So, Warren Buffett is in favor of keeping the Estate Tax, huh?

Doesn't make for scintillating blogging, but I gotta say it.  I agree with the Oracle of Omaha.

A little background for those not familiar with the estate tax.  When you die, everything you owned at death is tallied up, life insurance proceeds are added, and that sum is called your estate.  Your estate is everything you are leaving behind.  Under current law, if your estate is more than $2 million, the federal government imposes a tax on the amount that exceeds the magic $2 million mark.  The tax rate goes up to 45%.

The arguments against the tax go like this.  "The death tax is an opportunistic penalty on those who have been successful and accumulated significant assets.  It disproportionately penalizes small business owners and family farmers who often have most of their net worth tied up in those businesses and no liquidity with which heirs can pay the death tax.  Heirs are forced to liquidate or sell the business in order to pay the IRS."

Arguments for?  Equalizing opportunity across generations.  As Mr. Buffett puts it, "You don't get to be a quarterback ... because your father was a quarter back 20 years ago."  In other words, without the estate tax, the families who currently control most of the nation's resources will continue to do so by birthright rather than merit.  Money, as we know, controls business, politics, and even academics.  Thus generations of wealthy descendants from one successful individual will continue to wield a disproportionate amount of power.

On those points, I agree with Mr. Buffett.  But there's more.  This is my view as a financial planner.

Every day I meet with individuals who are well off.  Maybe we call them wealthy.  They have more money than 99% of Americans, so I guess we're forced to put them in the "wealthy" category.  On average, we're talking about net worth in the $3-$10 million range.  In most cases, their biggest concern is that they are going to have enough to live their lives without running out.  Next, they want to make sure that their resources help their kids get started in life.  They do this through paying for their kids' education, maybe providing some funds to buy a house or start a business.  And, when they die, the kids get everything.

The problem is that most Americans do zero estate planning.  Estate planning, despite popular belief, is not simply the legal avoidance of estate taxes.  Although, if that is one of your goals, it is part of the process.  Estate planning is the process of determining how and to whom your estate will be distributed at death.  In most cases, your kids will be part of that.  But other considerations will include charities, various trusts to determine the method and timing of distribution of assets.  Perhaps there are things that can be done during life to reduce your eventual estate, and put your money to use while you are alive to participate.  Maybe that is a series of gifts to your adult children to help them start a business or pursue a dream.  Maybe that is funding an endowment at your alma mater.

My point is that for most Americans, their lack of estate plan means that their assets will go to their spouse and kids by default.  Or, in the absense of those, to parents or siblings.  Most Americans will not pay any estate tax.

So, why does this mean that I am in favor of retention of the estate tax?  Simple, it forces wealthy people to plan.  In doing so, it allows the creator of the wealth to determine its distribution rather than the heirs, who may or may not be as astute as the successful individual who earned it.

Comments

[Matt]

Well, if you want people to plan, let's pass a law that you must have a will, if you do not, you will be taxed at a certain rate. However, if you have that will, you won't be taxed. I have now eliminated the need (in your mind) for the estate tax on those who plan properly (and may have prepared their heirs for the wealth to come). That way I can leave it all to my spouse/kids with no second taxation of my assets (I already paid once, remember).

[Bobby]

Couple of points...

1. If Buffett wants to pay more taxes, I don't think there is anything stopping him. Write a check for $1 billion or $20 billion, I don't care, and mail it off. He will soon find out it was misspent and the government is back looking for more.

2. "...the families who currently control most of the nation's resources will continue to do so by birthright rather than merit." So what if this is true. In a capitalist society, if they can't display the merit they won't keep the business. So, either they show they can do it, or they lose it.

By and large, the government taxes too much, and multiple times, without providing a corresponding real benefit to the average American.

[lamoneyguy]

Matthew,
a. if you think a will is adequate estate planning for a multi-million dollar estate, you have just proven my point.
b. The law already kind of does what you are talking about. You can plan around estate taxes through bypass trusts, charitable trusts, dynasty trusts. Do no planning, and you will get taxed heavily.

See, it turns out that we agree.

Also, your contention seems to be the fact that we have already paid taxes on the money. So, let's address the first taxation. Why do we live in an income tax system? Why isn't our tax system based on consumption (like a national sales tax) or distribution (gifting, spending and death).

[Matt]

LA MoneyGuy,

Of course I understand that there are complexities in estate planning and currently if you only have a will and are wealthy you are behind the curve. However, most of the instruments used in estate planning are for two things – escaping heavy taxation or easing of passage of those assets or both.

I don’t believe that we agree at all. I do not believe that we should have a double taxation of assets. I am for the Fair Tax, which taxes consumption. That way if your client leaves it all to their no good heirs, and they spend it al la Paris Hilton style, then they will be taxed.

I also find it hard to understand how Buffett believes that the government would better manage the money they tax him out of, than he could do if he was able to retain and reinvest that money.

[lamoneyguy]

Interesing. I'm not against a consumption tax, but I don't think they are mutually exclusive. In fact, consumption taxes coupled with estate taxes seem to make much more sense than income taxes coupled with an estate tax. In the case of a consumption tax, you are not taxed on what you do not spend. Well, turns out that that amount, plus earnings is what is left when you die. Thus, tax at consumption, tax what is left at death. No double taxation.

Also, Buffett does not believe that the gov't will better manage the money than he could if he retained it. He's talking about tax at death. He can't retain it, reinvest it, and manage it. He's dead. He believes that the gov't will use the money more equitably when he is dead than his kids might.

I'll bet that if you gave him three choices at death: 1. all money to charity, 2. all money to gov't, 3. all money to kids, he would rank them in that exact order. Effectively, the estate tax allows you to do that. If you don't want to pay estate taxes, just give your entire estate to charity at death.

[Matt]

There would be double taxation - when the heirs spend the money.

[lamoneyguy]

touche, good point. I guess I'm not so concerned about double taxation across generations. The other issue to me is that it is not the consumption across generations that interests me. I don't care if you make a billion dollars and your great grandkids blow it on stupid stuff. I care if you make a billion dollars are your great grandkids have the ability to influence politicians and academics with substantial contributions, and the ability to control business through substantial investment. This influence will have been inherited, not earned.

[Randy]

The elimination of the estate tax does one thing: facilitate the creation of a modern-day aristocracy. It's not in America's long term interest to allow a small percentage of the population to control an ever-increasing percentage of the wealth.

As for the flat tax, I've never heard a coherent plan to implement it. Let's say the IRS is abolished and replaced with a new Flat Tax Authority. What incentive do the states and local entities have to replace their respective tax systems? I still have state income tax (on labor, interest, and capital gains), state payroll taxes, state sales tax, local sales tax, county property tax, city property transfer taxes, and city utility users tax. I really don't see a centralized, European, top-down system taking root in America. The country's too big, too diverse, and too little-r republican.

Any tax structure incentivizes and disincentivizes various forms of wealth. The eliminating the estate tax, (and implementing a flat tax) simply says having money is better than working for money. It's the polar opposite of the philosophy that built this country, and fostered 100 years of unparalleled economic growth.

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