Wealthy families fighting for no taxation on wealth transfers

by Linda Beale
crossposted with Ataxingmatter

More on the Estate Tax Debate–Holtz-Eakin and the wealthy families fighting for no taxation on wealth transfers

So far, at least four of the wealthiest few Americans have died in 2010, when there is no estate tax under the “reduce, repeal and spring back” law enacted as part of the Bush series of tax cut bills with gimmicking sunset provisions. They are George Steinbrenner (worth $1.5 billion), Janet Morse Cargill (worth $1.6 billion), Dan Duncan (worth $9.8 billion), and Walter Shorenstein (worth $1.1 billion). The temporary elimination of the estate tax in 2010 cost the government roughly $6.5 billion in estate tax revenues in connection with just these four deaths. That a significant amount, especially when one considers that much of the value in these estates is likely to be financial assets on which the decedents paid very little in taxes during their lifetimes and on which any tax that was due was likely at a preferential capital gains rate. See TJ Wall, Steinbrenner Fourth Billionaire in 2010 to Escape Taxes, if Not Death, MichiganEstatePlanningLawBlog, July 21, 2010.

Bernie Sanders (independent senator from Vermont) introduced a bill this year –the Responsible Estate Tax Act (S. 3533) that would return the estate tax under Code section 2001 to the 2009 exemption level and add a progressive rate structure. Id. Accordingly, there would be an exclusion amount of $3.5 million and the tax would be determined by applying a 45 percent rate for values of estates from $3.5 million up to $10 million, 50% for amounts above that up to $50 million, and 55% for amounts over $50 billion, with a 10% surtax on estates of more than $500 million (i.e., amounts in excess of $500 million would be taxed at 65%). The bill would be retroactive to the beginning of 2010. That is probably a reasonable compromise, though I have argued elsewhere for a lower exemption level, since most estates would be excluded with a $2 million exemption amount.

The bill also provides for consistent reporting for estates and recipients of property, elimination of valuation discounts for non business assets held in a entity that is not actively traded, and elimination of minority discounts for transfers of interests in an entity when the transferee and members of the family of the transferee have control of such entity. It also requires grantor retained annuity trusts to have at least a 10-year term. Those are important anti-abuse provisions that would limit the ability of wealthy estates to evade the estate tax.

Regrettably, that bill is sitting in the Senate Finance Committee, where Max Baucus is chair and favors an approach that would cut much more taxes for wealthy estates.

In the meantime, the groups that are pushing for estate tax “reform” (by which they mean cutting the amount wealthy estates have to pay) are busy putting out propaganda attuned to the worries of ordinary people who might not otherwise support repeal of a tax for the wealthy. In other words, the propaganda claims that letting the wealthy keep even more of their wealth for their heirs will result in a trickle down of jobs to us ordinary folk. Douglas Holtz-Eakin and Cameron Smith, for example, have another of their opinion pieces on the estate tax, published under the aegis of a foundation that has been fighting the estate tax with propaganda sound bites for decades (the so-called “American Family Business Foundation”). See Growth Consequences of Estate Tax Reform: Impacts on Small and Family Businesses, American Family Business Foundation, Sept. 2010. Not surprisingly, the rhetoric claims that cutting the estate tax is “an important element of pro-growth tax policy” since it affects asset accumulation (DUH) and hence “payroll and investment decisions of small and family businesses”. The implication, of course, is that if only the wealthy are allowed to pass even more of their wealth to their heirs tax free, that money will be used to create jobs in the existing business and to invest in ways that create new jobs in new businesses. So the paper concludes that an estate tax rate of 60% “will cost as much as 1.5 million jobs” while a rate of a mere 15% “could diminish hiring by over 350,000 jobs.” It claims that estate taxes reduce capital outlays, lower “the probably of new hiring by 8.3 percent” and leads to “cutting the size of payrolls by 2.5%.”

Are those conclusions reasonable or justified or are they just the predictable output from mathematical models that start with assumptions about growth and investment that lead inexorably to such conclusions?

Let’s examine the paper’s arguments that “the estate tax is an important element of pro-growth tax policy for economic growth”:

1) The paper starts with an argument against stimulus and in favor of “pro-growth policies”. This is particularly unconvincing. It talks about the need for generic “households” to repair their balance sheets, and then suggests that stimulus doesn’t contribute to this while the estate tax would, by helping business sector spending.

Of course, the estate tax puts money in the pockets of the ultra wealthy, who lost the least in the economic recession and are least likely not to do whatever is needed in their business to increase its activity. Not convincing.

2) The article argues that small and family businesses and entrepreneurs are important to the economy.

Yes, I’ll go along with that.

3) the article then asserts that since these businesses are important , the “dramatic impact” of the estate tax on their owners (and hence on their owners’ enterprises) has a “disproportionate impact” on the overall economy.

Small businesses–most owners of which aren’t at all affected by the estate tax because their value is well under the exemption limit–are vitally important to the economy. Family businesses–many of which are truly megalithic industries (WalMart, Koch Industries, and many other huge corporations are “family businesses” in some sense of the word) are important to the economy, but in most cases either also small businesses and so not affected by the estate tax or such large businesses that the fact that the heirs to the family wealth may receive a little bit less is not going to distort business decisions or hinder business expansion when business expansion will make more money for the business.

