Tax inheritance more to reduce income tax?

Last May, inher­it­ance tax was put under the eco­nom­ic spot­light when the OECD pub­lished a report in favour of increas­ing the use of inher­it­ance taxes to “strengthen equal­ity of oppor­tun­ity and reduce wealth inequal­ity”¹. To ensure great­er social justice, the report pro­posed that inher­it­ance should no longer be taxed at the level of the giver. Instead, it should be paid based on the receiv­er. Before look­ing at pos­sible reforms, let’s look at this tax a little closer to under­stand its complexity.

Stat­ist­ics show that 87% of French people con­sider that it is neces­sary to reduce inher­it­ance tax – almost 10% more than a few years ago²³⁴⁵. What is aston­ish­ing is not only that this reluct­ance accom­pan­ies the increase in the share of inher­ited wealth in our soci­et­ies but also that this tax is unpop­u­lar even among those who do not pay it. It is cer­tainly legit­im­ate to want to pass on all or part of one’s wealth and to fear not being able to do so. But, in the end, few people pass on large amounts and inequal­it­ies are high: the smal­lest 50% of trans­mis­sions rep­res­ent less than 5% of the total, while the largest 10% rep­res­ent as much as half – which is close to the inequal­it­ies in wealth. Moreover, the cur­rent sys­tem means that most trans­fers are not even taxed, which raises ques­tions why so many people who will nev­er even have to pay this tax reject it. There are sev­er­al reas­ons for this sur­pris­ing unpopularity.

First, inher­it­ance tax is very com­plex. There are dif­fer­ent types of allow­ances that vary accord­ing to the rela­tion­ship (chil­dren are taxed less than grand­chil­dren, who are taxed less than broth­ers and sis­ters, etc.), a non-repay­ment peri­od, and a tax rate that var­ies accord­ing to the num­ber of chil­dren), a non-recall peri­od for dona­tions (those made more than 15 years before the death or before anoth­er dona­tion are no longer taken into account) as well as spe­cial regimes for busi­ness assets and life insur­ance (where, as an addi­tion­al com­plex­ity, tax­a­tion also depends on the age of the hold­er at the time the funds are paid out) and even for cer­tain fin­an­cial ‘gifts’. Like any com­plex sys­tem, it is poorly under­stood. Sur­vey after sur­vey, tax­pay­ers report a pro­found lack of know­ledge about this tax: with a strong tend­ency to under­es­tim­ate deduc­tions and over­es­tim­ate the tax actu­ally paid.

In France, for example, each par­ent can give €100,000 net to each of their chil­dren every 15 years. For a couple with two chil­dren, this rep­res­ents over €400,000, which is more than the gross wealth of 8 out of 10 French people, accord­ing to INSEE. This lack of know­ledge is not unique to the French and sev­er­al recent stud­ies have high­lighted the role it plays in rejec­tion of inher­it­ance tax else­where – show­ing that avail­ab­il­ity of inform­a­tion clearly increases sup­port for this type of tax­a­tion. In Sweden, for example, where people receive more inform­a­tion about the share of inher­ited wealth in soci­ety are more likely to sup­port inher­it­ance tax⁶. This is also the case when people are reminded of the con­crete con­di­tions for being taxed and the share of people affected by the tax, as has been shown in the US⁷. This inform­a­tion is there­fore an import­ant and neces­sary ele­ment in any debate on the issue.

It is also worth men­tion­ing the under­ly­ing feel­ing that this tax is unfair. A reas­on for this is that about half of the amount col­lec­ted is levied on so-called “indir­ect line“ trans­fers, i.e. trans­fers not between par­ents and chil­dren – even though these trans­fers only rep­res­ent about 10% of the amounts trans­mit­ted. This is because they are more highly taxed than the oth­ers. For example, the allow­ance for nieces and neph­ews is €7,967 com­pared to €100,000 for chil­dren. The tax rates are also much high­er, start­ing at 35% for sib­lings, 55% for nieces and neph­ews com­pared to 5% for chil­dren. This gives the impres­sion that people without chil­dren are less legit­im­ate in want­ing to pass on their wealth than oth­ers. In con­crete terms, if a per­son passes on €100,000 to his or her daugh­ter, there will be no tax to pay, where­as it will be over €50,000 if the same amount is passed on to a niece. In these cir­cum­stances, the tax rate, and the amount of tax paid depend more on the rela­tion­ship than on the amount passed on.

The OECD’s pro­pos­al to tax trans­fers not at the level of the per­son passing on but at the level of the per­son receiv­ing is an inter­est­ing idea, already put for­ward by oth­er insti­tu­tions. These include France Straté­gie and aca­dem­ics such as Anthony Atkin­son⁸ or the Nobel Prize win­ner James Meade⁹. Last June, the com­mis­sion headed by eco­nom­ists Olivi­er Blan­chard and Jean Tir­ole also recom­men­ded the use of this tax, tak­ing hold of the idea¹⁰. 

Empir­ic­al stud­ies are few but sug­gest that inher­it­ance tax is less dis­tort­ing than oth­er types of taxes and that the fear of a tax exodus of older people seems unfoun­ded^{11121314151617}. The bene­fits thus seem to out­weigh the poten­tial losses. This tax­a­tion even seems to have pos­it­ive effects on the labour sup­ply of heirs and to pre­vent busi­nesses from being passed on too often to unskilled heirs¹⁸¹⁹. These con­sid­er­a­tions also make it pos­sible to change the way in which the debate could be positioned.

Rather than ques­tion­ing the appro­pri­ate­ness of increas­ing a tax in a coun­try where com­puls­ory deduc­tions rep­res­ent a sig­ni­fic­ant part of the income of the vast major­ity of the pop­u­la­tion, we could ask ourselves how to design a more effi­cient and pro­gress­ive sys­tem. For example, would it not be appro­pri­ate to reduce the tax­a­tion of earned income by redesign­ing and mak­ing the trans­fer tax more pro­gress­ive? The tax base is clearly not the same and bet­ter access to tax data on dona­tions and suc­ces­sions would be needed to quanti­fy this issue in more detail. But high­light­ing this trade-off would make it pos­sible to debate more clearly a choice between, on the one hand, tax­ing work, an activ­ity that con­cerns the vast major­ity of cit­izens, and on the oth­er hand, tax­ing the high assets trans­mit­ted, which con­cern a much smal­ler pop­u­la­tion that is older and wealth­i­er overall.