The Redistributive Potential of Transfer Taxation

Transfer Tax Mechanics

The modern US estate tax was introduced in 1916. As its name suggests, the tax is imposed on transfers of estates rather than receipt of inheritances, so the tax burden is a function of the size of a taxable estate rather than the tax rates of those who receive inheritances. ³ The 1916 estate tax had an exemption of US$50,000 and a progressive rate structure with a top tax rate of 10 percent that applied only to taxable amounts exceeding US$5 million; given prevailing income and price levels, very few 1916 deaths produced taxable estates. In 2013, the lifetime exemption for the estate tax is US$5.25 million, with the 40 percent tax rate applied to transfers exceeding this amount. Transfers to spouses are exempt from estate and gift taxation, and deductions are also available for transfers to charities. The US$5.25 million exemption applies to each individual, so a married couple is able to transfer up to US$10.5 million of its joint resources without incurring tax liability.

Taxes on gifts and generation-skipping transfers supplement the estate tax. The federal gift tax was introduced in 1924, repealed in 1926, and permanently reintroduced in 1932. Gifts during lifetime can obviously substitute for bequests at death, most vividly in the case of deathbed transfers. Experience with an estate tax unaccompanied by a gift tax convinced Congress that a gift tax was necessary to prevent simple avoidance by transferring property in anticipation of death. During its early decades, the gift tax operated separately from the estate tax with its own rates and exemption levels that generally subjected lifetime transfers to lower tax rates than transfers at death. In 1976, Congress merged the federal estate and gift tax into a unified system that provides a single cumulative exemption level for lifetime gifts plus transfers at death. Consequently, taxable lifetime gifts are now added to bequests at death in determining whether cumulative transfers exceed exempt amounts and in assessing tax burdens.

Despite the unified structure of the estate and gift tax, there remains an incentive to transfer property during lifetime rather than waiting until death. Modest amounts of annual giving (in 2013 amounts up to US$14,000 per donor–recipient pair) are excluded altogether from gift taxation. Beyond this amount, gift and estate taxes are liabilities of the giver, not the recipient, and gifts are taxed on a tax-exclusive basis, whereas estates are taxed on a tax-inclusive basis: gifts are taxed based on what beneficiaries receive, whereas estates are taxed based on what decedents bequeath. Consequently, with a 40 percent tax and no exemption, it is necessary to bequeath US$50 million in order for beneficiaries to receive US$30 million, since the 40 percent tax is applied against the US$50 million estate, leaving US$30 million for beneficiaries. If instead US$30 million is transferred to beneficiaries during lifetime, the transfer produces a tax liability of US$12 million (40 percent of US$30 million), for a tax-inclusive cost of US$42 million.

The cost difference between bequests and lifetime gifts arises because the tax law does not treat gift tax payments as taxable transfers to beneficiaries (though gift taxes paid within three years of death are included in taxable estates). As a result, there are tax incentives to make lifetime gifts rather than hold property only to transfer it at death. In order to ensure that a beneficiary receives X after tax, it is necessary to leave X/(1 − t) in an estate, in which t is the rate of gift and estate taxation. By contrast, it costs X(1 + t) to transfer X to a beneficiary during lifetime. The difference is Xt ²/(1 − t), or the product of t ², and the amount that would need to be left in an estate. There is considerable evidence that patterns of lifetime giving respond to its favorable tax treatment. ⁴ Despite the incentives, and the apparent behavioral responsiveness, it is striking that more wealthy people do not avail themselves of opportunities to make lifetime gifts.

Very wealthy families have additional tax planning opportunities that stem from their access to resources capable of supporting multiple generations. Federal wealth transfer taxes apply each time wealth is transferred, so resources that a parent leaves to children, and that are subsequently passed on to grandchildren, typically will be taxed twice. In families of great wealth, and absent other considerations, there would be an incentive to avoid the second round of taxable transfers by bequeathing some resources directly to grandchildren (or beyond), thereby skipping one or more rounds of taxable transfers. The US government in 1986 introduced a generation-skipping transfer tax designed to address such tax planning strategies by subjecting transfers to grandchildren to an additional layer of transfer taxation. The part of an individual’s estate that is left to grandchildren (or to beneficiaries in more distant generations) is not only subject to the estate tax but the portion remaining after payment of the estate tax is subject to the generation-skipping transfer tax, at a rate equal to the estate tax rate, so such a transfer is effectively taxed twice. The ability to make transfers that skip multiple generations and the availability of a US$5.25 million exemption together create tax incentives to make generation-skipping transfers, with a potential tax saving similar in magnitude to that available from making lifetime gifts (Hines 2012).

