Friday, July 18, 2014

Tax Simplification Proposal

Originally Published on on July 12th,2011
Other tax bloggers put forth reform proposals all the time.  Robert FlachThe Wandering Tax Pro, who scorns the expensive and unreliable software the rest of use, is putting out a rework of the Code in several installments.  I’ve generally held back my thoughts.  My attitude has been “It is what it is.  Deal with it.”  I look at the developments and report on them to the extent there is practical utility, humor and matter for reflection.  All this talk of tax reform and simplifying the Code and all has finally caught up with me.  My proposal would eliminate an entire Subtitle, close to 100 sections.  Not only that it can be made revenue neutral with minor changes to one single section.  What is even better, the people affected by the increase that creates neutrality will be pretty much the same people who will benefit from the eliminated tax.
Since it is always good to start with dessert, let’s talk about the Subtitle to eliminate.  That would be Subtitle B Estate and Gift Taxes.  Pretty radical.  Even when there was no estate tax, in 2010 there was still gift tax.  In addition there had to be a complex mess of carryover basis rules to worry about.  No carryover basis in my proposal, even for gifts.  The basis in property acquired by gift will be its fair market value at the time of the gift, just as inherited property basis is value at date of death.
Is there a simple way to make this revenue neutral and also address the other concerns that created a perceived need for the estate tax ? Yes.  For starters let’s overshoot.  You could more than make up for eliminating the estate and gift tax by repealing one  sub-section of Subtitle A (Income Tax). That would be 102(a), which says:
Gross income does not include the value of property acquired by gift, bequest, devise, or inheritance.
That would, of course, be going too far.  Presumably we would not want to tax transfers between spouses.  That could be covered by slightly tweaking the language of Section 1041 (It now says that property transfers between spouses are treated as gifts.  That would be replaced with a gross income exclusion).  Revenue neutrality would be obtained by putting in dollar exclusions rather than wholesale repeal of the subsection.  Just for talking purposes I would throw out an annual exclusion for gifts of $25,000 and a life-time exclusion of $1,000,000 for bequests.  That would be computed at the individual recipient level.  If  each of your grandparents gives you $25,000, your adjusted gross income goes up by $75,000.  The exclusions would only apply to individuals not to trusts.  Individuals would be allowed to apply their exclusions to transfers to trusts, but there would have to be a provision that makes sure they are actual beneficiaries to avoid trafficing in exclusions.  Finally, donors of gifts over $25,000 and executors of estates would be required to withhold income tax.  That reporting would be much simpler than what is required now.
Having transfer taxes integrated with income taxes would create much more simplicity.  You would not have monstrous transactions like installment sales to intentionally defective grantor trusts that play on the incosistencies between two separate systems.  There would still be issues about when a gift is a complete gift and how long an estate can stay open.  Most of that has already been addressed.
I doubt that this proposal will make into the mix.  I’m fairly certain that the primary purpose of  the Estate and Gift Tax is to serve as a white collar jobs program transferring wealth from the upper class to the upper middle class.

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