Submission on taxation of investments to the Commission on Tax and Welfare

I am going to make my own submission the taxation of investments and savings.

But it would be a useful experiment to see if we could get a broad consensus on the principles on Askaboutmoney. I think it's unlikely that it will work but I will give it a try.


As it's a first draft, it will be a bit disorganised. The final version would be better laid out and more systematic.

If there is huge disagreement then I will just make the submission in my own name.

Feel free to discuss whether tax rates are too high or too low in some other thread. But this thread is about the principles of the system and is intended to be neutral on the rate.

I will be editing and updating the posts based on the comments, so it's probably better not to "like" or "dislike" the posts as they may well change.

Submission to the Commission on Taxation and Social Welfare on the taxation of savings and investments.

Askaboutmoney is a consumer forum where the topic of savings and investments and their taxation is frequently discussed. As a discussion forum, opinions differ on tax rates and many other issues. However, there is broad agreement on the following principles which should be central to any system of taxation.

As we are discussing principles, this submission will not deal with tax rates.
For simplicity, I will refer to "investments" but this term covers savings and investments.

1) As far as possible, the tax treatment of different types of investment should be neutral. In other words, it should not matter from a tax point of view whether a consumer:

• puts money on deposit
• buys shares directly
• invests in a collective fund
• invests in property

They should all be subject to the same taxation system.


2) An exception can be made to the above to incentivise certain types of investment e.g. pensions or investing in enterprises.

3) The taxation of investments should be clear and simple. It should be easy to understand and easy to comply with. The majority of Irish resident consumers should be able to invest without needing to take specialist tax advice.

3A) It should be administratively simple for the consumer, Revenue and investment managers. For example, the UK Individual Savings Accounts are very easy to understand and require no tax return by the investor.

4) For the majority of consumers, the most suitable investment vehicle would be a low-cost, passively managed, unit-linked fund. While this should not be incentivised over other types of investments, the current disincentives for investing in such a fund should be removed

5) Irish collective funds should not be at a disadvantage to foreign collective funds.

6) An investor who wishes to hold their investments through a limited company should not be at either an advantage or disadvantage to an investor who holds their investments directly.

7) In setting the tax rate, allowance should be made for inflation. In other words, real gains after inflation should be taxed. Where returns do not keep up with inflation, they should not be taxed.

How the current taxation system conflicts with the above principles

Example 1 There are two separate tax regimes for investment products

• Income Tax and Capital Gains Tax
• Gross roll-up and exit tax

If a consumer buys a portfolio of shares directly, the dividends will be taxed at their marginal income tax rate while any gain on disposal will be subject to CGT. (The same applies to direct investment in property and in REITs)

If they buy a collective or unit-linked fund, for example from a life insurance company, they will pay an exit tax on the profits when they cash the fund. If they hold the fund for 8 years, there will be a deemed disposal.

Differences in treatment

• Capital Gains disappear on death so the holder of a direct investment has a huge advantage over the owner of a collective investment.
• The loss on one directly held investment can be set against the gain on another. The loss on a collective fund cannot be set off against the gain on another.

Lack of clarity

• A unit-linked fund provided by an Irish life insurance company is clearly subject to the gross roll-up regime.
• The purchase of property or shares is clearly subject to the IT/CGT regime
• But it's not clear what regime applies to the majority of Exchange Traded Funds.

There is no rationale to cancelling capital gains on death

An investor who disposes of a property the day before he dies will pay Capital Gains Tax on the capital gains.
If they hold the property on death, the capital gain disappears.

There is simply no rationale for this.

It leads to sub-optimal decisions.

A wealthy individual with a lot of unrealised capital gains cannot make gifts during their lifetime as they would have to pay CGT on the disposal. So they hoard their investments. It would be better for society if there was no advantage in disposing of an asset during one's lifetime and disposing of it on death.

An investor who holds shares directly may find that one share is a star performer with huge gains. They may wish to sell part of this holding to diversify their portfolio, but doing so results in a big CGT bill. So they hold onto the investment until their death.

Alternatively, there should be no exit tax on death

If there is some rationale for cancelling capital gains on death, then the exit tax on collective funds should be cancelled on death.