The federal transfer tax system has three effects: it discourages transfers, it encourages avoidance, and it collects taxes on taxable transfers that nevertheless take place. Since under current law lifetime transfers must exceed US$5.25 million before any taxes are owed, transfer taxes are paid only by those with considerable wealth. The combination of excluding spousal transfers and the very high lifetime exemption level greatly limits the revenue potential of federal transfer taxes, so proposals to raise revenue from greater transfer taxation typically include reducing the lifetime exemption as well as increasing the rate.

The Double Burden of Transfer Taxes

Gratuitous transfers are voluntary, which suggests that those who make the transfers thereby receive something of value in return, presumably the good feeling associated with providing benefits to others. From the standpoint of resource allocation by donors, gratuitous transfers resemble simple purchases of this good feeling. Those who receive transfers clearly also get something of value: the transferred property. Recipients of gratuitous transfers differ from sellers of goods and services in receiving the full transfer amount as a surplus, and indeed, it is because recipients obtain surpluses that transfers create good feeling for transferors. The two-sided nature of transfers—which create benefits for donors as well as recipients—implies that transfers are associated with significant economic surplus that is lost on the imposition of transfer taxes.

Consider, for example, a voluntary gift of US$100. If the transfer is unaccompanied by other obligations it benefits the recipient by US$100. The donor presumably also receives value of at least US$100 from this transfer or else would not have parted voluntarily with the money. Consequently, the sum of the values created by the transfer has a lower bound of US$200. Since the donor’s cost of the transfer is only US$100, this transfer creates considerably more value than it costs. Friedman (1988) and Kaplow (1995) note that the donor internalizes only his own portion of the value of the transfer, which includes whatever benefit the donor gets from helping the recipient, but nevertheless by necessity omits the additional US$100 benefit that the recipient gets from receiving the transfer. Consequently, they argue, there are too few transfers from a social welfare standpoint, and hence, social welfare would increase if the government provided corrective transfer subsidies. In their analysis, transfer taxes only deepen the problem of insufficient transfers.

The taxation of gratuitous transfers burdens both donors and recipients, as illustrated by consumer theory. An individual’s utility can be expressed as an indirect function V y , p of exogenous resources y and a price vector p. Exogenous resources include any after-tax inheritance receipts, and prices include the price of bequeathing an additional after-tax dollar to an intended beneficiary. In this framework, it is convenient to normalize the price of consumption to unity.

If the estate tax is a linear tax imposed at rate t on transfers that exceed an exempt amount, then total estate tax liability equals t B − E , in which B is the pretax bequest that an individual makes and E is the exempt amount. The after-tax inheritance (I) received by a beneficiary as a result of someone else’s bequest is the difference between B and the tax obligation, so I = B 1 − t + t E . Consequently, B = I 1 − t − t 1 − t E . If a consumer with an income of y chooses only between consumption (C) and bequests, and leaves a bequest large enough to be subject to the estate tax, then his or her budget constraint can be expressed as

In this formulation, exogenous income includes the value of the estate tax exemption t 1 − t E . The marginal cost of providing an after-tax inheritance is 1 1 − t , and the effect of the exempt amount is to augment the exogenous resources of those who plan to make taxable bequests.

What is the effect of a change in the tax rate t on the welfare of those who leave and receive bequests? Differentiating the indirect utility function produces

If the estate tax change affects only the price of bequests, then from the envelope theorem ∂ V y , p ∂ p = − λ I , in which λ ≡ ∂ V y , p ∂ y is the marginal utility of income. Simple differentiation also yields that d p d t = 1 1 − t 2 . The d y d t term on the right side of equation (2) has two components, one of which, E 1 − t 2 , is the impact of a change in t on the value of the estate tax exemption, and the second of which is the impact of a change in t on the value of after-tax inheritance receipts. Denoting the induced change in after-tax inheritance receipts by d I ∗ d t , equation (2) with some reworking can be expressed as

The left-hand side of equation (3) is the money metric valuation of the utility change caused by a small change in the estate tax rate. The first term on the right-hand side reflects that greater estate tax rates may influence an individual’s inheritance from others, through some combination of discouraging transfers and simply taxing transfers at higher rates; both considerations suggest that, for inheritances from taxable estates, d I ∗ d t < 0 . The second term on the right-hand side of equation (3) is the cost that donors bear of higher taxes on bequests that exceed exempt amounts. Higher taxes reduce the purchasing power of those who wish to make taxable transfers, the cost of which is measured by the additional transfers that would be required to maintain unchanged levels of after-tax bequests despite the tax increase.

