    [Analytical Perspectives]
    [Federal Receipts and Collections]
    [19. Tax Expenditures]
    [From the U.S. Government Printing Office, www.gpo.gov]

    [[Page 315]]

                              19. TAX EXPENDITURES

      The Congressional Budget Act of 1974 (Public Law 93-344) requires that
    a list of ``tax expenditures'' be included in the budget. Tax
    expenditures are defined in the law as ``revenue losses attributable to
    provisions of the Federal tax laws which allow a special exclusion,
    exemption, or deduction from gross income or which provide a special
    credit, a preferential rate of tax, or a deferral of liability.'' These
    exceptions may be viewed as alternatives to other policy instruments,
    such as spending or regulatory programs. Identification and measurement
    of tax expenditures depends importantly on the baseline tax system
    against which the actual tax system is compared.
      The largest reported tax expenditures tend to be associated with the
    individual income tax. For example, sizeable deferrals, deductions and
    exclusions are provided for employer contributions for medical
    insurance, pension contributions and earnings, capital gains, and
    payments of State and local individual income and property taxes.
    Reported tax expenditures under the corporate income tax tend to be
    related to timing differences in the rate of cost recovery for various
    investments. As is discussed below, the extent to which these provisions
    are classified as tax expenditures varies according to the conceptual
    baseline used.
      Each tax expenditure estimate in this chapter was calculated assuming
    other parts of the tax code remained unchanged. The estimates would be
    different if all tax expenditures or major groups of tax expenditures
    were changed simultaneously because of potential interactions among
    provisions. For that reason, this chapter does not present a grand total
    for the estimated tax expenditures. Moreover, past tax changes entailing
    broad elimination of tax expenditures were generally accompanied by
    changes in tax rates or other basic provisions, so that the net effects
    on Federal revenues were considerably (if not totally) offset.
      Tax expenditures relating to the individual and corporate income taxes
    are estimated for fiscal years 2004-2010 using three methods of
    accounting: revenue effects, outlay equivalents, and present values. The
    present value approach provides estimates of the revenue effects for tax
    expenditures that generally involve deferrals of tax payments into the
    future.
      The section of the chapter on performance measures and economic
    effects presents information related to assessment of the effect of tax
    expenditures on the achievement of program performance goals. This
    section is a complement to the Government-wide performance plan required
    by the Government Performance and Results Act of 1993.
      The 2004 and 2005 Budgets included a thorough review of important
    ambiguities in the tax expenditure concept. In particular, this review
    focused on defining tax expenditures relative to a comprehensive income
    tax baseline, defining tax expenditures relative to a broad-based
    consumption tax baseline, and defining negative tax expenditures, i.e.,
    provisions of current law that over-tax certain items or activities. A
    similar review is presented in the Appendix again this year.

                       TAX EXPENDITURES IN THE INCOME TAX

                            Tax Expenditure Estimates

      All tax expenditure estimates presented here are based upon current
    tax law enacted as of December 31, 2004. Expired or repealed provisions
    are not listed if their revenue effects result only from taxpayer
    activity occurring before fiscal year 2004. Due to the time required to
    estimate the large number of tax expenditures, the estimates are based
    on Mid-Session economic assumptions; exceptions are the earned income
    tax credit and child credit provisions, which involve outlay components
    and hence are updated to reflect the economic assumptions used elsewhere
    in the budget.
      The total revenue effects for tax expenditures for fiscal years 2004-
    2010 are displayed according to the budget's functional categories in
    Table 19-1. Descriptions of the specific tax expenditure provisions
    follow the tables of estimates and the discussion of general features of
    the tax expenditure concept.
      As in prior years, two baseline concepts, the normal tax baseline and
    the reference tax law baseline, are used to identify tax expenditures.
    These baseline concepts are thoroughly discussed in Special Analysis G
    of the 1985 Budget, where the former is referred to as the pre-1983
    method and the latter the post-1982 method. For the most part, the two
    concepts coincide. However, items treated as tax expenditures under the
    normal tax baseline, but not the reference tax law baseline, are
    indicated by the designation ``normal tax method'' in the tables. The
    revenue effects for these items are zero using the reference tax rules.
    The alternative baseline concepts are discussed in detail following the
    tables.
      Table 19-2 reports the respective portions of the total revenue
    effects that arise under the individual and corporate income taxes
    separately. The location of the estimates under the individual and
    corporate headings does not imply that these categories of filers
    benefit from the special tax provisions in proportion to the respective
    tax expenditure amounts shown. Rather, these breakdowns show the
    specific tax accounts through which

    [[Page 316]]

    the various provisions are cleared. The ultimate beneficiaries of
    corporate tax expenditures could be shareholders, employees, customers,
    or other providers of capital, depending on economic forces.
      Table 19-3 ranks the major tax expenditures by the size of their 2006-
    2010 revenue effect.

                     Interpreting Tax Expenditure Estimates

      The estimates shown for individual tax expenditures in Tables 19-1,
    19-2, and 19-3 do not necessarily equal the increase in Federal revenues
    (or the change in the budget balance) that would result from repealing
    these special provisions, for the following reasons.
      Eliminating a tax expenditure may have incentive effects that alter
    economic behavior. These incentives can affect the resulting magnitudes
    of the activity or of other tax provisions or Government programs. For
    example, if capital gains were taxed at ordinary rates, capital gain
    realizations would be expected to decline, potentially resulting in a
    decline in tax receipts. Such behavioral effects are not reflected in
    the estimates.
      Tax expenditures are interdependent even without incentive effects.
    Repeal of a tax expenditure provision can increase or decrease the tax
    revenues associated with other provisions. For example, even if behavior
    does not change, repeal of an itemized deduction could increase the
    revenue costs from other deductions because some taxpayers would be
    moved into higher tax brackets. Alternatively, repeal of an itemized
    deduction could lower the revenue cost from other deductions if
    taxpayers are led to claim the standard deduction instead of itemizing.
    Similarly, if two provisions were repealed simultaneously, the increase
    in tax liability could be greater or less than the sum of the two
    separate tax expenditures, because each is estimated assuming that the
    other remains in force. In addition, the estimates reported in Table 19-
    1 are the totals of individual and corporate income tax revenue effects
    reported in Table 19-2 and do not reflect any possible interactions
    between individual and corporate income tax receipts. For this reason,
    the estimates in Table 19-1 should be regarded as approximations.

                             Present-Value Estimates

      The annual value of tax expenditures for tax deferrals is reported on
    a cash basis in all tables except Table 19-4. Cash-based estimates
    reflect the difference between taxes deferred in the current year and
    incoming revenues that are received due to deferrals of taxes from prior
    years. Although such estimates are useful as a measure of cash flows
    into the Government, they do not accurately reflect the true economic
    cost of these provisions. For example, for a provision where activity
    levels have changed, so that incoming tax receipts from past deferrals
    are greater than deferred receipts from new activity, the cash-basis tax
    expenditure estimate can be negative, despite the fact that in present-
    value terms current deferrals do have a real cost to the Government.
    Alternatively, in the case of a newly enacted deferral provision, a
    cash-based estimate can overstate the real effect on receipts to the
    Government because the newly deferred taxes will ultimately be received.
    Present-value estimates, which are a useful complement to the cash-basis
    estimates for provisions involving deferrals, are discussed below.
      Discounted present-value estimates of revenue effects are presented in
    Table 19-4 for certain provisions that involve tax deferrals or other
    long-term revenue effects. These estimates complement the cash-based tax
    expenditure estimates presented in the other tables.
      The present-value estimates represent the revenue effects, net of
    future tax payments, that follow from activities undertaken during
    calendar year 2004 which cause the deferrals or other long-term revenue
    effects. For instance, a pension contribution in 2004 would cause a
    deferral of tax payments on wages in 2004 and on pension earnings on
    this contribution (e.g., interest) in later years. In some future year,
    however, the 2004 pension contribution and accrued earnings will be paid
    out and taxes will be due; these receipts are included in the present-
    value estimate. In general, this conceptual approach is similar to the
    one used for reporting the budgetary effects of credit programs, where
    direct loans and guarantees in a given year affect future cash flows.

                               Outlay Equivalents

      The concept of ``outlay equivalents'' is another theoretical measure
    of the budget effect of tax expenditures. It is the amount of budget
    outlays that would be required to provide the taxpayer the same after-
    tax income as would be received through the tax provision. The outlay-
    equivalent measure allows the cost of a tax expenditure to be compared
    with a direct Federal outlay on a more even footing. Outlay equivalents
    are reported in Table 19-5.

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                                                     Table 19-1.  ESTIMATES OF TOTAL INCOME TAX EXPENDITURES
                                                                    (in millions of dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                 Total from corporations and individuals
                                                                            --------------------------------------------------------------------------------
                                                                               2004      2005      2006      2007      2008      2009      2010     2006-10
    --------------------------------------------------------------------------------------------------------------------------------------------------------

                 National Defense
           1       Exclusion of benefits and allowances to armed forces         2,460     2,490     2,520     2,540     2,560     2,590     2,620     12,830
                    personnel..............................................

                 International affairs:
           2       Exclusion of income earned abroad by U.S. citizens......     2,680     2,750     2,810     2,940     3,100     3,270     3,450     15,570
           3       Exclusion of certain allowances for Federal employees          850       900       950     1,000     1,050     1,100     1,160      5,260
                    abroad.................................................
           4       Extraterritorial income exclusion.......................     5,500     5,170     4,270     1,820       220        40        20      6,370
           5       Inventory property sales source rules exception.........     1,500     1,620     1,770     1,950     2,200     2,430     2,630     10,980
           6       Deferral of income from controlled foreign corporations      7,240     7,000     7,440     7,960     8,510     9,100     9,730     42,740
                    (normal tax method)....................................
           7       Deferred taxes for financial firms on certain income         2,130     2,190     2,260       960  ........  ........  ........      3,220
                    earned overseas........................................

                 General science, space, and technology
           8       Expensing of research and experimentation expenditures      -2,330     4,110     7,920     6,990     6,260     5,360     4,800     31,330
                    (normal tax method)....................................
           9       Credit for increasing research activities...............     4,680     5,130     2,140       910       390       180        50      3,670

                 Energy
          10       Expensing of exploration and development costs, fuels...       260       400       370       280       240       190       140      1,220
          11       Excess of percentage over cost depletion, fuels.........     1,320     1,280     1,350     1,420     1,470     1,510     1,550      7,300
          12       Alternative fuel production credit......................     1,040     1,040     1,040     1,040       420  ........  ........      2,500
          13       Exception from passive loss limitation for working              20        20        20        20        20        20        20        100
                    interests in oil and gas properties....................
          14       Capital gains treatment of royalties on coal............        70        70        80        80       100        70        60        390
          15       Exclusion of interest on energy facility bonds..........       100       100       110       110       120       120       130        590
          16       Enhanced oil recovery credit............................       330       340       340       350       360       370       390      1,810
          17       New technology credit...................................       330       470       620       700       800       820       690      3,630
          18       Alcohol fuel credits \1\................................        30        30        30        30        40        40        40        180
          19       Tax credit and deduction for clean-fuel burning vehicles        70        70        50       -20       -70       -80       -60       -180
          20       Exclusion of conservation subsidies provided by public         100       100       100       100        90        90        90        470
                    utilities..............................................

                 Natural resources and environment
          21       Expensing of exploration and development costs, nonfuel        230       230       250       250       250       270       270      1,290
                    minerals...............................................
          22       Excess of percentage over cost depletion, nonfuel         ........  ........  ........  ........  ........  ........        10         10
                    minerals...............................................
          23       Exclusion of interest on bonds for water, sewage, and          500       530       570       600       630       650       680      3,130
                    hazardous waste facilities.............................
          24       Capital gains treatment of certain timber income........        70        70        80        80       100        70        60        390
          25       Expensing of multiperiod timber growing costs...........       340       350       370       380       400       410       430      1,990
          26       Tax incentives for preservation of historic structures..       300       320       330       340       360       380       400      1,810
          27       Expensing of capital costs with respect to complying      ........        10  ........        10        20        40        10         90
                    with EPA sulfur regulations............................
          28       Exclusion of gain or loss on sale or exchange of certain  ........  ........  ........       -10       -30       -40       -40       -120
                    brownfield sites.......................................

                 Agriculture
          29       Expensing of certain capital outlays....................       100       110       130       130       130       140       140        670
          30       Expensing of certain multiperiod production costs.......        50        60        70        70        80        80        80        380
          31       Treatment of loans forgiven for solvent farmers.........        10        10        10        10        10        10        10         50
          32       Capital gains treatment of certain income...............       670       730       760       820       990       720       580      3,870
          33       Income averaging for farmers............................        40        40        40        40        40        40        40        200
          34       Deferral of gain on sale of farm refiners...............        10        10        10        20        20        20        20         90
          35       Bio-Diesel tax credit...................................  ........        30        30        10  ........  ........  ........         40

                 Commerce and housing
                   Financial institutions and insurance:
          36        Exemption of credit union income.......................     1,270     1,330     1,390     1,440     1,510     1,570     1,640      7,550
          37        Excess bad debt reserves of financial institutions.....       -20       -20       -10       -10       -10  ........  ........        -30
          38        Exclusion of interest on life insurance savings........    20,830    22,750    24,070    26,180    28,770    30,980    33,610    143,610
          39        Special alternative tax on small property and casualty         10        10        10        10        10        10        10         50
                     insurance companies...................................
          40        Tax exemption of certain insurance companies owned by         180       190       210       220       230       250       260      1,170
                     tax-exempt organizations..............................
          41        Small life insurance company deduction.................        80        80        80        80        80        80        80        400
                   Housing:
          42        Exclusion of interest on owner-occupied mortgage            1,020     1,110     1,180     1,230     1,320     1,350     1,390      6,470
                     subsidy bonds.........................................
          43        Exclusion of interest on rental housing bonds..........       360       390       410       420       460       470       480      2,240
          44        Deductibility of mortgage interest on owner-occupied       61,450    68,870    76,030    81,990    88,990    95,770   102,760    445,540
                     homes.................................................
          45        Deductibility of State and local property tax on owner-    19,930    16,590    14,830    14,110    13,400    13,000    12,800     68,140
                     occupied homes........................................
          46        Deferral of income from post 1987 installment sales....     1,100     1,120     1,140     1,160     1,190     1,200     1,320      6,010
          47        Capital gains exclusion on home sales..................    29,730    32,840    36,270    40,050    44,240    54,660    71,960    247,180
          48        Exclusion of net imputed rental income on owner-           24,590    28,600    29,720    33,210    36,860    40,630    44,786    185,206
                     occupied homes........................................
          49        Exception from passive loss rules for $25,000 of rental     5,030     4,900     4,750     4,580     4,410     4,240     4,080     22,060
                     loss..................................................
          50        Credit for low-income housing investments..............     3,660     3,850     4,010     4,190     4,390     4,610     4,850     22,050
          51        Accelerated depreciation on rental housing (normal tax        750      -156      -993    -1,846    -2,697    -3,961    -5,901    -15,398
                     method)...............................................
                   Commerce:
          52        Cancellation of indebtedness...........................        30        30        30        40        40        40        40        190
          53        Exceptions from imputed interest rules.................        50        50        50        50        50        50        50        250
          54        Capital gains (except agriculture, timber, iron ore,       25,150    27,200    28,370    30,450    36,840    26,900    21,630    144,190
                     and coal).............................................
          55        Capital gains exclusion of small corporation stock.....       160       210       250       300       350       390       430      1,720

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          56        Step-up basis of capital gains at death................    24,200    26,140    28,760    31,630    34,790    35,560    33,680    164,420
          57        Carryover basis of capital gains on gifts..............       210       240       290       290       310       430       850      2,170
          58        Ordinary income treatment of loss from small business          50        50        50        50        50        50        50        250
                     corporation stock sale................................
          59        Accelerated depreciation of buildings other than rental    -3,250    -4,180    -4,790    -6,940   -10,360   -14,740   -21,240    -58,060
                     housing (normal tax method)...........................
          60        Accelerated depreciation of machinery and equipment        44,690   -11,000   -37,830   -30,920   -27,950   -26,190   -25,760   -148,650
                     (normal tax method)...................................
          61        Expensing of certain small investments (normal tax          1,520     4,820     1,650      -490       -30       140       230      1,500
                     method)...............................................
          62        Amortization of start-up costs (normal tax method).....        80        50  ........       -40       -90      -140      -170       -440
          63        Graduated corporation income tax rate (normal tax           2,450     3,190     3,730     3,820     3,920     4,020     4,140     19,630
                     method)...............................................
          64        Exclusion of interest on small issue bonds.............       450       490       510       540       580       590       610      2,830
          65        Deduction for U.S. production activities...............  ........     3,270     5,420     8,750    11,230    11,670    15,860     52,930
          66        Special rules for certain film and TV production.......  ........        90       110        90        70       -40       -90        140

                 Transportation
          67       Deferral of tax on shipping companies...................        20        20        20        20        20        20        20        100
          68       Exclusion of reimbursed employee parking expenses.......     2,470     2,590     2,730     2,880     3,030     3,180     3,330     15,150
          69       Exclusion for employer-provided transit passes..........       410       480       550       630       710       790       880      3,560
          70       Tax credit for certain expenditures for maintaining       ........        70       140       150       110        50        30        480
                    railroad tracks........................................

                 Community and regional development
          71       Investment credit for rehabilitation of structures              40        40        40        40        40        40        40        200
                    (other than historic)..................................
          72       Exclusion of interest for airport, dock, and similar           850       930       980     1,030     1,100     1,130     1,170      5,410
                    bonds..................................................
          73       Exemption of certain mutuals' and cooperatives' income..        60        60        60        70        70        70        70        340
          74       Empowerment zones, Enterprise communities, and Renewal       1,080     1,120     1,210     1,340     1,480     1,740     1,130      6,900
                    communities............................................
          75       New markets tax credit..................................       290       430       610       830       870       790       670      3,770
          76       Expensing of environmental remediation costs............        80        70        20       -10       -10       -20       -10        -30
          77       Deferral of capital gains with respect of dispositions    ........      -490      -620      -530      -230       100       360       -920
                    of transmission property...............................

                 Education, training, employment, and social services
                   Education:
          78        Exclusion of scholarship and fellowship income (normal      1,320     1,400     1,460     1,530     1,600     1,680     1,750      8,020
                     tax method)...........................................
          79        HOPE tax credit........................................     3,320     3,410     3,220     3,320     3,350     3,420     3,580     16,890
          80        Lifetime Learning tax credit...........................     2,190     2,130     2,080     2,310     2,340     2,380     2,450     11,560
          81        Education Individual Retirement Accounts...............       110       140       190       240       300       370       440      1,540
          82        Deductibility of student-loan interest.................       760       780       800       810       820       830       840      4,100
          83        Deduction for higher education expenses................     1,280     1,830     1,840  ........  ........  ........  ........      1,840
          84        State prepaid tuition plans............................       210       490       650       740       830       920     1,010      4,150
          85        Exclusion of interest on student-loan bonds............       290       310       340       350       370       380       390      1,830
          86        Exclusion of interest on bonds for private nonprofit          970     1,050     1,120     1,180     1,250     1,290     1,330      6,170
                     educational facilities................................
          87        Credit for holders of zone academy bonds...............        90       110       130       130       140       140       140        680
          88        Exclusion of interest on savings bonds redeemed to             10        10        20        20        20        20        20        100
                     finance educational expenses..........................
          89        Parental personal exemption for students age 19 or over     3,200     2,670     2,110     1,840     1,630     1,450     1,340      8,370
          90        Deductibility of charitable contributions (education)..     3,690     3,420     3,680     4,030     4,260     4,550     4,870     21,390
          91        Exclusion of employer-provided educational assistance..       530       560       590       620       650       690       720      3,270
          92        Special deduction for teacher expenses.................       150       160       150  ........  ........  ........  ........        150
          93        Discharge of student loan indebtedness.................  ........        20        20        20        20        20        20        100
                   Training, employment, and social services:
          94        Work opportunity tax credit............................       280       250       280       190        60        30        10        570
          95        Welfare-to-work tax credit.............................        60        60        80        60        20        10  ........        170
          96        Employer provided child care exclusion.................       600       620       810       930       970     1,010     1,060      4,780
          97        Employer-provided child care credit....................  ........         8        10        10        10        10        10         50
          98        Assistance for adopted foster children.................       290       310       350       380       420       460       500      2,110
          99        Adoption credit and exclusion..........................       450       500       540       560       570       580       600      2,850
         100        Exclusion of employee meals and lodging (other than           810       850       890       930       970     1,010     1,060      4,860
                     military).............................................
         101        Child credit \2\.......................................    22,400    32,710    32,810    32,900    32,860    32,790    32,670    164,030
         102        Credit for child and dependent care expenses...........     2,990     3,140     2,810     1,900     1,800     1,710     1,630      9,850
         103        Credit for disabled access expenditures................        30        40        40        40        40        50        50        220
         104        Deductibility of charitable contributions, other than      27,370    29,670    32,550    34,500    36,790    39,410    42,210    185,460
                     education and health..................................
         105        Exclusion of certain foster care payments..............       440       440       440       450       450       460       470      2,270
         106        Exclusion of parsonage allowances......................       430       460       480       510       540       580       610      2,720

                 Health
         107       Exclusion of employer contributions for medical            102,250   112,160   125,690   139,060   152,560   166,190   176,740    760,240
                    insurance premiums and medical care....................
         108       Self-employed medical insurance premiums................     3,330     3,780     4,330     4,800     5,260     5,760     6,250     26,400
         109       Medical Savings Accounts/Health Savings Accounts........       620     1,050     1,830     2,650     3,510     3,960     3,910     15,860
         110       Deductibility of medical expenses.......................     7,380     8,590     9,140     9,970    11,100    11,890    12,670     54,770
         111       Exclusion of interest on hospital construction bonds....     1,870     2,020     2,160     2,260     2,400     2,470     2,550     11,840
         112       Deductibility of charitable contributions (health)......     3,090     3,350     3,670     3,890     4,150     4,450     4,770     20,930
         113       Tax credit for orphan drug research.....................       180       210       230       260       290       330       360      1,470
         114       Special Blue Cross/Blue Shield deduction................       400       390       360       390       340       370       430      1,890
         115       Tax credit for health insurance purchased by certain            50        60        40        40        40        50        50        220
                    displaced and retired individuals \3\..................

    [[Page 319]]

                 Income security
         116       Exclusion of railroad retirement system benefits........       400       400       400       400       400       400       400      2,000
         117       Exclusion of workers' compensation benefits.............     5,490     5,730     5,940     6,100     6,300     6,520     6,730     31,590
         118       Exclusion of public assistance benefits (normal tax            410       430       450       470       490       510       480      2,400
                    method)................................................
         119       Exclusion of special benefits for disabled coal miners..        60        50        50        50        40        40        40        220
         120       Exclusion of military disability pensions...............       100       100       110       110       110       120       120        570
                   Net exclusion of pension contributions and earnings:
         121        Employer plans.........................................    46,970    50,330    51,050    52,570    47,530    45,310    44,570    241,030
         122        401(k) plans...........................................    47,730    45,870    48,140    51,800    56,140    60,930    66,400    283,410
         123        Individual Retirement Accounts.........................     7,450     7,340     7,310     6,990     6,680     6,220     5,650     32,850
         124        Low and moderate income savers credit..................       970     1,100     1,170       700  ........  ........  ........      1,870
         125        Keogh plans............................................     8,830     9,380     9,980    10,650    11,610    12,650    13,780     58,670
                   Exclusion of other employee benefits:
         126        Premiums on group term life insurance..................     2,070     2,090     2,110     2,110     2,150     2,180     2,200     10,750
         127        Premiums on accident and disability insurance..........       260       280       290       300       310       320       330      1,550
         128       Small business retirement plan credit...................        80       100       120       140       150       150       140        700
         129       Income of trusts to finance supplementary unemployment          20        20        20        20        20        20        20        100
                    benefits...............................................
         130       Special ESOP rules......................................     1,920     2,060     2,220     2,400     2,580     2,780     3,000     12,980
         131       Additional deduction for the blind......................        30        40        40        40        40        40        40        200
         132       Additional deduction for the elderly....................     1,700     1,810     1,960     1,940     1,900     1,930     1,950      9,680
         133       Tax credit for the elderly and disabled.................        20        20        20        20        10        10        10         70
         134       Deductibility of casualty losses........................       550       250       270       280       290       300       320      1,460
         135       Earned income tax credit \4\............................     4,890     4,980     5,420     5,170     5,290     5,480     5,600     26,960

                 Social Security
                   Exclusion of social security benefits
         136        Social Security benefits for retired workers...........    19,200    19,480    19,770    20,470    20,900    21,260    23,720    106,120
         137        Social Security benefits for disabled..................     3,580     3,740     3,870     4,110     4,290     4,500     4,910     21,680
         138        Social Security benefits for dependents and survivors..     4,140     4,120     3,990     4,030     3,880     3,920     4,060     19,880

                 Veterans benefits and services
         139       Exclusion of veterans death benefits and disability          3,300     3,560     3,750     4,030     4,190     4,360     4,520     20,850
                    compensation...........................................
         140       Exclusion of veterans pensions..........................       110       120       120       120       120       130       140        630
         141       Exclusion of GI bill benefits...........................       130       150       160       170       180       190       200        900
         142       Exclusion of interest on veterans housing bonds.........        50        50        50        60        60        60        60        290

                 General purpose fiscal assistance
         143       Exclusion of interest on public purpose State and local     26,150    26,530    26,610    26,350    27,140    27,950    28,790    136,840
                    bonds..................................................
         144       Deductibility of nonbusiness state and local taxes other    45,290    39,090    34,620    32,890    31,850    31,760    32,120    163,240
                    than on owner-occupied homes...........................
         145       Tax credit for corporations receiving income from doing      1,000       900       500        50  ........  ........  ........        550
                    business in U.S. possessions...........................

                 Interest
         146       Deferral of interest on U.S. savings bonds..............        50        50        50        50        60        70        70        300

                 Addendum: Aid to State and local governments
                   Deductibility of:
                    Property taxes on owner-occupied homes.................    19,930    16,590    14,830    14,110    13,400    13,000    12,800     68,140
                    Nonbusiness State and local taxes other than on owner-     45,290    39,090    34,620    32,890    31,850    31,760    32,120    163,240
                     occupied homes........................................
                   Exclusion of interest on State and local bonds for:
                    Public purposes........................................    26,150    26,530    26,610    26,350    27,140    27,950    28,790    136,840
                    Energy facilities......................................       100       100       110       110       120       120       130        590
                    Water, sewage, and hazardous waste disposal facilities.       500       530       570       600       630       650       680      3,130
                    Small-issues...........................................       450       490       510       540       580       590       610      2,830
                    Owner-occupied mortgage subsidies......................     1,020     1,110     1,180     1,230     1,320     1,350     1,390      6,470
                    Rental housing.........................................       360       390       410       420       460       470       480      2,240
                    Airports, docks, and similar facilities................       850       930       980     1,030     1,100     1,130     1,170      5,410
                    Student loans..........................................       290       310       340       350       370       380       390      1,830
                    Private nonprofit educational facilities...............       970     1,050     1,120     1,180     1,250     1,290     1,330      6,170
                    Hospital construction..................................     1,870     2,020     2,160     2,260     2,400     2,470     2,550     11,840
                    Veterans' housing......................................        50        50        50        60        60        60        60        290
                   Credit for holders of zone academy bonds................        90       110       130       130       140       140       140        680
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ In addition, the partial exemption from the excise tax and excise credits for alcohol fuels result in a reduction in excise tax receipts (in
      millions of dollars) as follows: 2004 $1,450; 2005 $1,490; 2006 $1,550; 2007 $1,590; 2008 $1,620; 2009 $1,650; and 2010 $1,680.
    \2\ The figures in the table indicate the effect of the child tax credit on receipts. The effect of the credit on outlays (in millions of dollars) is as
      follows: 2004 $8,857; 2005 $13,516; 2006 $13,180; 2007 $12,549; 2008 $12,040; 2009 $11,693 and 2010 $11,364
    \3\ In addition to the receipts shown, there are outlays of $70 million in 2004, $90 million in 2005, $100 million in 2006, $120 million in 2007, $130
      million in 2008, and $140 million in 2009 and $150 million in 2010 projected.
    \4\ The figures in the table indicate the effect of the earned income tax credit on receipts. The effect of the credit on outlays (in millions of
      dollars) is as follows: 2004 $33,134;2005 $33,790; 2006 $34,132; 2007 $34,481; 2008 $34,723; 2009 $35,517; and 2010 $36,099.
    Note: Provisions with estimates denoted normal tax method have no revenue loss under the reference tax law method.
    All estimates have been rounded to the nearest $10 million. Provisions with estimates that rounded to zero in each year are not included in the table.

    [[Page 320]]

                                                                            Table 19-2.  ESTIMATES OF TAX EXPENDITURES FOR THE CORPORATE AND INDIVIDUAL INCOME TAXES
                                                                                                            (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                     Corporations                                                                           Individuals
                                                                 ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                    2004     2005      2006       2007       2008       2009       2010     2006-10      2004       2005       2006       2007       2008       2009       2010     2006-10
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

                 National Defense
           1       Exclusion of benefits and allowances to armed  .......  .......  .........  .........  .........  .........  .........  .........      2,460      2,490      2,520      2,540      2,560      2,590      2,620     12,830
                    forces personnel............................

                 International affairs:
           2       Exclusion of income earned abroad by U.S.      .......  .......  .........  .........  .........  .........  .........  .........      2,680      2,750      2,810      2,940      3,100      3,270      3,450     15,570
                    citizens....................................
           3       Exclusion of certain allowances for Federal    .......  .......  .........  .........  .........  .........  .........  .........        850        900        950       1000       1050       1100       1160      5,260
                    employees abroad............................
           4       Extraterritorial income exclusion............    5,500    5,170      4,270      1,820        220         40         20      6,370  .........  .........  .........  .........  .........  .........  .........  .........
           5       Inventory property sales source rules            1,500    1,620      1,770      1,950      2,200      2,430      2,630     10,980  .........  .........  .........  .........  .........  .........  .........  .........
                    exception...................................
           6       Deferral of income from controlled foreign       7,240    7,000      7,440      7,960      8,510      9,100      9,730     42,740  .........  .........  .........  .........  .........  .........  .........  .........
                    corporations (normal tax method)............
           7       Deferred taxes for financial firms on certain    2,130    2,190      2,260        960  .........  .........  .........      3,220  .........  .........  .........  .........  .........  .........  .........  .........
                    income earned overseas......................

