Wednesday, September 07, 2011

15% estate tax with $100,000 exclusion?

I often disagree with the conservative/libertarian/lukewarmist Tigerhawk blogger, but not always (and it's good that he doesn't take himself too seriously). He had this reaction to Romney's proposal to end the estate tax:

Sure. But also eliminate the step-up in basis at death. (My own view is that the best estate tax would be one with a very low exemption -- say, $100,000 -- but also a tax rate so low that people would not go to a lot of trouble to avoid it. I suspect that a 15% rate with a $100,000 exemption would both generate more revenue and redirect estate planners and lawyers to more productive work.)
I think he might be right, especially if you also include that elimination of step up in basis for purposes of calculating capital gains. I googled around and couldn't find stats on average estates at death, but I doubt it's $100,000 (especially including people with no net estate). Even someone with $200,000 would only be effectively taxed at 7.5%. The current rate is 35% and exempts the first $3.5 million. (UPDATE: actually the exemption is $5 million through 2012. It's then caught up in the Bush tax cut issue - unclear what will happen post 2012.)

Tigerhawk misses that his own proposal might even be more progressive than the current system, assuming it does bring in more money. Most of the money would come from people with estates well over $200k, maybe over $500k. These people are far wealthier than the average American. The obvious downside is while it may be more progressive overall, it catches the moderately wealthy at the expense of giving a huge windfall to the superwealthy.

So of course it's not the ideal estate tax system, which would exempt $50k, start at a rate of 15% and gradually ratchet up to 60-90% at $5m (depending on how effective evasion is), but maybe it's worth considering.


UPDATE: See L's comment below, that an on-paper capital loss from the immediate sale of estate capital items (and due to step up, there should always be a capital loss) can be set against an inheritor's capital gains. You get free money and a tax break on your own taxes. I'd like to get that verified, but it seems plausible and amazing.

28 comments:

JCH said...

Eli - keep your bunny paws off Medicaid's spend-down dollars.

Doug said...

Sounds as though there are no objections!

Another modest proposal would be to put an expiration date on money; let's say that money must periodically be cycled through a physical manifestation, or it expires and becomes worthless. Would that be a tax, if the choice of where to pour that money was entirely up to individuals?

Dallas said...

Why do even consider a 60% to 90%. Yes, the lower end should have have a reasonable exemption and there should be a graduate tax rate, but over 50% potentially chokes the egg laying goose. It would be better consider the overall tax generation of estates rather than just the fast money. Family farms are a good example; with inflated land values an estate can exceed the 5 million threshold while only producing an income of 100K to 200K for the family, but the forced sale of the "5 million dollar" estate may only generate fire sale dollars of 2 million.

JCH said...

The average wealth of all Americans is not helpful. The average wealth of Americans late in their lives is what is being taxed, and a low exemption would mean people of fairly moderate means would be paying estate taxes.

EliRabett said...

The free ride fairy appears. Fact is that all income should be taxed. You did see that part about the step up basis? Know what it means?

David B. Benson said...

Economic utility theory suggest first converting $$ into utils which then better describe, it is claimed, the utility of the wealth to the owner.

Unfortunately, there is no agreed upon conversion.

ginckgo said...

I think something is missing here: many rich people will avoid any tax they can, no matter how trivial the amount (notwithstanding what several billionaires have recently insisted that they should get taxed more)

Brian said...

Dallas - I'm unconvinced by the family farm thing. There already are transition programs. Let them donate agricultural conservation easements if the speculative value exceeds the present value income stream from the land. If you hit an actual Laffer Curve inflection point where total revenues decrease, then I'm willing to come down.

JCH - that's close to what I meant - average net worth of people that died in any particular year.

Eli - yes indeedy, I was impressed to see TH include it. Here in supposedly-progressive California under Prop 13, we not only give long time landowners huge property tax breaks based on value at time of acquisition, we also allow them to bequeath that tax break to children, who take a step up in basis for estate tax purposes.

Gingcko - yes, it's a cat and mouse game.

Anonymous said...

"...also a tax rate so low that people would not go to a lot of trouble to avoid it." There's no such rate.

I remember a lawyer/ investigator from a famous Australian financial scandal many years ago talking about this. His main point was "Follow the money. Follow the paper trail."

The paper trail for one scheme led him to a Singapore office - where he accidentally came across documentation for avoiding their tax. He asked, "Why bother? The tax rate's only 10%."

