Two erudite views on estate taxes

One of the better web destinations for legal thinkers to visit is The Becker-Posner Blog, a forum for the views of University of Chicago Professor Gary Becker and Judge Richard Posner. Last week they debated the efficacy of the federal estate tax.

Becker is against it. In addition to the efficiency and fairness arguments that we've heard before, Becker also thinks that in the information age, wealth is more that physical assets. He writesL

But after the knowledge revolution took off toward the end of the 19th century, bequests of financial and material wealth have become less important in the overall economy. Instead, the most important way for parents to “bequeath” economic position is through the transmission of knowledge in the form of education, training, and other human capital. Such capital embodied in people now comprises over 70 per cent of all “wealth” in economically advanced nations, far more important than material capital.

Posner, on the other hand, is reluctant to give up this revenue source, though he would prefer an inheritance tax and recognizes that the estate tax raises little revenue. In particular, he raises concerns about social mobility in the absence of such taxes.

Wealthy people seem increasingly able to guarantee that their children and even grandchildren will remain in the upper income tier, leaving fewer places for the children and grandchildren of the poor to occupy. Through “legacy” admissions (as at Harvard!), expensive private schooling and tutoring, including tutoring in taking college admission tests, as well as by means of direct transfers of wealth, wealthy people are able to “purchase” a secure place for their children and grandchildren in the upper class. Even if, as Becker argues, social mobility has not actually declined in recent decades, it is lower than it used to be and the conditions for a decline seem in place.

This is a well-thought-out discussion, free of the emotionalism and sloganeering sometimes found on both sides of the question. The extensive comments to each article are worthwhile also, as are the authors' responses to the comments, though I haven't had time to read them all. But if the ranks of millionaires are growing as fast as JLM suggests below, this will remain an important policy concern.

Millionaires - an endangered species?

Fear not, marketers to the affluent! U.S. millionaires, a species thought to be in dcline after suffering severely from DCS (Dot Com Syndrome) are making a remarkable comeback. There now are 7.5 million millionaire households in the U.S., breaking the record of 7.1 million set back in 1999.

You can read all about it (for free, thanks to the generous folks at the Pittsburgh Post-Gazette) in Robert Frank's article from today's Wall Street Journal.

Good news and bad news

Rarely does the business section of the Sunday New York Times contain two articles on trusts, much less on facing pages, but that's what confronted your Senior Assistant Blogger this morning.

The good news: Trusts for pets, a concept validated by the Uniform Probate Code and now permitted in 27 states.

The bad news: Harvard Alums can set up charitable remainder trusts that are invested alongside Harvard's legendary endowment. Harvard's returns have been stellar - a 15.9 percent average over the last decade; 21.1 percent last year. Yale, with a return on endowment of 19.4 percent last year, is expected to offer its alums the same service. If another universities follow suit, that means serious new competition for corporate trustees.

Investment tip: Harvard's endowment has reduced its domestic-equities exposure and heavied up on bonds, private equities and hedge funds.

Live rich to get rich?

MP Dunleavey's column in today's New York Times sheds light on why the national savings rate is a disgrace while the national spending rate is out of sight. Many Americans expect to be rich. And most of those optimists seem to believe that spending will make it so. Not saving and investing. Spending.

"The danger in buying into the idea is that you're going to be rich," Dunleavey notes, " is that you'll spend accordingly - regardless of the impact on your personal financial health. "

Yup, lots of folks would rather live rich than get rich. That doesn't bode well for the future of the wealth-management business. How can you help your clients teach their children to build a little wealth instead of more debt?

By the way, I asked Google about MB Dunleavey and learned that she used to be a dark-haired young woman who wrote about single life for Lifetime. Now she's a blond married woman and a financial columnist for MSN. Check out the archive of her columns.

Tales from the 20th Century: Borrowing Trouble

Year: 1957. Scene: A carriage house on New York's Murray Hill, converted to serve as the offices of a small ad agency, The Merrill Anderson Company. The proprietor, Merrill Anderson himself, lives in an apartment on the top floor.

A young job applicant has just submitted three sample ads for Mr. Anderson's consideration.

"These two will do," he says. "Banking by mail and saving for college; we can use them."

The young applicant had hoped to bat three for three. "What's wrong with the third one?"

Mr. Anderson shook his head. "Vacation loans? We can't tell a bank to run an ad that encourages frivolous borrowing. It wouldn't be moral."

