Reading the TWG report

You might idly dream –  or hope, increasingly desperately, for your own sake (younger readers), or for your children or grandchildren – that one day real house prices might be sustainably lower again. There is no good or defensible reason why they shouldn’t be.  It is just that our political “leaders” choose to keep on doing nothing real about it.  From time to time some of our politicians talk a good talk about fixing this national disgrace –  once upon a time the current Minister of Housing was foremost among them (embraced even by the libertarians at the New Zealand Initiative) –  but then do nothing, or attempt to distract us with interventions that have little or nothing to do with the real problem.

The Tax Working Group’s report, out last week, assumes this state of affairs goes on indefinitely.   Why do I say that?   Because in the revenue projections they include in the report (and on which they construct a case for permanent income tax cuts):

  • the bulk of the revenue is from gains in urban property prices (land and buildings), and
  • they assume that property prices rise (indefinitely) at 3 per cent per annum, only 2 per cent of which is general consumer price inflation.

Since actual physical buildings experience real depreciation, and since over the long term construction costs are unlikely to rise at a rate much different than general CPI inflation, the implicit assumptions seems to be that urban land prices will rise even faster.   (It has never been clear to me how anyone thinks they can safely forecast real asset prices, let alone plan responsible tax policy on such forecasts, but set that to one side just for the moment.)

So most of the revenue would arise from general consumer price inflation –  which simply shouldn’t be taxed (since no one is better off as a result; there is no addition to purchasing power) – and the rest apparently from assuming that the rigged (by central and local government) housing market continues to get even more out of line.   If we are going to have a capital gains tax on urban property, perhaps the government could at least consider using any proceeds to compensate the generation put in an ever-more-impossible position by their own policy choices/failures?   Alternatively, if the government (Mr Twyford) really is still serious about fixing the housing market –  and he claims to be so – they need to recognise that there will be little or no revenue from a capital gains tax for a very long time.  In principle, the ability to deduct capital losses from other taxable income would actually make it a net drain on the public finances were anything serious ever to be done about fixing the housing market (investors, but not owner-occupiers, would be partly compensated for their losses, upending most people’s sense of fairness).

There is a choice:

  • reasonable amounts of revenue, much of it plundered by taxing inflation compensation, if the rigged housing market is allowed to continue, while doing nothing to compensate the actual losers from that (governmentally) distorted housing market,
  • or little or no revenue (perhaps even net fiscal costs) if a government ever gets serious and fixes the housing and urban land market.

Reading the entire report yesterday, and even going back to read the interim report, I was struck by how thin and weak the economic analysis in the document was.  As someone noted to me yesterday, it had a strong feel of something in which the working group started with a conclusion and went pretty much straight to how to write rules, without thinking about the underlying economics.   I noted a year ago how little any concerns around productivity (lack of it) figured when the Tax Working Group set out their plans.  And they delivered –  there was very little about those considerations in their reports.  Not even a recognition that, for all the talk about reallocating investment, if anything probably too few real resources have gone into housebuilding over the years not too many (given the growth of the population).

There was lots of focus on raising more revenue, and little on the low rates of business investment we already have, or on the way in which we tax much of capital income more onerously than almost any other OECD country.   The idea of fixing inflation distortions directly didn’t get much space either.  The current system bears very heavily –  and quite unjustly – on people holding savings in the form of bank deposits, and it also gives away money, totally unnecessarily (and without economic justification) to business borrowers. Allow deductions of interest expenses only for the real component of any interest rate –  it wouldn’t be that hard to do –  and you’d both improve efficiency and get more money out of leveraged property investors (and in ways that didn’t rely on a continued rigged market).

