Picture this scenario. It's a rainy Sunday afternoon.
You're up in the attic, finally getting around
to clearing out those dusty boxes that have been
sitting there since, I don't know, since you
moved in. You're sifting through old college
textbooks, broken kitchen appliances, maybe some
questionable fashion choices from the 90s. The
archaeology of your own life. Exactly. And then
you spot it. A long white cardboard box tucked
away in the corner. You open it up and inside,
preserved in a plastic sleeve, is a comic book.
Let's say it's Amazing Fantasy hashtag 15. Ooh,
the Holy Grail. The Holy Grail. The first appearance
of Spider -Man. You remember buying this, or
maybe your grandfather bought it, for, what,
12 cents at a newsstand? You pull out your phone,
your hands are shaking a little bit, and you
check the market price. And your jaw hits the
floor. It hits the floor. It is worth a fortune.
We are talking a life -changing amount of money.
It's like a winning lottery ticket that's been
sitting under a pile of old winter coats for
40 years. That is the dream, isn't it? You know,
the unexpected windfall, the hidden treasure.
It is the absolute dream. So you go through the
whole process. You find a reputable auction house.
You get it graded. The marketing ramps up. And
finally, the gavel bangs. You sell it. You are
ready to collect your millions and, I don't know,
sail off into the sunset. But then. But then
the realization hits you. That profit. It isn't
entirely yours. No, it is not. There is a silent
partner in the room, a partner who took zero
risk, who didn't preserve the comic, who didn't
buy it at the newsstand, but who is standing
there with their hand out waiting for their cut.
And depending on where you live on this planet,
that cut could be massive. And that silent partner,
of course, is the government. Today, we are diving
deep into the world of capital gains tax, or
CGT for short. Now, I know what you're thinking.
Taxes. Really, I'm going to tune out. But let
me stop you right there. Please do. Because this
isn't really about filling out forms or crunching
boring percentages. It's not. This is about a
mechanism that fundamentally changes how human
beings behave. It changes when we sell our houses,
how we invest in the stock market, and even whether
we decide to, you know, cheat the system and
become criminals. It creates market distortions.
It locks trillions of dollars in place, freezing
them in the economy. And as we will see, it is
handled wildly differently depending on where
you stick a pin in the map. So our mission for
this deep dive is to move beyond the boring definitions.
We want to figure out why selling a house or
a stock is so complicated. We have a massive
stack of research here. We're talking historical
data from Japan, policy shifts in Kenya, and
some heavy -hitting economic studies on tax evasion.
Let's unpack this. Let's get into it. First things
first, we need to lay the groundwork. We need
a working definition so we're all on the same
page. What exactly is a capital gains tax? Based
on the source material we have, the definition
is actually quite specific, and every single
word matters. A capital gains tax is a tax on
the profits realized on the sale of a non -inventory
asset. Okay, there are two really heavy concepts
in that sentence. Realized and non -inventory.
Let's start with non -inventory. What does that
even mean? So this is the distinction between
a business running its daily operations and an
investment. If you run a shoe store and you sell
a pair of sneakers to a customer, that is your
inventory. Right. The stuff you sell. The stuff
you sell. That is regular business income. You
buy shoes, you sell shoes. That's your job. The
profit you make there is taxed as income. Okay.
That makes sense. But if you as an individual
buy a stock or a bond or a piece of precious
metal or a rental property and you hold on to
it. That is a capital asset. You aren't in the
business of selling that specific item every
day. It's an investment, not a job. Exactly.
So when you eventually do sell it for more than
you bought it for, that profit isn't income in
the traditional sense. It is a capital gain.
So the government effectively treats the money
I make from working my labor differently than
the money I make from, well, from waiting. From
my money making money. Essentially, yes. And
that brings us to the second word, which is arguably
the most important word in this entire deep dive.
Realized. Realized. Yeah. This is the idea that
paper wealth isn't real wealth, at least not
to the tax man. Correct. Let's go back to your
Spider -Man comic book. Let's say you found it
10 years ago. You checked the price then, and
it was worth, I don't know, $500 ,000. Okay.
