Wealth Management: Sharing the Wealth

Since the enactment of the modern estate tax in 1916, its merits have been debated by the people it affects most: the nation’s wealthiest families. The Republicans’ successful maneuvers to phase out the estate tax by 2010 have been cause for celebration by many, but an unlikely crusader has emerged to argue for its restoration: William H. Gates Sr. The father of Microsoft founder Bill Gates—who, with a fortune worth $40 billion, is widely considered the world’s richest man—is a millionaire in his own right by dint of cofounding Preston Gates & Ellis, now Seattle’s second-largest law firm.

The elder Gates maintains that the estate tax serves as a litmus test for “what kind of nation we want to be.” His argument is predicated on his belief that the government has historically provided an environment in which generations of entrepreneurs have been confident enough to risk their own money in building new businesses. The government has done so, according to Gates, by maintaining a national defense system, managing the country’s economy and its financial systems, regulating and overseeing the financial markets, and funding and subsidizing education, health care, and leading-edge research.

In effect, Gates says, the U.S. government has become “the greatest venture capitalist in the history of the world,” responsible for underwriting such inventions as integrated circuits and the microprocessor, and for funding research such as that which led to the mapping of the human genome. “The software industry is, to a large extent, dependent on things that occurred on college campuses where research was being sponsored by the federal government, and the work was essentially free to the smart entrepreneur,” Gates says. Furthermore, he argues, “There’d be no Internet today but for the federal government. Zero.” Gates believes that those people who benefit the most from Uncle Sam’s largesse have an unspoken obligation at the end of their lives to give back to the government and perpetuate the system for future entrepreneurs, nay, all Americans.

Originally, the tax was created to help underwrite the United States’ participation in World War I and to slow what some backers of the legislation, including former President Theodore Roosevelt and steel baron Andrew Carnegie, recognized as the growing concentration of wealth in the hands of a few. Since then, the government has been claiming nearly half of the assets from the estates of the wealthiest Americans upon their deaths. In 2001, however, the Republican-controlled Congress passed, and President George W. Bush signed, a law that decreases the tax from 49 percent in 2003 to 45 percent in 2009 until it is revoked entirely in 2010.


Despite Gates’ arguments, the estate tax has never been a large generator of revenue. In 2000, more than 2.4 million adults died in the United States, but only 52,000— just over 2 percent—left taxable estates. The total revenue collected was $24.4 billion, or a little more than 1 percent of the total federal tax collections of $2.01 trillion. However, Gates and others in favor of the estate tax argue that baby boomers are expected to transfer an enormous $10 trillion in wealth through inheritances in the coming decades, which would significantly increase tax revenues.

Although the government’s overall take may be relatively minimal at present, the tax would appear to be redistributing the assets of the wealthiest; 54 percent of the revenue in 2000 was paid by the heirs of the 3,600 deceased whose taxable estates were worth more than $5 million. In other words, 0.15 percent of Americans who died that year accounted for more than half of the estate tax collected. While proponents of the tax argue that Congress and the Bush administration have provided the opportunity for creating the society that Roosevelt wanted to prevent,  the truth is, even with the estate tax, the concentration of wealth has been steadily growing. Supporters of the levy explain this apparent paradox by pointing to tax shelters and various loopholes that allow the wealthiest individuals to lower their tax liabilities significantly.

Opponents counter that the estate tax forces families to part with too much of their wealth because its cost is so steep. In addition to the tax itself, heirs must shoulder the expenses associated with complying with laws. Economists working for Republican members of the Joint Economic Committee of Congress concluded in a report presented last June that these compliance costs—the myriad fees paid to attorneys, accountants, and other tax professionals—exceed $20 billion, which is nearly equal to the revenue collected in 2000. The tax, they argue, is punitive.

Critics also say that the estate tax serves only to encourage large-scale consumption rather than investment, as wealthy individuals conclude that they might as well spend that which they cannot leave to their heirs. Furthermore, in an argument that, if credible, would make bedfellows of, say, President Bush and the Sierra Club, opponents contend that the tax harms the environment. They cite that landowners sell an estimated 2.6 million acres of land each year to raise funds to pay estate taxes.

None of these arguments sways Gates. From the moment he learned that a bill had been introduced in Congress to repeal the estate tax, he has devoted himself to its failure. He was the first to sign a petition condemning the bill, which was circulated by Boston-based Responsible Wealth, an organization that is also supported by financiers George Soros and Warren Buffett, cable pioneer Ted Turner, and members of the Roosevelt and Rockefeller families. He also volunteered his services to United for a Fair Economy, another Boston organization fighting the repeal. “When I got an e-mail from Bill Gates saying he wanted to fight for the estate tax, I initially thought it was just an interoffice joke, that my colleagues were pulling my leg,” recalls Chuck Collins, a founder of the nonprofit group and coauthor with Gates of Wealth and Our Commonwealth: Why America Should Tax Accumulated Fortunes (Beacon Press, 2003). Collins remembers one meeting where he said that he knew some venture capitalists that he could call to ask for their support, “and Gates said, ‘Heck, I’ll call Warren Buffett, Paul Newman, and Arthur Rock.’ His contributions have been invaluable.”

In addition to his duties as president of his son and daughter-in-law’s $21 billion foundation, the 78-year-old Gates has spent the past three years barnstorming the country, building public support for restoring the estate tax and urging people to lobby Congress. Whether meeting with a member of Congress or standing before a small audience on one of his book tours, the 6-foot-6-inch Gates cuts an impressive figure.

