[House Hearing, 106 Congress]
[From the U.S. Government Publishing Office]



 
                        REDUCING THE TAX BURDEN

=======================================================================

                                HEARING

                               before the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED SIXTH CONGRESS

                             FIRST SESSION

                               __________

                          JUNE 16 AND 23, 1999

                               __________

                             Serial 106-24

                               __________

         Printed for the use of the Committee on Ways and Means



                    U.S. GOVERNMENT PRINTING OFFICE
60-332 CC                   WASHINGTON : 2000



                      COMMITTEE ON WAYS AND MEANS

                      BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois            CHARLES B. RANGEL, New York
BILL THOMAS, California              FORTNEY PETE STARK, California
E. CLAY SHAW, Jr., Florida           ROBERT T. MATSUI, California
NANCY L. JOHNSON, Connecticut        WILLIAM J. COYNE, Pennsylvania
AMO HOUGHTON, New York               SANDER M. LEVIN, Michigan
WALLY HERGER, California             BENJAMIN L. CARDIN, Maryland
JIM McCRERY, Louisiana               JIM McDERMOTT, Washington
DAVE CAMP, Michigan                  GERALD D. KLECZKA, Wisconsin
JIM RAMSTAD, Minnesota               JOHN LEWIS, Georgia
JIM NUSSLE, Iowa                     RICHARD E. NEAL, Massachusetts
SAM JOHNSON, Texas                   MICHAEL R. McNULTY, New York
JENNIFER DUNN, Washington            WILLIAM J. JEFFERSON, Louisiana
MAC COLLINS, Georgia                 JOHN S. TANNER, Tennessee
ROB PORTMAN, Ohio                    XAVIER BECERRA, California
PHILIP S. ENGLISH, Pennsylvania      KAREN L. THURMAN, Florida
WES WATKINS, Oklahoma                LLOYD DOGGETT, Texas
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri
SCOTT McINNIS, Colorado
RON LEWIS, Kentucky
MARK FOLEY, Florida

                     A.L. Singleton, Chief of Staff

                  Janice Mays, Minority Chief Counsel


Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public 
hearing records of the Committee on Ways and Means are also published 
in electronic form. The printed hearing record remains the official 
version. Because electronic submissions are used to prepare both 
printed and electronic versions of the hearing record, the process of 
converting between various electronic formats may introduce 
unintentional errors or omissions. Such occurrences are inherent in the 
current publication process and should diminish as the process is 
further refined.


                            C O N T E N T S

                               __________

                                                                   Page

                ENHANCING RETIREMENT AND HEALTH SECURITY

                             JUNE 16, 1999

Advisory of June 2, 1999, announcing the hearing.................     2

                               WITNESSES

American Council of Life Insurance, Jeanne Hoenicke..............
00
American Farm Bureau Federation, Carl B. Loop, Jr................   182
American Hospital Association, Dan Wilford.......................    91
American Society of Pension Actuaries, Paula A. Calimafde........   126
Association of Private Pension and Welfare Plans, Jack Stewart...   117
Blue Cross and Blue Shield Association, Mary Nell Lehnhard.......    83
Business Council of New York State, Inc., Paul S. Speranza, Jr...   195
Butler, Stuart, Heritage Foundation..............................    65
Calimafde, Paula A., American Society of Pension Actuaries, 
  Profit Sharing/401(k) Council of America, Small Business 
  Council of America, and Small Business Legislative Council.....   126
Cardin, Hon. Benjamin L., a Representative in Congress from the 
  State of Maryland..............................................    40
Coyne, Michael, National Federation of Independent Business and 
  Tuckerton Lumber Company.......................................   192
Erisa Industry Committee, J. Randall MacDonald...................   139
Florida Farm Bureau Federation, Carl B. Loop, Jr.................   182
Food Marketing Institute, Paul S. Speranza, Jr...................   195
Goodman, John C., National Center for Policy Analysis............    59
Greater Rochester New York Metro Chamber of Commerce, Paul S. 
  Speranza, Jr...................................................   195
GTE Corp., J. Randall MacDonald..................................   139
Health Insurance Association of America, Charles N. Kahn III.....    72
Hill Slater, Inc., Phyllis Hill Slater...........................   176
Hoenicke, Jeanne, American Council of Life Insurance.............    96
Jefferson, Hon. William J., a Representative in Congress from the 
  State of Louisiana.............................................    43
Johnson, Hon. Nancy L., a Representative in Congress from the 
  State of Connecticut...........................................    20
Kahn, Charles N., III, Health Insurance Association of America...    72
Lehnhard, Mary Nell, Blue Cross and Blue Shield Association......    83
Loop, Carl B., Jr., American Farm Bureau Federation, Florida Farm 
  Bureau Federation, and Loop's Nursery and Greenhouses, Inc.....   182
McCarthy, Jim, Merrill Lynch & Co., Inc., and Savings Coalition 
  of America.....................................................   152
MacDonald, J. Randall, GTE Corp., and Erisa Industry Committee...   139
Market Basket Food Stores, Skylar Thompson.......................   187
Memorial Hermann Healthcare System, Dan Wilford..................    91
Merrill Lynch & Co., Inc., Jim McCarthy..........................   152
National Association of Manufacturers, Ronald P. Sandmeyer, Jr...   178
National Association of Women Business Owners, Phyllis Hill 
  Slater.........................................................   176
National Center for Policy Analysis, John C. Goodman.............    59
National Federation of Independent Business, Michael Coyne.......   192
National Grocers Association, Skylar Thompson....................   187
Pomeroy, Hon. Earl, a Representative in Congress from the State 
  of North Dakota................................................    46
Portman, Hon. Rob, a Representative in Congress from the State of 
  Ohio...........................................................    30
Principal Financial Group, Jack Stewart..........................   117
Profit Sharing/401(k) Council of America, Paula A. Calimafde.....   126
Sandmeyer, Ronald P., Jr., National Association of Manufacturers 
  and Sandmeyer Steel Company....................................   178
Savings Coalition of America, Jim McCarthy.......................   152
Slater, Phyllis Hill, Hill Slater, Inc. and National Association 
  of Women Business Owners.......................................   176
Small Business Council of America, Paula A. Calimafde............   126
Small Business Legislative Council, Paula A. Calimafde...........   126
Speranza, Paul S., Jr., Business Council of New York State, Inc., 
  Food Marketing Institute, Greater Rochester New York Metro 
  Chamber of Commerce, and U.S. Chamber of Commerce..............   195
Stark, Hon. Fortney Pete, a Representative in Congress from the 
  State of California............................................    25
Stewart, Jack, Association of Private Pension and Welfare Plans 
  and Principal Financial Group..................................   117
Thompson, Skylar, Market Basket Food Stores and National Grocers 
  Association....................................................   187
Tuckerton Lumber Company, Michael Coyne..........................   192
U.S. Chamber of Commerce, Paul S. Speranza, Jr...................   195
Wilford, Dan, American Hospital Association and Memorial Hermann 
  Healthcare System..............................................    91

                       SUBMISSIONS FOR THE RECORD

Aetna Retirement Services, Hartford, CT, Thomas McInerney, 
  statement......................................................   210
America's Community Bankers, statement and attachment............   212
American Bankers Association, statement..........................   226
American Federation of State, County and Municipal Employees, Ed 
  Jayne; College and University Personnel Association, Ned Gans; 
  Fraternal Order of Police, Tim Richardson; Government Finance 
  Officers Association, Tom Owens; International Association of 
  Fire Fighters, Barry Kasinitz; International Brotherhood of 
  Police Organizations, Chris Donnellan; International City/
  County Management Association, Michael Lawson; International 
  Personnel Management Association, Tina Ott; International Union 
  of Police Associations, Kimberly Nolf; National Association of 
  Government Deferred Compensation Administrator, Susan White; 
  National Association of Government Employees, Chris Donnellan; 
  National Association of Counties, Neil Bomberg; National 
  Association of Police Organizations, Bob Scully; National 
  Association of State Retirement Administrators, Jeannine Markoe 
  Raymond; National Association of Towns and Townships, Jennifer 
  Balsam; National Conference on Public Employee Retirement 
  Systems, Ed Braman; National Conference of State Legislatures, 
  Gerri Madrid; National Council on Teacher Retirement, Cindie 
  Moore; National Education Association, David Bryant; National 
  League of Cities, Frank Shafroth; National Public Employer 
  Labor Relations Association, Roger Dahl; Service Employees 
  International Union, Clint Highfill; and United States 
  Conference of Mayors, Larry Jones; joint letter................   229
AMR Corporation, Ft. Worth, TX, statement........................   230
Associated General Contractors of America, statement.............   233
Certified Financial Planner Board of Standards, Denver, CO, 
  statement......................................................   235
Committee To Preserve Private Employee Ownership, statement......   236
ESOP Association, J. Michael Keeling, statement..................   240
ESOP Coalition, Somerset, NJ, statement..........................   242
Financial Planning Coalition, statement and attachments..........   243
Food Marketing Institute, statement..............................   248
Investment Company Institute, statement..........................   250
National Association of Manufacturers, statement.................   255
National Association of Professional Employer Organizations, 
  Alexandria, VA, statement and attachment.......................   256
National Newspaper Association, Arlington, VA, Kenneth B. Allen, 
  statement and attachments......................................   262
Private Citizen, St. Louis, MO, statement........................   264
Thomas, Hon. William M., a Representative in Congress from the 
  State of California, statement.................................   268
                               __________

  PROVIDING TAX RELIEF TO STRENGTHEN THE FAMILY AND SUSTAIN A STRONG 
                                ECONOMY

                             JUNE 23, 1999

Advisory of June 9, 1999, announcing the hearing.................   272

                               WITNESSES

Alliance to Save Energy, David Nemtzow...........................   439
American Bankers Association, Larry McCants......................   390
American Council for Capital Formation, Mark Bloomfield..........   377
American Forest and Paper Association, Hon. W. Henson Moore......   427
Andrews, Hon. Michael A., National Trust for Historic 
  Preservation...................................................   431
Associated Builders and Contractors, Inc., Eric P. Wallace.......   448
Baird, Hon. Brian, a Representative in Congress from the State of 
  Washington.....................................................   312
Baratta, Jeffrey A., Stone & Youngberg, LCC and California-
  Federal School Infrastructure Coalition........................   349
Baroody, Michael E., National Association of Manufacturers.......   366
Bennett, Hon. Marshall, Mississippi State Treasurer, Mississippi 
  Prepaid Affordable College Tuition Plan, and College Savings 
  Plans Network..................................................   331
Bloomfield, Mark, American Council for Capital Formation.........   377
Building Owners and Managers Association International, Arthur 
  Greenberg......................................................   395
California-Federal School Infrastructure Coalition, Jeffrey A. 
  Baratta........................................................   349
Capps, R. Randall, Electronic Data Systems Corporation and R&D 
  Credit Coalition...............................................   372
Clement, Hon. Bob, a Representative in Congress from the State of 
  Tennessee......................................................   315
Coalition for Employment Security Financing Reform, Hon. Robert 
  ``Bob'' A. Taft, Governor of Ohio..............................   276
Coalition for Energy Efficient Homes, David Nemtzow..............   439
Coalition of Publicly Traded Partnerships, Charles H. Leonard....   403
College Savings Plans Network, Hon. Marshall Bennett.............   331
Crowley, Hon. Joseph, a Representative in Congress from the State 
  of New York....................................................   316
Danner, Hon. Pat, a Representative in Congress from the State of 
  Missouri.......................................................   297
Detwiler Foundation Computers and Schools Program, Jerry Grayson.   343
Eagle-Picher Personal Injury Settlement Trust:
    Ruth R. McMullin.............................................   454
    Roosevelt Henderson..........................................   456
Electronic Data Systems Corporation, R. Randall Capps............   372
Equity Group Investments, Arthur Greenberg.......................   395
First National Bank, Larry McCants...............................   390
Gillespie, Christina, M.D., Tufts University School of Medicine, 
  and National Health Service Corps Scholarship..................   346
Graham, Hon. Lindsey O., a Representative in Congress from the 
  State of South Carolina........................................   301
Grayson, Jerry, Detwiler Foundation Computers for Schools Program   343
Greenberg, Arthur, Equity Group Investments, National Realty 
  Committee, National Association of Real Estate Investment 
  Trusts, National Association of Realtors, National Association 
  of Industrial and Office Properties, International Council of 
  Shopping Centers, National Multi-Housing Council/National 
  Apartment Association, and Building Owners and Managers 
  Association International......................................   395
Henderson, Roosevelt, Eagle-Picher Personal Injury Settlement 
  Trust..........................................................   456
Hulshof, Hon. Kenny, a Representative in Congress from the State 
  of Missouri....................................................   299
International Council of Shopping Centers, Arthur Greenberg......   395
Kepple, Thomas, Jr., Juniata College and Tuition Plan Consortium.   339
Leonard, Charles H., Texas Eastern Products Pipeline Company and 
  Coalition of Publicly Traded Partnerships......................   403
McCants, Larry, First National Bank, and American Bankers 
  Association....................................................   390
McIntosh, Hon. David, M. a Representative in Congress from the 
  State of Indiana...............................................   309
McMullin, Ruth, R. Eagle-Picher Personal Injury Settlement Trust.   454
Mississippi Prepaid Affordable College Tuition Plan, Hon. 
  Marshall Bennett...............................................   331
Moore, Hon. W. Henson, American Forest and Paper Association.....   427
National Alliance of Sales Representatives Associations, Michael 
  A. Wolyn.......................................................   425
National Association of Industrial and Office Properties, Arthur 
  Greenberg......................................................   395
National Association of Manufacturers, Michael E. Baroody........   366
National Association of Real Estate Investment Trusts, Arthur 
  Greenberg......................................................   395
National Association of Realtors, Arthur Greenberg...............   395
National Multi-Housing Council/National Apartment Association, 
  Arthur Greenberg...............................................   395
National Realty Committee, Arthur Greenberg......................   396
National Trust for Historic Preservation, Hon. Michael A. Andrews   431
Nemtzow, David, Alliance to Save Energy..........................   439
New York City Board of Education:................................
    Lewis H. Spence..............................................   354
    Patricia Zedalis.............................................   354
Rangel, Hon. Charles B., a Representative in Congress from the 
  State of New York..............................................   289
R&D Credit Coalition, R. Randall Capps...........................   372
Spence, Lewis H., New York Board of Education, as presented by 
  Patricia Zedalis...............................................   354
Stone & Youngberg, LLC, Jeffrey A. Baratta.......................   352
Taft, Hon. Robert ``Bob'' A., Governor of Ohio and Coalition for 
  Employment Security Financing Reform...........................   276
Texas Eastern Products Pipeline Company, Charles H. Leonard......   403
Tuition Plan Consortium, Thomas Kepple, Jr.......................   339
Turner, Hon. Jim, a Representative in Congress from the State of 
  Texas..........................................................   303
Wallace, Eric P., Associated Builders and Contractors, Inc.......   448
Wolyn, Michael A., National Alliance of Sales Representatives 
  Association....................................................   435
Weller, Hon. Jerry, a Representative in Congress from the State 
  of Illinois....................................................   293
Zedalis, Patricia, New York City Board of Education..............   354

                       SUBMISSIONS FOR THE RECORD

America's Community Bankers, statement...........................   462
American Association of Colleges of Osteopathic Medicine, Chevy 
  Chase, MD, and Association of American Medical Colleges, joint 
  statement......................................................    00
American Association of Engineering Societies, Theodore T. Saito, 
  letter and attachments.........................................
.................................................................
American Wind Energy Association, Jaime C. Steve, statement......    00
AMT Coalition for Economic Growth, statement.....................    00
Arnold, Kristine S., National Rural Health Association, and 
  University of Health Sciences, College of Osteopathic Medicine, 
  Kansas City, MO, joint statement...............................    00
Ashe, Hon. Victor, Mayor, City of Knoxville, Tennessee, statement    00
Association of American Medical Colleges, joint statement........    00
Blue, Hon. Daniel T., Jr., National Conference of State 
  Legislatures, letter...........................................    00
California Community Colleges, Sacramento, CA, Thomas J. 
  Nussbaum, letter (forwarded by Hon. Robert T. Matsui, a 
  Representative in Congress from the State of California).......    00
Columbia, City of, South Carolina, Hon. Robert Coble, Mayor, and 
  Hon. Stephen Creech, Mayor, City of Sumter, South Carolina, 
  joint statement................................................    00
Construction Financial Management Association, Princeton, NJ, 
  statement......................................................    00
Coverdell, Hon. Paul D., a United States Senator from the State 
  of Georgia, statement..........................................    00
Creech, Hon. Stephen, Mayor, City of Sumter, South Carolina, 
  joint statement................................................    00
CSW Renewable Energy, Central & South West Corporation, Dallas, 
  TX, Richard P. Walker, statement...............................    00
Enron Wind Corp., Tehachapi, CA, Kenneth C. Karas, statement.....    00
Fraim, Hon. Paul D., Mayor, City of Norfolk, Virginia, statement 
  and attachment.................................................    00
Gallegly, Hon. Elton, a Representative in Congress from the State 
  of California, statement.......................................    00
Gary, City of, Indiana, Hon. Scott L. King, Mayor, statement.....    00
Goldstein, David, Natural Resources Defense Council, San 
  Francisco, CA, statement.......................................    00
Higher Education Community: Accrediting Association of Bible 
  Colleges, American Association of Community Colleges, American 
  Association of Dental Schools, American Association of 
  Presidents of Independent Colleges, American Association of 
  State Colleges and Universities, American Council on Education, 
  Association of Advanced Rabbinical and Talmudic Schools, 
  Association of American Universities, Association of Community 
  College Trustees, Association of Governing Boards of 
  Universities and Colleges, Association of Jesuit Colleges and 
  Universities, Coalition of Higher Education Assistance 
  Organizations, Council for Advancement and Support of 
  Education, Council for Christian Colleges & Universities, 
  Council of Graduate Schools, Council of Independent Colleges, 
  National Association for Equal Opportunity in Higher Education, 
  National Association of College and University Business 
  Officers, National Association of Independent Colleges and 
  Universities, National Association of Schools and Colleges of 
  the United Methodist Church, National Association of Student 
  Financial Aid Administrators, North American Division of 
  Seventh-Day Adventists, and Mennonite Board of Education, joint 
  statement......................................................
IRA Charitable Rollover Working Group, Evanston, IL: American 
  Arts Alliance, American Association of Museums, American Bar 
  Association, American Council on Education, American Heart 
  Association, American Hospital Association, American Institute 
  for Cancer Research, American Red Cross, Association for 
  Healthcare Philanthropy, Association of American Universities, 
  Association of Art Museum Directors, Association of Jesuit 
  Colleges and Universities, Baptist Joint Committee, CARE, Inc., 
  Catholic Health Association, Charitable Accord, Council for the 
  Advancement and Support of Education, Council on Foundations, 
  Council of Jewish Federations, Goodwill Industries 
  International, Independent Sector, National Association of 
  Independent Colleges and Universities, National Association of 
  Independent Schools, National Committee on Planned Giving, 
  National Health Council, National Multiple Sclerosis Society, 
  National Society of Fund Raising Executives, Salvation Army, 
  and United Way of America, joint statement and attachments.....    00
Jerardi, Maria J., Washington, DC, statement.....................    00
Karas, Kenneth C., Enron Wind Corp., Tehachapi, CA, statement....    00
King, Hon. Scott L., Mayor, City of Gary, Indiana, statement.....    00
Knoxville, City of, Tennessee, Hon. Victor Ashe, Mayor, statement    00
Mannweiler, Hon. Paul S., National Conference of State 
  Legislatures, letter...........................................    00
Matsui, Hon. Robert T., a Representative in Congress from the 
  State of California, letter and attachment (forwarding letter 
  of California Community Colleges, Sacramento, CA)..............    00
National Association of Home Builders, statement.................    00
National Association of Real Estate Investment Trusts, Steven A. 
  Wechsler, statement............................................    00
National Coalition for Public Education: American Association of 
    Educational Service Agencies, American Association of School 
    Administrators, American Association of University Women, 
    American Civil Liberties Union, American Federation of State, 
    County and Municipal Employees, American Federation of 
    Teachers, American Humanist Association, American Jewish 
    Committee, American Jewish Congress, Americans for Religious 
    Liberty, Americans United for Separation of Church and State, 
    Council of Chief State School Officers, Council of the Great 
    City Schools, Mexican American Legal Defense and Education 
    Fund, National Association of Elementary School Principals, 
    National Association of School Psychologists, National 
    Association of State Boards of Education, National 
    Association of State Directors of Special Education, National 
    Education Association, National PTA, National Rural Education 
    Association, National School Boards Association, New York 
    City Board of Education, People for the American Way, Service 
    Employees International Union AFL-CIO, Union of American 
    Hebrew Congregations, Unitarian Universalist Association, 
    United Auto Workers International Union, and Women of Reform 
    Judaism, joint letter                                            00
National Coalition for Public Education, and Rebuild America's 
  Schools Coalition, joint statement and attachment..............    00
National Conference of State Legislatures, Hon. Daniel T. Blue, 
  Jr., and Hon. Paul S. Mannweiler, letter.......................    00
National Council of Farmer Cooperatives, statement...............    00
National Education Association, statement........................    00
National Rural Health Association, Kristine S. Arnold, joint 
  statement......................................................    00
Natural Resources Defense Council, San Francisco, CA, David 
  Goldstein, statement...........................................    00
Norfolk, City of, Virginia, Hon. Paul D. Fraim, Mayor, statement 
  and attachment.................................................    00
Nussbaum, Thomas J., California Community Colleges, Sacramento, 
  CA, letter (forwarded by Hon. Robert T. Matsui, a 
  Representative in Congress from the State of California).......    00
Rebuild America's Schools Coalition, joint statement and 
  attachment.....................................................    00
Saito, Theodore T., American Association of Engineering 
  Societies, letter and attachments..............................    00
Steve, Jaime C., American Wind Energy Association, statement.....    00
Sumter, City of, South Carolina, Hon. Stephen Creech, Mayor, 
  joint statement................................................    00
Thomas, Hon. William M., a Representative in Congress from the 
  State of California, statement.................................    00
U.S. Securities Markets Coalition: American Stock Exchange, 
  Boston Stock Exchange, Chicago Board Options Exchange, Chicago 
  Stock Exchange, Cincinnati Stock Exchange, NASDAQ Stock Market, 
  National Securities Clearing Corporation, Options Clearing 
  Corporation, Pacific Stock Exchange, and Philadelphia Stock 
  Exchange, joint statement......................................    00
Walker, Richard P., CSW Renewable Energy, Central & South West 
  Corporation, Dallas, TX, statement.............................    00
Wechsler, Steven A., National Association of Real Estate 
  Investment Trusts, statement...................................    00


                ENHANCING RETIREMENT AND HEALTH SECURITY

                              ----------                              


                        WEDNESDAY, JUNE 16, 1999

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to call, at 10:08 a.m., in room 
1100 Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    [The advisory announcing the hearing follows:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE

June 2, 1999

No. FC-10

                   Archer Announces Hearing Series on

                        Reducing the Tax Burden:

              I. Enhancing Retirement and Health Security

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the Committee will hold a hearing 
series on proposals to reduce the tax burden on individuals and 
businesses. It will begin with tax proposals to enhance retirement and 
health security, including strengthening retirement plans, improving 
availability and affordability of health care, and increasing personal 
savings by reducing the tax burden on savings. The hearing will begin 
on Wednesday, June 16, 1999, in the main Committee hearing room, 1100 
Longworth House Office Building, beginning at 10:00 a.m. The hearing is 
expected to continue on additional days, which will be the subject of 
supplementary advisories.
      
    Oral testimony at this hearing will be from both invited and public 
witnesses. Also, any individual or organization not scheduled for an 
oral appearance may submit a written statement for consideration by the 
Committee or for inclusion in the printed record of the hearing.
      

BACKGROUND:

      
    The budget resolution adopted by the House of Representatives and 
the Senate on April 15, 1999 (H. Con. Res. 68), directs the Committee 
on Ways and Means to report a tax relief package by July 16, 1999. 
Although the budget resolution does not provide for any net tax relief 
in fiscal year 2000, the tax relief reconciliation bill is to include 
up to $142 billion in tax reduction during fiscal years 2000 through 
2004 and $778 billion during fiscal years 2000 through 2009.
      
    Along with Social Security, employer-sponsored retirement plans and 
personal savings are often viewed as the traditional ``three legged 
stool'' of retirement security. However, about 50 million Americans, or 
nearly 50 percent of the private sector workforce, are not covered by 
an employer-sponsored retirement plan--a rate that has remained 
stagnant over the last 25 years. Only about 20 percent of the 40 
million Americans employed in businesses with 100 or fewer employees 
are participating in a retirement plan. Meanwhile, the personal savings 
rate has fallen to a record low of minus 0.7 percent, continuing a 
long-term trend. At the same time, health security is a continuing 
concern to Americans, with the number of people lacking health 
insurance growing to more than 43 million.
      
    In announcing the hearing, Chairman Archer said: ``We have already 
set aside the Social Security surplus, about $1.8 trillion, to save and 
strengthen Social Security and Medicare, and I am committed to working 
with the President and Democrats to find long-term solutions. At the 
same time, we have an obligation to American taxpayers to provide tax 
relief, because taxes are still too high. It is entirely appropriate 
that we begin this process by looking at ways to enhance Americans' 
retirement and health security.''
      

FOCUS OF THE HEARING:

      
    The focus of the first hearing day will be retirement and health 
security, including strengthening retirement plans, improving 
availability and affordability of health care, and increasing personal 
savings by reducing the tax burden on savings. Proposals to be reviewed 
include pension reforms, health care incentives, long-term care 
incentives, estate and gift tax relief, and savings incentives.
      

DETAILS FOR SUBMISSIONS OF REQUESTS TO BE HEARD:

      
    Requests to be heard at the hearing must be made by telephone to 
Traci Altman or Pete Davila at (202) 225-1721 no later than the close 
of business, Wednesday June 9, 1999. The telephone request should be 
followed by a formal written request to A.L. Singleton, Chief of Staff, 
Committee on Ways and Means, U.S. House of Representatives, 1102 
Longworth House Office Building, Washington, D.C. 20515. The staff of 
the Committee will notify by telephone those scheduled to appear as 
soon as possible after the filing deadline. Any questions concerning a 
scheduled appearance should be directed to the Committee on staff at 
(202) 225-1721.
      
    In view of the limited time available to hear witnesses, the 
Committee may not be able to accommodate all requests to be heard. 
Those persons and organizations not scheduled for an oral appearance 
are encouraged to submit written statements for the record of the 
hearing. All persons requesting to be heard, whether they are scheduled 
for oral testimony or not, will be notified as soon as possible after 
the filing deadline.
      
    Witnesses scheduled to present oral testimony are required to 
summarize briefly their written statements in no more than five 
minutes. THE FIVE-MINUTE RULE WILL BE STRICTLY ENFORCED. The full 
written statement of each witness will be included in the printed 
record, in accordance with House Rules.
      
    In order to assure the most productive use of the limited amount of 
time available to question witnesses, all witnesses scheduled to appear 
before the Committee are required to submit 300 copies, along with an 
IBM compatible 3.5-inch diskette in WordPerfect 5.1 format, of their 
prepared statement for review by Members prior to the hearing. 
Testimony should arrive at the Committee office, room 1102 Longworth 
House Office Building, no later than June 14, 1999. Failure to do so 
may result in the witness being denied the opportunity to testify in 
person.
      

WRITTEN STATEMENTS IN LIEU OF PERSONAL APPEARANCE:

      
    Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit six (6) single-
spaced copies of their statement, along with an IBM compatible 3.5-inch 
diskette in WordPerfect 5.1 format, with their name, address, and 
hearing date noted on a label, by the close of business, Wednesday, 
June 30, 1999, to A.L. Singleton, Chief of Staff, Committee on Ways and 
Means, U.S. House of Representatives, 1102 Longworth House Office 
Building, Washington, D.C. 20515. If those filing written statements 
wish to have their statements distributed to the press and interested 
public at the hearing, they may deliver 200 additional copies for this 
purpose to the Committee office, room 1102 Longworth House Office 
Building, by close of business the day before the hearing.
      

FORMATTING REQUIREMENTS:

      
    Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. All statements and any accompanying exhibits for printing must 
be submitted on an IBM compatible 3.5-inch diskette in WordPerfect 5.1 
format, typed in single space and may not exceed a total of 10 pages 
including attachments. Witnesses are advised that the Committee will 
rely on electronic submissions for printing the official hearing 
record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. A witness appearing at a public hearing, or submitting a 
statement for the record of a public hearing, or submitting written 
comments in response to a published request for comments by the 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
name, company, address, telephone and fax numbers where the witness or 
the designated representative may be reached. This supplemental sheet 
will not be included in the printed record.

      
    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
material submitted solely for distribution to the Members, the press, 
and the public during the course of a public hearing may be submitted 
in other forms.

      
    Note: All Committee advisories and news releases are available on 
the World Wide Web at ``http://www.house.gov/ways__means/''.
      

    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.
      

                                


    Chairman Archer. The Committee will come to order.
    The Chair invites guests and staff to take seats so that 
the Members can listen to each other.
    Good morning to everybody. The Committee today begins 
hearing a series on reducing the tax burden on American 
families, individuals, and businesses.
    The Congressional Budget Office confirms that the tax 
burden on our society today is currently at a record peacetime 
high at 21 percent of GDP. President Clinton, on the other 
hand, claims the average American is paying lower taxes than at 
any time since 1976, which may be why he included over $170 
billion in new tax hikes in his budget. But most Americans feel 
that they pay more taxes today than they have in the past and 
not less, which is why Republicans are committed to cutting 
taxes so people can keep more of what they earn.
    Likewise, I know several of my Democratic friends have 
sponsored bills to cut taxes this year, and I look forward to 
working with anyone who has a plausible idea for tax relief for 
the American people.
    Cutting taxes should not be a partisan issue, just as 
saving Social Security and Medicare need not and are not 
partisan issues. In that light, these hearings will explore 
areas where there is bipartisan interest in providing tax 
relief. Today's subjects, health and retirement security, 
including a look at pensions and the death tax, clearly qualify 
in that category.
    Next week, we will focus on family tax relief, including 
reducing the marriage penalty and helping families and students 
pay for the high cost of education, two more areas that have 
attracted bipartisan support. We will also look at ways to 
boost savings and investments so that more Americans can enjoy 
and participate in our strong economy.
    This morning, I am releasing two new studies by the 
American Council for Capital Formation that show how the 
current Tax Code discourages savings and punishes families with 
the confiscatory death tax.
    On the death tax, the research shows that of 24 major 
industrial countries, only Japan's top tax rate of 70 percent, 
is higher than the 55-percent rate in the United States. Fifty-
five percent is way too high, and some estates actually pay a 
marginal rate of 60 percent. No American, no matter their 
income, should be forced to pay the government up to 55 percent 
of their savings when they die, a tax that is triggered by one 
event, not an economic transaction, one event, the death of the 
person who has saved. And that is why we should significantly 
reduce, if not eliminate, the death tax; and I ask my 
Democratic colleagues to work with me to do that.
    The second study is equally disturbing because it 
underscores the one problem that Federal Reserve Chairman Alan 
Greenspan and most economists agree is a major cloud on our 
economic horizon and that is our negative personal savings 
rate. Net private savings in this country today are at an all-
time low for the entire history of our country. As we have 
learned through our Social Security debate, retirement is a 
three-legged stool of personal savings, pensions, and Social 
Security. We know that Social Security is facing serious 
problems. What makes that problem even more serious is the 
other legs of that stool, personal savings and pensions, are 
weak and are being weakened further by the Tax Code.
    Today I ask that we look at ways to make retirement 
security more secure through lower taxes on savings, lower 
taxes on investments, and lower taxes on financial assets on 
which people depend. Taxes are too high, Americans are paying 
too much, and too often our Tax Code punishes Americans who are 
trying to do the right thing for themselves and their families. 
That is wrong, and we should commit ourselves to working 
together to fix that this year.
    I truly believe that we can save and strengthen Social 
Security this year and Medicare and give Americans the tax 
relief they deserve, and I look forward to having the Committee 
work together to try to accomplish exactly that.
    [The following was subsequently received:]
    [GRAPHIC] [TIFF OMITTED] T0332.023
    
    [GRAPHIC] [TIFF OMITTED] T0332.024
    
    [GRAPHIC] [TIFF OMITTED] T0332.025
    
    [GRAPHIC] [TIFF OMITTED] T0332.026
    
UPDATE: An International Comparison of Incentives for Retirement Saving 
                             and Insurance

    ACCF Center for Policy Research Special Reports are published 
periodically to serve as a catalyst for debate on current economic 
policy issues. Contact the ACCF Center for Policy Research for 
permission to reprint the Center's Special Reports
    The ACCF Center for Policy Research is the education and research 
affiliate of the American Council for Capital Formation. Its mandate is 
to enhance the public's understanding of the need to promote economic 
growth through sound tax, trade, and environmental policies. For 
further information, contact the ACCF Center for Policy Research, 1750 
K Street, N.W., Suite 400, Washington, D.C. 20006-2302; telephone: 202/
293-5811; fax: 202/785-8165; e-mail: [email protected]; Web site: http://
www.accf.org.
    Experts predict that today's federal budget surpluses are likely to 
be a relatively short-lived phenomenon. The long-term prosperity of the 
United States remains threatened by the prospect of looming budget 
deficits arising from the need to fund the retirement of the baby boom 
generation in the next century. In addition, the U.S. saving rate 
continues to compare unfavorably with that of other nations, as well as 
with our own past experience; U.S. net domestic saving available for 
investment has averaged only 4.8 percent since 1991 compared to 9.3 
percent over the 1960-1980 period. Though the U.S. economy is currently 
performing better than the economies of most other developed nations, 
in the long run low U.S. saving and investment rates will inevitably 
result in a growth rate short of this country's true potential. A 
country's saving rate is strongly correlated with its rate of economic 
growth, as shown in Figure 1.
[GRAPHIC] [TIFF OMITTED] T0332.027

    The ACCF Center for Policy Research presents this special report in 
order to stimulate debate on tax policy reforms that could encourage 
additional private saving and social security restructuring as well as 
the purchase of various types of mutual fund and insurance products to 
assist baby boomers as they retire in the twenty-first century.
    This report is an analysis of a recent Center-sponsored survey of 
the tax treatment of retirement savings, insurance products, social 
security, and mutual funds in twenty-four major industrial and 
developing countries, including most of the United States' major 
trading partners. The survey, compiled for the Center by Arthur 
Andersen LLP, shows that the United States lags behind its competitors 
in that it offers fewer and less generous tax-favored saving and 
insurance products than many other countries. For example:
     Life insurance premiums are deductible in 42 percent of 
the surveyed countries but not for U.S. taxpayers; for many individuals 
life insurance is a form of saving;
     Thirty-three percent of the sampled countries allow 
deductions for contributions to mutual funds while the United States 
does not;
     More than half of the countries allow a mutual fund 
investment pool to retain earnings without current tax, a provision 
which increases the funds' assets; the United States does not;
     Thirty percent of the countries with a social security 
system allow an individual to choose increased benefits by increasing 
their contributions during their working years; and
     Canada provides a generally available deduction of up to 
$9,500 (indexed) yearly for contributions to a private retirement 
account, compared to a maximum deductible Individual Retirement Account 
contribution of $2,000 for qualified taxpayers in the United States;
    The Center's study demonstrates that many countries have gone 
further than the United States to encourage their citizens to save and 
provide for their own retirement and insurance needs.