The economic analysis around the proposed capital gains tax itself was also weak –  I’d say “surprisingly weak”, but there was an agenda going into this review, so I can really only say “disappointingly weak”.   I know I saw no mention of the idea that most real capital gains (and losses) are windfalls (since markets tend to price assets efficiently on the information available at the time) –  and that, in the case of windfalls, a capital gains tax is pure double taxation.   I don’t think I saw a single mention anywhere of the fact that, if these recommendations are adopted, New Zealand will have probably the very highest rate of capital gains tax in the world.   The discussion of the lock-in problems around capital gains taxes was threadbare –  it was noted, but there was no sustained analysis, no careful discussion of various published studies on the effect, and nothing linking back to the fact that if our CGT rate is the highest in the OECD, our lock-in problems are likely to be more significant.    There was little or no serious analysis of the potential impact on entrepreneurship and innovation –  and certainly nothing that put that issue in the context of an economy with low rates of business investment.

There was also nothing at all about the incentives a realisations-based CGT creates for assets to be held not by those best able to utilise them, but by those least likely to have to face a CGT charge and those best-placed to utilise any losses: capital gains taxes  (like ring-fencing, like the PIE regime) will create more of an incentive for more assets to be held by institutions, foundations etc, rather than directly by individual investors, not because those institutions are better managers or owners, but because they are less likely to have to crystallise a CGT liability.  Tax policy for the big end of town.

And, of course, there was nothing about the systematic asymmetry built into the system, in which gains are fully taxed (when realised) but many losses may never be able to be fully utilised.   Take two separate businesses each valued at $100 million on the day the CGT is implemented, both owned by individuals who are 55.  Over the following decade, one business does well and when the owner comes to retire he sells it for two hundred million dollars. He is liable for CGT on that gain. The other business does poorly and when the owner comes to retire, there is little or no value left in the business.    In principle, he can offset that capital loss against other income, but at 65 it is very unlikely that over the remainder of his life he will anywhere near enough income to fully utilise those losses (and even if he does, there is a further –  perhaps lengthy –  time delay).   In fact, the TWG proposes that some losses could only be used to offset other losses in that same sort of activity (not against, say, labour income).  Since the nature of a market economy is that some businesses do well and others don’t, mine isn’t at all an implausible scenario.  There might be a decent case (in equity, although not in efficiency) for taxing windfalls etc if the treatment of losses was fully symmetric –  the government then would be a pure equity stakeholder in all businesses –  but that isn’t what is proposed.

And finally, I was also struck by how threadbare was the discussion around the New Zealand Superannuation Fund.   That organisation appeared twice in the report.  The first was this bid.

35. The New Zealand Superannuation Fund (NZSF) has suggested the use of a limited tax incentive to spur investment into Government-approved, nationally significant public infrastructure projects that would benefit from unique international expertise.
36. NZSF suggested that investors pay a concessionary rate of 14% (i.e. half of the
current company rate of 28%) on profits made in New Zealand from qualifying projects. Qualifying investors would need to have a demonstrated capability to deliver world-class infrastructure projects; they would also need to bring expertise that is not ordinarily available in New Zealand and commit that expertise to the delivery of the infrastructure.
37. NZSF’s suggestion has merit. The Group recommends that the Government consider the development of a carefully designed regime to encourage investment into large, nationally significant infrastructure projects that both serve the national interest and require unique international project expertise to succeed.

I wrote about this bid when NZSF first published their submission.  I wrote then that

I’m all in favour of lower company (and capital income) taxes more generally.  Standard economic analysis supports that sort of policy, and all of us would be expected to benefit from adopting such a policy approach.  But that isn’t what is proposed by NZSF; it is just a lobbying effort to skew capital towards particular sectors they happen to favour.  It is a pretty reprehensible bid to degrade the quality of our tax system.  There is no economic analysis advanced in support of their proposal –  so little it almost defies belief –  no sense of considerations of economic efficiency, just the success of lobbying efforts in a few other countries (including two struggling middle income countries not known for the efficiency of capital allocation or quality of governance, and the United States –  which not only has plenty of poor infrastructure, but a corporate tax code  riddled with exemptions and distortions).

Same goes for the Tax Working Group’s treatment of the issue.  We deserve better.

The second substantive issue in which NZSF is mentioned is around the tax liability of NZSF itself.

