The Gates Foundation and the Estate Tax--Posner's Comment
Charitable donations last year totaled some $260 billion, given mainly by individuals; foundations gave only about 11 percent. Religious institutions receive about 40 percent of the donations; the next largest category, education, receives less than half that. Medical research, the arts, environmental groups, and victims of poverty and disasters are the other major recipient groups.
It is generally taken for granted that charitable donations are a "good thing," because the donor is not getting anything in return and therefore must be motivated by pure good will. That is probably true of donations to victims of poverty and disasters; such donations are altruistic in the sense that the benefit to the donor comes from the fact that he internalizes the suffering of the victim. However, such donations account for little more than 10 percent of total charitable giving. Most other charitable gifts go to support services that the donor consumes directly (such as religion or environmental amenities) or indirectly--indirectly when for example a college alumnus donates to his college, the donation helping to maintain the college's prestige, a commodity that benefits the alumnus, or to gain admission to the college for the donor‚Äôs kids.
There is nothing wrong with such spending, any more than there is with other lawful consumption choices. But it should not be confused with altruism. The only defensible rationale for a tax break to encourage such donations is that there is a free-rider problem which a matching grant (the effect of the tax break) can help overcome: the prospective donor who wants to increase his alma mater's wealth benefits from other alumni donations to his college and so may donate less than he would if he derived no benefit from those other donations. The government's matching grant, in the form of a tax break (so if the donor is in the 30 percent bracket, the government in effect pays $3 for every $7 that he donates), reduces the cost of donation: it costs him only $7 to enrich his alma matter by $10.
If the charitable deduction from federal income tax were eliminated, there would be less charitable giving, but income tax rates could be lowered without loss of government revenue. Because free-rider problems are a source of genuine inefficiencies, there would be a reduction in allocative efficiency from this change. But income tax like other taxes creates allocative inefficiency as well, and that inefficiency is reduced by reducing the tax rate. So it is not clear that there would be any net increase in inefficiency from eliminating the charitable deduction.
Since charitable bequests are exempt from the estate tax, abolishing that tax would lead to a reduction in such bequests; an effect of 6 to 12 percent has been estimated. The negative efficiency effect of eliminating the government's matching grant for charitable donations would not be offset by lower income tax rates; those rates would have to be raised to make up for the shortfall in tax revenue caused by the abolition. Unlike Becker, I do not favor the abolition of the estate tax. Apart from the effect of abolition on the charity free-rider problem, the tax appears to be relatively efficient. The tax falls mainly on very wealthy people, who are unlikely to give away all their wealth during their lifetime in order to beat estate tax. Indeed, for people who have no bequest motive and die with assets only because, not knowing exactly when they would die, they did not want to pauperize themselves, the tax has minimal misallocative effects.
Suppose there were a 40 percent estate tax on estates of $1 billion or more and a back-up 40 percent gift tax on gifts, including charitable donations, by billionaires. The Gates foundation, as enriched by Warren Buffett's gift, will have assets of some $60 billion, and under the assumption of a 40 percent gift tax $24 billion would have gone to the government, reducing the foundation's assets to $36 billion. There is no way in which Gates and Buffett could consume $60 billion in the remainder of their lives, so probably such taxes would not have deterred the gifts. It might seem that the critical question would then be whether the government or the Gates foundation would spend the $24 billion more efficiently. But that is not correct. Assuming that total tax revenues were not intended to be altered by the imposition of the 40 percent gift tax, the $24 billion in gift-tax revenue would be returned to taxpayers in the form of a reduction in their income taxes or other taxes. The question would then be whether the taxpayers or the Gates foundation would spend the money more efficiently. I believe the taxpayers would. The foundation is an inherently inefficient allocative institution because, much like the government, it is not subject to market tests. There is no way to assess the value of the Gates foundation‚Äôs expenditures because the foundation is not competing in any product or capital market. (Colleges and most other recipients of charitable gifts, in contrast, compete in product markets.) Gates and Buffett are extremely able businessmen but the Gates foundation is engaged in activities, such as fighting Third World diseases, that are remote from their business experience.
Becker and Casey Mulligan have argued, with empirical support, that "efficient" taxes aren‚Äôt really efficient, because they enable government to grow, and government is inefficient. In recent years, however, we have seen a conjunction of tax cuts with rapid growth in government spending. Federal spending as a percentage of GDP rose from 18.5 percent at the beginning of the Bush Administration to 20.3 percent in 2005, the gap between tax receipts and expenditures being filled by borrowing, mainly from foreigners. Under present conditions, it is uncertain that making tax policy more efficient will stimulate further government growth.