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

    [[Page 285]]

                              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 2005-2011 using two methods of
    accounting: revenue effects 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, 2005, and 2006 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, 2005. Expired or repealed provisions
    are not listed if their revenue effects result only from taxpayer
    activity occurring before fiscal year 2005. 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 2005-
    2011 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 income 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

    [[Page 286]]

    the special tax provisions in proportion to the respective tax
    expenditure amounts shown. Rather, these breakdowns show the specific
    tax accounts through which 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 2007-
    2011 revenue effect. Outlay Equivalent Estimates of Income Tax
    Expenditures, which were included in prior volumes of Analytical
    Perspectives, are no longer included in this chapter.\1\
    ---------------------------------------------------------------------------
      \1\ The Administration has dropped the estimates of the outlay
    equivalents because they were often the same as the normal tax
    expenditure estimates, and the criteria for applying the concepts as to
    when they should differ were often judgmental and hard to apply with
    consistency across time and across tax expenditure items.
    ---------------------------------------------------------------------------

                     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:

      First, 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.
      Second, 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.

    [[Page 287]]

                                                     Table 19-1.  ESTIMATES OF TOTAL INCOME TAX EXPENDITURES
                                                                    (in millions of dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                 Total from corporations and individuals
                                                                            --------------------------------------------------------------------------------
                                                                               2005      2006      2007      2008      2009      2010      2011     2007-11
    --------------------------------------------------------------------------------------------------------------------------------------------------------

                 National Defense
           1       Exclusion of benefits and allowances to armed forces         2,990     3,020     3,050     3,070     3,110     3,140     3,170     15,390
                    personnel..............................................

                 International affairs:
           2       Exclusion of income earned abroad by U.S. citizens......     2,750     2,810     2,940     3,100     3,270     3,450     3,640     16,400
           3       Exclusion of certain allowances for Federal employees          900       950     1,000     1,050     1,100     1,160     1,230      5,540
                    abroad.................................................
           4       Extraterritorial income exclusion.......................     5,220     4,370     1,720       110        50        50        40      1,970
           5       Inventory property sales source rules exception.........     1,560     1,680     1,840     2,040     2,230     2,380     2,540     11,030
           6       Deferral of income from controlled foreign corporations     10,500    11,160    11,940    12,770    13,650    14,600    15,620     68,580
                    (normal tax method)....................................
           7       Deferred taxes for financial firms on certain income         2,190     2,260       960  ........  ........  ........  ........        960
                    earned overseas........................................

                 General science, space, and technology:
           8       Expensing of research and experimentation expenditures       4,110     7,920     6,990     6,260     5,360     4,800     4,840     28,250
                    (normal tax method)....................................
           9       Credit for increasing research activities...............     5,160     2,160       920       390       180        50  ........      1,540

                 Energy:
          10       Expensing of exploration and development costs, fuels...       390       680       870       830       650       500       380      3,230
          11       Excess of percentage over cost depletion, fuels.........       590       670       690       660       640       620       620      3,230
          12       Alternative fuel production credit......................     2,320     2,390     2,460       990  ........  ........  ........      3,450
          13       Exception from passive loss limitation for working              40        40        40        40        40        40        40        200
                    interests in oil and gas properties....................
          14       Capital gains treatment of royalties on coal............        90        90        90       100        70        60        80        400
          15       Exclusion of interest on energy facility bonds..........        80        90        90       100       100       110       110        510
          16       Enhanced oil recovery credit............................       300  ........  ........  ........  ........  ........        20         20
          17       New technology credit...................................       240       510       690       800       850       860       860      4,060
          18       Alcohol fuel credits \1\................................        40        40        40        50        50        60        30        230
          19       Tax credit and deduction for clean-fuel burning vehicles        70        90       200       140       140       -20       -40        420
          20       Exclusion of utility conservation subsidies.............        80        80        80        80        80        70        70        380
          21       Credit for holding clean renewable energy bonds.........  ........  ........        10        30        40        50        50        180
          22       Deferral of gain from dispositions of transmission             490       620       530       230      -100      -360      -510       -210
                    property to implement FERC restructuring policy........
          23       Credit for production from advanced nuclear power         ........  ........  ........  ........  ........  ........  ........  .........
                    facilities.............................................
          24       Credit for investment in clean coal facilities..........  ........        50        50       100       150       200       280        780
          25       Temporary 50% expensing for equipment used in the         ........        10        30       120       240       260       180        830
                    refining of liquid fuels...............................
          26       Pass through low sulfur diesel expensing to cooperative         40  ........       -10  ........       -10  ........       -10        -30
                    owners.................................................
          27       Natural gas distribution pipelines treated as 15-year     ........        20        50        90       120       150       150        560
                    property...............................................
          28       Amortize all geological and geophysical expenditures      ........        40       150       180       140       100        60        630
                    over 2 years...........................................
          29       Allowance of deduction for certain energy efficient       ........        80       190       140        30       -10       -10        340
                    commercial building property...........................
          30       Credit for construction of new energy efficient homes...  ........        10        20        10        10  ........  ........         40
          31       Credit for energy efficiency improvements to existing     ........       220       380       150  ........  ........  ........        530
                    homes..................................................
          32       Credit for energy efficient appliances..................  ........       120        80  ........  ........  ........  ........         80
          33       30% credit for residential purchases/installations of     ........        10        10        10  ........  ........  ........         20
                    solar and fuel cells...................................
          34       Credit for business installation of qualified fuel cells  ........        80       130        50       -10       -10       -10        150
                    and stationary microturbine power plants...............
          35       Alternative Fuel and Fuel Mixture tax credit............       150       170  ........  ........  ........  ........  ........  .........

                 Natural resources and environment:
          36       Expensing of exploration and development costs, nonfuel   ........  ........  ........  ........  ........  ........  ........  .........
                    minerals...............................................
          37       Excess of percentage over cost depletion, nonfuel              270       280       300       310       310       330       340      1,590
                    minerals...............................................
          38       Exclusion of interest on bonds for water, sewage, and          450       480       500       550       580       600       620      2,850
                    hazardous waste facilities.............................
          39       Capital gains treatment of certain timber income........        90        90        90       100        70        60        80        400
          40       Expensing of multiperiod timber growing costs...........       350       370       380       400       410       430       430      2,050
          41       Tax incentives for preservation of historic structures..       350       370       380       400       420       440       470      2,110
          42       Expensing of capital costs with respect to complying            10        10        10        30        50        30  ........        120
                    with EPA sulfur regulations............................
          43       Exclusion of gain or loss on sale or exchange of certain  ........  ........        10        30        40        70        60        210
                    brownfield sites.......................................

                 Agriculture:
          44       Expensing of certain capital outlays....................       110       130       130       130       140       140       150        690
          45       Expensing of certain multiperiod production costs.......        60        70        70        80        80        80        90        400
          46       Treatment of loans forgiven for solvent farmers.........        10        10        10        10        10        10        10         50
          47       Capital gains treatment of certain income...............       880       870       900     1,050       750       590       780      4,070
          48       Income averaging for farmers............................        40        40        40        40        40        40        50        210
          49       Deferral of gain on sale of farm refiners...............        10        10        20        20        20        20        20        100
          50       Bio-Diesel and small agri-biodiesel producer tax credits        30        90       100        90        40        20        20        270

                 Commerce and housing:
                   Financial institutions and insurance:
          51        Exemption of credit union income.......................     1,290     1,370     1,450     1,540     1,640     1,740     1,850      8,220
          52        Excess bad debt reserves of financial institutions.....        10        10        10  ........  ........  ........  ........         10
          53        Exclusion of interest on life insurance savings........    19,200    19,970    20,770    22,600    26,100    28,990    31,350    129,810
          54        Special alternative tax on small property and casualty         20        20        20        20        20        20        30        110
                     insurance companies...................................
          55        Tax exemption of certain insurance companies owned by         210       220       230       240       250       260       270      1,250
                     tax-exempt organizations..............................
          56        Small life insurance company deduction.................        60        60        60        60        60        60        50        290
          57        Exclusion of interest spread of financial institutions.     1,450     1,540     1,620     1,710     1,800     1,890     1,990     12,000

    [[Page 288]]

                   Housing:
          58        Exclusion of interest on owner-occupied mortgage              930       990     1,040     1,140     1,210     1,240     1,280      5,910
                     subsidy bonds.........................................
          59        Exclusion of interest on rental housing bonds..........       410       430       450       500       530       540       550      2,570
          60        Deductibility of mortgage interest on owner-occupied       62,160    72,060    79,860    87,820    94,490   100,980   108,280    471,430
                     homes.................................................
          61        Deductibility of State and local property tax on owner-    19,110    15,020    12,810    12,910    12,830    12,720    22,930     74,200
                     occupied homes........................................
          62        Deferral of income from post 1987 installment sales....     1,120     1,130     1,160     1,180     1,200     1,310     1,430      6,280
          63        Capital gains exclusion on home sales..................    35,990    39,750    43,900    48,490    59,900    78,860    87,100    318,250
          64        Exclusion of net imputed rental income.................    28,600    29,720    33,210    36,860    40,630    44,785    49,364    204,849
          65        Exception from passive loss rules for $25,000 of rental     6,470     6,370     6,230     6,060     5,880     5,700     5,510     29,380
                     loss..................................................
          66        Credit for low-income housing investments..............     3,880     4,060     4,250     4,460     4,710     4,950     5,220     23,590
          67        Accelerated depreciation on rental housing (normal tax      9,610    10,630    11,470    12,660    13,820    14,710    15,920     68,580
                     method)...............................................
                   Commerce:
          68        Cancellation of indebtedness...........................        30       160       110        40        40        40        40        270
          69        Exceptions from imputed interest rules.................        50        50        50        50        50        50        50        250
          70        Capital gains (except agriculture, timber, iron ore,       26,170    25,990    26,760    31,280    22,340    17,580    23,410    121,370
                     and coal).............................................
          71        Capital gains exclusion of small corporation stock.....       200       230       260       300       320       350       470      1,700
          72        Step-up basis of capital gains at death................    26,820    29,510    32,460    35,700    36,480    34,560    38,010    177,210
          73        Carryover basis of capital gains on gifts..............       410       540       640       750       790     1,270     6,370      9,820
          74        Ordinary income treatment of loss from small business          50        50        50        50        50        50        50        250
                     corporation stock sale................................
          75        Accelerated depreciation of buildings other than rental      -910      -280        90       550       360       950     1,580      3,530
                     housing (normal tax method)...........................
          76        Accelerated depreciation of machinery and equipment        20,220    40,520    52,230    61,940    73,480    81,090    88,460    353,600
                     (normal tax method)...................................
          77        Expensing of certain small investments (normal tax          5,390     4,720     4,360       350       868     1,110     1,460      8,148
                     method)...............................................
          78        Graduated corporation income tax rate (normal tax           3,160     3,450     3,590     3,940     4,180     4,300     4,390     20,400
                     method)...............................................
          79        Exclusion of interest on small issue bonds.............       390       420       440       480       510       530       540      2,500
          80        Deduction for US production activities.................     6,220     5,150    10,670    12,190    13,110    20,320    22,270     78,560
          81        Special rules for certain film and TV production.......        90       110        90        70       -40       -90       -60        -30

                 Transportation:
          82       Deferral of tax on shipping companies...................        20        20        20        20        20        20        20        100
          83       Exclusion of reimbursed employee parking expenses.......     2,590     2,730     2,880     3,030     3,180     3,330     3,420     15,840
          84       Exclusion for employer-provided transit passes..........       480       550       630       710       790       880       960      3,970
          85       Tax credit for certain expenditures for maintaining             70       140       150       110        50        30        10        350
                    railroad tracks........................................
          86       Exclusion of interest on bonds for Financing of Highway   ........        25        50        75        95        95       100        415
                    Projects and rail-truck transfer facilities............

                 Community and regional development:
          87       Investment credit for rehabilitation of structures              40        40        40        40        40        40        40        200
                    (other than historic)..................................
          88       Exclusion of interest for airport, dock, and similar           800       860       910       990     1,060     1,080     1,120      5,160
                    bonds..................................................
          89       Exemption of certain mutuals' and cooperatives' income..        60        60        70        70        70        70        70        350
          90       Empowerment zones and renewal communities...............     1,120     1,210     1,340     1,480     1,740     1,130       420      6,110
          91       New markets tax credit..................................       430       610       830       870       790       670       520      3,680
          92       Expensing of environmental remediation costs............        70        60        40  ........       -20       -10       -10  .........
          93       Credit to holders of Gulf Tax Credit Bonds..............  ........  ........        10        10        10        10        10         50

                 Education, training, employment, and social services:
                   Education:
          94        Exclusion of scholarship and fellowship income (normal      1,380     1,450     1,510     1,580     1,640     1,720     1,790      8,240
                     tax method)...........................................
          95        HOPE tax credit........................................     3,710     3,650     3,060     3,090     3,220     3,240     3,480     16,090
          96        Lifetime Learning tax credit...........................     2,330     2,340     2,020     2,030     2,060     2,090     2,220     10,420
          97        Education Individual Retirement Accounts...............        70        90       110       140       180       230       280        940
          98        Deductibility of student-loan interest.................       780       800       810       820       830       840       780      4,080
          99        Deduction for higher education expenses................     1,830     1,840  ........  ........  ........  ........  ........  .........
         100        State prepaid tuition plans............................       430       540       620       710       810       930     1,090      4,160
         101        Exclusion of interest on student-loan bonds............       280       300       320       350       370       380       390      1,810
         102        Exclusion of interest on bonds for private nonprofit        1,080     1,160     1,220     1,330     1,410     1,450     1,500      6,910
                     educational facilities................................
         103        Credit for holders of zone academy bonds...............       110       130       140       150       150       150       150        740
         104        Exclusion of interest on savings bonds redeemed to             10        20        20        20        20        20        20        100
                     finance educational expenses..........................
         105        Parental personal exemption for students age 19 or over     3,760     2,500     1,760     1,650     1,510     1,420     2,740      9,080
         106        Deductibility of charitable contributions (education)..     3,420     3,680     4,030     4,260     4,550     4,870     5,210     22,920
         107        Exclusion of employer-provided educational assistance..       560       590       620       660       690       730        40      2,740
         108        Special deduction for teacher expenses.................       160       150  ........  ........  ........  ........  ........  .........
         109        Discharge of student loan indebtedness.................        20        20        20        20        20        20        20        100
                   Training, employment, and social services:
         110        Work opportunity tax credit............................       160       210       190       130       110        70        30        530
         111        Welfare-to-work tax credit.............................        70        80        70        40        10  ........  ........        120
         112        Employer provided child care exclusion.................       610       810       920       960     1,010     1,060     1,070      5,020
         113        Employer-provided child care credit....................        10        10        10        20        20        20        10         80
         114        Assistance for adopted foster children.................       310       320       350       370       400       430       470      2,020
         115        Adoption credit and exclusion..........................       360       540       560       570       580       600       540      2,850
         116        Exclusion of employee meals and lodging (other than           850       890       930       970     1,010     1,060     1,110      5,080
                     military).............................................

