[Budget of the U.S. Government]
[V. Creating Opportunity, Demanding Responsibility, and Strengthening Community]
[8. Promoting Tax Fairness]
[From the U.S. Government Publishing Office, www.gpo.gov]


 
                       8.  PROMOTING TAX FAIRNESS

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  We should cut taxes for the family sending a child to college, for the worker returning to college, for the   
family saving to buy a home or for long-term health care, and [provide] a $500 per-child credit for middle-     
income families raising their children . . . . That is the right way to cut taxes--pro-family, pro-education,   
pro-economic growth.                                                                                            
                                                                                                                
                                      President Clinton                                                         
                                      August 29, 1996                                                           
                                                                                                                

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  The President proposes a tax plan that would promote a fairer tax 
system and encourage activities that contribute to economic growth--in 
short, a plan focused on fairness and America's future.
  The plan calls for tax cuts that would benefit middle-class families 
with children, encourage investment in higher education, and promote 
long-term saving. It would benefit millions of homeowners by ensuring 
that over 99 percent of home sales are exempt from capital gains taxes. 
It would provide incentives for employers to hire economically 
disadvantaged Americans, so they would benefit from wages rather than 
welfare. It would provide targeted relief to promote economic 
development and environmental cleanup in distressed areas. It would give 
estate tax relief to small businesses and farmers. And it would make the 
tax system more equitable for people with disabilities who are seeking 
refunds.
  The proposal is also fiscally responsible. The budget fully offsets 
the costs of these tax cuts by making cuts in spending and in 
unnecessary corporate subsidies and other unwarranted tax breaks.
  This chapter provides an overview of the President's tax plan. (See 
Table 8-1 for a summary of the plan.) Chapter 3 of Analytical 
Perspectives provides further details.
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                                      Table 8-1.  THE PRESIDENT'S TAX PLAN                                      
                                            (In billions of dollars)                                            
----------------------------------------------------------------------------------------------------------------
                                                                            Estimate                      Total,
                                                        ------------------------------------------------  1998- 
                                                          1997    1998    1999    2000    2001    2002     2002 
----------------------------------------------------------------------------------------------------------------
Provide tax relief:                                                                                             
  Middle Class Bill of Rights:                                                                                  
    Tax credit for dependent children..................    -0.7    -9.9    -6.8    -8.6   -10.4   -10.4    -46.0
     Expand individual retirement accounts.............  ......    -1.5    -0.5    -0.8    -1.2    -1.7     -5.5
    Incentives for education and training..............    -0.1    -4.0    -6.2    -7.8    -8.6    -9.4    -36.1
                                                        --------------------------------------------------------
      Subtotal, Middle Class Bill of Rights............    -0.8   -15.4   -13.5   -17.2   -20.2   -21.4    -87.6
                                                                                                                
Additional targeted tax relief:                                                                                 
  Capital gains exclusion on sale of principal                                                                  
   residence...........................................    -0.1    -0.3    -0.3    -0.3    -0.3    -0.2     -1.4
  Extend the work opportunity tax credit for one year..  ......    -0.1    -0.2    -0.1      -*      -*     -0.4
  Targeted welfare-to-work tax credit..................  ......    -0.1    -0.1    -0.2    -0.1    -0.1     -0.6
  Tax incentives for distressed areas..................      -*    -0.4    -0.5    -0.5    -0.5    -0.4     -2.3
  Tax credit for investment in community development                                                            
   institutions and venture capital funds..............  ......      -*      -*      -*      -*      -*       -*
  Extend the R&E tax credit for one year...............    -0.4    -0.8    -0.5    -0.2    -0.1      -*     -1.7
  Extend the orphan drug credit for one year...........      -*      -*      -*      -*      -*      -*       -*
  Extend the income exclusion for employer-provided                                                             
   educational assistance through 2000.................    -0.1    -0.6    -0.7    -0.8    -0.2  ......     -2.3
  Extend and modify credit for corporations in U.S.                                                             
   possessions.........................................  ......      -*    -0.1    -0.1    -0.1    -0.1     -0.4
  District of Columbia tax incentive...................  ......      -*      -*    -0.1    -0.1    -0.1     -0.3
  Estate tax relief for small business.................  ......      -*    -0.2    -0.2    -0.2    -0.2     -0.7
  Equitable tolling....................................  ......  ......  ......  ......      -*      -*     -0.1
  Tax benefits to Foreign Sales Corporations for                                                                
   software licenses...................................      -*    -0.1    -0.1    -0.1    -0.1    -0.1     -0.6
  Extend the deduction for contributions of appreciated                                                         
   stock to private foundations for one year...........  ......      -*      -*  ......  ......  ......     -0.1
                                                        --------------------------------------------------------
    Total, Provide tax relief..........................    -1.4   -17.9   -16.2   -19.6   -21.9   -22.8    -98.4
                                                                                                                