Equation (3) captures the effect of transfer taxes on the welfare of both donors and recipients. Donors incur costs because what they want to obtain with their resources becomes more expensive as transfer taxes increase. Recipients incur costs whenever higher transfer taxes reduce the transfers that they receive. In the formulation in equation (3), these costs both appear in the utility function of the same person. While there are indeed people who both receive inheritances and make bequests, transfer taxes impose two-sided costs even if the same individuals do not both receive and make transfers; capturing both in equation (3) is simply a matter of convenience. The more fundamental point is that taxes on gratuitous transfers impose costs on both sides of the transaction.

The double burden of transfer taxes reflects the purposeful nature of gratuitous transfers. The same reasoning need not apply to cases of accidental transfers, for example, those that arise when people holding (bequeathable) assets for their own future consumption die unexpectedly. Since the accompanying bequest is not entirely voluntary, presumably the decedents—to the extent that they anticipated their chances of untimely demise—generally attached less than full valuation to these probabilistic transfers. It follows that anticipated transfer tax burdens would be similarly discounted. Light and McGarry (2004) and Kopczuk and Lupton (2007) offer evidence of considerable variation among savers in the extent to which their asset accumulation is intended for bequests; Kopczuk and Lupton conclude that roughly half of the bequests in their sample were unanticipated. Estate taxes are owed only by that part of the population with very large assets, a group with extensive financial planning, and correspondingly less frequent unanticipated bequests. ⁵ Hence, while some bequests by high net worth decedents are likely accidental, this consideration is apt to have only a modest effect in reducing aggregate estate tax burdens.

While the analysis in this section concerns gratuitous transfers to individuals, an almost identical reasoning applies to charitable contributions and charitable bequests. An individual who elects to make a charitable bequest does so because the value attached to augmenting the resources of the receiving organization exceeds the value available either by giving to a noncharitable recipient or else by increasing consumption by the amount that would otherwise have been devoted to the bequest. Despite the donor’s attachment to the mission of a charitable recipient there remains an uninternalized benefit of charitable bequests, just as there remains an uninternalized benefit of bequests to noncharitable beneficiaries. The difference is that under current law charitable bequests are excluded from taxable estates and therefore effectively tax exempt. This tax treatment encourages charitable bequests relative to (taxable) noncharitable bequests, though only because transfer taxes discourage noncharitable bequests; transfer taxes do not directly impact the choice between charitable bequests and lifetime consumption, leaving uncorrected the externality on this margin.

Distributional Consequences of Transfer Taxation

Transfer taxes differ fundamentally from other types of taxes in imposing large burdens on both sides of the transaction, a reflection of the exceptional nature of gratuitous transfers. As a result, it has proved difficult for government agencies and others to calculate the distributional consequences of transfer taxes, this despite the near universal agreement that only wealthy families are directly affected by transfer taxation as currently practiced by the US government. The US Congress Joint Committee on Taxation and the Congressional Budget Office simply do not estimate the effects of estate and gift tax changes on the distribution of income, citing the conceptual difficulty of identifying the incidence of estate and gift taxes. The Office of Tax Analysis of the US Department of the Treasury started estimating the distributional effects of estate and gift taxes only in 1998, relying on the assumption that the taxes impose burdens on recipients but not donors (Cronin, 1999). The Urban-Brookings Tax Policy Center uses the Treasury assumption in forming its own estimates of the distributional impact of transfer tax changes.

US government agencies are constrained to distribute tax burdens so that the sum of tax burdens equals total revenue collected, despite the deadweight loss that accompanies most forms of taxation. This problem is particularly severe in the case of transfer taxes, since even the first dollar of transfer tax collection typically generates tax burdens that greatly exceed revenue collections. In the case of transfer taxes, it is clear that the direct burdens imposed by the taxes fall largely on wealthy families, whether donors or recipients; the much more important issue is the magnitude of the burdens. In exploring this issue, it is useful to take the representative consumer analyzed in equations (1) through (3) to be representative of the class of high-wealth taxpayers affected by transfer taxation.