    [[Page 289]]

         117        Child credit \2\.......................................    41,790    42,090    42,120    42,070    41,830    41,870    31,730    199,620
         118        Credit for child and dependent care expenses...........     3,060     2,740     1,820     1,750     1,660     1,590     1,540      8,360
         119        Credit for disabled access expenditures................        30        30        30        40        40        40        40        190
         120        Deductibility of charitable contributions, other than      29,670    32,550    34,500    36,790    39,410    42,210    45,210    198,120
                     education and health..................................
         121        Exclusion of certain foster care payments..............       440       440       450       450       450       460       470      2,280
         122        Exclusion of parsonage allowances......................       460       480       510       540       580       610       640      2,880
         123        Employee retention credit for employers affected by      ........       140        20        20  ........  ........  ........         40
                     Hurricane Katrina, Rita, and Wilma....................

                 Health:
         124       Exclusion of employer contributions for medical            118,420   132,730   146,780   161,120   176,290   191,980   212,820    888,990
                    insurance premiums and medical care....................
         125       Self-employed medical insurance premiums................     3,790     4,240     4,630     5,080     5,570     6,050     6,730     28,060
         126       Medical Savings Accounts / Health Savings Accounts......     1,050     1,830     2,650     3,510     3,960     3,910     3,860     17,890
         127       Deductibility of medical expenses.......................     6,110     4,410     5,310     6,490     7,720     9,220    12,260     41,000
         128       Exclusion of interest on hospital construction bonds....     1,880     2,010     2,110     2,300     2,450     2,520     2,600     11,980
         129       Deductibility of charitable contributions (health)......     3,350     3,670     3,890     4,150     4,450     4,770     5,110     22,370
         130       Tax credit for orphan drug research.....................       210       230       260       290       320       360       410      1,640
         131       Special Blue Cross/Blue Shield deduction................       710       780       850       920       760       830       920      4,280
         132       Tax credit for health insurance purchased by certain            20        20        30        30        30        30        30        150
                    displaced and retired individuals......................

                 Income security:
         133       Exclusion of railroad retirement system benefits........       390       390       380       360       370       370       350      1,830
         134       Exclusion of workers' compensation benefits.............     5,770     6,000     6,180     6,390     6,630     6,860     7,090     33,150
         135       Exclusion of public assistance benefits (normal tax            430       450       470       490       510       530       550      2,550
                    method)................................................
         136       Exclusion of special benefits for disabled coal miners..        50        50        50        40        40        40        40        210
         137       Exclusion of military disability pensions...............       100       110       110       120       120       130       130        610
                   Net exclusion of pension contributions and earnings:
         138        Employer plans.........................................    50,630    50,360    52,470    48,100    45,760    44,760    36,910    228,000
         139        401(k) plans...........................................    37,440    37,330    39,800    43,100    48,810    53,870    47,290    232,870
         140        Individual Retirement Accounts.........................     3,100     4,230     5,970     7,180     8,300     8,840     8,060     38,350
         141        Low and moderate income savers credit..................     1,310     1,380       830  ........  ........  ........  ........        830
         142        Keogh plans............................................     9,400     9,990    10,670    11,630    12,670    13,800    15,040     63,810
                   Exclusion of other employee benefits:
         143        Premiums on group term life insurance..................     2,020     2,070     2,180     2,250     2,310     2,380     2,490     11,610
         144        Premiums on accident and disability insurance..........       280       290       300       310       320       330       340      1,600
         145        Income of trusts to finance supplementary unemployment         20        20        20        20        20        20        20        100
                     benefits..............................................
         146        Special ESOP rules.....................................     1,650     1,760     1,890     2,030     2,170     2,330     2,490     10,910
         147        Additional deduction for the blind.....................        40        30        30        40        40        40        50        200
         148        Additional deduction for the elderly...................     1,850     1,740     1,740     1,880     1,930     1,980     2,940     10,470
         149        Tax credit for the elderly and disabled................        20        20        20        10        10        10        10         60
         150        Deductibility of casualty losses.......................       250       980       640       300       320       330       360      1,950
         151        Earned income tax credit \3\...........................     4,925     5,050     5,150     5,445     5,640     5,810     6,070     28,115
         152        Additional exemption for housing Hurricane Katrina       ........       110        20  ........  ........  ........  ........         20
                     displaced individuals.................................

                 Social Security:
                   Exclusion of social security benefits:
         153        Social Security benefits for retired workers...........    19,110    19,350    19,590    20,250    20,700    21,000    23,330    104,870
         154        Social Security benefits for disabled..................     3,600     3,810     4,110     4,330     4,570     4,960     5,530     23,500
         155        Social Security benefits for dependents and survivors..     3,940     3,980     4,040     4,070     4,100     4,180     4,360     20,750

                 Veterans benefits and services:
         156       Exclusion of veterans death benefits and disability          3,320     3,600     3,770     3,900     4,050     4,140     4,350     20,210
                    compensation...........................................
         157       Exclusion of veterans pensions..........................       130       140       140       140       140       150       150        720
         158       Exclusion of GI bill benefits...........................       150       170       210       240       280       330       400      1,460
         159       Exclusion of interest on veterans housing bonds.........        40        40        50        50        50        50        50        250

                 General purpose fiscal assistance:
         160       Exclusion of interest on public purpose State and local     26,360    28,180    29,640    32,330    34,410    35,440    36,510    168,330
                    bonds..................................................
         161       Deductibility of nonbusiness state and local taxes other    36,460    30,310    27,210    27,730    28,260    29,000    49,510    161,710
                    than on owner-occupied homes...........................
         162       Tax credit for corporations receiving income from doing        800       400        40  ........  ........  ........  ........         40
                    business in U.S. possessions...........................

                 Interest:
         163       Deferral of interest on U.S. savings bonds..............     1,350     1,340     1,350     1,360     1,380     1,390     1,440      6,920

                 Addendum: Aid to State and local governments:
                   Deductibility of:
                    Property taxes on owner-occupied homes.................    19,110    15,020    12,810    12,910    12,830    12,720    22,930     74,200
                    Nonbusiness State and local taxes other than on owner-     36,460    30,310    27,210    27,730    28,260    29,000    49,510    161,710
                     occupied homes........................................
                   Exclusion of interest on State and local bonds for:
                    Public purposes........................................    26,360    28,180    29,640    32,330    34,410    35,440    36,510    168,330
                    Energy facilities......................................        80        90        90       100       100       110       110        510
                    Water, sewage, and hazardous waste disposal facilities.       450       480       500       550       580       600       620      2,850

    [[Page 290]]

                    Small-issues...........................................       390       420       440       480       510       530       540      2,500
                    Owner-occupied mortgage subsidies......................       930       990     1,040     1,140     1,210     1,240     1,280      5,910
                    Rental housing.........................................       410       430       450       500       530       540       550      2,570
                    Airports, docks, and similar facilities................       800       860       910       990     1,060     1,080     1,120      5,160
                    Student loans..........................................       280       300       320       350       370       380       390      1,810
                    Private nonprofit educational facilities...............     1,080     1,160     1,220     1,330     1,410     1,450     1,500      6,910
                    Hospital construction..................................     1,880     2,010     2,110     2,300     2,450     2,520     2,600     11,980
                    Veterans' housing......................................        40        40        50        50        50        50        50        250
                 Credit for holders of zone academy bonds..................       110       130       140       150       150       150       150        740
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ In addition, the alcohol fuel credit results in a reduction in excise tax receipts (in millions of dollars) as follows: 2005 $1,500; 2006 $2,110;
      2007 $2,400; 2008 $2,740; 2009 $3,080; 2010 $3,410 and 2011 $870.
    \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: 2005 $14,620; 2006 $14,110; 2007 $13,540; 2008 $12,950; 2009 $12,760 and 2010 $12,330:2011 $12,110
    \3\ 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: 2005 $34,559;2006 $35,098; 2007 $35,645; 2008 $36,955; 2009 $38,048; 2010 $38,823; and 2011 $40,278.
    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.

                             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 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 2005 which cause the deferrals or other long-term revenue
    effects. For instance, a pension contribution in 2005 would cause a
    deferral of tax payments on wages in 2005 and on pension earnings on
    this contribution (e.g., interest) in later years. In some future year,
    however, the 2005 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.

    [[Page 291]]

                                                                            Table 19-2.  ESTIMATES OF TAX EXPENDITURES FOR THE CORPORATE AND INDIVIDUAL INCOME TAXES
                                                                                                            (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                     Corporations                                                                           Individuals
                                                                 ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                    2005     2006      2007       2008       2009       2010       2011     2007-11      2005       2006       2007       2008       2009       2010       2011     2007-11
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

                 National Defense
           1       Exclusion of benefits and allowances to armed  .......  .......  .........  .........  .........  .........  .........  .........      2,990      3,020      3,050      3,070      3,110      3,140      3,170     15,390
                    forces personnel............................

                 International affairs:
           2       Exclusion of income earned abroad by U.S.      .......  .......  .........  .........  .........  .........  .........  .........      2,750      2,810      2,940      3,100      3,270      3,450      3,640     16,400
                    citizens....................................
           3       Exclusion of certain allowances for Federal    .......  .......  .........  .........  .........  .........  .........  .........        900        950      1,000      1,050      1,100      1,160      1,230      5,540
                    employees abroad............................
           4       Extraterritorial income exclusion............    5,220    4,370      1,720        110         50         50         40      1,970  .........  .........  .........  .........  .........  .........  .........  .........
           5       Inventory property sales source rules            1,560    1,680      1,840      2,040      2,230      2,380      2,540     11,030  .........  .........  .........  .........  .........  .........  .........  .........
                    exception...................................
           6       Deferral of income from controlled foreign      10,500   11,160     11,940     12,770     13,650     14,600     15,620     68,580  .........  .........  .........  .........  .........  .........  .........  .........
                    corporations (normal tax method)............
           7       Deferred taxes for financial firms on certain    2,190    2,260        960  .........  .........  .........  .........        960  .........  .........  .........  .........  .........  .........  .........  .........
                    income earned overseas......................

                 General science, space, and technology:
           8       Expensing of research and experimentation        4,010    7,770      6,850      6,140      5,250      4,700      4,740     27,680        100        150        140        120        110        100        100        570
                    expenditures (normal tax method)............
           9       Credit for increasing research activities....    5,110    2,120        920        390        180         50  .........      1,540         50         40  .........  .........  .........  .........  .........  .........

