Difference between revisions of "Inheritance tax" - New World Encyclopedia

From New World Encyclopedia
(Started)
 
(48 intermediate revisions by 6 users not shown)
Line 1: Line 1:
−
{{Claimed}}{{Started}}
+
{{Images OK}}{{Approved}}{{copyedited}}
 
[[Category:Politics and social sciences]]
 
[[Category:Politics and social sciences]]
 
[[Category:Economics]]
 
[[Category:Economics]]
 +
{{Taxation}}
 +
'''Inheritance tax,''' '''estate tax,''' and '''death duty''' are the names given to various [[tax]]es which arise on the death of an individual. Technically, "inheritance tax" and "estate tax" are different, in that inheritance tax may be payable by the [[heir]] while estate tax is levied prior to the receiving of the [[Inheritance (Sociology)|inheritance]]. In many cases, however, the distinction is of little importance and the terms are used interchangeably; in the [[United Kingdom]], no distinction is made and inheritance tax is equivalent to estate tax. In the U. S. an estate tax is paid out of the deceased’s estate before it is distributed. The same total tax is paid, therefore, whether there is one heir or more and the same tax is paid whether the heirs are rich or poor.
  
−
'''Inheritance tax''', '''estate tax''' and '''death duty''' are the names given to various [[tax|taxes]] which arise on the death of an individual. In United States tax law, there is a distinction between an estate tax and an inheritance tax: the former taxes the personal representatives of the deceased, while the latter taxes the beneficiaries of the estate. However this distinction does not apply in other jurisdictions. For example: if using this terminology in the UK, an inheritance tax would be equivalent to an estate tax.
+
Such death duties are controversial both in terms of [[economics]] and [[ethics]]. Although they have a long history, the imposition of contemporary inheritance and estate taxes has been relatively recent and debate has increased as the numbers of people affected has risen in the twenty-first century. The logic of disallowing those who earned their wealth to choose how to distribute it upon their death (except by [[philanthropy]]) is controversial and the economic impact on [[savings]] potentially problematic. Perhaps even more serious, once applied only to the affluent, generating substantial revenue for the government who justified this as it would be spent on programs that would benefit [[society]] as a whole rather than allowing a few to continue to amass excessive [[wealth]], the estates of an increasingly large proportion of middle-class people in many countries are now at a level that incurs such taxes.  
 +
{{toc}}
 +
The existence of such a tax underscores the problems inherent in all forms of taxation, issues that cannot be solved by legislation because they reflect weaknesses in human nature. It is only when human nature changes from selfishness to caring for others and society as a whole that these problems can be resolved, both by those designing the system and by those paying and collecting the taxes.
  
−
*In some jurisdictions, such taxes are known as '''inheritance tax''':
+
==Overview==
−
**The [[Republic of Ireland]] (where it is a tax on beneficiaries).
+
===Definitions===
−
**The [[United Kingdom]]: see [[Inheritance Tax (United Kingdom)|Inheritance tax (United Kingdom)]].
+
In different [[jurisdiction]]s, the [[tax]] code may make reference to '''inheritance tax,''' '''estate tax,''' or even '''death duty.''' Generally, except in the [[United States]], the terms estate tax and inheritance tax are used interchangeably.
−
**Some states of the United States: see [[Estate tax in the United States#Inheritance tax at the state level|Inheritance tax at the state level]]:
 
−
***[[Nebraska]]
 
−
***[[New Jersey]]
 
−
***[[Pennsylvania]]
 
−
***[[Tennessee]]
 
  
−
*In some jurisdictions the term used is '''estate tax''':
+
In the United States, there is a difference between estate taxes and inheritance taxes. Estate taxes are levied on representatives of the deceased person, while inheritance taxes are levied on the beneficiaries of an estate. Inheritance taxes are generally levied by state authorities and estate taxes are imposed by the federal government.
−
***[[Missouri]]
 
−
***[[Virginia]]
 
−
***[[Washington]]
 
−
***[[West Virginia]]
 
−
***[[Wisconsin]]
 
−
***[[Wyoming]]
 
  
−
*In some jurisdictions the term used is '''death duty''', and for historical reasons that term is used colloquially - although it is no longer correct legally - in the United Kingdom and some [[Commonwealth of Nations|Commonwealth]] nations.
+
The '''estate tax''' is a tax on net worth, the value of all [[property]] owned minus debt and any estate expenses. Essentially the tax is an “everything tax.” It is a tax on cash and [[bank]] accounts, [[stock]]s, [[bond]]s, [[real estate]], [[business]]es, equipment, and machinery, [[automobile]]s, and other property, [[life insurance]] policies, [[art]]work, even personal belongings.  
  
−
*In some jurisdictions the term is '''estate duty''':
+
'''Inheritance tax''' is paid by the [[heir]] and may vary according to the heir’s relation to the deceased, the heir’s income and [[wealth]], and the amount [[inheritance (sociology)|inherited]]. If an inheritance tax is [[progressive tax|progressive]] then the total tax paid varies according to the number of heirs and their wealth.
−
**[[Hong Kong]]. See [[Estate Duty Ordinance Cap.111]]. However the tax was abolished in its entirety in the Budget Speech in 2006.
 
  
−
*In some jurisdictions, death gives rise to a charge to '''[[stamp duty]]''':
+
In both the U.S. and Great Britain, egalitarians tend to prefer an inheritance tax since this gives the deceased an incentive to spread wealth across many heirs ([[John Stuart Mill]] proposed an inheritance tax, for example) while pragmatists tend to support the estate tax because it is easier to administer and tends to raise more revenue than the inheritance tax (precisely because it cannot be avoided by increasing the number of heirs).
−
**[[Bermuda]]
 
  
−
*In some jurisdictions, death gives rise to a charge to '''[[capital gains tax]]:
+
'''[[Gift tax]]''' is a related type of tax, applying to gratuitous transfers of money and property between living persons.
−
**[[Canada]]. See [[Taxation in Canada]].
 
−
::Where a jurisdiction has capital gains tax and inheritance tax (for example the United Kingdom) it is usual to exempt death from the capital gains tax.
 
  
−
*In some jurisdictions death gives rise to the local equivalent of '''[[gift tax]]''' (see Austria, below, for example). This was the model in the United Kingdom during the period before the introduction of Inheritance Tax in 1986, where estates were charged to a form of gift tax called Capital Transfer Tax. Where a jurisdiction has a gift tax and an estate tax (for example the United States at federal level) it is usual to exempt death from the gift tax. Also, it is common for inheritance taxes to share some features of gift taxes, by taxing some transfers which happen during lifetime rather than on death. The United Kingdom, for example, taxes "lifetime chargeable transfers" (usually gifts to [[Trust law|trusts]]) to inheritance tax.
+
===History===
 +
Inheritance taxes have a long history dating back to the [[Roman Empire]], which levied taxes on inherited property to provide [[pension]]s for retired soldiers. Contemporary inheritance taxes are based on the [[feudal]] arrangement of the [[Middle Ages]] whereby the sovereign was the ultimate owner of all land and property, and permission was required to transfer property on the death of the immediate owner. In many [[Europe]]an countries property could be transferred by payment of a "relief" when no direct descendant laid claim. Contemporary estate taxes can be traced back to such payments.
  
−
*Non-English speaking jurisdictions naturally use non-English terminology:
+
Although initially levied in the seventeenth century, estate taxes in the [[United Kingdom]] were established in their current form at the end of the nineteenth century. In the [[United States]], various estate taxes were imposed for short periods, on both the state and federal levels. [[Pennsylvania]] was the first state to impose inheritance tax in 1826, and many states continue to tax inheritance. In 1916, a federal estate tax was imposed to help finance [[World War I]], and it has remained in force since that time.  
−
**[[Austria]] charges '''Erbschaftsteuer''', which has some of the features of a [[gift tax]].
+
−
**[[Belgium]], a multilingual nation, uses the terms '''droits de succession''' and '''successierechten''', taxes on beneficiaries which are collected at the federal level but distributed to the regional level.
+
===Calculation===
−
**[[Czechia]] charges '''daň dědická''', taxes on beneficiaries.
+
For the purpose of illustrating how inheritance/estate tax is generally calculated, the United States is used as an example.  
−
**[[France]] uses the term '''droits de succession''', taxes on beneficiaries.
 
−
**[[Germany]] charges '''Erbschaftsteuer''', a tax on beneficiaries.
 
−
**[[The Netherlands]] charges '''successierecht''', a tax on beneficiaries.
 
−
**[[Switzerland]] has no '''Erbschaftsteuer''' / '''impôt successoral''' / '''imposta di successione''' at national level. However in the various cantons, three possibilities (a tax on the estate, a tax on the beneficiaries, or no tax) exist.
 
  
−
*Some jurisdictions have never had estate or inheritance taxes, or have abolished them:
+
The first step is to calculate the fair market value of the entire estate. This includes cash, [[bank]] accounts, [[stock]]s and [[bond]]s, real state, [[insurance]], and similar items of value. Included are [[life insurance]] and [[annuity]] proceeds payable to the estate or the [[heir]]s as well as the value of certain property transferred within a specified time period prior to the death. This last item involves a connection between [[gift tax]]es (and their exclusions) and inheritance tax.
−
**[[Australia]]
 
−
**[[British Virgin Islands]]
 
−
**Some states of the United States: see [[Estate tax in the United States#Inheritance tax at the state level|Inheritance tax at the state level]]:
 
−
***[[New Mexico]]
 
−
***[[South Dakota]]
 
−
***[[South Carolina]]
 
−
***[[Utah]]
 
−
**[[Vanuatu]]
 
  
−
''This page is a modified [[WP:DAB|disambiguation]] page, which distinguishes not just between pages which would otherwise have the same name, but also between similar legal concepts which have different names in different jurisdictions.''
+
The total fair market value of all these items is termed the "gross estate." The next step involves the calculation of any adjustments to the gross estate. Typical adjustments include the remaining balance on a [[mortgage]], [[funeral]] expenses, the fees associated with settling the estate (which might include items such as estate administration fees or payments made to an [[attorney]]), and a "marital deduction" that can be taken for property that is left to a surviving spouse.
  
−
{{UKtaxation}}
+
Once all the deductions have been taken from the gross estate, the remaining balance is considered the net value of the property—or the inheritance tax basis. The final deduction prior to calculation of the tax is the lifetime tax exclusion (or unified credit), which was $1 million in 2002, rising in steps to $3.5 million in 2009, and which includes taxable [[gift]]s. The remainder of the estate is taxable, at a rate that ranges from around 40 to 60 percent.
−
In the [[United Kingdom]], '''Death Duty''' was first introduced as a tax on estates in [[England and Wales]] over a certain value from 1796, then called [[Succession duty|legacy, succession and estate duties]].  
 
−
The value changed over time and the scope of estate duty was extended. By 1857 estates worth over £20 were taxable but duty was rarely collected on estates valued under £1500. Death duties were introduced in 1894, and for the next century were effective in breaking up large estates.  
 