Equation (3) includes a d I ∗ d t term that reflects the effect of tax changes on inheritance receipts. It is possible to write I ∗ = B ∗ 1 − t + t E , in which B* is bequests that produce inheritances received by the current generation, from which it follows that d I ∗ d t = d B ∗ d t 1 − t − B ∗ − E . Setting B ∗ = B to reflect the impact of current taxes, equation (3) can be expressed as:

Equation (4) reflects changes in welfare, so the right-hand side is premultiplied by (−1) in expressing the magnitude of the associated aggregate tax burden.

Revenue collected from the estate tax is denoted by R, with R = t B − E . The change in tax revenue from a change in t is given by d R d t = B − E + t d B d t . The difference between the sum of burdens from a change in transfer taxes and the change in revenue collected is given by

In order for the Office of Tax Analysis methodology accurately to capture the effect of transfer tax changes, it is necessary that the right-hand side of equation (5) equals zero. From equation (5), it is clear that the necessary condition is that d B d t = B − E 1 − t . Since I = B 1 − t + t E , it follows that d B d t = B − E 1 − t is the condition required for after-tax bequests not to change when estate taxes vary. This corresponds to donors increasing their pretax bequests to offset fully the impact on after-tax bequests of any estate tax increases. While such a high degree of responsiveness is possible, it is well outside the range of estimated effects of estate taxes on taxable estates; more commonly, higher estate taxes are associated with reduced pretax bequests, and much-reduced after-tax inheritances. ⁶ It is also noteworthy that the scenario in which the change in tax revenue equals the aggregate burden is one in which beneficiaries in fact are not burdened by estate tax changes, as their after-tax inheritance receipts are unaffected; the burden falls entirely on decedents, which is the opposite of the assumption underlying the Treasury methodology. But more realistically, higher estate tax rates can be expected to reduce after-tax inheritances, thereby imposing burdens on wealthy families that significantly exceed tax revenues collected.

Transfer Taxes and Efficiency

All major taxes used by the federal government distort the economy, generally by discouraging income production. Consequently, the mere fact that transfer taxes create or worsen distortions does not necessarily make them undesirable methods of raising federal revenue. There are, however, several aspects of transfer taxes that suggest that they are less efficient than other revenue sources.

Transfer taxes discourage transfers, which—as noted—are likely to be too small even in the absence of taxation. Transfer taxes encourage avoidance that takes the form of making lifetime gifts, purchasing life insurance policies that might not otherwise be considered worthwhile, transferring closely held business interests to recipients who might have little desire to own the businesses, making transfers between spouses, transferring property to members of distant generations, and engaging in other transactions tailored to reduce transfer tax obligations. Some of these transfer tax avoidance tactics exploit the ability of taxpayers to make modest (currently US$14,000/year) tax-exempt annual gifts, and the difficulty of valuing certain property transferred to beneficiaries. Life insurance payouts are not subject to transfer or income taxation, though premiums paid on life insurance policies are considered gifts to beneficiaries, and are therefore potentially taxable. The use of life insurance policies to avoid transfer taxes therefore typically entails making annual gifts of insurance premiums, affording a convenient method of using the annual gift exclusion while ensuring that beneficiaries receive payouts only at the death of the insured. Transfers of closely held business interests can be designed to avoid transfer taxes by creating minority interests and applying corresponding valuation discounts. Thus, the owner of a business worth US$40 million might divide the business into five shares, giving one share to each of the five children. These shares could then be valued for transfer tax purposes at less than US$8 million each (25 percent discounts are common), reflecting that owning a minority stake in a business is generally less valuable than a majority stake, even though in this case the other owners are siblings. Another transfer tax avoidance method entails setting up grantor-retained annuity trusts in which property transferred to the trust produces a lifetime annuity for the grantor, with beneficiaries receiving the trust residual at the grantor’s death. Transfers to these trusts are subject to immediate gift taxation, but require valuation of annuities in order to determine taxable gift amounts. Small inaccuracies in the formulas used to value grantor annuities can therefore create opportunities to transfer significant net worth to beneficiaries with little if any accompanying transfer taxation.

