Is the 41% Exit Tax Soon to be Scrapped? Michael McGrath to Review

[Duke of Marmalade]

But explain to us - what's logical about BRKB being tax free until death, when an ETF is not?

You explain to me the logic of the artists tax free allowance.
If accumulator ETFs were tax free to death some creative banker will wrap its deposits in a ETF, for example. Not possible to get the BRKB this way or the artists' tax free allowance.
BRKB and artists' tax free allowance are presumably to further some social policy but they do not undermine the whole edifice of taxation.

 

[AJAM]

Capital Gains on Property are taxed when you sell it or when you die.
Capital Gains on Shares are taxed when you sell them or when you die.
Capital Gains on most assets are taxed when you sell them or when you die.
Everywhere else in the world Capital Gains on ETF's are taxed when you sell them or when you die.

But apparently some people on this forum think that this would be impossible for ETF's!
Despite the fact that over the life of the investment it takes in minimal extra tax revenue. (possibly even less overall tax revenue)
Despite the fact that it costs the investor massive underperformance.
Despite the fact that it is fiendishly complicated for Revenue or the Taxpayer to correctly calculate the actual owed tax (if multiple purchases are involved).
Despite the fact that is causing young and middleclass investors to avoid the best suited investments for them (either taking riskier investments or simply not investing at all).

My opinion is that this support of exit tax on ETF's must be ideologically based because in the real world it makes no sense.

 

[Horatio]

The report tells me that our CGT rate is fairly close to what most European citizens pay. Unless you have very significant money to invest, the cost of moving to and regularly returning home to visit family/friends from one of the lower-rate countries would cancel out any tax saved.

Well that depends on the size of the pot in fairness.

 

[jpd]

Capital Gains on Property are taxed when you sell it or when you die.
Capital Gains on Shares are taxed when you sell them or when you die.
Capital Gains on most assets are taxed when you sell them or when you die.

Not in Ireland - when you die, your Capital Gains are wiped out
Yes, you inheritors may have to pay CAT but that's not the same

 

[Duke of Marmalade]

My opinion is that this support of exit tax on ETF's must be ideologically based because in the real world it makes no sense.

To whom are you referring? I certainly have no beef for the exit tax regime. The UK system of ETF taxation is eminently sensible - income taxed as earned or on a look through basis and capital gains taxed as realised. That is the logical approach. It was the life industry that spurned that approach for their products, partly because of the complications for the broad mass market but also because of the progressive nature of income taxation. They begrudgingly accepted an aggregate exit tax rate of 23%, being 3% in excess of DIRT. This was certainly better than income tax + CGT. But at 41% they have been shafted. A return to DIRT + 3% seems reasonable. It is moot whether the ETF industry would prefer a "reasonable" exit tax regime or income tax + CGT.

 

[AJAM]

If the punter pays his ETF DD tax but leaves his ETF intact he will get that €52k. If he makes the investment decision to encash the ETF to pay for the tax well that is an investment decision which on your assumptions is not very clever.

I have to say, your mental gymnastics on this topic are quite amazing Duke.
Apparently the Time Value of money doesn't count for you if the punter pays the money out of his own pocket.
But in a bizarre twist, the Time Value of money does count if the punter takes it out of his fund and gives it to revenue.

 

[Duke of Marmalade]

I have to say, your mental gymnastics on this topic are quite amazing Duke.
Apparently the Time Value of money doesn't count for you if the punter pays the money out of his own pocket.
But in a bizarre twist, the Time Value of money does count if the punter takes it out of his fund and gives it to revenue.

I am losing patience with this one.
He is faced with a tax bill. It is his decision to encash his ETF to pay it. There is no compulsion whatsoever to do so. He has turned deemed disposal into a part actual disposal. His investment decision. You have produced an example that shows that this would be a bad investment decision based on your assumption that ETF investments grow at 7% p.a. What on earth relevance does that have in a submission on taxation? Why not criticise the LPT on the basis that some folks are encashing ETFs to pay for it?

 

[Corola]

Whether the ETF is encashed or the tax is paid from your other cash funds is irrelevant, it's still X€ that is not earning a return.

You're no better off if the ETF continues to accumulate, because the other funds you no longer have could have been put to work to accumulate at the same rate.

 

[fistophobia]

It's the tail wagging the dog.
Tax consideration over investment decision.