The article claims that the effort to do estate planning results in less asset accumulation, thus affecting the amount the wealthy heirs can get and invest, thus affecting the economy and job creation. Oh, please. Yes, there is a cost to estate planning, and that cost may affect the savings rate of the wealthiest family by some small amount. There are several responses to that. One–make the rules harder to get around by typical estate planning techniques. The Sanders bill offers a good start–by eliminating valuation discounts and minority discounts in many cases, by setting up harder requirements for GRATs, and by requiring certain consistent reporting of basis. There should be more such provisions, and then the wealthy would spend less of their assets planning for how to avoid the estate tax. Two–estate planning would take place whether or not there was an estate tax, since much of it is to provide a way for a wealthy old curmudgeon to control his heirs, etc. Three–increased savings by the wealthy is not necessarily a benefit to the US economy in general, though it may be beneficial to the wealthy and their heirs. Savings may be reflected in offshore investment, etc. (see a number of earlier postings).

Now, the article relies on the fact that the estate tax is negatively correlated with the reported net worth of the top estates (quoting much of their own prior work and admitting that their “results are far from conclusive”). We’re supposed to pity the wealthy because the estate tax “reduces the lifetime marginal rewards for work, risk-taking and investment when compared to leisure or consumption.” Again, there are a number of responses to that observation. One–this is standard Chicago school economics, but we actually don’t know that the wealthy reduce their work because their estate may be subject to tax. They may increase their work instead. Economics can’t really say. Two, taking risks is of value when it is associated with entrepreneurship, but risk-taking is not per se valuable. IN fact, much of the risk-taking associated with concentrated accumulation of assets is likely to be of the kind that led to the financial crash–too much interrelationships among parties, too much throwing money after engineered transactions, etc. And as for “investment” versus “consumption/leisure”, again, we cannot truly predict what effect estate tax rates have on that decision or how that decision affects the economy–more investment may well be bad for the US economy if it is in offshore entities, while more consumption may be good for the economy if it is in US goods. So the “entrepreneur facing the estate tax” who “decides to buy an around the world cruise” to reduce the tax is not to be pitied. It’s unlikely that this person with such wealth is really an active entrepreneur in the first place–he may once have been an entrepreneur, but is likely at this point merely a preserver of wealth or even a monopolist (think Bill Gates and Microsoft). The cruise may well employ more people than if the wealthy person invested it in a hedge fund that made its money by engaging in financial transactions with other banks or shadow banks.

And to the extent that asset accumulation is limited, that is a good result–consolidation of wealth in few estates leads to oligarchy, and that may work ok for economic growth of the few estates at the top, but it isn’t good for the majority of ordinary citizens. Spreading the wealth more likely spreads job creation, the potential for entrepreneurship, and the ability of most of us to manage a decent life, contributing to the commerce of the community.

The article of course reiterates the tired argument that increasing the effective tax rate on capital income “affect[s] business growth and success.” Again quoting an earlier piece by Holtz-Eakin with others, they claim that “small businesses likely to face the estate tax experienced slower growth than otherwise situated competitors.” Even if this were true, the number is so small as to be de minimis–only 2-3% of small business owners will pay an estate tax.

The article then goes on to set the libertarian arguments–that the estate tax is a “tax on your right to transfer property at your death.” (of course, isn’t it really a tax on the ability of heirs to receive property from a decedent rather than having that property escheat to the state.)

In other words, there is a lot of hot air and not much substance in this further “report” from Holtz-Eakin shilling for the groups that want to eliminate the estate tax. They are the same arguments that have been put forward for years. See, e.g., Helmuth Cremer and PIerre Pestieau, The Economics of Wealth Transfer Tax, June 2010, an article which summarizes the critique of the estate tax as follows:

“Critics contend the tax distorts investment and other choices of the rich, and also affects owners of small family businesses. It raises very little revenue at a heavy cost to the economy. It generates complex tax avoidance schemes. The hardest hit by the tax are farmers and small business people who work hard to pass on an enterprise of value to their children. From a number of recent publications, we have listed a number of charges addressed to estate taxation in a sample of writings that are often more partial and polemical than balanced and rigorous.” Id.

The authors then provide responses to some typical anti-estate-tax points. They note that while the estate tax does not raise “considerable sums” it does makes up a non-negligible 2% of total federal tax proceeds. They agree that the estate tax doesn’t eliminate wealth inequality, but note that it does have some impact. They admit that people with the same size estate pay different taxes depending on many factors (asset structure, fiscal engineering, suddenness of death, etc.) but note “that calls for reforming the tax and not necessarily killing it.” While heirs can be asset rich and cash poor, valuations often reflect the current use of the property rather than its market value. The estate tax does have a positive effect on charitable contributions (which after all isn’t a primary reason for the tax). The estate tax theoretically violates the tenet of “no double taxation” but in fact the realization and other rules mean that much of the gain in value of assets has never been subject to capital gains tax or any other tax. As far as the concern that the estate tax results in over development and thus harm to the environment, the authors suggest that an arrangement between heirs and the State can solve that problem. As for estate tax critiques that argue that repeal would create millions of jobs, increase business capital, increase probability of hiring, increase payrolls, expand investment and slash the jobless rate, the authors scoff that “these forecasts are too rosy to be credible.”

The estate tax is an unpopular tax in the US, perhaps largely true to the constant stream of anti-estate tax literature or, as the article notes, to the particular framing of questions about the estate tax. Fewer than 2% of decedents’ estates are subject to the tax.