These and other transfer tax avoidance methods encourage financial arrangements that parties would not find attractive in the absence of tax benefits. This aspect of transfer taxation is worrisome from an efficiency standpoint, even more so when added to the consideration that transfer taxes are no less responsible for labor supply and saving distortions than are income tax equivalents. Forward-looking individuals who plan to make bequests to children or others at death earn labor income during their working lives in part to finance these bequests. Consequently, a tax that discourages bequests also discourages the labor supply of donors. Transfer taxes discourage saving resources for bequests, which is particularly inefficient because the annual compounding of income taxes inefficiently discourages long-horizon saving (see, e.g., Auerbach and Hines 2002), and adding transfer taxes on top of these income taxes worsens the accompanying intertemporal distortion. A tax that reduces transfers will encourage the labor supply of those who inherit, though as Hines (2013) notes, empirical labor supply elasticity estimates generally suggest that aggregate labor supply declines at higher transfer tax rates. Since the return to labor is subject to income, payroll, sales, and other taxes, further reductions due to transfer taxes come at considerable efficiency cost.

Kaplow (2001) makes the point that it is difficult to find a place for positive transfer taxes in an optimal tax system, not only due to the gratuitous nature of the transfers that are taxed but also for the simple reason that a separate tax on one use of funds creates greater distortions than the alternative of taxing income at rates that are independent of how it is spent. One of the motivations that animate advocates of greater use of transfer taxation is that the existing income tax system may tax too lightly some high-income families; transfers at death create opportunities to fix the error by imposing additional tax burdens at that point. In an optimal tax framework such as that used by Kaplow, the answer to this concern is to remedy whatever is unsatisfactory in the income tax and avoid the use of transfer taxes.

Reform Options

Tax reform is commonly motivated by the need for tax revenue, the desire to promote efficiency, and notions of distributional fairness. Transfer taxes currently raise little revenue and are quite inefficient, though they have what many consider to be the desirable attribute of imposing burdens almost exclusively on high-income families. One potential direction of reform would be to increase the rate of transfer taxation, say to 45 percent as President Obama has proposed, and to accompany the rate increase with a reduced lifetime exemption, say in the neighborhood of US$2 million. This reform would raise additional revenue from the estate and gift taxes, albeit at the likely cost of reduced income tax collections. The reform would generate considerable economic distortions and would impose additional burdens on wealthy Americans. Indeed, the group impacted by such a transfer tax reform would feel the burdens twice, first as recipients of inheritances and a second time as those who leave bequests, even though official statistics do not record their tax burdens this way.

There is an alternative reform that holds the prospect of generating additional revenue, improving efficiency, and contributing to the measured progressivity of the tax system. This reform would be to abolish all federal estate, gift and generation-skipping transfer taxes, and make up for the lost revenue with greater income taxes on the highest-earning Americans. Given the double burden currently borne by those affected by transfer taxes, it is possible to craft a reform that makes wealthy Americans better off while increasing tax collections in a way that official statistics will show to represent a greater burden on the highest-income taxpayers. The large distortions associated with transfer taxes make it feasible to increase tax collections even while not increasing burdens on the affected groups.

A portion of the revenue foregone by eliminating transfer taxation can be recouped with accompanying changes in the taxation of capital gains. Under current law, recipients of lifetime gifts of appreciated property use the donor’s basis in calculating any capital gain taxes on subsequent sales. This carryover basis rule is not applied to transfers at death; instead, the basis of inherited property equals its value at the time of the donor’s death. This treatment has the virtue of not requiring information on the value of a decedent’s basis in bequeathed property, but it also creates a strong incentive for elderly owners of appreciated property to retain those assets until death. When the estate tax was suspended in 2010, the basis rules for capital gains taxation were also amended to treat inherited assets in the same way as those received during lifetime, ⁷ thereby imposing carryover basis. A similar adjustment to the basis rules could accompany elimination of estate taxation, thereby augmenting capital gain tax collections and reducing the incentive that the elderly face to avoid selling appreciated assets.

Removal of transfer taxes would diminish incentives to make charitable bequests by reducing the disincentive to make bequests to noncharitable beneficiaries. There is ample evidence that charitable and noncharitable bequests are gross substitutes, so that reduced transfer taxes would be accompanied by significantly reduced charitable bequests. ⁸ A reduction in charitable transfers would be problematic from an efficiency standpoint due to the externality associated with charitable giving. Existing transfer taxes address the inefficiency only incompletely, since they do not encourage transfers of resources that would otherwise have been devoted to lifetime consumption, and the magnitude of the inefficiency would grow with the removal of transfer taxes. Higher personal income taxes used to replace revenue lost from the removal of transfer taxes would mitigate some of the effect on charitable transfers, since charitable contributions are deductible in calculating personal income tax liabilities, and higher tax rates therefore generate greater marginal incentives to contribute to charity. But an important reform option that could accompany transfer tax removal would be to permit estates of decedents to claim income tax deductions for charitable bequests. These deductions would be available for the final year tax return, with possibly a carryback to the previous two years’ returns. This is hardly a radical alternative, since taxpayers are already entitled to such deductions for charitable contributions made during their lifetimes, but this extension offers the opportunity to mitigate an inefficient reduction in charitable contributions that would otherwise accompany transfer tax repeal.