                                      Retirement Savings (*Indicates Note)
----------------------------------------------------------------------------------------------------------------
                                  Gross
                                 domestic      Tax-favored                                          Changes in
           Country             saving as a     retirement        Deductible     Annual limit on     portfolio
                                percent of      accounts?      contributions?      deduction?      composition
                                GDP, 1997                                                            taxable?
----------------------------------------------------------------------------------------------------------------
Argentina....................         18.0  No*.............  N/A.............  N/A............  N/A
Australia....................         21.0  Yes.............  No*.............  No.............  No
Belgium......................         22.0  Yes.............  Yes.............  Yes,* not        Generally yes;
                                                                                 indexed.         rate: 56.7%
Brazil.......................         19.0  Yes.............  Yes.............  No.............  No
Canada.......................         21.0  Yes.............  Yes.............  Yes,             No
                                                                                 approximately
                                                                                 US $9,439
                                                                                 indexed.
Chile........................         25.0  Yes.............  Yes.............  Yes,             N/A
                                                                                 approximately
                                                                                 US $20,200
                                                                                 indexed.
China........................         43.0  No..............  N/A.............  N/A............  N/A
Denmark......................         24.0  Yes.............  Yes.............  Generally no*..  Generally yes;*
                                                                                                  rate: 58%
France.......................         20.0  No..............  N/A.............  N/A............  No
Germany......................         22.0  Yes.............  Yes.............  Yes,             N/A
                                                                                 approximately
                                                                                 US $2,178 not
                                                                                 indexed.
Hong Kong....................          N/A  No..............  N/A.............  N/A............  N/A
India........................         20.0  Yes.............  Yes.............  Yes, 20% of      No
                                                                                 contribution,
                                                                                 max. approx.
                                                                                 US $306
                                                                                 indexed.
Indonesia....................         31.0  Yes.............  Yes.............  Yes*...........  Yes, rate: 30%
                                                                                                  or 20% treaty
                                                                                                  rate
Italy........................         22.0  Yes.............  Yes.............  Yes, 2% of       No
                                                                                 wages, max.
                                                                                 approx. US
                                                                                 $306 indexed.
Japan........................         30.0  No..............  N/A.............  N/A............  N/A
Korea........................         34.0  No..............  N/A.............  N/A............  N/A
Mexico.......................         26.0  Yes.............  Yes.............  Yes, approx. US  No
                                                                                 $420 per year
                                                                                 indexed.
Netherlands..................         26.0  Yes.............  Yes.............  Yes,* indexed..  Generally yes
Poland.......................         18.0  No..............  N/A.............  N/A............  N/A
Singapore....................         51.0  Yes.............  Yes.............  Yes,             No
                                                                                 approximately
                                                                                 US $8,559* not
                                                                                 indexed.
Sweden.......................         21.0  Yes.............  Yes.............  Yes,             Generally no
                                                                                 approximately
                                                                                 US $2,300
                                                                                 indexed.
Taiwan.......................          N/A  No..............  N/A.............  N/A............  N/A
United Kingdom...............         15.0  Yes.............  Yes.............  Yes*...........  No
United States................         16.0  Yes.............  Yes.............  Yes*...........  No
Summary......................          25%  67% of countries  63% of countries  54% of           17% of
                                 (average)   answered yes.     answered yes.     countries        countries
                                                                                 answered yes.    answered yes
----------------------------------------------------------------------------------------------------------------


                                                                                   Insurance (*Indicates Note)
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                   Deductible national health insurance                                                                                     Tax treatment of insurance annuity
                                                 premiums?                Deductible private                      Annual increase in      Deductible                     reserves:
                                 ----------------------------------------  long-term health   Deductible private    life insurance    payments to mutual ---------------------------------------
             Country                                                           insurance        life insurance      surrender value        funds for       Investment income   Individual taxed
                                   For individuals?     For employers?         premiums?           premiums?      taxable each year?      retirement          on reserves        on receipt of
                                                                                                                                           purposes?           taxable?        annuity payments?
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Argentina.......................  Yes...............  Yes...............  Yes subject to      Yes subject to      No................  No................  Yes, rate: 33%....  Yes, rate: 33%
                                                                           limits.             limits.
Australia.......................  No................  N/A...............  No*...............  No................  No................  No................  Yes, rate: 36%....  Yes, rate: 33.5%
Belgium.........................  Yes...............  Yes...............  Yes...............  Yes*..............  No................  Yes*..............  Yes, rate: 40.2%..  Yes, rate: 56.7%
Brazil..........................  Yes...............  Yes...............  No................  No................  No................  Yes*..............  Yes, rate: 43%....  Yes, rate: 27.5%
Canada..........................  No................  Yes...............  No................  No................  Yes...............  No................  Yes, rate: 29.1%..  Yes, rate: 31.3%
Chile...........................  Yes...............  Yes...............  No................  No................  No................  Yes*..............  Yes, rate: 15%....  No
China...........................  No................  Yes...............  No................  No................  No................  N/A...............  Yes, rate: 33%....  No
Denmark.........................  N/A...............  N/A...............  No................  No................  No................  No................  Yes, rate: 34%....  No
France..........................  Yes...............  Yes...............  No................  No................  No................  Yes, if retirement  Yes, rate: 41.7%..  Yes, rate: 58.1%
                                                                                                                                       plan is
                                                                                                                                       compulsory.
Germany.........................  Yes, subject to     Yes...............  Yes, subject to     Yes, subject to     No................  Yes, under certain  Yes, rate: 45%....  Generally yes,*
                                   limits.                                 limits.             limits.                                 conditions.                             rate: 55.9%
Hong Kong.......................  N/A...............  N/A...............  No................  No................  No................  No................  Yes, rate: 16%....  No
India...........................  N/A...............  N/A...............  Yes, up to          Yes*..............  No................  No................  Yes, rate: 30%....
                                                                           approximately US
                                                                           $255 per year.
Indonesia.......................  No................  No................  No................  No................  Yes...............  No................  Yes, rate: 30%....  No
Italy...........................  Yes...............  Yes...............  No................  Yes*..............  No................  Yes*..............  Yes, rate: 37%....  Yes, rate: 46%
Japan...........................  Yes...............  Yes...............  Yes, up to          Yes, up to          N/A...............  No................  No................  Yes, rate: 50%
                                                                           approximately US    approximately US
                                                                           $383 per year.      $383 per year.
Korea...........................  Yes...............  Yes...............  No................  Yes...............  No................  No................  N/A...............  N/A
Mexico..........................  No................  Yes...............  No................  No................  No................  No................  N/A...............  N/A
Netherlands.....................  Yes subject to....  Yes...............  Yes subject to....  Yes subject to....  No................  Yes, depending on   N/A...............  N/A
                                  limits*...........                      limits*...........  limits............                       fund type*.
Poland..........................  N/A...............  Yes...............  No................  No................  No................  No................  Yes, rate: 36%....  Yes, rate: 40%
Singapore.......................  Yes*..............  Yes...............  No................  Yes subject to      No................  Yes subject to      Yes, rate: 26%....  Yes, rate: 28%
                                                                                               limits.                                 limits.
Sweden..........................  Yes...............  Yes...............  No................  No................  No................  No................  Yes, rate: 28%....  Yes, rate: 57%
Taiwan..........................  Yes...............  Yes...............  Yes*..............  Yes...............  No................  No................  Yes, rate: 25%....  Yes, rate: 40%
United Kingdom..................  No................  Yes...............  No................  No................  No................  No................  Generally no......  Generally yes
United States...................  N/A...............  N/A...............  Yes subject to      No................  No................  No................  Yes*..............  Yes, rate: 39.6%
                                                                           limits.
Overall number of countries       54% of countries    75% of countries    33% of countries    42% of countries    8% of countries     33% of countries    75% of countries    67% of countries
 answering ``yes''.                answ- ered yes.     answ- ered yes.     answ- ered yes.     answ- ered yes.     answ- ered yes.     answ- ered yes.     answ- ered yes.     answ- ered yes
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------


                 Social Security Taxes (*Indicates Note)
------------------------------------------------------------------------
                                             Possibility for individual
                  Country                   to choose increased benefits
                                            by increasing contributions?
------------------------------------------------------------------------
Argentina.................................  Yes
Australia.................................  No social security taxes
Belgium...................................  No
Brazil....................................  No
Canada....................................  No
Chile.....................................  Yes
China.....................................  No
Denmark...................................  No
France....................................  No
Germany...................................  Yes under certain conditions
Hong Kong.................................  No social security taxes
India.....................................  No social security taxes
Indonesia.................................  Yes
Italy.....................................  Yes
Japan.....................................  No
Korea.....................................  No
Mexico....................................  Yes
Netherlands...............................  No
Poland....................................  No
Singapore.................................  No social security taxes
Sweden....................................  No
Taiwan....................................  No
United Kingdom............................  No
United States.............................  No
Overall number of countries answering       30% of countries answered
 ``yes''.                                    yes
------------------------------------------------------------------------


                                         Mutual Funds (*Indicates Note)
----------------------------------------------------------------------------------------------------------------
                                        Can an investment pool retain earnings without     Preferential capital
                                                         current tax?                      gains treatment for
               Country                -------------------------------------------------- disposition of interest
                                            Ordinary gain             Capital gain         in investment pool?
----------------------------------------------------------------------------------------------------------------
Argentina............................  Yes if qualifying fund.  Yes if qualifying fund.  No
Australia............................  Yes....................  Yes....................  Yes
Belgium..............................  Yes....................  Yes....................  Yes
Brazil...............................  Yes....................  Yes....................  No
Canada...............................  No.....................  No.....................  Yes
Chile................................  Yes for individuals....  Yes....................  No
China................................  N/A....................  N/A....................  N/A
Denmark..............................  No.....................  No.....................  No
France...............................  No.....................  No.....................  Yes
Germany..............................  No.....................  Generally no...........  No
Hong Kong............................  Yes....................  Yes....................  N/A
India................................  Yes....................  Yes....................  Yes
Indonesia............................  No.....................  Yes....................  No
Italy................................  Yes....................  Yes....................  Yes, rate: 12.5%
Japan................................  No.....................  No.....................  Yes
Korea................................  N/A....................  N/A....................  N/A
Mexico...............................  Yes....................  Yes....................  No
Netherlands..........................  Yes depending on type    Yes depending on type    Generally Yes
                                        of fund*.                of fund*.
Poland...............................  Yes....................  Yes....................  Yes
Singapore............................  Generally Yes..........  Generally Yes..........  Yes
Sweden...............................  N/A....................  N/A....................  N/A
Taiwan...............................  Yes....................  Yes....................  Yes
United Kingdom.......................  No.....................  Yes....................  Yes if qualifying fund
                                                                                          (``PEP'')
United States........................  No.....................  No.....................  Yes
Overall number of countries answering  54% of countries         63% of countries         54% of countries
 ``Yes''.                               answered Yes.            answered yes.            answered yes
----------------------------------------------------------------------------------------------------------------


                      *Notes on Retirement Savings
Argentina...............................  Col. 1: Contributions to
                                           certain approved private
                                           pension funds may be
                                           deductible.
Australia...............................  Col. 2: Superannuation
                                           accounts must be contributed
                                           to by an individual's
                                           employer, currently at a
                                           minimum rate of 6 percent of
                                           salary. Amounts contributed
                                           on behalf of an employee are
                                           not taxable to the employee.
Belgium.................................  Col. 3: Limits vary depending
                                           on the type of fund to which
                                           contributions are made.
Denmark.................................  Col. 3: The maximum deductible
                                           annual contribution to a
                                           capital pension scheme is DKr
                                           33,100 (US $4,833).
                                           Contributions to other
                                           pensions can be deducted
                                           without limit.
                                          Col. 4: A payout from a
                                           capital pension (which is a
                                           lump sum payment) is subject
                                           to tax at 40 percent.
Indonesia...............................  Col. 3: The deductible annual
                                           contribution is limited to
                                           5.7 percent of regular income
                                           for the government-sponsored
                                           program (i.e., Jamsostek) or
                                           20 percent for a Ministry of
                                           Finance-approved private
                                           pension program.
Netherlands.............................  Col. 3: The deductible amount
                                           depends upon the amount of
                                           salary, the duration of
                                           employment, and the type of
                                           pension plan.
Singapore...............................  Col. 3: The annual deduction
                                           limit of S$14,400 (US $8,559)
                                           applies to contributions on
                                           ordinary wages. Contributions
                                           on additional wages not
                                           accruing on a monthly basis
                                           (e.g., bonuses, incentive
                                           payments) are subject to
                                           separate capping rules.
U. Kingdom..............................  Col. 3: The limit on
                                           deductibility of the
                                           contribution varies depending
                                           upon the type of plan and age
                                           of the individual. The
                                           minimum limit is 15 percent
                                           of earnings up to maximum
                                           earnings of uu87,500 (US
                                           $144,445). The limit is
                                           indexed for inflation at the
                                           discretion of the government.
United States...........................  Col. 3: The limitation on
                                           deductibility of the
                                           contribution varies depending
                                           upon the type of plan (e.g.,
                                           for contributions to an
                                           individual retirement account
                                           the annual limit is US
                                           $2,000), the individual's
                                           amount of earned income, the
                                           individual's overall income
                                           level, and the individual's
                                           age.
------------------------------------------------------------------------


                           *Notes on Insurance
Australia...............................  Col. 2: For families with
                                           taxable income less than
                                           A$70,000, a tax rebate of up
                                           to A$450 is allowed to
                                           encourage participation in
                                           private health insurance.
Belgium.................................  Cols. 3,5: Belgium provides a
                                           tax credit (computed by
                                           reference to various items)
                                           when premiums are paid on
                                           life insurance or
                                           contributions are made to a
                                           collective pension savings
                                           account.
Brazil..................................  Col. 5: Payments to domestic
                                           pension funds are deductible.
Chile...................................  Col. 5: Only payments to the
                                           mandatory retirement system
                                           are deductible.
France..................................  Col. 6: The taxable portion of
                                           an annuity payment decreases
                                           based on the age of the
                                           recipient.
Germany.................................  Col. 6: Payments received by
                                           an individual would not be
                                           taxable if the prerequisites
                                           for a tax-exempt life
                                           insurance policy are
                                           fulfilled.
India...................................  Col. 3: The individual is
                                           entitled to a tax rebate of
                                           up to 20 percent of life
                                           insurance premium paid,
                                           subject to the overall limit
                                           of Rs 12,000 (US $306) along
                                           with other items (e.g.,
                                           contribution to a retirement
                                           fund).
Italy...................................  Col. 3: Up to a maximum of
                                           Lit. 2,500,000 (US $1,414),
                                           life insurance premiums paid
                                           can give rise to a
                                           nonrefundable tax credit of
                                           19 percent of the premium
                                           paid.
                                          Col. 5: For employees, same
                                           limits as for life insurance
                                           premiums. For professionals,
                                           the maximum deductible
                                           contribution to a retirement
                                           fund is 6 percent of income,
                                           not exceeding Lit. 5,000,000
                                           (US $2,828).
Netherlands.............................  Cols. 1,2: An individual can
                                           deduct public or private
                                           health insurance premiums
                                           only as an extraordinary
                                           expense and only above a
                                           certain percentage of the
                                           individual's income.
                                          Col. 5: See ``Mutual Funds''
                                           notes section for comments on
                                           mutual funds in the
                                           Netherlands.
Singapore...............................  Col. 1: Singapore does not
                                           have national health
                                           insurance per se, but does
                                           have insurance plans
                                           established under the
                                           approved pension scheme
                                           (Central Provident Fund)
                                           instituted by the government.
Taiwan..................................  Col. 2: The deductible
                                           insurance premium is
                                           NT$24,000 (US $735) per
                                           person if the individual
                                           itemizes.
United States...........................  Col. 6: Income earned on
                                           reserves is taxable, however,
                                           a deduction is permitted to
                                           the extent the earnings are
                                           credited to the account of
                                           the annuity contract.
------------------------------------------------------------------------


                         *Notes on Mutual Funds
Netherlands.............................  Col. 1: The tax treatment of
                                           mutual funds in the
                                           Netherlands varies
                                           significantly depending on
                                           the type of fund. One of the
                                           most important issues is the
                                           question of whether the fund
                                           is a legal entity or only a
                                           cooperation of a group of
                                           individuals. In the latter
                                           case the fund will be
                                           considered transparent, in
                                           other words, for tax purposes
                                           no fund exists and each
                                           individual will be considered
                                           participating in person for
                                           his share in the fund
                                           capital. In that case capital
                                           gains are nontaxable;
                                           ordinary income is taxable at
                                           progressive rates.
                                          If the fund is a legal entity,
                                           a distinction must be made
                                           between foreign funds and
                                           Dutch funds. Foreign funds
                                           are subject to a special
                                           Dutch tax treatment
                                           (taxability of a fictitious
                                           income); the taxability of
                                           Dutch funds depends upon
                                           whether the fund is a special
                                           qualifying fund. For a
                                           qualifying fund, capital
                                           gains are tax free; ordinary
                                           income is subject to tax at
                                           progressive rates.
------------------------------------------------------------------------

    And now I am pleased to recognize my colleague, Charlie 
Rangel, for a statement on behalf of the Minority. And, without 
objection, each Member may insert written statements in the 
record at this point.
    Mr. Rangel.
    Mr. Rangel. Thank you, Mr. Chairman.
    I support the direction in which you are going and taking 
the Committee on behalf of the Congress, and I assume your 
criticism of the President was just by habit, rather than by 
intent, since you are pushing so desperately hard to create a 
bipartisan atmosphere, and that can't be done by just knocking 
the President in terms of advocating tax increases. I think it 
is very important and certainly politically expedient to 
concentrate on tax cuts, and it is going to be hard for you to 
get rid of me in terms of supporting tax cuts.
    Next year, I think we will be supporting even more dramatic 
tax cuts. This is especially so if the Majority is convinced 
that the President is going to veto anything that is done in an 
irresponsible way.
    Having said that, I think we all had agreed, however, that 
before we move in the direction of reducing revenue that we 
would dedicate ourselves to the resolution of the problems that 
we face with Social Security and Medicare. I know we have 
language that says this money has been put in a lockbox, but I 
think it is abundantly clear that the Majority party has the 
key to the lockbox to use for whatever funds they have the 
votes to use it for.
    So I think we would all feel much more comfortable if we 
made more progress in a bipartisan way, of course, in resolving 
Social Security and Medicare before we entertain reducing 
taxes. This is especially so since a large part of your private 
sector investment under the Archer-Shaw plan requires general 
revenues--and bills we are discussing now, of course, would 
reduce general revenues.
    But whatever we do look at, I do hope that the Social 
Security system and the USA account proposal will be included 
in our studies. We should also take into consideration the 
number of individuals who have no health insurance at all. I 
hope we will be able to take a look at the President's proposal 
for tax-exempt bonds so that we will be able to rebuild our 
schools and create an atmosphere where kids can get a decent 
education in the public school level.
    In any event, I look forward to the meetings that we are 
going to have in executive session; and I hope, as you have 
invited the private sector to participate, I am confident that 
you also will invite the administration to participate. These 
are going to be some very sensitive days and weeks and months 
as we both try hard to create a bipartisan atmosphere.
    I agree with you. I know it is doable, that we could come 
up with a bipartisan solution to the Social Security problem 
that our Nation faces. I know that you and the President of the 
United States, both of whom will not be here for the new 
Congress, would want a part of your legacy that this was done, 
and I would hope that this Congress would be a part of that 
history.
    I just want the record to be made abundantly clear that 
before this Committee moves forward in any public way, that we 
expect that we will have the support of the leadership on both 
sides of the aisle in the House; and even though it is 
difficult to get any commitment from the House, it would seem 
to me that at least communication should be made with them as 
we move forward.
    In order to be successful, Chairman Archer, I think we all 
have to be reading from the same page and attempting to move 
forward together in a bipartisan way to resolve a problem that 
Democrats don't have and Republicans don't have but our Nation 
and the kids and the people that will be depending on the 
system will have. I want you to know that you can depend on my 
support in that area, and I thank you for giving me this 
opportunity to express the views of the Minority.
    [The opening statements follow:]

Statement of Hon. Charles B. Rangel a Representative in Congress from 
the State of New York

    I think it's very important, and certainly politically 
expedient, to concentrate on tax cuts. And, it's going to be 
hard for you to get rid of me when it comes to supporting tax 
cuts. Next year, I think we'll be supporting even more dramatic 
tax cuts. This is especially so if the Majority understands 
that the President is going to veto anything that's done in an 
irresponsible way.
    Having said that, I thought we all agreed that before we 
move in the direction of reducing revenue, we would dedicate 
ourselves to the resolution of the problems we face with Social 
Security and Medicare. I know we have language that says this 
money has been put in a ``lockbox,'' but I think it's 
abundantly clear that the Majority Party has the key to the 
lockbox and can use the money for what ever purpose they have 
the votes to use it for.
    I think we all would feel much more comfortable if we made 
major progress, in a bipartisan way of course, in resolving 
Social Security and Medicare before we entertain using any of 
the surpluses to reduce taxes. This is especially so since a 
large part of the private sector investment provision under the 
Archer-Shaw plan requires general revenue financing, and the 
tax bills we are discussing now involve the reduction of 
general revenues.
    I hope that the effect on saving the Social Security system 
and the President's USA Accounts proposal will be considered. I 
hope we will take into consideration the number of individuals 
who have no health insurance at all. I also hope we will be 
able to take a look at the President's proposal for tax credits 
for school modernization bonds, which I sponsored, so that we 
can re-build our schools and create an atmosphere where our 
kids can get a decent education in the public schools.
    In any event, I look forward to the bipartisan private 
meetings that we are going to have. Since you (Chairman Archer) 
have invited the private sector to participate, I'm confident 
that you will also invite the administration to participate. 
These are going to be some very sensitive days and weeks and 
months ahead as we both try hard to create a bipartisan 
atmosphere. I agree with you, Mr. Chairman--I know it's doable 
for us to come up with a bipartisan solution to the Social 
Security problem that our nation faces. I know that you and the 
President of the United States, both of whom will not be here 
for the new Congress, would want this accomplishment to be part 
of your legacy. And I would hope that this Congress would be a 
part of that history.
    I just want to make it abundantly clear that, before this 
Committee moves forward in any public way, we expect that we 
will have the support of the leadership on both sides of the 
aisle in the House. And, even though it is difficult to get any 
commitment from the other House, it would seem to me that at 
least communication should be made with the senators as we move 
forward. If we are to be successful, Chairman Archer, I think 
we all have to be reading from the same page and attempting to 
move forward together in a bipartisan way to resolve a problem, 
that Democrats don't have, and that Republicans don't have, but 
that our nation and future generations have.
      

                                


Statement of Hon. Jim Ramstad, a Representative in Congress from the 
State of Minnesota

    Mr. Chairman, thank you for calling this hearing to learn 
more about how we can reduce the tax burden facing Americans--
which is at the highest level in history!
    As we learned yesterday in our Health Subcommittee, the tax 
burden for healthcare services disproportionately hits those 
most in need to tax relief to help them afford health coverage. 
While low-income Americans have access to government sponsored 
healthcare and those with higher incomes tend to have 
healthcare coverage through their employers, hard working, 
lower-income and middle-income Americans, especially the self-
employed and those working for small businesses, have limited 
access to seemingly unaffordable coverage.
    A more equitable tax code which provided tax relief for 
individuals who purchase healthcare coverage would not only 
help address the number of uninsured Americans, it would also 
address the issues of portability and greater consumer choice 
in the marketplace. Stimulating competition within the health 
care industry is greatly needed to improve the entire health 
care delivery system.
    As I mentioned yesterday, I am proud of this Committee's 
attention to this issue through the passage of Medical Savings 
Accounts (MSAs). I strongly support the Chairman's bill to 
remove the unnecessary restrictions surrounding these truly 
patient-oriented plans soon for many of their colleagues who 
still remain priced out of the health insurance market.
    In outlining my tax priorities for this year, in addition 
to health care tax relief, I also listed my strong support for 
comprehensive pension reform legislation introduced by Reps. 
Portman and Cardin. Tax relief to help Americans save for their 
retirement is critical and necessary to improve our nation's 
abysmal savings rate.
    I look forward to learning more from our witnesses about 
the factors that contribute to the number of uninsured in 
America today, as well as ways to significantly reduce those 
numbers.
      

                                


Statement of Hon. Richard E. Neal, a Representative in Congress from 
the State of Massachusetts

    Mr. Chairman, as the sponsor of H.R. 1213, the Employee 
Pension Portability and Accountability Act of 1999, I want to 
commend the Administration for its proposals to improve the 
chances for every American to have a secure retirement of which 
an adequate level of retirement income is a crucial factor. The 
proposals are aimed at making it easier for employers to offer 
pension plans, and for employees to retain their pension 
benefits when switching jobs. Proposals to encourage small 
businesses to establish pension plans, and to encourage more 
individuals to utilize retirement accounts are included, as 
well as numerous simplification initiatives.
    As we all know, it is assumed that every worker will have 
retirement income from three different sources--social 
security, private pensions, and personal savings. This so-
called three-legged stool does not exist for many workers, 
either because they work for employers who do not offer a 
pension plan, or the benefits offered are inadequate, or 
because some employees earn too little to save for their 
retirement on their own. While the 106th Congress is expected 
to address the problems of the social security system, it is 
imperative that this Congress expand and improve the private 
pension system as well.
    Many workers, like federal workers in FERS, are eligible to 
save for their retirement through social security, a defined 
benefit plan, a defined contribution plan, and hopefully 
through personal savings. In general, employers in the private 
sector, however, have moved away from offering defined benefit 
plans, much to the detriment of overall retirement savings. 
Since 1985, the number of defined benefit plans has fallen from 
114,000 to 45,000 last year. The number of defined contribution 
plans, conversely, has tripled over the last twenty years. 
While defined contribution plans have the advantage of being 
highly portable, and are an important source of savings, it is 
also important to remember that defined contribution plans were 
intended to supplement, rather than be a primary source of, 
retirement income.
    In addition, we cannot ignore the fact that women and 
minorities face special challenges in obtaining adequate 
retirement savings. For women, this is directly related to 
employment patterns. Women are more likely to move in and out 
of the workforce to take care of children or parents, work in 
sectors of the economy that have low pension coverage rates, 
and earn only 72 percent of what men earn. Fifty-two percent of 
working women do not have pension coverage, and 75 percent of 
women who work part-time lack coverage. For minorities, lack of 
pension coverage and a lower pension benefit level is often 
related to low wages. While 52 percent of white retirees 
receive an employment-based pension at age 55, only 32 percent 
of Hispanic Americans and 40 percent of African Americans 
receive such pensions.
    While these problems cannot be solved overnight, it is 
necessary for us to make improvements in the pension system 
whenever there is an opportunity. Some argue that the best way 
to help low and moderate income workers is to provide an 
incentive for the highest income to have more of a personal 
investment in the pension plan they control. Others would 
argue, perhaps somewhat unfairly, that this is simply a new 
version of trickle down economics. It certainly raises the 
question as to why some proponents of changes in pension law 
rest so much of their case on their assertion that the Chief 
Executive Officers of America's corporations are so indifferent 
to the future of their loyal employees and their families that 
they need an extra $50,000 of pension income themselves in 
order to consider better benefits for everyone else.
    Speaking for myself, I would give it to them if I thought 
those low and moderate income Americans who have little or no 
employer pension benefits because they barely survive from 
paycheck to paycheck, would also benefit. That case has not 
been made. I would be more comfortable if proposals were being 
brought to me by the pension community that would require an 
increase in benefits for the low and moderate income worker in 
conjunction with increasing benefits for the highest paid, but 
that has not occurred.
    There are, however, many proposals in the major pension 
bills that can be supported by all parties, especially but not 
solely in the area of portability. I look forward to working 
with you, Mr. Chairman, and with the other members of the 
Committee on these proposals.
      

                                


    Chairman Archer. Our first panel today is represented by 
our colleagues--six of our colleagues, and we are pleased to 
have your input to start off this hearing on enhancing 
retirement and health security.
    Mrs. Johnson, would you lead off?

    STATEMENT OF HON. NANCY L. JOHNSON, A REPRESENTATIVE IN 
             CONGRESS FROM THE STATE OF CONNECTICUT

    Mrs. Johnson of Connecticut. Thank you very much, Mr. 
Chairman. I appreciate your holding this hearing on enhancing 
retirement security and health security for all Americans.
    First of all, I think this Committee is uniquely positioned 
to offer the American people a package of reforms that will 
radically enhance retirement security, Social Security reform, 
Medicare reform, and pension reform so that more than 50 
percent of our people can have access to pensions, and long-
term care insurance reform which would radically change 
retirement for Americans in the future. I hope we will get to 
that four-part agenda.
    In starting, I want to talk about health security for all 
of us. Every year, or at least in 1998, the Federal Government 
contributed $111 billion toward tax benefits for people to 
purchase health insurance. Most of that went to the employers 
who purchased health insurance for their employees.
    The employee-provided health insurance system has a unique 
strength. It allows the pooling of insurance costs to lower the 
cost of insurance for the sicker and older individuals in our 
society. In other words, the value of employer-based health 
insurance is much greater than the wage that the single 
employee could receive in the absence of the benefit. It also 
means that the current tax subsidy is more meaningful and 
worthwhile for those who are in poor health or older.
    So the employer system is working extremely well for those 
covered by it, which is about two-thirds of Americans who are 
under 65, but we must do more to make sure that all Americans 
have access to affordable health insurance. Employers find that 
covered employees use fewer sick days, worker morale is higher, 
and worker loyalty is higher.
    It is good business to provide good health benefits to your 
employees. So why doesn't everybody? Well, of course, because 
it is expensive. That is why. And only 28 percent of employers 
with less than 25 workers offer health insurance because it is 
not only expensive in premiums but the overhead is high.
    A recent survey by Hay Huggins showed that small firms with 
fewer than 10 employees carry 35 percent administrative costs 
for health insurance plans, really completely unaffordable.
    There is one thing we can do that we must do now, I hope we 
will do this year, and that is to make the Tax Code fair, to 
treat those who don't get insurance through their employers 
with equity, to allow them the same tax benefit that people who 
receive their health insurance through their employers receive 
today.
    My bill is unique in the history of bills that I have 
proposed in this area and I think in terms of bills on the 
table because it tries to match the benefit that the individual 
uninsured person who is buying his own health insurance on the 
open market gets with the benefit an employee gets in an 
employer-provided plan. So it is far richer.
    It just doesn't look at the tax consequences of wage 
replacement, which is only a very small part of the benefit. It 
looks at the real benefit that a person working for an employer 
who provides health insurance gets and that is health coverage 
at an affordable deductible. So it is very much richer.
    It seeks to provide 60 percent of the cost of health 
insurance, up to $1,200 for the individual and $2,400 for 
couples and families. It would be available for people who 
purchase COBRA as well. It is focused on a credit for the lower 
earners and a deduction for higher earners.
    It is essential to structure any health benefit in that 
way, any tax incentive in that way, because so many without 
health insurance are in the 15-percent bracket where a 
deduction is essentially a very small incentive to purchase. A 
credit really does give them the money to purchase.
    And in my bill we are still working on how to allow them to 
take that credit on a monthly basis so there will be the real 
power to purchase, doing it through income withholding to lower 
the amount of taxes that they pay during the year.
    My bill would create a check off line on the W-2 form to 
remind people that the option is available, and the benefit 
this option would offer them through withholding over the year 
would allow a great majority of those who are uninsured to buy 
insurance.
    Until we provide tax equity for the uninsured, we cannot 
reduce the pool of the uninsured in a way that will allow us to 
get at the ultimate problem which is some amount of subsidy.
    My time has expired so I will just allude briefly to the 
long-term care provisions in my bill.
    We are looking at the cost of Social Security. We are 
looking at the cost of Medicare. We are not looking at the 
costs of long-term care which are going to literally explode 
when the baby-boom generation retires. Already HCFA, the Health 
Care Financing Administration, is spending $40 billion on long-
term care and expects to spend $148 billion by the year 2007, 
which is before the baby boomers start reaching the age when 
they will use long-term care. So I commend the bill that Karen 
Thurman and I have introduced on long-term care to your 
attention.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

Statement of Hon. Nancy L. Johnson, a Representative in Congress from 
the State of Connecticut

    Thank you for calling this hearing today, Mr. Chairman, and 
giving me the opportunity to testify on two issues that I care 
deeply about: health and retirement security. While our tax 
code provides significant benefits in these areas. We must 
improve these benefits if we are to reduce the number of 
uninsured Americans and meet the challenges that we face as the 
number of elderly Americans doubles.
    In 1998, the federal government contributed an estimated 
$111 billion toward tax benefits aimed at the purchase of 
health insurance. The vast majority of these tax breaks went to 
those who held employer-sponsored health insurance. Only $4.3 
billion was in the form of tax deductions taken by individuals 
for out-of-pocket health spending. That leaves $106.7 billion 
devoted to workers who received health insurance through their 
employers--$70.9 billion through the federal income tax and 
$28.2 billion and $7.8 billion in Social Security and Medicare 
taxes, respectively. This employer-based tax break equals 
approximately $1000 for the average family with coverage.
    This favorable tax treatment of employer-based health 
insurance has resulted in the coverage of nearly two-thirds of 
adults under the age of 65. Through group purchasing, it 
spreads the risk of insuring people with varying health needs, 
making insurance costs lower for those who are sicker or older. 
This makes the value of employer-based health insurance much 
greater than the wages that any single employee could receive 
in the absence of the benefit. It also means that the current 
tax subsidy is more meaningful and worthwhile for those with 
poor health.
    Health benefits are consistently ranked as the most 
important employee benefit among workers. In a competitive 
labor market, the promise of health benefits not only makes 
workers more likely to take a job but also more likely to stay 
at a job. In addition, employers offering benefits have found 
that their workers are more productive, through decreased 
number of sick days, improved worker morale, and increased 
loyalty.
    One of the major faults of the employment-based health 
insurance system is that many small employers cannot afford to 
offer health insurance to their workers. Only 28% of employers 
with less than 25 workers offer health insurance, compared with 
over 66% of employers with 500 or more employees. The largest 
reason for small employers not offering health insurance is the 
higher costs they face. Their small size means they cannot 
spread the risk associated with a few unhealthy employees. They 
also face higher administrative costs. A 1998 Hay Huggins 
coverage survey found that overhead costs for firms with few 
than 10 employees exceeded 35%, compared with about 12% for 
firms over 500.
    If we are going to address the problem of uninsured 
Americans, we must help more small employers afford to offer 
health insurance coverage. People working for small businesses 
account for 16% of the under-65 population, but 28% of the 
uninsured. And small businesses provide one of the fastest 
growing employment opportunities.
    The challenge in our voluntary health insurance system is 
to provide equal benefits for people who do not have access to 
employer-sponsored coverage. It is important to preserve the 
current employer-based system because many people prefer 
getting coverage through their job and employer coverage has 
been very successful in covering two-thirds of the workforce. 
As the nature of employment changes, moving to small businesses 
and temporary and contract work, it is necessary that we also 
allow an individually based tax benefit for those who are not 
offered employer-based coverage.
    This is not only a matter of equity in the tax code but 
also a means of addressing the problem of uninsured Americans 
by making health insurance more affordable. Increasing tax 
benefits to individuals would by no means solve the uninsured 
problem, but it would help those who can afford to purchase 
health insurance on their own. If we can isolate this category 
of the uninsured, we will have a better idea of how to approach 
the remaining uninsured, those who need significant assistance 
purchasing health insurance or who lack access to health 
insurance because of their health status. There are many 
reasons that people do not purchase health insurance, so we 
need a multi-faceted approach to solve the problem.
    I am advocating a combination of tax credits and deductions 
for people who purchase their own health insurance. According 
to a Congressional Research analysis of the March 1997 Current 
Population Survey, 52% of the uninsured fall in the 15% tax 
bracket. For the majority of the uninsured, a deduction would 
provide only a 15% discount on the cost of their health 
insurance. A credit, on the other hand, would provide the same 
benefit to all taxpayers. And studies have shown that a 
significant credit is required to encourage people to begin 
purchasing health insurance. Kenneth Thorpe demonstrated in a 
1999 study that a tax credit of $400 would encourage 18% of 
single uninsured workers with incomes at 150% of the federal 
poverty level to participate in a health plan. A credit worth 
double that amount ($800) would raise the participation rate 
among this group to 22%.
    My tax credit proposal, found in H.R. 2020, would offer 
taxpayers a credit worth 60% of the cost of their health 
insurance, up to $1200 for individuals and $2400 for couples 
and families. It would be dedicated to those people who do not 
have access to an employer-sponsored health plan and have 
incomes below $40,000 for individuals and $70,000 for couples 
and families.
    My credit would be available for people who purchase 
individual or COBRA health insurance coverage. Therefore, it 
would have the benefit of increasing the number of people who 
purchase COBRA coverage and lower the costs to businesses of 
providing this coverage. COBRA coverage is costly to businesses 
because the people who tend to buy it are sicker people who 
most need the coverage. Making it more affordable, as my tax 
credit would, has the potential to add more healthy people to 
the pool of people purchasing COBRA.
    Making individual health insurance more affordable would 
also help stimulate the individual health insurance market. 
Currently, only 7-9% of individuals purchase coverage on the 
individual market. My tax credit would create more demand for 
individual insurance and help stimulate the market to come up 
with new products. In addition, we may want to consider other 
health insurance reforms to create broader pooling for 
individual health policies to make them more affordable and 
accessible for people with health care needs.
    Finally, we should develop a tax credit system that makes 
the credits available to people during the year, rather than at 
the end of the tax year. Making the money accessible at the 
time of purchase would help ensure that people can afford the 
coverage. The option that I am examining would allow people to 
increase their income tax withholding to lower the amount of 
taxes that they pay during the year. It would create a check-
off line on the W-2 form to remind people that the option is 
available. The benefit of this option is that people can change 
their withholding form at any time during the year, so they 
could change the withhold when their insured status changes.
    My legislation also would create a tax deduction for 
individuals who pay at least 50% of the cost of their health 
insurance. The deduction would be available for individuals 
whose income is too high to qualify for the health credit or 
who are purchasing group coverage and paying at least 50% of 
the cost. The deduction would enable small employers to offer 
health insurance and take advantage of lower costs through 
pooling, even if they could not contribute a significant 
portion of the cost, knowing that their employees could take a 
deduction for the portion of the cost that they contribute.
    The potential benefit for credits and deductions decreasing 
the number of uninsured is significant. The General Accounting 
Office evaluated a proposal to provide a 30% tax credit and 
found that nearly 40 million non-elderly individuals would have 
been eligible in 1996. The GAO study shows that this approach 
would provide significant assistance to the uninsured--31.9 
million of the eligible individuals were uninsured and would 
have received a tax credit. The Congressional Research Service 
roughly estimated in a 1997 memo that ``allowing taxpayers to 
deduct the full cost of health insurance would increase 
coverage by about 9% for those with a 15% marginal tax rate 
(about 1.4 million adults) and 17% for those with a 28% 
marginal tax rate (about 345,000 adults).'' According to CRS, a 
100% deduction would reduce the number of uninsured by 1.75 
million. Combining a deduction with a credit would, therefore, 
reach a significant number of the uninsured.
    I also want to talk about the issue of long-term care and 
the legislation that I have introduced. Long-term care promises 
to be the most significant health issue of the next century as 
the Baby Boom generation begins to retire and the number of our 
elderly doubles. Medicare and Social Security are two of the 
three government sponsored-programs that are critical to the 
elderly. The other federal program significantly impacted by 
the increasing number of elderly is the Medicaid program 
through its coverage of nursing home care.
    In 1997, Medicaid paid nearly 50% of nursing home care--at 
a cost of $40 billion. Nursing home care averages $50,000 per 
year or $136 per day. The Health Care Financing Administration 
estimates nursing home costs will be $148.3 billion by 2007. If 
Medicaid continues to pay for a significant amount of long-term 
care, this will nearly double Medicaid nursing home costs over 
the next seven years. And this is before the full impact of the 
Baby Boom retirement. Today's 77 million baby boomers start 
turning 85 in 2030. If past trends continue, 20% of those over 
age 85 will need nursing home care.
    How do we deal with these staggering costs? We need to 
encourage people to prepare for the largest threat to their 
retirement security. If we encourage more people to plan ahead, 
we can ensure that we target precious Medicaid dollars to those 
who are truly in need. We began this process in 1996 by passing 
provisions to give greater tax benefits to long-term care 
insurance. But many individuals cannot take advantage of these 
provisions because they do not have health expenses that exceed 
7.5% of their adjusted gross income.
    Congresswoman Karen Thurman and I have introduced the Long-
Term Care and Retirement Security Act of 1999, H.R. 2102, to 
create individual tax incentives for people to meet their long-
term care needs. Our legislation would create an above-the-line 
tax deduction for people who purchase qualified long-term care 
insurance policies, as defined by the Health Insurance 
Portability and Accountability Act of 1996. In effect, people 
would be able to deduct the cost of their long-term care 
insurance policy from their taxable income, eliminating the 
need to meet the 7.5% floor and the requirement to itemize.
    H.R. 2102 would also create a $1000 tax credit for 
caregiving and long-term care services. Family caregivers 
provide a tremendous amount of long-term care services. Their 
role goes far beyond comforting a family member struggling with 
a chronic illness. National studies have demonstrated that 
caregivers provide services estimated to value over $190 
billion annually. Without the assistance of caregivers, more 
people would require institutional care and the public cost of 
long-term care services would increase significantly.
    The other critical problem in the area of long-term care is 
that people are not aware of the need to plan ahead. Seventy-
nine percent of older baby boomers surveyed believe that long-
term care is the greatest risk to their standard of living. 
Despite this concern, people are misinformed about the 
necessity of planning ahead. Several national surveys have 
shown that the majority of people believe that Medicare covers 
long-term care, but it does not. And people are unaware that 
Medicaid qualification requires that they become impoverished.
    H.R. 2102 would address this dire lack of information by 
creating an educational campaign within the Social Security 
Administration targeted toward individuals and employers. The 
legislation would instruct the Social Security Administration 
to provide information to people over 50 as part of their 
existing annual mailing of earnings statements. It would make 
individuals aware of the shortcomings of Medicare and the 
requirement that a person impoverish themself to qualify for 
Medicaid. In addition, it would illustrate the tax benefits 
associated with purchasing long-term care insurance.
    Finally, H.R. 2102 would remove the restrictions placed on 
states in 1993 and encourage more of them to create long-term 
care partnership programs. My legislation would allow people 
who purchase partnership plans to pass along to their children 
in their estates assets equal to 75% of the value of their 
partnership plan. State long-term care partnership programs are 
important because they make long-term care insurance affordable 
for low and middle-income people. By encouraging more people to 
purchase partnership plans, we ensure that people will have 
some private coverage of their long-term care expenses before 
qualifying for Medicaid. Connecticut was the first state to 
form an long-term care partnership, and our experience has been 
that one-third of the people who purchase the policies say that 
they would have disposed of their assets to qualify for 
Medicaid in the absence of a partnership program. As a result, 
the availability of partnership programs helps ensure that 
people use private long-term care insurance before applying for 
the Medicaid program. Most importantly, partnerships are a 
means to help us avoid some of the Medicaid financing of long-
term care expenses, the fastest growing aspect of Medicaid 
spending.
    We need to help Americans protect themselves and their 
hard-earned retirement savings from the catastrophic costs of 
long-term care. The Long-Term Care and Retirement Security Act 
of 1999 would strengthen current law in this area.
      

                                


    Chairman Archer. Thank you, Mrs. Johnson.
    Our next witness is another Member of the Committee, the 
gentleman from California, Mr. Stark.
    Mr. Stark, we will be pleased to hear your testimony.

   STATEMENT OF HON. FORTNEY PETE STARK, A REPRESENTATIVE IN 
             CONGRESS FROM THE STATE OF CALIFORNIA

    Mr. Stark. Thank you, Mr. Chairman.
    I was interested to hear Mrs. Johnson's testimony. This is 
an attempt at bipartisanship. Most of what I am about to 
present to the Committee is a result of several months of labor 
with Republican leadership to attempt to come to an agreement 
that would bring some health care benefits to all Americans in 
a bipartisan manner. We were unable to reach complete closure, 
but I will tell you where we agreed and disagreed as I finish.
    The biggest problem facing America today is the one in six 
citizens with no health insurance, as we learned yesterday. My 
first choice to solve this problem would still be an expansion 
of Medicare to everyone, and my second choice would be 
Congressman McDermott's single-payer system, but those efforts 
are not likely to succeed in a conservative or closely divided 
Congress.
    I have just introduced legislation to try another approach, 
basically the Republican approach, a refundable tax credit 
which I believe could be made to work and which is similar to a 
number of bills already introduced by various Republicans and 
by Congressman McDermott.
    Unfortunately, almost all the current tax bills don't work. 
The tax deductions for uninsured workers do nothing for the 
great number of uninsured in the zero to 15 percent brackets. 
Other bills provide a pitiful amount of money that wouldn't buy 
a decent policy. The biggest problem with the tax credit bills 
is that they waste money by providing basically no wholesale 
market. They force people into the retail market where they are 
subject to the whims of the insurance companies who take 20 or 
30 percent off the top, as Mrs. Johnson said, and they refuse 
to insure the sick and raise rates on older people, so the 
credit eventually becomes inadequate.
    Tax credits to buy insurance without insurance reform are a 
waste, and that is exactly where the leadership--your 
leadership, Mr. Chairman, and I could not come to an agreement. 
We both agreed that there has to be some standard on the 
insurance product so you are not letting people throw their tax 
credit away on something that won't work or provide a windfall 
to the insurance industry. We couldn't find that solution yet.
    But those failures could be addressed. The Health Insurance 
for Americans Act that I have introduced provides a refundable 
tax credit of $1,200 per adult, $600 per child, an aggregate of 
$3,600 per family, which is exactly what we get in subsidy for 
our Federal Employee Health Benefit. We get about $3,600 for a 
family plan, and we have to kick in about $1,200 out of our 
paycheck. This would buy that equivalent of insurance.
    The credit is available to everyone who is not 
participating in a subsidized health plan or eligible for 
Medicare. The credit could only be used to buy qualified health 
insurance, which is defined to be private insurance sold 
through a new Office of Health Insurance in the same general 
manner that the Federal employees buy guaranteed-issue, 
community-rated FEHBP health insurance through the OPM.
    A refundable tax credit sounds like an easy idea, but there 
are some serious problems, and I address those in my written 
statement. There are two I would like to discuss.
    First, how do you limit the credit to those who are 
uninsured and avoid employers substituting the credit for their 
current coverage? If you limit the size of the credit, most 
people will want to continue their current coverage. Still, 
there is no question that this credit is likely to erode 
gradually the employer-based system. Is that bad?
    It is, frankly, probably good that this system would 
gradually erode if there is something to replace it. My bill 
provides that replacement. To the extent that workers today 
have better health care through their employer, their employer 
can continue to provide increased pay for the purchase of 
supplemental health benefits so that both the workers and the 
employers come out ahead.
    The evidence shows us that employers are cutting back on 
benefits every day anyway, and this would be a replacement for 
those who lose it.
    The bill I am introducing does not force an overnight 
revolution, but the current system is dying, and this provides 
a transition.
    There is one monstrous question left: How to pay for it. I 
haven't addressed this issue in my bill but am willing to offer 
a number of options, and I might say the Republican leadership 
was willing to leave this unaddressed in the bill we had worked 
on cooperatively.
    I would like to see the temporary budget surpluses used to 
start the program, but you need a permanent source of 
financing. The fairest way to finance it would be a tax on the 
businesses which do not provide an equivalent amount of 
insurance to their workers. Since many small businesses 
couldn't afford it, we would have to subsidize them.
    Another approach would be that the next minimum wage 
increase would be dedicated to the payment of health insurance 
premiums by those firms who don't offer insurance. In other 
words, a buck an hour is $2,000 a year. That would cover most 
of the cost of employees if the company doesn't have health 
insurance. So the companies who do offer health insurance would 
have a lower minimum wage or there would be a dollar minimum. 
That could pay for it.
    Other sources would be a provider insurance surtax since 
those groups would benefit and no longer have to subsidize the 
uninsured. And, finally, a small national sales tax dedicated 
to health care could work if the public, in fact, was convinced 
that this would insure them.
    I have said that the earlier tax deduction and tax credit 
proposals have serious structural problems. The biggest problem 
is not seeing how they will pay for themselves. Until we are 
ready to agree on how to pay for them, the plans that are 
offered signify nothing. It is time for us to join the rest of 
the world, Mr. Chairman, and insure all of our residents; and 
this is an attempt to find a bipartisan common ground that will 
do that.
    Thank you.
    [The prepared statement follows:]

Statement of Hon. Fortney Pete Stark, a Representative in Congress from 
the State of California

    Mr. Chairman, Colleagues:
    The biggest social problem facing America today is that one 
in six of our fellow citizens have no health insurance and are 
all too often unable to afford health care.
    About 44 million Americans have no health insurance. 
Despite the unprecedented good economic times, the number of 
uninsured is rising about 100,000 a month. It is unimaginable 
what will happen when the economy slows and turns down. One 
health research group, the National Coalition on Health Care, 
has estimated that with rising health insurance costs and an 
economic downturn, the number of uninsured in the year 2009 
would be about 61.4 million.
    The level of un-insurance among some groups is even higher. 
For example, in California it is estimated that nearly 40% of 
the Hispanic community is uninsured.
    An article by Robert Kuttner in the January 14, 1999 New 
England Journal of Medicine entitled ``The American Health Care 
System,'' describes the problem well:

          ``The most prominent feature of American health insurance 
        coverage is its slow erosion, even as the government seeks to 
        plug the gaps in coverage through such new programs as 
        Medicare+Choice, the Health Insurance Portability and 
        Accountability Act (HIPAA), expansions of state Medicaid 
        programs, and the $24 billion Children's Health Insurance 
        Program of 1997. Despite these efforts, the proportion of 
        Americans without insurance increased from 14.2% in 1995 to 
        15.3% in 1996 and to 16.1% in 1997, when 43.4 million people 
        were uninsured. Not as well appreciated is the fact that the 
        number of people who are under-insured, and thus must either 
        pay out of pocket or forgo medical care, is growing even 
        faster.''