  
−
== Inheritance Tax ==
+
===Rising problems with inheritance tax===  
−
Estate duty was replaced in 1975 by '''Capital Transfer Tax''', which was rebranded ''Inheritance Tax'' (IHT) in 1986. Partly due to the simple and widely-used methods which are available to [[Tax avoidance/evasion|avoid]] it, Inheritance Tax is a small, but by no means insignificant, revenue generator for the UK government, raising around £2,000,000,000 in 2001<ref>http://www.unbiased.co.uk/media/media-resources/press-releases/7-11-2001%5B60%5D accessed 22 may 2007</ref> and £3,600,000,000 in 2006. {{Fact|date=February 2007}}
+
Inheritance tax used to impact only the very wealthy, but in the twenty-first century, the proportion of people affected has become much larger. This has led to animated discussions about whether to limit, amend, or suppress inheritance taxes in many countries, particularly in [[Europe]]. The debate erupted when death duties, once paid only by the affluent, began to affect middle-class Europeans in significant and increasing numbers.  
  
−
For the 6 April 2007 to 5 April 2008 [[tax year]], the IHT rate is 40% on the value, at death, of an individual's tax estate over £300,000. This figure is known as the nil rate band, and rises annually.
+
"Inheritance tax used to be a problem for the rich. Now it's a problem for you and me," said Anne Young, a tax expert at an Edinburgh financial-services firm. Young has estimated that as many as one third of British households have estates that could be subject to tax. She includes herself in this group (Gumbel 2006).
  
−
In the 2007 budget report the Chancellor announced that this is to rise to £350,000 by 2010. This is to take into account the sharp rise in house prices in the united Kingdom over the past few years.<ref>http://money.uk.msn.com/budget/article.aspx?cp-documentid=4345307 accessed 21 March 2007</ref>
+
This increase in value of estates, with concomitant tax liability, has been blamed on the rise in house prices. Unlike their parents, European [[baby boomer]]s tend to own their homes. As prices have risen these homeowners have enjoyed increases in the value of their assets. However, in many cases, this has pushed their net worth over the national minimum thresholds for inheritance tax, which have not been adjusted to keep up with changes in house prices. The result is that almost anyone owning a detached house in [[London]] or southeast [[England]] has an estate valued over the U.K. tax-free limit (Gumbel 2006).
  
 +
==Economic issues==
 +
Inheritance taxes have been controversial since their inception. A few excerpts from the writings of prominent [[economics|economists]] should precede the discussion:
  
−
=== Tax estate ===
+
<blockquote>This does not imply that once-earned wealth perpetuates itself forever. On the contrary, even if a fortune were completely immune from risk it would tend to quickly dissipate so long as there is more than one heir in each generation. In a free market wealth is continually changing hands… Increasing and even maintaining a fortune requires entrepreneurial skill. …Consider how much easier it is to waste a million dollars than it is to make a million dollars. Nevertheless, wealth will typically last more than one generation so it is reasonable to argue that at least two generations of heirs are significantly harmed by the estate tax (von Mises 1981, 338–40).</blockquote>
−
The tax estate includes:
 
  
−
# all of the [[deceased]]'s assets, whether [[real estate]] or [[Personal property|personal estate]], and includes even small-value items such as the contents of his or her home;
+
<blockquote>In modern times the funds raised by the estate and gift tax have accounted for only a small proportion of government revenue…. In 1990 death and gift taxes raised just over $15 billion in revenue, approximately $11 billion of which was because of the Federal estate and gift tax the remainder because of state death and gift taxes (Tabarrok 1997).</blockquote>
−
# any gifts made by the deceased in the seven years before death;
 
−
# some assets which were not owned by the [[deceased]] but which are affected by the death (the most common example is a [[life interest]] in a [[Trust (Law) non-USA|trust]], technically known as an [[interest-in-possession]]);
 
−
# gifts with reservation of benefit. These are gifts where the legal ownership passes to the recipient. However, the donor continues to enjoy the benefit of the asset either rent free or at reduced cost. The seven year period outlined above does not begin counting down whilst a gift is considered to be under a reservation of benefit.
 
  
−
There is also a charge on "lifetime chargeable transfers" into certain trusts (and a recalculation of those charges if the giver dies within seven years), and trusts themselves have an inheritance tax regime. See [[Taxation of trusts (United Kingdom)]].
+
Those in favor of taxes on a person's estate argue that the amount of the tax is small and occurs only once, that it reduces [[savings]] to a lesser degree than [[income tax]]es, and is useful for redistributing [[wealth]]. Opponents argue that such taxes have a negative effect on incentives, discouraging people to build up their estate since a large part will not be given to their [[heir]]s. Those against this form of taxation claim that this leads to reductions in savings and hurts [[business]] incentives. In such cases it can be argued that the limit to the usefulness of such taxes exists when the accumulation of wealth is discouraged to the extent that the [[economy]] of the nation is harmed.
  
−
=== Deductions ===
+
===Inter-generation transfers===
−
There are deductions for:
+
Bequest theory is an inter-generational transfer theory of saving. Hence, a tax on the transfer of property between the generations can affect savings by changing the behavior of the bequestor or the heir. The effect on the bequestor is composed of two parts: The price effect and the wealth effect.
  
−
# all assets left to a spouse or civil partner. However the exemption is limited to £55,000 where the deceased is domiciled in some part of UK and the surviving spouse/civil partner is domiciled outside of the UK <ref>s18 Inheritance Tax Act 1984</ref>;
+
====Price effect====
−
# all assets left to a charity registered in the UK.
+
The tax raises the price of bequests and therefore reduces the desired bequest. The effect on savings, however, is ambiguous. The price effect can be summarized in terms of elasticities. If the demand to give bequests is inelastic the price effect works to increase savings. Little data exist on this elasticity but a [[demand curve]] must be elastic above some price, otherwise a consumer could be made to spend all of his income on the single taxed good (Wagner 1977, 19).  
−
# some political donations;
 
−
# gifts of up to £3000 in total in a given year[[http://www.hmrc.gov.uk/cto/glossary.htm#annualexemption]];
 
−
# "small gifts" of up to £250 made to separate people;
 
−
# some business assets (under [[Business Property Relief]] or "BPR");
 
−
# some farmland (under [[Agricultural Property Relief]] or "APR").
 
−
# gifts made out of income that do not impact upon the standard of living of an individual.
 
−
# gifts made in contemplation of a marriage or civil partnership. The level of this deduction varies according to the relationship of the donor to person marrying or entering into a civil partnership.
 
  
−
=== Minimising IHT ===
+
For example, in order to bequeath an estate of $1 million to his daughter an individual must save $1 million if there is no tax, but if there is a tax of 50 percent and he still wishes to bequeath $1 million he must increase his savings to $2 million. In most circumstances the bequestor may reduce the amount of bequest, but so long as the reduction in final bequest is less than 50 percent the price effect works to increase saving. At rates around 50 percent the demand for bequests is probably elastic, but if the rates were raised by any significant degree the amount of savings would be reduced.
−
In order to [[Tax avoidance/evasion|avoid]] IHT, many people in the IHT bracket practise some or all of the following avoidance measures:
 
  
−
* Outright gifts to another individual made during a person's lifetime are known as "potentially exempt transfers" or PETs. They are taxable if the person dies within seven years, but have the ''potential'' to become ''exempt'' from tax once seven years have gone by with the giver still alive. If the giver survives three years, the rate of tax on the PET reduces by one fifth (to 32%) and then by a further fifth on each of the subsequent anniversaries (to 24%, 16% then 8%) reaching 0% after seven years.  This is known as inheritance tax taper relief (not to be confused with the better-known capital gains tax taper relief).
+
====Wealth effect====
 +
Reinforcing the reduced savings because of the price effect is the wealth effect. For a given size of bequest, an increase in the estate tax is equivalent to a reduction in wealth. The desire to give bequests decreases (increases) as wealth decreases (increases). In other words, bequests are a “normal” good.  
  
−
* Gifting assets to a [[Trust (Law) non-USA|trust fund]] before death. (Some gifts of this kind, however, are disadvantageous as they amount to lifetime chargeable transfers on which IHT is paid straight away if more than £300,000 is gifted. This applies to many more trusts than previously under legislation announced in the 2006 budget. See [[Taxation of trusts (United Kingdom)]].)
+
An inheritance is a large, one-time, increase in wealth. Income smoothing requires that the bulk of this wealth be saved. A decrease in the heir’s inheritance is therefore ''ipso facto'', a large decrease in savings. Indeed, if the bequestor and heir have similar wealth and value scales, the heir will want to save the principal portion of the estate so that it can be passed on to his own heirs. This is what accounts for the fact that family fortunes are typically the accumulated savings of more than one generation.  
  
−
* Certain special types of trust, such as Discounted Gift Trusts and Gift & Loan Trusts, which allow for some planning whilst retaining some access to capital/income.
+
Bequest-saving tends to be long-term and continuous and therefore allows for what [[F. W. Taussig]]  called "sustained accumulation and permanent investment" (Taussig 1920, 249). This is especially true when savings are passed along in the form of family businesses.
  
−
* Charitable giving, which is IHT exempt.
+
===Inheritance as foundational to capitalism===
 +
Traditionally, many economists believed that the most important reason people saved was to give bequests. [[Alfred Marshall]] (1949, 227), however, held that "family affection is the main motive for saving." Similarly, [[Joseph Schumpeter]] (1942, 160) called the "family motive the 'mainspring' of savings," and [[F. W. Taussig]] (1920, 249) argued that for long-term savings "the main motives are domestic affection and family ambition."
  
−
* Lifetime gifts within certain limits are completely exempt. These include any number of "small gifts" (up to £250), an annual amount of £3,000, all regular gifts from surplus income, and some wedding gifts.
+
Elsewhere Taussig (1920, 509) called inheritance "the great engine for the maintenance of capital" and, in his highly regarded principles text, [[Frank A. Fetter]] (1913, 371) argued that "much of the existing wealth probably never would have been created if men did not have [the] right of gift." In fact, the entire capitalist order for Schumpeter is founded on the "family motive:"
  
−
* Upon death, passing non-taxable assets to the next generation (or to a discretionary trust for the benefit of the whole family) and therefore NOT to the spouse. To many people this seems [[counter-intuitive]] because they are aware that gifts to a spouse are '''IHT exempt''' and should therefore be maximised. However, if something is '''non-taxable''' on the first death it should not go to the spouse as it will merely increase his or her tax estate upon his or her later death. (The '''nil-band discretionary trust''', discussed below, is an example of this principle in action.)
+
<blockquote>When the capitalist-entrepreneur-bourgeois is sundered from longterm family ties he becomes, to borrow a phrase, a wage slave or bureaucrat-cog easily crushed by the state and its philosophical apparatus (Schumpeter 1942, 160).</blockquote>
  
−
==== Nil rate bands ====
+
Those who are able to bequeath a material [[inheritance (sociology)|inheritance]] are also often able to bequeath a sound moral and educational inheritance. Along with pecuniary and physical capital the founding generation bequeaths human capital. In a [[capitalism|capitalist]] society, therefore, the institution of inheritance is more than a moral institution, it is part of the process whereby wealth is transferred to those who can best use it to serve the wishes of consumers
−
A person who has a tax estate less than the nil rate band may consider himself or herself outside the IHT bracket. However a couple with estates of less than ''double'' the nil rate band cannot consider themselves outside the IHT bracket unless they have taken specific action to ensure they use both nil rate bands. If they do the natural thing - the first of them to die leaving everything to the survivor - then they have effectively wasted that first nil rate band. The survivor will die owning everything, with only his or her ''one'' nil rate band to set against it.
 
