Retrospectively Calculated Capital Gains Tax

There’s a minor debate always ongoing about how we ought to tax income from capital gains, which is at present taxed separately from ordinary income, at preferential rates. There have been many proposals, such as eliminating the preferential rates or taxing gains on a mark-to-market basis, which is tricky since share prices tend to fluctuate greatly, or in the case of mark-to-market, require the sale of assets to make tax payments.

I propose an alternative (which I first thought of in December 2019 while visiting family in Chicago), which I will for now call the Retrospectively Calculated Capital Gains Tax (or alternatively the Annualized Capital Gains Tax). Such a system is simple and solves all the problems. Under this proposal, capital gains are taxed as though they were split into equal short-term gains over the term they were held, calculated either based on the individual term each share was held (nothing the modern e-brokerage can’t handle), or through an aggregate term of holding calculated by weighting shares according to their capital gain value.

Here’s an example: John Doe makes a capital gain of $200,000 with an average or weighted term of shareholding of four years. The gain is split as though it were four separate, short-term gains of $50,000 (one for each year the asset was held), and in this case, taxed at a marginal rate of 22%.

Federal income tax liability by system, assuming a single-filer with no other income.

In this system, while you are not penalized for holding shares for a longer period of time, nor are you forced to sell shares in order to make tax payments, your gains are taxed at ordinary rates as opposed to the preferential rates (to whom the greatest beneficiaries are millionaires and billionaires).

The advantages of this system are more apparent the steeper, more progressive the income tax schedule, or with any schedule where the top ordinary rate greatly differs from the preferential rate for long-term capital gains and qualified dividends, as is the case now.

I believe this is a fair, workable alternative to our current system, and I hope the idea takes off and is one day implemented.

Main photo license and source. No changes made.

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