56. During its discussions on retirement savings, the Group noted the oddity that the NZSF must pay tax to the New Zealand Government. The NZSF reports that it paid $1.2 billion in tax, or 9% of New Zealand’s corporate tax take, in the 2016-17
tax year.

That is a good thing. It helps to ensure that the NZSF –  operating at arms-length from the government of the day –  faces the same incentives as any other New Zealand investor.   Were it not so the ownership structure of various assets could look quite different, since NZSF would be in a position to pay more than other potential investors for any particular asset, not because they would be better owners, but just because they were tax-favoured.

There does appear to be a small substantive issue, relating to NZSF’s activities overseas

It is more difficult to argue that the NZSF should benefit from sovereign immunity when it is subject to tax in its home jurisdiction. The NZSF reported paying approximately $14 million in tax to foreign governments in the 2016-17 tax year (New Zealand Superannuation Fund, 2017). This is a cost to the NZSF that does not benefit New Zealand.
59. Tax-exempt status would better recognise the fact that the NZSF is an instrument of the Government of New Zealand and make it easier for the NZSF to apply for tax exemptions in foreign countries where they are available. Not all governments recognise the principle of sovereign immunity, so the NZSF may still have to pay tax in some jurisdictions, even if it becomes tax-exempt in New Zealand. Nevertheless, the NZSF will benefit from lower compliance costs in New Zealand and some reduction in foreign taxes.

That $14 million is a real cost to New Zealanders, but as the TWG themselves recognise even exempting NZSF from all New Zealand taxes would probably not reduce that number to zero.

But what is really striking is that there is no discussion –  not a word –  about the risks that exempting NZSF from taxes might pose to the efficient allocation of capital in New Zealand.  Instead we get shonky arguments like this

Tax-exempt status would also reduce the amount of contributions that need to be made by the Government over time in terms of the funding formula in the New Zealand Superannuation and Retirement Income Act 2001.

Well, yes, but so what?   Reduced contributions aren’t a real saving in this context, just a substitute for reduced tax revenue from the NZSF.

Ah, but “the NZSF will benefit from lower compliance costs in New Zealand”.   No doubt that is true, but NZSF with its $37 billion of your money is considerably better placed to cope with the inevitable compliance costs of the tax system than most of the rest of us, including most of the rest of the business operations that would become subject to the TWG’s capital gains tax.   Hard to believe that they could really run that line with a straight face.

35 thoughts on “Reading the TWG report

  1. I was disbelieving when I read the TWG’s recommendations. They would crush productivity by penalizing thrift, investment and hard work while privileging non-productive assets like art collections and boats. They would make everyone poorer, regardless of whether they were directly affected by a CGT or not. Insane.


    • I’m less negative than that. Excluding (significant) art collections seems crazy, but I’m not bothered about boats: surely, like cars, they depreciate fairly rapidly, so hard to believe there are many material real capital gains.

      On the overall economy, the counterargument of course is that most advanced countries do have a CGT(albeit typically at materially lower rates than proposed here). Clearly CGTs are not economically catastrophic, but it isn’t impossible that they reduce GDP/productivity a little (both changing incentives, locking in owners, and material additional compliance costs) for not much revenue (and a revenue base which even the TWG concede is highly procyclical and thus potentially problematic). Given our productivity underperformance, a CGT isn’t a risk I would take. I might be less bothered if we fixed (a) our housing market, and (b) got the rest of our capital tax structure better aligned with not discouraging investment.


      • The 5 year Bright Line Test at 33% is a CGT at the highest penal rate in the world. Another CGT on top of an existing CGT is rather severe punishment for property investor. Don’t forget the Loss Ring Fencing and council wanting penal commercial land rates applied on Air BnB properties is starting to be rather Stalinist in it’s communist approach, Grant Stalin Robertson.


      • Since Grant Stalin Robertson has been going on and on about increasing investment in more so called productive enterprises, I would guess a CGT on businesses is already off the table. Winston Peters has ruled out farming land and buildings as well.