  
−
The most common means of ensuring that both nil rate bands are used is called a nil band discretionary trust (now more properly known as NRB Relevant Property Trust*). This is an arrangement in both wills which says that whoever is the first to die leaves their nil band to a discretionary [[Trust (Law) non-USA|trust]] for the family, and not to the survivor. The survivor can still benefit from those assets if needed, but they are not part of that survivor's tax estate.
+
===Problems in government "investing" of the inheritance tax===
 +
One reason most neo-classical economists ignore the effect of the estate tax on the heir’s saving is the argument that the government can also “save” the estate tax by investing it in capital projects. Generally, however, there are several flaws with this argument:
  
−
For the above to work it is important that each partner has sufficient assets in their own name to cover the nil-band. Many married couples do not have sufficient spare assets to fund the NRB relevant property trust without using the matrimonial home. The home will normally be in joint names so the will needs to make provision for using the deceased's interest in the home in relation to the relevant property trust. If assets are all in one name, or in [[Concurrent estate|joint]] names, the arrangement may not work. This is often described, slightly inaccurately, as "equalisation."
+
First, the wealthy tend to have low rates of time preference, which allows family fortunes to be invested in long-term projects, as seen in Taussig’s "sustained accumulation and permanent investment" (Lawrence 1991).  
  
−
A gift is not valid for IHT purposes if the giver retains any benefit from it. There are quite complex and rigid rules which establish whether the giver has retained a benefit, and where there is a retention of benefit all IHT advantages from the gift are effectively lost.
+
Second, and more fundamentally, there is a crucial difference between government investment and private sector investment. "Only the private sector investment can be defined as welfare-enhancing" (Rothbard 1956). Private sector savings are necessarily allocated to maximize consumer and producer well-being. Rothbard (1970) has made a strong case that so called government investment is better understood as consumption by government officials rather than savings.  
  
−
* Finance Act 2006
+
[[Adam Smith]]’s distinction between unproductive and productive labor was never more apt than when he wrote:
 +
<blockquote>All taxes upon the transference of property … are all more or less unthrifty taxes that increase the  revenue of the sovereign, which seldom maintains any but unproductive laborers; at the expense of the capital of the people, which maintains none but productive (Smith 1904).</blockquote>
  
−
==== Pre-owned assets ====
+
To evaluate the effect of higher estate (or inheritance) taxes, it is therefore necessary to examine the "life cycle theory."
−
The [[Finance Act 2004]] introduced an [[income tax]] regime known as [[pre-owned asset tax]] which aims to reduce the use of common methods of IHT avoidance.<ref>[http://www.hmrc.gov.uk/budget2004/revbn40.htm REV BN 40: Tax Treatment Of Pre-Owned Assets]</ref>
 
  
−
== Criticism ==
+
===Cycle theory of saving===
 +
The theory of saving was the central component of post World War II [[Keynesian economics|Keynesian macroeconomics]] but the bequest theory was completely abandoned during this period. In its place was put the life cycle theory of saving by the main protagonists: [[Franco Modigliani]] and [[Richard Brumberg]] (1954).
  
−
Dr.Barry Bracewell-Milnes authored ''Euthanasia for Death Duties - Putting Inheritance Tax Out of Its Misery'', which was published by [[The Institute of Economic Affairs]], Westminster, 2002, ISBN 0-255-36513-6
+
The life cycle theory places the main motivation for saving on the desire to provide for retirement. The theory implies that savings should follow a “hump” pattern. Young adults begin the saving process by borrowing; as their career stabilizes they pay off old debts and begin to save; then, when retirement begins, they draw upon their savings until they die. In the simple model, everyone wishes to consume up to the moment of death and then die penniless. In more complicated models a bequest motive is tacked on as an afterthought.
  
−
In August 2006, former [[Cabinet of the United Kingdom|Cabinet minister]] [[Stephen Byers]] called for IHT to be abolished in an article in the [[Sunday Telegraph]].<ref>[http://news.bbc.co.uk/1/hi/uk_politics/5267836.stm].
+
Yet, far before the life cycle theory was born, [[Alfred Marshall]] recognized an important fact which casts doubt on the theory:
−
</ref>
+
<blockquote>Men seldom spend, after they have retired from work, more than the income that comes in from their savings, preferring to leave their stored up wealth intact for their families (Marshall 1949, 228).</blockquote>
−
On 16 October 2006, Philip Johnston, writing in ''[[The Daily Telegraph]]'' had a scathing leading article against Inheritance Taxes and called for [[David Cameron]], new leader of the [[Conservative Party (UK)]], to announce the demise of a catch-all Inheritance Tax as a main plank in that party's next manifesto.
 
  
−
{{otheruses4|Estate tax in the United States|other countries|Inheritance tax}}
+
In other words, the elderly do not dissave as the life cycle theory predicts. Marshall’s observation has been verified by a number of studies. Far from dying penniless, the elderly often die richer than at any other point in their life. In addition, [[econometrics|econometric]] work by Kotlikoff and Summers (1981) indicates that "the stock of wealth is far too large to be accounted for by life cycle reasons."
−
{{UStaxation}}
 
−
The '''estate tax''' in the [[United States]] is a [[tax]] imposed on the transfer of the "taxable [[Estate (law)|estate]]" of a deceased person, whether such property is transferred via a [[will (law)|will]] or according to the state laws of [[intestacy]]. The estate tax is one part of the ''Unified Gift and Estate Tax'' system in the United States. The other part of the system, the [[gift tax]], imposes a tax on transfers of property during a person's life; the gift tax prevents avoidance of the estate tax should a person want to give away his/her estate just before dying.
 
  
−
In addition to the federal government, many states also impose an estate tax, with the state version called either an estate tax or an [[inheritance tax]]. Since the 1990s, the term "[[Estate tax (United States)#The "Death Tax" neologism|death tax]]" has been widely used by those who want to eliminate the estate tax, because the terminology used in discussing a political issue affects popular opinion.<ref>[http://www.60plus.org/deathtax.asp?docID=347]</ref>
+
Hence, the theoretical and empirical shortcomings of the life cycle theory indicate that the bequest motive is an important determinant of savings. This means that far from being negligible increases in the estate tax and gift tax could significantly reduce total savings.  
  
−
If an asset is left to a spouse or a charitable organization, the tax usually does not apply. The tax is imposed on other transfers of property made as an incident of the death of the owner, such as a transfer of property from an [[intestate]] estate or trust, or the payment of certain [[life insurance]] benefits or financial account sums to beneficiaries.  
+
==Ethical issues==
 +
In addition to various economic impacts of estate and inheritance taxes, there are also [[ethics|ethical]] considerations. Basically, this issue involves justifying the imposition of large taxes on the estate of the wealthy, people who earned or inherited their wealth and wish to transfer it to their descendants or other beneficiaries of their choice. This issue strikes at the heart of the rights of [[ownership]].
  
−
==Federal estate tax==
+
===Equality of opportunity===
−
The Federal ''estate tax'' is imposed "on the transfer of the taxable estate of every decedent who is citizen or resident of the United States."<ref>See {{usc|26|2001(a)}}.</ref> The starting point in the calculation is the "gross estate." Certain deductions (subtractions) from the "gross estate" amount are allowed in arriving at a smaller amount called the "taxable estate."
+
Economists and other writers have attempted to rationalize the imposition of estate and inheritance taxes by appealing to ''the principle of equality of opportunity''. Economist and [[Nobel Prize]] winner [[James Buchanan]], for example, argued that:
 +
<blockquote>A guarantee of “some” equality of opportunity is inherent in the political philosophy of the free society (Buchanan 1975, 303).</blockquote>
  
−
===The "gross estate"===
+
[[Harold Groves]] (1939, 248) noted that equality of opportunity is often accepted as desirable “by the most ‘rugged’ of individualists.”
−
The "gross estate" for Federal estate tax purposes often includes more property than that included in the "probate estate" under the property laws of the state in which the decedent lived at the time of death. The starting point for the calculation of the estate tax is the value of the "gross estate"<ref>Defined at {{usc|26|2031}} and {{usc|26|2033}}.</ref>, as modified by certain other statutory provisions. The gross estate (before the modifications) may be considered to be the value of all the property interests of the decedent at the time of death. To these interests are added the following property interests generally not owned by the decedent at the time of death:
 
  
−
*the value of property to the extent of an interest held by the surviving spouse as a "dower or curtesy"<ref>See {{usc|26|2034}}.</ref>;
+
However, there are problems in the justification of inheritance taxes in terms of equality of opportunity. To increase opportunities for individuals to excel is a worthy goal but to restrict the opportunities of some in order to create “equality” among all is impossible, not to say "monstrous." In fact, among the opportunities it is desirable to increase is the opportunity to inherit wealth.  
  
−
*the value of certain items of property in which the decedent had, at any time, made a transfer during the three years immediately preceding the date of death (i.e., even if the property was no longer owned by the decedent on the date of death), other than certain gifts, and other than property sold for full value<ref>See {{usc|26|2035}}.</ref>;
+
Inheritance taxes on the rich do not significantly improve the lot of the poor. Even if the taxes raised from the rich were redistributed to the poor, instead of spent on consumption by the state, the wealth of the poor would increase only trivially. Thus, in practical terms, equality of opportunity is a poor justification for the negative impact of such taxes on the wealthy.
  
−
*the value of certain property transferred by the decedent before death for which the decedent retained a "life estate," or retained certain "powers"<ref>See {{usc|26|2036}}.</ref>;
+
===Principle of desert===
 +
Closely linked with the idea of equality of opportunity is the principle of "desert." Many who reject as morally repugnant confiscatory income taxes accept the inheritance tax because the individual does not “earn” his inheritance and is therefore undeserving. [[Harlan Read]] stated the thesis boldly in his ''Abolition of Inheritance:''
 +
<blockquote>All estates are unearned by the heirs and should therefore, be taken by taxation (Read 1918, 279).</blockquote>
 +
However, this argument in [[logic]]ally weak since the (correct) idea that a man deserves what he earns does not necessitate the conclusion that a man does not deserve what he does not earn.
  
