Mr. BURKE. The policy of the committee has been for the members of the panel to ask one another questions, or state your differences if you differ with one another.

We would appreciate it if the panel would not repeat testimony you have already given. Try to keep your answers as brief as possible so we can get through the hearing as quickly as possible.

First, we will recognize Mr. Collie.

Mr COLLIE. Thank you, Mr. Chairman.

I might start back with Dr. Brannon, my old friend who has studied the economics of estate taxation for many years, I realize his wisdom. I come to this battle of wits relatively unarmed but I would like to pick up his last remarks. If I understood you, Dr. Brannon, you stated in effect the accessions tax or its less sophisticated cousin, the inheritance tax, is the fairest.

What you are saying today is forget fairness. Let's have a complex, more difficult system, a change to a relatively new system, yet we all know that if that is done both from the standpoint of the time of Congress and from the fairness to the taxpayers who simply in the estate and gift tax area cannot stand frequent changes because of the difficulty of changing wills and other dispositive arrangements, we will not see the fairest system that can be devised imposed as you just mentioned for at least another generation.

Dr. BRANNON. This is a switch. As a professor, I am accused of being practical. Also, Marvin, you changed words a little bit as you went from the proposition that an inheritance tax was fairer to claim, that it was more simple, more practical, things of that sort.

I think an inheritance tax is fairer but I don't think it is easy, particularly this problem of what to do about discretionary trusts.

It is interesting that a brilliant piece of work was done on how to structure an accessions tax by Bill Andrews at Harvard and that is included in the ALI volume, but this has not gotten the careful working over that proposals have to get before they get into operation.

It involves quite a complicated withholding kind of tax on these discretionary trusts so that basically I come out to saying the practical thing seems to be to me to concentrate on those questions you also have to solve even in the inheritance tax. You have to face up, for example, to whether you want to have a lower tax on lifetime transfers to encourage gifts.

To solve all of those problems and the unique inheritance tax problem at the same time seems to me impractical.

Mr. COLLIE. I would like to respond but should I wait to the end? Mr. BURKE. If you will wait for a moment, we will come back to

you.

Mr. Lewis?

Mr. LEWIS. I did not get around to the point on which I was going to agree with Marvin Collie so I will do it now. I do think there is a great deal to be said for the accessions tax. I think that a hard look ought to be taken at it. I am trying to remember the name of the Senator who wrote about it in New York a few months ago-McGovern, wasn't it? He had some good things to say about it.

The basic problems essentially are just about as difficult under the

giver throughout his lifetime to the moment of his death and you measure the tax base by everything that he parts with. Under an accessions tax, you follow the receiveree, the donee, and you accumulate the tax with respect to everything that he receives.

There are probably more receivers than there are givers so if you have an accessions tax you will probably have to get to the top rate sooner under the rate schedule than you would under a unified gift and esttae tax. I don't know what the ratio is, three receivers for two givers or what, but something like that.

If you look at the present estate tax schedule what you find is it reaches 77 percent at $10 million. Now, how much tax is paid on the first $10 million? The rate table says about $6.1 million. What the tax table does is grant $1.6 million of relief to the first $10 million. That is, the tax is $1.6 million less than if you had a flat 77 percent rate starting above the exemption. Under an accessions tax you would have to reach the top bracket sooner. You would take the $1.6 million subsidy and distribute it in a different way if you wanted to raise the

same revenue.

As to administrative difficulties, I think they are about the same. The discretionary trust, unless some solution is found for it, defeats the efficient working of either system. Under the unified estate and gift tax everybody knows how to tax the creation of the trust. The moment the property goes into the trust is a clear case for a taxable event. The problem with respect to the long-term trust you don't get another crack at it for 80 or 100 years.

Under the accessions tax, the tax on the recipient, the easy event to tax is the date the long-term trust ends. When the trust breaks up you can see who is getting the property. So under either system if you have people tying property in long-term trusts, you have one clear taxable event every 80 or 100 years, and I think the problem of getting a more frequent tax out of the discretionary trust is no harder under one of these two tax systems than it is under the other.

Mr. BURKE. Did you want Mr. Collie to respond to that or did you direct your statement to someone else in particular?

