Mr. MARRIOTT. Thank you, Mr. Chairman. I will be very brief. I apologize for missing your testimony. I caught enough of it to know that you are interested in repealing the estate tax right out. That has been my position all along.

I think it is the only sound position to follow when you look at all the circumstances. I think you are absolutely right on that marital deduction. You are simply postponing the tax and possibly creating more taxes in the long run than you would have had you paid on two separate estates.

I support your testimony. I hope we can do something about it. I appreciate your being here.

Mr. FITCH. Thank you, Mr. Marriott.

Thank you, Mr. Chairman.

Mr. NOWAK. Thank you very much, John.

We are going to go out of order here for the convenience of a member who is here at the present time, but may have to leave. We want to call at this time Raymond A. Reister, who is an attorney from Minneapolis, Minn. Mr. Reister, if you would take the witness chair?

His background has been in the practice of estate and gift tax law for some 25 years. He has worked on it since graduating from law school. He is active in many bar associations, notably the American College of Probate. He is on the gift tax committee. Welcome.

Mr. Weber, would you like to comment further?
Mr. VIN WEBER. Thank you, Mr. Chairman.

I would like to begin by again commending you for holding these hearings. I found yesterday's witnesses to be most valuable and I thought the exchange was interesting.

I think that the testimony from Mr. Reister will also contribute a great deal to these hearings. Mr. Reister is a partner in the Dorsey law firm which is the largest law firm in the State of Minnesota, employing 180 lawyers. That may not sit well with all of us politicians, but I suppose it does carry some prestige. In 1976 he was a Bush Foundation visiting scholar at the Brookings Institution and had the opportunity of working through the entire hearings connected with the 1976 act.

So he has some familiarity with that most recent attempt at reforming the estate tax law. In addition, he is a member of the Tax Reform Committee of the American College of Probate Counsel and a former chairman of the Minnesota State Bar Association's Probate and Trust Law Committee. I am sure the technical expertise he brings to the discussion will contribute considerably to our hearings.

TESTIMONY OF RAYMOND A. REISTER, ATTORNEY AT LAW, DORSEY, WINDHORST, HANNAFORD, WHITNEY & HALLADAY, MINNEAPOLIS, MINN.

Mr. REISTER. Thank you, Mr. Weber.

Thank you, Mr. Chairman.

I appreciate the opportunity to be here and I hope to offer something that will be of some value to a meaningful reform of our

current estate tax and gift tax and generation skipping tax situation. These taxes are generally referred to as the "transfer taxes." They desperately need reform, as I am sure this committee is well aware. I think it is fundamental in any consideration of these taxes to realize that they are a levy on capital; they are intended to be a levy on capital; they are not to share in labor or income, but to remove capital from the private sector and to prevent the accumulation of large fortunes and to produce some revenue.

At least that was the initial intent. The program for the estate tax was most dramatically proposed by President Theodore Roosevelt at the dedication of the House Office Building back in 1906 when he made the point that it was important that we break up accumulations of large wealth.

This was done, of course, in the period before the introduction of the income tax.

In 1916 the estate tax was, in fact, introduced. It was a revenue measure in part, to produce revenue for preparation for World War I.

Since then those purposes have been distorted and are no longer, I think, generally applicable.

I think the significance of the fact that this is a capital levy appears when we find out when the tax applies. It applies under current law at $175,000 for the estate of an individual, $350,000 if there is a surviving spouse at a rate of 33 percent for the individual, 17 percent when there is a spouse, and continues at very high rates, reaching 41 percent by $1 million; 49 percent by $2 million; and 70 percent at a $5 million level.

Second, who pays the taxes? Of the taxes that are collected-and I am basing my figures on 1976 figures, the last ones which were published which were for returns filed in 1977. Approximately onehalf of the tax is collected from estates between $300,000 and $1 million. That is the biggest single area where the tax is collected. Between estates of $300,000 and $2 million we collect 60 percent of the tax. At $5 million estates, we have collected 90 percent of the tax. In other words, the moderately large estate pays all the taxes; and when it does pay those taxes, it does so at an extremely high rate.

