Money Talks: How Our Tax Code Makes the Rich Richer

0:11Emily Peck: Hello and welcome to Money Talks, your guide to all manner of amazing ideas. The slate money show where we talk to the most interesting people in the world about fascinating things. This week, I, Felix Almond of Bloomberg, am joined by, wait, hang on a sec, Emily Peck of Axios.

0:32Felix Salmon: Hello!

0:33Emily Peck: This is a two-on-one interview because, Emily, who are we interviewing this week?

0:37Felix Salmon: We are interviewing the wonderful Ray Madoff, who just wrote an amazing book called The Second Estate, How the Tax Code Made an American Aristocracy. Hello, Ray.

0:47Ray D. Madoff: Hi, what a pleasure to be here.

0:49Emily Peck: Ray, so other than writing this book, what's your claim to fame? Introduce yourself. Who are you?

0:54Ray D. Madoff: So I'm a law professor at Boston College Law School, where I've been for 32 years, teaching students how to help the rich avoid taxes and teaching them other things as well.

1:04Emily Peck: So you have this book. It's all about exactly that, how the rich evade taxes. We're going to dive deep into the estate tax or the effective lack thereof and income tax and what crazy strategies the rich have used not only to evade taxes, but also to persuade the government to let them evade taxes and what might conceivably be done about it. It's gnarly and depressing, but also a must-listen, if I do say so myself. It's all coming up on Money Talks.

1:44Emily Peck: So, Emily, I feel like in a weird change to the usual way this podcast works, I'm not going to start by asking the actual author of the book the question. I'm going to start by asking my co-host, Emily Peck, did this book make you mad?

1:59Felix Salmon: Felix, this book made me so angry. I was sort of like simmering with rage just reading it, Ray, and I want you to go through all the ways. We've been talking about how rich people don't pay taxes for a long time, at least since, to my recollection, since, you know, Warren Buffett and his secretary, blah, blah, blah. And there's all this talk about creating a wealth tax. We can't create the wealth tax. Too hard to create the wealth tax. But underneath it all, we had been taxing the wealthy. We stopped doing it and we could just do it again. You don't have to create a new wealth tax. All you need is there and has been there all along, except the political will has completely vanished.

2:37Felix Salmon: And in all these ways, I'm paying way more taxes than probably Warren Buffett's secretary and definitely Warren Buffett probably, I think.

2:45Ray D. Madoff: Absolutely. And Emily, that's why you are an A student. You have taken away the exact message of this book.

2:52Emily Peck: Which is basically that the United States has a taxation system, which is really over-indexed on the income tax. Everything is based on income tax. And if you're very rich, you can organize your affairs so you never have any income. And then that means you don't pay any tax. And there is a kind of sort of wealth tax, even though wealth taxes are unconstitutional, it's called the estate tax, but no one pays that. Right.

3:17Ray D. Madoff: And you too get an A plus and a gold star.

3:22Emily Peck: So let's try and understand this. Emily was just mentioning that during a sort of halcyon mid-century era, there was a point at which the estate tax, which is the wealth tax in this country, did kind of do its job and was kind of paid. In the history of the republic, how many years of America's history did we have in the estate tax which actually helped redistribute wealth and raise revenue?

3:46Ray D. Madoff: I think the point is not just about the estate tax, but it is also about the income tax. Together, the estate and the income tax did a pretty good job from when they were enacted in 1913 and 1916, pretty much right up through the 70s, I would say. Then things started to fall apart. And what's interesting is that if you look at the tax code today, it's not like they repealed sections or it looks quite similar to the way that it looked when they enacted it in 1913 and 1916. Structurally, it's very much the same. But a number of discrete moves have been taken by the wealthy to essentially remove themselves from the tax system, from both the income tax system and the estate tax system and the payroll tax system.

4:34Ray D. Madoff: So all of these taxes that working Americans are paying, they are optional for the richest Americans. Some of them might choose to pay them because they want to be compensated in a particular way, but it's only because they're choosing it, not because they have to have it be the case.

4:49Felix Salmon: So can we start with the estate tax? How was it originally structured and then what happened to sort of destroy its usefulness? Right.

4:57Ray D. Madoff: So the estate tax was designed at a time when the country was very concerned about concentrations of wealth. It was the era of robber barons and, you know, the Gilded Age. And we had these new rich people that we had never had before in this country. Before that, the United States had seen itself as a country of equals, at least equals for white men, generally equal society, right? All coming together. But then through the Industrial Revolution and the rise of these super rich people. We had people who we never had before, and the country became very concerned about it. All sorts of people thought it was a problem.

5:35Emily Peck: Including the rich?

