Tax the rich heirs - and charities gain

It's known in some circles as the "death tax." But for many charities and other nonprofit groups it has proved a lifeline.

By taxing estates of wealthy people who plan to leave assets to their heirs, the United States encourages them to instead give their money away, tax free, to foundations, churches, museums, and a host of other nonprofit organizations.

Now, the estate tax is slated to disappear for a single year - in 2010 - and some legislators and economists are pushing for permanent repeal. They say taxing estates of the richest Americans takes away funds likely to create new businesses and wealth.

But the federal budget's burgeoning deficit makes permanent repeal less likely. Philanthropies are breathing a sigh of relief. They are disappointed, however, at the failure of Congress to pass proposed new incentives for charitable giving.

"We are very discouraged," says Diana Aviv, president of the Independent Sector, a group representing more than 700 national organizations, foundations, and corporate philanthropy programs.

Repealing the estate tax beyond 2010 would leave two giant legacies. It would cut some $80 billion a year from Uncle Sam's tax collections. And because the wealthy give away money to avoid estate taxes, it would sharply diminish charitable giving, says John Irons, an economist with OMB Watch, a Washington, D.C., group pushing fiscal responsibility.

The decline in charitable bequests and giving during life would be about $10 billion a year, reckon economists Jon Bakija and William Gale. That's equivalent to the total annual grants currently made by the largest 110 foundations in the US, according to their study for the Tax Policy Center of the Brookings Institution and the Urban Institute.

"That doesn't augur well for the independent sector," says Ms. Aviv. Though current hard numbers are not yet available, she figures many nonprofits are already suffering from income declines due to the economic slump, the weak stock market in 2001 and 2002, and a fall in contributions from governments, especially in hard-pressed states, for social welfare and other programs.

Under the 2001 tax-cut law, full elimination of the estate tax in the year 2010 would be followed in 2011 by reversion to its pre-2001 level. Congress designed that weird provision to keep down the 10-year revenue cost of the bill.

Permanent repeal of the estate tax has many cheerleaders. Advocates say it would be good for the economy.

"Pick a tax that does the maximum damage per dollar raised, and it would be the estate tax," says Daniel Mitchell, an economist at the conservative Heritage Foundation. "It's a tax on capital formation."

Another argument made for repeal: The estate tax forces the heirs of family farmers or owners of small business to sell their properties to pay estate taxes.

Opponents, however, say so far not a single farmer has been found to be a victim. In fact, the National Farmers Union, with some 300,000 members, opposes elimination of the tax.

And few heirs of a truly small business pay much in the way of estate taxes nowadays, since the tax exemption has risen rapidly under the 2001 law. An estate of any size can be passed on tax free to a spouse. And this year, other heirs get up to $1 million in assets tax free. Next year that amount rises to $1.5 million, and in 2009 to $3.5 million. By 2009, less than 1 percent of estates will be subject to taxation, says Craig Wruck, a government-relations official for the National Committee on Planned Giving.

Total repeal looks less likely than a year or so ago, says Joel Friedman, an economist at the Center for Budget and Policy Priorities, a liberal Washington think tank. Opposing Democrats have been joined by enough moderate Republicans in the Senate to make it unlikely that the 60 votes necessary to overcome a filibuster could be obtained. And with the deficit likely to exceed $500 billion in fiscal 2004, legislators may be reluctant to approve a costly extension of repeal.

More likely is a compromise, says Mr. Wruck. He suspects Congress will end up making $5 million or so of an estate exempt from taxation.

As it is the really rich who account for the bulk of bequests to nonprofits, the damage of such a compromise to charities and other nonprofits would be relatively small, economists say.

As Congress prepared to adjourn this month, Aviv and other nonprofit leaders were frustrated to see prospects fade for legislation providing new incentives to donate to charity.

The bills would allow millions of people who take the standard deduction on their federal tax forms to deduct a portion of their charitable gifts as well, up to $500. The measures also would allow savers to make tax-free distributions from their individual retirement accounts directly to charities. These measures would cost $10 billion to $12 billion in revenues over 10 years.

But the bills differ. Senate Democrats are blocking action, fearing that another part of the Senate bill - an increase in a Social Services Block Grant to states from $1.7 billion to $2.8 billion - would be knocked out in a Republican-controlled conference committee. States use much of the money to support welfare charities.

Meanwhile, several states have altered their estate-tax laws. So even if the federal tax disappears, they'll continue to reap revenues from bequests.

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