 

[AJAM]

I am losing patience with this one.
He is faced with a tax bill. It is his decision to encash his ETF to pay it. There is no compulsion whatsoever to do so. He has turned deemed disposal into a part actual disposal. His investment decision.

I think we both seem to be emotionally invested in this one Duke . But there's nothing like a bit of boring math to calm us all down.
Here are the figures.

	CGT Fund	Exit Tax Fund	Exit Tax	Exit Tax Calc	ETF no encash	Out of pocket Tax	Tax Calc	CGT Fund + Extra invest
Year 0​	100,000​	100,000​			100,000​			100,000​
Year 1​	107,000​	107,000​			107,000​			107,000​
Year 2​	114,490​	114,490​			114,490​			114,490​
Year 3​	122,504​	122,504​			122,504​			122,504​
Year 4​	131,080​	131,080​			131,080​			131,080​
Year 5​	140,255​	140,255​			140,255​			140,255​
Year 6​	150,073​	150,073​			150,073​			150,073​
Year 7​	160,578​	160,578​			160,578​			160,578​
Year 8​	171,819​	171,819​	29,446​	142,373​	171,819​	29,446​	142,373​	171,819​
Year 9​	183,846​	152,339​			183,846​			215,353​
Year 10​	196,715​	163,003​			196,715​			230,427​
Year 11​	210,485​	174,413​			210,485​			246,557​
Year 12​	225,219​	186,622​			225,219​			263,816​
Year 13​	240,985​	199,685​			240,985​			282,284​
Year 14​	257,853​	213,663​			257,853​			302,043​
Year 15​	275,903​	228,620​			275,903​			323,186​
Year 16​	295,216​	244,623​	41,923​	202,701​	295,216​	62,666​	232,551​	345,809​
Year 17​	315,882​	216,890​			315,882​			437,069​
Year 18​	337,993​	232,072​			337,993​			467,663​
Year 19​	361,653​	248,317​			361,653​			500,400​
Year 20​	386,968​	265,699​	25,829​	239,870​	386,968​	63,311​		535,428​
Invested​	100,000​	100,000​			192,111​			192,111​
Tax​	94,700​	97,198​			155,423​			113,294​
After Tax​	292,269​	239,870​			323,657​			422,133​

So, as stated before, when comparing the CGT fund to the Exit tax fund, Exit tax gives a small (2,498) amount of extra tax, but a huge amount (52,399) less to the investor. If, as you suggest, the punter pays the tax out of his own pocket, they do end up with more, but crucially, they have not invested 100k, they have invested 192K. For an apples to apples comparison, if they had invested the same way in a CGT fund they end up paying 42K less in tax and have 98K more at the end of the 20 years.

The easiest way to compare them all is Internal Rate of Return (IRR) calculations
IRR CGT Fund 5.5%
Exit Tax Fund 4.5%
ETF no encash 3.7%
CGT Fund + Extra invest 5.4%

I hope you can all see that there is no scenario where you are better off under the exit Tax regime, (given the assumptions 7% annual capital gain, no dividends). But what really amazes/infuriates me is that the taxman is not even getting the benefit of proportionally higher taxes!!
In scenario 1 you pay 2,498 more tax, but are 52,399 worse off.
In scenario 2 you pay 42K more in tax, but end up with 98K less.
This is not a transfer of wealth. This is simply Wealth destruction!

 

[AJAM]

A return to DIRT + 3% seems reasonable.

In my opinion, the only reason to have different rates of tax, on different investment products, is to encourage or discourage behavior. Why would you encourage deposit saving over investing?

My preference would be for the same tax rate on all investments set near the European average of 20%.
I would definitely not exclude gambling and spread betting (as is the case now). If anything I would actually tax these higher (say an extra 10%) to discourage gambling.

There is an argument to be made, for taxing dividends at a lower rate than CGT (say 5% lower), in order to encourage people to use distributing Funds instead of Accumulating ETF's and thereby smooth out the tax take.

 

[Zenith63]

I think we both seem to be emotionally invested in this one Duke . But there's nothing like a bit of boring math to calm us all down.
Here are the figures.

