Life
is unfair. Rich people have lots of options that
their poor and middle-class brethren do not,
especially when it comes to paying taxes.
Unlike
most of us schmucks, who have limited choices
about how and where we make our money, rich people
can move their capital to wherever it gets treated
best. While the schmucks get headaches deciphering
IRS forms at tax time, rich people hire tax
lawyers and estate planners to guide them. While the
schmucks count themselves lucky to rent a beach
house a couple weeks a year, rich people can afford
to buy second houses in Florida,
set up official residence there, and shuttle back and
forth to Virginia
whenever it suits
them.
On
a gut level, I can sympathize with Gov. Mark R.
Warner as he ponders this month whether or not to
veto a bill that would eliminate the death tax on
rich peoples’ estates. As the governor has argued,
the tax break would benefit Virginia’s
richest citizens at the very time that a fiscally
strapped state government was raising fees and
cutting services for everyone else.
Why
should the state lavish tax breaks upon some rich
guy’s heirs while ordinary, hard-working
Virginians (like me) get stuck with higher college
tuitions for their
heirs (yes, I have a daughter in UVa) not to mention
higher “fees” for everything from a new drivers
license to a fifth of tequila at the ABC store?
But,
as a card-carrying rich guy himself, Gov. Warner
should know better. With an estimated net worth of
$200 million, he knows full well the perks available
to the rich. The governor knows, or he
should know, that payment of Virginia’s
tax on estates will be largely discretionary because
rich people can easily transfer residence to a more
tax-friendly state -- in other words, that no
rich person who wants to
avoid the tax will actually
pay it.
Yeah,
life is unfair. But as an old boss frequently
reminded me, “It is what it is.” Gov. Warner can
strike a rhetorical blow for “fairness” by
vetoing the death-tax repeal. But it won’t make
the reality of life any fairer.
A veto won’t keep rich people from avoiding the
tax by the simple expedient of changing domiciles.
To the contrary, a veto would actually encourage
rich people to leave Virginia in favor of friendlier tax climes.
Far
from plugging a revenue hole in Virginia’s budget, a veto might well
blow a bigger hole in Virginia’s
budget. News
flash: Rich
people pay income taxes. When they move their official residences to Florida
to avoid paying estate taxes when they die, they stop paying income taxes to
Virginia while they’re still alive.
In
sum, vetoing the death tax repeal will set into
motion an entirely foreseeable chain of events: (1)
To avoid paying the tax, many rich people will
transfer their residences to Florida or some other
tax-friendly state; (2) they will stop paying
Virginia income taxes while they’re alive; (3)
they won’t pay Virginia’s estate tax when
they’re dead; (4) Virginia could wind up losing revenue; and (5) the General Assembly will make up the
difference by imposing more “fees” on schmucks
like me.
As
much as I’m jealous of rich people, I’d rather
keep them here in Virginia
than chase them away. I’d rather have them pay
their income taxes to Virginia, donate to Virginia
philanthropies, contribute their time to Virginia
civic causes and, most significantly, invest their
time and energy in business enterprises that will
stimulate Virginia’s economy. That would
help me.
Before
the U.S. Congress passed its latest round of tax
cuts, the state death tax was not a significant
issue for Virginia taxpayers. The Old Dominion levied a tax of up to 16
percent on larger estates, but the sum was credited
dollar-for-dollar toward payment of the federal tax.
Thus, the total estate tax payment remained the same: The
tax burden in Virginia
was no more onerous than it was in any other state.
The
logic of estate planning changed dramatically,
however, when
Congress enacted a phase-out of the federal
inheritance tax. Suddenly, estate taxes at the state
level really mattered. Not wanting to create a
hostile tax climate for wealthy people, many states
repealed their estate taxes. However, Maryland, Washington,
D.C.
and a number of other states did not.
In
Virginia, the General Assembly passed a bill this
session eliminating the tax here as well, seemingly with a
bipartisan, veto-proof majority.
But
Gov. Warner has expressed strong reservations. He
put it this way in his wrap-up of the 2003 session: “At a time when we’re asking young
people to pay hundreds of dollars more in tuition ... when the poor and elderly are having important
social services curtailed ... when we are reducing
the hours at parks, museums, DMVs and other state
facilities ... and at a time when we have failed
to complete car tax relief or food tax relief, the
General Assembly has elected to give a new tax break
to the wealthiest Virginians.”
Commentators
like my Bacon’s Rebellion colleague Paul Goldman
(See “Teaching the Facts of Life” and “The
Moment of Truth”) have raised a number of
valid points. Repealing the death tax will
benefit only a handful of wealthy families each
year. The state treasury will be drained of
funds that it had been getting before the federal
legislation passed. Indeed, opponents have raised enough concerns
that a number of Democratic legislators may recant
their support for the repeal, giving Gov. Warner
enough votes to sustain a
veto.
However,
absent from the analysis of death tax supporters analysis is a recognition that
protecting the
Virginia death tax amounts to a purely symbolic gesture:
A veto sticks it to rich people without doing a lick
of good for poor people -- or even shoring up the state’s
budget.
Estate-tax
advocates suppose that the state tax is like the federal tax in
that there’s not much that people – even rich people
– can do to avoid it. But that assumption is dead wrong.