                 Energy:
          10       Expensing of exploration and development           340      590        760        720        560        430        330      2,800         50         90        110        110         90         70         50        430
                    costs, fuels................................
          11       Excess of percentage over cost depletion,          530      600        620        600        580        560        560      2,920         60         70         70         60         60         60         60        310
                    fuels.......................................
          12       Alternative fuel production credit...........    2,220    2,290      2,360        950  .........  .........  .........      3,310        100        100        100         40  .........  .........  .........        140
          13       Exception from passive loss limitation for     .......  .......  .........  .........  .........  .........  .........  .........         40         40         40         40         40         40         40        200
                    working interests in oil and gas properties.
          14       Capital gains treatment of royalties on coal.  .......  .......  .........  .........  .........  .........  .........  .........         90         90         90        100         70         60         80        400
          15       Exclusion of interest on energy facility            20       20         20         20         20         20         20        100         60         70         70         80         80         90         90        410
                    bonds.......................................
          16       Enhanced oil recovery credit.................      270  .......  .........  .........  .........  .........         20         20         30  .........  .........  .........  .........  .........  .........  .........
          17       New technology credit........................      220      470        640        750        800        810        810      3,810         20         40         50         50         50         50         50        250
          18       Alcohol fuel credits \1\.....................       30       30         30         40         40         50         20        180         10         10         10         10         10         10         10         50
          19       Tax credit and deduction for clean-fuel             50       30        -10        -10        -20        -30        -30       -100         20         60        210        150        160         10        -10        520
                    burning vehicles............................
          20       Exclusion of utility conservation subsidies..  .......  .......  .........  .........  .........  .........  .........  .........         80         80         80         80         80         70         70        380
          21       Credit for holding clean renewable energy      .......  .......         10         30         40         50         50        180  .........  .........  .........  .........  .........  .........  .........  .........
                    bonds.......................................
          22       Deferral of gain from dispositions of              490      620        530        230       -100       -360       -510       -210  .........  .........  .........  .........  .........  .........  .........  .........
                    transmission property to implement FERC
                    restructuring policy........................
          23       Credit for production from advanced nuclear    .......  .......  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........
                    power facilities............................
          24       Credit for investment in clean coal            .......       50         50        100        150        200        280        780  .........  .........  .........  .........  .........  .........  .........  .........
                    facilities..................................
          25       Temporary 50% expensing for equipment used in  .......       10         30        120        240        260        180        830  .........  .........  .........  .........  .........  .........  .........  .........
                    the refining of liquid fuels................
          26       Pass through low sulfur diesel expensing to    .......  .......  .........  .........  .........  .........  .........  .........         40  .........        -10  .........        -10  .........        -10        -30
                    cooperative owners..........................
          27       Natural gas distribution pipelines treated as  .......       20         50         90        120        150        150        560  .........  .........  .........  .........  .........  .........  .........  .........
                    15-year property............................
          28       Amortize all geological and geophysical        .......       30        120        140        110         80         50        500  .........         10         30         40         30         20         10        130
                    expenditures over 2 years...................
          29       Allowance of deduction for certain energy      .......       60        150        110         20        -10        -10        260  .........         20         40         30         10  .........  .........         80
                    efficient commercial building property......
          30       Credit for construction of new energy          .......       10         20         10         10  .........  .........         40  .........  .........  .........  .........  .........  .........  .........  .........
                    efficient homes.............................
          31       Credit for energy efficiency improvements to   .......  .......  .........  .........  .........  .........  .........  .........  .........        220        380        150  .........  .........  .........        530
                    existing homes..............................
          32       Credit for energy efficient appliances.......  .......      120         80  .........  .........  .........  .........         80  .........  .........  .........  .........  .........  .........  .........  .........
          33       30% credit for residential purchases/          .......  .......  .........  .........  .........  .........  .........  .........  .........         10         10         10  .........  .........  .........         20
                    installations of solar and fuel cells.......
          34       Credit for business installation of qualified  .......       60        100         40        -10        -10        -10        110  .........         20         30         10  .........  .........  .........         40
                    fuel cells and stationary microturbine power
                    plants......................................
          35       Alternative Fuel and Fuel Mixture tax credit.  .......  .......  .........  .........  .........  .........  .........  .........        150        170  .........  .........  .........  .........  .........  .........

                 Natural resources and environment:
          36       Expensing of exploration and development       .......  .......  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........  .........
                    costs, nonfuel minerals.....................
          37       Excess of percentage over cost depletion,          250      260        280        290        290        310        320      1,490         20         20         20         20         20         20         20        100
                    nonfuel minerals............................
          38       Exclusion of interest on bonds for water,          100      100        100        110        110        110        120        550        350        380        400        440        470        490        500      2,300
                    sewage, and hazardous waste facilities......
          39       Capital gains treatment of certain timber      .......  .......  .........  .........  .........  .........  .........  .........         90         90         90        100         70         60         80        400
                    income......................................
          40       Expensing of multiperiod timber growing costs      240      250        260        280        290        300        300      1,430        110        120        120        120        120        130        130        620
          41       Tax incentives for preservation of historic        270      280        290        310        320        340        360      1,620         80         90         90         90        100        100        110        490
                    structures..................................
          42       Expensing of capital costs with respect to          10       10         10         30         50         30  .........        120  .........  .........  .........  .........  .........  .........  .........  .........
                    complying with EPA sulfur regulations.......

    [[Page 292]]

          43       Exclusion of gain or loss on sale or exchange  .......  .......         10         20         30         50         40        150  .........  .........  .........         10         10         20         20         60
                    of certain brownfield sites.................

                 Agriculture:
          44       Expensing of certain capital outlays.........       20       20         20         20         20         20         30        110         90        110        110        110        120        120        120        580
          45       Expensing of certain multiperiod production         10       10         10         10         10         10         20         60         50         60         60         70         70         70         70        340
                    costs.......................................
          46       Treatment of loans forgiven for solvent        .......  .......  .........  .........  .........  .........  .........  .........         10         10         10         10         10         10         10         50
                    farmers.....................................
          47       Capital gains treatment of certain income....  .......  .......  .........  .........  .........  .........  .........  .........        880        870        900      1,050        750        590        780      4,070
          48       Income averaging for farmers.................  .......  .......  .........  .........  .........  .........  .........  .........         40         40         40         40         40         40         50        210
          49       Deferral of gain on sale of farm refiners....       10       10         20         20         20         20         20        100  .........  .........  .........  .........  .........  .........  .........  .........
          50       Bio-Diesel and small agri-biodiesel producer   .......  .......  .........  .........  .........  .........  .........  .........         30         90        100         90         40         20         20        270
                    tax credits.................................

                 Commerce and housing:
                   Financial institutions and insurance:
          51        Exemption of credit union income............     1290     1370       1450       1540       1640      1,740      1,850      8,220  .........  .........  .........  .........  .........  .........  .........  .........
          52        Excess bad debt reserves of financial              10       10         10  .........  .........  .........  .........         10  .........  .........  .........  .........  .........  .........  .........  .........
                     institutions...............................
          53        Exclusion of interest on life insurance         1,760    1,830      1,910      2,120      2,400      2,620      2,810     11,860     17,440     18,140     18,860     20,480     23,700     26,370     28,540    117,950
                     savings....................................
          54        Special alternative tax on small property          20       20         20         20         20         20         30        110  .........  .........  .........  .........  .........  .........  .........  .........
                     and casualty insurance companies...........
          55        Tax exemption of certain insurance companies      210      220        230        240        250        260        270      1,250  .........  .........  .........  .........  .........  .........  .........  .........
                     owned by tax-exempt organizations..........
          56        Small life insurance company deduction......       60       60         60         60         60         60         50        290  .........  .........  .........  .........  .........  .........  .........  .........
          57        Exclusion of interest spread of financial     .......  .......  .........  .........  .........  .........  .........  .........      1,450      1,540      1,620      1,710      1,800      1,890      1,990     12,000
                     institutions...............................
                 Housing:
          58       Exclusion of interest on owner-occupied            200      210        210        220        230        230        240      1,130        730        780        830        920        980      1,010      1,040      4,780
                    mortgage subsidy bonds......................
          59       Exclusion of interest on rental housing bonds       90       90         90        100        100        100        100        490        320        340        360        400        430        440        450      2,080
          60       Deductibility of mortgage interest on owner-   .......  .......  .........  .........  .........  .........  .........  .........     62,160     72,060     79,860     87,820     94,490    100,980    108,280    471,430
                    occupied homes..............................
          61       Deductibility of State and local property tax  .......  .......  .........  .........  .........  .........  .........  .........     19,110     15,020     12,810     12,910     12,830     12,720     22,930     74,200
                    on owner-occupied homes.....................
          62       Deferral of income from post 1987 installment      290      290        300        300        310        310        310      1,530        830        840        860        880        890      1,000      1,120      4,750
                    sales.......................................
          63       Capital gains exclusion on home sales........  .......  .......  .........  .........  .........  .........  .........  .........     35,990     39,750     43,900     48,490     59,900     78,860     87,100    318,250
          64       Exclusion of net imputed rental income.......  .......  .......  .........  .........  .........  .........  .........  .........     28,600     29,720     33,210     36,860     40,630     44,785     49,364    204,849
          65       Exception from passive loss rules for $25,000  .......  .......  .........  .........  .........  .........  .........  .........       6470       6370       6230       6060       5880       5700       5510     29,380
                    of rental loss..............................
          66       Credit for low-income housing investments....    3,300    3,450      3,610      3,790      4,000      4,210      4,440     20,050        580        610        640        670        710        740        780      3,540
          67       Accelerated depreciation on rental housing         650      710        760        840        910        960      1,030      4,500      8,960      9,920     10,710     11,820     12,910     13,750     14,890     64,080
                    (normal tax method).........................
                 Commerce:
          68       Cancellation of indebtedness.................  .......  .......  .........  .........  .........  .........  .........  .........         30        160        110         40         40         40         40        270
          69       Exceptions from imputed interest rules.......  .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         50         50         50        250
          70       Capital gains (except agriculture, timber,     .......  .......  .........  .........  .........  .........  .........  .........     26,170     25,990     26,760     31,280     22,340     17,580     23,410    121,370
                    iron ore, and coal).........................
          71       Capital gains exclusion of small corporation   .......  .......  .........  .........  .........  .........  .........  .........        200        230        260        300        320        350        470      1,700
                    stock.......................................
          72       Step-up basis of capital gains at death......  .......  .......  .........  .........  .........  .........  .........  .........     26,820     29,510     32,460     35,700     36,480     34,560     38,010    177,210
          73       Carryover basis of capital gains on gifts....  .......  .......  .........  .........  .........  .........  .........  .........        410        540        640        750        790      1,270      6,370      9,820
          74       Ordinary income treatment of loss from small   .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         50         50         50         50        250
                    business corporation stock sale.............
          75       Accelerated depreciation of buildings other        220      400        530        720        730        970      1,230      4,180     -1,130       -680       -440       -170       -370        -20        350       -650
                    than rental housing (normal tax method).....
          76       Accelerated depreciation of machinery and       15,850   30,250     39,870     47,870     57,290     63,410     69,170    277,610      4,370     10,270     12,360     14,070     16,190     17,680     19,290     75,990
                    equipment (normal tax method)...............
          77       Expensing of certain small investments           1,710    1,440      1,240       -280         -2        160        310      1,428      3,680      3,280      3,120        630        870        950      1,150      6,720
                    (normal tax method).........................
          78       Graduated corporation income tax rate (normal    3,160    3,450      3,590      3,940      4,180      4,300      4,390     20,400  .........  .........  .........  .........  .........  .........  .........  .........
                    tax method).................................
          79       Exclusion of interest on small issue bonds...       80       90         90         90        100        100        100        480        310        330        350        390        410        430        440      2,020
          80       Deduction for US production activities.......    4,870    3,980      8,320      9,770     10,630     16,550     16,880     62,150      1,350      1,170      2,350      2,420      2,480      3,770      5,390     16,410
          81       Special rules for certain film and TV               70       90         70         60        -30        -70        -50        -20         20         20         20         10        -10        -20        -10        -10
                    production..................................

                 Transportation:
          82       Deferral of tax on shipping companies........       20       20         20         20         20         20         20        100  .........  .........  .........  .........  .........  .........  .........  .........
          83       Exclusion of reimbursed employee parking       .......  .......  .........  .........  .........  .........  .........  .........      2,590      2,730      2,880      3,030      3,180      3,330      3,420     15,840
                    expenses....................................
          84       Exclusion for employer-provided transit        .......  .......  .........  .........  .........  .........  .........  .........        480        550        630        710        790        880        960      3,970
                    passes......................................
          85       Tax credit for certain expenditures for             70      140        150        110         50         30         10        350  .........  .........  .........  .........  .........  .........  .........  .........
                    maintaining railroad tracks.................
          86       Exclusion of interest on bonds for Financing   .......       10         15         20         25         25         25        110  .........         15         35         55         70         70         75        305
                    of Highway Projects and rail-truck transfer
                    facilities..................................

    [[Page 293]]

                 Community and regional development:
          87       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)............
          88       Exclusion of interest for airport, dock, and       170      180        190        190        200        200        210        990        630        680        720        800        860        880        910      4,170
                    similar bonds...............................
          89       Exemption of certain mutuals' and                   60       60         70         70         70         70         70        350  .........  .........  .........  .........  .........  .........  .........  .........
                    cooperatives' income........................
          90       Empowerment zones and renewal communities....      290      310        340        370        420        190         60      1,380        830        900      1,000      1,110      1,320        940        360      4,730
          91       New markets tax credit.......................      110      150        210        220        200        170        130        930        320        460        620        650        590        500        390      2,750
          92       Expensing of environmental remediation costs.       60       50         30  .........        -20        -10        -10        -10         10         10         10  .........  .........  .........  .........         10
          93       Credit to holders of Gulf Tax Credit Bonds...  .......  .......  .........  .........  .........  .........  .........  .........  .........  .........         10         10         10         10         10         50

