Asymmetrical Information

I *like* it! What could be simpler? I think a lot of people don't understand the whole re-zeroing of capital gains after an inheritance, and so I think your plan might be a hard sell, very counter-intuitive. It will also be a hard sell to the wealthy, since they're currently in a position of having their cake (no inheritance tax) and eating it too (no capital gains on inheritances).

So, great idea, but too bad it will very likely not be implemented.

Often I seem to join Jane's arguments in progress, missing a key part of the argument.

Her closing assertion is "against the special, complicated, economic-value-destroying structure of the estate tax"

Is there some study to support the assertion that the estate tax is particularly 'economic-value-destorying' relative to other taxes?

Tom

One doesn't need a study to recognize that forcing someone to sell an inherited business, at a time not of the owner's choosing, in order to pay the taxes on it is not economically beneficial.

Does anyone know how much revenue the treasury loses from the basis step-up?

Of course we do. $27 billion in FY2000.

Rand,

Just how many such forced sales occur? I hear people reference them as though they were frequent but I do not head many examples / statistics. Do you have some (preferably in the form of an aggregate statistic)?

I did make some effort to find about the issue though which led me to http://www.ers.usda.gov/Briefing/FederalTaxes/TaxesEstateTax.htm

The key paragraph is the following:
"A second special provision for farmers and other small business owners is aimed at the liquidity problem that these businesses can face ... Federal estate and gift taxes generally must be paid within 9 months of the date of death. However, when at least 35 percent of an estate's value is a farm or closely-held business, estate taxes may be paid over an additional 14-year period with only interest due for the first 5 years."
That makes the frequent forced liquidation story a little harder to believe.

Tom

"One doesn't need a study to recognize that forcing someone to sell an inherited business, at a time not of the owner's choosing, in order to pay the taxes on it is not economically beneficial."

That's not the point: the point is whether it's less economically beneficial than other forms of taxation - all of which are widely accepted to have negative effects in one way or another.

In order to figure that out, you might want to know say: how often this sort of situation actually occurs per dollar brought in in estate tax; what the average effect on the economy of such sales is (if the businesses sold weren't capable of raising capital to finance the tax, then maybe we're not losing all that much anyway)etc. as well as the usual stuff about dampening incentives towards wealth creation.

Plenty of room for it to be better (or worse) than other taxes. I too would be interested to know whether Jane has anything to back up her comments on this. (Genuinely, not sarcastically.)

conchis:

most businesses can not support both their owners as well as a 50% debt load. so yes people do need to sell to pay inheritance taxes.

just because you're not hitting the ROI of the S&P doesn't mean that the economy's better off without you. While technically you want to be making an economic profit, it seems interesting that lefties are arguing that businesses that don't make enough profit should be eliminated!

What's the purpose of the tax? To penalize those who choose to work hard and invest prudently in order to leave something to their children? "Counterproductive" is the mildest epithet that comes to mind.

Hey,

The 50% is a marginal rate. The average rate for those effected is much lower (my memory is ~25%). But more to the point, why do we need to theorize about whether small businesses can or can not do this. Shouldn't there be some statistics on what actually happens (genuine confusion here for me - I honestly have not seen statistics on either side of this issue)?

Tom,
How is this worse than the income tax? Why should we tax those who earn and not those who inherit? And we are not just talking about 'leaving something.' We are talking about leaving millions of dollars.

The last time I saw a study on the issue the presence of heirs had little effect on elderly spending behavior. If that's right the estate tax should induce fewer distortions than other taxes. But that's a distant memory of an only-modestly related study, so I am open to alternative studies.

Tom G.

So, this is probably a stupid question, but does the $290 billion in lost revenues over a decade number include the additional revenues from eliminating the basis step-up?

Otherwise, if the basis step-up were to generate $27 billion per year, over ten years that would be $270 billion... what am I missing here?

The basis step-up is already allowed. Eliminating the estate tax and removing the basis step-up would be a wash.

I love scare numbers like "$250 billion over 10 years." Wow, yeah, out of a federal budget of "$30 trillion over 10 years."

Any tax which generates a huge industry focused on structuring economic activity so as to get around the tax is economically extremely costly. The income tax itself is relatively low-cost, per dollar collected, though each additional deduction adds to complexity and thus cost. Why do I say the estate tax is particularly value-destroying? Because it collects a small amount of revenue for a large amount of useless activity aimed at evading it.

Under current law, the same one which included the elimination of the estate tax, the basis step-up is being eliminated at the same time as the estate tax. 26 U.S.C. 1014(f).

I am surprised at how many people who comment on the estate tax seem to be unaware of this fact and even use the windfall from the step-up basis as a justification for keeping the estate tax.

In fact, I recall a 5-year (?) old editorial by Michael Kinsley in which he stated that he would support the elimination of the estate tax if the step-up basis provision was removed too. As this is exactly what the '01 Bush tax cut did, I have been awaiting his endorsement with bated breath.

