The Estate Tax

U.S. Rich Follow Rockefeller's Lead in Hunt for Loopholes

Rockefeller - large

One of the first Americans to beat the estate tax was a guy by the name of John D. Rockefeller. Not long after Congress in 1916 declared a special new tax on the estates of people who died with more than $50,000, the oil tycoon, then the world’s richest man, gave hundreds of millions of dollars to his son. It took eight years for Congress to plug the gap. The episode was the first round in what’s become a century-long cat-and-mouse game. The cats are Congressional lawmakers, and the nation’s wealthy are the mice. A whole industry, known as estate planning, sprang up to counsel taxpayers on how to play the game. The mice are winning. There are so many legal shelters that for many of the wealthiest Americans the estate tax has become all but voluntary.

The Situation

The U.S. estate tax rate is 40 percent. It currently applies only to the portions of estates above $5.34 million, or $10.68 million for couples. Contributions to charity and transfers to surviving spouses are exempt. To prevent people from using Rockefeller’s trick, gifts made during life are also taxed once they exceed $5.34 million. Because of the loopholes and the large exemption, the estate and gift taxes together raised just $14 billion in 2012, less than 1 percent of federal tax revenue, and half the share it contributed as recently as 2006. Only about one in 750 people who die this year will have to pay any estate tax. Even so, the tax remains unpopular with the American public. Just as the U.S. seems to lack political consensus on the estate tax, there’s little consensus globally: Japan, Germany and the United Kingdom all have estate or inheritance taxes, for instance, while Australia and Canada don’t. Sweden abolished its tax in 2004.

The Background

A wealthy individual who wants to avoid the estate tax can choose from a handful of legal maneuvers based on quirks in the tax code. One device, called the “Walton GRAT,” basically gives extremely rich people a new way to do what Rockefeller did after 1916: make tax-free transfers to heirs. Created inadvertently by Congress in 1990 as it shut down an earlier loophole, the GRAT won the blessing  of the U.S. Tax Court in 2000 over the protests of the Internal Revenue Service. Another, called the “dynasty trust,” is being promoted by states such as South Dakota and Delaware that have tailored their trust laws to facilitate federal tax avoidance. And today’s super-low interest rates are turning charitable vehicles known as “Jackie O.” trusts, which were never intended to become tax shelters, into opportunities to reduce tax bills.

The Argument

The estate tax sprang to life when the Great War raged in Europe and President Woodrow Wilson needed cash for an arsenal. Progressives were also concerned that the fortunes amassed during the 19th century’s Gilded Age might spawn a permanent American plutocracy; some supporters today cite the same fear. Many Americans, though, have considered the levy to be an unjust burden on families and a form of double taxation. Starting in the 1990s, Republicans in Congress pushed to end what they called the “death tax.” In 2001, they won a temporary phase-out of the tax culminating in a one-year repeal in 2010; New York Yankees owner George Steinbrenner was among the wealthy Americans to die during that period. When the time came for permanent legislation, Democrats succeeded in keeping the estate tax in place indefinitely, although in a weakened form. President Barack Obama has called for increasing the tax rate, and many Republicans would still like to abolish the tax altogether, but neither side seems to have much appetite for reopening that fight. Meanwhile, Congress has done nothing about the growing tally of loopholes that make the tax easy to avoid; in fact, some of them are wider than ever. As the mice thrive, the cats may have altogether lost interest in the game.

The Reference Shelf

  • Bloomberg News’s “Artful Dodgers’’ series on tax avoidance.
  • An Internal Revenue Service history of the estate tax.
  • An essay on the politics of estate-tax repeal movement.
  • George Cooper’s influential 1977 essay branding the levy a “voluntary” tax.
  • President Obama’s Fiscal 2014 budget proposal includes plans to plug gaps in gift and estate tax laws (pp. 140 to 148).

First Published Jan. 7, 2014

To contact the writer of this QuickTake:

Zachary R. Mider in New York at zmider1@bloomberg.net

To contact the editor responsible for this QuickTake:

Jonathan I. Landman at jlandman4@bloomberg.net