The End of Estate Tax Repeal
The dramatic events of the 109th Congress (2005-2006) probably marked the end of serious effort to repeal the federal estate tax in this generation.
Dear Readers Who Follow Washington Developments:
As everyone knows, Congress got out of town this month without resolving the federal estate tax issues that have been hanging in the balance for so long. Since 1997 when Congress prescribed a ten-year phase-in for increases in the unified credit, and especially since 2001 when Congress added rate reductions and a one-year repeal to the ten-year template, we have watched Congress closely to see how it would stabilize the future of the federal estate tax. Congress has to do something, after all. Doesn’t it?
Many of us may have been looking through the wrong end of the telescope. We have wondered why Congress has taken so long to clear up the decade-long uncertainty it created in 2001. But the political forces that shape Congress’s agenda should make us ask: What’s the hurry? Doesn’t Congress have another three years left to act?
One thing, though, does appear certain: the moment for full and permanent repeal of the federal estate tax in this generation has passed. If repeal ever had a chance, it no longer does.
The history of the repeal movement has a number of milestones:
• President Reagan’s low-key interest in repeal, which produced only a reduction of the top rate from 70% to 50%, in a phased reduction that ultimately leveled off at 55%,
• President Reagan’s legacy of populist support for tax cuts of all kinds, coupled with increasing unrest among some economists and some leaders of public opinion with the economic and personal burden of the tax increasingly referred to as the “death tax,”
• the Republican takeover of the House of Representatives in 1994, spurred by a “Contract with America” in which tax relief was prominent,
• President Bush’s presidential campaign of 2000, drawing on two decades of growing anti-tax sentiment in promising to return huge projected budget surpluses to the American people in “Tax Cuts with a Purpose,” including repeal of the death tax,
•the “repeal” itself in the Economic Growth and Tax Relief Reconciliation Act of 2001 (“EGTRRA”), albeit only after nine years and then only for one year,
• the immediate commitment from the 2001 Republican leadership to “make the tax cuts permanent,” even as projected budget surpluses dwindled,
• history-defying Republican mid-term election gains in 2002, followed by still more Republican gains in the presidential year of 2004,
• an October 2003 Washington Post report – immediately denied but publicly affirmed after the 2004 election – that Senate Finance Committee member and repeal supporter Jon Kyl (R-AZ) was working with other Senators to craft a bipartisan compromise proposal that would increase the exemption to $15 million and decrease the rate, above that exemption, to 15%, the current income tax rate on capital gains,
• the perennial endorsement of full repeal by the House of Representatives, culminating in a 272-162 vote in April 2005 for the current version of H.R. 8, the “Death Tax Repeal Permanency Act of 2005,”
• the scheduling for just after Labor Day in 2005 of a Senate vote to take up H.R. 8, to either approve it or, more likely, to amend it along the lines of Senator Kyl’s compromise,
• the abrupt postponement of that vote after Hurricane Katrina,
• the recommitment of the Senate Republican leadership to an estate tax vote in 2006, affirmed at a retreat of Republican Senators in January, announced by Senate Majority Leader Bill Frist (R-TN) in February, and reaffirmed in Senator Frist’s call in an April 21 letter to Republican Senators to “end the death tax forever,”
• a resolve by representatives of most pro-repeal constituencies at a May 2 “Summit for Permanent Death Tax Repeal” to get behind Senator Kyl’s 15% compromise, with a $5 million exemption, as the most practical way to achieve at least a substantial measure of estate tax relief,
• a 57-41 Senate vote on June 8 on a “cloture” motion to take up
H.R. 8, which thereby failed for lack of the required 60 votes,
• passage by the House of two new estate tax compromise bills customized to attract the support of 60 Senators – H.R. 5638, the “Permanent Estate Tax Relief Act of 2006” (“PETRA”) by a vote of 269-156 on June 22, and H.R. 5970, the “Estate Tax and Extension of Tax Relief Act of 2006” (“ETETRA”) by a vote of 230-180 on July 29, and
•a 56-42 Senate vote on August 3 on a cloture motion to take up consideration of H.R. 5970, which thereby also failed for lack of the required 60 votes.While the 57-41 Senate vote in June fully reflected the available Senate support at the time, since the two absent Senators would have voted no, the 56-42 vote in August probably reflected the support of 58 Senators, as Senator Frist changed his vote from yes to no to preserve his right to request reconsideration later, and Senator Max Baucus (D-MT), who was expected to vote yes, was absent because of the recent death of his nephew in Iraq. The only Senator to change his vote between June 8 and August 3 was Senator Robert Byrd (D-WV).But a mechanical recital of votes does not begin to tell the whole story. Content and packaging matter. H.R. 5638 (“PETRA”), effective January 1, 2010, would have provided:
• a $5 million exemption equivalent (indexed for inflation after 2010),
• an initial rate tied to the top income tax rate on general capital gains (currently 15%, but scheduled to return to its “permanent” level of 20% in 2011),
• a rate equal to double that rate on taxable estates over $25 million (not indexed),
• gift tax exemptions and rates conformed to the estate tax,
• repeal of the deduction for state death taxes,
• retention of a stepped-up basis at death for appreciated assets, and
