Federal Capital Gains tax rate changes
Has anyone seen the Official wording of the proposed capital gains
tax reform for individuals ? And if so, can shed a little light
on to the subject ? Examples ?
What I am trying to understand is how does the "indexing for inflation"
affect things ? Better or worse ?
The indexing of capital gains for inflation provisions of the Contract
with America are a double edged sword. The way they work is to adjust
basis upwards for an inflation component over the holding period of an
asset. Thus, in an inflationary period, basis would be increased and
gain would be decreased because amount realized minus adjusted basis
decreases with an inflationary component. For example, if you purchased
XYZ stock in 1978 at $20 a share and sold in 1996 for $45 a share while
the inflation rate over the 18 year period was 50% (this rate of
inflation is not based in fact but just an example) your capital gain
would be calculated as follows: Amount realized $45 - Adjusted basis $30
(i.e. $20 * 1.5) = Capital gain $15, which would be multiplied by the
appropriate rate. As you can see, indexing in this case reduced the
taxpayer's gain by $10 per share.
This is not only beneficial to the taxpayer, but its fair. Without
indexing taxpayer's are taxed on nominal illusory gains that stem from
inflation associated with a decline in purchasing power.
However, the indexing provisions of the Contract with America fail to
index debt for inflation. This omission creates tremendous opportunities
for tax arbitrage, for example, if taxpayers borrow money to finance stock
purchases. Considering all the work done in the 1986 Act to eliminate
tax shelters, the indexing provisions in their current form would create
many new shelters and fly directly in the face of all the work done by
the 86 Congress. New tax shelters would be bad.