The Unintended Consequences of Labour's Capital Gains Tax

AUTHOR: Matthew Gilligan
Managing Director and Property Services Partner

POSTED: 11 December 2025

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Labour's recently announced capital gains tax (CGT) policy has been positioned as a fairer way to tax wealth in New Zealand. After internal debate between a wealth tax and CGT, the caucus voted almost unanimously for the latter.

Under this policy, from July 2027 investment properties (excluding family homes and farms) will be taxed at 28 percent on any profit made from their sale. Note, this tax is just going to be for investment properties (it won’t apply to shares or businesses).

On the surface, it sounds straightforward. If you sell an investment property with a $100,000 gain, you would pay 28% on that gain, or $28,000 to the taxman. The policy won't be retrospective, so gains made before July 2027 won't be taxed.

But here's where things get complicated, and where it appears Labour hasn't fully thought through the consequences.

The Inflation Problem: Taxing Phantom Gains

Probably the most egregious flaw that Labour appears to have intentionally overlooked is that the policy includes no adjustment for inflation. This means investors will pay tax on nominal gains, not real (inflation adjusted) gains.

The NZ Labour Party’s CGT proposal doesn’t adjust for inflation. In comparison, Australia’s CGT tax policy does have some partial inflation adjustments built into the rules. (Although they are not overtly stated as inflation adjustments, they are there.)

In short, Aussie gives a 50% reduction in CGT tax for properties held longer than 12 months, if owned by individuals or trusts. (Companies don’t get the discount.)

Let’s have a look at an example to illustrate how inflation erodes real gains and how the Australian CGT rules handle it in comparison to what Labour is suggesting.

So roughly $140,000 of the gain is just inflation, not true profit. If you tax the “real gain”, you are actually taxing the underlying capital. A cynic could label this a wealth tax in stealth.

If you’re an individual and you have held a property for more than 12 months, you get the 50% CGT discount.

The 50% discount roughly compensates for inflation if the CPI (Consumers Price Index) is around 2–3% per year over 10 years.

But if inflation is higher (e.g. 5–7%), you’ll still be paying tax on some purely inflationary gains.

That means companies are fully taxed on nominal gains, even if most of that gain is inflation.

So in Australia, companies suffer the same fate as New Zealand companies would under Labour’s proposal, but individuals in Australia are far better off.

Under NZ Labour’s proposed rules, you're paying tax on a "gain" that doesn't represent any real increase in wealth. Roughly half the gain over 10 years is inflation if inflation is kept below 3%, and this seems very unfair.

This isn't a theoretical concern. It's a recognised problem in every country with CGT. That's why Australia only taxes 50% of capital gains on property held for more than 12 months - it's a rough-and-ready way to account for inflation. New Zealand's proposed policy has no such adjustment, making it one of the harshest CGT regimes internationally.

A fair system would tax inflation-adjusted gains, or at least reduce the tax rate for assets held over longer periods. Labour's proposal does neither.

The problem with timing

While Labour has framed this as a fair policy that won't punish past investments, the reality is more complex. The announcement itself creates an immediate problem: we're now in a holding pattern until July 2027. Anyone considering selling an investment property faces a difficult decision – sell now before the tax kicks in, or hold and potentially pay thousands more later.

This isn't just theoretical. We're already seeing signs of market distortion. Property owners are likely to rush sales before the deadline, potentially flooding the market and depressing prices in the short term. Then, after July 2027, we could see the opposite – a noticeable slowdown in property transactions as sellers decide it's better to hold than to hand over 28 percent of their gains.

And here's an ironic twist. Given that property values are currently down and likely to remain relatively flat for the next decade, the timing of this policy means it's unlikely to yield much revenue (in its early years anyway). Labour may have created significant market disruption for minimal fiscal benefit.

The borrowing trap: A perverse incentive

Let's consider a practical example that illustrates one of the most concerning unintended consequences. Imagine an investor owns a property that has increased in value from $1 million to $1.5 million. Under a CGT regime, selling would trigger a tax bill of $140,000 (28 percent of $500,000).

Rather than selling and paying that tax, many investors will instead borrow against the increased value of the property. They can access their capital through debt, with the cost of borrowing offset by avoiding the tax liability and the transaction costs of sale. This creates a perverse incentive: instead of encouraging the productive reallocation of capital, CGT actively discourages it.

Ironically, this is exactly what has happened in Australia, where Labour presumably looked for policy inspiration. The very people the policy aims to tax simply gear up against market value instead of selling. The result? Many end up in negative equity situations after tax, and wealth remains locked in what Labour call “unproductive assets”.

The "Mansioning" Effect

Here's another example that highlights how CGT can backfire. Consider a homeowner looking to move up the property ladder. They currently own an $800,000 home and want to buy a $1.2 million property. In a sensible world, they might keep their existing home as a rental, adding to New Zealand's rental stock while upgrading their own accommodation.

But under CGT rules, their current home is exempt from tax, while any future rental property isn't. This creates a powerful incentive to sell the existing home and buy a much more expensive property say, $1.6 million, for their own private occupation. The result is more capital tied up in luxury "mansions" and less rental housing stock available.

