urban institute nonprofit social and economic policy research

Forum on the Estate Tax

Document date: January 14, 2003
Released online: January 14, 2003

Featured Speaker:
William Gates, Sr., Bill and Melinda Gates Foundation

Robert Reischauer, Urban Institute

Bruce Bartlett, National Center for Policy Analysis
Len Burman, Urban Institute
William Gale, Brookings Institution
Raymond Scheppach, National Governors Association

ROBERT REISCHAUER, Urban Institute: As most of you know, William Gates Sr. is the cochairman of the Bill and Melinda Gates Foundation in Seattle. He is a lawyer who practiced for some 48 years before his retirement and was a founding partner of Preston, Gates and Ellis, which is a Seattle law firm. He is a member of the board of regents of University of Washington and a trustee of a number of organizations, including the National Board of the United Way. After Mr. Gates's remarks we will have a panel discussion. I will introduce the panelists at that time and then we will move on to questions from the audience. So, without further ado, let me give you Mr. Gates.

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: Thank you. Good morning. It's certainly a pleasure to have an opportunity to talk to you all about this really very important issue. There's so much misinformation about federal estate tax out there that it's really hard to know where to start, but it does seem to me that the one critical starting point that anyone who has an interest in understanding what the argument is about is to understand that it is a tax which is applied to a very, very small number of Americans. Under the current system some 2 percent of Americans who die actually file an estate tax return and pay a tax.

The discussion today, of course, has at its base the need for some reform, some liberalization, and most particularly in terms of the exempt amount, and depending a little bit on where that number lands, the number 2 percent goes down to as little as three-tenths of 1 percent. That would be the case when the current bill finally arrives at the $3.5 million exemption, then the number of people paying estate tax in our country in any given year would be three-tenths of 1 percent of those who die.

It seems to me that that particular prospect needs to be addressed. It seems to me that there might well be a sense that someone would say, "Do we want a tax in this country that applies to such a small number of people? Is this a thing that is consistent with our basic principles?" And let me talk about that for a minute. I grew up with a sense that society at large, in this country at least, was accepting of the notion of progressive taxation, that it made sense to our country and to its economy that taxation of wealthier people would be at higher rates than taxation of people in lower income levels or lower net worth levels. I don't know whether that is still an accepted thing. It seems to me that there is some change in that thinking, that people are less comfortable with that. And I'd like to speak to that for just a moment.

Let's talk about the question of why people are wealthy. There is a myth that it's a function of enormous personal attributes. There's a myth that achieving wealth is a function of personal intelligence and energy and thus that the product of that intelligence and energy being wealth is the sole and exclusive possession of the person who developed and earned it. And that myth is so egregious. It's just egregious. You know when you start off with a proposition, let's take our mythical hero and as Warren Buffet loves to say, let's take this person and instead of having him born in the District of Columbia, let's have him born in Abuja, Nigeria, and let's reexamine his life in that setting and let's look at what his net worth turns out to be when he or she dies. And of course the answer is zero.

What is the difference? The difference is being an American. We live in a place which is orderly. We live in a place which has markets that you can count on. Next Tuesday is going to be very much like today and the Tuesday after that. This is an orderly, stable place. It's a place where markets work because there is legal structure to support it. It's a place where people can own property and protect it. It's a place that has a court system that works. It's a place that has basically a government that works, so that you have the opportunity to think and to plan and to build and to create.

To me, the thing that is left out of that equation, you know, the orderliness, the stability, the markets, those things are arguably a bit indirect. There are some things that our government does with its tax money which directly create personal wealth and that is the enormous federal research activity. Do you know there would not be an Internet but for federal research money? There would not be new biotechnological companies but for the federal research effort. There would not be an examination of the human genome without the federal research effort. In those university laboratories is the seed of the health of our economy.

We have a wonderfully robust economy, which may be a gutsy thing to say on a Tuesday in January 2003, but in fact it is an enormously robust economy, and the individual wealth which is generated in this economy is, in my judgment, and I doubt that there is much that anyone could disagree with about this, is a function of the innovative businesses which are created as a result of federal research. But you understand that the people who benefit from that research get it free. The universities own it under federal law. And the universities have the ability to license it, even the professors who are in many cases the inventors generate a direct personal stake in the products of that research. So, if somebody starts a software company or a biotechnology company, or even if somebody owns a building in downtown Washington which you rent to those people, it starts from the same place. It starts from this incredible research activity which is going on with federal money.

That leads me to a very simple conclusion. I think that people who have the good fortune, the skill, the luck to become wealthy in our country simply have a debt, simply have a debt to the source of their opportunity. So I just don't see any problem with an estate tax which recovers from those folks at the time of their death, and at the time of the transfer of that wealth to their progeny or wherever, of imposing a tax which in some part recovers and generates payment of what seems to me to be a very clear and simple obligation. That is why so many of us feel that this is not only an appropriate tax, it strikes me as about the fairest of all. It's the most progressive element of the federal tax system. It is a tax which is based on a simple proposition, that if you achieve enormous benefit as a result of somebody else's effort then there is at least an implied indebtedness.

I haven't even mentioned another element of this, which is huge. Imagine if you will, once again let me use Abuja as a place; imagine if you will having in your possession a wonderful invention of a new pharmaceutical which you want to manufacture and promote and you're in Abuja. Now, where do you find somebody to work in your place to help you create this? Where is the expertise? It's not there. You couldn't do it. But in this country you just put up a flag and here are all these well-trained, bright young people, eager to have a stock option or whatever the heck it is, and they'll come work for you and they'll help you get that pharmaceutical out on the market. Where did they come from? They came from a subsidized education. If you don't have that cadre of skill and training, you can't do business, regardless of how energetic, how intelligent, or how perceptive you may be.

Our country, it seems to me, needs to face up to a simple proposition, that one of the ways that we support the things that the country, the conditions that it creates for our economy and for the opportunity for people to become wealthy, to live a comfortable, wonderful life in which because of their resources they have this huge array of choices before them every day when they get up in the morning. It seems to me so simple that we should impose a tax on those folks' wealth when they pass on, to say nothing—to say nothing of the, in my judgment, foolishness of allowing free passage of that wealth to their offspring, which is no good for anybody.

Let me take one more minute and tell you my fable. My fable is that God has, like so many of us, had an excessive investment in the dot-com stocks and His treasury has diminished substantially and He has a need to replenish His funds. And He's worried quite a bit about this, and suddenly it occurs to Him that, being a long-range thinker, that there is a way of solving this problem. So He looks around and He finds the two spirits of the next two children to be born and He calls them into His office. He says, "Now you folks are about to be born and I have one spot in America and I have another spot in Western Africa.

"What I'm going to do is I'm going to auction off the birth in America. So I'm going to hand you each a piece of paper and you write on that piece of paper how much of your net worth you're willing to cede to my treasury on the day of your death, and the one of you that writes down the highest percentage will get the spot in America." So He hands them each a piece of paper.

And you're sitting over in the corner watching this and you say to yourself, "He's not going to get anywhere with this," or "She's not going to get anywhere with this because they're both going to write down 100 percent." So my question is, what is it worth to be an American? Thank you.

ROBERT REISCHAUER, Urban Institute: Thank you very much.