	CGT Fund	Exit Tax Fund	Exit Tax	Exit Tax Calc	ETF no encash	Out of pocket Tax	Tax Calc	CGT Fund + Extra invest
Year 0​	100,000​	100,000​			100,000​			100,000​
Year 1​	107,000​	107,000​			107,000​			107,000​
Year 2​	114,490​	114,490​			114,490​			114,490​
Year 3​	122,504​	122,504​			122,504​			122,504​
Year 4​	131,080​	131,080​			131,080​			131,080​
Year 5​	140,255​	140,255​			140,255​			140,255​
Year 6​	150,073​	150,073​			150,073​			150,073​
Year 7​	160,578​	160,578​			160,578​			160,578​
Year 8​	171,819​	171,819​	29,446​	142,373​	171,819​	29,446​	142,373​	171,819​
Year 9​	183,846​	152,339​			183,846​			215,353​
Year 10​	196,715​	163,003​			196,715​			230,427​
Year 11​	210,485​	174,413​			210,485​			246,557​
Year 12​	225,219​	186,622​			225,219​			263,816​
Year 13​	240,985​	199,685​			240,985​			282,284​
Year 14​	257,853​	213,663​			257,853​			302,043​
Year 15​	275,903​	228,620​			275,903​			323,186​
Year 16​	295,216​	244,623​	41,923​	202,701​	295,216​	62,666​	232,551​	345,809​
Year 17​	315,882​	216,890​			315,882​			437,069​
Year 18​	337,993​	232,072​			337,993​			467,663​
Year 19​	361,653​	248,317​			361,653​			500,400​
Year 20​	386,968​	265,699​	25,829​	239,870​	386,968​	63,311​		535,428​
Invested​	100,000​	100,000​			192,111​			192,111​
Tax​	94,700​	97,198​			155,423​			113,294​
After Tax​	292,269​	239,870​			323,657​			422,133​

So, as stated before, when comparing the CGT fund to the Exit tax fund, Exit tax gives a small (2,498) amount of extra tax, but a huge amount (52,399) less to the investor. If, as you suggest, the punter pays the tax out of his own pocket, they do end up with more, but crucially, they have not invested 100k, they have invested 192K. For an apples to apples comparison, if they had invested the same way in a CGT fund they end up paying 42K less in tax and have 98K more at the end of the 20 years.

The easiest way to compare them all is Internal Rate of Return (IRR) calculations
IRR CGT Fund 5.5%
Exit Tax Fund 4.5%
ETF no encash 3.7%
CGT Fund + Extra invest 5.4%

I hope you can all see that there is no scenario where you are better off under the exit Tax regime, (given the assumptions 7% annual capital gain, no dividends). But what really amazes/infuriates me is that the taxman is not even getting the benefit of proportionally higher taxes!!
In scenario 1 you pay 2,498 more tax, but are 52,399 worse off.
In scenario 2 you pay 42K more in tax, but end up with 98K less.
This is not a transfer of wealth. This is simply Wealth destruction!

One of the benefits of ETFs is rolled up dividends and lower taxation on them, think that needs to be included for a fair comparison.

Another calculation for a fair comparison, and again is one of the benefits of the ETF tax regime (for Revenue), would be to show what happens when an investor holds the investment to their death and passes on to their children.

 

[Gordon Gekko]

It’d be simple enough to make the system fairer.

1) Move distributing funds over to the ‘normal’ CGT system.
2) Allow losses on accumulating funds to be offset against gains on accumulating funds.
3) Leave the 8 year rule etc in place for accumulating funds.

 

[Duke of Marmalade]

I think we both seem to be emotionally invested in this one Duke . But there's nothing like a bit of boring math to calm us all down.
Here are the figures.

	CGT Fund	Exit Tax Fund	Exit Tax	Exit Tax Calc	ETF no encash	Out of pocket Tax	Tax Calc	CGT Fund + Extra invest
Year 0​	100,000​	100,000​			100,000​			100,000​
Year 1​	107,000​	107,000​			107,000​			107,000​
Year 2​	114,490​	114,490​			114,490​			114,490​
Year 3​	122,504​	122,504​			122,504​			122,504​
Year 4​	131,080​	131,080​			131,080​			131,080​
Year 5​	140,255​	140,255​			140,255​			140,255​
Year 6​	150,073​	150,073​			150,073​			150,073​
Year 7​	160,578​	160,578​			160,578​			160,578​
Year 8​	171,819​	171,819​	29,446​	142,373​	171,819​	29,446​	142,373​	171,819​
Year 9​	183,846​	152,339​			183,846​			215,353​
Year 10​	196,715​	163,003​			196,715​			230,427​
Year 11​	210,485​	174,413​			210,485​			246,557​
Year 12​	225,219​	186,622​			225,219​			263,816​
Year 13​	240,985​	199,685​			240,985​			282,284​
Year 14​	257,853​	213,663​			257,853​			302,043​
Year 15​	275,903​	228,620​			275,903​			323,186​
Year 16​	295,216​	244,623​	41,923​	202,701​	295,216​	62,666​	232,551​	345,809​
Year 17​	315,882​	216,890​			315,882​			437,069​
Year 18​	337,993​	232,072​			337,993​			467,663​
Year 19​	361,653​	248,317​			361,653​			500,400​
Year 20​	386,968​	265,699​	25,829​	239,870​	386,968​	63,311​		535,428​
Invested​	100,000​	100,000​			192,111​			192,111​
Tax​	94,700​	97,198​			155,423​			113,294​
After Tax​	292,269​	239,870​			323,657​			422,133​