5:36Ray D. Madoff: Well, including some of the rich, including Teddy Roosevelt and including the steel magnate, Andrew Carnegie. They both thought that this was a big problem to have large amounts of concentrated wealth, particularly inherited wealth, because they felt that inherited wealth created a sort of American aristocracy, which they said would be very bad and would undermine democracy. And of course, at the time, there was very real concerns because socialism was a very real, very viable option and was getting all sorts of votes.

6:10Emily Peck: And so by socialism, what we mean is like forcible redistribution of wealth.

6:16Ray D. Madoff: Well, I would say the socialist movements, There were very strong socialist movements throughout Europe and here in the United States as well. And they sought to get rid of capitalism. They saw capitalism as a bad system. And capitalism had to prove itself. That's why even the conservative Wall Street Journal ran articles saying, we got to get an estate tax here. Because they knew that the country was very concerned about these rich people.

6:42Emily Peck: So this was kind of like the 19-teens version of triangulation, only instead of the left moving rightwards, as we saw with Clinton, it was the other way around. It was the rich moving leftwards in order to sort of diffuse the socialist threat.

6:57Ray D. Madoff: And I wouldn't necessarily say the rich. I'd say there were some rich that were moving left. There were plenty rich. Andrew Mellon didn't want to bring about these taxes. So not they weren't. I wouldn't say they moved as a group. But what I would say is that there was a larger societal concern about the risks of socialism and then later on of communism. These were real viable threats in this country. And the country had to prove that capitalism could do its job to deliver goods for everybody. And one of the ways of doing so was to have an estate tax. And so the estate tax was first enacted in 1916.

7:33Ray D. Madoff: And though it was briefly under Andrew Mellon, it was briefly removed somewhere in the 1920s. Even Andrew Mellon suggested it should be brought back later on in the Depression when the country was suffering. And there was great concern about the stability of the country. And so in that period, straight up for the next 40, 50 years, we had an estate tax, and the estate tax was quite a serious tax. So when I started teaching, which was in 1992, we had rates as high as 65 % on the estate tax for people who had very, very large estates. And we had an exemption amount of like$600 ,000. So it was quite a serious tax.

8:15Felix Salmon: So meaning when you die, everything you own is all totaled up and the person who gets all of it has to pay 62 % tax.

8:23Emily Peck: Well, no, the estate has to pay 62%. The estate has to pay. And then what's left can be divvied up to however many people you like. And they don't pay tax.

8:31Felix Salmon: Exactly. And they don't pay tax. So that was what, yes.

8:33Ray D. Madoff: So we had this estate tax in place for this whole period. But the important thing about the estate tax was it wasn't just created as a one and done. It was created, and then as loopholes were created, Congress did its job and came in and closed the loopholes. So, for example, one of the long-term problems was that people would create these long-term trusts, right, that would go from grandparents to parents to children to grandchildren. And the way the tax rules worked, they were only subject to tax when the money went in, and they were never subject to tax as it passed from generation to generation.

9:11Ray D. Madoff: So these multi-generational trusts were seen as a big problem. So what did Congress do? In 1976 and then again in 1986, they enacted something called the generation skipping transfer tax. And that is a new layer of tax designed to stop people from avoiding the estate tax by creating these multi-generational trusts. The generation skipping transfer tax is still on the books today, designed to prevent dynastic wealth. But you'll see how unsuccessful it has been. But the other thing that it did, so shortly in this period, in 1990, another problem is people would do weird machinations to scrunch the value of their property just enough for it to pass from the decedent to their heirs, and then it would re-blossom again, right?

9:58Ray D. Madoff: So they'd pack it way down like one of those shrink wrap things, and then it would emerge on the other side and it would explode in its full value. What do you mean? What I mean is that you might have something that was worth like$10 million, and then you would do all sorts of machinations, and you'd get it down to be worth$1 million. And then as it appeared on the recipient's end, it would pop up back to be$10 million. These are the types of techniques that I teach my students in estate and gift tax class. You're welcome to come. So you have these techniques. Well, Congress again stepped in. And in 1990, they enacted something called the special valuation rules.

10:30Ray D. Madoff: And those were designed to address people manipulating value in particular ways.

10:36Emily Peck: So the big picture here is that you have an estate tax, society writ large, and as represented by our elected representatives in Congress, it's like the estate tax is, broadly speaking, a good thing. It helps to reduce the monarchy of dynastic wealth. And more to the point, the people who can most afford to pay taxes are dead people. They can't do anything with the money. So why don't we tax the dead? It's much less painful than taxing the living. and people naturally try and avoid it. They want their heirs to get more money rather than less. And Congress over the years and over the decades closes those loopholes as they are found.

11:16Emily Peck: And people broadly are on board with the big picture here, which is estate taxes are a sensible thing to have and let's just try and keep them. Something changes in...

11:29Ray D. Madoff: 1990.

