NCPA - National Center for Policy Analysis


February 3, 2006

The latest statistics on capital gains tax collections from the Congressional Budget Office show receipts are not down but way up. By 45 percent to be exact. As part of President Bush's 2003 investment tax cut package, the capital gains tax rate was reduced to 15 percent from 20 percent. Opponents predicted, as ever, that this would reduce tax revenue, says the Wall Street Journal.

Not even close. Here's what actually happened, says the Journal:

  • This 25 percent reduction in the tax penalty on stock and other asset sales triggered a doubling of capital gains realizations, to $539 billion in 2005 from $269 billion in 2002.
  • One influence was the increase in stock values over that time, thanks in part to the higher after-tax return on capital induced by the tax cuts.

But another cause for the windfall was almost certainly the "unlocking" effect from investors selling their existing asset holdings in order to realize some of their profits and pay taxes at the lower rate, explains the Journal. They could then turn around and buy new assets, hoping for higher rates of return. This "unlocking" promotes the efficiency of capital markets by redirecting investment into new and higher value-added companies.

It also yields a windfall for the Treasury, says the Journal:

  • In 2002, the year before the tax cut, capital gains tax liabilities were $49 billion at the 20 percent rate.
  • They rose slightly to $51 billion in 2003, then surged to $71 billion in 2004, and were estimated by CBO to have reached $80 billion last year -- all paid at the lower 15 percent rate. In short, the lower rate yielded more revenue.

Source: Editorial, "Tastes Great, More Filling," Wall Street Journal, February 3, 2006.

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