Tax Day Thought

Today is the income tax deadline, and, while I tend to avoid topics of monetary, fiscal, budget, and taxation policy, I do have one thought that I’d like to throw out here. If you’re a wage earner you pay tax up front through the payroll tax deduction. If you overpay you get a refund in the following year. An investor whose income comes from buying and selling stocks or bonds gets to defer paying his taxes until the following year as well as receiving a break on the tax rate because of the lower capital gains schedule. To undo some of the unfairness in this system, I propose that capital gains taxes be deducted from the proceeds when an investment instrument is sold. This is a simple database problem requiring that the purchase and the sale be linked. Either the IRS or the brokerage house could be responsible for maintaining these records. In the current setup, the investor must match purchase and sale but the IRS almost never requires verification of the basis value. Whether intentionally or through error I imagine that a significant percent of basis values are overestimated leading to underpayment of capital gains tax. Deducting capital gains at the time of sale would thus greatly increase the accuracy of tax collection and reduce the headache that the individual investor faces at tax time because the match up of purchases and sales will have already happened. It will also help address our Federal budget deficit. Differential capital gains rates could be handled by either withholding at the lower rates and requiring the investor to cover the difference at tax time if he is in the higher bracket or the withholding could occur at the most common rate and any overpayment could be refunded – just like the poor wage earner.