Chapter 1 – Introduction to the Federal Transfer Tax System
A. History and Constitutionality
Many different tax bases in the US
– Income tax
– Property tax (form of direct taxation) (state and local govt’s only)
– Sales tax (consumption tax)
– Wealth Transfers (excise tax)
An estate/gift tax is not a tax on the property itself (unconstitutional: direct tax)
– Taxing the ability to transfer the wealth
– Excise tax – the transfer itself is taxable
Like the income tax, the estate/gift tax has various historical movements for them
– War – puts them in place
– End of war – repeals them
1916 (wartime): Basically, came up with something similar to today’s gift/estate tax, wasn’t repealed after WWI
– First time tax appeared for war and wasn’t repealed thereafter
Constitutional challenges to gift/estate tax are no longer valid
– Court has spoken: This is not a direct tax
Reason for gift tax: People may give wealth away in order to avoid taxes
– So the ability to give this wealth away is taxed
Original Gift Tax: 1924
– Originally, constitutional challenges to this tax were successful
o Tax was repealed for 2 years
– By 1932, the gift tax was back, and hasn’t been repealed since
Both the gift and estate taxes were deemed separate taxes, and had their own rates and structures
– In 1976, Congress tried to integrate them
o One structure
o One progressive rate
Reagan implements the unlimited spouse exemption
– One spouse dies, they can leave any amount to their spouse tax free
– Also, can give any amount to a spouse during life tax free
– Raised the exemption amount to $600,000
2001 Tax Act raised exemption amount to $1,000,000 for gifts, $2,000,000 for estates
– Decoupled gift tax from estate tax
– Rates pretty much remain the same; however, the maximum has been lowered to 45% (from 55%)
Exemption in 2009 will be $3,500,000
In 2010, the estate tax will be repealed
– But only in 2011
If Congress does not act in 2011, the tax will go back to the former structure of $1,000,000 exemption and 55% tax rate
Fairness issue in policy
– Why should someone have to pay a lot of money to a lot of attorneys in order to get around this tax
o The super-rich can afford this
o The somewhat rich may not bother
§ But these are the people that are most likely to fall victim to this tax
Current Estate Tax: $2,000,000 exemption and 45% rate
– This is a flat rate, not progressive
– Doesn’t matter if you have $2,000,001 or $2,000,000,000, the excess of the exemption is taxed at 45%
When analyzing tax, ask the following:
– Fairness
– Feasibility
– Efficiency
Fairness:
– Horizontal Equity
– Vertical Equity
Horizontally Equity
– Similarly situated tax payers should pay the same tax
Vertical Equity
– The more you have, the higher the rate you should
e transfer?
What about inheritances?
– Whose tax bracket do you use?
– Disclaiming inheritance?
o Burdening the recipient with possible sale of real estate in order to pay taxes?
This situation would probably generate more revenue than the current code
Currently, $12,000/year is exempted from gift tax
– Don’t even have to file a gift tax return
– What would you do if you repealed §102?
o De minimus amount required?
Also, currently one can pay another’s tuition or medical expenses free of the gift tax
– If you repeal §102, is this behavior a gift?
What about transfers to spouses?
– If gift/estate taxes are repealed, there’s no marital deduction left from those tax structures
– If §102 is gone, will another exemption have to be put into the income tax code?
What about charities?
– Another deduction written in for charities to receive gifts?
– Especially since they thrive on them (donations)?
Ultimately, is there more unfairness when gifts and bequests aren’t taxed at all?
3. Generally speaking, this question is posing the possibility of repealing §1014
– Doing away with “stepped-up/stepped-down” basis)
