Estate Tax

Critics of the Estate Tax

Estate tax opponents would tend to answer the questions posed in the negative.

Critics of the estate tax list three primary objectives to the taxing of accumulated wealth. First, they argue that this form of tax ends up double taxing earned income since at least a portion of any estate is made up of earned income. Second, opponents of an estate tax claim that it has a chilling effect on savings rates and on economic growth by stifling society's proven wealth builders and job creators. Third, those who wish to repeal the estate tax often state that this tax is a particular burden to family businesses and farms and makes it more difficult to pass on these assets to the next generation who can continue the businesses.

Paul J. Gessing, Director of Government Affairs for the National Taxpayers Union, explains the fundamental objection to an estate tax this way: "While the economic case against the death tax is persuasive enough, the moral case is even more powerful. Because it taxes virtue—living frugally and accumulating wealth—the tax wastes the talent of able people, both those engaged in enforcing the tax and the probably even greater number engaged in devising arrangements to escape the tax."

Complicating the debate about whether to modify the existing estate tax or repeal it all together is the stark reality of a budget deficit that has grown in every year since 2000 and is forecast by the Congressional Budget Office to continue annually for the next ten years. A repeal of the estate tax would exacerbate these annual budget deficits by reducing tax revenues by $20 billion to $60 billion a year.

ESTATE TAX PAYMENT OPTIONS

Usually, taxes on an estate are due nine months after the death of the estate holder. However, estates involving farms and closely held businesses have the option of making installment payments instead. These installment payments may be spread out over as many as 14 years and in the first five years, only interest is due. Interest charged on the taxes due from these business-related estates is set by the IRS at 4 percent. This permits a business to more easily absorb the cost of estate taxes. The deferred payment plan is jeopardized if the business is broken up or sold during the repayment period. A failure to meet the installment payment schedule too may jeopardize the deferred payment plan.

Minimizing Liability

Managing a business includes taking steps to minimize the tax liability as much as possible. For family-owned closely-held businesses this planning may include planning around the estate taxes that may be due upon the death of one of its principals. Proper business and estate planning can usually prevent any unexpected or onerous tax burdens.

One step that many companies take in preparing for an expected estate tax bill is to buy life insurance on the owner or owners. The policy should be owned by the company or a life-insurance trust and the proceeds should be kept out of the deceased owner's taxable estate. Planning ahead is very important in this process since many techniques for reducing tax liability require time to implement. The use of "gifting" is one such technique. This involves the annual gift giving that is tax-free as long as it doesn't exceed $12,000 per recipient. The gifts can be in the form of stock or other assets.

Transferring ownership of a business through buy-sell agreements, partnerships, trusts, or outright gifts is a key component in many of the planning strategies available to minimize or eliminate estate tax liability. Business experts caution that taking such steps may be even more important—and also even more complicated—when a small business is owned by two or more family members, since the business can potentially be hit with estate taxes every time one of the owners passes away.

The formation of a family limited trust is another way in which to minimize potential estate tax liability. In the most basic terms, a family limited partnership allows the business to be transferred to the next generation at considerably less than its full value. This reduces the size of the estate and thus the amount of federal taxes owed. Other trusts may also be formed for use in a comprehensive plan but the use of trusts is complicated and is best handled by financial planning experts.

Because of the need for outside expertise, the job of tax planning, and in particular estate tax planning is a costly one. The expense of such planning is, in fact, one of the arguments used by those who wish to see the estate tax repealed. But, as is true with most business activities, one must deal with the realities of the environment in which one does business. Until the uncertainty surrounding the future of the estate tax is clarified by Congress, family-owned businesses are wise to make thorough and prudent plans for succession, plans that include measures to minimize the potential for estate tax liability.

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