We're going to now move on and have a discussion with a very distinguished panel. I will introduce the panel. After the panel discussion we'll take questions from the audience. When we go to questions I ask you to wait until a microphone comes to you after I've recognized you, and please identify yourself. I will introduce the panel from my right, and start with Len Burman, who is a senior fellow here at the Urban Institute and is the codirector of the Urban-Brookings Tax Policy Center. Len was a deputy assistant secretary for tax policy in the Treasury during the Clinton administration. He has also authored many papers in other pieces on tax policy, most notably a book on the taxation of capital gains.

Next to Len is Bruce Bartlett, who's the senior fellow at the National Center for Policy Analysis and a syndicated columnist in the Washington Times and New York Post and other newspapers. He also served as a deputy assistant secretary at Treasury for economic policy and was a senior policy analyst in the White House.

Next to him is Bill Gale, who is a senior fellow at the Brookings Institution, who holds the Arjay and Francis Miller chair and is codirector of the Tax Policy Center as well. Bill taught at UCLA and was on the staff of the Council of Economic Advisers and is the coeditor of Re-Thinking Estate and Gift Taxation.

Last but not least is Ray Scheppach, who is the executive director of the National Governors Association, where he's been for almost two decades. Before that Ray was the deputy director of the Congressional Budget Office and is the author or coauthor of four books and has been involved in the issue for some time.

Let me start by asking Bruce a question, which is, how do you think the estate tax affects the incentives to work and save, both by decedents and heirs?

BRUCE BARTLETT, National Center for Policy Analysis: Well, I think that once you've passed a point in your life where you have enough for yourself, a principal motive for continuing to work and save and invest late in your life, if you're relatively well-to-do, is precisely to have something to leave to your children. So in that sense I think one can say that the incentive effects are in effect to add the estate tax rate to whatever the income tax rate is, which puts it up into a very high, prohibitive range for a broad range of people.

Now there are negative effects and I'm perfectly willing to concede these negative effects on the decedents from receiving—the heirs, to the recipients of the estate—to receiving wealth that they in effect didn't work for, and these problems are well documented. But the fact of the matter is that one of the reasons why wealth isn't perpetuated in this country past more than about two generations is precisely because they piss the money away and they make bad investments. So it's relatively rare for a second or third generation to take over the company business and do anywhere near as well as the founders did. There are some exceptions of course, but there are a lot of others where things don't work out, and that seems to me the natural workings of the marketplace are working to break up wealth precisely for this purpose.

I think that—and here's another point, is that because we have high estate tax rates, it encourages an enormous amount of estate planning, and one of the key things in any estate plan is planned giving to—you can give, what, $11,000 a year under current law to anybody per year free of estate tax. So if you have a couple of kids, they're married, they've got a couple of kids, you can give an awful lot of money away completely free of estate tax, and this encourages people to give this money very early in their life rather than waiting until you're dead, that may magnify the negative incentive effects of wealth that is not in any way prevented by the existence of an estate tax, but quite the contrary, the estate tax contributes to those negative effects.

I think that there are negative effects to doing something and to doing nothing, and we need to make a judgment and not just pretend that it's all in one direction.

ROBERT REISCHAUER, Urban Institute: Thank you. Len, do you have anything you want to add?

LEN BURMAN, Urban Institute: There is some economic research that has been brought to bear on this question and in general it's somewhat consistent with what Bruce said. There seems to be a small negative effect on work and saving among the decedents, but it's very small. There are actually estimates on both sides. The evidence that's unambiguous is the effect on heirs. There are a number of studies that show that those who expect to receive large inheritances save less and work less than they otherwise would.

There's a quote from Andrew Carnegie in 1891 that I love. "The parent who leaves a son enormous wealth generally deadens the talents and energies of the son and tempts him to lead a less useful and less worthy life than he otherwise would." Basically the bottom line is that because of the offsetting effects on the heirs and decedents, it's unlikely that the estate tax has much of an effect on overall work and saving.

ROBERT REISCHAUER, Urban Institute: Let me move on and ask Bill Gale, who has done some interesting new research on the topic, to summarize what the impact of repeal of the estate tax might be on charitable contributions.

WILLIAM GALE, Brookings Institution: Thanks, Bob. The estate tax affects charitable contributions in several ways. First there's a deduction in the estate tax for charitable giving. A decedent estate who wants to give a dollar to charity is only giving up one minus the estate tax rate in terms of how much they could give to their child or to anyone else other than their spouse. So that deduction is unlimited and it obviously encourages charitable giving.

If you repeal the estate tax, you would repeal that incentive to give. You would also presumably raise people's after-tax wealth, even without any behavioral change because you were removing the tax. So those two effects, of course, work in opposite directions. The higher price of giving would allow for less giving. The higher after-tax wealth would allow for more giving. In addition, the actual level of wealth might go up for the reasons that Len and Bruce just discussed.

In the preliminary work that John Buckley and I have done with Joel Slemrod, we have found that the price effect dominates the other two effects, so that you get a decline in charitable giving upon repeal. That's a sort of holding everything else constant type of result. One of the things you want to think about is that if you give your money away while you're alive to a charity, you not only reduce your income tax, you reduce your estate tax because you've already given the money away. So you get a double deduction for giving while alive, and if you repeal the estate tax then you reduce the incentive to give while alive as well. There's a reduction in giving while alive that should be occurring as well but we don't capture it.

Finally, there's sort of a mental aspect to all this. If people planning their estates tend to plan their charitable bequests early on then the absence of planning that might arise from an absence of an estate tax would presumably reduce people's focus on giving at death as well. So the bottom line is it's hard to give a single number, but not only our own study but much of the rest of the literature suggests that the net effect of all these things would be to reduce charitable giving.

ROBERT REISCHAUER, Urban Institute: Anybody else want to add anything to that?

BRUCE BARTLETT, National Center for Policy Analysis: I'll say something. I think that the way a lot of people look at this issue is they say to themselves, well, look, the top income tax rate is 38 percent, so that's the price of giving during life is I save 38 cents. But the top estate tax rate I think is this year 45 percent. It's higher, so they say, well, instead of giving during my life and saving only 38 percent, I'll bunch my lifetime charitable contributions that I would otherwise make on a year-by-year basis and make it all in one lump sum at the end of my life where I save 45 percent.

So I think that a lot of what you pick up is just timing, and I think that a lot of people are encouraged to give in their estates who would otherwise give that same money during their lives. I think mostly what you're going to get if you abolish the estate tax is a rejiggering of the time of giving. I think that it may be true that there is some giving that absolutely would not take place without an estate tax, but I don't think the order of magnitude is very large and I don't think it's really something to worry about.

WILLIAM GALE, Brookings Institution: Bruce, the story that you're telling is that this person with a multimillion dollar estate that's planning out charitable bequests never consults a financial planner, who would tell him that the logic that you just described is completely backwards, that if you give regularly you get a 45 percent saving, if you give now you get a 38 percent saving. That's wrong. If you give now you get the 38 percent saving now and the 45 percent saving later. That's sort of very elementary financial planning. It strikes me that if people are doing that then they've got much bigger problems than the estate tax. (Laughter.)

BRUCE BARTLETT, National Center for Policy Analysis: That may be true for very wealthy people who have estate planning, but that's really at the heart of one of my arguments against the estate tax, which is that if you're willing to take the time and the effort and the expense of doing careful estate planning, you can essentially make the estate tax voluntary. The title of a famous book from your organization. And I think that a lot of what bothers people about the estate tax is that it does fall on people who have relatively modest wealth. I think that those people do not get estate planning. They often pay higher effective tax rates than people whose wealth is much higher, precisely because they don't engage in estate planning.