11:30Emily Peck: 1990, where Congress basically started stops believing this. And it stops closing loopholes. And in fact, in 2010, for one glorious year, there's no estate tax at all. And Congress is fine with that. So what changed?

11:50Ray D. Madoff: So basically, what happened was 18 of the country's richest families, Mars, Gallo, Co, Waltons, got together and decided, we got to get rid of this estate tax. They formed a group and they tried to figure out how to do it. And they did a very smart thing. They hired this guy by the name of Frank Lutz. Frank Lutz was a genius marketer. And he figured out that if you call it the estate tax, everyone thinks it's fair, right? They think of the show Dynasty. They think of Paris Hilton, who was sort of a famous rich person back in the day. They think of rich people. They think of people who we shouldn't be worried about.

12:32Ray D. Madoff: But instead, what he said is, let's not call it the estate tax anymore. Let's call it the death tax. And by calling it the death tax, we are going to make everybody think that they are subject to it, that just as death comes for everyone, so too does the tax man at this time. And they had all these things. They had great slogans, you know, the family, mourning family. And then there comes the tax man with their hand out. It's about farmers. Yes.

12:58Felix Salmon: They're always going to lose the farm. Yes.

13:00Ray D. Madoff: And then they added that it's going to hurt the family, farms, and business. And actually, at one point early in my career, I was asked to testify in Congress that the Republicans were controlling, and they had a hearing on the death tax and its impact on family, farms, and businesses. And let's just say, I was there for the Democrats. And you were like, no impact. Yes. Pass. Exactly.

13:24Emily Peck: I do admire the cleverness of Frank Luntz, but he was pushing at an open door on some level. I feel like the Republicans wouldn't have just been like, oh, public opinion has completely changed now that everyone's calling it the death tax. We're just going to have to stop closing the loopholes. Like he gave them the rhetoric they needed to do what they wanted to do.

13:50Ray D. Madoff: But then they got their candidate of choice, which was George W. Bush. And George W. Bush ran on a campaign to repeal the death tax. That was a key platform. The Republicans then began to adopt as a key platform of their campaign, and they were very well financed for doing so, to kill the death tax because it's an immoral double tax that hurts family farms and businesses.

14:17Emily Peck: And Bush, of course, is the scion of an old money American family. So he's been a bit resentful about this estate tax for a while.

14:26Ray D. Madoff: Probably, no doubt. And so what's interesting is that the plan that George W. Bush put in place with the Republican Congress was to have a gradual increase of the exemption amount from a million to two million to 3.5 million and then have one glorious year when there was no estate tax. We have a number of billionaires died that year and lucky billionaires. We had a story at the journal that was like, all the rich people are racing to die this year.

14:56Felix Salmon: Exactly.

14:57Emily Peck: And crazily enough, like statistically speaking, they did. The rate of death in 2010 among the very rich was significantly higher than you would have expected from actual aerial tables alone.

15:08Felix Salmon: It makes no sense. If they stay alive, they don't have to pay that tax. Like, They'd rather die? Like, that's crazy.

15:16Emily Peck: Well, a lot of them just, you know, clung on for dear life. Someone came in and was just like, banking plugs? December 2009. And then the minute the clock ticks over to January 2010, they're like, okay, I can die now.

15:26Ray D. Madoff: And also there was, estate planners are not really known for their sense of humor, but they really rose to the occasion at the time. And they often refer to it as the throw mama from the train year. Nice. Or, you know, there were jokes like things to serve your parents in this year, warm chicken salad, get them flying lessons. Anyway, there was a lot of macabre humor about it. And as you point out, a lot of people did die. But then the tax came back, right? And at this point, Barack Obama was president. And the tax was supposed to come back at its maximum tax rate, which I think by then was something like 55%, and with a$1 million exemption.

16:06Ray D. Madoff: But Obama knew which way the wind was blowing and knew how effective this repeal effort was. And so what he decided to do was rather than letting it go back to a million, he raises it even further to$5 million, thinking, I've solved the family, farm, and business problem. It's done. Now, of course, it wasn't. And next, when Trump came into office, he doubled it to$10 million. Now he's increased it to$15 million. But the exemption, even though it's higher than it ever was, isn't really the crux of the story, because the tax is still there in place. We have this exemption, but honestly, a$15 million exemption is not going to do very much for somebody who has$100 billion.

16:51Ray D. Madoff: It's not going to make a difference. And we still have a flat 40 % rate. So that's still quite a significant tax. But the thing that happened is the thing that you can't see, which is that since 1990, 19th, Congress, whether it was controlled by Democrats or Republicans, engaged in quiet quitting on keeping up the estate tax. And the effect of it was that on its own, the estate tax crumbled as estate planners did their jobs, finding more and more loopholes, marketing them, developing them, right? So the estate planners are hard at work doing their thing, but Congress isn't doing its job, which is normally to come in and close loopholes so that we keep a system restored.

