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Senator Ted Cruz (R-Texas) today released a letter urging Treasury Secretary Steven Mnuchin to use his executive authority to end the taxation of inflation by indexing the calculation of capital gains taxes.

Cruz was joined by 20 Senators: Kevin Cramer (R-N.D.), Jim Inhofe (R-Okla.), Marsha Blackburn (R-Tenn.), Thom Tillis (R-N.C.), Pat Toomey (R-Pa.), John Boozman (R-Ark.), James Lankford (R-Okla.), Steve Daines (R-Mont.), John Barrasso (R-Wyo.), John Kennedy (R-La.), Mike Braun (R-Ind.), Ron Johnson (R-Wis.), Cindy Hyde-Smith (R-Miss.), John Cornyn (R-Texas), Rand Paul (R-Ky.), Richard Burr (R-N.C.), Roy Blunt (R-Mo.), Roger Wicker (R-Miss.), Jim Risch (R-Idaho), Ben Sasse (R-Neb.).

As the letter correctly notes, indexing capital gains taxes to inflation will build on the success of the Tax Cuts and Jobs Act in growing the economy and increasing the wealth of American middle-class families:

“The United States economy has experienced historic levels of growth as a result of Congress and the current Administration’s policies such as the Tax Cuts and Jobs Act. Implementing a policy of indexing capital gains to inflation will help to perpetuate these successes by encouraging savings, investment, and innovation so that everyday Americans can continue to enjoy better lives and livelihoods.”

“All taxpayers appreciate Senator Cruz’s leadership in the fight to stop the government from taxing inflation. This has gone on too long. Taxing inflation is wrong and unfair,” said Grover Norquist, President of Americans for Tax Reform. “The Trump administration has the power to correctly define gains as real gains and not inflation gains.”

The full letter can be found here.

Background

  • The Trump administration is considering indexing capital gains taxes to inflation, as reported by Bloomberg on June 27, 2019.
    • Treasury Secretary Mnuchin acknowledged that the policy is “under consideration” in a July 18 article.
    • The Treasury Department has the authority to redefine the calculation of capital gains taxes by excluding inflation from tax owed, based on several legal analyses going back several decades.
    • According to these studies, the “cost basis” when calculating the value of the asset for tax purposes need not necessarily be the historical cost.  More information on this authority can be found here.
  • There is strong support for indexing capital gains taxes to inflation:
    • The President’s Chief Economic Adviser Larry Kudlow wrote in support of the policy in a CNBC in August 2017.
    • Vice President Mike Pence supported indexing and led the effort as a Congressman in 2007. Pence introduced legislation sponsored by 88 Members of Congress including Ways and Means Republican Leader Kevin Brady (R-Texas).
    • The National Federation for Independent Business endorsed the policy in July 2018.
    • The Chamber of Commerce wrote a letter supporting indexing capital gains taxes to inflation in July 2019.
    • Then-Congressman Chuck Schumer (D-N.Y.) endorsed indexing in a 1992 floor speech. Schumer correctly stated that indexing would increase growth and lead to more savings and borrowing.
    • The Small Business and Entrepreneurship Council wrote in support of indexing capital gains taxes in a July 2019 letter.
    • The Farm Bureau supports indexing capital gains taxes to inflation.
    • Conservative activists including former Senator Jim DeMint and former Attorney General Ed Meese endorsed indexing in a July 2019 Conservative Action Project memo.
    • 51 conservative groups including ATR, the American Conservative Union, Citizens Against Government Waste, FreedomWorks, and National Taxpayers Union urged Trump to end the inflation tax in a January 2019 letter.
  • Indexing capital gains to inflation will have several strong economic benefits:  
    • The unlocking effect: High tax rates lead investors to “lock-in” their holdings. As tax rates come down, this “lock-in” effect is reduced and many assets are sold that would otherwise have remained locked-in by investors seeking to avoid the tax. The selling triggers the tax which is then paid by the investor usually at tax season time.
    • Increasing asset values: Lower capital gains tax rates increase the after-tax rate of return on assets and push asset values higher. As asset values increase, there are more gains to be taxed. In nearly every case, save for the 1981 recession, lower tax rates have translated into higher stock prices. Only in one instance, 2013, did stocks increase after the capital gains tax rate was raised and this was because monetary policy stimulus dwarfed the impact of the capital gains tax increase.
    • The dynamic effect: Over the longer term, a capital gains tax cut spurs the growth of new businesses, increases the wages of workers, enhances consumer purchasing power, and grows the economy at large, resulting in more overall gains to be taxed.
  • Inflation comprises a significant portion of capital gains taxes:
    • For instance, a taxpayer that purchases one share of Coca-Cola stock in 1998 would have paid $32.38 per share. Today, that share would be worth $48.13 with a gain of $15.76 and a tax liability of $3.75.
    • However, because of inflation, the value of a dollar in 1998 is worth $1.56. The inflation adjusted value of the stock is therefore $50.50 and the taxpayer has an inflation adjusted loss of $2.38.
    • This is not an isolated case. Inflation comprises 64 percent of tax owed on Exxon Mobil shares purchased at the beginning of 2000 and sold in 2019 and 70 percent of tax owed on IBM shares purchased in 1970 and sold in 2019.