        Guess us poor Property Investors will get penalised again for another round of 33% CGT on top of a 5 year Bright Line Test CGT at already 33%. Should have just called it a 50 Year Bright Line Test instead of a 5 Year Bright Line Test and have saved the taxpayer from funding a Grant Stalin Robertson’s biased and disgraceful Tax Working Group Consultation report.


  2. The exemption for the Super Fund is a shocker.
    There’s a reason that we pay GST on Council rates: it avoids creating a distortion where residents prefer to have services provided by Council where they should be provided privately.
    Tax on SuperFund does the same thing: avoids creating a distortion in favour of SuperFund ownership. The Fund will be able to outbid others who would be more efficient managers of an asset if they have this tax advantage.

    Liked by 1 person

    • Another racist shocker is a differentiation between Maori and other races in terms of the tax rate with being a Maori gives you a lower tax rate.


      • What happened to NZFirst? Is their new name the MaoriFirst party now? No wonder their polling is down to 2%.


      • Attended a seminar put on by Joanne Hodge who was part of the TWG team, a former Bell Gully tax partner. It was a shocker as to how shallow their consideration of issues were. $4 million was paid out to Michael Cullen and his TWG team with half of them with zero tax experience.

        What mainly shocked me was her impromptu polling of around 100 people attending. She asked with a show of hands who supported a CGT, did not support a CGT and who abstained. 98% of the room put their hands up and said “NO” to CGT.

        I think Joanne Hodge is suffering from dementia or just plainly being paid to be a propaganda puppet because she commented

        “Just like my previous sessions 50% support a CGT and 50% do not.”. It was a shocker that 98% show of hands against the CGT got intentionally watered down to 50% and I can guarantee she will lie about the 50% percentage at every public session.


  3. Thanks for the summary, Michael – saves me wasting my time reading it. Key’s government also had an expert group report on the tax system – does anyone have a link to that report? I had a quick Google and couldn’t find it. It would be so interesting to compare the quality of the analysis between the two group’s outputs.

    Liked by 2 people

  4. Michael

    As I recall the purpose of the CGT was to reduce inequality. To extract more from those who have, in order to give more to those who have not. Does it achieve that outcome? Difficult to say from your review.

    I recall a former labour finance minister Trevor de Cleene saying that we should tax the tree, or tax the fruit but not both. A CGT is clearly a tax on a tree that was seeded by previous fruit that had already been taxed, so it violates Trevor’s maxim. My sense is that if this (or any) government put as much energy into improving wealth creation as it puts into wealth redistribution, then we would all be better off.

    What socialist governments like to do, (and in that definition I include National), is attempt to defy the Pareto principal, namely 80% of the wealth being held by 20% of the population, and within that 20% cohort, 80% of the wealth being held by 20% of the population etc.

    It seems that the Pareto principal applies to almost all sphere’s of life. Sport, finance, musical ability, intellectual capacity etc. Now I understand why some levelling is important in order to maintain social cohesion. However, we are already running a highly redistributive tax system and there is a risk that imposing a CGT at the highest tax rate becomes punitive.

    Maybe it’s only the top 20% who will be aggrieved, and they probably don’t vote labour anyway, so what’s the problem? Well, the problem is that while land may not be mobile, capital investment is, and eventually this government will discover that trickledown theory is a reality, and reduced investment will have an impact not just on the top 20% but on those whom they presently employ, and upon the tax revenues available to those who govern.

    Liked by 2 people

    • Brendon, if “a CGT is clearly a tax on a tree that was seeded by previous fruit that had already been taxed” as you say, would not the same analogy apply to GST (or any consumption tax for that matter)?

      Assuming the fruit was labour (that was already taxed) which then has to pay tax to buy something with that fruit.


      • Hi Katharine,

        Yes, what you say is true. We introduced GST in 1986 under the Lange Government, de Cleene was minister of customs and revenue (including GST) in 1987-88, so arguably he didn’t follow his own maxim!

