Romney Is Avoiding Estate Taxes. So What?

Yesterday, Bloomberg's Jesse Drucker broke the news that Mitt Romney is using a generation-skipping trust to reduce taxes on his estate. Romney's strategy is complicated, but it boils down to contributing assets with a low stated value, so that gains on the assets will be subject only to capital gains tax, and not to estate tax.

I'm not seeing any suggestion that what Romney did is illegal. And to the extent that he obeyed the law, I don't see why this is a reason to be critical of Romney. He's just trying to reduce his tax bill like everybody else is.

Of course, Romney has a greater number of avenues to cut his tax rate than the average American does. That's partly because a lot of the taxes that Romney owes are due only upon transfer. For example, you pay capital gains tax only when you realize a capital gain, so Romney can avoid tax by holding onto appreciated assets for as long as possible.

And you pay gift and estate tax only when you give your assets away (in the latter case, at death). So Romney can avoid tax by giving assets away when their value is low, giving them to trusts that skip generations to reduce the number of transfers and so forth.

You can contrast the easy avoidance of transfer taxes with other kinds of taxes that are harder to avoid: taxes on current income, taxes on consumption and taxes on property value. These are the main taxes paid by most middle-income and upper-middle-income people. In general, to avoid these taxes, you must avoid earning income, consuming, or owning property, which is much harder than simply avoiding transfers -- and which is why your tax return is probably a lot simpler than Mitt Romney's.

People tend to talk about strategies like Romney's as highlighting the need to close loopholes in the estate tax. I think that is likely to be a losing battle; estate taxes are necessarily extremely complex, and the accountants are always a step ahead of the lawmakers.

A better option is to tax the rich with taxes that look more like the ones that average people pay: Taxes that are structurally more difficult to avoid because they are not linked to transfers.

There are a number of options. The Netherlands uses a wealth tax in lieu of a tax on capital gains, so avoiding transfers does not shelter wealth from tax. Integrating the corporate and individual tax codes would make it possible to tax returns to investments in companies at graduated rates based on the shareholder's income, without waiting for the shareholder to sell. A progressive consumption tax would apply escalating tax rates as people live more lavishly, without needing to keep track of their asset holdings or sales.

We shouldn't expect rich people to pass on perfectly legal opportunities to avoid taxes, any more than we would expect middle-class people to do so. And we shouldn't expect to make transfer taxes work well given their long-standing track record of being ripe for avoidance. We should find a way to tax Mitt Romney, and others like him, without waiting around for them to transfer their assets.

(Josh Barro is lead writer for the Ticker. E-mail him and follow him on Twitter.)

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