The answer. "Tax is tax." Expressive shoulder shrug.

Never forget the deep hatred these people have for paying tax. They will happily, eagerly, spend more on legal, accounting and financial fees and commissions than the amount of tax avoided would have cost. Sometimes double. No matter.

If it's tax, it doesn't matter how much money, time and effort it takes. It has to be reduced, preferably eliminated altogether.

MinniesMum

Dallas said...

Brain, At a 50% rate many had trouble, especially with the drop in land value and tight credit. Over 60% hardly anyone with a net worth over a million is not going to look for some shelter. Reason can generate revenue. A corporate minimum tax rate based on true cost of goods sold would make much more sense, with a higher rate for out sourced manufacturing. A 90% death tax is pretty much insane unless really don't care to have any businesses not move offshore.

David B. Benson said...

MinniesMum --- Need an alternate term to replace sociopath

Dallas said...

Brian, a little correction, it was 45% and 2million exempt. The value was assessed at 3.6 million, sales value after probate was just under 2 million. Hopefully, that kind of situation is not going to be the norm! The family's lawyer was able to keep things continued long enough to get a more reasonable appraisal, but the legal fees totaled 75K. Not big for resolving 1.6 million dollar discrepancy, but a bit much for 175K annual income. The lawyers of course won.

A simpler tax code would hurt the lawyers, but hey someone has to take a hit, who better?

JCH said...

In my experience, every simplification of the tax code has enhanced lawyer revenue. In tax meetings long ago I started saying the only way to simplify the tax code would be to leave it as is: no changes. Everybody would laugh, but there is an element of truth to it. The annual changes are a major component of its complication.

It would be far simpler to just do away with corporate and estate taxes, and far better to collect those monies through individual income taxation. And it would also be far simpler to have a much larger number of brackets. They used to run to the 90th percentile. That was a heavy motivator to invest in plant and equipment and employee benefits and raises.

larrytemc2 said...

The bulk of an decent size estate will consist of long term capital gains. The step up in basis eliminates these gains for income tax purposes for just about all assets (except for IRAs which don't get a new cost basis). So, it would seem that the purpose of an estate tax is to prevent gains from escaping tax entirely. Unfortunately, this tax is not very enforceable due to manipulation. Any measure to eliminate the estate tax should also eliminate the step up in basis. Shouldn't be able to have your cake and eat it too.

The 15% mentioned is the current capital gains tax rate. So why not just eliminate the concept of estate tax and make everything subject to the income tax system by eliminating the step up in basis? Let the exemption be the current capital gains exemption on a primary residence. The only question is whether there should be a mechanism to prevent an unending chain of inheritance on certain assets that never creates a taxable transaction. For business assets, normal business motivations should prevent this from being a problem. But maybe a stick or carrot is needed in ther somewhere ...

JCH said...

Because in many cases there is no sale, so the family has no cash with which to pay the 15%. The politicians will then claim a horror story has occurred if the family is forced to sell pappy's vintage lazy boy. It's smarter to drop the whole thing, and take the taxes from a pile of cash: income.

Anonymous said...

Dr. Jay Cadbury, phd.

There should be no estate tax. The money never originated with the government, therefore they have no claim. Just another Communist scam. After reading all of the quack ideas here, I'm thinking I should be careful how much money I make because the people here are pre-emptively jealous of successful people. The rich have gotten poorer under Obama, and undeniable fact, and the poor have suffered as a result, another undeniable fact.

Anonymous said...

Dr. Jay Cadbury, phd.

@Eli

"Most of the money would come from people with estates well over $200k, maybe over $500k. These people are far wealthier than the average American."

I disagree, I don't think that range of money can be considered wealthy. But what Eli and the good doctor both know is that there is a huge bracket of people making between 250-1 million. So when Obama starts the millionaire and billionaire talk, it's essentially a lie because he wants to tax mostly people making less than a million. The people making over 1 million however, is a much smaller number, which is why the dumbocrats don't want to make a tax bracket for those higher earners. Those making over 10 million are also in a small group. In fact, there were over 17,000 people who made over 10 million in 2007. As of 2010, that number is in the 9,000s, almost cut in half. The rich got poorer and the poor got poorer.

Brian said...

Dallas - get the right appraisal and you get the right result.

JCH - I'd trade corporate tax for more progressive income/wealth taxes. I prefer estate taxes to income taxes, they're more progressive.