Today, you check it again, and it's worth a million.
On paper, you made half a million dollars while
it sat in the box. Your net worth went up. You
are, for all intents and purposes, richer. Right.
But the tax man doesn't come knocking. Not yet.
Because I haven't sold it. I don't have the cash
in my pocket. It's still just a comic book. Exactly.
You haven't realized the game. The tax event
is only triggered when the transaction happens.
When you exchange the asset for money. Which
seems logical, right? I mean, I can't tear off
a corner of the comic book and mail it to the
IRS to pay the bill. I need the liquidity from
the sale to pay the tax. It is logical, and it
solves a very real liquidity problem for taxpayers.
But, and this is a huge we're going to get into,
that simple rule taxation upon realization creates
a massive psychological loophole. A loophole.
It creates what economists call the locked -in
effect. It essentially gives you a massive financial
incentive to never, ever sell. We're definitely
going to deep dive into that locked in concept
because it sounds like a trap. But sticking to
the mechanics for just a second, is every single
dollar of profit taxed? Like if I sell an old
bicycle at a garage sale for 50 bucks, am I committing
tax fraud if I don't report it? Generally, no.
I mean, the government isn't interested in your
garage sale or your used toaster. Good to know.
They usually set thresholds or boundaries. They're
looking for the big fish, generally speaking.
If your profit is below a certain limit, it might
be tax -free. And the calculation is usually
straightforward, at least on paper. On paper.
It's the sold price minus the purchase price.
And that purchase price, the official term, is
the cost basis. The difference is your profit,
your capital gain. Cost basis. So that's just
fancy accounting talk for what I paid for it.
Usually, yes. Although, as we will find out in
the avoidance section later, that cost basis
can, well, it... It can change in some pretty
magical ways if you inherit property or use certain
loopholes. It's not always a fixed number. Ooh,
I love a good loophole. Now, another thing I
noticed in the research is that individuals and
corporations don't always play by the same rules.
That is right. Most countries have different
rates for individuals versus corporations. Corporations
often treat capital gains more like regular business
income because, well, they are businesses. Buying
and selling assets is part of their operation.
But individuals often get... preferential rates.
The thinking is that governments generally want
to encourage individuals to invest, to save for
retirement, to buy homes. So they often tax capital
gains at a lower rate than your salary. It's
an incentive. And what happens if I'm a terrible
investor? What if I lose money? Let's say I sell
that comic book for a huge profit, but I also
sold some stocks that absolutely tanked. Do I
still pay full tax on the comic book? Usually,
no. This is the concept of the offset. It's the
one mercy the system offers, really. The consolation
prize for bad investing. Exactly. Most systems
allow you to take your capital losses and subtract
them from your capital gains. So if you made
$10 ,000 on the comic but lost $10 ,000 on the
stock, your net capital gain is zero. You pay
nothing. And if I lost more than I gained, then
you usually have a net capital loss. And in many
places, you can carry that loss forward to future
years to offset future gains. It's the government
effectively sharing in your risk, but only to
the extent that it lowers your tax bill on other
winners. OK, so that's the machinery. You buy
low, sell high, and pay a percentage of the difference
when you sell after accounting for your losses.
But you mentioned earlier that this tax changes
human behavior. This is where it gets really
interesting. This is the behavioral economics
of capital gains tax. And this brings us back
to that locked -in effect you mentioned. Break
that down for us. Why does realization make me
freeze? So imagine you own a stock. You bought
it for, let's say, $10, and now it is trading
at $100. You have a massive $90 gain per share.
I'm feeling good. I want to sell and go buy a
boat. But wait. The moment you click sell, you
trigger a tax event. If you sell now, you have
to cut a check to the government for, let's say,
20 % of that $90 profit. That's $18 per share.
That is immediate pain. The money is gone. However,
if you don't sell, what happens? You keep that
money working for you. The tax liability is there.
