The Estate of the Union
by Jim Grote

Reprinted from the April 2001 issue of Planned Giving Today. Copyright © 2001. All rights reserved.

Never in the course of human taxation has so much furor been generated by so many about a tax that affects so few. While only 2 percent of estates in this country are taxed and account for slightly more than 1 percent of all federal revenues, tempers over the estate tax continue to flare in a strange combustion of moral indignation and economic erudition. Who knows? The “death tax” watch may soon rival the Survivor series as popular entertainment.

For example, Congress delivered the Death Tax Elimination Act of 2000 to Clinton’s White House via a Montana rancher driving a red tractor. (Clinton must not have been impressed; he vetoed the bill.) Family farmers and minority-owned family businesses continue to tearfully testify before Congress about the cruel fate awaiting their children. Critics of the tax chant the revolutionary slogan: “No taxation without respiration.” Web sites abound on the Internet proclaiming “death to the death tax” (see especially www.deathtax.com). And Jane Bryant Quinn has been branded a “moron” and “retard” by hundreds of her readers for having the audacity to defend the estate tax.

Not to be outdone, the new Death Tax Elimination Act of 2001 is being protested by the likes of Bill Gates Sr., Steven Rockefeller, George Soros and Paul Newman, who are circulating a petition to keep the estate tax (see Responsible Wealth’s Web site at www.responsiblewealth.org). Bill Gates Sr. exclaimed that “ever since I heard that somebody was trying to repeal the estate tax, I have been angry.” Hence the ironic spectacle of populist outrage at a tax on the rich and elitist outrage at the repeal of this tax.

Will the estate tax repeal survive the revenge of the billionaires? Let’s examine the arguments that generate such emotion.

Bury the Death Tax
Bill Archer and Jennifer Dunn’s hard work argument. Congressional critics of the estate tax emphasize the virtues of hard work and private property. As Rep. Jennifer Dunn states: “It’s an unfair tax. In this country, we ought to be able to work hard and leave what we have accumulated to our children.” Rep. Bill Archer echoes this sentiment: “No Americans, no matter their income, should have to pay taxes when they die. They have worked hard all their lives, paid taxes on that income all their lives, and they shouldn’t get socked from the grave if they want to pass their life savings on to their children.” The estate tax is vilified as a “virtue” tax that penalizes work, savings and thrift.

Oprah Winfrey’s fairness argument. According to Oprah Winfrey: “It’s irritating that once I die, 55 percent of my money goes to the U.S. government. You know why that’s irritating? Because you would have already paid nearly 50 percent” (USA Today, June 9, 2000). What could be more unfair than a double-tax? (Oprah’s critics are quick to point out that the bulk of large estates consists of capital gains that have never been taxed.)

Regarding fairness, the estate tax is also criticized for being a voluntary tax (an oxymoron if there ever was one), given the extensive number of expensive loopholes available to the savvy estate planner. Furthermore, Congress’ original intent in proposing an estate tax was to “break up the swollen fortunes of the rich.” Today’s tax has strayed far from its origin. Estates over $675,000 are now subject to tax compared to estates over $9 million (in today’s asset dollars) in 1916.

The strict constructionist argument. Speaking of original intent, the Constitution is often quoted by strict constructionists who remind us that “no capitation or direct tax shall be laid” on U.S. citizens (Art. 1, Sec. 9, Clause 4), a clause repealed by the loose constructionists on the Supreme Court in 1913 (Amendment 16). Our country was founded in protest against the unfair and excessive taxation of the British.

Adam Smith’s productivity argument. Adam Smith maintained that estate taxes are “taxes on capital, and hence diminish the national wealth.” Since the aggregate national wealth benefits everyone, the estate tax hurts rich and poor alike by penalizing productivity and capital formation. The estate tax undermines productivity by discouraging savings and increasing its costs relative to consumption.

Some critics of the tax estimate that the existence of the estate tax in the 20^th century has reduced the stock of capital in the national economy by approximately $497 billion.

William Beach of the Heritage Foundation (www.heritage.org/library) argues: “When households consume most of their income, any long-term investment must earn a high return. However, when they increase their savings relative to their consumption of income, they require less compensation for foregone consumption, and the required rate of return falls.” Furthermore, when faced with rising taxes, at some point workers will decide to consume more and save less.

Edward McCaffery’s “it doesn’t work” argument.  Legal scholar, Edward McCaffery, a self-proclaimed liberal, concludes that the estate tax simply does not work. It fails to achieve the liberal egalitarian ideals it aspires to. McCaffery’s extended and devastating critique can be found in The Yale Law Review (1994). Popular summaries of his arguments can be found at www.deathtax.com.

First, the estate tax is unproductive as a source of tax revenue. Its revenue-generating abilities have continued to decline since its inception in 1916. The tax reached its zenith of revenue production in 1936 when it accounted for 11 percent of federal revenues. By 1940, that number had dropped to 5 percent of federal revenues, then to 2.5 percent in 1965, and finally to 1 percent in 1990. Common sense teaches us to be “skeptical of taxes that do not raise revenue.

Second, the estate tax rewards consumption and penalizes thrift. Spendthrift consumers get off estate-tax-free. As their bumper stickers brag, “we’re spending our children’s inheritance.” Third, the estate tax actually encourages inter vivos gifts to children (weakening their work ethic) in the parent’s desperate attempt to avoid the estate tax. According to McCaffery, taxpayers transmit more than one-and-a-half times as much wealth by lifetime gifts as by bequests.

