Semi-Daily Journal

Estate tax repeal will increase administrative burdens on taxpayers because it will be accompanied by a new "carry-over basis" requirement that heirs pay capital gains tax.

But the majority of the value of the largest estates — has never been taxed as income because the value is in the form of unrealized capital gains. In this respect, the estate tax serves as a backstop to the income tax, providing a way to tax income that otherwise would avoid taxation altogether.

Help me out here. Under the repeal proposal, will capital gains on estates be taxed or won't they?

Posted by: Paul Zrimsek on June 12, 2002 05:21 AM

I think- since BDL hasn't answered yet, that they pay cap. gains on what gains there are, and I *think* that can be as low as 15%. Whereas estate taxes are 40% on what you've got.

So I make a $100K investment, it's worth $200K when I die, with the estate tax the gummint gets 80K, with cap gains they get $15K. Pretty significant. (This is of course after the million-plus exemption, which I don't know if it applies to the cap gains, but considering the revenue loss I would have to think that they are keeping it).

What really kills me is this: say that investment is a house. The reason it's worth $200K when I die is that the gummint has kept the Huns from burning it to the ground, so it seems like they deserve a good chunk of that appreciation, don't they?

PS: remember how Poppy Bush was obsesssed with completely doing away with the capital gains tax?

Posted by: on June 12, 2002 01:45 PM

I also think, upon re-reading, that I completely failed to answer your question and probably told you what you know already. Sorry. I guess we'll just have to wait for an answer, since I sure can't stomach reading the tax code.

Posted by: on June 12, 2002 01:52 PM

Filed at 7:41 p.m. ETWASHINGTON (AP) -- Senate Democrats dealt defeat Wednesday to President Bush's call for permanent repeal of the estate tax, and Republicans signaled plans to turn the vote to their advantage in the fall campaign for control of Congress.The vote was 54-44, six short of the 60 required under Senate rules to approve the measure, which Republicans said represented simple fairness and Democrats derided as a giveaway for the super-rich.``Strip it all away, this is a tax relief for billionaires when we have a very big deficit and we have other priorities,'' such as health care, education, Social Security and Medicare, argued Sen. Byron Dorgan, D-N.D.But Sen. Phil Gramm, R-Texas, countered that opponents of the repeal measure ``believe it is worth forcing people at the death of their parents to sell off their life's work to give half of it to the government.''The president expressed disappointment. ``It is wrong that, as a result of a quirk in the law, millions of Americans will be subject to the death tax beginning at the end of the decade,'' Bush said in a written statement. ``The Congress must fix this unfair tax and provide families with certainty so they can plan for the future.''Democrats advanced two alternatives in the run-up to the final vote, both of which fell short of the 60-vote threshold required by Senate rules.One option, which got 38 votes, would have made the tax repeal permanent for all but the largest estates -- those over $3.5 million for individuals and $7 million for couples. The second, which gained 44 votes, would have added permanent relief for all family-owned farms and small businesses.Gramm belittled the Democratic tactics, saying their proposals were not designed to help taxpayers, but were ``about protecting 40 senators by giving them a fig leaf when they vote'' against killing the tax.The repeal measure was passed by the House last week on a vote of 256-171 and drew the support of 41 Democrats, an indication of the political potency of the issue in rural areas.``It's very much an issue in the campaign for folks who vote against it,'' said Ginny Wolfe, spokeswoman for the GOP senatorial campaign committee. ``Is this an issue which on its own will make or break a single election? Probably not. It's an additional burden on vulnerable Democrats who vote the wrong way.''``Republicans will try but they're going to have a hard time'' making use of the issue, countered Tovah Ravitz-Meehan, spokeswoman at the Democratic campaign committee. ``Being fiscally responsible'' will be attractive to voters, she said.The bill drew the support of 45 Republicans and nine Democrats, including three who are on the ballot this fall -- Sens. Max Baucus of Montana, Max Cleland of Georgia and Mary Landrieu of Louisiana.Voting in opposition were 41 Democrats, one independent and Republican Sens. Lincoln Chafee of Rhode Island and John McCain of Arizona.Congress approved a phaseout of the estate tax last year as part of the major tax reduction that Bush pushed to passage in his first few months in office. To conform with Senate rules, though, the legislation expires on Dec. 31, 2010, meaning that the levy would be resurrected in 2011.As a second act, Bush has prodded Congress to pass new legislation making the cuts permanent. The GOP-controlled House hastened to comply, first passing an overall repeal measure, and then, when Senate Democrats refused to schedule a vote, breaking the bill into pieces.Even then Democrats made no move to hold an estate tax debate willingly, but were maneuvered into it weeks ago by Gramm. For his part, Daschle picked the moment most likely to emphasize the Democratic contention that the bill would harm the economy.He brought the issue to the floor on Tuesday, only a few hours after the Senate had pushed through legislation to increase the federal debt limit, a fact that Democrats pointed out over two days of debate.The outcome was utterly lacking in suspense. Given the 60-vote threshold -- required because the bill violates Senate budget rules -- Republican vote counters conceded in advance they would fall short.And both sides used well-rehearsed arguments.``Should death be a taxable event? I emphatically believe the answer should be no,'' said Sen. Wayne Allard, R-Colo. ``If we want to help farmers and ranchers and if we want to help small business owners we need to kill the death tax,'' he added, using the term that Republicans employ to describe the estate tax.But Dorgan said that unlike a year ago, when Bush's first tax cut measure was passed, ``the country has an economy that's in some trouble and we now have deficits for years and years into the future.''Democrats produced figures showing the repeal would cost the government more than $750 billion in the decade that begins in 2011, and Sen. Jack Reed, D-R.I., said state treasuries would be affected, as well.Republicans said the cost would be minimal for the coming year -- and pointed out that the Democratic-controlled Senate had recently approved both a spending bill and farm legislation that exceeded Bush's recommended levels.They also said that current estimates show a $450 billion surplus for 2011.

