Capital gains: Think-tank claims tax rise will reduce Treasury's take

The Adam Smith Institute says increasing capital gains tax will widen the deficit rather than narrow it.

The Conservatives and Liberal Democrats have agreed to tax non-business capital gains at rates "similar or close to those applied to income".

This means the tax could be increased from its current level of 18 per cent to 40 per cent or even 50 per cent, depending on the level of income tax people pay.

But in a report published today, the institute says investors believed the measure would be temporary and would therefore defer capital gains realisations until the rate reduced again. This would lead to a "sharp decline" in tax revenues.

Its president, Madsen Pirie, said: "In intending to tax the rich, politicians, without understanding the effects of their actions, are proposing measures which will decrease the Treasury's tax take and make the deficit even worse. This hardly qualifies as sensible economic policy."

The report found that capital gains tax rises in the United States and Australia had led to reductions in revenue. Conversely, decreases in the tax led to rises in revenue.

The institute said it was "highly likely" that these negative revenue effects of a rise in the tax would be more accentuated in the UK because investors realised there was a "cited short-term need" to raise revenues to pay down debt.

Any increases in the tax would be introduced largely for political reasons and not as a result of evidence-based policy-making.

Investors also understood that the "major party within the coalition does not believe in the CGT tax increases and will seek an early opportunity to reverse them".

The institute said revenues fall when the capital gains tax rate rises because they are "voluntary taxes", unlike income taxes.

The report said: "While everyone needs to work and bring in an income, the same is not true of making capital gains.

"No one needs to pay capital gains taxes except in times of financial distress. Taxpayers can simply avoid selling assets that are subject to the tax and also avoid buying assets that are subject to the tax."