    Does it matter whether people have health insurance? Of 
course it does. No health insurance all too often means 
important health care foregone, with a minor sickness turning 
into a major, expensive illness, or a warning sign ignored 
until it is fatal. Lack of insurance is a major cause of 
personal bankruptcy. It has forced us to develop a crazy, Rube 
Goldberg system of cross-subsidies to keep the `safety net' 
hospital providers afloat.
    Mr. Chairman, what is wrong with us? No other modern, 
industrialized nation fails to insure all its people. I don't 
believe we are incompetent, but our failure to provide basic 
health insurance to all our citizens is a national disgrace.
    Personally, my first choice to solve this problem would be 
an expansion of Medicare to everyone. My second choice would be 
Rep. McDermott's single payer type program, which is modeled on 
Canada's success in insuring all its people for about 30% less 
than we spend to insure only 84% of our citizens.
    But these efforts are not likely to succeed in a 
conservative Congress or in a closely-divided Congress.
    Therefore, I have just introduced legislation to try 
another approach--a refundable tax credit approach--which I 
believe can be made to work and which is similar to a number of 
bills recently introduced by various Republican members and by 
Rep. McDermott.
    Unfortunately, almost all tax bills simply do not work.
    Some tax bills throw money at people who already have 
health insurance (e.g., 100% tax deductions for health 
insurance for small employers). Others try to solve the problem 
of lack of insurance by increasing the deduction for uninsured 
workers. The fact is, uninsured workers are overwhelming lower 
income workers, and they either pay no tax--so have nothing to 
deduct--or they are in the 15% bracket, so the deduction does 
little to help them with the heart of the problem: health 
insurance is expensive. I would like to enter in the Record a 
study by the GAO which documents, by income category, who the 
uninsured are and why tax deductions do little or nothing to 
help them.
    Other bills provide a pitiful amount of money that wouldn't 
buy a a decent policy. For example, Rep. Shadegg proposes a 
$500 credit, leaving an impossible amount to be financed by the 
average, working, low-income family.
    The biggest problem with all these tax credit bills is that 
if they do provide enough money (such as Rep. Norwood's 
refundable credit of $3600 a family--HR 1136), they waste it by 
providing no `pool' or `wholesale' market and forcing people 
into the retail market where insurance companies take 20 to 30% 
off the top, refuse to insure the sick, and raise rates on 
older people so that for people who really need insurance, the 
credit is woefully inadequate. I would like to include in the 
Record examples of what health insurance policies cost in the 
Washington, DC area for different types of individuals.\1\ You 
will note that the sicker and older you are, the less likely a 
credit will be of any help.
---------------------------------------------------------------------------
    \1\ Excellent documentation of this point is also included in a 
Kaiser Family Foundation study by Chollet & Kirk, March, 1998, 
entitled, ``Understanding Individual Health Insurance Markets: 
Structure, Practices, and Products in Ten States.''
---------------------------------------------------------------------------
    To repeat, tax credits to buy insurance, without insurance 
reform, are a waste, will only help the easy-to-insure, and 
provide a windfall to the insurance industry.
    These failures can be addressed. I think my proposal solves 
many of these problems. The idea of a tax credit approach to 
ending the national disgrace of un-insurance is a new one, 
however, and we desperately need a series of detailed, 
thoughtful hearings to design a program that will provide real 
help and not waste scarce resources on middlemen.
    The Health Insurance for Americans Act I have introduced
    --provides in 2001 and thereafter a refundable tax credit 
of $1200 per adult, $600 per child, and $3600 total per family. 
These amounts are adjusted for inflation at the same rate that 
the Federal government's plan for its employees (FEHBP) 
increases.
    --the credit is available to everyone who is not 
participating in a subsidized health plan or eligible for 
Medicare.
    --the credit may only be used to buy ``qualified'' health 
insurance, which is defined to be private insurance sold 
through a new HHS Office of Health Insurance (OHI) in the same 
general manner that Federal employees ``buy'' health insurance 
through the Office of Personnel Management.
    --any insurer who wants to sell to Federal workers through 
FEHBP must also offer to sell one or more policies through OHI. 
OHI will hold an annual open enrollment period (similar to 
FEHBP's fall open enrollment) and insurers must sell a policy 
similar to that which they offer to Federal workers (but may 
also offer a zero premium policy), for which there is no-pre-
existing condition exclusion or waiting period, for which the 
premium and quality may be negotiated between the carrier and 
OHI, and which must be community-rated (i.e., it won't rise in 
price as individuals age).
    Mr. Chairman, a refundable tax credit sounds like an easy 
idea, but as in all things in America's $1.1 trillion health 
care system, there are some serious problems that have to be 
addressed.
    The major problems with a refundable credit are 1) how to 
get the money to the uninsured in advance, so that the 
uninsured, who tend to be lower income, can buy a policy 
without waiting for a refundable credit?
    2) how to make sure that the credit is spent on health 
insurance and there is no tax fraud?
    I solve both of these problems through credit advances to 
insurers administered through OHI.
    3) how to limit the credit to those who are uninsured, and 
avoid encouraging employers and those buying private insurance 
on their own from substituting the credit for their current 
coverage?
    By limiting the size of the credit, most people who have 
insurance through the workplace or are participating in public 
programs will want to continue with their current coverage. The 
credit is adequate to ensure a good health insurance plan, but 
most workers and employers will want to continue with the 
current system. New Employee Benefit Research Institute data 
shows that the great majority of insured Americans like their 
employer-based system and want to continue it.
    Having said this, there is no question that this credit is 
likely to erode gradually the employer-based system. It is hard 
to see employers wanting to offer new employees a health plan, 
when they can use this new public plan. Indeed, it is likely 
that an employer will say,

          ``I will pay you more in salary if you will go use the tax 
        credit program, you can use some of the extra salary to buy a 
        better policy, or a supplemental policy, and we will both come 
        out ahead.''

    But is this bad? The employer-based health insurance system 
is an historical accident of wage controls during World War II 
where in lieu of higher wages, people were able to get health 
insurance as a fringe benefit. This system is collapsing. No 
one today would ever design from scratch such a system where 
your family's health care depended on where you worked. It is, 
frankly, probably good that this system would gradually erode--
if there is something to replace it. The Health Insurance for 
Americans Act provides that replacement. To the extent that 
workers have better health care through their employer, the 
employer can continue to provide increased pay for the purchase 
of ``supplemental'' or ``wrap-around'' health benefits and can 
even help arrange such additional policies for their workers-
and both workers and employers come out ahead.
    The bill I am introducing does not force an over-night 
revolution in the employer-provided system. But the current 
system is dying, and my bill provides a transition to a new 
system in which employees will have individual choice of a wide 
range of insurers (instead of today's reality, where most 
employees are offered one plan and only one plan).
    Some Members are discussing ending the tax preferences for 
employer-provided health care, either by ending the deduction 
to employers or adding the value of the policy to the income of 
the workers. That would be a revolution. It would very quickly 
end the employer-provided system. And I don't think Americans 
like revolutions on something as important as their family's 
healthcare.
    To repeat, the employer-based health care system is dying. 
The next recession will push it over the edge. It would be wise 
to build this refundable tax credit system now, so that people 
have someplace to go as the system deteriorates. But the public 
opinion polling is very strong: don't legislate the overnight 
termination of the current system.
    4) another key question is how to make the credit effective 
by allowing the individual to buy ``wholesale'' or at group 
rates, rather than ``retail'' or individual rates?
    5) how to make sure that individuals who most need health 
insurance--those who have been sick--are able to use the credit 
to obtain affordable insurance?
    6) how to minimize the problem created when the healthiest 
individuals take their credit and buy policies which are 
``good'' for them (e.g., Medical Savings Accounts), but ``bad'' 
for society because they leave the sicker in a smaller, more 
expensive insurance pool (that is, how do we keep the insurance 
pool as large as possible and avoid segmentation and an 
`insurance death' spiral)?
    Again, the OHI/FEHBP idea largely solves these 3 problems, 
by giving individuals a forum where they can comparison shop 
for a variety of plans that meet the standards of the OHI and 
achieve efficiencies of scale and reduced overhead.
    These questions are the single biggest problem facing the 
refundable credit proposal. Even if we are able to `pool' the 
individuals, will insurers offer an affordable policy to a 
group which they may fear will have a disproportionate number 
of very sick individuals? I think that fear is unfounded. Most 
uninsured are young and healthy, but we do not know for sure 
how the private insurers will respond.
    We may need to develop a national risk pool `outlet' to 
take the expensive risks and subsidize them in a separate pool, 
so that the cost of premiums for most of the people using OHI 
is affordable. Another alternative, and probably the one that 
makes the most sense for society, is to mandate that 
individuals participate in the OHI pool (if they don't have 
similar levels of insurance elsewhere). Only by getting 
everyone to participate can we ensure a decent price by 
spreading the risk. The danger that young, healthy individuals 
will ignore (forego) the tax credit program may be serious 
enough that it will cause insurers to price the OHI policies 
too high, thus starting an insurance ``death spiral'' as 
healthier people refuse to participate and rates start rising 
to cover the costs of the shrinking pool of sicker-than-average 
individuals.\2\
---------------------------------------------------------------------------
    \2\ These are extremely important technical questions. As the July 
1999 EBRI Issue Brief will say,
    Issues such as adverse selection, ``crowd-out'' of private 
insurance by public insurance, or substitution of individual coverage 
for group coverage are inherent to the current voluntary employment-
based health insurance system, and will not be resolved by incremental 
changes made to improve this system. For example, young and healthy 
individuals are more likely than older unhealthy individuals to opt out 
of the employment-based system under certain circumstances. As long as 
the purpose of insurance continues to be the spreading of risk across 
higher-risk and lower-risk individuals, attempts to augment or replace 
the employment-based health insurance system may have unintended side 
effects that do not benefit the majority of the U.S. population.
---------------------------------------------------------------------------
    As I said earlier, previous tax credit proposals fail to 
deal with these key questions and problems. But all the bills 
have helped focus us on this national crisis. Through hearings 
and studies, I hope we can find ways to ensure that these 
technical--but very important questions--are addressed.
    There is one key, monstrous question left: how to pay for 
the refundable credit so we may end the national disgrace of 44 
million uninsured?
    I have not addressed this issue in my bill, but am willing 
to offer a number of options. I would like to see the temporary 
budget surpluses used to start this program--but those 
surpluses are temporary and we need a permanent financing 
source.
    The problem of the uninsured is largely due to the fact 
that many businesses refuse or are unable to provide health 
insurance to their workers. The fairest way to finance this 
program would be a tax on businesses which do not provide an 
equivalent amount of insurance to their workers. Such a tax, of 
course, would slow the tendency of this program to encourage 
businesses to drop coverage. Since many small businesses could 
not afford the tax, we will need to subsidize them.
    Another approach would be to apply the next minimum wage 
increase to the payment of health insurance premiums by those 
firms which do not offer insurance. A 50 cent per hour minimum 
wage increase dedicated to health insurance would pay most of 
an individual's premium.
    Other financing sources could be a provider and insurer 
surtax, since these groups will no longer need to subsidize the 
uninsured and will be receiving tens of billions in additional 
income.
    Finally, to end the national disgrace of un-insurance, a 
small national sales or VAT tax would be in order. If we worked 
together, we could explain and justify a `national health tax' 
to ensure every American decent private health insurance 
regardless of their work status.
    Again, Mr. Chairman, I have said that the earlier tax 
deduction and tax credit proposals have serious structural 
problems. The biggest problem they have is not saying how they 
will pay for themselves. Until Members talk about financing, 
all of these plans are sound and fury, signifying nothing.
    These tax credit bills are obviously expensive, but so is 
the cost of 1 in 6 Americans being uninsured. In deaths, 
increased disability and morbidity, and more expensive use of 
emergency rooms, American society pays for the uninsured. If we 
could end the national disgrace of un-insurance, we would save 
billions in improved productivity, reduced provider costs, bad 
debt, personal bankruptcy, and disproportionate share hospital 
payments.
    Mr Chairman, it is time for America to join the rest of the 
civilized world and provide health insurance for all its 
citizens.
      

                                


    Chairman Archer. Thank you, Mr. Stark.
    Our next witness is Rob Portman.
    Mr. Portman, we would be happy to hear your testimony.

  STATEMENT OF HON. ROB PORTMAN, A REPRESENTATIVE IN CONGRESS 
                     FROM THE STATE OF OHIO

    Mr. Portman. Thank you, Mr. Chairman. It is a delight to be 
here.
    Since this is a hearing in part about retirement security, 
I would like to start by commending you and Chairman Shaw for 
the fine work you have done on the Social Security front and 
the sound proposal that you have given this Committee to 
strengthen the Social Security system.
    But as you are well aware, Mr. Chairman, I also strongly 
believe that this panel should complement that by moving this 
year to significantly increase the availability of retirement 
security for all Americans by strengthening our private 
employer-based pension system. I think it is a great 
opportunity for us, as Mrs. Johnson mentioned earlier.
    This is a critical issue for all Americans, particularly 
the 76 million baby boomers approaching retirement age. That is 
why over the past 2 years we have been working hard on putting 
together a comprehensive set of changes to improve our pension 
system from top to bottom. My partner in this has been my 
colleague, Ben Cardin, who will address the Committee in a 
moment, but we have also worked with many other Members of this 
Committee--Mrs. Johnson, Mr. Weller, Ms. Dunn, Mr. Tanner, and 
others, even some from our other distinguished Committees like 
Mr. Pomeroy, who is also here today to talk about retirement 
security.
    We have done it in a comprehensive way because we believe 
that is the way to build on the pension expansion and 
simplification measures that this Committee has taken the lead 
on in the past, including the SIMPLE, Savings Incentive Match 
Plan for Employees, plan for small businesses.
    I am delighted to say, Mr. Chairman, as of today it is a 
bipartisan group of about 26 Ways and Means Members who have 
cosponsored H.R. 1102, over 90 members in total, an influential 
group, Mr. Chairman; and I ask my colleagues if they would take 
a look at a few charts regarding retirement security that will 
outline the problem that I think Ben is going to have an 
opportunity to go into in some more detail on some of our 
provisions.
    The first simply makes the point that the retirement stool, 
which is the so-called three-legged stool, is very much 
supported by employer-based pensions already. Employer-based 
pensions are along with Social Security and private savings, 
absolutely essential to the retirement security of our 
constituents. This includes, of course, not just the 
traditional defined benefit plans, but when we talk about 
pensions, we are talking about all retirement plans that are 
employer-sponsored, including 401(k)s, 457, 403(b)s, and other 
arrangements.
    The second chart shows that although it is a very important 
part of our retirement system in this country, we have a crisis 
in pensions. Only half of American workers are covered. It 
means about 60 million Americans have no pensions whatsoever. 
That chart is interesting because it shows that since 1983 we 
have made virtually no progress. It has been flat. Forty-eight 
percent of workers were covered in 1983. That chart says, in 
1993, about 50 percent. Unfortunately, that is about the number 
it is today. It has remained flat despite the need for more 
retirement security as a backstop to Social Security.
    It is even worse than that when you look at what small 
businesses offer in terms of retirement security to their 
workers. That chart will show you, at the bottom end toward the 
left, that those small companies, that is, companies with 25 or 
fewer employees where, frankly, most of the new employment is 
occurring, are growing the fastest in terms of adding new 
workers, yet only 19 percent offer anything, even a SIMPLE 
plan, a SEP, self-employed plan, or a 401(k). It is even worse 
than the fact that only half of American workers are covered. 
Those in small businesses have very little chance of having a 
pension at all.
    The next chart gets, Mr. Chairman, to the point that you 
made early on, which is that our personal savings rate in this 
country is at a dangerously low level. You talked about this in 
the context of tax reform in the past, that we ought to focus 
on our tax reform proposal this year on trying to increase 
that.
    Foreigners, frankly, are propping up a lot of our savings 
today, and there is a concern that some of that capital may 
leave this country at some point. And for capital formation, 
for investment, for the economic future of this country, we 
have got to increase our savings rate. This chart simply makes 
obvious the fact that we are back down to the rates we had 
during the Great Depression.
    The next chart shows that with regard to distribution of 
pension benefits, most pension recipients are middle-income 
Americans. A pension, in fact, makes the difference between 
retirement subsistence, mere subsistence, and retirement 
security for millions of Americans.
    I wish you could see that chart better, but the bottom line 
is the folks who are currently receiving benefits are primarily 
in the middle-income category. In fact, if you look at the 
right side of that chart, over 75 percent of workers 
participating in pension plans make less than $50,000 a year.
    With regard to folks who are participating in pensions, 
again this is something that is focused on middle-income 
Americans; 77 percent of current pension participants are 
either middle- or low-income workers. The Portman-Cardin plan, 
again Ben is going to go into more detail on that, basically 
says, let's make it less costly and burdensome for employers to 
establish these new pension plans. The government ought to be 
in the business of encouraging pensions, not discouraging them.
    We also ought to modernize the pension laws to address the 
needs of the 21st century work force, and this is where Earl 
Pomeroy has played a big role in helping us with regard to 
portability.
    The bottom line, Mr. Chairman, is that we strongly believe 
that we ought to preserve our public Social Security system. I 
want to work with you toward that end, but we need to do more. 
Imagine the impact we could have--this panel could have--by 
expanding on the private side so that every American worker 
would have access to a 401(k) or some kind of a pension plan. 
It is a tremendous opportunity, and I urge us to seize it this 
year.
    [The prepared statement follows:]

Statement of Hon. Rob Portman, a Representative in Congress from the 
State of Ohio

    Thank you, Mr. Chairman, for allowing me to testify here 
today. I would like to take this opportunity to commend you and 
Chairman Shaw publicly for your leadership on increasing 
retirement security by strengthening our public Social Security 
system.
    In addition to taking steps to save Social Security, I feel 
strongly that this panel should take steps this year to 
significantly increase the availability of secure retirement 
savings generally--primarily by strengthening our private, 
employer-based pension system.
    This is a critical issue for all Americans--not just for 
current retirees or those 76 million Baby Boomers who are 
nearing retirement age--but also for those young people whose 
ability to enjoy a comfortable retirement in the future will 
depend on the policy approaches we adopt today.
    That's why my Ways and Means colleague from Maryland, Mr. 
Cardin, and I have been working on comprehensive reforms to our 
pension system over the past two years. This year, we have 
introduced H.R. 1102--the Comprehensive Retirement Security and 
Pension Reform Act. It builds on the pension expansion and 
simplification measures this committee has taken the lead on in 
the past--including provisions in the Small Business Jobs 
Protection Act of 1996 that took steps to expand retirement 
plan options for small businesses by establishing the SIMPLE 
plan. And it incorporates pension reform proposals that have 
been put forward by a number of Members of this panel.
    H.R. 1102 will increase retirement security for millions of 
Americans by strengthening that ``third leg'' of retirement 
security--our pension system--including traditional defined 
benefit plans as well as defined contribution plans like 
401(k), 403(b) and 457 arrangements. And it will help those 
Americans who need it most--in fact, 77% of current pension 
participants are middle and lower income workers.
    H.R. 1102 is designed to reverse some disturbing trends in 
our pension system.
     Right now, only half of all workers have a pension 
plan. That means about 60 million Americans don't have access 
to one of the key components to a comfortable retirement.
     And, far fewer than half of employees who work for 
small businesses have access to a pension plan. Today, only 19% 
of small businesses with less than 25 employees offer any kind 
of pension plan. Why? Over the years, the pension laws have 
become so complicated and so costly to set up and administer 
that many small businesses simply can't afford to offer them.
     And, not enough workers have pension coverage at 
the same time that overall savings is dangerously low. In fact, 
the personal savings rate in this country--the amount of money 
people save for retirement and other needs--is at its lowest 
rate since 1933. For economists who are looking beyond our 
immediate apparent economic prosperity as a country, this is 
the most troubling statistic out there.
    Simply put, the Portman-Cardin legislation lets workers 
save more for retirement. We make it easier for employers to 
establish new pension plans or improve existing ones. And, we 
modernize pension laws to address the needs of a changing, 21st 
Century workforce.
    Let me highlight a few of the key provisions.
    Increased Contribution Limits: Over the last 20 years, 
Congress has lowered the annual dollar limits on contributions 
workers can make and benefits they can accrue. These 
restrictions have been an obstacle to adequate private pension 
savings. Portman-Cardin substantially increases the limits for 
alltypes of plans and repeals the current 25% of compensation 
limit on contributions to defined contribution plans--our 
proposal generally restores these limits to 1982 levels.
    Catch-up Contributions: Portman-Cardin increases the limits 
on all employee contributions to all plans by an additional 
$5,000 for workers 50 and older so that they can ``catch-up'' 
for years when they weren't employed, didn't contribute to 
their plan or otherwise weren't able to save. We know from 
research that many Baby Boomers who are now approaching 
retirement age have not saved adequately for their retirement. 
In particular, this catch-up provision will benefit women who 
have returned to the workforce after taking time away to raise 
families.
    Increased Portability: We're told that the average worker 
in the next century will hold nine jobs by the age of 32, and 
workers typically do not stay in any job for more than five 
years until age 40. Portman-Cardin reflects the needs of an 
increasingly mobile workforce. HR 1102 includes ``portability'' 
provisions to allow workers who are changing jobs to roll over 
retirement savings between 401(k)s, 403(b)s and 457s.
    Faster Vesting: Under current law, many employees do not 
become fully vested in a pension plan until they have been with 
an employer for 5 years. Portman-Cardin would lower the vesting 
requirement for matching contributions to 3 years.
    Cutting Pension Red Tape: he increasing complexity of the 
laws governing pensions--both in the private sector and in the 
non-profit and government sectors--has discouraged the growth 
of pension plans. In fact, for many small businesses in 
particular, the costs and liabilities associated with pension 
plans have made it too expensive for many companies to offer 
plans. Larger companies, state and local governments and non-
profits have too often been discouraged from improving existing 
plans because the rules are so complicated and costly. Portman-
Cardin takes steps to cut the unnecessary red tape that has put 
a stranglehold on our pension system.
    We now have more than 90 bipartisan cosponsors and more 
than 60 endorsing organizations from across the ideological 
spectrum--from the U.S. Chamber of Commerce and the NFIB to 
labor organizations like AFSCME and the Building and 
Construction Trades Department of the AFL-CIO.
    I commend Chairman Archer and this entire panel for taking 
a leadership role on preserving our public Social Security 
system. But imagine the impact we would have on our national 
savings rate and overall retirement security if we could give 
every American worker access to a 401(k) or another kind of 
pension plan. This is a tremendous opportunity that I urge this 
panel to seize this year.
[GRAPHIC] [TIFF OMITTED] T0332.028

[GRAPHIC] [TIFF OMITTED] T0332.029

[GRAPHIC] [TIFF OMITTED] T0332.030

[GRAPHIC] [TIFF OMITTED] T0332.031

[GRAPHIC] [TIFF OMITTED] T0332.032

[GRAPHIC] [TIFF OMITTED] T0332.033

[GRAPHIC] [TIFF OMITTED] T0332.034

      

                                


    Chairman Archer. Thank you, Mr. Portman.
    Mr. Cardin, since your name was mentioned, we would be 
happy to receive your testimony.

   STATEMENT OF HON. BENJAMIN L. CARDIN, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF MARYLAND

    Mr. Cardin. Thank you, Mr. Chairman.
    Let me ask unanimous consent that my full statement be 
included in the record.
    Chairman Archer. Without objection.
    Mr. Cardin. Thank you for this opportunity and for holding 
these hearings. I think they are extremely important, as your 
opening statement pointed out.
    I want to thank Mr. Portman for the work he has done on the 
bill that we have filed.
    The debate over retirement security is desperately needed 
in this country. As you have pointed out, our savings ratios as 
a nation are deplorable. Economic trends look good. Budget 
deficits are over. We have got surpluses in the future. 
Unemployment rates are low. Interest rates are low. But the 
savings rates of this Nation as we compare ourselves to any of 
the nations that we like to compare ourselves to is too low. We 
need to do something about it.
    As important as Social Security is--and I do hope that we, 
like you, address the problems of Social Security this year. 
This is the year we should do it. But Social Security alone 
will not be enough. Social Security was never intended to be 
the sole income source for retired Americans. We must 
supplement that with modern, private pension plans.
    That is why Rob Portman and I introduced H.R. 1102, the 
Comprehensive Retirement Security and Pension Reform Act. It is 
rebuilding our Nation's private pension system.
    We use the term ``rebuilding'' because we go back and 
correct some of the mistakes that we have made over the last 2 
decades in pension changes that we have made that have reduced 
the opportunity of Americans to put money away and have made it 
more complicated.
    We have listened to the concerns from Americans across our 
entire country, and we have included provisions to strengthen 
and expand saving opportunities for Americans who work for 
small businesses, large businesses, State and local government, 
and nonprofit organizations.
    First, we increase the limits on retirement savings to 
allow Americans to put more away. We do that for defined 
contribution plans, defined benefit plans and qualified 
compensation. We make it easier for young people to establish 
retirement plans. We take the model that Mr. Thomas and Senator 
Roth used for IRAs and use that for 401(k)s and 403(b) plans. 
We increase the opportunity of Americans to put their plans 
together through portability, recognizing the realities of the 
current labor market by allowing portability between 401(k)s, 
403(b)s, and 457 plans.
    As Mr. Portman pointed out, we simplify dramatically our 
pension laws for both large companies and small companies. We 
remove many of the restrictions on the multiemployer plans that 
discriminate against workers for large companies and unionized 
members, and we also deal with small businesses by eliminating 
some and reforming many of the tests, including the top-heavy 
rules are reformed. We think that will go a long way to make 
pension plans more available to the American public.
    Mr. Chairman, there are many provisions in the Portman-
Cardin legislation. We have tried to listen to all of the 
different interest groups and respond in a reasonable way, but 
we have tried to avoid any of the major controversial areas so 
that we could work in a bipartisan way to get legislation 
enacted this year. And we would urge the Committee in whatever 
vehicle moves through this Congress on the Tax Code that we 
help Americans take care of their needs when they retire and 
include the provisions that are in the Portman-Cardin 
legislation.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

Statement of Hon. Benjamin L. Cardin, a Representative in Congress from 
the State of Maryland

    Mr. Chairman, I am pleased to appear this morning to 
testify before the most distinguished committee of the United 
States Congress.
    Let me start by commending you for holding this hearing and 
to examine new proposals to strengthen our nation's private 
pension and retirement savings system. I am especially pleased 
to be here with such a distinguished panel of witnesses, 
including my good friend and partner in the enterprise of 
pension reform, our colleague Rob Portman.
    The debate over retirement security has attained new 
significance in the past few years. As the ``baby boom'' 
generation approaches retirement, the need to help this 
generation and future generations of Americans live comfortably 
in retirement has gained greater prominence as a legislative 
priority.
    One indication of this need, of course, has been the on-
going national debate over the future of the Social Security 
system. We must all make every effort to make sure that Social 
Security, the most successful social program in our nation's 
history, will continue to be there for current and future 
retirees. I am committed to working with you, Mr. Chairman, and 
with every member of this committee, and with the President, to 
achieve this vital goal.
    As important as Social Security is, however, it is not 
enough. Social Security was never intended by itself to provide 
an adequate standard of living for retired Americans, and it 
cannot fill that role now.
    That is why Rob Portman and I have introduced H.R. 1102, 
the Comprehensive Retirement Security and Pension Reform Act. 
This legislation takes the next step, in a process that began 
with pension reforms enacted over the past three years, in 
rebuilding our nation's private pension system.
    I use the term ``rebuilding'' because in many respects, 
H.R. 1102 simply restores the pension law to what it was a 
decade or two ago. For over a decade, beginning in the early 
1980's, our federal pension policies suffered from a severe 
disconnect between rhetoric and action. While we acknowledged 
the economic advantages of private retirement savings, and 
exhorted Americans to save more, we frequently passed 
legislation that imposed obstacles to the achievement of those 
goals.
    The distressing results are before us in the most recent 
savings statistics. Across the spectrum, the domestic economic 
news is encouraging. Unemployment is low, inflation is low, 
productivity is high, family income is up, economic growth is 
strong. Yet private savings has continued to drop, and now 
stands at the lowest rate since before the creation of Social 
Security.
    H.R. 1102 says we can do better. The bill proposes a number 
of changes that will expand employer-sponsored retirement 
savings opportunities for millions of American workers. In 
developing the bill, we have listened to the concerns from 
Americans across our entire country, from every sector of the 
economy. We have included provisions to strengthen and expand 
savings opportunities for Americans who work for small 
businesses, large businesses, state and local governments, and 
non-profit organizations. We have listened to the concerns of 
public school teachers, plan administrators for Fortune 100 
companies, women and men who own small businesses, and 
representatives of organized labor. We have included specific 
reforms that benefit Americans who participate in multi-
employer pension plans. We have included proposals that will 
strengthen defined contribution plans and defined benefit 
plans, as well as IRAs, 401(k) plans, 403(b) arrangements, or 
457 plans.
    In short, Mr. Chairman, the message of H.R. 1102 is we want 
Americans to save more, and we are determined to help provide 
incentives that will allow and encourage them to do so.
    Let me mention a few of the major initiatives included in 
the bill. Perhaps the heart of the bill is the proposed 
increases in the limits on retirement savings. Over the past 
eighteen years, we have ratcheted down the benefits and 
contributions permitted under qualified retirement plans. These 
changes have contributed to a decline in the number of 
employers sponsoring plans, and reduced opportunities for 
workers to save. We propose turning the clock back to restore 
the limits--on defined contributions, defined benefits, and 
qualified compensation--that have been in effect in past years.
    We would also increase the opportunity for workers to take 
their retirement savings with them when they change jobs. The 
law imposes too many restrictions that prevent workers from 
moving their savings from one type of retirement plan to 
another. We would break down the barriers between 401(k), 
403(b), and 457 plans, allow workers to roll over their funds 
when they move from one job to another.
    Despite the success we have had over the past few years, 
working on a bipartisan basis, with the support of the Clinton 
Administration, in enacting pension simplification reforms, the 
current law is still too complex. It still imposes too many 
restrictions on multi-employer plans, penalizing workers, and 
especially union members, who participate in these plans. H.R. 
1102 will make the law work better for these multi-employer 
plans.
    Current law still imposes too many restrictions on small 
businesses. Less than twenty percent of Americans who work for 
small businesses have the opportunity to save in an employer-
sponsored retirement plan. H.R. 1102 removes many burdensome 
restrictions on small businesses, including reform, but not 
repeal, of the ``top heavy'' rules.
    Mr. Chairman, there is no single answer to the retirement 
savings crisis in our country. In presenting the Portman-Cardin 
proposal to the House, however, we have worked to formulate a 
plan that will take federal pension law in a new direction. We 
want to back up our pro-savings rhetoric with pro-savings 
legislation.
    I appreciate the opportunity to testify before this 
committee today. Two-thirds of the members of our committee, 
with strong bipartisan representation, has cosponsored this 
bill. I look forward to working with all the members of this 
committee to rebuild our nation's private savings system.
      

                                


    Chairman Archer. Thank you, Mr. Cardin.
    Our next witness is William Jefferson.
    We would be pleased to hear your testimony.

  STATEMENT OF HON. WILLIAM J. JEFFERSON, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF LOUISIANA

    Mr. Jefferson. Thank you, Mr. Chairman.
    Mr. Chairman and Mr. Rangel and Members of the Committee, I 
am pleased to have the opportunity to testify regarding the 
Small Savers Act. I want to thank Lindsey Graham and Mr. Wexler 
for cointroducing this bill with me.
    I thank the Chairman for holding this hearing on tax 
proposals to enhance retirement and health security through, 
among other things, increasing personal savings by reducing the 
tax burden on savings.
    Retirement security is an important issue to all of us. It 
is important to all Americans, and it is important that we have 
something that we can do this year on this subject.
    By encouraging personal savings, the Small Savers Act 
represents sound economic and social tax and fiscal policy. The 
Small Savers Act represents sound economic and social policy 
because it would result in increased savings and investments by 
millions of Americans.
    Most economists agree that the best way to ensure 
retirement security for future generations is to maintain 
continued and sustained growth of the economy. However, this 
growth is threatened by the low and approaching negative 
personal savings rates in our country. It is alarming that over 
one-third of Americans have no personal savings at all, and 
most who do have less than $3,000. This is not much to retire 
on.
    The Small Savers Act provides four modest tax incentives 
that will induce low- and middle-income Americans to save and 
invest more and reverse this alarming trend.
    First, the Small Savers Act raises the 15 percent tax 
bracket by $10,000 for joint filers, $5,000 for single filers 
phased in over 5 years. As a result, more low- and middle-
income tax payers, actually more than 7 million, will be pushed 
into the lower 15 percent tax bracket and therefore pay a lower 
tax bill. With more money in their pockets, these families will 
have more money available to put toward savings.
    Second, the bill allows taxpayers filing jointly to deduct 
up to $500 of interest and dividend income. Single filers will 
be able to deduct half that amount.
    Third, the bill will allow taxpayers to exempt up to $5,000 
of long-term gain from taxation. These two provisions will 
reduce the tax bias against savings. Under present law, $100 
saved is taxed greater than $100 consumed because the earnings 
on the $100 saved are also subject to tax.
    Finally, the bill allows taxpayers to increase annual 
contributions on traditional IRAs from $2,000 to $3,000 and 
begins index inflation in 2009. Since IRA contributions have 
the attractive feature of being tax deferred, increasing the 
contribution limits will encourage additional savings that can 
be used to help individuals maintain their standard of living 
during retirement.
    The Small Savers Act represents good tax policy because it 
addresses one of the major problems with our current tax 
system, complexity. For most Americans, filling out Federal 
income tax forms has long been a daunting task. Now this task 
has become increasingly more overwhelming with increased 
complexity of the Code. In addition to the complicated form 
1040, many Americans must fill out numerous additional forms in 
order to determine their tax liability. Americans spend 
millions of dollars unnecessarily not on paying their tax 
liability but on paying tax preparation fees.
    If the Small Savers Act is enacted, millions of taxpayers 
will no longer have to pay tax on their interest, dividend or 
capital gains income. Thus, more taxpayers will be able to file 
their taxes using the simpler form 1040 EZ and will no longer 
have to use the complicated form 1040 D or form 1040 schedule A 
to itemize their interest, dividends and capital gains income. 
Taxpayers will save millions of dollars in tax preparation 
fees, money that can be used for further savings.
    The Small Savers Act is also good fiscal policy because it 
does not require using any of the Social Security surplus. The 
Small Savers Act is expensive, to be sure. It costs $134 
billion through fiscal year 2004, and $345 billion over 10 
years. But this figure is less than half of projected $787 
billion in non-Social Security surplus over 10 years. The 
remaining non-Social Security surplus can be prudently invested 
if the Congress should so desire in education, in defense, and 
any other way, perhaps even to pay down the debt.
    Mr. Chairman, the Small Savers Act should in no way be 
viewed as a panacea for the savings crisis facing our country 
or a threat to retirement security. However, this bill is a 
bipartisan compromise from which to start, and I can't 
emphasize it enough that it is something which I think is 
doable this year.
    I commend the Chairman for also including legislation to 
reform our private pension system in this hearing and having 
bipartisan meetings to discuss areas of common ground toward 
the plan to save Social Security. I will continue to work with 
the Chairman, with the other Members of the Committee, my 
colleagues in the House, and with the administration to fashion 
legislation to address all areas of improving retirement 
security.
    Thank you again, Mr. Chairman, for the opportunity to 
testify.
    [The prepared statement follows:]

Statement of Hon. William J. Jefferson, a Representative in Congress 
from the State of Louisiana

    Mr. Chairman and members of the Committee, I am pleased to 
have the opportunity to testify regarding ``The Small Savers 
Act.''
    I thank the Chairman for holding this hearing on tax 
proposals to enhance retirement and health security, through 
among other things, increasing personal savings by reducing the 
tax burden on savings. Retirement security is an important 
issue to me. It is an important issue for my constituents in 
Louisiana and it is an important issue for all Americans.
    By encouraging personal savings, the Small Savers Act 
represents sound economic, social, tax, and fiscal policy. The 
Small Savers Act represents sound economic and social policy 
because it will result in increased savings and investments by 
millions of Americans. Most economists agree that the best way 
to ensure retirement security for future generations is to 
maintain continued and sustained growth of the economy. 
However, this growth is threatened by the low-and approaching 
negative-personal savings rates in this country. It is alarming 
that over one-third of Americans have no personal savings at 
all.
    The Small Savers Act provides four modest tax incentives 
that will induce low and middle-class Americans to save and 
invest more and reverse this alarming trend.
    First, the bill raises the 15% tax bracket by $10,000 for 
joint filers; $5000 for single filers phased in over 5 years. 
As a result, more low and middle income taxpayers--actually 
more than 7 million more--will be pushed in the lower 15% tax 
bracket and pay a lower tax bill. With more money in their 
pockets, these families will have more money available to put 
towards savings.
    Second, the bill allows taxpayers filing jointly to deduct 
up to $500 of interest and dividend income. Single filers will 
be able to deduct half that amount.
    Third, the bill will allow taxpayers to exempt up to $5000 
of long-term gain from taxation. These two provisions will 
reduce the tax bias against savings. Under present law $100 
saved is taxed greater than $100 consumed because the earnings 
on the $100 saved are also subject to tax.
    Finally, the bill allows taxpayers to increase annual 
contributions on traditional IRA from $2000 to $3000 and begins 
indexing for inflation in 2009. Since IRA contributions have 
the attractive feature of being tax deductible, increasing the 
contribution limits will encourage additional savings that can 
be used to help individuals maintain their standard of living 
during retirement.
    The Small Savers Act represents good tax policy because it 
addresses one of the major problems with our current tax 
system--complexity. For most Americans, filling out federal 
income tax forms has long been a daunting task. Now, this task 
has become increasingly more overwhelming with the increased 
complexity of the Tax Code. In addition to the complicated Form 
1040, many Americans must fill out numerous additional forms in 
order to determine their tax liability. Americans spend 
millions of dollars unnecessarily; not on paying their tax 
liability, but on paying tax preparation fees.
    If the Small Savers Act is enacted, millions of taxpayers 
will no longer have to pay tax on their interest, dividend or 
capital gains income. Thus, more taxpayers will be able to file 
their taxes using the simpler Form 1040 EZ and will no longer 
have to use the complicated Form 1040 D or Form 1040 Schedule A 
to itemize their interest, dividend and capital gains income. 
Tax payers will save millions in tax preparation fees. Money 
that can be used for further savings.
    The Small Savers Act is also good fiscal policy because it 
does not require using any of the Social Security surplus. The 
Small Savers Act is estimated to cost $134.7 billion through FY 
2004 ($345.7 billion through FY 2009). This figure is less than 
half of the projected $787 billion in non Social Security 
surplus over 10 years. The remaining non Social Security 
surplus can still be used to fund important spending 
initiatives such as education and defense or to pay down the 
debt.
    Mr. Chairman, The Small Savers Act should in no way be 
viewed as a panacea for the Savings crisis facing our country 
or the threat to retirement security. However, this bill is a 
bipartisan compromise from which to start. I commend the 
Chairman for also including legislation to reform our private 
pension system in this hearing and having bipartisan meetings 
to discuss areas of common ground towards a plan to save Social 
Security. I will continue to work with the Chairman, my 
colleagues in the House and with the Administration to fashion 
legislation to address all areas of improving retirement 
security.
    Thank you Mr. Chairman.
      