                 General science, space, and technology
           8       Expensing of research and experimentation       -2,280    4,010      7,770      6,850      6,140      5,250      4,700     30,710        -50        100        150        140        120        110        100        620
                    expenditures (normal tax method)............
           9       Credit for increasing research activities....    4,630    5,080      2,100        910        390        180         50      3,630         50         50         40  .........  .........  .........  .........         40

                 Energy
          10       Expensing of exploration and development           230      350        320        240        210        160        120      1,050         30         50         50         40         30         30         20        170
                    costs, fuels................................
          11       Excess of percentage over cost depletion,        1,210    1,180      1,240      1,310      1,350      1,390      1,430      6,720        110        100        110        110        120        120        120        580
                    fuels.......................................
          12       Alternative fuel production credit...........    1,000    1,000      1,000      1,000        400  .........  .........      2,400         40         40         40         40         20  .........  .........        100
          13       Exception from passive loss limitation for     .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                    working interests in oil and gas properties.
          14       Capital gains treatment of royalties on coal.  .......  .......  .........  .........  .........  .........  .........  .........         70         70         80         80        100         70         60        390
          15       Exclusion of interest on energy facility            20       20         20         20         20         20         20        100         80         80         90         90        100        100        110        490
                    bonds.......................................
          16       Enhanced oil recovery credit.................      300      310        310        320        330        340        350      1,650         30         30         30         30         30         30         40        160
          17       New technology credit........................      330      470        620        700        800        820        690      3,630  .........  .........  .........  .........  .........  .........  .........  .........
          18       Alcohol fuel credits \1\.....................       20       20         20         20         30         30         30        130         10         10         10         10         10         10         10         50
          19       Tax credit and deduction for clean-fuel             20       30         40         20        -10        -20        -10         20         50         40         10        -40        -60        -60        -50       -200
                    burning vehicles............................
          20       Exclusion of conservation subsidies provided   .......  .......  .........  .........  .........  .........  .........  .........        100        100        100        100         90         90         90        470
                    by public utilities.........................

                 Natural resources and environment
          21       Expensing of exploration and development           210      210        230        230        230        250        250      1,190         20         20         20         20         20         20         20        100
                    costs, nonfuel minerals.....................
          22       Excess of percentage over cost depletion,      .......  .......  .........  .........  .........  .........         10         10  .........  .........  .........  .........  .........  .........  .........  .........
                    nonfuel minerals............................
          23       Exclusion of interest on bonds for water,          110      110        110        120        120        120        130        600        390        420        460        480        510        530        550      2,530
                    sewage, and hazardous waste facilities......
          24       Capital gains treatment of certain timber      .......  .......  .........  .........  .........  .........  .........  .........         70         70         80         80        100         70         60        390
                    income......................................
          25       Expensing of multiperiod timber growing costs      230      240        250        260        280        290        300      1,380        110        110        120        120        120        120        130        610
          26       Tax incentives for preservation of historic        230      240        250        260        270        290        300      1,370         70         80         80         80         90         90        100        440
                    structures..................................
          27       Expensing of capital costs with respect to     .......       10  .........         10         20         40         10         90  .........  .........  .........  .........  .........  .........  .........  .........
                    complying with EPA sulfur regulations.......
          28       Exclusion of gain or loss on sale or exchange  .......  .......  .........        -10        -20        -30        -30        -90  .........  .........  .........  .........        -10        -10        -10        -30
                    of certain brownfield sites.................

                 Agriculture
          29       Expensing of certain capital outlays.........       20       20         20         20         20         20         20        100         80         90        110        110        110        120        120        570
          30       Expensing of certain multiperiod production         10       10         10         10         10         10         10         50         40         50         60         60         70         70         70        330
                    costs.......................................
          31       Treatment of loans forgiven for solvent        .......  .......  .........  .........  .........  .........  .........  .........         10         10         10         10         10         10         10         50
                    farmers.....................................
          32       Capital gains treatment of certain income....  .......  .......  .........  .........  .........  .........  .........  .........        670        730        760        820        990        720        580      3,870
          33       Income averaging for farmers.................  .......  .......  .........  .........  .........  .........  .........  .........         40         40         40         40         40         40         40        200
          34       Deferral of gain on sale of farm refiners....       10       10         10         20         20         20         20         90  .........  .........  .........  .........  .........  .........  .........  .........
          35       Bio-Diesel tax credit........................  .......  .......  .........  .........  .........  .........  .........  .........  .........         30         30         10  .........  .........  .........         40

                 Commerce and housing
                   Financial institutions and insurance:
          36        Exemption of credit union income............    1,270    1,330      1,390      1,440      1,510      1,570      1,640      7,550  .........  .........  .........  .........  .........  .........  .........  .........
          37        Excess bad debt reserves of financial             -20      -20        -10        -10        -10  .........  .........        -30  .........  .........  .........  .........  .........  .........  .........  .........
                     institutions...............................
          38        Exclusion of interest on life insurance         2,010    2,180      2,270      2,570      2,880      3,070      3,330     14,120     18,820     20,570     21,800     23,610     25,890     27,910     30,280    129,490
                     savings....................................
          39        Special alternative tax on small property          10       10         10         10         10         10         10         50  .........  .........  .........  .........  .........  .........  .........  .........
                     and casualty insurance companies...........
          40        Tax exemption of certain insurance companies      180      190        210        220        230        250        260      1,170  .........  .........  .........  .........  .........  .........  .........  .........
                     owned by tax-exempt organizations..........
          41        Small life insurance company deduction......       80       80         80         80         80         80         80        400  .........  .........  .........  .........  .........  .........  .........  .........
                   Housing:

    [[Page 321]]

          42        Exclusion of interest on owner-occupied           220      230        230        240        250        250        260      1,230        800        880        950        990      1,070      1,100      1,130      5,240
                     mortgage subsidy bonds.....................
          43        Exclusion of interest on rental housing            80       80         80         80         90         90         90        430        280        310        330        340        370        380        390      1,810
                     bonds......................................
          44        Deductibility of mortgage interest on owner-  .......  .......  .........  .........  .........  .........  .........  .........     61,450     68,870     76,030     81,990     88,990     95,770    102,760    445,540
                     occupied homes.............................
          45        Deductibility of State and local property     .......  .......  .........  .........  .........  .........  .........  .........     19,930     16,590     14,830     14,110     13,400     13,000     12,800     68,140
                     tax on owner-occupied homes................
          46        Deferral of income from post 1987                 290      290        300        300        310        310        320      1,540        810        830        840        860        880        890      1,000      4,470
                     installment sales..........................
          47        Capital gains exclusion on home sales.......  .......  .......  .........  .........  .........  .........  .........  .........     29,730     32,840     36,270     40,050     44,240     54,660     71,960    247,180
          48        Exclusion of net imputed rental income on     .......  .......  .........  .........  .........  .........  .........  .........     24,590     28,600     29,720     33,210     36,860     40,630     44,786    185,206
                     owner-occupied homes.......................
          49        Exception from passive loss rules for         .......  .......  .........  .........  .........  .........  .........  .........      5,030      4,900      4,750      4,580      4,410      4,240      4,080     22,060
                     $25,000 of rental loss.....................
          50        Credit for low-income housing investments...    2,930    3,080      3,210      3,350      3,510      3,690      3,880     17,640        730        770        800        840        880        920        970      4,410
          51        Accelerated depreciation on rental housing        -10      -50       -100       -140       -200       -280       -390     -1,100        760       -110       -900     -1,700     -2,500     -3,690     -5,510    -14,300
                     (normal tax method)........................
                   Commerce:
          52        Cancellation of indebtedness................  .......  .......  .........  .........  .........  .........  .........  .........         30         30         30         40         40         40         40        190
          53        Exceptions from imputed interest rules......  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         50         50         50        250
          54        Capital gains (except agriculture, timber,    .......  .......  .........  .........  .........  .........  .........  .........     25,150     27,200     28,370     30,450     36,840     26,900     21,630    144,190
                     iron ore, and coal)........................
          55        Capital gains exclusion of small corporation  .......  .......  .........  .........  .........  .........  .........  .........        160        210        250        300        350        390        430      1,720
                     stock......................................
          56        Step-up basis of capital gains at death.....  .......  .......  .........  .........  .........  .........  .........  .........     24,200     26,140     28,760     31,630     34,790     35,560     33,680    164,420
          57        Carryover basis of capital gains on gifts...  .......  .......  .........  .........  .........  .........  .........  .........        210        240        290        290        310        430        850      2,170
          58        Ordinary income treatment of loss from small  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         50         50         50        250
                     business corporation stock sale............
          59        Accelerated depreciation of buildings other    -2,980   -3,850     -4,340     -6,170     -9,220    -12,620    -17,320    -49,670       -280       -330       -450       -760     -1,140     -2,110     -3,930     -8,390
                     than rental housing (normal tax method)....
          60        Accelerated depreciation of machinery and      37,080   -8,780    -32,880    -26,480    -23,310    -21,260    -20,290   -124,220      7,610     -2,220     -4,950     -4,440     -4,640     -4,930     -5,470    -24,430
                     equipment (normal tax method)..............
          61        Expensing of certain small investments            680    1,780        680       -390       -140        -30        -10        110        840      3,040        970       -100        110        170        240      1,390
                     (normal tax method)........................
          62        Amortization of start-up costs (normal tax         70       40  .........        -40        -80       -120       -150       -390         10         10  .........  .........        -10        -20        -20        -50
                     method)....................................
          63        Graduated corporation income tax rate           2,450    3,190      3,730      3,820      3,920      4,020      4,140     19,630  .........  .........  .........  .........  .........  .........  .........  .........
                     (normal tax method)........................
          64        Exclusion of interest on small issue bonds..      100      100        100        100        110        110        110        530        350        390        410        440        470        480        500      2,300
          65        Deduction for U.S. production activities....  .......    2,560      4,330      7,110      9,130      9,470     12,860     42,900  .........        710      1,090      1,640      2,100      2,200      3,000     10,030
          66        Special rules for certain film and TV         .......       70         90         70         60        -30        -70        120  .........         20         20         20         10        -10        -20         20
                     production.................................

                 Transportation
          67       Deferral of tax on shipping companies........       20       20         20         20         20         20         20        100  .........  .........  .........  .........  .........  .........  .........  .........
          68       Exclusion of reimbursed employee parking       .......  .......  .........  .........  .........  .........  .........  .........      2,470      2,590      2,730      2,880      3,030      3,180      3,330     15,150
                    expenses....................................
          69       Exclusion for employer-provided transit        .......  .......  .........  .........  .........  .........  .........  .........        410        480        550        630        710        790        880      3,560
                    passes......................................
          70       Tax credit for certain expenditures for        .......       70        140        150        110         50         30        480  .........  .........  .........  .........  .........  .........  .........  .........
                    maintaining railroad tracks.................

                 Community and regional development
          71       Investment credit for rehabilitation of             20       20         20         20         20         20         20        100         20         20         20         20         20         20         20        100
                    structures (other than historic)............
          72       Exclusion of interest for airport, dock, and       180      190        190        200        210        210        220      1,030        670        740        790        830        890        920        950      4,380
                    similar bonds...............................
          73       Exemption of certain mutuals' and                   60       60         60         70         70         70         70        340  .........  .........  .........  .........  .........  .........  .........  .........
                    cooperatives' income........................
          74       Empowerment zones, Enterprise communities,         280      290        310        340        370        420        190      1,630        800        830        900      1,000      1,110      1,320        940      5,270
                    and Renewal communities.....................
          75       New markets tax credit.......................       70      110        150        210        220        200        170        950        220        320        460        620        650        590        500      2,820
          76       Expensing of environmental remediation costs.       70       60         20        -10        -10        -20        -10        -30         10         10  .........  .........  .........  .........  .........  .........
          77       Deferral of capital gains with respect of      .......     -490       -620       -530       -230        100        360       -920  .........  .........  .........  .........  .........  .........  .........  .........
                    dispositions of transmission property.......

                 Education, training, employment, and social
                  services
                   Education:
          78        Exclusion of scholarship and fellowship       .......  .......  .........  .........  .........  .........  .........  .........      1,320      1,400      1,460      1,530      1,600      1,680      1,750      8,020
                     income (normal tax method).................
          79        HOPE tax credit.............................  .......  .......  .........  .........  .........  .........  .........  .........      3,320      3,410      3,220      3,320      3,350      3,420      3,580     16,890
          80        Lifetime Learning tax credit................  .......  .......  .........  .........  .........  .........  .........  .........      2,190      2,130      2,080      2,310      2,340      2,380      2,450     11,560
          81        Education Individual Retirement Accounts....  .......  .......  .........  .........  .........  .........  .........  .........        110        140        190        240        300        370        440      1,540
          82        Deductibility of student-loan interest......  .......  .......  .........  .........  .........  .........  .........  .........        760        780        800        810        820        830        840      4,100
          83        Deduction for higher education expenses.....  .......  .......  .........  .........  .........  .........  .........  .........      1,280      1,830      1,840  .........  .........  .........  .........      1,840
          84        State prepaid tuition plans.................  .......  .......  .........  .........  .........  .........  .........  .........        210        490        650        740        830        920      1,010      4,150
          85        Exclusion of interest on student-loan bonds.       60       60         70         70         70         70         70        350        230        250        270        280        300        310        320      1,480

    [[Page 322]]

          86        Exclusion of interest on bonds for private        210      210        220        230        230        240        250      1,170        760        840        900        950       1020       1050       1080      5,000
                     nonprofit educational facilities...........
          87        Credit for holders of zone academy bonds....       90      110        130        130        140        140        140        680  .........  .........  .........  .........  .........  .........  .........  .........
          88        Exclusion of interest on savings bonds        .......  .......  .........  .........  .........  .........  .........  .........         10         10         20         20         20         20         20        100
                     redeemed to finance educational expenses...
          89        Parental personal exemption for students age  .......  .......  .........  .........  .........  .........  .........  .........      3,200      2,670      2,110      1,840      1,630      1,450      1,340      8,370
                     19 or over.................................
          90        Deductibility of charitable contributions         510      540        560        590        620        660        700      3,130      3,180      2,880      3,120      3,440      3,640      3,890      4,170     18,260
                     (education)................................
          91        Exclusion of employer-provided educational    .......  .......  .........  .........  .........  .........  .........  .........        530        560        590        620        650        690        720      3,270
                     assistance.................................
          92        Special deduction for teacher expenses......  .......  .......  .........  .........  .........  .........  .........  .........        150        160        150  .........  .........  .........  .........        150
          93        Discharge of student loan indebtedness......  .......  .......  .........  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20        100
                   Training, employment, and social services:
          94        Work opportunity tax credit.................      240      210        240        160         50         30         10        490         40         40         40         30         10  .........  .........         80
          95        Welfare-to-work tax credit..................       50       50         70         50         20         10  .........        150         10         10         10         10  .........  .........  .........         20
          96        Employer provided child care exclusion......  .......  .......  .........  .........  .........  .........  .........  .........        600        620        810        930        970       1010       1060      4,780
          97        Employer-provided child care credit.........  .......        8         10         10         10         10         10         50  .........  .........  .........  .........  .........  .........  .........  .........
          98        Assistance for adopted foster children......  .......  .......  .........  .........  .........  .........  .........  .........        290        310        350        380        420        460        500      2,110
          99        Adoption credit and exclusion...............  .......  .......  .........  .........  .........  .........  .........  .........        450        500        540        560        570        580        600      2,850
         100        Exclusion of employee meals and lodging       .......  .......  .........  .........  .........  .........  .........  .........        810        850        890        930        970      1,010      1,060      4,860
                     (other than military)......................
         101        Child credit \2\............................  .......  .......  .........  .........  .........  .........  .........  .........     22,400     32,710     32,810     32,900     32,860     32,790     32,670    164,030
         102        Credit for child and dependent care expenses  .......  .......  .........  .........  .........  .........  .........  .........      2,990      3,140      2,810      1,900      1,800      1,710      1,630      9,850
         103        Credit for disabled access expenditures.....       10       10         10         10         10         20         20         70         20         30         30         30         30         30         30        150
         104        Deductibility of charitable contributions,      1,170    1,230      1,290      1,360      1,430      1,500      1,570      7,150     26,200     28,440     31,260     33,140     35,360     37,910     40,640    178,310
                     other than education and health............
         105        Exclusion of certain foster care payments...  .......  .......  .........  .........  .........  .........  .........  .........        440        440        440        450        450        460        470      2,270
         106        Exclusion of parsonage allowances...........  .......  .......  .........  .........  .........  .........  .........  .........        430        460        480        510        540        580        610      2,720

                 Health
         107       Exclusion of employer contributions for        .......  .......  .........  .........  .........  .........  .........  .........    102,250    112,160    125,690    139,060    152,560    166,190    176,740    760,240
                    medical insurance premiums and medical care.
         108       Self-employed medical insurance premiums.....  .......  .......  .........  .........  .........  .........  .........  .........      3,330      3,780      4,330      4,800      5,260      5,760      6,250     26,400
         109       Medical Savings Accounts/Health Savings        .......  .......  .........  .........  .........  .........  .........  .........        620      1,050      1,830      2,650      3,510      3,960      3,910     15,860
                    Accounts....................................
         110       Deductibility of medical expenses............  .......  .......  .........  .........  .........  .........  .........  .........      7,380      8,590      9,140      9,970     11,100     11,890     12,670     54,770
         111       Exclusion of interest on hospital                  400      410        430        440        450        460        480      2,260      1,470      1,610      1,730      1,820      1,950      2,010      2,070      9,580
                    construction bonds..........................
         112       Deductibility of charitable contributions          150      160        160        170        180        190        200        900      2,940      3,190      3,510      3,720      3,970      4,260      4,570     20,030
                    (health)....................................
         113       Tax credit for orphan drug research..........      180      210        230        260        290        330        360      1,470  .........  .........  .........  .........  .........  .........  .........  .........
         114       Special Blue Cross/Blue Shield deduction.....      400      390        360        390        340        370        430      1,890  .........  .........  .........  .........  .........  .........  .........  .........
         115       Tax credit for health insurance purchased by   .......  .......  .........  .........  .........  .........  .........  .........         50         60         40         40         40         50         50        220
                    certain displaced and retired individuals
                    \3\.........................................

                 Income security
         116       Exclusion of railroad retirement system        .......  .......  .........  .........  .........  .........  .........  .........        400        400        400        400        400        400        400      2,000
                    benefits....................................
         117       Exclusion of workers' compensation benefits..  .......  .......  .........  .........  .........  .........  .........  .........      5,490      5,730      5,940      6,100      6,300      6,520      6,730     31,590
         118       Exclusion of public assistance benefits        .......  .......  .........  .........  .........  .........  .........  .........        410        430        450        470        490        510        480      2,400
                    (normal tax method).........................
         119       Exclusion of special benefits for disabled     .......  .......  .........  .........  .........  .........  .........  .........         60         50         50         50         40         40         40        220
                    coal miners.................................
         120       Exclusion of military disability pensions....  .......  .......  .........  .........  .........  .........  .........  .........        100        100        110        110        110        120        120        570
                   Net exclusion of pension contributions and
                    earnings:
         121        Employer plans..............................  .......  .......  .........  .........  .........  .........  .........  .........     46,970     50,330     51,050     52,570     47,530     45,310     44,570    241,030
         122        401(k) plans................................  .......  .......  .........  .........  .........  .........  .........  .........     47,730     45,870     48,140     51,800     56,140     60,930     66,400    283,410
         123        Individual Retirement Accounts..............  .......  .......  .........  .........  .........  .........  .........  .........      7,450      7,340      7,310      6,990      6,680      6,220      5,650     32,850
         124        Low and moderate income savers credit.......  .......  .......  .........  .........  .........  .........  .........  .........        970      1,100      1,170        700  .........  .........  .........      1,870
         125        Keogh plans.................................  .......  .......  .........  .........  .........  .........  .........  .........      8,830      9,380      9,980     10,650     11,610     12,650     13,780     58,670
                   Exclusion of other employee benefits:
         126        Premiums on group term life insurance.......  .......  .......  .........  .........  .........  .........  .........  .........      2,070      2,090      2,110      2,110      2,150      2,180      2,200     10,750
         127        Premiums on accident and disability           .......  .......  .........  .........  .........  .........  .........  .........        260        280        290        300        310        320        330      1,550
                     insurance..................................
         128       Small business retirement plan credit........       40       50         60         70         80         80         70        360         40         50         60         70         70         70         70        340
         129       Income of trusts to finance supplementary      .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                    unemployment benefits.......................
         130       Special ESOP rules...........................     1600     1720       1870       2030       2190       2390       2610     11,090        320        340        350        370        390        390        390      1,890
         131       Additional deduction for the blind...........  .......  .......  .........  .........  .........  .........  .........  .........         30         40         40         40         40         40         40        200
         132       Additional deduction for the elderly.........  .......  .......  .........  .........  .........  .........  .........  .........      1,700      1,810      1,960      1,940      1,900      1,930      1,950      9,680
         133       Tax credit for the elderly and disabled......  .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         10         10         10         70
         134       Deductibility of casualty losses.............  .......  .......  .........  .........  .........  .........  .........  .........        550        250        270        280        290        300        320      1,460
         135       Earned income tax credit \4\.................  .......  .......  .........  .........  .........  .........  .........  .........      4,893      4,983      5,423      5,168      5,287      5,480      5,597     26,955

    [[Page 323]]

                 Social Security
                   Exclusion of social security benefits
         136        Social Security benefits for retired workers  .......  .......  .........  .........  .........  .........  .........  .........     19,200     19,480     19,770     20,470     20,900     21,260     23,720    106,120
         137        Social Security benefits for disabled.......  .......  .......  .........  .........  .........  .........  .........  .........      3,580      3,740      3,870      4,110      4,290      4,500      4,910     21,680
         138        Social Security benefits for dependents and   .......  .......  .........  .........  .........  .........  .........  .........      4,140      4,120      3,990      4,030      3,880      3,920      4,060     19,880
                     survivors..................................

                 Veterans benefits and services
         139       Exclusion of veterans death benefits and       .......  .......  .........  .........  .........  .........  .........  .........      3,300      3,560      3,750      4,030      4,190      4,360      4,520     20,850
                    disability compensation.....................
         140       Exclusion of veterans pensions...............  .......  .......  .........  .........  .........  .........  .........  .........        110        120        120        120        120        130        140        630
         141       Exclusion of GI bill benefits................  .......  .......  .........  .........  .........  .........  .........  .........        130        150        160        170        180        190        200        900
         142       Exclusion of interest on veterans housing           10       10         10         10         10         10         10         50         40         40         40         50         50         50         50        240
                    bonds.......................................

                 General purpose fiscal assistance
         143       Exclusion of interest on public purpose State    6,210    6,390      6,580      6,780      6,990      7,190      7,410     34,950     19,940     20,140     20,030     19,570     20,150     20,760     21,380    101,890
                    and local bonds.............................
         144       Deductibility of nonbusiness state and local   .......  .......  .........  .........  .........  .........  .........  .........     45,290     39,090     34,620     32,890     31,850     31,760     32,120    163,240
                    taxes other than on owner-occupied homes....
         145       Tax credit for corporations receiving income     1,000      900        500         50  .........  .........  .........        550  .........  .........  .........  .........  .........  .........  .........  .........
                    from doing business in U.S. possessions.....

                 Interest
         146       Deferral of interest on U.S. savings bonds...  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         60         70         70        300

                 Addendum: Aid to State and local governments
                   Deductibility of:
                    Property taxes on owner-occupied homes......  .......  .......  .........  .........  .........  .........  .........  .........     19,930     16,590     14,830     14,110     13,400     13,000     12,800     68,140
                    Nonbusiness State and local taxes other than  .......  .......  .........  .........  .........  .........  .........  .........     45,290     39,090     34,620     32,890     31,850     31,760     32,120    163,240
                     on owner-occupied homes....................
                   Exclusion of interest on State and local
                    bonds for:
                    Public purposes.............................    6,210    6,390      6,580      6,780      6,990      7,190      7,410     34,950     19,940     20,140     20,030     19,570     20,150     20,760     21,380    101,890
                    Energy facilities...........................       20       20         20         20         20         20         20        100         80         80         90         90        100        100        110        490
                    Water, sewage, and hazardous waste disposal       110      110        110        120        120        120        130        600        390        420        460        480        510        530        550      2,530
                     facilities.................................
                    Small-issues................................      100      100        100        100        110        110        110        530        350        390        410        440        470        480        500      2,300
                    Owner-occupied mortgage subsidies...........      220      230        230        240        250        250        260      1,230        800        880        950        990      1,070      1,100      1,130      5,240
                    Rental housing..............................       80       80         80         80         90         90         90        430        280        310        330        340        370        380        390      1,810
                    Airports, docks, and similar facilities.....      180      190        190        200        210        210        220      1,030        670        740        790        830        890        920        950      4,380
                    Student loans...............................       60       60         70         70         70         70         70        350        230        250        270        280        300        310        320      1,480
                    Private nonprofit educational facilities....      210      210        220        230        230        240        250      1,170        760        840        900        950      1,020      1,050      1,080      5,000
                    Hospital construction.......................      400      410        430        440        450        460        480      2,260      1,470      1,610      1,730      1,820      1,950      2,010      2,070      9,580
                    Veterans' housing...........................       10       10         10         10         10         10         10         50         40         40         40         50         50         50         50        240
                   Credit for holders of zone academy bonds.....       90      110        130        130        140        140        140        680  .........  .........  .........  .........  .........  .........  .........  .........
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ In addition, the partial exemption from the excise tax and excise credits for alcohol fuels result in a reduction in excise tax receipts (in millions of dollars) as follows: 2004 $1,450; 2005 $1,490; 2006 $1,550; 2007 $1,590;
      2008 $1,620; 2009 $1,650; and 2010 $1,680.
    \2\ The figures in the table indicate the effect of the child tax credit on receipts. The effect of the credit on outlays (in millions of dollars) is as follows: 2004 $8,857; 2005 $13,516; 2006 $13,180; 2007 $12,549; 2008 $12,040;
      2009 $11,693 and 2010 $11,364
    \3\ In addition to the receipts shown, there are outlays of $70 million in 2004, $90 million in 2005, $100 million in 2006, $120 million in 2007, $130 million in 2008, and $140 million in 2009 and $150 million in 2010 projected.
    \4\ The figures in the table indicate the effect of the earned income tax credit on receipts. The effect of the credit on outlays (in millions of dollars) is as follows: 2004 $33,134;2005 $33,790; 2006 $34,132; 2007 $34,481; 2008
      $34,723; 2009 $35,517; and 2010 $36,099.
    Note: Provisions with estimates denoted normal tax method have no revenue loss under the reference tax law method.
    All estimates have been rounded to the nearest $10 million. Provisions with estimates that rounded to zero in each year are not included in the table.