−
*the value of certain property in which the recipient could, through ownership, have possession or enjoyment only by surviving the decedent<ref>See {{usc|26|2037(a)(1)}}.</ref>;
+
The difficulties of defining “deserve” and “earn” and their relationship notwithstanding, if one accepts the assumption that in some sense the [[heir]] does not deserve his [[inheritance (sociology)|inheritance]] because he has not earned it, the question now becomes: How does it follow from this that the state deserves the inheritance? It is the owner of the estate who earned it and not the government. Furthermore, if the owner of the estate earned it and, thus, deserves it, he must also deserve the right to allocate the estate as he wishes. Thus, even accepting that a man does not deserve what he does not earn, this is no justification for inheritance taxes.
  
−
*the value of certain property in which the decedent retained a "reversionary interest," the value of which exceeded five percent of the value of the property<ref>See {{usc|26|2037(a)(2)}}.</ref>;
+
==Conclusion==
 +
In many ways, both practical—for long-term capital projects and efficiency of capital investment—and as noted by prominent economists including [[Adam Smith]], [[David Ricardo]], [[Alfred Marshall]], [[F. W. Taussig]], and others, the transfer of [[wealth]] between generations is beneficial. As as long as [[parent]]s care for their children the dominant means of doing so will be through [[family]] [[Inheritance (Sociology)|inheritance]].  
  
−
*the value of certain property transferred by the decedent before death where the transfer was revocable<ref>See {{usc|26|2038}}.</ref>;
+
The transference of wealth through the family benefits bequestor and [[heir]], strengthens family ties, and increases long-term savings, which are the basis of economic growth. When the state intervenes significantly in this process it does so at the expense of the smooth operation of family, [[society]], and [[economy]]. The estate tax has the greatest impact on these grounds, as [[Murray Rothbard]] has noted:
 +
<blockquote>The inheritance tax is perhaps the most devastating example of a tax on pure capital (Rothbard 1970, 113).</blockquote>
  
−
*the value of certain annuities<ref>See {{usc|26|2039}}.</ref>;
+
However, until those who accumulate significant wealth in their lifetime show themselves able to use it to benefit society as a whole, in ways that reduce the need for government efforts, the imposition of these types of death duties continue to be seen as necessary and justifiable, provided the taxes are sufficiently [[progressive tax|progressive]] to ensure that only those with the greatest wealth are significantly impacted.
−
 
 
−
*the value of certain jointly owned property, such as assets passing by operation of law or survivorship, i.e. [[joint tenants with rights of survivorship]] or [[tenants by the entirety]], with special rules for assets owned jointly by spouses.<ref>See {{usc|26|2040}}.</ref>;
 
−
 
 
−
*the value of certain "powers of appointment"<ref>See {{usc|26|2041}}.</ref>;
 
−
 
 
−
*the amount of proceeds of certain life insurance policies<ref>See {{usc|26|2042}}.</ref>.
 
−
 
 
−
The above list of modifications is not comprehensive.
 
−
 
 
−
As noted above, life insurance benefits may be included in the gross estate (even though the proceeds arguably were not "owned" by the decedent and were never received by the decedent). Life insurance proceeds are generally included in the gross estate if the benefits are payable to the estate, or if the decedent was the owner of the life insurance policy or had any "incidents of ownership" over the life insurance policy (such as the power to change the beneficiary designation). Similarly, bank accounts or other financial instruments which are "payable on death" or "transfer on death" are usually included in the taxable estate, even though such assets are not subject to the [[probate]] process under state law.
 
−
 
 
−
===Deductions and the taxable estate===
 
−
 
 
−
Once the value of the "gross estate" is determined, the law provides for various "deductions" (in Part IV of Subchapter A of Chapter 11 of Subtitle B of the [[Internal Revenue Code]]) in arriving at the value of the "taxable estate." Deductions include but are not limited to:
 
−
 
 
−
*Funeral expenses, administration expenses, and claims against the estate<ref>See {{usc|26|2053}}.</ref>;
 
−
 
 
−
*Certain [[charitable organization|charitable]] contributions<ref>See {{usc|26|2055}}.</ref>;
 
−
 
 
−
*Certain items of property left to the surviving spouse<ref>See {{usc|26|2056}}.</ref>.
 
−
 
 
−
*Beginning in 2005, inheritance or estate taxes paid to states or the District of Columbia<ref>See {{usc|26|2058}}.</ref>.
 
−
 
 
−
Of these deductions, the most important is the marital deduction for property passing to (or in certain kinds of trust for) the surviving spouse, because it can eliminate any federal estate tax for a married decedent.  However, this unlimited deduction does not apply if the surviving spouse (not the decedent) is not a U.S. citizen<ref>See {{usc|26|2056(d)}}.</ref>.  A special trust called a Qualified Domestic Trust or QDOT must be used to obtain an unlimited marital deduction for otherwise disqualified spouses<ref>See {{usc|26|2056A}}.</ref>;.
 
−
 
 
−
===Tentative tax===
 
−
 
 
−
The tentative tax base is the sum of the taxable estate and the "adjusted taxable gifts" (i.e., taxable gifts made after 1976) and the tentative tax is then calculated by applying the following tax rates:
 
−
 
 
−
For amounts not greater than $10,000, the tax liability is 18% of the amount. 
 
−
 
 
−
For amounts over $10,000 but not over $20,000, the tentative tax is $1,800 plus 20% of the excess over $10,000. 
 
−
 
 
−
For amounts over $20,000 but not over $40,000, the tentative tax is $3,800 plus 22% of the excess over $20,000. 
 
−
 
 
−
For amounts over $40,000 but not over $60,000, the tentative tax is $8,200 plus 24% of the excess over $40,000. 
 
−
 
 
−
For amounts over $60,000 but not over $80,000, the tentative tax is $13,000 plus 26% of the excess over $60,000.
 
−
 
 
−
For amounts over $80,000 but not over $100,000, the tentative tax is $18,200 plus 28% of the excess over $80,000.
 
−
 
 
−
For amounts over $100,000 but not over $150,000, the tentative tax is $23,800 plus 30% of the excess over $100,000.
 
−
 
 
−
For amounts over $150,000 but not over $250,000, the tentative tax is $38,800 plus 32% of the excess over $150,000.
 
−
 
 
−
For amounts over $250,000 but not over $500,000, the tentative tax is $70,800 plus 34% of the excess over $250,000.
 
−
 
 
−
For amounts over $500,000 but not over $750,000, the tentative tax is $155,800 plus 37% of the excess over $500,000.
 
−
 
 
−
For amounts over $750,000 but not over $1,000,000, the tentative tax is $248,300 plus 39% of the excess over $750,000.
 
−
 
 
−
For amounts over $1,000,000 but not over $1,250,000, the tentative tax is $345,800 plus 41% of the excess over $1,000,000.
 
−
 
 
−
For amounts over $1,250,000 but not over $1,500,000, the tentative tax is $448,300 plus 43% of the excess over $1,250,000.
 
−
 
 
−
For amounts over $1,500,000, the tentative tax is $555,800 plus 45% of the excess over $1,500,000.
 
−
 
 
−
For years before 2007, additional tax brackets applied for amounts over $2,000,000 with marginal rates of up to 55%.
 
−
 
 
−
The tentative tax is reduced by gift tax that would have been paid on the adjusted taxable gifts, based on the rates in effect on the date of death (which means that the reduction is not necessarily equal to the gift tax actually paid on those gifts).
 
−
 
 
−
Although the above tax table looks like a system of progressive tax rates, there is a unified credit against the tentative tax which effectively eliminates any tax on the first $2,000,000 of the estate (or the first $2,000,000 on a combination of taxable gifts during lifetime and a taxable estate at death), so the federal estate tax is effectively a flat tax of 45% once the unified credit exclusion amount has been exhausted.
 
−
 
 
−
===Credits against tax===
 
−
 
 
−
There are several credits against the tentative tax, the most important of which is a "unified credit" which can be thought of as providing for an "exemption equivalent" or [[tax exemption|exempted value]] with respect to the sum of the taxable estate and the taxable gifts during lifetime.
 
−
 
 
−
For a person dying during 2006, 2007, or 2008, the "applicable exclusion amount" is $2,000,000, so if the sum of the taxable estate and the "adjusted taxable gifts" made during lifetime is $2,000,000 or less, there is no federal estate tax to pay. According to the [[Economic Growth and Tax Relief Reconciliation Act of 2001]], the applicable exclusion will increase to $3,500,000 in 2009, the estate tax is repealed in 2010, but then the act "sunsets" in 2011 and the estate tax reappears with an applicable exclusion amount of only $1,000,000 (unless Congress acts before then).
 
−
 
 
−
Do not confuse the estate tax credit or exemption equivalent with the federal gift tax credit or exemption equivalent. The gift tax exemption is frozen at $1,000,000 and does not increase, as does the estate tax exemption.
 
−
 
 
−
If the estate includes property that was inherited from someone else within the preceding 10 years, and there was estate tax paid on that property, there may also be a credit for property previous taxed.
 
−
 
 
−
Before 2005, there was also a credit for non-federal estate taxes, but that credit was phased out by the [[Economic Growth and Tax Relief Reconciliation Act of 2001]].
 
−
 
 
−
===Requirements for filing return and paying tax===
 
−
 
 
−
For estates larger than the current federally exempted amount, any estate tax due is paid by the [[executor]], other person responsible for administering the estate, or the person in possession of the decedent's property.  That person is also responsible for filing a Form 706 return with the [[Internal Revenue Service]]. The return must contain detailed information as to the valuations of the estate assets and the exemptions claimed, to ensure that the correct amount of tax is paid.
 
−
 
 
−
===Exemptions and tax rates===
 
−
<div style="float:left; width:55%;">
 
−
As noted above, a certain amount of each estate is exempted from taxation by the federal government. Below is a table of the amount of exemption by year an estate would expect. Estates above these amounts would be subject to estate tax, but only for the amount above the exemption.
 
−
 
 
−
For example, assume an estate of $3.5 million in 2006. There are two beneficiaries who will each receive equal shares of the estate. The maximum allowable credit is $2 million for that year, so the taxable value is therefore $1.5 million. Since it is 2006, the tax rate on that $1.5 million is 46%, so the total taxes paid would be $690,000. Each beneficiary will receive $1,000,000 of untaxed inheritance and $405,000 from the taxable portion of their inheritance for a total of $1,405,000. This means that they would have paid (or, more precisely, the estate would have paid) a taxable rate of 19.7%.
 
−
 
 
−
As shown, the 2001 tax act will repeal the estate tax for one year—2010—and then readjust it in 2011 to the year 2001 level.
 
