Article

Bequest taxes and capital gains realizations

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  • U.S. Treasury Department
  • U.S.Department of the Treasury
Article

Bequest taxes and capital gains realizations

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Abstract

Contrary to popular view, capital gains do not escape taxation at death as they are subject to the estate tax. The presence of the step-up in basis increases the lock-in effect of capital gains taxes as individuals are induced to hold assets until death. This effect, however, is mitigated by the estate tax which applies to assets passed to heirs. Using a sample of matched income and estate tax records in a period that straddles significant changes in capital gains and estate tax rates, the estate tax is found to have an unlocking effect on capital gains realizations. The realization elasticity with respect to the estate tax rate is estimated at 0.36 in the basic model.

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... To date, there has been relatively little work done on these issues. Still, Auten and Joulfaian (2001) document a positive elasticity between of capital gains realizations to the estate tax rate. They find that a 1 percent increase in the tax rate increases realizations prior to death by .36 ...
Article
Debate over the U.S. federal estate tax has intensified recently as a result of the sunset provisions in the Economic Growth and Tax Relief Reconciliation Act (EGTRRA) of 2001 and changes in law passed in conjunction with the 'fiscal cliff' at the end of 2012. Despite recent changes in the law, there remains an open debate regarding the extent to which prospective estates comprise assets that have been taxed previously. Using wealth data on U.S. households, we forecast changes in household wealth in the coming decade and calculate the importance of untaxed wealth in bequeathed estates. Connecting further to the debate, we investigate the impact of various policies on U.S. households. In particular, we compare policies in which the entire estate is taxed at death (estate tax) to those in which only the unrealized capital gains portion is subject to tax (capital gains tax). We estimate that the average unrealized capital gains in estates monotonically increases with the size of the estate, ranging from 13% for estates under $2 million to 55% for estates over $100 million. We also find that policies aimed at taxing the entire estate raise more revenue than those aimed at taxing unrealized gains. However, policies that tax only gains concentrate a larger portion of the tax burden on high wealth households.
... Evidence reported in Auten and Joulfaian (1997), using the 1982 Collation data and examining the effects of ERTA law changes, suggests that estate taxes may have significant effects on the pattern of capital gains realizations, especially for taxpayers between the age of 65 and 85. They estimate an elasticity coefficient of realizations with respect to the tax rate of about 0.4, evaluated at an estate tax rate of 50 percent. ...
... Por otro lado, en el impuesto sobre la renta norteamericano la plusvalía del activo experimentada por el transmitente no tributa para las transmisiones «mortis causa» -ya lo está haciendo en transmisiones lucrativas pues se tributa por el valor real del activo-y sí para las «inter vivos», aunque diferida hasta que el adquirente se desprenda del bien. Dados los menores tipos de gravamen del impuesto sucesorio frente al de la renta se podría pensar que los individuos optarán por legar, aunque los intentos de contrastación de esta hipótesis han dado resultados infructuosos (Poterba, 2001, y Auten y Joulfaian, 2001. Para una revisión completa de las diferencias en USA en la tributación entre herencias y donaciones y tipos de acti-vos ver Phillips y Wolfkiel (1998), Shackelford (2000), Schmalbeck (2001), Poterba (2001). ...
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El objetivo de este trabajo es ofrecer una revisión sintética y actualizada de la literatura económica sobre las transmisiones lucrativas de bienes entre generaciones de una familia. Primero se desarrollan los distintos modelos explicativos de la motivación de este tipo de transmisiones. Seguidamente se sintetizan los trabajos empíricos que han tratado de discriminar entre modelos. En tercer lugar se analiza la influencia de la fiscalidad en la elección de cuándo transmitir. Se concluye que nos encontramos ante un fenómeno plural tanto si atendemos a los individuos (los ricos y ancianos presentan un comportamiento diferenciado del resto de individuos: desean transmitir y atienden al coste fiscal) como al tipo de transmisiones (las «inter vivos» muestran matices redistributivos y las «mortis causa» se reparten igualitariamente entre hermanos).
... Because assets whose value consists in part of unrealized capital gains receive basis stepup at death, the estate tax may interact with incentives to give inter vivos gifts and to realize capital gains. Auten and Joulfaian (1998) ...
