Capital Gains Tax and Inflation

New Clause 8 – in the House of Commons at 12:00 am on 13 June 1974.

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(1) Part 111 of the Finance Act 1965 shall be amended in accordance with the following provisions of this section.

(2) In section 22(10) (definition of chargeable gain) for the words "every gain" shall be substituted the words "every real gain".

(3) After section 22(10) shall be added: — (11) in the preceding subsection 'real' gain means the money value of the gain diminished by reference to any increase in the cost of living index since the date of acquisition ".—[Mr. David Mitchell]

Brought up, and read the First time.

Photo of Mr David Mitchell Mr David Mitchell , Basingstoke

I beg to move, That the clause be read a Second time.

I understand that we may discuss at the same time New Clause 11—owable deductions in computing capital gains.

I notice the absence from the Notice Paper of the names of some of my right hon. and hon. Friends in the list of hon. Members appended to this amendment. For that reason, I address my remarks to them as well as to the Financial Secretary.

I want to go back to the original intention of the Labour Government in 1965 in introducing a capital gains tax. I quote from the speech of the then Chancellor of the Exchequer on 11th November 1964. Referring to capital gains tax, he said: I intend to make a start next spring with two major tax reforms. The first will be a capital gains tax. The dividing line between capital income has become blurred. The Income Tax system has been misused by some to avoid paying Income Tax by entering into arrangements which dress up income, which is taxable, to look like capital, which is mainly untaxed."—[OFFICIAL REPORT, 11th November 1964; Vol. 701, c. 1039–40.] I accept for the purposes of the discussion that that purpose is not one with which I am to quarrel. The purpose of my new clause is very limited. I do not at the moment question even the principle of tax on the real increase in the value of investment. I shall be happy to question that on another occasion. Tonight I have a much more limited purpose, that of seeking to question tax on the paper gain which arises as a result of inflation.

My right hon. Friends during the passage of the 1965 capital gains tax legislation took a robust view in opposing this point and seeking to link to inflation a rebate for any liability to tax. I am sorry that with the passage of time they have changed their view on occasions to one of saying "Do not get worked up about this. We are tackling inflation and it is better to stop inflation than to account for it." But we have to live in the real world and accept that inflation is with us. It is no use pretending that we can expect any Chancellor of the Exchequer, no matter how successful he may be, to make it go away. We take account of inflation in wages and prices and even in income tax. Chancellors have come forward and announced reductions in income tax. I do not charge the present Chancellor with such an act, but it has been done. As a result of fiscal drag Chancellors have been able to do this, and so they have taken account of the effect of inflation in the real world, but they have not taken account of inflation in relation to capital gains tax.

I can give a simple straightforward example of how this situation operates in the real world. Supposing one had invested £1,000 in 1965. What would that be worth today? Would it be worth £1,400, £1,600 or £1,700; no, it would be worth £1,815 today purely on the decline in the value of money. I say "today" but that figure is for April 1974 and since inflation is gathering pace it is, of course, worse now. Nevertheless, of the £1,000 investment £815 is now to have 30 per cent. capital gains tax paid on it, and 45 per cent. of the paper value of any investment held today since 1965 is being made liable to a 30 per cent. tax. That is not a tax on gain but a wealth lax and on real investment.

I should have thought that it would have been agreed on both sides of the Committee that the crucial need for the business and economy of the country is to generate an increasing flow of investment and an increasing amount of savings. Yet what do we do? We tax it and, indeed, do our best to discourage it taking place.

I make no apology for referring to small businesses. The Bolton Committee, when it examined the position of small businesses, drew attention to the fact that they were businesses which expanded by clawing back their own profits. Any business proprietor who now considers expanding his business must take account of the fact that money which he ploughs back into it ends up as increased capital value of the business and has a 30 per cent. tax liability on it. So we discourage the proprietor from expanding his business.

Then there is the 20-year cycle. Businesses are alive, moving from one generation to another. When they are given— not sold but given—from one generation to another, 30 per cent. of the increase in the value of the business has to be found. At the very time that the younger generation comes in to build on the foundation laid by a previous generation, retrenchment has to be the order of the day to find the funds to pay capital gains tax.