Since these estates are very often-as has been discussed-the estate of the small businessman or the farmer, I think it is a fair conclusion to say that the small businessman is particularly impacted by the estate tax, both in the rates he pays and the amount that is extracted from him.

This has been made even worse because of inflation, since we have had the fact of values increasing sometimes without a real economic increase in the value of the business.

Some things can be done to alleviate this. This is what, of course, has caused the growth of the whole estate planning industry.

A couple of these items you have undoubtedly heard about. One which may be of interest is the so-called 303 redemption. Under this provision, a closely held corporation whose stock constitutes 50 percent of the value of a decedent's gross estate can redeem, or from the decedent's estate, his stock and pay in return cash equal to the Federal estate tax, State death taxes, and certain administration expenses.

From the estate's point of view, this is helpful, of course. It is a source of cash to pay taxes, but from the business' point of view it means that that cash which had been accumulated or is available in the business is no longer available, but must be utilized for the 303 redemption.

The result has also been to compel many business people to try to prepare for this by either incorporating into their planning a large insurance program, by acquiring other assets which can be available for liquidation in case of death, nevertheless means that the capital otherwise available has been taken out of the business and is not available thereafter for the use of the company of its expansion.

If a 303 is not available, other alternatives are forced upon the family. The use of cash reserves, the opportunity to go out and borrow at current interest rates, or to sell a part of the business.

If you can sell a portion of the business, we find often that it is done at a distress sale, and of course, in many businesses you cannot obviously sell a portion. Often it is an integral economic entity and cannot be divided.

The result of this is that in many cases the conclusion is "Let us sell all of the business instead of trying to liquidate a portion of it." When that occurs, the person who is in a position to buy it is more commonly than not a larger competitor or a conglomerate that is waiting to acquire businesses of this sort.

The other point on the capital attack on businesses caused by the Federal estate tax is that this occurs not only at the time of death, but also happens at the planning stage, where you buy insurance or if you are reorganizing the business.

This means capital is being taken out during the lifetime and taken away from the ordinary operating needs of business.

For example, I am sure you have heard discussions of reorganizations and "recaps." We are familiar with those now being done in which preferred stock is being issued to senior holders of the business at rates from 9.5, 10, 11, up to 13 percent. If that occurs, it means that the business is paying out a substantial amount of its earnings in nondeductible dividends to its preferred stockholders. Nevertheless some families are willing to pay that price in order to obtain a cap on the valuation of their businesses.

Finally, as part of planning, we are seeing more and more the statement "Let us sell out while we can," and again that is usually to a competitor or to a conglomerate.

The small businessman, in addition to the fact of having to provide the money for the payment of taxes, is faced with a number of other problems which are more serious then is the case of the ordinary estate.

First of all, valuation problems. A small business is difficult to value, either at the planning stage for gift purposes or at the time of death. Probably more litigation and difficulty arise in this area so far as estate administration than any other.

How do you value a business? How do you take into account minority interest? How do you account for nonmarketability? These are the hard problems of estate tax administration.

Second, you have been told over and over again, I am sure, that the transfer taxes are complex. They are. But the provisions which

have been adopted over the years for the benefit of small business, in particular 6166(a) and 6166, the deferral provisions, 2032(a), the valuation provision and 303 are extremely complex and even more technical.

This results, I think, from the fact that when Congress passed these provisions there was a fear that these benefits will be abused and, therefore, there was a great effort to make sure that only the right estate was able to qualify.

The result is that there are many estates which I am sure Congress wanted to benefit who cannot qualify because of the technical requirements.

The Treasury has not helped that situation in the approach that it has taken in its Regulations applicable to these provisions.

Third, there are additional costs to the small businessmen in estate planning. This is expensive. It is expensive in time and in the energy required.

The conclusion, I think, is that the system is not working and particularly for the small businessman.

I understand there have been various provisions that have been put forth by the administration and others to increase the marital deduction, to increase the gift tax, and to change the exemption to $600,000.

We respectfully submit this is insufficient. This is only a start. First of all-and most important, perhaps is to start at the rates. If you have a $600,000 exemption and you keep the present rate system, the first dollar is taxed at 37 percent.

