The Pros & Cons of Estate Tax

The federal government imposes a variety of taxes other than the payroll taxes and income taxes that come straight out of your paycheck, including an estate tax on the money and property people leave behind after death. The assets that someone leaves behind become an estate that is passed on to any heirs, but the government takes a cut if that wealth exceeds certain limits. The estate tax is a politically controversial topic, so people disagree about its merits and drawbacks.

The main benefit of the estate tax is that it provides the federal government with an additional source of revenue it can use to finance its operations. The estate tax does not provide as much revenue as income tax or payroll taxes, but it still generates billions of dollars. According to the Wall Street Journal, the government collected about $29 billion in estate taxes in 2008.

Taxpayers are granted an estate tax exemption known as the unified credit that allows up to $5.25 million in assets to pass on to heirs tax-free. The estate tax exemption means that all but about the wealthiest 1 percent of people typically do not end up paying any estate tax. The estate tax is an example of a progressive tax: one that burdens wealthy people the most. Supporters of progressive taxation favor placing the major tax burden on rich people, since the rich are not as likely to struggle with basic living expenses. Opponents may argue that it is unfair to tax different people at different rates regardless of income.

One of the drawbacks of the estate tax from the perspective of taxpayers is that it can force you to pay taxes on the same money twice: once when you earn it and once when the money passes to your heirs. The taxation of after-tax income is sometimes called "double taxation." Over time, the estate tax can force the payment of taxes on the same money many times as it passes from one generation to the next. Opponents of the estate tax sometimes refer to it as the "death tax."

The estate tax punishes success in that the more money you earn, the more likely you are to pay it. A common argument against progressive taxes is that they create a disincentive to work, earn income and take risks, which are essential to innovation. Taxing wealth also has the potential to reduce economic activity, because it leaves people with less money to invest in business ventures and purchase goods and services.