The estate tax does more than hurt the rich

The estate tax, whereby the government taxes bequests received by heirs of wealthy families, has been a contentious issue in the U.S. since the inauguration of President Bush in 2001. Supporters of the tax argue that because it is levied only on the largest 2 percent of estates, the burden falls only upon wealthy families who can afford to pay.

However, economist N. Gregory Mankiw, chairman of the President's Council of Economic Advisers (CEA), says that this simplified view of the estate tax is based on an archaic understanding of tax incidence. That is, economists have long understood that the burden of taxation rarely stays in one place, as individuals and firms pass on costs to others when at all possible.

In the context of the estate tax, it has an adverse impact on others because it discourages capital formation, which reduces productivity and labour income throughout the economy.

Thus, while not readily apparent to the average worker, the existence of an estate tax is the reason for depressing the size of their weekly paycheck.

Mankiw adds that, for a variety of reasons, the net revenues raised through the tax are likely to be zero or negative:

The estate tax encourages people to undertake avoidance actions, such as making gifts to their children, which lower income tax revenues.

The depressing effect on capital accumulation restrains productivity, which in turn reduces the amount of labour income to be taxed.

Capital taxes reduce the amount of capital available to be taxed.

More broadly, Mankiw concludes, the burden of these taxes is almost always assumed to fall on the owners of capital – the burden shifted to labour is generally ignored.

Source: N. Gregory Mankiw, CEA Chairman N. Gregory Mankiw Makes the Case for Estate Tax Repeal, American Council for Capital Formation, December 2003.

For text http://www.accf.org/ACCF%20REVAMP/PDFs/SR/SR1203.PDF

For more on Estate Tax http://www.ncpa.org/iss/tax/

FMF Policy Bulletin\24 February 2004