Eliminate unwarranted benefits.........................     0.6     4.1     6.3     7.3     7.6     8.9     34.3
                                                                                                                
Other changes affecting receipts.......................  ......     1.0     1.1     1.1     1.2     1.1      5.5
                                                                                                                
Extension of expired excise tax provisions.............     2.4     5.8     7.5     7.5     7.7     7.8     36.2
                                                                                                                
Total proposals........................................     1.6    -7.0    -1.4    -3.7    -5.5    -4.9    -22.4
                                                                                                                
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* Less than $50 million.                                                                                        

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The Middle-Class Tax Cut

  The President has long considered tax cuts for middle-income Americans 
and small businesses a top priority. In 1993, he worked with Congress to 
cut taxes for 15 million working families by expanding the Earned Income 
Tax Credit (EITC), and to help small business by increasing 
``expensing'' \1\ of investment and capital gains incentives. A year 
later, he proposed his Middle Class Bill of Rights, including child tax 
credits, deductions for higher education, and expanded Individual 
Retirement Accounts. Then in 1996, he signed into law a number of other 
tax benefits for small businesses and their employees--including even 
more expensing for small-business investments, greater deductibility of 
health insurance premiums for the self-employed, and expanded and 
simplified opportunities for retirement savings. Also in 1996, the 
President signed into law a $5,000 tax credit for adoption expenses 
($6,000 for adopting children with special needs) and higher limits for 
tax-deductible contributions by spouses to Individual Retirement 
Accounts.
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  \1\ That is, up-front deductions.
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  This year, the budget again proposes the President's Middle Class Bill 
of Rights. It would immediately and significantly benefit families with 
young children, encourage investment in post-secondary education and 
training, and promote long-term saving. This year's tax plan also goes 
further--it includes more tax incentives and relief with regard to 
education and training, work opportunities, capital gains on home sales, 
and the legal limits faced by people with disabilities who seek tax 
refunds.

  Tax Credit for Dependent Children: The budget proposes an income tax 
credit for each dependent child under age 13, as the President first 
proposed in 1994. The credit would bene-

[[Page 112]]

fit about 18 million families with 34 million dependent children. It would be phased in, starting at $300 per child in tax years 1997 through 1999, and rising to $500 in 2000 and beyond. It would be phased out for taxpayers with adjusted gross incomes between $60,000 and $75,000. Starting in the year 2001, 
the credit and the phase-out range would be indexed for inflation. The 
credit would be non-refundable, but working families would first deduct 
the child credit from their income taxes before deducting the refundable 
EITC--making it easier for them to get the benefit of both credits.
  This tax cut would benefit middle-income families; they have not 
enjoyed large gains in their incomes over the past 25 years. For a two-
parent, two-child family with $50,000 of income and $12,500 of itemized 
deductions, the credit would cut taxes by 25 percent when fully in place 
in 2000. In total, the credit would lower families' taxes by $46 billion 
from 1998 to 2002.

  HOPE Scholarships and the Education and Job Training Tax Deduction: 
The President believes that the tax system should better encourage 
investment in college edu-