* * *

What a difference almost half a century makes! Plastic cards and home-equity loans have made credit available to anyone, usable for any reason. Since 1990, income for the median American household has risen a respectable 11% after adjusting for inflation. But median household spending has jumped 30% and now exceeds median household income. How can that be? Median household debt has leaped by 80%! Online Wall Street Journal subscribers can read more here.

Even the rich are borrowing, as noted in an earlier posting. That's why private bankers extend credit as a way to gain new wealth-management clients.

Borrowing, after all, is one way the richer get richer. Borrowing to buy more real estate. Borrowing to buy hedge funds that are already highly leveraged. Thank goodness real estate always goes up and hedge funds always produce stellar returns. Were that not the case, some affluent investors might find themselves poor again.

They might even need vacation loans.

Tax reform resource

Tax reform efforts may prove no more successful than the President's initiatives on Social Security, but thePresident's Advisory Panel on Federal Tax Reform provides updates on their progress.

Trusts versus annuities

Buried inside this article blasting annuity sales practices is an example of someone using a living trust gambit to gain the confidence of prospect before closing an annuity sale.

How common is this practice? How can you fight back?

Questions, anyone?

Sam Heitzman will be spending this week in our Stratford offices. He's been shy about blogging, but I'm hopeful that he'll catch the bug. If anyone cares to post a question for him, perhaps that will give him the motivation he needs.

Wealth managers: Looking for new clients?

Try calling on winners of the Nobel Prize, leading academics and other geniuses thinking deep thoughts. Said geniuses tend to be duds at investing. What's more, they may not even want to learn how to do it right.

So reports Peter G. Gosselin in his L. A. Times article (free registration required). Aside from revealing hot prospects for investment-management accounts, the article sheds light on the debate over diverting a portion of Social Security tax payments to private accounts. If even Harry M. Markowitz, the father of modern portfolio theory, couldn't think realistic thoughts about asset allocation in his younger days, where does that leave the average taxpayer?

Coincidence?

So I was at the library checking out some videos, and because there were a couple people ahead of me in line, I went to browse the new books. I picked up Suze Orman's The Money Book for the Young, Fabulous & Broke to see what new spin is being applied to the same old financial advice. Haven't had time to take a close look.

So this morning, after putting on the coffee, I turned on the television. There's an element of channel roulette with Tivo, because in the morning the TV will be set to whatever channel might have been recorded during the night. Imagine my surprise when I saw an infomercial of Suze Orman giving a lecture about being Young, Fabulous & Broke!

Perhaps someone is trying to tell me something? I'll try to give that book some more attention.

A trust for Spot and Puff?

Client Base Expands for Pet Estate Planning reports LawProf Gerry Beyer. No doubt pet ownership is booming, and there is a corresponding need for making arrangements in contemplation of the owners' deaths. But are any of these pet lovers showing up in trust and wealth management departments?

The rich might not be that different after all

So says Daniel Gross in The Neiman Marcus Paradox - How dumb rich people end up in debt.

Apparently a substantial amount of luxury merchandise is purchased on credit.

How big is the market for trust services?

Bigger than one might suppose. According to Walter E. Williams: Only in America:

While becoming a millionaire by age 17 is rare, eventually becoming a millionaire isn't. According to TNS Financial Services' 2004 Affluent Market Research survey, there are an estimated 8.2 million American households with assets, excluding primary residences, worth over $1 million. That's a 33 percent increase over the 6.2 million millionaire households in 2003.

Of course, having a million bucks isn't a certain marker for a trust prospects, is it?

Wealth Management: the book

What are estate planning attorneys going to do with themselves if the estate tax goes bye-bye?

On his TaxProf blog, Paul L. Caron sees an answer embodied in a new textbook:

In recent years there has been enormous political pressure to cut federal taxes, especially for taxpayers in the upper echelons of the income and wealth scale. The future of the federal estate tax remains especially controversial, as indicated by competing proposals to repeal the tax permanently or to raise the exemption substantially above the amounts provided under present law. As a result, estate planning courses may be forced to make significant changes in scope and emphasis if they are to retain their traditional importance and interest for students. By the same token, most individuals and families will confront a host of financial planning issues that are entirely independent of the existence of an estate tax or the size of an estate tax exemption. These issues relate to managing investments, protecting assets, meeting the costs of higher education, financing the purchase of a home, obtaining disability and life insurance coverage, providing for retirement security, and planning for incapacity and succession at the end of life.