    [[Page 324]]

                Table 19-3.  INCOME TAX EXPENDITURES RANKED BY TOTAL 2006-2010 PROJECTED REVENUE EFFECTS
                                                (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------
                                       Provision                                          2006           2006-10
    ----------------------------------------------------------------------------------------------------------------
    Exclusion of employer contributions for medical insurance premiums and medical     125,690          760,240
     care.........................................................................
    Deductibility of mortgage interest on owner-occupied homes....................      76,030          445,540
    Net exclusion of pension contributions and earnings: 401(k) plans.............      48,140          283,410
    Capital gains exclusion on home sales.........................................      36,270          247,180
    Net exclusion of pension contributions and earnings: Employer plans...........      51,050          241,030
    Deductibility of charitable contributions, other than education and health....      32,550          185,460
    Exclusion of net imputed rental income on owner-occupied homes................      29,720          185,206
    Step-up basis of capital gains at death.......................................      28,760          164,420
    Child credit..................................................................      32,810          164,030
    Deductibility of nonbusiness State and local taxes other than on owner-             34,620          163,240
     occupied homes...............................................................
    Capital gains (except agriculture, timber, iron ore, and coal)................      28,370          144,190
    Exclusion of interest on life insurance savings...............................      24,070          143,610
    Exclusion of interest on public purpose State and local bonds.................      26,610          136,840
    Social Security benefits for retired workers..................................      19,770          106,120
    Deductibility of State and local property tax on owner-occupied homes.........      14,830           68,140
    Net exclusion of pension contributions and earnings: Keough plans.............       9,980           58,670
    Deductibility of medical expenses.............................................       9,140           54,770
    Deduction for U.S. production activities......................................       5,420           52,930
    Deferral of income from controlled foreign corporations (normal tax method)...       7,440           42,740
    Net exclusion of pension contributions and earnings: Individual Retirement           7,310           32,850
     Accounts.....................................................................
    Exclusion of workers' compensation benefits...................................       5,940           31,590
    Expensing of research and experimentation expenditures (normal tax method)....       7,920           31,330
    Earned income tax credit......................................................       5,423           26,955
    Self-employed medical insurance premiums......................................       4,330           26,400
    Exception from passive loss rules for $25,000 of rental loss..................       4,750           22,060
    Credit for low-income housing investments.....................................       4,010           22,050
    Social Security benefits for disabled.........................................       3,870           21,680
    Deductibility of charitable contributions (education).........................       3,680           21,390
    Deductibility of charitable contributions (health)............................       3,670           20,930
    Exclusion of veterans death benefits and disability compensation..............       3,750           20,850
    Social Security benefits for dependents and survivors.........................       3,990           19,880
    Graduated corporation income tax rate (normal tax method).....................       3,730           19,630
    HOPE tax credit...............................................................       3,220           16,890
    Medical Savings Accounts / Health Savings Accounts............................       1,830           15,860
    Exclusion of income earned abroad by U.S. citizens............................       2,810           15,570
    Exclusion of reimbursed employee parking expenses.............................       2,730           15,150
    Special ESOP rules............................................................       2,220           12,980
    Exclusion of benefits and allowances to armed forces personnel................       2,520           12,830
    Exclusion of interest on hospital construction bonds..........................       2,160           11,840
    Lifetime Learning tax credit..................................................       2,080           11,560
    Inventory property sales source rules exception...............................       1,770           10,980
    Premiums on group term life insurance.........................................       2,110           10,750
    Credit for child and dependent care expenses..................................       2,810            9,850
    Additional deduction for the elderly..........................................       1,960            9,680
    Parental personal exemption for students age 19 or over.......................       2,110            8,370
    Exclusion of scholarship and fellowship income (normal tax method)............       1,460            8,020
    Exemption of credit union income..............................................       1,390            7,550
    Excess of percentage over cost depletion, fuels...............................       1,350            7,300
    Empowerment zones, Enterprise communities, and Renewal communities............       1,210            6,900
    Exclusion of interest on owner-occupied mortgage subsidy bonds................       1,180            6,470
    Extraterritorial income exclusion.............................................       4,270            6,370
    Exclusion of interest on bonds for private nonprofit educational facilities...       1,120            6,170
    Deferral of income from post 1987 installment sales...........................       1,140            6,010
    Exclusion of interest for airport, dock, and similar bonds....................         980            5,410
    Exclusion of certain allowances for Federal employees abroad..................         950            5,260
    Exclusion of employee meals and lodging (other than military).................         890            4,860
    Employer provided child care exclusion........................................         810            4,780
    State prepaid tuition plans...................................................         650            4,150
    Deductibility of student-loan interest........................................         800            4,100
    Capital gains treatment of certain income.....................................         760            3,870
    New markets tax credit........................................................         610            3,770
    Credit for increasing research activities.....................................       2,140            3,670
    New technology credit.........................................................         620            3,630
    Exclusion for employer-provided transit passes................................         550            3,560
    Exclusion of employer-provided educational assistance.........................         590            3,270
    Deferred taxes for financial firms on certain income earned overseas..........       2,260            3,220
    Exclusion of interest on bonds for water, sewage, and hazardous waste                  570            3,130
     facilities...................................................................
    Adoption credit and exclusion.................................................         540            2,850
    Exclusion of interest on small issue bonds....................................         510            2,830

    [[Page 325]]

    Exclusion of parsonage allowances.............................................         480            2,720
    Alternative fuel production credit............................................       1,040            2,500
    Exclusion of public assistance benefits (normal tax method)...................         450            2,400
    Exclusion of certain foster care payments.....................................         440            2,270
    Exclusion of interest on rental housing bonds.................................         410            2,240
    Carryover basis of capital gains on gifts.....................................         290            2,170
    Assistance for adopted foster children........................................         350            2,110
    Exclusion of railroad retirement system benefits..............................         400            2,000
    Expensing of multiperiod timber growing costs.................................         370            1,990
    Special Blue Cross/Blue Shield deduction......................................         360            1,890
    Low and moderate income savers credit.........................................       1,170            1,870
    Deduction for higher education expenses.......................................       1,840            1,840
    Exclusion of interest on student-loan bonds...................................         340            1,830
    Tax incentives for preservation of historic structures........................         330            1,810
    Enhanced oil recovery credit..................................................         340            1,810
    Capital gains exclusion of small corporation stock............................         250            1,720
    Premiums on accident and disability insurance.................................         290            1,550
    Education Individual Retirement Accounts......................................         190            1,540
    Expensing of certain small investments (normal tax method)....................       1,650            1,500
    Tax credit for orphan drug research...........................................         230            1,470
    Deductibility of casualty losses..............................................         270            1,460
    Expensing of exploration and development costs, nonfuel minerals..............         250            1,290
    Expensing of exploration and development costs, fuels.........................         370            1,220
    Tax exemption of certain insurance companies owned by tax-exempt organizations         210            1,170
    Exclusion of GI bill benefits.................................................         160              900
    Small business retirement plan credit.........................................         120              700
    Credit for holders of zone academy bonds......................................         130              680
    Expensing of certain capital outlays..........................................         130              670
    Exclusion of veterans pensions................................................         120              630
    Exclusion of interest on energy facility bonds................................         110              590
    Work opportunity tax credit...................................................         280              570
    Exclusion of military disability pensions.....................................         110              570
    Tax credit for corporations receiving income from doing business in U.S.               500              550
     possessions..................................................................
    Tax credit for certain expenditures for maintaining railroad tracks...........         140              480
    Exclusion of conservation subsidies provided by public utilities..............         100              470
    Small life insurance company deduction........................................          80              400
    Capital gains treatment of royalties on coal..................................          80              390
    Capital gains treatment of certain timber income..............................          80              390
    Expensing of certain multiperiod production costs.............................          70              380
    Exemption of certain mutuals' and cooperatives' income........................          60              340
    Deferral of interest on U.S. savings bonds....................................          50              300
    Exclusion of interest on veterans housing bonds...............................          50              290
    Ordinary income treatment of loss from small business corporation stock sale..          50              250
    Exceptions from imputed interest rules........................................          50              250
    Tax credit for health insurance purchased by certain displaced and retired              40              220
     individuals..................................................................
    Exclusion of special benefits for disabled coal miners........................          50              220
    Credit for disabled access expenditures.......................................          40              220
    Investment credit for rehabilitation of structures (other than historic)......          40              200
    Income averaging for farmers..................................................          40              200
    Additional deduction for the blind............................................          40              200
    Cancellation of indebtedness..................................................          30              190
    Alcohol fuel credits..........................................................          30              180
    Welfare-to-work tax credit....................................................          80              170
    Special deduction for teacher expenses........................................         150              150
    Special rules for certain film and TV production..............................         110              140
    Income of trusts to finance supplementary unemployment benefits...............          20              100
    Exclusion of interest on savings bonds redeemed to finance educational                  20              100
     expenses.....................................................................
    Exception from passive loss limitation for working interests in oil and gas             20              100
     properties...................................................................
    Discharge of student loan indebtedness........................................          20              100
    Deferral of tax on shipping companies.........................................          20              100
    Expensing of capital costs with respect to complying with EPA sulfur            ...............          90
     regulations..................................................................
    Deferral of gain on sale of farm refiners.....................................          10               90
    Tax credit for the elderly and disabled.......................................          20               70
    Treatment of loans forgiven for solvent farmers...............................          10               50
    Special alternative tax on small property and casualty insurance companies....          10               50
    Employer-provided child care credit...........................................          10               50
    Bio-Diesel tax credit.........................................................          30               40

    [[Page 326]]

    Excess of percentage over cost depletion, nonfuel minerals....................  ...............          10
    Expensing of environmental remediation costs..................................          20              -30
    Excess bad debt reserves of financial institutions............................         -10              -30
    Exclusion of gain or loss on sale or exchange of certain brownfield sites.....  ...............        -120
    Tax credit and deduction for clean-fuel burning vehicles......................          50             -180
    Amortization of start-up costs (normal tax method)............................  ...............        -440
    Deferral of capital gains with respect of dispositions of transmission                -620             -920
     property.....................................................................
    Accelerated depreciation of buildings other than rental housing (normal tax         -4,786          -58,061
     method)......................................................................
    Accelerated depreciation of machinery and equipment (normal tax method).......     -37,830         -148,650
    ----------------------------------------------------------------------------------------------------------------

               Table 19-4.  PRESENT VALUE OF SELECTED TAX EXPENDITURES FOR ACTIVITY IN CALENDAR YEAR 2004
                                                (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------
                                                                                                       2004  Present
                                                     Provision                                           Value  of
                                                                                                        Revenue Loss
    ----------------------------------------------------------------------------------------------------------------
           1     Deferral of income from controlled foreign corporations (normal tax method).........      6,360
           2     Deferred taxes for financial firms on income earned overseas........................      2,160
           3     Expensing of research and experimentation expenditures (normal tax method)..........      2,220
           4     Expensing of exploration and development costs--fuels...............................        160
           5     Expensing of exploration and development costs--nonfuels............................  .............
           6     Expensing of multiperiod timber growing costs.......................................        200
           7     Expensing of certain multiperiod production costs--agriculture......................        140
           8     Expensing of certain capital outlays--agriculture...................................        180
           9     Deferral of income on life insurance and annuity contracts..........................     25,020
          10     Accelerated depreciation on rental housing..........................................      5,210
          11     Accelerated depreciation of buildings other than rental.............................        543
          12     Accelerated depreciation of machinery and equipment.................................     39,380
          13     Expensing of certain small investments (normal tax method)..........................        670
          14     Amortization of start-up costs (normal tax method)..................................         50
          15     Deferral of tax on shipping companies...............................................         20
          16     Credit for holders of zone academy bonds............................................        200
          17     Credit for low-income housing investments...........................................      3,870
          18     Deferral for State prepaid tuition plans............................................      1,310
          19     Exclusion of pension contributions--employer plans..................................     85,040
          20     Exclusion of 401(k) contributions...................................................     82,400
          21     Exclusion of IRA contributions and earnings.........................................      3,460
          22     Exclusion of contributions and earnings for Keogh plans.............................      3,000
          23     Exclusion of interest on public-purpose bonds.......................................     14,650
          24     Exclusion of interest on non-public purpose bonds...................................      5,680
          25     Deferral of interest on U.S. savings bonds..........................................        230
          26     Expensing of capital costs with respect to complying with EPA sulfur regulations....  .............
    ----------------------------------------------------------------------------------------------------------------

    [[Page 327]]

                                                                                       Table 19-5.  OUTLAY EQUIVALENT ESTIMATES OF INCOME TAX EXPENDITURES
                                                                                                            (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                     Corporations                                                                           Individuals
                                                                 ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                    2004     2005      2006       2007       2008       2009       2010     2006-10      2004       2005       2006       2007       2008       2009       2010     2006-10
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                 National Defense
           1       Exclusion of benefits and allowances to armed  .......  .......  .........  .........  .........  .........  .........  .........      2,860      2,880      2,920      2,950      2,980      3,010      3,040     14,900
                    forces personnel............................

                 International affairs
           2       Exclusion of income earned abroad by U.S.      .......  .......  .........  .........  .........  .........  .........  .........      3,530      3,640      3,700      3,880      4,100      4,320      4,560     20,560
                    citizens....................................
           3       Exclusion of certain allowances for Federal    .......  .......  .........  .........  .........  .........  .........  .........      1,100      1,150      1,210      1,280      1,350      1,410      1,490      6,740
                    employees abroad............................
           4       Extraterritorial income exclusion............    8,470    7,950      6,570      2,800        330         50         30      9,780  .........  .........  .........  .........  .........  .........  .........  .........
           5       Inventory property sales solurce rules           2,310    2,490      2,720      3,000      3,390      3,740      4,050     16,900  .........  .........  .........  .........  .........  .........  .........  .........
                    exception...................................
           6       Deferral of income from controlled foreign       7,240    7,000      7,440      7,960      8,510      9,100      9,730     42,740  .........  .........  .........  .........  .........  .........  .........  .........
                    corporations (normal tax method)............
           7       Deferred taxes for financial firms on certain    2,130    2,190      2,260        960  .........  .........  .........      3,220  .........  .........  .........  .........  .........  .........  .........  .........
                    income earned overseas......................

                 General science, space, and technology
           8       Expensing of research and experimentation       -2,280    4,010      7,770      6,850      6,140      5,250      4,700     30,710        -50        100        150        140        120        110        100        620
                    expenditures (normal tax method)............
           9       Credit for increasing research activities....    7,120    7,820      3,230      1,400        590        270         70      5,560         80         80         60  .........  .........  .........  .........         60

                 Energy
          10       Expensing of exploration and development           230      350        330        250        210        180        140      1,110         40         70         60         50         40         30         30        210
                    costs, fuels................................
          11       Excess of percentage over cost depletion,        1,570    1,570      1,690      1,760      1,820      1,880      1,910      9,060        140        140        150        150        170        170        180        820
                    fuels.......................................
          12       Alternative fuel production credit...........    1,330    1,330      1,330      1,330        530  .........  .........      3,190         70         70         70         70         30  .........  .........        170
          13       Exception from passive loss limitation for     .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                    working interests in oil and gas properties.
          14       Capital gains treatment of royalties on coal.  .......  .......  .........  .........  .........  .........  .........  .........        100        100        110        110        140        100         90        550
          15       Exclusion of interest on energy facility            30       30         30         30         30         30         30        150        120        120        130        130        140        140        160        700
                    bonds.......................................
          16       Enhanced oil recovery credit.................      400      410        420        430        440        450        460      2,200         10         10         10         10         10         10         10         50
          17       New technology credit........................      470      680        880      1,000      1,130      1,160        970      5,140  .........  .........  .........  .........  .........  .........  .........  .........
          18       Alcohol fuel credits \1\.....................       20       20         20         20         30         30         30        130         10         10         10         10         10         10         10         50
          19       Tax credit and deduction for clean-fuel             30       40         50         30        -10        -30        -10         30         70         50         10        -50        -80        -80        -70       -270
                    burning vehicles............................
          20       Exclusion of utility conservation subsidies..  .......  .......  .........  .........  .........  .........  .........  .........        130        130        130        130        130        120        120        630

                 Natural resources and environment
          21       Expensing of exploration and development            10       10         10         10         10         10         10         50  .........  .........  .........  .........  .........  .........  .........  .........
                    costs, nonfuel minerals.....................
          22       Excess of percentage over cost depletion,          280      280        300        300        320        320        340      1,580         20         20         30         30         30         30         30        150
                    nonfuel minerals............................
          23       Exclusion of interest on bonds for water,          150      150        150        170        170        170        180        840        560        610        670        700        740        770        800      3,680
                    sewage, and hazardous waste facilities......
          24       Capital gains treatment of certain timber      .......  .......  .........  .........  .........  .........  .........  .........        100        100        110        110        140        100         90        550
                    income......................................
          25       Expensing of multiperiod timber growing costs      310      320        330        350        370        380        400      1,830        140        140        140        150        150        150        150        740
          26       Tax incentives for preservation of historic        230      240        250        260        270        290        300      1,370         70         80         80         80         90         90        100        440
                    structures..................................
          27       Expensing of capital costs with respect to     .......       20  .........         10         30         70         10        120  .........  .........  .........  .........  .........  .........  .........  .........
                    complying with EPA sulfur regulations.......
          28       Exclusion of gain or loss on sale or exchange  .......  .......  .........        -10        -20        -30        -50       -110  .........  .........  .........  .........        -10        -10        -20        -40
                    of certain brownfield sites.................

                 Agriculture
          29       Expensing of certain capital outlays.........       20       30         30         30         30         30         30        150        100        110        130        130        130        140        140        670
          30       Expensing of certain multiperiod production         10       10         20         20         20         20         20        100         50         60         70         70         80         80         80        380
                    costs.......................................
          31       Treatment of loans forgiven for solvent        .......  .......  .........  .........  .........  .........  .........  .........         10         10         10         10         10         10         10         50
                    farmers.....................................
          32       Capital gains treatment of certain income....  .......  .......  .........  .........  .........  .........  .........  .........        960      1,040      1,090      1,170      1,410      1,030        830      5,530
          33       Income averaging for farmers.................  .......  .......  .........  .........  .........  .........  .........  .........         40         40         40         40         50         50         50        230
          34       Deferral of gain on sale of farm refiners....       20       20         20         20         20         20         20        100  .........  .........  .........  .........  .........  .........  .........  .........
          35       Bio-Diesel tax credit........................  .......  .......  .........  .........  .........  .........  .........  .........  .........         40         40         10  .........  .........  .........         50

                 Commerce and housing
                   Financial institutions and insurance:
          36        Exemption of credit union income............    1,620    1,690      1,760      1,840      1,920      2,000      2,080      9,600  .........  .........  .........  .........  .........  .........  .........  .........
          37        Bad debt reserves of financial institutions.      -30      -30        -10        -10        -10  .........  .........        -30  .........  .........  .........  .........  .........  .........  .........  .........
          38        Exclusion of interest on life insurance         2,280    2,450      2,520      2,840      3,180      3,380      3,660     15,580     21,380     23,090     24,260     26,130     28,560     30,690     33,310    142,950
                     savings....................................
          39        Special alternative tax on small property          10       10         10         10         10         10         10         50  .........  .........  .........  .........  .........  .........  .........  .........
                     and casualty insurance companies...........
          40        Tax exemption of certain insurance companies      270      290        320        330        350        380        400      1,780  .........  .........  .........  .........  .........  .........  .........  .........
                     owned by tax-exempt organizations..........
          41        Small life insurance company deduction......      120      120        120        120        120        120        120        600  .........  .........  .........  .........  .........  .........  .........  .........
                   Housing:
          42        Exclusion of interest on owner-occupied           310      320        320        330        350        350        360      1,710      1,160      1,270      1,380      1,430      1,550      1,590      1,640      7,590
                     mortgage subsidy bonds.....................

    [[Page 328]]

          43        Exclusion of interest on rental housing           110      110        110        110        120        120        120        580        410        450        480        490        540        550        560      2,620
                     bonds......................................
          44        Deductibility of mortgage interest on owner-  .......  .......  .........  .........  .........  .........  .........  .........     61,450     68,870     76,030     81,990     88,990     95,770    102,760    445,540
                     occupied homes.............................
          45        Deductibility of State and local property     .......  .......  .........  .........  .........  .........  .........  .........     19,930     16,590     14,830     14,110     13,400     13,000     12,800     68,140
                     tax on owner-occupied homes................
          46        Deferral of income from post 1987                 290      290        300        300        310        310        320      1,540        810        830        840        860        880        890        890      4,360
                     installment sales..........................
          47        Capital gains exclusion on home sales.......  .......  .......  .........  .........  .........  .........  .........  .........     34,980     38,630     42,670     47,120     52,050     68,320     89,950    300,110
          48        Exclusion of net imputed rental income......  .......  .......  .........  .........  .........  .........  .........  .........     32,790     38,130     39,630     44,280     49,150     54,170     59,710    246,940
          49        Exception from passive loss rules for         .......  .......  .........  .........  .........  .........  .........  .........      5,030      4,900      4,750      4,580      4,410      4,240      4,240     22,220
                     $25,000 of rental loss.....................
          50        Credit for low-income housing investments...    3,910    4,110      4,290      4,470      4,680      4,920      5,170     23,530      1,050      1,100      1,150      1,200      1,250      1,320      1,380      6,300
          51        Accelerated depreciation on rental housing         -8      -46        -98       -143       -197       -275       -389     -1,102        758       -110       -895     -1,703     -2,500     -3,686     -5,512    -14,296
                     (normal tax method)........................
                   Commerce:
          52        Cancellation of indebtedness................  .......  .......  .........  .........  .........  .........  .........  .........         30         30         30         40         40         40         40        190
          53        Exceptions from imputed interest rules......  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         50         50         50        250
          54        Capital gains (except agriculture, timber,    .......  .......  .........  .........  .........  .........  .........  .........     35,930     38,860     40,530     43,500     52,620     38,430     30,900    205,980
                     iron ore, and coal)........................
          55        Capital gains exclusion of small corporation  .......  .......  .........  .........  .........  .........  .........  .........        220        270        340        400        460        530        610      2,340
                     stock......................................
          56        Step-up basis of capital gains at death.....  .......  .......  .........  .........  .........  .........  .........  .........     32,260     34,860     38,340     42,180     46,390     47,410     44,910    219,230
          57        Carryover basis of capital gains on gifts...  .......  .......  .........  .........  .........  .........  .........  .........        250        280        340        350        370        530      1,060      2,650
          58        Ordinary income treatment of loss from small  .......  .......  .........  .........  .........  .........  .........  .........         60         60         60         60         60         60         60        300
                     business corporation stock sale............
          59        Accelerated depreciation of buildings other    -2,980   -3,850     -4,340     -6,170     -9,220    -12,620    -17,320    -49,670       -280       -330       -450       -760     -1,140     -2,110     -3,930     -8,390
                     than rental housing (normal tax method)....
          60        Accelerated depreciation of machinery and      37,080   -8,780    -32,880    -26,480    -23,310    -21,260    -20,290   -124,230      7,610     -2,220     -4,950     -4,440     -4,640     -4,930     -5,470    -24,430
                     equipment (normal tax method)..............
          61        Expensing of certain small investments            680    1,780        680       -390       -140        -30        -10        120        840      3,040        970       -100        110        170        240      1,400
                     (normal tax method)........................
          62        Amortization of start-up costs (normal tax         70       40  .........        -40        -80       -120       -150       -390         10         10  .........  .........        -10        -20        -20        -50
                     method)....................................
          63        Graduated corporation income tax rate           3,760    4,910      5,730      5,880      6,030      6,180      6,360     30,180  .........  .........  .........  .........  .........  .........  .........  .........
                     (normal tax method)........................
          64        Exclusion of interest on small issue bonds..      140      140        140        140        150        150        150        730        510        560        590        640        680        700        720      3,330
          65        Deduction for U.S. production activities....  .......    3,420      5,780      9,480     12,170     12,620     17,150     57,200  .........        950      1,460      2,180      2,800      2,940      4,000     13,380
          66        Special rules for certain film and TV         .......       70         90         70         60        -30        -70        120  .........         20         20         20         10        -10        -20         20
                     production.................................

                 Transportation
          67       Deferral of tax on shipping companies........       20       20         20         20         20         20         20        100  .........  .........  .........  .........  .........  .........  .........  .........
          68       Exclusion of reimbursed employee parking       .......  .......  .........  .........  .........  .........  .........  .........      3,190      3,350      3,530      3,710      3,900      4,100      4,300     19,540
                    expenses....................................
          69       Exclusion for employer-provided transit        .......  .......  .........  .........  .........  .........  .........  .........        510        600        690        790        890        980      1,100      4,450
                    passes......................................
          70       Tax credit for certain expenditures for        .......      100        190        200        140         70         30        630  .........  .........  .........  .........  .........  .........  .........  .........
                    maintaining railroad tracks.................

                 Community and regional development
          71       Investment credit for rehabilitation of             20       20         20         20         20         20         20        100         20         20         20         20         20         20         20        100
                    structures (other than historic)............
          72       Exclusion of interest for airport, dock, and       250      260        260        280        290        290        310      1,430        970      1,070      1,140      1,200      1,290      1,330      1,380      6,340
                    similar bonds...............................
          73       Exemption of certain mutuals' and                   70       70         70         80         80         80         80        390  .........  .........  .........  .........  .........  .........  .........  .........
                    cooperatives' income........................
          74       Empowerment zones, Enterprise communities and      280      290        310        340        370        420        190      1,630        800        830        900      1,000      1,110      1,320        940      5,270
                    Renewal communities.........................
          75       New markets tax credit.......................       70      110        150        210        220        200        170        950        220        320        460        620        650        590        500      2,820
          76       Expensing of environmental remediation costs.       90       80         20        -20        -20        -20        -20        -60         20         20  .........  .........  .........  .........  .........  .........
          77       Deferral of capital gains with respect of      .......     -490       -620       -530       -230        100        360       -920  .........  .........  .........  .........  .........  .........  .........  .........
                    dispositions of transmission property.......

                 Education, training, employment, and social
                  services
                   Education:
          78        Exclusion of scholarship and fellowship       .......  .......  .........  .........  .........  .........  .........  .........      1,450      1,540      1,610      1,680      1,760      1,840      1,930      8,820
                     income (normal tax method).................
          79        HOPE tax credit.............................  .......  .......  .........  .........  .........  .........  .........  .........      4,260      4,380      4,130      4,260      4,300      4,380      4,590     21,660
          80        Lifetime Learning tax credit................  .......  .......  .........  .........  .........  .........  .........  .........      2,800      2,730      2,660      2,960      3,000      3,050      3,150     14,820
          81        Education Individual Retirement Accounts....  .......  .......  .........  .........  .........  .........  .........  .........        130        180        240        310        390        470        570      1,980
          82        Deductibility of student-loan interest......  .......  .......  .........  .........  .........  .........  .........  .........        900        930        960        970        980        990      1,000      4,900
          83        Deduction for higher education expenses.....  .......  .......  .........  .........  .........  .........  .........  .........      1,640      2,340      2,360  .........  .........  .........  .........      2,360
          84        State prepaid tuition plans.................  .......  .......  .........  .........  .........  .........  .........  .........        270        620        830        950      1,070      1,180      1,300      5,330
          85        Exclusion of interest on student-loan bonds.       80       80        100        100        100        100        100        500        330        360        390        410        430        450        460      2,140
          86        Exclusion of interest on bonds for private        290      290        310        320        320        330        350      1,630      1,100      1,220      1,300      1,380      1,480      1,520      1,560      7,240
                     nonprofit educational facilities...........
          87        Credit for holders of zone academy bonds....      130      160        180        190        200        200        190        960  .........  .........  .........  .........  .........  .........  .........  .........

    [[Page 329]]

          88        Exclusion of interest on savings bonds        .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                     redeemed to finance educational expenses...
          89        Parental personal exemption for students age  .......  .......  .........  .........  .........  .........  .........  .........      3,550      2,960      2,340      2,040      1,800      1,600      1,480      9,260
                     19 or over.................................
          90        Deductibility of charitable contributions         510      540        560        590        620        660        700      3,130      3,180      2,880      3,120      3,440      3,640      3,890      3,890     17,980
                     (education)................................
          91        Exclusion of employer-provided educational    .......  .......  .........  .........  .........  .........  .........  .........        650        690        730        770        810        850        890      4,050
                     assistance.................................
          92        Special deduction for teacher expenses......  .......  .......  .........  .........  .........  .........  .........  .........        190        200        180  .........  .........  .........  .........        180
          93        Discharge of student loan indebtedness......  .......  .......  .........  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20        100
                   Training, employment, and social services:
          94        Work opportunity tax credit.................      240      210        240        160         50         30         10        490         40         40         40         30         10  .........  .........         80
          95        Welfare-to-work tax credit..................       50       50         70         50         20         10  .........        150         10         10         10         10  .........  .........  .........         20
          96        Exclusion of employer provided child care...  .......  .......  .........  .........  .........  .........  .........  .........        800        830      1,080      1,240      1,290      1,350      1,410      6,370
          97        Employer-provided child care................        6       11         13         15         17         18         20         83  .........  .........  .........  .........  .........  .........  .........  .........
          98        Assistance for adopted foster children......  .......  .......  .........  .........  .........  .........  .........  .........        330        350        390        430        470        520        570      2,380
          99        Adoption credit and exclusion...............  .......  .......  .........  .........  .........  .........  .........  .........        570        640        690        710        730        750        760      3,640
         100        Exclusion of employee meals and lodging       .......  .......  .........  .........  .........  .........  .........  .........        990      1,030      1,080      1,130      1,180      1,230      1,290      5,910
                     (other than military)......................
         101        Child credit \2\............................  .......  .......  .........  .........  .........  .........  .........  .........     25,950     39,010     32,280     31,960     31,450     31,450     31,450    158,590
         102        Credit for child and dependent care expenses  .......  .......  .........  .........  .........  .........  .........  .........      3,990      4,190      3,750      2,530      2,400      2,280      2,170     13,130
         103        Credit for disabled access expenditures.....       20       20         20         20         20         20         20        100         30         30         40         40         40         40         40        200
         104        Deductibility of charitable contributions,      1,170    1,230      1,290      1,360      1,430      1,500      1,570      7,150     26,200     28,440     31,260     33,140     35,360     37,910     37,910    175,580
                     other than education and health............
         105        Exclusion of certain foster care payments...  .......  .......  .........  .........  .........  .........  .........  .........        510        510        510        510        520        530        540      2,610
         106        Exclusion of parsonage allowances...........  .......  .......  .........  .........  .........  .........  .........  .........        520        550        590        630        660        710        750      3,340

                 Health
         107       Exclusion of employer contributions for        .......  .......  .........  .........  .........  .........  .........  .........    126,660    139,650    158,980    177,050    195,850    214,730    228,090    974,700
                    medical insurance premiums and medical care.
         108       Self-employed medical insurance premiums.....  .......  .......  .........  .........  .........  .........  .........  .........      4,140      4,730      5,480      6,110      6,700      7,360      7,990     33,640
         109       Medical Savings Accounts Health Savings        .......  .......  .........  .........  .........  .........  .........  .........        520      1,040      1,670      2,450      3,150      3,540      3,520     14,330
                    Accounts....................................
         110       Deductibility of medical expenses............  .......  .......  .........  .........  .........  .........  .........  .........      7,930      9,280      9,880     10,780     12,050     12,910     13,750     59,370
         111       Exclusion of interest on hospital                  560      570        600        610        620        640        670      3,140      2,130      2,330      2,510      2,640      2,820      2,910      3,000     13,880
                    construction bonds..........................
         112       Deductibility of charitable contributions          150      160        160        170        180        190        200        900      2,940      3,190      3,510      3,720      3,970      4,260      4,260     19,720
                    (health)....................................
         113       Tax credit for orphan drug research..........      280      310        350        390        430        480        540      2,190  .........  .........  .........  .........  .........  .........  .........  .........
         114       Special Blue Cross/Blue Shield deduction.....      570      560        510        560        490        530        610      2,700  .........  .........  .........  .........  .........  .........  .........  .........
         115       Tax credit for health insurance purchased by   .......  .......  .........  .........  .........  .........  .........  .........         50         60         40         40         50         50         50        230
                    certain displaced and retired individuals
                    \3\.........................................

