Estate Tax Takedown – Levine Defeats Mankiw

I’m a huge fan of Bloomberg’s Matt Levine,1  who is basically smarter and funnier than anyone writing about finance.

Anyway, I was annoyed to read yesterday’s Op-Ed by Gregory Mankiw (whose textbook of course we all had to have in College) Mankiw’s a Harvard professor with all the respect that comes with that, and he’s attacking a tax position I hold dearly. My view is that the Estate Tax is the best of all taxes, and Mankiw’s view in the Op-Ed is that it’s unfair, because of the different level of taxation that will hit a theoretical household of frugals vs. spendthrifts.

Mankiw’s view is that two households that generate, say, $20 million in wealth will be hit by unequal taxes, depending on how they spend, or don’t spend, their money. To complete the thought, a spendy household will end up avoiding the estate tax – currently 40% of an estate’s value above $5.45 million. Meanwhile, a thrifty household will pay those hefty taxes, when the couple dies. Humph. That did sound unfair when I read it yesterday.

Thankfully, Levine rescues my views, with an important distinction. The taxpayer is actually their heir, not the wealth-generator. The wealth-generator is dead. And when you think about what is “fair” to heirs, the calculus changes. Take it away, Matt:

Here is a curious argument from N. Gregory Mankiw that the estate tax is bad “because it violates a principle that economists call horizontal equity. The basic idea is that similar people should face similar tax burdens.” So if two couples — the Frugals and the Profligates — each start businesses, work hard, and earn the same amount of money, they should each pay the same amount of taxes, even if the Frugals save all their money and the Profligates spend theirs. They do. But Mankiw thinks they don’t:

[Levine now quoting Mankiw:] Under an income tax, the couples would pay the same, because they earned the same income. Under a consumption tax, Mr. and Mrs. Profligate would pay more because of their lavish living (though the Frugals’ descendants would also pay when they spend their inheritance). But under our current system, which combines an income tax and an estate tax, the Frugal family has the higher tax burden. To me, this does not seem right.

Ah, see, the problem here is thinking that the senior Frugals pay the estate tax. They don’t. They are dead when the estate tax is assessed. The two great inevitabilities are death and taxes, but death is in an important sense logically prior. When you pay taxes, you still (usually) prefer not to be dead. Once you are dead, you have no preferences about taxes. We could fund the government with a lovely, efficient, non-distortionary system of taxing only the dead, except — and this is another key point — the dead don’t have any money. The incidence of the estate tax can’t be on dead people. Once the Frugals die, their heirs have the money, and the estate tax taxes them. If the Frugals’ children make $30,000 a year as art gallery assistants and also inherit $20 million, and Mr. and Mrs. Justnotrich’s children make $30,000 a year as Wal-Mart employees and inherit nothing, it seems odd to say that they should pay the same taxes as a matter of horizontal equity.

matt_levine

So anyway, I think Levine the finance blogger wins that round against Mankiw the professor. Also, it fits my worldview, so…

Please see related posts:

The Estate Tax is the best tax

Adult conversation about taxes

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  1. And you should subscribe to his daily email. No wait, don’t, because then you’ll realize how often I’m trying to ape his style. Forget I mentinoed it.

4 Replies to “Estate Tax Takedown – Levine Defeats Mankiw”

  1. Wouldn’t it then follow that the living shouldn’t bother themselves with even thinking about estate taxes? If your assets aren’t subjected to estate tax until after you’re dead, and since you can’t do anything about it when you become a “constituent” even if only in spirit (no pun intended), then why would a living person worry about it? Answer: because you know that your heirs will survive and you want them to enjoy the fruits of the empire as much as possible.

    1. I mean, sure, the person with assets cares about the taxes. No doubt there. And presumably cares that heirs have more money, rather than less. But the designer of tax policy – who should have ‘fairness’ in mind – cares less about the individual with assets and more about general principles like equitable treatment. Levine’s point is that the ‘equitable’ issue matters when considering the person receiving the money. I don’t know…I thought it was good. You like Mankiw’s view better?

  2. Fascinating in its simplicity.
    If this (your quote) is how Levine actually ended his article, it’s almost like he dropped the mike right there.

  3. I agree with Matt Levine on most issues, and I support the estate tax as a social engineering tool to address economic mobility and opportunity. That said, Levine’s argument that the estate tax applies to the dead ignores the fact that the estate tax also applies to gifts the Frugals make while they are alive. In a way, it’s another consumption tax: instead of spending on fancy cars, the Frugals spend on gifts to their children. I don’t think there is an expectation of horizontal equity for different types of consumption taxes (e.g. milk vs rum vs luxury goods).
    So, similar conclusion — estate tax doesn’t run afoul of commonly accepted ideals of equity — but different line of reasoning.

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I founded Bankers Anonymous because, as a recovering banker, I believe that the gap between the financial world as I know it and the public discourse about finance is more than just a problem for a family trying to balance their checkbook, or politicians trying to score points over next year’s budget – it is a weakness of our civil society. For reals. It’s also really fun for me.

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