The new volume, Turnier & McCouch's Materials on Family Wealth Management, covers wealth, taxes, insurance, elder law and more.

Are lawyers going to turn into private bankers and financial planners? Maybe it's only fair. Remember the days when estate planning was used so vigorously to market trusts that members of the bar complained about "the unauthorized practice of law"?

Demographics as destiny

Stock market observers may have another tricky factor to include their calculus as they project long-term trends. The baby boomers buying stocks to fund their retirement have long provided positive pressure on stock prices. But, according to a recent Wall Street Journal item (subscription required);

Not so fast, says Jeremy Siegel , the Wharton School finance professor well-known until now for recommending stocks as a long-term investment. In speeches and a new book, he is warning that a flood of boomer retirees with trillions of dollars of assets to sell over the next 20 to 40 years threatens to crush stock and bond prices. He says it will take a massive investment in U.S. stocks by people in India, China and other developing countries to prevent a market meltdown.

Not all economists agree. Some argue that top wealthholders, who own the majority of shares, will not feel pressure to liquidate their holdings.

Anyone care to attack this jump ball?

Trusts and insurable interests

In this item from The National Underwriter Company, a spokesman for Transamerica states that the recent surprise outcome in Chawla v. Transamerica does not mean that the company will view all irrevocable life insurance trusts as suspect. It's another situation of bad facts make for bad law. Still, there is a bit of a chill in the air over the issue, until we hear the outcome of the appeal of the decision to the Fourth Circuit. For those that haven't read the case, the article also provides a good summary of the key elements.

Crowd control

So I stopped by the Apple store at 6:15 this evening, to take a look at the new OS 10.4 Tiger that just went on sale. The store was full, security was directing people to get into a line that stretched down the hall. Could have been 100 or so people waiting in line, and I don't have that kind of patience. I'll look at the software demo another day.

But I can't help but marvel at Apple's success in getting people so excited about a piece of software that, at the end of the day, doesn't do anything! Sure, it's the foundation for the rest of the Mac apps--but those are already working just fine!

What can trust marketers learn from Apple's example?

Carryover basis

Democrats are beginning to play the carryover basis card in their fight to retain the federal estate tax. During the House debate on estate tax repeal, they argued that 7,50o families will gain each year from estate tax repeal, while 71,000 will lose through the elimination of basis step-up. The arguements are outlined in this Washington Post item by Albert Crenshaw.

For a sense of how the public is responding to the debate over death taxes, see this Larry Kudlow post and its associated comments.

Invest in stocks? Beware of saros cyles.

Let workers invest part of what they now pay in Social Security tax. People will gladly accept reduced retirement benefits, say proponents, because they''ll make more money by investing their private accounts in equities.

They could make much, much more money, judging from long-term returns cited by Ben Stein in his Sunday New York Times column. Over 20-year periods from 1871 to 2002, an investor who owned stocks that performed like the S&P 500, reinvested dividends and sat tight would have seen his nest egg grow an average of 600%.

What's more, Stein says, stocks these days are cheap, less expensive than they were five years ago.

But what if stocks remain cheap for years and years to come? That's the fear of those who see 18-year saros cycles echoed in the stock market.

As NASA helpfully explains, saros cycles run for roughly 18 years and relate to the movement of the moon and the recurrence of eclipses. Three saros cyles make one Kondratieff cycle. Astrologers and technical market analysts labor mightily to churn out short-term market forecasts based on these cycles, with predictably mixed results.

Yet in the long run -- well, let's look at the record:

In 1929, prices in the stock market soared sky high, then crashed. Dismal economic times delayed a new bull market until after World War II. Even when the war ended, investors feared a renewed Depression. Stock prices didn't start perking up until 1947. Eighteen years.

From 1947 onward, the bulls stampeded. Yields on risky stocks actually dropped below yields on presumably safer bonds.. People started talking about "growth stocks." By 1965, the Dow had soared to 1,000. Another eighteen years!

It would be a long time before 1,000 on the Dow was seen again. Stock prices seemed to fluctuate endlessly and aimlessly from 1965 through the 1970's. (But if you adjust the stock averages for inflation, you'll see another stock market crash, this time in slow motion.) It wasn't until late 1982 that a new bull market began. Almost eighteen years!

