Republican gains in the U.S. Senate on Election Day have changed the politics of the estate tax, anti-tax activists said, greatly increasing the chance for a permanent repeal early next year.
By increasing its number of seats to 55, the GOP moved four votes closer to the 60 needed to abolish the tax beyond 2010.
The results on November 2 also could persuade other opponents of repealing the tax to change their minds. The issue was a factor in the defeats of three of the Democrats who lost on November 2, including the minority leader, Senator Daschle of South Dakota. All of the newly elected Republicans signed pledges to support repeal, and President Bush has identified tax reform, including removal of the estate tax, as a priority for his second term.
Repeal of the so-called death tax would cost the federal government about $22 billion a year, potentially worsening the budget deficit. Most of the benefit would flow to wealthy families, which would aggravate liberals and some fiscal conservatives. Advocates of repeal argue, however, that the tax unfairly penalizes family businesses, subjects their investments to double taxation, and creates a perverse disincentive for saving and investment at the end of life.
A permanent repeal would also increase the pressure on New York and other states to do away with their own estate taxes, to prevent an exodus by their wealthier citizens to lower-tax states.
"We now have the votes to permanently repeal the death tax, and I believe we will," the president of Americans for Tax Reform, Grover Norquist, told The New York Sun. "The death tax is gone. Does it happen in the first month or the first six months? I don't know."
The president of the Club for Growth, Stephen Moore, said his group paid for TV advertising in connection with three Senate races, including Mr. Daschle's, attacking Democrats who favored continuing the estate tax; all three lost.
"Now I think the Democrats will be much more in a mood to get this issue off the table," Mr. Moore said. "They can't afford to lose two or three Senate seats each year on this issue."
"It's a first-100-day agenda item," Mr. Moore said. "To repeal a law like this would be one of the most important pieces of economic legislation passed in decades."
"I'm hopeful this new Congress will finally put this matter to rest," said the director of the Center for Data Analysis at the Heritage Foundation, William Beach.
Mr. Beach predicted the House, which has previously voted to repeal the tax, will do so again early in 2005. The Senate is likely either to approve that measure or pass an alternative version that triggers a negotiated compromise, he said.
Among the issues to be resolved are whether estates should be subject to the capital gains tax, which is much smaller, and whether full repeal should take effect immediately rather than five years later.
"The 82-year-old lobby does not like the idea of abolishing the death tax in 2010 and not now," Mr. Norquist said.
An opponent of repeal, Frank Mauro of the Fiscal Policy Institute at Albany, said doing away with the estate tax will make the overall tax system more regressive.
"Theodore Roosevelt and Andrew Carnegie and others who pushed for the estate tax originally had some sound arguments," Mr. Mauro said. "You can't have a society sustain itself if you have huge and growing divergences in wealth. ... We're rolling back the clock in bad ways."
Currently, the tax is zero for estates of $1.5 million or less, but ramps up to 47% for any amount in excess of $2 million. Under the tax cuts signed by Mr. Bush in 2001, it will continue declining by one percentage point a year through 2009, disappear completely in 2010, then go back to its pre-2001 strength when the tax cuts expire in 2011.
Although the estate tax affects only about 2% of taxpayers, it is a concern for many small-business owners because their heirs could be forced to liquidate assets to generate cash to pay the tax.
"It's a big issue for a lot of our smaller manufacturers," said the vice president for tax policy at the National Association of Manufacturers, Dorothy Coleman. "A lot of those companies are closely held or family-held, and they pay a huge amount for estate planning and insurance to hopefully ensure they can keep the company in business when the owner dies. If they can't do that, they have to sell the company, and very often there's job loss."
"Almost all small-business people ... plow their savings back into their business," Mr. Beach said. "Their business is their savings account. They're cashpoor but asset-rich. It's that species of business organization that's most at risk from the estate tax."
Ms. Coleman said a business owner is more likely to think twice about expanding or investing in new equipment - and thereby adding to their estate - as they get older. "If it's going to put him in a new stratosphere of taxation, that's a factor to consider," she said.
If the federal estate tax is repealed permanently, New York State will have to reconsider its own estate tax of 16%, experts said. Before the 2001 tax cuts, the state tax was entirely offset by a credit on the federal tax. Now, however, that credit is phasing out, to be replaced by a deduction beginning in 2005. As a result, the marginal rate on estates in New York is 16 points higher than states such as Florida that don't have their own estate taxes.
States won't have to repeal their estate taxes, "but if they don't, they won't have any rich people left," Mr. Moore said.
"They're going in the wrong direction in Washington, and they're putting the states in a very bad position," Mr. Mauro said.
One potential issue to be resolved at Washington is how the government collects taxes on the capital gain from estates.
Under the existing law, the government charges no capital gains taxes on estates, and the heirs receive a "stepped-up" basis for calculating future gains corresponding to the market value of the estate at the time of death.
Upon repeal, heirs would no longer benefit from the stepped-up basis and would owe capital gains taxes of 15% when and if they liquidate any of the assets.
Some proponents of repeal said they would accept a compromise in which capital gains taxes are collected from the estate - effectively reducing the bite to 15% from almost half - and the heirs receive a stepped-up basis for future gains.
"I'd take that in a heartbeat," Mr. Moore said. "If you're going to have a capital gains tax, estates should be taxed at the capital gains rate. If you do that, you'll eliminate the incentive to just hold onto the stock."
Ms. Coleman argued, however, that this would still force families to liquidate assets. "They can't just go out and sell part of the business and keep operating as they had before," Ms. Coleman said. "Death should not be a taxable occasion."