Then there are farmers. The breakup of economic farming units is an absolute necessity in passing a farm from one generation to another, unless one is totally to prevent—perhaps that is what Labour Members want—any transference from one generation to another of a business or a firm.

Photo of Mr David Mitchell Mr David Mitchell , Basingstoke

I do declare an interest. I am a small businessman. I am not a farmer; I wish I were.

Then there is the locking-in effect, which means that many older people stay in their businesses when they should have retired because of the liability to capital gains tax, which means that they face a real decline in the amount on which they will keep themselves in their old age. Among bigger businesses, the operation of the money market is dislocated. Instead of its being the best reallocation of resources in the economy, the blockage of capital gains tax liability locks investors into investments which they should have shed.

These are many of the practical damages caused by capital gains tax which taxes inflation, the paper increase in the value of an investment. I will not embarrass my hon. Friend the Member for Worthing (Mr. Higgins) by quoting from some of his past speeches, but I am delighted to record the stout and robust way in which in 1965 he drew attention to the dangers and risks in this aspect. I hope that he will do so again tonight and that he will join me and some of my hon. Friends in the Lobby.

I would ask the Committee to consider the effect of this situation on the sort of society in which we live. Those in the Labour Party who believe in Socialism believe in concentrating wealth into the hands of the State. This is a very effective way of doing it. No less than £1,000 million has already passed from private investment into the hands of State and Government. Man proposes and Benn disposes.

We Conservatives believe in the creation of new wealth, in spreading wealth throughout the community, in encouraging investment and in all those concepts which are damaged by the taxation of paper gains by capital gains tax. For these reasons and for reasons of simple social justice—for this is confiscation, not taxation—I hope that I shall have the support of my hon. Friends in seeking to make the sort of society in which we believe.

10.30 p.m.

Photo of Mr Jock Bruce-Gardyne Mr Jock Bruce-Gardyne , Angus South

I rise to speak very briefly—

Photo of Mr Jock Bruce-Gardyne Mr Jock Bruce-Gardyne , Angus South

I have a train to catch, hon. Members will be relieved to hear.

I support my hon. Friend the Member for Basingstoke (Mr. Mitchell), who has moved the Second Reading of his new clause most eloquently. We are also discussing new Clause 11, in my name and that of my hon. and learned Friend the Member for Dover and Deal (Mr. Rees). New Clause 8 is designed to achieve the inflation-proofing of capital gains tax. In case the Financial Secretary should be feeling too mean to accept that new clause, I hope that he will look with favour on mine, which is rather more modest, being designed simply to offset the impact of inflation in capital gains by only 5 per cent. per annum. At the present rate of inflation presided over by this Government, 5 per cent. per annum is nothing like inflation-proof, not by a very large margin.

The Financial Secretary will recognise this amendment. We discussed it last year for five and a half hours. We may be able to dispose of it more swiftly tonight. There were special factors at work last year. When we discussed the proposition contained in New Clause 11 last year the Financial Secretary, speaking on that occasion on behalf of the Opposition, said he had some sympathy with the proposition because, in effect, he acknowledged that capital gains tax without some form of tapering for the impact of inflation amounted to a selective wealth tax. He was in favour of a wealth tax. We are now threatened with this famous wealth tax. In advance of that I should like to assume that the Financial Secretary will be able to accept New Clause 11, if not New Clause 8.

From this side of the Committee we have demonstrated cogently the strength of the case for some relief from the impact of this highly discriminatory wealth tax—the effect of the capital gains tax—which is in no sense inflation-proof at a time of rampant inflation.

I give one example of what is involved under the present arrangements. Last year one of my constituents pointed out that she owned jointly with her mother a small farm which they purchased in 1965 for £15,000. She and her brother worked the farm and one of her sons worked on the farm with them. Another son had an independent business. The mother reckoned it was tough that the son who worked on the farm should receive a very low wage, because that was all they could pay him. He had no participation in the capital value of the farm, whereas his brother was developing a business independently and enjoying capital appreciation and a much higher wage. She went to her solicitor and asked him to draw up a deed to enable her to dispose of half of her share in this small farm to her son. She was staggered to be told it would cost her £7,000 to do so. That is the impact of capital gains tax without any form of tapering provision for the impact of inflation. It is grossly unjust. It is time this was recognised.