You know the rest of the story. From 1982 onward, the stock market made millions of Americans affluent if not downright rich. The Dow soared past 10,000 and kept on going. The unprecedented party didn't end until the dot.com bubble burst in 2000. Yet another eighteen years!

Will these 18-year cycles persist? Will investors have to wait until 2018 for the next significant bull market? If so, millions of neophyte investors could very well lose their patience and their Social Security money, requiring an eventual Congressional bailout at the expense of American taxpayers.

But not to worry. All this saros-cycle stuff is nonsense, right? Perhaps. But there's a simpler, more plausible explanation for the regularity of the market's long-term ups and downs. The average investor probably starts investing in stocks or stock funds in her late 20s or early 30s and starts moving into bonds when in her 60s. That's just about long enough for two saros cycles, one down, one up.

So maybe it's not the moon, just human nature.

Why can't a man invest more like a woman?

A few men have the patience for investing. Warren Buffett, for instance. He's said that his favorite holding period is forever.

By and large, though, as yet another survey indicates, women are better suited for profitable investing. And they're more likely to seek professional advice.

Are stocks on sale?

As stock prices move lower, one might think that it's a good time for future retirees to add to their nesteggs. That's not the take of the New York Times in Washington Memo: Down Market Casts a Pall on Social Security Plan. Of course, torpedoing personal Social Security accounts has been on the NYTimes agenda all year long.

How does stock market performance affect trust marketing?

Do these numbers add up?

JCX-20-05 breaks down the costs of permanent estate tax repeal, according to the nonpartisan Joint Committee on Taxation. That permanent estate tax repeal could cost $290 billion over 10 years is not too surprising. However, according to the Committee there will be over $8 billion in revenue losses from 2006 to 2010, when H.R. 8 makes no changes to existing tax laws? Could the Committee be using dynamic scoring? Are they predicting a drop in taxable gifts once wealthy people realize that there really won't be a federal estate tax?

Debate the estate tax

With this sort of advocacy for keeping the estate tax, I'm not surprised that the proponents for repeal are doing so well.

Mass affluent?

The April 11, 2005 issue of Investment News noted that

Banks will shift their growth focus for the "mass affluent" market segment to cross-selling products and services to existing clients, from new-client acquisition, according to the "World Retail Banking Report 2005" from Capgemini Group.

The report surveyed 130 banks in 19 countries and defined mass-affluent clients as those with an income of at least $50,000 or investible assets of $100,000 or more.

Where do the mass affluent fit into the trust marketing scheme? Are some trust departments trying to reach this same segment? Are trust departments best positioned to take on the relationship management issues associated with serving the mass affluent market?

A common mistake

In his story on CBS radio reporting that the House of Representatives voted 272 to 162 to make the repeal of the federal estate tax permanent in 2010, the reporter said (this from my memory) "This year a couple can inherit $3 million free of estate tax."

Inherit? Well, the difference between an inheritance tax and the estate tax is confusing to many people, especially as they are both "death taxes" and that phrase has been used as a stand-in for "estate tax." The mix-up seems inevitable. Trouble is, what the reporter needed to say to be accurate couldn't be fit into a radio soundbite. The actual estate tax exemption this year is only $1.5 million. True, with rudimentary estate planning a married couple could double that to $3 million, but they'd also both have to die this year. The odds of that happening are rather low.

If well educated radio reporters can't understand this stuff, can we expect better from trust prospects? What is the best way to illustrate the importance of planning for taxes at death?

Millionaire Women

My assistant Peter just obtained a reviewer's copy of this book, which should provide plenty of grist for future articles. What is the ratio of trust clients, men to women? About 1 to 3? How about prospects?

House votes today?

The House may vote as early as today on estate tax repeal, and there's quite of bit of MSM coverage of possible compromise in the Senate. None of the articles talks about what will happen to carryover basis, however.

What are the odds?

Will the federal estate tax be repealed this year? Or will the Senate force a compromise, say a 15% tax rate and $10 million exemption? Would this certainty be better than being estate-tax free for one year?

Living wills, living trusts

How does public awareness of Terry Schiavo and the renewed interest in living wills translate into a trust marketing opportunity? Or would that be crass?

Are life insurance trusts dead?

A federal district court in Virginia has held that under Maryland law a trust can't have an insurable interest in a person, and so can't own life insurance. Does this render the strategy obsolete?