I think that having a tax system that is so complicated and burdensome that it falls more heavily on the ignorant than on the sophisticated is per se a bad tax.

LEN BURMAN, Urban Institute: It would be a good idea to raise the exemption level, but the estate tax only really applies to 2 percent of decedents, so it's not one that's applying to a broad cross-section of the population. The other thing, the idea that the estate tax is essentially a voluntary tax for people who do estate tax planning, I think is totally in contradiction to the data. The vast majority of the revenue comes from very wealthy people. Half of the revenue comes from something like 6 percent of decedents, who have estates of larger than $5 million. If they could avoid the tax by planning, unless they really don't care about the tax at all, then presumably that revenue would be a lot less.

WILLIAM GALE, Brookings Institution: I want to pitch in on this for a second, too. The notion that the estate tax is voluntary, Bruce mentioned this book written by Cooper in the 1970s. There have been a lot of reforms to the estate tax since then, many of which closed some of the loopholes that he discussed.

If the estate tax were really voluntary, there wouldn't be vitriolic opposition to it. People just wouldn't pay it. I mean, you think about it, if someone says, you have a choice to do this or you can not do it if you want to, that wouldn't cause people to go out and express the emotion about the estate tax that they've expressed. The reason some people are so upset about the estate tax, precisely because it's not voluntary. To argue that it's voluntary you'd have to be saying that people are contributing $40 billion a year on a voluntary basis.

ROBERT REISCHAUER, Urban Institute: But do we have any information on the fraction of estates, let's say of over $10 million that pay the estate tax? Is it 98 percent or is it 65 percent?

WILLIAM GALE, Brookings Institution: Well, there's a first-to-die and a second-to-die issue. Spousal bequests are all deductible, so a lot of the untaxable estates are first-to-die spouses. I don't have the exact numbers on second-to-die spouses. But the main way that people get out of paying the tax, if you look at the data on nontaxable estates, almost all the deductions are spousal contributions and charitable contributions.

Now that doesn't cover estates where the wealth never shows up in the first place, and I don't know how to measure that, but it doesn't strike me that—look, all taxes are voluntary in some sense, right? You could avoid the income tax by not working, not getting any income, right? And the estate tax certainly has elements that you can avoid, but it strikes me that the estate tax is having more than a voluntary effect on people's tax paying.

BRUCE BARTLETT, National Center for Policy Analysis: I think that it's very telling that the dominant political force that supports estate tax repeal is people who have very modest wealth. I mean, it's not the ultra-wealthy in this country who are supporting estate tax repeal. I think that those people are more than happy to pay the tax in many cases, such as our distinguished guest here. But I think that a lot of people, farmers, small business people, people who have simply been frugal and saved carefully throughout their lives, they found themselves with homes that were worth well more than the estate tax exemption, they found themselves paying—I think the bottom rate was 18 percent. They didn't believe they were wealthy in any conception of the term whatsoever. They resented the idea that they have to pay that tax. You hit the top estate tax rate at a fairly low level as wealth as well.

So I think that the people who want to keep the estate tax have to fundamentally figure out why it is that people who in their minds are not paying very much tax feel so strongly about this and why it is that public opinion polls routinely show that 70 percent of the American people favor repeal of the estate tax.

ROBERT REISCHAUER, Urban Institute: That raises a question I wanted to ask you, Mr. Gates, and that is why do 70 percent or some large fraction of the American people favor repeal when they are totally unaffected by it?

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: Well, I think we have over the last five years witnessed one of the most astounding—maybe not astounding but one of the most interesting examples of the manipulation of public opinion that has ever occurred. We'll never prove this one way or the other, Mr. Bartlett, but I don't believe that people who the value of their homes has just gotten above the exemption level are the people who are financing this campaign. The hundreds of thousands of dollars which has been contributed to it are coming from folks like Mars Candy and Gallo Wine and so forth. They're coming from them because they don't want to pay the estate tax. These are very wealthy people who don't want to pay the estate tax.

Now one of the things they might have done, of course, would have been to have bought an ad with a teenage kid there in his Armani suit who would say, "We don't want an estate tax here because I won't be able to inherit the $60 million share of that factory which is coming to me, so please, folks, let's all get together and repeal the estate tax." They had to find somebody else to put in that ad. And they found the farmer and the mythical small businessman.

I think it's correct to say that those folks are—well, the polls are clear that people have become persuaded that this is a bad tax. Part of it is just the nomenclature. The story is, as we say in the book, that in these headquarters that if anybody was caught using the expression "estate tax," instead of "death tax," that they had to buy pizza that afternoon for everybody in the crowd. That discipline has been extraordinarily effective.

Now this is a great country and that's the way this country works. People are entitled to put on campaigns and spend their money to put on campaigns. The only problem is they've been out there on the field with their football running up and down scoring touchdowns, and the rest of us have been somewhere else. So now there are some of us who at least in the second half or the fourth quarter, want to get out on the field and see if we can't set up a little defense, maybe even intercept a pass or two.

ROBERT REISCHAUER, Urban Institute: Well, I think it might be overtime at this point. (Laughter.)

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: If it's overtime, it's over because it was not a tie.

ROBERT REISCHAUER, Urban Institute: It has been repealed and came back to life due to the Cinderella coach clause in the 2001 Tax Act.

BRUCE BARTLETT, National Center for Policy Analysis : I certainly don't deny that there are a few very wealthy people who don't want to pay the estate tax and have helped finance an effort to abolish the tax. But the amount of money involved in this effort is in the very low millions, and large corporations spend untold billions every year in advertising trying to get people to change their minds about various things, to buy this product or that product. It's simply not plausible to believe that this tiny little effort is the primary reason why a vast majority of people support repeal of the estate tax.

Now I admit that whoever came up with the idea of calling it a death tax was very clever, but that's not enough to give the answer. In fact, Mr. Gates, I heard you talk last night, and you in fact gave the answer, in my opinion, which is—I forget the numbers you used, or maybe it was your coauthor, that a large percent—what do you say, [that] 19 percent of people believe that they are in the top 1 percent, and 20 percent more believe that they will potentially be in the top 1 percent of income at some point in their lives? That is the key reason. People are not looking at their current circumstances. They are looking at their future circumstances, and maybe they are extremely naïve and optimistic about what is potentially possible, but I do believe that going back to de Tocqueville, the core American belief is in the mobility of income, the ability of people to rise up, the fact that we don't have a landed aristocracy that is protected by law from competition.

All you have to do is look at all those dot-com billionaires who are now working waiting tables. We do have a lot of people that get rich and get poor, and it changes all the time. I think that this churning and mobility is the key reason why people support tax cuts, estate tax abolition, and other kinds of policies of that sort.

ROBERT REISCHAUER, Urban Institute: Let me bring Ray into this. You're a spokesperson for the states, and the states are in pretty bad shape, and some states get modest amounts from the credits that apply to the estate tax. What's likely to happen if there is a repeal? What folks are likely to be affected the most? And is there a danger that we're going to see a proliferation of state and inheritance tax policies at the state level that make a jumble out of the current system?