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This paper surveys, integrates, and extends research on estate and gift taxes. The paper begins with information on features of U.S. transfer taxes, characteristics of recent estate tax returns, the evolution of transfer taxes, the role of such taxes in other countries, and theory and evidence concerning why people give intergenerational transfers. The next sections examine the incidence, equity, and efficiency of transfer taxes. Subsequent sections cover administrative issues and the effects on saving, labor supply, entrepreneurship, inter vivos gifts, charitable contributions, and capital gains realizations. The paper closes with a discussion of policy options and a short conclusion.
... Past research has also considered the motives underlying bequests by exploring whether individuals take full advantage of lower gift taxes via inter vivos transfers (e.g., Kuehlwein 1994, Joulfaian 2000a, McGarry 2001, Poterba 2001, and Page 2003). Still others have considered the impact on charitable contributions (Joulfaian 2000b, and Auten and Joulfaian 1996) and capital gains realization (Auten and Joulfaian 2001). ...
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Since 1976, more than 30 states have eliminated their "death" taxes and many others have reduced them. This unexplored case of interstate tax competition presents a unique opportunity to develop a new, more satisfying definition of competitor based on historical elderly migration patterns. Using data from 1967 onward, we outline the recent history of state death tax competitio n and present a spatial econometric analysis. Interstate tax competition is evident and grows stronger when using migration-based definitions of competitors. The article concludes with still more evidence of interstate tax competition--the recent movement by states to effectively revive their death taxes. (JEL H7, D7) Copyright 2004, Oxford University Press.
... There have been many papers that study behavioral responses to estate taxation. 4 The examples include the effects of estate taxation on the amount of inter vivos transfers (Arrondel and Laferrere 2001;McGarry 2001;Poterba 2001;Bernheim et al. 2004;Joulfaian and McGarry 2004), on charitable contributions (Auten and Joulfaian 1996), on the timing of capital gains realizations (Auten and Joulfaian 2001), and on the timing of inter vivos transfers (Joulfaian 2004;2005). None of these papers, however, studies how past tax payments affect current behavior. ...
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Unlike most other taxes that are levied on most individuals or corporations, the estate tax is levied on a small number of very large estates. This divides taxpayers sharply into two groups?those who have experience of having paid it before and those who don?t. Given the nature and the rate of the estate tax, the experience of having paid it is probably neither negligible nor forgettable. In this paper, using data from the Survey of Consumer Finances and a regression discontinuity design, I find evidence that the experience of paying the estate tax in the past increases the probability that the individual is currently engaged in estate tax avoidance behavior for their children. I also find that the experience has an impact on the probability (extensive margin), but not on the amount (intensive margin).
... See the papers byArnaud et al., 2001;Auten and Joulfaian , 2001, Brooks et al., 1998, Chakir and Hardelin, 2010, Christoffersen, 2001, Dennis et al., 2000Gagné, 2003, Goodwin and Smith, 2003, Ida and Goto, 2009and Nandy, 2010. ...
... Evidence reported in Auten and Joulfaian (2001) suggests that estate taxes may have significant effects on the pattern of capital gains realizations. They employ the 1982 Collation data which links estate tax returns of estate tax decedents in 1982 to pre-death income tax returns of 1980 and 1981. ...
Article
This manuscript traces the evolution of the estate tax since its enactment. It provides a brief legislative history and description of the structure and features of the tax through 2013. Next it reviews the fiscal contribution of each of the estate and gift taxes through the turbulent recent years. In addition, it provides trends on the number of individuals and households touched by the tax as reflected by the number of returns filed over time through 2011. Furthermore, it also provides a comprehensive review of the behavioral effects of the tax. Estate and gift taxes may have considerable implications for economic behavior. The latter include the effects on saving, labor supply, charitable giving, migration, capital gains realizations, and timing of transfers among others. The estate tax is the only wealth tax levied by the Federal government. It was enacted in 1916, and its scope was expanded to encompass gifts as well. It evolved over the years into the current Unified Transfer Tax which consists of the estate, gift, and generation skipping transfers taxes. The major features of the tax in effect in 2013 reflect a maximum tax rate of 55 percent and an exemption of $1,000,000, with a full exemption for spousal and charitable bequests. The tax provides for a credit for state death taxes at a maximum rate of 16 percent of the federal taxable estate, which effectively reduces the Federal marginal tax rate for the wealthiest estates to a maximum of 39 percent. Temporary features of the tax introduced in 2001 and modified in 2010, with an exemption of $5 million and maximum tax rate of 0.35, are dramatically different and provide more relief than those in effect in 2013 and beyond. The text expands on previous drafts by covering recent changes in the estate tax as well as documenting their consequences.