The
state tax is much easier to duck than the federal
tax, says estate planning expert Ronald D. Aucutt. To avoid Uncle
Sam, you have to move out of the country and
relinquish your citizenship. To escape state state
taxes, you only have to move to a different state. A
partner in McGuireWoods’ McLean
law office, Aucutt knows what he’s talking about. He was
inducted just this weekend as president of the American
College
of Trust
and Estate Counsel. He’s also testified on behalf
of Virginians for Death Tax Repeal.
“If
a U.S.
citizen
moves outside the country,” Aucutt says, “he
hasn’t accomplished anything. He has to relinquish
his citizenship” – something most Americans are
reluctant to do. Even then,
U.S.
law
treats them as taxable for 10 more years, and if
they have children, grandchildren or other
beneficiaries remaining in the country, the Internal
Revenue Service has ways of getting any money
intended for them.
The
barriers are
much lower against re-domiciling from one state to
another. In
Virginia, many
wealthy people already maintain dual residences –
one in their home town and one in Florida
– to
take advantage of the Sunshine
State’s lower
income taxes. To pass muster with tax authorities,
someone has to demonstrate that they really have
changed their residence. Maintaining a Florida
address
is a must, preferably for half the year or more. It
also helps to show a Florida
auto
registration, driver’s license, voting
registration, club and church memberships.
Plenty of people
are eager to help walk you through
the process, says Aucutt, who held up a handbook, So, You Want to be a Florida
Resident, when he
testified before the House and Senate Finance
committees.
Aucutt,
who started his practice in 1975, knows first-hand
that people do change residences based on tax
considerations. In 1978, Virginia
altered its inheritance tax in a way that treated
wealthy estate more favorably than in Maryland
or Washington, D.C.
“People moved from D.C. and Maryland
to Virginia
just for this reason.”
If
Virginia does repeal its
death tax, Aucutt says, he expects a replay of that
scenario. Once again, Virginia
would offer significant tax advantages over D.C. and
Maryland.
He would expect wealthy residents across the Potomac
to move to the tonier neighborhoods of Northern
Virginia
– Arlington, McLean,
Great
Falls -- in order exploit favorable Virginia’s
tax status. The move would far less disruptive than,
say, moving to Florida: People could maintain the same friends, the same
business contacts,
the same club memberships, even the same civic
memberships.
Any
loss of estate tax revenues from the repeal of the
death tax would be offset in part by an increase in income
tax revenues from wealthy people moving to Virginia.
Rich people relocating to Virginia also will spend
more of their money here, generating more sales
tax as well. They might even invest more of their
money in Virginia, too, stimulating the economy.
Conversely,
if Gov. Warner vetoes the repeal, the state won't generate nearly as much revenue as
anticipated. Based on 2001 tax filings, Virginia’s
tax on estates yielded about $130 million in
revenue. If the new federal law, with its higher
exemptions, had applied back then, the tax take
would have been closer to $70 million, according to
Virginians for Death Tax Repeal. So, the state
will lose some $60 million in revenue no matter
what.
But the
governor will be unpleasantly surprised if he’s
counting on even that $70 million. Much of that sum
will never materialize because rich Virginians, many
of whom already own real estate in Florida, will
transfer their legal residences there. Furthermore,
when they leave, they'll take their income tax with
them.
So,
how do the numbers shake out? Let's
use Gov. Warner as an example. Virginia Business
magazine estimates his net worth at $200 million.
When the governor dies -- hopefully not for another
four or five decades -- the state
would reap 16 percent, or about $32 million, on his
estate
Now,
for purposes of comparison, let's assume that
Warner's estate, which is held in blind trust,
generates a modest 8 percent annual return, or about
$16 million in annual income. Unless the assets are
invested in tax-free bonds or other tax shelters,
that income would generate about $900,000 a year in
state taxes -- not just for one year, but every year
until he dies.
Whether
it's more advantageous for the state to tax Mark
Warner's estate or his income depends on what kind
of actuarial assumptions we make about him. If we
take the present value of money into account,
Virginia would be better off taxing his income if he
lives some 14 to 15 years or more.
Mark
Warner, a loyal Virginian, may never leave the
state for tax reasons. Furthermore, most people
don't re-domicile until later in life, usually when they have reached
retirement or pre-retirement and estate planning
weighs more heavily on their minds. But once a successful
entrepreneur or business executive reaches a phase of life where he (or she) is no longer tied to
Virginia by a job or business, estate-planning
considerations do enter into their decisions of
where to live.
Unfortunately,
we don't know how many Virginians would re-domicile
to a more tax-friendly state if Gov. Warner vetoes
the death tax repeal, much less how much income tax
the state would lose upon their departure. Perhaps
the Virginia Department of Taxation could hazard an
informed guess. Whatever the final tally, it would be
the height of fiscal
negligence to project tens of millions of estate-tax
revenues in the years ahead without adjusting for the real-world,
tax-avoidance behavior of the people to be taxed.
Remember,
life is unfair. Rich people don't like paying taxes
any more than poor people do, and they have a lot
more options. Repealing the death tax keeps them
here in Virginia where they can contribute far more
alive -- through philanthropy, business investment
and state taxes -- than when they die.
--
March
10, 2003
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