Mr. COVEY. I would like to respond to it. I think the problem is more difficult with respect to discretionary trusts under the accessions tax. I think it is easier to handle under the present method of taxation. Mr. BROWN. Mr. Chairman, I am still concerned about the question of the businessman who invested all the money he had in a business. Say he invested $25,000 in the business and through hard work and dedication and 30 years of effort that business is now worth $1 million and he dies.

I would like to ask Professor Westfall, Mr. Covey, and Dr. Brannon whether under their proposals the cost of dying to that individual would increase from what it is under present law and, No. 2, how would they propose to take care of permitting him to keep that business within the family and pass something to sons who were capable of continuing to run and own that company.

Mr. COVEY. Under my proposal I said I would keep the level of taxation at death the same. Therefore, I am going to reduce the top estate tax rate from the present 77 percent rate down to 60 percent.

I am then going to put the 14 percent AET rate on top of that. So, therefore, the 14 percent plus the 60 percent would be at a top of 74 percent if you are talking top rates.

I would think my proposal just reallocates the cost of dying, giving some more emphasis to unrealized appreciation, certainly more emphasis than you would have under current law but I don't think it contemplates increasing the cost of dying.

Mr. BURKE. Dr. Brannon?

Dr. BRANNON. I think Mr. Brown's case brings up an important issue that has risen in this capital gains issue which I think essentially is a fallacy.

He asserts that there are some estates which are small, which have gains and are also illiquid. There are also some estates that are large and very liquid that have gains. The proposal to help the ones that are small and have gains and are illiquid by reducing the tax or ignoring this whole matter of unrealized appreciation is really a fallacy.

I could just as well say there are some estates of people whose names begin with B that are illiquid and the tax on them should be reduced. That would help Mr. Brown and myself but it is really a dumb plan.

If you want to provide special help for estates that are illiquid, there are illiquid estates that have appreciation and that do not have appreciation. There are things you can do to help illiquid estates and not undertax appreciation just for this very indirect purpose.

My suggestion would be that you treat the illiquidity problem on its own. The ALI volume has some useful material as to how we could improve the present provisions to deal with illiquid estates.

One dimension of this is that it relates to how much tax you want to get from estates and gifts altogether. If you simply raise estate and gift tax rates this would create more liquidity problems and if you tax appreciation at death it would involve liquidity problems.

By and large I don't think those liquidity problems are very serious and I think they can be handled by the sort of proposals that were involved in the ALI study.

The most systematic study of those is by Chelcie Busland which does not seem to be a very impressive demonstration of liquidity problems.

If you think that liquidity is an important matter, you ought to look at in the context of what should be the total tax you want to get at death, as Mr. Covey looks at it.

I don't think it is important enough to hold the death tax levies where they are now.

If you think so, follow Mr. Covey's ceiling but try to do it fairly. Mr. BURKE. Professor Westfall, did you want to respond?

Professor WESTFALL. I would like to point out in general that I agree with what Dr. Brannon was saying about treating the liquidity problem in those estates where it is serious. This would point up the need for some provision that the tax on gains at death could be paid over a period of perhaps 5 years rather than all being due at the time the final return is due, but I agree with what Dr. Brannon says about dealing with liquidity problems in those estates where it is proper rather than by dealing with it by forgiving the tax altogether. Mr. BURKE. Do you care to respond, Mr. Brown?

Mr. BROWN. It seems to me, No. 1, with respect to Mr. Covey's comment, where appreciation is something more than 50 percent of the estate as would be the situation that I cite, that the tax would be materially greater under his proposals than it would be under the existing system because his system involves an interrelationship between the total estate and appreciation. Where appreciation is more than 50 percent, I think his proposals would end up with a substantially greater tax burden than under existing law.

I think no one has really done a comprehensive study of just how important this liquidity situation is for smaller companies.

When I say "smaller companies," I don't mean the corner drugstore. I mean any closely held companies. I think when they say it is not a serious problem that they really don't know how serious it is because we don't know how many estates really involve this type of situation Mr. COLLIE. Mr. Chairman, may I give an actual illustration along

this line?

Mr. BURKE. Certainly..