... A number of alternative specifications are considered to examine the robustness of these findings and the applicability across the population. Research by Auten and Joulfaian (2001) illustrates how capital gains decisions may be related to estate taxes and the life cycle, and how the incentives of younger taxpayers may differ for older taxpayers. To explore such differences, we divide the sample into three broad age groups: under age 60 (primarily working age taxpayers), age 60 to 74 (primarily early retirement), and age 75 and over (primarily later retirement). ...
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This paper explores the effect of estate and gift taxes on the after-tax rate of return earned by savers. The estate tax affects only a small fraction of households -- taxable decedents represented only 1.4 percent of all deaths in 1995 -- but the affected households account for a substantial fraction of household net worth. The estate tax can be viewed as a tax on capital income, with the effective rate depending on the statutory tax rate as well as the potential taxpayer's mortality risk. Because mortality rates rise with age, the effective estate tax burden is therefore greater for older than for younger individuals. The estate tax adds approximately 0.3 percentage points to the average tax burden on capital income for households headed by individuals between the ages of 50 and 59. For households headed by individuals between the ages of 70 and 79, however, the estate tax increases the tax burden on capital income by approximately 3 percentage points. The effects are even larger for older households. The paper also explores the fraction of the net worth held by households that are subject to the estate tax that could be transferred to the next generation with a program a per donee exemption from gift tax. While roughly one quarter of potentially taxable assets could be transferred in this way, actual levels of inter vivos giving are much lower than the levels that would one would expect if households were taking full advantage of this tax avoidance strategy.
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Proponents of transfer taxation argue that levies on gifts and estates serve the dual purposes of breaking up large concentrations of private wealth, while raising significant revenues. A number of commentators have recently questioned the first of these purported advantages, on the grounds that a variety of available estate planning techniques allow wealthy individuals to pass on vast resources essentially tax free. Most techniques entail the use of intra vivos transfers, and are particularly effective when these transfers are made as early in life as possible. In this paper, I argue that the use of these same estate planning techniques also largely neutralize the second objective of transfer taxation by depressing income tax revenues. This effect is reinforced by the tendency for estate taxation to encourage charitable bequests. Although it is difficult to quantify the indirect revenue effects with a high degree of precision, I find that, prior to the Tax Reform Act of 1986, these effects could easily have offset all revenues collected through the estate tax. The recent Tax Reform Act only partially vitiates this conclusions.
Article
The Czech Republic is facing a population ageing phenomenon. In addition, its demographic structure is expected to change dramatically over the next 50 years. We apply a stylised overlapping generation model in order to analyse the potential effects of the expected demographic changes on aggregate economic performance taking into account alternative fiscal policy set-ups. We provide a rough estimate of the amendments necessary on the revenue and expenditure sides in order to keep the current system financially balanced. We also discuss the implications for the development of other economic variables. In particular, we separately simulate future developments in the cases of adjustment in either the contribution rate or the value of public benefit. In addition, we demonstrate that parametric changes, such as an increase in the statutory retirement age, cannot eliminate the impact of the deterioration in the demographic structure on the course of the economy.
Article
The authors use panel data and information about differences in state tax rates to separate the effects of transitory and permanent tax rate changes on capital-gains realizations behavior. The estimated effect of permanent change is substantially smaller than the effect of transitory change. The difference is even larger than differences between estimates from past micro data studies, which have primarily measured the transitory effect, and time-series studies, which have primarily measured the permanent effect. The authors' results resolve a long-standing conflict between micro data and time-series studies of how marginal tax rates affect capital-gains realizations behavior. Copyright 1994 by American Economic Association.
Article
This paper uses time-series data to investigate how changes in capital gains tax rates affect taxpayer compliance. It finds that a one percent increase in the marginal tax rate reduces voluntary compliance by between one half and one percent. These results confirm the findings of previous studies based on individual household data. They also suggest that at least one quarter of the observed capital gain realization response to changes in marginal tax rates is due to changes in reporting behavior, rather than portfolio behavior.
Article
Recent surveys on the labor-supply responses of men document a divergence in the estimates of substitution and income effects obtained using various estimation approaches. Generally, studies accounting for nonlinear tax schedules in a static setting via a piecewise-linear approach produce estimates that typically imply higher substitution and lower income responses than are suggested by empirical work applying other approaches. This paper demonstrates that maximum likelihood estimation of a consumer-choice problem with nonlinear budget sets implicitly relies on the satisfaction of inequality constraints that translate into behaviorally meaningful restrictions. These constraints arise not as a consequence of economic theory, but instead as a requirement to create a properly defined statistical model. In the analysis of piecewise-linear budget sets, the implicit constraints required by maximum likelihood in estimation amount to imposition of Slutsky conditions at all wage-income combinations associated with kink points. In the analysis of differentiable budget sets, the tacit constraints invoked by maximum likelihood also involve inequality restrictions on Slutsky terms. The empirical work presented in this study supports the contention that these implicit constraints play a major role in explaining the discrepancies in estimates found in the literature on men's labor supply.