It's hovering over you. But you don't have to
pay it yet. So I get to keep investing the full
$100, not just the $82 I'd have left after tax.
Precisely. You are effectively getting an interest
-free loan from the government equal to the amount
of tax you would have paid. You get to keep earning
returns on the government's money. Oh, I see.
By postponing the tax, I am keeping more capital
in the market to grow. It's a deferral strategy.
It's a powerful deferral strategy. And even if
the tax rate goes up later, the present discounted
value of that tax is reduced by weighting. It
creates a very strong incentive to hold on to
assets way longer than you naturally would. You
become locked in. So I might have a stock that
I think has peaked. My brain is telling me I
should sell it, but I don't because I hate the
idea of paying that tax bill today. Precisely.
You are making an investment decision. based
on tax policy, not on the fundamental quality
of the asset. And that's a huge market distortion.
Is there, I mean, is there evidence that this
actually happens on a large scale? Or is this
just economists theorizing in a classroom? Oh,
it's a huge debate with a lot of data behind
it. The source material points to Martin Feldstein.
He was a big deal, the chair of the Council of
Economic Advisors under President Reagan. He
was a massive proponent of this theory. What
was his specific argument? He claimed the effect
was so massive that if the government reduced
the capital gains tax rate, they would actually
make more money in tax revenue. Wait, lower the
tax to make more money? That sounds completely
counterintuitive. His logic was that the lower
rate would unloss the floodgates. All these investors
sitting on decades of unrealized gains would
finally say, OK, the penalty for selling is low
enough now. I'll cash out. So the sheer volume
of new sales would be so high that it would more
than make up for the lower rate on each sale.
That was the theory. A gusher of revenue from
all this pent up locked in capital being released.
And did it work out that way? Is that what the
evidence shows? Well, it's. It's complicated.
The sources we have cite 1994 estimates that
suggest a permanent reduction in the tax rate
would actually have very little effect on revenue
in that way. Maybe a short -term bump, but not
a long -term one. So the theory is a bit controversial.
It's very contentious. So while the locked -in
effect is real people absolutely do hesitate
to sell because of tax years, the idea that cutting
taxes magically pays for itself is still very
much up for debate. It seems like capital gains
tax acts as a kind of friction. It's like sand
in the gears of the market. It is a transaction
cost. A big one. And there is a fascinating study
cited in our notes by Li Jian from 2006 that
looks at this very friction. This was the one
about great versus small gains, right? Yes. Jin
found exactly what you would expect for large
gains. Great capital gains, big profits. Strongly
discouraged selling. If you are sitting on a
mountain of profit, you don't move. You are locked
in. Which confirms the Feldstein theory, at least
in principle. It does. But there was a twist.
What was the twist? The study found that small
capital gains actually stimulate trade. Investors
are more likely to sell if they have a small
win. That's weird. Why would that be? It's likely
psychology. Small win feels like free money.
You know, the tax bill is negligible, so it doesn't
trigger the same fear. It validates the investor's
ego. Hey, I made a profit without the paralysis
of a massive tax bill. So it's a confidence booster.
It could be. But once that number gets big, the
tax paralysis sets in. The pain of the tax bill
starts to outweigh the joy of the profit. That
is fascinating. So to be willing to sell a big
winner, I have to really, truly believe the price
is going to tank. Exactly. You have to believe
the asset price will drop by more than the tax
percentage for it to make mathematical sense
to sell. Otherwise, the tax barrier keeps you
holding on, even if you're nervous. Or I suppose
you play the timing game. The timing game? What
do you mean? Yeah, you know, waiting for... a
new president or prime minister to get elected.
Political speculation. Yes, that is a huge part
of the behavior. If you think a new administration
will come in and lower the capital gains rate
from, say, 20 percent to 15 percent, you just
sit on your hands. You wait. Which means money
isn't moving. It causes capital to freeze up
across the economy. People with massive gains
are just waiting for a legislative change. It's
wild to think that factories aren't being built
or businesses aren't being bought just because
investors are waiting for an election result
to save a few percentage points. That is the
reality of the tax code, though. It shapes the
flow of capital in very direct ways. It absolutely
does. Now, speaking of the tax code, we have
to talk about the sheer annoyance of it all.