−
 
 
−
</div><div style="float:right; width:40%; margin: 0.5em; padding: 0.5em; border: 1px solid #8888aa; ">
 
−
<table border="0" cellpadding="2" cellspacing="0">
 
−
<tr>
 
−
<td rowspan="2">Year
 
−
</td>
 
−
<td><br/></td>
 
−
<td colspan="2" rowspan="2">
 
−
<p align="center">Exclusion<br/>Amount
 
−
</p>
 
−
</td>
 
−
<td colspan="2" rowspan="2">
 
−
<p align="center">Max/Top<br/>
 
−
tax rate</p>
 
−
</td>
 
−
</tr>
 
−
<tr>
 
−
<td>&nbsp; </td>
 
−
</tr>
 
−
<tr>
 
−
<td>2001</td>
 
−
<td><br/></td>
 
−
<td >$675,000</td>
 
−
<td><br/></td>
 
−
<td >55%</td>
 
−
<td><br/>
 
−
</td>
 
−
</tr>
 
−
 
 
−
<td>2002</td>
 
−
<td><br/></td>
 
−
<td >$1 million</td>
 
−
<td><br/></td>
 
−
<td >50%</td>
 
−
<td><br/>
 
−
</td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2003</td>
 
−
<td><br/></td>
 
−
<td>$1 million</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>49%</td>
 
−
<td><br/>
 
−
</td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2004</td>
 
−
<td><br/></td>
 
−
<td>$1.5 million</td>
 
−
<td><br/></td>
 
−
<td>48%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2005</td>
 
−
<td><br/></td>
 
−
<td>$1.5 million</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>47%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2006</td>
 
−
<td><br/></td>
 
−
<td>$2 million</td>
 
−
<td><br/></td>
 
−
<td>46%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2007</td>
 
−
<td><br/></td>
 
−
<td>$2 million</td>
 
−
<td><br/></td>
 
−
<td>45%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2008</td>
 
−
<td><br/></td>
 
−
<td>$2 million</td>
 
−
<td><br/></td>
 
−
<td>45%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2009</td>
 
−
<td><br/></td>
 
−
<td>$3.5 million</td>
 
−
<td><br/></td>
 
−
<td>45%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2010</td>
 
−
<td><br/></td>
 
−
<td>repealed</td>
 
−
<td><br/></td>
 
−
<td>0%</td>
 
−
<td><br/></td>
 
−
 
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>2011</td>
 
−
<td><br/></td>
 
−
<td>$1 million</td>
 
−
<td><br/></td>
 
−
<td>55%</td>
 
−
<td><br/></td>
 
−
<td><br/></td>
 
−
 
 
−
</tr>
 
−
 
 
−
</table>
 
−
</div><br clear="all">
 
−
 
 
−
==Inheritance tax at the state level==
 
−
 
 
−
Many U.S. states also impose their own estate or inheritance taxes (see [[Ohio estate tax]] for an example).  Some states "piggyback" on the federal estate tax law in regard to estates subject to tax (i.e., if the estate is exempt from federal taxation, it is also exempt from state taxation).  Some states' estate taxes, however, operate independently of federal law, so it is possible for an estate to be subject to state tax while exempt from federal tax.
 
−
 
 
−
==Tax avoidance==
 
−
Estate tax rates and complexity have driven a vast array of support services to assist clients with a perceived eligibility for the estate tax to develop [[tax avoidance]] techniques. Many [[life insurance|insurance companies]] maintain a network of life insurance [[agency (law)|agent]]s, all providing [[Certified Financial Planner|financial planning services]], guided to avoid paying estate taxes.  Brokerage and financial planning firms also use [[estate planning]], including estate tax avoidance, as a marketing technique.  Many [[law firm]]s also specialize in estate planning, tax avoidance, and minimization of estate taxes.
 
−
 
 
−
The first technique many use is to combine the tax exemption limits for a husband and wife either through a [[will]] or create a [[living trust]]. Many, but not all, other techniques do not really avoid the estate tax, rather they provide an efficient and leveraged way to have liquidity to pay for the tax at the time of death. It is very important for those whose primary wealth is in a business they own, or real estate, or stocks, to seek professional advice or they may run the risk of the estate tax forcing their heirs to sell these things at an inopportune time. In one popular scheme, an irrevocable life insurance trust, the parents give their kids (within the allowed yearly gift tax limit) money to buy life insurance on the parents in an irrevocable life insurance trust. Structured in this way, life insurance is free of estate tax. However, if the parents have a very high net worth and the life insurance policy would be inadequate in size due to the limits in premiums, a charitable remainder trust may be used. This is where a large asset is flagged to be donated to a charity, sold, and invested. The investment income buys life insurance but the principal goes to the charity when the parents die. Meanwhile the children get the full amount as well in life insurance proceeds. This is a large reason for many charitable gifts, and proponents of the estate tax argue the tax should be maintained to encourage this form of charity.
 
−
 
 
−
==Debate==
 
−
 
 
−
===Arguments against===
 
−
{{originalresearch}}
 
−
One argument against the estate tax is that the tax obligation in itself can assume a disproportionate role in planning, possibly overshadowing more fundamental decisions about the underlying assets. In certain unfortunate cases, this is claimed to create an undue burden. For example, pending estate taxes could become an artificial disincentive to further investment in an otherwise viable business &ndash; increasing the appeal of tax- or investment-reducing alternatives such as liquidation, downsizing, divestiture, or retirement. This could be especially true when an estate's value is about to surpass the exemption equivalent amount. Older individuals owning farms or small businesses, when weighing ongoing investment risks and marginal rates of return in light of tax factors, may see less value in maintaining these taxable enterprises. They may instead decide to reduce risk and preserve capital, by shifting resources, liquidating assets, and using tax avoidance techniques such as insurance policies, gift transfers, trusts, and tax free investments. <ref>[http://www.heritage.org/Research/Taxes/BG1428.cfm]</ref>
 
−
 
 
−
Moreover, not all taxpayers have equal access to (or trust in) estate planning services; an aging farm or business owner (perhaps a Depression survivor) might not understand the consequences of leaving inheritance issues to surviving family members, or even of [[intestacy]]. A policy that creates an uneven tax burden, even when due to ignorance or inaction, can raise the appearance of unfairness.
 
−
 
 
−
Opponents also argue that the Federal estate tax rate is effectively higher because it is calculated based on the total estate rather than as a percentage of the amount actually transferred to heirs. For example, an estate worth $3.5 million with 2 heirs paid $940,000 federal estate tax in order to transfer $1,280,000 to each heir, suggesting an effective transfer tax rate of 36.7% for them rather than the 26.8% on the estate as a whole. Similarly, at the limit, the top federal tax rate of 50% on the estate value would imply a transfer tax rate of 100% of the amount transferred to 2 heirs. (For non-cash assets such as real estate or securities, market fluctuations after death can lead to tax/asset mismatches and a higher effective rate of taxation for heirs; this affected some estates valued during the economic downturn in 2001-2002.) The high effective transfer tax rate has prompted many wealthy benefactors to make sizable gifts during their lifetime, paying a [[gift tax]] on the amount transferred, rather than allow the whole amount to be taxed at the estate level.
 
−
 
 
−
Some argue that the estate tax creates a potential for double and triple taxation, that is, taxation on assets which have already been taxed.  Double taxation occurs on earned income, and by imposing capital gains tax on the returns after earned income is reinvested in new ventures, stocks, bonds, and savings.  However, the capital gains on those reinvested proceeds have never been taxed in the first place, because the income tax system does not recognize income until the asset (here a share of stock) is sold or transferred.  Without the estate tax, the alternative is to treat the transfer of ownership of the stock at death as a sale and impose the capital gains tax then.  In this manner, the estate tax would not be seen as an additional tax, but the first tax upon the unrealized capital gains.
 
−
 
 
−
<div style="font-family:courier, courier new, lucida console; float:right; width:60%; margin:.5em; padding: 0.5em; border: 1px solid #8888aa;">
 
−
<table border="0" cellpadding="2" cellspacing="0">
 
−
<tr>
 
−
<td rowspan="2">Estate value<br/>(Millions)
 
−
</td>
 
−
<td><br/></td>
 
−
<td colspan="2" rowspan="2">
 
−
<p align="center">Number of <br/>
 
−
returns</p>
 
−
</td>
 
−
<td colspan="2" rowspan="2">
 
−
<p align="center">Average tax<br/>
 
−
(in thousands)</p>
 
−
</td>
 
−
<td colspan="2" rowspan="2">
 
−
<p align="center">Effective<br/>
 
−
tax rate</p>
 
−
</td>
 
−
</tr>
 
−
<tr>
 
−
<td>&nbsp; </td>
 
−
</tr>
 
−
<tr>
 
−
<td>$0.0 - $1.0</td>
 
−
<td><br/></td>
 
−
<td >0</td>
 
−
<td><br/></td>
 
−
<td >$0</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>0.0%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$1.0 - $2.0</td>
 
−
<td><br/></td>
 
−
<td>190</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>$26</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>1.6%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$2.0 - $3.5</td>
 
−
<td><br/></td>
 
−
<td>60</td>
 
−
<td><br/></td>
 
−
<td>$190</td>
 
−
<td><br/></td>
 
−
<td>7.5%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$3.5 - $5.0</td>
 
−
<td><br/></td>
 
−
<td>40</td>
 
−
<td><br/>
 
−
</td>
 
−
<td>$449</td>
 
−
<td><br/></td>
 
−
<td>12.0%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$5.0 - $10</td>
 
−
<td><br/></td>
 
−
<td>80</td>
 
−
<td><br/></td>
 
−
<td>$1,322</td>
 
−
<td><br/></td>
 
−
<td>19.3%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$10. - $20.</td>
 
−
<td><br/></td>
 
−
<td>50</td>
 
−
<td><br/></td>
 
−
<td>$2,832</td>
 
−
<td><br/></td>
 
−
<td>22.9%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>$20. +</td>
 
−
<td><br/></td>
 
−
<td>30</td>
 
−
<td><br/></td>
 
−
<td>$23,442</td>
 
−
<td><br/></td>
 
−
<td>22.2%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
<tr>
 
−
<td>All</td>
 
−
<td><br/></td>
 
−
<td>440</td>
 
−
<td><br/></td>
 
−
<td>$2,238</td>
 
−
<td><br/></td>
 
−
<td>19.9%</td>
 
−
<td><br/></td>
 
−
</tr>
 
−
</table>
 
−
</div>The debate sometimes revolves around which estates are affected by current law.  The effects of the law on small business owners and family-owned farms (entities which, conservatives argue, are hardest hit by the estate tax) was studied in an analysis undertaken by the Tax Policy Center.  A study of the 18,800 taxable estates taxed in 2004 found 7,090 which had any farm or business income.  Of those, there were 440 estates in which half or more of its assets were the value of farms and/or businesses. The effective tax rate on the 440 estates studied in detail never averaged more than 23%.
 
−
<div style="clear:both;"></div>
 
−
 
 
−
===Arguments in favor===
 
−
{{originalresearch}}
 
−
Proponents of the estate tax argue that it serves to prevent the perpetuation of wealth, free of tax, in wealthy families and that it is necessary to a system of [[progressive taxation]].  Proponents point out that the estate tax affects only estates of considerable size (presently, over $2 million USD, and over $4 million USD for couples) and provides numerous credits (including the unified credit) that allow a significant portion of even large estates to escape taxation.  Regarding the tax's effect on farmers, proponents counter that this criticism is misguided as there is an exemption built into the law that is specifically designed for family-owned farms.
 