RAYMOND SCHEPPACH, National Governors Association: It's interesting. We used to always hold this up as one example where you have full integration between federal and state taxes because you're going to have 100 percent credit from the state taxes paid against the federal tax. And it's interesting, I think, when you go back when this was put into place in 1926, people tell me that there were two reasons. One was the federal government was getting in too much money and this was after the first World War and that's how they wanted to cut their own revenues. But more importantly, they really wanted to stabilize this whole issue with respect to different states jockeying around to have wealthy people move into their states and they could in fact get the inheritance tax.

The problem we have, of course, is not only are we in difficult financial shape, but the credit of course was phased out not over ten years but essentially over four or five years. So we've really paid the cost on this in the near term and we originally estimated it would probably cost states $19 [billion] to $23 billion. At the end of the day, because I think we had about 30 states that their only inheritance tax was linked to the federal tax, so our sense is that as this gets phased out, we'll have about 20 states that may have some type of tax and make some adjustments.

However, if it's entirely phased out then I question whether states are in fact going to be able to do this, partly because of how much information is the federal government going to make available for enforcement and so on, but second, you're into this competition, and I think what would happen is you'd see a lot more shelters of people setting up entities in other states where there's no tax.

So my sense is that if the federal government really phases this out, I question that states will have the option. So it's sort of like the dividend tax, the same problem. If the federal government cuts the rate, that's one thing. But if they phase it out and never collect the information, that's a much bigger problem. So this is how it is in the short run, and they may in the long run eliminate it as a potential tax source.

ROBERT REISCHAUER, Urban Institute: Would we expect to see mobility? I mean, if the states handle this in very different ways, would we expect to see flows of dying people across state lines? Anybody?

WILLIAM GALE, Brookings Institution: You would expect to see resources moving in name or title. Whether that means people actually moved, that's probably a bigger—that's probably a more difficult margin to adjust.

LEN BURMAN, Urban Institute: In fact very few people—getting close to death, it would be easy to get to, you know, my official residence isn't New York but Florida or Texas.

BRUCE BARTLETT, National Center for Policy Analysis: I think it was very much in the design of that particular feature of the law that they wanted to encourage mobility and to encourage competition between the states to have the lowest possible state estate tax rates.

LEN BURMAN, Urban Institute: But that's a little bit disturbing because the state tax systems are highly regressive. There's a wonderful new study by Citizens for Tax Justice on the distribution of state tax liabilities and they follow it as a percentage of income. So the estate tax is by far the most progressive part of the state tax system, and actually a much more important contributor to the overall at state level and federal level, where we rely much more on income taxes. Remember, states don't have income tax. They rely much more heavily on sales taxes.

But if the estate tax is driven out because of this competition, the overall burden on people in the states is going to be too much more reliance on regressive taxes like sales and property taxes.

ROBERT REISCHAUER, Urban Institute: Ray, do you by any chance know the fraction of state revenue that comes from the estate tax?

RAYMOND SCHEPPACH, National Governors Association: Very small. I think it's only about $6 billion right now out of probably $500 billion, so it's pretty small.

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: The state where I live, it was $100 million in the last full year and man, oh, man, when we looked at that $100 million, it varies a lot. Actually the states of New York and California have made huge estate tax collections on the state credit. In the days before the state credit mechanism—I'm unable to quantify this, but there is—I know a number of instances of people who refrained from establishing residence in California because of the relatively higher estate tax that was exacted in that state than was the case in the state of Washington.

ROBERT REISCHAUER, Urban Institute: I'd like to ask Len, who's written a lot about capital gains taxation, about how this relates to repeal of the estate tax and we have the estate tax often justified as a stopgap for what is a porous income tax, and the repeal that was adopted two years ago included a carryover basis for capital gains. And the question is, did that solve the problem, or does that solve this problem or not.

LEN BURMAN, Urban Institute: Good point. Bruce and I actually were on a panel five years ago when we both agreed that taxing capital gains at death would go significantly towards addressing a major concern about the estate tax, which is that it's the only way you're taxing accrued unrealized capital gains. Under current law when you die, and if you hold assets that have appreciated in value, you don't pay any tax on capital gain and it's as if they had bought them from you at the date of death. That could be enormous, especially for someone who's invested in a very profitable business, have the money come out in capital gains, that could be an enormous tax loophole.

The carryover—there are two issues. One, of course, is that replacing the estate tax with taxation of capital gains at death would about offset the revenues. According to JCT, nontaxation of capital gains at death costs about $37 billion in 2002. However, a large percentage of that is paid by people who aren't subject to the estate tax currently. But politically it wouldn't be feasible to just replace the estate tax with taxing gains at death, and if you have the same kind of exemptions you'd be cutting the revenue by a lot.

The thing as actually enacted is extremely complicated and will raise only a tiny fraction of the revenue of actually taxing gains at death. This carryover basis thing, which says that if you inherit something from someone else, you don't get the step-up in basis that the purchase price of the asset when you sell it is the purchase price paid by the decedent.

However, if it was going to be carried over from generation to generation to generation, it would be extremely hard to actually determine what the basis was.

The bigger problem is that to make sure that nobody would be subject to the estate tax, the carryover basis provision, who was exempt from the estate tax now. They put a huge exemption of $1.3 million of capital gains per decedent and then there's a $3 million spousal exemption. This is good news for estate lawyers who might have been concerned that their business would fall off if the estate tax was repealed because planning for the allocation of basis so as to minimize your tax liability is a problem that probably requires a super-computer and decades of legal training.

Basically you can sort of imagine people rearranging their portfolios, making sure that they donate the assets with the most capital gains to charity, and then convoluted schemes to take maximum advantage of carryover basis. But the best scheme, of course, is if you can arrange to have serial marriages so one person can marry another can marry another can marry another. It doesn't really solve the problem. A theoretically attractive option would be to just replace the income tax with a truly comprehensive tax, where you tax capital gains as they're being earned rather than when assets are being sold. That's fairly straightforward for corporate stock. It would be difficult for things like family businesses and farms.

There's an alternative. In the Netherlands where they actually tax computed income from capital assets every year, and that at least in principle would solve the problem, but that would be a whole new system of taxation that my guess is wouldn't be politically any more attractive than the estate tax.

ROBERT REISCHAUER, Urban Institute: Bruce?

BRUCE BARTLETT, National Center for Policy Analysis: I'm glad to see some discussion of this because a lot of what I read in the pro-estate tax literature, such as this book, doesn't mention carryover basis at all. The implication is the estate tax goes away and it's being replaced by nothing, when in fact it's being replaced by taxing capital gains at death, which is not nothing.

Now having said that, I think that the way they chose to do it is the wrong way. I think the carryover basis, we tried this. In 1976 we enacted this exact provision into law and it was so complicated they repealed it four years later and it never actually took effect. I think you're going to have the same problems, and I think that people glossing over this think now we've got this 10-year phase-in period and people are sort of put on notice, but I think the day that somebody actually has to file a carryover basis return, you're going to have the same stink that you had after '76.

I think a more sensible way to do it is the way the Canadians do it, which is they treat death as a de facto realization of all gains at that time and you calculate the full tax on that date, and you could perhaps allow people some phase-in for some period of years in which to pay the tax, adjust it for interest or something like that. I think this idea of carrying over the basis year after year after year, generation after generation is just insane. It can't be done. The data doesn't exist. They're going to have to create some kind of safe harbor. I don't know what that could be. Maybe just some alternate flat tax on gross assets or something. I don't know. But the way they're trying to do it won't work at all.

ROBERT REISCHAUER, Urban Institute: What happened with the Canadian system, if we adopted it, almost any decedent with assets would have to pay a tax.

