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Estate Taxes in the Age of Inequality

by | Jan 18, 2018 | Economy, Taxes

Income and wealth inequality has accelerated in recent decades; at the same time, reliance on the progressive estate tax as a state revenue source has waned. Certainly, the decline of the estate tax is not the only—or even a primary—cause for the increase in inequality, but it is an effective remedy for offsetting some of the more egregious cases of wealth concentration. Before exploring the estate tax and the arguments used against it, though, it is helpful to examine the escalating trend of wealth and income inequality in the state and nation.

A 2016 Congressional Budget Office (CBO) report notes a trend of increasing concentration of wealth—defined here as total household assets minus debt—in the U.S. since 1989.

From 1989 to 2013, the inflation-adjusted wealth of the top ten percent of Americans increased by 153 percent, while the wealth of the bottom 50 percent declined by 19 percent. The CBO further notes that:

The distribution of wealth was more unequal in 2013 that it had been in 1989. In 1989, families in the top 10 percent held more than three quarters of all family wealth, whereas in 1989, their counterparts had held two-thirds of all family wealth. Over the period, the share of wealth held by families in the 51st to 90th percentiles declined from 30 percent to 23 percent, and the share of wealth held by families in the bottom half of the distribution declined from 3 percent to 1 percent.

As wealth inequality have escalated nationally, so to has income inequality in Minnesota. Minnesota Tax Incidence Studies (MTIS) cover the last quarter century. In 1990, the average income of the top one percent of Minnesota households was eighteen times greater than that of middle-income households; by 2014, it was over 27 times greater.* From 1990 to 2014, the share of statewide income declined for every income group except for the wealthiest ten percent. The increase in the share of statewide income was greatest for those at the high end of the top ten percent; the share of income held by the top one percent increased from 12 percent in 1990 to 16 percent in 2014.†

An analysis that ends with an examination of the top one percent does not truly capture the full extent of income inequality, since the truly staggering levels of inequality occur at the very top of the top one percent. Using data from the most recent MTIS, a 2017 North Star article noted that:

At the 99.95th percentile (which marks the lower end of households in the top half of the top one-tenth of a percent), the income level is 72 times greater than the statewide median income. According to the 2017 MTIS, 1,186 of Minnesota’s 2,661,000 households have 2014 incomes above this level; these 1,186 households comprise 0.05 percent of all households in the state, but have 5.0 percent of statewide income.

When we compare CEO pay to that of the typical worker, we see yet another example of income concentration among the über rich. According to Fortune Magazine, the ratio of CEO pay to that of the typical worker among the top 350 U.S. firms skyrocketed from 20 to 1 in 1965 to over 300 to 1 in 2014. From 1978 to 2014, inflation-adjusted pay of the average CEO increased by nearly 1,000 percent, according to Fortune, while average worker pay increased by only 11 percent.

Conventional sources likely understate actual levels of economic inequality. A new report from the National Bureau of Economic Research combined leaked information from large Panamanian and Swiss financial institutions—heretofore available—for Norwegians with conventional tax audit data,  and discovered a 30 percent increase in the degree of wealth inequality. Report authors contend that Norway likely represents a “lower bound” in terms of the increase in inequality revealed by access to the leaked information because relatively little wealth in Norway is stashed in offshore tax havens compared to other counties.

Wealth and income inequality have increased for a variety of reasons. Automation and globalization have stagnated and eroded wages. The decline in the influence of labor unions has left workers with reduced leverage with which to counter these trends. The burst housing bubble sapped the total wealth of low- and middle-income households more than that of high-income households. Even the institution of marriage, “in which elites increasingly pair up with elites,” could further concentrate wealth by combining fortunes within a single household.

The estate tax can help ameliorate some of the most egregious forms of inequality. Research from the Peterson Institute for International Economics reveals that among billionaires in the “rich world” (i.e., fully developed nations like the U.S.), 41 percent of wealth in 2014 was inherited, as opposed to “self-made.” The percentage of inherited wealth tends to increase as the total wealth of the billionaire increases. The long-term effect of inheritances, according to research cited in another recent article from The Economist, exacerbates wealth inequality. This research suggests that a tax on inherited wealth—in the form of an estate or an inheritance tax—could mitigate the most extreme cases of wealth concentration.

Even prior to the reductions enacted in 2014, the estate tax fell almost exclusively on high-income households. For example, based on data from the 2013 MTIS, 93 percent of all estate taxes in 2010 were paid by the top one percent (i.e., the wealthiest one percent of households by 2010 income). Reductions to the estate tax enacted in 2014 and 2017 primarily benefited only these extremely wealthy households, and thereby exacerbated the degree of inequality. Conversely, the impact of restoring Minnesota’s estate tax to the pre-2014 level—with an exemption of $1 million—would be borne almost exclusively by high-income households, and would have the net effect of reducing wealth inequality in the state.

Conservatives in recent years have persistently and successfully pushed for reductions in the estate tax, despite its usefulness as a remedy to economic inequality. Among the most frequently heard criticisms of the estate tax is that it constitutes “double taxation”—a claim we will examine in part two of this series.

*Average income of middle-income households is defined here as the average income of the middle quintile (i.e., the middle twenty percent) of households; 2014 is the most current year for which final household income information from the MTIS is available.

The MTIS groups households into ten groups, referred to as deciles, each consisting of ten percent of all Minnesota households. The first (or bottom) decile consists of the ten percent of households with the lowest incomes, while the tenth (or top) decile consists of the ten percent with the highest incomes; the top decile is further broken down into the 90th to 95th percentile (i.e., the bottom half of the top decile), the 95th to 99th percentile (i.e., the next four percent), and the top one percent. For data anomaly reasons noted in the MTIS, this analysis excludes the bottom decile.

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