We have a section here on the cost of doing business.
And it's not just the tax itself. It's the cost
of figuring out what you owe. The headache. Right.
And economists divide this into two buckets.
Administrative costs and compliance costs. Okay.
So administrative costs. That's what the government
spends, right? The cost of collecting the tax.
Correct. The government has to hire auditors,
build computer systems, process the forms, chase
down cheats. We have data from a Canadian researcher.
François Valencourt from way back in 1989. 1989,
a classic vintage. What did he find? He looked
at income and payroll taxes and found that the
administrative costs were roughly 1 % of the
gross revenues collected. So for every $100 the
government collects, they spend about $1 to run
the system. You know, that seems surprisingly
efficient. I would have guessed it was way higher.
It is pretty efficient on the government side.
But the real burden, the hidden cost, isn't on
the government. It's on you, the taxpayer. And
that is the compliance cost. The headache factor.
The hours spent digging through old emails for
a stock confirmation from 2004. The headache
factor. Exactly. There was a great study from
Minnesota in 1992 that tried to quantify this
headache. They looked at households with capital
gains versus those without. And what was the
damage? How much time are we talking? Taxpayers
with capital gains spent. On average, 7 .9 hours
more on their taxes than people without them.
Wow. Nearly a full workday. Just gone. Just trying
to figure out the basis, the dates, the rates.
And that's not all. They also spend about $21
more on professional help. And remember, this
is in 1992 dollars, so you have to adjust for
inflation. So it's real money, too. The total
extra compliance cost per taxpayer was estimated
at $143. Again, 1992 dollars. That's money that
just... It didn't go to the government. It didn't
stay in your pocket. It was just lost to the
ether of paperwork and complexity. And that's
a cost to the economy. It is. When we debate
the efficiency of a tax, we often forget these
hidden costs. If a tax raises $1 ,000 but costs
the economy $200 and lost time and accountant
fees to calculate, is it a good tax? The Vower
question. And I bet people would work a lot harder
than 7 .9 hours to avoid paying the tax altogether.
Oh, absolutely. which leads us perfectly into
the gray areas, the world of avoidance, deference,
and outright evasion. I always get these mixed
up. Avoidance is the legal stuff. Evasion is
illegal. Correct. Avoidance is smart tax planning.
Evasion is a crime that can land you in jail.
Let's start with the loophole tour, the legal
ways people dodge or delay capital gains tax.
Okay, I'm taking notes. What's the first stop
on our tour? The family transfer. In the U .S.
specifically, tax brackets matter a great deal.
If you're a high earner, you pay a higher rate.
But maybe your college -age kid or a retired
parent has very little income. Right. They're
in a low tax bracket. Or even a 0 % bracket.
So if you transfer the asset to them, you gift
it to them, and they sell it, they might pay
a much lower rate or even no tax at all. So the
profit stays in the family, but the government's
cut shrinks or disappears entirely. Precisely.
Then there's the charity angle. This is a big
one. If you have a highly appreciated stock,
you could sell it, pay the tax, and donate the
cash. Or you could donate the stock itself directly
to the charity. What's the difference? If you
donate the stock, you often get to deduct the
full market value from your taxes, and the charity,
being tax -exempt, can sell it and pay zero capital
gains tax. That's a win -win, I suppose. The
charity gets more money, you get a bigger deduction,
and the government gets nothing. It's a very
popular strategy. Then you have something called
installment sales. This is where you sell an
asset, but you agree to get paid over several
years, not all at once. How does that help with
tax? It spreads the capital gain out over multiple
tax years. This can keep you in a lower tax bracket
each year. And of course, it defers the tax bill.