The case has been argued on recurrent Finance Bills. It has lost nothing in the telling year after year, as inflation has gathered momentum, until we are at the present horrific rate over which the Government are presiding when the case is overwhelming.

If the hon. Gentleman the Financial Secretary cannot accept New Clause 8, he can at least accept New Clause 11.

Photo of Sir John Hall Sir John Hall , Wycombe

I support this provision partly from a feeling of nostalgia. From the time capital gains tax was introduced in its present form, year after year when Labour were in office I moved similar amendments designed to draw attention to the fact that this tax was not a tax on capital gains but a tax on capital. Even in those days, when inflation was running at a much less severe rate than it now is, this was true.

It is even truer today that capital gains tax, in its present form, is destroying capital. This may be the intention, but the Government should be honest enough to say so. They should say "We are trying not only to tax capital gains but to tax capital. This is one form of wealth tax." I hope that when Labor's Green Paper on wealth tax is published it will take this matter into account, so that we do not have a wealth tax imposed twice—once in its normal form and then, in a hidden form, through capital gains tax.

In equity, there is no justification for continuing a tax of this kind without some tapering measure taking inflation into account. I appreciate that to talk of equity in the same breath as fiscal legislation is nonsense, since fiscal legislation rarely has much to do with equity. I hope the Financial Secretary will admit that without doubt the imposition of capital gains tax in its present form will destroy capital. If he admits that, at least we shall know where we are. I hope that he will be more forthcoming than that and be prepared, if not to accept one of the new clauses, to suggest measures of his own which will have the same sort of effect.

Photo of Mr Robin Maxwell-Hyslop Mr Robin Maxwell-Hyslop , Tiverton

My hon. Friend the Member for Wycombe (Mr. Hall) emphasised that a capital gains tax in a period of inflation is a capital levy smuggled in under the guise of a capital gains tax. Whether or not one happens to believe that a capital levy is either a wise or a morally correct thing to do—and I do not believe it is either—what one can agree is that arguments for a capital levy are different from those employed for a capital gains tax. The strongest logical reason for accepting New Clause 8 is the argument that one form of tax is being smuggled in under the guise of another form of tax.

There are also other cogent reasons for accepting the provision. The Labour Party, especially in the constituencies, likes to claim that it is opposed to the take-over of small businesses or their absorption into large businesses. But again this is what becomes inevitable when one has a capital levy smuggled in in the guise of a capital gains tax.

In many small family enterprises the only way in which the capital can be raised to pay what is, in effect, a capital levy is by selling out to a much larger competitor. The net effect of this running through the economy is to agglomerate into larger and larger units what was once a highly competitive structure of small enterprises. Perhaps the Labour Party considers this to be a desirable aim, but its members should realise what is happening. No party is guiltless in this matter. The two elements should have been separated long ago. There should have been introduced into the computation of capital gains tax a discount for the change in the value of money. I have pressed this course on my right hon. Friends since the early 1960s. No time could be more appropriate than tonight to embody this new clause because at no time has the rate of inflation been so high. The higher the rate of inflation we have and expect, the more compelling is the argument for embodying the clause in the Bill.

Photo of Mr John MacGregor Mr John MacGregor , South Norfolk

I support the clause. As a new Member I am well aware that this clause, or variations of it, have been proposed before. At the rate of inflation we have been experiencing recently, the need for such a clause becomes more pressing. Capital gains tax in its present form is much more penal. We have had many debates about inflation indexing, but this one is different. The previous debates were concerned with keeping the threshold allowances for the higher rates of tax at the same real levels as in whatever earlier period we were choosing.

Here we are talking about whether a capital gain actually exists. For example, if at the date of the introduction of capital gains tax in April 1965 an investor had invested £100 in each of the 30 shares in the Financial Times share index he would at the beginning of this year have had an apparent gain of £4,743. But the effect of capital gains tax and inflation turns that into a loss of nearly £800.

To put it another way, if a person had acquired an asset between 1965 and 1973 he would now have to show a so-called gain of 95 per cent., almost double, simply to break even. We can see that capital gains tax as it stands is a fraud and a disincentive to saving. I do not wish to expand now on the importance of saving. We all know that this year the effect of inflation and the expected rise in prices, coupled with the net return on savings when the highest increases in tax through this Bill are taken into account, has meant that there is no incentive to save.