                 Education, training, employment, and social
                  services:
                   Education:
          94        Exclusion of scholarship and fellowship       .......  .......  .........  .........  .........  .........  .........  .........      1,380      1,450      1,510      1,580      1,640      1,720      1,790      8,240
                     income (normal tax method).................
          95        HOPE tax credit.............................  .......  .......  .........  .........  .........  .........  .........  .........      3,710      3,650      3,060      3,090      3,220      3,240      3,480     16,090
          96        Lifetime Learning tax credit................  .......  .......  .........  .........  .........  .........  .........  .........      2,330      2,340      2,020      2,030      2,060      2,090      2,220     10,420
          97        Education Individual Retirement Accounts....  .......  .......  .........  .........  .........  .........  .........  .........         70         90        110        140        180        230        280        940
          98        Deductibility of student-loan interest......  .......  .......  .........  .........  .........  .........  .........  .........        780        800        810        820        830        840        780      4,080
          99        Deduction for higher education expenses.....  .......  .......  .........  .........  .........  .........  .........  .........      1,830      1,840  .........  .........  .........  .........  .........  .........
         100        State prepaid tuition plans.................  .......  .......  .........  .........  .........  .........  .........  .........        430        540        620        710        810        930      1,090      4,160
         101        Exclusion of interest on student-loan bonds.       60       60         70         70         70         70         70        350        220        240        250        280        300        310        320      1,460
         102        Exclusion of interest on bonds for private        230      240        250        260        260        270        280      1,320        850        920        970       1070       1150       1180       1220      5,590
                     nonprofit educational facilities...........
         103        Credit for holders of zone academy bonds....      110      130        140        150        150        150        150        740  .........  .........  .........  .........  .........  .........  .........  .........
         104        Exclusion of interest on savings bonds        .......  .......  .........  .........  .........  .........  .........  .........         10         20         20         20         20         20         20        100
                     redeemed to finance educational expenses...
         105        Parental personal exemption for students age  .......  .......  .........  .........  .........  .........  .........  .........      3,760      2,500      1,760      1,650      1,510      1,420      2,740      9,080
                     19 or over.................................
         106        Deductibility of charitable contributions         540      560        590        620        660        700        740      3,310      2,880      3,120      3,440      3,640      3,890      4,170      4,470     19,610
                     (education)................................
         107        Exclusion of employer-provided educational    .......  .......  .........  .........  .........  .........  .........  .........        560        590        620        660        690        730         40      2,740
                     assistance.................................
         108        Special deduction for teacher expenses......  .......  .......  .........  .........  .........  .........  .........  .........        160        150  .........  .........  .........  .........  .........  .........
         109        Discharge of student loan indebtedness......  .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                   Training, employment, and social services:
         110        Work opportunity tax credit.................      130      180        150        100         80         50         20        400         30         30         40         30         30         20         10        130
         111        Welfare-to-work tax credit..................       60       70         60         30         10  .........  .........        100         10         10         10         10  .........  .........  .........         20
         112        Employer provided child care exclusion......  .......  .......  .........  .........  .........  .........  .........  .........        610        810        920        960       1010       1060       1070      5,020
         113        Employer-provided child care credit.........  .......  .......  .........  .........  .........  .........  .........  .........         10         10         10         20         20         20         10         80
         114        Assistance for adopted foster children......  .......  .......  .........  .........  .........  .........  .........  .........        310        320        350        370        400        430        470      2,020
         115        Adoption credit and exclusion...............  .......  .......  .........  .........  .........  .........  .........  .........        360        540        560        570        580        600        540      2,850
         116        Exclusion of employee meals and lodging       .......  .......  .........  .........  .........  .........  .........  .........        850        890        930        970      1,010      1,060      1,110      5,080
                     (other than military)......................
         117        Child credit \2\............................  .......  .......  .........  .........  .........  .........  .........  .........     41,790     42,090     42,120     42,070     41,830     41,870     31,730    199,620
         118        Credit for child and dependent care expenses  .......  .......  .........  .........  .........  .........  .........  .........      3,060      2,740      1,820      1,750      1,660      1,590      1,540      8,360
         119        Credit for disabled access expenditures.....       10       10         10         10         10         10         10         50         20         20         20         30         30         30         30        140
         120        Deductibility of charitable contributions,      1,230    1,290      1,360      1,430      1,500      1,570       1640      7,500     28,440     31,260     33,140     35,360     37,910     40,640     43,570    190,620
                     other than education and health............
         121        Exclusion of certain foster care payments...  .......  .......  .........  .........  .........  .........  .........  .........        440        440        450        450        450        460        470      2,280
         122        Exclusion of parsonage allowances...........  .......  .......  .........  .........  .........  .........  .........  .........        460        480        510        540        580        610        640      2,880
         123        Employee retention credit for employers       .......       40  .........  .........  .........  .........  .........  .........  .........        100         20         20  .........  .........  .........         40
                     affected by Hurricane Katrina, Rita, and
                     Wilma......................................

                 Health:
         124       Exclusion of employer contributions for        .......  .......  .........  .........  .........  .........  .........  .........    118,420    132,730    146,780    161,120    176,290    191,980    212,820    888,990
                    medical insurance premiums and medical care.
         125       Self-employed medical insurance premiums.....  .......  .......  .........  .........  .........  .........  .........  .........      3,790      4,240      4,630      5,080      5,570      6,050      6,730     28,060
         126       Medical Savings Accounts / Health Savings      .......  .......  .........  .........  .........  .........  .........  .........      1,050      1,830      2,650      3,510      3,960      3,910      3,860     17,890
                    Accounts....................................
         127       Deductibility of medical expenses............  .......  .......  .........  .........  .........  .........  .........  .........      6,110      4,410      5,310      6,490      7,720      9,220     12,260     41,000
         128       Exclusion of interest on hospital                  410      420        430        440        460        470        490      2,290      1,470      1,590      1,680      1,860      1,990      2,050      2,110      9,690
                    construction bonds..........................
         129       Deductibility of charitable contributions          160      160        170        180        190        200        210        950      3,190      3,510      3,720      3,970      4,260      4,570      4,900     21,420
                    (health)....................................
         130       Tax credit for orphan drug research..........      210      230        260        290        320        360        410      1,640  .........  .........  .........  .........  .........  .........  .........  .........
         131       Special Blue Cross/Blue Shield deduction.....      710      780        850        920        760        830        920      4,280  .........  .........  .........  .........  .........  .........  .........  .........

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         132       Tax credit for health insurance purchased by   .......  .......  .........  .........  .........  .........  .........  .........         20         20         30         30         30         30         30        150
                    certain displaced and retired individuals...

                 Income security:
         133       Exclusion of railroad retirement system        .......  .......  .........  .........  .........  .........  .........  .........        390        390        380        360        370        370        350      1,830
                    benefits....................................
         134       Exclusion of workers' compensation benefits..  .......  .......  .........  .........  .........  .........  .........  .........      5,770      6,000      6,180      6,390      6,630      6,860      7,090     33,150
         135       Exclusion of public assistance benefits        .......  .......  .........  .........  .........  .........  .........  .........        430        450        470        490        510        530        550      2,550
                    (normal tax method).........................
         136       Exclusion of special benefits for disabled     .......  .......  .........  .........  .........  .........  .........  .........         50         50         50         40         40         40         40        210
                    coal miners.................................
         137       Exclusion of military disability pensions....  .......  .......  .........  .........  .........  .........  .........  .........        100        110        110        120        120        130        130        610
                   Net exclusion of pension contributions and
                    earnings:
         138       Employer plans...............................  .......  .......  .........  .........  .........  .........  .........  .........     50,630     50,360     52,470     48,100     45,760     44,760     36,910    228,000
         139       401(k) plans.................................  .......  .......  .........  .........  .........  .........  .........  .........     37,440     37,330     39,800     43,100     48,810     53,870     47,290    232,870
         140       Individual Retirement Accounts...............  .......  .......  .........  .........  .........  .........  .........  .........      3,100      4,230      5,970      7,180      8,300      8,840      8,060     38,350
         141       Low and moderate income savers credit........  .......  .......  .........  .........  .........  .........  .........  .........      1,310      1,380        830  .........  .........  .........  .........        830
         142       Keogh plans..................................  .......  .......  .........  .........  .........  .........  .........  .........      9,400      9,990     10,670     11,630     12,670     13,800     15,040     63,810
                   Exclusion of other employee benefits:
         143        Premiums on group term life insurance.......  .......  .......  .........  .........  .........  .........  .........  .........      2,020      2,070      2,180      2,250      2,310      2,380      2,490     11,610
         144        Premiums on accident and disability           .......  .......  .........  .........  .........  .........  .........  .........        280        290        300        310        320        330        340      1,600
                     insurance..................................
         145        Income of trusts to finance supplementary     .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         20         20         20         20        100
                     unemployment benefits......................
         146        Special ESOP rules..........................     1310     1410       1520       1640       1780       1940       2100      8,980        340        350        370        390        390        390        390      1,930
         147        Additional deduction for the blind..........  .......  .......  .........  .........  .........  .........  .........  .........         40         30         30         40         40         40         50        200
         148        Additional deduction for the elderly........  .......  .......  .........  .........  .........  .........  .........  .........      1,850      1,740      1,740      1,880      1,930      1,980      2,940     10,470
         149        Tax credit for the elderly and disabled.....  .......  .......  .........  .........  .........  .........  .........  .........         20         20         20         10         10         10         10         60
         150        Deductibility of casualty losses............  .......  .......  .........  .........  .........  .........  .........  .........        250        980        640        300        320        330        360      1,950
         151        Earned income tax credit \3\................  .......  .......  .........  .........  .........  .........  .........  .........      4,925      5,050      5,150      5,445      5,640      5,810      6,070     28,115
         152        Additional exemption for housing Hurricane    .......  .......  .........  .........  .........  .........  .........  .........  .........        110         20  .........  .........  .........  .........         20
                     Katrina displaced individuals..............

                 Social Security:
                   Exclusion of social security benefits:
         153        Social Security benefits for retired workers  .......  .......  .........  .........  .........  .........  .........  .........     19,110     19,350     19,590     20,250     20,700     21,000     23,330    104,870
         154        Social Security benefits for disabled.......  .......  .......  .........  .........  .........  .........  .........  .........      3,600      3,810      4,110      4,330      4,570      4,960      5,530     23,500
         155        Social Security benefits for dependents and   .......  .......  .........  .........  .........  .........  .........  .........      3,940      3,980      4,040      4,070      4,100      4,180      4,360     20,750
                     survivors..................................

                 Veterans benefits and services:
         156       Exclusion of veterans death benefits and       .......  .......  .........  .........  .........  .........  .........  .........      3,320      3,600      3,770      3,900      4,050      4,140      4,350     20,210
                    disability compensation.....................
         157       Exclusion of veterans pensions...............  .......  .......  .........  .........  .........  .........  .........  .........        130        140        140        140        140        150        150        720
         158       Exclusion of GI bill benefits................  .......  .......  .........  .........  .........  .........  .........  .........        150        170        210        240        280        330        400      1,460
         159       Exclusion of interest on veterans housing           10       10         10         10         10         10         10         50         30         30         40         40         40         40         40        200
                    bonds.......................................

                 General purpose fiscal assistance:
         160       Exclusion of interest on public purpose State    5,710    5,880      6,060      6,240      6,430      6,620      6,820     32,170     20,650     22,300     23,580     26,090     27,980     28,820     29,690    136,160
                    and local bonds.............................
         161       Deductibility of nonbusiness state and local   .......  .......  .........  .........  .........  .........  .........  .........     36,460     30,310     27,210     27,730     28,260     29,000     49,510    161,710
                    taxes other than on owner-occupied homes....
         162       Tax credit for corporations receiving income       800      400         40  .........  .........  .........  .........         40  .........  .........  .........  .........  .........  .........  .........  .........
                    from doing business in U.S. possessions.....

                 Interest:
         163       Deferral of interest on U.S. savings bonds...  .......  .......  .........  .........  .........  .........  .........  .........      1,350      1,340      1,350      1,360      1,380      1,390      1,440      6,920

                 Addendum: Aid to State and local governments:
                   Deductibility of:
                    Property taxes on owner-occupied homes......  .......  .......  .........  .........  .........  .........  .........  .........     19,110     15,020     12,810     12,910     12,830     12,720     22,930     74,200
                    Nonbusiness State and local taxes other than  .......  .......  .........  .........  .........  .........  .........  .........     36,460     30,310     27,210     27,730     28,260     29,000     49,510    161,710
                     on owner-occupied homes....................
                   Exclusion of interest on State and local
                    bonds for:
                    Public purposes.............................    5,710    5,880      6,060      6,240      6,430      6,620      6,820     32,170     20,650     22,300     23,580     26,090     27,980     28,820     29,690    136,160
                    Energy facilities...........................       20       20         20         20         20         20         20        100         60         70         70         80         80         90         90        410
                    Water, sewage, and hazardous waste disposal       100      100        100        110        110        110        120        550        350        380        400        440        470        490        500      2,300
                     facilities.................................
                    Small-issues................................       80       90         90         90        100        100        100        480        310        330        350        390        410        430        440      2,020
                    Owner-occupied mortgage subsidies...........      200      210        210        220        230        230        240      1,130        730        780        830        920        980      1,010      1,040      4,780
                    Rental housing..............................       90       90         90        100        100        100        100        490        320        340        360        400        430        440        450      2,080
                    Airports, docks, and similar facilities.....      170      180        190        190        200        200        210        990        630        680        720        800        860        880        910      4,170
                    Student loans...............................       60       60         70         70         70         70         70        350        220        240        250        280        300        310        320      1,460
                    Private nonprofit educational facilities....      230      240        250        260        260        270        280      1,320        850        920        970      1,070      1,150      1,180      1,220      5,590
                    Hospital construction.......................      410      420        430        440        460        470        490      2,290      1,470      1,590      1,680      1,860      1,990      2,050      2,110      9,690
                    Veterans' housing...........................       10       10         10         10         10         10         10         50         30         30         40         40         40         40         40        200

    [[Page 295]]

                 Credit for holders of zone academy bonds.......      110      130        140        150        150        150        150        740  .........  .........  .........  .........  .........  .........  .........  .........
    ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ In addition, the alcohol fuel credit results in a reduction in excise tax receipts (in millions of dollars) as follows: 2005 $1,500; 2006 $2,110; 2007 $2,400; 2008 $2,740; 2009 $3,080; 2010 $3,410 and 2011 $870.
    \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: 2005 $14,620; 2006 $14,110; 2007 $13,540; 2008 $12,950; 2009 $12,760
      and 2010 $12,330:2011 $12,110.
    \3\ 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: 2005 $34,559;2006 $35,098; 2007 $35,645; 2008 $36,955; 2009
      $38,048; 2010 $38,823; and 2011 $40,278.
    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.