                                


    Chairman Archer. Thank you, Mr. Jefferson.
     Our last witness is Earl Pomeroy.
    We are delighted to have you before the Committee and thank 
you for your work that you have done on retirement issues. We 
would be pleased to hear your testimony.

 STATEMENT OF HON. EARL POMEROY, A REPRESENTATIVE IN CONGRESS 
                 FROM THE STATE OF NORTH DAKOTA

    Mr. Pomeroy. Thank you, Mr. Chairman. It is indeed a great 
delight to be in the Ways and Means Committee, even for a brief 
time.
    I don't think there is an issue before us more important 
than retirement savings. I commend you for holding this 
hearing.
    In my testimony I want to advance four points for your 
consideration.
    First, retirement savings is a national priority.
    Second, tax cuts in this area should begin by increasing 
the immediate financial incentive for retirement savings 
efforts by families and individuals of middle and modest income 
means.
    Third, tax cuts should be shaped to increase the prospects 
employers will offer and continue pension coverage for their 
work force.
    Fourth, a tax bill should include provisions that include 
the portability of workers' retirement savings.
    First, the national priority. Our population is aging. Our 
savings rates declining. These are ominous trends, and they 
require our attention if we are to avoid the prospect of 
growing numbers of Americans without adequate personal 
resources to meet their needs in retirement years.
    Wonderful breakthroughs in medicine and health care have 
increased the number of years we can hope to live, and that not 
only makes our problem worse--consider the following facts:
    The number of retirees will double as baby boomers move 
into retirement age. The national savings rate is at its lowest 
point in some 60 years. Seventy percent of those with 401(k) 
plans have balances below $30,000 and nearly half below 
$10,000.
    The conclusion I draw from all of this is that stepping up 
retirement savings is a true national imperative. Like the line 
from that old muffler ad, it is a ``pay now or pay later'' 
situation. Either we take steps to help families accumulate 
retirement savings so they can meet their needs with their own 
resources or we pay later through publicly funded programs 
providing the support people require.
    I believe tax cuts in this area represent excellent tax 
policy and return a long-term dividend of reducing demand on 
public programs down the road.
    Retirement savings for middle and modest income families: 
We have achieved a great deal through retirement savings in the 
workplace but, as Mr. Portman mentioned, so many don't have 
that retirement savings opportunity. In North Dakota, four out 
of 10 workers have retirement savings at work.
    Congress needs to enhance incentives for vehicles like 
individual retirement accounts. Now, last Congress we took 
steps in this area, strengthening IRA incentives in several 
areas, none, however, for households in the category $50,000 
and below.
    It is not surprising that these are the very families that 
have the most difficulty saving for retirement. Discretionary 
dollars gets stretched thin just covering basic living expenses 
ranging from school clothes to car repairs. They need a more 
meaningful retirement savings incentive.
    I propose increasing the incentive by establishing a 50 
percent tax credit for IRA contributions of $2,000 or less each 
year for families earning $50,000 or below. An individual is 
$25,000 and below.
    The President has proposed USA, universal savings accounts, 
that is an even more ambitious effort to get savings 
comprehensively established. This IRA tax credit proposal is 
another way of approaching the same issue. I believe you could 
market an IRA tax credit to families like an employer match in 
a 401(k) setting. There hasn't been an incentive for retirement 
savings more effective in my opinion than that employer match 
on the 401(k). Let's apply the same dynamic to the IRA through 
this tax credit.
    Support for pension plans should be stepped up, too. Of all 
the employer-based retirement savings, it is the pension plan 
that offers the most predictable stream of income in 
retirement, but what we are seeing is a dramatic decrease in 
the number of pension plans out there. The number of workers 
covered has diminished over the last 10 years, even though the 
work force has grown substantially, and the number of employers 
offering plans has absolutely just collapsed.
    Congress and the administration--several administrations 
bear much of the responsibility. We have made it too complex, 
too costly; and we need to address that. In 1996, we advanced 
regulatory relief for retirement plans, but that was defined 
contribution plans through the SIMPLE legislation.
    Congresswoman Johnson and I have introduced a bill known as 
SAFE, Secure Assets for Employees, which does basically the 
same type of regulatory relief for defined benefit plans.
    Now, new incentives to save, cost money, and the amount of 
money you will have available for your tax bill, Mr. Chairman, 
will determine what you can do. But removing disincentives to 
save don't cost much money.
    And this would be my final point, portability. We have over 
the years through happenstance in the Tax Code made it very 
difficult for someone to move their retirement savings as they 
move through the work force. Take, for example, someone who 
works for a private for-profit. They would have a 401(k) 
defined contribution plan. If they went to work for a 
nonprofit, they would have a defined contribution 403(b) plan. 
If they later went to work for State government, they would 
have a defined contribution 457 plan. All defined contribution 
plans but none of them convertible one to another.
    When a person has a bunch of little retirement accounts, we 
know what happens. They have them disbursed. When they have 
them disbursed, we know what happens. They spend it. In fact, 
more than 60 percent of the time the money is not fully 
reinvested in retirement savings. So by making it impossible 
for someone to keep their retirement funds in one account we 
encourage disbursement and therefore spending.
    Let's stop that. We introduced a bill called RAP, the 
Retirement Account Portability bill, that would allow for this 
type of rollover. I think there is no public policy served by 
frustrating someone's ability to collect their retirement 
accounts in one place. There is very little cost to the 
Treasury in addressing this legislation; and whatever you do 
with the tax bill, Mr. Chairman, I would hope the portability 
issue is included.
    Thank you for listening to me.
    [The prepared statement follows:]

Statement of Hon. Earl Pomeroy, a Representative in Congress from the 
State of North Dakota

    Mr. Chairman, members of the Committee, thank you for the 
opportunity to appear before you this morning. The topic we 
discuss today--how to encourage greater savings for 
retirement--is one of critical importance to the economic 
health of our people and our nation. No tax cut proposal this 
Committee will consider is more important than those that 
assist America's families in saving for their retirement, and I 
commend you for holding this hearing today.
    In my testimony I will advance four points for your 
consideration:
    1) Retirement savings is an urgent national priority;
    2) Tax cuts in this area should begin by increasing the 
immediate financial incentive for individual retirement savings 
efforts by families and individuals earning modest incomes;
    3) Tax cuts should increase the prospects employers will 
offer and continue pension coverage for their workforce;
    4) A tax bill should include provisions that improve the 
portability of workers' retirement savings as they change 
employers in the course of their careers.

               Retirement Savings as a National Priority

    Our population is aging and our savings rate is declining. 
These are ominous trends that require our attention if we are 
to avoid the prospect of growing numbers of Americans without 
adequate personal resources to meet their needs in retirement 
years. Wonderful breakthroughs in medicine and health care have 
increased the number of years we can hope to live, but that 
serves to make the problem of inadequate retirement savings 
even worse.
    The following collection of facts serve to make the point:
     The number of retirees will double as baby boomers 
move into retirement age.
     The proportion of active workers per retiree will 
move from three to one today to two to one by 2030.
     The national savings rate ran about eight percent 
from World War II to 1980, dropped to four percent thereafter 
and languishes today at or slightly below one percent. (Some 
contend this data, drawn from the Commerce Dept., does not 
capture all of the resources families have available--like home 
equity. In any event, however, our rate of savings is declining 
when it needs to be increasing.)
     70 percent of those with 401(k) plans have 
balances below $30,000 and nearly half (48 percent) are below 
$10,000.
     The fastest growing segment of our population are 
Americans 85 years and older.
    The conclusions I draw from all of this is that stepping up 
retirement savings rates is a true national imperative. Like 
the line from the old muffler ad, our choice is a ``pay now or 
pay later'' proposition. Either we take steps now to help 
families accumulate retirement savings so they can meet their 
needs with their own resources or we pay later with publicly 
funded programs providing the support people require.
    Mr. Chairman and committee members, you will consider many 
areas worthy of tax relief. I strongly believe that tax cuts 
which help families save for retirement is excellent tax policy 
which returns the long term dividend of reducing the demand on 
public programs down the road.

        Retirement Savings for Middle and Modest Income Families

    Perhaps the most successful retirement savings are achieved 
through workplace retirement plans, but only half of those in 
the workforce today have this savings opportunity. In rural 
states the problem is even more severe. In North Dakota, for 
example, only four workers out of ten have workplace retirement 
savings programs.
    Congress needs to continue to enhance the incentive for 
private retirement savings through vehicles like Individual 
Retirement Accounts (IRAs). Last Congress strengthen IRA 
incentives in several ways, most notably the creation of the 
Roth IRA. It did not, however, increase or strengthen the IRA 
incentive for households that find it most difficult to save, 
those earning $50,000 annually or less.
    It is not surprising that the more modest the income the 
more difficult it is to set money aside for retirement. 
Discretionary dollars get stretched thin just covering basic 
living expenses ranging from school clothes to car repairs. 
Modest income families need a more meaningful savings 
incentive.
    I propose increasing the incentive by establishing a 50 
percent tax credit for IRA contributions of $2,000 or less each 
year for families earning $50,000 and individuals earning 
$25,000 annually.
    This proposal is contained in H.R. 226, the Family 
Retirement Saving Act. It would be my expectation that the 
credit opportunity could be marketed similar to the employer 
match incentive in place in many, many employment based 
retirement plans across the country. I believe the employer 
match has proven itself to be the single most effective savings 
incentive we have going. Let's try to apply this dynamic to the 
Individual Retirement Account for our middle and modest income 
families.
    Remember, the new IRA incentives last Congress went to 
those earning between $50,000 and $150,000 annually. It's time 
we direct additional help in this area to those who need it 
most, households at $50,000 and below.

                       Support for Pension Plans

    Of all employer based retirement savings programs, none 
provide a more dependable stream of income in retirement than 
the traditional defined benefit pension plans. Over the last 20 
years, however, the number of employees covered under pensions 
has declined even while the workforce has significantly 
expanded. In addition, the number of employers offering defined 
benefit plans has collapsed.
    Congress and the past several Administrations bear much of 
the responsibility for this disturbing trend by reducing 
incentives for employers while increasing the complexity and 
cost administering a plan to employers. The problem has been 
particularly acute for small employers.
    In 1996 Congress passed regulatory relief for small 
employers offering defined contribution plans. This 
legislation, known by its acronym SIMPLE, has proven successful 
in the marketplace. Now it's time to advance a similar small 
employer initiative for defined benefit plans.
    This week Congresswoman Nancy Johnson and I introduced H.R. 
2190, which is substantially identical to our SAFE proposal 
from the last Congress. This bill would significantly increase 
the appeal to employers of offering a defined benefit plan and 
would greatly simplify the administrative burden by reducing 
complexity and cost of compliance.
    I am also pleased to cosponsor the important legislation 
proposed by Committee members Rob Portman and Ben Cardin. The 
Portman-Cardin bill represents a comprehensive, significant 
effort to further stimulate employer based retirement savings 
plans.

                   Making Retirement Savings Portable

    Mr. Chairman, it costs money to create new incentives for 
retirement savings regardless of whether we expand IRAs or 
address employer based plans. I recognize the size of the tax 
relief legislation will dictate what, if anything, we can 
accomplish in this area.
    Regardless of whether we create new incentives to save (and 
I hope we do!) It does not cost much money to tackle 
disincentives to retirement savings that accumulated over the 
years.
    One of the most significant barriers to savings is the lack 
of portability of retirement savings. In some instances these 
barriers are a happenstance creation of the tax code that serve 
no public purpose whatsoever.
    Take for example the inability to move savings among three 
common forms of defined contribution plans: 401(k), 403(b), and 
457.
    If you begin your career working for state government you 
save under a 457 plan. Moving to a nonprofit may avail you of a 
403(b) opportunity. In your next job perhaps you would have a 
private for profit 401(k) savings plan. Each plan is a defined 
contribution plan but rollovers from one to another are 
prohibited.
    As a result, people often have their accounts dispersed and 
all too often these funds do not get fully reinvested. In fact, 
at least 60 percent of the time funds dispersed are not put 
back into retirement savings.
    In order to address this problem, I have introduced H.R. 
739, the Retirement Account Portability Act (the RAP Act), with 
Rep. Jim Kolbe. This bill unravels the regulatory complexity 
and ends the statutory barriers that prevent workers from 
moving their pensions with them from job to job.
    This bill has industry and labor support, and has been 
endorsed by the Clinton Administration and is included in the 
bipartisan Portman-Cardin bill. Best of all, RAP has only 
negligible cost to the Treasury. Enacting RAP this year is an 
achievable goal that will greatly enhance workplace savings.
    Mr. Chairman, I thank you for your leadership on this issue 
and look forward to working with you.
      

                                


    Chairman Archer. The Chair appreciates the testimony by 
each of you, all of which is very constructive, and now the 
Chair asks if any Members would like to inquire.
    Mr. Thomas.
    Mr. Thomas. Thank you very much, Mr. Chairman.
    I also want to compliment the Members. You are dealing with 
two areas that are absolutely critical, and you have suggested 
a number of very, what I would consider simple, commonsense 
changes, especially the idea of portability, especially the 
ability of setting up a structure which allows for retirement 
security. But I listened very carefully and I didn't hear any 
mention--I may have been negligent, but I don't think so--of 
long-term care proposals.
    I tell my friend from North Dakota that Fram oil filters 
spent a lot of money on that ad, and they are sorry you 
referenced a muffler. The pay me now or pay me later ad is a 
good example. The pitch is a cheap oil filter change and--oil 
change and oil filter--or pay me for a replaced engine.
    Today, given the point that all of you mentioned in terms 
of Americans living longer, the simplest fix for long-term care 
is the time value of money because of the more predictable need 
for that care in later life. So I would just urge you, as you 
are looking at the very positive suggested changes, if you are 
able to expand by definition or structurally include the 
ability to pay for long-term care from a fund created over 
time, health insurance today tends to be acute. Medicare in 
terms of health care needs for seniors is acute. We have some 
surrogates for long-term care today in Medicare, but they, 
unfortunately, are the fastest growing and most difficult to 
control price areas.
    So, in that sense, I would hope that you think about long-
term care as part of a comprehensive retirement security 
package.
    Mr. Chairman, I tell you just as recently as yesterday the 
Health Subcommittee held a hearing on the uninsured. What we 
got out of it was basically that there is no single or simple 
solution.
    Although 43 million Americans are uninsured, when you begin 
examining the various groups, you find some that make incomes 
of more than $50,000, and they choose not to participate in a 
program. What we have been told is that even if you put 
billions of dollars into a program, the percentage change, 
especially if it is a tax credit to try to buy down the cost of 
that insurance, produces only modest increases in the number of 
people who participate in the program.
    Even in those areas that it is 100-percent paid for, for 
low-income, Medicaid and the S-CHIP, State Children's Health 
Insurance Program, from the Balanced Budget Act of 1997, 13.4 
percent of those who are currently uninsured qualify for that 
program. So what we have to do is look at our attempts to 
provide assistance to people who do not now have health 
insurance. We showed it in a way that maximizes the number of 
people who receive it but that, too, shows we are not fooled by 
the belief that the solution to this problem is a simple one or 
that there is a single approach to the very complex picture of 
who is among the uninsured today.
    But I want to underscore the ideas that you are presenting, 
especially to my friends Mr. Portman and Mr. Cardin, frankly, I 
think are just long overdue. No one looked at them. No one 
focused on them. No one pulled them together. You folks have. I 
give you plenty of credit for that.
    Mrs. Johnson, I know, has been wrestling with this 
question, as has Mr. Stark on the health care provision. It is 
something I think that we need to work on, begin the process, 
but that it clearly is not subject to a single fix.
    And with that, Mr. Chairman, if anyone wants to respond to 
anything I said, I would appreciate it. But, please, long-term 
care is an ongoing need. It will increase, and it ought to be 
simple, on the time value of money to look into some kind of 
pension structure.
    Chairman Archer. You have 1 minute to respond.
    Mrs. Johnson of Connecticut. If I may just briefly call 
your attention to the bill that Karen Thurman and I introduced 
that is focused on long-term care. I didn't have time to go 
into it in much detail.
    It does have four provisions. It not only for the first 
time rewards holding of long-term care insurance over time so 
the deduction goes up for the number of years that you hold it 
for the first 5 years, but it also provides a recognition of 
the tremendous contribution that in-home care givers provide 
and eliminates this arbitrary limit on partnership, State 
partnerships, that help people, induce them to buy long-term 
care insurance, an arbitrary provision of Federal law.
    Last, it has a very aggressive educational program so 
people will really understand that neither Medicare nor 
Medicaid provide long-term care except under extraordinary 
circumstances. So the educational provisions are about as 
important as anything else.
    Mr. Thomas. Thank you very much.
    Thank you, Mr. Chairman.
    Chairman Archer. Mr. Rangel.
    Mr. Rangel. Thank you.
    Let me first thank my colleagues for the work they have put 
into these very meaningful proposals that are before us.
    Mrs. Johnson, do you believe that we can handle on this 
Committee Social Security, Medicare, and tax cuts this year?
    Mrs. Johnson of Connecticut. I think we can certainly do 
Social Security reform. I think we can and should do Medicare 
reform. I think we can do pension reform. Those are three of 
the--and long-term care reform. So I think we can do retirement 
security reform, and I think the tax reform bill, the effort to 
cut taxes, will have to be paired with the development of 
surpluses that are over and above the Social Security 
surpluses.
    But we do expect to move into years when we have a genuine 
surplus over and above Social Security revenues next year and 
the years thereafter, and I think it is appropriate for this 
Committee to set economic policy, particularly since we have 
heard how catastrophically low our savings rate is. I think it 
is actually imperative for this Committee to set some course 
for this Nation through long-term tax policy and not leave the 
Members thinking this is all going to be free dollars to spend 
on new programs. Our savings rate is catastrophic. There are 
big problems in our providing retirement security, long-term 
care security and those things. So I think almost all of the 
balls are in the court of this Committee in terms of using our 
resources as a nation into the future to provide a strong 
economy and retirement security.
    Mr. Rangel. And the tax cut would be based on projected 
surpluses after Social Security?
    Mrs. Johnson of Connecticut. We have all agreed that we are 
not going to use Social Security revenues for anything other 
than Social Security. So that is a bipartisan agreement and we 
are going to stick to it.
    Mr. Rangel. And Medicare?
    Mrs. Johnson of Connecticut. We did set aside 62 percent 
for Social Security and 15 percent for Medicare, so there is 
some ability to use that surplus to solve the immediate 
problems in Medicare, which I consider to be acute and also for 
long-term reform of Medicare.
    Mr. Rangel. If we did have a tax cut, what year do you 
think that it would become effective?
    Mrs. Johnson of Connecticut. First of all, I would hope 
that part of it would become effective almost immediately. The 
research and development tax credits expire. The work 
opportunities tax credit, which is critical to the 
reemployment, to the employment of welfare recipients, expires.
    Just like we have to budget every year, we have to pass 
some kind of tax legislation every year. As to bigger 
provisions, they will depend on the estimates as to when the 
surpluses exceed the Social Security tax revenues.
    The other provisions in my personal, I am not speaking for 
anyone but myself, I think the extension of the R&D, the 
extension of the work opportunities tax credits demand the same 
attention as the appropriations proposals that we have on the 
floor because losing continuity or breaks in those--that tax 
law are very costly to both the people and the businesses that 
we count on to make our economy strong. I want to make sure 
that they go ahead immediately.
    Mr. Rangel. Do you agree that we ought to enact the revenue 
neutral extended tax bill to make certain that we don't have 
the extended included in the appropriations bill?
    Mrs. Johnson of Connecticut. I think this Congress under 
both Republican and Democratic leadership have used a 
reconciliation very effectively to make sure that the key 
interests of the Nation are addressed across the board, whether 
they are in the tax area or the appropriations area. While it 
may be necessary to use that instrument to some extent this 
year, I think this Committee, under this Chairman, is going to 
pass tax legislation that will stake out in a sense the tax 
policy that will strengthen our economy over the long-term and 
address some of the problems that we have raised today about 
retirement security, pension reform and savings rates.
    Mr. Rangel. What size tax cuts do you think that we are 
talking about?
    Mrs. Johnson of Connecticut. We have a large surplus 
predicted in the outyears, and I think it is our responsibility 
as the tax Committee to help the public understand that sound 
tax policy is critical to a strong economy and a secure society 
in the future. We are at the threshold of seeing our major 
retirement security plans collapse, not just Social Security 
but pensions, too.
    Mr. Rangel. What size----
    Mrs. Johnson of Connecticut. I would say most of that 
surplus ought to be in that tax bill and not be available for 
new programs. The new program demands should be met by making 
government far more efficient than it has been in the past.
    Mr. Rangel. What size tax cut do you think we are talking 
about?
    Mrs. Johnson of Connecticut. I don't know what the 
surpluses will be, Mr. Rangel. I can't answer that.
    Mr. Rangel. You have no idea what we are looking for in the 
tax bill, though?
    Mrs. Johnson of Connecticut. The projections are several 
hundred billion in 5 years, and many more hundred billions in 
10 years.
    Mr. Rangel. Would 800 billion over 10 years sound like 
what----
    Mrs. Johnson of Connecticut. That is what the estimators 
are saying. My goal is that we stake out the majority of that 
money and demonstrate to the people of America how we can 
strengthen the economy and secure us each individually in our 
lives and in our retirement, and I think that is the number one 
obligation of this Congress and far exceeds our obligation to 
spend that on programs in the future.
    Chairman Archer. Does any other Member wish to inquire?
    Mr. Kleczka.
    Mr. Kleczka. A quick question to Mrs. Johnson, you just 
indicated that you think the Congress should, and I am 
paraphrasing, stake out the majority of that money for programs 
that this panel is talking about? For what type of tax cuts?
    Mrs. Johnson of Connecticut. This is not a hearing on the 
tax bill and so there is no sense in my going into the details.
    Mr. Kleczka. Everything that has been discussed by this 
panel could be included in the tax bill.
    Mrs. Johnson of Connecticut. That is why the Chairman is 
very wise to have a hearing on retirement security.
    Mr. Kleczka. I was hoping that you were saying that we 
should stake out a majority of that surplus for the things that 
we are talking about today. Otherwise what this Committee is 
doing is raising some false hopes with the public by having an 
all-day hearing on retirement security and health security. And 
I say if we were to pick up a small portion of all of your good 
ideas, 10 percent of Jefferson and 10 percent of Pomeroy and 2 
percent of the Stark because of the cost, that would more than 
eat up the surplus and there would be no room for estate tax 
changes or capital gains tax elimination.
    So I think we as a Congress have to make some priorities. 
Are these our priorities, the items discussed at this all-day 
hearing on things that are so important not only to the economy 
but to so many Americans? My answer to that is ``Yes.'' We are 
all talking about all sorts of new savings instruments. USA 
accounts are proposed by the administration, the Chairman has a 
new Social Security account which has a mix of stocks and 
bonds. We are recreating the wheel here, my friends. We have 
the savings instruments in place today. Let's make them 
meaningful. Let's take our IRAs and boost them. Let us increase 
the 401K caps. Let us provide for portability and some type of 
interweaving of the current pension plans, like Mr. Pomeroy 
says.
    One of the issues that I have been working on is health 
care for retirees. I had a GAO study done which indicated more 
and more employers are willy nilly canceling their retiree 
health care.
    I had a situation in my district with Pabst Brewing Co. 
where the retirees woke up 1 day and found that the employer 
just canceled their health benefits. I am talking regular 
retirees and early retirees. I had a situation with a 
constituent, an early retiree who had a wife with MS at home. 
With the early retirement package offered to him at age 55 
which included coverage for health care for his wife's 
condition, he thought that he could make it and go home and 
take care of his wife. The day that they canceled his benefits, 
he found out that his health insurance premium with a private 
insurance plan cost more per month than his entire retirement 
benefit.
    So what we are talking about today is important, but my 
friends, it would take the entire surplus that is projected, 
not the Social Security surplus, to address a piece of those 
needs.
    Mr. Portman, what is the CBO estimate of your pension bill 
and Mr. Cardin's pension bill, which I happen to be a supporter 
of?
    Mr. Portman. You sound like a Chairman talking about 
working on priorities. We don't have a Joint Tax Committee 
estimate yet for this year. We are promised one this week. We 
asked for it back in April.
    Last year's bill, which is substantially similar to this 
year's bill, was roughly $9 billion exclusive of the minimum 
distribution proposal over a 5-year period. But remember, we 
are talking about a substantial surplus and a possibility of 
substantial tax relief bill. Over the next few days, we will 
have an estimate and it may be higher because we do get into 
the IRAs, raising the limit from $2,000 to $5,000 in IRAs. If 
you take that out, we hope to be close to where we were last 
year.
    Mr. Kleczka. If we are serious about the dialog that we are 
having today in the Committee, if we are even going to put a 
dent into these problems, problems facing regular Americans, it 
would take the entire surplus.
    So as the Chairman talks about the estate tax and others 
talk around Capitol Hill about eliminating the capital gains 
tax, know that there is not going to be any room for that, plus 
the extenders, which is an expensive piece of pie.
    Mr. Chairman, I thank you for your time. Let's not forget 
our retirees and their health care. I will be introducing 
legislation to help retirees age 55 through 64. You can offer 
them tax deductions for their health care premiums, but if they 
don't have the income to offset it, what is the sense? I will 
have a proposal in the next few weeks which would truly help 
retirees and hopefully you folks on the panel will cosponsor 
what I introduce.
    Thank you, Mr. Chairman.
    Chairman Archer. The gentleman from Wisconsin has given the 
Committee a sneak preview of the real challenge that will be 
before the Committee, which is to accommodate the multiplicity 
of good ideas within the dollars that are available to us under 
the budget. Although we do not have the final estimate on the 
Portman-Cardin-Kleczka, and so forth, bill, simply raising the 
limit on IRAs from $2,000 to $5,000 a year cost $38 billion 
over 10 years. That number I do know.
    In the end we are going to have to really examine 
priorities. I am always fascinated as chairman that I can't 
simply go out and cosponsor every bill for all of the good 
things that we want to see done in tax relief in the Tax Code. 
Members individually can do that. So when a good idea comes 
along, it is easy to jump on board, and then we have bills that 
have a hundred, 200 cosponsors. If each Member began to 
consider the revenue losses that in the aggregate occur as a 
result of all the bills that he or she has cosponsored, we 
would find that it is an impossibility to accomplish all of 
that.
    So the gentleman from Wisconsin has put his finger on a 
very sensitive point that we have all got to consider because 
retirement security is exceedingly important, and that is not 
just the pension side, that is also the health side, which 
includes long-term care. But there are many, many other items 
that are important, too, in a tax bill. We have to sort through 
that.
    Mr. Portman.
    Mr. Portman. If I can just make one comment which relates 
to what Mr. Kleczka and you have raised with regard to the 
revenue impact, we need to keep in mind what you have stated a 
number of times in reference to the guarantee accounts in your 
Social Security proposal, which is with regard to the pension 
side, this is going to increase our savings rate in this 
country, meaning there will be more money invested in the 
markets. There will be more capital formation and increased 
revenues from that. If the Joint Tax Committee had the ability 
to do a dynamic score, it would look quite different, and I 
just raise that because some tax proposals will result in 
higher savings and more general revenues coming in as a result 
of better economic conditions.
    With regard to retirement security, I hope we look at it in 
that context and in the context of how cost effective it is. In 
the retirement area, as you know, you are leveraging a lot of 
private dollars and the nondiscrimination rules ensure that. It 
is an awfully good bargain for the Treasury and you will have a 
much more cost effective way of handling retirement needs by 
making some of these common-sense changes on the retirement 
side.
    Chairman Archer. The issue before us today is a wonderful 
way to kick off our hearings, but we will be holding hearings 
on other aspects of tax relief as we go along.
    I am particularly looking forward to how we tax foreign-
source income and what that is doing to put barriers before our 
ability to compete in the world marketplace, which is going to 
be essential to our economy in the next century. If we don't 
win the battle of the global marketplace, we are not going to 
have the resources to do all of the things that we need to do 
in the next century. I hope every Member will try to attend 
that hearing.
    I think Ms. Dunn wants to be recognized, and then Mr. 
Weller.
    Ms. Dunn. Before this panel leaves, I want to call 
attention to one of the provisions in Mr. Portman's very 
excellent pension reform bill that shows how important 
education is to retirement. There is an area of tax treatment 
of employer provided advice to employees on retirement 
planning, and this is currently a benefit that employers 
provide to employees. They educate their employees on the 
importance of saving for retirement. Currently, this has been 
treated as a fringe benefit by the IRS, but there is some 
concern that the IRS may change their treatment, their tax 
treatment of this particular fringe benefit and calculate it as 
part of the employee's income. I have some concerns about that, 
and the Portman-Cardin bill would codify current practice so 
that it continues to be a fringe benefit. It is not calculated 
as part of income and therefore is much more easily given by 
employers and received by employees.
    Mr. Portman. I thank the gentlewoman. Let me also thank her 
for her help with the catchup provisions in this legislation 
which we did not have a chance to get into. Ms. Dunn helped us 
to focus on that issue which allows for every individual coming 
into the work force at age 50 or above to add an additional 
$5,000 annually to a defined contribution plan, for instance a 
401(k). Who is this going to benefit, all baby boomers but 
primarily working moms who are coming back into the work force 
and want to be able to set aside enough of a nest egg. When you 
are coming in late in the game because of, as Mr. Thomas 
indicated earlier, the time value of money and compounding 
interest, you want to give these people an additional 
incentive.
    On the education side, it is a very important provision of 
the bill. Additionally, I think the impact of having these 
increased contribution limits and encouraging small companies 
to get into these plans is based on two things, and this is 
based on talks with a lot of folks from around the country. One 
is more education because the way that the nondiscrimination 
rules work, owners are going to have to get the middle paid and 
low-income workers involved in the plans in order for the plans 
to meet the nondiscrimination and top-heavy rules. So education 
is a more important component of this, which is great for this 
country and great for workers.
    Second would be bigger matches to encourage again these 
workers who are perhaps not as interested in thinking about 
their retirement, to have some financial incentive. And those 
matches are private money going into the system that might not 
otherwise be there which will help us with regard to our 
savings rate.
    So I thank the gentlewoman for her support and all of her 
contributions.
    Chairman Archer. Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman, and I will direct my 
question to Mr. Portman. I too want to salute you on a couple 
of issues, and I want to mention the catch-up issue which you 
have already discussed regarding giving an opportunity 
particularly to working moms who are trying to make up for 
missed contributions when they were out of the work force while 
they were home taking care of the kids. And I think of my own 
sister Pat, who was out of the work force for years, and who, 
of course, I believe deserves the opportunity to make up for 
that missed contribution.
    I want to direct my question specifically, Mr. Portman, to 
the 415 pension issue, and of course I have been working with 
you and you have a provision in your legislation and I have 
H.R. 1297, which addresses the 415 issue, which I personally 
think is an issue of fairness, and Mrs. Johnson is also 
cosponsoring our legislation.
    The 415 pension limits are arbitrary limits which limit the 
ability of construction workers, those who work for several 
employers. Many times a construction worker can work for two or 
three different contractors. That is why they are in 
multiemployer pension funds, but these limitations 
unfortunately have really penalized folks who get up early, 
sweat and toil, get their hands dirty, and in many cases they 
work so hard at a younger age they are burnt out and worn out. 
And of course the issue of the 415 when it is brought to my 
attention is usually by a group of spouses of laborers, 
ironworkers, operating engineers who have gone to work early 
and of course they come home late and tired, and they found out 
that their pension that they were promised was not quite what 
they--it did not turn out quite as it should be because of the 
415 limits.
    I have a letter here from Laurie Kohr, wife of Larry Kohr, 
a construction worker from Peru, Illinois, and I would like to 
insert this into the record.
    Chairman Archer. Without objection, so ordered.
    [The information follows:]

    Congressman Weller,
    My husband Larry has been a member of a local union for 21 
years. He has worked as a laborer and laborer foreman for a 
local construction company.
    We were delighted when we learned in June 1997 that his 
hard work had paid off and that he had in his 30 credits to 
retire.
    You can only imagine our disappointment when we were told 
that he couldn't collect his full pension because of IRC 415. 
At age 38, and that he attained his credit hours just one 
company his monthly allotment went from $33330.50/mon. To 
$1598.21/mon.
    For us it was a wake up call. It was the first time we had 
heard of IRC 415. Since that time and through a lot of research 
we have learned a lot.
    We have learned that government employees are exempt from 
415. You only have to be in Congress 2 years to have a secure 
pension.
    We have learned that legislation has been introduced for 
the last 3 years and still 415 is affecting many people, not 
only Larry.
    We have also learned that hard work and loyalty to one 
company doesn't always pay-off. This is the hardest lesson of 
all.
    Again, I ask your help. IRC 415 is unfair in more ways than 
I go into here. So, I count on you as my representative to make 
it fair, for everyone.
    I am sincerely grateful for all you have done and I hope to 
hear from you soon.

                                                  Lori Kohr
                                                     Peru, Illinois
      

                                


    Mr. Weller. Thank you. Laurie points out that her husband, 
Larry, because of the 415 limits, he has retired after 20 years 
as a construction worker, and as I pointed out earlier, 
construction is a pretty physically demanding trade, a 
tremendous amount of physical activity, and he recently 
retired. And when he was working, he anticipated that under his 
pension plan, his multiemployer pension plan, he would receive 
almost $40,000 per year, about $3,300 a month before taxes. But 
because of the 415 limits, after 20 years of working hard and 
contributing because of overtime even more than anticipated 
into his pension fund, he is only receiving about $19,178 a 
year or about $1,500 a month and that is less than half of what 
he is entitled to. So these 415 limits are costing real 
families like Laurie and Larry Kohr real money and they are 
being punished.
    Mr. Portman, my question is when it comes down to it, would 
lifting these 415 limits, would they affect the solvency or 
jeopardize the integrity of these multiemployer pension funds?
    Mr. Portman. No, my understanding is that it won't affect 
the solvency of the plans or the funding of the plans. You are 
exactly right, the focus of this is not on the higher paid 
workers, it is on the workers like the example you used. The 
higher paid workers are not going to worry about the 100 
percent of compensation limit because they won't bump up 
against it. So although this proposal has been opposed by some 
people in the past as being helpful to higher paid workers, the 
focus in multiemployer plans is on the person who is the 
construction worker, who is laying the carpet, because this is 
the person based on his years of service and the formula the 
contribution is based on who should get a certain amount but 
then this arbitrary limit comes in and knocks it down.
    Mr. Weller. These 415 limits were established almost 20 
years ago. Essentially, they were to go after some corporate 
executives who had golden parachutes that they were trying to 
create for themselves, but over the years these limits have 
changed, and there are some groups which have been taken out. 
It is my understanding that both teachers, public employees 
were affected by the 415 limits and this Committee and this 
Congress saw the merits of lifting them out from under the 415 
limits.
    Mr. Portman. That is correct.
    Mr. Weller. I know that Mrs. Johnson played a role in that. 
I consider this a fairness issue for the little guy and little 
gal, and I am interested in working with you and the Chairman 
and others on the Committee to ensure that we address this 
fairness issue and lift those who work hard and play by the 
rules, those who work in the construction trades, out from 
under these 415 limits, and I appreciate your cooperation.
    Mr. Portman. I appreciate all of the work that the 
gentleman has put into the multiemployer issue generally in his 
own bill which I have cosponsored and in helping ours.
    Chairman Archer. The Chair again thanks the Members of the 
panel for their participation. It has been very, very helpful.
    The next panel is now invited to come sit at the witness 
table, Dr. Goodman, Dr. Butler, Mr. Kahn, Ms. Lehnhard, Mr. 
Wilford, and Ms. Hoenicke. The Chair welcomes each of you and 
looks forward to your presentation.
    Dr. Goodman, would you lead off. And would you for the 
record identify yourself before you begin your testimony.

   STATEMENT OF JOHN C. GOODMAN, PH.D., PRESIDENT AND CHIEF 
     EXECUTIVE OFFICER, NATIONAL CENTER FOR POLICY ANALYSIS

    Mr. Goodman. My name is John Goodman. I am President of the 
National Center for Policy Analysis. Mr. Chairman, the number 
of Americans who are uninsured is 43 million and rising. This 
is occurring in the midst of a booming economy with 
unemployment at alltime lows. We are spending an enormous 
amount of money on this problem, but the more we spend, the 
worse the problem seems to get. We are spending more than a 
$100 billion on tax subsidies for private insurance, yet while 
some companies have lavish health coverage subsidized by the 
Federal Government to the tune of 50 cents on the dollar, other 
Americans get no tax relief when they purchase their own 
insurance. And among families who have insurance, those in the 
top fifth of the income distribution get 6 times as much help 
as those in the bottom fifth.
    We are also spending an enormous amount of money on health 
care for the uninsured, by our count more than $1,000 per year 
for every uninsured person on a hodgepodge of programs, yet 
there is no overriding mechanism that ensures that resources 
are matched with needs and there is no way for an uninsured 
person to take his $1,000 and spend it on private insurance 
instead. There is a better way.
    I propose a compact between the Federal Government and the 
American people in which the Federal Government defines its 
financial interest in this question and offers to every 
individual and every family a fixed-sum refundable tax credit 
so that people who have health insurance see their taxes 
reduced and when they cease having health insurance, their 
taxes are increased. An important part of this proposal is the 
idea of the local health care safety net. Under the current 
system, people who are uninsured already pay higher taxes 
precisely because they don't get the same tax relief as people 
who have tax-subsidized insurance. By our count, the uninsured 
pay as much in extra taxes each year as the amount of free care 
that they get at the Nation's hospitals. The problem is that 
these extra taxes go to the Treasury and are folded into 
general revenues while the local hospitals must find the 
resources to pay for the free care.
    As an alternative, I propose that the unclaimed tax credit 
money be given to state governments in the form of a block 
grant with only one proviso, that it be spent on indigent 
health care. So the Federal Government would offer every family 
a fixed sum of money. We hope that they choose to spend it on 
private insurance, but if they don't, that money becomes part 
of a safety net for those people who cannot pay their medical 
bills.
    I propose that we phase in the system in a reasonable way. 
We should begin immediately to give people who purchase their 
own insurance the tax credit. We should give the self-employed 
the option to remain in the tax deduction system or the tax 
credit system, and we should give every employer the option to 
remain in the current tax exclusion system or switching to the 
tax credit system. Once in the tax credit system, we would no 
longer be subsidizing wasteful health insurance plans. The 
Federal Government would subsidize only core coverage and 
people would buy additional coverage with their own aftertax 
dollars. We would put employer-provided insurance and 
individually purchased insurance on a level playingfield so 
that the role of the employer would be determined in the 
marketplace and not by the vagaries of tax law.
    We also need to put third-party insurance and self-
insurance through medical savings accounts on a level 
playingfield. The current system encourages us to give all of 
our money to HMOs and encourages abuses of managed care and 
rationing imposed by employers. As an alternative to this, we 
need to expand existing MSAs, medical savings accounts, and we 
need to offer every American a new kind of MSA, a Roth MSA. 
This is an MSA that would wrap around any health insurance 
plan, an HMO, a PPO, fee-for-service, and so forth.
    This plan, Mr. Chairman, also addresses two characteristics 
of the uninsured that have been ignored by previous plans, and 
that is most of the uninsured are uninsured only temporarily 
for part of a year and that the low-income insured need their 
tax refund money at the time the premiums are due in order to 
avoid a loss of take-home pay. I believe there are workable 
mechanisms already in place to solve these problems.
    Finally, Mr. Chairman, this plan could be paid for with 
money that is already in the system. The $40 billion that we 
now spend on the uninsured is one source. The $100 billion that 
we are spending on tax subsidies is another source. And we can 
also carve out existing tax preferences. I see no reason why 
middle-income families should get the $500 tax credit for a 
child if the child is uninsured. I see no reason why middle-
income families should get the full value of its personal 
exemption if the family is uninsured, and I see no reason why a 
low-income family should get a $1,000 EITC, earned income tax 
credit, refund for a child if that child is uninsured.
    Clearly, these choices are political and they are yours to 
make, but I think the goal is one which the vast majority of 
Americans would support.
    Thank you.
    [The prepared statement follows:]

Statement of John C. Goodman, Ph.D., President and Chief Executive 
Officer, National Center for Policy Analysis

    Unwise government policies are largely responsible for the 
fact that the number of Americans without health insurance is 
43 million and rising. Unwise government policies also are 
responsible for the fact that people who have health insurance 
are turning over an ever-larger share of their health care 
dollars to managed care bureaucracies that limit patient 
choices and sometimes give providers perverse incentives to 
deny care.
    After many discussions with others involved in health care 
policy, including analysts at other think tanks, 
representatives of the industry, the medical community and the 
government, as well as members of Congress and their staffs, we 
at the National Center for Policy Analysis have concluded that 
we must fundamentally alter federal government policies to 
eliminate distorted incentives, empower individuals and create 
new options in the health insurance marketplace.
    What I am proposing would not increase the financial role 
of government. The federal and state governments already spend 
more than enough on health care and health insurance through 
tax subsidies and direct spending programs. Instead, what is 
needed is a radical reordering of government programs to make 
them efficient and fair.