The effect of the Budget has been to reduce even further the incentive to save. Capital gains tax is a further severe disincentive. Acceptance of the clause would at least ameliorate the effect of the rest of the Bill on savings.

Photo of Dr John Gilbert Dr John Gilbert , Dudley East

As the hon. Member for Norfolk, South (Mr. MacGregor) has rightly said, we have already had several debates on indexing during the course of the Bill. I do not know whether this will be the last. I doubt it. I recognise that the hon. Member for Basingstoke (Mr. Mitchell), who moved this clause so fluently, has been perfectly consistent in urging his point of view on his own Government no less than this one. That is true of most of his hon. Friends who supported him.

As the hon. Member for South Angus (Mr. Bruce-Gardyne)—who has explained to me why he has had to leave—said, when debating the 1972 Finance Bill I recognised that there was an element of unfairness in capital gains tax in that it did not take account of considerations of this sort, particularly in times of severe inflation. I have sympathy with what the hon. Gentleman is putting forward.

Before hon. Gentlemen think that I am about to have a brainstorm, let me hasten to add that they will recognise that I was also consistent in that in Committee, while I had sympathy with the point of view that there was an element of unfairness, I never supported hon. Gentlemen in a Division for the simple reason that it was always my view, and that of my hon. Friends, that this was only one relatively minor element of unfairness in a fiscal system in which there were many other unfair nesses which needed to be attacked before moving in that direction.

10.45 p.m.

It might have been the hon. Member for Basingstoke who alluded to the series of rugged speeches made by his hon. Friend the Member for Worthing (Mr. Higgins) in 1965. Unfortunately, I was not then in the House to be privileged to hear those speeches. I am equipped with some rugged speeches made by the hon. Member for St. Ives (Mr. Nott) in Committee a couple of years ago which I am sure will be familiar to the hon. Member for Basingstoke. I do not seek to embarrass him by quoting them at him now. Suffice it to say that I am sure the hon. Gentleman recognises that once the principle of indexation is conceded in the tax system it is capable of indefinite expansion. No sooner do we have indexation of capital gains than we have the problem of the indexation of profits and the putting up of a case for the indexation of basic income tax. To say that it would simplify the tax system is nonsense. Hon Gentlemen opposite, who have many times urged the need for simplification of the tax system, will recognise that there is an element of conflict between the two objectives. The only answer would be to seek to reduce the rate of inflation, as the hon. Member for St. Ives said in the Committee debate to which I have alluded.

In New Clause 11 there is an automatic formula for a 5 per cent. indexation year by year regardless of the rate of inflation over which the hon. Member for South Angus, choosing his words carefully, said that we were presiding. He did not say that we were agents of that inflation. It is not for me to suggest that in the foreseeable future we shall succeed in bringing the rate of inflation below 5 per cent, per annum. I only hope that we shall. Should that happy day dawn, a formula of the sort suggested in New Clause 11

would produce uncovenanted benefits for those who are unfortunate enough to pay capital gains tax.

For reasons which I am sure the hon. Member for Basingstoke appreciates. I cannot advise the Committee to accept the clause.

Photo of Mr Robert Carr Mr Robert Carr , Sutton Carshalton

I shall be brief, which is a pity because this is an important subject which deserves lengthy discussion. However, at this late hour it is everyone's wish that it should be settled quickly.

Had the Financial Secretary said what he said in the context of a Government who were pursuing a genuinely determined anti-inflation policy it might have cut some ice. But in view of the Government's policy, which is to tackle inflation in the manner of building sandcastles to stop the incoming tide, what he said cuts no ice and is unacceptable to us.

If we are to have a healthy economy, investment must be encouraged and protected. It is essential for the independence and well-being of millions of individual citizens that investment can be made with confidence and that it can be protected. That is also essential for the stability of society as a whole. We shall not get strength and confidence in investment if at one and the same time we have inflation at this rate and real capital losses and then insist on taxing not capital gains but capital losses. For all those reasons I advise my right hon. and hon. Friends—

Photo of Dr John Gilbert Dr John Gilbert , Dudley East

Will the right hon Gentleman enlighten the Committee as to why, when inflation reached unprecedented levels under his administration, he did not introduce the proposals on which he is now so keen

Photo of Mr Robert Carr Mr Robert Carr , Sutton Carshalton

We were at least having a genuine battle against inflation which the present Government have given up. I advise my hon. and right hon. Friends to divide the Committee in support of the clause.

