Friday, October 31, 2003

Estate Tax

After reading Daniel Drezner's post on the idle rich, I was reminded of the Bush administration's temporary repeal of the estate tax. I oppose that repeal wholeheartedly, at least given my current understanding of tax law (which admittedly isn't all that great).

It's not that I favor taxation per se; given the shadow cost of public funds, I'd rather have taxes be as low as possible across the board.

But the reality is that the federal government is going to tax something. It doesn't just print the money it spends. And as long as taxes exist, estates might as well be taxed as any other form of income.

In fact, I'd rather tax estates than income, comparatively speaking. After all, income is earned, while inheritances are not. Why penalize productive activity (work) while rewarding the accident of birth? Talk about distortionary effects.

Imagine two people who receive money during the year 2003. Harry Hard-Worker works hard at his law firm job, and receives $100,000, much of which goes toward paying off his law school loans. He faces a federal tax burden of approximately 35%, once you include the 15.3% payroll tax. Richie Rich receives $100 million in stocks, bonds, and other investments, from a rich grandfather who passed away. Thanks to the estate tax repeal, Richie Rich pays no federal tax at all on his receipt of money. Why should Richie Rich pay less tax than Harry Hard-Worker? Both of them are receiving income, and the only difference is that Harry Hard-Worker actually earned his.

As for the argument that the estate tax is "double taxation," this is complete baloney. (I try to avoid harsh language, but it's unavoidable here.) Our tax system generally taxes any transfer from one person to the next. Money comes into a corporation's hands -- it's taxed as income. Money flows from the corporation to a salaried worker -- it's taxed as income. Money flows from the worker into the coffers of Wal-Mart or Neiman Marcus or what-have-you -- it's taxed both via sales tax and ultimately as income to the corporation. And so on. Just about every time money changes hands, the government takes a bite. (And that includes gifts as well.)

The estate tax is no different. Yes, the dead guy probably paid income tax during his lifetime (although -- critically -- that wouldn't be true for unrealized capital gains). But so what? That doesn't make it "double taxation" when the money is transferred to another person. If the dead guy had decreed that all his estate be spent at Wal-Mart, the sales tax would still apply, because that would be another transfer. So when the estate is transferred to the dead guy's children, that too is another transfer to which federal taxes ought to apply. If this is "double taxation," then so is every other form of taxation.


Blogger Greenwood said...

Agreed. The argument that the 'death tax' has distortionary effects and discourages work is sound as far as it goes. But every tax has distortionary effects and every tax discourages something (usually work). So pointing out the distortionary effects isn't enough. You have to make an argument showing why the distortionary effects are particularly bad with this kind of tax compared to others.

To my mind, the opponents of the estate tax have not made that argument. Yes, estate taxes are bad. So are tariffs and excise taxes. But if we could fund a (much-reduced) federal government with just those, I'd be as happy as a hog in a waller.

-Adam Greenwood

10:23 AM  

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