                         I. UNIVERSAL COVERAGE

    Whether or not people have health insurance is a national 
issue in which the federal government has a legitimate 
interest. Therefore, we propose that the federal government 
commit a fixed sum of money for health insurance for every 
American (say, $800 per adult and $2,400 for a family of four). 
The commitment should be the same for everyone--rich or poor, 
black or white, male or female.
    Everyone who purchases private health insurance would be 
rewarded with a dollar-for-dollar reduction in income taxes for 
health insurance costs up to a maximum amount (e.g., $2,400 for 
a family of four). The credit would be fully refundable, so 
even those who owe no income taxes would get the same financial 
help.
    The federal role would be purely financial. Private health 
insurance benefits would be determined by individual choice, 
competitive markets and state regulations. This plan is not 
designed to subsidize the full cost of health insurance for an 
average family. In most cases, the federal tax relief probably 
would fund only a core benefits package with a very high 
deductible. Individuals and their employers would be free to 
purchase more complete benefit packages, but they would pay the 
difference with aftertax (unsubsidized) dollars.

             II. A HEALTH CARE SAFETY NET FOR THE UNINSURED

    No one would be forced to purchase private health 
insurance. But those who failed to buy private insurance would 
pay higher taxes because they would receive no tax subsidy. 
Unlike the current system under which higher taxes paid by the 
uninsured simply become part of the Treasury Department's 
general revenues, the ``tax penalties'' paid by the uninsured 
would be rebated to state and local governments for local 
Health Care Safety Nets. This would ensure that those who elect 
to remain uninsured would have access to a social safety net 
with a guaranteed minimum level of funding.
    This federal money for local Health Care Safety Nets would 
be like a block grant with one condition: the money would have 
to be spent on indigent health care. However, no uninsured 
person would have the right to demand a particular health care 
service from the Safety Net. Local authorities would also be 
free to charge fees to the uninsured--especially if it appeared 
that their lack of insurance was willful.
    Safety Net services may not be as desirable as services 
provided by private insurance. Although the commitment of 
federal dollars to the two alternatives (private insurance or 
Safety Nets) would be the same, the amount of money per capita 
available to local Safety Nets is expected to be less than the 
resources available through private insurance. Thus Safety Net 
doctors might not always be the very best doctors, Safety Net 
programs might not be able to meet every health care need, and 
there might be some waiting. These features are consistent with 
the overall goal of creating some form of universal coverage 
while at the same time encouraging private rather than public 
provision of health care.
    These local Health Care Safety Nets could be partly funded 
with federal health dollars currently going to the states and 
partly funded by state dollars that currently fund health care 
for the uninsured. Under this plan, states would receive more 
federal money if their uninsured population expanded and less 
money if it contracted--unlike the current system, where there 
is no necessarily relationship between the amount of federal 
funding and any objective measure of need. Under the plan I am 
describing, the federal government could discharge its 
commitment to the states by counting against that commitment 
dollars in current programs that fund indigent health care, 
provided the states gain full freedom and flexibility to use 
those funds to meet the needs of the uninsured.
    Safety Net dollars could also be used to fund high-risk 
pools. Under current law, states must create opportunities for 
certain uninsurable individuals--those who were previously 
insured--to obtain health insurance; and many have satisfied 
this obligation by creating high-risk pools. This plan would 
encourage the expansion of such risk pools by allowing Safety 
Net money to fund them.

                           III. TAX FAIRNESS

    For the first time, individuals who purchase their own 
health insurance would receive just as much tax relief as is 
provided to employer-sponsored plans. Under the current system, 
employer payments for health insurance are excluded from the 
employee's taxable income--cutting the cost of health insurance 
in half for some middle-income families. By contrast, many 
individuals who purchase their own health insurance must do so 
with aftertax dollars--forcing some people to earn twice as 
much before taxes in order to purchase the same insurance. This 
plan would provide the same tax relief to every taxpayer--
regardless of how the insurance is purchased.
    For the first time, low-and moderate-income families would 
receive just as much tax relief as is provided to high-income 
families. Under the current tax exclusion system, those in the 
highest tax brackets get the most tax subsidy for employer-
provided health insurance--the top 20 percent of families get 
six times as much help from the federal government as the 
bottom fifth. Under this plan, every family would get the same 
tax relief--regardless of the family's personal income tax 
bracket.

                   IV. A RATIONAL ROLE FOR EMPLOYERS

    Under this reformed system, employer-purchased insurance 
and individually purchased insurance would be put on a level 
playing field under the tax law. For those who obtain insurance 
under the tax credit system, amounts spent by the employer on 
health insurance would be included in the employees' taxable 
income. However, employees would receive a tax credit on their 
personal income tax returns--the same tax credit that would be 
available to people who purchase their own insurance. In this 
way, people would get the same tax relief for the purchase of 
private health insurance, regardless of how it was purchased.
    The employer's role would be determined in the marketplace, 
rather than by tax law. Some health reform proposals would 
require employers to provide health insurance; others would 
force employers out of the health insurance business. By 
contrast, this plan would allow the market to determine the 
employer's role: if employers have a comparative advantage in 
organizing the purchase of insurance for their employees, 
competition for labor will force them into that role; if 
employers have no special advantage, they will avoid that role.

       V. PRESERVING EMPLOYER OPTIONS, BUT REWARDING GOOD CHOICES

    Employers would have the option of keeping their employees 
in the current tax regime. Because many employers and their 
employees have made plans and organized their financial affairs 
around the current tax law, an abrupt change to the new system 
could be unfair. However, most employers would have an economic 
incentive to switch to the tax credit system because that would 
allow them to cut waste and inefficiency out of their health 
care plans without losing tax benefits.
    Because the current tax exclusion system rewards those in 
the highest tax bracket the most, it favors high-income 
employees. Because the tax credit system treats all taxpayers 
equally, switching to it would help almost all low-and 
moderate-income employees. Even though their higher-income 
employees might pay higher taxes as a result, employers who 
helped their low-income employees by switching to a tax credit 
regime would be rewarded: the new tax regime would lower the 
cost of their compensation packages and make it easier for them 
to compete for employees in the labor market.

            VI. INCENTIVES TO REDUCE WASTE AND INEFFICIENCY

    The tax credit system described here would give employers 
and employees new opportunities to reduce health care costs. 
Under the current tax exclusion system, employees can reduce 
their tax liability by choosing (through their employers) more 
expensive health insurance plans. As a result, the federal tax 
system encourages overinsurance and waste: An employee in a 50 
percent tax bracket (including state and local taxes) will tend 
to prefer a dollar's worth of health insurance to a dollar of 
wages even if the health insurance has a value of only 51 
cents. By contrast, under the tax credit system no one would be 
able to reduce his or her taxes by purchasing more expensive 
insurance. Since marginal improvements in a health benefits 
package under the tax credit system could be purchased only 
with aftertax dollars, no one would spend an extra dollar on 
health insurance unless it produced a dollar's worth of value.
    The tax credit system would allow employees to manage some 
of their own health care dollars. Current tax law rewards 
employees who turn over all their health care dollars to an 
employer health plan (by excluding such money from taxable 
income), but penalizes (by taxing) income placed in a Medical 
Savings Account. The exception is the pilot MSA program for the 
self-employed and employees of small businesses. As a result, 
current law favors the HMO approach--in which the health plan 
controls all the health care dollars and makes all the 
important decisions--even though individuals might in many 
cases be better managers of their own health care money.
    Under the new plan, individuals who chose the tax credit 
option would be able to deposit a certain amount of aftertax 
income--say, $2,000 per adult with a $5,000 family maximum--
into a Roth MSA. Contributions to Roth MSAs would be allowed 
only for individuals who have at least catastrophic insurance. 
A Roth MSA would be a ``wraparound'' account, designed to fund 
the purchase of any medical expense not covered by a health 
plan; it could be used in conjunction with an HMO as well as 
fee-for-service insurance. Funds in a Roth MSA could only be 
used for medical care or would remain in the account to back up 
a health plan for at least one year. At the end of the one-year 
insurance period, Roth MSA funds could be withdrawn without 
penalty for any purpose, left in the account to grow tax free, 
or rolled over into a Roth IRA.
    This change would put third-party insurance and individual 
self-insurance on a level playing field under the tax law. The 
Roth MSA option would correct the bias in the current tax law. 
Beyond a basic level of insurance funded by the tax credit, 
individuals would choose to spend their aftertax dollars on 
more insurance benefits or place those same dollars in a Roth 
MSA. No one would have an incentive to turn over additional 
dollars to a health plan unless they judged that the extra 
benefits were more valuable than of depositing an equal amount 
in a Roth MSA.
    Just as the tax exclusion for employer-provided health 
insurance encourages people to overinsure, the current system 
of Flexible Spending Accounts (FSAs) encourages people to 
overconsume. As it now stands, employees make pre-tax deposits 
to an FSA to pay their share of premiums and to purchase 
services not covered by the employers' health plan. A use-it-
or-lose-it rule requires that employees spend the entire sum or 
forfeit any year-end balance in the account. This rule 
encourages wasteful spending on medical care at year-end. Under 
the new plan, employees in the tax credit system would no 
longer have an FSA option. Instead, they would have a use-it-
or-save-it Roth MSA option.

                   VII. OPTIONS FOR THE SELF-EMPLOYED

    This plan gives the self-employed a new option: a tax 
deduction for the purchase of health insurance or a tax credit. 
Currently, the self-employed get a partial deduction for the 
purchase of health insurance, and eventually will get a 100 
percent deduction. As an alternative, this plan would allow the 
self-employed to take a tax credit.
    Under the current system, the self-employed may contribute 
to a conventional MSA, provided they have catastrophic 
insurance. Under this plan, the self-employed who elected the 
tax credit would be able to make deposits to a Roth MSA 
instead. They would be allowed to contribute to either a 
conventional MSA or a Roth MSA, but not both during the 
insurance period.

        VIII. SOLUTION TO THE SPECIAL PROBLEMS OF THE UNINSURED

    A refundable tax credit for the purchase of health 
insurance that was previously in the tax code failed because it 
did not address the cash flow problems of low-income families. 
It forced those families to rely on their own resources to meet 
premium payments for the year and wait for reimbursement until 
the following April 15. As a result, the program did not make 
funds available for the purchase of insurance at the time the 
funds were needed. This plan would solve that problem by 
allowing people to assign their rights to the credit to an 
insurance company month-by-month. The procedure would be 
similar to the one under which low-income families can obtain 
advance funds based on their right to collect the Earned Income 
Tax Credit (EITC) through a bank loan arranged by a firm such 
as H&R Block. In this way, individuals would be able to buy 
health insurance without reducing their monthly income. This 
plan also would allow the health insurance tax credit to be 
combined with the Earned Income Tax Credit (EITC), so that 
families could afford a more generous package of benefits.
    Most people who are uninsured are working, and many have 
the opportunity to join an employer plan but decline to do so. 
One reason they decline is that they are required to pay a 
substantial part of the premium. Some join themselves but do 
not insure their dependents. This plan would solve the problem, 
using a procedure similar to the one just described. Currently, 
low-income employees who qualify for the EITC can file a form 
with their employer and receive their EITC ``refunds'' month by 
month. In a similar way, the health insurance tax credit could 
be accessed month by month and used to pay the employee's share 
of the premium. Thus low-income employees could insure 
themselves and their families with no reduction in take-home 
pay. Employees could also combine the health insurance tax 
credit with their EITC refund to obtain more generous 
coverage--again, with no reduction in take-home pay.
    Employers would not be required to opt into the tax credit 
system, but those who did would be able to offer their 
employees a more attractive compensation package and gain a 
competitive edge in the labor market.
    Most people who are uninsured are temporarily uninsured--
usually for a period of less than one year. To meet the needs 
of these people, health reform must make a refundable health 
insurance tax credit flexible enough to fund health insurance 
coverage for part of a year. The techniques described above 
will allow low-income employees to pay premiums month by month 
or even pay period by pay period.

                   IX. HEALTH INSURANCE AND WORKFARE

    The reforms proposed here would make Workfare work. For 
many families, one of the biggest obstacles to getting and 
staying off welfare is the lack of a private insurance 
alternative to Medicaid. This plan would make it possible for 
low-income families to buy into an employer health plan or to 
purchase insurance on their own.
    A related problem concerns people who are laid off or are 
temporarily unemployed while they are between jobs. Periods of 
unemployment are typically periods when family financial 
resources are very limited. The refundable health insurance tax 
credit could bridge the gap, financing the purchase of short-
term insurance or funding COBRA payments that continue coverage 
under a previous employer's plan. Funds in a Roth MSA also 
could help solve the problem, since such funds could be used to 
pay premiums during periods of temporary unemployment.

               X. THE ROLE OF STATE AND LOCAL GOVERNMENTS

    The plan I have outlined is the first plan that defines the 
roles of state and local governments in meeting the needs of 
the uninsured. By keeping the federal role purely financial, 
which largely continues current practice, the plan would make 
state governments responsible for regulating the terms and 
conditions under which health insurance would be bought and 
sold. However, the plan would retain the ERISA preemption that 
exempts from state regulation companies that self-insure 
because such companies are not purchasing insurance in the 
marketplace and because self-insurance often is a socially 
desirable alternative to costly state regulations. State 
governments also would be responsible for operating local 
Health Care Safety Nets. Once the federal financial obligation 
was discharged, state and local governments would assume 
funding responsibility for any remaining problems.
    Although state governments would be obligated to spend 
federal safety net money on the uninsured, they could discharge 
this obligation in many ways. One way would be to set up 
clinics that dispense free services to the low-income 
uninsured. Another would be to enroll the uninsured in an 
expanded Medicaid program. A third option would be to 
supplement the federal grant and assist people in obtaining 
private health insurance.
    Many states subsidize the purchase of private insurance by 
piggybacking on federal practice. They exclude employer 
payments from employee taxable income and/or create special tax 
relief for low-income families. These states could continue 
their current practices or adopt a tax credit at the state 
level. Most would quickly discover that the latter is a better 
use of state resources. States also would be allowed to 
supplement the federal tax credit with a state tax credit of 
their own design, and many probably would do so.
    In general, states will find it in their interest to 
encourage private insurance, because private insurance will 
almost always involve an input of private resources through the 
family premium contributions, whereas the state burden will be 
greater if people depend on state and local funds to meet all 
their health care needs.
    Many states have contributed to the growing number of 
uninsured through unwise regulations. These states could 
continue such practices, but they would pay a heavy (budgetary) 
price for doing so. Since the federal commitment under the new 
plan would be fixed, the federal government could not be held 
hostage to the vagaries of state law.

                           XI. FUNDING REFORM

    Currently, the United States spends more than $100 billion 
on tax subsidies for employer-provided health insurance, with 
much of the money subsidizing wasteful overinsurance and 
rewarding higher-income families who would have purchased 
insurance without the subsidy. Moving to a tax credit system 
would allow employers and employees to avoid many wasteful 
practices without losing tax benefits. As employers and 
employees shift to more economical health plans, employer tax-
deductible expenses for health insurance would fall and taxable 
wages would rise. The extra taxes the federal government would 
collect from the larger taxable wage base would be a source of 
funding to insure the currently uninsured.
    Federal and state spending on health programs for the 
uninsured currently exceeds $1,000 for every uninsured person 
in America. If all of the uninsured suddenly became insured, 
this would free up more than $40 billion a year in current 
spending. Savings made possible by scaling back spending 
programs (as the need diminishes) would be a source of funds to 
finance the tax credit and the Safety Net program.
    America does not need to spend more money on health care--
$1 trillion a year is ample money to meet the nation's health 
care needs. The goal of health reform should be to redirect 
government subsidies and government spending so that those 
dollars are used more wisely and more fairly.
      

                                


    Chairman Archer. Thank you, Dr. Goodman. The next witness 
is Dr. Stuart Butler. The Chair would, number one, thank you, 
Dr. Goodman, for keeping your oral presentation to 5 minutes. 
Your entire printed statements without objection will be 
entered into the record.
    You may proceed, Dr. Butler.

STATEMENT OF STUART BUTLER, PH.D., VICE PRESIDENT, DOMESTIC AND 
          ECONOMIC POLICY STUDIES, HERITAGE FOUNDATION

    Mr. Butler. Thank you, Mr. Chairman. I am Stuart Butler. I 
am the vice president for domestic and economic research at the 
Heritage Foundation.
    Mr. Chairman, as Mrs. Johnson and Dr. Goodman have noted, 
there is a tax no man's land in today's health system between 
employer-sponsored health insurance and Medicaid. Working 
families receive an often generous tax exclusion if their 
employer offers health insurance. But if their employer does 
not do so or if dependent coverage is too expensive for the 
worker, families get no help through the tax system for 
purchasing their own coverage. Also many Americans with 
coverage feel locked into their current jobs if a more 
attractive job doesn't provide coverage and they would have to 
pay for their family's health with aftertax dollars.
    Furthermore, there is a growing concern that many Americans 
who have been leaving welfare and taking entry level jobs will 
find themselves facing prohibitive health costs when their 
Medicaid benefits cease. Members of both parties have offered 
bills or are developing legislation to begin to correct the 
huge tax bias facing families who must seek their own health 
insurance. These bipartisan proposals would provide a health 
tax deduction or credit to working families who lack employer-
sponsored coverage. I would urge Congress to take the step this 
year of enacting a partially refundable tax credit for health 
expenses.
    Let me make a few comments about the issues this Committee 
should consider in designing such a credit. First, it is 
important to recognize that a feasible credit this year would 
only be an initial step, not the complete solution. Mr. Stark 
has noted that insurance issues have to be addressed, but I 
believe we should move on the tax side now while we have the 
opportunity.
    Second, while it is true that much of the benefit of a new 
tax credit would go to working people who are already buying 
insurance with aftertax dollars, basic fairness and tax equity 
demands that Americans should receive equal tax relief under 
the new policy to those not now buying insurance. Congress 
should not discriminate against those workers who have already 
made the costly decision of buying insurance to protect their 
families.
    Third, those who argue that the value of the credits under 
discussion are not enough should note that a Federal tax credit 
is just one element of the whole solution. If a larger credit 
could be enacted this year, it would certainly have more 
impact. But a $1,000 credit for a family in Connecticut or 
Texas means that we are $1,000 closer to dealing with that 
family's lack of insurance. States could use the Federal credit 
as the foundation upon which to use Medicaid, S-CHIP or other 
programs in a creative way. States can and should also explore 
innovative pooling arrangements for insurance.
    Fourth, a tax credit would not be a threat to successful 
parts of the employment-sponsored system, especially if it were 
limited to workers who are not offered employer-sponsored 
coverage or for the purchase of dependent coverage. Indeed, 
permitting low-income workers to use a credit to pay for the 
out-of-pocket costs of dependent coverage would strengthen 
employment-based coverage while reducing uninsureds.
    Moreover, to the extent that some smaller employers and 
their employees would find it sensible to cash out of an 
inefficient health plan and let their workers use their credit 
to buy insurance elsewhere, that would improve the coverage for 
these families.
    I agree with Mr. Stark that it could be a good thing if 
some parts of the employment-based system were replaced.
    Fifth, some people argue that low-income people would not 
be able to wait until they filed their tax return to obtain the 
credit, but a family can ask their employer to factor the 
health credit into their withholdings, just as many do with the 
child care credit.
    In addition, Congress can consider incorporating Senator 
Daschle's proposal to allow families to assign their credit to 
an insurance plan in return for reduced premiums. That is not 
unlike of course the way that the Federal Employee Health 
Benefits Program operates.
    Sixth, different credit designs would have different 
implications. For the same revenue cost, a credit of a fixed 
amount would provide the biggest bang for the buck to the low-
income workers. On the other hand, the percentage credit is 
generally more helpful to those who, because of their medical 
situation, need to buy more care.
    In addition, making the credit available against all health 
costs, not just insurance would mean families could make the 
economic decision to buy no frills insurance for major medical 
problems but still get tax relief for routine expenses or 
savings for health expenses.
    It might be best to allow families to choose between a 
percentage credit for all health expenses up to a maximum 
amount, and a fixed amount for insurance meeting minimum 
specifications. Alternatively, Congress could consider a credit 
which combines both of these features or a combined credit 
deduction such as Mrs. Johnson proposes.
    Finally, a health credit would be reasonably compatible 
with long-term tax reform, assuming that some tax preference 
for health care were retained in a reformed Tax Code. For 
instance, a health credit could be folded into the personal 
exemption amount and a flat income tax or into an exempt or 
reduced tax rate feature of a sales tax.
    Mr. Chairman, it is not often that there is such broad 
political support for a tax measure that would begin to make a 
difference to the daily problems of ordinary Americans. I 
believe strongly that the Committee should not let this 
opportunity slip away. I believe you should move ahead with a 
limited tax credit now and continue the discussions that Mr. 
Stark and others have had with the leadership about dealing 
with the tough issues associated with insurance. I believe 
action now can and should be taken on the tax side.
    Thank you.
    [The prepared statement follows:]

Statement of Stuart Butler, Ph.D., Vice President, Domestic and 
Economic Policy Studies, Heritage Foundation

    Mr. Chairman, my name is Stuart Butler. I am Vice President 
for Domestic and Economic Policy Studies at The Heritage 
Foundation. The views I express in this testimony are my own, 
and should not be construed as representing any official 
position of The Heritage Foundation. Some of the following 
material is taken from a forthcoming article I have co-authored 
with David Kendall of the Progressive Policy Institute. 
Nevertheless, some of the conclusions I draw differ from our 
joint position, and thus do not necessarily represent his 
views.
    I am pleased that the Committee is giving consideration to 
incorporating some form of health tax credit into the tax code. 
There is growing support outside Congress for introducing 
changes in the tax code to make it more rational concerning 
health expenditures and to help the uninsured and to help the 
uninsured, and these proposals often include a tax credit 
component. Organizations favoring tax-based reforms include the 
American Medical Association, the National Association of 
Health Underwriters, and scholars in such research 
organizations such as Heritage, the Urban Institute, the 
American Enterprise Institute, the Cato Institute, and the 
National Center for Policy Analysis. Moreover, many members of 
this Committee, as well as members of other House and Senate 
Committees, have either introduced health tax credit bills or 
are considering such legislation. With this growing interest in 
the approach, I believe the time is ripe for Congress to act 
this year on a health tax credit.
    The interest in introducing a health care tax credit stems 
from two related features of the current health care system. 
First, there is a growing recognition that the current 
employer-based system (which is heavily subsidized by the tax 
exclusion for employer-sponsored health insurance) is a very 
inadequate vehicle for providing health coverage in certain 
sectors of the economy. A new health insurance tax credit would 
help stimulate the creation of a parallel health insurance 
system for working people who are not well served by employer-
sponsored insurance. Second, the support for a tax credit 
(rather than, say, a widening of the exclusion or the 
introduction of a deduction) recognizes the inefficiency and 
ineffectiveness of the tax exclusion as a device to help 
Americans afford health care.
    The growing level of uninsurance in this country 
underscores the need for at least modest steps to be taken, and 
its causes reinforce the belief that a tax credit would be a 
sensible step to take. As the Committee is well aware, the 
number of uninsured individuals is over 43 million, with 
uninsurance reaching epidemic proportions in some communities. 
Approximately one third of Hispanic-Americans are uninsured, 
for example, and about one half of the working poor. 
Significantly, the uninsured are predominantly within working 
families. Only about 16 percent of the uninsured are outside 
such families. And while 24 percent are in families with 
workers employed part-time or part of the year, 60 percent are 
in families with an adult working full-time year round.
    Surveys indicate that about 75% of the uninsured say they 
simply cannot afford coverage, or they have lost coverage that 
was once available through their employer.
    While millions of Americans enjoy the certainty of good, 
predictable coverage through their place of work, it is 
becoming increasingly clear that the place of employment is not 
an ideal method of obtaining coverage for many Americans, 
particularly in the small business sector. Unfortunately, 
current tax policy is heavily biased against any other method 
of obtaining coverage.
    Consider the following:
     In an economy with increased job mobility, for an 
ever-larger proportion of the population an employment-based 
group is no longer a stable, long-term foundation for health 
insurance. Even if a family can expect to receive coverage 
whenever the main earner changes jobs, typically there will be 
some change in the benefits available or the physicians 
included in the plan. The higher the degree of job mobility for 
a family or in an industry, the higher the degree of change and 
uncertainty associated with employment-based health insurance.
     While major employers, with a large insurance pool 
and a sophisticated human resource department, may be 
considered a logical institution through which to obtain health 
insurance, this is not the case with most smaller employers. 
These employers typically lack the economies of scale, and 
usually the expertise, to negotiate good coverage for their 
employers, and it should be no surprise that uninsurance is 
heavily concentrated in the small business sector. In 1996, 
just under half of firms below with 50 employees offered 
insurance, while the figure was 91 percent for those with 50-99 
employees and 99 percent of those with more than 200. For those 
firms below 50 employees where most workers earned less than 
$10,000, only 19 percent were offered health benefits. Further, 
Hay/Huggins has found that, in 1988, average administrative 
costs exceeded 35 percent of premiums for firms with fewer than 
10 employees, compared with 12 percent for firms with over 500 
workers.
     Other large, stable groupings exist that could be 
sponsors of health insurance, but these are discriminated 
against in the current tax system. For example, unions could 
carry out exactly the same functions as an employer regarding 
health insurance. Indeed, the Mailhandlers union and other 
unions or employee associations act as plan organizers in the 
Federal Employees Health Benefits Program. But union-sponsored 
plans are quite unusual outside the federal government, because 
enrollees in union-sponsored plans typically are not eligible 
for the tax benefits associated with employer-sponsored 
insurance. Yet, many workers who have only a loose affiliation 
with their employer, or work for smaller employers who do not 
provide insurance, have a long-term, close connection with 
their union. Moreover, the union would be a very large 
potential insurance pool. Similarly, large religious 
organizations, such as consortia of Churches in the African-
American community, would be a far more logical vehicle for 
which to obtain health insurance, thanks to the size of the 
insurance pool and the sophistication of the church leadership, 
than most of the businesses employing members of such churches. 
Yet again, the tax system is biased against these alternatives.

 How the tax system exacerbates failings of employment-based coverage.

    Under the current arrangement for working-age families, 
employees receive a tax exclusion if they allow their employer 
to allocate part of their compensation for a health insurance 
policy owned by that employer. This arrangement helps cause 
uninsurance in several ways. For example:
     Since this tax exclusion is available only for 
employer-sponsored coverage, a working family without employer-
sponsored insurance has no subsidy through the tax code to help 
offset the cost of buying its own coverage or health care. Thus 
families who lose their work-based insurance for any reason, 
such as cutbacks in benefits or jobs by the employer, suffer a 
double blow--not only do they lose the insurance, but they also 
no longer receive a tax subsidy to pay for care. Not 
surprisingly, high degrees of uninsurance are prevalent among 
working families with moderate and low incomes
     The tax benefits available for employer-provided 
coverage are a very inefficient method of helping low-income 
workers to afford care. Since compensation in the form of 
employer-sponsored insurance is excluded from an employee's 
taxable income (avoiding payroll taxes as well as federal and 
state income tax), by far the largest tax benefits go to more 
affluent workers on the highest tax brackets. Those at the 
lowest income levels (especially those who do not earn enough 
to pay income tax) receive little or no tax subsidy. According 
to John Sheils and Paul Hogan (Health Affairs, March/April 
1999) the value of the tax exclusion in 1998 was over $100 
billion at the federal level (including income and payroll 
taxes) and an additional $13.6 in relief from state and local 
taxes. While the average tax benefit per family was just over 
$1000, the tax benefits were heavily skewed towards higher-
income families. Sheils and Hogan estimate that families with 
incomes in excess of $100,000 benefited to the tune of an 
average of $2,357, while families with incomes of less than 
$15,000 received benefits worth an average of just $71 
(although this includes uninsured families receiving no tax 
breaks at all). Some 68.7 percent of all the tax benefits in 
1998 went to families with incomes in excess of $50,000.

                      How a tax credit would help.

    Introducing a tax credit for health expenditures for 
families lacking employer-sponsored insurance would begin to 
rectify the deficiencies in the current tax system and in doing 
so would begin to stimulate the provision of health insurance 
through organizations other than employers. Non-employer 
sponsored coverage would not be intended to replace successful 
company-based plans, but to provide an alternative for families 
who do not have access to insurance through their place of 
work, or where their employer-sponsored coverage is clearly 
inadequate or inappropriate.
    A tax credit would have three key benefits. First, it would 
be worth at least as much to lower-income families as upper-
income families, unlike the tax exclusion which is worth far 
more to people in higher tax brackets. Second, it could be made 
refundable at least against payroll taxes in addition to income 
taxes. This means workers without an income tax liability could 
still claim the credit, thereby providing some help to nearly 
all the uninsured. In contrast, an individual tax deduction for 
health insurance has the potential for reaching only about one-
third of the uninsured, since it would not be refundable and 
many low-income workers do not have any income tax liability. 
Third, a credit would be available regardless of job status and 
would make coverage more affordable for workers between jobs.
    Various credit designs proposed in recent years possess 
these key features. Credit can be a fixed amount or can vary 
according to a variety of factors including a worker's 
expenditure on insurance, income, demographic and geographic 
factors, and health risks. Major tax credit proposals in the 
past have ranged from a sliding-scale credit based on income 
and health expenditures, such as the bill introduced in 1994 by 
Sen. Don Nickles (R-OK) and Rep. Cliff Stearns (R-FL), a fixed-
sum tax credit such as the bill introduced recently by Rep. 
John Shadegg (R-AZ), or a percentage credit against costs, such 
as the bill introduced by Reps. James McDermott (D-WA) and 
James Rogan (R-CA).
    The McDermott-Rogan proposal would provide a refundable tax 
credit for 30 percent of a family's expenditure on health 
insurance, which is based on the value on the current tax 
subsidy for a taxpayer in 15 percent income tax bracket plus 
the exclusion from FICA taxes. The Shadegg proposal would 
provide a dollar-for-dollar, refundable credit of up to $500 
for individuals ($1,000 for families) for the purchase of 
health insurance.
    These different forms of tax credit have subtly different 
effects. For example, a tax credit for a given percentage of 
the cost of insurance could encourage overspending by some 
families, just as the current open-ended subsidy does in 
employment-based coverage although this effect is reduced if 
there is an income cap, or if the total credit is capped. A 
simple percentage credit also could leave low-income people 
still unable to afford coverage. On the other hand, a tax 
credit for a fixed-sum of health care coverage can concentrate 
the most help on the needy and encourages spending only up to 
that amount. That minimizes overinsurance, but families facing 
high costs would incur the full marginal price of needed extra 
services or coverage mentioned earlier. For workers with a 
serious health condition facing higher premiums, the ideal tax 
credit would be a sliding scale credit adjusted upward 
according to the ratio of cash and income. Such a credit would 
have the need to subsidize higher risk workers through 
community rating laws that perversely benefit high-income, 
high-risk workers at the expense of low-income, low-risk 
workers. Most states permit insurance premiums to vary at least 
somewhat according to health risks and demographic factors in 
both the individual and small group markets, the two markets 
mostly likely to be affected by a refundable tax credit. Thus, 
a tax credit for a percentage of spending (especially a sliding 
scale credit) would take better account of these differences.
    A fixed or percentage tax credit could be provided without 
regard to income. But clearly that would mean a lower degree of 
assistance for the poor--for the same total revenue cost--than 
a targeted credit. A tax credit that is targeted toward those 
who can least afford coverage, however, means there must be 
some form of phase-out based on income. Such phase-outs 
necessarily create higher effective marginal tax rates for 
taxpayers who fall in the phase out range. This problem is 
especially pronounced for certain low-income workers, who can 
face marginal tax rates of 100 percent or more due to the 
phase-out of several income-based programs such as the earned 
income tax credit, welfare, day care and Medicaid subsidies, 
housing subsidies, and food stamps. This problem occurs with 
any subsidy arrangement, of course, not only with tax credits. 
More sweeping tax credit reforms, such as the Nickles-Stearns 
bill, resolved this to a large degree by changing the entire 
tax treatment of health care, thereby permitting a very gradual 
phase-out of the credit.

            Some Questions and Answers on Health Tax Credits

Q. Would a tax credit undermine successful employment-based 
coverage?

    A. Not if designed properly. It would help provide an 
alternative with the characteristics of successful employer-
sponsored plans for those currently outside the employment-
based system--such as large, stable group insurance pools and 
administrative economies of scale. But it is important that 
prudent steps be taken to combine a credit with a ``wall of 
separation'' strategy to limit the probability that successful 
employer plans would be dismantled, either because of a 
decision made by the employer, or because individual workers 
preferring the credit undermined the firm's insurance pool.
    Certain design elements could be incorporated into a credit 
to minimize the risk to good employer-sponsored plans. For 
example, the credit might be made available only where 
insurance is not available from the employer.

Q. Would workers with little cash be able to front the cost of 
insurance before they could claim the tax credit?

    A. Yes. The idea that a tax credit means employees would 
have to wait until the end of the year to obtain tax relief is 
a myth. Just as mortgage interest tax relief, or a child care 
credit, is obtained by most families over the whole year by an 
adjustment to their withholdings, the same would be true of a 
credit. In addition, a novel idea proposed by Sen. Tom Daschle 
(D-SD) would simplify things even further for many families. 
Daschle would let the insurer reduce its own tax withholdings 
for each person who voluntarily assigns the value of their 
credit to that insurer for the purpose of purchasing health 
insurance. This approach could be particularly helpful to the 
unemployed if it applied to COBRA plans as well.

Q. Would a credit be an efficient way to provide help? Wouldn't 
much of the money devoted to financing the credit actually go 
to people who are already buying insurance?

    A. While millions of families are uninsured, there are many 
families who lack employer-based coverage but have decided to 
purchase their own insurance, typically with no tax relief. 
Clearly, these families would immediately take advantage of any 
available tax credit to offset the cost of their current 
coverage and/or improve it. For this reason, a significant part 
of the revenue cost of a tax credit would go to these families, 
meaning that only a portion of the revenue costs would be used 
by uninsured families to obtain insurance. Depending on the 
size of the credit (the larger the amount, the more likely 
uninsured families are to take advantage of it), the proportion 
of ``tax expenditures'' leading to actual reductions in the 
uninsurance rate could vary widely.
    Some critics of the tax credit approach conclude that a tax 
credit would be ``inefficient'' in that many people who today 
buy their own insurance would simply use the credit to offset 
their cost without increasing their coverage. But this 
presupposes that equity is not an appropriate objective, in 
part, of the tax credit strategy. Yet one of the aims should be 
to make sure that people of similar circumstances receive the 
same help, and that it should not be considered a policy flaw 
if tax relief is provided to families who have saved elsewhere 
in their household budget to pay for coverage today.

Q. Would a credit be large enough for low-income people to 
afford coverage?

    A. To be sure, studies and surveys suggest that millions of 
low-income Americans still would consider coverage to be 
prohibitively expensive even with a refundable tax credit of, 
say, 30 percent. This observation is used to argue that the 
credit approach would be ineffective. But a tax credit approach 
should not be seen in isolation as a complete solution for all 
the uninsured. Other subsidies and programs exist and are 
needed--but these other approaches are more likely to be 
successful if a family can add part of the cost through a 
federal tax credit. In particular, states have been using their 
own and federal resources (such as Medicaid and SCHIP) to 
provide assistance to families needing health insurance. A 
refundable federal tax credit of, say, $1,000 for a family 
should be seen as a foundation on which to build with these 
other programs and resources. A $1,000 credit means that we are 
$1,000 closer to financing the cost of insurance for a family.

Q. Can other organizations really be as effective as employers 
in organizing coverage?

    A. Yes and no. Many large corporations today have the 
sophistication, scale of buying power, and presence in the 
community to outperform any other organization in organizing 
good, economical health coverage. In the system envisioned by 
the authors these would be the logical vehicles for coverage, 
at least if employment tended to be long term in the firm. 
Moreover, a tax credit system could also allow families to buy 
into the health plans of corporations for whom they do not even 
work, if this makes sense for the corporation. Many large firms 
have made the decision to turn an internal service into a 
profit center for outside customers. The Sprint telephone 
company, for example, grew out of the internal communications 
system of the Southern Pacific Railroad. And John Deere & Co. 
spun off its health benefits operation as an HMO in Iowa. If 
families could obtain tax relief to buy coverage outside their 
own firm, one could imagine large corporations with huge health 
plans deciding in the future to offer a competitive insurance 
service to non-employees.
    In many situations, non-employment based groups would have 
a comparative advantage and would be more logical and skilled 
organizations. Moreover, these groups are not merely potential 
pools for coverage. In many instances they have a ``community 
of interest'' connection with families that means they could be 
expected to work for the long term interest of these families. 
Consider, for instance, the potential of union-sponsored 
insurance in the restaurant and small hotel sector. In this 
sector, firms tend to be small and employee turnover high, 
while unions are available that are large and sophisticated. 
Unions in general have considerable expertise in bargaining for 
health care and would be the health care sponsor of choice for 
many Americans--even for those who do not wish to be active 
union members. In the FEHBP, for instance, the Mailhandlers 
union provides coverage to many federal workers who join the 
union as associate members merely to avail themselves of the 
health plan.
    Groups of churches in the African-American community also 
could be preferred sponsors of care in a system in which 
subsidies and tax benefits were not confined to employment-
based plans. In many communities served by these churches, 
employers are small and employee turnover is high, yet families 
have a strong and continuous affiliation with the church. 
Moreover, America's black churches have a long history of 
serving the secular as well as the spiritual needs of their 
congregations, by providing housing, education, insurance and 
other services.
    To be sure, there are legitimate concerns to be addressed 
in considering the role of such organizations in health care. 
One is the stability of the insurance pool--if individuals can 
easily affiliate or end their affiliation it may be difficult 
to secure coverage without wide price fluctuations over time 
(of course, this is also a problem with small employer pools in 
some industries). Another, linked to this, is the worry that 
adverse selection may undermine the group.
    It is unclear how large these problems are. In the FEHBP, 
for instance, many plans operated by organizations (such as the 
Mailhandlers mentioned earlier) allow individuals from outside 
the base group to affiliate for a small fee simply to obtain 
coverage, and all enrollees are charged the same community 
rate. Yet the groups are surprisingly stable, perhaps due in 
part to the relatively high costs for individuals to calculate 
and make plan choices based on their own predictions of their 
own health care costs. Yet even if stability and adverse 
selection is accepted as a serious concern, steps at the state 
or federal level could be taken to increase the stability of 
the group. For instance, there could be waiting period after 
joining the group before the family could join its health plan. 
In addition, one-year minimum enrollment contracts could be 
required. Another protection might be to place a minimum 
requirement on the membership of the pool, which might be 
achieved through a multi-year consortium of several churches, 
say, to make the pool large enough to withstand the inflow and 
outflow of members. The groups also could operate under 
insurance pooling and rating requirements developed by states.

Q. Would a health care tax credit be a further impediment to 
tax reform?

    A. In a simpler, flatter tax system, there would be no tax 
preference at all for health expenses. If the current tax 
expenditures for health care were to be used to help 
``finance'' an across-the-board rate reduction, it could 
significantly lower the rates in a flat income tax or sales 
tax, which would of itself make health insurance more 
affordable.
    If, however, it is assumed there is little prospect of 
eliminating the tax preference for health costs, a tax credit--
especially a credit of a fixed amount per family--would be 
reasonably consistent with tax simplification. If over time, 
the tax treatment of health care were gradually shifted from 
today's exclusion and deduction system to a credit, this would 
be more compatible with a flat tax or sales tax than the 
current system. The reason for this example, the health tax 
credit could be subsumed into the general exemption for 
families in a flat income tax.
    Growing rates of health uninsurance in the United States 
are unacceptable and will lead to steadily rising pressure on 
Congress to take action. After recognizing the root causes of 
this problem, which lie in the combination of a tax bias toward 
employer-sponsored insurance and the inadequacy of that 
insurance system in certain sectors of the economy, it would be 
prudent for Congress to move quickly but carefully to correct 
the problem. A limited tax credit for expenditures on insurance 
not provided through the place of employment would be a 
sensible step that Congress could take this year. It would not 
mean a radical drop in the number of uninsured, unless there 
was a very large commitment of funds, but would be an important 
first step helping the uninsured and to achieving the general 
reform of tax benefits for health care. It would also stimulate 
the creation of parallel institutions which would sponsor 
insurance in those sectors of the economy where employers are a 
very inadequate vehicle for coverage. But if Congress does not 
take the first step this year, when federal finances are in 
surplus and the economy is strong, it is likely to face far 
more difficulties in taking a step in the future if the economy 
weakens and deficits return.
      

                                


    Chairman Archer. Thank you, Dr. Butler.
    Our next witness is no stranger to the Committee, we are 
happy to have you back before us, Chip Kahn. We will be pleased 
to receive your testimony.

