But bad-faith arguments from Republicans and conservative Democrats and, one has to assume, howling from wealthy campaign contributors, have taken their toll. The bill that made it out of the House Ways and Means Committee would leave the loophole intact, allowing it to continue to perpetuate the racial wealth gap in this country. Here is everything you need to know about the step-up tax loophole: how it works, whom it helps, and why it looks like a part of the tax code that harms American families will likely make it through this session of Congress unscathed.
What is the step-up tax loophole?
Let’s say your grandfather bought a house in 1960 for $50,000 and that it’s worth $200,000 when you inherit it from his estate. Had your grandfather given you the house as a gift before he died, it would count as $150,000 worth of taxable income because you would get the same basis (original investment in the asset) he did. But because you received the asset through inheritance, you get to count the current fair market value of the asset, $200,000, as your basis. That means that if you turn around and sell the house for $200,000, you won’t owe any taxes on the $200,000. There is no good reason for the IRS to consider gifts and inheritances differently, but it has for nearly a century, to the enormous benefit of monied interests.
Who benefits from the step-up tax loophole?
This law obviously benefits those who inherit, a group that is disproportionately white. White families are five times as likely to receive an inheritance as Black families, and their inheritances are worth ten times as much, according to a study by the Institute on Assets and Social Policy at Brandeis University. The massive wealth inequality in the United States along racial lines is an economic and moral catastrophe, and it’s one that harms children by trapping them in poverty. The step-up tax has helped create, maintain, and expand that wealth gap. And when you consider that the taxes that could have been collected on these gains could have paid for social programs like paid leave, child care, tax rebates, and other measures that help the poor, it becomes doubly infuriating that the loophole still exists.
Why did the step-up tax loophole survive?
The original American Families Plan would have required the IRS to use the difference between the present value of the asset and its original basis when determining the taxes owed by someone selling an inherited asset. But despite exempting the first $1 million in gains and carving out exceptions for family-owned businesses and farms that continue to be family-run after they’re inherited, the provision ran into opposition in Congress. Republicans are opposed to ending the loophole, but they’re not alone. At least two former Democratic senators have argued that eliminating the loophole would harm family and minority-owned businesses despite the specific exceptions the Biden administration built into its proposal. And given that their party controls both houses of Congress, the fact that the provision was stripped from the Ways and Means Committee draft means that the Democratic Party is ultimately responsible for the loophole’s preservation. Regardless of who made it happen, keeping the step-up tax loophole around is great news for the wealthy, who can continue to hoard wealth, avoid paying a fair share of taxes, and more easily ensure their children’s children will also be rich no matter what it does to the rest of the country.
