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Disparate Treatment: Permanent, Million-Dollar Estate-Tax Breaks for Wealthy Heirs Vs. Temporary Tax Credit Improvements for Low-Income Working Families

January 4, 2013 at 10:40 AM
Robert Greenstein

One of the most disappointing parts of this week’s budget deal is its disparate treatment of a lavish estate tax break for the nation’s wealthiest heirs as compared to several tax credit improvements for low-income working families.

On one hand, the new law makes permanent most of a large tax cut from 2010 for the estates of the wealthiest Americans.  Republican negotiators initially forced that estate tax cut into the 2010 year-end tax deal as their cost for extending tax credit improvements for low-income working families that President Obama and Congress had first enacted in 2009.  On the other hand, the new law extends these refundable tax credit improvements only for five years.  By breaking the linkage in their treatment of these two sets of tax provisions, policymakers have done two unfortunate things: they have squandered nearly $120 billion in revenues despite the nation’s fiscal problems, and they have put a major obstacle in front of efforts to sustain these important tax-credit improvements for struggling working families after 2017.

President Obama had sought to set the estate tax permanently at its already-generous 2009 parameters, under which the estates of 99.7 percent of Americans who die were passed on tax free.  Under the 2009 rules, the first $3.5 million of an estate — effectively, $7 million for a couple — were fully exempt from the tax.  Various deductions applied to the rest of the estate, and what remained after the exemption and deductions was subject to a 45 percent tax.

But this week’s budget deal exempts the first $5.25 million of an estate in 2013 — $10.5 million for a couple — and indexes these amounts for inflation in subsequent years.  What remains of an estate after this large exemption and various deductions will be taxed at a 40 percent rate.  The difference between these new permanent rules and the 2009 rules is a revenue loss of $118 billion over the next 10 years.  Only the estates of the top 0.3 percent of people who die will benefit, and they will receive an average tax break of about $987,000 each.

To fully appreciate why the disparate treatment between this estate tax cut for wealthy heirs and the tax credit improvements for low-income working Americans is so appalling, you need to know the “back story.”  In December 2010, with President Bush’s tax cuts set to expire, President Obama reluctantly agreed to extend all of the Bush tax cuts for two years, including the high-income tax cuts.  Obama also proposed to extend the 2009 improvements to the tax credits for low-income working families — specifically, in the Child Tax Credit, the Earned Income Tax Credit, and the American Opportunity Tax Credit, which helps to defray part of college costs for middle- and low-income families.  These provisions, too, were scheduled to expire at the end of 2010.

At the time, the extension of these tax-credit improvements seemed a no-brainer.  Virtually all reputable analysts agreed that these measures had a much greater “bang-for-the-buck” effectiveness in stimulating a weak economy than the high-end tax cuts did.  Nevertheless, Republican negotiators first refused to extend these tax-credit improvements in the 2010 tax package despite its extension of the Bush tax cuts for the nation’s richest people.  Republican negotiators then offered a deal: they would agree to extend the tax-credit improvements, if — and only if — the package included a new estate tax break.  Led by Arizona Senator Jon Kyl, Republican negotiators insisted on raising the estate-tax exemption from the 2009 level of $3.5 million (double that for a couple) to $5 million (double for a couple), indexing the $5 million for inflation, and lowering the estate tax rate from 45 percent to 35 percent.  The President reluctantly took the deal.

Now, two years later, this week’s new tax law contains a bitter pill.  Policymakers made most of the estate tax break permanent, while they set the refundable credit improvements to die after five years.

In fact, in this law, the only change in the estate-tax parameters from those of 2010 is that the top estate tax rate will be 40 percent rather than 35.  To be sure, that’s an improvement.  But, it lowers the cost of the estate tax break (relative to the 2009 estate-tax rules) by only about one-seventh — from $137 billion in lost revenue over the next ten years to about $118 billion.

Meanwhile, if not reversed, the expiration of the tax-credit improvements in 2017 will increase poverty and hit many working-poor families hard.  For example, a mother who works at the minimum wage and is raising two children on wages of $14,500 could see her Child Tax Credit cut by more than 90 percent.  Had the tax-credit improvements expired at the end of 2012, her Child Tax Credit would have plunged by $1,560 this year — from $1,725 to $165.

Analysis of Census data shows the large consequences if these tax-credit measures end.  In 2011, the tax credit improvements in question lifted 1.5 million Americans in low-income working families — including 800,000 children — out of poverty.  They lessened the severity of poverty for 15.2 million more people, including 7.1 million children.

Something is amiss when the Senate’s Minority Leader insists that a million-dollar average tax break for the heirs and heiresses of the richest three of every 1,000 people who die must become the permanent law of the land, while tax measures that lift millions of children in working-poor families above or closer to the poverty line must die. It’s the tax-credit measures that should be permanent — not the extravagant estate-tax break.