Economics and investment: The tax break we should end

Another tax year is under way, which means—thank goodness—we can forget the annual ISA feeding frenzy until next spring. But before you do, consider how our view of the ISA has shifted. What was once regarded as an outstanding policy success in encouraging us to save and invest is now talked about as another grubby tax break for the rich.

This isn’t altogether surprising, given how the annual contribution limit has rocketed since the financial crisis—from £7,200 in April 2009 to £20,000 today. Governments have also used the ISA’s aura of respectability to channel tax breaks to the under-40s (through the Lifetime ISA) and to help new investments such as peer-to-peer loans enter the mainstream (Innovative Finance ISA). Given derisory savings rates, I’ve long since given up on cash ISAs and now use Stocks and Shares and Innovative Finance versions to hold riskier investments.

Sheltering £20,000 from tax every year is a decent perk for those with the means to take advantage. But it is small beer compared with another tax break even more skewed towards the wealthy—the tax-free gains when we sell our main home.

In 2017-8, 10.8m people put a total of £69bn in ISAs, mainly cash accounts. In the year to 30th September 2018, there were 855,000 residential property transactions in the UK. Assuming an average home price of £225,000, that represents nearly £200bn of assets protected from tax. These figures require lots of adjustment for an accurate picture—some were taxable second homes, and there was the £11,700 personal allowance for Capital Gains Tax (CGT) applied in that tax year.

But the point is clear: CGT breaks for homeowners remove a far bigger pool of assets from the tax net than the ISA allowance.

When public services require investment and generational inequality is becoming harder to ignore, does it make sense to continue enriching homeowners with unearned tax-free wealth? Imposing CGT on all residential property sales would raise meaningful money without increasing taxes on income or spending. It might also reduce house prices, which would be a boon to many. Could it even provide a mechanism to induce people to fund their care in old age, if they undertook to contribute their unpaid CGT liability for this purpose? Governments could ensure those with housing wealth reserved some for their care and could concentrate state support on those without.

None of this is going to happen soon. In fact, the Conservatives found an extremely complicated fix to help people avoid inheritance tax on their main home, the only point at which equity in the main home is currently liable for tax. This was the “main residence band” change, introduced from April 2017.

But that doesn’t mean that tax-free gains on property should be the natural order of things. A new approach is long overdue.

Read Duncan Weldon on why Europe is a safer bet for investors than it looks