You pay as you get paid. But there has to be
a risk there, right? A huge risk. If the buyer
goes bust in year three, you might never see
the rest of your money. You are effectively becoming
the lender in the deal. Okay, what about the
grim one? I see it in the notes here. Death and
taxes. Ah, yes, the ultimate loophole. In the
U .S., this is known as the step -up in basis.
Okay, explain that. How does that work? Remember
cost basis, what you paid for the asset. Let's
say your grandfather bought Apple stock in 1980
for $10. Today, it's worth, say, $200. If he
sells it, he pays tax on a $190 gain. Right.
Makes sense. But if he passes away and you as
his heir inherit the stock, the cost basis steps
up to the market value at the time of his death.
So for you, the new cost basis is now $200. So
if I turn around and sell it immediately for
$200. Your profit is zero. Your capital gain
is zero. The tax on 40 plus years of growth just
vanishes. Wow. That effectively wipes out the
tax liability completely. It's like it never
happened. It does. It is one of the biggest drivers
of intergenerational wealth transfer and, as
you can imagine, a huge point of contention in
tax policy debates. I can see why. There are
a couple of other U .S.-specific ones here, too.
The 1031 exchange, what's that? That is for real
estate, specifically business or investment property.
If you sell an apartment building, for instance,
and you use the money to buy a like -kind...
property like another apartment building or an
office block you can defer the tax so you can
just keep swapping properties forever you can
basically keep rolling the gains over and over
from property to property and never pay the tax
until you finally cash out and don't buy a replacement
and opportunity zones that sounds newer it is
a newer program the idea is if you take your
capital gains from selling say a stock and you
reinvest that money into specifically designated
low -income areas, you can defer the tax. If
you hold that new investment long enough, you
can potentially eliminate taxes on the new investment's
growth. So it's a way to recycle frozen capital
into struggling economies. That's the goal, yes.
Okay, those are the legal ways to play the game.
But what about when people just decide? Not to
pay. What about evasion? Evasion. This is where
the data gets really shocking. We have a study
here by James Putterbaugh from 1987. What did
he find about the relationship between tax rates
and, well, cheating? He found a direct inverse
correlation. A 1 % decrease in the tax rate increased
the reported tax base by 0 .4%. Meaning if you
lower the tax, people lie less. Exactly. When
the rate is high, the incentive to cheat is high.
The risk seems worth it. When the rate is low,
people figure it's not worth the stress. I'll
just pay it and sleep soundly. But the real bombshell
here seems to be the RJR Nabisco study. Yes.
This was an incredible piece of research. It
looked at the shareholder data from the massive
1989 leveraged buyout of RJR Nabisco. It was
a rare opportunity for researchers because they
could see the actual transaction data and compare
it to what people reported on their tax returns.
A perfect natural experiment. And what was the
number? How much were they hiding? They found
that the average level of evasion was 11 % of
total capital gains. 11%. That's more than one
in every $10 of profit just being hidden from
the government. Yes. Just vanished into the shadows.
And they confirmed the Poterba findings as well.
They found that a one percentage point increase
in the marginal tax rate led to a 0 .42 % increase
in evasion. So the higher the tax, the more people
cheat. It's a predictable human behavior. It
is. And that is a staggering amount of money
leaving the system. It really highlights the
balancing act governments have to play. Raise
the rate too high to get more revenue, and you
might just drive everyone underground. Or into
different countries, which I think brings us
to our global tour. Yes. Let's fire up the jet.
We're going to take a look at how the rest of
the world handles this puzzle. And it is not
a one -size -fits -all situation. Not by a long
shot. It seems like we can group these countries
by their general philosophy. I think so. Let's
start with the most popular philosophy, the no
-tax havens. My kind of places. Where are we
landing first? Well, you have your classic Caribbean
spots that everyone knows. Barbados, Belize,
the Cayman Islands, Jamaica, also Bahrain in
the Middle East, Isle of Man. In these places,
generally speaking, there is no capital gains
tax. What you make is what you keep. But there
are some major economies on this list, too. I'm
seeing New Zealand and Singapore here. How do
they manage that? Yes, and this is where it gets
nuanced. New Zealand, Singapore, and Hong Kong
generally do not have a separate tax called a
capital gains tax. So if I sell a house in Auckland
or shares in the Singapore exchange, I keep everything?
