The Danger of Taxing Unrealized Capital Gains

The Daily Signal ^ | August 30, 2024 | Preston Brashers

[Mr. Mojo]

Some ideas are like horror movie villains. They’re dangerous, and no matter how many times they’re defeated, they never seem to die.

The misguided idea of taxing unrealized capital gains is back on the scene. Sen. Ron Wyden, D-Ore., floated a proposal to tax unrealized capital gains in 2021.

It was widely debated in 2022, when Congress was considering a multitrillion-dollar tax and spending package.

Opposition from Sen. Joe Manchin, D-W.Va., to taxing income before it’s earned helped defeat the idea then.

But the idea was far from dead. President Joe Biden included a version of the tax in his latest budget.

Vice President Kamala Harris also has endorsed the idea.

The first step in killing a bad idea is to recognize it for the scourge it is.

A realized capital gain—which we currently tax—is the difference between the price you sold an asset for and the price you paid for it. An unrealized gain, on the other hand, is an estimate of what that difference would be if you had sold an asset that you still hold.

The difference between taxing realized capital gains and unrealized gains is the difference between the government taxing people on income they’ve actually received versus the government taxing them on income they might receive later.

It would give the government the first claim on income, taking a big slice before the supposed owner of the asset ever sees a penny.

In effect, it would turn property owners into property renters, with Uncle Sam as their landlord.

Consider how an unrealized capital gains tax would work if it was applied to housing. You would be taxed on the increase in the value of your house regardless of whether you sold it and received any income out of it.

If you bought a house for $300,000, and the value rose to $500,000 a couple years later, you could be stuck paying tax on the $200,000 of gain even as you’re struggling to make mortgage payments. At a 25% tax rate, it would cost you $50,000 in federal taxes.

It would be like having a second mortgage, but in some ways worse.

At least mortgage payments end after 30 years. But you would never finish paying off your unrealized capital gains tax payments, as long as you owned the asset and its value was increasing—even if that increase was only from inflation.

And unlike mortgages, which give homeowners clearly defined payment terms, unrealized capital gains tax payments would be unpredictable, rising or falling depending on the housing market, inflation, and subjective assessments of a house’s value.

Unrealized capital gains taxes on business assets wouldn’t be much better. The value of company stocks fluctuate wildly, year to year and even day to day. If a company’s stock price skyrocketed at the end of one year and then plummeted at the start of the next, its shareholders could face devastating capital gains taxes that they may have no way of paying—even if they were to sell their shares.

Unrealized capital gains are often—as the name suggests—not real. But the taxes on the phantom gains would be very real.

Under an unrealized capital gains tax, the federal government would exert its primacy over Americans’ investments, taking the first dividends on profitable endeavors. But although the government would reap the first rewards, individual investors and business owners would bear the risk of losses.

Taxing the unrealized gains from ownership in a small, closely held business would present many of the same challenges as taxing unrealized gains on corporate stock or on housing. And it would present unique challenges.

Stock prices may be used to estimate public companies’ prices, but an unrealized capital gains tax on small business assets would require administratively burdensome business valuations. Small business owners—with limited access to capital markets—would be especially ill-prepared to deal with sudden surges in taxes whenever the company’s estimated value rose. As soon as small businesses achieved some success, the government would slam them with new taxes and stop their momentum.

Those in Washington who propose taxing unrealized capital gains generally include broad exemptions for certain asset classes and based on income or asset thresholds. These exceptions would give investors a path to escape from the tax, which is better than the alternative. The tax would have fewer direct victims as a result.

But the tax-induced capital flows still would wreak economic havoc—and without managing to raise much government revenue. So, the new tax would do little to satiate lawmakers’ appetite for more tax dollars.

And once a horror movie villain—or a bad idea—gets a foot in the door, it quickly can swing the door open wide and claim more victims. When the income tax was first implemented in 1913, it applied to less than 1% of the population, and most of those who paid it paid only a 1% rate. That small initial income tax spawned something far worse and more widespread over time.

Allowing the government to tax income that doesn’t exist sets an even more dangerous precedent.

Americans should slam the door on the idea of taxing unrealized capital gains, and lawmakers should kill the idea once and for all.

[stylin19a]

If you bought a house for $300,000, and the value rose to $500,000 a couple years later, you could be stuck paying tax on the $200,000 of gain even as you’re struggling to make mortgage payments.

and what happens when the value goes back to 300k ? do i get my tax money back ?

[Brian Griffin]

Nice farm you got there.

Joe’s China benefactors would like to buy it.

[Alberta's Child]

The most likely outcome of this kind of idiocy is that assets will be sold annually just to cover the cost of paying the taxes. Or — even better — to avoid paying the cost of estimating their value by turning an “unrealized gain” into an ACTUAL gain (or loss).

Another likely outcome is that the value of many assets will plunge to $0 because nobody would want them. I would put my small company on the market just to demonstrate that I got no offers on it … so I can credibly report that it has had no gain in value.

[kvanbrunt2]

Go for it. If it is not a tax on income. A direct tax must be apportioned. ergo a head tax.