[[Page 113]]

cation and job training. Therefore, the budget proposes:
  HOPE scholarships, which are tuition tax credits of up to 
          $1,500 per year, available for the first two years of post-
          secondary education. To receive the credit in the second year, 
          the student must maintain at least a B average. The $1,500 
          amount (for each of two years) is a per student cap.\2\ HOPE 
          scholarships are modeled after a successful program in 
          Georgia.
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  \2\ The budget also would increase Pell Grant college scholarships for 
low-income families who lack the tax liability to benefit from the tax 
cuts.
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  The education and job training deduction, which would be 
          available to families for tuition and fees for any college, 
          graduate school, or qualified lifelong learning program. The 
          deduction, which the President first proposed in 1994, would 
          phase up from an annual cap of $5,000 per family in 1997 and 
          1998 to $10,000 in 1999 and beyond. It would cover tuition at 
          any education or training program that is at least half-time 
          or related to a worker's career. Students who use the HOPE 
          scholarships in their first two years of schooling could claim 
          the tax deduction in their remaining years of qualified 
          education or training (although families could not claim both 
          the credit and the deduction for the same student at the same 
          time).
  Both the credit and the deduction would be phased out for joint filers 
with incomes between $80,000 and $100,000. For single filers, the 
benefits would phase out between $50,000 and $70,000. From 1998 through 
2002, these two provisions would save taxpayers $36.1 billion.

  Expanded Individual Retirement Accounts (IRAs): The budget also 
repeats another proposal from 1994--to expand IRAs to provide greater 
incentives for long-term savings for retirement and other important 
purposes. Currently, for taxpayers who participate in employer-sponsored 
retirement plans and file joint returns, the tax code phases out the 
availability of deductible IRAs between $40,000 and $50,000 of adjusted 
gross income. The President's plan would double this range over time, to 
$80,000 and $100,000, and double the range for single taxpayers to 
between $50,000 and $70,000. The plan also would index for inflation 
both of these limits and the current maximum contribution of $2,000.
  In addition, the budget proposes that eligible taxpayers be able to 
contribute to a ``Special IRA'' as an alternative to a deductible IRA. 
Contributions to Special IRAs would not be tax deductible, but 
distributions of the contributions would be tax-free. If contributors 
kept their funds in the account for at least five years, earnings on the 
contributions would be available tax-free, too. Many taxpayers would be 
eligible to convert deductible IRAs to Special IRAs. Also, contributors 
to both types of IRAs could, under this proposal, withdraw funds without 
penalty at any time to pay for higher education, first-time home 
purchases, or expenses during a long period of unemployment.
  The greater availability of IRAs would enable many two-earner families 
to cut their taxes by up to $1,120 a year, if they make the maximum 
allowable IRA contributions. From 1998 to 2002, it would cut taxes by an 
estimated $5.5 billion.

Additional Targeted Tax Incentives and Relief

  Targeted Homeownership Tax Cut: The budget proposes to allow married 
taxpayers to exclude from capital gains taxes up to $500,000 in gains 
from selling a home; single taxpayers could exclude up to $250,000. The 
exclusion would replace both the one-time exclusion of $125,000, now 
available for taxpayers over age 55, and the deferral of capital gains, 
now available when purchasing a more expensive home.
  This change would exempt over 99 percent of home sales from capital 
gains taxes, and dramatically simplify taxes and record-keeping for over 
60 million homeowners. It would benefit, in particular, older Americans 
moving to smaller homes and families moving to lower-cost areas. 
Taxpayers could use the exclusion every two years.

  Work Opportunity Tax Credit: The President wants to replace welfare 
with work, and to promote the hiring of the economically disadvantaged. 
The President and Congress last year enacted the Work Opportunity Tax 
Credit 

[[Page 114]]

(WOTC) to replace the Targeted Jobs Tax Credit. Employers can 
claim a tax credit of 35 percent of the first $6,000 that they pay to 
members of target groups during their first year of employment.
  In August, the President also unveiled a Welfare-to-Work initiative, 
with two proposals that would build on the WOTC:
  A new Welfare-to-Work Credit, targeted to long-term welfare 
          recipients. It would let employers claim a 50-percent credit 
          on the first $10,000 of annual wages that they pay to long-
          term welfare recipients for up to two years. It would treat 
          education and training, health care, and dependent care 
          benefits as wages eligible for the credit.
  An expansion of the WOTC to include able-bodied childless 
          adults aged 18 to 50 who, under the Administration's Food 
          Stamp proposal, would face a more rigorous work requirement in 
          order to continue receiving Food Stamps.