Generally. But there is a massive catch. If you
are deemed to be a professional trader, or if
you are trading frequently with the intention
of making a living, they don't see it as a capital
gain. They see it as? Business income. And your
regular income tax rates apply, which can be
quite high. So the line between investor and
trader becomes really, really important. Crucially
important. It creates a gray area. Let's look
at Switzerland. For private individuals, there's
generally no CGT on securities. It's a huge draw.
But the local tax authorities have to decide
if you cross the line into being a professional
trader. That sounds incredibly subjective. Do
they just vibe check your portfolio? They try
not to. To avoid that, they have what they call
safe harbor rules. Basically a checklist. To
be safe from being labeled a pro, you must hold
your securities for at least six months. Okay,
no day trading. No day trading. You also have
to have a low trading volume. Your total transactions
can't be more than 500 % of your starting capital
in a year. And you can't be using a lot of debt
or foreign capital to finance your trades. So
if you trade too much or too fast or with borrowed
money, you lose your tax free status. Exactly.
The system is designed to reward long term passive
investors, not active traders. OK, let's leave
the sunny tax free havens and fly to the other
end of the spectrum, the high tax regions. I'm
guessing we are heading to Europe. Straight to
Scandinavia. Denmark is often cited as having
some of the highest rates in the world. They
have a progressive system. for income from shares.
It starts at 27 % on the first bracket of gains.
Which is already pretty high. It is. But for
gains above that threshold, it jumps to a whopping
42%. 42%. That is nearly half your profit just
gone. Wow. Finland is also up there in the 30
to 34 % range. And France has an interesting
recent history. It used to be very complex, but
President Macron introduced something called
the PFU, or Prélèvement Forfaitaire Unique. My
French is rusty. What does that translate to?
It's basically a single flat rate levy, a flat
tax. It's 30%. Before that, it was a complicated
sliding scale based on how long you held the
asset, which created a lot of confusion. The
idea was to simplify the system and make France
more attractive to investors. 30 % flat. Simple.
I'll give them that, but it's still a significant
chunk. Now, we have to talk about the United
States. It seems to be in a league of its own
regarding how it treats its citizens, even when
they're not in the U .S. The U .S. is unique
and frankly quite notorious among its expats
because it taxes worldwide income. Meaning what
exactly? Meaning if you are a U .S. citizen living
in Switzerland selling a stock on the London
Stock Exchange, Uncle Sam still wants his cut.
Almost no other country on Earth does that. If
you're a citizen, you owe them tax no matter
where you live or where you make the money. That's
intense. And the U .S. system splits the tax
by time, right? Yes. This is a key feature. Short
-term gains on assets held for less than a year
are taxed as ordinary income. That could be as
high as 37 percent, depending on your income.
Ouch. But long -term gains... For assets held
more than a year, get preferential rates. It
can be 0%, 15%, or 20%, again, depending on your
total income. So the U .S. system is explicitly
designed to discourage short -term speculation
and encourage holding for at least a year and
a day. Precisely. It's another way of trying
to separate the investor from the trader. Let's
hit a few more of these unique systems from around
the world. What's going on down in Australia?
In Australia, CGT isn't a separate tax. Which
is interesting. It's just part of your income
tax. You calculate your gain and you add it to
your other income for the year. But if you hold
an asset for more than 12 months, you get a 50
percent discount. So you only have to include
half the profit on your tax return. Right. It's
a much simpler way of achieving the same goal
as the U .S. system rewarding long term holding
without having a whole separate schedule of rates.
And Japan. You mentioned a weird history there
in the outline. This is fascinating. For a period
from 1989 to 2003, Japan had an optional withholding
tax system. You could choose to either calculate
your actual gain and pay tax on that, or you
could just pay 1 .05 % on the total proceeds
of the sale. Wait, 1 % of the total sale price?