Posted by: Brad DeLong on June 12, 2002 05:45 PM

>Help me out here. Under the repeal proposal, will capital gains

>on estates be taxed or won't they?

It would have depended on exactly what the bill reported out by the conference committee would have said.

There are some plans to carry over the basis of untaxed capital gains to the heir--which means that when so-and-so sells the asset, he or she has to figure out just what late Great-Uncle Fred paid for it 70 years ago. The Treasury and IRS are terrified of such plans because they think they are administratively unworkable: the IRS doesn't think it can ask executors what assets were originally purchased for; it thinks that a huge number of people who will inherit unrealized capital gains will have no clue about what the "basis" is.

The Republican House leadership (and the White House) paid absolutely no attention to shrill "this won't work!" memos from the IRS and Treasury Tax Policy...

Brad DeLong

Posted by: Brad DeLong on June 12, 2002 05:48 PM

Thanks for the replies. It still looks to me like the CBPP is straining at gnats; surely the IRS has procedures already in place to cover the case where Great-Uncle Fred sells the asset himself after 70 years rather than simplifying everyone's life by dying first? (As a member of the federal bureaucracy myself, shrill this-won't-work memos can be hard to tell apart from shrill this-will-make-me-work memos.) Or if there's something to the objection after all, what would be wrong with zero basis as an alternative?

Posted by: Paul Zrimsek on June 12, 2002 06:46 PM

There is so much here to react to, I don't know where to dig in. Perhaps from the top:

1. I strongly suspect that the RNC will not be engaging the Prof to prepare talking points anytime soon. Let's pick a couple:

a. "Now the Republican Party thinks that it of all the forms of unfairness in American life the most important one to fix is that which keeps someone from squeezing every single ounce of advantage out of one's daddy's position and accomplishments. "

Does not follow. The next step taken is not always the most important one. (I get the best fortune cookies.) Look, the Reps have a lot of priorities. If a particular priority can be resolved quickly, do it. Is the Prof suggesting that it would be better if Washington did nothing at all on any problem until, for example, inequality of educational opportunity was eliminated? Or we had fed every child, and cured every disease? The result would be a strikingly conservative government, if you consider total inaction to be conservative.

b. "To Republicans "fairness" no longer means "equality of opportunity": it means something else."