                 Income security
         116       Exclusion of railroad retirement system        .......  .......  .........  .........  .........  .........  .........  .........        400        400        400        400        400        400        400      2,000
                    benefits....................................
         117       Exclusion of workers' compensation benefits..  .......  .......  .........  .........  .........  .........  .........  .........      5,490      5,730      5,940      6,100      6,300      6,520      6,730     31,590
         118       Exclusion of public assistance benefits        .......  .......  .........  .........  .........  .........  .........  .........        410        430        450        470        490        510        480      2,400
                    (normal tax method).........................
         119       Exclusion of special benefits for disabled     .......  .......  .........  .........  .........  .........  .........  .........         60         50         50         50         40         40         40        220
                    coal miners.................................
         120       Exclusion of military disability pensions....  .......  .......  .........  .........  .........  .........  .........  .........        100        100        110        110        110        120        120        570
                   Net exclusion of pension contributions and
                    earnings:
         121        Employer plans..............................  .......  .......  .........  .........  .........  .........  .........  .........     57,280     61,380     62,260     64,110     57,960     55,260     54,350    293,940
         122        401(k) plans................................  .......  .......  .........  .........  .........  .........  .........  .........     58,210     55,940     58,710     63,170     68,460     74,300     80,980    345,620
         123        Individual Retirement Accounts..............  .......  .......  .........  .........  .........  .........  .........  .........      8,470      9,300      9,140      9,120      8,730      8,340      7,790     43,120
         124        Low and moderate income savers credit.......  .......  .......  .........  .........  .........  .........  .........  .........      1,150      1,310      1,380        830  .........  .........  .........      2,210
         125        Keogh plans.................................  .......  .......  .........  .........  .........  .........  .........  .........     11,170     11,800     12,500     13,290     14,490     15,780     17,200     73,260
                   Exclusion of other employee benefits:
         126        Premiums on group term life insurance.......  .......  .......  .........  .........  .........  .........  .........  .........      2,660      2,690      2,700      2,700      2,750      2,790      2,830     13,770
         127        Premiums on accident and disability           .......  .......  .........  .........  .........  .........  .........  .........        350        370        390        400        410        430        440      2,070
                     insurance..................................
         128       Small business retirement plan credit........       60       70         90        100        110        110        100        510         50         70         80        100        100        100        100        480
         129       Income of trusts to finance supplementary      .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                    unemployment benefits.......................
         130       Special ESOP rules...........................    2,550    2,740      2,970      3,210      3,460      3,750      4,070     17,460        510        540        550        590        620        610        610      2,980
         131       Additional deduction for the blind...........  .......  .......  .........  .........  .........  .........  .........  .........         40         40         50         40         50         50         50        240
         132       Additional deduction for the elderly.........  .......  .......  .........  .........  .........  .........  .........  .........      2,060      2,190      2,370      2,350      2,290      2,330      2,360     11,700
         133       Tax credit for the elderly and disabled......  .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         10         10         80
         134       Deductibility of casualty losses.............  .......  .......  .........  .........  .........  .........  .........  .........        610        270        290        280        290        300        320      1,480
         135       Earned income tax credit \4\.................  .......  .......  .........  .........  .........  .........  .........  .........      5,437      5,536      6,026      5,742      5,874      6,089      5,868     29,599

                 Social Security
                   Exclusion of social security benefits:

    [[Page 330]]

         136        Social Security benefits for retired workers  .......  .......  .........  .........  .........  .........  .........  .........     19,200     19,480     19,770     20,470     20,900     21,260     23,720    106,120
         137        Social Security benefits for disabled.......  .......  .......  .........  .........  .........  .........  .........  .........      3,580      3,740      3,870      4,110      4,290      4,500      4,910     21,680
         138        Social Security benefits for dependents and   .......  .......  .........  .........  .........  .........  .........  .........      4,140      4,120      3,990      4,030      3,880      3,920      4,060     19,880
                     survivors..................................

                 Veterans benefits and services
         139       Exclusion of veterans death benefits and       .......  .......  .........  .........  .........  .........  .........  .........      3,300      3,560      3,750      4,030      4,190      4,360      4,520     20,850
                    disability compensation.....................
         140       Exclusion of veterans pensions...............  .......  .......  .........  .........  .........  .........  .........  .........        110        120        120        120        120        130        140        630
         141       Exclusion of GI bill benefits................  .......  .......  .........  .........  .........  .........  .........  .........        130        150        160        170        180        190        200        900
         142       Exclusion of interest on veterans housing           10       10         10         10         10         10         10         50         60         60         60         70         70         70         70        340
                    bonds.......................................

                 General purpose fiscal assistance
         143       Exclusion of interest on public purpose State    8,620    8,870      9,130      9,410      9,700      9,980     10,280     48,500     28,880     29,170     29,010     28,340     29,180     30,070     30,970    147,570
                    and local bonds.............................
         144       Deductibility of nonbusiness state and local   .......  .......  .........  .........  .........  .........  .........  .........     45,290     39,090     34,620     32,890     31,850     31,760     32,120    163,240
                    taxes other than on owner-occupied homes....
         145       Tax credit for corporations receiving income     1,430    1,290        720         70  .........  .........  .........        790  .........  .........  .........  .........  .........  .........  .........  .........
                    from doing business in U.S. possessions.....

                 Interest
         146       Deferral of interest on U.S. savings bonds...  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         60         70         70        300

                 Addendum: Aid to State and local governments:
                   Deductibility of:
                    Property taxes on owner-occupied homes......  .......  .......  .........  .........  .........  .........  .........  .........     19,930     16,590     14,830     14,110     13,400     13,000     12,800     68,140
                    Nonbusiness State and local taxes other than  .......  .......  .........  .........  .........  .........  .........  .........     45,290     39,090     34,620     32,890     31,850     31,760     32,120    163,240
                     on owner-occupied homes....................
                   Exclusion of interest on State and local
                    bonds for:
                    Public purposes.............................    8,620    8,870      9,130      9,410      9,700      9,980     10,280     48,500     28,880     29,170     29,010     28,340     29,180     30,070     30,970    147,570
                    Energy facilities...........................       30       30         30         30         30         30         30        150        120        120        130        130        140        140        160        700
                    Water, sewage, and hazardous waste disposal       150      150        150        170        170        170        180        840        560        610        670        700        740        770        800      3,680
                     facilities.................................
                    Small-issues................................      140      140        140        140        150        150        150        730        510        560        590        640        680        700        720      3,330
                    Owner-occupied mortgage subsidies...........      310      320        320        330        350        350        360      1,710      1,160      1,270      1,380      1,430      1,550      1,590      1,640      7,590
                    Rental housing..............................      110      110        110        110        120        120        120        580        410        450        480        490        540        550        560      2,620
                    Airports, docks, and similar facilities.....      250      260        260        280        290        290        310      1,430        970      1,070      1,140      1,200      1,290      1,330      1,380      6,340
                    Student loans...............................       80       80        100        100        100        100        100        500        330        360        390        410        430        450        460      2,140
                    Private nonprofit educational facilities....      290      290        310        320        320        330        350      1,630      1,100      1,220      1,300      1,380      1,480      1,520      1,560      7,240
                    Hospital construction.......................      560      570        600        610        620        640        670      3,140      2,130      2,330      2,510      2,640      2,820      2,910      3,000     13,880
                    Veterans' housing...........................       10       10         10         10         10         10         10         50         60         60         60         70         70         70         70        340
                   Credit for holders of zone academy bonds.....      130      160        180        190        200        200        190        960  .........  .........  .........  .........  .........  .........  .........  .........
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ In addition, the partial exemption from the excise tax and excise credits for alcohol fuels results in a reduction in excise tax receipts (in millions of dollars) as follows: 2004 $1,450; 2005 $1,490; 2006 $1,550; 2007 $1,590;
      2008 $1,620; 2009 $1,650; and 2010 $1,680.
    \2\ The figures in the table indicate the effect of the child tax credit on receipts. The effect of the credit on outlays (in millions of dollars) is as follows: 2004 $8,857; 2005 $13,516; 2006 $13,180; 2007 $12,549; 2008 $12,040;
      2009 $11,693 and 2010 $11,364
    \3\ In addition to the receipts shown, there are outlays of $70 million in 2004, $90 million in 2005, $100 million in 2006, $120 million in 2007, $130 million in 2008, and $140 million in 2009 and $150 million projected.
    \4\ The figures in the table indicate the effect of the earned income tax credit on receipts. The effect of the credit on outlays (in millions of dollars) is as follows: 2004 $33,134;2005 $33,790; 2006 $34,132; 2007 $34,481; 2008
      $34,723; 2009 $35,517; and 2010 $36,099.

                            Tax Expenditure Baselines

      A tax expenditure is an exception to baseline provisions of the tax
    structure. The 1974 Congressional Budget Act, which mandated the tax
    expenditure budget, did not specify the baseline provisions of the tax
    law. As noted previously, deciding whether provisions are exceptions,
    therefore, is a matter of judgment. As in prior years, most of this
    year's tax expenditure estimates are presented using two baselines: the
    normal tax baseline and the reference tax law baseline. An exception is
    provided for the lower tax rate on dividends and capital gains on
    corporate shares as discussed below.
      The normal tax baseline is patterned on a comprehensive income tax,
    which defines income as the sum of consumption and the change in net
    wealth in a given period of time. The normal tax baseline allows
    personal exemptions, a standard deduction, and deductions of the
    expenses incurred in earning income. It is not limited to a particular
    structure of tax rates, or by a specific definition of the taxpaying
    unit.
      In the case of income taxes, the reference tax law baseline is also
    patterned on a comprehensive income tax, but it is closer to existing
    law. Tax expenditures under the reference law baseline are generally tax
    expenditures under the normal tax baseline, but the reverse is not
    always true.
      Both the normal and reference tax baselines allow several major
    departures from a pure comprehensive income tax. For example, under the
    normal and reference tax baselines:

    [[Page 331]]

        Income is taxable only when it is realized in exchange.
              Thus, neither the deferral of tax on unrealized capital gains
              nor the tax exclusion of imputed income (such as the rental
              value of owner-occupied housing or farmers' consumption of
              their own produce) is regarded as a tax expenditure. Both
              accrued and imputed income would be taxed under a
              comprehensive income tax.
        A comprehensive income tax would generally not exclude from
              the tax base amounts for personal exemptions or a standard
              deduction, except perhaps to ease tax administration.
        There generally is a separate corporate income tax.
        Tax rates are allowed to vary with marital status.
        Values of assets and debt are not generally adjusted for
              inflation. A comprehensive income tax would adjust the cost
              basis of capital assets and debt for changes in the price
              level during the time the assets or debt are held. Thus, under
              a comprehensive income tax baseline, the failure to take
              account of inflation in measuring depreciation, capital gains,
              and interest income would be regarded as a negative tax
              expenditure (i.e., a tax penalty), and failure to take account
              of inflation in measuring interest costs would be regarded as
              a positive tax expenditure (i.e., a tax subsidy).

      Although the reference law and normal tax baselines are generally
    similar, areas of difference include:

                Tax rates. The separate schedules applying to the various
              taxpaying units are included in the reference law baseline.
              Thus, corporate tax rates below the maximum statutory rate do
              not give rise to a tax expenditure. The normal tax baseline is
              similar, except that, by convention, it specifies the current
              maximum rate as the baseline for the corporate income tax. The
              lower tax rates applied to the first $10 million of corporate
              income are thus regarded as a tax expenditure. Again by
              convention, the alternative minimum tax is treated as part of
              the baseline rate structure under both the reference and
              normal tax methods.

                Income subject to the tax. Income subject to tax is defined
              as gross income less the costs of earning that income. The
              Federal income tax defines gross income to include: (1)
              consideration received in the exchange of goods and services,
              including labor services or property; and (2) the taxpayer's
              share of gross or net income earned and/or reported by another
              entity (such as a partnership). Under the reference tax rules,
              therefore, gross income does not include gifts defined as
              receipts of money or property that are not consideration in an
              exchange or most transfer payments, which can be thought of as
              gifts from the Government. \1\ The normal tax baseline also
              excludes gifts between individuals from gross income. Under
              the normal tax baseline, however, all cash transfer payments
              from the Government to private individuals are counted in
              gross income, and exemptions of such transfers from tax are
              identified as tax expenditures. The costs of earning income
              are generally deductible in determining taxable income under
              both the reference and normal tax baselines. \2\
    ---------------------------------------------------------------------------
      \1\ Gross income does, however, include transfer payments associated
    with past employment, such as Social Security benefits.
      \2\ In the case of individuals who hold ``passive'' equity interests
    in businesses, however, the pro-rata shares of sales and expense
    deductions reportable in a year are limited. A passive business activity
    is defined to be one in which the holder of the interest, usually a
    partnership interest, does not actively perform managerial or other
    participatory functions. The taxpayer may generally report no larger
    deductions for a year than will reduce taxable income from such
    activities to zero. Deductions in excess of the limitation may be taken
    in subsequent years, or when the interest is liquidated. In addition,
    costs of earning income may be limited under the alternative minimum
    tax.
    ---------------------------------------------------------------------------
                Capital recovery. Under the reference tax law baseline no
              tax expenditures arise from accelerated depreciation. Under
              the normal tax baseline, the depreciation allowance for
              property is computed using estimates of economic depreciation.
              The latter represents a change in the calculation of the tax
              expenditure under normal law first made in the 2004 Budget.
              The Appendix provides further details on the new methodology
              and how it differs from the prior methodology.

                Treatment of foreign income. Both the normal and reference
              tax baselines allow a tax credit for foreign income taxes paid
              (up to the amount of U.S. income taxes that would otherwise be
              due), which prevents double taxation of income earned abroad.
              Under the normal tax method, however, controlled foreign
              corporations (CFCs) are not regarded as entities separate from
              their controlling U.S. shareholders. Thus, the deferral of tax
              on income received by CFCs is regarded as a tax expenditure
              under this method. In contrast, except for tax haven
              activities, the reference law baseline follows current law in
              treating CFCs as separate taxable entities whose income is not
              subject to U.S. tax until distributed to U.S. taxpayers. Under
              this baseline, deferral of tax on CFC income is not a tax
              expenditure because U.S. taxpayers generally are not taxed on
              accrued, but unrealized, income.

      In addition to these areas of difference, the Joint Committee on
    Taxation considers a somewhat broader set of tax expenditures under its
    normal tax baseline than is considered here.

                      Double Taxation of Corporate Profits

      In a gradual transition to a more economically neutral tax system
    where corporate income is subject to a single layer of tax, the lower
    tax rates on dividends and capital gains on corporate equity have not
    been considered tax preferences since the 2005 Budget. Thus, the
    difference between ordinary tax rates and the lower tax rates on
    dividends, introduced by the Jobs and Growth Tax Relief Reconciliation
    Act of 2003 (JGTRRA), does not give rise to a tax expenditure.
    Similarly, the lower capital gains tax rates applied to gains realized
    from the disposition of corporate equity do not give rise to a tax
    expenditure as well. As a

    [[Page 332]]

    consequence, tax expenditure estimates for the lower tax rates on
    capital, step-up in basis, and the inside build-up on pension assets,
    401k plans, IRAs, among others, are limited to capital gains from
    sources other than corporate equity. The Appendix provides a greater
    discussion of alternative baselines.

        Performance Measures and the Economic Effects of Tax Expenditures

      The Government Performance and Results Act of 1993 (GPRA) directs
    Federal agencies to develop annual and strategic plans for their
    programs and activities. These plans set out performance objectives to
    be achieved over a specific time period. Most of these objectives will
    be achieved through direct expenditure programs. Tax expenditures,
    however, may also contribute to achieving these goals. The report of the
    Senate Governmental Affairs Committee on GPRA \3\ calls on the Executive
    branch to undertake a series of analyses to assess the effect of
    specific tax expenditures on the achievement of agencies' performance
    objectives.
    ---------------------------------------------------------------------------
      \3\ Committee on Government Affairs, United States Senate,
    ``Government Performance and Results Act of 1993'' (Report 103-58,
    1993).
    ---------------------------------------------------------------------------
      The Executive Branch is continuing to focus on the availability of
    data needed to assess the effects of the tax expenditures designed to
    increase savings. Treasury's Office of Tax Analysis and Statistics of
    Income Division (IRS) have developed a new sample of individual income
    tax filers as one part of this effort. This new ``panel'' sample will
    follow the same taxpayers over a period of at least ten years. The first
    year of this panel sample was drawn from tax returns filed in 2000 for
    tax year 1999. The sample will capture the changing demographic and
    economic circumstances of individuals and the effects of changes in tax
    law over an extended period of time. Data from the sample will therefore
    permit more extensive, and better, analyses of many tax provisions than
    can be performed using only annual (``cross-section'') data. In
    particular, data from this panel sample will enhance our ability to
    analyze the effect of tax expenditures designed to increase savings.
    Other efforts by OMB, Treasury, and other agencies to improve data
    available for the analysis of savings tax expenditures will continue
    over the next several years.
      Comparison of tax expenditure, spending, and regulatory policies. Tax
    expenditures by definition work through the tax system and,
    particularly, the income tax. Thus, they may be relatively advantageous
    policy approaches when the benefit or incentive is related to income and
    is intended to be widely available. \4\ Because there is an existing
    public administrative and private compliance structure for the tax
    system, the incremental administrative and compliance costs for a tax
    expenditure may be low in many cases. In addition, some tax expenditures
    actually simplify the operation of the tax system, (for example, the
    exclusion for up to $500,000 of capital gains on home sales). Tax
    expenditures also implicitly subsidize certain activities. Spending,
    regulatory or tax-disincentive policies can also modify behavior, but
    may have different economic effects. Finally, a variety of tax
    expenditure tools can be used e.g., deductions; credits; exemptions;
    deferrals; floors; ceilings; phase-ins; phase-outs; dependent on income,
    expenses, or demographic characteristics (age, number of family members,
    etc.). This wide range means that tax expenditures can be flexible and
    can have very different economic effects.
    ---------------------------------------------------------------------------
      \4\ Although this section focuses upon tax expenditures under the
    income tax, tax expenditures also arise under the unified transfer,
    payroll, and excise tax systems. Such provisions can be useful when they
    relate to the base of those taxes, such as an excise tax exemption for
    certain types of consumption deemed meritorious.
    ---------------------------------------------------------------------------
      Tax expenditures also have limitations. In many cases they add to the
    complexity of the tax system, which raises both administrative and
    compliance costs. For example, targeting personal exemptions and credits
    can complicate filing and decision-making. The income tax system may
    have little or no contact with persons who have no or very low incomes,
    and does not require information on certain characteristics of
    individuals used in some spending programs, such as wealth. These
    features may reduce the effectiveness of tax expenditures for addressing
    certain income-transfer objectives. Tax expenditures also generally do
    not enable the same degree of agency discretion as an outlay program.
    For example, grant or direct Federal service delivery programs can
    prioritize activities to be addressed with specific resources in a way
    that is difficult to emulate with tax expenditures. Finally, tax
    expenditures may not receive the same level of scrutiny afforded to
    other programs.
      Outlay programs have advantages where direct Government service
    provision is particularly warranted such as equipping and providing the
    armed forces or administering the system of justice. Outlay programs may
    also be specifically designed to meet the needs of low-income families
    who would not otherwise be subject to income taxes or need to file a tax
    return. Outlay programs may also receive more year-to-year oversight and
    fine tuning, through the legislative and executive budget process. In
    addition, many different types of spending programs including direct
    Government provision; credit programs; and payments to State and local
    governments, the private sector, or individuals in the form of grants or
    contracts provide flexibility for policy design. On the other hand,
    certain outlay programs such as direct Government service provision may
    rely less directly on economic incentives and private-market provision
    than tax incentives, which may reduce the relative efficiency of
    spending programs for some goals. Spending programs also require
    resources to be raised via taxes, user charges, or Government borrowing,
    which can impose further costs by diverting resources from their most
    efficient uses. Finally, spending programs, particularly on the
    discretionary side, may respond less readily to changing activity levels
    and economic conditions than tax expenditures.
      Regulations have more direct and immediate effects than outlay and
    tax-expenditure programs because regulations apply directly and
    immediately to the regulated party (i.e., the intended actor) generally
    in the private sector. Regulations can also be fine-tuned more

    [[Page 333]]

    quickly than tax expenditures, because they can often be changed as
    needed by the executive branch without legislation. Like tax
    expenditures, regulations often rely largely upon voluntary compliance,
    rather than detailed inspections and policing. As such, the public
    administrative costs tend to be modest relative to the private resource
    costs associated with modifying activities. Historically, regulations
    have tended to rely on proscriptive measures, as opposed to economic
    incentives. This reliance can diminish their economic efficiency,
    although this feature can also promote full compliance where (as in
    certain safety-related cases) policymakers believe that trade-offs with
    economic considerations are not of paramount importance. Also,
    regulations generally do not directly affect Federal outlays or
    receipts. Thus, like tax expenditures, they may escape the degree of
    scrutiny that outlay programs receive. However, major regulations are
    subjected to a formal regulatory analysis that goes well beyond the
    analysis required for outlays and tax-expenditures. To some extent, the
    GPRA requirement for performance evaluation will address this lack of
    formal analysis.
      Some policy objectives are achieved using multiple approaches. For
    example, minimum wage legislation, the earned income tax credit, and the
    food stamp program are regulatory, tax expenditure, and direct outlay
    programs, respectively, all having the objective of improving the
    economic welfare of low-wage workers.
      Tax expenditures, like spending and regulatory programs, have a
    variety of objectives and effects. When measured against a comprehensive
    income tax, for example, these include: encouraging certain types of
    activities (e.g., saving for retirement or investing in certain
    sectors); increasing certain types of after-tax income (e.g., favorable
    tax treatment of Social Security income); reducing private compliance
    costs and Government administrative costs (e.g., the exclusion for up to
    $500,000 of capital gains on home sales); and promoting tax neutrality
    (e.g., accelerated depreciation in the presence of inflation). Some of
    these objectives are well suited to quantitative measurement, while
    others are less well suited. Also, many tax expenditures, including
    those cited above, may have more than one objective. For example,
    accelerated depreciation may encourage investment. In addition, the
    economic effects of particular provisions can extend beyond their
    intended objectives (e.g., a provision intended to promote an activity
    or raise certain incomes may have positive or negative effects on tax
    neutrality).
      Performance measurement is generally concerned with inputs, outputs,
    and outcomes. In the case of tax expenditures, the principal input is
    usually the revenue effect. Outputs are quantitative or qualitative
    measures of goods and services, or changes in income and investment,
    directly produced by these inputs. Outcomes, in turn, represent the
    changes in the economy, society, or environment that are the ultimate
    goals of programs.
      Thus, for a provision that reduces taxes on certain investment
    activity, an increase in the amount of investment would likely be a key
    output. The resulting production from that investment, and, in turn, the
    associated improvements in national income, welfare, or security, could
    be the outcomes of interest. For other provisions, such as those
    designed to address a potential inequity or unintended consequence in
    the tax code, an important performance measure might be how they change
    effective tax rates (the discounted present-value of taxes owed on new
    investments or incremental earnings) or excess burden (an economic
    measure of the distortions caused by taxes). Effects on the incomes of
    members of particular groups may be an important measure for certain
    provisions.
      An overview of evaluation issues by budget function. The discussion
    below considers the types of measures that might be useful for some
    major programmatic groups of tax expenditures. The discussion is
    intended to be illustrative and not all encompassing. However, it is
    premised on the assumption that the data needed to perform the analysis
    are available or can be developed. In practice, data availability is
    likely to be a major challenge, and data constraints may limit the
    assessment of the effectiveness of many provisions. In addition, such
    assessments can raise significant challenges in economic modeling.
      National defense. Some tax expenditures are intended to assist
    governmental activities. For example, tax preferences for military
    benefits reflect, among other things, the view that benefits such as
    housing, subsistence, and moving expenses are intrinsic aspects of
    military service, and are provided, in part, for the benefit of the
    employer, the U.S. Government. Tax benefits for combat service are
    intended to reduce tax burdens on military personnel undertaking
    hazardous service for the Nation. A portion of the tax expenditure
    associated with foreign earnings is targeted to benefit U.S. Government
    civilian personnel working abroad by offsetting the living costs that
    can be higher than those in the United States. These tax expenditures
    should be considered together with direct agency budget costs in making
    programmatic decisions.
      International affairs. Tax expenditures are also aimed at goals such
    as tax neutrality. These include the exclusion for income earned abroad
    by nongovernmental employees and exclusions for income of U.S.-
    controlled foreign corporations. Measuring the effectiveness of these
    provisions raises challenging issues.
      General science, space and technology; energy; natural resources and
    the environment; agriculture; and commerce and housing. A series of tax
    expenditures reduces the cost of investment, both in specific activities
    such as research and experimentation, extractive industries, and certain
    financial activities and more generally, through accelerated
    depreciation for plant and equipment. These provisions can be evaluated
    along a number of dimensions. For example, it could be useful to
    consider the strength of the incentives by measuring their effects on
    the cost of capital (the interest rate which investments must yield to
    cover their costs) and effective tax rates. The impact of these
    provisions on the amounts of corresponding forms of investment (e.g.,

    [[Page 334]]

    research spending, exploration activity, equipment) might also be
    estimated. In some cases, such as research, there is evidence that the
    investment can provide significant positive externalities that is,
    economic benefits that are not reflected in the market transactions
    between private parties. It could be useful to quantify these
    externalities and compare them with the size of tax expenditures.
    Measures could also indicate the effects on production from these
    investments such as numbers or values of patents, energy production and
    reserves, and industrial production. Issues to be considered include the
    extent to which the preferences increase production (as opposed to
    benefitting existing output) and their cost-effectiveness relative to
    other policies. Analysis could also consider objectives that are more
    difficult to measure but still are ultimate goals, such as promoting the
    Nation's technological base, energy security, environmental quality, or
    economic growth. Such an assessment is likely to involve tax analysis as
    well as consideration of non-tax matters such as market structure,
    scientific, and other information (such as the effects of increased
    domestic fuel production on imports from various regions, or the effects
    of various energy sources on the environment).
      Housing investment also benefits from tax expenditures. The imputed
    net rental income from owner-occupied housing is excluded from the tax
    base. The mortgage interest deduction and property tax deduction on
    personal residences also are reported as tax expenditures because the
    value of owner-occupied housing services is not included in a taxpayer's
    taxable income. Taxpayers also may exclude up to $500,000 of the capital
    gains from the sale of personal residences. Measures of the
    effectiveness of these provisions could include their effects on
    increasing the extent of home ownership and the quality of housing.
    Similarly, analysis of the extent of accumulated inflationary gains is
    likely to be relevant to evaluation of the capital gains for home sales.
    Deductibility of State and local property taxes assists with making
    housing more affordable as well as easing the cost of providing
    community services through these taxes. Provisions intended to promote
    investment in rental housing could be evaluated for their effects on
    making such housing more available and affordable. These provisions
    should then be compared with alternative programs that address housing
    supply and demand.
      Transportation. Employer-provided parking is a fringe benefit that,
    for the most part, is excluded from taxation. The tax expenditure
    estimates reflect the cost of parking that is leased by employers for
    employees; an estimate is not currently available for the value of
    parking owned by employers and provided to their employees. The
    exclusion for employer-provided transit passes is intended to promote
    use of this mode of transportation, which has environmental and
    congestion benefits. The tax treatments of these different benefits
    could be compared with alternative transportation policies.
      Community and regional development. A series of tax expenditures is
    intended to promote community and regional development by reducing the
    costs of financing specialized infrastructure, such as airports, docks,
    and stadiums. Empowerment zone and enterprise community provisions are
    designed to promote activity in disadvantaged areas. These provisions
    can be compared with grants and other policies designed to spur economic
    development.
      Education, training, employment, and social services. Major provisions
    in this function are intended to promote post-secondary education, to
    offset costs of raising children, and to promote a variety of charitable
    activities. The education incentives can be compared with loans, grants,
    and other programs designed to promote higher education and training.
    The child credits are intended to adjust the tax system for the costs of
    raising children; as such, they could be compared to other Federal tax
    and spending policies, including related features of the tax system,
    such as personal exemptions (which are not defined as a tax
    expenditure). Evaluation of charitable activities requires consideration
    of the beneficiaries of these activities, who are generally not the
    parties receiving the tax reduction.
      Health. Individuals also benefit from favorable treatment of employer-
    provided health insurance. Measures of these benefits could include
    increased coverage and pooling of risks. The effects of insurance
    coverage on final outcome measures of actual health (e.g., infant
    mortality, days of work lost due to illness, or life expectancy) or
    intermediate outcomes (e.g., use of preventive health care or health
    care costs) could also be investigated.
      Income security, Social Security, and veterans benefits and services.
    Major tax expenditures in the income security function benefit
    retirement savings, through employer-provided pensions, individual
    retirement accounts, and Keogh plans. These provisions might be
    evaluated in terms of their effects on boosting retirement incomes,
    private savings, and national savings (which would include the effect on
    private savings as well as public savings or deficits). Interactions
    with other programs, including Social Security, also may merit analysis.
    As in the case of employer-provided health insurance, analysis of
    employer-provided pension programs requires imputing the value of
    benefits funded at the firm level to individuals.
      Other provisions principally affect the incomes of members of certain
    groups, rather than affecting incentives. For example, tax-favored
    treatment of Social Security benefits, certain veterans' benefits, and
    deductions for the blind and elderly provide increased incomes to
    eligible parties. The earned-income tax credit, in contrast, should be
    evaluated for its effects on labor force participation as well as the
    income it provides lower-income workers.
      General purpose fiscal assistance and interest. The tax-exemption for
    public purpose State and local bonds reduces the costs of borrowing for
    a variety of purposes (borrowing for non-public purposes is reflected
    under

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    other budget functions). The deductibility of certain State and local
    taxes reflected under this function primarily relates to personal income
    taxes (property tax deductibility is reflected under the commerce and
    housing function). Tax preferences for Puerto Rico and other U.S.
    possessions are also included here. These provisions can be compared
    with other tax and spending policies as means of benefitting fiscal and
    economic conditions in the States, localities, and possessions. Finally,
    the tax deferral for interest on U.S. savings bonds benefits savers who
    invest in these instruments. The extent of these benefits and any
    effects on Federal borrowing costs could be evaluated.
      The above illustrative discussion, although broad, is nevertheless
    incomplete, omitting important details both for the provisions mentioned
    and the many that are not explicitly cited. Developing a framework that
    is sufficiently comprehensive, accurate, and flexible to reflect the
    objectives and effects of the wide range of tax expenditures will be a
    significant challenge. OMB, Treasury, and other agencies will work
    together, as appropriate, to address this challenge. As indicated above,
    over the next few years the Executive Branch's focus will be on the
    availability of the data needed to assess the effects of the tax
    expenditures designed to increase savings.