Mr. COLLIE. I am very interested in the Professor's rather light dismissal, if you will, of the liquidity problem, but I want to point out an actual case sitting in our office today.

The house of this family was bought in 1939 for $7,200. There have been capital improvements of $3,000 in the meantime so there is roughly $10,000 in the house. When the man died in 1972, this same house was appraised at $66,000. Inflation is really the only reason for it.

It is still in a residential neighborhood. There are no unusual events other than inflation. The man had $30,000 of life insurance. He had roughly $100,000 in a partnership wihch was his sole source of support, that is, his business.

His cost in that partnership was $50,000. He had approximately $10,000 of miscellaneous assets net after the ordinary household expenses and debt.

He left his total estate to his daughter comprising $206,000. If you take out $6,000 for administration expenses, it is roughly $200,000.

His daughter lived with him, had two children-$200,000 taxable estate. Under the present law that would give a tax of $31,500 to be raised. I mentioned I believe there was $30,000 of life insurance.

The life insurance is now gone and a little more. If you add on the capital gains tax at a 25-percent rate, you have an additional tax of about $14,000 or a total tax now of $42,500.

Now, where do we get the money? Does the daughter sell the home, move out of this place where she has to raise her two children?

There is no way to get it out of the partnership business because the partners are not going to continue to do anything except to pay her a modest amount of the profits on which she must continue to live.

That is a practical, actual situation that we have today. No amount of time with respect to raising the money at even a very modest interest rate is going to take care of this situation so far as I can determine.

I can't even figure out how to raise the money to give this daughter and the two grandchildren a modest amount to live on for a reasonable period of time until the children reach their majority.

That is the actual kind of liquidity situation that ALI or any of the other situations that I have not seen answered.

Dr. BRANNON. It seems to me most working people who want to live in a $66,000 house come up with a big mortgage. Is this house free and clear?

Mr. COLLIE. I made clear this man's house cost him $10,000. He paid it out from 1939 to 1972, he had paid off the mortgage.

You are saying in effect that she has to move out to pay the taxes in this kind of situation. It is just simply a cost of inflation between 1939 and 1972 on the difference between the $10,000 and $60,000.

Over 30 more years here, most mortgages are paid out in this period of time. This was a working man in a machinery type partnership. I don't believe your question takes much problem.

Dr. BRANNON. You could take out a new one?

Mr. COLLIE. We are striving to get enough money for her to live on. Dr. BRANNON. For most people who want to live in a $60,000 house it is nice to have it free and clear but it does not happen to many people in this world.

Professor WESTFALL. I wanted to comment for a minute, Mr. Burke, and members of the committee, on the example Mr. Collie just gave.

It is true that if there is a $200,000 estate that is subject to a $31,000 tax, there is going to be a problem raising the money. But even after raising the $31,000, the beneficiary who receives that estate is way ahead of 95 percent of the people in this country.

The question is whether it is an unreasonable burden to say that a tax should be paid in this situation. I also agree with what Dr. Brannon said it would seem in this situation that one possible avenue is to put a mortgage on the house. This is not a case where there is an overwhelming problem of liquidity because if the house is worth $66,000, it ought to be possible to put a mortgage on it to pay whatever is needed to make up the tax.

Mr. COLLIE. In Texas that would be prohibited by our constitution. Professor WESTFALL. It would be prohibited to mortgage the house? Mr. COLLIE. That is right. You can only mortgage for purchase price or improvement.

Professor WESTFALL. The solution to that is to sell it and buy a new house. Every time I am around Marvin, I learn quite a lot about Texas law.

I would like to comment again on the difference between Dick Covey's approach and that of the Treasury on gains at death.

Dick made the point that the tax on gains at death would be regressive under the Treasury proposal. This is true if you make the assumption that those gains are going to be taxed in the top 35 percent bracket in the two estates that you are comparing.

But this is not necessarily true. Some estates would be in a relatively low bracket on gains and in those estates the tax would not be regressive.

If the tax on gains is regressive because it reduces the taxable estate and a reduction in the taxable estate does more good for the big fellows than the little fellows, then any tax that the decedent paid during his life is regressive because any tax reduces the estate tax for a big estate more than it does for a small estate.

The other comment I wanted to make on Dick's comments was with