Why the inheritance tax is not a good idea

 

Assertions, assumptions and problems behind inheritance taxes


Italy has been plagued this week, as it is periodically, with a flurry of proposals to increase/alter inheritance taxes. It's like living in a country plagued with locusts: you can quietly till your land for between three and seven years, then something inexplicable happens and the cloud you see looming in the distance is not a summer thunderstorm, and it buzzes.

This time, the starting shot was given by Mr. Letta, the current Secretary of Partito Democratico, ( PD ), who went public saying that he wanted an increase in inheritance taxation in order to finance some kind of handout to young people, like ten thousand EUR per young person. He was promptly stopped By Draghi in a presser, who said, and I quote, “in a recession we give money, we don't take it”.

But amazingly, that wouldn't have been enough to have me write down something. What bugged me into writing this was an interview to La Stampa by Vincenzo Visco1, former finance minister and an expert on taxation, so much that apparently he never can get enough of it.

In that interview he is quoted as saying that “It is a sacred duty (“sacrosanto”) to try to hit, anyway exact a contribution out of the highest estates, under the condition that we wouldn't go back a number of decades where only the middle classes owning an house in the town and one by the seaside. Those must be out of it.”

He goes on to say that “there should be incentives to redistribute the wealth outside of the family, and make sure that people would be helped (!) to bequeath the money to an hospital or to a charitable institution”.

To the interviewer objecting that it should be limited to very wealthy persons, he answers “But in Italy there's a lot of people with robust wealth over 5 million EUR. But in addition to that, it is necessary to institute a ledger of the assets, which all the civil countries have and we do not, we have to evaluate at market prices everything there is, art objects and jewellery included.”

But the real gem, the one that drove me  nuts, is this priceless part: “[...] Inheritance tax was the preferred government revenue of the free-market thinkers (“liberale” in the original, Liberal has quite a different meaning in English). From John Stuart Mills to Luigi Einaudi, all of them stated that a good inheritance tax was needed because it did not make sense that the imbecile nephew of an intelligent grandfather lived off rent.” He then goes on to say that Draghi is in agreement with what he says, etc.

Now, to borrow from Mme. Lagarde, let's go holistic, since taxes don't live in a vacuum, they impact on the rational economic choices that governments trust their citizens to make, so that they can later take their money and avoid sharing the same limit to only do things that might work.

  1. Inheritance tax, like virginity, has different impacts the first time from later repeated attempts. It is one thing to do a midnight raid, Like Amato did on cash balances, it's a quite different thing to enact a continuous tax, even one that's linked to life events like dying. So, all these proposal begs the question: what kind of recurring revenue are the proponents considering? Irrespective of the obvious tax planning that would enter every taxpayer's mind from day two, what kind of loss of domestic investment have they factored in? Because loss there will be: any kind of tax lowers the positive return of an uncertain investment while leaving the negative outcomes in place, effectively acting in the reverse direction of today's monetary and fiscal stimulus. So, by pushing for taxes and the Next generation EU money, politicians are effectively pushing on the brake and the accelerator pedal at the same time.

  2. That “duty to exact a contribution” is already there, in that in Italy there is already a wealth of recurring estate taxes, most of theme impacting the lower middle class, and about which the state is quite happy, from the coily named “stamp duty” on financial wealth, which in reality is an yearly wealth tax, to IMU ( “Imposta Municipale Unica” , referring to the fact that it's exacted by townships), etc. So, dear Mr Visco, the state is not particularly interested in making sure that lower middies are left alone, in fact quite the opposite. But the real interesting thing is this one, that hinges on regional differences: since we are talking about market (!) values, this tax will impact disproportionately on what was, before the Salvini- Mattarella armistice, the core region of the Lega and the engine of Italian growth. It is quite different to own a flat in Milan than owning a flat in Benevento of equivalent size.