 STATEMENT OF CHARLES N. KAHN III, PRESIDENT, HEALTH INSURANCE 
                     ASSOCIATION OF AMERICA

    Mr. Kahn. Thank you, Mr. Chairman. I am Chip Kahn, 
president of the Health Insurance Association of America. HIAA 
commends the Committee for focusing on the pressing issues of 
health and long-term care insurance coverage. Efforts to 
encourage coverage in both these areas should be priority for 
the Congress. The Tax Code already recognizes the cost of 
coverage as justifiable deductible expenses for individuals and 
businesses. The Committee should consider ways to broaden 
deductibility for insurance premiums to increase tax equity and 
to provide additional incentives to increase the number of 
Americans protected by health and long-term care insurance.
    In response to double-digit inflation in the eighties, 
employer became more cost-conscious purchasers of health care. 
As a result, premium increases dropped dramatically in the late 
nineties. These changes not only kept 5 million more Americans 
insured, but between 1993 and 1997, the number of Americans 
covered by employer-paid insurance increased from 145 million 
to 152 million Americans. Despite what some may say, the 
employer-based private health care system has been remarkably 
successful in expanding coverage. Regardless of this progress, 
however, the number of Americans without health coverage has 
also climbed. This is unprecedented in times when the economy 
is strong and premium growth is modest.
    Today over 44 million Americans are uninsured. That number 
may grow to 53 million Americans in the next 10 years. If the 
economy sours, one in four working-age Americans could find 
themselves without health care coverage. HIAA has developed a 
proposal to increase health care coverage, InsureUSA. This plan 
combines targeted subsidies, tax relief and tax equity. Through 
its implementation, HIAA believes coverage can be expanded to 
reduce the number of this Nation's uninsured by two-thirds and 
we can provide tax relief to assure that all Americans are 
treated equitably by the Tax Code regarding their expenses for 
health premiums.
    The tax policies proposed in InsureUSA would affect over 
100 million Americans. This does not come at a modest cost, but 
it could be more affordable if phased-in over a number of 
years, as the Committee has done with other health-related tax 
relief.
    In my written testimony I outlined the details of HIAA's 
InsureUSA, but today I will comment briefly on the core 
principles underlying the InsureUSA initiative.
    First, to increase coverage, health insurance must be more 
affordable for certain Americans through some type of premium 
subsidization. The primary reason for the high rate of 
uninsurance in this country is that many individuals or their 
employers lack the financial wherewithal to purchase health 
care coverage.
    Two, uninsurance is a multifaceted problem which requires a 
series of targeted approaches. While affordability is the 
primary reason people lack insurance, the uninsured have many 
faces. There is still no silver bullet solution to covering 
more Americans.
    Third, the current private health care market should remain 
a cornerstone of our health care system. The public policy 
debates over health care have taught that expanded coverage can 
only be achieved with policy that does not threaten the private 
coverage that the vast majority of Americans already enjoy.
    Finally, perhaps most importantly, I feel we should build 
on the employer-based system without undermining it. Nine in 
every ten Americans with private coverage get their health 
insurance through their employer. It is a system that works for 
most Americans.
    Mr. Chairman, as the Committee considers policy to ramp-up 
for the advent of the baby-boomer retirement, it is critically 
important to recognize that most Americans have not adequately 
prepared for the cost of long-term care when they need it, and 
many are not aware that Medicare does not cover long-term care. 
Private insurance already plays a critical role in providing 
long-term care protection, and we applaud the administration 
and the Members of Congress who have put forth proposals 
recognizing the role that private coverage can play in 
expanding protection against long-term disabilities.
    Such an expansion will restrain the growth in Federal and 
State expenditures for long-term care over time. Tax policy 
clarifications included in the Health Insurance Portability and 
Accountability Act of 1996 were an important first step. 
However, because HIPAA provides a tax deduction only for 
coverage purchased in the employer-based market, additional 
measures are needed. Individuals purchase 80 percent of long-
term care policies. Therefore, a deduction for individual 
purchase of long-term care insurance would make it more 
affordable to many Americans as well as promote interest in the 
coverage.
    HIAA urges the Committee to include in its tax bill 
Representatives Nancy Johnson and Karen Thurman's measure, the 
Long-Term Care and Retirement Security Act of 1999. If enacted, 
their proposal would make a significant contribution toward 
increasing the number of Americans who seek protection against 
future long-term care expense.
    Thank you, Mr. Chairman, for the opportunity to testify 
today.
    [The prepared statement follows:]

Statement of Charles N. Kahn III, President, Health Insurance 
Association of America

                              Introduction

    Chairman Archer, members of the Committee, I am Charles N. 
Kahn III, President of the Health Insurance Association of 
America (HIAA). HIAA represents 269 member companies providing 
health, long-term care, disability income, and supplemental 
insurance coverage to over 115 million Americans. I appreciate 
this opportunity to speak to you today about the critical role 
tax initiatives could play in making private health insurance 
more affordable for all Americans and further expanding access 
to private long-term care insurance.

Despite Expanding Economy and Success Controlling Costs, Growing Number 
                              of Uninsured

    In response to double-digit health care inflation in the 
1980s, employers became much more aggressive purchasers of 
health coverage. As a result, the nation has experienced a 
dramatic decline in the growth of health insurance premiums 
over the past ten years. Double-digit inflation in excess of 20 
percent in the late 1980s dropped dramatically to low single 
digit rates in the late 1990s, more in line with general 
consumer price index trends. This decline in premium growth 
during the 1990s coincides with dramatic increases in market 
penetration of managed care. Enrollment in PPOs, HMOs, and 
other forms of managed care has tripled during the past 10 
years from 29 percent in 1988 to 86 percent in 1998.
[GRAPHIC] [TIFF OMITTED] T0332.012

[GRAPHIC] [TIFF OMITTED] T0332.013

    It is estimated that the impact of lower insurance prices 
resulting from the growth of managed care and other private 
sector innovations saved consumers between $24 billion and $37 
billion in 1996, and that this savings will grow to over $125 
billion by the year 2000. These savings are critically 
important because the cost of insurance relative to family 
income is the most important factor in determining whether 
people will be insured. Without these savings, some employers 
would not have been able to afford private insurance and would 
have been forced to discontinue coverage for their workers. In 
fact, it is estimated that there would be 3 to 5 million 
additional uninsured Americans right now were it not for these 
lower premium trends during the past few years.
    Despite this progress, however, the number of Americans 
without health insurance coverage has continued to increase 
during the last decade.
[GRAPHIC] [TIFF OMITTED] T0332.011


    It is relatively unprecedented for the ranks of the 
uninsured to be growing at a time when our nation's economy is 
expanding and health insurance premium trends are moderating.
    There are nearly 170 million non-elderly Americans who 
currently enjoy the security of private health insurance, and 
the vast majority receives its coverage at the workplace. But 
for too many Americans, private health insurance is 
unaffordable, and often, government programs like Medicaid do 
not cover these adults.
    Affordability is the key deciding factor when purchasing 
health insurance. Almost six of every ten uninsured individuals 
live in families with incomes less than 200 percent of the 
federal poverty level. In addition, the number of people with 
insurance has declined as health care inflation has continued 
to outstrip the growth in real family income.
[GRAPHIC] [TIFF OMITTED] T0332.010


    There are over 44 million Americans without health 
insurance, and by the end of the next decade that number will 
grow to at least 53 million--one in every five non-elderly 
Americans. If health care costs increase at a faster than 
projected rate, and the economy experiences a downturn, the 
number of uninsured could rise to 60 million--or one in four 
working-age Americans.\1\ Clearly, this is a disturbing trend 
that we, as a nation, cannot afford to let continue.
---------------------------------------------------------------------------
    \1\ Custer, William S., ``Health Insurance Coverage and the 
Uninsured,'' December 1998, Center for Risk Management and Insurance 
Research, Georgia State University, for the Health Insurance 
Association of America.
---------------------------------------------------------------------------

                      HIAA's InsureUSA Initiative

    Last month, the HIAA Board of Directors approved InsureUSA, 
a major initiative to help expand health insurance coverage. 
Building on the success of employer-based health coverage, this 
plan would increase health coverage through a combination of 
targeted subsidies, tax incentives, cost-control measures, and 
education. We already have provided a copy of our plan to all 
members of Congress, including members of this Committee. In 
addition, we have developed a special website, 
www.InsureUSA.org, that provides detailed information about the 
plan and about the uninsured. And, of course, HIAA staff would 
be happy to meet with members of Congress at any time to 
discuss the proposal.
    HIAA's member companies developed InsureUSA after nearly 
one year of deliberations. The plan was shaped considerably by 
research data prepared on behalf of HIAA by William S. Custer, 
Ph.D., as well as other research on the uninsured.
    There are five basic precepts underlying the InsureUSA 
initiative.
     The time is ripe for action. Despite expansions of 
the employment-based health insurance market in recent years, 
the number of Americans without health insurance coverage will 
continue to grow by about 1 million people per year. As noted 
previously, one in every four working age Americans could lack 
coverage by the end of the next decade if steps are not taken 
immediately to stem this tide. Having said that, the individual 
components of InsureUSA could be phased-in over a number of 
years. In addition, because the proposal attacks the core 
causes of uninsurance, specific elements of the proposal could 
be enacted first, without jeopardizing others.
     To increase coverage, health insurance must be 
more affordable for more Americans. The main reason that 
Americans are uninsured is because they cannot afford health 
insurance coverage. Many well-intentioned attempts at insurance 
market reform have had the effect of increasing the cost of 
coverage and increasing the net number of individuals without 
health insurance. Reform, therefore, should both reduce the 
costs of health insurance and provide financial support for 
those who otherwise cannot afford coverage.
     Multifaceted problem requires multifaceted 
approach. While affordability is the primary reason people lack 
health coverage, there are many reasons people lack coverage. 
Rather than advocating a singular approach to insuring more 
Americans, we are advocating a diverse program designed to 
attack the underlying reasons that people are uninsured.
     A strong, vibrant private health insurance market 
should remain a cornerstone of our health care system. Expanded 
coverage must be achieved through means that do not threaten 
the coverage of other Americans or damage the existing private 
market. Competitive markets remain the most efficient and 
responsive mechanisms to provide consumers with coverage. 
Regulations that stifle innovation, flexibility, and 
responsiveness to consumers should be strongly discouraged.
     Reforms should make health coverage more 
affordable within the context of the employment-based private 
health care system, rather than undermining it. Nine in every 
10 Americans with health coverage get their health insurance 
through their employer. And while coverage has declined 
overall, the percentage of Americans with employment-based 
health coverage has increased during the past few years. 
Therefore, InsureUSA would build upon this base, by providing 
targeted subsidies and incentives for those who are less likely 
to benefit from employment-based coverage.
    For the purposes of today's hearing, I would like to 
highlight the tax initiatives proposed in the InsureUSA plan. 
As I mentioned earlier, affordability is a key factor for many 
Americans when purchasing health insurance, and tax incentives 
will help make affordable coverage a reality for those who do 
not have insurance. In addition, these tax initiatives will 
help provide greater equity in the purchase of health insurance 
for small business owners, the self-employed and individuals 
without access to employer-sponsored health insurance. The cost 
of these tax incentives is large, but HIAA estimates that they 
would broadly benefit over 100 million Americans who experience 
inequity under the current tax code.

               Targeted Tax Credits for Small Businesses

    First, I would like to discuss the proposal's tax credits 
for small businesses. Studies show that firm size is one of the 
major factors affecting the cost of health insurance. Smaller 
employers face higher costs when providing health benefits than 
larger firms because their size limits their ability to (1) 
spread risk, (2) self-insure and avoid expensive state mandates 
and taxes, and (3) manage high administrative costs incurred 
because of a lack of staff devoted to health benefits. The 
smallest firms tend to have low-wage employees who live in low-
income families. In fact, 90 percent of the uninsured whose 
family head works for an employer with fewer than 10 employees 
also live in families whose income is less than 200 percent of 
the federal poverty level.\2\
---------------------------------------------------------------------------
    \2\ Custer, William S., ``Health Insurance Coverage and the 
Uninsured,'' December 1998, Center for Risk Management and Insurance 
Research, Georgia State University, for the Health Insurance 
Association of America. 
[GRAPHIC] [TIFF OMITTED] T0332.016


    Therefore, InsureUSA would like to propose a tax credit for 
small employers that could be phased-in beginning with the 
smallest firms:
     40 percent credit for employers with fewer than 10 
employees
     25 percent credit for employers with 10-25 
employees
     15 percent credit for employers with 26-50 
employees
    These credits could help the nearly 39 million Americans 
who belong to families whose head of household works for a 
company with ten (or fewer) employees. If eligibility for such 
credits was extended to all companies with 50 or fewer 
employees, the total would rise to 71 million Americans.
    Furthermore, InsureUSA proposes that all employee 
contributions for health insurance be excluded from taxable 
income (even if not made through a section 125 cafeteria plan). 
This would primarily benefit small employers for whom it is 
often administratively difficult to set up cafeteria plans.

       Targeted Tax Credits for Individuals and the Self-Employed

    InsureUSA also includes tax incentives that target 
individual health insurance purchasers and the self-employed. 
It is a fact that people without access to employer-sponsored 
plans have a higher likelihood of being uninsured. Nearly a 
quarter (24 percent) of self-employed Americans are uninsured, 
and almost three out of ten (28 percent) non-elderly Americans 
in families headed by an unemployed individual lack health care 
coverage.
    Under current tax law, individuals cannot deduct their out 
of pocket health insurance premiums until their medical costs 
exceed 7.5 percent of their income, and the self-employed will 
not have full deductibility until 2003. HIAA's proposal would 
extend full tax deductibility of premiums to everyone 
purchasing individual health insurance policies and would take 
effect upon the date of enactment rather than 2003. As a 
result, coverage would become more affordable for over 12 
million self-employed workers and for nearly 25 million 
Americans living in families headed by a non-worker.

                    Medical Savings Accounts (MSAs)

    While there has not been significant enrollment in medical 
savings accounts (MSAs) under the demonstration authorized by 
the Health Insurance Portability and Accountability Act of 1996 
(HIPAA), statistics compiled by the Department of Treasury show 
that a large proportion of those with MSAs were previously 
uninsured. Therefore, InsureUSA proposes that Medical Savings 
Accounts (MSAs) be made more attractive by:
     simplifying the MSA rules under HIPAA,
     eliminating the ``sunset'' provision for MSAs 
available to the self-employed and small employers,
     extending availability to large employers,
     permitting both employees and employers to 
contribute to MSAs, and
     making it easier for PPOs and other network-based 
plans to offer MSAs.

                   Cost of InsureUSA Tax Incentives 

    Overall, HIAA estimates that changing the current tax 
system to encourage greater health insurance coverage and make 
health insurance more affordable for over 100 million 
Americans, would cost approximately $30 to $36 billion 
annually. We estimate that 71 million people (20 million of 
whom are currently uninsured) would be eligible for the tax 
credit, either through their employer or the employer of their 
family head. As a result of this credit, between 2.6 and 4.1 
million uninsured will gain coverage at a cost in revenue 
expenditures of between $23.8 and $29.3 billion annually. These 
figures are broken down by firm size in the table below.


----------------------------------------------------------------------------------------------------------------
                                                            Receiving Credit    Newly Insured         Cost
                  Firm Size                      Eligible  -----------------------------------------------------
                                               Individuals    Low      High     Low      High     Low      High
----------------------------------------------------------------------------------------------------------------
  Under 10...................................       38.6       20.4     26.3      1.9      3.1     15.7     20.2
  10 to 24...................................       18.3       11.1     12.5      0.5      0.8      5.3      6.0
  25 to 50...................................       14.1        9.9     10.7      0.2      0.3      3.0      3.1
                                              ------------------------------------------------------------------
      Total..................................       71.0       41.4     49.5      2.6      4.1     23.8     29.3
----------------------------------------------------------------------------------------------------------------

    An additional 1.5 and 3.5 million individuals would gain 
coverage through the individual market. Costs to the Federal 
government would be between $7.8 and $8.7 billion in annual 
lost income tax, and the previously uninsured would account for 
between $670 million and $1.5 billion.
    The uninsured have many faces, and tax initiatives will not 
benefit all of them. These incentives that HIAA is proposing 
are part of a broader initiative that includes government 
program expansion to low-income individuals, subsidies for the 
working poor, and a series of actions that would lower health 
care costs and educate consumers.

                              Polling Data

    HIAA released a public opinion survey showing that more 
than 4 out of 5 Americans support the elements of the InsureUSA 
proposal and that 7 out of 10 believe the large number of 
uninsured Americans is a significant national problem requiring 
immediate action. While not all were in support of new taxes, 
most (43 of the 70 percent) felt that, regardless of new taxes, 
the government must act.
[GRAPHIC] [TIFF OMITTED] T0332.017

    Of the 83 percent of Americans who favor the proposals in 
InsureUSA, 60 percent say they would still favor the plan even 
if they were required to pay an extra $100 annually in new 
taxes.
[GRAPHIC] [TIFF OMITTED] T0332.018

    Based on these polling results, it is apparent that the 
majority of Americans believe the time is right for the 
government to address the growing uninsured problem, but more 
importantly, they are confident in the InsureUSA proposal, and 
feel that it meets the challenge.

                             Long-Term Care

    In addition to the critical need to curb the growing number 
of uninsured Americans, policymakers must address what many 
people consider to be the most pressing financial problem--
long-term care coverage. Long-term care is the largest unfunded 
liability facing Americans today, and despite the tremendous 
need for long-term care protection, there is a clear lack of 
adequate planning for it.
    The long-term care insurance market is growing, and the 
policies that are available today are affordable and of high 
quality. There is a critical role for private insurance to 
provide a better means of financing long-term care for the vast 
majority of Americans who can afford to protect themselves. 
Continued growth of the market will alleviate reliance on 
scarce public dollars, enhance choice of long-term care 
services for those who may need them in the future, and promote 
quality among providers of long-term care. HIAA estimates 
reveal that today over 100 companies have sold over 6 million 
long-term care insurance policies, and the market has 
experienced an average annual growth of about 20 percent. These 
insurance policies include individual, group association, 
employer-sponsored, and riders to life insurance policies that 
accelerate the death benefit for long-term care.
[GRAPHIC] [TIFF OMITTED] T0332.019


    HIAA would like to applaud the Administration and the 106th 
Congress' call for programs that would encourage personal 
responsibility for long-term care, help people currently in 
need of long-term care, and increase educational efforts on 
long-term care. Administration and Congressional proposals all 
have an important common factor, the recognition that private 
long-term care insurance plays a vital role in helping the 
elderly and disabled, as well as baby boomers, pay for their 
future long-term care costs.
    The heightened public awareness brought about by these 
proposals coupled with the passage of incentives for the 
purchase of long-term care insurance in the Health Insurance 
Portability and Accountability Act of 1996 (HIPAA) have been 
essential first steps in solving our nation's long-term care 
crisis; however, these preliminary tax initiatives are not 
enough. HIPAA provides little added incentive for individuals 
to purchase long-term care insurance because the tax breaks are 
only applicable to employer-sponsored long-term care coverage 
and fail to address the individual market where 80 percent of 
all policies are purchased.

 LTC Insurance Products by Percentage of Policies Sold & Average Age of
                                  Buyer
------------------------------------------------------------------------
                                                 Percent of
      Long-Term Care Product        Percent of    Policies   Average Age
                                    Companies       Sold       of Buyer
------------------------------------------------------------------------
Individual.......................         82.9         80.0           67
Employer-sponsored...............         17.9         13.2           43
LTC Rider to Life Insurance......         17.1          6.7           44
------------------------------------------------------------------------


    Under current law, tax benefits can range from a full 
exclusion from income if one's employer pays the premiums to no 
tax benefit if an individual pays and does not have sizeable 
medical expenses. These disparities lead to inequitable 
results. For many, current law's tax deduction is illusory. 
Today, an individual purchasing an LTC policy can deduct 
premiums only if they itemize deductions and only to the extent 
medical expenses exceed 7.5 percent of adjusted gross income. 
Only 4 percent of all tax returns report medical expenses as 
itemized deductions.
    Recent developments have improved the political climate for 
long-term care insurance, but they are not panaceas and will 
not, by themselves, achieve the optimum public-private 
partnership for long-term care financing. HIAA believes that 
other equally important tax-related changes, at both the 
federal and state levels, could make long-term care insurance 
more affordable to a greater number of people. The expansion of 
this market will restrain future costs to federal and state 
governments by reducing Medicaid outlays.
    Providing additional tax incentives for these products 
would reduce the out-of-pocket cost of long-term care insurance 
for many Americans, increase their appeal to employees and 
employers, and increase public confidence in this relatively 
new type of private insurance coverage. In addition, it would 
demonstrate the government's support for and its commitment to 
the private long-term care insurance industry as a major means 
of helping Americans fund their future long-term care needs.
    As you know, Representatives Nancy Johnson and Karen 
Thurman recently introduced H.R. 2102, ``The Long-Term Care and 
Retirement Security Act of 1999.'' This legislation would:
     Provide an above-the-line tax deduction for LTC 
insurance premiums. The deduction would begin at 50 percent, 
but rise each year the insured keeps the policy in force until 
the deduction reaches 100 percent. (Joint Tax Committee cost 
estimate: $4.0 billion over 5 years and $12.5 billion over 10 
years)
     Provide a $1,000 tax credit to individuals with 
LTC needs, or to their caregivers. The credit would be phased-
in over a three-year period. (Joint Tax Committee cost 
estimate: $5.1 billion over 5 years and $14.0 billion over 10 
years)
     Authorize the Social Security Administration to 
carry out a public education campaign on the costs of LTC, 
limits of coverage under Medicare and Medicaid, the benefits of 
private LTC insurance, and the tax benefits accorded LTC 
insurance
     Encourage more states to establish LTC 
partnerships between Medicaid and private LTC insurance along 
the lines of those operating in Connecticut, New York, Indiana, 
and California.
    HIAA believes that the provisions of ``The Long-Term Care 
and Retirement Security Act of 1999'' are the critical next 
steps to begin preparing individuals, families, and our society 
for the increased LTC needs we know are coming. Congress needs 
to ensure that any tax legislation passed this year 
incorporates provisions to help private LTC insurance assume an 
increasingly prominent role in protecting families from LTC 
costs and easing the financial burden on public programs. By 
the year 2020, the Congressional Budget Office has estimated 
that, at current growth rates in private LTC insurance:
     Medicaid will save $12.4 billion (14% of total 
program nursing home expenditures);
     private LTC insurance will reduce out-of-pocket 
costs by 18%; and
     private LTC insurance will also reduce Medicare 
spending by 4%.
     Savings to individuals and public programs will be 
much greater in subsequent years, as those presently purchasing 
private policies approach and pass 85 years of age. If Congress 
enacts legislation that gives Americans enhanced incentives to 
protect themselves against the costs of LTC, savings to 
individuals and public programs will be still greater.
    In summary, HIAA supports policy that would:
     Enhance the deduction for long-term care insurance 
premiums, such that premium dollars are not subject to a 
percentage of income. The deduction should not be limited to 
situations where employer-provided coverage is unavailable. If 
an employer decides to provide premium contributions, employees 
should be entitled to deductions for the portion that they pay.
     Allow children to deduct premiums paid to purchase 
a policy for their parents and/or grandparents without regard 
to whether the child is providing for their support.
     Permit premiums to be paid through cafeteria plans 
and flexible spending accounts.
     Permit the tax-free use of IRA and 401(k) funds 
for purchases of long-term care insurance.
     Provide a tax subsidy for the purchase of long-
term care insurance.
     Encourage state tax incentives for the purchase of 
long-term care insurance.
    Long-term care tax incentives would largely benefit two 
groups: those who did not have the opportunity to purchase such 
coverage when they were younger and the premiums were lower, 
and as a result, now face the greatest affordability problems 
because of their age; and those younger adults, our current 
baby boomers, who need incentives or mechanisms to fit long-
term care protection into their current multiple priorities 
(e.g., mortgage and children's college tuition) and financial 
and retirement planning.
    Educational effects of such tax incentives could far 
outweigh their monetary value by educating consumers about an 
important issue and, as a result, would help change attitudes. 
In an effort to inform all Americans about the value of long-
term care insurance, HIAA formed the Americans for Long-Term 
Care Security (ALTCS), a broad based coalition of organizations 
sharing a common vision to educate policy makers, the media, 
and the general public about the importance of preparing for 
the eventual need of long-term care and viable private sector 
financing options. When state and federal legislation 
opportunities to advocate private sector options--such as tax 
incentives to purchase long-term care insurance--arise, members 
of ALTCS will encourage swift passage through a variety of 
advocacy, media, and lobbying means.
    Furthermore, ALTCS believes that the government must 
continue to provide a safety net for the truly needy. At the 
same time, the government should provide incentives for private 
sector solutions, such as long-term care insurance, so that 
individuals and families are encouraged to take personal 
responsibility for long term care planning.

                               Conclusion

    The health insurance industry, working with employers, has 
been extremely effective in recent years in slowing premium 
increases, improving health care quality, and expanding 
coverage in the employment-based market. Yet, without 
additional financial support from the government, the number of 
Americans without health insurance coverage will continue to 
grow by about one million people each year into the next 
decade.
    Unfortunately, a series of legislative initiatives being 
considered at both the state and federal level would move us in 
the opposite direction. These mandates and so-called ``patient 
protection'' measures would put affordable private coverage out 
of reach for even more Americans. Instead, we need to work 
together to make the uninsured ``job one.''
    Additionally, tax incentives are needed to spur the growth 
of private long-term care insurance and help the next 
generation of Americans better protect themselves from costs of 
long term care. HIAA supports the use of broad-based state and 
federal funding to subsidize the cost of health insurance for 
those who cannot otherwise afford it. We have witnessed the 
success of favorable tax treatment in helping to expand 
coverage to a large percentage of working Americans. Therefore, 
we believe that providing greater equity under the tax code for 
individuals and the self-employed is a reasonable way to make 
health coverage more affordable for a large number of the 41 
million Americans who currently do not have coverage. H.R. 2102 
and other similar measures would be a very good start. We also 
would encourage Congress to consider tax credits, vouchers and 
other subsidies as a means of making coverage more affordable 
for even more Americans.
    Again, we are encouraged that Congress is addressing the 
issue of the uninsured and considering ways to make private 
health coverage more affordable. We look forward to working 
with you as you consider ways to expand private health coverage 
and provide equitable treatment under the tax code for 
individuals who have taken responsibility for their own health 
care coverage.
    We look forward to working with the members of this 
committee, and other members of congress, to help find ways to 
expand health insurance coverage in the months and years ahead.
    Mr. Chairman, that concludes my testimony. I would be happy 
to answer any questions you may have.
      

                                


    Chairman Archer. Thank you, Mr. Kahn.
    Our next witness is Mary Nell Lehnhard.

 STATEMENT OF MARY NELL LEHNHARD, SENIOR VICE PRESIDENT, BLUE 
               CROSS AND BLUE SHIELD ASSOCIATION

    Ms. Lehnhard. Mr. Chairman, Mr. Rangel, Members of the 
Committee, I am Mary Nell Lehnhard, senior vice president of 
the Blue Cross and Blue Shield Association. We appreciate the 
opportunity to testify today.
    Blue Cross and Blue Shield plans across the country have 
long supported public and have been active in private 
initiatives to expand coverage to more Americans. We believe 
coverage for the 43 million people who remain uninsured should 
be the top Federal health care priority. We are very pleased 
that the Committee is examining tax-based solutions to this 
problem. In February of this year we released a proposal for 
reducing the number of uninsured built on tax credits and full 
deductibility. Let me get quickly to our recommendation.
    We think the single most effective thing Congress could do 
this year would be to target low-wage workers and small 
businesses. Our proposal would provide tax credits to small 
businesses for their low-wage workers. Small firms have lower 
rates of health coverage than large employers. 35 percent of 
workers and firms with less than 10 employees are uninsured. 
And if you look at the problem of small firms with low-wage 
workers, it is worse. Only 38 percent of small business with 
low-wage workers offer coverage compared to 78 percent of small 
businesses with high-wage workers.
    We believe that expanding--providing a tax credit to small 
businesses for their low-wage workers would make the most 
effective use of scarce resources. By building on the current 
employer-based system, the idea would be simple to implement. 
We recommend Congress focus on low-wage workers and businesses 
of fewer than 10 employees and expand the program as resources 
permit.
    In addition to this tax credit we have proposed full 
deductibility for the self-employed, providing tax 
deductibility for people without employer-sponsored coverage 
and providing Federal grants to States to fund other 
initiatives that expand coverage.
    As I said earlier, we are pleased that Congress is now 
considering a number of tax proposals to expand coverage. The 
most comprehensive of these would delink health insurance from 
employment and move toward an individual coverage-based system.
    These proposals embody the notion of individual enpowerment 
and merit full consideration. However, altering fundamental 
offerings in the way millions of Americans now receive coverage 
will require careful consideration by Congress. In all 
likelihood, moving to this type of comprehensive reform will be 
a long-term process that involves much debate and analysis and 
hopefully a good transition period. Other tax proposals such as 
accelerating full deductibility for the self-employed and full 
deductibility for those who don't have access appear to be 
generating bipartisan interest and could be enacted this year, 
and we support both of these proposals.
    We are concerned about some of the proposals for providing 
parity of coverage between the individual and group markets. 
For example, we are concerned that providing full deductibility 
of individual coverage for those who already have access to 
employer-sponsored plans and proposals that require employers 
to provide the equivalent value of employer-provided benefits 
for employees who opt out of their current employer plan and 
purchase individual coverage in the individual market.
    Our concern is that these proposals would create serious 
unintended consequences for the current employer-based system. 
By allowing individuals to opt out of the employer-based plans, 
these proposals would undermine the tremendous advantages of 
the natural pooling that occurs in an employer plan. Under 
these proposals, younger workers with fewer medical costs would 
be most likely to leave the group and the premiums for those 
who remain would increase significantly. Congress should avoid 
this type of adverse selection against employer plans by 
providing tax incentives for the purchase of coverage in the 
individual and nongroup market only if an individual doesn't 
have access to employer coverage. For example, eligibility 
could be limited to those employees whose employers have not 
offered coverage for some period of time, such as Mrs. Johnson 
has done in her bill.
    Congress should also consider other ways to keep coverage 
as affordable as possible. Our proposal calls on Congress to 
adopt a new litmus test. Under this test, Congress would reject 
legislation such as managed-care regulation, benefit mandates, 
and antitrust exemptions that would increase premiums and 
consequently the number of uninsured.
    In summary, Blue Cross and Blue Shield Association and its 
member plans believe expanding coverage should be the Congress' 
top priority, and we urge Congress to enact targeted tax 
proposals this year.
    [The prepared statement follows:]

Statement of Mary Lehnhard, Senior Vice President, Blue Cross and Blue 
Shield Association

    Mr. Chairman and members of the committee, I am Mary Nell 
Lehnhard, Senior Vice President of the Blue Cross and Blue 
Shield Association. BCBSA represents 51 independent Blue Cross 
and Blue Shield Plans throughout the nation that together 
provide health coverage to 73.3 million Americans. I appreciate 
the opportunity to testify on the increasing number of 
uninsured and what Congress should do to address this problem.
    Since the debate over President Clinton's national health 
plan, when Congress last engaged in a serious discussion about 
the uninsured, Congress has focused much of its health care 
reform efforts on those people fortunate to have access to 
health insurance (e.g., passing health insurance portability 
reforms and debating managed care regulation). Meanwhile, 
despite a robust economy and low unemployment rates, the number 
of Americans without health coverage has grown to over 43 
million.
    BCBSA and Blue Plans across the country have long supported 
public and private initiatives to expand health coverage to 
more Americans. Many Blue Plans have created Caring Programs to 
make available free health coverage to low-income children and 
have initiated a variety of other programs to help the 
uninsured. In addition, BCBSA recently joined the White House, 
other federal officials and children's advocates to launch a 
national outreach program promoting the new Children's Health 
Insurance Program (CHIP), which Congress enacted in 1997.
    But with the number of uninsured continuing to increase, 
the Blues recognize the need for additional action. Blue Cross 
and Blue Shield Plans have taken their commitment to the 
uninsured a step further by creating a two-part program to 
address this challenging public policy problem. BCBSA's Board 
of Directors approved this two-part program in January of 1999, 
and we strongly urge its adoption by Congress.
    I will be making three points during my testimony.
     First, Congress should enact a tax-based solution 
to address the problem of the uninsured.
     Second, Congress should carefully assess the 
impact of alternative tax-based proposals.
     Third, Congress should adopt a ``new litmus test'' 
to reject legislation that would increase health care costs 
and, consequently, increase the number of uninsured.

I. Congress Should Enact A Tax-Based Solution To Address The Problem Of 
                             The Uninsured

Scope Of The Uninsured Problem:

    Before devising its uninsured proposal, BCBSA gathered and 
analyzed the latest information on who the uninsured are and 
why they lack coverage. Most Americans receive health coverage 
through private health insurance--either through an employer or 
by purchasing health insurance on their own. Others receive 
health coverage by enrolling in a government program. But over 
43 million people are without health coverage. The number of 
uninsured has grown steadily during the past decade and, 
without legislative action, is expected to continue to increase 
in the years to come.
    While the uninsured fall into very different geographic, 
age, and racial/ethnic categories, they do have some common 
characteristics. One of the most significant subgroups of the 
uninsured are working Americans.
    The term ``uninsured'' may conjure up images of people out 
of work, but the data suggest otherwise. According to a 1997 
study from the Kaiser Family Foundation, 73 percent of 
uninsured adults are either employed or married to someone who 
is employed. The working uninsured tend to be those who work in 
low-paying jobs, those who work for small firms, and those who 
work in part-time jobs or in certain trades.
     Low-Wage Workers. The cost of health insurance can 
be prohibitive for low-wage workers who must purchase it on 
their own or pay a significant share of an employer-sponsored 
health plan. Almost half (43.5 percent) of the uninsured are in 
families earning less than $20,000 a year, and 73 percent of 
the uninsured are in families earning less than $40,000. 
Moreover, low-income workers are less likely to have access to 
coverage on the job.
     Workers in Small Firms. The working uninsured are 
likely to be employed by firms with fewer than 25 employees--
43% of the uninsured employed in the private sector work for 
firms with fewer than 25 employees. They are also likely to be 
self-employed or dependents of such workers. One of every four 
self-employed individuals and nearly 35 percent of workers in 
firms with fewer than 10 employees are without coverage.
     People In Families with Part-Time Workers. Since 
employment-based coverage is usually only provided to full-time 
workers, the risk of being uninsured increases for people who 
only work part-time. More than one-quarter of people in 
families with only part-time workers are uninsured.
     Workers in Seasonal Trades. Workers in the 
agricultural, forestry, fishing, mining, and construction 
trades are more likely to be uninsured, probably reflecting the 
seasonal employment and the small firms that are characteristic 
of these trades. One third of the 12.5 million workers in these 
trades are without health insurance.
    Other significant subgroups of the uninsured are young 
adults and minority racial and ethnic groups. Adults between 
the ages of 18 and 24 are more likely to be uninsured than any 
other age group, including children. Young adults are 
vulnerable to being uninsured because they may no longer be 
covered under their families' policy or Medicaid, may not yet 
be established in the workforce, and may earn less than older 
adults. 
    Hispanics and African Americans are also more likely to be 
uninsured than the rest of the population. While Hispanics and 
African Americans represent 12.3 percent and 13.1 percent of 
the nonelderly population, respectively, they represent 24.4 
percent and 16.5 percent, respectively, of the uninsured.

Targeted Tax-Based Reforms That BCBSA Urges Congress To Enact:

    BCBSA believes Congress needs to adopt targeted reforms 
that will reduce the existing number of uninsured. Extending 
health coverage to those without it can be achieved quickly and 
most effectively through legislation that is aimed at the 
specific subgroups of the uninsured, such as low-income 
workers, and that builds on the existing employment-based 
health system.
    BCBSA believes these targeted solutions should include:
     Tax Credits To Small Employers For Their Low-
Income Workers. Employees in small firms are more likely to be 
uninsured than those employed by larger companies. The primary 
reason for this higher uninsured rate is that small firms are 
more likely to have a larger share of low-income workers than 
larger firms. About 42 percent of workers in small firms (0-9 
employees) earn less than 250 percent of the poverty level, 
compared to only 27 percent of employees in firms with 100 or 
more employees. Offering tax credits to small firms for their 
low-income workers would decrease the number of uninsured by 
making health coverage more affordable for small businesses and 
their low-wage employees.
    Focusing on low-wage workers as a subset of those in small 
firms targets those most in need of assistance. Workers in 
small firms with a high proportion of low-wage workers are half 
as likely to be offered health coverage as workers in small 
firms with high-wage workers. Only 38 percent of small 
businesses with low-wage employees offer health coverage 
compared to 78 percent of small businesses with high-wage 
employees. A recent analysis by the Alpha Center (see attached 
graph) underscores the importance of focusing on low-wage 
workers in small firms. It shows that low-wage workers (e.g., 
those earning less than $20,000) have considerably lower rates 
of employer-sponsored health coverage than those with higher 
wages and illustrates that low-wage workers in the smallest 
firms are least likely to have employer-sponsored coverage.
    By limiting the tax credit to only low-income employees of 
small businesses, the proposal would avoid subsidizing those 
who should be able to afford coverage on their own (e.g., 
lawyers working for a small firm). BCBSA recommends, given 
scarce resources, that Congress focus on low-income workers in 
businesses with fewer than 10 employees and then expand the 
program as resources permit.
    Employers would administer the tax credit on behalf of 
qualifying employees. Because cash flow is critical for small 
firms, the proposal envisions that employers would provide the 
credit in the form of reductions in the withholding taxes that 
the employer would normally pay. The administrative burden of 
such a system on the employer would likely be very low since 
most employers contract payroll functions to outside firms that 
are easily able to administer such credits on behalf of 
employees.
    Offering tax credits to small firms with low-income workers 
also has the advantage of building on the successful employer-
based health coverage system. The majority of Americans receive 
health coverage through an employer. By building on the current 
employer-based system, BCBSA's tax credit proposal could be 
implemented immediately.
     Full Tax Deductibility For The Self-Employed. 
Expanding the groups of people who can deduct the cost of 
health insurance from their taxable income would assist many of 
the uninsured. Enabling the self-employed to fully deduct the 
cost of health coverage would help the one in four self-
employed people who have no health insurance. Congress has 
already enacted legislation to phase in full deductibility for 
the self-employed. BCBSA believes this phase-in should be 
accelerated.
     Full Tax Deductibility For People Without 
Employer-Sponsored Coverage. Some people, including young 
adults and early retirees, are uninsured because they do not 
have access to employer-sponsored coverage. Making health 
coverage more affordable for those without access to employer-
sponsored coverage would contribute to an increase in the 
overall rate of insurance. This can be achieved by allowing 
them to deduct the full cost of insurance. It would also 
address parity concerns regarding the tax treatment of health 
coverage received through an employer and health insurance 
purchased on one's own.
     Federal Grants for Initiatives That Expand 
Coverage or Provide Care to the Uninsured. Targeted solutions 
should also be developed for groups that may remain uninsured 
despite tax credits and deductibility, including some non-
citizens, minorities, young people and other low-income groups. 
These targeted solutions can best be carried out by offering 
grants to states to fund a variety of initiatives, including 
private programs to expand health coverage, community health 
centers that provide health care to the uninsured, and 
subsidies to state high-risk pools, which make coverage more 
affordable for those requiring extensive medical care.
    We believe this proposal, which is based on tax credits and 
deductibility to targeted subgroups of the uninsured, is the 
most appropriate way to address this problem. BCBSA's proposal 
has several advantages:
     It Could Be Enacted Quickly. BCBSA's proposal does 
not try to reinvent today's health coverage system. It 
recognizes that the current employment-based system works well 
for most Americans and would expand coverage through this 
system. By building upon the current system, BCBSA's proposed 
actions could be implemented quickly. These proposals could be 
enacted without the prolonged congressional debate that would 
be required of more controversial proposals that seek to 
restructure the entire system.
     It Would Be Simple To Implement. Building on the 
current employment-based system would also assure simplicity in 
the execution of BCBSA's proposed reforms. Employers and 
employees are already familiar with the employment-based 
system. Under BCBSA's proposal, there would be no need to 
educate health care purchasers and consumers about new ways of 
receiving health coverage. Using the infrastructure that is 
already in place would also obviate the need to create a new, 
complex bureaucracy to carry out the functions now performed by 
employers.
     It Would Make The Best Use Of Scarce Resources. By 
targeting specific subgroups of the uninsured (e.g., low-income 
workers in small firms), BCBSA's proposed reforms would assure 
that limited government funds would be directed to those most 
in need of assistance and those most likely to take advantage 
of such assistance.

 II. Congress Needs To Carefully Assess The Impact Of Alternative Tax-
                            Based Proposals

    Numerous proposals to reduce the number of uninsured are 
now being considered in Congress. These proposals range from 
modest reforms to comprehensive restructuring of the market. 
They should each be carefully evaluated in terms of the 
potential to improve our health care financing system as well 
as the risk of creating unintended consequences.
    The most comprehensive proposals are those that would ``de-
link'' health insurance coverage from employment and move 
toward an individual-based system. These proposals embody the 
powerful notion of individual empowerment and merit full 
consideration. However, there are many issues that must be 
considered when one contemplates a move that would 
fundamentally alter the way millions of Americans now receive 
health coverage. Assessing the implications of changing to an 
individual-based system in all likelihood will be a long-term 
process that involves much debate and analysis.
    I will limit my comments today to tax changes that could be 
enacted this year since Congress is expected to move forward 
with incremental tax provisions to improve the affordability of 
health coverage this year. We are encouraged by many of the tax 
proposals that are under development. For example, there 
appears to be growing interest in accelerating the full 
deductibility of coverage for the self-employed and providing 
full deductibility for those who do not have access to 
employer-sponsored health coverage, both of which we support.
    Many in Congress are also considering proposals to provide 
for ``parity'' in coverage between the individual and group 
markets. These proposals range from providing full 
deductibility of individual coverage for those who have access 
to employer-sponsored plans--to requiring that employers 
provide the equivalent value of employer-provided benefits to 
employees who ``opt out'' of their employer-sponsored plan and 
purchase their own health coverage in the individual market.
    We are concerned, however, that, while the intent of the 
parity proposals is to provide individuals with more choice, 
they would create unintended consequences for the current 
employment-based system. We are concerned that proposals that 
would allow individuals to opt out of the employment-based 
system in favor of individual coverage would undermine the 
advantages of the natural pooling that occurs in the group 
health insurance market. Given the opportunity to opt out of 
employer-sponsored plans, low-cost workers may be more likely 
to leave these group health plans, resulting in premium 
increases in these groups' rates. The result would be adverse 
selection, which would destabilize group plans.
    While not perfect, the current employment-based system is 
successfully providing health coverage to the majority of 
Americans. For example, one of the advantages of the current 
employment-based system is that it facilitates significant 
cross subsidies. To illustrate, an employer who has a mix of 
young and old, healthy and not so healthy employees will not 
vary the contribution based on expected use of medical 
services. This represents an accepted mechanism for creating 
the cross subsidies that are essential for providing health 
insurance. Without a strategy to assure stable cross subsidies, 
the insurance market would deteriorate.
    To avoid the problems with the parity provisions, BCBSA 
strongly believes Congress should provide tax breaks for the 
purchase of health coverage in the individual market only if 
the individual does not have access to employer-sponsored 
coverage. For example, eligibility for the tax breaks could be 
limited to those whose employers have not offered coverage for 
some defined period of time, have retired or are unemployed.
    Congress must be aware that changes--even seemingly minor 
changes--that affect the employment-based system could make the 
current problem of the uninsured worse. To avoid these 
unintended consequences, BCBSA's short-term proposal 
strengthens the employment-based system. We believe that 
Congress should move quickly on some of these proposals while 
debate continues on more comprehensive reform strategies.