−
 
 
−
Furthermore, supporters argue that many large fortunes do not represent taxed income or savings, that wealth is not being taxed but merely the transfer of that wealth, and that many large fortunes represent unrealized capital gains which (because of a step up in [[Cost basis|basis]] at the time of death) will never be taxed as capital gains under the federal income tax.
 
−
 
 
−
Proponents further argue that the estate tax serves to encourage charitable giving, one way in which individuals can avoid paying the tax.  A 2004 report by the Congressional Budget Office found that eliminating the estate tax would reduce charitable giving by 6-12 percent.
 
−
 
 
−
Another argument in favor of the estate tax relates to comparative incentives.  Proponents argue that the estate tax is a better source of revenue than the income tax, which is said to directly disincentivize work.  While all taxes have this effect to a degree, some argue that the Estate Tax is less of a disincentive since it does not tax money that the earner spends, but merely that which he or she wishes to give away for non-charitable purposes.  Moreover, some argue that allowing the rich to bequeath unlimited wealth on future generations will disincentivize hard work in those future generations. 
 
−
 
 
−
Proponents of the estate tax tend to object to characterizations that it operates as a double or triple taxation.  They either note that such double and triple taxation is common (through income, property, and sales taxes, for instance), or argue that the estate tax should be seen as a single tax on the inheritors of large estates.
 
−
 
 
−
Supporters of the estate tax also point to longstanding historical precedent for limiting inheritance, and note that current generational transfers of wealth are greater than they have been historically.  In ancient times, funeral rites for lords and chieftains involved significant wealth expenditure on sacrifices to religious deities, feasting, and ceremonies.  The well-to-do were literally buried or burned along with most of their wealth.  These traditions may have been imposed by religious edict but they served a real purpose, which was to prevent the accumulation great disparities of wealth, which tended to destabilize societies and lead to social imbalance, eventual revolution, or disruption of functioning economic systems.  This economic safety valve is now partially imposed via the estate tax, which strips excess wealth from the recently dead and diverts it back to the society as a whole.
 
−
 
 
−
===The "Death Tax" neologism===
 
−
Many opponents of the estate tax refer to it as the "death tax" in their public discourse partly because a [[death]] must occur before any [[tax]] on the deceased's [[asset]]s can be realized and also because the tax rate is determined by the value of the deceased's assets rather than the amount each inheritor receives. Neither the number of inheritors or the size of each inheritor's portion factors into the calculations for rate of the Estate Tax.
 
−
 
 
−
The term was popularized in a famous [[memorandum]] written by [[United States Republican Party|Republican]] [[opinion poll|pollster]] [[Frank Luntz]]. He recommended that the party use the term "death tax" when referring to the estate tax, writing that the term "death tax" "kindled voter resentment in a way that 'inheritance tax' and 'estate tax' do not" <ref>[http://www.60plus.org/deathtax.asp?docID=347].</ref> 
 
−
 
 
−
[[Progressivism|Progressive]] [[Linguistics|linguist]] [[George Lakoff]] alleges the phrase is a deliberate and carefully calculated [[neologism|neologism]] which is used as a [[propaganda]] tactic to aid in the repeal of estate taxes.
 
−
 
 
−
===Effects of the debate===
 
−
 
 
−
Congress has passed tax laws that have changed the estate tax. Since 2003, the top rate has been lowered from 49% by one percentage point per year; in 2006 the top rate was 46%. If the US Congress makes no changes to US tax law, the top rate will continue to drop by one percentage point per year until 2009 when the top rate is scheduled to be 45%; in 2010 all estates will be taxed at 0%; and in 2011 the estate tax will return at a top rate of 55%. Most experts expect that Congress will change the tax law before then.  If the estate tax is eliminated, then unrealized capital gains would be subject to [[capital gains tax]] in order to justify the step up in basis in the hands of the new owner.
 
−
 
 
−
Legislation to extend raising the unified credit (beyond year 2010) of the estate tax has passed the House of Representatives.  It also passed in the Senate in June, 2006.  Later when the [[conference committee]] added it to a bill to increase the [[minimum wage]], the combined bill failed to garner 60 votes to invoke [[cloture]] in the [[Senate]], and it failed to pass.
 
−
 
 
−
== IRS audits ==
 
−
In July 2006, the IRS confirmed that it planned to cut the jobs of 157 of the agency’s 345 estate tax lawyers, plus 17 support personnel, by October 1, 2006.  Kevin Brown, an IRS deputy commissioner, said that he had ordered the staff cuts because far fewer people were obliged to pay estate taxes than in the past. 
 
−
 
 
−
Estate tax lawyers are the most productive tax law enforcement personnel at the I.R.S., according to Brown. For each hour they work, they find an average of $2,200 of taxes that people owe the government.[http://www.nytimes.com/2006/07/23/business/23tax.html?ex=1311307200&en=a1b03ade9e7403fc&ei=5090&partner=rssuserland&emc=rss]
 
−
 
 
−
==Related taxes==
 
−
The federal government also imposes a [[gift tax]], assessed in a manner similar to the estate tax. One purpose is to prevent a person from avoiding paying estate tax by giving away all his or her assets before death.
 
−
 
 
−
There are two levels of exemption from the gift tax.  First, transfers of up to (as of 2006) $12,000 per person per year are not subject to the tax. An individual can make gifts up to this amount to as many people as they wish each year, and a married couple can make gifts up to twice that amount,
 
−
 
 
−
 
 
−
==Notes==
 
−
<references/>
 
  
 
==References==
 
==References==
−
 
+
*Buchanan, James. [1969] 1999. ''Cost and Choice''. Chicago: University of Chicago Press. ISBN 0865972249.
−
* Ian Shapiro and Michael J. Graetz, ''Death By A Thousand Cuts: The Fight Over Taxing Inherited Wealth'', Princeton University Press (February, 2005), hardcover, 372 pages, ISBN 0-691-12293-8
+
*Fetter, Frank A. 1913. ''The Principles of Economics''. New York: Century.
−
*William H. Gates, Sr. and Chuck Collins, with foreword by former Federal Reserve Chairman Paul Volcker, ''Wealth and Our Commonwealth: Why America Should Tax Accumulated Fortunes'', Beacon Press (2003)
+
*Groves, Harold. M. 1939. ''Financing Government''. New York: Henry Holt.
 +
*Gumbel, Peter. 2006. [http://www.time.com/time/magazine/article/0,9171,1376184,00.html Death's Other Sting.] ''Time.'' August 27, 2006. Retrieved August 23, 2008.
 +
*Harwood, Sterling. 2001. "Is Inheritance Immoral?" In Louis P. Pojman, ''Political Philosophy''. McGraw Hill. ISBN 978-0071131445.
 +
*Kotlikoff, L., and L. Summers. “The Role of Intergenerational Transfers in Aggregate Capital Accumulation." ''Journal of Political Economy'' 89 (1981): 706-732.
 +
*Lawrence, M., and Carl Davidson. 1991. "Tax Incidence in a Simple General Equilibrium Model with Collusion and Entry" ''Journal of Public Economics'' 45(2): 161-190.
 +
*Modigliani, Franco, and Richard Brumberg. [1954] 2003. Utility analysis and the consumption function: An interpretation of cross-section data. In Kenneth K. Kurihara (ed.) ''Post-Keynesian Economics.'' Routledge. ISBN 978-0415313766.
 +
*Read, Harlan. E. 1918. ''The Abolition of Inheritance''. New York: MacMillan.
 +
*Ricardo, David. [1817] 2006. ''Principles of Political Economy and Taxation''. Cosimo Classics. ISBN 978-1596059276.
 +
*Rothbard, Murray. 1956. "Towards the Reconstruction of Utility and Welfare Economics” in ''On Freedom and Free Enterprises.'' Mary Sennholtz (ed.). Princeton, NJ: Van Nostrand.
 +
*Rothbard, Murray. [1970] 1993. ''Man, Economy and State''. Auburn, AL: Ludwig von Mises Institute. ISBN 978-0945466321.
 +
*Schumpeter, Joseph A. [1942] 2005. ''Capitalism, Socialism and Democracy''. New York: Taylor & Francis. ISBN 0415107628.
 +
*Smith Adam. [1904] 2003. ''The Wealth of Nations''. Bantam Classics. ISBN 978-0553585971.
 +
*Tabarrok, A. 1997. ”Death Taxes: Theory, History, and Ethics.” In ''Essays in Political Economy.'' Auburn, AL: Ludwig von Mises Institute.
 +
*Taussig, Frank W. [1920] 2007. ''Principles of Economics, Vol. 2''. Cosimo Classics. ISBN 978-1602063433.
 +
*von Mises, Ludwig. [1934] 1981. ''Socialism''. Indianapolis: Liberty Classics. ISBN 978-0913966631.
 +
*Wagner, R. 1977. ''Inheritance and the State: Tax Principles for a Free and Prosperous Commonwealth''. Washington, DC: American Enterprise Institute for Public Policy Research. ISBN 0844732524.
  
 
==External links==
 
==External links==
−
* [http://www.irs.gov/pub/irs-pdf/p950.pdf IRS publication 950], Introduction to Estate and Gift Taxes, revised September 2004
+
All links retrieved March 3, 2018.
−
* [http://www.tompaine.com/articles/2006/06/06/estate_tax_pyramid_scheme.php "Estate Tax Pyramid Scheme"], a June 2006 article by former US Secretary of Labor [[Robert Bernard Reich]] arguing for the estate tax.
+
* [http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Estate-and-Gift-Taxes Estate and Gift Taxes] IRS website.
−
* [http://www.deathtax.com/ Deathtax.com] an anti-inheritance tax campaign by a Seattle family-owned newspaper
+
* Hunter, Rosie, and Chuck Collins [http://www.dollarsandsense.org/archives/2003/0103hunter.html Death tax deception] ''Dollars & Sense''
−
* [http://www.taxpolicycenter.org/TaxModel/tmdb/TMTemplate.cfm?DocID=734&topic2ID=40&topic3ID=41&DocTypeID= Gross Estate and Net Estate Tax on Farms and Businesses in 2004], from the [[Tax Policy Center]] website
+
*Runciman, David. 2005. [http://www.lrb.co.uk/v27/n11/runc01_.html Tax Breaks for Rich Murderers] ''London Review of Books''
−
* [http://www.factcheck.org/article328m.html ...Ads exaggerate what the tax costs farmers, small businesses...], a June 2005 article from [[FactCheck]]
+
*[https://www.gov.uk/inheritance-tax HMRC Inheritance Tax (IHT)] HM Revenue & Customs
−
*[http://www.myheritage.org/Issues/MythBusters/DeathTax.asp Myth: Death tax repeal only benefits the wealthy] [[Heritage Foundation]]
 
−
*[http://www.dollarsandsense.org/archives/2003/0103hunter.html Death tax deception] Article from [[Dollars & Sense]] magazine
 
−
*Sterling Harwood, "Is Inheritance Immoral?" in Louis P. Pojman, Political Philosophy (McGraw Hill, 2002). www.sterlingharwood.com.
 