                      Descriptions of Income Tax Provisions

      Descriptions of the individual and corporate income tax expenditures
    reported upon in this chapter follow. These descriptions relate to
    current law as of December 31, 2004, and do not reflect proposals made
    elsewhere in the Budget. Nine additional provisions are considered when
    compared to the 2005 Budget. These are: (1) Expensing of capital costs
    with respect to complying with EPA sulfur regulations, (2) Exclusion of
    gain or loss on sale or exchange of certain brownfield sites, (3) Bio-
    Diesel tax credit, (4) Imputed net rental income on owner occupied
    housing, (5) Deduction for US production activities, (6) Special rules
    for certain film and TV production, (7) Tax credit for certain
    expenditures for maintaining railroad tracks, (8) Deferral of capital
    gains with respect of dispositions of transmission property, and (9)
    Discharge of student loan indebtedness.

                                National Defense

      1. Benefits and allowances to armed forces personnel.--The housing and
    meals provided military personnel, either in cash or in kind, as well as
    certain amounts of pay related to combat service, are excluded from
    income subject to tax.

                              International Affairs

      2. Income earned abroad.--U.S. citizens who lived abroad, worked in
    the private sector, and satisfied a foreign residency requirement may
    exclude up to $80,000 in foreign earned income from U.S. taxes. In
    addition, if these taxpayers receive a specific allowance for foreign
    housing from their employers, they may also exclude the value of that
    allowance. If they do not receive a specific allowance for housing
    expenses, they may deduct against their U.S. taxes that portion of such
    expenses that exceeds one-sixth the salary of a civil servant at grade
    GS-14, step 1 ($74,335 in 2004).
      3. Exclusion of certain allowances for Federal employees abroad.--U.S.
    Federal civilian employees and Peace Corps members who work outside the
    continental United States are allowed to exclude from U.S. taxable
    income certain special allowances they receive to compensate them for
    the relatively high costs associated with living overseas. The
    allowances supplement wage income and cover expenses like rent,
    education, and the cost of travel to and from the United States.
      4. Extraterritorial income exclusion. \5\--For purposes of calculating
    U.S. tax liability, a taxpayer may exclude from gross income the
    qualifying foreign trade income attributable to foreign trading gross
    receipts. The exclusion generally applies to income from the sale or
    lease of qualifying foreign trade property and certain types of services
    income. The FSC Repeal and Extraterritorial Income Exclusion Act of 2000
    created the extraterritorial income exclusion to replace the foreign
    sales corporation provisions, which the Act repealed. The exclusion is
    generally available for transactions entered into after September 30,
    2000.
    ---------------------------------------------------------------------------
      \5\ The determination of whether a provision is a tax expenditure is
    made on the basis of a broad concept of ``income'' that is larger in
    scope than is ``income'' as defined under general U.S. income tax
    principles. For that reason, the tax expenditure estimates include, for
    example, estimates related to the exclusion of extraterritorial income,
    as well as other exclusions, notwithstanding that such exclusions define
    income under the general rule of U.S. income taxation.
    ---------------------------------------------------------------------------
      5. Sales source rule exceptions.--The worldwide income of U.S. persons
    is taxable by the United States and a credit for foreign taxes paid is
    allowed. The amount of foreign taxes that can be credited is limited to
    the pre-credit U.S. tax on the foreign source income. The sales source
    rules for inventory property allow U.S. exporters to use more foreign
    tax credits by allowing the exporters to attribute a larger portion of
    their earnings abroad than would be the case if the allocation of
    earnings was based on actual economic activity.
      6. Income of U.S.-controlled foreign corporations.--The income of
    foreign corporations controlled by U.S. shareholders is not subject to
    U.S. taxation. The income becomes taxable only when the controlling U.S.
    shareholders receive dividends or other distributions from their foreign
    stockholding. Under the normal tax method, the currently attributable
    foreign source pre-tax income from such a controlling interest is
    considered to be subject to U.S. taxation, whether or not distributed.
    Thus, the normal tax method considers the amount of controlled foreign
    corporation income not yet distributed to a U.S. shareholder as tax-
    deferred income.
      7. Exceptions under subpart F for active financing income.--Financial
    firms can defer taxes on income earned overseas in an active business.
    Taxes on income earned through December 31, 2006 can be deferred.

    [[Page 336]]

                     General Science, Space, and Technology

      8. Expensing R&E expenditures.--Research and experimentation (R&E)
    projects can be viewed as investments because, if successful, their
    benefits accrue for several years. It is often difficult, however, to
    identify whether a specific R&E project is successful and, if
    successful, what its expected life will be. Under the normal tax method,
    the expensing of R&E expenditures is viewed as a tax expenditure. The
    baseline assumed for the normal tax method is that all R&E expenditures
    are successful and have an expected life of five years.
      9. R&E credit.--The research and experimentation (R&E) credit is 20
    percent of qualified research expenditures in excess of a base amount.
    The base amount is generally determined by multiplying a ``fixed-base
    percentage'' by the average amount of the company's gross receipts for
    the prior four years. The taxpayer's fixed base percentage generally is
    the ratio of its research expenses to gross receipts for 1984 through
    1988. Taxpayers may also elect an alternative credit regime. Under the
    alternative credit regime the taxpayer is assigned a three-tiered fixed-
    base percentage that is lower than the fixed-base percentage that would
    otherwise apply, and the credit rate is reduced (the rates range from
    2.65 percent to 3.75 percent). A 20-percent credit with a separate
    threshold is provided for a taxpayer's payments to universities for
    basic research. The credit applies to research conducted before January
    1, 2006 and extends to research conducted in Puerto Rico and the U.S.
    possessions.

                                     Energy

      10. Exploration and development costs.--For successful investments in
    domestic oil and gas wells, intangible drilling costs (e.g., wages, the
    costs of using machinery for grading and drilling, the cost of
    unsalvageable materials used in constructing wells) may be expensed
    rather than amortized over the productive life of the property.
    Integrated oil companies may deduct only 70 percent of such costs and
    must amortize the remaining 30 percent over five years. The same rule
    applies to the exploration and development costs of surface stripping
    and the construction of shafts and tunnels for other fuel minerals.
      11. Percentage depletion.--Independent fuel mineral producers and
    royalty owners are generally allowed to take percentage depletion
    deductions rather than cost depletion on limited quantities of output.
    Under cost depletion, outlays are deducted over the productive life of
    the property based on the fraction of the resource extracted. Under
    percentage depletion, taxpayers deduct a percentage of gross income from
    mineral production at rates of 22 percent for uranium; 15 percent for
    oil, gas and oil shale; and 10 percent for coal. The deduction is
    limited to 50 percent of net income from the property, except for oil
    and gas where the deduction can be 100 percent of net property income.
    Production from geothermal deposits is eligible for percentage depletion
    at 65 percent of net income, but with no limit on output and no
    limitation with respect to qualified producers. Unlike depreciation or
    cost depletion, percentage depletion deductions can exceed the cost of
    the investment.
      12. Alternative fuel production credit.--A nontaxable credit of $3 per
    oil-equivalent barrel of production (in 1979 dollars) is provided for
    several forms of alternative fuels. The credit is generally available if
    the price of oil stays below $29.50 (in 1979 dollars). The credit
    generally expires on December 31, 2002.
      13. Oil and gas exception to passive loss limitation.--Owners of
    working interests in oil and gas properties are exempt from the
    ``passive income'' limitations. As a result, the working interest-
    holder, who manages on behalf of himself and all other owners the
    development of wells and incurs all the costs of their operation, may
    aggregate negative taxable income from such interests with his income
    from all other sources.
      14. Capital gains treatment of royalties on coal.--Sales of certain
    coal under royalty contracts can be treated as capital gains rather than
    ordinary income.
      15. Energy facility bonds.--Interest earned on State and local bonds
    used to finance construction of certain energy facilities is tax-exempt.
    These bonds are generally subject to the State private-activity bond
    annual volume cap.
      16. Enhanced oil recovery credit.--A credit is provided equal to 15
    percent of the taxpayer's costs for tertiary oil recovery on U.S.
    projects. Qualifying costs include tertiary injectant expenses,
    intangible drilling and development costs on a qualified enhanced oil
    recovery project, and amounts incurred for tangible depreciable
    property.
      17. New technology credits.--A credit of 10 percent is available for
    investment in solar and geothermal energy facilities. In addition, a
    credit of 1.5 cents (indexed for inflation) is provided per kilowatt
    hour of electricity produced from certain renewable resources.
    Generally, qualifying sources include wind, closed-loop biomass, open-
    loop biomass including agricultural livestock waste nutrients,
    geothermal energy, solar energy, small irrigation, landfill gas, and
    trash combustion used to produce electricity at a facility placed in
    service before January 1, 2006. For facilities using open-loop biomass,
    small irrigation, landfill gas, or trash combustion, the credit rate is
    reduced by half. In addition, refined coal produced at a facility placed
    in service before January 1, 2009 cn claim a credit at a rate of $4.375
    per ton (indexed for inflation).
      18. Alcohol fuel credits.--An income tax credit is provided for
    ethanol that is derived from renewable sources and used as fuel. The
    credit equals 53 cents per gallon in 2001 and 2002; 52 cents per gallon
    in 2003 and 2004; and 51 cents per gallon through 2010. To the extent
    that ethanol is mixed with taxable motor fuel to create gasohol,
    taxpayers may claim an exemption of the Federal excise tax rather than
    the income tax credit. In addition, small ethanol producers are eligible
    for a separate 10 cents per gallon credit.
      19. Credit and deduction for clean-fuel vehicles and property.--A tax
    credit of 10 percent (not to ex

    [[Page 337]]

    ceed $4,000) is provided for purchasers of electric vehicles. Purchasers
    of other clean-fuel burning vehicles and owners of clean-fuel refueling
    property may deduct part of their expenditures. The deduction and credit
    are reduced by 75 percent for vehicles placed in service in 2006 and are
    not available for vehicles placed in service after December 31, 2006.
      20. Exclusion of utility conservation subsidies.--Non-business
    customers can exclude from gross income subsidies received from public
    utilities for expenditures on energy conservation measures.

                        Natural Resources and Environment

      21. Exploration and development costs.--Certain capital outlays
    associated with exploration and development of nonfuel minerals may be
    expensed rather than depreciated over the life of the asset.
      22. Percentage depletion.--Most nonfuel mineral extractors may use
    percentage depletion rather than cost depletion, with percentage
    depletion rates ranging from 22 percent for sulfur to 5 percent for sand
    and gravel.
      23. Sewage, water, solid and hazardous waste facility bonds.--Interest
    earned on State and local bonds used to finance the construction of
    sewage, water, or hazardous waste facilities is tax-exempt. These bonds
    are generally subject to the State private-activity bond annual volume
    cap.
      24. Capital gains treatment of certain timber.--Certain timber sales
    can be treated as a capital gain rather than ordinary income.
      25. Expensing multiperiod timber growing costs.--Most of the
    production costs of growing timber may be expensed rather than
    capitalized and deducted when the timber is sold. In most other
    industries, these costs are capitalized under the uniform capitalization
    rules.
      26. Historic preservation.--Expenditures to preserve and restore
    historic structures qualify for a 20-percent investment credit, but the
    depreciable basis must be reduced by the full amount of the credit
    taken.
      27. Expensing of capital costs with respect to complying with EPA
    sulfur regulations.--Small refiners are allowed to deduct 75 percent of
    qualified capital costs incurred by the taxpayer during the taxable
    year. This provision was introduced by the American Jobs Creation Act
    (AJCA) enacted in 2004.
      28. Exclusion of gain or loss on sale or exchange of certain
    brownfield sites.--This provision was introduced by the AJCA enacted in
    2004. This exclusion applies to taxpayers who have incurred remediation
    expenditures in an amount which exceeds the greater of $550,000 or 12
    percent of the fair market value of the property at the time such
    property was acquired by the eligible taxpayer, determined as if there
    were not a presence of a hazardous substance, pollutant, or contaminant
    on the property which is complicating the expansion, redevelopment, or
    reuse of the property.

                                   Agriculture

      29. Expensing certain capital outlays.--Farmers, except for certain
    agricultural corporations and partnerships, are allowed to expense
    certain expenditures for feed and fertilizer, as well as for soil and
    water conservation measures. Expensing is allowed, even though these
    expenditures are for inventories held beyond the end of the year, or for
    capital improvements that would otherwise be capitalized.
      30. Expensing multiperiod livestock and crop production costs.--The
    production of livestock and crops with a production period of less than
    two years is exempt from the uniform cost capitalization rules. Farmers
    establishing orchards, constructing farm facilities for their own use,
    or producing any goods for sale with a production period of two years or
    more may elect not to capitalize costs. If they do, they must apply
    straight-line depreciation to all depreciable property they use in
    farming.
      31. Loans forgiven solvent farmers.--Farmers are forgiven the tax
    liability on certain forgiven debt. Normally, debtors must include the
    amount of loan forgiveness as income or reduce their recoverable basis
    in the property to which the loan relates. If the debtor elects to
    reduce basis and the amount of forgiveness exceeds the basis in the
    property, the excess forgiveness is taxable. For insolvent (bankrupt)
    debtors, however, the amount of loan forgiveness reduces carryover
    losses, then unused credits, and then basis; any remainder of the
    forgiven debt is excluded from tax. Farmers with forgiven debt are
    considered insolvent for tax purposes, and thus qualify for income tax
    forgiveness.
      32. Capital gains treatment of certain income.--Certain agricultural
    income, such as unharvested crops, can be treated as capital gains
    rather than ordinary income.
      33. Income averaging for farmers.--Taxpayers can lower their tax
    liability by averaging, over the prior three-year period, their taxable
    income from farming and fishing.
      34. Deferral of gain on sales of farm refiners.--A taxpayer who sells
    stock in a farm refiner to a farmers' cooperative can defer recognition
    of gain if the taxpayer reinvests the proceeds in qualified replacement
    property.
      35. Bio-Diesel tax credit.--An income tax credit of $0.50, similar to
    Ethanol benefits, is available for each gallon of biodiesel used or
    sold. Biodiesel derived from virgin sources (agri-biodiesel) receives an
    increased credit of $1.00 per gallon. The provision was introduced by
    the AJCA in 2004, and is set to expire on after December 31, 2006.

                              Commerce and Housing

      This category includes a number of tax expenditure provisions that
    also affect economic activity in other functional categories. For
    example, provisions related to investment, such as accelerated
    depreciation, could be classified under the energy, natural resources
    and environment, agriculture, or transportation categories.

    [[Page 338]]

      36. Credit union income.--The earnings of credit unions not
    distributed to members as interest or dividends are exempt from income
    tax.
      37. Bad debt reserves.--Small (less than $500 million in assets)
    commercial banks, mutual savings banks, and savings and loan
    associations may deduct additions to bad debt reserves in excess of
    actually experienced losses.
      38. Deferral of income on life insurance and annuity contracts.--
    Favorable tax treatment is provided for investment income within
    qualified life insurance and annuity contracts. Investment income earned
    on qualified life insurance contracts held until death is permanently
    exempt from income tax. Investment income distributed prior to the death
    of the insured is tax-deferred, if not tax-exempt. Investment income
    earned on annuities is treated less favorably than income earned on life
    insurance contracts, but it benefits from tax deferral without annual
    contribution or income limits generally applicable to other tax-favored
    retirement income plans.
      39. Small property and casualty insurance companies.--For taxable
    years beginning before January 1, 2004, insurance companies that were
    not life insurance companies and which had annual net premiums of less
    than $350,000 were exempt from tax; those with $350,000 to $1.2 million
    of annual net premiums could elect to pay tax only on the income earned
    by their taxable investment portfolio. For taxable years beginning after
    December 31, 2003, stock non-life insurance companies are generally
    exempt from tax if their gross receipts for the taxable year do not
    exceed $600,00 and more than 50 percent of such gross receipts consists
    of premiums. Mutual non-life insurance companies are generally tax-
    exempt if their annual gross receipts do not exceed $150,000 and more
    than 35 percent of gross receipts consist of premiums. Also, for taxable
    years beginning after December 31, 2003, non-life insurance companies
    with no more than $1.2 million of annual net premiums may elect to pay
    tax only on their taxable investment income.
      40. Insurance companies owned by exempt organizations.--Generally, the
    income generated by life and property and casualty insurance companies
    is subject to tax, albeit by special rules. Insurance operations
    conducted by such exempt organizations as fraternal societies and
    voluntary employee benefit associations, however, are exempt from tax.
      41. Small life insurance company deduction.--Small life insurance
    companies (gross assets of less than $500 million) can deduct 60 percent
    of the first $3 million of otherwise taxable income. The deduction
    phases out for otherwise taxable income between $3 million and $15
    million.
      42. Mortgage housing bonds.--Interest earned on State and local bonds
    used to finance homes purchased by first-time, low-to-moderate-income
    buyers is tax-exempt. The amount of State and local tax-exempt bonds
    that can be issued to finance these and other private activity is
    limited. The combined volume cap for private activity bonds, including
    mortgage housing bonds, rental housing bonds, student loan bonds, and
    industrial development bonds was $62.50 per capita ($187.5 million
    minimum) per State in 2001, and $75 per capita ($225 million minimum) in
    2002. The Community Renewal Tax Relief Act of 2000 accelerated the
    scheduled increase in the state volume cap and indexed the cap for
    inflation, beginning in 2003. States may issue mortgage credit
    certificates (MCCs) in lieu of mortgage revenue bonds. MCCs entitle home
    buyers to income tax credits for a specified percentage of interest on
    qualified mortgages. The total amount of MCCs issued by a State cannot
    exceed 25 percent of its annual ceiling for mortgage-revenue bonds.
      43. Rental housing bonds.--Interest earned on State and local
    government bonds used to finance multifamily rental housing projects is
    tax-exempt. At least 20 percent (15 percent in targeted areas) of the
    units must be reserved for families whose income does not exceed 50
    percent of the area's median income; or 40 percent for families with
    incomes of no more than 60 percent of the area median income. Other tax-
    exempt bonds for multifamily rental projects are generally issued with
    the requirement that all tenants must be low or moderate income
    families. Rental housing bonds are subject to the volume cap discussed
    in the mortgage housing bond section above.
      44. Interest on owner-occupied homes.--Owner-occupants of homes may
    deduct mortgage interest on their primary and secondary residences as
    itemized nonbusiness deductions. The mortgage interest deduction is
    limited to interest on debt no greater than the owner's basis in the
    residence and, for debt incurred after October 13, 1987; it is limited
    to no more than $1 million. Interest on up to $100,000 of other debt
    secured by a lien on a principal or second residence is also deductible,
    irrespective of the purpose of borrowing, provided the debt does not
    exceed the fair market value of the residence. Mortgage interest
    deductions on personal residences are tax expenditures because the value
    of owner-occupied housing services is not included in a taxpayer's
    taxable income.
      45. Taxes on owner-occupied homes.--Owner-occupants of homes may
    deduct property taxes on their primary and secondary residences even
    though they are not required to report the value of owner-occupied
    housing services as gross income.
      46. Installment sales.--Dealers in real and personal property (i.e.,
    sellers who regularly hold property for sale or resale) cannot defer
    taxable income from installment sales until the receipt of the loan
    repayment. Nondealers (i.e., sellers of real property used in their
    business) are required to pay interest on deferred taxes attributable to
    their total installment obligations in excess of $5 million. Only
    properties with sales prices exceeding $150,000 are includable in the
    total. The payment of a market rate of interest eliminates the benefit
    of the tax deferral. The tax exemption for nondealers with total
    installment obligations of less than $5 million is, therefore, a tax
    expenditure.

    [[Page 339]]

      47. Capital gains exclusion on home sales.--A homeowner can exclude
    from tax up to $500,000 ($250,000 for singles) of the capital gains from
    the sale of a principal residence. The exclusion may not be used more
    than once every two years.
      48. Imputed net rental income on owner occupied housing.--The implicit
    rental value of home ownership, net of expenses such as mortgage
    interest and depreciation, is excluded from income. The appendix
    provides a greater explanation of this new addition to the tax
    expenditure budget.
      49. Passive loss real estate exemption.--In general, passive losses
    may not offset income from other sources. Losses up to $25,000
    attributable to certain rental real estate activity, however, are exempt
    from this rule.
      50. Low-income housing credit.--Taxpayers who invest in certain low-
    income housing are eligible for a tax credit. The credit rate is set so
    that the present value of the credit is equal to 70 percent for new
    construction and 30 percent for (1) housing receiving other Federal
    benefits (such as tax-exempt bond financing), or (2) substantially
    rehabilitated existing housing. The credit is allowed in equal amounts
    over 10 years. State agencies determine who receives the credit; States
    are limited in the amount of credit they may authorize annually. The
    Community Renewal Tax Relief Act of 2000 increased the per-resident
    limit to $1.50 in 2001 and to $1.75 in 2002 and indexed the limit for
    inflation, beginning in 2003. The Act also created a $2 million minimum
    annual cap for small States beginning in 2002; the cap is indexed for
    inflation, beginning in 2003.
      51. Accelerated depreciation of rental property.--The tax depreciation
    allowance provisions are part of the reference law rules, and thus do
    not give rise to tax expenditures under the reference method. Under the
    normal tax method, however, economic depreciation is assumed. This
    calculation is described in more detail in the Appendix.
      52. Cancellation of indebtedness.--Individuals are not required to
    report the cancellation of certain indebtedness as current income. If
    the canceled debt is not reported as current income, however, the basis
    of the underlying property must be reduced by the amount canceled.
      53. Imputed interest rules.--Holders (issuers) of debt instruments are
    generally required to report interest earned (paid) in the period it
    accrues, not when paid. In addition, the amount of interest accrued is
    determined by the actual price paid, not by the stated principal and
    interest stipulated in the instrument. In general, any debt associated
    with the sale of property worth less than $250,000 is excepted from the
    general interest accounting rules. This general $250,000 exception is
    not a tax expenditure under reference law but is under normal law.
    Exceptions above $250,000 are a tax expenditure under reference law;
    these exceptions include the following: (1) sales of personal residences
    worth more than $250,000, and (2) sales of farms and small businesses
    worth between $250,000 and $1 million.
      54. Capital gains (other than agriculture, timber, iron ore, and
    coal).--Capital gains on assets held for more than 1 year are taxed at a
    lower rate than ordinary income. Under the revised reference law
    baseline used for the 2005 Budget, the lower rate on capital gains is
    considered a tax expenditure under the reference law method, but only
    for capital gains that have not been previously taxed under the
    corporate income tax. As discussed above, this treatment partially
    adjusts for the double tax on corporate income and is more consistent
    with a comprehensive income tax base.
      Prior to passage of the Jobs Growth Tax Relief Reconciliation Act
    (JGTRRA), the top capital gains tax rate for most assets held for more
    than 1 year was 20 percent. For assets acquired after December 31, 2000,
    the top capital gains tax rate for assets held for more than 5 years was
    18 percent. Since January 1, 2001, taxpayers may mark-to-market existing
    assets to start the 5-year holding period. Losses from the mark-to-
    market are not recognized.
      For assets held for more than 1 year by taxpayers in the 15-percent
    ordinary tax bracket, the top capital gains tax rate was 10 percent.
    After December 31, 2000, the top capital gains tax rate for assets held
    by these taxpayers for more than 5 years was 8 percent.
      JGTRRA reduced the previous 20 percent and 18 percent rates on net
    capital gains to 15 percent and the previous 10 percent and 8 percent
    rates to 5 percent (0 percent, in 2008). The lower rates apply to assets
    held for more than one year. The lower rates apply to assets sold after
    May 6, 2003 through 2008.
      55. Capital gains exclusion for small business stock.--An exclusion of
    50 percent is provided for capital gains from qualified small business
    stock held by individuals for more than 5 years. A qualified small
    business is a corporation whose gross assets do not exceed $50 million
    as of the date of issuance of the stock.
      56. Step-up in basis of capital gains at death.--Capital gains on
    assets held at the owner's death are not subject to capital gains taxes.
    The cost basis of the appreciated assets is adjusted upward to the
    market value at the owner's date of death. After repeal of the estate
    tax for 2010 under the Economic Growth and Tax Relief Reconciliation Act
    (EGTRRA) of 2001, the basis for property acquired from a decedent will
    be the lesser of fair market value or the decedent's basis. Certain
    types of additions to basis will be allowed so that assets in most
    estates that are not currently subject to estate tax will not be subject
    to capital gains tax in the hands of the heirs.
      57. Carryover basis of capital gains on gifts.--When a gift is made,
    the donor's basis in the transferred property (the cost that was
    incurred when the transferred property was first acquired) carries-over
    to the donee. The carryover of the donor's basis allows a continued
    deferral of unrealized capital gains. Even though the estate tax is
    repealed for 2010 under

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    EGTRRA, the gift tax is retained with a lifetime exemption of $1
    million.
      58. Ordinary income treatment of losses from sale of small business
    corporate stock shares.--Up to $100,000 in losses from the sale of small
    business corporate stock (capitalization less than $1 million) may be
    treated as ordinary losses. Such losses would, thus, not be subject to
    the $3,000 annual capital loss write-off limit.
      59. Accelerated depreciation of non-rental-housing buildings.--The tax
    depreciation allowance provisions are part of the reference law rules,
    and thus do not give rise to tax expenditures under reference law. Under
    normal law, however, economic depreciation is assumed. This calculation
    is described in more detail in the Appendix.
      60. Accelerated depreciation of machinery and equipment.--The tax
    depreciation allowance provisions are part of the reference law rules,
    and thus do not give rise to tax expenditures under reference law. Under
    the normal tax baseline, this tax depreciation allowance is measured
    relative to economic depreciation. This calculation is described in more
    detail in the Appendix.
      61. Expensing of certain small investments.--As of 2003, under prior
    law, qualifying investments in tangible property up to $25,000 could
    have been expensed rather than depreciated over time. The amount
    eligible for expensing was decreased to the extend the taxpayer's
    qualifying investment during the year exceeded $200,000. For 2003,
    however, the expensing limit was temporarily increased to $100,000, the
    phase-out limit was temporarily increased to $400,000, and computer
    software became temporarily eligible for expensing treatment. For 2004,
    through 2007, these higher limits are indexed for inflation, and
    computer software continues to be an eligible investment. In all years,
    the amount expensed cannot exceed the taxpayer's taxable income for the
    year. The prior rules will apply for taxable years beginning after 2007.
      62. Business start-up costs.--Business start-up costs are costs
    incurred prior to the creation of an active trade or business that would
    be deductible if incurred in connection with the operation of an
    existing trade or business. If the start-up costs were incurred on or
    before October 22, 2004, a taxpayer could elect to amortize them over 60
    months. For costs incurred after that date, a taxpayer may elect to
    deduct up to $5,000 of start-up costs, but this deductible amount is
    reduced (but now below zero) by the amount by which the taxpayer's total
    start-up costs for the year exceed $50,000. Non-deducted start-up costs
    incurred after October 22, 2004 are amortized over a 15-year period. The
    normal-tax method treats the 60-month amortized amounts and the deducted
    amounts as tax expenditures; the reference tax method does not.
      63. Graduated corporation income tax rate schedule.--The corporate
    income tax schedule is graduated, with rates of 15 percent on the first
    $50,000 of taxable income, 25 percent on the next $25,000, and 34
    percent on the next $9.925 million. Compared with a flat 34-percent
    rate, the lower rates provide an $11,750 reduction in tax liability for
    corporations with taxable income of $75,000. This benefit is recaptured
    for corporations with taxable incomes exceeding $100,000 by a 5-percent
    additional tax on corporate incomes in excess of $100,000 but less than
    $335,000.
      The corporate tax rate is 35 percent on income over $10 million.
    Compared with a flat 35-percent tax rate, the 34-percent rate provides a
    $100,000 reduction in tax liability for corporations with taxable
    incomes of $10 million. This benefit is recaptured for corporations with
    taxable incomes exceeding $15 million by a 3-percent additional tax on
    income over $15 million but less than $18.33 million. Because the
    corporate rate schedule is part of reference tax law, it is not
    considered a tax expenditure under the reference method. A flat
    corporation income tax rate is taken as the baseline under the normal
    tax method; therefore the lower rates is considered a tax expenditure
    under this concept.
      64. Small issue industrial development bonds.--Interest earned on
    small issue industrial development bonds (IDBs) issued by State and
    local governments to finance manufacturing facilities is tax-exempt.
    Depreciable property financed with small issue IDBs must be depreciated,
    however, using the straight-line method. The annual volume of small
    issue IDBs is subject to the unified volume cap discussed in the
    mortgage housing bond section above.
      65. Deduction for U.S. production activities.--This provision was
    introduced by the AJCA in 2004 and allows for a deduction equal to a
    portion of taxable income attributable to domestic production. For
    taxable years beginning in 2004, 2005, 2006, 2007, and 2008, the amount
    of the deduction is 5, 5, 5, 6, and 7 percent, respectively. For taxable
    years beginning after 2008, the amount of the deduction is 9 percent.
      66. Special rules for certain film and TV production.--Taxpayers may
    deduct up to $15 million ($15 million in certain distressed areas) per
    production expenditures in the year incurred. Excess expenditures may be
    deducted over three years using the straight line method. This provision
    was introduced by the AJCA enacted in 2004. Under prior law, production
    expenses were depreciated.