17:35Ray D. Madoff: So now we have a system that is just, you know, riddled with loopholes and raises nothing. It raised in 2024, it raised one half of 1 % of federal revenue.

17:47Emily Peck: So this is the thing which I'm struggling with here is, you know, when Barack Obama increases the exemption, when Congress is totally OTOs, I feel like it's giving Frank Luntz way too much credit to just blame him for this. That there's obviously some kind of, what's the word? The path of least resistance for Congress is to just be, eh, whatever. We'll let them find their loopholes. We're not going to bother closing it. And this is something you don't see the Democrats caring very much about either. There's a broad feeling in society, I think, that estates are just not things that should be taxed.

18:29Emily Peck: We shouldn't care about it that way.

18:31Felix Salmon: I was talking to a few people because I spoke to you a few months ago, I think, and I was going to write about estate tax changes in the bill, the reconciliation bill that just passed. And I was speaking to a few people, friends, co-workers who were like, I agree. There shouldn't be this death tax. I pay taxes on my money. And when I hand it to my kids, why should it be taxed again? I've already paid my tax. And I was like, well, that sounds like a reasonable argument. But then before you came here today to the office, Felix and I were talking about it. And it was like, if you actually, if that's your argument, then no one should ever pay taxes for anything.

19:06Felix Salmon: Like if I buy jeans at the store and I give my tax money to the jeans guy, then the jeans guy shouldn't pay any tax.

19:12Emily Peck: My employer has already paid tax on their profits. So my pay should not be taxed.

19:18Ray D. Madoff: Why should my pay be taxed? Absolutely. You're absolutely right. So first of all, there is no such concept of double tax, right? And particularly not double tax amongst different taxpayers. I think the reason this double tax argument was so effective was because in the estate tax realm, if you think about it, The tax is nominally imposed on the decedent. And for some decedents, like let's say somebody earned compensation. They only had compensation their whole life. And then they pay taxes on all that compensation. And then we think of, well, now that person's dead. Now we're going to impose an additional tax on that person.

19:58Ray D. Madoff: That feels unfair even to me in the structure of the tax, right? Because we no longer live in the world of the Gilded Age era. believing that rich people are bad. Back in that era, people understood that rich people were a problem for society. But we don't live in a world. We live in a world where some people think every billionaire is a failure. Other people think billionaires are saving the world. In 2010, there was this book written called How the Rich Can Save the World and Why We Should Let Them. There was a book called Philanthrocapitalism. There was a period -

20:34Emily Peck: Matthew Bishop, bless him.

20:35Ray D. Madoff: Yeah. There was a period where we really loved our rich people, and so we don't want to punish rich people. We're in a very different era, and we no longer have threats of communism or socialism, right? Because capitalism now reigns supreme, and so there is no alternate system that we're worrying like, oh, the people are going to rise up in pitchforks and abandon capitalism. So there's a lot of reasons why taxes that are seen as sort of punishing the rich are not as welcome in society as they were when the tax was enacted.

21:06Emily Peck: And it's basically impossible these days to find latter-day Andrew Carnegie's or Teddy Roosevelt's to come out and say, yeah, the rich have too much money and we should tax it. The closest thing that I can think of is Warren Buffett.

21:21Ray D. Madoff: Yes.

21:22Emily Peck: And he has decided that he's giving all of his money to his kids, which is something he said he would never do.

21:29Ray D. Madoff: Yes. Well, and of course, and also Bill Gates. Bill Gates, if you notice, he was on a tour lately with his book. And I was very interested to hear what he had to say about taxes. And he said the same thing in every single interview. And what he said was, if I had my way, I'd be paying a lot more in taxes. And I'm thinking, okay, well, what are you proposing? And of course, he's not proposing anything. He just wants to say that he wants to pay more in taxes. He knows how to fix the system. He's not dumb, but he doesn't actually want to put forth anything.

21:58Felix Salmon: And he's not structured his wealth or estate in such a way that when he dies, his estate will be subject to the wealth tax. I assume it's all going to be in his foundation, which is a non-profit.

22:08Emily Peck: Right.

22:09Ray D. Madoff: But the question is whether he should be able to. So, I mean, we have very differing treatment of people with respect to charitable giving, right? So if the two of you were to decide that you were going to give all of your salary, annual salary, to charity, you would not pay zero taxes. You would actually still pay significant taxes because our tax rules are set up that people are not allowed to eliminate their tax liability simply because they're giving to charity. Because we have this view that, well, society needs money too. Charity's good, but not the same. You still have to pay something in taxes.

22:45Nonetheless, our rule for the richest Americans, for people like Gates and Buffett, is they get to entirely direct their funds however they want in their charitable spending.