−
*[[David Runciman]], [[London Review of Books]], 2 June 2005, [http://www.lrb.co.uk/v27/n11/runc01_.html "Tax Breaks for Rich Murderers"]
 
−
* Wiki Legal Comment, [http://wikilegaljournal.wiki.com/Night_of_the_Living_Dead Night of the Living Dead:  Why Death Tax Won’t Stay Dead], [http://wikilegaljournal.wiki.com Wiki Legal Journal] This article is part of a study to determine if a wiki community can produce high quality legal research, Nov. 18, 2006 (this comment explores the various proposals Congress has considered with a special emphasis on the interaction of estate tax on state revenue and philanthropy.).
 
−
* A program at [http://www.mystatewill.com mystatewill.com] gives a quick calculation of the federal estate tax
 
−
 
 
−
 
 
−
*[http://www.hmrc.gov.uk/cto/iht.htm Revenue and Customs Inheritance Tax]
 
  
 
{{credits|Inheritance_tax|146427614|Inheritance_tax_(United_Kingdom)|146153690|Estate_tax_in_the_United_States|148069300}}
 
{{credits|Inheritance_tax|146427614|Inheritance_tax_(United_Kingdom)|146153690|Estate_tax_in_the_United_States|148069300}}

Latest revision as of 17:54, 3 March 2018

Taxation
Assorted United States coins.jpg
Types of Tax
Ad valorem tax ·  Consumption tax
Corporate tax ·  Excise
Gift tax ·  Income tax
Inheritance tax ·  Land value tax
Luxury tax ·  Poll tax
Property tax ·  Sales tax
Tariff ·  Value added tax
Tax incidence
Flat tax ·  Progressive tax
Regressive tax ·  Tax haven
Tax rate

Inheritance tax, estate tax, and death duty are the names given to various taxes which arise on the death of an individual. Technically, "inheritance tax" and "estate tax" are different, in that inheritance tax may be payable by the heir while estate tax is levied prior to the receiving of the inheritance. In many cases, however, the distinction is of little importance and the terms are used interchangeably; in the United Kingdom, no distinction is made and inheritance tax is equivalent to estate tax. In the U. S. an estate tax is paid out of the deceased’s estate before it is distributed. The same total tax is paid, therefore, whether there is one heir or more and the same tax is paid whether the heirs are rich or poor.

Such death duties are controversial both in terms of economics and ethics. Although they have a long history, the imposition of contemporary inheritance and estate taxes has been relatively recent and debate has increased as the numbers of people affected has risen in the twenty-first century. The logic of disallowing those who earned their wealth to choose how to distribute it upon their death (except by philanthropy) is controversial and the economic impact on savings potentially problematic. Perhaps even more serious, once applied only to the affluent, generating substantial revenue for the government who justified this as it would be spent on programs that would benefit society as a whole rather than allowing a few to continue to amass excessive wealth, the estates of an increasingly large proportion of middle-class people in many countries are now at a level that incurs such taxes.

The existence of such a tax underscores the problems inherent in all forms of taxation, issues that cannot be solved by legislation because they reflect weaknesses in human nature. It is only when human nature changes from selfishness to caring for others and society as a whole that these problems can be resolved, both by those designing the system and by those paying and collecting the taxes.

Overview

Definitions

In different jurisdictions, the tax code may make reference to inheritance tax, estate tax, or even death duty. Generally, except in the United States, the terms estate tax and inheritance tax are used interchangeably.

In the United States, there is a difference between estate taxes and inheritance taxes. Estate taxes are levied on representatives of the deceased person, while inheritance taxes are levied on the beneficiaries of an estate. Inheritance taxes are generally levied by state authorities and estate taxes are imposed by the federal government.

The estate tax is a tax on net worth, the value of all property owned minus debt and any estate expenses. Essentially the tax is an “everything tax.” It is a tax on cash and bank accounts, stocks, bonds, real estate, businesses, equipment, and machinery, automobiles, and other property, life insurance policies, artwork, even personal belongings.

Inheritance tax is paid by the heir and may vary according to the heir’s relation to the deceased, the heir’s income and wealth, and the amount inherited. If an inheritance tax is progressive then the total tax paid varies according to the number of heirs and their wealth.

In both the U.S. and Great Britain, egalitarians tend to prefer an inheritance tax since this gives the deceased an incentive to spread wealth across many heirs (John Stuart Mill proposed an inheritance tax, for example) while pragmatists tend to support the estate tax because it is easier to administer and tends to raise more revenue than the inheritance tax (precisely because it cannot be avoided by increasing the number of heirs).

Gift tax is a related type of tax, applying to gratuitous transfers of money and property between living persons.

History

Inheritance taxes have a long history dating back to the Roman Empire, which levied taxes on inherited property to provide pensions for retired soldiers. Contemporary inheritance taxes are based on the feudal arrangement of the Middle Ages whereby the sovereign was the ultimate owner of all land and property, and permission was required to transfer property on the death of the immediate owner. In many European countries property could be transferred by payment of a "relief" when no direct descendant laid claim. Contemporary estate taxes can be traced back to such payments.

Although initially levied in the seventeenth century, estate taxes in the United Kingdom were established in their current form at the end of the nineteenth century. In the United States, various estate taxes were imposed for short periods, on both the state and federal levels. Pennsylvania was the first state to impose inheritance tax in 1826, and many states continue to tax inheritance. In 1916, a federal estate tax was imposed to help finance World War I, and it has remained in force since that time.

Calculation

For the purpose of illustrating how inheritance/estate tax is generally calculated, the United States is used as an example.

The first step is to calculate the fair market value of the entire estate. This includes cash, bank accounts, stocks and bonds, real state, insurance, and similar items of value. Included are life insurance and annuity proceeds payable to the estate or the heirs as well as the value of certain property transferred within a specified time period prior to the death. This last item involves a connection between gift taxes (and their exclusions) and inheritance tax.

The total fair market value of all these items is termed the "gross estate." The next step involves the calculation of any adjustments to the gross estate. Typical adjustments include the remaining balance on a mortgage, funeral expenses, the fees associated with settling the estate (which might include items such as estate administration fees or payments made to an attorney), and a "marital deduction" that can be taken for property that is left to a surviving spouse.

Once all the deductions have been taken from the gross estate, the remaining balance is considered the net value of the property—or the inheritance tax basis. The final deduction prior to calculation of the tax is the lifetime tax exclusion (or unified credit), which was $1 million in 2002, rising in steps to $3.5 million in 2009, and which includes taxable gifts. The remainder of the estate is taxable, at a rate that ranges from around 40 to 60 percent.

Rising problems with inheritance tax

Inheritance tax used to impact only the very wealthy, but in the twenty-first century, the proportion of people affected has become much larger. This has led to animated discussions about whether to limit, amend, or suppress inheritance taxes in many countries, particularly in Europe. The debate erupted when death duties, once paid only by the affluent, began to affect middle-class Europeans in significant and increasing numbers.

"Inheritance tax used to be a problem for the rich. Now it's a problem for you and me," said Anne Young, a tax expert at an Edinburgh financial-services firm. Young has estimated that as many as one third of British households have estates that could be subject to tax. She includes herself in this group (Gumbel 2006).

This increase in value of estates, with concomitant tax liability, has been blamed on the rise in house prices. Unlike their parents, European baby boomers tend to own their homes. As prices have risen these homeowners have enjoyed increases in the value of their assets. However, in many cases, this has pushed their net worth over the national minimum thresholds for inheritance tax, which have not been adjusted to keep up with changes in house prices. The result is that almost anyone owning a detached house in London or southeast England has an estate valued over the U.K. tax-free limit (Gumbel 2006).

Economic issues

Inheritance taxes have been controversial since their inception. A few excerpts from the writings of prominent economists should precede the discussion:

This does not imply that once-earned wealth perpetuates itself forever. On the contrary, even if a fortune were completely immune from risk it would tend to quickly dissipate so long as there is more than one heir in each generation. In a free market wealth is continually changing hands… Increasing and even maintaining a fortune requires entrepreneurial skill. …Consider how much easier it is to waste a million dollars than it is to make a million dollars. Nevertheless, wealth will typically last more than one generation so it is reasonable to argue that at least two generations of heirs are significantly harmed by the estate tax (von Mises 1981, 338–40).

In modern times the funds raised by the estate and gift tax have accounted for only a small proportion of government revenue…. In 1990 death and gift taxes raised just over $15 billion in revenue, approximately $11 billion of which was because of the Federal estate and gift tax the remainder because of state death and gift taxes (Tabarrok 1997).

Those in favor of taxes on a person's estate argue that the amount of the tax is small and occurs only once, that it reduces savings to a lesser degree than income taxes, and is useful for redistributing wealth. Opponents argue that such taxes have a negative effect on incentives, discouraging people to build up their estate since a large part will not be given to their heirs. Those against this form of taxation claim that this leads to reductions in savings and hurts business incentives. In such cases it can be argued that the limit to the usefulness of such taxes exists when the accumulation of wealth is discouraged to the extent that the economy of the nation is harmed.

Inter-generation transfers

Bequest theory is an inter-generational transfer theory of saving. Hence, a tax on the transfer of property between the generations can affect savings by changing the behavior of the bequestor or the heir. The effect on the bequestor is composed of two parts: The price effect and the wealth effect.

Price effect

The tax raises the price of bequests and therefore reduces the desired bequest. The effect on savings, however, is ambiguous. The price effect can be summarized in terms of elasticities. If the demand to give bequests is inelastic the price effect works to increase savings. Little data exist on this elasticity but a demand curve must be elastic above some price, otherwise a consumer could be made to spend all of his income on the single taxed good (Wagner 1977, 19).

For example, in order to bequeath an estate of $1 million to his daughter an individual must save $1 million if there is no tax, but if there is a tax of 50 percent and he still wishes to bequeath $1 million he must increase his savings to $2 million. In most circumstances the bequestor may reduce the amount of bequest, but so long as the reduction in final bequest is less than 50 percent the price effect works to increase saving. At rates around 50 percent the demand for bequests is probably elastic, but if the rates were raised by any significant degree the amount of savings would be reduced.

Wealth effect

Reinforcing the reduced savings because of the price effect is the wealth effect. For a given size of bequest, an increase in the estate tax is equivalent to a reduction in wealth. The desire to give bequests decreases (increases) as wealth decreases (increases). In other words, bequests are a “normal” good.

An inheritance is a large, one-time, increase in wealth. Income smoothing requires that the bulk of this wealth be saved. A decrease in the heir’s inheritance is therefore ipso facto, a large decrease in savings. Indeed, if the bequestor and heir have similar wealth and value scales, the heir will want to save the principal portion of the estate so that it can be passed on to his own heirs. This is what accounts for the fact that family fortunes are typically the accumulated savings of more than one generation.