BRUCE BARTLETT, National Center for Policy Analysis: That's right.

ROBERT REISCHAUER, Urban Institute: And so rather than two percent of decedents, you might get 40 percent of decedents.

(Simultaneous discussion)

WILLIAM GALE, Brookings Institution: The current rate on the income tax, when you die you'd have to pay taxes I believe on IRA's and your 401(k)s, and that obviously applies to a broad swath of the population. The fact that there's not vitriolic outrage about that being a death tax suggests that the vitriolic outrage that's out there about the so-called death tax is a little disingenuous. But taxation at death, treating death as a realization event would be similar to the way I believe IRA's and 401(k)s are treated now.

The other thing I want to add here, because of the basis step-up in capital gains we have a so-called death tax for 2 percent of the population, falling to .3 percent of the population by 2009. We have a death subsidy for a much bigger proportion of the population less all the people that get the basis step-up on capital gains but don't owe any estate tax. So it's not only inappropriate to refer to the estate tax as a death tax for all the usual reasons, but for additional reasons that a lot of people get a subsidy via the provisions that govern taxation at death rather than a tax.

ROBERT REISCHAUER, Urban Institute: Do we have any idea what the magnitude of that is?

WILLIAM GALE, Brookings Institution: We could find out. Len told us that taxing capital gains at death generates about the same amount of revenues as the estate tax. That's if we tax all capital gains.

LEN BURMAN, Urban Institute: I think about half of capital gains escape tax either because the assets are held until death or donated to charity.

BRUCE BARTLETT, National Center for Policy Analysis: I'll say something radical here—I would favor full taxation of capital gains at death for this reason. I mean, I favor abolition of the capital gains tax, but if you're going to have a capital gains tax, it makes absolutely no sense to have this loophole because what it does is it creates a massive lock-in effect, which I think is very bad for capital markets, very bad for economic growth. I think if you had symmetrical treatment of capital gains during life and at death then people would be indifferent as to whether they pay the tax now or pay it later. You'd have an enormous unlocking of capital that I think would be very beneficial. So I'd tax all capital gains at death, as long as you have a capital gains tax.

ROBERT REISCHAUER, Urban Institute: Let me ask one last question and then we'll turn to the audience, and that is to ask Bill Gale whether the tax is worth a candle in a sense. We know the compliance costs are significant, the administrative burden is large. We have a lot of tax avoidance or tax minimization going on and the estate tax doesn't collect a huge amount of revenue. Is the economic loss from this kind of activity worth it?

WILLIAM GALE, Brookings Institution: In terms of the revenue that the estate tax collects, the way we present revenue figures in this town are very strange, so let me present the estate tax revenue in a slightly different way. Over the next 75 years if we kept the estate tax in 2001 provisions, the estate tax would raise more than half of the actuarial shortfall in Social Security. The estate tax raises a lot of money relative to programs that we think are very expensive to fix, which I think is the right metric. So that's point one.

Point two, in terms of the complexity and the avoidance, yes, there's a huge amount of it. There are two things going on here. One is that financial affairs are complicated and people have to do relatively complicated estate planning anyway. This is especially true in the small business sector, where you need a succession plan regardless of whether there's an estate tax. My impression is that estate tax lawyers and financial planners encourage people to lump all those things into one and convince their clients that this is all due to the estate tax. But any sort of reasoned thought process suggests that there's a whole lot of planning and succession issues that would take place even if there were no estate tax.

The other reason is the tax itself is designed in somewhat—it's asking for trouble to have really high rates and lots of loopholes. It would make much more sense to have a broader base and lower rates on the estate tax. There's no reason the estate tax couldn't be designed without these family partnership discounts and the minority valuation discounts and all this sort. You can go through in the book that Joel Slemrod and I edited a couple of years ago. There's a chapter by Richard Schmalbeck that just goes through all these different acronym trusts. You could probably get rid of 90 percent of them and tax a broad base at a relatively low rate and kill several birds with one stone.

BRUCE BARTLETT, National Center for Policy Analysis: Can you address Bernheim's argument that you lose more—that estate planning reduces income tax revenues by more than the estate tax raises?

WILLIAM GALE, Brookings Institution: Yes. He didn't actually say that. Bernheim points out that a lot of the avoidance techniques for the estate tax also turn into avoidance techniques for the income tax. I mentioned one of them earlier. If you give the money away to charity while you're alive, you not only reduce your future estate tax liability, you reduce your current income tax liability.

What Doug did was very cleverly and ingeniously sort of go through a bunch of these things and argue that the potential loss, the potential revenue loss from these added avoidance mechanisms are roughly the order of magnitude of what was being reported as estate tax revenues.

I guess there are a couple of things to point out about this. First thing is, as a qualitative point, that estate tax avoidance often reduces income tax avoidance, it's absolutely right. Second, Doug was focusing on income tax avoidance in the pre-1986 income tax system, so you have many more shelters in the income tax and much higher tax rates in the income tax.

The third point I guess is a lot of the features depend on quirky features in the estate tax that are not central to having an estate tax but have crept their way in there. The choice we face doesn't have to be between a poorly designed estate tax and no estate tax. It could be between a poorly designed estate tax and a well designed estate tax, and a well designed estate tax would not have many of the type of loopholes that Doug mentioned.

LEN BURMAN, Urban Institute: It goes the other way, which is that having a terminal tax would probably make certain kinds of income tax avoidance less attractive. So I think actually—this wasn't broken out, but my recollection from when I was at Treasury was that there's a lot of concern about repealing the estate tax could actually result in a reduction in income tax revenues because, and this is something the lawyers are concerned about, that there will be the invention of tax sheltering mechanisms that would work a lot better without an estate tax. Enacting carryover basis was actually necessary to at least limit those because if capital gains weren't taxed at death, you could imagine tremendous tax shelter activity of just converting ordinary income into capital gains and then it would never be subject to any kind of reconciliation under either the income tax or the estate tax.

BRUCE BARTLETT, National Center for Policy Analysis: Still, you wouldn't deny that maybe not the order of magnitude but the thrust of what Bernheim said has to be true, that the net revenue from the estate tax is even less than the 1.1 percent or whatever it is we get because there is some degree of interaction. I mean, charitable remainder trusts are one of the most popular ways of reducing your estate tax.

WILLIAM GALE, Brookings Institution: Len is saying that it goes both ways. In 2001 when there were preliminary versions of estate tax repeal put on the table, JCT estimated that the revenue cost was like two or three times the actual revenue yield of the estate tax because there would be this shifting in the other direction that Len is talking about. So I'm not sure it's obvious that current revenue yield is an overstatement of the net revenue yield. It could be the other way.

LEN BURMAN, Urban Institute: If you compare CBO's estate tax baseline with the revenue estimates for repeal, there's not very much difference. There's not a big income tax offset built into the estimates.

ROBERT REISCHAUER, Urban Institute: Mr. Gates?

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: I think this discussion is interesting but it omits the essential fact, which is that the increase in personal net worth in this country over the last 20 years is enormous, is absolutely enormous. To talk in terms of the estate tax having collected $30 billion three years ago or whatever it was in the last figures, it has nothing to do with what we're looking at. We're talking in terms of—what is the number, $47 trillion we're talking about being inherited over the next 50 years or so, and just the current structure of the estate tax we're talking about annual collections of $150 [billion] and $200 billion level.

