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essay | 3.6.17
During the recent general election campaign, now-President Trump called for the repeal of the estate tax. This policy is certainly popular with Republicans, who have traditionally opposed the tax, often rebranded as the “death tax.” Republicans have in fact almost killed the death tax before, passing temporary legislation toward the beginning of the George W. Bush administration that was meant to phase it out. This legislation had a sunset provision that ultimately left the planned repeal dead in 2011. Meanwhile, Democrats have not typically been ardent defenders of the tax. That has changed somewhat, reflected in former Secretary Clinton’s adoption of more progressive positions regarding the estate tax, including an increase to the top tax rate and a decrease to the relevant exemption.
It’s easy to understand why a fervent defense of the estate tax would remain unappealing: it’s boring. Taxes and tax law represent complicated and archaic bureaucracies layered in rules and exceptions. They’re headaches, burdens. It doesn’t take long for numbers, percentages, and formulas to get thrown around. Republicans have the passion of an anti-tax crusade on their side; at least in recent history, Democratic support has only been for a status quo regarding the estate tax even as it has quietly become less and less consequential. I think this is for a few reasons, and not just because of how wearingly boring and confusing any discussion of tax law can be. Anyone who’s worked in estate planning for any length of time has probably recognized a recurring problem reflective of human nature: we don’t like to talk about death. There is some sort of estate tax, and maybe some of us consider that and wonder if that’s something we should plan for, but most of us probably don’t want to think about our own mortality. On top of that, the estate tax just looks ugly: on its face, it has the appearance of reaching into the wallets of the recently deceased.
But let’s step away from estate taxes just a moment. Let’s talk—briefly—about estate planning more generally. There are a lot of good reasons to prepare an estate plan. Here are two: avoid fights between your family members, and make sure your assets are going to the people or causes you care about. If you’re a creative type, or if you own a business, you should hope that ownership rights and succession procedures are going to matter someday. And estate planning isn’t just about what happens after death; creation of a trust to provide for a loved one who is incapable of adequately providing for himself (like a minor or someone with a severe disability) is often desirable or necessary. But for the vast, overwhelming majority of people, estate planning isn’t important to protect against burdensome taxes (or any taxes at all).
With that in mind, let’s return to the estate tax. I think the easiest way to begin a discussion about what the estate tax is and how it matters is to talk about how it might affect you. Bear with me; I’ll be throwing around a lot of numbers, but hopefully it’ll all come together.
I ended the last section by saying that most people don’t need to worry about estate taxes. That is because there is a truly massive exemption on federal estate and gift taxes—an exemption that continues to increase. A tax exemption basically reduces the amount of taxes owed by exempting a certain amount of money from being considered as taxable. The federal estate and gift tax exemption was $5.45 million in 2016; it’s $5.49 million in 2017. To be taxed on an estate, a decedent (the dead person) would have to have some combination of lifetime giving and final estate value that totaled over $5.49 million.
It’s maybe a little more difficult to think about this type of exemption. An income tax exemption results in a decrease to the amount of income considered for tax purposes. This estate and gift tax exemption does not involve what you have received, however; instead it tracks how much you have given away. From a certain point of view, a residuary estate is another type of gift; you are giving away your possessions, such a gift in this case triggered by your death. So the estate and gift tax exemption tracks how much you have given away throughout (and after) your lifetime. Hold onto that thought for a moment, because there is an exclusion to the exemption total: the annual gift tax exclusion.
We could think of this exclusion as an exemption to the exemption. If you gifted below the total allowed gift tax exclusion in a given year, the amount you gifted is not applied toward the pool of gifts captured by your exclusion. Here’s another number to keep track of: between 2013 and 2017, $14,000 of annual giving was excluded from the exemption. So if a benefactor wanted to give away $14,000 in a given year, he or she could do so without penalty. If over $14,000, a gift tax return would have to be prepared, and the amount over the $14,000 exclusion would be deducted from the total $5.45 million lifetime exemption.