Larry - I think wealth transfer is an appropriate taxable event, and the right time to finance society and level the playing field a little bit, which is the best way for the free market to work.

JCH - they can mortgage it.

Jay - Obama's been very clear that he's talking about $250k plus. Maybe you should listen to him.

Anonymous said...

"It would be far simpler to just do away with corporate and estate taxes, and far better to collect those monies through individual income taxation."

I argue the opposite - given a choice, isn't it better to tax someone who didn't earn the money ( the estate beneficiary) rather than the person who did (the income earner?)

that step-up does some interesting things. When i inherited my 1/3 of my dad's estate, a big chunk of it was his real property.

The estate sold his land and home, for a value - call it x. There were costs associated with the sale, call those y. What was divided among his 3 sons was (x-y) dollars. His estate was below the inheritance exclusion at that time, so I owed no tax on that money.

Fair enough.

BUT - that cost y was treated as a loss, because it came off the new basis value. So I not only inherited 1/3(x-y) dollars, I ALSO inherited a paper loss of 1/3y, which I was able to deduct from my actual income, therefore reducing my own personal taxable income.

Result - inheriting my share of dad's estate also moved nearly 40% of my actual income to non-taxable status, drastically reducing my actual taxes paid that year..

This - seems problematic.

-L

Anonymous said...

Paris Hilton is an excellent argument for a 100% inheritance tax.

Somebody famous* once said:

A rich man is not necessarily a thief. After all, he could be the son of a thief.

*Source of quotation unknown to me. Was it St. Jerome?

Doug said...

Dr. Dr.:

"Obama..." blah-blah, woof-woof.

Good to get clarity on Dr. Dr.'s perspective. When he's miming climate science, he's actually communicating ideology.

J Bowers said...

"In fact, there were over 17,000 people who made over 10 million in 2007. As of 2010, that number is in the 9,000s, almost cut in half."

Capital gains. The rich got richer, and the middle classes got poorer.

David B. Benson said...

All this high finance makes my mind spin.

JCH said...

They may not be able to mortgage it. Mortgages are based upon the ability to pay them back, which is based up income. If the deceased taxpayer had instead paid additional income taxes year by year, there would be no need for this extra nonsense at his death. You tax piles of cash when they are being made, not empty piggy banks. It's easier. There is far less resistance and resentment, and you get far more tax revenue.

Revenue is revenue. If total revenue comes from one source, income, taxation is far far simpler and far more efficient. Instead we collect taxes from a wide array of activities, which makes it a nightmare, and people are, to say the least, sick of it. And progressives need to understand that people are sick of it.

So even though II have an exceedingly low opinion of Cad and his ilk, I agree with him.

Steve Bloom said...

Yeah, JCH, put most of the accountants out of work, plus a lot of the lawyers, and while we're at it let's institute a health care public option so we can get rid of the bulk of insurance jobs. And hey, what about that absurdly high Pentagon budget? So what's your guess as to the resulting unemployment rate and the effect on the economy?

I'm not saying it's good or bad, but there's a reason why changes of that sort get resisted massively. Even really blatant ones, like a lot of the Wall Street reform that got disappeared.

As to the larger picture, some, not me but perhaps Eli, might say that what's really going on here is an elaborate but ultimately futile papering over of the terminal crisis of capitalism. That's probably not what most of the people who spend their time resenting the present system have in mind when they complain.

Perceptions of what's going on are amazingly orthogonal to reality, as here. What it looks like to me is that the rich are gathering unto themselves as many resources as they can before the balloon goes up.

Brian said...

JCH - if a commercial property like a farm is worth far more than the present value of the income stream, then something is wrong. If it's speculative appreciation, then like I said, they can donate easements. And in any event, the mortgage would only be for the partial value of the property, not the whole thing.

Yes revenue is revenue, but the socioeconomic impact varies by revenue source. Wealth inequality is even greater than income inequality in the US.

David B. Benson said...

Brian --- Your last sentence appears to imply that great wealth cannot find adequate investments. That seems unlikely on the face of it.

larrytemc2 said...

Actually, the case described by L seems perfectly legit since supported b actual cost. Here is a slightly different scenario. An estate secured a new appraisal for a farm. Due to housing crisis and subsequent impact on the whole real estate market, the farm ultimately sold for several hundred thousand less than appraisal. The accountant recommended that the paper loss be taken and distributed to estate beneficiaries which it was. The estate was too small for estate tax.