A new study by the nonpartisan Congressional Budget Office released July 6 offers more reasons for getting rid of the federal estate tax, which is sometimes called the “death tax.” It’s the tax imposed on the estate of a person after death.
The tax rate was as high as 55 percent of the estate before President Bush’s 2001 tax cuts began phasing out the tax. It will be eliminated entirely in 2010, but then will come roaring back at the full 55 percent rate in 2011 unless Congress changes the law.
The CBO study found that “estate taxes reduce after-tax return on investment just as income taxes do” and “the income tax discourages entrepreneurial activity to some degree.” The CBO calculated that the estate tax, if calculated on an owner who would die in 20 years, is the equivalent of an income tax as high as 31 percent.
“That’s an astonishing number; the highest income tax level is 35 percent,” David Keating, executive director of the Club for Growth, a free-market group, said. The estate tax, it should be noted, is in addition to any other taxes the business — a family farm, service shop or retail store — might have paid already on sales, income, etc.
The estate tax can be “ameliorated with life insurance,” the CBO study found, although life insurance proceeds also can be taxed, “unless owners employ such devices as an irrevocable life insurance trust.”
Another major problem with the tax is that it causes liquidity problems for the heirs. They may not have enough money on hand — cash, stocks or bonds — to pay the tax without selling part of the farm, shop, etc. Tax data showed that “in 1999, about 12 percent of farmers’ estates that owed estate taxes faced a liability greater than their liquid assets,” the CBO study found. In 2000 the number was 8 percent.
However, the higher exemptions in the 2001 Bush tax cuts are reducing that number sharply. For example, the tax cut raises the estate exemption to $2 million in 2006 and to $3.5 million in 2009, from $675,000 in 2000.
If those higher exemption rates ($2 million or $3.5 million) had been in effect in 2000 (before the tax cut), then “fewer than one-tenth of the estates that filed returns in 2000 … would have owed the tax,” the CBO calculated.
Moreover, if an owner accumulates liquidity to help his heirs pay the tax, then that money is not being invested in the business. Keating pointed out that such distortions of economic activity could harm a business by reducing entrepreneurial options. A corporate competitor, such as an agribusiness farm, would not face that obstacle.
The CBO study is another reason we urge Congress, again, to eliminate the death tax. Reducing the tax isn’t enough because, even at a lower tax rate, the tax still would be an unfair double tax on family farms and businesses.