Maybe it does - like property rights. Here's an idea: for real equality of opportunity, why not confiscate everyone's property at the end of each year? Shuffle the deck, deal again. Or, if there are economic trade-offs that suggest annual confiscation to be a bad idea, why do those trade-offs change at a person's death, and why should I stop caring about my children just because I am gone, gone, gone.

2. "Permanent repeal would lose $56 billion of revenue in 2012 alone, according to Joint Committee on Taxation estimates"

This question comes a bit more from the heart. Is this a serious attempt to estimate what we might actually expect to collect, or one of those "static" estimates that assumes that taxpayers are unaware of the tax code and do not engage in tax planning? What are we collecting today, for example?

3. "Family-owned businesses or farms formed the majority of the estate in just 1,418 estates of the approximately 2.3 million people who die in a year."

Does that strike any one else as weird? Don't farmers die? And don't small business owners have heart attacks and keel over all the time? It seems to me there must be some other qualificaton on that 1,418 figure - maybe it is estates affected by the tax, which would only demonstrate that estate planners are earning their fees. And the 2.3 million is just under 1% of the U.S population. Are we being told that all 2.3 MM of them pay the estate tax, but only 1,418 are small business/farmer, or are we just being told that most people who die aren't affected by the estate tax? Which, given the threshold is not a total shock.

4. "A tiny fraction of the people who die each year — those with very large amounts of wealth — pay the bulk of all estate taxes. -- 91 percent of all estate taxes are paid by the estates of people whose annual incomes exceeded $190,000 around the time of their death."

I love it when people conflate wealth and income. But I am always surprised when an economist does.

5. "Till there be property there can be no government, the very end of which is to secure wealth, and to defend the rich from the poor..." Adam Smith "

Defend the rich from poor? I thought the idea of the estate tax was the opposite. I guess I'm not following, and I am definitely overlooking the next quote.

I hate to drag economics into this, but is there anything about the current estate tax, or different forms of the estate tax that we might consider, that are particularly appealing or appalling in terms of incentives on capital formation, or job creation, or incentives to save, or anything? Or is the estate tax discussion just a straight income re-distribution play, boo the rich, cheer the poor?

Regards,

Posted by: Tom Maguire on June 12, 2002 10:26 PM

RE:

>"Family-owned businesses or farms formed the majority of the estate in just 1,418 estates of the approximately 2.3 million people who die in a year."<

You're right. That's got to be 1418 estates subject to the tax in which family-owned businesses or farms form the majority of the estate.

I'll fix it.

Posted by: Brad DeLong on June 13, 2002 10:44 AM

This is a minor point, but the person comparing the estate taxes to capital gains was confused.

If you buy a stock for 100K, and it's worth 200K at the time of your death:

1) Under capital gains, the government gets 15K at LTCG rates.

2) Under the estate tax, the government does not take tax out of the accrued capital gain on the stock; it takes tax out of the value of the stock. The rate, by the way, was 55% last time I looked. In other words, if your estate is worth 200K, it takes $110 in tax.

Yes, that's a big difference in revenue to the government. But it's also kind of appalling. It's a tax on saving. You pay taxes once on the income; you pay taxes again when you die. And the rate is also sort of apalling.

And Brad, given that only 2,400 estates pay tax each year, doesn't that mean that more than half of those estates are small businesses or farms? Since large businesses would pass in the form of non-majority stock holdings, which would be accounted for as equity rather than business holdings, in almost every case?

Posted by: Jane Galt on June 13, 2002 04:33 PM

I think the quotations you attribute to "earlier generations of Republicans" are used somewhat disingenuously. For instance, I seem to recall that Abraham Lincoln was referring to the fact that a common man in the U.S. of A. had the opportunity to earn his wealth, whereas in England it typically had to be inherited. He was not implying that a man was not entitled to retain for his heirs the property he earned though his hard work ("shuffling the deck" as Tom Maguire says).