                            Tax Expenditure Baselines

      A tax expenditure is an exception to baseline provisions of the tax
    structure that usually results in a reduction in the amount of tax owed.
    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 deduction of 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:
        Income is taxable only when it is realized in exchange.
              Thus, either 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 vary by level of income.
        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.\2\ The normal tax baseline also
              excludes gifts between individuals from gross income. Under
              the normal tax baseline, however, all cash transfer payments
              from the Gov

    [[Page 296]]

              ernment 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. \3\
    ---------------------------------------------------------------------------
      \2\ Gross income does, however, include transfer payments associated
    with past employment, such as Social Security benefits.
      \3\ 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.

                 Table 19-3.  INCOME TAX EXPENDITURES RANKED BY TOTAL 2007-2011 PROJECTED REVENUE EFFECT
                                                (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------
                                       Provision                                          2007           2007-11
    ----------------------------------------------------------------------------------------------------------------

    Exclusion of employer contributions for medical insurance premiums and medical     146,780          888,990
    Deductibility of mortgage interest on owner-occupied homes....................      79,860          471,430
    Accelerated depreciation of machinery and equipment (normal tax method).......      52,230          357,200
    Capital gains exclusion on home sales.........................................      43,900          318,250
    401(k) plans..................................................................      39,800          232,870
    Employer plans................................................................      52,470          228,000
    Exclusion of net imputed rental income........................................      33,210          204,849
    Child credit..................................................................      42,120          199,620
    Deductibility of charitable contributions, other than education and health....      34,430          198,120
    Step-up basis of capital gains at death.......................................      32,460          177,210
    Exclusion of interest on public purpose State and local bonds.................      29,640          168,330
    Deductibility of nonbusiness state and local taxes other than on owner-             27,210          161,710
     occupied homes...............................................................
    Exclusion of interest on life insurance savings...............................      20,770          129,810
    Capital gains (except agriculture, timber, iron ore, and coal)................      26,760          121,370
    Social Security benefits for retired workers..................................      19,590          104,870
    Deduction for US production activities........................................      10,670           78,560
    Deductibility of State and local property tax on owner-occupied homes.........      12,810           74,200
    Deferral of income from controlled foreign corporations (normal tax method)...      11,940           68,580
    Keogh plans...................................................................      10,670           63,810
    Deductibility of medical expenses.............................................       5,310           41,000
    Individual Retirement Accounts................................................       5,970           38,350
    Exclusion of workers' compensation benefits...................................       6,180           33,150
    Exception from passive loss rules for $25,000 of rental loss..................       6,230           29,380
    Expensing of research and experimentation expenditures (normal tax method)....       6,990           28,250
    Earned income tax credit......................................................       5,147           28,104
    Self-employed medical insurance premiums......................................       4,630           28,060
    Credit for low-income housing investments.....................................       4,250           23,590
    Social Security benefits for disabled.........................................       4,110           23,500
    Deductibility of charitable contributions (education).........................       4,030           22,920
    Deductibility of charitable contributions (health)............................       3,890           22,370
    Social Security benefits for dependents and survivors.........................       4,040           20,750
    Graduated corporation income tax rate (normal tax method).....................       3,590           20,400
    Exclusion of veterans death benefits and disability compensation..............       3,770           20,210
    Medical Savings Accounts/Health Savings Accounts..............................       2,650           17,890
    Exclusion of income earned abroad by U.S. citizens............................       2,940           16,400
    HOPE tax credit...............................................................       3,060           16,090
    Exclusion of reimbursed employee parking expenses.............................       2,880           15,840

    [[Page 297]]

    Exclusion of benefits and allowances to armed forces personnel................       3,050           15,390
    Exclusion of interest spread of financial institutions........................       1,620           12,000
    Exclusion of interest on hospital construction bonds..........................       2,110           11,980
    Premiums on group term life insurance.........................................       2,180           11,610
    Inventory property sales source rules exception...............................       1,840           11,030
    Special ESOP rules............................................................       1,890           10,910
    Additional deduction for the elderly..........................................       1,740           10,470
    Lifetime Learning tax credit..................................................       2,020           10,420
    Carryover basis of capital gains on gifts.....................................         640            9,820
    Parental personal exemption for students age 19 or over.......................       1,760            9,080
    Credit for child and dependent care expenses..................................       1,820            8,360
    Exclusion of scholarship and fellowship income (normal tax method)............       1,510            8,240
    Exemption of credit union income..............................................       1,450            8,220
    Expensing of certain small investments (normal tax method)....................       4,360            8,148
    Deferral of interest on U.S. savings bonds....................................       1,350            6,920
    Exclusion of interest on bonds for private nonprofit educational facilities...       1,220            6,910
    Deferral of income from post 1987 installment sales...........................       1,160            6,280
    Empowerment zones, Enterprise communities, and Renewal communities............       1,340            6,110
    Exclusion of interest on owner-occupied mortgage subsidy bonds................       1,040            5,910
    Exclusion of certain allowances for Federal employees abroad..................       1,000            5,540
    Exclusion of interest for airport, dock, and similar bonds....................         910            5,160
    Exclusion of employee meals and lodging (other than military).................         930            5,080
    Employer provided child care exclusion........................................         920            5,020
    Special Blue Cross/Blue Shield deduction......................................         850            4,280
    State prepaid tuition plans...................................................         620            4,160
    Deductibility of student-loan interest........................................         810            4,080
    Capital gains treatment of certain income.....................................         900            4,070
    New technology credit.........................................................         690            4,060
    Exclusion for employer-provided transit passes................................         630            3,970
    New markets tax credit........................................................         830            3,680
    Accelerated depreciation of buildings other than rental housing (normal tax             90            3,530
     method)......................................................................
    Alternative fuel production credit............................................       2,460            3,450
    Excess of percentage over cost depletion, fuels...............................         690            3,230
    Expensing of exploration and development costs, fuels.........................         870            3,230
    Exclusion of parsonage allowances.............................................         510            2,880
    Exclusion of interest on bonds for water, sewage, and hazardous waste                  500            2,850
     facilities...................................................................
    Adoption credit and exclusion.................................................         560            2,850
    Exclusion of employer-provided educational assistance.........................         620            2,740
    Exclusion of interest on rental housing bonds.................................         450            2,570
    Exclusion of public assistance benefits (normal tax method)...................         470            2,550
    Exclusion of interest on small issue bonds....................................         440            2,500
    Extraterritorial income exclusion.............................................       1,960            2,350
    Exclusion of certain foster care payments.....................................         450            2,280
    Tax incentives for preservation of historic structures........................         380            2,110
    Expensing of multiperiod timber growing costs.................................         380            2,050
    Assistance for adopted foster children........................................         350            2,020
    Deductibility of casualty losses..............................................         640            1,950
    Exclusion of railroad retirement system benefits..............................         380            1,830
    Exclusion of interest on student-loan bonds...................................         320            1,810
    Capital gains exclusion of small corporation stock............................         260            1,700
    Tax credit for orphan drug research...........................................         260            1,640
    Premiums on accident and disability insurance.................................         300            1,600
    Excess of percentage over cost depletion, nonfuel minerals....................         300            1,590
    Credit for increasing research activities.....................................         920            1,540
    Exclusion of GI bill benefits.................................................         210            1,460
    Tax exemption of certain insurance companies owned by tax-exempt organizations         230            1,250
    Deferred taxes for financial firms on certain income earned overseas..........         960              960
    Education Individual Retirement Accounts......................................         110              940
    Low and moderate income savers credit.........................................         830              830
    Temporary 50% expensing for equipment used in the refining of liquid fuels....          30              830
    Credit for investment in clean coal facilities................................          50              780
    Credit for holders of zone academy bonds......................................         140              740
    Exclusion of veterans pensions................................................         140              720
    Expensing of certain capital outlays..........................................         130              690
    Amortize all geological and geophysical expenditures over 2 years.............         150              630
    Exclusion of military disability pensions.....................................         110              610
    Natural gas distribution pipelines treated as 15-year property................          50              560

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    Work opportunity tax credit...................................................         190              530
    Credit for energy efficiency improvements to existing homes...................         380              530
    Exclusion of interest on energy facility bonds................................          90              510
    Tax credit and deduction for clean-fuel burning vehicles......................         200              420
    Exclusion of interest on bonds for Financing of Highway Projects and rail-              50              415
     truck transfer facilities....................................................
    Capital gains treatment of royalties on coal..................................          90              400
    Capital gains treatment of certain timber income..............................          90              400
    Expensing of certain multiperiod production costs.............................          70              400
    Exclusion of utility conservation subsidies...................................          80              380
    Tax credit for certain expenditures for maintaining railroad tracks...........         150              350
    Exemption of certain mutuals' and cooperatives' income........................          70              350
    Allowance of deduction for certain energy efficient commercial building                190              340
     property.....................................................................
    Small life insurance company deduction........................................          60              290
    Cancellation of indebtedness..................................................         110              270
    Bio-Diesel tax credit.........................................................         100              270
    Exclusion of interest on veterans housing bonds...............................          50              250
    Exceptions from imputed interest rules........................................          50              250
    Ordinary income treatment of loss from small business corporation stock sale..          50              250
    Alcohol fuel credits..........................................................          40              230
    Exclusion of special benefits for disabled coal miners........................          50              210
    Income averaging for farmers..................................................          40              210
    Exclusion of gain or loss on sale or exchange of certain brownfield sites.....          10              210
    Investment credit for rehabilitation of structures (other than historic)......          40              200
    Additional deduction for the blind............................................          30              200
    Exception from passive loss limitation for working interests in oil and gas             40              200
     properties...................................................................
    Credit for disabled access expenditures.......................................          30              190
    Credit for holding clean renewable energy bonds...............................          10              180
    Tax credit for health insurance purchased by certain displaced and retired              30              150
     individuals..................................................................
    Credit for business installation of qualified fuel cells and stationary                130              150
     microturbine power plants....................................................
    Welfare-to-work tax credit....................................................          70              120
    Expensing of capital costs with respect to complying with EPA sulfur                    11              113
     regulations..................................................................
    Special alternative tax on small property and casualty insurance companies....          20              110
    Deferral of tax on shipping companies.........................................          20              100
    Exclusion of interest on savings bonds redeemed to finance educational                  20              100
     expenses.....................................................................
    Discharge of student loan indebtedness........................................          20              100
    Income of trusts to finance supplementary unemployment benefits...............          20              100
    Deferral of gain on sale of farm refiners.....................................          20              100
    Employer-provided child care credit...........................................          10               80
    Credit for energy efficient appliances........................................          80               80
    Tax credit for the elderly and disabled.......................................          20               60
    Treatment of loans forgiven for solvent farmers...............................          10               50
    Credit to holders of Gulf Tax Credit Bonds....................................          10               50
    Tax credit for corporations receiving income from doing business in U.S.                40               40
     possessions..................................................................
    Credit for construction of new energy efficient homes.........................          20               40
    Employee retention credit for employers affected by Hurricane Katrina, Rita,            20               40
     and Wilma....................................................................
    Enhanced oil recovery credit..................................................  ...............          20
    30% credit for residential purchases/installations of solar and fuel cells....          10               20
    Additional exemption for housing Hurricane Katrina displaced individuals......          20               20
    Excess bad debt reserves of financial institutions............................          10               10
    Deduction for higher education expenses.......................................  ...............  ...............
    Expensing of exploration and development costs, nonfuel minerals..............  ...............  ...............
    Special deduction for teacher expenses........................................  ...............  ...............
    Expensing of environmental remediation costs..................................          40       ...............
    Alternative Fuel and Fuel Mixture tax credit..................................  ...............  ...............
    Credit for production from advanced nuclear power facilities..................  ...............  ...............
    Special rules for certain film and TV production..............................          90              -30
    Pass through low sulfur diesel expensing to cooperative owners................         -10              -30
    Deferral of gain from dispositions of transmission property to implement FERC          530             -210
     restructuring policy.........................................................
    ----------------------------------------------------------------------------------------------------------------

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               Table 19-4.  PRESENT VALUE OF SELECTED TAX EXPENDITURES FOR ACTIVITY IN CALENDAR YEAR 2005
                                                (in millions of dollars)
    ----------------------------------------------------------------------------------------------------------------
                                                                                                       2005  Present
                                                     Provision                                           Value  of
                                                                                                        Revenue Loss
    ----------------------------------------------------------------------------------------------------------------

           1     Deferral of income from controlled foreign corporations (normal tax method).........     10,020
           2     Deferred taxes for financial firms on income earned overseas........................      2,270
           3     Expensing of research and experimentation expenditures (normal tax method)..........      2,390
           4     Expensing of exploration and development costs--fuels...............................        180
           5     Expensing of exploration and development costs--nonfuels............................         10
           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..........................     19,640
          10     Accelerated depreciation on rental housing..........................................     16,088
          11     Accelerated depreciation of buildings other than rental.............................     15,980
          12     Accelerated depreciation of machinery and equipment.................................     64,330
          13     Expensing of certain small investments (normal tax method)..........................      1,100
          14     Deferral of tax on shipping companies...............................................         20
          15     Credit for holders of zone academy bonds............................................        210
          16     Credit for low-income housing investments...........................................      3,970
          17     Deferral for state prepaid tuition plans............................................      1,190
          18     Exclusion of pension contributions--employer plans..................................     81,160
          19     Exclusion of 401(k) contributions...................................................    102,640
          20     Exclusion of IRA contributions and earnings.........................................      4,460
          21     Exclusion of contributions and earnings for Keogh plans.............................      3,190
          22     Exclusion of interest on public-purpose bonds.......................................     19,830
          23     Exclusion of interest on non-public purpose bonds...................................      6,700
          24     Deferral of interest on U.S. savings bonds..........................................        410
          25     Exclusion of Roth earnings and distributions........................................      8,170
          26     Exclusion of non-deductible IRA earnings............................................        370
    ----------------------------------------------------------------------------------------------------------------

                      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 a 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 \4\ 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.
    ---------------------------------------------------------------------------
      \4\ 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.

