Jane G. Gravelle
Senior Specialist in Economic Policy
The Economic Growth and Tax Relief Act of 2001 (EGTRRA; P.L. 107-16), among other tax cuts, provided for a gradual reduction and elimination of the estate tax. Under EGTRRA, the estate tax exemption rose from $675,000 in 2001 to $3.5 million in 2009, and the rate fell from 55% to 45%. In 2010, the estate tax was eliminated. As with other provisions of EGTRRA, however, the estate tax changes will sunset in 2011; the exemption will become $1 million (as scheduled in pre-EGTRRA law) and the tax rate will return to 55%.
There is general agreement that some sort of estate tax will be retained. A proposal to make the 2009 rules ($3.5 million exemption and 45% rate) permanent was included in President Obama's 2010 and 2011 budget outlines and was passed by the House in December 2009 (H.R. 4154). Senate Democratic leaders have indicated a plan to enact the 2009 rules permanently (and make them retroactive to 2010). The Senate Republican leadership has proposed a $5 million exemption and 35% rate.
With any of the exemption levels, few estates are affected by the tax. In 2011, the shares of estates taxed are projected by one study to be 1.76%, 0.25%, and 0.14% for the exemption levels of $1 million, $3.5 million, and $5 million, respectively. These numbers would grow to 3%, 0.46%, and 0.23% by 2019. The revenue yield in 2011 is projected to be $34.4 billion, $18.1 billion, and $11.2 billion for the $1 million exemption/55% rate, $3.5 million exemption/45% rate, and the $5 million exemption/35% rate. The estate tax accounts for a small share of revenue.
The estate tax is a highly progressive tax; it not only applies to the largest estates, but within the distribution of estates a large share is concentrated in the over $20 million estate level: 62% for the $3.5 million exemption/45% rate and 73% for the $5 million/35% rate. Because of various exemptions and deductions, the effective tax rates on estates are much smaller than the statutory rate, with an average 16% rate on estates over $20 million for the $3.5 million exemption/45% rate and 12% for the $5 million exemption/45% rate. When distributed with respect to income, 96% falls in the top quintile of the income distribution, 72% in the top 1%, and 42% in the top 0.1%, under the $3.5 million exemption/45% rate.
Although concerns have been raised about the effects of the tax on small businesses and farmers, estimates indicate that the share of estate taxes paid by small business estates under the proposed revisions would be small (16% to 18%) and the share of estates of small business owners taxed is small (about 0.2% of decedents with at least 50% of their assets in businesses). Evidence suggests that the number of returns with inadequate liquid assets to pay the estate tax is negligible.
Other effects are likely small. The effects on savings are uncertain but likely small relative to the economy because the tax is small. Moving to either the $3.5 million plan or the $5 million plan would be projected to decrease charitable contributions by a small amount: 1% to 2%. Recent evidence suggests that the costs of administration and compliance are around 7% of revenues.
Structural reforms that might be considered are inheritance of spousal exemptions, and some reforms directed at abuses. A provision to restrict Grantor Retained Annuity Trusts (GRATS), which can be used to virtually eliminate estate tax by providing an annuity with a remainder, is contained in H.R. 4849. Other provisions in President Obama's budget outline include restricting discounts for estates left to family partnerships and conforming fair market value for purposes of the estate tax and future capital gains realizations for heirs. .
Date of Report: June 8, 2010
Number of Pages: 23
Order Number: R41203
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Tuesday, June 22, 2010
Jane G. Gravelle