Irish fund managers don't seem to be able to provide an Income Tax and CGT collective fund

An Irish investor can buy an American based Exchange Traded Fund and it will probably be subject to Income Tax and CGT. However, if they buy an Irish based fund, they will be subject to the gross roll up regime.

This puts Irish providers at a disadvantage.
But it also makes Irish investors subject to U.S. Estate Tax if they own the investment when they die.

Brendan Burgess said:

6) An investor who wishes to hold their investments through a limited company should not be at either an advantage or disadvantage to an investor who holds their investments directly.

Click to expand...

Some investors buy property through limited companies without appreciating the appalling tax consequence of this form of property ownership.

The corporate structure should be ignored and the individual should be taxed on the company's income and capital gains as if they held the underlying investments directly.

Inconsistency in tax relief on borrowing to invest

An investor borrowing to invest in property can set the interest on such borrowings against the rent received. But an investor borrowing to invest in shares can't.

This should be consistent. Either allow the interest on borrowing to invest in shares or disallow the interest on borrowing to invest in property.

Allowance should be made for inflation in taxing capital gains

From memory, we had a capital gains tax rate of 40%(?) but gains were indexed for inflation. So only real gains were subject to CGT.

Then the CGT rate was reduced to 20% and indexation was abolished.

Then the CGT rate was increased to 33% but indexation was not brought back.

We have been in a low inflation environment for some time, but that might be about to change.

Only real gains should be subject to CGT.

The same argument could be made for deposit and other investment income

If a depositor gets interest of 5% while inflation is 7%, they have a negative real interest rate.

Yet, they pay tax on the 5% interest received.

Should there be joint assessment for Capital Gains Tax?

If the annual exemption is €1,270 for a single person, why not make it €2,540 for a jointly assessed couple?

Hi Brendan,

An excellent piece of work, well done. I would make the following points.

1. I would agree entirely on the principles of neutrality and simplicity vis-a-vis different types of investment product. From the lengthy thread on this very issue on AAM it appears that even the revenue and professional advisors don't quite know what the situation is for some products. That's really an appalling situation and needs to be rectified.

2. While you don't want to get into tax rates as such, I believe there is a case, on simplicity and compliance-reduction grounds also, for adopting something like the UK tax-exempt ISA concept. This allows ordinary individuals to make relatively small investments in the product of their choosing (deposits, shares, bonds etc etc) with any income and capital gains entirely free from tax. No tax return is required.

3. I would respectfully disagree with your CGT on death proposal. That would lead to a double hit for beneficiaries with CAT payable on the after-CGT asset value, which, presumably, was acquired with the disponer's after-tax income in the first place.

4. Agree entirely with inflation adjustment for CGT. It is perverse not to do so.

Should the annual exemption be cumulative?

Purely from an administrative point of view.

If an annual exemption of €1,270 is justified, then why not carry forward any unused exemption?

The "use it or lose it" approach leads to people selling shares to avail of the exemption. This leads to unnecessary administration and costs.

Give an annual exemption of €1,000 a year from age 20. If I make my first capital gain at age 30 and it's €8,000, it uses up €8,000 of my cumulative €10,000 exemption but I pay no CGT.

Brendan

Baby boomer said:

2. While you don't want to get into tax rates as such, I believe there is a case, on simplicity and compliance-reduction grounds also, for adopting something like the UK tax-exempt ISA concept. This allows ordinary individuals to make relatively small investments in the product of their choosing (deposits, shares, bonds etc etc) with any income and capital gains entirely free from tax. No tax return is required.

Click to expand...

Excellent point and would resolve a lot of the other issues I have raised.

Baby boomer said:

3. I would respectfully disagree with your CGT on death proposal. That would lead to a double hit for beneficiaries with CAT payable on the after-CGT asset value, which, presumably was acquired with the disponer's after-tax income in the first place.

Click to expand...

The disponer pays exit tax on death if they have a gross roll-up fund.

So presumably we are all in agreement that it should be one or the other. I don't see why a direct investor should be exempt and a collective investor not exempt.

The CAT issue is very easy to resolve. Give the beneficiary a credit for any CGT paid on death.

Don't forget though, that if a person sells a property on a Monday and pays CGT and dies on the Tuesday, the beneficiary will have that double hit.

Brendan

Brendan Burgess said:

The disponer pays exit tax on death if they have a gross roll-up fund.

