Estate and gift taxes and incentives for inter vivos giving in the US

Abstract

This paper describes the current estate and gift tax rules that apply to intergenerational transfers in the US. It summarizes the incentives for inter vivos giving, gifts from a donor to a recipient while the donor is alive, as a strategy for reducing estate tax liability. It shows that the current level of intergenerational transfers is much lower than the level that would be implied by simple models of dynastic utility maximization. Moreover, even among elderly households with net worth in excess of $2.5 million, roughly four times the net worth at which US households became liable for estate tax in 1995, only about 45% take advantage of the opportunity for tax-free inter vivos giving. Cross-sectional regressions using the 1995 Survey of Consumer Finances suggest that transfers rise with household net worth, possibly reflecting the impact of progressive estate taxes. Households with a preponderance of their net worth in illiquid forms, such as a private business, are less likely to make transfers than their equally wealthy counterparts with more liquid wealth. Those with substantial unrealized capital gains, for whom the benefits of ‘basis step-up at death’ under the income tax are greatest, are less likely to make large inter vivos transfers than similarly wealthy households with higher basis assets.