22:56Ray D. Madoff: Even if their charitable spending is simply a private foundation controlled by their kids with no obligation for the money to ever come out, that counts too and they don't have to pay any taxes. But that only comes about because we have unlimited tax benefits for capital gains and estate taxes, but we have limited benefits for income taxes. So we don't need that. We could have limited benefits for estate taxes and capital gains taxes, the same we do for income taxes.

23:24Emily Peck: We have a quick ad break coming up. But after this, Ray will tell us what the solution to this problem might be.

23:43Emily Peck: I do want to ask you because the one billionaire, we just had David Gallis on this show talking about Yvonne Chouinard, who is this billionaire who would drive around with a car that had a bumper sticker saying every billionaire is a policy failure. And I asked David when he came on this show in this very studio, I said, so Schoenard became a billionaire by owning a privately held company, Patagonia, which got bigger and bigger over the years and was eventually worth billions of dollars. And he owned it. And that was how he was so rich. What policy would have stopped him from becoming a billionaire that like should be adopted because there was a policy failure that this happened?

24:27Emily Peck: And David said, well, he doesn't really think that way. He's not a policy person. But you're a policy person, so I'm asking you, is there a policy that could be enacted, that Congress could pass, that would prevent someone like Yvon Schoenard from ever becoming a billionaire?

24:43Ray D. Madoff: I don't think that is the right question. I'm also going to defer on that. I think that now, with respect to Schoenard, I have another view about, which is, was that his ability to not pay any taxes when he gave that money to a 501c4, which is an organization that can engage in politics and political spending, right? Now, people on the left think that, well, he's doing good political spending, so it's okay with us, but they feel a little bit differently with the person who gave all of his money to Leonard Leo setting up the Marble Trust, and that too was tax-free. But why should we be allowing these tax-free transfers of power when, if any of us here around the table want to give our money, we're limited in our tax benefits.

25:30Ray D. Madoff: Why do we give unlimited tax benefits? That's not even for charitable giving. And Barack Obama, I hate to say it, was actually partially responsible for that change in rule because it would have been subject to gift taxes, but for a rule change that he put in place.

25:45Emily Peck: And we don't need to go into Paul Newman, but like, yeah, there's been a lot of various changes in the law which have made it easy or easier for people like Yvonne Chouinard or my own employer, Mike Bloomberg, to basically ensure that their empires remain intact after death so long as they sort of encant the right incantations about, well, the family members aren't on the board and there's a dual class voting stuff and stuff like that.

26:15Felix Salmon: I don't really understand, actually. So if I donate all my salary to charity, I have already paid on my salary taxes.

26:23Ray D. Madoff: The question is, what are your charitable tax benefits, right? So let's say one year you earn, for sake of easy numbers,$100 ,000, okay? And you say, you know what, I'm giving my$100 ,000 to my favorite charity, okay? You will still pay significant taxes on that$100 ,000 that you earned. Because I pay income tax. Because there's a limit on your charitable deduction. You can't take a$100 ,000 charitable deduction because they only let you offset it by, it varies, but let's say 50%.

26:57Emily Peck: And you still have to make payroll taxes.

26:59Ray D. Madoff: And you have to pay payroll taxes, and payroll taxes has nothing to, you can't offset for charitable.

27:04Felix Salmon: Right, I've already paid. But so if I'm a rich person and I donate.

27:08Ray D. Madoff: So the thing is we have to start with is that our rich people are not paying taxes along the way. And that's because they are not taking taxable income. So start with salaries, right? Salaries are the most heavily taxed of all income. Right. That made me mad just reading the book.

27:25Felix Salmon: Right. And it doesn't have to be the case. So the FICO tax, right, that you think is just...

27:29Ray D. Madoff: Oh, well, there's two separate aspects of it, right? So one aspect of it is the income tax, which we tax at a maximum rate currently of 37%. Right. But capital gains are taxed at a maximum rate of 20%. What's interesting is Andrew Mellon, who was no particular fan of The Working Man, thought that it should be the other way around. People should pay higher taxes on investments than on their salary income.

27:52Emily Peck: Because it's unearned income.

27:54Ray D. Madoff: Because it's unearned income, right? Their salary income, somebody who depends on salary income, it's so much more precarious. It depends on constantly. So he thought we should flip the rate. So this question about which rate should be higher has been something that people have had different views on. But I leave the issue aside of capital gains rates because there is a more pernicious problem that comes about when we're talking about the very rich. And that is the fact that what I call the tax avoidance playbook. So there's three steps of the tax avoidance playbook, right? How is it that the rich are not paying taxes?

28:27Ray D. Madoff: And the first thing that they do is not take any salary. So Warren Buffett is like what takes one of the biggest salaries of rich people, a full$100 ,000 in salary and bonus. But that is mighty modest for the greatest stock picker of all time, right? Jeff Bezos, he's for the past decades, he's taken$80 ,000, enough to make him eligible for the child tax credit, which he has taken. And Mark Zuckerberg and a host of others all take a dollar a year. And they're not doing this because they're just great guys that want to like really help out their companies. They're doing it because that way they avoid the heavy taxes that would be imposed on salary income.