Question put, That the clause be read a Second time: —

The Committee divided: Ayes 118, Noes 136.

Brittan, LeonKing, Evelyn (Dorset, S.)Price, David (Eastleigh)
Bryan, Sir PaulKnox, DavidRathbone, Tim
Buck, AntonyLamont, NormanRees, Peter (Dover & Deal)
Budgen, NickLane, DavidRees-Davies, W. R.
Bulmer, EsmondLawrence, IvanRifkind, Malcolm
Burden, F. A.Lester, Jim (Beeston)Roberts. Michael (Cardiff, N.-W.)
Butler, Adam (Bosworthi)Lloyd, Ian (Havant & Waterloo)Ross, Stephen (Isle of Wight)
Carlisle, MarkLuce, RichardSainsbury, Tim
Carr, Rt. Hn. RobertMcAdden, Sir StephenShaw, Giles (Pudsey)
Chataway, Rt. Hn. ChristopherMacArthur, IanShaw, Michael (Scarborough)
Clark, A. K. M. (Plymouth, Sutton)Macfarlane, NeilSilvester, Fred
Clegg, WalterMacGregor, JohnSims, Roger
Cope, JohnMcLaren, MartinSmith, Dudley (W'wick&L'm'ngton)
Corrie, JohnMacmillan, Rt. Hn. M. (Farnham)Spicer, Jim (Dorset, W.)
Crouch, DavidMarshall, Michael (Arundel)Spicer, Michael (Worcestershire, S.)
d'Avigdor-Goldsmid, Maj.-Gen. JamesMother, CarolStanbrook, Ivor
Dodsworth, GeoffreyMaude, AngusSteen, Anthony (L'pool, Waver tree)
Drayson, BurnabyMaxwell-Hyslop, R. J.Stewart, Ian (Hitchin)
Durant, TonyMiller, Hal (B'grove & R'ditch)Taylor, Robert (Croydon, N.W.)
Fisher, Sir NigelMiscampbell, NormanTebbit, Norman
Fox, MarcusMitchell, David (Basingstoke)Temple-Morris, Peter
Gardiner, George (Reigate&Banstead)Moate, RogerThomas, Rt. Hn. P. (B'net.H'dn S.)
Goodhart, PhilipMoney, ErnieTownsend, C. D.
Goodlad, A.Morgan, GeraintTrotter, Neville
Gorst, JohnMorgan-Giles, Rear-Adm.Tugendhat, Christopher
Gower, Sir Raymond (Barry)Morris, Michael (Northampton, S.)van Straubenzee, W. R.
Grant, Anthony (Harrow, C.)Morrison, Charles (Devizes)Vaughan, Dr. Gerard
Grieve, PercyMorrison, Peter (City of Chester)Viggers, Peter
Grist, IanMudd, DavidWaddington, David
Hall, Sir JohnNeave, AireyWakeham, John
Hall-Davis, A. G. F.Neubert, MichaelWeatherill, Bernard
Hampson, Dr. KeithNewton, Tony (Braintree)Winterton, Nicholas
Havers, Sir MichaelPage, Rt. Hn. Graham (Crosby)Worsley, Sir Marcus
Hawkins, PaulPardoe, JohnYoung, Sir George (Ealing, Acton)
Higgins, TerenceParkinson, Cecil (Hertfordshire, S.)
Hordern, PeterPercival, IanTELLERS FOR THE AYES:
Howe, Rt.Hn. Sir Geoffrey (Surrey, E.)Peyton, Rt. Hn. JohnMr. Hamish Gray and
Jenkins, Rt. Hn. P. (R'dgeW'std&W'fd)Mr. John Stradling Thomas.
Atkins, Ronald (Preston, N.)Fraser, John (Lambeth, Norwood)Marks, Kenneth
Barnett, Joel (Heywood & Royston)Freeson, ReginaldMarshall, Dr. Edmund (Goole)
Bates, AlfGarrett, John (Norwich, S.)Meacher, Michael
Bennett, Andrew F. (Stockport, N.)Garrett, W. E. (Walisend)Mellish, Rt. Hn. Robert