    [[Page 300]]

       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.\5\ 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 of policy instruments means that tax expenditures
    can be flexible and can have very different economic effects.
    ---------------------------------------------------------------------------
      \5\ Although this chapter 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, personal exemptions, deductions, credits
    and phase-outs 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.
      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 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 on 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 in

    [[Page 301]]

    tended 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.,
    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
    benefiting 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 com

    [[Page 302]]

    pared 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 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 benefiting 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 on in this chapter follow. These descriptions relate to current
    law as of December 31, 2005, and do not reflect proposals made elsewhere
    in the Budget. Legislation enacted in 2005, such as the Safe,
    Accountable, Flexible, Efficient Transportation Equity Act: A Legacy For
    Users, The Energy Tax Incentives Act of 2005, The Katrina Emergency Tax
    Relief Act of 2005, and the Gulf Opportunity Zone Act of 2005, expanded
    the scope of existing tax expenditures and introduced several new
    provisions. These include: (1) Exclusion of interest on clean renewable
    energy bonds; (2) Deferral of gain from dispositions of transmission
    property to implement FERC restructuring policy; (3) Credit for
    production from advanced nuclear power facilities; (4) Credit for
    investment in clean coal facilities; (5) Temporary 50 percent expensing
    for equip

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    ment used in the refining of liquid fuels; (6) Pass-through low-sulfur
    diesel expensing to cooperative owners; (7) Natural gas distribution
    pipelines treated as 15-year property; (8) Amortize all geological and
    geophysical expenditures over 2 years; (9) Allowance of deduction for
    certain energy efficient commercial building property; (10) Credit for
    construction of new energy efficient homes; (11) Credit for energy
    efficiency improvements to existing homes; (12) Credit for energy
    efficient appliances; (13) 30 percent credit for residential purchases/
    installations of solar and fuel cells; (14) Credit for business
    installation of qualified fuel cells and stationary microturbine power
    plants; (15) Business solar investment tax credit; (16) Alternative
    motor vehicle credit; (17) Credit for installation of alternative
    fueling stations; (18) Small agri-biodiesel producer credit; (19)
    Alternative fuel and fuel mixture tax credit; (20) Exclusion of interest
    spread of financial institutions; (21) Exclusion of interest on bonds
    for financing of highway projects and rail-truck transfer facilities;
    and (22) expanded and extended scope of a number of existing benefits to
    taxpayers in areas affected by hurricanes Katrina, Rita, and Wilma.

                                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 ($76,193 in 2005).
      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.\6\--The exclusion for
    extraterritorial income was repealed by the American Jobs Creation Act
    of 2004. Under the transition rules, taxpayers retain 80% of ETI
    benefits for 2005, 60% of ETI benefits for 2006, and no ETI benefits
    thereafter. The exclusion for extraterritorial income remains in effect
    for certain transactions which occur pursuant to a binding contract
    entered into on or before September 17, 2003.
    ---------------------------------------------------------------------------
      \6\ 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.

                     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

    [[Page 304]]

    for a taxpayer's payments to universities for basic research. A 20-
    percent ``flat'' credit with no threshold base amount is available for
    energy research expenditures paid to certain research consortia. 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 credit of $3 per oil-
    equivalent barrel of production (in 1979 dollars) is provided for gas
    produced from biomass and liquid, gaseous, or solid synthetic fuels
    produced from coal. The credit is generally available if the price of
    oil stays below $29.50 (in 1979 dollars). The credit applies only to
    fuel (1) produced at a facility placed in service before July 1, 1998,
    and (2) sold before January 1, 2008.
      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. Eligible costs include the cost of constructing a gas
    treatment plant to prepare Alaska natural gas for pipeline
    transportation and any of the following costs with respect to a
    qualified EOR project: (1) the cost of depreciable or amortizable
    tangible property that is an integral part of the project; (2)
    intangible drilling costs (IDCs) that the taxpayer can elect to deduct;
    and (3) deductible tertiary injectant costs. The credit rate is reduced
    in taxable years following calendar years during which the annual
    average unregulated wellhead price per barrel of domestic crude oil
    exceeds an inflation adjusted threshold of $28 (adjusted for inflation).
      17. New technology, refined coal, Indian coal and coke and coke gas
    credits.--A credit is provided equal to 10 percent of the basis of solar
    property (30 percent for purchases beginning in 2006 through 2007) and
    10 percent of the basis of geothermal property placed in service during
    the taxable year. Equipment that uses fiber-optic distributed sunlight
    to illuminate the inside of a structure is solar energy property
    eligible for a 30 percent credit in 2006 and 2007. A credit is also
    available for certain electricity produced from wind energy, biomass,
    poultry waste, geothermal energy, solar energy, small irrigation power,
    municipal solid waste, or qualified hydropower and sold to an unrelated
    party. The credit rate in 2005 is 1.9 cents per kilowatt hour (0.9 cents
    per kilowatt hour for open-loop biomass, small irrigation power,
    municipal solid waste and qualified hydropower) and the rate is indexed
    in subsequent years. To qualify for the credit the electricity must be
    produced at a facility placed in service after a specified date
    (December 31, 1992, in the case of a closed-loop biomass facility,
    December 31, 1993, in the case of a wind energy facility, December 31,
    1999, in the case of a poultry waste facility, August 8, 2005 in the
    case of qualified hydropower and October 22, 2004, in all other cases)
    and before January 1, 2006 for solar facilities and January 1, 2008 for
    all other qualifying facilities with the exception of hydropower
    facilities. To qualify for the credit, qualifying hydropower facilities
    must be placed in service before January 1, 2009. In addition, the
    electricity must be produced during the 10-year period after the
    facility is originally placed in service. A credit is available for
    refined coal produced at facilities placed in service during the period
    from October 22, 2004, through December 31, 2008, and sold during the
    10-year period beginning on the date the facility was placed in service.
    The credit rate in 2005 is $5.481 per ton and the rate is indexed in
    subsequent years. A credit is available for Indian coal. The taxpayer
    may claim a credit for sales of coal to an unrelated third party from a
    quali

    [[Page 305]]

    fied facility for the seven-year period beginning on January 1, 2006,
    and ending after December 31, 2012. The value of the credit is $1.50 per
    ton for the first four years of the seven-year production period and
    $2.00 per ton for the last three years of the seven-year period. The
    credit amounts are indexed for inflation. A credit is available for the
    production of coke or coke gas from a qualified facility. Qualified
    facilities must have been placed in service before January 1, 1993, or
    after June 30, 1998, and before January 1, 2010.
      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 51 cents per gallon through 2010. In lieu of the alcohol
    mixture credit, the taxpayer may claim a refundable excise 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 and
    alternative motor vehicle credits.--A tax credit of 10 percent (not to
    exceed $4,000) is provided for purchasers of electric vehicles. The
    credit is reduced by 75 percent for vehicles placed in service in 2006
    and is not available for vehicles placed in service after December 31,
    2006. Purchasers of other clean-fuel burning vehicles and owners of
    clean-fuel refueling property may deduct part of their expenditures. No
    deduction is available to taxpayers for vehicles placed in service after
    December 31, 2005. The deduction for clean-fuel property is available
    for costs incurred before January 1, 2007. A taxpayer may claim a 30
    percent credit for the cost of installing clean-fuel vehicle refueling
    property for property placed in service after December 31, 2005 and
    before January 1, 2008. The taxpayer may not claim deductions with
    respect to property for which the credit is claimed. A tax credit is
    also available for the purchase of hybrid vehicles, fuel cell vehicles,
    alternative fuel vehicles and advanced lean burn vehicles. The provision
    applies to vehicles placed in service after December 31, 2005, in the
    case of qualified fuel cell motor vehicles, before January 1, 2015; in
    the case of qualified hybrid motor vehicles that are automobiles and
    light trucks and in the case of advanced lean-burn technology vehicles,
    before January 1, 2011; in the case of qualified hybrid motor vehicles
    that are medium and heavy trucks, before January 1, 2010; and in the
    case of qualified alternative fuel motor vehicles, before January 1,
    2011. A tax credit is available for the purchase of hybrid vehicles,
    fuel cell vehicles, alternative fuel vehicles and advanced lean burn
    vehicles. The provision applies to vehicles placed in service after
    December 31, 2005, in the case of qualified fuel cell motor vehicles,
    before January 1, 2015; in the case of qualified hybrid motor vehicles
    that are automobiles and light trucks and in the case of advanced lean-
    burn technology vehicles, before January 1, 2011; in the case of
    qualified hybrid motor vehicles that are medium and heavy trucks, before
    January 1, 2010; and in the case of qualified alternative fuel motor
    vehicles, before January 1, 2011.
      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.
      21. Credit to holders of clean renewable energy bonds.--The Energy Tax
    Incentives Act of 2005 introduced this provision which provides for up
    to $800 million in aggregate issuance of Clean Renewable Energy Bonds
    (CREBs) through December 31, 2007. Taxpayers holding CREBs on a credit
    allowance date are entitled to a tax credit.
      22. Deferral of gain from dispositions of transmission property to
    implement FERC restructuring policy.--Utilities that sell their
    transmission assets to a FERC-approved independent transmission company
    are allowed a longer recognition period for their gains from sale.
    Rather than paying tax on any gain from the sale in the year that the
    sale is completed, utilities will have 8 years to pay the tax on any
    gain from the sale. The rule expires at the end of 2007.
      23. Credit for production from advanced nuclear power facilities.--
    This provision was introduced by the Energy Tax Incentives Act of 2005.
    A taxpayer producing electricity at a qualifying advanced nuclear power
    facility may claim a credit equal to 1.8 cents per kilowatt-hour of
    electricity produced for the eight-year period starting when the
    facility is placed in service, limited no more than $125 million in tax
    credits per 1,000 megawatts of allocated capacity in any one year.
      24. Credit for investment in clean coal facilities.--This provision
    was introduced by the Energy Tax Incentives Act of 2005. Three
    investment tax credits for clean coal facilities are available: a 15
    percent and 20 percent investment tax credit for clean coal facilities
    producing electricity; and a 20 percent credit for industrial
    gasification projects. Integrated gasification combined cycle (IGCC)
    projects get a 20 percent investment tax credit and other advanced coal-
    based projects that produce electricity get a 15 percent credit. The
    Secretary of the Treasury may allocate up to $800 million for IGCC
    projects and up to $500 million for other advanced coal-based
    technologies and up to $350 million for industrial gasification.
      25. Temporary 50 percent expensing for equipment used in the refining
    of liquid fuels.--This provision was introduced by the Energy Tax
    Incentives Act of 2005. Taxpayers may expense 50 percent of the cost of
    refinery investments which increase the capacity of an existing refinery
    by at least 5 percent or increase the throughput of qualified fuels by
    at least 25 percent. Qualified fuels include oil from shale and tar
    sands. Investments must be placed in service before January 1, 2012.
      26. Pass through low sulfur diesel expensing to cooperative owners.--
    This provision was introduced by the Energy Tax Incentives Act of 2005.
    Taxpayers may expense certain costs for investments to comply with EPA
    low sulfur diesel regulations. The deduction

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    may be passed-through to members of a cooperative if the cooperative
    makes an election on their tax return.
      27. Natural gas distribution pipelines treated as 15-year property.--
    This provision was introduced by the Energy Tax Incentives Act of 2005.
    The depreciation period is shortened to 15 years for any gas
    distribution lines the original use of which occurred after April 11,
    2004 and before January 1, 2011. The provision does not apply to any
    property which the taxpayer or a related party had entered into a
    binding contract for the construction thereof or self-constructed on or
    before April 11, 2005.
      28. Amortize all geological and geophysical expenditures over 2
    years.--This provision was introduced by the Energy Tax Incentives Act
    of 2005. Geological and geophysical amounts incurred in connection with
    oil and gas exploration in the United States may be amortized over two
    years. In the case of abandoned property, any remaining basis may no
    longer be recovered in the year of abandonment of a property as all
    basis is recovered over the two-year amortization period.
      29. Allowance of deduction for certain energy efficient commercial
    building property.--This provision was introduced by the Energy Tax
    Incentives Act of 2005. A deduction for energy efficient commercial
    buildings that reduce annual energy and power consumption by 50 percent
    compared to the American Society of Heating, Refrigerating, and Air
    Conditioning Engineers (ASHRAE) standard is allowed. The provision is
    effective for property placed in service after December 31, 2005 and
    prior to January 1, 2008.
      30. Credit for construction of new energy efficient homes.--This
    provision was introduced by the Energy Tax Incentives Act of 2005. A
    credit is available to eligible contractors for construction of a
    qualified new energy-efficient home. The credit applies to homes whose
    construction is substantially completed after December 31, 2005 and
    which are purchased after December 31, 2005 and prior to January 1,
    2008.
      31. Credit for energy efficiency improvements to existing homes.--This
    provision was introduced by the Energy Tax Incentives Act of 2005. A 10
    percent investment tax credit for expenditures with respect to
    improvements to building envelope is available. Credits for purchases of
    advanced main air circulating fans, natural gas, propane, or oil
    furnaces or hot water boilers, and other qualified energy efficient
    property are also available. Credit applies to property placed in
    service after December 31, 2005 and prior to January 1, 2008.
      32. Credit for energy efficient appliances.--This provision was
    introduced by the Energy Tax Incentives Act of 2005. Tax credits for the
    manufacture of efficient dishwashers, clothes washers, and refrigerators
    are available. Credits vary depending on the efficiency of the unit. The
    provision is effective for appliances manufactured in 2006 and 2007.
      33. Credit for residential purchases/installations of solar and fuel
    cells.--This provision was introduced by the Energy Tax Incentives Act
    of 2005. A credit, equal to 30 percent of qualifying expenditures, for
    purchase for qualified photovoltaic property and solar water heating
    property is available. A 30 percent credit for the purchase of qualified
    fuel cell power plants is also allowed and applies to property placed in
    service after December 31, 2005 and prior to January 1, 2008.
      34. Credit for business installation of qualified fuel cells and
    stationary microturbine power plants.--This provision was introduced by
    the Energy Tax Incentives Act of 2005. A 30 percent business energy
    credit for purchase of qualified fuel cell power plants for businesses
    and a 10 percent credit for purchase of qualifying stationary
    microturbine power plants are allowed.
      35. Alternative fuel and fuel mixture tax credit.--This provision was
    introduced in the Safe, Accountable, Flexible, Efficient Transportation
    Equity Act of 2005. A tax credit is available against the excise tax
    imposed on the retail sale or use of alternative fuels or mixture of
    alternative fuel and other taxable fuel. The credit is 50 cents per
    gallon of alternative fuel.

