretions of the capital of the trust estate and will enure ultimately to those beneficiaries who take the capital. This being so, it would be unfair as a general rule to impose a tax liability on the income beneficiaries. On the other hand, the identity of the capital beneficiaries is often unknown at the time the capital gain is realised and it is thus impossible to levy the tax directly on them. Accordingly, the Committee recommends that as a general principle the tax be levied on the trustee. It will then be for the trustee to apportion the liability between income and capital beneficiaries in accordance with general principles of trust law and with the terms of the instrument creating the trust.

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23.46. The determination of an appropriate rate of tax will pose difficulties. In Chapter 15 (paragraph 15.34) a special rate of tax of less than 50 per cent is recommended to apply where income is taxed to the trustee because income for tax purposes exceeds income calculated in accordance with trust law. In the Committee's view, it is appropriate to apply this special rate to the half of capital gains taxed to the trustee, except where a lower rate is determined in accordance with paragraph 23.47 or a lower rate is applicable to income taxed to the trustee in accordance with paragraphs 15.33–15.35 (which refer to estates in the course of administration or certain trusts whose income is being accumulated for minor children).

23.47. Where a beneficiary is absolutely entitled to both income and corpus, or the present entitlement of an income beneficiary includes the capital gain, and the beneficiary so elects, the rate of tax should be determined on the basis that half the gain has been added to and is subject to tax as the top slice of the income of the beneficiary. This exception will cover the case where the beneficiary is an infant who is entitled to both income and corpus and the case of a bare trust. It will apply where the trust instrument defines trust income in a way that will include capital gains.

23.48. The transfer of an asset by the trustee to a beneficiary should be treated as a deemed realisation of the asset for purposes of capital gains tax. There should also be a deemed realisation on any occasion when a fraction of the trust assets falls to be included in the estate of a deceased person or is deemed to be disposed of for gift duty purposes. And there should be a deemed realisation on the expiration of each period of twenty-five years referred to in paragraph 24.A42.

23.49. Because of the complexities involved, the Committee does not propose that there should be carry-back of capital losses suffered by a trust. Nor should there be any application of capital losses against income of a trust. Generally, unrecouped capital losses will cease to be available on the termination of a trust. To this there should be one exception. Where a beneficiary who, at the time of the loss, was absolutely entitled to income and corpus receives the corpus of the trust, any unabsorbed capital losses of the trust should be transferred to him.

23.50. Except in one situation, income losses should not be applied against capital gains. The exception proposed is where there are income losses unabsorbed at the termination of a trust. These losses should be applicable against capital gains that arise in the winding up of the trust and the transfer of assets to beneficiaries.

Treatment of Gifts

23.51. Where the taxpayer disposes of an asset by way of a gift or sale at less than market value, he should be deemed to have disposed of the asset at market value and should be liable to taxation on the notional capital gain arising from a deemed disposal at that value. Not to so treat gifts and sales at an undervalue would be to provide a means of avoiding capital gains tax or indefinitely deferring it. There may of course be liquidity difficulties for a taxpayer in meeting the tax arising from the gift of an asset where the notional capital gain is large. However, this would be a factor to be taken into account by the taxpayer in deciding whether or not to make a gift and is in any case essentially no different to the position with regard to a liability for gift duty. Though the primary liability of the tax would be upon the donor, it may be necessary to impose a secondary liability upon the donee. It is noted that the Budget proposals envisage that gift or sale at an undervalue will be treated for capital gains tax purposes as a disposition at full market value. The liability of the donor for capital gains tax should be deducted from the value of the gift in computing his liability for gift

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duty; the effect would be to give a lifetime gift treatment comparable with that of a bequest.

Treatment of Unrealised Gains at Death

23.52. As a general principle the Committee recommends that a taxpayer should be deemed to have realised his assets at death for the purpose of determining capital gains or losses and the taxable portion of any gain treated as if it were income of the taxpayer in the year of death. Not to do so would be to create severe inequities between the individual who dies shortly after realising his gains and the individual who dies before realising them. It would also create a severe lock-in effect for the elderly investor who would be reluctant to sell assets and incur a tax that he would not incur were he to hold the assets until death. It has been suggested that an alternative to a deemed realisation on death is to have a carry-over of the deceased's cost-basis to the beneficiary for the purpose of determining the latter's capital gains tax liability on ultimate disposal, but this might result in an indefinite deferment of tax. The deceased should be deemed to have disposed of his assets, and the beneficiaries be deemed to have acquired them, at their fair market value as determined for estate duty purposes.

