Reducing Taxes on Capital Gains

Among the tax measures proposed in the President’s congressional message is a reduction of the rate on capital gains. This proposal is without any merit and warrants outright rejection by the Congress.

The most commonly given and, in fact, the only defensible reason for preferential tax treatment is the reputed incentive to foster new capital formation. But this is a delusion. By far the largest amount of transaction giving rise to capital gain (or loss) consists of the sale of existing securities and existing real estate.

If I obtain a gain by buying shares of a company for $50 and selling them some time later at $100, I have contributed exactly nothing to the formation of new capital. My purchase, holding, and value of the shares have not contributed a penny to the company for the acquisition or modernization of equipment that could make additional employment or greater productivity possible.

Hence, I don’t deserve special tax treatment. This is true at all times but particularly now in the face of a large budget deficit that calls for enlarging tax revenues, not giving them away.

A tax measure that can claim to foster capital formation is the investment tax credit given to the business firm making additional investments in plant and equipment. This approach has been tried in the U.S. and abroad but has also been found wanting and dropped from our tax system. Tax privileges for capital gains are far more popular among the relatively well-to-do, although their economic rationale is a myth.

As an investor I have in the past benefitted from the government’s largess with respect to capital gain income, for the “new” proposal is merely a revival of an earlier privilege, but always with a good dose of bad conscience. I shudder at the thought of becoming once more a darling of tax legislation.

LEO GREBLER

Professor Emeritus

Anderson Graduate School

of Management

UCLA