So presumably we are all in agreement that it should be one or the other. I don't see why a direct investor should be exempt and a collective investor not exempt.

Click to expand...

Yeah, hard to argue with that, I suppose! I would make the point though, that it's the gross roll-up concept that is strangely anomalous and out of line with taxation principles generally.

Brendan Burgess said:

The disponer pays exit tax on death if they have a gross roll-up fund.

So presumably we are all in agreement that it should be one or the other. I don't see why a direct investor should be exempt and a collective investor not exempt.

Click to expand...

Yeah, hard to argue with that, I suppose! I would make the point though, that it's the gross roll-up concept that is strangely anomalous and out of line with taxation principles generally

Brendan Burgess said:

The CAT issue is very easy to resolve. Give the beneficiary a credit for any CGT paid on death.

Click to expand...

Yes, simple and sensible.

Brendan Burgess said:

Don't forget though, that if a person sells a property on a Monday and pays CGT and dies on the Tuesday, the beneficiary will have that double hit.

Brendan

Click to expand...

Perhaps a tapering CAT credit? Say 100% of CGT paid by the disponer in the 12 months before death, 80% for CGT paid between one and two years before death, and so on down to 20% between years 4 and 5.

The Mirrlees Review is a review of the design of the taxation system.

I provide details about it below, with links to the final report, and relevant chapters.

Mirrlees Review​

Reforming the Tax System for the 21st Century: The Mirrlees Review​

The Mirrlees Review brought together a high-profile group of international experts and early career researchers to identify the characteristics of a good tax system for any open developed economy in the 21st century, assess the extent to which the UK tax system conforms to these ideals, and recommend how it might realistically be reformed in that direction.
The Review is published by Oxford University Press in two volumes. The first, Dimensions of Tax Design, consists of a set of specially commissioned chapters dealing with different aspects of the tax system, accompanied by a series of commentaries by different expert authors, voicing differing opinions on the issue discussed. The second volume, Tax by Design, sets out the conclusions of the Review.
Both volumes are available to download free of charge below.
Related publications and press releases:

• Fiscal Studies http://onlinelibrary.wiley.com/doi/10.1111/fisc.2011.32.issue-3/issuetoc (special issue) on the Mirrlees Review.
• Press release on the publication of the Mirrlees Review (13 September 2011)
• Conference to launch the Mirrlees Review (with papers from key contributors available to download).
• Press release on the launch of the Mirrlees Review findings (10 November 2010)

Here is the book / final report:

Tax by design​

James Mirrlees, Stuart Adam, [broken link removed], Richard Blundell, Stephen Bond, Robert Chote, Malcolm Gammie, Paul Johnson, Gareth Myles and James M. Poterba
Book, 13 Sep 2011

Tax by Design, the final report from the Mirrlees Review, presents a picture of coherent tax reform whose aim is to identify the characteristics of a good tax system for any open developed economy, to assess the extent to which the UK tax system conforms to these ideals, and to recommend how it might realistically be reformed in that direction. Drawing on the expert evidence in Dimensions of Tax Design, it provides an integrated view of tax reform.
Preface and Contents
1. Introduction
2. The economic approach to tax design
3. The taxation of labour earnings
4. Reforming the taxation of earnings in the UK
5. Integrating personal taxes and benefits
6. Taxing goods and services
7. Implementation of VAT
8. VAT and financial services
9. Broadening the VAT base
10. Environmental taxation
11. Tax and climate change
12. Taxes on motoring
13. The taxation of household savings
14. Reforming the taxation of savings
15. Taxes on wealth transfers
16. The taxation of land and property
17. Taxing corporate income
18. Corporate taxation in an international context
19. Small business taxation
20. Conclusions and recommendations for reform
References
Related Information


Download full report

Chapter 13 - the taxation of household savings


There isn't a simple list of conclusions, sorry.

Protocol
That is great. I skipped to Chapter 14 and loved the first paragraph.


The current system of savings taxation in the UK is beset by complexity
and unequal treatment. Saving in many forms is discouraged. Simple
interest-bearing accounts are treated particularly harshly. Other forms of
savings receive rather generous tax treatment. This complexity and unequal
treatment have spawned a thriving industry advising people on how to
allocate their savings, not on the basis of the best underlying investments but
on the basis of tax treatment.