The change in the exemption increase from the current $175,000 to $600,000 equivalent means a savings of $77,750. That is all. That is a lot of money for many people, but in an area we have been talking about at these rates, that is not a great deal. It is 10.3 percent of the estate tax on a $2 million estate.

So the beginning point is that the rate schedule must also be changed so that the beginning rate at the $600,000 figure is much lower, maybe 10 percent, or some figure like that.

I would respectfully submit that it should go up to some limit, which is nowhere near the 70-percent provision at the present time.

Parenthetically, we would request that if rates change, that they are not "phased in." The phase in concept is one that was used in 1976 and other periods because it relieves the amount of the revenue loss; but if the estate is entitled to a relief, it is entitled to relief now.

Inflation does not phase in. It is here now.

The other point is that from a planning point of view, if you have an estate where the taxes can differ over the next 5 years depending on the time of death, then you must have much more complicated planning.

Please, if you can, do not go in for phase in.

There should be great simplification. The various provisions can be simplified and we also respectfully request that you eliminate something called "generation skipping." That was incorporated in the 1976 act. Nobody really knows how it works.

It is extremely complicated. The Treasury cannot-has not got its forms out, although this tax has been in effect since 1976.

Generation-skipping provisions are never going to produce any great amount of revenue, but are going to strike in a surprising way because of the complex definitions and the beautifully drafted, perhaps, but extremely complex provisions and almost as a result there are situations that these provisions are designed to tax or that are not designed to apply, but which they do, nevertheless, apply.

I do not think anything really good can be made about generation-skipping. The proper result is just to eliminate it, period. Finally, there are certain other administrative things that can be done. For instance-and I have some personal knowledge of thisevery one of these relief provisions usually has a provision that says it has to have a timely filing, so missing a date of filing an estate tax return can deny thousands of dollars of relief which Congress intended.

I do not think Congress meant to penalize taxpayers simply because of administrative mistakes.

Finally, when it comes to the marital deduction, it is respectfully submitted that you look at the marital deduction not only in terms of how much the estate can pass to a spouse, but that the estate can do so in such a manner that the spouse may not necessarily have the absolute power to dispose of it, which is now required under the current estate tax law to qualify for the marital tax. Making changes in this area will be one of the most advantageous things that we think the Congress can do.

The estate tax area is one which is very attractive for reform. The tax is one which has an immediate and great appeal to many people because the tax impacts so hard on them and impacts at a time when there is already great difficulty, a death in the family.

It takes away from families the fruits of their entire lifetime in the construction of a business, the development of their property, much of which has already paid income tax, and now this strikes at the worst possible time.

This is a reform which is long overdue. We hope that the Congress will complete that in this session.

[Mr. Reister's prepared statement with attachments follow:]

PREPARED STATEMENT OF RAYMOND A. REISTER, ATTORNEY AT LAW, DORSEY, WINDHORST, HANNAFORD, WHITNEY & HALLADAY, MINNEAPOLIS, MINN.

My name is Raymond A. Reister. I am a partner in the law firm of Dorsey, Windhorst, Hannaford, Whitney & Halladay of Minneapolis, Minnesota, where for the last twenty-two years I have specialized in the area of probate law, estate planning and the tax law pertinent to the administration of estates. I have been active in many professional associations, including the American College of Probate Counsel where I am a member of the Estate Tax Reform Committee. However, at this time I speak only as an individual member of the Bar interested in meaningful reform of our transfer tax laws and, in particular, as these laws apply to the small business proprietor.

There is no denying that the present federal transfer tax system, the combination of the estate, gift and generation-skipping tax laws, is overly complex and burdensome. Transfer taxes force far too many taxpayers to develop, with the assistance of knowledgeable but expensive advisors, complicated estate plans that frequently represent an unhappy compromise between the taxpayer's true wishes about the disposition of his or her property and tax realities. Moreover, in recent years changes, and proposed changes, in our transfer tax laws have caused these estate plans, and the documents implementing them, to be reviewed and revised with greater frequency, adding to the expense incurred by these taxpayers. The result has been an increasing level of resentment on the part of taxpayers concerning these tax laws.

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