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Friday, June 30, 2023

Weekly SSRN Tax Article Review And Roundup: Roberts Reviews Gift Tax Consequences Of Luxury Hospitality By Crawford, Haneman & Blattmachr

This week, Tracey Roberts (Cumberland; Google Scholar) reviews a work by Bridget J. Crawford (Pace; Google Scholar), Victoria J. Haneman (Creighton; Google Scholar) & Jonathan G. Blattmachr (Milbank LLP), Gift Tax Consequences of Luxury Hospitality: An Introduction, 115 Tax Notes Fed. 1157 (May 15, 2023).

Roberts (2020)

In Gift Tax Consequences of Luxury Hospitality: An Introduction, Bridget Crawford, Victoria Haneman, and Jonathan Blattmachr examine the possible gift tax consequences of luxury consumption transfers. They explore the scope and the purpose of the federal gift tax through variations on three different scenarios: (i) Mom rents a mansion for a month in an exclusive resort town for her family ($800,000 FMV),(ii) Dad lets son ride to his college reunion in Chicago via his private jet ($70,000 FMV), and (iii) Rich invites friends for an all-inclusive nine-day yacht cruise ($5 million FMV).

There are a few clear guidelines in applying the federal gift tax. Transfers of cash and property clearly fall within its ambit. For example, if Mom, Dad and Rich simply give the recipients cash to purchase the lodging, transportation, and travel experiences, the cash transfers are clearly subject to the gift tax. On the other hand, personal spending and acts of economic waste do not fall within its ambit.

If Mom, Dad, and Rich are splurging on luxury travel and simply bringing their friends and family along for the for their own pleasure, those expenditures look more like the grantor’s own personal consumption than a taxable transfer. Likewise, changes in the form of wealth (sales and exchanges of property) and payments for services are not subject to the income tax.

Other scenarios are not so clear. For example, what if Mom, Dad and Rich provide vouchers for their family and friends to enjoy luxury travel? Because Congress, the Department of Treasury, and the IRS have yet to provide guidance on luxury consumption transfers, Crawford, Haneman, and Blattmachr have some proposals. To provide additional clarity, Crawford, Haneman, and Blattmachr draw from the Dickman case. In Dickman, the U.S. Supreme Court held that when parents made interest-free demand loans to their child they transferred a property interest, which was subject to the gift tax. Note that this differs from the treatment under the federal income tax, where the Court has concluded that loans do not constitute income because the recipients do not enjoy an accession to wealth, clearly realized, over which they exercise dominion. Expanding upon the Dickman case, Crawford, Haneman, and Blattmachr urge that vacation rentals, plane tickets, and vacation experiences (transfers of something of value) should likewise be treated as transfers of property, especially when the grantor derives no direct personal benefit from the transfer (save for the warm glow effect of the gift). These include scenarios when Mother is not herself using the vacation rental, when Dad is not also flying to Chicago, and when Rich does not himself go on the cruise; in each of these situations it’s less clear that the consumption is personal to the grantor.  Crawford, Haneman, and Blattmachr argue that the lack of guidance allows enormous wealth transfers to escape without tax consequences and without public scrutiny.

Crawford, Haneman, and Blattmachr respond to two objections from the “no tax” camp who would oppose the imposition of the gift tax in such circumstances. First, while “no tax” advocates would argue that luxury travel is simply consumption (or waste) by the grantor, Crawford, Haneman, and Blattmachr instead underscore the financial benefits to the recipient, which are considerable. Second, while the “no tax” advocates would object to applying the gift tax to transfers that do not create an asset, Crawford, Haneman, and Blattmachr argue that the donor’s mental state and intent with respect to whether they are conveying an experience or an asset are not applicable in the gift tax context. They clarify that the only measures for application of the gift tax are the difference between the value of the gift and the value of anything the donor receives in return.

With each of these counterarguments, however, Crawford, Haneman, and Blattmachr have omitted consideration of the primary underlying function of the gift tax: to close the enormous loophole left open in the original federal estate tax. Led by Cordell Hull and his colleagues, Congress passed the 1916 estate tax to support the war effort and to ensure that the wealthy paid their fair share of war expenses, given that the rest of the country were sending their children to the battlefield and they did not want to burden those same service men and women with paying off the war debts upon their return. The federal estate tax applied to all assets held by a decedent at the time of his or her death above an exemption. Estate-holders quickly realized that if they gave away all of their assets prior to their death, they could avoid the estate tax altogether. In 1924 Congress passed the federal gift tax to close this escape hatch.

The federal gift tax applies to lifetime transfers of assets (including cash) that reduce the value of the estate. The gift tax thereby backs up the estate tax by subjecting gifts that would otherwise escape the estate tax and allow the accumulation of dynastic wealth. When an estate holder uses his or her assets to pay for consumption, however, that spending does not accumulate in the hands of those who would likely be his or her heirs or beneficiaries. It circulates within the economy and becomes subject to other types of tax. Luxury consumption (whether for the donor or for others) depletes the estate and returns those resources to the economy, subjecting those flows to other taxes. Luxury travel consumption is likely to be subject to income taxes on real property rents, on compensation to pilots and captains and deck hands and other service providers, state and local license fees, lodging taxes, fuel excises, sales taxes and, if those exotic locales extend outside the United States, value-added taxes. It turns out that luxury consumption does have tax consequences; the consequences are just not borne solely by the donor, given the general economic principle that tax falls on the party with the least elasticity, the least ability to avoid the tax.

The second point that Crawford, Haneman, and Blattmachr make about lack of scrutiny remains important, however. As they note, the measure for application of gift tax is whether the economic value of the property exceeds the value of the consideration received in return. If the gift tax reporting were to be expanded to these transfers of luxury consumption, the rules would likely create an avenue to bring some sunshine to transfers that appear to be undermining our democracy.

For example, recent reportage about various members of this US Supreme Court indicate that they failed to disclose significant gifts from parties with matters before the court. We can imagine that gift tax reporting would be very illuminating. Failure of the donor to declare the gift and subject the gift to tax would suggest that something was given in exchange for the transfer of luxury travel. Given that the U.S. Supreme Court remains reluctant to submit to congressional questioning or to engage in self-regulation through the adoption of a code of ethics similar to that applicable to other federal courts, such gift tax disclosures would facilitate the enforcement of Ethics in Government Act. Such reporting could bolster transparency and support our democracy, not only with respect to the federal courts, but also with respect to transfers to other federal officials and legislators. Consequently, it will be great to see what insights Crawford, Haneman, and Blattmachr bring to federal gift taxation beyond their initial “Introduction.”

Here’s the rest of this week’s SSRN Tax Roundup:

https://taxprof.typepad.com/taxprof_blog/2023/06/weekly-ssrn-tax-article-review-and-roundup-roberts-reviews-gift-tax-consequences-of-luxury-hospitali.html

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