March 1, 2010
by Peter Cohn
Senate aides are quietly exploring ways to tax the massive wealth tucked away in charitable foundations, which backers say could serve the twin goals of raising revenue for an estate tax solution and triggering overdue reforms in the nonprofit sector.
According to revenue requests viewed by CongressDaily, leading options involve curbing the deduction for assets placed into a private or family foundation, which are currently excluded from a decedent's taxable estate at death. Aides described the discussions as at a very preliminary phase.
But there is a clear interest in looking into what one official described as a "big, gaping, leaky loophole" that could yield billions of dollars to help ease the brunt of the estate tax, while clamping down on lax rules for the use of foundation money.
Such a move risks alienating key constituencies on both sides of the debate, however, from anti-tax stalwarts like the Mars family of candy bar fame on the right to wealthier progressives like Microsoft founder Bill Gates. And philanthropic organizations are sure to sound the alarm, much as they quickly nixed President Obama's plan to limit the value of itemized deductions for charitable donations to 28 percent for upper-income earners.
For those reasons, Senate aides have not even broached the subject with their bosses until they have a clearer picture of how much revenue may be available. Take a few of the senators most interested in cutting the estate tax. Senate Minority Whip Kyl said no one has broached the topic with him, although sources said his staff has expressed interest.
Then there is Senate Agriculture Chairwoman Blanche Lincoln, with whom Kyl has worked closely. Her home state of Arkansas is where Sam Walton founded Wal-Mart Stores Inc., and the Walton Family Foundation was the nation's 25th largest in 2008.
And Gates is one of the most famous products of Washington state, home of Democratic Sen. Maria Cantwell. The Bill and Melinda Gates Foundation is consistently well on top of the rankings by asset size, holding nearly $30 billion at the end of 2008, according to the Foundation Center.
Aides said Senate Finance ranking member Chuck Grassley, who has long been a watchdog on charitable sector issues, is not involved either. But a former top Grassley tax aide who worked on the topic said the idea was spot-on, considering small businesses and family farms are ordinarily subjected to the tax, whereas billionaire foundation heads are not.
"I think Congress is aware that you need to be looking at these family foundations and private foundations in general," said Dean Zerbe, now managing director of alliantgroup, a specialty tax services firm. "Right now it's essentially, 'Katy bar the door' of what you can pay a family member to do."
"Charities in this economy are suffering left and right, yet some of these guys are sitting on billions of dollars," added Zerbe. "The question is, can we make the estate tax fairer and also look at ways to get more money into the hands of charities? I think it's difficult to tell a small-business owner you're going to have to close up shop while this fellow is paying for his daughter's wedding out of foundation funds."
In an amazing feat, Congress actually let the estate tax expire at the end of 2009. But if no action is taken by the end of this year, it will snap back to life at 55 percent and a $1 million exemption. That has driven the urgency to come up with unpalatable offsets.
Cantwell has floated an option to allow estate owners to set aside funds in a trust to be transferred to heirs at death, paying 35 percent on the way in and avoiding tax on the way out. Her aim is to actually raise revenues, but the jury is still out on that at the Joint Committee on Taxation.
Thus the potential need for more revenues, and some estate tax critics have long chafed at the advocacy of Gates and Berkshire Hathaway founder Warren Buffett on behalf of the tax, which their heirs will not even face on money accumulated in their foundations.
In a recent paper published in Tax Notes, James Madison University professors William VanDenburgh and Nancy Nichols called Gates' and Buffett's stances "hypocritical." They wrote: "Warren Buffett and Bill Gates are vocal advocates for higher estate taxes, but they are mostly avoiding estate taxes while leaving their family members with highly tax-advantaged billion-dollar foundations."
The authors were quick to note that Buffett has pledged to give away 85 percent of his estate to charity, however, and aides said Gates is generally well-regarded for his generosity. In 2008, the Gates foundation donated $2.8 billion, out of a total $10 billion given out by the top 25 private foundation donors, according to the Foundation Center. Gates' donation amounted to 9.3 percent of the foundation's assets, far higher than the 5 percent required by law to avoid penalties, although within that figure money can be set aside for salaries and expenses.
The revenue requests sent to JCT by Senate staff thus far are for proposals that are prospective and would only apply to future foundation-giving. One request asks for the revenue effect of eliminating the charitable exclusion altogether so that donations could not be deducted from an estate; alternatively, capping the deduction at 50 percent could be explored. Another option is to eliminate the charitable exclusion for donations to charities that are controlled by a decedent's heirs; and another would disallow the exclusion for donations to charities that are created by wills or trusts at death.
Estate tax-related revenue requests are near the bottom of JCT's work pile, given everything else they are being asked to score. But Kyl and other Republicans are pushing for a resolution soon on the estate tax, or at least some certainty of floor time before allowing Senate Democrats to move forward on bills they say are intended to create jobs.
The influential philanthropic lobby can be counted on for a fight if senators actually pursue a crackdown on foundations. Andrew Schulz, vice president for legal and government relations at the Council on Foundations, said it would be short-sighted to target foundations as a revenue source, as it would depress charitable giving in the same way Obama's proposal would.
Advocates say the estate tax encourages charitable giving through the deduction, and should be kept at a higher rate. "The optimal level for the estate tax is one that maximizes revenue, maximizes charitable donations and minimizes wealth transferred to heirs," said Aaron Dorfman, executive director of the National Committee for Responsive Philanthropy.
Chuck Collins, who is co-founder with Bill Gates Sr. of a pro-estate tax group called Wealth for the Common Good, said some tightening of the charitable rules could be a good thing for policy reasons, if it spurs more actual philanthropy. But he said the issue should be divorced from the estate tax debate, which is about fairness and having enough money for public benefits like roads, schools, and national defense.
"If Forrest Mars just wants to give $10 billion to his kids and not pay tax on it, that's a problem," Collins said. "If the purpose of an estate tax is to encourage the dispersal of wealth and discourage the concentration of wealth, I'm less concerned about people giving away all of their wealth to charity."
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