Plan to Hike Capital Gains Tax Hit

Increased capital gains taxes could harm the U.S. economy and reduce total tax revenue, according to congressional opponents of elements of the U.S. Treasury Department’s proposed tax simplification plan that would tax capital gains income as ordinary income.

Sen. Alan Cranston (D-Calif.) and Rep. Ed Zschau (R-Los Altos), in separate interviews Thursday, criticized such a proposal and credited past reductions in capital gains tax rates--in 1978 and again in 1983--with dramatic increases in investment spending that resulted in higher total tax revenue.

“I’m going to do what I can to maintain (lower) capital gain tax rates,” Cranston said, while voicing general support for a modified flat tax.

Cranston also expressed support for a tax measure that would defer taxes on capital gains so long as the profits were reinvested, a tax deferment similar to that allowed homeowners who use profits from home sales to buy another residence.

The senator predicted that such a plan would “lead to a new burst of investments.”

Zschau, who earlier this week led efforts to get 95 House members to send a letter to President Reagan opposing capital gains tax increases, warned that such increases could “reduce investment and retard economic growth.”

“It won’t do us much good to get a so-called simple and equal tax system at the expense of our economy going to hell,” Zschau, a former electronics company executive, said.

“We can’t grow our way out of the deficit if we stifle the growth of capital formation.”

Cranston and Zschau were in Los Angeles for a conference on public policy and economic growth.

Currently, taxes are assessed against only 40% of capital gains, a maximum effective tax rate of 20%. However, the Treasury Department’s proposal would tax the entire gain at a maximum rate of 35%, although the proposal also includes an indexing provision that would adjust the gain for inflation.

The maximum capital gains tax rate was 25% until the late 1960s, when Congress increased the rate to 40%. The rate was boosted again in 1975 to 49%.

During that time, venture-capital investment fell well below $500 million a year.

“The impact . . . was devastating,” Zschau and his House colleagues said in their letter to Reagan on Tuesday. “The venture capital needed to start and finance the growth of young companies all but dried up and caused many companies to stop growing, go deeply in debt, or--in the case of technology companies--sell or license their inventions to foreign competitors.”

By contrast, government figures show that, when the capital gains rate was cut to 28% in 1978, new capital investments exceeded $1 billion in 18 months.

After a further tax rate cut to 20% in 1983, new capital investments reached $4.1 billion.

The government figures also showed that, while the capital gains tax rate declined, total revenue from capital gains taxes climbed from $8.1 billion in 1977 to $11.9 billion in 1979, the first year of the reductions.