Like presidential candidate Donald Trump’s tax plan, the tax reform blueprint released recently by House GOP members would repeal the estate tax as well as the generation-skipping transfer tax.
Other measures in the House GOP plan include consolidating the current seven tax brackets to three and lowering the top individual income tax rate to 33%. Going forward, the income tax brackets would be indexed for inflation.
The blueprint also repeals the Alternative Minimum Tax, which the House GOP calls “a second tax system,” and promises to retain the current tax incentives for retirement plans while creating “more general savings vehicles” called Universal Savings Accounts.
Presidential candidate Hillary Clinton has proposed reducing the estate tax’s exemption and slightly increasing its rate, from 40% to 45%, which would increase the “distortionary incentives” of the tax, reducing economic output, but also increase the revenues from the tax, according to a recent analysis by the Tax Foundation, a think tank that supports a simpler tax code.
The Tax Foundation report notes that the estate tax, currently 40% for estate value above $5.45 million, accounts for less than 1% of federal revenue and applies to only a few thousand households annually.
For every dollar’s worth of wealth saved above $5.45 million, a taxpayer can only pass along 60 cents, the Tax Foundation notes, which creates “a disincentive to save money above that amount, and encourages alternate options, such as spending it immediately on consumption goods.”
The House GOP and Trump’s plan to eliminate the estate tax would, according to the Tax Foundation, “have a first-order effect of decreased tax collections, but also a second-order effect from increasing the capital stock.”
Eliminating the estate tax would cause “a reallocation of economic production from consumption goods to capital goods, relative to current levels. On the whole, the equilibrium level of capital investment in the economy would be 2.3% higher, which would boost productivity by 0.7%,” the Tax Foundation notes. “As a result of the higher productivity, workers would be incentivized to work somewhat longer hours, increasing labor force participation by the equivalent of 159,000 full-time jobs.”
Other effects of getting rid of the estate tax include a decrease in federal revenue by $240 billion over 10 years, the Tax Foundation adds. However, “the macroeconomic impact of the estate tax elimination would include increased wages and incomes, which would increase the receipts from other taxes.”
After taking this into account, the report states that “the total revenue loss from estate tax elimination would be only $19 billion total over 10 years.”
Taking the estate tax back to 2009 levels by requiring an exemption of $3.5 million and a rate of 45% as proposed by presidential candidate Hillary Clinton would “have a first-order effect of increased tax collections, but also a second-order effect from reducing the capital stock,” the Tax Foundation notes.
Clinton’s plan would increase revenues by $107 billion over 10 years. But the Tax Foundation argues that “after considering the macroeconomic impact, and its effect on other taxes, the total revenue increase from the proposal would be only $82 billion” over that period.
Such an increase of the estate tax would “slightly exacerbate” the incentive under the estate tax to reallocate economic production from consumption goods to capital goods, the Tax Foundation says, and would also subject more estates to that incentive.
On the whole, the equilibrium level of capital investment in the economy would be 0.3% lower, which would reduce productivity by 0.1%.
“As a result of the lower productivity, workers would be incentivized to work slightly fewer hours, reducing labor force participation by the equivalent of 14,000 full-time jobs,” the Tax Foundation surmises.
The Center for Budget and Policy Priorities, a think tank that supports government policies to eliminate poverty, says government borrowing to offset the lost estate tax revenue would “soak up” capital that could otherwise be invested in the economy, “leaving the economy no better off and quite possibly worse off.” “Evidence shows the estate tax is an economically sound tax,” the group said in a 2015 paper. “Contrary to claims that it hurts the economy, it likely has little or no impact on wealthy donors’ savings, and it encourages heirs to work. It is an economically efficient way to raise revenue that supports public services and lowers deficits without imposing burdens on low- and middle-income Americans.”
G. William Hoagland, senior vice president at the Bipartisan Policy Center in Washington, told ThinkAdvisor in an interview that the Tax Foundation has “done a good job” with the analysis and its “static and dynamic estimate” on elimination of the estate tax.
“It’s very clear that benefits to the elimination of the estate tax law has a more salutary effect on higher income individuals,” said Hoagland, who served from 2003 to 2007 as the director of budget and appropriations in the office of Senate Majority Leader Bill Frist, R-Tenn. “As a consequence, considered in isolation of other tax law changes, critics of eliminating the estate tax will argue that it will only worsen what appears to be growing inequality in both income and wealth in the country.”
Ultimately, repealing the estate tax is not simple.
The “economic consequences” the Tax Foundation lays out in its analysis are “important” and a contribution to the debate, Hoagland continued. But for congressional purposes, final estimates and modeling will also have to be performed by the Joint Committee on Taxation. The only “difficulty” in the Tax Foundation analysis is that they’ve looked at just one tax proposal – the estate tax – and that’s not the “way the tax bills are considered,” as they will include other tax law changes, such as broader corporate taxes and individual tax rates changes that will interact with any changes to the estate tax, Hoagland said.