Since wealthy Americans are not identical it is impossible to envision a practical reform that actually benefits every member of society; this is a universal feature of tax reforms. A transfer tax reduction accompanied by top-bracket tax increases would benefit those with little income who give or receive large estates, and would hurt families in the opposite situation. It might nevertheless be possible for such a reform to generate the widespread political support necessary for enactment. Graetz and Shapiro (2005) document the groundswell of political support for the reduction of estate taxes from 2001 to 2010, culminating in the temporary estate tax abolition of 2010, and the resonance that zero-estate taxation has for many Americans. If the purpose of the estate tax is to raise revenue, then it is possible to replace the estate tax with a more efficient income tax alternative that eliminates some of the distortions and thereby creates the opportunity to raise greater revenue at lower cost. And if the purpose of the estate tax is distributional, then there are intriguing distributional possibilities with higher top-bracket income taxes and reduced or eliminated transfer taxes. Reformers concerned about the distributional consequences of reduced transfer taxes might consider the enthusiasm among high-income Americans and others for estate tax elimination as reported by Graetz and Shapiro, and how it might be harnessed to construct a grand bargain that includes higher top-end income tax rates.

There are certain to be some organized groups who lose in any transfer tax reform, with charitable organizations and life insurance companies notably included among those whose interests are typically aligned against transfer tax reductions. Charitable organizations receive greater contributions if an important alternative, transfers to noncharitable beneficiaries, is taxed; life insurance companies benefit from transfer taxes by offering a financial product that is used in tax planning. It is noteworthy that these groups and others that opposed transfer tax reductions were unable to prevent Congress from reducing transfer taxes during the first decade of the 2000s. Graetz and Shapiro (2005) attribute the relative powerlessness of charities and life insurance companies to the mixed motives of their leadership and important donors and customers, many of whom had substantial family assets and stood to benefit personally from transfer tax reductions. As a result, nonprofits and insurance firms were unwilling to organize aggressively against transfer tax reductions, whereas reform advocates were very well organized and effective. It is unclear whether these and other groups opposed to transfer tax reductions would be similarly ineffective if faced with the possibility of permanent repeal, though the strength of opposition would surely depend on how they perceive the value of accompanying tax provisions, including higher individual tax rates and the availability of income tax deductions for charitable bequests.

The distributional consequences of replacing transfer taxes with higher income taxes for the rich depend on exactly how the reform is crafted. The portion of the transfer tax burden currently borne by decedents is concentrated among very wealthy individuals, as is, to a lesser degree, the portion borne by beneficiaries. It is possible to design an income tax supplement with almost any desired distributional features, so transfer taxes could be replaced by even more progressive income taxes if the government determines that such a substitution would be desirable. For all of their progressive features, transfer taxes are less able than income taxes to focus tax burdens on taxpayers in specified income groups, since very high-income individuals may die without making any transfers, and frugal individuals with more modest lifetime incomes may leave sizable bequests. Valid concerns over the economic impact of higher personal tax rates apply with much less force to a reform that simultaneously reduces transfer taxes that would otherwise place burdens on the same taxpayers when they earned income intended ultimately to be bequeathed.

Conclusion

In its pursuit of needed tax revenue enhancement, the US federal government is well advised to bear in mind its goals of promoting efficiency and distributional fairness. Efficiency-enhancing tax reforms are the most attractive during austere economic times, because they entail the least additional burdens in return for the revenue raised. Federal estate, gift, and generation-skipping transfer taxes are very inefficient and also quite unpopular, making them handy targets for removal were it not for the revenue and distributional consequences. Accompanying progressive reforms to the personal income tax offer the prospect of a package that enhances aggregate federal tax revenues and does so in a manner that is no less progressive, and is reported to be more progressive, than the current tax system. Replacing transfer taxes with higher top-bracket income taxes would also improve efficiency. Whether the US political system is capable of coalescing around a transfer tax reduction together with income tax increase—a reform that enhances revenues, efficiency, and progressivity—is another question.