This report examines the taxation of corporate gains on depreciable business property, an important topic that has received little attention in the economic literature. The authors argue that current law, under which gains on those sales are taxed at ordinary tax rates and buyers are allowed to depreciate their purchase cost, places a tax penalty on sales and raises the cost of capital, thereby discouraging investment. In a simple model, they think, three policies would eliminate the impact on user cost and investment: zero taxation of capital gains with recapture of excess depreciation allowances at ordinary tax rates, zero taxation of capital gains with the seller's basis carrying over to the buyer, and reduced tax rates on capitalgains. The basis carryover and reduced-rate policies appear to the authors to be preferable in a more general framework.
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