23.53. While the Committee recommends that there should be a deemed realisation on death, it recognises that this may give rise to practical difficulties in the case of an estate consisting largely of non-liquid assets such as rural property or shares in a private company. In many other instances, too, when associated with the need to find moneys to pay estate duty (which would be reduced by virtue of the fact that the liability for capital gains tax diminishes the net value of the estate), the imposition of capital gains tax on the deemed realisation may impose a liquidity strain on an estate. Some provisions are necessary to mitigate this hardship and the capital gains exemption recommended in paragraph 23.55 is one such step. As a further measure it is recommended that, in the case of an estate holding a high proportion of its assets in non-liquid items, the capital gains tax liability arising at death should be assessed in the normal way but the payment should be deferred for a specified period or until the realisation of the items, subject to interest at a reasonable rate. As an alternative, provision could be made for payment of the capital gains tax over an extended period, again with interest: a maximum of seven years might be fair.

23.54. The Budget proposals make no reference to any concessional treatment of capital gains deemed to be realised at death. In the Committee's view the liquidity strain that would be imposed on many estates by the combined effect of capital gains tax and estate duty would be so significant as to require relief. This will particularly be so in the case of those estates consisting largely of small businesses or rural property.

Exemption on Retirement, Death or Disablement

23.55. It is important that there be a concession, available on the death of the taxpayer, to give some relief to the estate from what might be a heavy liability to capital gains tax arising from the deemed realisation at death. It is also reasonable that there be some relief to the taxpayer who, as a result of retirement or permanent incapacity, will be realising capital gains after he ceases to be employed or retires from his business or profession. Accordingly, it is proposed that there should be an exemption from capital gains tax of a specified amount of gains realised after attaining the age of 65 or upon permanent incapacity or deemed to be realised at death. The amount should be revised at regular intervals in the light of the rate of inflation: a figure of not less than $40,000 might be appropriate under present circumstances. In the case of gains

  ― 426 ―
deemed to be realised at death, the exemption will apply no matter what relationship the beneficiaries bear to the deceased, but in the majority of cases it could be anticipated that the exemption will ensure to the benefit of the deceased's spouse and children. The total amount of exemption will be limited and, to the extent that it has been used during the deceased's life, it will not be available on death.

23.56. The Budget proposals do not envisage any exemption from capital gains tax in respect of gains realised after retirement or deemed to be realised at death. This is unduly harsh, particularly in view of the fact that many taxpayers, especially those in the lower income brackets, may not realise any gains during their lifetime but may have accrued gains at death. The liability for capital gains tax on the whole of such accrued gains is likely to impose liquidity strains on the estate, with concomitant hardship for dependants.

Treatment of Taxpayer's Principal Residence

23.57. The taxpayer's principal residence should be considered in a different light to his other assets, particularly in a society such as ours where home ownership is so highly valued and encouraged. A home is regarded as more than simply an investment and it must be remembered that any capital gain on a home will usually be in a sense illusory since the taxpayer will normally have to use all the proceeds of sale to purchase another house of comparable size, comfort and location. To tax the gain would have serious effects on the mobility of the work force. A person might be unwilling to accept a job in another city if the gain on the sale of his house is to be taxed, thus reducing the amount available for purchase of a new house and forcing him to accept a house of a lower standard than the one he has left. In addition, the administrative problems of levying tax upon the gains on the taxpayer's principal residence would be unacceptable. Apart from the task of valuing all houses on the date of commencement of the tax, there would be a continuing problem of determining the costbase of the house. All expenditures on repairs, alterations and extensions would need to be accounted for and dissected into those that enhanced the value of the property (and would thus be taken into account in determining the cost-base and hence the gain) and those that were related only to the use or enjoyment of the property. In addition, homes are commonly owned for very long periods, and records of expenditure on the taxpayer's home are likely to be scanty or non-existent.

23.58. The Committee accepts that it would be possible to adopt provisions giving a ‘roll-over’ (explained in paragraph 23.69) instead of an exemption or confining the proposed exemption to houses below a certain value. If either alternative were adopted, the tendency for resources to be diverted into overlarge houses would be corrected. The former alternative would, if anything, increase the administrative problems. Under the second alternative the administrative problems would be less: only a small number of houses need be outside the exemption. The administrative difficulties would nonetheless still be considerable.