Gates, the son of a furniture store owner in Bremerton, Wash., served as an Army infantry officer during World War II before attending the University of Washington on the GI Bill. During his 48-year law career, Gates became active in causes ranging from legal-aid programs to education initiatives. Although politics were rarely discussed in his parents’ home, Gates instilled a sense of social purpose and awareness in his children through dinner-table debates and charitable measures, such as delivering presents and food to low-income families at Christmastime.

As Gates describes the debt he feels that he owes society for his success, he becomes touchingly emotional. In his stump speeches, Gates makes it clear that he does not subscribe to the so-called “Great Man Theory,” a 19th-century notion posited by Thomas Carlyle that lionizes those entrepreneurs who lift themselves up by their bootstraps. Instead, Gates believes that one’s success is as much a result of the country in which he or she is born as it is the person’s ability, and that no other nation provides the same opportunities as the United States. (Gates’ punch line—“I know one of these guys, and the fact is, there is a lot of luck involved”—usually elicits chuckles, Collins notes.) If his family had been from Botswana, Gates says, they would likely never have succeeded.

Naturally, Gates’ arguments do not sit well with critics of the estate tax such as Frank Blethen, the publisher of the Seattle Times, the newspaper his great-grandfather founded in the late 1800s. Blethen blames the tax for the demise of countless family-owned businesses, which, when they had been faced with estate taxes that they were unable to pay, had no choice other than to sell to national corporations. “These are absentee owners who don’t have the same commitment to a community—giving to the United Way, taking a role in issues—that a local businessman does,” he says.

After witnessing the sales of other family-owned newspapers to pay the estates’ taxes, Blethen says, he created a trust in 1976 to keep the Seattle Times in family hands. At the same time, he purchased an insurance policy with a $30,000 annual premium, which he continues to pay, to help his family bear the burden of estate taxes when he dies. The attorney who represented Blethen on these transactions, ironically, was Gates. “Look, Bill’s a good guy who does good in this community, but he’s just dead wrong on this issue,” says Blethen.

Despite President Bush’s signing the tax reforms into law, Gates has not given up, in part because of what he calls the clumsy way in which the reform was structured: While the top tax rate drops to zero in 2010, it reverts to 55 percent the following year. The abrupt rise in 2011 has been criticized as budgeting gimmickry; critics say that the legislators reinstated the tax in 2011 so that the 10-year budget deficit would not appear so grim. The move was a gamble by the Republicans, who postulated that the party controlling Congress and the White House at the time would not allow the tax to catapult from zero in 2010 to 55 percent in 2011 without inciting the wrath of constituents. Thus, the repeal would become permanent.

Any shift in the balance of power,  Gates says, could put the estate tax back in play. He hopes the Democrats recapture the White House and Congress this fall, and that the new leadership reverses the cuts in the estate tax. At the same time, he recognizes that a Republican landslide that strengthens the GOP could embolden a push for a permanent and total repeal. Regardless of which party controls Congress, some tax experts believe the rising federal deficit may leave lawmakers with no choice but to reinstate the estate tax. “The odds are close to zero that there will ever be a permanent repeal,” says Joshua S. Rubenstein, head of trusts and estates in the New York office of law firm KMZ Rosenman.

Gates advocates a compromise that spares most farmers and small family businesses from paying estate taxes while also minimizing the revenue loss. The plan he supports would tax only estates valued near $3.5 million (or $7 million for couples). In such a scenario, less than one-half of 1 percent of all estates would be subject to the levy. In the words of Teddy Roosevelt, whom Gates quotes in his book, “The man of great wealth owes a particular obligation to the State because he derives special advantages from the mere existence of government.” Or, as Gates himself says, the estate tax is a small price to pay for the privilege of being an American.

Taxing Thought

The gradual decrease in the federal estate tax rate is a boon for people planning to bequeath assets to their heirs. Or is it? While the federal government will phase out the so-called “death tax” by 2010, 18 states and the District of Columbia continue to impose—and in a few cash-strapped states, even raise—their own separate estate tax. The states say they have no choice: By 2005, they will no longer receive a portion of the estate tax that the federal government collects. With their budgets already strained, states say, they cannot operate without additional revenue.

Consequently, the overall estate tax rate may rise instead of decline for the wealthiest residents of certain states who die in 2004 or 2005. In Connecticut, Republican Gov. John Rowland spearheaded an effort to impose what he called a millionaire’s tax, a temporary levy on estates worth more than $1 million, to help close a $2 billion budget gap over the next two years. In 2004, New York residents will also see a combined state-federal estate tax spike, from 55 percent to 60 percent. “From a tax standpoint, 2004 is about the worst year to die,” says Laura Peebles, a director in the Washington office of consulting firm Deloitte Touche Tohmatsu.  

Given these unexpected state levies, experts predict that Congress likely will rewrite—yet again—the estate tax laws, perhaps raising the exemption to $5 million to minimize the burden on farmers and small family businesses. Peebles says that she is helping to design trusts that give the administrators as much flexibility as possible to respond to any further changes in the tax code. In the meantime, tax experts say, people with multiple homes may be able to counter the state tax hikes by transferring their legal residency to such places as Florida or California—states without an estate tax. Death and taxes may be certain, but an heir’s liability is not.

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