This mansioning effect extends across generations. Families will be incentivised to keep valuable properties within the family indefinitely, never triggering a CGT event. We'll likely see an explosion in the trust industry as families structure their affairs to avoid tax on death. Rather than freeing up capital and creating a fairer society, CGT entrenches intergenerational wealth, which leads to my next point.

The Lock-In Effect: Wealth Entrenchment

One of the most damaging aspects of any CGT is what economists call the "lock-in effect." When selling an asset triggers a substantial tax bill, people simply don't sell. They hold assets longer than economically optimal, even when selling would allow capital to flow to more productive uses.

Worse still, this lock-in effect becomes intergenerational. Assets get passed down through families, structured through trusts and other vehicles to minimise CGT exposure. The wealthy can afford sophisticated tax planning to achieve this. Meanwhile, those with fewer resources and less access to expert advice bear a proportionally higher burden.

The cruel irony? A policy designed to redistribute wealth may actually entrench existing wealth patterns for generations.

The Complexity Nightmare

I must make a disclosure here. As the owner of an accounting practice, CGT will be fantastic news for me. The complexity of any CGT regime will create enormous demand for professional advice.

Every property transaction will require careful record-keeping, valuation, and calculation. Taxpayers will need to track the cost base of assets (including improvements and expenses), maintain records potentially for decades, and navigate complex rules about what qualifies for exemptions.

The IRD will need significant additional resources. Disputes will multiply. Compliance costs will flow through the system, ultimately making everyone poorer except for accountants and lawyers.

Capital Losses: The Revenue Wildcard

Here's another wrinkle. Capital losses will be carried forward and used to reduce future capital gains tax payments. This is fair in principle – you shouldn't pay tax on gains in one year if you've had losses in another.

But it also means government revenue from CGT will be even more volatile and unpredictable than projected. In a property downturn or market correction, accumulated losses could wipe out CGT revenue for years.

The Broader Economic Effects

Reduced liquidity
When transactions become more expensive, people make fewer of them. This could make it harder for businesses to access capital, for young families to find rental properties, and for the property market to function efficiently.

Capital flight
High-net-worth individuals and investors have options. If New Zealand becomes less attractive for investment, capital could flow to countries with more favourable tax regimes. We've seen this pattern in other nations that have introduced similar taxes.

Since shares will not be subject to CGT, many investors will look to move their capital from property to the stock market. The problem with this is that some of the shares they invest in are likely to be with offshore companies, meaning capital is lost from New Zealand and benefits a foreign economy instead.

Market inefficiency
When tax considerations drive investment decisions rather than economic fundamentals, capital doesn't flow to its most productive uses. The economy as a whole becomes less efficient.

The Revenue Reality

Perhaps most concerning is the question of whether CGT will even achieve its stated goal. International evidence suggests that capital gains taxes often raise less revenue than projected because people change their behaviour in response. They hold assets longer, structure transactions differently, leverage against assets instead of selling, or simply invest elsewhere.

Given current property market conditions and the various workarounds available to sophisticated investors, CGT may generate far less revenue than Labour hopes while creating significant economic distortion.

The perfect storm – CGT, wealth tax and interest non-deduction

In addition to non-inflation adjusted CGT (which is basically a capital gains tax plus a wealth tax) Labour is also proposing to bring back the interest non-deduction rules in one form or another, whereby property investors will not be able to claim interest as an expense.

This amounts to rifle tax, an attack aimed solely at property investors. Labour sees property as non-productive (their word is a “cancer”), which is extremely shortsighted.

The short-term consequence will be reduced profits for investors, which in turn will lead to a long-term shortage of supply and a resulting increase in capital growth (property values).

I want to be clear: I'm not arguing against tax reform. New Zealand's tax system certainly has room for improvement, and addressing inequality is a legitimate goal.

But good policy requires thinking through second, third, and fourth-order effects, not just the immediate, obvious impacts. It requires understanding human behaviour and how people will respond to incentives. It requires learning from the experiences of other countries that have travelled this path.

Labour's CGT policy appears to have been developed with the best intentions but without adequate consideration of its practical consequences. The policy may actually achieve the opposite of its intended effects:

• Instead of encouraging productive investment, it encourages borrowing and financial engineering

The exemptions for family homes and farms show Labour understands the need for nuance, but they've created a policy riddled with perverse incentives that sophisticated taxpayers will exploit while ordinary Kiwis bear the burden of complexity and compliance costs.

Labour’s property tax proposals are an easy way for them to get votes. If you tax a rich person $50k and give $10k each to five poorer people, you gain five votes. You don’t lose any votes because the rich person wouldn’t have been voting for you anyway.

However, the proposed tax policy is arguably not serving the people of New Zealand in the long run.

A Path Forward

Before July 2027 arrives, there's time for significant refinement. At a minimum, Labour should consider:

• Implementing holding period exemptions or reduced rates for long-term investments

Better yet, perhaps this is an opportunity to step back and ask whether CGT is really the best tool for achieving Labour's stated goals. Are there alternative approaches that could improve tax fairness without creating such significant adverse consequences?

The goal should be a tax system that's fair, efficient, and doesn't create more problems than it solves. Right now, Labour's CGT risks falling short on all three counts.

New Zealand deserves better than a policy that looks good on paper but unravels in practice. We deserve tax reform that's been thoroughly thought through, not just voted through by caucus.