23.59. Accordingly, the Committee recommends that capital gains on the taxpayer's principal residence should in general be exempt from tax. But there is a need to ensure that this exemption is not abused and the Committee favours limiting the exemption to the house together with a reasonable amount of the land on which it is situated. It is recommended that the amount of land qualifying for exemption should be such amount as is reasonably necessary for the enjoyment of the house having regard to its location. The appropriate limits might be:

  ― 427 ―

  • (a) in the case of land zoned residential, industrial or commercial: two-tenths of a hectare (approximately half an acre) or such greater area not exceeding four-tenths of a hectare (approximately one acre) as may be reasonably necessary for the enjoyment of the house;
  • (b) in the case of rural land: one hectare (approximately two-and-a-half acres).

The Committee recognises that any arbitrary limits such as these will produce inequities and anomalies. Four-tenths of a hectare of land in a densely populated inner city suburb may be an excessive amount of land to exempt, whereas a similar amount on the outskirts of a country town may be unreasonably small. Nonetheless the advantages of certainty in this matter outweigh the possible inequities. Where the amount of land on which the principal residence is situated exceeds the exempt amount, the gain would have to be apportioned between the house and exempt amount on the one hand, and the remainder of the land on the other and the latter will be subject to tax. This would give rise to some administrative difficulties and disputes but these should not be numerous having regard to the fact that the vast majority of homes are situated on areas of land below the suggested exemption level.

23.60. The Budget proposals envisage an exemption of the taxpayer's principal residence together with such area of surrounding land (not exceeding four-tenths of a hectare) as may be reasonably necessary for enjoyment of the house.

Exemption of Small Gains

23.61. For ease of administration it is necessary to have some provisions for exempting small gains from tax. While it would be desirable to express this in the form of an exemption for gains not exceeding a certain amount in any one year, overseas experience indicates that such an approach is not satisfactory since it necessitates the computation of the actual gain in order to determine whether or not the exemption applies. For this reason the Committee recommends that an alternative method be adopted and that the exemption apply to the gains arising from the sale in any one year of assets where the total proceeds of sale do not exceed a certain figure, say $1,000. Although this may involve some inequity in that the exempted gain could be $1 or $999, it is felt that in practice the inequities will be slight and will be greatly outweighed by the administrative simplicity of the recommendation.

23.62. The Budget proposals contained no general provisions exempting small gains from capital gains tax. Having regard to the administrative difficulty for both taxpayer and revenue authorities involved in assessing tax on small capital gains, the wisdom of this is questionable. The Committee has been particularly impressed by evidence from the United Kingdom on the difficulties involved in assessing small capital gains and believes that the loss of equity involved in the provisions suggested in the previous paragraph is small compared with the gains in simplicity and ease of administration.

Exemption of Certain Assets

23.63. Gains and losses on certain items of personal use such as motor vehicles and household furniture should be disregarded for capital gains tax purposes. Such items will in general depreciate rather than appreciate over time and if brought within the net of capital gains tax would for that reason lead to capital losses. For those few items such as antique furniture and jewellery that may appreciate, the problems in determining the cost of assets which may have been purchased many years before ultimate disposition would often be extremely difficult.

  ― 428 ―

23.64. The Budget proposals envisage that items of personal-use property originally costing less than $500 will be deemed to have cost $500 for the purpose of assessing any gain on disposition; and where the proceeds of disposition are less than $500 they will be taken to $500, thus limiting the taxable loss to the excess of cost over $500. In addition, under the Budget proposals certain specified personal-use items such as jewellery, coins and works of art will be treated in the same manner as non-personal-use property to the extent that all gains will be subject to capital gains tax but losses will be available to be offset against gains on similar property. The Committee is in general agreement with the philosophy underlying the Budget proposals: personal-use property which normally deteriorates through use should be disregarded for capital gains tax purposes, but property which is as much for investment as for personal use and which may thus appreciate in value over time should not be exempted. Nonetheless there are considerable difficulties in drawing a clear dividing line between the two types of personal-use property. The Committee therefore recommends that while such property as jewellery should be subject to the tax, furniture, even though it may be antique furniture, should be altogether exempt. Furthermore, attention is drawn to the fact that the application of the $500 rule referred to above is likely to give rise to considerable dispute and administrative difficulties in the case of items such as stamps and coins which may be disposed of in sets.

Life Assurance Policies

23.65. The general tax treatment of life assurance is considered in Chapter 21. The Budget proposals envisage the exemption from capital gains tax of the amount payable under a life assurance policy or any part of such amount, which is in line with the Committee's own thinking.

Superannuation Rights

23.66. The tax treatment of superannuation is also considered in detail in Chapter 21. The Committee is in agreement with the Budget proposals that superannuation receipts should not come within the ambit of capital gains tax.

