1. Introduction
Capital gains tax (CGT) is an important component of modern tax systems because it broadens the tax base and serves several interrelated purposes, including promoting tax justice, generating public revenue, reducing tax avoidance, encouraging productive investment, and curbing speculative transactions. It is generally imposed when a capital asset is transferred, with the taxable gain calculated as the difference between the asset’s acquisition price and its sale price. Capital assets subject to such taxation may include real estate, shares, automobiles, foreign currency, and precious metals. However, this approach can become problematic in economies experiencing persistent inflation.
Inflation can increase the nominal price of an asset without increasing the owner’s real purchasing power. If tax is imposed on such nominal appreciation without an appropriate adjustment for inflation, the tax base may partly reflect monetary depreciation rather than a genuine real gain, causing the tax to function economically as a tax on wealth. The present study intended to examine why inflation should be taken into account when calculating CGT and which approach best reconciles the principles of tax justice, distributive justice, and economic efficiency across developed and underdeveloped financial markets.
2. Literature Review
Systematic legal research in Iran on the direct relationship between inflation and CGT remains limited. Existing scholarship has more commonly focused on the general design of CGT, its anti-speculative function, or the adverse consequences of taxing nominal gains. International debates, meanwhile, have addressed a broader range of issues, including the lock-in effect, savings, capital formation, revenue generation, administrative complexity, distributive justice, preferential tax rates, exemptions, and indexation. The current study sought to bridge these strands of scholarship by combining a justice-based analysis of the tax base with a comparative examination of the legal techniques employed in countries with varying levels of financial-market development.
3. Materials and Methods
This study employed a library research method and a descriptive–analytical approach grounded in legal–economic analysis. The analysis distinguished between nominal and real gains and evaluated the arguments for and against inflation adjustment in light of tax justice, distributive justice, and the Kaldor–Hicks criterion. Under the Kaldor–Hicks criterion, a policy is considered preferable when its broader and longer-term benefits are sufficient to outweigh its costs or, at least hypothetically, compensate those who bear them. Moreover, a comparison was made between regulatory models adopted in developed and underdeveloped financial markets. The comparative analysis examined various approaches, including preferential tax rates, partial inclusion of gains, holding-period exemptions, and direct inflation adjustment.
4. Results and Discussion
Taxing nominal rather than real gains can generate several mutually reinforcing effects. Because CGT is typically triggered upon realization, taxpayers may postpone selling assets when inflationary appreciation results in a substantial tax liability. This lock-in effect can reduce market mobility and, over time, diminish tax revenue. It may also weaken incentives to save and to channel funds into banks, securities markets, housing, productive enterprises, and infrastructure. These consequences are particularly significant in underdeveloped financial markets, where reliable investment alternatives are limited and domestic savings play a greater role in financing economic development. In high-inflation economies, the additional tax burden imposed on inflationary gains may also exacerbate capital flight.
Opponents of inflation adjustment argue that indexation complicates tax administration, may disproportionately benefit wealthier asset holders, and could weaken the anti-speculative function of CGT. According to the findings, however, these concerns do not justify taxing gains that do not represent a real increase in economic wealth. Advances in computational and administrative technologies have also reduced the force of the complexity objection, while the distributional implications of indexation should be assessed over a longer time horizon. From a Kaldor–Hicks perspective, inflation adjustment may provide immediate benefits to asset owners, but its longer-term effects—including stronger saving, greater capital formation, increased investment, improved voluntary compliance, and reduced capital flight—may generate broader social benefits. By contrast, taxing nominal gains may appear more progressive in the short term while imposing longer-term costs through reduced investment, employment, access to financing, and economic growth.
The comparative analysis confirms that no single technique is universally applied. Developed markets often mitigate the tax burden through indirect mechanisms. The United States and Japan, for example, provide preferential treatment based on holding periods and other conditions, while Australia and Canada have adopted partial-inclusion models. Ireland has also introduced indexation following periods of high inflation, allowing tax liability to more closely reflect changes in the real value of assets. Concerning underdeveloped and emerging markets, Turkey and North Macedonia provide relief linked to longer holding periods, whereas Chile and Mexico directly adjust capital gains for inflation. India has applied indexation to certain long-term assets and has permitted taxpayers in some circumstances to choose between an indexed rate and a lower non-indexed rate.
Iran’s Law on Taxation of Speculation and Speculative Transactions also recognizes the concept of inflationary gain and provides for its deduction from taxable capital gains. The comparative analysis suggests that preferential tax rates and exemptions may mitigate the effects of low inflation, but they do not reliably distinguish real gains from inflationary gains under conditions of high inflation. Direct indexation, therefore, provides a closer correspondence between the tax base and the taxpayer’s actual economic benefit. Anti-speculative objectives can instead be pursued through rules targeting short holding periods and speculative behavior, rather than by treating the erosion of monetary value caused by inflation as taxable profit.
5. Conclusion
According to the present analysis, the fairness and effectiveness of CGT depend fundamentally on the accuracy of its tax base. A tax intended to promote justice and generate public revenue loses part of its normative justification when it applies to nominal appreciation that does not represent a real increase in wealth. This problem is particularly acute in high-inflation economies and underdeveloped financial markets. In such economies, taxable capital gains should therefore be calculated on a real, inflation-adjusted basis through a clear, transparent, and administratively feasible mechanism.
This approach better advances tax justice and the Kaldor–Hicks conception of long-term welfare because it limits taxation to genuine economic gains while preserving incentives to save, invest, retain capital domestically, and comply voluntarily with tax obligations. The Iranian legislature’s recognition of inflationary gains is significant in principle, although its practical effectiveness depends on accurate and consistent implementation in an environment where inflation may absorb most or even all of the nominal appreciation. More broadly, anti-speculative objectives should not be pursued by taxing the erosion of monetary value as though it were genuine economic profit.