As Mr. Gale pointed out, it's clear that there's enough money there to cover more than half of the anticipated deficit in the Social Security fund. So we're talking about a tax which hasn't seen its day yet. If we just hang onto it, we'll do well.

ROBERT REISCHAUER, Urban Institute: With that let's go to the audience, and as I said, identify yourself and wait for the microphone.

BOB LINDSAY, Congressional Budget Office: Question for Bruce concerning the complexity of carryover basis. You said you favor taxing capital gains tax. That requires knowing the basis of the decedent's assets at death. At the time that someone inherits an asset you assume some basis. If you can know the decedent's basis, you would know that. If you assume a step-up in basis, you would know that. Either number has to be carried over, has to be used by the inheritor in the future. What is more complex about carryover basis than step-up in basis?

BRUCE BARTLETT, National Center for Policy Analysis: Well, because the further away you get from the original decedent, the original purchaser of the assets, the harder it is. That's all. I mean it's complicated either way. But I think once you start passing things along from one generation to the next, I think it just increases the degree of complexity. That's all.

PETER ORSZAG, Brookings Institution. I wanted to ask Mr. Gates and the rest of the panel about coming on the field in the fourth quarter, in overtime, or what have you, and whether instead we should be thinking about switching the field. And in particular whether switching the estate tax to an inheritance tax would deal with this political impression that so many people will pay the "death tax."

Your motivation for the estate tax was very much geared toward the entrepreneur, him or herself, and not the inheritors of the estate. I'm just wondering if anyone has a perspective on whether the politics actually would be better, achieving many of the same goals with an inheritance tax, as many European countries have.

ROBERT REISCHAUER, Urban Institute: Peter, why don't you describe what an inheritance tax is as opposed to—

PETER ORSZAG, Brookings Institution: The point being that instead of the tax being paid technically by the state, instead the estate is inherited by the heirs and they pay the tax. Economists will argue that the legal incidence is perhaps not particularly relevant to the economic incidence, but it would perhaps change the debate. You could no longer label that a death tax. That is, that's an inheritance tax but the question is—

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: It's an Abuja tax.

PETER ORSZAG, Brookings Institution: It's an Abuja tax, or an Armani tax, or whatever the example was of the child who would be receiving it rather than the entrepreneur who built it up.

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: I think that's possible. You know, the actual mechanics don't change a bit. There's still an obligation of the executor to pay the tax, whether it's classified as an inheritance tax or an estate tax. But in terms of the political passage, I think that's something to think about. The tax is on the heirs. There's no question about that. They're the ones who are suffering the economic impact of paying the tax.

LEN BURMAN, Urban Institute: To the extent that there's a major concern behind the estate tax is to break up enormous concentrations of wealth, it really does make sense to turn it into an inheritance tax. If you divide up $20 million, say among your 10 children and 10 of your grandchildren and there's a million dollar exemption, you wouldn't pay any tax. None of them would pay any tax. So to the extent that you break it up into small pieces and there's not the transferal of a billion dollar estate to one or two heirs, I think it makes sense. It would raise some problems for compliance of administration, but it makes sense to me.

BRUCE BARTLETT, National Center for Policy Analysis: One thing you could do is what Henry Simons suggests in his book "Personal Income Taxation," which is simply treat gifts as income. Or get rid of the estate tax, get rid of the inheritance tax, don't have anything. Just say if your father gives you $1 million, you have $1 million of income. You pay ordinary income tax rates and you get all the exemptions and whatever else you got on the income tax and it's just income. I think that's a perfectly good way to deal with this issue.

I do think that to the extent that the purpose of the estate tax is not just to raise revenue but to break up large fortunes, it makes a lot more sense to have an inheritance tax rather than an estate tax. Unfortunately in common debate in newspapers the two terms are treated as indistinguishable, and in fact there is a substantive difference between an estate tax and an inheritance tax that I wish got drawn out in the debate more.

ROBERT REISCHAUER, Urban Institute: But your inheritance tax would raise a huge amount of money compared to the estate tax.

BRUCE BARTLETT, National Center for Policy Analysis: I'm speaking theoretically here.

ROBERT REISCHAUER, Urban Institute: I thought you were then going to say, yes, but I want to abolish the income tax as well.

JANET BROWN: I'm one of those retired lucky moderately wealthy Americans who's done minimal estate planning. I wish one of you would clear up for me whether or not there really are these mythical farmers and small business people, and if there are, whether the alleged injustice against them couldn't be dealt with in some other way than by estate tax.

ROBERT REISCHAUER, Urban Institute: What you really want to know is if there are real ones, not mythical ones.

WILLIAM GALE, Brookings Institution : Yes, this is one of the great bait and switches in the estate tax debate. David Cay Johnston, a New York Times reporter went to, I think it's the America Farm Bureau Federation. It's the organization that was organizing opposition to the estate tax from farmers. He asked them, can you point to a single example of a family farm that's gone out of business because of the estate tax? They said no, but we're sure they're out there. This was in the New York Times. I believe it's cited in Mr. Gates's book, but I think this was in April 2001 or thereabouts.

The notion that we need to abolish the entire estate tax because of its impact on family farms is ludicrous, both because not many family farms are affected. Most of them are far below the threshold, especially the $7 million threshold that will apply in 2009, and in addition because even if we exempted all farm assets we'd be talking about 2 or 3 percent of the assets that are subject to the estate tax. So farms are not just the tail trying to wag the dog, they are the flea on the end of the tail trying to wag the dog.

There's a more complicated issue with small business because there are lots of different ways to—there's closely held stock. There's limited partnerships, there are actually ongoing proprietary concerns. A couple of things—one of them is that those things put together are only about 10 percent of assets that are an estate. They are distributed very heavily toward high-wealth estates, the $20-million-and-up category. The paper that Joel and I wrote a couple of years ago has these broken out by asset categories and asset level.

The point is that assets that are $1 million and less and $1.5 [million] and $2.5 million and less, the share of small business wealth in those assets is not very big. Most of the small businesses are in those categories. So you could exempt small businesses up to $7 million, just like other stuff is being exempted in 2009, and you would solve the vast portion of those problems.

Now thereb are still people like this guy in Seattle, the newspaper publisher who has $100 million in the family-owned business who's one of the rich guys who's campaigned very heavily to abolish the estate tax, by the way. He's in a situation where he's got $100 million of basically sweat equity in the company that's never been taxed. You have to ask, should it be taxed? It ought to be taxed at some point and it may be that he does have to bear a big estate tax burden. But the vast majority of small family businesses it's just not an issue, especially once you get to a $7 million exemption for a married couple, like we'll have in 2009.

BRUCE BARTLETT, National Center for Policy Analysis: This is an area where there's an awful lot of hyperbole on both sides. If, on the one hand, you're saying that large numbers of family farms will be lost and small businesses would have to be sold off, that's obviously not true. If, on the other hand, your standard is that the family farm has to be completely sold off, or the business has to be completely sold off and it's no longer held in the family in any way whatsoever, that's not true either. It's very common for farmers to have to sell out chunks of land to pay an estate tax bill and things of that sort. The family farm is still the family farm; it's a little less of a family farm than there used to be and things of that sort. Small businesses have to incur a lot of costs, especially in terms of life insurance. They have to carry huge life insurance policies to provide the liquidity that the estate needs at death to satisfy the estate tax liability. That's a dead-weight cost that the family has to bear for many, many years, long before the estate tax comes due. So they're sort of prepaying the estate tax, and that drains liquidity and capital out of companies and is very hurtful to them.