Bequest-saving tends to be long-term and continuous and therefore allows for what F. W. Taussig called "sustained accumulation and permanent investment" (Taussig 1920, 249). This is especially true when savings are passed along in the form of family businesses.

Inheritance as foundational to capitalism

Traditionally, many economists believed that the most important reason people saved was to give bequests. Alfred Marshall (1949, 227), however, held that "family affection is the main motive for saving." Similarly, Joseph Schumpeter (1942, 160) called the "family motive the 'mainspring' of savings," and F. W. Taussig (1920, 249) argued that for long-term savings "the main motives are domestic affection and family ambition."

Elsewhere Taussig (1920, 509) called inheritance "the great engine for the maintenance of capital" and, in his highly regarded principles text, Frank A. Fetter (1913, 371) argued that "much of the existing wealth probably never would have been created if men did not have [the] right of gift." In fact, the entire capitalist order for Schumpeter is founded on the "family motive:"

When the capitalist-entrepreneur-bourgeois is sundered from longterm family ties he becomes, to borrow a phrase, a wage slave or bureaucrat-cog easily crushed by the state and its philosophical apparatus (Schumpeter 1942, 160).

Those who are able to bequeath a material inheritance are also often able to bequeath a sound moral and educational inheritance. Along with pecuniary and physical capital the founding generation bequeaths human capital. In a capitalist society, therefore, the institution of inheritance is more than a moral institution, it is part of the process whereby wealth is transferred to those who can best use it to serve the wishes of consumers

Problems in government "investing" of the inheritance tax

One reason most neo-classical economists ignore the effect of the estate tax on the heir’s saving is the argument that the government can also “save” the estate tax by investing it in capital projects. Generally, however, there are several flaws with this argument:

First, the wealthy tend to have low rates of time preference, which allows family fortunes to be invested in long-term projects, as seen in Taussig’s "sustained accumulation and permanent investment" (Lawrence 1991).

Second, and more fundamentally, there is a crucial difference between government investment and private sector investment. "Only the private sector investment can be defined as welfare-enhancing" (Rothbard 1956). Private sector savings are necessarily allocated to maximize consumer and producer well-being. Rothbard (1970) has made a strong case that so called government investment is better understood as consumption by government officials rather than savings.

Adam Smith’s distinction between unproductive and productive labor was never more apt than when he wrote:

All taxes upon the transference of property … are all more or less unthrifty taxes that increase the revenue of the sovereign, which seldom maintains any but unproductive laborers; at the expense of the capital of the people, which maintains none but productive (Smith 1904).

To evaluate the effect of higher estate (or inheritance) taxes, it is therefore necessary to examine the "life cycle theory."

Cycle theory of saving

The theory of saving was the central component of post World War II Keynesian macroeconomics but the bequest theory was completely abandoned during this period. In its place was put the life cycle theory of saving by the main protagonists: Franco Modigliani and Richard Brumberg (1954).

The life cycle theory places the main motivation for saving on the desire to provide for retirement. The theory implies that savings should follow a “hump” pattern. Young adults begin the saving process by borrowing; as their career stabilizes they pay off old debts and begin to save; then, when retirement begins, they draw upon their savings until they die. In the simple model, everyone wishes to consume up to the moment of death and then die penniless. In more complicated models a bequest motive is tacked on as an afterthought.

Yet, far before the life cycle theory was born, Alfred Marshall recognized an important fact which casts doubt on the theory:

Men seldom spend, after they have retired from work, more than the income that comes in from their savings, preferring to leave their stored up wealth intact for their families (Marshall 1949, 228).

In other words, the elderly do not dissave as the life cycle theory predicts. Marshall’s observation has been verified by a number of studies. Far from dying penniless, the elderly often die richer than at any other point in their life. In addition, econometric work by Kotlikoff and Summers (1981) indicates that "the stock of wealth is far too large to be accounted for by life cycle reasons."

Hence, the theoretical and empirical shortcomings of the life cycle theory indicate that the bequest motive is an important determinant of savings. This means that far from being negligible increases in the estate tax and gift tax could significantly reduce total savings.

Ethical issues

In addition to various economic impacts of estate and inheritance taxes, there are also ethical considerations. Basically, this issue involves justifying the imposition of large taxes on the estate of the wealthy, people who earned or inherited their wealth and wish to transfer it to their descendants or other beneficiaries of their choice. This issue strikes at the heart of the rights of ownership.

Equality of opportunity

Economists and other writers have attempted to rationalize the imposition of estate and inheritance taxes by appealing to the principle of equality of opportunity. Economist and Nobel Prize winner James Buchanan, for example, argued that:

A guarantee of “some” equality of opportunity is inherent in the political philosophy of the free society (Buchanan 1975, 303).

Harold Groves (1939, 248) noted that equality of opportunity is often accepted as desirable “by the most ‘rugged’ of individualists.”

However, there are problems in the justification of inheritance taxes in terms of equality of opportunity. To increase opportunities for individuals to excel is a worthy goal but to restrict the opportunities of some in order to create “equality” among all is impossible, not to say "monstrous." In fact, among the opportunities it is desirable to increase is the opportunity to inherit wealth.

Inheritance taxes on the rich do not significantly improve the lot of the poor. Even if the taxes raised from the rich were redistributed to the poor, instead of spent on consumption by the state, the wealth of the poor would increase only trivially. Thus, in practical terms, equality of opportunity is a poor justification for the negative impact of such taxes on the wealthy.

Principle of desert

Closely linked with the idea of equality of opportunity is the principle of "desert." Many who reject as morally repugnant confiscatory income taxes accept the inheritance tax because the individual does not “earn” his inheritance and is therefore undeserving. Harlan Read stated the thesis boldly in his Abolition of Inheritance:

All estates are unearned by the heirs and should therefore, be taken by taxation (Read 1918, 279).

However, this argument in logically weak since the (correct) idea that a man deserves what he earns does not necessitate the conclusion that a man does not deserve what he does not earn.

The difficulties of defining “deserve” and “earn” and their relationship notwithstanding, if one accepts the assumption that in some sense the heir does not deserve his inheritance because he has not earned it, the question now becomes: How does it follow from this that the state deserves the inheritance? It is the owner of the estate who earned it and not the government. Furthermore, if the owner of the estate earned it and, thus, deserves it, he must also deserve the right to allocate the estate as he wishes. Thus, even accepting that a man does not deserve what he does not earn, this is no justification for inheritance taxes.

Conclusion

In many ways, both practical—for long-term capital projects and efficiency of capital investment—and as noted by prominent economists including Adam Smith, David Ricardo, Alfred Marshall, F. W. Taussig, and others, the transfer of wealth between generations is beneficial. As as long as parents care for their children the dominant means of doing so will be through family inheritance.

The transference of wealth through the family benefits bequestor and heir, strengthens family ties, and increases long-term savings, which are the basis of economic growth. When the state intervenes significantly in this process it does so at the expense of the smooth operation of family, society, and economy. The estate tax has the greatest impact on these grounds, as Murray Rothbard has noted:

The inheritance tax is perhaps the most devastating example of a tax on pure capital (Rothbard 1970, 113).

However, until those who accumulate significant wealth in their lifetime show themselves able to use it to benefit society as a whole, in ways that reduce the need for government efforts, the imposition of these types of death duties continue to be seen as necessary and justifiable, provided the taxes are sufficiently progressive to ensure that only those with the greatest wealth are significantly impacted.

References
ISBN links support NWE through referral fees

  • Buchanan, James. [1969] 1999. Cost and Choice. Chicago: University of Chicago Press. ISBN 0865972249.
  • Fetter, Frank A. 1913. The Principles of Economics. New York: Century.
  • Groves, Harold. M. 1939. Financing Government. New York: Henry Holt.
  • Gumbel, Peter. 2006. Death's Other Sting. Time. August 27, 2006. Retrieved August 23, 2008.
  • Harwood, Sterling. 2001. "Is Inheritance Immoral?" In Louis P. Pojman, Political Philosophy. McGraw Hill. ISBN 978-0071131445.
  • Kotlikoff, L., and L. Summers. “The Role of Intergenerational Transfers in Aggregate Capital Accumulation." Journal of Political Economy 89 (1981): 706-732.
  • Lawrence, M., and Carl Davidson. 1991. "Tax Incidence in a Simple General Equilibrium Model with Collusion and Entry" Journal of Public Economics 45(2): 161-190.
  • Modigliani, Franco, and Richard Brumberg. [1954] 2003. Utility analysis and the consumption function: An interpretation of cross-section data. In Kenneth K. Kurihara (ed.) Post-Keynesian Economics. Routledge. ISBN 978-0415313766.
  • Read, Harlan. E. 1918. The Abolition of Inheritance. New York: MacMillan.
  • Ricardo, David. [1817] 2006. Principles of Political Economy and Taxation. Cosimo Classics. ISBN 978-1596059276.
  • Rothbard, Murray. 1956. "Towards the Reconstruction of Utility and Welfare Economics” in On Freedom and Free Enterprises. Mary Sennholtz (ed.). Princeton, NJ: Van Nostrand.
  • Rothbard, Murray. [1970] 1993. Man, Economy and State. Auburn, AL: Ludwig von Mises Institute. ISBN 978-0945466321.
  • Schumpeter, Joseph A. [1942] 2005. Capitalism, Socialism and Democracy. New York: Taylor & Francis. ISBN 0415107628.
  • Smith Adam. [1904] 2003. The Wealth of Nations. Bantam Classics. ISBN 978-0553585971.
  • Tabarrok, A. 1997. ”Death Taxes: Theory, History, and Ethics.” In Essays in Political Economy. Auburn, AL: Ludwig von Mises Institute.
  • Taussig, Frank W. [1920] 2007. Principles of Economics, Vol. 2. Cosimo Classics. ISBN 978-1602063433.
  • von Mises, Ludwig. [1934] 1981. Socialism. Indianapolis: Liberty Classics. ISBN 978-0913966631.
  • Wagner, R. 1977. Inheritance and the State: Tax Principles for a Free and Prosperous Commonwealth. Washington, DC: American Enterprise Institute for Public Policy Research. ISBN 0844732524.

External links

All links retrieved March 3, 2018.

Credits

New World Encyclopedia writers and editors rewrote and completed the Wikipedia article in accordance with New World Encyclopedia standards. This article abides by terms of the Creative Commons CC-by-sa 3.0 License (CC-by-sa), which may be used and disseminated with proper attribution. Credit is due under the terms of this license that can reference both the New World Encyclopedia contributors and the selfless volunteer contributors of the Wikimedia Foundation. To cite this article click here for a list of acceptable citing formats.The history of earlier contributions by wikipedians is accessible to researchers here:

The history of this article since it was imported to New World Encyclopedia:

Note: Some restrictions may apply to use of individual images which are separately licensed.

Retrieved from https://www.newworldencyclopedia.org/p/index.php?title=Inheritance_tax&oldid=1009466

Content is available under Creative Commons Attribution/Share-Alike License; additional terms may apply. See Terms of Use for details.
Copyright Logo
Powered by MediaWiki