[kvanbrunt2]

As a direct tax it would have to be apportioned.

[texas booster]

I believe that we already tax unrealized foreign exchange> Corporations cannot hold their income overseas but are taxed on it.

The Supreme Court ruled that Congress has the power to tax unrealized foreign gain, so it is just a short step from taxing unrealized foreign income to taxing unrealized domestic income. I will find the case tomorrow.

One question - say the unrealized gain in $1, and you pay the tax on it. Do they tax it again the following year when it hits $10? Or allow a credit if a worldwide depression follows the passage of this law, and all we have are unrealized capital losses?

[roadcat]

That’s basically paying taxes on money you _could_ have but don’t have. Yes?

That already happens with real estate. Property gets reappraised by the county, which demands increased property taxes based on what you could realize if you sold the property, even though you are not selling it and not realizing any gains. Here in California, Prop 13 was passed decades ago to limit reappraised taxes to 2% more a year. Lawmakers continually try to get around that, and they did a few years ago.

My daughter got dinged with a more than 5% property tax this year. Because with the new law, they say her reappraised value was less than 2% a couple years ago due to a temporary decline in home values, but as home values went up again they tacked on the “missing increases” to the 2% limit and it totaled 5% now.

Politicians are evil and try to steal your money any which way they can. Unrealized gains you haven’t gotten, but taxed on it and you pay or lose your home.

[clearcarbon]

"If you bought a house for $300,000, and the value rose to $500,000 a couple years later, you could be stuck paying tax on the $200,000 of gain even as you’re struggling to make mortgage payments. At a 25% tax rate, it would cost you $50,000 in federal taxes."

Bomb belts may become popular fashion apparel.

[BradyLS]

Wish they put as much effort in figuring out how to eliminate waste and reduce spending as they do in dreaming up new taxes. 😑

[Mozzafiato]

This is literally the worst idea I’ve ever heard in my life. Trump should hammer the unrealized tax proposal at every opportunity, it’s something that people will intrinsically know is ridiculous.

[Texas resident]

If you bought a house for $300,000, and the value rose to $500,000 a couple years later, you could be stuck paying tax on the $200,000 of gain even as you’re struggling to make mortgage payments. At a 25% tax rate, it would cost you $50,000 in federal taxes.

And it would be year after year after year.

[Clutch Martin]

Rand Paul knows how to scrape up some extra cash... by slashing fraud, waste, and abuse along with outlandish budgetry line items...

Schumer is the toilet clog on most budgets submitted.

[Lockbox]

I have yet to see anyone discuss adjustments for inflation. Example, you purchased a house (or stock) for $100,000 in 2000. Today it is valued at $182,000. The government said you made $82,000 gain! But did you? The $82,000 is the effect of inflation on your original investment. So you have Zero economic return, you have just broken even due to inflation. How will the government handle this? Especially since the government has their foot on inflation to address their massive borrowing!

[P.O.E.]

Missing the point.

The idea is designed to confiscate all wealth and means of production.

On purpose.

[skr]

Akin to the government wanting to collect taxes for the lottery tickets that haven’t won anything yet. With Harris, it might get down to that level.

[Political Junkie Too]

One question - say the unrealized gain in $1, and you pay the tax on it. Do they tax it again the following year when it hits $10?

I think the question is this:

If I have a stock that I bought for $100 and next year it grows to $200, they will tax the unrealized gain of $100. If the price remains $200 for the following year, will they tax that unrealized gain of $100 again?

Here is another question: What about Net Unrealized Appreciation?

If I have a stock in a qualified before-tax plan (e.g., an ESOP) that has a cost basis of $20, and many years later when I retire I apply the NUA treatment on that stock, what happens?

Net unrealized appreciation allows the stock holder to convert the asset from before-tax to after-tax status by paying ordinary income tax rates on the original cost basis value of the stock (in the above example, on the $20 per share). Once the stock becomes an after-tax holding, the owner would pay the long-term capital gains tax on the remaining value (again above, on the $80 of capital gain) once the stock is sold.

Taxing unrealized capital gains would nullify the NUA if the holder would pay ordinary income tax on the cost basis and then must IMMEDIATELY pay the capital gains on the remaining after-tax amount.

-PJ

[TBP]

This is the result the Dhimmicraps want.

[metmom]

Yep.

You’re being taxed on fantasy money, income someone speculates you could have made but didn’t. And guess who gets to decide what that is?

Also, when you sell something and take an actual loss, you can only deduct a certain amount each year, not the whole amount. It takes YEARS to get the money back from your over paid taxes.

It’s theft, plain and simple.

[metmom]

Same here.

Seems like everyone I know is in that boat.

[NonValueAdded]

If it is under mark-to-market rules, then your basis steps up after tax. So your $1 gain on the $1 asset is taxed and the basis is now $2. When it rises to $10, you get taxed on $8.

As to losses, net capital losses are currently capped at $3,000 with the excess carried forward. So, if your $300k gain tanks to zero, you can recoup your losses over the course of 100 years.