Repeal of the Estate Tax as a Matter of Policy

REPEAL OF THE ESTATE TAX AS A MATTER OF POLICY

Abstract

This paper analyses the social and economic influences of the Federal Estate Tax, leading to a discussion whether the repeal of the Estate Tax is beneficial or harmful as a matter of tax policy.

The advantages of the Federal Estate Tax is explored in this paper, such as redistributing of social wealth from wealthy class to lower income class, reducing the budget deficit with more government tax revenue and encouraging basic social fairness. While the Federal Estate Tax meets many primary objectives for taxation, there are also several concerns and disadvantages of the Estate Tax. Opponents’ concerns are mainly in the possibility of double taxation of estate tax, the suppression of national economy, capital flight due to tax rate difference between the United States and other countries, and its negative influences on small business and farm owners.

Keywords: estate tax, social wealth redistribution, double taxation, family-owned business

REPEAL OF THE ESTATE TAX AS A MATTER OF POLICY

Repeal of the Estate Tax as a Matter of Policy

The Definition and Brief History of the Federal Estate Tax

What is Federal Estate Tax?

The Federal estate tax is a tax imposed on the transfer of property, including cash, real estate, stock, or other assets, from deceased persons to their heirs by virtue of the death of the owner. Although the Federal estate tax shares similar nature of gratuitous transfer of property with Federal gift tax, they are governed by separate rules with different tax rates. With most obvious difference, which is the point of time at which the property is transferred, between these two transfer taxes, Federal estate tax apply to a higher tax rate than Federal gift tax for the reason of Congress’ encouragement of lifetime transfers of property. It is, however, not as unfair as it seems to be of the tax rate gap between these two transfer taxes because only extremely wealthy households with large volume of property transfer pay the Federal estate tax. These facts come from the existing of a certain amount of estate tax exemptions. Only on the portion of an estate's value that exceeds a specified exemption level -- $5.43 million per person, $10.68 million for a married couple in 2015 ($5.34 million per person in 2014 with consideration of inflation).

A Brief History of Federal Estate Tax

The Federal estate tax rule experienced drastic changes in recent decades. The Economic Growth and Tax Relief Reconciliation Act (EGTRRA) enacted in 2001 signaled an attempt to reduce and then even eliminate the use of Federal estate tax. In EGTRRA, the estate tax exemption amount increases from $1 million in 2002 to $3.5 million in 2009, and the maximum estate tax rate gradually decreases from 55 percent in 2002 to 45 percent in 2009. These changes

REPEAL OF THE ESTATE TAX AS A MATTER OF POLICY

enabled an attempt to gradually phase out and ultimately repeal the Federal estate tax in 2010. That is, if there is no further legislation being passed, a person who deceased in the year 2010 would have been entirely exempt from estate tax. Meanwhile, the adjusted basis of property transferred from a decedent who dies in 2010 will no longer be stepped up to fair market value at the time of death; instead, a modified carryover basis regime will take effect. EGTRRA introduced the "modified carryover basis rules", which affect the income tax consequences of inherited property. Under the modified carryover basis rules, the income tax basis of inherited property could be stepped up no more than $1.3 million, while under prior estate tax rules is an unlimited step up. According to EGTRRA, the Federal estate tax disappeared for 2010 only and, if no new legislation being enacted, the estate tax will be retroactive in 2011. That is to say, under those rules, a person who deceased in the year 2011 or later would have been taxed as heavily as in 2001 with a much lower exemption amount of $1 million and the highest estate tax rate of 55 percent.

However, on December 2010, Congress passed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. Section 301 of the 2010 Act reinstated the federal estate tax. The new law imposed a 35 percent tax rate on estate in excess of $5 million in 2011(which is $5.12 million in 2012 as a result of inflation).

On January 2, 2013, President Obama signed the American Taxpayer Relief Act (ATRA) into law. In ATRA, the Federal estate tax was made a permanent part of the tax code and the exemption amount automatically indexed for inflation in following years. The estate tax rate on estates in excess of the exemption amount was also increased from 35 percent to 40 percent.

REPEAL OF THE ESTATE TAX AS A MATTER OF POLICY

Below is a Federal estate tax rates calendar from 2001 through 2015

Year

Exemption

Max/Top

Amount

Tax Rate 2001 $675,000 55% 2002 $1 million 50% 2003 $1 million 49% 2004 $1.5 million 48% 2005 $1.5 million 47% 2006 $2 million 46% 2007 $2 million 45% 2008 $2 million 45% 2009 $3.5 million 45% 2010 Repealed 2011 $5 million 35% 2012 $5.12 million 35% 2013 $5.25 million 40% 2014 $5.34 million 40% 2015 $5.43 million 40%

Analysis of Pros and Cons of the Federal Estate Tax

REPEAL OF THE ESTATE TAX AS A MATTER OF POLICY

It is generally believed that estate tax, a tax applies to only wealthy households realized by setting a relatively higher amount of exemption, serves a good role not only in collecting government revenue but also in redistributing wealth from relatively wealthy households to poorer families out of social engineering consideration.

But this is not necessarily the case. United States currently has one of the highest levels of estate taxes in the world as well as the lowest level of savings as a percent of GDP. The estate tax has several of negative effects on both national economy and small business operations. The debate on whether the estate tax should be abolished never stop. Let us see the two perspectives in detail.

Merits of the Federal Estate Tax

The estate tax has many obvious advantages concerning the basic objectives of tax-collection, such as redistributing of social wealth from wealthy class to lower income class, reducing the budget deficit with more government tax revenue and encouraging basic social fairness.

Enable the Redistribution of Social Wealth. Based on the phase out mechanism, the estate tax targets wealthy households as primary object of taxation. The tax affects a small number of people who inherit large amounts of wealth. This mechanism can help achieve a redistribution of social wealth from wealthy class to low-income class. This constituent part of tax revenue can provide funding for infrastructural facilities construction or social benefit programs ranging from education and health care to environment protection and law enforcement.