Depreciable Assets

23.67. Where assets on which depreciation has been allowed for income tax purposes are sold at a price greater than the original cost of such assets, the excess should be regarded as a capital gain. It is to be noted, however, that the practical application of capital gains tax in the area of depreciable property on which a surplus arises on sale will usually be mitigated by the roll-over provisions referred to in paragraph 23.69. Where the asset is sold for less than the written-down value, the deficit will, as now, be treated as an income loss.

Intangible Assets

23.68. The Committee can see no good reason why, in general, the disposal of intangible assets such as goodwill, patents and trade-marks should be treated any differently, for purposes of capital gains tax, than tangible property.

Roll-over for Certain Assets

23.69. In certain circumstances where an asset is disposed of and the proceeds are invested in a similar asset, or where the disposal of one asset and acquisition of another involves merely a change in legal form but not a material change in the substance of what is owned, the new asset should be regarded as a continuation of the old

  ― 429 ―
with the cost-basis of the latter being carried over. This is known as a ‘roll-over’, and provisions of this nature are commonly found in capital gains tax legislation as a means of reducing the undesirable aspect of lock-in. The Committee recommends that roll-over provisions should apply in the following cases:

  • (a) The disposal and replacement of certain business assets (such as plant, machinery and buildings) within specified periods and the expropriation, loss or destruction of such assets followed by a replacement with assets of a similar nature. A suggested period in which the replacement must take place is one year for plant and two years for buildings.
  • (b) The transfer of assets to a company in which the equity shares are wholly owned by a taxpayer. A proportionate roll-over should be allowed where the taxpayer takes up more than a nominal proportion of the equity shares.
  • (c) The transfer of assets to a partnership in which the vendor is a partner, to the extent that the vendor acquires an interest in the capital of the partnership.
  • (d) The distribution of assets upon the dissolution of a partnership.
  • (e) Certain types of company mergers and reconstructions.
  • (f) The liquidation by a company of a wholly-owned subsidiary.

23.70. The Budget proposals envisage the availability of roll-over provisions in circumstances yet to be precisely defined but which accord in broad outline with the recommendations of the Committee.

Treatment of Losses

23.71. One of the distinguishing features of capital gains in comparison with other income is that the taxpayer will usually be able to choose the time at which he realises his gains and losses. If half the gains were included as income and half the losses allowed as a deduction from income, there would be a considerable incentive for taxpayers to realise their unprofitable investments, thus obtaining a deduction, and retain their profitable ones, thus deferring the tax on their gains: in short, a taxpayer would realise his losses and ‘hoard’ his gains. Such an approach cannot be countenanced and the Committee recommends that in general capital losses should be taken into account only as an offset to capital gains. However, special provisions should be made for capital losses unrecouped at death, for small capital losses (on administrative grounds) and for the carrying back of capital losses by re-opening past assessments of capital gains, the allowable capital loss being assumed, in line with the treatment of a capital gain, to be half the actual loss. Accordingly, it is recommended that:

  • (a) There should be a limited carry-back of allowable capital losses, the extent of the carry-back to be the same as that recommended by the Committee for income losses.
  • (b) Allowable capital losses should be permitted to be carried forward indefinitely as an offset to future taxable capital gains.
  • (c) A limited allowance of, say, $1,000 of allowable capital loss (i.e. up to $2,000 of actual capital loss) should be permitted to be offset against other income.
  • (d) Special provisions will be needed to counter artificial losses and sale-and-buy-back transactions.

The order of application of allowable capital losses should be:

firstly against taxable capital gains of the same income year;

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secondly against taxable capital gains made during the period allowed for carry-back;

thirdly as to (say) $1,000 of allowable capital loss (i.e. $2,000 actual capital loss) against other income;

any excess to be carried forward with the first (say) $1,000 of the excess allowable capital loss available as an offset to other income in the next year.

Where a taxpayer dies with unrecouped or unrealised capital losses, the allowable capital loss should be applied:

firstly against taxable capital gains made in the income year of death and gains deemed to be realised at death;

secondly against taxable capital gains made during the period allowed for carry-back;

thirdly against any other income (without limit) of the income year of death or the preceding income year.

23.72. The treatment of capital losses proposed in the Budget diverges quite considerably from the recommendations of the Committee. In general the Budget proposals appear to be harsher than the Committee's recommendations in that they allow no general carry-back of capital losses (other than a three year carry-back at death) and there is no provision for offset of any part of a capital loss against other income.