Thursday, December 16, 2010
Unless Congress acts very quickly, there will be blood as the accidental estate tax “holiday” slouches toward expiration on December 31. Tax “holidays,” during which a tax is temporarily suspended, are questionable tax policy at best. But they are truly disastrous in the case of a tax that is triggered only by death. Estates that might be exposed to the tax can channel the incidence of the taxable event into the window of the tax holiday, but only through homicide or suicide (or the practical equivalents of “pulling the plug” on life support devices).
That an estate tax holiday is a bad idea is obvious, but Congress in 2001 set the stage for exactly that, by enacting a largely symbolic one-year suspension of the federal estate tax to take effect in 2010. Everyone—on both sides of the aisle—expected that Congress would, at some point in the nine years between 2001 and 2010, come to its collective senses and revise the rules so that the tax holiday would never occur. But Congress just hasn’t managed to stop this train wreck from happening, once the course was set.
The failure to correct this situation has already cost billions in revenue, and has made estate planning absurdly difficult. But the worst aspect of this ill-conceived tax holiday is about to be upon us. The window is closing in two weeks, on December 31. If Congress does nothing, the estate tax will reemerge on January 1 with a $1,000,000 exemption and rates of up to 55%. If Congress does manage to enact the compromise reached last week between President Obama and Congressional Republicans, the new estate tax will contain a $5,000,000 exemption, and a tax rate of 35%.
Where does this situation leave a person with an estate of, say, $50 million, who has pancreatic cancer, or an aggressive brain tumor? She knows that she has no more than a few months to live. And she probably knows as well that if she dies in 2010, her estate will save upwards of $15 million in estate tax. What would any reasonable person consider doing in light of an incentive structure so foolishly designed?
This is not a problem that affects just a few people. Roughly speaking, about 5000 of the two million deaths in the U.S. each year involve decedents who have more than $5 million of assets, and at least ten times that many people leave estates of at least $1 million. Most of those deaths that will happen in 2010 have already happened, achieving in many cases spectacular tax savings for their families. But the concern here is not about the deaths that have occurred, or will naturally occur, in 2010.
The concern is with the people whose deaths would naturally occur in 2011, but whose death can be accelerated if the individual is so inclined. There may actually be a few cases of tax-inspired murder by the decedent’s heirs, but the legal consequences of murder are severe enough that it is unlikely to happen with any frequency.
Rather, the concern is suicide. Many among the several thousand wealthy people who would die of natural causes in 2011 already know that that outcome is highly likely. They are the people suffering from stage four cancers, advanced congestive heart failure, and other terminal conditions. It is not fanciful to imagine that several hundred, or even a few thousand, people in this group will give serious consideration to ending their lives in ways that will benefit their heirs financially.
I predict with grim confidence that we will learn of many such stories if Congress doesn’t quickly act to alter the incentive structure. Not only is the premature loss of life lamentable, but so too is the loss of the millions, or even billions, of estate tax that can and should be collected from these very wealthy estates. If Congress decides—either by acting or by failing to act—that we will have an estate tax in the coming years, why should it tolerate the existence of a holiday from the tax for the next two weeks?
Fortunately, this problem has a very simple solution. If Congress can agree on a new estate tax, at whatever rate and exemption level, it should make that tax effective with the date on which the bill is introduced. Today would not be too soon to introduce such a bill. (Under the current compromise proposals, estates could elect to have the new tax apply, but of course most will not, and a terminally ill person of wealth will know that.) If the new estate tax automatically applies to all deaths that occur on or after, say, December 15, then the incentive to beat the tax during the last two weeks of the year by taking one’s life disappears.
Congress frequently makes tax changes effective on the date on which a bill is introduced, rather than waiting until the date of enactment, or the following tax year. For example, when Congress is enacting a measure to close a tax loophole, it frequently uses an effective date that is prior to enactment, so as not to encourage loophole seekers to take one last crack at the loophole while the tax reform bill moves through Congress. Courts have sustained the constitutionality of such effective date measures.
If members of Congress value life, as all would surely say they do, why wouldn’t they take this simple measure to remove a powerful incentive to commit suicide? Do we really want wealthy grannies everywhere to be considering a premature good-bye as the estate tax holiday reaches its final days and hours?