Even if I lost money on the deal? Yes. It was
an administrative convenience. If you didn't
want to bother with the paperwork of finding
your cost basis, you could just tell the government,
here's 1 % of the sale value and we'll call it
even. That sounds like an absolutely terrible
deal if you're selling at a loss or a small gain.
It was, but it was optional. People with big
gains and no paperwork might have taken it. Now,
thankfully, they have moved to a more standard
flat 20 % tax on actual gains. That makes more
sense. Now, one issue that keeps popping up in
my reading, and you see it debated everywhere,
is inflation. Ah, yes. The problem of the fictional
game. This is a huge philosophical criticism
of the tax. Right. So let's walk through the
math here, slowly. Suppose I buy a stock for
100 dollars. Ten years go by. Over those ten
years, general inflation has doubled the price
of everything in the economy. A loaf of bread
that was $2 is now $4. Okay. Standard inflation.
My stock has also kept pace with inflation, and
it is now worth $200. So I sell it for $200.
On paper, I have a $100 capital gain. Correct.
The tax authority sees a $100 profit. But in
reality, that $200 buys me exactly the same amount
of bread as my original $100 did 10 years ago.
I haven't actually increased my real purchasing
power at all. Your wealth hasn't increased in
real terms. You've only broken even against inflation.
But the government comes along and taxes me on
that $100 gain. They do. And this is the core
of the critique. Critics argue it is a tax on
inflation, not on real profit. You're being penalized
simply because the currency lost value over time.
Do any countries try to fix this? Do they adjust
for inflation? Some used to. Ireland, for example,
used to have something called indexation relief,
where you could adjust your purchase price upwards
by the rate of inflation. But they abolished
it in 2003. Now you pay a 33 % tax even if your
entire gain was purely inflationary. Ouch. What
about Canada? Canada has an interesting approach.
They handle it by only making 50 % of the gain
taxable. The argument, though not explicit, is
that by leaving the other 50 % tax -free, they
are roughly compensating for inflation and encouraging
investment. It's a kind of rough justice, but
I guess it's better than nothing. It is. It acknowledges
the problem, even if it doesn't solve it with
precision. Okay, let's zoom in on one specific
asset class that everyone listening probably
cares about more than any other. Real estate.
Their homes. The roof over your head. This is
where CGT becomes a massive political hot potato.
In most places, selling your own home, your main
residence, is tax -free, right? Generally, yes.
It is known as the primary residence exemption.
or principal private residence relief. You see
it in Australia, Canada, France, the UK. The
logic is that governments don't want to penalize
people for moving house. It would impede labor
mobility. Right. If I have to pay a huge tax
to sell my house to move for a new job, I might
just not take the job. Exactly. It would grind
the economy to a halt. But there are always restrictions.
In Australia, for instance, the property can't
have been used to produce income. like running
a business out of it or renting out a room. If
you do, you lose part of the exemption. And what
about the flipping trap? People who buy a house,
throw on a coat of white paint, and sell it six
months later for a profit. Oh, governments generally
hate that. They see it as pure speculation that
drives up housing prices for everyone else. So
they create traps to catch these people. New
Zealand has a great example called the Bright
Line Test. The Bright Line Test? What is that?
It's a time -based rule. Initially, if you sold
a residential property that wasn't your main
home within two years, you paid tax on the profit.
But as the housing market got hotter, they extended
it to five years, and now it's 10 years. 10 years.
Wow. So in New Zealand, if you sell an investment
property within 10 years of buying it, you are
treated like a professional property trader.
That's right. You pay tax on the profits at your
full marginal income rate. It is designed specifically
to stop short -term speculation and encourage
long -term landlords. And I saw a note about
Kenya here, too, which is an interesting case.