Bishop, E. S.George, BruceMillan, Bruce
Blenkinsop, ArthurGilbert, Dr. JohnMolloy, William
Boardman, H. (Leigh)Golding, JohnMorris, Charles R. (Opens haw)
Booth, AlbertGraham, TedMulley, Rt. Hn. Frederick
Brown, Hugh D. (Glasgow, Provan)Grant, George (Morpeth)Murray, Ronald King
Callaghan, Jim (M'dd'ton & Pr'wich)Grant, John (Islington, C.)Newens, Stanley (Harlow)
Clemitson, IvorGriffiths, Eddie (Sheffield, Brightside)O'Halloran, Michael
Cocks, MichaelHardy, PeterO'Malley, Brian
Cohen, StanleyHarper, JosephOvenden, John
Coleman, DonaldHarrison, Walter (Wakefield)Palmer, Arthur
Colquhoun, Mrs. M. N.Hooley, FrankParker, John (Dagenham)
Colcannon, J. D.Horam, JohnParry, Robert
Conlan. BernardHowell, Denis (B'ham, Small Heath)Pendry, Tom
Cook, Robert F. (Edinburgh, C.)Huckfield, LesliePrescott, John
Craigen, J. M. (G'gow, Maryhill)Hughes, Mark (Durham)Roberts, Albert (Normanton)
Crosland, Rt. Hn. AnthonyIrvine, Rt. Hn. Sir A. (L'p'l.EdgeHill)Roderick, Caerwyn E.
Cryer, G. R.Jackson ColinRodgers, George (Chorley)
Dalyell, TarnJanner, GrevilleRoss, Rt. Hn. William (Kilmarnock)
Davies, Bryan (Enfield, N.)John, BrynmorRowlands, Edward
Davies, Ifor (Gower)Jones, Dan (Burnley)Silkin, Rt. Hn. John (L'sham.D'ford)
Deakins, EricJones, Gwynoro (Carmarthen)Silverman, Julius
Dean, Joseph (Leeds, W.)Jones, Alec (Rhondda)Skinner Dennis
Delray, HughJudd, FrankSmith, John (Lanarkshire, N.)
Dell, Rt. Hn. EdmundKaufman, GeraldSnape, Peter
Doig, PeterKerr, RussellSpearing, Nigel
Dormant, J. D.Kilroy-Silk, RobertStallard, A. W.
Douglas-Mann, BruceKinnock, NeilStoddart, David (Swindon)
Duffy, A. E. P.Lamborn, HarryStone house, Rt. Hn. John
Dunn, James A.Lamont, JamesStrang, Gavin
Eadie, AlexLatham, Arthur (CityofW'minsterP'ton)Swain, Thomas
Edge, GeoffLedbetter, TedTavern, Dick
Ellis, Tom (Wrexham)Lewis, Ron (Carlisle)Tinn, James
English, MichaelLoughlin, CharlesTomlinson, John
Evans, Fred (Caerphilly)Lyon, Alexander W. (York)Tuck, Raphael
Evans, John (Newton)MacFarquhar, RoderickUrwin, T. W.
Faults, AndrewMcGuire, MichaelVarley, Rt. Hn. Eric G.
Ferny Hough, Rt. Hn. E.Mackenzie, GregorWainwright, Richard (Coins Valley)
Flannery, MartinMaclennan, RobertWalker, Terry (kingwood)
Fletcher, Ted (Darlington)Madden, M. 0. F.Wellbeloved, James
Whitehead, PhillipWoof, Robert
Williams, Alan Lee (Hvrng, Hchurch)Wriggles worth, IanTELLERS FOR THE NOES
Wise, Mrs. AudreyYoung, David (Bolton, E.)Mr. Thomas Cox and
Woodall, AlecMr. Laurie Pavitt.

Question accordingly negative.

To report Progress and ask leave to sit again.—[Mr. Harper.]

Committee report Progress; to sit again tomorrow.