29:07Ray D. Madoff: And instead, what they count on is the growing value of their stock. So they all have no taxable income.

29:14Emily Peck: They also have the ability to start paying themselves salary anytime that their stock stops rising.

29:21Felix Salmon: So if you're a super rich guy, you don't take a salary. Take a nominal salary. You make all your money in stocks. The next step, let's see if I can get this right, is that you don't sell the stock. That's the key. You borrow against the stock.

29:35Ray D. Madoff: Yes.

29:35Felix Salmon: And you don't, this is what really took me too long to understand. It feels like so obvious. You hold the stock. You borrow against the stock. You spend the money you borrowed. You don't pay back the money you borrowed. You just keep borrowing. You just keep rolling over. They just keep giving you the money.

29:53Ray D. Madoff: Because if you had$100 billion, they'd keep giving you money too. They just give you money. You literally don't pay it ever.

30:00Felix Salmon: I have to pay my mortgage. But you just can just keep rolling over these loans.

30:04Emily Peck: Imagine you had like an interest-only mortgage. It's like that. You capitalize the interest. Like the bank is getting an asset which is getting bigger and bigger. And it's sitting on the bank's balance sheet. Okay. And they are like, we have ballooning assets because their asset is their loan to you. And you do owe them the money.

30:20Felix Salmon: So do I make interest payments? Yeah.

30:21Emily Peck: You either make the interest payments or you capitalize the interest payments. But either way, the bank can show that interest as income.

30:29Felix Salmon: Okay. So that's the value to the bank is that it's charging you interest that it is getting.

30:34Emily Peck: Yeah.

30:34Ray D. Madoff: It will eventually get it at some point. How? Well, because you might borrow more.

30:39Emily Peck: No, eventually you die. And then when you die, everything resets to zero. Your heirs get everything. Yeah, so well. Step up in basis and all of that kind of stuff.

30:46Felix Salmon: But when I die, then the bank gets the money at that point.

30:49Ray D. Madoff: No, it all depends. Well, these are two separate things. And so, and I want to talk about the step up in basis issue. But the point is, is that actually nobody has to ever pay. It doesn't have to be paid back. Any of these people can pass the property on to their. kids. And yes, like maybe the bank is going to collect, but chances are the bank is going to be just as happy to continue to give loans to the kids who have now inherited hundreds of billions of dollars of stock. So nobody has to ever pay tax as long as you have enough wealth to borrow money against it. And that's why our wealthiest Americans don't pay taxes.

31:26Ray D. Madoff: There is this issue of step up in basis of death. That is a, I will agree, it is a real frosting on the cake, which is that some property that passes through your estate at death, we give an added bonus to the heirs, which is all the gains get washed away and we never pay tax on them.

31:47Felix Salmon: I can't believe that. So like if I buy a stock for$10 a share, whatever, it goes up to$100, I die. I've gained$90 per share on all those stocks. I give them to my kids. They can sell them and pay no tax. That's right.

32:02Emily Peck: No income tax, no capital gains tax, nothing.

32:04Felix Salmon: We call that the angel of death loophole. That is some wild stuff right there. And so you live your whole life. You're living your life. The bank is just giving you money. This is what I'm understanding. It was confusing how you both explained it to me. I'm not going to lie. But you borrow money against your stock.

32:22Ray D. Madoff: You're not giving me an A?

32:23Felix Salmon: No. No, you don't make payments on the borrowing. You're just given money literally by the bank and you just sit on the stock and then when you die and the stock, you move it on to the next generation, they pay nothing for it. No one ever gets taxed. There is no double tax, even though we established not even a thing. It's not even a thing.

32:44Emily Peck: But let's say that over the years, since your stock went up from$10 to$100, you borrowed$20 for income for you to spend on paintings and private yachts and all of that kind of stuff, right? Then if you wanted to repay that loan while you were alive, then you would need to sell $30 of stock because that stock would be subject to capital gains tax in order to have that$20 of post-tax money that you could use to repay the bank. Once you're dead, your heirs only need to sell$20 of stock to repay the bank because they are not subject to those capital gains. So that's the trick in terms of not paying taxes.

33:22Emily Peck: You do still need to repay the loan. You just don't need to repay the loan with like post-tax money, you know, which has already paid a bunch of capital gains.

33:30Ray D. Madoff: You can repay the loan with more borrowed money. There's nothing that prevents you. Or you can roll over the loan. Your ARs can borrow money. They can keep that going. So they have two choices.