  Tax Incentives to Boost Investment in Distressed Areas: The budget 
proposes a three-part strategy to increase investment in disadvantaged 
areas:
  Expanded Empowerment Zones (EZs) and Enterprise Communities 
          (ECs): The budget proposes a second round of competition to 
          designate additional EZs and ECs and provides over $1 billion 
          in tax incentives to these areas through 2002. Among other 
          things, the plan would create 20 new EZs and 80 new ECs. The 
          plan promises to mobilize communities to promote business 
          development and create jobs. (For more information on EZs and 
          ECs, see Chapter 6.)
  Brownfields Cleanup: The budget proposes to allow businesses 
          to deduct, in the year incurred, certain costs associated with 
          cleaning up ``brownfields''--contaminated, and often 
          abandoned, industrial sites--in economically distressed urban 
          and rural areas. (For more information on brownfields, see 
          Chapter 3.)
  Community Development Financial Institution (CDFI) Tax 
          Credits: The budget proposes non-refundable tax credits for 
          equity investments in qualified CDFIs. (For more information 
          on CDFIs, see Chapter 6.)

  Research and Experimentation Tax Credit (R&E): The budget proposes to 
extend the R&E tax credit for one year, from its current expiration date 
of May 31, 1997 to May 31, 1998. \3\ It provides a credit against 20 
percent of a business's qualified research spending above a base level. 
Research and experimentation contribute greatly to the Nation's growth 
in productivity, and the private sector may under-invest in this 
activity in the absence of this Federal incentive.
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  \3\ The credit, which was first enacted in 1981, expired in mid-1995. 
The Small Business Job Protection Act of 1996, however, reinstated the 
credit for the period from July 1, 1996 to May 31, 1997.
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  Employer-Provided Education: The budget proposes to extend, through 
December 31, 2000, the income exclusion for employer-provided 
educational assistance that Congress recently extended through mid-1997, 
and to expand the exclusion to cover graduate education. The exclusion 
enables employees to get additional forms of training and education 
benefits without facing income taxes on those benefits. Small businesses 
also would be able to claim a 10-percent tax credit for providing such 
benefits to their employees.
  Economic Incentives for U.S. Businesses in Puerto Rico: The budget 
proposes to modify Section 936 of the tax code, which allows U.S. 
companies to claim a credit against the tax they pay for income that 
they derive in Puerto Rico--specifically, to extend the availability of 
the economic activity credit and to allow new firms to claim it.
  Estate Tax Benefits for Closely Held Businesses: The budget proposes 
to ease the burden of estate taxes on farms and other small businesses, 
allowing their owners to defer taxes on $2.5 million of value, up from 
$1 million under current law. The deferred taxes could be paid over 14 
years, at a favorable interest rate. In addition, the budget would 
expand the types of businesses eligible for such treatment by making the 
form of business organization irrelevant. It also would cut the 
administrative burden on taxpayers who elected deferral.

[[Page 115]]

  Equitable Tolling: The budget proposes to extend the period during 
which taxpayers with serious disabilities can file claims for refunds, 
helping to ensure that such taxpayers are not unfairly disadvantaged by 
the tax system.

Unwarranted Benefits and Other Measures

  The budget eliminates or shrinks a wide range of tax loopholes and 
preferences that are no longer warranted. Some involve highly 
specialized financial and accounting techniques. Restricting them would 
help balance the budget, increase the equity and efficiency of the tax 
system, and keep corporations focused on productivity and profits, 
rather than on tax minimization.
  For example, the plan:
  Prevents certain tax-motivated financial manipulations, used 
          to avoid capital gains taxes.
  Clarifies the treatment of new financial instruments that aim 
          to exploit the different tax treatment of equity and debt, by 
          denying or deferring interest deductions on certain 
          instruments that have substantial equity features.
  Limits the ability of some corporations to deduct the cost of 
          interest associated with purchasing tax-exempt debt.
  Increases the penalty for substantial understatement of taxes, 
          to reduce incentives for excessively aggressive tax planning 
          by corporations with tax liabilities of $100 million or more.
  Finally, the plan extends the Airport and Airway excise taxes, the 
Leaking Underground Storage Tank excise tax, and the Hazardous Substance 
Superfund excise and corporate income taxes, through 2007. The 
Administration, however, will propose legislation to replace the Airport 
and Airway excise taxes with fees for services that the Federal Aviation 
Adminstration provides.