The Ethics of Taxation Trilogy: Part I – An Ethical Analysis of Inheritance Tax

 (I) Estate tax vs. Inheritance tax

In order to examine the ethical implications of an inheritance tax, it helps to first distinguish between estate tax and inheritance tax. According to the Internal Revenue Service (IRS), an estate tax is a tax on your right to transfer property or wealth upon your death. In other words, an estate tax is a tax on the total amount of the estate, after all creditors are paid but before heirs are able to receive their bequests. It also is important to note estate taxes are only incurred on ‘exceptionally large’ estates. As of January 1, 2011, estates with a net value of $5,000,000 ($10,000,000 for married couples) are the exemption line for the levying of estate taxes. Thus, if the estate is worth $4,999,999 or less, then no estate tax is levied.

An inheritance tax, on the other hand, occurs after any heirs have received their respective payouts. An inheritance tax is imposed on the amount of payout inherited, and so it is paid by the heirs themselves, rather than by the deceased estate holder.  Another difference between an estate tax and an inheritance tax is that an estate tax is levied at the federal level, whereas currently, inheritance tax is levied on the state level. According to the IRS, there currently exists an inheritance tax in only seven of the fifty states (Indiana, Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania). However, the inheritance tax is likely to be repealed in Indiana and Nebraska within the next decade.

(II) Views of Taxation

According to philosopher, Thomas Nagel, in The Myth of Ownership, we can understand taxes, and taxation as a whole, in two ways. The first way to understand taxes is a libertarian one, which views taxes as a transgression of property rights. The amount of wealth and property we come to own in our lifetimes are rightfully ours, and thus any state which taxes the owners of this wealth and/or property are wrongfully interfering in people’s lives.

The second way to understand taxes is that taxes serve simply as a limit to what one can rightfully own. In other words, the remaining wealth and property, which one has after taxes is actually the amount of wealth and property that one rightfully owns. Nagel subscribes to this view on taxes, and I apply this interpretation to the question, “Is an inheritance tax ethical?”

(III) Arguments in Favor of an Inheritance Tax

There are more than a few supporters and arguments in favor of an inheritance tax, even though it currently only exists in seven, soon to be five, states.

(1) First, Nagel claims that it is unfair that people do not pay an inheritance tax. Those of us who work are forced to pay taxes on the wealth we earn and yet, those who do nothing but are fortunate enough to receive wealth by way of an inheritance do not have to pay taxes on this wealth. While the person who originally earned the wealth did pay taxes on this wealth throughout her lifetime, once this wealth is transferred to the inheritor it no longer incurs any taxes. This is where the problem lies according to Nagel. The inheritance tax is not a double or triple tax on the wealth of the deceased, but rather the tax is a single tax on the inheritors of wealth. In the same vein, an inheritance tax itself is not a tax on the wealth and savings of the deceased, but rather it is a tax on the transfer of wealth from the deceased to another party for non-charitable reasons.

(2) According to the IRS, the inheritance tax accounts for roughly $20 billion annually. Considering the state of the U.S. economy today, $20 billion may be of some benefit to society. With an inheritance tax in place, benefit goes to a greater number rather than to a select few who do not pay the inheritance tax.

(3) A third argument in favor of an inheritance tax makes the point that future generations, who receive inheritances, have an incentive to work, rather than just getting by on their inheritance. The inheritance tax only applies to estates of considerable size ($5 million for an individual, $10 million for a married couple). Those who inherit smaller Inheritances are not taxed on their inheritance.

(4) Proponents of the inheritance tax, such as Liam Murphy, argue that an inheritance tax is necessarily progressive in structure. A progressive structure of taxation levies higher tax rates on wealthier individuals, which in turn allows for lower-income individuals to avoid excessive tax burdens. According to a 2008 report by the Organization for Economic Cooperation and Development (OECD), the U.S. has one of the top two most progressive tax structures in the world today. In order to remain consistent with the stance of a progressive tax structure, it follows that an inheritance tax should be in place.