                                 Transportation

      67. Deferral of tax on U.S. shipping companies.--Certain companies
    that operate U.S. flag vessels can defer income taxes on that portion of
    their income used for shipping purposes, primarily construction,
    modernization and major repairs to ships, and repayment of loans to
    finance these investments. Once indefinite, the deferral has been
    limited to 25 years since January 1, 1987.
      68. Exclusion of employee parking expenses.--Employee parking expenses
    that are paid for by the employer or that are received in lieu of wages
    are excludable from the income of the employee. In 2004,

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    the maximum amount of the parking exclusion is $195 (indexed) per month.
    The tax expenditure estimate does not include parking at facilities
    owned by the employer.
      69. Exclusion of employee transit pass expenses.--Transit passes,
    tokens, fare cards, and vanpool expenses paid for by an employer or
    provided in lieu of wages to defray an employee's commuting costs are
    excludable from the employee's income. In 2005, the maximum amount of
    the exclusion is $105 (indexed) per month.
      70. Tax credit for certain expenditures for maintaining railroad
    tracks.--Eligible taxpayers may claim a credit equal to the lesser of 50
    percent of maintenance expenditures and the product of $3,500 and the
    number of miles of track owned or leased. This provision was introduced
    by the AJCA in 2004.

                       Community and Regional Development

      71. Rehabilitation of structures.--A 10-percent investment tax credit
    is available for the rehabilitation of buildings that are used for
    business or productive activities and that were erected before 1936 for
    other than residential purposes. The taxpayer's recoverable basis must
    be reduced by the amount of the credit.
      72. Airport, dock, and similar facility bonds.--Interest earned on
    State and local bonds issued to finance high-speed rail facilities and
    government-owned airports, docks, wharves, and sport and convention
    facilities is tax-exempt. These bonds are not subject to a volume cap.
      73. Exemption of income of mutuals and cooperatives.--The incomes of
    mutual and cooperative telephone and electric companies are exempt from
    tax if at least 85 percent of their revenues are derived from patron
    service charges.
      74. Empowerment zones, enterprise communities, and renewal
    communities.--Qualifying businesses in designated economically depressed
    areas can receive tax benefits such as an employer wage credit,
    increased expensing of investment in equipment, special tax-exempt
    financing, accelerated depreciation, and certain capital gains
    incentives. The Job Creation and Worker Assistance Act of 2002 expanded
    the existing provisions by adding the ``New York City Liberty Zone.'' In
    addition, the Working Families Tax Relief Act of 2004 extended the
    District of Columbia Enterprise Zone and the District of Columbia first
    time homebuyer credit by two years through 2005.
      75. New markets tax credit.--Taxpayers who invest in a community
    development entity (CDE) after December 31, 2000 are eligible for a tax
    credit. The total equity investment available for the credit across all
    CDEs is $1.0 billion in 2001, $1.5 billion in 2002 and 2003, $2.0
    billion in 2004 and 2005, and $3.5 billion in 2006 and 2007. The amount
    of the credit equals (1) 5 percent in the year of purchase and the
    following 2 years, and (2) 6 percent in the following 4 years. A CDE is
    any domestic firm whose primary mission is to serve or provide
    investment capital for low-income communities/individuals; a CDE must be
    accountable to residents of low-income communities. The Community
    Renewal Tax Relief Act of 2000 created the new markets tax credit.
      76. Expensing of environmental remediation costs.--Taxpayers who clean
    up certain hazardous substances at a qualified site may expense the
    clean-up costs, rather than capitalize the costs, even though the
    expenses will generally increase the value of the property significantly
    or appreciably prolong the life of the property. The Working Families
    Tax Relief Act of 2004 extended this provision for two years, allowing
    remediation expenditures incurred before December 31, 2005 to be
    eligible for expensing.
      77. Deferral of capital gains with respect of dispositions of
    transmission property.--This provision, introduced by the AJCA, provides
    for the deferral of gains from sales or dispositions to implement
    Federal Energy Regulatory Commission or State electric restructuring
    policy.

              Education, Training, Employment, and Social Services

      78. Scholarship and fellowship income.--Scholarships and fellowships
    are excluded from taxable income to the extent they pay for tuition and
    course-related expenses of the grantee. Similarly, tuition reductions
    for employees of educational institutions and their families are not
    included in taxable income. From an economic point of view, scholarships
    and fellowships are either gifts not conditioned on the performance of
    services, or they are rebates of educational costs. Thus, under the
    reference law method, this exclusion is not a tax expenditure because
    this method does not include either gifts or price reductions in a
    taxpayer's gross income. The exclusion, however, is considered a tax
    expenditure under the normal tax method, which includes gift-like
    transfers of Government funds in gross income (many scholarships are
    derived directly or indirectly from Government funding).
      79. HOPE tax credit.--The non-refundable HOPE tax credit allows a
    credit for 100 percent of an eligible student's first $1,000 of tuition
    and fees and 50 percent of the next $1,000 of tuition and fees. The
    credit only covers tuition and fees paid during the first two years of a
    student's post-secondary education. In 2004, the credit is phased out
    ratably for taxpayers with modified AGI between $85,000 and $105,000
    ($42,000 and $52,000 for singles), indexed.
      80. Lifetime Learning tax credit.--The non-refundable Lifetime
    Learning tax credit allows a credit for 20 percent of an eligible
    student's tuition and fees. For tuition and fees paid after December 31,
    2002, the maximum credit per return is $2,000. The credit is phased out
    ratably for taxpayers with modified AGI between $85,000 and $105,000
    ($42,000 and $52,000 for singles) (indexed beginning in 2002). The
    credit applies to both undergraduate and graduate students.
      81. Deduction for Higher Education Expenses.--The maximum annual
    deduction for qualified higher education expenses is $4,000 in 2004 for
    taxpayers with

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    adjusted gross income up to $130,000 on a joint return ($65,000 for
    singles). Taxpayers with adjusted gross income up to $160,000 on a joint
    return ($80,000 for singles) may deduct up to $2,000 beginning in 2004.
    No deduction is allowed for expenses paid after December 31, 2005.
      82. Education Individual Retirement Accounts.--Contributions to an
    education IRA are not tax-deductible. Investment income earned by
    education IRAs is not taxed when earned, and investment income from an
    education IRA is tax-exempt when withdrawn to pay for a student's
    tuition and fees. The maximum contribution to an education IRA in 2004
    is $2000 per beneficiary. The maximum contribution is phased down
    ratably for taxpayers with modified AGI between $190,000 and $220,000
    ($95,000 and $110,000 for singles).
      83. Student-loan interest.--Taxpayers may claim an above-the-line
    deduction of up to $2,500 on interest paid on an education loan.
    Interest may only be deducted for the first five years in which interest
    payments are required. In 2004, the maximum deduction is phased down
    ratably for taxpayers with modified AGI between $100,000 and $130,000
    ($50,000 and $65,000 for singles), indexed.
      84. State prepaid tuition plans.--Some States have adopted prepaid
    tuition plans and prepaid room and board plans, which allow persons to
    pay in advance for college expenses for designated beneficiaries. In
    2001 taxes on the earnings from these plans are paid by the
    beneficiaries and are deferred until tuition is actually paid. Beginning
    in 2002, investment income is not taxed when earned, and is tax-exempt
    when withdrawn to pay for qualified expenses.
      85. Student-loan bonds.--Interest earned on State and local bonds
    issued to finance student loans is tax-exempt. The volume of all such
    private activity bonds that each State may issue annually is limited.
      86. Bonds for private nonprofit educational institutions.--Interest
    earned on State and local Government bonds issued to finance the
    construction of facilities used by private nonprofit educational
    institutions is not taxed.
      87. Credit for holders of zone academy bonds.--Financial institutions
    that own zone academy bonds receive a non-refundable tax credit (at a
    rate set by the Treasury Department) rather than interest. The credit is
    included in gross income. Proceeds from zone academy bonds may only be
    used to renovate, but not construct, qualifying schools and for certain
    other school purposes. The total amount of zone academy bonds that may
    be issued is limited to $1.6 billion--$400 million in each year from
    1998 to 2005.
      88. U.S. savings bonds for education.--Interest earned on U.S. savings
    bonds issued after December 31, 1989 is tax-exempt if the bonds are
    transferred to an educational institution to pay for educational
    expenses. The tax exemption is phased out for taxpayers with AGI between
    $89,750 and $119.750 ($59,850 and $74,850 for singles) in 2004.
      89. Dependent students age 19 or older.--Taxpayers may claim personal
    exemptions for dependent children age 19 or over who (1) receive
    parental support payments of $1,000 or more per year, (2) are full-time
    students, and (3) do not claim a personal exemption on their own tax
    returns.
      90. Charitable contributions to educational institutions.--Taxpayers
    may deduct contributions to nonprofit educational institutions.
    Taxpayers who donate capital assets to educational institutions can
    deduct the asset's current value without being taxed on any appreciation
    in value. An individual's total charitable contribution generally may
    not exceed 50 percent of adjusted gross income; a corporation's total
    charitable contributions generally may not exceed 10 percent of pre-tax
    income.
      91. Employer-provided educational assistance.--Employer-provided
    educational assistance is excluded from an employee's gross income even
    though the employer's costs for this assistance are a deductible
    business expense. EGTRRA permanently extended this exclusion and
    extended the exclusion to also include graduate education (beginning in
    2002).
      92. Special deduction for teacher expenses.--Educators in both public
    and private elementary and secondary schools, who work at least 900
    hours during a school year as a teacher, instructor, counselor,
    principal or aide, may subtract up to $250 of qualified expenses when
    figuring their adjusted gross income (AGI).
      93. Discharge of student loan indebtedness.--Certain professionals who
    perform in underserved areas, and as a consequence get their student
    loans discharged, may not recognize such discharge as income. This
    provision was expanded by the AJCA to include health professionals.
      94. Work opportunity tax credit.--Employers can claim a tax credit for
    qualified wages paid to individuals who begin work on or before December
    31, 2005 and who are certified as members of various targeted groups.
    The amount of the credit that can be claimed is 25 percent for
    employment of less than 400 hours and 40 percent for employment of 400
    hours or more. The maximum credit per employee is $2,400 and can only be
    claimed on the first year of wages an individual earns from an employer.
    Employers must reduce their deduction for wages paid by the amount of
    the credit claimed.
      95. Welfare-to-work tax credit.--An employer is eligible for a tax
    credit on the first $20,000 of eligible wages paid to qualified long-
    term family assistance recipients during the first two years of
    employment. The credit is 35 percent of the first $10,000 of wages in
    the first year of employment and 50 percent of the first $10,000 of
    wages in the second year of employment. The maximum credit is $8,500 per
    employee. The credit applies to wages paid to employees who are hired on
    or before December 31, 2005.
      96. Employer-provided child care exclusion.--Up to $5,000 of employer-
    provided child care is excluded from an employee's gross income even
    though the em

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    ployer's costs for the child care are a deductible business expense.
      97. Employer-provided child care credit.--Employers can deduct
    expenses for supporting child care or child care resource and referral
    services. EGTRRA provides a tax credit to employers for qualified
    expenses beginning in 2002. The credit is equal to 25 percent of
    qualified expenses for employee child care and 10 percent of qualified
    expenses for child care resource and referral services. Employer
    deductions for such expenses are reduced by the amount of the credit.
    The maximum total credit is limited to $150,000 per taxable year.
      98. Assistance for adopted foster children.--Taxpayers who adopt
    eligible children from the public foster care system can receive monthly
    payments for the children's significant and varied needs and a
    reimbursement of up to $2,000 for nonrecurring adoption expenses. These
    payments are excluded from gross income.
      99. Adoption credit and exclusion.--Taxpayers can receive a
    nonrefundable tax credit for qualified adoption expenses. The maximum
    credit is $10,390 per child for 2004, and is phased-out ratably for
    taxpayers with modified AGI between $155,860 and $195,860. The credit
    amounts and the phase-out thresholds are indexed for inflation beginning
    in 2003. Unused credits may be carried forward and used during the five
    subsequent years. Taxpayers may also exclude qualified adoption expenses
    from income, subject to the same maximum amounts and phase-out as the
    credit. The same expenses cannot qualify for tax benefits under both
    programs; however, a taxpayer may use the benefits of the exclusion and
    the tax credit for different expenses. Stepchild adoptions are not
    eligible for either benefit.
      100. Employer-provided meals and lodging.--Employer-provided meals and
    lodging are excluded from an employee's gross income even though the
    employer's costs for these items are a deductible business expense.
      101. Child credit.--Taxpayers with children under age 17 can qualify
    for a $1,000 refundable per child credit. The maximum credit declines to
    $500 in 2011 and later years. The credit is phased out for taxpayers at
    the rate of $50 per $1,000 of modified AGI above $110,000 ($75,000 for
    singles).
      102. Child and dependent care expenses.--Married couples with child
    and dependent care expenses may claim a tax credit when one spouse works
    full time and the other works at least part time or goes to school. The
    credit may also be claimed by single parents and by divorced or
    separated parents who have custody of children. Expenditures up to a
    maximum $3,000 for one dependent and $6,000 for two or more dependents
    are eligible for the credit. The credit is equal to 35 percent of
    qualified expenditures for taxpayers with incomes of $15,000. The credit
    is reduced to a minimum of 20 percent by one percentage point for each
    $2,000 of income in excess of $15,000.
      103. Disabled access expenditure credit.--Small businesses (less than
    $1 million in gross receipts or fewer than 31 full-time employees) can
    claim a 50-percent credit for expenditures in excess of $250 to remove
    access barriers for disabled persons. The credit is limited to $5,000.
      104. Charitable contributions, other than education and health.--
    Taxpayers may deduct contributions to charitable, religious, and certain
    other nonprofit organizations. Taxpayers who donate capital assets to
    charitable organizations can deduct the assets' current value without
    being taxed on any appreciation in value. An individual's total
    charitable contribution generally may not exceed 50 percent of adjusted
    gross income; a corporation's total charitable contributions generally
    may not exceed 10 percent of pre-tax income.
      105. Foster care payments.--Foster parents provide a home and care for
    children who are wards of the State, under contract with the State.
    Compensation received for this service is excluded from the gross
    incomes of foster parents; the expenses they incur are nondeductible.
      106. Parsonage allowances.--The value of a minister's housing
    allowance and the rental value of parsonages are not included in a
    minister's taxable income.

                                     Health

      107. Employer-paid medical insurance and expenses.--Employer-paid
    health insurance premiums and other medical expenses (including long-
    term care) are deducted as a business expense by employers, but they are
    not included in employee gross income. The self-employed also may deduct
    part of their family health insurance premiums.
      108. Self-employed medical insurance premiums.--Self-employed
    taxpayers may deduct a percentage of their family health insurance
    premiums. Taxpayers without self-employment income are not eligible for
    the special percentage deduction. The deductible percentage is 60
    percent in 2001, 70 percent in 2002, and 100 percent in 2003 and
    thereafter.
      109. Medical and health savings accounts.--Some employees may deduct
    annual contributions to a medical savings account (MSA); employer
    contributions to MSAs (except those made through cafeteria plans) for
    qualified employees are also excluded from income. An employee may
    contribute to an MSA in a given year only if the employer does not
    contribute to the MSA in that year. MSAs are only available to self-
    employed individuals or employees covered under an employer-sponsored
    high deductible health plan of a small employer. The maximum annual MSA
    contribution is 75 percent of the deductible under the high deductible
    plan for family coverage (65 percent for individual coverage). Earnings
    from MSAs are excluded from taxable income. Distributions from an MSA
    for medical expenses are not taxable. The number of taxpayers who may
    benefit annually from MSAs is generally limited to 750,000. No new MSAs
    may be established after December 31, 2003. The Medicare Prescription
    Drug, Improvement,

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    and Modernization Act of 2003 introduced health savings accounts (HSA)
    which provides a tax-favored savings for health care expenses. The
    definition of a high-deductible health plan is less restrictive for HSAs
    than for MSAs.
      110. Medical care expenses.--Personal expenditures for medical care
    (including the costs of prescription drugs) exceeding 7.5 percent of the
    taxpayer's adjusted gross income are deductible.
      111. Hospital construction bonds.--Interest earned on State and local
    government debt issued to finance hospital construction is excluded from
    income subject to tax.
      112. Charitable contributions to health institutions.--Individuals and
    corporations may deduct contributions to nonprofit health institutions.
    Tax expenditures resulting from the deductibility of contributions to
    other charitable institutions are listed under the education, training,
    employment, and social services function.
      113. Orphan drugs.--Drug firms can claim a tax credit of 50 percent of
    the costs for clinical testing required by the Food and Drug
    Administration for drugs that treat rare physical conditions or rare
    diseases.
      114. Blue Cross and Blue Shield.--Blue Cross and Blue Shield health
    insurance providers in existence on August 16, 1986 and certain other
    nonprofit health insurers are provided exceptions from otherwise
    applicable insurance company income tax accounting rules that
    substantially reduce (or even eliminate) their tax liabilities.
      115. Tax credit for health insurance purchased by certain displaced
    and retired individuals.--The Trade Act of 2002 provided a refundable
    tax credit of 65 percent for the purchase of health insurance coverage
    by individuals eligible for Trade Adjustment Assistance and certain PBGC
    pension recipients.

                                 Income Security

      116. Railroad retirement benefits.--Railroad retirement benefits are
    not generally subject to the income tax unless the recipient's gross
    income reaches a certain threshold. The threshold is discussed more
    fully under the Social Security function.
      117. Workers' compensation benefits.--Workers compensation provides
    payments to disabled workers. These benefits, although income to the
    recipients, are not subject to the income tax.
      118. Public assistance benefits.--Public assistance benefits are
    excluded from tax. The normal tax method considers cash transfers from
    the Government as taxable and, thus, treats the exclusion for public
    assistance benefits as a tax expenditure.
      119. Special benefits for disabled coal miners.--Disability payments
    to former coal miners out of the Black Lung Trust Fund, although income
    to the recipient, are not subject to the income tax.
      120. Military disability pensions.--Most of the military pension
    income received by current disabled retired veterans is excluded from
    their income subject to tax.
      121. Employer-provided pension contributions and earnings.--Certain
    employer contributions to pension plans are excluded from an employee's
    gross income even though the employer can deduct the contributions. In
    addition, the tax on the investment income earned by the pension plans
    is deferred until the money is withdrawn.
      122. 401(k) plans.--Individual taxpayers can make tax-preferred
    contributions to certain types of employer-provided 401(k) plans (and
    401(k)-type plans like 403(b) plans and the Federal government's Thrift
    Savings Plan). In 2004, an employee could exclude up to $14,000 of wages
    from AGI under a qualified arrangement with an employer's 401(k) plan.
    This increases to $14,000 in 2005 and $15,000 in 2006 (indexed
    thereafter). The tax on the investment income earned by 401(k)-type
    plans is deferred until withdrawn.
      Employees are allowed to make after-tax contributions to 401(k) and
    401(k)-type plans. These contributions are not excluded from AGI, but
    the investment income of such after-tax contributions is not taxed when
    earned or withdrawn.
      123. Individual Retirement Accounts.--Individual taxpayers can take
    advantage of several different Individual Retirement Accounts (IRAs):
    deductible IRAs, non-deductible IRAs, and Roth IRAs. The annual
    contributions limit applies to the total of a taxpayer's deductible,
    non-deductible, and Roth IRAs contributions. The IRA contribution limit
    is $3,000 in 2004, $4,000 in 2005, and $5,000 in 2008 (indexed
    thereafter) and allows taxpayers over age 50 to make additional ``catch-
    up'' contributions of $1,000 (by 2006).
      Taxpayers whose AGI is below $75,000 ($55,000 for non-joint filers) in
    2004 can claim a deduction for IRA contributions. The IRA deduction is
    phased out for taxpayers with AGI between $65,000 and $75,000 ($45,000
    and $55,000 for non-joint). The phase-out range increases annually until
    it reaches $80,000 to $100,000 in 2007 ($50,000 to $60,000 in 2005 for
    non-joint filers). Taxpayers whose AGI is above the phase-out range can
    also claim a deduction for their IRA contributions depending on whether
    they (or their spouse) are an active participant in an employer-provided
    retirement plan. The tax on the investment income earned by 401(k)
    plans, non-deductible IRAs, and deductible IRAs is deferred until the
    money is withdrawn.
      Taxpayers with incomes below $160,000 ($110,000 for nonjoint filers)
    can make contributions to Roth IRAs. The maximum contribution to a Roth
    IRA is phased out for taxpayers with AGI between $150,000 and $160,000
    ($95,000 and $110,000 for singles). Investment income of a Roth IRA is
    not taxed when earned nor when withdrawn. Withdrawals from a Roth IRA
    are penalty free if: (1) the Roth IRA was opened at least 5 years before
    the withdrawal, and (2) the taxpayer either (a) is at least 591/2, (b)
    dies, (c) is disabled, or (d) purchases a first-time house.

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      Taxpayers can contribute to a non-deductible IRA regardless of their
    income and whether they are an active participant in an employer-
    provided retirement plan. The tax on investment income earned by non-
    deductible IRAs is deferred until the money is withdrawn.
      124. Low and moderate income savers' credit.--The Tax Code provides an
    additional incentive for lower-income taxpayers to save through a
    nonrefundable credit of up to 50 percent on IRA and other retirement
    contributions of up to $2,000. This credit is in addition to any
    deduction or exclusion. The credit is completely phased out by $50,000
    for joint filers and $25,000 for single filers. This temporary credit is
    in effect from 2002 through 2006.
      125. Keogh plans.--Self-employed individuals can make deductible
    contributions to their own retirement (Keogh) plans equal to 25 percent
    of their income, up to a maximum of $40,000 in 2001. Total plan
    contributions are limited to 25 percent of a firm's total wages. The tax
    on the investment income earned by Keogh plans is deferred until
    withdrawn.
      126. Employer-provided life insurance benefits.--Employer-provided
    life insurance benefits are excluded from an employee's gross income
    even though the employer's costs for the insurance are a deductible
    business expense, but only to the extent that the employer's share of
    the total costs does not exceed the cost of $50,000 of such insurance.
      127. Small business retirement plan credit.--EGTRRA provides
    businesses with 100 or fewer employees a credit for 50 percent of the
    qualified startup costs associated with a new qualified retirement plan.
    The credit is limited to $500 annually and may only be claimed for
    expenses incurred during the first three years from the start of the
    qualified plan. Qualified startup expenses include expenses related to
    the establishment and administration of the plan, and the retirement-
    related education of employees. The credit applies to costs incurred
    beginning in 2002.
      128. Employer-provided accident and disability benefits.--Employer-
    provided accident and disability benefits are excluded from an
    employee's gross income even though the employer's costs for the
    benefits are a deductible business expense.
      129. Employer-provided supplementary unemployment benefits.--Employers
    may establish trusts to pay supplemental unemployment benefits to
    employees separated from employment. Interest payments to such trusts
    are exempt from taxation.
      130. Employer Stock Ownership Plan (ESOP) provisions.--ESOPs are a
    special type of tax-exempt employee benefit plan. Employer-paid
    contributions (the value of stock issued to the ESOP) are deductible by
    the employer as part of employee compensation costs. They are not
    included in the employees' gross income for tax purposes, however, until
    they are paid out as benefits. The following special income tax
    provisions for ESOPs are intended to increase ownership of corporations
    by their employees: (1) annual employer contributions are subject to
    less restrictive limitations; (2) ESOPs may borrow to purchase employer
    stock, guaranteed by their agreement with the employer that the debt
    will be serviced by his payment (deductible by him) of a portion of
    wages (excludable by the employees) to service the loan; (3) employees
    who sell appreciated company stock to the ESOP may defer any taxes due
    until they withdraw benefits; and (4) dividends paid to ESOP-held stock
    are deductible by the employer.
      131. Additional deduction for the blind.--Taxpayers who are blind may
    take an additional $1,200 standard deduction if single, or $950 if
    married in 2004.
      132. Additional deduction for the elderly.--Taxpayers who are 65 years
    or older may take an additional $1,200 standard deduction if single, or
    $950 if married in 2004.
      133. Tax credit for the elderly and disabled.--Individuals who are 65
    years of age or older, or who are permanently disabled, can take a tax
    credit equal to 15 percent of the sum of their earned and retirement
    income. Income is limited to no more than $5,000 for single individuals
    or married couples filing a joint return where only one spouse is 65
    years of age or older, and up to $7,500 for joint returns where both
    spouses are 65 years of age or older. These limits are reduced by one-
    half of the taxpayer's adjusted gross income over $7,500 for single
    individuals and $10,000 for married couples filing a joint return.
      134. Casualty losses.--Neither the purchase of property nor insurance
    premiums to protect its value are deductible as costs of earning income;
    therefore, reimbursement for insured loss of such property is not
    reportable as a part of gross income. Taxpayers, however, may deduct
    uninsured casualty and theft losses of more than $100 each, but only to
    the extent that total losses during the year exceed 10 percent of AGI.
      135. Earned income tax credit (EITC).--The EITC may be claimed by low
    income workers. For a family with one qualifying child, the credit is 34
    percent of the first $7,660 of earned income in 2004. The credit is 40
    percent of the first $10,750 of income for a family with two or more
    qualifying children. The credit is phased out beginning when the
    taxpayer's income exceeds $14,040 at the rate of 15.98 percent (21.06
    percent if two or more qualifying children are present). It is
    completely phased out when the taxpayer's modified adjusted gross income
    reaches $30,338 ($34,458 if two or more qualifying children are
    present), $31,338 (or $35,458) for those married.
      The credit may also be claimed by workers who do not have children
    living with them. Qualifying workers must be at least age 25 and may not
    be claimed as a dependent on another taxpayer's return. The credit is
    not available to workers age 65 or older. In 2004, the credit is 7.65
    percent of the first $5,100 of earned income. When the taxpayer's income
    exceeds $6,390 (7,390 if married), the credit is phased out at the rate
    of 7.65 percent. It is completely phased out at $11,490 ($12,490 for
    married) of modified adjusted gross income.

    [[Page 346]]

      For workers with or without children, the income levels at which the
    credit begins to phase-out and the maximum amounts of income on which
    the credit can be taken are adjusted for inflation. For married
    taxpayers filing a joint return, the base amount for the phase-out
    increases by $2,000 in 2005 through 2007, and $3,000 in 2008 (indexed
    thereafter).
      Earned income tax credits in excess of tax liabilities owed through
    the individual income tax system are refundable to individuals. This
    portion of the credit is shown as an outlay, while the amount that
    offsets tax liabilities is shown as a tax expenditure.

                                 Social Security

      136. Social Security benefits for retired workers.--The non-taxation
    of Social Security benefits that exceed the beneficiary's contributions
    out of taxed income is a tax expenditure. These additional retirement
    benefits are paid for partly by employers' contributions that were not
    included in employees' taxable compensation. Portions (reaching as much
    as 85 percent) of recipients' Social Security and Tier 1 Railroad
    Retirement benefits are included in the income tax base, however, if the
    recipient's provisional income exceeds certain base amounts. Provisional
    income is equal to adjusted gross income plus foreign or U.S. possession
    income and tax-exempt interest, and one half of Social Security and tier
    1 railroad retirement benefits. The tax expenditure is limited to the
    portion of the benefits received by taxpayers who are below the base
    amounts at which 85 percent of the benefits are taxable.
      137. Social Security benefits for the disabled.--Benefit payments from
    the Social Security Trust Fund for disability are partially excluded
    from a beneficiary's gross incomes.
      138. Social Security benefits for dependents and survivors.--Benefit
    payments from the Social Security Trust Fund for dependents and
    survivors are partially excluded from a beneficiary's gross income.

                         Veterans Benefits and Services

      139. Veterans death benefits and disability compensation.--All
    compensation due to death or disability paid by the Veterans
    Administration is excluded from taxable income.
      140. Veterans pension payments.--Pension payments made by the Veterans
    Administration are excluded from gross income.
      141. G.I. Bill benefits.--G.I. Bill benefits paid by the Veterans
    Administration are excluded from gross income.
      142. Tax-exempt mortgage bonds for veterans.--Interest earned on
    general obligation bonds issued by State and local governments to
    finance housing for veterans is excluded from taxable income. The
    issuance of such bonds is limited, however, to five pre-existing State
    programs and to amounts based upon previous volume levels for the period
    January 1, 1979 to June 22, 1984. Furthermore, future issues are limited
    to veterans who served on active duty before 1977.

                               General Government

      143. Public purpose State and local bonds.--Interest earned on State
    and local government bonds issued to finance public-purpose construction
    (e.g., schools, roads, sewers), equipment acquisition, and other public
    purposes is tax-exempt. Interest on bonds issued by Indian tribal
    governments for essential governmental purposes is also tax-exempt.
      144. Deductibility of certain nonbusiness State and local taxes.--
    Taxpayers may deduct State and local income taxes and property taxes
    even though these taxes primarily pay for services that, if purchased
    directly by taxpayers, would not be deductible.
      145. Business income earned in U.S. possessions.--U.S. corporations
    operating in a U.S. possession (e.g., Puerto Rico) can claim a credit
    against some or all of their U.S. tax liability on possession business
    income. The credit expires December 31, 2005.

                                    Interest

      146. U.S. savings bonds.--Taxpayers may defer paying tax on interest
    earned on U.S. savings bonds until the bonds are redeemed.

                                    Appendix:

               TREASURY REVIEW OF THE TAX EXPENDITURE PRESENTATION

      This appendix provides a presentation of the Treasury Department's
    continuing review of the tax expenditure budget. The review focuses on
    three issues: (1) using comprehensive income as a baseline tax system,
    (2) using a consumption tax as a baseline tax system, and (3) defining
    negative tax expenditures (provisions that cause taxpayers to pay too
    much tax).
      The first section of this appendix compares major tax expenditures in
    the current budget to those implied by a comprehensive income baseline.
    This comparison includes a discussion of negative tax expenditures. The
    second section compares the major tax expenditures in the current budget
    to those implied by a consumption tax baseline, and also discusses
    negative tax expenditures. The final section addresses concerns that
    have been raised over the measurement of some current tax expenditures
    by describing new estimates of the tax expenditure caused by accelerated
    depreciation and by the tax exemption of the return earned on owner-
    occupied housing, and an alternative estimate of the tax expenditure for
    the preferential treatment of capital gains. The final section also
    provides an estimate of the negative tax expenditure caused by the
    double tax on corporate profits.