Yes. Kenya actually abolished its capital gains
tax way back in 1985, hoping it would stimulate
the real estate and stock markets. But they brought
it back in 2015, a 5 % tax specifically on land
and property transactions. Why bring it back
after all that time? To try to control the spiraling
cost of land, especially around Nairobi, and
for the government to get a slice of the revenue
from a booming real estate market. It shows how
developing nations often toggle this tax on and
off as a tool to either heat up or cool down
their economies. It really is a lever, isn't
it? It's not just revenue collection. It's a
throttle for the entire economy. That is the
perfect way to describe it. So we have covered
the mechanics, the psychology, the costs, the
loopholes, and the global map. It feels like
we have to ask the big question now. So what
what does this all mean for the future? Where
is this all hitting? At the end of the day, it
all comes down to a fundamental debate, a tension
between fairness and efficiency. OK, unpack that
for us. Fairness versus efficiency. On one hand,
you have the fairness argument. Capital gains
are disproportionately how the wealthy make their
money. If you work a nine to five job, you pay
income tax on every single dollar you earn. So
if you are a billionaire living off stock sales,
shouldn't you also pay tax on your gains? That
seems like the standard argument for having a
high CGT. It's about progressivity. It is. It's
about taxing wealth, not just labor. But then
you have the efficiency argument. As we saw with
the locked -in effect in the Legion study, taxing
capital gains freezes capital. It stops money
from moving from old, unproductive investments
to new, innovative ones. It stops people from
selling houses. It creates deadweight loss in
the economy. So if you tax it too much, the gears
of the economy grind to a halt. But if you tax
it too little, wealth concentrates at the top
and the working class feels, rightly, that the
system is rigged. And that is the pendulum swing
we see throughout history. A country lowers rates
to spur investment. Then a few years later, a
different government raises them to address inequality.
The U .S. lowers rates in 2003, raises them later.
Kenya abolishes it, then brings it back. Every
country is constantly trying to find that Goldilocks
rate where you get the revenue you need without
killing the market. And that inflation argument
really sticks with me. I feel like it's the hidden
variable here. If we enter a period of high inflation,
capital gains tax becomes so much more punitive.
It does. Dramatically so. If inflation is running
at 10 % and your asset just keeps pace by going
up 10%, you have made zero real money. But the
taxman shows up and treats you like you made
a 10 % profit, that can destroy wealth accumulation
for the middle class very, very quickly. It feels
like there is no perfect system. Every single
option we've looked at has a downside. There
isn't. It is always, always a tradeoff. Before
we wrap up, I want to leave the listener with
something to chew on, a final thought. We talked
a lot about those professional trader definitions
in places like Switzerland and New Zealand. Yes,
that blurry line. In a world where everyone has
a trading app on their phone and algorithms can
conduct high -frequency trading for you while
you sleep, where is that line now? At what point
does managing your own money become a job? That
is a great question. If you use an AI bot to
trade crypto for you 24 -7, are you the professional
trader or is the bot? The tax codes were written
for a world of paper stock certificates and phone
calls to a broker. They are struggling badly
to keep up with the speed and nature of modern
finance. And then think about the locked -in
effect on a global scale. If that theory is even
partially true, how much capital is currently
frozen in the world economy? Trillions. Easily
trillions. Just sitting there stagnant. in an
asset that might not be the best use of that
money, all because someone, somewhere, doesn't
want to write a check for a 20 % tax bill. Imagine
if that capital was released, if it flowed into
new businesses, new technologies, new infrastructure.
It's a staggering thought. The tax code is literally
shaping the physical world around us by holding
that money hostage. It is the invisible hand,
but this time the hand is holding a tax form.
A perfect summary. Well, on that note, we hope
this deep dive has helped you understand why
that silent partner in your transactions is there
and why they operate the way they do. It's not
just a number on a form. And please remember,
check your local laws before you sell that vintage
Spider -Man comic. This is not tax advice. Absolutely.
We're not tax advisors, just two curious people
with a giant stack of research. Thanks for listening
to the deep dive. We'll see you next time. Goodbye,
everyone.