33:37Emily Peck: They can either just sell the appreciated stock and not pay capital gains and pay off the loan, or they can roll over the loan. It's up to them. But there's no real tax benefit to them to rolling over the loan because—

33:48Ray D. Madoff: The tax benefit, right, for the shares that they receive. Yes. And how about they're like paying ATM fees?

33:54Felix Salmon: Do you know what I mean?

33:54Ray D. Madoff: Like what? I can't believe it. It's really wild. I do want to note one thing about this step up in basis of death. Step up in basis of death is completely egregious and there is no justification for it at all. But I don't want anybody to be fooled into thinking that if we get rid of step up in basis of death, then we have a fair system. because that's just the ultimate sprinkles on the frosting on the cake. It's the tiniest portion. It gets a lot of attention because it's so egregious. So then you'll sometimes hear people say, well, to fix the system, we should just have everybody take carryover basis.

34:34Ray D. Madoff: And I just want to make clear that carryover basis, meaning the heirs would take the same low basis, so they would pay tax if they sold. Carryover basis does not solve the problem because the heirs can also continue to borrow. In order to solve the problem, we should adopt a rule that was proposed by this unlikely pair of Richard Nixon and Barack Obama, who both proposed the same thing to address this problem.

34:58Emily Peck: I think they were both in the Senate, but not at the same time.

35:02Ray D. Madoff: And that proposal is that you tax gains not just when you sell property, but whenever you transfer the property. So if you transfer it by gift or into a trust or you transfer it at death, then you should tally the gains and tax them to the person who owned the property when it went up in value. But if you haven't sold it, how do you do that?

35:24Emily Peck: So you don't need to sell it. So, for instance, I am on my co-op board in New York City for my sins and we have this rule. People in the building, for whatever reason, sometimes decide that they want to transfer their shares into a trust. You know, they're doing estate planning, something, something. And that, for our purposes, is considered to be a sale. And if it's a sale, then there's like a flip tax that is payable. And they have to pay that flip tax even if there's no buyer who is paying lots of money for the apartment.

35:57Ray D. Madoff: Absolutely. And they can borrow to do so.

35:59Emily Peck: Yeah.

35:59Ray D. Madoff: You have an asset that's worth it. Or you could allow payment over time.

36:03Felix Salmon: I don't like that because now I'm thinking personally if I had some stock and I wanted to put it away for my kids one day, I don't want to pay taxes on it because I don't have the money for it.

36:11Ray D. Madoff: Well, you know, people don't want to pay taxes on a lot of things. Somebody who earns$60 ,000 driving an Uber doesn't want to have to pay$14 ,000 of it in taxes, but they do. So the question is, how do we allocate?

36:22Felix Salmon: It's not like when I get my salary, it's liquid and they take the money out. I've never touched the money. But like if it's stuck, it's not like I can take some out.

36:31Emily Peck: I think you have really put your finger on something important here, which is the sheer power of possession.

36:38Felix Salmon: Once you have it, you don't want to give it back.

36:40Emily Peck: Because almost everyone who's a W-2 employee in this country has taxes withheld before they get their paycheck.

36:48Felix Salmon: Right.

36:48Emily Peck: They don't feel it nearly as much as if you have a bunch of untaxed wealth. Yeah. And at some point in the future, a bunch of that is going to have to go in tax. people just are much less happy about the prospect of paying tax on money that they have rather than having paid tax on money that they have. Yeah, of course. Even though the tax that they have paid on their income is much larger, an irrational person would prefer to pay a lower tax rate in the future than a higher tax rate in the past.

37:20Felix Salmon: It's just also a lot of work. I remember I had a job. I always was a, you know, W-2 paycheck person. And then I was laid off in journalism and then I got a job and it was freelance, but it felt like full-time. It was full-time freelance. So they paid me the whole thing every week. And I was like, thank you. And I spent the money. It never occurred to me that I was going to have to pay taxes. And then at that, you know, it's in April and the account's like, oh, you owe whatever it was, like$8 ,000. Well, I don't have$8 ,000, you know, like what am I supposed to do?

37:51Ray D. Madoff: And you even owed more than you would have expected.

37:53Felix Salmon: Yeah, double taxes because the Social Security, because the employer doesn't pay the Social Security tax. You have to pay both halves of it. It was pretty devastating. It's way better if the government just gets in there and you never have to do it yourself and do that.

38:06Ray D. Madoff: If we take the two versions of you, Emily, the version of you that made the money and then had to pay the taxes, right? Or the version of you have stock that's gone way up in value and now you want to give it away to your kids, but you don't want to pay tax on the gain. Which, Emily, do you feel more sympathy for?

38:24Felix Salmon: But I haven't gotten the gain. Like, I would have to sell it to pay the tax. You know what I mean? That's what I'm saying. I wouldn't be able to just pass the stock along. I'm not that rich. Right. That's the thing I was, like, having trouble with.