Let’s stop here a moment and consider an example. Let’s say that in 2014 Jan gives $9,000 to Lex. The annual gift tax exclusion means that that gift transfer is not taxable; Jan doesn’t even have to prepare a gift tax return. In 2015, Jan gives $15,000 to Lex. This year, Jan will need to file a gift tax return, as $1,000 is potentially taxable (over the $14,000 exclusion limit). However, this does not mean that Jan will ever be taxed on the $1,000 extra. This just means that, assuming this was the first time she ever went over the annual exclusion, she now has $5,489,000 remaining as an exemption (as of 2017), rather than $5,490,000. If she never exceeds the annual exclusion again and unfortunately dies in 2017 with an estate of, let’s say, a million dollars, her estate will not have to pay any estate taxes.
All of the above assumes an individual. That’s nearly $6 million per person that is completely exempted from any estate or gift taxes. With a married couple, over $10 million can be shielded from taxation altogether—and a decedent’s estate can elect to transfer any unused portion of an exemption to a surviving spouse. And each spouse gets their own $14,000 annual gift exclusion. So suddenly the number of, well, numbers to keep track of is rapidly multiplying.
But let’s keep it simple. You’d have to have a combination of lifetime giving and remaining estate in excess of $5 million (not including that additional annual exclusion) before you’d have to worry about the federal government taxing your estate and reducing what goes to your heirs.
The vast majority of us will never have to worry about having an estate tax applied to our estates. In fact, the Tax Policy Center estimates that less than 12,000 people in the entire country will die in 2017 with estates large enough to even require filing an estate tax return, before considering additional deductions and credits. To cite the Tax Policy Center again, the top 10 percent of income earners pays over 90 percent of the tax, and over a quarter is paid by the richest 0.1 percent.
When accounting for any estate tax owed, the gross value of the estate minus certain deductions and plus the value of lifetime taxable gifts exceeding the annual exclusions is the starting point. After that, the exemption is applied. What’s left faces a 40 percent top tax rate. It’s not inconsequential, but (a) the estate tax rate has been higher and (b) the exemption has been lower. It seems a little silly to me, at least, to grumble about a 40 percent tax rate when you know that over $5 million of your estate is getting shielded.
As an aside, I’d like to mention that there are separate, state-level estate or inheritance taxes (inheritance taxes are taxed on the transfers to inheriting individuals, rather than taxes on the estate itself). According to the Tax Foundation, there are 19 states total with some sort of estate or inheritance tax. My state of Indiana repealed its inheritance tax fairly recently. Note that states with estate and inheritance taxes typically have similarly high estate tax exemptions, as well.
The above is just the tip of the iceberg. It’s boring stuff, admittedly. You have to take into account exclusions within exemptions, then calculate percentages on outstanding estate values and apply available tax credits and deductions to arrive at a final total…Add in the fact that this only applies to the super-wealthy, and it may seem like there’s no good reason to care. Maybe the initial reaction, assuming you’re not super-wealthy, is relief that this is almost certainly something you’ll never have to worry about.
Republicans really hate these “death” taxes. There is a basic emotional argument that conservatives can appeal to: how dare the federal government reach into the pockets of the recently deceased and strip their hard-earned money away from them! Business owners and family farmers have built up these valuable estates and paid fair taxes on them—why should they pay more just because they died?
Such an argument strikes me as insincere, for one simple reason: when you die, you can’t take anything with you. That money is no longer yours. It’s going to your kids, or your second spouse, or your favorite charity. The estate tax is, to me and to its supporters, simply a way of ensuring fairness. With an estate tax, some of the wealth that would be accrued effortlessly between generations of the more fortunate is returned back into the community, subsidizing those less fortunate while minimizing unfair broadening of the wealth gap. After all, why should someone receive millions of dollars in wealth merely for being the child of a successful person? Rather than taxing a dead guy twice, the estate tax is really a sort of alternative income tax for whoever is receiving the money, ensuring that income made the easy way—by gift or inheritance—is taxed just like income made the hard way, by working an actual job.