(IV) Arguments Against Inheritance Tax

(1) One of the main arguments against an inheritance tax is that it, and the estate tax, essentially serves as double taxation on a deceased person’s wealth.

(2) An inheritance tax disproportionately burdens small businesses. For instance, if an heir is to inherit a small business that has few liquid assets, it becomes almost implausible for the heir to pay the inheritance tax without liquidating the inherited business.

(3) An inheritance tax encourages offshore transference of wealth. Critics claim that an inheritance tax works as a disincentive to invest additional amounts of money into viable businesses. The tax basically serves as a threshold that investors are unwilling to cross because of the increased tax burden placed on them and their family. Edward McCaffery, a tax law professor at the University of Southern California law school, poses a moral argument against the Inheritance tax. Essentially he argues the deceased person holds the rights to his earned wealth because he continually paid taxes on the income while he was alive. Neither the government nor the inheritors have moral claims on this wealth. One final, simple critique of the inheritance tax is it merely serves as a tax on the rich. Why should we tax success?

(V) Ethical Analysis

To analyze the issue of inheritance tax from a relatively unbiased perspective, it is important to ask two questions. The first question is simply, what is justice? In the case in favor of an inheritance tax, justice is represented by a progressive tax structure, one that fairly taxes the wealth of its citizens. Justice also is the incentive to join the workforce and earn our own fortune, rather than rely on an inherited fortune for our livelihood.

In the case against an inheritance tax, injustice is represented in the form of a double-taxation on earned wealth, one in which singles out the rich, either by taking from them what is rightfully theirs, or serving as a disincentive to further invest in an viable business. Injustice here is also the unfair economic burden on small businesses, and the encouragement to shift investments or earned wealth to countries other than our own.

While an inheritance tax has elements of both justice and injustice, one’s stand on the tax may ultimately come back to one’s original position on taxation as a whole. In general, the case against inheritance tax is a libertarian one. This view holds that while the Inheritance tax is certainly unjust, taxation in its entirety is unjust because taxes are a transgression of our personal property rights. On the other hand, the case in favor of the inheritance tax is a liberal one – only the wealth and property after taxes is wealth and property we rightfully own. If we are lucky enough to receive a large inheritance, the value of the inheritance after taxes is the true rightful value of the inheritance. Thus, on the subject of taxation from a liberal view, an inheritance tax is just, and therefore, an ethical form of taxation.

The other question that we must ask is: what is the most preferable state of affairs for the state to achieve justice? From a utilitarian perspective, more people benefit from an inheritance tax than are harmed. If no one is pays inheritance tax, more of us will see an increase in the taxes or a decrease in government services. Thus, it may be that enacting an inheritance tax is morally defensible because it produces the most preferable state of affairs for the largest number of people.

When I answer the question, “Is an inheritance tax ethical?” it seems the answer is yes – for two reasons. First, the liberal view of taxes gives an ethical accounting for an inheritance tax. Second, a utilitarian analysis of the issue supports an inheritance tax.

BY: JAKE LAZZO

Sources

Alstott, Anne. “Equal Opportunity and Inheritance Taxation.” Harvard Law Review. 121. no. 2 (2007): 469-542.

de Rugy, Veronique. “Taxation, American Style.” Reason: Free Minds and Free Markets, May 2012. http://reason.com/archives/2012/04/16/taxation-american-style (accessed June 22, 2012).

Garber, Julie. Estate Planning Strategies: Collective Wisdom, Proven Techniques, (Guardian Publishing, 2008), 141-156.

McCaffery, Edward. “Grave Robbers: The Moral Case against the Death Tax.” Policy Analysis. 353. (1999).

Nagel, Thomas, and Liam Murphy. The Myth of Ownership: Taxes and Justice. Oxford and New York: Oxford University Press, 2002.

Internal Revenue Service, “Estate and Gift Taxes.” Last modified March 09, 2012. Accessed June 22, 2012. http://www.irs.gov/businesses/small/article/0,,id=98968,00.htm

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