III. Congress Should Adopt A ``New Litmus Test'' To Reject Legislation 
      That Increases Health Care Costs And The Number Of Uninsured

    In addition to looking at tax-based solutions to the 
uninsured problem, Congress should consider other ways to 
preserve the affordability of private health insurance. BCBSA 
believes Congress should adopt a ``new litmus test'' to reject 
legislation that would increase premiums and, consequently, the 
number of uninsured. Federal managed care legislation, new 
benefit mandates and antitrust exemptions for health 
professionals are examples of proposals that would make health 
coverage less affordable for employers and consumers. Congress 
should reject these proposals so that it will not exacerbate 
the uninsured problem.
    In analyzing the uninsured issue, BCBSA found that the cost 
of health coverage is the key determinant of whether working 
Americans have employer-sponsored coverage. We found that high 
annual premium increases were associated with drops in 
employment-based coverage and flat premiums were associated 
with improvements in employment-based coverage. Examining 
premium increases and coverage rates over the past decade 
illustrates this point.
    When health care costs were rising at double-digit rates 
during the late 1980s, the percentage of nonelderly Americans 
with employment-based coverage declined. While 69.2 percent of 
workers had health coverage through an employer in 1987, only 
64.7 percent had employment-based coverage in 1992.
    According to the nonpartisan Employee Benefit Research 
Institute (EBRI), employers have been more likely to offer 
workers health coverage in recent years when health care cost 
increases have been relatively flat. Since 1993, there has been 
an increase in the percentage of people receiving employer-
sponsored health coverage. While approximately 63 percent of 
nonelderly Americans received health coverage through an 
employer in 1993, that figure increased to 64.2 percent by 
1997. Not surprisingly, the average annual increase in health 
benefit costs during this period was only 2.3 percent.
    The first step in addressing the uninsured is to not make 
the problem worse. Given the link between higher costs and 
reduced coverage, Congress should pledge to enact no law that 
will make health coverage more expensive.

                             IV. Conclusion

    Expanding the number of Americans with health coverage 
should be our nation's top health care priority. No single 
solution will solve the uninsured problem, but the targeted 
solutions advocated by BCBSA would effectively reduce the 
number of uninsured.
    We urge Congress to take a series of actions to reduce the 
number of uninsured, including providing tax credits to small 
firms for their low-wage workers, full tax deductibility for 
the self-employed and those without access to employer-
sponsored coverage, and federal grants to states to fund 
targeted initiatives to expand health coverage. We also believe 
Congress should not enact legislation that would increase 
health care costs. Increasing health care costs will only 
increase the number of uninsured.
    BCBSA's tax-based proposal could be enacted quickly, 
implemented simply and would make the best use of scare 
resources. It also avoids the problems that could be created by 
alternative proposals, such as tax proposals that would all 
employees to opt out of employment-based health plans.
    Thank you for the opportunity to speak to you on this 
important issue. BCBSA looks forward to working with Congress 
to address the needs of the uninsured.
[GRAPHIC] [TIFF OMITTED] T0332.008

[GRAPHIC] [TIFF OMITTED] T0332.009

      

                                


    Mrs. Johnson of Connecticut [presiding]. Thank you very 
much.
    Mr. Wilford.

     STATEMENT OF DAN WILFORD, PRESIDENT, MEMORIAL HERMANN 
   HEALTHCARE SYSTEM, HOUSTON, TEXAS; ON BEHALF OF AMERICAN 
                      HOSPITAL ASSOCIATION

    Mr. Wilford. Thank you, Madam Chairman. I am Dan Wilford, 
President of the Memorial Hermann Healthcare System in Houston, 
Texas. I am testifying today on behalf of the American Hospital 
Association and its 5,000 hospitals, health systems, networks 
and other providers of care.
    The American Hospital Association's vision is a society of 
healthy communities where all individuals reach the highest 
potential for health. Health care coverage itself does not 
ensure good health or access to services, but the absence of 
coverage is a major contributor to poor health.
    Therefore, the American Hospital Association and its 
members have a long tradition of commitment to improving the 
health care coverage and access for America's uninsured and 
underinsured. AHA has supported incremental steps that can at 
least move our Nation closer to health care coverage for all, 
examples being the Health Insurance Affordability and 
Accountability Act of 1996, the children's health insurance 
program for 1997, and AHA's own campaign for coverage which 
enlisted 1,500 hospitals and health systems in an effort to 
extend coverage in their communities.
    It has been said already that 43 million Americans are 
without health coverage. In Houston, 31 percent of our citizens 
have no insurance coverage compared to 16 percent on a national 
average. That is the largest percentage of a major metropolitan 
city in the United States.
    Congress has a unique opportunity to ease this situation. 
The Federal budget surplus offers opportunities to look for and 
to fund ways to increase health care coverage for Americans. 
With 84 percent of the uninsured living in families that are 
headed by someone who has a job but no health coverage, the 
low-income working uninsured should be our next priority.
    There is a growing consensus that changes in the Tax Code 
can make health care coverage more affordable for the working 
uninsured. Congress will be considering several options. We 
would like to present our views and some ideas that are aimed 
at getting health coverage to more Americans. First, make it 
affordable to people who cannot afford their employer's 
coverage or whose employers don't offer coverage to get 
insurance coverage from another source. This can take the form 
of a refundable tax credit for low-income tax payers who 
qualify for a credit against their income tax for all or part 
of what they spend for health insurance. It can be varied by 
income and family status.
    We can offer tax credits to small employers that purchase 
group coverage. This will give small businesses additional 
financial resources to provide coverage for their employees and 
we can accelerate the deductibility of health payments for 
self-employed. Under current law, self-employed taxpayers are 
not able to get full deductibility of their insurance payments 
until the 2003.
    In addition to Tax Code changes, other reforms can make 
coverage more accessible to the working uninsured. These 
include creating purchasing cooperatives and grants for State 
high-risk pools. In addition, States and the Federal Government 
can make it easier for families to enroll in public programs 
like CHIP and Medicaid.
    In conclusion, Madam Chairman, the fact is that people 
without health insurance are more likely to become seriously 
ill with injuries and illnesses that had they had proper health 
insurance could have been a minor problem. Our emergency 
departments see this every day.
    That is why we support an effort to stem the rising tide of 
uninsured and to bring appropriate medical coverage to all who 
need it. With the working uninsured growing in numbers, we 
agree with the concept of changing the Tax Code to make it 
possible for more low-income workers and their families to have 
health care coverage. We look forward to working with you on 
specific legislation that will do that job properly.
    Thank you.
    [The prepared statement follows:]

Statement of Dan Wilford, President, Memorial Hermann Healthcare 
System, Houston, Texas; on behalf of American Hospital Association

    Mr. Chairman, I am Dan Wilford, president of Memorial 
Hermann Healthcare System in Houston, Texas. I am testifying 
today on behalf of the American Hospital Association (AHA) and 
its 5,000 hospitals, health systems, networks, and other 
providers of care. We are pleased to have this opportunity to 
discuss the critical national goal of getting health care 
coverage to more Americans.
    The AHA's vision is a society of healthy communities, where 
all individuals reach their highest potential for health. While 
health care coverage by itself does not ensure good health or 
access to health care services, the absence of coverage is a 
major contributor to poor health. Therefore, the AHA and its 
members have a long tradition of commitment to improving health 
care coverage and access for America's uninsured and 
underinsured.
    According to the Employee Benefit Research Institute 
(EBRI), the percentage of uninsured Americans has increased 
steadily since 1987. In 1997, 43 million Americans were without 
health care insurance. Congress has a unique opportunity to 
ease this situation right now. According to the Congressional 
Budget Office, the federal budget surplus was $70 billion last 
year, will be $107 billion in 1999, and is projected to reach 
$209 billion by 2002 and then continue to grow. Now is the time 
to look for--and to fund--opportunities to increase health care 
insurance coverage for Americans.
    We've already made headway in several areas, including 
expanding coverage for America's children. With 84 percent of 
the uninsured living in families that are headed by someone who 
has a job but no health insurance, the low-income, working 
uninsured should be our next target.

                          INCREMENTAL PROGRESS

    The AHA believes that every American deserves access to 
basic health care services, services that provide the right 
care in the right setting at the right time. But we also know 
that, as the 1994 health care reform debate clearly 
demonstrated, a single, comprehensive proposal to bring 
coverage to all Americans is unlikely to be successful. 
Incremental steps are a more likely means for increasing 
coverage, and the AHA has supported those steps that we believe 
can at least move the nation closer to health care coverage for 
all.
    The AHA supported the Kassebaum/Kennedy legislation that 
became known as the Health Insurance Portability and 
Accountability Act. We recognized that the immediate impact on 
reducing the number of uninsured was not likely to be 
overwhelming. Nevertheless, we judged it critically important 
to demonstrate that practical, public initiatives could help 
reduce the loss of insurance coverage.
    And we were strong supporters of the Children's Health 
Insurance Program (CHIP). This effort was part of the Balanced 
Budget Act of 1997, and helps states provide health care 
coverage to low-income children. Fifteen percent--or nearly 
eleven million--of children in this country went without health 
insurance in 1997.
    Under CHIP, states can help alleviate this problem by 
purchasing insurance, providing coverage through Medicaid, or 
through some combination of both options. The federal 
government has appropriated $24 billion through 2002 for the 
program. Those funds are allocated based on the number of 
uninsured children in each state, with the state matching the 
federal allotment.
    With almost every state, plus the District of Columbia and 
Puerto Rico, opting in to the program, CHIP got off to a good 
start. In fact, the Health Care Financing Administration (HCFA) 
has reported that, in its first year of operation, the CHIP 
program enrolled nearly one million children. This is momentum 
that is just beginning, and we urge Congress to resist any 
temptation it may feel to divert or reduce federal funds that 
have been allocated for this purpose.
    The AHA, our state association partners, and individual 
hospitals and health systems have been working hard to help 
enroll eligible children in CHIP and Medicaid. Last year, the 
AHA, HCFA, the March of Dimes and WJLA-TV, the local ABC 
affiliate, teamed up with Maryland and Washington, D.C. 
governments to develop public service advertisements urging 
low-income families to sign their children up for free or low-
cost health insurance. Our partnership with HCFA is ongoing, 
and another joint outreach initiative is planned for this 
autumn.
    And as part of the observance of National Hospital week 
from May 9-15, the AHA urged all hospitals to continue their 
commitment to enroll children in Medicaid and CHIP, by 
encouraging participation in the national campaign to Insure 
Kids Now. The campaign has a toll-free hotline with information 
on the low-cost state health insurance programs, and the AHA 
provided hospitals with Insure Kids Now posters with the 1-877-
Kids Now number for their emergency departments or other 
appropriate locations.

                      AHA'S CAMPAIGN FOR COVERAGE

    The AHA's commitment goes beyond these recent efforts. The 
AHA Board of Trustees, after the demise of national health care 
reform, was concerned that the American public had resigned 
itself to the fact that large numbers of Americans were, and 
seemingly always would be, uninsured. The AHA explored a number 
of approaches with many of the leading health policy thinkers 
at a series of policy forums addressing coverage, access, and 
improving population health status. Each of the policy forums 
concluded that:
     incremental initiatives were the most likely path 
to progress in reducing the number of uninsured, and
     state and local initiatives would provide the most 
immediate benefit.
    In the absence of comprehensive federal action, the AHA 
Board of Trustees in January of 1997 adopted a concrete goal of 
reducing the number of uninsured people by four million by the 
end of 1998--the AHA's Centennial year. We took on this 
challenge because the primary task of hospitals and health 
systems is to improve the health of their communities. While 
they care for people who are both insured and uninsured, our 
members see every day that the absence of coverage is a 
significant barrier to care, reducing the likelihood that 
people will get appropriate preventive, diagnostic and chronic 
care.
    The AHA's Campaign for Coverage--A Community Health 
Challenge asked each of our members to help reduce the number 
of uninsured people in their communities. Our state hospital 
association partners worked to reduce the number of uninsured 
in their states. Community-based efforts were key, and included 
encouraging hospitals as employers to provide coverage to all 
employees; working with local employers to develop affordable 
coverage; providing care in a school-based or church-based 
clinic; working with the state Medicaid program to increase the 
participation rate among eligible people; and much more.
    The number of hospital and health system participants in 
the Campaign grew to about 1,500. They found ways to extend 
coverage to nearly 2.5 million uninsured people, and to improve 
access to health care services for another 3.4 million people. 
And through their partnerships with local physicians, other 
caregivers, schools and businesses, health care leaders 
continue to carry the Campaign's message: getting more people 
covered is not a one-time project, but a lifetime's work.
    The next chapter of our campaign is being written. The AHA 
has joined with EBRI, the Milbank Memorial Fund, and the 
Association of American Medical Colleges to form the Consumer 
Health Education Council (CHEC), an organization dedicated to 
expanding coverage for the uninsured. This new organization is 
educating consumers and employers about the need for coverage, 
developing tools to help people choose a health plan, and 
providing the media and public policymakers with information 
about health care coverage.

                             THE NEXT STEP

    Eighty-four percent of the uninsured live in families that 
are headed by workers, some with full-time jobs, others with 
part-time positions. Finding ways to make health insurance more 
affordable for small companies and for low-income workers could 
significantly slow the number of uninsured Americans, by 
getting coverage to the workers and to their families.
    According to an article in Health Affairs journal co-
authored by Jon Gabel, vice president of health systems studies 
at AHA's Hospital Research and Educational Trust, higher-wage 
firms are more likely than lower-wage firms to provide health 
coverage for their employees.
    During the past six years, writes Gabel, the U.S. economy 
added more then 12 million jobs, and the unemployment rate fell 
to its lowest level since 1969. Yet, at the same time, the 
number of uninsured increased from 35 million to 43 million. In 
1997 alone, a year in which the unemployment rate fell from 5.3 
percent to 4.6 percent, the number of uninsured increased by 
nearly 2 million.
    Part of this is due to low-income workers not being offered 
health insurance by their employers. Using data from KPMG Peat 
Marwick's 1998 survey of employers about job-based health 
insurance, Gabel and his colleagues calculated that only 39 
percent of small firms (those with fewer than 200 workers) with 
low-wage employees offered health benefits. Among small firms 
that pay high wages, 82 percent offered health benefits.
    The findings suggest that low-wage families are more likely 
to be insured if they work in firms where most of the employees 
earn higher wages. Further analysis points to cost as another 
ingredient in the growth of the uninsured. While real wages 
declined for low-wage workers, employee contributions for 
single and family coverage rose more than threefold from 1988 
to 1996. The result is that fewer workers could afford to 
accept their employer's health care coverage, and opted to go 
without coverage.

         INCREMENTAL SOLUTIONS TO TARGET THE WORKING UNINSURED

    A look at how our current tax system stimulates health 
insurance coverage can help explain the broader question of the 
uninsured. Of the 84 percent of the population with health 
insurance, employment-based coverage provides the majority with 
health care coverage. The most significant tax incentives for 
employer-based health insurance are: health coverage as a 
deductible business expense; health coverage as an exclusion 
from an employee's gross income; and health coverage as an 
exclusion from employment tax computations such as Social 
Security, Medicare or unemployment compensation.
    The tax incentives are less generous for self-employed and 
individual taxpayers. Self-employed taxpayers may deduct 
payments for health insurance from their adjusted gross income. 
The tax deduction is currently only 45 percent of the amount of 
the insurance, but will increase to 100 percent in 2003. 
Individuals who itemize can deduct any unreimbursed medical 
expenses only if those expenses exceed 7.5 percent of gross 
income. Questions have been raised over how our federal tax 
system creates inefficiencies and market distortions, and 
favors individuals who work and have higher incomes.
    Congress, in particular, should investigate the question of 
how the inequities in the tax code have contributed to the 
current diminishment of health care coverage. However, 
necessary reforms will take years to be fully vetted. The need 
to ensure access to health care for many low-income working 
uninsured is far too pressing to wait. The EBRI data shows us 
that:
     Eighty-four percent of the uninsured lived in 
families that are headed by workers, some with full-time jobs, 
others with part-time positions.
     Adults between the ages of 18-64 accounted for 
almost all of the most recent increase in the uninsured, 
between 1996 and 1997.
     The decline in Medicaid coverage for working and 
non-working adults accounted for the overall increase in the 
uninsured between 1996 and 1997.
     The uninsured are concentrated disproportionately 
in low-income families--over 40 percent earn less than $20,000.
     Nearly half of the working uninsured are either 
self-employed or working in small businesses with fewer than 25 
employees. A growing consensus is emerging to look at 
incremental steps through the tax code to make health care 
coverage more affordable for the working uninsured. The AHA 
believes there are several solutions that can help more 
employees afford health care coverage. Congress will be 
considering several tax credit options. We would like to 
present our views on some ideas we support that are aimed at 
getting health care coverage to more Americans.

Reform the Tax Code

    Make coverage more affordable for the working uninsured
     Make it affordable for low-income people who 
cannot afford their employer's coverage, or whose employers 
don't offer coverage, to get health care insurance from another 
source. This could take the form of a refundable tax credit. 
Low-income taxpayers would qualify for a credit against their 
income tax for all or part of the amount that they spend on 
health insurance. The tax credit can be varied by income and 
family status. For low-income taxpayers the tax credit is 
preferable to tax exclusions and deductions, which favor higher 
income workers. The tax credit, essentially a direct transfer 
from the government, will help low-income workers purchase 
insurance.

Assist employers in offering insurance

     Offer tax credits for small employers that 
purchase group coverage premiums. This would give small 
businesses additional financial resources to provide coverage 
to their employees.
     Accelerate the deductibility of health payments 
for the self-employed. Under current law, self-employed 
taxpayers will not be able to fully deduct their health 
insurance payments until 2003.

Other Reforms

    In addition to changes in the tax code, there are other 
reforms that would help make insurance more accessible to the 
working uninsured. These include:
    Create a mechanism that allows more-affordable insurance
     Create purchasing cooperatives that, through 
strength in numbers, can give small firms more leverage in 
negotiating health care insurance contracts.
     Offer grants for state high-risk pools. High-risk 
pools would allow access to insurance for people with greater 
health care needs.
    Make it easier for families to enroll in public programs
     Give states the option to expand CHIP to include 
families of CHIP-eligible children. Encourage states to use 
temporary Medicaid coverage for individuals that are moving 
from welfare-to-work.
     Expand coverage for low-income pregnant women, 
legal immigrant low-income pregnant women and legal immigrant 
low-income children
     Continue the federal commitment to fund CHIP; 
states are demonstrating strong commitments to CHIP, and 
momentum would be lost if federal dollars are removed
     Encourage outreach to enroll eligible children in 
CHIP and state Medicaid programs

Finance reforms and expansions through the federal budget 
surplus

    The financing of such reforms is a critical policy 
question. The booming economy, and a projected federal budget 
surplus of $107 billion this year alone, offer a unique 
opportunity to help fund many of these initiatives. By 
investing surplus dollars, Congress can realize a substantial 
return as more Americans receive the right health care, at the 
right time, in the right place.

                               CONCLUSION

    Mr. Chairman, America's hospitals and health systems 
believe that every man, woman and child in this country deserve 
basic health care services, and that no one should lack these 
services because they cannot pay for them. It is a fact that 
people who do not have health care insurance are more likely to 
become seriously ill with an illness or injury that, had it 
been treated properly and early, could have been a minor 
annoyance instead of an expensive condition. Our emergency 
departments see this every day.
    That is why we support any effort to stem the rising tide 
of the uninsured, and bring appropriate medical care to all who 
need it. With the working uninsured growing in numbers, we 
agree with the concept of changing the tax code to make it 
possible for more low-income workers and their families to have 
health care coverage. We look forward to working with you on 
specific legislation that would do the job properly.
      

                                


    Mrs. Johnson of Connecticut. Thank you very much, Mr. 
Wilford.
    Ms. Hoenicke.

STATEMENT OF JEANNE HOENICKE, VICE PRESIDENT AND DEPUTY GENERAL 
          COUNSEL, AMERICAN COUNCIL OF LIFE INSURANCE

    Ms. Hoenicke. Thank you, Madam Chairman. I am Jeanne 
Hoenicke, vice president and deputy general counsel of the 
American Council of Life Insurance. The nearly 500 member 
companies of the ACLI offer annuities, life insurance, 
pensions, long-term care, disability income insurance and other 
retirement and protection products.
    My statement echoes some of the speakers you have heard 
before me. It is also a prelude to the retirement panel that 
follows. Over the next 35 years, the number of Americans over 
age 65 will more than double and nearly half of those will 
reach the age of 90. Many of us will spend more than 25 years 
in retirement. This calls for broader and more flexible 
preparation. That preparation includes having assurances of 
many things: That you will not outlive your income; that you 
will not become impoverished even if you need long-term care; 
and that your retirement savings will be protected during your 
working years even if you become disabled or suffer the death 
of a key wage provider, child care provider or homemaker.
    ACLI believes that we need a comprehensive approach to 
retirement security, one that recognizes the increasing 
reliance on private sector solutions, personal responsibility, 
and retirement risks. As leading providers of both accumulation 
and protection products, we are uniquely qualified to assist in 
developing strategies that help Americans adapt to the happy 
advent of a long retirement, but one that has less formal 
guarantees and more uncertainties.
    Retirement security is our number one issue. Social 
Security as it exists today may not continue to provide a 
sufficient level of benefits for the coming generations. 
Policymakers should address this issue now while the economy 
and demographics provide a window of opportunity. At the same 
time, actions taken to preserve and strengthen Social Security 
must not unintentionally weaken the private retirement system.
    Fortunately, the private pension system continues to grow, 
increasing from less than 10 percent of national wealth in 1980 
to close to 25 percent in 1993. Our retirement system must 
continue to respond to America's changing work patterns, 
including the growing importance of small businesses, coupled 
with shorter job tenures, both of which have important 
implications for the future. The ACLI applauds Representatives 
Portman and Cardin for their leadership in ensuring not only 
the maintenance but the expansion of the voluntary employer-
sponsored retirement system. We strongly support their 
legislation, H.R. 1102, and urge Congress to enact it as 
quickly as possible.
    We are also keenly aware that tax incentives have played a 
key role in the growth of annuities and IRAs. These retirement 
products are especially important to the self-employed, a 
growing segment of the work force. Over 80 percent of 
individual annuity owners have household incomes under $75,000, 
close to half have incomes under $40,000. The current tax 
treatment of annuities during the retirement savings phase must 
be maintained and we are very grateful to this Committee for 
its staunch support against efforts to weaken tax incentives 
for individuals who plan responsibility for their full lifetime 
needs through these retirement annuities.
    More Americans need to understand the importance not just 
of accumulating savings, but of planning to protect those 
savings against the uncertainties of what life might hold. We 
should do more to encourage everyone to accept the dual 
challenge of accumulating savings and managing risks to those 
savings. To manage risks, Americans need to have some portion 
of their retirement income in a guaranteed stream of payments 
for their whole life: from Social Security; from employer-
sponsored pensions; and from personal annuities. The Tax Code 
should provide incentive for individuals to guard against 
outliving their savings.
    Tax policy should also promote responsibility for guarding 
against the devastating costs of a long-term illness. The ACLI 
believes that the Code should be amended to permit individuals 
to deduct long-term care insurance premiums for themselves and 
family members as an adjustment to income like the IRA 
deduction. We strongly support the bill introduced last week by 
Representatives Johnson and Thurman which includes this 
important tax incentive.
    Madam Chairman, the future is not what it used to be. We 
urge you to adopt tax policies that reward personal 
responsibility and provide more flexibility for retirements 
that will be longer and very different from the past. 
Accumulating savings for retirement is vitally important. 
Protecting those savings before and in retirement is equally 
important.
    Thank you for providing us with this opportunity to express 
our views, and I would be happy to answer questions.
    [The prepared statement follows:]

Statement of Jeanne Hoenicke, Vice President and Deputy General 
Counsel, American Counsel of Life Insurance

    Thank you, Mr Chairman. I am Jeanne Hoenicke, Vice 
President and Deputy General Counsel of the American Council of 
Life Insurance. The nearly 500 member companies of the ACLI 
offer life insurance, annuities, pensions, long term care 
insurance, disability income insurance and other retirement and 
financial protection products. Our members are deeply committed 
to helping all Americans provide for a secure life and 
retirement.
    Over the next 35 years, the number of Americans over age 65 
will more than double, and nearly half of those will reach the 
age of 90. This means many of us will spend over 25 years in 
retirement. This fast approaching reality calls for broader and 
more flexible preparation. That preparation includes having 
assurance of many things: that you will not outlive your income 
even if Social Security is less than expected and you have no 
company lifetime pension; that you will not become impoverished 
even if you need long-term care; and that your retirement nest 
egg will be protected during your working years even if you 
become disabled, or suffer the death of a key wage provider, 
childcare provider or homemaker.
    Congress has provided an important safety net for the truly 
needy, and has encouraged individuals to take appropriate steps 
to secure their own retirements. The success of today's 
retirement system rests on a healthy Social Security system and 
on federal income tax incentives for private pensions and 
retirement savings. The government role in these programs 
remains essential.
    ACLI believes, however, that we need a more comprehensive 
approach to retirement policy, one that recognizes the 
increasing reliance on private sector solutions, personal 
responsibility, and retirement risks.
    As leading providers of both accumulation and protection 
products, the life insurance industry is uniquely qualified to 
assist in developing strategies to help Americans adapt to the 
happy advent of a long retirement, but one that has less formal 
guarantees, and more uncertainties. Retirement and financial 
security is our number one issue.
    Social Security as it exists today may not continue to 
provide a sufficient level of benefits for the coming 
generations. We believe policymakers must address this issue 
while the economy and demographics provide a window of 
opportunity. At the same time, actions taken to preserve and 
strengthen Social Security must not unintentionally weaken the 
private retirement system.
    Fortunately, the private pension system continues to grow, 
increasing from less than 10 percent of national wealth in 1980 
to close to 25 percent of national wealth in 1993. By 1997, 
assets in the private pension system were nearly $7 trillion, 
including significant growth in defined contribution plans. The 
nation's retirement system has, and must continue to, respond 
to the dynamic nature of Americans' changing work patterns, 
including the growing importance of small businesses and the 
service sector, coupled with the trend toward shorter job 
tenures, all have important implications for the future. Tax 
policymakers need to take these trends into account.
    We have provided the Committee with much information on 
employer-provided pensions, for example, that 77 percent of 
participants have earnings below $50,000 (1997). The ACLI 
applauds Representatives Portman and Cardin for their 
leadership in ensuring not only the maintenance, but the 
expansion of the voluntary employer-sponsored retirement 
system. We strongly support their legislation, H.R. 1102 (the 
Comprehensive Retirement Security and Pension Reform Act), and 
urge Congress to enact it as quickly as possible. The ACLI 
particularly supports the Portman/Cardin proposals to raise the 
limitations on contributions to and benefits from pension plans 
to or above their former levels and increase the limits on 
compensation considered for these purposes. In addition, the 
ACLI strongly supports repeal of the current liability funding 
limit which restricts the ability of an employer to ensure a 
well-funded plan. We also support similar provisions offered by 
representatives on this Committee and throughout Congress.
    At the same time, we are keenly aware that tax incentives 
have also played a key role in the growth of IRAs and 
annuities. These retirement products are especially important 
to the self-employed, a growing segment of the American 
workforce, and to those without employer-sponsored pensions. 
Over 80 percent of individual annuity owners have household 
incomes under $75,000; close to half have incomes below 
$40,000. The current tax treatment of annuities during the 
retirement savings accumulation phase must be maintained. We 
are grateful to this Committee for its staunch support against 
efforts to impose tax dis-incentives for individuals who plan 
responsibly for their full lifetime needs through these 
important annuity retirement products.
    More Americans need to understand the importance not just 
of accumulating savings, but of planning to protect one's 
savings against the uncertainties of what life might hold; 
uncertainties such as becoming disabled or a family provider 
dying early; uncertainties such as outliving one's income or 
needing long-term care. We should do more to encourage all 
Americans to accept the dual challenges of accumulating 
retirement savings and managing risks to these savings.
    To manage retirement risks, Americans need to have some 
portion of their retirement income in a guaranteed stream of 
income for life from Social Security, from employer-sponsored 
pensions, and from personal annuities. The Tax Code should 
promote individual responsibility for guarding against 
outliving one's savings.
    Government tax policy should also promote individual and 
family responsibility for guarding against the devastating 
costs of a long-term, chronic illness. The ACLI believes that 
the Tax Code should be amended to permit individuals to deduct 
long-term care insurance premiums for themselves and family 
members as an adjustment to income, like the IRA deduction. We 
strongly support H.R. 2102, the bill introduced last week by 
Representatives Nancy Johnson and Karen Thurman which includes 
this important tax incentive.
    Mr. Chairman, the future is not what it used to be. We need 
to adopt tax policies that reward personal responsibility and 
provide more flexibility for retirements that will be longer 
and very different from the past. The life insurance industry 
is the only private industry that can provide life insurance 
protection against leaving family members without money should 
a wage provider, childcare provider or homemaker die early; 
that can provide annuities which guarantee income for every 
month a person and his or her spouse lives, no matter how long; 
and that can protect a nest egg from being wiped out due to 
disabilities, or long-term care needs through disability and 
long-term care insurance. Accumulating savings for retirement 
is vitally important; protecting those savings before and in 
retirement is equally important.
    Thank you for providing us with this opportunity to express 
our views and I would be happy to answer any questions.
[GRAPHIC] [TIFF OMITTED] T0332.003

[GRAPHIC] [TIFF OMITTED] T0332.004

[GRAPHIC] [TIFF OMITTED] T0332.005

[GRAPHIC] [TIFF OMITTED] T0332.006

[GRAPHIC] [TIFF OMITTED] T0332.007

      

                                