More economically based conservative arguments against the estate tax are similarly difficult to comprehend. A leading argument, and from which almost all other arguments are rooted, is that the estate tax discourages saving and investing. This assumes (a) that people do not save and invest so that they can enjoy a good life in retirement; (b) that the wealthy, who are presumably financially savvy people, would simply throw away all their money because their kids can’t have it; (c) that the estate tax does not have an exemption in place and automatically equals a majority portion of any remaining estate; (d) that having all this increased and continual spending by the wealthy would somehow be a net negative for the economy…
And so on. When looked at directly, the economic explanation does not make sense, or at best it relies on too many hypotheticals.
I could be wrong, but I think the only honest conservative answer is that conservatives, on principle, oppose taxation. That’s not a right or wrong answer—that gets into a conversation about first principles, and I’m not here to judge an opinion grounded in principle—but it’s about ideology rather than any sort of fundamental economic fact.
Now, I’m not an expert on tax policy. Nor am I an economist. I could be overlooking something. But I’ve tried to seek out answers, to understand the other position, and, as you can tell from the above discussion, I still don’t quite get it.
Judging by the number of people I’ve met with who have been concerned that they would owe some sort of estate tax, though, I think it’s safe to say that conservatives have managed to plant a lot of misinformation. I think this is helped along by a financial services and estate planning industry all too willing to market complex estate planning products (e.g., trusts) for the potential (lucrative) service and management fees.
Revenue from the estate tax is not a huge amount of money overall; the Tax Foundation notes that the estate tax currently provides less than one percent of federal revenue. However, in response to Republican-proposed legislation in 2015 that would have yet again done away with the estate tax, the Congressional Budget Office estimated that a repeal of the federal estate tax would add nearly $270 billion to federal deficits over the 2015 to 2025 period, so we’re not talking peanuts here. The Tax Policy Center anticipates about $20 billion in estate tax liability in 2017; in comparison, NASA’s 2016 budget was $18.5 billion. Yet we continue to have a shift in discourse about the estate tax when it’s talked about at all, a pushback against ever-increasing exemptions, defenders of a morphing status quo against opponents who want nothing more than to see the entirety of the tax abolished.
Why does this matter to me? The money matters to some degree, and when we have such a massive debt, and when we are in a political climate where even the nearly half-billion-dollar funding to the Corporation for Public Broadcasting is up for removal, then even the fairly miniscule revenues from the estate tax should be significant.
But more importantly, as a matter of principle, the estate tax is an ideological message about wealth distribution. According to the Stanford Center on Poverty and Inequality, the top 10 percent of households controlled 68.2 percent of the total wealth in 1983 and 73.1 percent of the total wealth in 2007. By some estimates, the top one percent of income earners now earn 20 percent of all U.S. income, compared to just over 10 percent of all U.S. income in the 1970s. And this wealth divide is present in generational trends. The Stanford Center on Poverty and Inequality also reports that more than half of those in the bottom income quintile in 1994 remained there 10 years later, while the proportion of sons who remained in the bottom quartile has hovered around 40 percent since the 1970s.
While the estate tax may be a relatively insignificant amount of federal income, it is nonetheless a symbolic gesture against income inequality. It helps to disrupt the trend of intergenerational income inequality by removing excess assets from the wealthy to subsidize the general population in the form of additional tax revenue. The estate tax would be more useful—and more profitable for the federal government—if the tax exemption was lowered and the tax rate increased. There is room for a vibrant conversation that challenges assumptions about inheritance and redirects against an entitlement mentality. Simply being born into a wealthy family should not guarantee wealth, and simply being born into a poor family should not guarantee poverty. Using estate tax as a potential weapon against income inequality is definitely not an idea original to me, but it seems underutilized in the popular national discourse.
We have a low-hanging fruit in the estate tax that could simultaneously serve as a potential source of increased revenue for the federal government and a national commitment to resist further income inequality. And, after all, this source comes not from an increase to taxes on individual or corporate income or financial gains, but from the estates of the deceased—people who literally cannot use any of that remaining money. A push to broaden the estate tax could be a push for greater equality.
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