The Repeal of the Estate Tax:
Dead but for how long?

by John Miller

Dollars and Sense magazine, November/December 2000

The repeal of the estate tax is a dead letter, at least for now. Despite the support of Republicans and a growing number of Democrats for eliminating the "Death Tax," as they like to call it, Congress failed to override President Clinton's September veto. But the only federal tax on accumulated wealth will be at the top of Congress's agenda next year, whether Bush, who favors its repeal, or Gore, who favors larger exemptions for farmers and business owners, is elected president.

The growing support for the estate tax's elimination is astonishing and alarming. A June 2000 Gallup Poll reported that 60% of Americans favored repeal, despite the fact that just 2% of estates are taxed. (The current law exempts all estates under $675,000.) Even the well-off, who have become paper millionaires with the stock market boom, have little to worry about. A 1991 study found that nearly all taxable estates under $5 million included liquid assets greater than the estate tax owed. Meanwhile, the exemption is set to increase to $1 million by the year 2006. In 1997, one-half of estate tax revenues came from the 0.1% of estates valued at over $5 million. The tax, in short, is not a burden on anyone remotely resembling an ordinary taxpayer.

Why would a tax cut that benefits so few enjoy widespread support? Part of the answer is clever marketing, Congressional Republicans have painted the estate tax as a threat to family farms and small businesses. In August, Sen. Strom Thurmond (R-SC) signed the repeal bill and then handed it over to a Montana cattle rancher, who delivered it to the White House on his red tractor. George W. Bush got in on the action as well. Over the summer, he told the members of La Raza, a major Latino advocacy group, of a Mexican-American taco-shop owner who wanted "to get rid of the death tax so I can pass my business from one generation to the next."

The taco shop, it turns out, would have gone untaxed. Valued at $300,000, it is worth less than one fourth of the $1,300,000 exemption the current law allows business owners and family farmers. And it's not just taco shops that go tax-free. Almost all small business estates are exempt from taxation. The value of a sole proprietorship, the chief form of small business, is rarely greater than its annual sales. In the mid- 1990s, only about 1.5% of non-farm sole proprietorships reported annual sales of more than $500,000, well below the exemption for the estate tax. Family farmers are almost as unlikely to feel the estate-tax pinch. Just one in 20 leaves a taxable estate. In fact, in 1997, the assets of family-owned businesses and farms accounted for less than 4% of the assets of all taxable estates under $5 million. As the President, born and raised in Arkansas, pointed out in his veto message, the chief beneficiaries of the repeal of the estate tax have most likely never sat atop a tractor of any color.

The other argument that opponents of the estate tax have mustered for its repeal is that the rich have already paid income taxes, so they should be able to leave their wealth to their heirs without paying further taxes. They are being subjected to "double taxation"! Well, there may be a constitutional prohibition on double jeopardy, but "double taxation" is a fact of life for every one of us, not just the rich. For instance, workers pay payroll taxes and income taxes on their wages, and then sales taxes when they spend what remains of their paychecks. The important issue is not how or when we pay taxes, but how much we pay. Today, the richest 1% of U.S. families pay about one third of their incomes as federal taxes of all kinds, far less than the two fifths they paid in 1977, despite the fact that their real incomes have more than doubled since then.

Beyond that, much inherited wealth has never even been taxed once, much less twice. Suppose that Steve Forbes purchases a share of stock for $200, holds it as it appreciates to $1000, and then passes that stock on his daughter when he dies. His daughter then sells the stock one year later for $1 100. Under current law, she would pay income taxes only on the $100 capital gain since she inherited the stock. The $800 gain from its original purchase price to its value at her father's death would escape the income tax.

Untaxed gains are no small portion of estates. Economists James Poterba and Scott Weisbenner estimate that these gains make up about 37% of the value of estates worth more than $1 million and about 5G% of estates worth more than $10 million. The estate tax is the only way, under current law, to tax capital gains that escape the income tax.

If fairness is your issue, then consider the consequences of using the projected surplus in the federal budget to finance the repeal of the estate tax. The 1997 "caps" on discretionary domestic spending account for a cool $60 billion of the annual surplus, just a little more than the $50 billion a year a fully phased-in estate tax repeal would cost in government revenues. Included among the programs that will shrink because they are no longer adjusted for inflation is Head Start, which offers federally funded preschool instruction and meals to children from low-income families. The Clinton administration last fall proposed dropping 111,800 children from the Head Start rolls by fiscal year 2009. The Republican budget proposal would have cut 430,000 children.

To give the sons and daughters of the wealthiest 2% of Americans even more of a head start than they already enjoy, by repealing the estate tax, while cutting hundreds of thousands of poor children from Head Start - now that really would be unfair.

John Miller, a member of the Dollars & Sense collective, teaches economics at Wheaton College.

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