Why Have an Estate Tax?

Last year, I had a dream I was called before the Senate to testify on the “reform” of the estate tax. Admittedly, the dream was odd. Although I’ve been practicing estate and trust law for more than 40 years, and teach the subject at Berkeley Law (formerly Boalt Hall), it seemed strange that they should call me. I’m no Washington insider, and what happens in Berkeley doesn’t often have any significant national impact – much to our chagrin. But it was my dream, so I was in the spotlight.

As it stands, due to a complicated political compromise early in the Bush administration, there will be no estate tax in 2010, but only for a year. Fortunately, Congress is aware of this anomaly, and the House just voted to indefinitely extend the current tax: generally taxing 45 percent of all net assets above $3.5 million. (Put differently, if you have less than $3.5 million in your estate – as the overwhelming majority of us do – the tax doesn’t affect you). The Senate is scheduled to review the estate tax soon, so I thought it was a good time to share the wisdom of my dream.

In a mahogany wood room, lined with portraits of long-dead senators, I sat in front of a full committee with legions of photographers snapping my photo and journalists jotting down the essence of my remarks.

“Mr. Ferguson,” the chairman opened in a deep Southern accent, “we’ve called you here today to seek your advice on the wisdom of the estate tax. But before we get into the specifics,” he said, “we’d like an overview. Why even have an estate tax?”

A good opening question, but I knew there was a certain decorum I had to respect. “Thank you, Mr. Chairman, for inviting me here today,” I politely responded. Then I dutifully answered his question.

“The standard answer to that question is found in the ends accomplished by the tax – which, so far as I can tell, tends primarily to force great wealth into private foundations and other charitable ends. By that I mean: rich people, like the rest of us, generally don’t like forking money over to Uncle Sam. So, to preserve their legacy after death, they take advantage of the exemption for charitable giving, and turn their estate over to worthy public causes. Some invest in the arts, funding museums and operas. Others fund political causes, like the ACLU or the NAACP. And yet other causes that support the environment, animals, religion, education, and so on. The tax’s secondary effects are: (i) equalization of wealth among the citizenry, (ii) the generation of a fraction (about 0.8 percent – or $20 billion out of $2.5 trillion) of governmental revenues and (iii) the satisfaction of our populist impulse that those with the most should bear a greater burden of our common expense.”

“But Mr. Ferguson,” interrupted the minority leader. “This is a death tax. My constituents won’t support no tax on death. Betty Sue from Scranton will not support a tombstone tax.”

I was waiting for this question. I reminded him that the current tax is imposed on less than one-third of 1 percent of the population – so the “death tax” so feared by many doesn’t actually affect 99.67 percent us. I also referred him to a report by Public Citizen, indicating that the phrase “death tax” is the ingenious invention of 18 of the most wealthy American families, who single-handedly lobbied for and spearheaded a campaign for “death tax” reform.

Then, the chairman came back in. “Mr. Ferguson, with the preliminary questions out of the way, let’s get into some detail.” He sipped a glass of water at his side, and, helped by an aide flanking his side, inquired, “Who should we tax? And what is the limit? How, after all, do we define a ‘taxable’ estate?'”

“As a society,” I said, “we seem inclined to protect family homes, businesses, farms and ‘reasonable wealth,’ and seem disinclined to deprive one’s heirs of enjoying those assets. But we don’t seem overly sympathetic to the passage of wealth in amounts that encourage sloth and excess.” I offered the committee Warren Buffett’s advice: “A very rich person should leave his kids enough to do anything but not enough to do nothing.” I told them we were none too sympathetic when the Hunt brothers squandered their inheritance trying to corner the world’s silver market. Concluding, I said, “Thus, it would seem that we’re willing to limit the imposition of estate taxes to those who have ‘great wealth’ – both as a means of periodically leveling the economic playing field and of discouraging unearned sloth.”

It lead to the obvious question, “Well, Mr. Ferguson, what is great wealth?”

Not easy to answer.

“Over the years,” I recounted, “shortly after the House succeeded in the first of its many attempts to abolish the estate tax, I started asking clients and fellow professionals how they defined ‘great wealth,’ the very question you are asking. Unsurprisingly, they all had different answers. But after listening to dozens of answers, I concluded that ‘great wealth’ is twice the wealth of the person you are querying. Thus, an impecunious client might peg great wealth at tens of thousand dollars, while a wealthy client might measure great wealth in Texas ‘units’ (a term which, I was surprised to learn, referred to $100,000,000). Given the subjective nature of the determination of ‘great wealth,’ I think it best to leave that determination to Congress – although in my most cynical moments I anticipate that the Congressional answer to this question will be one that exempts 97 percent to 99.5 percent of its members from the tax.” Most of the committee laughed, but John Kerry and John McCain looked most happy.

The hearing continued for what in my dream felt like an hour. At the end of the session, the members of the panel asked me the question I knew was coming: “What do you think we should do with the estate tax?”

Having thought about it for years, I had my answer ready.

“I would keep the estate tax. I would impose it only on those with ‘great wealth’ – say the wealthiest 1-5 percent of the population. I would index the tax so it always taxed approximately the same percentage of the populace. And I would set the amount excluded from the tax at an amount that excluded my estate!”

With that, my testimony finished.

Maybe, the real Congress will listen.