• repeal of the 2011 “sunset” for the other transfer tax provisions of EGTRRA. In addition, PETRA would have provided a procedure for surviving spouses to use the unused exemptions of predeceased spouses and would have also provided tax relief for the timber industry, a not-very-subtle attempt to attract the votes of Senators from timber-growing states. The Bush Administration, despite its official commitment to full and permanent repeal of the estate tax, announced promptly after the House action that it supported PETRA “as a constructive step toward full repeal of the death tax.” On June 27, Senator Frist announced that PETRA would not be brought to the Senate floor before the Fourth of July recess, but his press release promised that “[t]he Senate will vote on a permanent reduction to this tax.” H.R. 5970 (“ETETRA”), with respect to which the Senate did vote (rejecting a cloture motion on August 3), modified PETRA by phasing in the $5 million exemption equivalent from 2010 to 2015, delinking the top estate tax rate (but not the 15% rate) from the capital gains tax rate, phasing in the reduction of the top rate to 30% over five years from 2010 to 2015, and extending the indexing for inflation (after 2015) to the $25 million bracket amount. ETETRA also removed the “miscellaneous” provisions of EGTRRA, including the well-known and generally popular GST exemption allocation changes, from the repeal of the EGTRRA sunset, meaning that they again would be scheduled to expire in 2011. In addition to the estate tax provisions and the timber relief provision, however, ETETRA included two-year “extenders” of various tax provisions that had expired at the beginning of 2006. The most prominent of these provisions is the research credit originally enacted as a temporary measure in the Economic Recovery Tax Act of 1981, extended 11 times since then, and now housed in section 41 of the Code (where it expired on January 1, 2006). But the extenders also include a large number of provisions that are perhaps lesser known but still very popular among the individuals and businesses they affect, including such items as the qualified tuition deduction, the work opportunity tax credit, the welfare-to-work credit, the above-the-line deduction for certain expenses of elementary and secondary school teachers, the Indian Employment Tax Credit, New York Liberty Zone tax credits, the expanded availability of Medical Savings Accounts, the election to deduct state and local sales taxes rather than income taxes, and lots more. On top of that, ETETRA included an increase in the minimum wage to $7.25 per hour by June 1, 2009, and a number of other tax changes not related to the estate tax. The combination of estate tax provisions, extenders, and minimum wage increase was popularly referred to as the “trifecta.” The effort to attract votes with these “sweeteners” did not work. Indeed, it speaks volumes about the intensity of the views of Senators on the subject of estate tax relief that between the June 8 and August 3 cloture votes not one supporter defected even though estate tax relief was coupled with an increase in the minimum wage that many Republican Senators historically have resisted, and only one who voted no in June (Senator Byrd) switched his vote to yes even to secure enactment of the minimum wage increase supported by most Democrats, as well as the popular extenders. This intensity is also evidenced by the deeply personal nature of the efforts of the party leaders, Senator Frist and Senator Harry Reid (D-NV). The pressure to line up votes from the leadership of both parties was striking.
All this reflects an extraordinary amount of attention to the estate, gift, and GST taxes, which have their own subtitle in the Internal Revenue Code but historically have often been no more than a footnote in the overall story of federal taxation. We will probably never know how the Senate would have voted just after Labor Day last year, if Katrina had not intervened. Many Washington observers who try to handicap this kind of thing saw it as a close call. But it is clear that the effort for total repeal has simply lost too much traction to have a meaningful chance of recovery. Consider the following:
• In October 2003, Senator Kyl was publicly insisting on full and permanent repeal and denying rumors of compromise, but by the end of 2004 his push for a 15% rate instead of full repeal was a matter of general knowledge. Even before the June 8 cloture vote, it was understood in the Senate that Senator Kyl would accept a 30% rate for the largest estates – an understanding that later was reflected in PETRA and ETETRA. Once willingness to compromise in this way is conceded, it is very hard to credibly reassert a “purist” position.
• As late as his April 21 letter, Majority Leader Frist was calling on his Republican colleagues to “end the death tax forever,” but by summer he was leading the effort to bring ETETRA to a vote, with its 15% and 30% rates.
• The Bush Administration’s official position has been to favor full and permanent repeal, but the White House called PETRA “a constructive step toward full repeal of the death tax.” Again, once a compromise effort is dignified in that way, it becomes, de facto, the new agenda.
• The opposition to repeal – indeed even the opposition to substantial reduction – is resolute and deep, as indicated by the failure of the ETETRA “sweeteners” to change more than one Senator’s vote.
• Unlike 2001, the current fiscal climate of large budget deficits fuels the unease of politicians and voters with “tax cuts for the rich.”
• As a practical matter, estate tax repeal requires 60 votes in the Senate to approve a cloture motion, the congressional equivalent of “calling the question.” Most people view the outcome of next week’s election as anybody’s guess, particularly in the Senate, but no one expects Republican gains that might bring the 60-vote target more within reach. The sum of these observations is that anything the repeal effort might have had going for it in recent years has now dwindled sharply. While the exact form and timing of any possible estate tax relief is still unclear, those who have been looking for repeal should look no more. Meanwhile, I plan to write more Capital Letters, focusing on the substance of the estate tax debate, on PETRA and ETETRA and what they can teach us about the kind of estate tax legislation (if any) we might see in the future, on other developments and projects in the nation’s capital of interest to estate planners, on the significance of the November 7 election, and on the pure rumors and speculation that no communication from the nation’s capital should be without.