Presidential candidate Senator Cory Booker (D-NJ) has put forward a proposal to establish savings accounts for every child born in America funded annually by contributions from the federal government – a concept commonly referred to as “Baby Bonds.” In October 2018, he introduced legislation based on this concept, the American Opportunity Accounts Act.

Senator Booker estimates his plan would cost approximately $60 billion per year. By our estimates, it would cost roughly $650 billion over a decade. To offset this cost, the legislation would increase the top tax rate on capital gains and dividends to 28 percent (including the 3.8 percent Net Investment Income Tax, or NIIT), eliminate step-up basis of capital gains at death, and increase the estate tax in a number of ways.

We estimate these revenue increases would more than offset the cost of the legislation, raising about $700 billion over a decade.

This policy explainer is part of US Budget Watch 2020, a project covering the 2020 presidential election. In the coming weeks and months, we will continue to publish analyses of candidate proposals that are having the greatest impact on the debate over our nation’s future. You can read more of our policy explainers and factchecks here. US Budget Watch 2020 is designed to inform the public and is not intended to express a view for or against any candidate or any specific policy proposal. Candidates’ proposals should be evaluated on a broad array of policy perspectives, including but certainly not limited to their approaches on deficits and debt.

What’s In the Baby Bonds Plan?

Under Senator Booker’s Baby Bonds proposal, the federal government would create an “opportunity account” for every child born in the United States, funded with an initial contribution of $1,000 as well as ongoing contributions.

Specifically, the government would make annual contributions until a child reaches 18 years of age. The size of these contributions would be based on family income, ranging from $2,000 per year for children in families with income below the federal poverty line to $0 for children in families with income above 500 percent of the federal poverty line. Contributions would be indexed to inflation. We estimate average annual payments would total approximately $850 per child in today's dollars.

Income Income for Family of Four Supplemental Payment Amount Est. Account Balance for 18-Year-Old <100% of FPL <$25,100 $2,000 $46,215 125% of FPL $31,375 $1,500 $35,081 175% of FPL $43,925 $1,000 $23,948 225% of FPL $56,475 $500 $12,815 325% of FPL $81,575 $250 $7,248 500% of FPL $125,751 $0 $1,681 Average (estimated) N/A $850 $20,700

Note: Amounts in 2019 dollars. Source: Booker Senate Office, CRFB estimates for average.

The funds in these accounts would be invested in 30-year Treasury bonds and would be expected to grow at an average rate of 3 percent per year, roughly 1 percentage point above inflation. By the time a child turns 18, these accounts could hold as much as $46,000 or as little as $1,700 (in 2019 dollars), depending on the size of annual contributions from the federal government.

Funds in these tax-free accounts would be off-limits until after a child reaches 18 years of age, except for higher education expenses. Even then, the funds could only be used for specific “asset-building” purposes, such as paying college tuition or making a down payment on a house.

In addition to creating accounts for children born after the date of enactment, the plan would allow children under the age of 15 to establish accounts and receive annual contributions from the government as well. These accounts would only be created upon request, as opposed to automatically, and would not receive the initial $1,000 contribution.

How Would the Baby Bonds Plan be Paid For?

To offset the cost of his Baby Bonds plan, Senator Booker would increase tax rates on investment income and inherited assets and estates.

Specifically, the plan would increase the top rate on long-term capital gains and dividends (inclusive of the NIIT) from 23.8 percent to 28 percent. It would also eliminate step-up basis of capital gains at death. Under current law, gains from assets passed on through inheritance are essentially exempt from taxation, even upon realization. Under Senator Booker’s proposal, those gains would generally be taxed at the time of death (with some exceptions).

Senator Booker would also increase the estate tax, which taxes very large inheritances, in a number of ways. A decade ago, the estate tax applied a 45 percent tax to inherences above $3.5 million. As a result of the American Taxpayer Relief Act in 2013 and the Tax Cuts and Jobs Act (TCJA) in 2017, the rate was reduced to 40 percent and the exemption increased to over $11 million per individual and $22 million for couples (that exemption falls by roughly half after 2025).