So, as stated before, when comparing the CGT fund to the Exit tax fund, Exit tax gives a small (2,498) amount of extra tax, but a huge amount (52,399) less to the investor. If, as you suggest, the punter pays the tax out of his own pocket, they do end up with more, but crucially, they have not invested 100k, they have invested 192K. For an apples to apples comparison, if they had invested the same way in a CGT fund they end up paying 42K less in tax and have 98K more at the end of the 20 years.

The easiest way to compare them all is Internal Rate of Return (IRR) calculations
IRR CGT Fund 5.5%
Exit Tax Fund 4.5%
ETF no encash 3.7%
CGT Fund + Extra invest 5.4%

I hope you can all see that there is no scenario where you are better off under the exit Tax regime, (given the assumptions 7% annual capital gain, no dividends). But what really amazes/infuriates me is that the taxman is not even getting the benefit of proportionally higher taxes!!
In scenario 1 you pay 2,498 more tax, but are 52,399 worse off.
In scenario 2 you pay 42K more in tax, but end up with 98K less.
This is not a transfer of wealth. This is simply Wealth destruction!

Yes, let's behave as adults
I have checked out your figures and yes I agree with all that.
First I want to settle some misconceptions that folk might have gleaned, especially those (not you) who accuse me (of all people) of being a red under the bed.
There is no question at all but that 41% Exit Tax is worse than 33% CGT in every scenario. It is worse than income tax + CGT in most scenarios, and that latter point is wrong.
I am not a cheer leader for Exit Tax. I do think deemed disposal or else look through to annual income is necessary.
I think the 41% Exit Tax rate is an emergency rate and should be reduced to put it on a par with look through taxation of income.

Now to your main point. You argue that comparing the two regimes the taxman is broadly neutral after 20 years but the punter has been screwed. I agree your figures. But in answering @Protocol's suggestion that this was just a time value of money thing, I agreed that is essentially what it is. To compare apples with apples I suggested rolling the taxman's take up at 7% p.a. Clearly the argument of taxman neutrality no longer holds. You counter argue that no way can the taxman get 7% p.a.; well I am not going down that rabbit hole. You also said the point was irrelevant as it was irrelevant to the punter. But you point was about the position of the taxman for whom it is very relevant.
In effect, what you are saying to the taxman is "hey, there is no way you can make 7% p.a., you have a dismal record. Why not "lend" the tax to the punter who can earn 7% p.a. on it and will be able to pay you back no problem, albeit with no interest or adjustment for time value of money.
Hardly the basis for a tax submission IMHO.

 

[Duke of Marmalade]

In my opinion, the only reason to have different rates of tax, on different investment products, is to encourage or discourage behavior. Why would you encourage deposit saving over investing?

The 3% extra exit tax was specifically introduced to level the playing field between deposits and life funds. The argument was that without this extra tax the life industry would mop up the deposit market. The life wrapped deposit would roll-up tax free until the day you encashed. Why would you deposit with a bank and pay DIRT annually?
It is of note that Charlie McCreevey decided the 3% extra at his announcement of gross roll up when deemed disposal wasn't even a twinkle in his eye. When he subsequently did introduce deemed disposal, consistency would suggest a lesser extra was appropriate. But I think he was still smarting from an earlier episode (see post #141) that he didn't bother being consistent.
In fact, recalling this history, I suggest that Exit Tax should be reduced to DIRT +2%.