I think that there is a cost. It's just that it's a different cost than the one that tends to be portrayed in the press.

WILLIAM GALE, Brookings Institution: But suppose the exemption were $7 million for a married couple. How would we solve the vast majority of the problems that farmers and "small business" face?

BRUCE BARTLETT, National Center for Policy Analysis: Undoubtedly, but the problem is that we never would have gotten to a $7 million exemption level if somebody hadn't made the principled argument that we should get rid of the tax altogether. I was talking to Chuck Collins or somebody earlier, saying I think that I think the pro-estate tax crowd misplayed their hand. They waited too long to concede that a substantial reform of the estate tax was necessary and that a very large increase in exemption level was justified before the momentum for total repeal had gotten going.

I think now you're paying catch-up and that the other side is like a junkyard dog with a bone in its mouth. You can try and pull it out but you may lose an arm, and they're to going to give up for a $7 million exemption, which they might have done five years ago.

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: But it is an anomaly that they vote against the reform proposals. They vote against the reform proposals because they're afraid that they'll pass and they won't have an opportunity to repeal the whole thing. The motivation hasn't changed one bit. We completely overlook the fact that family businesses and family farms have 14 years to pay the tax. There's a very, very low interest rate. So the exaggerations in this area are enormous.

GENE SPERLING, Council on Foreign Relations, previously President Clinton's adviser: While I've been a recent partner in crime with Peter Orszag on several things, I'm going to show our diversity by disagreeing with the assumption that he underlines. I think we're getting to it here, which is that it is not the phrase "death tax" that has made this such a politically popular proposal to repeal the estate tax. The death tax was a phrase used to increase the misperception that this applies to many more people than it does.

So thinking that by changing from inheritance to death, etc., is going to change the political perception I think misses the case. What people need to do, and this is different than the game has been played. The game is changing, and what's changing now is that as the exemption goes up more and more, it will become clearer and clearer that it doesn't apply to people at $1 million, $1.5 million, $2 million. In that case I agree with Bruce Bartlett. The failure on our side was that we had never communicated clearly to people that if you're under $5 million, you don't pay a penny. I bet if you ask that misperception, they said under a Democratic proposal how much would you pay if you have a $3 [million], $4 million estate, the number of people that would say zero would be very small.

I think the real challenge for those of us who would like to see it at least stay at $5 [million] or $7 million is not simply the reform or the estate tax planning, etc. The simple message out there is if people can communicate, if you have under $5 [million] or under $7 million you don't pay a penny, and this is only about that increment above that, that is the real issue and the challenge.

Just as a final example and I'll stop, is that there was a CBS poll that was pretty interesting. Instead of saying, are you for or against, it said, do you believe that the estate tax should be repealed, or only very expensive estates should be taxed? That case was the first time I'd seen a poll go over 50 percent for taxing large estates. That, I think, is the issue.

I think the administration understands that. They understand that as it goes up every year, it will become clearer and clearer who repeal affects. I think their desire to get repeal permanent as quickly as possible shows they recognize this is where the game is, and those of us who would like to see the estate tax apply at the higher income have to spend more of our efforts telling people in the clearest possible message who it does not cover. That's not by using percentages. It's by saying, if you have an estate under this amount, you don't pay a penny. To me that is the clear goal of those of us who would like to be in the rearguard of Mr. Gates's and Mr. Collins's movement.

JOSH GORDON, Concord Coalition: Just to follow that up, what are the prospects for the political movement at this point, and if permanent repeal is passed this year or next year, would the movement end completely? Is the estate tax no longer on the agenda, or maybe just on the agenda of think tanks? What happens at this point?

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: Well, they keep coming around again trying to make repeal permanent, and they have this problem that you can't repeal the tax for more than 10 years if you don't have 60 votes in the Senate. The last time around they had 56 votes. That's why I talked ominously about being the fourth quarter. I'm not quite sure how to deal with your question of what happens then. If they invoke permanent repeal, I assume it would be in 2010 that there would not be an alteration of the current creeping schedule where exemptions go up and rates go down, that it would be a simple matter of both getting out of the statute that part that says the estate tax comes back in January 1, 2011.

Those of us who are on the other side of that argument would like to see the statute changed in some ways. For example, that the exemption change might remain in place, or even be accelerated. There are varying views about what the rate ought to be. There's not an awful lot to be said between 45 percent and 50 percent, and on the fringe there are some who think estate tax credit principal ought to be put back into this scheme. Those are the alternatives.

ROBERT REISCHAUER, Urban Institute: Ray, you spend a lot of time on Capitol Hill. Do you have some guess about it?

RAYMOND SCHEPPACH, National Governors Association: My sense is that it's an uphill... I think it's a matter of time whether they do it before or they do it when it's currently scheduled. I think they're just going to keep coming at it.

BRUCE BARTLETT, National Center for Policy Analysis: I have a suspicion that this could turn into one of those things like the R&D credit, where it keeps expiring and then they keep extending it another year or two. I have a feeling that this issue is not going to be resolved by the end of 2010, and at the last minute they pass an extension of the repeal for another year, or something really screwy like that, which is the most insane possible system you can imagine.

LEN BURMAN, Urban Institute: Huge fundraising mechanisms, too.

WILLIAM GALE, Brookings Institution: I honestly think a little different than what Bruce said. I think right now they can't make it permanent but they can extend a repeal for another two years within the 10-year budget window with a simple majority. Two years from now they can extend it another two years with a simple majority. If you get out to 2010 and the thing is already repealed for the next eight or nine years, it's very effectively repealed. So we may end up like the R&D credit, but it would be with effective repeal.

BRUCE BARTLETT, National Center for Policy Analysis: You think if the tax is repealed for some period of time, you'd cross a threshold where you really can't go back.

WILLIAM GALE, Brooking Institution: Yes. That's not a formal proposition but if you say the tax is repealed for the next 10 years, it's weird to—but 2021, it comes back in the form it took in 2001, that would be a little bit of a stretch.

BRUCE BARTLETT, National Center for Policy Analysis: You don't actually need 60 votes. You only need that if you do reconciliation, which everybody assumes that that's what you will do, but in theory you could bring up a stand-alone estate tax repeal bill and you'd only need 50 votes plus the vice president. But of course then it could be filibustered, which could then put you back into the 60-vote situation. But I'm not sure that the Democrats would want to filibuster that. Maybe they would. I don't know.

ROBERT SHERRETTA, International Investor: I came in a little late, so forgive me if you've already covered some of this, but could you speak about worst-case scenario where the growth of the federal debt starting with the deficits that we're looking at now?

ROBERT REISCHAUER, Urban Institute: Bill?

WILLIAM GALE, Brookings Institution: I don't want to get into numbers right now. We'll know a lot more when the budget comes out, but the worst-case scenario is really, really bad. Not the least of which is because we've got this sort of short window before Social Security and Medicare start turning from net pluses to net minuses, and so we really sort of squandered the opportunity to prepare for that in advance.

DEBORAH SILVERSTEIN, Heller School, Brandeis University: Just in response to Mr. Sperling and your comments. The estate tax, at least for me, is unique because the history of it, and it wasn't always called the estate tax, but beginning in 1797 you have a period of enactment and repeal and enactment and repeal, and I don't know if that's any different because I'm not as familiar with other tax policy, if that's the same case with regard to income tax, capital gains tax. And if it's different, why do you think it's different?