    [[Page 347]]

        DIFFERENCES BETWEEN OFFICIAL TAX EXPENDITURES AND THOSE BASED ON
                              COMPREHENSIVE INCOME

      As discussed in the main body of the tax expenditure chapter, official
    tax expenditures are measured relative to normal law or reference law
    baselines that deviate from a uniform tax on a comprehensive concept of
    income. Consequently, tax expenditures identified in the budget can
    differ from those that would be identified if a comprehensive income tax
    were chosen as the baseline tax system. This appendix addresses this
    issue by comparing major tax expenditures listed in the current tax
    expenditure budget with those implied by a comprehensive income
    baseline. Many large tax expenditures would continue to be tax
    expenditures were the baseline taken to be comprehensive income,
    although some would be smaller. A comprehensive income baseline would
    also result in a number of additional tax provisions being counted as
    tax expenditures.
      Current budgetary practice excludes from the list of official tax
    expenditures those provisions that over-tax certain items of income.
    This exclusion conforms to the view that tax expenditures are
    substitutes for direct Government spending programs. However, this
    treatment gives a one-sided picture of how current law deviates from the
    baseline tax system. Relative to comprehensive income, a number of
    current tax provisions would be negative tax expenditures. Some of these
    also might be negative tax expenditures under the reference law or
    normal law baselines, expanded to admit negative tax expenditures.

    Treatment of Major Tax Expenditures from the Current Budget under a
    Comprehensive Income Tax Baseline

      Comprehensive income, also called Haig-Simons income, is the real,
    inflation adjusted, accretion to one's economic power arising between
    two points in time, e.g., the beginning and ending of the year. It
    includes all accretions to wealth, whether or not realized, whether or
    not related to a market transaction, and whether a return to capital or
    labor. Inflation adjusted capital gains (and losses) would be included
    in comprehensive income as they accrue. Business, investment, and
    casualty losses, including losses caused by depreciation, would be
    deducted. Implicit returns, such as those accruing to homeowners, also
    would be included in comprehensive income. A comprehensive income tax
    baseline would tax all sources of income once. Thus, it would not
    include a separate tax on corporate income that leads to the double
    taxation of corporate profits.
      While comprehensive income can be defined on the sources side of the
    consumer's balance sheet, it sometimes is instructive to use the
    identity between the sources of wealth and the uses of wealth to
    redefine it as the sum of consumption during the period plus the change
    in net worth between the beginning and the end of the period.
      Comprehensive income is widely held to be the idealized base for an
    income tax even though it is not a perfectly defined concept. \6\ It
    suffers from conceptual ambiguities, some of which are discussed below,
    as well as practical problems in measurement and tax administration,
    e.g., how to implement a practicable deduction for economic depreciation
    or include in income the return earned on consumer durable goods,
    including housing, automobiles, and major appliances.
    ---------------------------------------------------------------------------
      \6\ See, e.g., David F. Bradford, Untangling the Income Tax
    (Cambridge, MA: Harvard University Press, 1986), pp. 15-31, and Richard
    Goode, ``The Economic Definition of Income'' in Joseph Pechman, ed.,
    Comprehensive Income Taxation (Washington, D.C.: The Brookings
    Institution, 1977), pp. 1-29.
    ---------------------------------------------------------------------------
      Furthermore, comprehensive income does not necessarily represent an
    ideal tax base; efficiency or equity might be improved by deviating from
    comprehensive income as a tax base, e.g., by reducing the tax on capital
    income in order to further spur economic growth or by subsidizing
    certain types of activities in order to correct for market failures or
    to improve the after-tax distribution of income. In addition, some
    elements of comprehensive income would be difficult or impossible to
    include in a tax system that is administrable.
      Classifying individual tax provisions relative to a comprehensive
    income baseline is difficult, in part because of the ambiguity of the
    baseline. It also is difficult because of interactions between tax
    provisions (or their absence). These interactions mean that it may not
    always be appropriate to consider each provision in isolation.
    Nonetheless, Appendix Table 1 attempts such a classification for each of
    the thirty largest tax expenditures from the Budget.
      We classify fifteen of the thirty items as tax expenditures under a
    comprehensive tax base (those in panel A). Most of these give
    preferential tax treatment to the return on certain types of savings or
    investment. They are a result of the explicitly hybrid nature of the
    existing tax system, and arise out of policy decisions that reflect
    discomfort with the high tax rate on capital income that would otherwise
    arise under the current structure of the income tax. Even these
    relatively clear cut items, however, can raise ambiguities particularly
    in light of the absence of integration of the corporate and individual
    tax systems. Given current law's corporate income tax, the reduction or
    elimination of individual level tax on income from investment in
    corporate equities might not be a tax expenditure relative to a
    comprehensive income baseline. Rather, an individual income tax
    preference might undo the corporate tax penalty (i.e., the double tax).
    This perspective is reflected in adjustments that have been made to the
    calculation of the tax expenditures for pensions and several other items
    in the 2006 budget (as discussed above). However, these adjustments have
    not been made in all tax expenditure calculations, e.g., no adjustment
    was made in the exclusion of interest on life insurance saving. A
    similar line of reasoning could be used to argue that in the case of
    corporations, expens

    [[Page 348]]

    ing \7\ of R&E is not a tax expenditure because it serves to offset the
    corporate tax penalty.
    ---------------------------------------------------------------------------
      \7\ Expensing means immediate deduction. Proper income tax treatment
    requires capitalization followed by annual depreciation allowances
    reflecting the decay in value of the associated R&E spending.
    ---------------------------------------------------------------------------
      In contrast to treatment in previous budgets, the 2006 budget includes
    as a tax expenditure the failure to tax net rental income from owner-
    occupied housing. Because net rental income (gross rents minus
    depreciation, interest, taxes, and other expenses) would be in the
    homeowner's tax base under a comprehensive income tax baseline, this
    item would be a tax expenditure relative to a comprehensive income
    baseline.
      The exclusion of worker's compensation benefits also would be a tax
    expenditure under comprehensive income principles. Under comprehensive
    income tax principles, if the worker were to buy the insurance himself,
    he would be able to deduct the premium (since it represents a reduction
    in net worth) but should include in income the benefit when paid (since
    it represents an increase in net worth). \8\ If the employer pays the
    premium, the proper treatment would allow the employer a deduction and
    allow the employee to disregard the premium, but he would take the
    proceeds, if any, into income. Current law allows the employer to deduct
    the premium and excludes both the premium and the benefits from the
    employee's tax base.
    ---------------------------------------------------------------------------
      \8\ Suppose a taxpayer buys a one year term unemployment insurance
    policy at the beginning of the year. At that time he exchanges one
    asset, cash, for another, the insurance policy, so there is no change in
    net worth. But, at the end of the year, the policy expires and so is
    worthless, hence the taxpayer has a reduction in net worth equal to the
    premium. If the policy pays off during the year (i.e., the taxpayer has
    a work related injury), then the taxpayer would include the proceeds in
    income because they represent an increase in his net worth.
    ---------------------------------------------------------------------------
      Veteran's death and disability benefits seem likely to represent a tax
    expenditure. This is clearly the case to the extent they are seen as
    deferred wages or as transfers. It also is the case to the extent that
    they are seen as insurance benefits, since the premiums, which come in
    the form of foregone wages, were not included in taxable income. \9\
    ---------------------------------------------------------------------------
      \9\ The treatment of insurance premiums and benefits is discussed more
    completely below.
    ---------------------------------------------------------------------------
      Panel B deals with items that probably are tax expenditures, but that
    raise issues. Current law allows deductions for home mortgage interest
    and for property taxes on owner-occupied housing. The tax expenditure
    budget includes both of these deductions. From one perspective, these
    two deductions would not be considered tax expenditures relative to a
    comprehensive tax base; a comprehensive base would allow both
    deductions. However, this perspective ignores current law's failure to
    impute gross rental income. Conditional on this failure, the deductions
    for interest and property taxes might be viewed as inappropriate,
    because they move the tax system away from rather than towards a
    comprehensive income tax base. \10\ Indeed, the sum of the tax
    expenditure for these two deductions, plus the tax expenditure for the
    failure to include net rental income, sums to the tax expenditure for
    owner-occupied housing relative to a comprehensive income tax base.
    Consequently, there is a strong argument for classifying them as tax
    expenditures relative to a comprehensive income baseline.
    ---------------------------------------------------------------------------
      \10\ If there were no deduction for interest and property taxes, the
    tax expenditure base (i.e., the proper tax base minus the actual tax
    base) for owner-occupied housing would equal the homeowner's net rental
    income: gross rents--(depreciation+interest+property taxes+other
    expenses). With the deduction for interest and property taxes, the tax
    expenditure base rises to gross rents minus (depreciation+other
    expenses).
    ---------------------------------------------------------------------------
      The deduction of nonbusiness State and local taxes other than on
    owner-occupied homes also is included in this section. These taxes
    include income, sales, and property taxes. The stated justification for
    this tax expenditure is that ``Taxpayers may deduct State and local
    income taxes and property taxes even though these taxes primarily pay
    for services that, if purchased directly by taxpayers, would not be
    deductible. \11\ The idea is that these taxes represent (or serve as
    proxies for) consumption expenditures for which current law makes no
    imputations to income. \12\
    ---------------------------------------------------------------------------
      \11\ Fiscal Year 2003 Budget of the United States Government,
    Analytical Perspectives (Washington, D.C.: U.S. Government Printing
    Office, 2002) p. 127.
      \12\ Property taxes on owner-occupied housing also might serve as a
    proxy for the value of untaxed local services provided to homeowners. As
    such, they would be listed in the tax expenditure budget (as configured,
    i.e., building on the estimate for the failure to tax net rents) twice,
    once because current law does not tax rental income and again as a proxy
    for government services received. Property taxes on other consumer
    durables such as automobiles also might be included twice, owing to
    current law's exclusion from income of the associated service flow.
    ---------------------------------------------------------------------------
      In contrast to the view in the official Budget, however, the deduction
    for State and local taxes might not be a tax expenditure if the baseline
    were comprehensive income. Properly measured comprehensive income would
    include the value of State and local government benefits received, but
    would allow a deduction for State and local taxes paid. \13\ Thus, in
    this sense the deductibility of State and local taxes is consistent with
    comprehensive income tax principles; it should not be a tax expenditure.
    Nonetheless, imputing the value of State and local services is difficult
    and is not done under current law. Consequently, a deduction for taxes
    might sensibly be viewed as a tax expenditure relative to a
    comprehensive income baseline. \14\
    ---------------------------------------------------------------------------
      \13\ U.S. Treasury, Blueprints for Basic Tax Reform (Washington, D.C.:
    U.S. Government Printing Office, 1977) p. 92.
      \14\ Under the normal tax method employed by the Joint Committee on
    Taxation, the value of some public assistance benefits provided by State
    Governments is included as a tax expenditure, thereby raising a
    potential double counting issue.
    ---------------------------------------------------------------------------
      To the extent that the personal and dependent care exemptions and the
    standard deduction properly remove from taxable income all expenditures
    that do not yield suitably discretionary consumption value, or otherwise
    appropriately adjust for differing taxpaying capacity, then the child
    care credit and the earned income tax credit would be tax expenditures.
    In contrast, a competing perspective views these credits as appropriate
    modifications that account for differing taxpaying capacity. Even
    accepting this competing perspective, however, one might question why
    these programs come in the form of credits rather than deductions.
      The step-up of basis at death lowers the income tax on capital gains
    for those who inherit assets below what it would be otherwise. From that
    perspective it would be a tax expenditure under a comprehensive income
    baseline. Nonetheless, there are ambiguities. Under a comprehensive
    income baseline, all real inflation adjusted gains would be taxed as
    accrued, so there would be no deferred unrealized gains on assets held
    at death.
      The lack of full taxation of Social Security benefits also is listed
    in panel B. Consider first Social Security retirement benefits. To the
    extent that Social Security

    [[Page 349]]

    is viewed as a pension, a comprehensive income tax would include in
    income all contributions to Social Security retirement funds (payroll
    taxes) and tax accretions to value as they arise (inside build-up). \15\
    Benefits paid out of prior contributions and the inside build-up,
    however, would not be included in the tax base because the fall in the
    value of the individual's Social Security account would be offset by an
    increase in cash. In contrast, to the extent that Social Security is
    viewed as a transfer program, all contributions should be deductible
    from the income tax base and all benefits received should be included in
    the income tax base.
    ---------------------------------------------------------------------------
      \15\ As a practical matter, this may be impossible to do. Valuing
    claims subject to future contingencies is very difficult, as discussed
    in Bradford, Untangling the Income Tax, pp. 23-24.
    ---------------------------------------------------------------------------
      A similar analysis applies to Social Security benefits paid to
    dependents and survivors. If these benefits represent transfers from the
    Government, then they should be included in the tax base. If the
    taxpaying unit consists of the worker plus dependents and survivors,
    then to the extent that Social Security benefits represent payments from
    a pension, the annual pension earnings should be taxed in the same way
    that earnings accruing to retirees are taxed. However, benefits paid to
    dependents and survivors might be viewed as a gift or transfer from the
    decedent, in which case the dependents and survivors should pay tax on
    the full amount of the benefit received. (In this case the decedent or
    his estate should pay tax on the pension income as well, to the extent
    that the gift represents consumption rather than a reduction in net
    worth).
      In addition, dependent and survivors benefits might be viewed in part
    as providing life insurance. In that case, the annual premiums paid each
    year, or the portion of Social Security taxes attributable to the
    premiums, should be deducted from income, since they represent a decline
    in net worth, while benefits should be included in income.
    Alternatively, taxing premiums and excluding benefits also would
    represent appropriate income tax policy.
      In contrast to any of these treatments, current law excludes one-half
    of Social Security contributions (employer-paid payroll taxes) from the
    base of the income tax, makes no attempt to tax accretions, and subjects
    some, but not all, benefits to taxation. The difference between current
    law's treatment of Social Security benefits and their treatment under a
    comprehensive income tax would qualify as a tax expenditure, but such a
    tax expenditure differs in concept from that included in the official
    budget.
      The tax expenditures in the official budget \16\ reflect exemptions
    for lower income beneficiaries from the tax on 85 percent of Social
    Security benefits. \17\ Historically, payroll taxes paid by the employee
    represented no more than 15 percent of the expected value of the
    retirement benefits received by a lower-earnings Social Security
    beneficiary. The 85 percent inclusion rate is intended to tax upon
    distribution the remaining amount of the retirement benefit payment--the
    portion arising from the payroll tax contributions made by employers and
    the implicit return on the employee and employer contributions. Thus,
    the tax expenditure conceived and measured in the current budget is not
    intended to capture the deviation from a comprehensive income baseline,
    which would additionally account for the deferral of tax on the
    employer's contributions and on the rate of return (less an inflation
    adjustment attributable to the employee's payroll tax contributions).
    Rather, it is intended to approximate the taxation of private pensions
    with employee contributions made from after-tax income, \18\ on the
    assumption that Social Security is comparable to such pensions. Hence,
    the official tax expenditure understates the tax advantage accorded
    Social Security retirement benefits relative to a comprehensive income
    baseline.
    ---------------------------------------------------------------------------
      \16\ This includes the tax expenditure for benefits paid to workers,
    that for benefits paid to survivors and dependents, and that for
    benefits paid to dependents.
      \17\ The current budget does not include as a tax expenditure the
    absence of income taxation on the employer's contributions (payroll
    taxes) to Social Security retirement at the time these contributions are
    made.
      \18\ Private pensions allow the employee to defer tax on all inside
    build-up. They also allow the employee to defer tax on contributions
    made by the employer, but not on contributions made directly by the
    employee. Applying these tax rules to Social Security would require the
    employee to include in his taxable income benefits paid out of inside
    build-up and out of the employer's contributions, but would allow the
    employee to exclude from his taxable income benefits paid out of his own
    contributions.
    ---------------------------------------------------------------------------
      To the extent that the benefits paid to dependents and survivors
    should be taxed as private pensions, the same conclusion applies: the
    official tax expenditure understates the tax advantage.
      The deduction for U.S. production activities also raises some
    problems. To the extent it is viewed as a tax break for certain
    qualifying businesses (``manufacturers''), it would be a tax
    expenditure. In contrast, the deduction may prove to be so broad that it
    is available to most U.S. businesses, in which case it might not be seen
    as a tax expenditure. Rather, it would represent a feature of the
    baseline tax rate system, because the deduction is equivalent to a lower
    tax rate. In addition, to the extent that it is viewed as providing
    relief from the double tax on corporate profits, it might not be a tax
    expenditure.
      The next category (panel C) includes items whose treatment is less
    certain. The proper treatment of some of these items under a
    comprehensive income tax is ambiguous, while others perhaps serve as
    proxies for what would be a tax expenditure under a comprehensive income
    base. \19\ Consider, for example, the items relating to charitable
    contributions. Under existing law, charitable contributions are
    deductible, and this deduction is considered on its face a tax
    expenditure in the current budget. \20\
    ---------------------------------------------------------------------------
      \19\ See, for example, Goode, The Economic Definition of Income, pp.
    16-17, and Bradford, Untangling the Income Tax, pp. 19-21, and pp.30-31.
      \20\ The item also includes gifts of appreciated property, at least
    part of which represents a tax expenditure relative to an ideal income
    tax, even if one assumes that charitable donations are not consumption.
    ---------------------------------------------------------------------------
      The treatment of charitable donations, however, is ambiguous under a
    comprehensive income tax. If charitable contributions are a consumption
    item for the giver, then they are properly included in his taxable
    income; a deduction for contributions would then be a tax expenditure
    relative to a comprehensive income tax baseline. In contrast, charitable
    contributions could represent a transfer of purchasing power from the
    giver

    [[Page 350]]

    to the receiver. As such, they would represent a reduction in the
    giver's net worth, not an item of consumption, and so properly would be
    deductible, implying that current law's treatment is not a tax
    expenditure. At the same time, however, the value of the charitable
    benefits received is income to the recipient. Under current law, such
    income generally is not taxed, and so represents a tax expenditure whose
    size might be approximated by the size of the donor's contribution. \21\
    ---------------------------------------------------------------------------
      \21\ If recipients tend to be in lower tax brackets, then the tax
    expenditure is smaller than when measured at the donor's tax rates.
    ---------------------------------------------------------------------------
      Medical expenditures may or may not be an element of income (or
    consumption). Some argue that medical expenditures don't represent
    discretionary spending, and so aren't really consumption. Instead, they
    are a reduction of net worth and should be excluded from the tax base.
    In contrast, others argue that there is no way to logically distinguish
    medical care from other consumption items. Those who view medical
    spending as consumption point out that there is choice in many health
    care decisions, e.g., whether to go to the best doctor, whether to have
    voluntary surgical procedures, and whether to exercise and eat
    nutritiously so as to improve and maintain one's health and minimize
    medical expenditures. This element of choice makes it more difficult to
    argue, at least in many cases, that medical spending is more
    ``necessary'' than, or otherwise different from, other consumption
    spending.
      The exemption of full taxation of Social Security benefits paid to the
    disabled also raises some issues. Social Security benefits for the
    disabled most closely resemble either Government transfers or insurance.
    A comprehensive income tax would require the worker to include the
    benefit fully in his income and would allow him to deduct associated
    Social Security taxes. If viewed as insurance, he also could include the
    premium (i.e., tax) and exclude the benefit. The deviation between such
    treatment and current law's treatment (described above) would be a tax
    expenditure under a comprehensive income baseline.
      In contrast, as described above, the official tax expenditure measures
    the benefit of exemption for low income beneficiaries from the tax on 85
    percent of Social Security benefits. This measurement does not
    correspond closely to that required under a comprehensive income base.
    If the payment of the benefit is viewed as a transfer and divorced from
    the treatment of Social Security taxes, then the current tax expenditure
    understates the tax expenditure measured relative to a comprehensive
    income baseline. If the payment of the benefit is viewed as a transfer
    but the inability to deduct the employee's share of the Social Security
    tax is simultaneously considered, then it is less likely that the
    current tax expenditure overstates the tax expenditure relative to a
    comprehensive income baseline, and in some cases it may generate a
    negative tax expenditure. If the benefit is viewed as insurance and the
    tax as a premium, then the current tax expenditure overstates the tax
    expenditure relative to a comprehensive income baseline. Indeed, in the
    insurance model, the ability to exclude from tax only \1/2\ of the
    premium might suggest that \1/2\ of the payout should be taxed, so that
    the current tax rules impose a greater tax burden than that implied by a
    comprehensive income tax, i.e., a negative tax expenditure. \22\
    ---------------------------------------------------------------------------
      \22\ In contrast, the passive loss rules themselves, which restrict
    the deduction of losses, would be a negative tax expenditure when
    compared to a comprehensive tax base.
    ---------------------------------------------------------------------------
      The final category (panel D) includes items that would not be tax
    expenditures under a comprehensive income tax base. A tax based on
    comprehensive income would allow all losses to be deducted. Hence, the
    exception from the passive loss rules would not be a tax expenditure.

    Major Tax Expenditures under a Comprehensive Income Tax That Are
    Excluded from the Current Budget

      While most of the major tax expenditures in the current budget also
    would be tax expenditures under a comprehensive income base, there also
    are tax expenditures relative to a comprehensive income base that are
    not found on the existing tax expenditure list. These additional tax
    expenditures include the imputed return from certain consumer durables
    (e.g., automobiles), the imputed return to consumption of financial
    services (e.g., checking account services received in kind and paid for
    by accepting a below market interest rate on deposits), the difference
    between capital gains (and losses) as they accrue and capital gains as
    they are realized, private gifts and inheritances received, in-kind
    benefits from such Government programs as food-stamps, Medicaid, and
    public housing, the value of payouts from insurance policies, \23\ and
    benefits received from private charities. Under some ideas of
    comprehensive income, the value of leisure and of household production
    of goods and services also would be included as tax expenditures. The
    personal exemption and standard deduction also might be considered tax
    expenditures, although they can be viewed differently, e.g., as elements
    of the basic tax rate schedule. The foreign tax credit also might be a
    tax expenditure, since a deduction for foreign taxes, rather than a
    credit, would seem to measure the income of U.S. residents properly.
    ---------------------------------------------------------------------------
      \23\ To the extent that premiums are deductible.

    ---------------------------------------------------------------------------
    Negative Tax Expenditures

      Under current budgetary practice, negative tax expenditures, tax
    provisions that raise rather than lower taxes, are excluded from the
    official tax expenditure list. This exclusion conforms with the view
    that tax expenditures are intended to be similar to Government spending
    programs.
      If attention is expanded from a focus on spending-like programs to
    include any deviation from the baseline tax system, negative tax
    expenditures would be of interest. Relative to a comprehensive income
    baseline, there are a number of important negative tax expenditures,
    some of which also might be viewed as negative tax expenditures under an
    expanded interpretation of the normal or reference law baseline. Among
    the more important negative tax expenditures is the corporation income
    tax, or more generally the double

    [[Page 351]]

    tax on corporate profits, which would be eliminated under a
    comprehensive income tax. The Jobs and Growth Tax Relief and
    Reconciliation Act of 2003 (JGTRRA) reduced the tax rate on dividends
    and capital gains to 15 percent, thus reducing the double tax compared
    to prior law. Nonetheless, as discussed later in the Appendix, current
    law still imposes a substantial double tax on corporate profits. The
    passive loss rules, restrictions on the deductibility of capital losses,
    and NOL carry-forward requirements each would generate a negative tax
    expenditure, since a comprehensive income tax would allow full
    deductibility of losses. If human capital were considered an asset, then
    its cost (e.g., certain education and training expenses, including
    perhaps the cost of college and professional school) should be
    amortizable, but it is not under current law. \24\ Some restricted
    deductions under the individual AMT might be negative tax expenditures
    as might the phase-out of personal exemptions and of itemized
    deductions. The inability to deduct consumer interest also might be a
    negative tax expenditure, as an interest deduction may be required to
    properly measure income, as seen by the equivalence between borrowing
    and reduced lending. \25\ As discussed above, the current treatment of
    Social Security payments to the disabled also might represent a negative
    tax expenditure, if viewed as payments on an insurance policy.
    ---------------------------------------------------------------------------
      \24\ Current law offers favorable treatment to some education costs,
    thereby creating (positive) tax expenditures. Current law allows
    expensing of that part of the cost of education and career training that
    is related to foregone earnings and this would be a tax expenditure
    under a comprehensive income baseline.
      \25\ See Bradford, Untangling the Income Tax, p. 41.
    ---------------------------------------------------------------------------
      Current tax law also fails to index for inflation interest receipts,
    capital gains, depreciation, and inventories. This failure leads to
    negative tax expenditures because comprehensive income would be indexed
    for inflation. Current law, however, also fails to index for inflation
    the deduction for interest payments; this represents a (positive) tax
    expenditure.
      The issue of indexing also highlights that even if one wished to focus
    only on tax policies that are similar to spending programs, accounting
    for some negative tax expenditures may be required. For example, the net
    subsidy created by accelerated depreciation is properly measured by the
    difference between depreciation allowances specified under existing tax
    law and economic depreciation, which is indexed for inflation. \26\
    ---------------------------------------------------------------------------
      \26\ Accelerated depreciation can be described as the equivalent of an
    interest free loan from the Government to the taxpayer. Under federal
    budget accounting principles, such a loan would be treated as an outlay
    equal to the present value of the foregone interest.
    ---------------------------------------------------------------------------

       DIFFERENCES BETWEEN OFFICIAL TAX EXPENDITURES AND TAX EXPENDITURES
                         RELATIVE TO A CONSUMPTION BASE

      This section compares tax expenditures listed in the official tax
    expenditure budget with those implied by a comprehensive consumption tax
    baseline. It first discusses some of the difficulties encountered in
    trying to compare current tax provisions to those that would be observed
    under a comprehensive consumption tax. Next, it discusses which of the
    thirty largest official tax expenditures would be tax expenditures under
    the consumption tax baseline, concluding that about one-half of the top
    thirty official tax expenditures would remain tax expenditures under a
    consumption tax baseline. Most of those that fall off the list are tax
    incentives for saving and investment.
      The section next discusses some major differences between current law
    and a comprehensive consumption tax baseline that are excluded from the
    current list of tax expenditures. These differences include the
    consumption value of owner-occupied housing and other consumer durables,
    benefits from in-kind Government transfers, and gifts. It concludes with
    a discussion of negative tax expenditures relative to a consumption tax
    baseline

    Ambiguities in Determining Tax Expenditures Relative to a Consumption
    Baseline

      A broad-based consumption tax is a combination of an income tax plus a
    deduction for net saving. This follows from the definition of
    comprehensive income as consumption plus the change in net worth. It
    therefore seems straightforward to say that current law's deviations
    from a consumption base are the sum of (a) tax expenditures on an income
    base associated with exemptions and deductions for certain types of
    income, plus (b) overpayments of tax, or negative tax expenditures, to
    the extent net saving is not deductible from the tax base. In reality,
    however, the situation is more complicated. A number of issues arise,
    some of which also are problems in defining a comprehensive income tax,
    but seem more severe, or at least only more obvious, for the consumption
    tax baseline.
      It is not always clear how to treat certain items under a consumption
    tax. One problem is determining whether a particular expenditure is an
    item of consumption. Spending on medical care and charitable donations
    are two examples. The classification below suggests that medical
    spending and charitable contributions might be included in the
    definition of consumption, but also considers an alternative view.
      There may be more than one way to treat various items under a
    consumption tax. For example, a consumption tax might ignore borrowing
    and lending by excluding from the borrower's tax base the proceeds from
    loans, denying the borrower a deduction for payments of interest and
    principal, and excluding interest and principal payments received from
    the lender's tax base. On the other hand, a consumption tax might
    include borrowing and lending in the tax base by requiring the borrower
    to add the proceeds from loans in his tax base, allowing the lender to
    deduct loans from his tax base, allowing the borrower to deduct payments
    of principal and interest, and requiring the lender to include receipt
    of principal and interest payments. In

    [[Page 352]]

    present value terms, the two approaches are equivalent for both the
    borrower and the lender; in particular both allow the tax base to
    measure consumption and both impose a zero effective tax rate on
    interest income. But which approach is taken obviously has different
    implications (at least on an annual flow basis) for the treatment of
    many important items of income and expense, such as the home mortgage
    interest deduction. The classification below suggests that the deduction
    for home mortgage interest could well be a tax expenditure, but takes
    note of alternative views.
      Some exclusions of income are equivalent in many respects to
    consumption tax treatment that immediately deducts the cost of an
    investment while taxing the future cash-flow. For example, exempting
    investment income is equivalent to consumption tax treatment as far as
    the normal rate of return on new investment is concerned. This is
    because expensing generates a tax reduction that offsets in present
    value terms the tax paid on the investment's future normal returns.
    Expensing gives the income from a marginal investment a zero effective
    tax rate. However, a yield exemption approach differs from a consumption
    tax as far as the distribution of income and Government revenue is
    concerned. Pure profits in excess of the normal rate of return would be
    taxed under a consumption tax, because they are an element of cash-flow,
    but would not be taxed under a yield exemption tax system. Should
    exemption of certain kinds of investment income, and certain investment
    tax credits, be regarded as the equivalent of consumption tax treatment?
    The classification that follows takes a fairly broad view of this
    equivalence and considers many tax provisions that reduce or eliminate
    the tax on capital income to be roughly consistent with a broad-based
    consumption tax.
      Looking at provisions one at a time can be misleading. The hybrid
    character of the existing tax system leads to many provisions that might
    make good sense in the context of a consumption tax, but that generate
    inefficiencies because of the problem of the ``uneven playing field''
    when evaluated within the context of the existing tax rules. It is not
    clear how these should be classified. For example, many saving
    incentives are targeted to specific tax favored sources of capital
    income. The inability to save on a similar tax-favored basis
    irrespective of the ultimate purpose to which the saving is applied
    potentially distorts economic choices in ways that would not occur under
    a broad-based consumption tax. As another example, under a consumption
    VAT based on the destination principle, there would be a rebate of the
    VAT on exports and a tax on imports. Does this mean that the
    extraterritorial income exclusion (the successor of the Foreign Sales
    Corporation provision) is not a tax expenditure? Resolution comes down
    to judgments about how broad is broad enough to be considered general,
    or whether it even matters at all that a provision is targeted in some
    way. The classification that follows views many savings incentives, even
    if targeted, as roughly consistent with a broad based consumption tax.
      In addition, provisions can interact even once an appropriate
    treatment is determined. For example, suppose that it is determined that
    financial flows are out of the tax base. Then the deduction for home
    mortgage interest would seem to be a tax expenditure. However, this
    conclusion is cast into doubt because current law generally taxes
    interest income. When combined with the homeowners' deduction, this
    results in a zero tax rate on the interest flow, consistent with
    consumption tax treatment.
      Capital gains would not be a part of a comprehensive consumption tax
    base. Proceeds from asset sales and sometimes borrowing would be part of
    the cash-flow tax base, but, for transactions between domestic investors
    at a flat tax rate, would cancel out in the economy as a whole. How
    should existing tax expenditures related to capital gains be classified?
    The classification below generally views available capital gains tax
    breaks as consistent with a broad-based consumption tax because they
    lower the tax rate on capital income toward the zero rate that is
    consistent with a consumption-based tax.
      Such considerations suggest that trying to compute the current tax's
    deviations from ``the'' base of a consumption tax is impossible because
    deviations cannot be uniquely determined, making it very difficult to do
    a consistent accounting of the differences between the current tax base
    and a consumption tax base. Nonetheless, Appendix Table 2 attempts a
    classification based on the judgments outlined above.