 

[AJAM]

The 3% extra exit tax was specifically introduced to level the playing field between deposits and life funds. The argument was that without this extra tax the life industry would mop up the deposit market. The life wrapped deposit would roll-up tax free until the day you encashed. Why would you deposit with a bank and pay DIRT annually?
It is of note that Charlie McCreevey decided the 3% extra at his announcement of gross roll up when deemed disposal wasn't even a twinkle in his eye. When he subsequently did introduce deemed disposal, consistency would suggest a lesser extra was appropriate. But I think he was still smarting from an earlier episode (see post #141) that he didn't bother being consistent.
In fact, recalling this history, I suggest that Exit Tax should be reduced to DIRT +2%.

That is very interesting, I had no idea about that.
I've often thought that any legislation that is passed should be accompanied by a short, simple English, explanation, as to the the thinking behind it. So that later, people can look back and assess, is the legislation doing what we thought it would do? And if not, should we keep it? And if it is doing what was envisaged, is that still a reasonable goal?

In fact, it should be part of the legislation that you do look back and do this exercise, every 7-10 years.

In this case, personally, I do not think government should be backing 1 industry over another unless they have a specific reason to do so.
It's also unlikely that their original fear would have come through. People choose between those 2 asset classes based on risk tolerance, not tax.

 

[AJAM]

Hardly the basis for a tax submission IMHO.

I think we are at opposite ends of the spectrum here.
My perspective is, that if the government are looking at changing the tax code, the strategy they should take, is to ignore what is there at the moment and start by designing the ideal tax code. Then they should justify any exceptions or deviations from that. E.g. post 171

If I'm interpreting you correctly, You seem to think that you start with what's already there. Then any change to the current tax code should be justified in isolation.

Two very different approaches! But I'm confident we'll end up with a better system if we do it my way

 

[AJAM]

One of the benefits of ETFs is rolled up dividends and lower taxation on them, think that needs to be included for a fair comparison.

The assumptions are fair. You can buy non ETF funds with no or almost no dividends (Monks Investment Trust 0.19%, Scottish Mortgage Investment Trust 0.33%, Berkshire Hathaway 0%, Edinburgh Worldwide Investment Trust 0%). Or you can buy a basket of stocks with 0% dividends.

Another calculation for a fair comparison, and again is one of the benefits of the ETF tax regime (for Revenue), would be to show what happens when an investor holds the investment to their death and passes on to their children.

I'm no expert here, I assumed there was no difference. Is that incorrect?

I think, for this discussion, the tax treatment on death, should be irrelevant. Because it is to do with the CAT, not the exit tax or CGT.
i.e. if you want to change the way assets are treated at the time of death, it should be dealt with, by a change in CAT not a change to Exit Tax or CGT.

 

[Duke of Marmalade]

It's also unlikely that their original fear would have come through. People choose between those 2 asset classes based on risk tolerance, not tax.

I worked (maybe that's a misrepresentation ) in the life industry. Believe me if they were granted gross roll up with the same Exit Tax rate as DIRT they (we) would have launched life product wrapped deposits. These would have no difference whatsoever in terms of risk tolerance than bank deposits. I think I will sign out of this rabbit hole now. The only difference would be tax and bye bye banks in the deposit market.

 

[Zenith63]

The assumptions are fair. You can buy non ETF funds with no or almost no dividends (Monks Investment Trust 0.19%, Scottish Mortgage Investment Trust 0.33%, Berkshire Hathaway 0%, Edinburgh Worldwide Investment Trust 0%). Or you can buy a basket of stocks with 0% dividends.


I'm no expert here, I assumed there was no difference. Is that incorrect?

I think, for this discussion, the tax treatment on death, should be irrelevant. Because it is to do with the CAT, not the exit tax or CGT.
i.e. if you want to change the way assets are treated at the time of death, it should be dealt with, by a change in CAT not a change to Exit Tax or CGT.

Those assumptions present the worst case for the Exit Tax regime and best case for the CGT regime. I think it would be better to take a typical ETF average people might invest in like MCSI World or S&P500 and use those dividend amounts.

The tax treatment on death absolutely matters because it’s one of the key reasons for Deemed Disposal, and further you’re making an argument that Revenue doesn’t do much better under Exit Tax. Under the CGT regime the gain dies with you, so only CAT is paid. Under Exit Tax you pay 41% on the gain then CAT on what remains. That means quite a bit more tax to the exchequer.