Article
This paper examines the effects of a proportional capital gains tax in an economy with an Austrian sector (with wine and trees) and an ordinary sector. We analyze the effect of capital gains taxation (on both an accrual and a realization basis) on the efficiency with which resources are used within the Austrian sector. Since time is the only input which can be varied in the Austrian sector this amounts to looking at the effect of capital gains taxation on the harvesting time or selling time of assets. Accrual taxation decreases the selling time of Austrian assets. Realization taxation decreases the selling time of some Austrian assets and leaves it unchanged for others. Inflation further reduces the selling time of assets taxed on an accrual basis; often, but not always, inflation increases .the selling time of Austrian assets taxed on a realization basis. These results suggest that the capital gains tax can reduce the holding period of an asset. However, there is a sense in which such taxes (at least when levied on a realization basis) discourage transactions and increase holding periods. It is never profitable to change the ownership of an Austrian asset between the time of the original investment and the ultimate harvesting of the asset for final use. We examine the effect of capital gains taxation on the efficiency of the allocation of investment between sectors. No neutrality principles emerge when ordinary investment income is taxed at the same rate as capital gains income. We also analyze the effect of the special tax treatment of capital gains at death and find that the current U.S. tax system, under which capital gains taxes are waived at death, encourages investors to hold assets longer than they otherwise would.
Article
A two-step maximum likelihood procedure is proposed for estimating simultaneous probit models and is compared to alternative limited information estimators. Conditions under which each estimator attains the Cramer–Rao lower bound are obtained. Simple tests for exogeneity based on the new two-step estimator are proposed and are shown to be asymptotically equivalent to one another and to have the same local asymptotic power as classical tests based on the limited information maximum likelihood estimator. Finite sample comparisons between the new and alternative estimators are presented based on some Monte Carlo evidence. The performance of the proposed tests for exogeneity is also assessed.
Article
The paper discusses the two-stage estimation method for switching simultaneous equations models where the criterion function determining the switching is of the probit type and the tobit type. It derives the asymptotic covariance matrices of these estimators and shows that when the criterion function is of the probit type the correct covariance matrix is underestimated when the heteroscedasticity introduced in the first step is ignored, whereas the same is not necessarily the case for one of the regimes when the criterion function is of the tobit type.
Article
We examine the impact of capital income taxation, both accrual forms of taxation and taxation of realized capital gains, on total savings and the demand for corporate financial instruments. We find that investors may hold both debt and equity in the face of effective collection of capital gains taxation even in a flat tax system. We also find that the two taxes will have substantially different effects on saving and consumption behavior, making it unlikely that the tax structure can be summarized by any single equivalent accrual tax rate.
Economic analyses of capital gains taxation: realizations, revenues, efficiency and equity
  • Zodrow
Zodrow, G., 1993. Economic analyses of capital gains taxation: realizations, revenues, efficiency and equity. Tax Law Review 48 (3), 419-527.
Federal Tax Policy and Charitable Giving How Capital Gains Tax Rates Affect Revenues: The Historical Evidence
  • C T Clotfelter
Clotfelter, C.T., 1985. Federal Tax Policy and Charitable Giving. The University of Chicago Press, Chicago. Congressional Budget Office, 1988. How Capital Gains Tax Rates Affect Revenues: The Historical Evidence.
Internal Revenue Service, Sales of Capital Assets
Internal Revenue Service, Sales of Capital Assets, 1981 and 1982. Statistics of Income Bulletin 5(3), 65-90.
  • G Auten
  • D Joulfaian
G. Auten, D. Joulfaian / Journal of Public Economics 81 (2001) 213 –229
Congressional Budget Office, 1988. How Capital Gains Tax Rates Affect Revenues: The Historical Evidence
  • C T Clotfelter
Clotfelter, C.T., 1985. Federal Tax Policy and Charitable Giving. The University of Chicago Press, Chicago. Congressional Budget Office, 1988. How Capital Gains Tax Rates Affect Revenues: The Historical Evidence.