Overall, this elimination of two silly unjustifiable tax provisions--the estate tax AND the step-up basis--in one swoop seems like a good deal: Simplify the tax code, improve incentives, and do it at little or no net cost to the budget.

Tom G asks, "Why should we tax those who earn and not those who inherit?" Good question. The answer: We should tax neither. All taxes -- to the extent that taxes are necessary to support the minimal functions of government -- should be consumption taxes.

Any tax which generates a huge industry focused on structuring economic activity so as to get around the tax is economically extremely costly. The income tax itself is relatively low-cost, per dollar collected, though each additional deduction adds to complexity and thus cost.

Agreed that the economic costs associated with administration and avoidance of the income tax are (relatively) small, but the chief cost of the income tax is it discourages the taxed activity: it makes labor more expensive for employers and makes leisure more attractive for employees. There is no such cost associated with the estate tax.

Why do I say the estate tax is particularly value-destroying? Because it collects a small amount of revenue for a large amount of useless activity aimed at evading it.

Query what the actual economic cost of the "large amount of useless activity aimed at evading [the estate tax]" is. (For example, there is a cost associated with putting money in a trust, but it is substantially less than the value of the corpus of the trust, and some of the costs -- e.g., investment management -- would presumably be borne by someone in any event.)

Under current law, the same one which included the elimination of the estate tax, the basis step-up is being eliminated at the same time as the estate tax. 26 U.S.C. 1014(f).

Not quite true. Section 1014 goes away, but it's replaced by new section 1022, which gives a basis step-up for up to $1.3 million in property, with some additional rules for property transferred to a spouse.

I wholeheartedly support the Jane Galt Estate Tax Plan. We might have to quibble a bit on whether publicly-traded securities should be treated like cash (immediately includible in income) or like other property (0 basis), but it works either way. This is the kind of simplification we should all be able to get behind. I'm not holding my breath, though.

Austin Bay has more, including cites for the overall cost of avoidance, here: http://austinbay.net/blog/index.php?p=241

Jane writes: "Ah, you will say, but then Paris Hilton will pay no estate tax. Ah, I will say, but you must have noticed that Paris Hilton really isn't paying that much estate tax, because her family has employed an elite squadron of tactical tax warriors, who have "structured" her inheritance so as to minimise the tax burden. "

Ah, if they aren't paying, then there's no reason to drop the estate tax.

In fact, if they aren't paying, there'd be no harm in doubling it.

Jane writes "Any tax which generates a huge industry focused on structuring economic activity so as to get around the tax is economically extremely costly."

Maybe this is just meant to be self-evident, but I don't know that estate tax management is a huge industry. My parents' wealth puts them probably above the median estate tax payer (although not I am sure above the mean estate size). For them, I would guess their total effort to manage to their estate at roughly 3-4 days for a lawyer and a couple of conversations with an investment adviser.

The effort people make to evade the estate tax relates to the size of the $ involved per person. Some evidence would strengthen Jane's assertion that "The income tax itself is relatively low-cost, per dollar collected" After all there actually are a lot of people who work purely on completing those income tax forms.

Tom

The only quick evidence I could find on the issue was a survey of whom estate-owners consulted:
Type of Professionals Used for Estate Planning
(Among those currently receiving advice on estate planning issues)

-- Attorney -- 89%
-- Accountant -- 78%
-- Independent Financial Advisor -- 54%
-- Stockbroker -- 50%
-- Insurance Specialist -- 31%
-- Banker -- 22%
-- Other Financial Professional -- 6%

Tom,

A consumption tax is identical (post-transition) to a wage tax. It still penalizes those who earn more (ultimately when they or their offspring consume more).

Tom G.

As usual, an interesting discussion. One of the "costs" of the estate tax is the effect it has on asset allocation. That is, rather than pay the estate tax, many wealthy individuals leave much of their estate to charity. (For example, in the late '80s I had a client who wanted to leave each of his 5 kids $1 million. The rest of his $40 million net worth would go to a private foundation to take care of horses.) You might not count this as a "cost" because more charity is a good thing. Cost or not, it clearly distorts the way assets are allocated in our economy. Among my client base I can count hundreds of millions of dollars that will go or has gone to charity that would not absent an estate tax.

I noticed that property/land tax has not been mentioned in this discussion. I bring this up because the estate tax has sometimes been promoted as a rough approximation of a land tax. This was Thomas Paine's justification for an estate tax:
http://geolib.pair.com/essays/paine.tom/agjst.html

Ultimately, land tax is a sort of consumption tax -- but on a resource that you already own rather than one that you are buying from another person. I think that a consumption tax could only be fair if it included a considerable "rebate" that covers the taxes collected on the first $20,000 (or so) of expenditures per person.

Otherwise, a consumption tax would just eliminate any possibility of savings and investment among those who are just getting by, while the super-rich, who couldn't spend all of their money if they wanted to, will continue to reinvest it and end up buying up more and more of the country--getting all the perks and power that go along with ownership of companies.