The Heritage Foundation’s harm to charity argument. The Heritage Foundation argues in typical supply-side fashion that if you have more income, you will give more to charity (see articles by John Barry at http://www.heritage.org). If your income increases (by reducing taxes), you can make more donations without increasing the percentage of your income being donated. The Heritage Foundation estimates that with a flat tax (and the consequent repeal of the estate tax), charitable giving would actually increase by 3.8 percent due to the income effect.

Revive the Estate Tax
Thomas Paine’s patriotic argument. Arguments in favor of the estate tax originate in Thomas Paine’s attack on the British monarchy in Common Sense. No one has outdone Paine in his withering sarcasm regarding inherited power. For Paine, hereditary rule is “as absurd as an hereditary mathematician, or an hereditary wise man; and as ridiculous as an hereditary poet.”

Warren Buffet’s fairness argument. Buffett’s critique of inherited wealth echoes Paine’s appeal to simple common sense: “The DuPonts might believe themselves perceptive in observing the debilitating effects of food stamps for the poor, but were themselves living off a boundless supply of privately funded food stamps . . . The idea that you get a lifetime of food stamps based on coming out of the right womb strikes at my idea of fairness.”

FDR’s democracy argument. Franklin Roosevelt cemented the connection between inherited economic and inherited political power in a speech to Congress on June 19, 1935. “In the last analysis such accumulations [of inherited wealth] amount to the perpetuation of great and undesirable concentration of control in a relatively few individuals . . . Such inherited economic power is as inconsistent with the ideals of this generation as inherited political power was inconsistent with the ideals of the generation which established our Government.”

Warren Buffet’s meritocracy argument. Not only does concentrated wealth undermine democracy, Buffet argues that inherited wealth undermines the free market system itself! “Without the estate tax, you in effect will have an aristocracy of wealth, which means you pass down the ability to command the resources of the nation based on heredity rather than merit.” In other words, inheritance destroys competition and free enterprise.

Buffet wins the prize for best estate tax sound bite with his now famous sports analogy. He argues that repealing the estate tax would be a terrible mistake equivalent to “choosing the 2020 Olympic team by picking the eldest sons of the gold-medal winners in the 2000 Olympics” (New York Times, February 13, 2001). If this is folly in terms of athletic competition, then why not in terms of economic competition?

Andrew Carnegie’s productivity argument. Andrew Carnegie worried that inherited wealth would ultimately destroy the work ethic of its recipients. In The Gospel of Wealth, he asks: “Why should men leave great fortunes to their children?” If it is from affection, then it is a misguided affection because “great sums bequeathed often work more for the injury than the good of the recipients . . . It is not the welfare of the children, but family pride, which inspires these legacies.”

According to Carnegie, parents who leave enormous wealth to their children deaden the talents and energies of their children. If giving a single mother $10,000 in welfare stifles her initiative, why doesn’t the same principle apply to someone who inherits many times that much?

Carnegie’s apprehension is confirmed by researchers Stanley and Danko in their best-selling book The Millionaire Next Door. They conclude that lifetime and testamentary family gifts are both a disincentive to work as well as a disincentive to save. Their findings show that the more dollars adult children receive, the fewer they accumulate, while those who are given fewer dollars accumulate more.

Teddy Roosevelt’s debt to society argument. Roosevelt formally proposed a federal inheritance tax in a message to Congress on December 4, 1906, where he argued that “the man of great wealth owes a peculiar obligation to the State, because he derives special advantages from the mere existence of government.”

The wealthy individual needs to pay for the “protection” that the State provides for his or her property ─ a military force that defends private property from foreign threat and a legal system/police force that protects private property from domestic theft. As Adam Smith observed in the Wealth of Nations: “It is only under the shelter of the civil magistrate that the owner of valuable property can sleep a single night in security.”

George Soros’ benefit to charity argument. Almost a year before the recent protest of the billionaires, George Soros warned: “Abolishing the estate tax would remove one of the main incentives for charitable giving. It is no exaggeration to say that the Death Tax Elimination Act of 2000 would seriously fray our social fabric" (Wall Street Journal, July 14, 2000).

Soros emphasizes the price effect as opposed to the income effect of taxation. According to the price effect, if it costs you more to give you will give less to charity. If it costs you less to give, then you will give more. For example, with an estate facing the 55 percent marginal estate tax rate, every dollar given to charity only costs 45 cents, because 55 cents of each dollar are saved in taxes.

Defenders of the estate tax, who are circulating their petition via the Responsible Wealth Web site (www.responsiblewealth.org), argue that repeal of the estate tax would have a devastating impact on public charities.

And so the saga continues. Family farmers weep. Politicians wail. Billionaires wag their fingers. Journalists wax eloquent. Charities worry. And George W. waits. Log on to your favorite Web site and join in the debate!

Note: For a comprehensive and non-ideological summary of the pros and cons of the estate tax, see Eugene Tempel’s and Patrick Rooney's "Repeal of the Estate Tax" available under "Research Studies" at www.philanthropy.iupui.edu.

Jim Grote is director of development for Boys’ Haven in Louisville, Kentucky. He has taught business ethics at local universities in the Louisville area and has recently co-authored Clever as Serpents: Business Ethics and Office Politics (Liturgical Press, 1997). He is currently completing coursework for the CFP designation.

Reprints of this article are available from PGT (800-KALL-PGT).