In any case, I doubt Carnegie or Lincoln would have sanctioned the forced confiscation of wealth in lieu of voluntary philanthropy.

Posted by: Dean de Freitas on June 13, 2002 07:10 PM

People in England could earn their wealth too--but it was dwarfed by the inheritances of the landed aristocracy. I think my reading of Lincoln is correct. Lincoln was a believer in a free and equal society. He hated slavery as the worst form of non-merit-based aristocracy. But he hated other forms as well.

I know that my reading of Carnegie is correct. Carnegie was a big advocate of the estate tax.

Posted by: Brad DeLong on June 13, 2002 08:22 PM

Brad -- your source material (the CBPP) notes that about 48,000 estates were taxable in 1998. The 1,400 businesses and farms are a subset of that group, not the total deaths of 2,300,000. (I think the CBPP's definition of a taxable estate is an estate that filed an estate tax return. Due to the spousal deduction, many of these estates may not pay any estate tax.)

The statement that 37% of small taxable estates are unrealized capital gains and 56% of large taxable estates smells correct. Brad, you are entirely correct that these gains have never been taxed. You ignore the converse -- that small estates have already paid income tax on 63% of their value, and that large estates have already paid income tax on 44% of the value of their value.

As a practising accountant, I agree with Brad that carryover basis will be a nightmare. My living clients often have no idea about what they paid for their stocks; death probably will not eliminate their ignorance!

IRAs in estates can face extremely high levels of tax. The IRS gets the estate tax (assume 50%) and then also gets 38.6% of the rest in 2002, or an ultimate total of 69% of the IRA. True, the IRA has never been taxed -- but the procedure to claim the tax deduction for the estate tax paid on the IRA is time consuming and adds to MY fee.

Significant amounts of the charitable donations from high net worth estates go into family foundations. I can tell you why this happens -- control (the family often picks the trustees) and (I have heard) employment of family members.

Finally, the compliance costs of estate tax planning is extremely high. Lots of fascinating things are done to minimize the estate tax (Crummy trusts, family limited parterships, GRITS, GRATS, foreign insurance trusts, QTIPS, reverse QTIPS[not for your ears!],intentionally defective grantor trusts-- and these are just the ones I have heard of or worked with) -- a whole bestiary of tax shelters, whose economic benefit is to support estate tax attorneys and tax CPAs (Me!). I guess that estate tax planning and compliance costs at least 10% of the estate tax generated -- I have seen estimates that the compliance and planning costs equal the estate tax generated. If taxpayers are spending as much to avoid the estate tax as the estate tax collected, maybe the estate tax is not economically rational method of funding the government?

One more note -- is Social Security a pension or a government program? If it is a pension, why does it matter that the estate tax might be repealed? (It should be self supporting, if a pension. And every man jack and women jill who sat in Congress or the White House from 1939 until now should be tried under ERISA self dealing rules -- businesses cannot lend their own pension money to themselves without getting into a heap of trouble with the Department of Labor) If it is a government program, why don't we just tell future recipients (Me!) that the projected benefit will be a LOT lower than what you think it will be (60-70% of present calculated benefits)

Posted by: afoth on June 13, 2002 08:33 PM

I don't know what Republicans consider "unfair", not being one. But to me fairness in taxation means things such as people in like situations being taxed in like manner, and the richest not paying less than others. So this discussion got me to take a quick look at the "Statistics of Income" data at www.irs.gov on such things.

Well ... the numbers for the first year I came upon (1996 -- not spending too much time on this) show 372 estates in the "largest" category, with over $20 million gross assets, average $59 million.

Of these 88 (24%) with assets totaling $4.6 billion paid a total combined estate tax of zero dollars ($0).

The overall effective tax rate for the total > $20 million group was 14.6% -- the lowest rate for any group with assets over $2.5 million,

which is about where the tax becomes meaningful for a married couple.

