How Does Policy Affect Capital Gains Rates?

Policies that change the tax rates have an effect on capital gains rates and taxes. When Congress considers changes to the tax code that raises or lowers tax rates, all category of taxes are affected.  This includes the capital gains tax rate.

Policy considerations concerning capital gains taxes influence economic growth opportunities.  Whether supply side or Keynesian theorists are right or wrong, it is a universal truth that policy changes have a large effect on capital gains taxes. The party in control of Congress or the White House influences the policy decisions that will determine whether capital gains rates are lowered, raised or remain the same.

Economic Growth and Tax Relief Reconciliation Act of 2001

An asset held less than a year with a capital gain is charged the short-term capital gain rate. An asset held longer than a year is charged the lower long-term capital gain tax rate. The capital gains tax rates were lowered in 2001 with the Economic Growth and Tax Relief Reconciliation Act (EGTRRA). Under EGTRRA, income tax brackets were lowered and the taxes on capital gains reduced. This was done as a policy shift to encourage greater investment and consumer spending by taxing less.

Current Capital Gains Tax Rates

The current capital gains tax rates, which are based on holding periods of the asset, are:

  • 10 percent ordinary income tax rate, 0 percent long-term capital gain rate, 10 percent short-term capital gain rate    
  • 15 percent ordinary income tax rate, 0 percent long-term capital gain rate, 10 percent short-term capital gain rate
  • 25 percent ordinary income tax rate, 15 percent long-term capital gain rate, 25 percent short-term capital gain rate
  • 28 percent ordinary income tax rate, 15 percent long-term capital gain rate, 28 percent short-term capital gain rate
  • 33 percent ordinary income tax rate, 15 percent long-term capital gain rate, 33 percent short-term capital gain rate
  • 35 percent ordinary income tax rate, 15 percent long-term capital gain rate, 35 percent short-term capital gain rate

Supply-Side Economics

This policy consideration has been at the core of the philosophy advanced by supporters of supply-side economics. Lower taxes allow taxpayers to keep more of the money that they earn.  This increase in income means more opportunities for economic growth, which benefits the entire economy.

Keynesian Economics

The contrarian or opposite view of this, Keynesian economics, suggests that lowering capital gains tax rates only benefits the rich and that the “trickle-down” effect of increased spending and investment does not take place. In fact, lower taxes reduces the amount of revenue available to social programs such as Aid for Families with Dependent Children and social security and places an increased burden on the states to provide assistance. This leads to economic disparity and a potential economic downturn.

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