  3. Of course, unless one of the assumptions of the taxmen is that citizens are completely daft, over time taxpayers would change their economic behaviour to optimize their own utility function, in completely legitimate way. Speaking as a father of two, the easiest is this: the first priority for those targeted by that tax and with heirs would be to spend an effing fortune in stacking the deck in their favour through education, which is not a taxable asset. Masters in prestigious universities, etc. Now, my mind being that of a dirty old man, the second thing would be to lobby to make having undergone that kind of educational upbringing a requirement for the highest places in public administration and regulated entities, like banks, utilities etc. If you can beat them... beat them into a pulp. But of course there are a number of alternatives, witness the fact that average inheritance tax rates are FAR LOWER than stated rates even in countries where there is one.

  4. Another problem is that, in case of privately owned companies that represent most of the deceased assets, governments themselves chafe at enforcing what they say they want: faced with a chance of massive lay-offs or liquidations, they themselves build loopholes, because income taxes are vastly higher than inheritance taxes. An hungry tiger must be fed live animals.

  5. Here ( https://ec.europa.eu/commission/presscorner/detail/de/MEMO_11_917 ) you will find an interesting “hand waving” document by the EU, which ineffectively warns about the impact of that tax on estates that are contended between different fiscal administrations in different states... which have a tendency to apply double taxation: “ In such situations there is a risk that the tax bill of the heir may be enormous because there is no EU law and few bilateral tax treaties between Member States that require tax paid in one country to be set off against tax due in another. “ So much for “free movement of people and capital”.

  6. I am VERY curious to know what the position of ISTAT and EUROSTAT are about “make sure that people would be helped (!) to bequeath the money to an hospital or to a charitable institution”. To all intent and purposes it IS taxation, but since I am not a tax expert I do not know if it is reported in the fiscal pressure statistics. But you know, I am such a bastard that I moan about the fact that trash separation, since it involves forced labour on citizens, should be accounted for at the relevant wage scale as tax.

  7. “we have to evaluate at market prices everything there is, art objects and jewellery included.” A couple of things come to mind about this one. First, obviously, Draghi having been the architect of QE should recuse himself from government before discussions about such tax are tabled, since QE is the high tide which inflated all asset classes. It wouldn't smell good if he remained. But that's just me, I am an old man, as a good friend publicly tells me from time to time. Second, for the life of me I cannot see why I should trust governments inside my home without a piece of paper signed by a judge (since obviously, as it happens now with bank vaults, as soon as anyone in the “wealthy” list dies his/her home would be swarmed by policemen putting seals over everything they deem valuable). Plus, the Italian government has an unfortunate tendency to deem everything that doesn't have a firm proof of transfer as his won, or at least partly his own. To name one example out of many, gold coins for which you do not have a valid transfer paper are deemed to have a carry cost of zero and taxed accordingly.



And now, the one which made my blood boil over: “[...]all of them stated that a good inheritance tax was needed because it did not make sense that the imbecile nephew of an intelligent grandfather lived off rent.”

First, only INTELLIGENT nephews would live off rent: the average ones would revert to their previous state over five years or so, and a number of them would end up dirt poor. Conserving capital in prying Italy, which managed a 20% growth gap in little over ten years and racked up three trillions in public debt, is no mean feat, and I suspect it will be even harder going forward. If you doubt that, imagine the inheritance as a lottery win. Then google “Do lottery winners stay rich?”.

Second, in a world in which every time a relatively rich person dies a part of the assets go to governments, an iterative algorithm applied to Italy would show that... we'd be North Korea over a couple of generations: the State doesn't die, and all assets would revert to it.

Third, and most important: Mr Visco seems to agree about the fact that wealth should migrate from the undeserving to the deserving. There is one mechanism to do that, It made our society wealthy, and it's called free markets. Rest assured, the undeserving get ripped off quickly..... except one, and I will tell you who he is.

The Italian Senate just voted with a large majority to equate biological agriculture to a wacky theory involving nothing short of witchcraft2, see note.

So, Dear professor Visco, I have a law I think you should help promote. Since, evidently, the present government is more likely to be that “ imbecile nephew” you talked about, I think it's only fair to offer anybody not being involved in it in any way an opportunity that the US government offered its citizens in the olden days of 1862: why not taking ALL government assets and offer a new Homestead Act3? After all, the political and bureaucratic class you are a member of cannot be said to have been a good warden of the country. Would private citizens be better? Maybe not, many homesteaders remained poor. But at least, they had no power to tax anybody.

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