                        Natural Resources and Environment

      36. 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.
      37. 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.
      38. 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.
      39. Capital gains treatment of certain timber.--Certain timber sales
    can be treated as a capital gain rather than ordinary income.
      40. 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.
      41. 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.
      42. 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.

    [[Page 307]]

      43. Exclusion of gain or loss on sale or exchange of certain
    brownfield sites.--In general, an organization that is otherwise exempt
    from federal income tax is taxed on income from any trade or business
    regularly carried on by the organization that is not substantially
    related to the organization's exempt purpose. The AJCA of 2004 created a
    special exclusion from unrelated business taxable income of the gain or
    loss from the sale or exchange of certain qualifying brownfield
    properties. The exclusion applies regardless of whether the property is
    debt-financed. In order to qualify, a minimum amount of remediation
    expenditures must be incurred by the organization.

                                   Agriculture

      44. 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.
      45. 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.
      46. 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.
      47. Capital gains treatment of certain income.--Certain agricultural
    income, such as unharvested crops, can be treated as capital gains
    rather than ordinary income.
      48. 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.
      49. 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.
      50. 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. The Energy Tax Incentives Act of 2005 extends the
    income tax credit, excise tax credit, and payment provisions through
    December 31, 2008 and adds a credit for small agri-biodiesel producers.
    The conference agreement also creates a similar income tax credit,
    excise tax credit and payment system for renewable diesel, however there
    is no credit for small producers of renewable diesel. Renewable diesel
    means diesel fuel derived form biomass using thermal depolymerization
    process.

                              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.
      51. Credit union income.--The earnings of credit unions not
    distributed to members as interest or dividends are exempt from income
    tax.
      52. 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.
      53. 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.
      54. 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

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    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.
      55. 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.
      56. 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.
      57. Exclusion of interest spread of financial institutions.--Consumers
    and non-profit organizations pay for some deposit-linked services, such
    as check cashing, by accepting a below-market interest rate on their
    demand deposits. If they received a market rate of interest on those
    deposits and paid explicit fees for the associated services, they would
    pay taxes on the full market rate and (unlike businesses) could not
    deduct the fees. The government thus foregoes tax on the difference
    between the risk-free market interest rate and below-market interest
    rates on demand deposits, which under competitive conditions should
    equal the value added of deposit services.
      58. 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.
      59. 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.
      60. 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.
      61. 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.
      62. 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.
      63. 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.
      64. 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.
      65. 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.
      66. 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

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    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.
      67. 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.
      68. 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.
      69. 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.
      70. 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.
      71. 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.
      72. 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.
      73. 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 EGTRRA, the gift tax is retained with a lifetime
    exemption of $1 million.
      74. 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.
      75. 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.
      76. 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.

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      77. 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.
      78. 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.
      79. 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.
      80. 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.
      81. 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

      82. 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.
      83. 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 2005, the maximum
    amount of the parking exclusion is $200 (indexed) per month. The tax
    expenditure estimate does not include parking at facilities owned by the
    employer.
      84. 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.
      85. 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.
      86. Exclusion of interest on bonds for Financing of Highway Projects
    and Rail-Truck Transfer Facilities.--This provision provides for $15
    billion of tax-exempt bond authority to finance qualified highway or
    surface freight transfer facilities. It was introduced by the Safe,
    Accountable, Flexible, Efficient Transportation Equity Act: A Legacy For
    Users enacted in 2005. The authority to issue these bonds expires on
    December 31, 2015.

                       Community and Regional Development

      87. 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.
      88. 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.

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      89. 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.
      90. Empowerment zones 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. Empowerment zone and renewal community
    designations expire at the end of 2009. 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.
      The Gulf Opportunity Zone Act of 2005 added several provisions
    targeted to encourage the redevelopment of areas affected by hurricanes
    Katrina, Rita and Wilma, including some provisions that have already
    been listed elsewhere in this table. Gulf Opportunity Zone Act
    provisions not listed elsewhere include additional tax-exempt bond
    financing authority, accelerated depreciation of investment in both
    structures and equipment, partial expensing for certain demolition and
    clean-up costs, increased carryback of certain net operating losses,
    increased authority to allocate low-income housing tax credits and new
    markets tax credits within the affected areas and other provisions.
      91. New markets tax credit.--Taxpayers who make qualified equity
    investments in a community development entity (CDE), which then makes
    qualified investments in low-income communities, are eligible for a tax
    credit received over 7 years. 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 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. Credit
    authority is allocated to CDEs through a competitive application
    process.
      92. Expensing of environmental remediation costs.--Taxpayers who clean
    up certain hazardous substances at a qualified site may expense the
    clean-up 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.
      The Gulf Opportunity Zone Act of 2005 extends this provision through
    December 31, 2007 for sites located in the Gulf Opportunity Zone and
    expands the allowable costs to include petroleum product remediation.
      93. Credit to holders of Gulf Tax Credit Bonds.--Taxpayers that own
    Gulf Tax Credit 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. The maximum amount that can be issued is $200 million
    in the case of Louisiana, $100 million in the case of Mississippi, and
    $50 million in the case of Alabama.

              Education, Training, Employment, and Social Services

      94. 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).
      95. 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 2005, the credit is phased out
    ratably for taxpayers with modified AGI between $87,000 and $107,000
    ($43,000 and $53,000 for singles), indexed.
      96. 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, up to a maximum credit per return is $2,000.
    The credit is phased out ratably for taxpayers with modified AGI between
    $87,000 and $107,000 ($43,000 and $53,000 for singles) (indexed
    beginning in 2002). The credit applies to both undergraduate and
    graduate students.
      97. Deduction for Higher Education Expenses.--The maximum annual
    deduction for qualified higher education expenses is $4,000 in 2005 for
    taxpayers with 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.
      98. 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

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    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 2005
    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).
      99. 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 2005, the maximum deduction is phased down
    ratably for taxpayers with modified AGI between $105,000 and $135,000
    ($50,000 and $65,000 for singles), indexed.
      100. 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.
      101. 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.
      102. 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.
      103. 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.
      104. 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
    $91,850 and $121.850 ($61,200 and $76,200 for singles) in 2005.
      105. Dependent students age 19 or older.--Taxpayers may claim personal
    exemptions for dependent children who are over the age of 18 or under
    the age of 24 and who (1) reside with the taxpayer for over half the
    year (with exceptions for temporary absences from home, such as for
    school attendance), (2) are full-time students, and (3) do not claim a
    personal exemption on their own tax returns.
      106. 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.
      107. 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).
      108. 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).
      109. 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.
      110. 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. The Katrina Emergency Tax Relief Act of 2005
    expanded WOTC eligibility to Hurricane Katrina Employees, defined as
    persons whose principal places of abode on August 28, 2005 were in the
    core disaster area and who beginning on such date and through August 28,
    2007, are hired for a position principally located in the core disaster
    area; and beginning on such date and through December 31, 2005, are
    hired for a position regardless of its location. The usual certification
    process rules are waived for Hurricane Katrina employees.
      111. 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.

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      112. 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 employer's costs for the child care are a deductible
    business expense.
      113. 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.
      114. 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.
      115. Adoption credit and exclusion.--Taxpayers can receive a
    nonrefundable tax credit for qualified adoption expenses. The maximum
    credit is $10,630 per child for 2005, and is phased-out ratably for
    taxpayers with modified AGI between $159,450 and $199,450. 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.
      116. 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.
      117. Child credit.--Taxpayers with children under age 17 can qualify
    for a $1,000 partially 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).
      118. 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.
      119. 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.
      120. 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.
      121. 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.
      122. 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.
      123. Provide an employee retention credit to employers affected by
    hurricane Katrina, Rita, and Wilma.--Businesses located within the Gulf
    Opportunity (GO) Zone on August 28, 2005 are eligible for a 40 percent
    tax credit on the first $6,000 in qualified wages paid to qualified
    employees employed within the GO Zone. Qualified wages are those paid by
    an eligible employer to an eligible employee on any day after August 28,
    2005 and before January 1, 2006 during the period beginning on the date
    on which the trade or business first became inoperable at the principal
    place of employment of the employee by reason of hurricane Katrina and
    ending on the date on which such trade or business resumed significant
    operations at such principal place of employment. Similar rules apply to
    the Rita GO Zone and the Wilma GO Zone with initial effective dates of
    September 23, 2005, and October 23, 2005, respectively.

                                     Health

      124. 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.
      125. 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 deduct

    [[Page 314]]

    ible percentage is 60 percent in 2001, 70 percent in 2002, and 100
    percent in 2003 and thereafter.
      126. 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, 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.
      127. 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.
      128. Hospital construction bonds.--Interest earned on State and local
    government debt issued to finance hospital construction is excluded from
    income subject to tax.
      129. 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.
      130. 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.
      131. 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.
      132. 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

      133. 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.
      134. Workers' compensation benefits.--Workers compensation provides
    payments to disabled workers. These benefits, although income to the
    recipients, are not subject to the income tax.
      135. 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.
      136. 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.
      137. Military disability pensions.--Most of the military pension
    income received by current disabled retired veterans is excluded from
    their income subject to tax.
      138. 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.
      139. 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 $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.
      140. 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 $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 $80,000 ($60,000 for non-joint filers) in
    2005 can claim a deduction for IRA contributions. The IRA deduction is
    phased out for taxpayers with AGI between $70,000 and $80,000 ($50,000
    and $60,000 for non-joint). The phase-out range in

    [[Page 315]]

    creases annually until it reaches $80,000 to $100,000 in 2007. 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.
      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.
      141. 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.
      142. 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 $42,000 in 2005. 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.
      143. 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.
      144. 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.
      145. 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.
      146. 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.
      147. Additional deduction for the blind.--Taxpayers who are blind may
    take an additional $1,200 standard deduction if single, or $1,000 if
    married in 2005.
      148. Additional deduction for the elderly.--Taxpayers who are 65 years
    or older may take an additional $1,200 standard deduction if single, or
    $1,000 if married in 2005.
      149. 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.
      150. 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.
      151. 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 $7,830 of earned income in 2005. The credit is 40
    percent of the first $11,000 of income for a family with two or more
    qualifying children. The credit is phased out beginning when the
    taxpayer's income exceeds $14,370 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 $31,030 ($35,263 if two or more qualifying children are
    present), $33,030 (or $37,263) for those married.
      The credit may also be claimed by workers who do not have children
    living with them. Qualifying workers

    [[Page 316]]

    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 2005, the credit is 7.65 percent of the first $5,220 of earned
    income. When the taxpayer's income exceeds $6,530 (8,530 if married),
    the credit is phased out at the rate of 7.65 percent. It is completely
    phased out at $11,750 ($13,750 for married) of modified adjusted gross
    income.
      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.
      152. Additional exemption for housing Hurricane Katrina displaced
    individuals.--This provision, introduced by the Katrina Emergency Tax
    Relief Act of 2005, provides an additional exemption of $500 for each
    Hurricane Katrina displaced individual for whom the taxpayer is
    providing shelter in his or her home, for a maximum additional exemption
    amount is $2,000.

                                 Social Security

      153. 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.
      154. 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.
      155. 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

      156. Veterans death benefits and disability compensation.--All
    compensation due to death or disability paid by the Veterans
    Administration is excluded from taxable income.
      157. Veterans pension payments.--Pension payments made by the Veterans
    Administration are excluded from gross income.
      158. G.I. Bill benefits.--G.I. Bill benefits paid by the Veterans
    Administration are excluded from gross income.
      159. 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

      160. 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.
      161. 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.
      162. 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

      163. 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).

    [[Page 317]]

      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.

