handbook-tb

Wei Cuiimportant to treat the gain from the sale similarly to other ways of realizingalready-accrued earnings (for example, dividends). 12 However, itis crucial to recognize that capital gains often come about not becauseincome has already accrued, but because of a changed expectation ofwhat income will accrue.To appreciate the point of this conceptual discussion, a commonscepticism about the wisdom of taxing foreigners on capital gainsneeds to be considered. Because transfers of domestic assets by foreignersmay be difficult to detect, and a tax on such transfers may be difficultto enforce, it is sometimes asked why the source country shouldattempt to do so. The asset itself is still located in the source country,and most of the income it generates — in the form of rent, dividendsand other periodic payments — can be more easily subjected to tax (forinstance through withholding). What does the source country lose bynot taxing the gains non-residents derive by transferring ownership ofthe asset? Why tax upon transfer of ownership of an asset, and not justwhen income is received by the owner? 13It is important to remember that there is an answer to this scepticism.As already explained, generally, the value of an asset is determinedby the stream of income it is expected to generate. If such income isgoing to be taxed at known rates, then the value of the asset should alsoreflect the tax. For example, if an asset generates $10 of income in eachperiod, and a 20 per cent tax is imposed on the $10 of income no matterwho owns it, then the after-tax income generated by the asset will be $8per period. The value of the asset to a private owner will then be determinedby the $8 return, and not the $10 return. 14 If, despite the lower12In the bond example in note 11 above, if the interest rate stays the same,the increases in the value of the bond in year one and year two should bothbe treated as interest.13Notably, the recent IMF Spillovers Report expresses this scepticism:“Conceptually, there are arguments as to whether or not it is appropriate totax [capital] gains at all: they presumably reflect accumulated and expectedearnings, so it may not be necessary or appropriate to tax them if those earningshave been, or will be, adequately taxed in other ways.” See IMF SpilloversReport, at 29.14This reflects the idea that a tax on the income generated by an assetmay be “capitalized” into the value of the asset. Economists have offered114