The Baby Bonds plan would restore the 2009 estate tax parameters and further increase rates in a manner similar to Senator Bernie Sanders’s (I-VT) Responsible Estate Tax Act. Specifically, it would set the estate tax rate to 45 percent above $3.5 million of assets for a deceased individual, 55 percent above $10 million, and 65 percent above $50 million. It would also close or restrict various estate and gift tax loopholes.

It is worth noting that taxing capital gains at death, in combination with a higher estate tax, could potentially result in a very high effective top tax rate on capital gains held until death. Assuming capital gains payments are deductible from estate taxes, the top effective federal rate on capital gains at death – for those with over $50 million in taxable assets – would rise from 40 percent under current law to about 75 percent under the proposal (excluding state and local taxes). Assuming half of assets represent gains, the top effective tax on estates as a whole would rise from 40 percent to 70 percent.

On one hand, these high rates may encourage more pre-tax redistribution and charitable giving. On the other hand, they may also discourage saving and investment among the wealthy in a way that would shrink the economy.

How Much Would the Baby Bonds Plan Cost and How Would It Affect the Deficit?

The Booker campaign estimates its Baby Bonds proposal would cost about $60 billion per year. This is consistent with our estimate of $650 billion over a decade.

Based on the Census Bureau’s projections for births over the next decade, we estimate that issuing Baby Bonds to newborn children would cost about $250 billion. We estimate another $400 billion of new spending in the first decade from making annual contributions to accounts created for children who have already been born. While parents of already-born children would have to opt-in to the program, we assume the participation rate would be high – 90 percent of eligible children – since the program effectively represents free money for beneficiaries.

Importantly, our estimates score the cost as being imposed on the federal government at the time funds are contributed into accounts. Since federal money would be used directly to purchase federal bonds, an argument could be made that costs should instead be estimated at the time funds are withdrawn from accounts by beneficiaries. Scoring the proposal this way would result in dramatically reduced costs over the first decade but increased costs in subsequent decades.

First Decade New Spending Contributions for Those Born After Enactment $250 billion Contributions for Those Born Prior to Enactment $400 billion Subtotal, New Spending $650 billion Offsetting Revenue Increase Estate Tax, Including by Lowering Exemption to $3.5M and Setting Rates of 45%, 55%, and 65% -$400 billion Tax Capital Gains at Death and Increase Top Rate to 28% -$300 billion Subtotal, Offsetting Revenue -$700 billion Net Deficit Effect -$50 billion

Source: American Opportunity Accounts Act, Census Bureau, ITEP, CBO, CRFB calculations.

We estimate increases in capital gains and estate taxes would more than offset the $650 billion cost of the plan. The estate tax increases would raise about $400 billion over a decade and the capital gains increases about $300 billion for $700 billion in total. While these estimates are rough, they demonstrate that the plan is essentially paid for and may in fact reduce deficits by roughly $50 billion over the next ten years.

Revenue will drop off somewhat in 2026, after temporary changes to the estate tax included in the TCJA expire. However, the cost of the Baby Bonds proposal would grow more slowly than other revenue increases over time. As a result, we expect the plan would reduce deficits even more over the long term. In the second decade, we expect net deficit reduction in the neighborhood of $200 billion to $500 billion.

Where Can I Read More?

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With the 2020 campaign now in full gear, the presidential candidates are putting forward many ambitious proposals aimed at solving very real problems and concerns. The voting public deserves to know how much these proposals will cost and what it means for the debt we will be leaving to our children and grandchildren.

This policy explainer is part of our US Budget Watch series covering 2020 presidential election. In the coming weeks and months, we will continue to publish analyses of candidate proposals that are having the greatest impact on the debate over our nation’s future. You can read more of our policy explainers and factchecks here.