Also, wouldn't any government policy that encourages savings (especially the purchase of stocks and bonds) create a windfall for those who already own those assets?

Judging from the free pr0n ("one night in Paris") you can download off the Internets, she has earned her money the hard way. ;)

In fact, she has provided a public good that makes many people happy. It's just like charity.

The situation in Canada may be of interest. As I understand it, when you die, the last income tax return that gets filled out for you treats all assets as if you sold them at the time of death, i.e. all capital gains are "crystallized", and tax is paid. The heirs then get the remainder as capital, i.e. they don't pay tax until it's sold, and then the tax would be capital gains.

This seems much more logical to me than a special tax triggered by death, along with the usual taxes.

Of course, we do have other differences. E.g., I have heard that interest on the mortgage of the principal residence is deductible in the States, whereas IIRC it isn't in Canada.

Love this idea - even if some conservatives will still argue it's double taxation. Now if we can only stop the game playing with lowball valuations, maybe we'll collect more revenues at the lower tax rate.

"Any tax which generates a huge industry focused on structuring economic activity so as to get around the tax is economically extremely costly."

Oh, why bother refuting?

If Jane Galt is going to lie, Jane Galt is going to lie.

Why would the avoidance costs of this scheme be any lower than the costs of avoiding the estate tax? If the property has a high cost basis, there would still be incentives to find some way to transfer the property before death to avoid the complete loss of basis. Why would it matter whether the government takes a big chunk of the estate through an estate tax or through the elimination of cost basis? Either way, death has huge tax significance.

Why would it be any harder to evade a huge drop in basis at the time of death than it is to evade the estate tax? Unless Jane can answer that question, her plan is in no way preferable to the estate tax.

So, Jane:

It must be a coincidence that your "15% solution" is essentially identical to what the Mars heirs are trying to bribe their way through the Senate this year.

Just a coincidence...

If you're not on the payroll, you're missing out. They're throwing around cash like there's no tomorrow.

Relieve the tax burden on wealth! Increase the tax burden on work! There is no end to the mendacity of your ilk.

What happens to all the "last-to-die" policies? Would we tax them or not?

Jane - saw your comment over at Maxpseaks. Your idea gets more interesting from my perspective. I did give a small qualification to your comment over there.

RE Sub Specie AEternitatis' comment:
"Under current law, the same one which included the elimination of the estate tax, the basis step-up is being eliminated at the same time as the estate tax. 26 U.S.C. 1014(f)."

I asked my dad, a tax accountant, to confirm the claim that both the estate tax and the stepped up basis are being eliminated. I thought his reply is pertinent:
"the estate tax only affects decedents with $1 million + estates whereas the stepped-up basis covers all estates - doing away with both only helps the wealthy - hurts the less wealthy because under current law they would not have to pay any estate tax but would receive the step-up in basis - if the intent of the change is to remove the burden of estate tax from the wealthy while adding a new tax burden to the less wealthy then elimination of both would accomplish that goal"

Will, that's what the Post said in its estate tax editorial as well.

The best argument for the estate tax is that is necessary to plug a hole in the gift tax. The best argument for the gift tax is that it is necessary to preserve the progessivity of the income tax against asset transfer strategies. The best argument for the progressive income tax is the declining marginal utility of money. The best arguments against the progressive income tax are the perverse incentive effects and that all income taxes are flat rate taxes at the highest marginal rate (in terms of their incentive effects), one that looks like it is progressive is just a flat rate tax with a standard deduction.

the worst problem with the estate tax is that its rates, which ran up to 60% before the most recent changes, are confiscatory. This made it profitable to engage in expensive tax planning, which is a deadweight loss to the economy.

The worst argument for the estate tax is that is intended to, and does have an impact on the distribution of wealth. We have had an estate tax for about 90 years, and the Rockefellers and DuPonts are still extraordinarily wealthy. England has had an estate tax even longer and they still have a landed aristocracy.

The best refutation of distributional arguments, beyond the fact that the people making them have ZERO evidence that taxes have a distributional effect, is that there is no reason to believe that in an economy where actors are free to transact and to set prices and wages that at which they will transact, taxes will be passed along to parties with weaker positions.

Megan's proposal is basically a consumption tax with no deduction for savings if they arise from cash inheritances. I would much rather see a true consumption type income tax with an unlimited deduction for savings, that would include gifts and inheritances as income.

One doesn't need a study to recognize that forcing someone to sell an inherited business, at a time not of the owner's choosing, in order to pay the taxes on it is not economically beneficial.

But this hardly ever happens, no matter how many times Republicans lie about it. And on those very rare occasions when it does the tax code provides a very generous provision for paying the tax in installments at low interest rates.

BTW Jane, I'm curious. Are the Hilton family financial arrangements posted somewhere, or do you somehow have access to them, or are you just making stuff up?

Bernard, I suspect that it is a very rare occasion that somebody breaks into your house and beats you to a pulp. Is it therefore valid to assume that you'd have no problem with this happening to you?

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