        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.\7\ 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.
    ---------------------------------------------------------------------------
      \7\ 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 would be improved by deviating from
    comprehensive income as a tax base, e.g., by reducing the tax on capital
    income in order to spur economic growth further or by subsidizing
    certain types of activities 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 fourteen 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

    [[Page 318]]

    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). A similar line of reasoning could be used to
    argue that in the case of corporations, expensing \8\ of R&E or
    accelerated depreciation are not a tax expenditures because they serve
    to offset the corporate tax penalty.
    ---------------------------------------------------------------------------
      \8\ 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.
    ---------------------------------------------------------------------------
      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).\9\ 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.
    ---------------------------------------------------------------------------
      \9\ 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.
    ---------------------------------------------------------------------------
      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 minus(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\ The difficulty is that this presumes that
    one's consumption of State and local services relates directly to the
    amount of State and local taxes paid. Such a presumption is difficult to
    sustain when taxes are levied inconsistently across taxpayers.
    ---------------------------------------------------------------------------
      \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 (roughly measured) 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

    [[Page 319]]

    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 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. 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-earning 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 chari

    [[Page 320]]

    table 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 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 to the extent the recipient has net taxable
    income.\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 do not represent
    discretionary spending, and so are not really consumption. Instead,
    these expenditures are a reduction of net worth and should be excluded
    from the tax base. In contrast, others argue that there is no way to
    distinguish logically 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.
    From either perspective, 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, an
    equivalent treatment would allow the taxpayer to include the premium
    (i.e., tax) and exclude the benefit. The deviation between either of
    these treatments 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 one-half of the
    premium might suggest that one-half 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.
      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.\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.

    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 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 ex

    [[Page 321]]

    penditures, 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 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 net operating loss (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 measure income properly, 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 in

    [[Page 322]]

    clude 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 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 normal 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.
      In addition, provisions can interact even once an appropriate
    treatment is determined. For example, suppose that it is determined that
    financial flows should be excluded from 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 mortgage interest 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, as with an income tax, trying to
    compute the current tax's deviations from ``the'' base of a consumption
    tax is very difficult because deviations cannot be uniquely determined,
    making it problematic to do a consistent 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 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. One 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.
      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.
      The deductibility of home mortgage interest is a strong candidate for
    inclusion as a tax expenditure. A consumption tax would seek to tax the
    entire value of the flow of services from housing, and so would not
    allow a deduction for home mortgage interest. This would be the case
    regardless of whether the tax base included the annual flow of housing
    services, or instead

    [[Page 323]]

    used a tax-prepayment or yield exemption approach (discussed more
    completely below) to taxing housing services. A deduction for interest
    would be allowed under a consumption tax applied to both real and
    financial cash flows, but current law does not require the homeowner to
    take into income the proceeds of a home loan, nor does it allow him a
    deduction for principle repayments.
      Nonetheless, an ambiguity about the treatment if home mortgage
    interest arises as a result of current law's taxation of interest
    income. Under a consumption tax, interest income generally would not be
    taxed (at least in present value terms). In a sense, the homeowner's
    mortgage interest deduction could be viewed as counterbalancing the
    lender's inclusion, eliminating interest flows from the tax base, as
    would be appropriate under many types of consumption taxes.\27\
    ---------------------------------------------------------------------------
      \27\ 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..
    ---------------------------------------------------------------------------
      The deductibility of property taxes on owner-occupied housing also is
    a strong candidate for inclusion as a tax expenditure under a
    consumption tax baseline, although there is a bit of ambiguity. Property
    taxes would be deducted under a consumption tax under which the base
    allowed expensing of the cost of the house and included the rental value
    of the house in the annual tax base. But, as discussed above in the
    income tax section, this deduction nonetheless is a strong candidate for
    inclusion as a tax expenditure because the current tax system does not
    impute the consumption value of housing services to the homeowner's tax
    base.
      Under a consumption tax that applied the yield exemption or tax
    prepayment approach to housing, property taxes would not be deducted by
    the homeowner because the cash flows (positive and negative) related to
    the investment are simply ignored for tax purposes--they are outside the
    tax base. Their deduction under current law would represent a clear case
    of a tax expenditure. As discussed below, current law's taxation of
    housing approximates a yield exemption approach; no deduction of the
    purchase price of the house, no tax on the house's service flow.
    Consequently, the deduction for property taxes probably should be a tax
    expenditure relative to a consumption base--there is not even the
    slightest ambiguity here.
      With respect to the household sector's deduction of state and local
    income taxes, some ambiguity arises because these taxes, when considered
    separately from the value of any consumption type government services
    they might fund, should be excluded from the base of a consumption tax
    because they represent a reduction in net worth. Under a consumed income
    tax collected from the household, they would need to be deducted to
    properly measure consumption.
      But state and local income taxes are used to fund government services,
    many of which would be included in the base of a consumption tax if paid
    for privately. The value of these services probably should be included
    in the base of a broad consumption tax. The value of such services is
    generally not imputed to the household under current tax law. One rough
    proxy for their value is the tax payments made to support them.\28\
    Stated another way, the payment of state and local income taxes might
    not represent a reduction in net worth (or a real net cost to the
    household) to the extent that the payment is accompanied by the
    provision of services of equal value.
    ---------------------------------------------------------------------------
      \28\ The failure to impute the value of government provided services
    casts doubt on the appropriateness of deducting property taxes on owner-
    occupied housing even under a consumption tax that allowed the homeowner
    to deduct the cost of the house from his taxable consumption and imputed
    to his tax base the house's annual consumption flow. .
    ---------------------------------------------------------------------------
      The analysis of state and local sales taxes on consumption items would
    seem to parallel that of income taxes. When these taxes are considered
    in isolation from government services they might fund, they should be
    excluded from the base of a federal consumption tax. But to the extent
    sales taxes represent a user charges for government provided consumption
    goods, their deduction might be inappropriate because current federal
    tax law fails to impute to income the value of the state and local
    services funded by sales tax payments.
      Property taxes on assets other than housing would seem to be best
    thought of using the model discussed above for housing. These taxes
    typically are paid on assets, such as automobiles and boats, that yield
    a stream of services that current federal tax law fails to impute to
    income.
      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

    [[Page 324]]

    would correspond to including 50 percent of Social Security benefits in
    the recipient's tax base. Thus, the existing tax expenditure is correct
    conceptually, but is not measured properly relative to a comprehensive
    income tax. 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 panel 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 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.
      Current law does not tax the annual rental value of owner-occupied
    housing. In contrast, the annual rental value of the housing would be
    taxed under a consumption tax. Hence, from one perspective, the
    exclusion of the net annual rental value of owner-occupied housing would
    be a tax expenditure relative to a consumption tax baseline.
      However, a consumption tax that included in its base the annual rental
    value of housing also would allow the homeowner a deduction for the
    price of the house in the year it was purchased; the investment in
    housing would be expensed. Current law fails to allow such a deduction,
    raising doubt about classifying as a tax expenditure the exclusion of
    net rental income from owner-occupied housing. Indeed, it is possible to
    interpret current law as applying the tax pre-payment or yield exemption
    method to housing, in which the purchase price of an investment, rather
    than the annual cash flow generated by the investment, is taxed. In the
    textbook case, the tax pre-payment approach is equivalent in expected
    present value terms to taxing directly the annual consumption value of
    the house. So it is not clear whether the failure to tax the rental
    income from housing represents a tax expenditure.
      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.

    [[Page 325]]

    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
    possibly include 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 gross 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
    corporate income tax, or more generally a measure of the double tax on
    corporate profits, also would be a negative tax expenditure.
    Depreciation allowances, even 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.\29\ 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.\30\
    The estimates are shown in tables in the body of the main text, e.g.,
    Table 19-1.
    ---------------------------------------------------------------------------
      \29\ 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.
      \30\ 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.

    ---------------------------------------------------------------------------
    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 com

    [[Page 326]]

    prehensive 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 deduction
    for property taxes and for home mortgage interest.\31\
    ---------------------------------------------------------------------------
      \31\ 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 tax expenditures 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 beginning in the 2006 budget,
    which now includes an item for the exclusion of net rental income of
    homeowners.\32\
    ---------------------------------------------------------------------------
      \32\ 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., Tables 19-1 and 19-2, 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.\33\
    ---------------------------------------------------------------------------
      \33\ 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 $34
    billion in the years 2007 through in 2011. 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 327]]

                         Appendix Table 1.  COMPARISON OF CURRENT TAX EXPENDITURES WITH THOSE IMPLIED BY A COMPREHENSIVE INCOME TAX \1\
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                              Revenue Effect
                                                                 Description                                                                       2007
    --------------------------------------------------------------------------------------------------------------------------------------------------------

    A. Tax Expenditure Under a Comprehensive Income Tax

      Net exclusion of pension contributions and earnings: Employer plans..................................................................      52,470
      Accelerated depreciation of machinery and equipment (normal tax method)..............................................................      52,230
      Net exclusion of pension contributions and earnings: 401(k) plans....................................................................      39,800
      Capital gains exclusion on home sales................................................................................................      43,900
      Exclusion of net imputed rental income on owner-occupied housing.....................................................................      33,210
      Capital gains (except agriculture, timber, iron ore, and coal).......................................................................      26,760
      Exclusion of interest on public purpose State and local bonds........................................................................      29,640
      Exclusion of interest on life insurance savings......................................................................................      20,770
      Net exclusion of pension contributions and earnings: Keogh plans.....................................................................      10,670
      Expensing of research and experimentation expenditures (normal tax method)...........................................................       6,990
      Deferral of income from controlled foreign corporations (normal tax method)..........................................................      11,940
      Net exclusion of pension contributions and earnings: Individual Retirement Accounts..................................................       5,970
      Exclusion of workers' compensation benefits..........................................................................................       6,180
      Credit for low-income housing investments............................................................................................       4,250

    B. Possibly a Tax Expenditure Under a Comprehensive Income Tax, But With Some Qualifications

      Deductibility of mortgage interest on owner-occupied homes...........................................................................      79,860
      Child credit.........................................................................................................................      42,120
      Step-up basis of capital gains at death..............................................................................................      32,460
      Deductibility of nonbusiness state and local taxes other than on owner-occupied homes................................................      27,210
      Exclusion of Social Security benefits for retired workers............................................................................      19,590
      Deductibility of State and local property tax on owner-occupied homes................................................................      12,810
      Deduction for U.S. production activities.............................................................................................      10,670
      Earned income tax credit.............................................................................................................       5,150
      Exclusion of Social security benefits of dependents and survivors....................................................................       4,040

    C. Uncertain

      Exclusion of employer contributions for medical insurance premiums and medical care..................................................     146,780
      Deductibility of charitable contributions, other than education and health...........................................................      34,500
      Deductibility of medical expenses....................................................................................................       5,310
      Deductibility of self-employed medical insurance premiums............................................................................       4,630
      Social security benefits for the disabled............................................................................................       4,110
      Deductibility of charitable contributions, education.................................................................................       4,030

    D. Probably Not a Tax Expenditure Under a Comprehensive Income Tax

      Exception from passive loss rules for $25,000 of rental loss.........................................................................       6,230
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \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 328]]

                       Appendix Table 2.  COMPARISON OF CURRENT TAX EXPENDITURES WITH THOSE IMPLIED BY A COMPREHENSIVE CONSUMPTION TAX \1\
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                              Revenue Effect
                                                                 Description                                                                       2007
    --------------------------------------------------------------------------------------------------------------------------------------------------------

    A. Tax Expenditure Under a Consumption Base

      Exclusion of workers' compensation benefits..........................................................................................       6,180

    B. Probably a Tax Expenditure Under a Consumption Base

      Deductibility of mortgage interest on owner-occupied homes...........................................................................      79,860
      Child credit.........................................................................................................................      42,120
      Deductibility of nonbusiness state and local taxes other than on owner-occupied homes................................................      27,210
      Exclusion of Social Security benefits for retired workers............................................................................      19,590
      Deductibility of State and local property tax on owner-occupied homes................................................................      12,810
      Earned income tax credit.............................................................................................................       5,150
      Exclusion of Social Security benefits of dependents and survivors....................................................................       4,040

    C. Uncertain

      Exclusion of employer contributions for medical insurance premiums and medical care..................................................     146,780
      Deductibility of charitable contributions, other than education and health...........................................................      34,500
      Exclusion of net imputed rental income on owner-occupied housing.....................................................................      33,210
      Deductibility of medical expenses....................................................................................................       5,310
      Deductibility of self-employed medical insurance premiums............................................................................       4,630
      Credit for low-income housing investments............................................................................................       4,250
      Social Security benefits for disabled................................................................................................       4,110
      Deductibility of charitable contributions, education.................................................................................       3,440

    D. Not a Tax Expenditure Under a Consumption Base

      Net exclusion of pension contributions and earnings: Employer plans..................................................................      52,470
      Accelerated depreciation of machinery and equipment (normal tax method)..............................................................      52,230
      Capital gains exclusion on home sales................................................................................................      43,900
      Net exclusion of pension contributions and earnings: 401(k) plans....................................................................      39,800
      Step-up basis of capital gains at death..............................................................................................      32,460
      Exclusion of interest on public purpose State and local bonds........................................................................      29,640
      Capital gains (except agriculture, timber, iron ore, and coal).......................................................................      26,760
      Exclusion of interest on life insurance savings......................................................................................      20,770
      Deferral of income from controlled foreign corporations (normal tax method)..........................................................      11,940
      Net exclusion of pension contributions and earnings: Keogh plans.....................................................................      10,670
      Deduction for U.S. production activities.............................................................................................      10,670
      Expensing of research and experimentation expenditures (normal tax method)...........................................................       6,990
      Exception from passive loss rules for $25,000 of rental loss.........................................................................       6,230
      Net exclusion of pension contributions and earnings: Individual Retirement Accounts..................................................       5,970
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    \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                   ---------------------------------------------------------------------
                                                  2005      2006      2007      2008      2009      2010      2011
    ----------------------------------------------------------------------------------------------------------------
    Imputed Rent On Owner-Occupied Housing....    28,600    29,720    33,210    36,860    40,630    44,785    49,364
    Double Tax on corporate profit \2\........   -33,940   -33,320   -34,660   -35,900   -37,040   -38,216   -39,430
    ----------------------------------------------------------------------------------------------------------------
    \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.