        Assuming someone is on the highest tax rate of 33% (as are family trusts etc) and they purchase any product in NZ paying GST of 15%, then their effective tax rate becomes 48%. Given that the bottom 50% of tax payers effectively pay no tax in NZ (someone correct me if I’m wrong), then one might have thought the system was already sufficiently redistributive.

        I support GST as it is very difficult to avoid, even for those who are trading in the ‘black’ economy. I’m less supportive of CGT as you might have guessed, for a whole variety of reasons, the penalising of those who risk their capital to create wealth being chief amongst them.

        Liked by 1 person

    • Somebody, still believes in “trickle down”?

      In fact the most successful States have the highest progressive taxes.

      California or Arkansas, anyone?


      • California successful? Depends how you define success I guess.

        The state cut 22,000 teachers in the past year to help with the education budget.

        California’s unemployment rate is at 12%

        California’s state pension fund has $16.5 billion more in liabilities than assets. On top of the already bankrupt system, California is expected to receive a $51.8 billion bill for the state’s retirees’ healthcare in the next year.

        California’s Healthcare System might be the biggest mess, with 1 in 4 Californians (under 65) having no health insurance last year. This individual dilemma has snowballed into a state-wide problem, as dozens of hospitals and E.R.s have shut down in the past ten years. The connection? Many hospitals and emergency rooms could not afford to stay open after being filled with illegal immigrants, unemployed Californians and homeless people who weren’t able to pay for the services they were receiving.


        No doubt some of those numbers will be contestable, but California’s ‘success’ is underpinned by an ocean of debt and ongoing budget deficits. If something cannot continue, eventually it won’t. You should pray we don’t have California’s success.

        Liked by 2 people

      • The Hollywood boulevard Walk of Fame should be renamed the Walk of Shame. My recent visit there over Christmas, shows how poorly maintained the streets were. Pavers were cracked, potholed, dusty, with 2 dollar souvenir shops, the stench of weed and drunken angry people roamed the shops,


    • Re inequality, hard to tell. My prior is that it won’t really make much difference (systematically). Yes, realised capital gains will typically be earned by people with above average income/wealth (even for their demographic) but I suspect the most wealthy will be least likely to pay much (not just smart lawyers and accountants, but greater ability to avoid realising the gain). Think of someone with one or two investment properties. A job transfer moves them to another city, and they might have little real option but to liquidate and buy in another city. But if you own 100 properties, it won’t be a DIY operation. If you are a billionaire you will be able to best match gains and losses to minimise the PV of your payments etc.

      I’m not deeply philosophically opposed to a CGT – my ideal would be a progressive consumption tax – just concerned that it is a lot of admin for not much (fairly earned) money, not muc for inequality, and a bunch of problems around lockin and innovation

      Liked by 1 person

    • Brendan, if our current tax system is already so redistributive, then why is inequality rising, NZ’s Gini coefficient was .275 (there was difference in pre and post housing costs) in ’86 and is now .35 pre and .41 post housing costs. Trickle down doesn’t exist it’s a neo liberal myth.


      • Daniel

        I accept that economies are complex, and cannot be encapsulated in a single theory. However, from memory Helen Clark said that ‘a rising tide lifts all boats’ and I doubt she was a ‘neo liberal’ (what ever that may be).

        As an aside, are you aware that global poverty has halved in the last 20 years?

        How did that happen? I imagine it was in large part through economic investment in those poorest regions of the world.

        My previous point was that while land is fixed, capital is not. If wealthy individuals and corporations are disincentivized to invest their capital in NZ because of punitive CGT rates, they will invest elsewhere. Just as new investment creates wealth and lifts the economic status of whole communities, so lack of investment creates the opposite effect.

        Finally, equality of outcomes is a utopian dream. Not only is intelligence distributed on a bell curve throughout society, but people’s aspirations differ, all of which produces different economic and social outcomes in people’s lives. This is the natural product of living in a free society where people are equally able to enjoy the fruit of their labours, and suffer the consequences of their failures.