    Treatment of Major Tax Expenditures under a Comprehensive Consumption
    Baseline

      As noted above, the major difference between a comprehensive
    consumption tax and a comprehensive income tax is in the treatment of
    saving, or in the taxation of capital income. Consequently, many current
    tax expenditures related to preferential taxation of capital income
    would not be tax expenditures under a consumption tax. However,
    preferential treatment of items of income that is unrelated to
    moderately broad-based saving or investment incentives would remain tax
    expenditures under a consumption baseline. In addition, several official
    tax expenditures relating to items of income and expense are difficult
    to classify properly, while others may serve as proxies for properly
    measured tax expenditures.
      Appendix Table 2 shows thirty large official tax expenditures from the
    Budget classified according to whether they would be considered a tax
    expenditure under a consumption tax. Two of the thirty items clearly
    would be a tax expenditure (shown in panel A) under a consumption tax,
    while an additional seven (those in panel B) probably would be tax
    expenditures.
      A consumption tax would include in the homeowners' tax base the value
    of the implicit (gross) rental income from owner-occupied housing. Net
    rental income is a

    [[Page 353]]

    component of this, and so would be included as a tax expenditure,
    relative to a consumption tax baseline. \27\
    ---------------------------------------------------------------------------
      \27\ Suppose that the rental value of a house is $100 per year, and
    that depreciation is $20, interest is $15, property taxes are $10, and
    other expenses are $5. Net rental income is $50 (gross rents less all
    items of expense). Hence, net rental income is a component of the gross
    rent, which is the consumption value of the housing services. Under a
    real based cash flow tax, in which financial flows are outside the tax
    base, the homeowner's net tax base would be $85: gross rents--(property
    taxes + other expenses), assuming that property taxes are viewed as a
    reduction in net worth and that he makes no new investment (which would
    be deductible).
    ---------------------------------------------------------------------------
      Exclusion of workers' compensation benefits allows an exclusion from
    income that is unrelated to investment, and so should be included in the
    base of a comprehensive consumption tax.
      Consider next the deductibility of home mortgage interest and of
    property taxes on owner-occupied housing. Both items would seem to be
    strong candidates for inclusion as a tax expenditure, given current
    law's failure to impute the consumption value of housing. That is,
    focusing on the homeowner's tax base, these deductions move the tax
    system away from rather than towards the proper treatment of housing
    services. \28\
    ---------------------------------------------------------------------------
      \28\ Using the figures from the example in the previous footnote, the
    homeowner would pay tax on gross rents minus property taxes minus other
    expenses, or on $85. If property taxes and mortgage interest were not
    deducted, then this would be the size of the tax expenditure. However,
    current law allows these deductions, which raises the tax expenditure
    base to $110.
    ---------------------------------------------------------------------------
      However, with respect to the home mortgage interest deduction, some
    ambiguity is introduced by the taxation of interest income to lenders.
    In a sense, the homeowner's deduction offsets the lenders inclusion,
    leaving (for equal tax rates) no net tax due on the interest flow, as
    would be appropriate under a consumption tax. Hence, from the
    perspective of the entire tax system, it is less clear that the home
    mortgage interest deduction represents a tax expenditure. \29\
    ---------------------------------------------------------------------------
      \29\ One must guard against double counting here, however, to the
    extent that current law's general taxation of capital income is
    calculated elsewhere in the tax expenditure budget as a negative tax
    expenditure.
    ---------------------------------------------------------------------------
      Some ambiguity also is introduced by the variable treatment of
    financial flows possible under a consumption tax. That is, the proper
    treatment of interest under a consumption tax depends on whether
    financial flows are in or out of the consumption tax base. If the loans
    are taken into income (as they would be under some types of consumption
    taxes), then the associated interest and principal payments should be
    deductible, otherwise not.
      With respect to property taxes on housing as well as other State and
    local taxes, some ambiguity arises because the tax might not represent
    consumption--it might be considered a reduction in net worth. Considered
    alone, this argument perhaps has some merit. However, there are two
    problems with this argument when viewed from the context of the entire
    tax system. First, the deduction for property taxes would seem to be
    inappropriate when there is no imputation for the associated consumption
    value, as discussed above. Second, the current tax system does not
    impute the consumption value of State and local services, and tax
    payments might serve as a proxy for that value, making their deduction
    unnecessary for the proper measurement of consumption.
      The official tax expenditures for Social Security benefits reflects
    exceptions for low income taxpayers from the general rule that 85
    percent of Social Security benefits are included in the recipient's tax
    base. The 85 percent inclusion is intended as a simplified mechanism for
    taxing Social Security benefits as if the Social Security program were a
    private pension with employee contributions made from after-tax income.
    Under these tax rules, income earned on contributions made by both
    employers and employees benefits from tax deferral, but employer
    contributions also benefit because the employee may exclude them from
    his taxable income, while the employee's own contributions are included
    in his taxable income. These tax rules give the equivalent of
    consumption tax treatment, a zero effective tax rate on the return, to
    the extent that the original pension contributions are made by the
    employer, but give less generous treatment to the extent that the
    original contributions are made by the employee. Income earned on
    employee contributions is taxed at a low, but positive, effective tax
    rate. Based on historical calculations, the 85 percent inclusion
    reflects roughly the outcome of applying these tax rules to a lower-
    income earner when one-half of the contributions are from the employer
    and one-half from the employee.
      The current tax expenditure measures a tax benefit relative to a
    baseline that is somewhere between a comprehensive income tax and a
    consumption tax. The properly measured tax expenditure relative to a
    consumption tax baseline would include only those Social Security
    benefits that are accorded treatment more favorable than that implied by
    a consumption tax, which would correspond to including 50 percent of
    Social Security benefits in the recipient's tax base.
      A similar analysis would apply to exclusion of Social Security
    benefits of dependents and retirees.
      There is a strong case for viewing the child credit and the earned
    income tax credit as social welfare programs (transfers). As such, they
    would be tax expenditures relative to a consumption baseline.
    Nonetheless, these credits could alternatively be viewed as relieving
    tax on ``nondiscretionary'' consumption, and so not properly considered
    a tax expenditure.
      The treatment of the items in panels C is less uncertain. Several of
    these items relate to the costs of medical care or to charitable
    contributions. As discussed in the previous section of the appendix,
    there is disagreement within the tax policy community over the extent to
    which medical care and charitable giving represent consumption items.
    Medical care is widely held to be consumption, except perhaps the
    medical care that actually raises, rather than simply sustains the
    individual's ability to work. Charitable giving, on the other hand, may
    be considered to be a reduction in net worth that should be excluded
    from the tax base because it does not yield direct satisfaction to
    taxpayer who makes the expenditure. In this case, the tax expenditure
    lies not with the individual making the charitable deduction, but with
    the exclusion from taxation of the amounts received by the recipient.
      There also is the issue of how to tax medical insurance premiums.
    Under current law, employees do not

    [[Page 354]]

    have to include insurance premiums paid for by employers in their
    income. The self-employed also may exclude (via a deduction) medical
    insurance premiums from their taxable income. From some perspectives,
    these premiums should be in the tax base because they appear to
    represent consumption. Yet an alternative perspective would support
    excluding the premium from tax as long as the consumption tax base
    included the value of any medical services paid for by the insurance
    policy, because the premium equals the expected value of insurance
    benefits received. But even from this alternative perspective, the
    official tax expenditure might continue to be a tax expenditure under a
    consumption tax baseline because current law excludes the value of
    medical services paid with insurance benefits from the employee's
    taxable income.
      If medical spending is not consumption, one approach to measuring the
    consumption base would ignore insurance, but allow the consumer to
    deduct the value of all medical services obtained. An alternative
    approach would allow a deduction for the premium but include the value
    of any insurance benefits received, while continuing to allow a
    deduction for a value of all medical services obtained. In either case,
    the official tax expenditure for the exclusion of employer provided
    medical insurance and expenses would not be a tax expenditure relative
    to a consumption tax baseline.
      The extraterritorial income exclusion replaces the previous Foreign
    Sales Corporation program. It provides an exclusion from income for
    certain exports. To the extent that the program is viewed as a component
    of a destination based VAT it might not be a tax expenditure. In
    addition, to the extent that the exclusion reduces the income tax bias
    against investment it might be consistent with consumption tax
    principles (i.e., a low tax rate on capital income).
      The taxation of Social Security benefits for the disabled also is
    difficult to classify. As discussed in this appendix above, these
    benefits generally ought to be taxed because they represent purchasing
    power. However, the associated Social Security taxes ought to be fully
    deductible, but they are not. Hence the proper treatment is unclear.
    Moreover, if the insurance model is applied, the taxation of Social
    Security benefits might be a negative tax expenditure.
      The credit for low income housing acts to lower the tax burden on
    qualified investment, and so from one perspective would not be a tax
    expenditure under a consumption tax baseline. However, in some cases the
    credit is too generous; it can give a negative tax on income from
    qualified investment rather than the zero tax called for under
    consumption tax principles. In addition, the credit is very narrowly
    targeted. Consequently, it could be considered a tax expenditure
    relative to a consumption tax baseline.
      The final panel (D) shows items that are not likely to be tax
    expenditures under a consumption base. Most of these relate to tax
    provisions that eliminate or reduce the tax on various types of capital
    income because a zero tax on capital income is consistent with
    consumption tax principles.
      The deduction for U.S. production activities is not classified as a
    tax expenditure. This reflects the view that it represents a widespread
    reduction in taxes on capital income or an offset to the corporate
    income tax. In contrast to this classification, however, it would be a
    tax expenditure to the extent that it is viewed as a targeted tax
    incentive.
      The exception from the passive loss rules probably would not be a tax
    expenditure because proper measurement of income, and hence of
    consumption, requires full deduction of losses.

    Major Tax Expenditures under a Consumption Tax That Are Excluded from
    the Current Budget

      Several differences between current law and a consumption tax are left
    off the official tax expenditure list. Additional tax expenditures
    include the imputed consumption value from consumer durables and
    financial services received in kind, private gifts and inheritances
    received, possibly benefits paid by insurance policies, in-kind benefits
    from such Government programs as food-stamps, Medicaid, and public
    housing, and benefits received from charities. Under some ideas of a
    comprehensive consumption tax, the value of leisure and of household
    production of goods and services would be included as a tax expenditure.
      A consumption tax implemented as a tax on cash flows would tax all
    proceeds from sales of capital assets when consumed, rather than just
    capital gains; because of expensing, taxpayers effectively would have a
    zero basis. The proceeds from borrowing would be in the base of a
    consumption tax that also allowed a deduction for repayment of principal
    and interest, but are excluded from the current tax base. The deduction
    of business interest expense might be a tax expenditure, since under
    some forms of consumption taxation interest is neither deducted from the
    borrower's tax base nor included in the lender's tax base. The personal
    exemption and standard deduction also might be considered tax
    expenditures, although they can be viewed differently, e.g., as elements
    of the basic tax rate schedule.

    Negative Tax Expenditures

      Importantly, current law also deviates from a consumption tax norm in
    ways that increase, rather than decrease, tax liability. These could be
    called negative tax expenditures. The official budget excludes negative
    tax expenditures on the theory that tax expenditures are intended to
    substitute for Government spending programs. Yet excluding negative tax
    expenditures gives a very one-sided look at the differences between the
    existing tax system and a consumption tax.
      A large item on this list would be the inclusion of capital income in
    the current individual income tax base, including the income earned on
    inside-build up in Social Security accounts. The revenue from the
    corporation income tax, or more generally a measure of the double tax on
    corporate profits, also would be a negative tax expenditure.
    Depreciation allowances, even

    [[Page 355]]

    if accelerated, would be a negative tax expenditure since consumption
    tax treatment generally would require expensing. Depending on the
    treatment of loans, the borrower's inability to deduct payments of
    principal and the lender's inability to deduct loans might be a negative
    tax expenditure. The passive loss rules and NOL carry-forward provisions
    also might generate negative tax expenditures, because the change in net
    worth requires a deduction for losses (consumption = income--the change
    in net worth). If human capital were considered an asset, then its cost
    (e.g., certain education and training expenses, including perhaps costs
    of college and professional school) should be expensed, but it is not
    under current law. Certain restrictions under the individual AMT as well
    as the phase-out of personal exemptions and of itemized deductions also
    might be considered negative tax expenditures. Under some views, the
    current tax treatment of Social Security benefits paid to the disabled
    would be a negative tax expenditure.

                 REVISED ESTIMATES OF SELECTED TAX EXPENDITURES

    Accelerated Depreciation

      Under the reference tax law baseline no tax expenditures arise from
    accelerated depreciation. In the past, official tax expenditure
    estimates of accelerated depreciation under the normal tax law baseline
    compared tax allowances based on the historic cost of an asset with
    allowances calculated using the straight-line method over relatively
    long recovery periods. Normal law allowances also were determined by the
    historical cost of the asset and so did not adjust for inflation,
    although such an adjustment is required when measuring economic
    depreciation, the age related fall in the real value of the asset.
      Beginning with the 2004 Budget, the tax expenditures for accelerated
    depreciation under the normal law concept have been recalculated using
    as a baseline depreciation rates and replacement cost indexes from the
    National Income and Product Accounts. \30\ The revised estimates are
    intended to approximate the degree of acceleration provided by current
    law over a baseline determined by real, inflation adjusted, and economic
    depreciation. Current law depreciation allowances for machinery and
    equipment include the benefits of a temporary expensing provision. \31\
    The estimates are shown in tables in the body of the main text, e.g.,
    Table 19-1.
    ---------------------------------------------------------------------------
      \30\ See Barbara Fraumeni, ``The Measurement of Depreciation in the
    U.S. National Income and Product Accounts,'' in Survey of Current
    Business 77 No. 7 (Washington, D.C.: Department of Commerce, Bureau of
    Economic Analysis, July, 1997), pp. 7-42, and the National Income and
    Product Accounts of the United States, Table 7.6, ``Chain-type Quantity
    and Price Indexes for Private Fixed Investment by Type,'' U.S.
    Department of Commerce, Bureau of Economic Analysis.
      \31\ The temporary provision allows 30 percent of the cost of a
    qualifying investment to be deducted immediately rather than capitalized
    and depreciated over time. It is generally effective for qualifying
    investments made after September 10, 2001 and before September 11, 2004.
    The Jobs and Growth Tax Relief Reconciliation Act of 2003 raised the
    deduction to 50 percent depreciation (up from 30 percent) of the cost
    new equipment purchased after May 5, 2003 and placed into service before
    January 1, 2005. Qualifying investments generally are limited to
    tangible property with depreciation recovery periods of 20 years or
    less, certain software, and leasehold improvements, but this set of
    assets corresponds closely to machinery and equipment.
    ---------------------------------------------------------------------------
      The revised tax expenditure estimates differ substantially from
    estimates calculated under the old methodology. In general, the new tax
    expenditure estimates are smaller than the old estimates. \32\ In part,
    this is because the new baseline uses depreciation allowances that are
    faster than those in the old baseline. In addition, the new baseline
    calculates depreciation on a replacement cost basis rather on the
    historic cost basis previously used; this translates into larger
    depreciation allowances to the extent that asset prices rise over time.
    In many years the new tax expenditures are negative, indicating that
    current law's tax depreciation allowances are smaller than those implied
    by economic depreciation. Because these estimates are on a cash flow,
    rather than a present value, basis, the negative value does not
    necessarily indicate that tax depreciation is decelerated relative to
    economic depreciation over the life of an investment. Even when tax
    depreciation is accelerated over the life of an investment, negative
    annual cash flow estimates could obtain in the later years of an
    investment's economic life. This type of vintage effect contributes
    importantly to the negative tax expenditures calculated for equipment in
    2006-2010 because the temporary expensing provision expires at the end
    of 2004. Calculations that compare the present value of tax depreciation
    (without the temporary expensing) with the present value of inflation
    indexed economic depreciation over each investment's economic life show
    that for many types of assets tax depreciation is accelerated, but only
    slightly, assuming a moderate rate of inflation. \33\
    ---------------------------------------------------------------------------
      \32\ Estimates under the old methodology are no longer shown in the
    tables.
      \33\ U.S. Department of the Treasury, Report to the Congress on
    Depreciation Recovery Periods and Methods (Washington, D.C.: U.S.
    Government Printing Office, July, 2000), p. 32.

    ---------------------------------------------------------------------------
    Owner-Occupied Housing

      A homeowner receives a flow of housing services equal in gross value
    to the rent that could have been earned had the owner chosen to rent the
    house to others. Comprehensive income would include in the homeowner's
    tax base this gross rental flow, and would allow the homeowner a
    deduction for expenses such as interest, depreciation, property taxes,
    and other costs associated with earning the rental income. Thus, a
    comprehensive tax base would include in its base the homeowner's
    implicit net rental income (gross income minus deductions) earned on
    investment in owner-occupied housing.
      In contrast to a comprehensive income tax, current law makes no
    imputation for gross rental income and allows no deduction for
    depreciation or for other expenses, such as utilities and maintenance.
    Current law does, however, allow a deduction for home mortgage interest
    and for property taxes. Consequently, relative to a comprehensive income
    baseline, the total tax expenditure for owner-occupied housing is the
    sum of tax on net rental income plus the tax saving from the de

    [[Page 356]]

    duction for property taxes and for home mortgage interest. \34\
    ---------------------------------------------------------------------------
      \34\ The homeowner's tax base under a comprehensive income tax is net
    rents. Under current law, the homeowner's tax base is-(interest +
    property taxes). The tax expenditure base is the difference between the
    comprehensive income base and current law's tax base, which for
    homeowners is the sum of net rents plus interest plus property taxes.
    ---------------------------------------------------------------------------
      Prior to 2006, the official list of tax expenditures did not include
    the exclusion of net implicit rental income on owner-occupied housing.
    Instead, it included as a tax expenditure deductions for home mortgage
    interest and for property taxes. While these deductions are legitimately
    considered tax expenditures, given current law's failure to impute
    rental income, they are highly flawed as estimates of the total tax
    advantage to housing; they overlook the additional exclusion of implicit
    net rental income. To the extent that a homeowner owns his house
    outright, unencumbered by a mortgage, he would have no home mortgage
    interest deduction, yet he still would enjoy the benefits of receiving
    tax free the implicit rental income earned on his house. The treatment
    of owner-occupied housing has been revised in the 2006 budget, which now
    includes an item for the exclusion of net rental income of homeowners.
    \35\
    ---------------------------------------------------------------------------
      \35\ This estimate combines the positive tax expenditure for the
    failure to impute rental income with the negative tax expenditure for
    the failure to allow a deduction for depreciation and other costs.
    ---------------------------------------------------------------------------
      Appendix Table 3 as well as the Tables in the body of the main text,
    e.g., Table 19-1 show estimates of the tax expenditure caused by the
    exclusion of implicit net rental income from investment in owner-
    occupied housing. This estimate starts with the NIPA calculated value of
    gross rent on owner-occupied housing, and subtracts interest, taxes,
    economic depreciation, and other costs in arriving at an estimate of
    net-rental income from owner-occupied housing. \36\
    ---------------------------------------------------------------------------
      \36\ National Income and Production Accounts, Table 2.4.

    ---------------------------------------------------------------------------
    Accrued Capital Gains

      Under a comprehensive income baseline, all real gains would be taxed
    as accrued. These gains would be taxed as ordinary income rather than at
    preferential rates. There would be no deferred unrealized gains on
    assets held at death, nor gains carried over on gifts, or other
    preferential treatments. Indeed, all of the provisions related to
    capitals gains listed in the tax expenditure budget would be dropped.
    Instead, in their place the difference between the ordinary tax on real
    gains accrued and the actual tax paid would be calculated. For 1999, for
    instance, the tax on real accrued gains on corporate equity is estimated
    at $594 billion. This compares to an estimated tax on realized gains of
    $62 billion, for forgone revenues of $562 billion. However, this forgone
    revenue may easily turn into a revenue gain given the limits on capital
    losses. For 2000, for instance, real accrued losses in corporate equity
    amounted to $1.4 trillion. Yet, taxpayers paid an estimated $70 billion
    in capital gains taxes. This roughly translates into an overpayment of
    taxes to the tune of $464 billion.

    Double Tax on Corporate Profits

      A comprehensive income tax would tax all sources of income once. Taxes
    would not vary by type or source of income.
      In contrast to this benchmark, current law taxes income that
    shareholders earn on investment in corporate stocks at least twice, and
    at combined rates that generally are higher than those imposed on other
    sources of income. Corporate profits are taxed once at the company level
    under the corporation income tax. They are taxed again at the
    shareholder level when received as a dividend or recognized as a capital
    gain. Corporate profits can be taxed more then twice when they pass
    through multiple corporations before being distributed to noncorporate
    shareholders. Corporate level taxes cascade because corporations are
    taxed on capital gains they realize on the sale of stock shares and on
    some dividend income received. Compared to a comprehensive income tax
    current law's double (or more) tax on corporate profits is an example of
    a negative tax expenditure because it subjects income to a larger tax
    burden than implied by a comprehensive income baseline.
      Appendix Table 3 provides an estimate of the negative tax expenditure
    caused by the multiple levels of tax on corporate profits. This negative
    tax expenditure is measured as the shareholder level tax on dividends
    paid and capital gains realized out of earnings that have been fully
    taxed at the corporate level. It also includes the corporate tax paid on
    inter-corporate dividends and on corporate capital gains attributable to
    the sale of stock shares. The estimate includes the reduction in the
    dividends and capital gains tax rates enacted in JGTRRA.
      The negative tax expenditure is large in magnitude; it exceeds $33
    billion in the years 2006 through in 2010. It is comparable in size (but
    opposite in sign) to all but the largest official tax expenditures.
    JGTRRA reduced but did not eliminate the double tax on corporate
    profits.

    [[Page 357]]

                         Appendix Table 1.  COMPARISON OF CURRENT TAX EXPENDITURES WITH THOSE IMPLIED BY A COMPREHENSIVE INCOME TAX \1\
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                              Revenue Effect
                                                                 Description                                                                       2006
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    A.  Tax Expenditure Under a Comprehensive Income Tax
    Net exclusion of pension contributions and earnings: Employer plans....................................................................      51,050
    Net exclusion of pension contributions and earnings: 401(k) plans......................................................................      48,140
    Capital gains exclusion on home sales..................................................................................................      36,270
    Exclusion of net imputed rental income on owner-occupied housing.......................................................................      29,720
    Capital gains (except agriculture, timber, iron ore, and coal).........................................................................      28,370
    Exclusion of interest on public purpose State and local bonds..........................................................................      26,610
    Exclusion of interest on life insurance savings........................................................................................      24,070
    Net exclusion of pension contributions and earnings: Keogh plans.......................................................................       9,980
    Expensing of research and experimentation expenditures (normal tax method).............................................................       7,920
    Deferral of income from controlled foreign corporations (normal tax method)............................................................       7,440
    Net exclusion of pension contributions and earnings: Individual Retirement Accounts....................................................       7,310
    Exclusion of workers' compensation benefits............................................................................................       5,940
    Extraterritorial income exclusion......................................................................................................       4,260
    Credit for low-income housing investments..............................................................................................       4,010
    Exclusion of veterans death beenfits and disability compensation.......................................................................       3,750

    B.  Possibly a Tax Expenditure Under a Comprehensive Income Tax, But With Some Qualifications
    Deductibility of mortgage interest on owner-occupied homes.............................................................................      76,030
    Deductibility of nonbusiness state and local taxes other than on owner-occupied homes..................................................      34,620
    Child credit...........................................................................................................................      32,810
    Step-up basis of capital gains at death................................................................................................      28,760
    Exclusion of Social Security benefits for retired workers..............................................................................      19,770
    Deductibility of State and local property tax on owner-occupied homes..................................................................      14,830
    Earned income tax credit...............................................................................................................       5,423
    Deduction for U.S. production activities...............................................................................................       5,420
    Exclusion of Social security benefits of dependents and survivors......................................................................       3,990

    C.  Uncertain
    Exclusion of employer contributions for medical insurance premiums and medical care....................................................     125,690
    Deductibility of charitable contributions, other than education and health.............................................................      32,550
    Deductibility of medical expenses......................................................................................................       9,140
    Deductibility of self-employed medical insurance premiums..............................................................................       4,330
    Social Security benefits for disabled..................................................................................................       3,870

    D.  Probably Not a Tax Expenditure Under a Comprehensive Income Tax
    Exception from passive loss rules for $25,000 of rental loss...........................................................................       4,750
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ The measurement of certain tax expenditures under a comprehensive income tax baseline may differ from the official budget estimate even when the
      provision would be a tax expenditure under both baselines.

    Source: Table 19-2, Tax Expenditure Budget.

    [[Page 358]]

                       Appendix Table 2.  COMPARISON OF CURRENT TAX EXPENDITURES WITH THOSE IMPLIED BY A COMPREHENSIVE CONSUMPTION TAX \1\
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                              Revenue Effect
                                                                 Description                                                                       2006
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    A.  Tax Expenditure Under a Consumption Base
    Exclusion of net imputed rental income on owner-occupied housing.......................................................................      29,720
    Exclusion of workers' compensation benefits............................................................................................       5,940

    B.  Probably a Tax Expenditure Under a Consumption Base
    Deductibility of mortgage interest on owner-occupied homes.............................................................................      76,030
    Deductibility of nonbusiness state and local taxes other than on owner-occupied homes..................................................      34,620
    Child credit...........................................................................................................................      32,810
    Exclusion of Social Security benefits for retired workers..............................................................................      19,770
    Earned income tax credit...............................................................................................................       5,423
    Exclusion of Social Security benefits of dependents and survivors......................................................................       3,990
    Exclusion of veterans death beenfits and disability compensation.......................................................................       3,750

    C.  Uncertain
    Exclusion of employer contributions for medical insurance premiums and medical care....................................................     125,690
    Deductibility of charitable contributions, other than education and health.............................................................      32,550
    Deductibility of State and local property tax on owner-occupied homes..................................................................      14,830
    Deductibility of medical expenses......................................................................................................       9,140
    Deductibility of self-employed medical insurance premiums..............................................................................       4,330
    Extraterritorial income exclusion......................................................................................................       4,260
    Credit for low-income housing investments..............................................................................................       4,010
    Social Security benefits for disabled..................................................................................................       3,870

    D.  Not a Tax Expenditure Under a Consumption Base
    Net exclusion of pension contributions and earnings: Employer plans....................................................................      51,050
    Net exclusion of pension contributions and earnings: 401(k) plans......................................................................      48,140
    Capital gains exclusion on home sales..................................................................................................      36,270
    Step-up basis of capital gains at death................................................................................................      28,760
    Capital gains (except agriculture, timber, iron ore, and coal).........................................................................      28,370
    Exclusion of interest on public purpose State and local bonds..........................................................................      26,610
    Exclusion of interest on life insurance savings........................................................................................      24,070
    Net exclusion of pension contributions and earnings: Keogh plans.......................................................................       9,980
    Expensing of research and experimentation expenditures (normal tax method).............................................................       7,920
    Deferral of income from controlled foreign corporations (normal tax method)............................................................       7,440
    Net exclusion of pension contributions and earnings: Individual Retirement Accounts....................................................       7,310
    Deduction for U.S. production activities...............................................................................................       5,420
    Exception from passive loss rules for $25,000 of rental loss...........................................................................       4,750
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ The measurement of certain tax expenditures under a consumption tax baseline may differ from the official budget estimate even when the provision
      would be a tax expenditure under both baselines.

    Source: Table 19-2, Tax Expenditure Budget.

                                Appendix Table 3.  REVISED TAX EXPENDITURE ESTIMATES \1\
    ----------------------------------------------------------------------------------------------------------------
                                                                            Revenue Loss
                   Provision                   ---------------------------------------------------------------------
                                                  2004      2005      2006      2007      2008      2009      2010
    ----------------------------------------------------------------------------------------------------------------
    Imputed Rent On Owner-Occupied Housing....    24,590    28,600    29,720    33,210    36,860    40,630    44,786
    Double Tax on corporate profit \2\........   -23,730   -30,170   -29,600   -30,330   -31,540   -33,260   -35,074
    ----------------------------------------------------------------------------------------------------------------
    \1\ Calculations described in the appendix text.
    \2\ This is a negative tax expenditure, a tax provision that overtaxes income relative to the treatment
      specified by the baseline tax system.