BRUCE BARTLETT, National Center for Policy Analysis: The history up to 1913 was quite different than the period since 1913. It is true that during the 19th century a lot of taxes were put on temporarily and taken off and abolished. We had an income tax during the Civil War that was repealed after the war. Similarly, the estate tax existed during the Civil War. So I think that a lot of things were done for purely revenue purposes during that period that—I mean, all the major features of the tax code that we have today have existed since 1913.

Somebody was asking me today about dividends. As far as I'm aware, they've always been taxed. There's never been a period when that's not been part of the tax base. So I think you have to distinguish between the two historical periods.

WILLIAM GALE, Brookings Institution: There was actually a partial integration scheme in the 1913 income tax. But I agree with Bruce. What happened in the 1700s, 1800s was war-related. It would be very different now.

ROBERT REISCHAUER, Urban Institute: Gene?

GENE STEUERLE, Urban Institute: Many years ago I was involved in tax reform in the mid-'80s, and one of the big issues that have often got forgotten was a debate over whether taxes should be on old wealth or new wealth. I raise this because if you really follow the politics on taxation of capital and taxation of capital income, the truth of the way it usually plays out, at least in the press, and perhaps among economists, is that the liberal side, they never find a tax on capital income they don't like, and on the conservative side they never found a tax on capital or capital income they do like.

And yet there are trade-offs to be made. One of the trade-offs which seems to me came up in this discussion was old wealth versus new wealth. It came up here in the context of whether money should be left to heirs or whether it should be left to other people. See, the trade-off in the mid-'80s, and we could call it Reaganomics or not, was that, for instance, we limited the investment credit that largely went to people who took income they already had from investments made long in the past and gave them tax breaks. We just said, well, maybe lower rates on capital income in general would be better because then it would go to some of the new wealth, including, by the way, some of the new technology firms, because these were the people who were being innovative. So it was a trade-off and you had the same amount of revenues usually raised. There was something to be said about wanting it to go to the new wealth, the innovators, rather than the old people.

I wonder if there's not a similar trade-off here that ought to be discussed that would put perhaps both sides of the debate on the spot, and that is, for instance, would it be better to have estate tax relief for something like corporate integration? Corporate integration are the types of proposals to lower taxes on dividends and to some extent on capital gains for newly acquired capital income be a better means of getting the money, the same amount of after-tax capital income to people who are innovative today as opposed to giving the relief, say, to the old wealth—that is, to the heirs—for whom the people, this type at least, seem to have unanimous agreement are a little bit less innovative and more likely to be consumers?

Are those types of trade-offs possible, and can they even be discussed?

BRUCE BARTLETT, National Center for Policy Analysis: We can discuss them all you want. I think the debate's gone too far. It's gone way past the point at which I think reasonable alternatives are possible. I think that both sides are now polarized and the people who favor estate tax repeal I think are not going to give up on it, now that they've got the high ground, which is that it's in law. I think that as with a lot of things in tax policy, we could press you and I and Bill to sit around and come up with something that we all agree amongst ourselves is a lot better than what we've got. The problem is, we ain't got any votes. You've got to deal with the political process.

Somebody has to initiate the debate, bring that issue up and argue the point, but at this point I don't think that's part of the discussion.

WILLIAM GALE, Brookings Institution: I just want to pitch in briefly. I agree that it makes more sense to tax old capital than new capital, and I find myself making that point all the time. The corporate integration schemes that are on the table now don't do that. They subsidize old capital. That's what dividend relief does. So Gene's question, as all of Gene's questions do, raise a huge number of issues that are all interrelated and I don't think I can do them all justice right now.

ROBERT REISCHAUER, Urban Institute: Alan?

ALAN WEIL, Urban Institute: I'm struck by the effort to improve the description and improve the functioning of the existing estate tax by increasing the limits and reducing the number of people. Politically it makes sense you're peeling off a portion of the opposition, but it seems to me in doing so you're totally ceding the moral argument for the estate tax. It's very hard for me to imagine a politician standing up and saying, the top three-tenths of a percent of Americans are wealthy enough to pay the tax, but the top 1 percent are not wealthy enough. That's a division that I don't think morally works very well.

I'm just wondering why the sense that rather than defend, as Mr. Gates did at the outset with a broader philosophical underpinning of this tax, spend all this energy to basically peel away an opposition when you're never going to get to the core.

LEN BURMAN, Urban Institute: I think that there's a principled argument for raising the exemption, which is that the costs of compliance are large relative to revenue for the large numbers of people who pay relatively little in estate tax. There are a whole bunch of people who don't pay estate tax. You still have to spend a lot to avoid the tax.

If you really focus the tax on the more than 1,000 decedents who have estates worth half the value to half the tax right now, it would be a much more efficient tax. It would remove the legitimate complaint about small businesses and family farms, that this is a major concern of theirs, even if it doesn't work out to be a whole lot of tax revenue.

WILLIAM GATES, SR., Bill and Melinda Gates Foundation: There are exemptions for everything. It's a question of the amount. It used to be $60,000, and then it got up to $675,000. Now it's $1 million. It seems to me that there is a perfectly moral suggestion that if it's important in this life to be able to pass along something of value to your heirs, then it becomes an argument about what is the proper amount. I don't have so much trouble with the notion that $5 million is a good figure, or even $3.5 million per person.

In terms of fiscal implications, it is very true that the estates and the lower numbers do not produce any particularly large part of the overall revenue that's generated by the estate tax. It is the larger estates. It's politics to some extent, too.

BRUCE BARTLETT, National Center for Policy Analysis: I think it depends on what you mean by the moral imperative. I mean, if you define the moral imperative as being wealth as per se bad, then there's no justification for any deduction. But I think that at least going back to the progressive era the rationale for the estate tax to a certain extent has been, as Mr. Gates says in his book, the one of power. Now clearly somebody who's got only $1 million in wealth doesn't have a great deal of power in our society. Arguably somebody who has $10 million or up does. I'm not conceding the point, I'm just saying I think it's an arguable point that is plausible.

I think if you're going to use that as your rationale, you should cut it off at the point at which you can rationally say somebody has power per se by virtue of their wealth. That's the real rationale for an exemption.


RAYMOND SCHEPPACH, National Governors Association: I think unfortunately this debate is over, and I think the lessons we take from it—you've got to spend a lot more time on framing the debate very early on. We're early on now on Internet taxes, which is very similar. I'm on the mountaintop, I think, in terms of public policy arguments, on fairness, efficiency. But politically in my ability to get my message out my face is in the mud. If it takes you four sentences to explain your position, you're not going to win this argument. The other side that I'm up against said no net taxes. It's a bumper sticker and it's very, very hard to overcome that because it takes me three or four sentences.

So as soon as the other side gets out front and defines the parameters of it, you're on the defensive and it's very difficult to come back. I think that's where the major lessons here about this debate is we spend a lot of time up front on framing it. From that point on you're arguing about adjustments in it, and you're really on the defense. And I think that's the lesson here.

LEN BURMAN, Urban Institute: It's so ironic that you raise that issue, because one group that's really hurt by the lack of taxation of Internet transactions is small businesses, like Olsson's [Books], who have to compete with Amazon.com and others who can sell things without paying sales tax.


Topics/Tags: | Economy/Taxes

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