        The idea that governments should intervene in this process to more evenly distribute the fruits of individual success, and mitigate the impact of failure is relatively new, and we have yet to see the full impact on society. What we have observed however is that entitlement welfare produces some undesirable outcomes, just as a reliance upon private welfare alone produced some undesirable outcomes.

        We need to understanding how people are motivated and why ‘best intentioned’ government intervention often creates unintended consequences that are more dire than the problem they sought to solve. If we begin with a flawed understanding of human nature, then we are never going to get the process right, and even then we, along with our politicians, suffer from our share of limitations and weaknesses. The first responsibility of government is to ‘do no harm’, however for decades now politicians have thought it their role to ‘do good’. We are all paying a high price for their good intentions.

        Liked by 1 person

      • Brendan, read the link you provided – the “lift out of poverty” was to something above the $1.90 a day threshold. Hardly transformative and hardly no longer poor. It’s a joke measure that suits the status quo just dandy.

        Liked by 1 person

      • Katharine

        I’m sure it’s not a joke for those who were living below that poverty threshold, and are now living above it. Perhaps this highlights how ‘relative’ the measures of ‘poverty’ we experience in New Zealand are when compared to the global poor.

        My point was around the importance of capital investment, not that living on $1.90 a day is a measure we should be satisfied with.

        I have been privileged to see first hand what a difference capital investment can make to the entrepreneurial poor in countries like Myanmar and Cambodia. I have also seen first hand what entitlement welfare can do to people living in New Zealand.

        It’s complex, but we cannot redistribute our way to universal material wellbeing.

        Liked by 1 person

      • Brendan is winning the lifting out of poverty argument. The $1.90 a day is an arbitary amount used by the UN to set a target which unlike most economic targets was achieved early. Listening to my wife’s family talking about PNG village life in the past there was no cash income but they never were hungry. In the past I clearly remember famines being reported in various places such as India and sub-Saharan Africa; now famines are smaller and restricted to war torn areas such as Yemen and Syria and this is despite an over doubling of the world’s population. Even in a poor badly managed country like PNG you now find educated children, fast food outlets, clothes that are not rags, buses and internet access – that is an increase in wealth.
        During my lifetime the lift in population, life expectancy, average wealth and income has been remarkable – looking through the history of mankind there has never been anything comparable.

        The one advantage subsistance living has is its equality of poverty.

        Years ago I read a comparison of economics with the dynamics of gas particles. Starting with a container of gas at a low temperature each molecule bounces around, a few stationary and some a little faster; every collision resulting in a conservation of momentum but a change of speed of each molecule. Increasing the temperature and the molecules on average move faster (total momentum increases) resulting in some still near stationary but more moving much faster. Now replace molecules with people and collisions with economic transactions – the bell curve for wealth matches the bell curve for molecules momentum – it is a good match except for the extremely wealthy who are too numerous – the deduction being they go into economic transactions with some kind of advantage.


      • And neither can we borrow our way to it, but borrow we have been. I’d just be happy if tax minimisation as a “way of life” (as Simon Bridges would have it) was ended. That requires changed tax settings and better regulation and enforcement.

        Liked by 1 person

      • Katherine, we actually have not borrowed that much.

        The Crown’s assets increased by $26.3 billion to $339.9 billion at 30 June 2018, while total Crown liabilities only increased by $7.2 billion to $204.3 billion. Net worth attributable to the Crown increased by $19.1 billion to $129.6 billion, reflecting the operating result for the year and an upward valuation of the Crown’s physical assets of $10.6 billion.

        This lead to a decline in nominal net core Crown debt to $57.5 billion, a decline of $2.0 billion from 2016/17. In GDP terms, net core Crown debt fell from 21.7% in 2016/17 to 19.9% this year.


  5. This is a test: Labour said “diversity ” would be “of immense value to the country”. Tax is about consistency across all sectors and over time, that requires a commitment to nationhood.


    • More like a race discrimination tax with being Maori equates to a lower tax rate of 17.5% and an other race pays tax at 33%. Might as well call it Race Discrimination Tax rather than CGT. Perhaps a RDT?


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