The Case for Abolishing Death Taxes

Policy Backgrounders | Taxes

No. 142
Friday, June 27, 1997
by Bruce R. Bartlett


The Impact on Pensions

Figure II - Marginal Tax Rate on a %241.9 Million Estate

Another way in which the estate tax negatively interacts with other taxes relates to pensions. In a recent paper, Professors John B. Shoven of Stanford and David Wise of Harvard point to a little-known provision of the law that imposes a 15 percent excise tax on "excess" pension assets. This tax was enacted in 1986 and is imposed on withdrawals exceeding $155,000 per year. (At age 70, it would take only $1.2 million in assets to generate this much income in an annuity.) It is in addition to federal and state income taxes. This means that the marginal tax rate on pensions larger than $155,000 is over 61 percent - far higher than the top income tax rate of 39.6 percent.

This is bad enough, but in fact the tax burden is even higher when the estate tax is considered. Shoven and Wise point out that prior to 1982, pension assets passed through estates tax-free. Whatever money one had in an IRA at death, for example, could be passed to one's heirs free of estate tax. After 1982, only $100,000 could be given free of estate tax, and since 1984 all pension assets are taxed.

The combination of federal and state income taxes plus estate taxes and the 15 percent excise tax means that extraordinarily high tax rates can apply to pension assets in estates.  

  • As Figure II shows, for an estate larger than $1.9 million (in 1996 dollars), the marginal tax rate has risen from 39 percent in 1982 to over 85 percent today.
  • In some states the rate can go as high as 99.73 percent!

"Even people of modest means who save and invest steadily for a lifetime can find their estates subject to confiscatory tax rates."

Shoven and Wise strongly emphasize that these tax rates are not reserved only for the very rich. Anyone, even of modest means, who saves and invests steadily throughout their lifetime can find their estates subject to confiscatory tax rates. For example, someone age 25 earning just $25,000 who saves 10 percent of his income yearly would find himself with $2.4 million in pension assets at age 70. Such people should not have their wealth virtually confiscated merely because they were thrifty.15


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