(A chart for an earlier year that gives the same general picture is at http://www.ncpa.org/pd/gif/pd1230t.gif )

Lower on the wealth scale there were 5,700 estates with gross assets from $2.5 million to $5

million. Of these, 3,400 paid $2.9 billion tax on $11.6 billion of assets for a 25% tax rate -- compared to the 14.6% rate paid by the estates with assets > $20 million that averaged $59 million.

But, OTOH, there were another 2,300 estates of this size -- fully 40% of the category -- that paid a total of $0 tax, at a 0% rate, on $7.8 billion of assets.

Gee, what could be more equitable than a wealth tax system that imposes a 25% tax on 60% of people with a certain level of wealth while imposing 0% tax on the other 40%? And which collects a lower rate from the wealthiest than the rest?

What's going on here is that the estate tax is a wonderful realization of Russel Long's political wisdom: "Don't tax you, don't tax me, tax the fellow behind the tree."

The less wealthy support it because they figure they won't pay it. The most wealthy support it because they know they don't have to pay it. It's much more expedient for them to support a tax that has loopholes in it such as to keep the Kennedy and Rockefeller fortunes passing on for generations than for them to overtly oppose any estate tax. They'll even write op-eds in favor of the tax.

[An example: Say you have $100 million and prefer not to leave $30 million of it to the IRS. You instead leave it to a charitable foundation that you create that is run by your kids. There's now no estate tax and your children can be paid the "fair market rate" for managing $100 million. Which isn't so different from the interest and dividends they'd collect from owning the $100 million outright. Plus they collect a lot of perks from those who want to be recipients of their influence and largess -- think of the life David Packard lived on his family foundation before the Compaq merger.

But perhaps that won't leave the kids enough spending cash. Well, you can reduce the bequest to the foundation by, say, $20 million and buy life insurance for them with it. This is an investment, not a cost. If done right the policy benefit can be a great deal more than what was spent on it -- and go to a trust for the kids free of both estate and income tax.

The kids can end up with more than you have, with $0 estate tax paid. All perfectly legal, estate planning 101. And it can carry forward for generations. So, Prof. Krugman's "If the excess over $5 million were taxed at pre-2001 rates..." is a *big* if indeed.]

The people who do wind up paying the tax are those who don't realize where the trees are. Maybe the business wasn't reappraised until after death, or they didn't like to think about dying, whatever. Their own fault, no doubt, considering how many large gross estates pay no tax at all.

The other traits of a "good" tax I remember from my student days are things like transparency, low transaction costs, etc. As far as estate tax goes, fuhgetaboutem. Income tax revenue is of course sharply reduced as a result of estate tax planning.

Regarding the goal of giving everyone an equal start, it doesn't exactly do that. If you were to propose an estate tax reform that would *really* do that -- equalize the Kennedys and Rockefellers with the rest of us in one generation -- I might support it. But would the Kennedy and Rockefeller family politicians?

As to "fixing rather than repealing" the estate tax by increasing the exempt amount to say $5 million as too many voters become wealthy for a lower number to be policitally comfortable, what kinds of support for wealth taxation is that? That's pure tax-the-fellow-behind-the-tree-ism.

I could support a real wealth tax, if equitable and efficient. But the one we have is pure politics from *all* directions, IMHO.

Regards,

Posted by: Jim Glass on June 16, 2002 03:43 PM

''b. "To Republicans "fairness" no longer means "equality of opportunity": it means something else."

Maybe it does - like property rights. Here's an idea: for real equality of opportunity, why not confiscate everyone's property at the end of each year? Shuffle the deck, deal again. Or, if there are economic trade-offs that suggest annual confiscation to be a bad idea, why do those trade-offs change at a person's death, and why should I stop caring about my children just because I am gone, gone, gone.'

There's a difference between "caring about your children" and "leaving 10 million in completely untaxed gains to them." Also, to my reading, the early GOPers were mostly self-made and fans of self-made new industry types, and quite scornful of anything resembling an aristocracy. Fairness *has* become more of a libertarian than communitarian concept in society, and inside the GOP, over the years.

Posted by: Jason McCullough on June 17, 2002 07:50 PM

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