38:35Ray D. Madoff: And so one could have an exemption for people who are not that rich, right? Yes. We could easily say— I would advocate for that. Yes. And we have that for things like houses, right? People don't have to because we want to try to encourage people to sell houses. but we could have rules that address that situation. The problem is, and I think you're illustrating the problem really well, we look at our situation, right? Like maybe we have a house that's gone up in value or stock that's gone up in value. And we think, wow, this would be really burdensome for me to have to pay taxes. Therefore, we should have a rule.

39:06Ray D. Madoff: I'm happy with the rule that we don't have to pay taxes. Now move over to Mark Zuckerberg, right? He's got, I don't know, $200 billion, something like that, do we want to say now he never has to pay taxes on it?

39:21Felix Salmon: He doesn't have the same constraints as I do. Like if someone asks him to pay the capital gains tax when he's trying to pass the stock on, he can afford to do that. He's not cash poor.

39:31Ray D. Madoff: He can get the cash. Or his kids can borrow money.

39:34Felix Salmon: There's ways to address it.

39:36Ray D. Madoff: So I think that's why we have to be careful when we think about problems with the tax system. Some things can be addressed by addressing and making exceptions for certain people. And some things need to be addressed because they're fundamentally unfair. But to say that somebody like Mark Zuckerberg should be able to acquire so much wealth tax-free, never pay taxes on it in his life, his kids might never pay taxes on it on their lives, and forever and ever, no one ever pays taxes on it. They just borrow money and live off the borrowings. That feels deeply inappropriate to me in a country that has such a large debt that we are paying more in interest than we are for our national defense.

40:16Emily Peck: So, Ray, the big picture that I want to ask you about is, so long as R is greater than G, and so long as Congress has zero appetite for redistributing wealth, that just means that the rich are going to get richer. And the main store of that wealth is the stock market. And therefore, the stock market is likely to continue to rise?

40:41Ray D. Madoff: I think one problem with this is that the main store is no longer the stock market. And this is why wealth taxes, I think, would be a dangerous thing. A significant amount of money is held not in publicly traded stocks, but in privately held interests. That's why we have this sort of all of the unicorns that never go public. It's why we have these partnerships that are worth many, many billions of dollars, highly complex private ownership interests of businesses that is not on the publicly traded market. And there's a big outflow of money to those things. And if we were to adopt a wealth tax, there would be an even greater outflow from the stock market to these privately held interests that are quite difficult to value, which is one of the reasons why I think that a wealth tax would be a very troubling way for us to go in terms of taxes.

41:31Emily Peck: Like an annual wealth tax as opposed to an estate tax.

41:33Ray D. Madoff: An annual wealth tax, yes.

41:34Felix Salmon: Just go back to the estate tax. Seems like it was fine.

41:37Ray D. Madoff: The estate tax had that Achilles heel. We should not have the estate tax. We have an estate tax. But just fix it.

41:43Felix Salmon: Close up all the grats and the grats and the whatever. But why hasn't it been fixed? It hasn't been fixed because... Because rich people run the government.

41:50Ray D. Madoff: No, it hasn't been fixed because even Democrats don't like the estate tax. The estate tax feels unfair because it's imposed on the donor's estate. For some people, it feels like a double tax problem. What I think the problem is, and again, when you use the word redistribution of wealth, right, this is all about redistribution of wealth, I don't describe the problem that way. I see the problem as one that we have given a glide path to the rich of non-taxation. And what we need to do is to pull them into the system. So we don't need special added taxes for them. What we need is for them to actually be taxed on their investment and inheritances.

42:30Ray D. Madoff: And I think the best way to do it is to get rid of the estate tax.

42:33Emily Peck: Oh my God.

42:34Ray D. Madoff: And to have people pay taxes on the gains of their property at death with subject to a limit that keeps Emily out. And then after that, when people inherit money, that should be subject to income taxes. Now we could say everybody can inherit even$2 million tax free, right? And then after that, pay income taxes the same as they would on lottery winnings or money found on the street or any of the other broad groups that is taxed to income. We should bring it all into the income tax system because this division of taxes over these multiple systems, it makes people confused. A lot of people think the estate tax is a double tax because they don't know that inherited wealth is not subject to tax.

43:17Emily Peck: Ray Madoff, thank you so much for coming on this show. It's been illuminating.

43:22Ray D. Madoff: Thank you so much for having me. It's so fun to be here in the room with you guys.

43:26Emily Peck: We're in the room. And one last time, what is the title of your book?

43:29Ray D. Madoff: The Second Estate, How the Tax Code Made an American Aristocracy.

43:34Emily Peck: Ray, thank you. Thanks also to Ben Reggmund and Jessamyn Molly for producing, and Shayna Roth, the whole crew. And we'll be back on Saturday with normal sleep money.