    Mrs. Johnson of Connecticut. I thank the panel for their 
presentation. It certainly is true that the future is going to 
be quite different from the past, and one of the stark 
differences is the many, many years that people are going to 
live in retirement, and our failure to this point at least to 
appropriately respond to the changed nature of retirement in 
our public policies.
    Social Security reform, as important as it is, is really 
the easy piece of that. Unless we do a lot of things that we 
have talked about here today, we really won't have retirees 
that are as secure and capable and a strong part of the economy 
in decades ahead.
    I wanted to ask you, Ms. Hoenicke, because the concept of 
annuities has not been popular with the Treasury in recent 
years and come under attack as a source of new revenues in a 
number of subtle ways, could you just talk about the benefits 
of annuity products as opposed to other kinds of products as we 
look toward retirement security?
    Ms. Hoenicke. Surely. The annuity product we believe is 
very important and we are grateful to this Committee's support 
for it over the years. The unique feature that makes it so 
important to this retirement security issue that you are 
considering today is that it is the only product that can 
provide individuals a guarantee against outliving their income. 
If the savings pool they have gathered will not necessarily 
provide them enough money throughout their life, if they have 
purchased an annuity, the insurance company will, with the 
money that they have used to purchase that annuity, provide 
that stream of income. That is very important because we do not 
know how long we are going to live, and we may live a long 
time, happily.
    Mrs. Johnson of Connecticut. Thank you. On the subject of 
the uninsured, I appreciate the many ideas that are now coming 
forth in covering the uninsured. Certainly as we look at the 
problems in Medicare, the confluence of Medicare payment 
problems and the rise in the number of uninsured are posing a 
new threat to hospital services. Hospitals are uniquely 
impacted by the rise of the uninsured, both in terms of your 
emergency room costs and in terms of hospital stays that are 
not compensated by virtue of lack of insured coverage.
    So it is of enormous importance to our hospital system that 
we move aggressively to reduce the number of the uninsured, not 
just from the point of view of their needing better preventive 
care and early intervention, but also in maintaining the 
strength of the institutional capability that this Nation has 
to provide very sophisticated acute care hospital services.
    But as we move to work on the uninsured, a number of you 
have talked about this problem of how do you cover the 
uninsured and not erode the strength of the employer sector.
    One of the critical issues that is not addressed by any of 
our legislation but I think is very relevant is how do we 
stimulate the private sector to provide a broader array of 
policies? We are beginning to see some change. I am beginning 
in my district to see very exciting pairing of medical savings 
accounts with the traditional employer provided accounts giving 
people the option of a medical savings account and then the 
retirement savings that offers in years of low health care 
costs.
    Aetna recently came out with a whole different approach to 
insuring health costs. One of the reasons we can't reach the 
uninsured individual is because the costs are high, whether it 
is for the individual or for the small business, and how can we 
create a greater challenge to the individual market to think 
through the real needs of the variety of people who are 
uninsured and stimulate a broader market, at the same time do 
something to help with the cost. But if we just help with the 
cost, we maintain in a sense the continued rigidity of the 
product in the health market. I am not sure that we are going 
to achieve our goal so it is kind of a nebulous question, but I 
would appreciate your comments on it.
    Mr. Goodman. I would suggest two changes. Two changes. One, 
I think it is important that we have the same tax system 
applying to individuals and to small businesses so that we have 
a level playingfield under the tax law. And as long as we have 
a level playingfield, we are going to find out what the 
employer's role should be in the marketplace and not by the 
artificial mechanism of tax law.
    The other important change largely has to come at the State 
level. In Texas, we are looking very seriously at the idea of 
allowing small businesses to buy their employees into 
individual insurance pools. So you get all the economies of 
group purchasing, whatever economies there are there, and then 
what the employee has is a policy which he owns and can, in 
principal, take from job to job.
    I think if we can open up that mechanism, we will get small 
business more in the role of helping people get into pools 
instead of tying to run its own health insurance plan which a 
small business is not really able to do.
    Mrs. Johnson of Connecticut. Dr. Butler.
    Mr. Butler. I agree with that. I think providing subsidy or 
tax credit will of itself stimulate a lot of activity.
    It is very interesting, for example, that in the FEHBP, the 
Federal Employee Health Benefit Program, you see a plethora of 
employee-sponsored organizations including unions being very 
much involved in a provision of care. Why is that so and not so 
in the rest of the market? Because those plans are eligible for 
the subsidies under the FEHBP.
    If you provide a credit or other kinds of assistance that 
have been mentioned, I think you will see the development of 
those kinds of alternatives. I think if you look at organized 
labor, or if you look at church-based organizations, 
particularly in the African-American community, there are 
natural groupings that are already there as a basis on which to 
build larger pools. I think the way to encourage or even work 
directly with States on a demonstration basis to allow pooling 
to develop. But the credit, which means giving the same tax 
treatment for nonemployment based plans, is the key financial 
step to stimulate this kind of activity.
    Mrs. Johnson of Connecticut. Mr. Kahn.
    Mr. Kahn. I think at the end of the day the kind of 
subsidization that is being discussed here is critically 
important. It will make the difference. But I must say, I think 
there is sort of a countervailing trend. On the one hand, 
plans, and plan purchasers are trying to be cost conscious. On 
the other hand consumers and the employees are demanding more 
choice.
    So more open network plans are where the growth is, where 
the products are and they tend to be more expensive than either 
closed-network HMOs or more high-deductible plans. I think over 
time, particularly in the small employer market, for it to 
work, you are going to see these products, whether they are 
HMOs or very high deductible plans, being the only ones that 
you can have that you can keep affordable. Because at the end 
of the day, whether it is better pooling or whatever, health 
care is expensive and people are going to want a combination of 
coverage for various kinds of illnesses and diseases that will 
be expensive.
    Mrs. Johnson of Connecticut. I do think it is sort of a 
remarkable failure of the American system that we have been 
unable to create pools for individuals, and I have been working 
on that for years and many others in the Congress have. I am 
interested that you think tax equity would help stimulate or 
create the opportunity for a different kind of pooling.
    I think we need to be thinking about pools that also can 
register people for Medicaid. So they both are sort of, in a 
sense public private because we have so many Medicaid-eligible 
people who are not in the Medicaid system. I think only if we 
begin to really have a more comprehensive approach to coverage 
can we do that. As you develop ideas along that line, I would 
appreciate it if you would get back to me.
    Mr. Rangel.
    Mr. Rangel. I have no questions. I want to thank the panel 
for their excellent testimony.
    Mrs. Johnson. Mr. Foley.
    Mr. Foley. This may be slightly off the mark but maybe one 
of you can help me. We are in a debate now on minimum wage and 
increasing minimum wage, and oftentimes at that level the 
employees themselves don't have any health care coverage 
whatsoever. I think if given the option of a dollar in their 
paycheck per hour or some type of health insurance policy, they 
will quickly take the dollar in the paycheck and go without 
coverage.
    One of the big problems in the insurance industry and the 
health care industry and the hospital industry is the fact that 
there is an immense amount of cost shifting to those who have 
the ability to pay who have Medicare or Medicaid or some other 
form. And we are now aggressively debating how should we 
increase minimum wage.
    One of the thoughts I had was rather than necessarily give 
a dollar increase, I would rather figure a way to require 
health insurance coverage thereby reducing the burden that is 
spread amongst society in getting employees covered. Now, it 
may fall on deaf ears in several sectors, but I wondered if any 
of you had looked at that potential kind of policy 
implementation rather than just throwing money to the wind and 
saying now we are going to elevate everybody's paycheck in 
order to keep things consistent in America.
    Can anybody give me an idea about that?
    Mr. Goodman. I can tell you that I prefer the kind of 
approach which encourages people to both have a job and to have 
health insurance. I would be opposed to an approach which 
artificially raises the cost of labor, and therefore is going 
to cause people to be unemployed, especially as we go into an 
economic downturn. So I prefer the tax credit approach that is 
available to people regardless of their wage and for people at 
the bottom of the income ladder, since they are fully 
refundable, it means essentially the Federal Government is 
going to be paying for their insurance.
    Mr. Butler. I agree with that. Assuming for the sake of 
argument that one supports increasing the minimum wage, if you 
go forward with earmarking that for a specific kind of 
insurance coverage, it will create more problems than it solves 
for lots of people because you won't be able to get a one-size-
fits-all solution.
    On the other hand, and whether or not you have an increase 
in minimum wage, the tax credit which offsets the cost of 
coverage gives you a lot more flexibility to do it either 
within the employment base system or outside the employment 
base system. You don't have to have the same degree of 
regulation and one-size-fits-all approach to how people are 
going to use that money for health coverage.
    I think Dr. Goodman's point is correct. If you offer credit 
and people for whatever reason don't take it, then you can look 
at a rebate to the States equivalent to that revenue which has 
not been lost by the Federal Government as a way of dealing 
with people who somehow refuse to take the credit.
    Mr. Kahn. I guess I would have a little concern about 
critical mass of dollars. If someone is actually at the minimum 
wage and you say only a dollar or some small portion of that 
has to go to health insurance, I am not sure there is enough 
critical mass. And, if the employer is not already providing 
them coverage, I think it is problematic. I am not sure where 
it gets you unless you come in with either deductions or 
vouchers for people that are under a certain level of income as 
we have in our InsureUSA Proposal or something to get them 
enough bucks to get a policy that has substance to it and would 
give them the kind of coverage that would sort of move them 
down the field toward decent health care.
    Mr. Wilford. Mr. Foley, I believe the people we experience 
in our emergency departments that come in with no coverage that 
are minimum-wage people probably would put their money in their 
pocket like you are proposing. I think one possible alternative 
might be that the employer be required to provide some kind of 
at least catastrophic coverage for that group so that the major 
catastrophic illnesses could be covered and the more minimum 
coverages be covered in public clinics or other services.
    Mr. Foley. Catastrophic would be helpful, but the problem 
is, as you know, with State mandates on all insurance policies 
it causes the premium to go so high, most people can't afford 
them.
    There are so many things that are added on into a required 
policy. Anybody else want to comment on it? Again, it was just 
an idea. I know the complications are in fact very real. I am 
not suggesting I am for a minimum wage increase, but I think as 
we go down this road, we continue to find ways to increase 
wages and still negate the basic problem that is with us all in 
America, that is the failure to obtain health insurance and 
then it falls on society.
    Nobody is rejected from an emergency room in a hospital. 
They are treated. Somebody pays for it. It is the hospital, it 
is Blue Cross, somebody is going to absorb that cost to 
society; and I just sense that that is a real, real problem in 
insurance coverage. As the fewer become insured, the more the 
burden goes to the insured, the higher the premiums, the fewer 
continue to maintain coverage and the spiral continues. And I 
have got to vote in 3 minutes.
    Mrs. Johnson of Connecticut. Some of us do have to vote. I 
recognize Mr. Cardin for questioning while we are gone. Others 
wanted to come back for questions so we will see how that 
develops. Otherwise we will recess until the next panel.
    Mr. Cardin. I will try to filibuster until a Republican 
gets back, but I am more than happy to take the Chair if you 
would like me to take the Chair.
    Mrs. Johnson of Connecticut. We sort of do that by default, 
Mr. Cardin. Before I leave I did want to mention two things.
    First, I think Mr. Wilford's comment about--I hope you all 
think about this--we have to do something to require States to 
offer at least--because some States don't offer catastrophic 
coverage because catastrophic coverage combined with the 
community health system, which is very significantly federally 
funded, does represent an alternative for--would have 
represented an alternative for many. So there are ways in which 
we need to better knit together the resources we have.
    But last I would like to ask your help once my bill gets in 
in evaluating how many of the uninsured it would cover because 
it is so much a richer credit than anything that has been 
offered. The attempt is to make it equal in goods delivered, 
not in tax value, but in goods delivered to those who get 
employer-provided insurance, and so unfortunately I do have to 
go vote but I would look forward to your input on that once we 
get it in and I will recognize Mr. Cardin for as much time as 
he may choose to consume.
    Mr. Cardin [presiding]. Thank you, Madam Chair. It is nice 
to have the whole Committee. We might decide to mark up Social 
Security reform first, and then we will go from there.
    Let me first thank all of you for your testimony and for 
your work on trying to deal with the problems of the uninsured. 
I would just like to first get your observations on one 
argument that many of you frequently make, that when we pass 
policies here in Washington that could add to the cost of a 
health care premium such as the Patients Bill Of Rights, the 
argument is always made for those who oppose that action that 
by adding to the cost of the insurance premium, we will add to 
the number of people who are uninsured.
    And I accept that as basic economic principal that the 
higher the cost, the more likely that a company will not offer 
health benefits or will terminate or do something else. My 
question is, though, that the projections that I have seen show 
that health cost inflation will go up over the next several 
years at a higher rate than general inflation in our society.
    Therefore, the cost of the current system will continue to 
rise. Does that mean that the number of uninsured will continue 
to grow unless we take some policy direction here in Washington 
to compensate for the additional cost of our system? Is that 
likely to occur?
    Mr. Goodman. I think it is and it is not simply because of 
what is happening in Washington. It is also what is happening 
at the State level, and two bad things are happening. We are 
passing unwise legislation that unnecessarily raises the cost 
of----
    Mr. Cardin. Suppose we do nothing. Suppose we do absolutely 
nothing. Let's say we don't pass these bills. Medical inflation 
goes up at what is projected to be at least three or four or 
five points above what inflation goes up. So the effective cost 
to an employer is going to continue to escalate to maintain the 
current plan. The employer is going to be either, according to 
your economic analysis, either going to have to cut back some 
place, have the employees pay more, or not provide the 
benefits. Is that what is going to happen? And, therefore, 
people are going to be underinsured or uninsured in greater 
numbers if Congress does nothing.
    Mr. Goodman. I think it is a little more complicated than 
that. Other things being equal, high health care costs give 
people incentive to want to be insured against them. So rising 
medical costs can contribute to more people buying health 
insurance and, in fact, that was probably what was happening a 
decade or so ago.
    Mr. Cardin. Then I am a little bit troubled by your 
argument that when we provide certain protections to patients 
that could add to the health care premium cost, that that adds 
to the number of uninsured. That doesn't seem to be logical 
from your--because health care cost is expensive.
    Mr. Goodman. What I am saying is we have passed a lot of 
laws which raise the cost of insuring against those health care 
costs. In other words, for an individual to get basic health 
care coverage, he has to buy into a very expensive package that 
could be less expensive if we didn't have a lot of State 
mandates, a lot of what I think are unwise regulations.
    But the two things that are going to cause the number of 
uninsured to rise are: The increasing cost of the health 
insurance itself as opposed to the cost of health care for 
healthy people.
    And, number two, we are making it increasingly easy for 
people to wait until they get sick before they get health 
insurance.
    Mr. Cardin. Mr. Kahn.
    Mr. Kahn. I think you present a dilemma, but clearly if you 
have a base inflation and then you build on top of that, 
particularly in a given year in one fell swoop, it does affect 
coverage. Now, in what you are describing you are saying the 
logical conclusion of the argument we have been making is a 
death spiral, that there is a point at which you are just 
getting to lose and lose and lose. Actually, you can look at 
the last few years and in many areas there have been zero 
premium increases and there has been, as I described, a 
marginal increase of the number of people covered by 
employment.
    I am concerned over time that, yes, if we don't keep 
premium increases corralled, that we are going to have the 
problem you are describing but to add on top of that the 
mandates in all their various forms, I would argue it just 
makes that more severe.
    Mr. Cardin. I think I would counter by the fact that if we 
keep premiums low by either shifting costs to the patient or 
consumer or by denying adequate health care in the policy, that 
we are--we are going to have underinsured individuals which can 
be just as serious a problem as uninsured. If I can't afford--
if my plan doesn't cover for an emergency visit, and I need to 
have emergency care because of their restrictive definition of 
what is an emergency visit, and I have to pay for that out of 
pocket, I am uninsured; aren't I?
    Mr. Kahn. I think we will have to agree to disagree about 
the extent to which people receive coverage. I think on your 
other point, though, about cost sharing, that study after study 
shows that a little cost sharing is a good thing, and that it 
involves the individual in the cost of care and makes them cost 
conscious, whether it is at the premium level or the 
coinsurance and deductible level.
    At the other level, I guess I am personally, and obviously 
the companies I work for, are not convinced that the set of 
requirements are going to assure patients that what you are 
describing is their perception of what full coverage is. I 
think we will just have to disagree.
    Mr. Cardin. Karen, you want to help me out on this.
    Ms. Lehnhard. I think there is no question that as premiums 
go up, they will go up on their own even without any changes 
here in Washington.
    As premiums go up, we are going to see more shifting--the 
primary thing we will see is more shifting to the employee to 
pay part of the premium and the dilemma is the part they pay is 
not deductible and I have actually--we didn't think of this. 
Some of the proposals actually provide for that deduction which 
some people won't like because that is not creating maybe in 
their minds tough cost sharing, but I think we are getting up 
to the point where it is 50-percent premium sharing by 
individuals.
    That is why in our proposal, we said go ahead and give a 
tax credit to a low-wage worker in a small firm even if their 
employer provides coverage because chances are they are paying 
a significant part of the premium, even if they have got 
coverage.
    The other thing I would mention, and I don't expect it to 
change anybody's mind; but what our plans are telling us it is 
not just patient protection cost, it is confidentiality, 
administrative simplification, year 2000, patient protection 
Federal and State, and the administrative costs are 
significant. But not only that, they are taking the creative 
people who would be developing new products and putting them 
into major systems changes, reinventing how we pay claims in 
some cases and that is what--we are in all lines of business, 
and I hear that the diversion from product development is 
significant.
    Mr. Cardin. I think that is a good point. I don't disagree 
with the points of making the system as cost effective as 
possible and some of the beneficiaries payments do make the 
system more cost effective. You raise a good point about 
premium deduction by those employers who do offer health care 
plans.
    Of course, we are trying to balance between getting more 
people adequately insured and just making it easier for 
employers to work with employees not to provide health benefits 
because they have the tax advantages without the employer-
sponsored plan. So there is a balancing point here, but I think 
most of us agree that the Tax Code should help those people who 
currently don't have health insurance become insured.
    Mr. Chairman, thank you.
    Mr. English [presiding]. Thank you. And I appreciate the 
opportunity to extend a few questions to the panel myself.
    A number of you have made, I think, a very compelling 
argument for a tax credit as part of an initiative toward 
universal access to affordable care which, to me, is a more 
realistic goal than universal coverage, although some of you 
may disagree with that.
    I would like to get my arms around your notions of how to 
design such a credit to have the maximum impact and maximum 
effectiveness. Dr. Butler, how large a credit do you think 
would be appropriate and what income limits would you suggest?
    Mr. Butler. You know, Mr. English, I think that almost begs 
the question of what kind of revenue costs are you 
contemplating, because the simple fact is that the larger the 
credit you provide, the larger the impact is going to be on the 
uninsured. There is no question about that.
    There is also no question that if you give a relatively 
small credit, you are not going to affect many people who are 
currently uninsured, but you are going to ease the burden on 
people who are struggling paycheck to paycheck to buy insurance 
outside the place of work. So, in a sense, it is kind of hard 
to answer your question. The proposals that have been put 
forward that would, say, provide a 30-percent credit would 
probably reduce uninsurance by somewhere between 1.5 and 2 
million, something of that order. Much of the value of that 
credit would go to people who are currently buying insurance 
out of pocket, after tax which I think is a good thing in 
itself. So it is a little difficult to answer your question.
    Mr. English. Let me assume then for a moment that we have a 
$1,000 credit. How far would that go in providing an adequate 
level of buying power for most families assuming an interaction 
with other programs such as Medicaid?
    Mr. Butler. Well, if you assume an interaction with other 
programs like CHIP and Medicaid and so on, then it would get 
you quite a long way toward your goal. But if you are looking 
at people only having that credit available to buy insurance, 
and no other method of assistance, then clearly as you go down 
the income level the net cost to the person taking the credit 
is still getting to be a very substantial portion of their 
income. And for some it is probably going to be prohibitive, so 
they are not going to accept the credit under those kinds of 
cases.
    That is why I think the approach is to try to combine a 
fixed amount, a larger fixed amount for people at the low end, 
maybe in combination with a percentage credit is probably the 
right way to go. When we looked at a much more substantial 
reform a few years ago which would have replaced the entire tax 
exclusion with a credit system, we looked at a sliding scale 
refundable credit which would go up to, I believe it was 60 to 
70 percent of the cost for those who were at the lowest end. 
That would substantially reduce the uninsurance rates.
    Mr. English. If we were--Ms. Lehnhard, did you want to add 
something to that?
    Ms. Lehnhard. I would just add we actually did modeling on 
this at $1,200 tax credit for very small firms less than 10 at 
225 percent of poverty. As a conservative modeling, we were 
very struck by the number of people who don't pick up coverage. 
The model showed about 1.9 people out of 7 million potentials 
pick up coverage which suggests you really almost have to pay 
the full cost, and then you still don't pick up the entire 
population.
    Mr. English. Dr. Butler, to follow up, I think what you are 
contemplating here is clearly refundable tax credit.
    Mr. Butler. At least partially refundable against payroll 
tax----
    Mr. English. Do you see any potential fraud problems with a 
credit like that, or is that going to be relatively easy to 
enforce?
    Mr. Butler. It depends how you design it. A fully 
refundable credit does raise lots of issues because you are 
dealing with people who don't file taxes and so on. There is a 
long history of problems with those kinds of subsidies via the 
tax system.
    I think if you are looking at a system which is essentially 
run through the withholding system, which you can do with a 
refundable credit against income taxes and payroll taxes, then 
proof of insurance becomes an element. The employer can at 
least be your first line of defense in terms of what is this 
person actually using it for. I think you can deal with a lot 
of problems.
    I also mentioned in passing a proposal that Senator Daschle 
offered a while ago to say as an additional, as an alternative, 
the idea of transferring the credit to an insurer in return for 
a lower premium to that person may also be a way of dealing 
with less likelihood of fraud in those kinds of situations. 
Again, that is not unlike what happens in the FEHBP where you 
get an after-subsidy price as an employee.
    Mr. English. That brings me to one other question; but 
first Mr. Kahn, did you have something to add?
    Mr. Kahn. Yes, Mr. English. I think you might want to look 
at this structurally differently though. To focus on how big 
the credit has to be I think maybe--it is a legitimate question 
but maybe the wrong question.
    Instead when we did our proposal, we looked at the poorest 
of the poor, and those near poor, under 200 percent of poverty 
and basically said that either an expansion of the CHIP Program 
or some kind of voucher but something that was done probably 
through the States probably through the welfare system in terms 
of determining what their income was is better than using the 
tax structure.
    Trying to help people at that level through the tax 
structure, one, as you say, leads to fraud and abuse issues, 
and two, leads to issues such as to how do you locate them. 
Also in our plan, we would give a credit to certain small 
employers directly if they purchase insurance. It is a costly 
proposal, but on the other hand it gets to the issue that Mary 
Nell Lehnhard was talking about which is it is the smallest 
employers who provide many of the jobs, particularly for the 
poorest people, who cover the least people and, in a sense, if 
you can get the bucks to the employer through the tax system, 
that may be a more efficient way than trying to get some of 
these dollars through to people in a credit that is going to be 
very difficult to design.
    Ms. Lehnhard. We took one more twist on that. We said just 
don't do it for all workers in small firms. Do it for the low-
income workers in small firms.
    Mr. English. Mr. Goodman.
    Mr. Goodman. First on the fraud question, there is fraud in 
the EITC program. The most frequent form of fraud is people 
claim kids that aren't their kids. But if you are claiming a 
tax credit for health insurance and you have the insurance 
company there, well, the insurance company presumably knows who 
it is insuring, who it is not.
    If an employer is involved as Dr. Butler said, the employer 
would be monitoring. So you bring more monitors into the 
system. The more monitors in the system means a lot less fraud. 
Now, as to the efficient way to do this, almost no one really 
is talking about--when they are talking about refundable tax 
credit--talking about handing people cash and saying go buy 
health insurance.
    I think we are all talking about a system under which you 
go through employers and you go through insurance companies in 
order to reduce the premium to the employee or to the buyer and 
pay for that with tax relief and the employer does the 
financial transaction or the insurance company does the 
transaction.
    So we don't have to go find people who are uninsured. It 
will happen through the place of work.
    Mr. English. Very good. Any other contributions?
    Mr. Butler. I would just add one point about the credit to 
employers, which I am fairly skeptical about because I think 
that one of the key issues, as has been discussed before, is 
how to get people into larger groups and larger pools.
    Look at a very small employer with five employees who is 
trying to buy insurance today in a pretty dismal market that 
they face. To say we will give them a credit and argue that 
that is more efficient than allowing the employee a credit to 
go and join a larger pool somewhere else, I don't think that 
argument holds. An individualized credit is much more 
appropriate for the very small business sector than subsidizing 
the employee-employer through a credit or any kind of system.
    Mr. English. Ms. Lehnhard, briefly.
    Ms. Lehnhard. I would just make one quick point. On the 
pooling of small employers, you don't have cases any more where 
groups of five are on their own. Every State has passed laws 
which require an insurance company to pool all of their small 
employers.
    It used to be you would have different products. You would 
segregate your risks. You can't do that anymore. Each Blue 
Cross and Blue Shield Plan will have all of its small employers 
in one pool. So the States have done a great public policy by 
stabilizing the small group market and requiring that pooling.
    Mr. Kahn. I guess I would argue if you had more money in 
the system for those smaller employers so there were more 
people participating, it would only enhance the pools that are 
being described that are already in the small group market.
    Mr. English. Thank you.
    Thank you very much for your participation today, and I 
will dismiss this panel. Let me turn this over and recognize 
Mrs. Thurman to inquire.
    Mrs. Thurman. Thank you, Mr. Chairman. You like that sound?
    Dr. Butler, I am intrigued because yesterday of course we 
had a panel before the medical--or the Health Subcommittee that 
talked again about the 43 million and yesterday we did some 
press on the issue of expansion of Medicare for 55 to 64 and 
with the issue that you brought up where you talk about 
nonemployment base groups actually are more logical and skilled 
in their organization, do you feel that way about opening up 
some of those government programs that are available to help 
expand some of the coverage in these areas?
    Mr. Butler. I don't think the two points are connected. 
What I argued was: First one has got to think about what are 
the best vehicles to provide insurance. And there are several 
criteria, one of which is there should be a long-term 
affiliation, so you are not going in and out of the pool. It 
should be large so that it is big enough to spread the risks 
and so on. I pointed out that there are organizations that 
currently exist to fulfill a lot of those functions, and maybe 
we ought to explore how to deal with some of the wrinkles that 
you have to deal with. I mean labor unions, churches, other 
kinds of groups like that.
    Mrs. Thurman. Would this be one that you would feel should 
be explored then for the 55-year-old to 64-year-old going into 
Medicare because in some cases it could be a spouse who is now 
65 whose spouse is younger and has no affiliation because 
whatever job or employment they were at no longer exists. So 
the idea would be to expand it in some of those areas 
particularly for Medicare----
    Mr. Butler. I don't think it is necessary to reach the 
condition I mentioned because, for example, if you did have 
people who had a union-sponsored plan and had tax relief and a 
tax credit, whether or not they were employed, then that system 
would function for the people who are 60 to 65 who are not 
currently in Medicare.
    Those people would be able to continue coverage under the 
existing organization that they are affiliated with and would 
get tax relief if the kind of recommendations we have made 
would continue. I think when you start talking about bringing 
Medicare down into that group, and I know this is an issue that 
has been proposed and we have argued about it before, I think 
you have got all sorts of questions about who would choose to 
do that, what the liability would be for the government, what 
kind of adverse selection would occur against Medicare, whether 
Medicare is best for them or whether they should continue in 
something we already have.
    I don't think it makes a lot of sense to say to somebody 
who turns 60 and has good coverage, say through a labor 
organization, you are basically going to have to drop this and 
go in to Medicare.
    Mrs. Thurman. I don't think that has been called for.
    Mr. Butler. The ideal situation would be to allow people to 
join organizations when they are working, throughout their 
working life and to continue into Medicare. My argument would 
be that we should look at making Medicare much more flexible so 
that these kinds of more indigenous organizations could become 
a central part of the Medicare delivery system rather than 
doing the opposite.
    Mrs. Thurman. I was just looking at your definition of what 
you had considered.
    Let me ask the panel, the CRS has done a fairly extensive 
report on all of the tax benefits in current law as for 
providing insurance through, for example, the employment base 
plans. There are some tax deductions, medical expense 
deduction, all of us know that is a very difficult threshold to 
meet, but in fact it is there. You have got cafeteria plans. 
You have got self-employed deductions. You have got flexible 
spending accounts, medical savings accounts, both military and 
Medicare, none of which is considered as part of our income.
    I mean, it seems to me that we have a hodgepodge in many 
ways of tax credits available to us today, and still we have 43 
million people not getting health care. And I personally asked 
the question yesterday, and I am going to ask this panel. In 
these different categories of insurance tax deductions that we 
have, are they working today? How many of that 43 million 
people have the advantage of these tax credits that are not 
using them, and have we looked at why they are not using them?
    Mr. Kahn. I believe, Mrs. Thurman, that they are working 
today but there are a lot of gaps. There are people who don't 
work in large firms or firms that take advantage for their 
employees of all those. And second, if you look at the problem 
of uninsurance, it is primarily a problem of income and people 
who work in small firms.
    Mrs. Thurman. I understand the small firm but let's say for 
example, the self-deduction--I mean for somebody who is--owns 
their own business. Do we know how many people out there who 
are not taking advantage of that? And that is a very small 
firm. Those are some issues that I am really concerned that we 
are----
    Mr. Kahn. We are taking advantage of that based on income. 
Law firms that are all partners and they are self-employed, 
they are taking advantage of it and Joe's bar and grill that is 
just two people, self-employed, are probably not. So I think it 
comes down to income at the end of the day. You can only use a 
tax benefit if there is income there to enjoy it. That is one 
of the issues that is important.
    Mr. Goodman. But it is a hodgepodge on the tax side almost 
as bad as the hodgepodge over on the spending side. It seems to 
me like there is a very strong case to be made with treating 
everyone the same, fairness. You say we are going to give a tax 
break to you if you buy health insurance and it is going to be 
x dollars and it is going to be the same whether or not you get 
it through an employer or you are self-employed or you have to 
go buy it on your own.
    We strongly favor having that tax credit be just as 
generous for the low-income person as the high-income person 
whereas today it is all geared to the people in the higher 
brackets.
    Mr. Butler. The overwhelming volume of the tax relief 
available for health care is for people who are connected to 
the health insurance system through their place of work or are 
affluent because for the 7.5-percent threshold, for example, 
you have got to itemize, you have got to have significant 
expenses, and you have got to be able to afford those expenses. 
So the huge gap is the people who are outside the employment 
base system and are relatively low income.
    That is why I think all of these proposals that have been 
put forward are focusing on that group, and I think they should 
do.
    Mr. Kahn. If I could make one other point too. That 7.5 
percent was totally arbitrary, and it was done in tax reform.
    Mrs. Thurman. Why does that not surprise me?
    Mr. Kahn. Because they needed the money to make the whole 
tax reform work, and it was one of the areas. It was lower for 
years, I mean, for eons. I can remember the day, I was working 
for Senator Durenberger at the time, and I said don't do that 
and he went and did it as other Members did.
    But the point is that is arbitrary and I think actually if 
you are looking at things to help people, that is one item that 
even though obviously you have to itemize is arbitrary and 
probably too high.
    Ms. Hoenicke. If I could add one thing and my only role on 
the health side of this panel is with respect to long-term 
care, and I think that is clearly an area where there is a huge 
gap in the Tax Code. There is no deduction for long-term care 
and that is a medical expense.
    Mrs. Thurman. Nancy and I are working on that.
    Ms. Hoenicke. We know you are, and I wanted to say thank 
you again as we did in our statement. Thanks.
    Mr. English. I thank the gentlelady for her contribution. 
Do any other Members wish to inquire? The Chair recognizes Mr. 
McInnis.
    Mr. McInnis. Thank you, Mr. Chairman. I would only make one 
point. Dr. Goodman, toward the end of your remarks, sir, you 
point out that the income tax credit apparently should apply to 
the low income as well as the high income. That is not a tax 
credit at the low income. Tax credit is applied to income. Once 
you go to someone who doesn't have the income but gets the tax 
credit instead, that is a welfare program so you should 
distinguish between the two.
    Mr. Goodman. I don't mind if you rhetorically distinguish 
it that way, but what I am saying is presuming the government 
has an interest on whether people insure because if they don't 
insure, they can show up at hospitals and incur medical bills 
that have to be paid for by the rest of us.
    Mr. McInnis. I will reclaim my time. I don't disagree with 
that, but I think we need to distinguish and I think you need 
to distinguish, doctor, when you talk about that at some point 
you need to subsidize it in the form of a welfare instead of a 
tax credit against income. That concludes my question, Mr. 
Chairman, thank you.
    Mr. English. Thank you, Mr. McInnis. I want to thank this 
panel for their extraordinary contribution to the discussion 
here today and I would like to invite forward the next panel 
which will consist of Jack Stewart, assistant director for 
Pension, Principal Financial Group of Des Moines, Iowa, on 
behalf of the Association of Private Pensions and Welfare 
Plans; Paula A. Calimafde, chair of the Small Business Council 
of America, Bethesda, Maryland, and a member of the Small 
Business Legislative Council, and also on behalf of the 
American Society of Pension Actuaries and the Profit Sharing/
401(K) Council of America; J. Randall MacDonald, executive vice 
president for human resources and administration of the GTE 
Corp. of Irving, Texas, and a member of the board of directors 
of the ERISA Industry Committee; and Jim McCarthy, vice 
president and product development manager of the Private Client 
Group for Merrill Lynch & Co., Inc., Princeton, New Jersey, on 
behalf of the Savings Coalition of America.
    I welcome this panel.
    You are invited to give your testimony up until the red 
light blinks. We would encourage you to stay within the time 
parameters. We still have one more panel to go afterward and we 
look very much forward to your contribution. I recognize Mr. 
Stewart.

   STATEMENT OF JACK STEWART, ASSISTANT DIRECTOR, PENSIONS, 
   PRINCIPAL FINANCIAL GROUP; DES MOINES, IOWA; ON BEHALF OF 
        ASSOCIATION OF PRIVATE PENSION AND WELFARE PLANS

    Mr. Stewart. Thank you, Mr. Chairman. I am Jack Stewart, 
assistant director of Pension at the Principal Financial Group 
of Des Moines, Iowa. I am here on behalf of APPWP, the 
Association of Private Pension and Welfare Plan, the Benefits 
Association.
    APPWP is a public policy organization representing 
principally Fortune 500 companies as well as other 
organizations such as Principal that assist plan sponsors in 
providing benefits to employees. It is a privilege for me to 
testify before the Committee and I want to extend the APPWP's 
thanks for your personal commitment to the issue of helping 
American families achieve retirement security.
    You have shown steadfast dedication to seeing that all legs 
of our retirement income stool, Social Security, employer-
provided pensions, and personal savings are made strong for the 
future.
    I want to focus my comments on steps we can take together 
to strengthen the pension and savings legs of this stool. As 
the Committee begins to craft the upcoming tax bill, we urge 
you to include in that bill, H.R. 1102, the Comprehensive 
Retirement Security and Pension Reform Act of 1999, introduced 
by Representatives Portman and Cardin. H.R. 1102 will extend 
the benefits of pension coverage to more American workers and 
will offer new help to American families saving for retirement. 
Ninety Members of Congress have now cosponsored this bill 
including 26 Members of this Committee. And the coalition 
supporting it includes 64 organizations ranging from major 
employer groups such as APPWP to the Building and Construction 
Trades Department of the AFL-CIO, to the National Governors' 
Association.
    I want to focus my remarks on what APPWP considers to be 
the backbone of H.R. 1102, how the Federal Government can 
encourage employers to create and maintain tax-qualified 
retirement plans. I will briefly touch on five areas of the 
bill that are critical to this effort, restoration of 
contribution and benefit limits, simplification of pension 
regulations, small business incentives, enhanced pension 
portability, and improved pension funding.
    One of the most significant reforms in 1102, and in 
Representative Thomas' H.R. 1546, is the restoration to 
previous dollar levels of several contribution and benefit 
limits that cap the amount that can be saved and accrued in 
workplace retirement plans. These caps have been reduced 
repeatedly for budgetary reasons and are lower today in actual 
dollar terms--to say nothing of the impact of inflation--than 
they were many years ago.
    Based on my 22 years of experience in the retirement plan 
arena, I am convinced that restoring these limits will result 
in more employers offering retirement plans. Restored limits 
will convince businessowners that they will be able to fund a 
reasonable retirement benefit for themselves and other key 
employees, will encourage these individuals to establish and 
improve qualified retirement plans, and will result in pension 
benefits for more rank-and-file workers.
    Restored limits are also important to the many baby boomers 
who must increase their savings in the years ahead in order to 
build adequate retirement income. The catchup contribution 
contained in the bill, which would permit those employees who 
have reached age 50 to contribute an additional 5,000 each year 
to a defined contribution plan, will likewise address the 
savings needs of baby boomers and will provide an especially 
important savings tool for the many women who return to the 
work force after raising children.
    Another vitally important component of H.R. 1102 is the 
simplification of many Tax Code sections and pension rules that 
today still inhibit our private retirement system. I have found 
that these complicated rules deter many small employers from 
offering retirement plans and make plan administration a costly 
and burdensome endeavor for companies of all sizes. The bill 
simplification measures include needed flexibility in the 
coverage and nondiscriminations tests, repeal of the multiple 
use test, and an earlier funding valuation date for defined 
benefit plans and reform of the separate lines of business 
rules.
    H.R. 1102 also contains several important measures aimed at 
making it easier for small businesses to offer retirement 
plans. First and foremost, the bill streamlines and simplifies 
top-heavy rules. The legislation also assists small businesses 
with plan startup administration costs through a tax credit, 
reduced PBGC insurance premiums and waived IRS user fees as 
well as simplified reporting.
    Based on my experience working with small companies, I am 
convinced that these changes will make our retirement system 
more attractive to small employers.
    APPWP is also pleased that H.R. 1102 would repeal the 150 
percent of current liability funding limit imposed on defined 
benefit plans. This would cure a budget-driven constraint that 
has prevented employers of all sizes from funding the benefits 
they have promised to their workers. In conclusion, I want to 
thank you again for the opportunity to appear today to share 
APPWP's views on ways to enhance retirement security for 
American families.
    We look forward to working with you in the weeks ahead to 
enact the reforms contained in 1102 as part of your broader 
effort to make our Nation's tax laws simpler and less 
burdensome. Thanks.
    [The prepared statement follows:]

Statement of Jack Stewart, Assistant Director, Pensions, Principal 
Financial Group; Des Moines, Iowa; on behalf of Association of Private 
Pension and Welfare Plans

    Mr. Chairman and members of the Committee, I am Jack 
Stewart, Assistant Director--Pension at the Principal Financial 
Group of Des Moines, Iowa. I am here today as the 
representative of the Association of Private Pension and 
Welfare Plans (APPWP--The Benefits Association). APPWP is a 
public policy organization representing principally Fortune 500 
companies and other organizations such as the Principal that 
assist employers of all sizes in providing benefits to 
employees. Collectively, APPWP's members either sponsor 
directly or provide services to retirement and health plans 
covering more than 100 million Americans.
    It is a privilege, Mr. Chairman, for me to testify before 
the Committee today and I want to extend APPWP's thanks for 
your personal dedication to the issue of helping American 
families achieve retirement security. You have shown steadfast 
dedication to seeing that all legs of our retirement income 
stool--Social Security, employer-provided pensions and personal 
savings--are made strong for the future.
    I want to focus my comments on the steps we can take 
together to strengthen the pension and savings legs of this 
stool. As you and the Committee begin to craft the upcoming tax 
bill, APPWP believes there is a clear step that you can take to 
extend the benefits of pension coverage to even more American 
workers and to offer new help to American families saving for 
retirement. That step is inclusion and passage of H.R. 1102, 
the Comprehensive Retirement Security and Pension Reform Act of 
1999, which was introduced in March by Representatives Rob 
Portman (R-OH) and Ben Cardin (D-MD) together with a large 
group of bipartisan cosponsors. Representatives Portman and 
Cardin have once again rolled up their sleeves and done the 
heavy lifting that is required to master the intricacies of our 
pension laws and to craft reform proposals that are responsible 
and technically sound. With this bill, they have continued 
their long-standing commitment to retirement savings issues and 
have demonstrated both leadership and vision in setting a 
comprehensive course for improvement of our nation's 
employment-based retirement system. Eighty-four Members of 
Congress have now cosponsored H.R. 1102--including 25 members 
of this Committee--and the coalition supporting it includes 64 
organizations ranging from major employer groups such as APPWP 
to the Building and Construction Trades Department of the AFL-
CIO to the National Governors Association.
    Mr. Chairman, while H.R. 1102 contains a whole series of 
important reforms, I would like to focus on the five areas of 
the bill that APPWP believes are of particular importance for 
advancing our nation's pension policy--(1) restoration of 
contribution and benefit limits, (2) simplification of pension 
regulation, (3) new incentives for small employers to initiate 
plans, (4) enhanced pension portability, and (5) improved 
defined benefit plan funding.

             Restoration of Contribution and Benefit Limits

    One of the most significant reforms in H.R. 1102 is the 
restoration of a number of contribution and benefit limits to 
their previous dollar levels. These limits cap the amount that 
employees and employers may save for retirement through defined 
contribution plans as well as limit the benefits that may be 
paid out under defined benefit pension plans. Many of these 
dollar limits have been reduced repeatedly since the time of 
ERISA's passage. Today, they are far lower in actual dollar 
terms--to say nothing of the effect of inflation--than they 
were many years ago.
    During the 1980's and early 1990's, Congress repeatedly 
lowered retirement plan contribution and benefit limits for one 
principal, if frequently unstated, reason: to increase the 
amount of revenue that the federal government collects. It is 
time to put an end to that type of short-term policy-making. It 
is true that under federal budget scorekeeping rules, proposals 
that encourage people to contribute more to retirement savings 
cost the federal government money in the budget-estimating 
window period. Yet incentives that effectively increase 
retirement savings are among the best investments we can make 
as a nation. These incentives will pay back many times over 
when individuals retire and have not only a more secure 
retirement, but also increased taxable income. Increased 
retirement savings also generates important investment capital 
for our economy as a whole.
    It is time that retirement policy--rather than short-term 
budgetary gains--guide Congress'actions in the plan limits 
area. H.R. 1102 wisely takes this approach by restoring a 
series of contribution and benefit limits to their intended 
levels. H.R. 1546, introduced by Representative Thomas, also 
restores a number of these limits. These limit restorations 
give practical significance to the calls by the President, Vice 
President and bipartisan congressional leadership last June at 
the National Summit on Retirement Savings to allow Americans to 
save more effectively for their retirement.
    Restored limits are critical for a number of reasons. They 
would help return us to the system of retirement plan 
incentives intended at the time of ERISA's passage. In our 
voluntary pension system, it has always been necessary to 
incent the key corporate decision-makers in initiating a 
qualified retirement plan in order that rank-and-file workers 
receive pension benefits. An important part of generating this 
interest is demonstrating that these individuals will be able 
to fund a reasonable retirement benefit for themselves. The 
contribution and benefit limit reductions of recent years have 
reduced the incentives for these decision-makers, giving them 
less stake in initiating or maintaining a tax-qualified 
retirement plan. Based on my 22 years of experience in the 
retirement arena, particularly my work with small and mid-sized 
companies, I am convinced that restoring these limits will 
result in greater pension coverage. Restored limits will 
convince business owners that they will be able to fund a 
reasonable retirement benefit for themselves and other key 
employees, will encourage these individuals to establish and to 
improve tax-qualified retirement plans, and will thereby result 
in pension benefits for more rank-and-file workers.
    Restored limits are also important so that the many baby 
boomers who have not yet saved adequately for retirement have 
the chance to do so. A reduced window in which to save or 
accrue benefits clearly means one must save or accrue more, and 
restoring limits will allow this to occur. Of particular 
concern is the fact that it appears that older baby boomers are 
not increasing their level of saving as they move into their 
mid-to-late 40s. Rather, they are continuing to fall further 
behind--with savings of less than 40 percent of the amount 
needed to avoid a decline in their standard of living in 
retirement.
[GRAPHIC] [TIFF OMITTED] T0332.014


    Every day's delay makes the retirement savings challenge 
more difficult to meet, and every day's delay makes the 
prospect of catching up more daunting. Individuals who want to 
replace one-half of current income in retirement must save 10 
percent of pay if they have 30 years until retirement. These 
same individuals will have to save 34 percent of pay if they 
wait until 15 years before retirement to start saving.
[GRAPHIC] [TIFF OMITTED] T0332.015


    Along with restored limits, H.R. 1102 contains a specific 
tool to help workers meet this savings challenge. The catch-up 
contribution contained in the bill--which would allow those who 
have reached age 50 to contribute an additional $5,000 each 
year to their defined contribution plan--will help address the 
savings needs of baby boomers and will be an especially 
important savings tool for women. Many workers find that only 
toward their final years of work, when housing and children's 
education needs have eased, do they have enough discretionary 
income to make meaningful retirement savings contributions. 
This problem can be compounded for women who are more likely to 
have left the paid workforce for a period of time to raise 
children or care for elderly parents and thereby not even had 
the option of contributing to a workplace retirement plan 
during these periods.
    The catch-up provision of H.R. 1102 recognizes these life 
cycles and also acknowledges the fact that, because Section 
401(k) plans have only recently become broadly available, the 
baby-boom generation has not had salary reduction savings 
options available during much of their working careers. The 
catch-up provision would help ensure that a woman's family 
responsibilities do not result in retirement insecurity and 
would help all those nearing retirement age to meet their 
remaining savings goals. While some catch-up contribution 
designs would create substantial administrative burden for plan 
sponsors, the simple age eligibility trigger contained in the 
Portman-Cardin bill does not and will result in more companies 
offering this important savings tool to their workers.
    There is an additional savings enhancement contained in the 
bill that APPWP wishes to highlight briefly. Under current law, 
total annual contributions to a defined contribution plan for 
any employee are limited to the lesser of $30,000 or 25% of 
compensation. Unfortunately, the percentage of compensation 
restriction tends to unfairly limit the retirement savings of 
relatively modest-income workers while having no effect on the 
highly-paid. For example, a working spouse earning $25,000 who 
wants to use his or her income to build retirement savings for 
both members of the couple is limited to only $6,250 in total 
employer and employee contributions. By removing the percentage 
of compensation cap, H.R. 1102 would remedy this unfortunate 
effect of current law and remove a barrier that blocks the path 
of modest-income savers.
    Some have expressed concern that restoration of benefit and 
contribution limits would not be a good use of tax expenditure 
dollars and that dollars spent in this way would 
disproportionately benefit high-income individuals. We at APPWP 
believe this concern is misplaced and that analyzing pension 
reforms purely from a current year tax deferral perspective 
misses the point. It should be no surprise, after all, that in 
our progressive tax system where many lower-income individuals 
have no tax liability, pension tax preferences like other tax 
preferences flow in large part to those at higher-income 
levels. Yet in reforming the pension system, we should focus 
not on who receives the tax expenditure but rather on who 
receives the pension benefit. And with respect to pension 
benefits, our employer-sponsored system delivers them fairly 
across all income classes. Of married couples currently 
receiving retirement plan benefits, for example, 57% had 
incomes below $40,000 and nearly 70% had incomes below $50,000. 
Of those active workers currently accruing retirement benefits, 
nearly 45% had earnings below $30,000 and over 77% had incomes 
below $50,000.\1\ Restoration of benefit and contribution 
limits will bring more employers into the private system, and, 
as these figures demonstrate, this system succeeds at 
delivering benefits to the working and middle-income Americans 
about whom we are all concerned.
---------------------------------------------------------------------------
    \1\ Source: Analysis of the March 1998 Current Population Survey 
performed by Janemarie Mulvey, Ph.D., Director, Economic Research, 
American Council of Life Insurance
---------------------------------------------------------------------------

                             Simplification

    Another vitally important component of H.R. 1102 is the 
series of simplification proposals that will streamline many of 
the complicated tax code sections and pension rules that today 
still choke the employer-provided retirement system. 
Unfortunately, in my many years dealing with small and mid-
sized employers, I have seen that the astounding complexity of 
today's pension regulation drives businesspeople out of the 
retirement system and deters many from even initiating a 
retirement plan at all. Not only are businesspeople leery of 
the cost of complying with such regulation, but many fear that 
they simply will be unable to comply with rules they cannot 
understand. We must cut through this complexity if we are to 
keep those employers with existing plans in the system and 
prompt additional businesses to enter the system for the first 
time. Simplifying these pension rules will also further your 
goal, Mr. Chairman, of making our tax code simpler and more 
understandable for American citizens and businesses.
    A more workable structure of pension regulation can be 
achieved only by adhering to a policy that encourages the 
maximization of fair, secure, and adequate retirement benefits 
in the retirement system as a whole, rather than focusing 
solely on ways to inhibit rare (and often theoretical) abuses. 
This can be accomplished by ensuring that all pension 
legislation is consistent with continued movement toward a 
simpler regulatory framework. In short, simplification must be 
an ongoing process. Proposals that add complexity and 
administrative cost, no matter how well intentioned, must be 
resisted, and the steps taken in earlier pension simplification 
legislation must be continued. Current rules must be 
continuously reexamined to weed out those that are obsolete and 
unnecessary. Representatives Portman and Cardin have led past 
congressional efforts at simplification, and APPWP commends 
them for continuing this important effort in their current 
bill.
    As I indicated, Mr. Chairman, H.R. 1102 contains a broad 
array of simplification provisions to address regulatory 
complexity. Let me briefly mention a few that APPWP believes 
would provide particular relief for plan sponsors. First, the 
legislation would provide flexibility with regard to the 
coverage and non-discrimination tests in current law, allowing 
employers to demonstrate proper plan coverage and benefits 
either through the existing mechanical tests or through a facts 
and circumstances test. Second, the bill would repeal the 
duplicative multiple use test, which will eliminate a needless 
complexity for employers of all sizes. Third, the bill would 
promote sounder plan funding and predictable plan budgeting 
through earlier valuation of defined benefit plan funding 
figures. And fourth, the bill would reform the separate lines 
of business rules so that these regulations serve their 
intended purpose--allowing employers to test separately the 
retirement plans of their distinct businesses.
    APPWP believes that the cumulative effect of the bill's 
regulatory reforms will be truly significant. Reducing the 
stranglehold that regulatory complexity holds over today's 
pension system will be a key factor in improving the system's 
health and encouraging new coverage over the long-term. As H.R. 
1102--and pension legislation generally--progress through this 
Committee and the Congress, Mr. Chairman, we would urge you to 
keep these simplification measures at the very top of your 
reform agenda.

                       Small Business Incentives

    While the various changes I have outlined above will assist 
employers of all sizes, H.R. 1102 also contains several 
important measures specifically targeted at small businesses. 
As you may be aware, Mr. Chairman, pension coverage rates for 
small businesses are not as high as they are for larger 
companies. While the number of small employers offering 
retirement plans is growing,\2\ we need to take additional 
steps to make it easier and less costly for today's dynamic 
small businesses to offer retirement benefits to their workers.
---------------------------------------------------------------------------
    \2\ A 1996 survey by the Bureau of Labor statistics revealed that 
42% of full-time employees in independently-owned firms with fewer than 
100 employees participated in a pension or retirement savings plan. 
This was up from 35% in 1990. See Pension Coverage: Recent Trends and 
Current Policy Issues, CRS Report for Congress, #RL30122, April 6, 
1999.
---------------------------------------------------------------------------
    H.R. 1102 takes a multi-faceted approach to making it 
easier for small employers to offer retirement plans. First and 
foremost, H.R. 1102 streamlines and simplifies the top-heavy 
rules, which are a source of unnecessary complexity for small 
employers and are one of the largest barriers deterring small 
companies from bringing retirement plans on-line. The 
legislation will also assist small companies with the costs of 
initiating a retirement plan. Small employers will be offered a 
three-year tax credit for start-up and administration costs, 
they will be eligible for discounted PBGC premiums on their 
defined benefit plans, and they will no longer be required to 
pay a user fee for obtaining a letter of tax qualification from 
the IRS for their plan. Based on Principal's extensive 
experience in the small business market, and my own personal 
work with small companies, I am convinced that these changes, 
in combination with the limit restorations and simplifications 
described above, will make our private retirement system 
substantially more attractive to American small business. The 
important result will be access to employer-sponsored 
retirement plans for the millions of small business employees 
who today lack the opportunity to save for retirement at the 
workplace.

                              Portability

    Another important advance in H.R. 1102 is the cluster of 
provisions designed to enhance pension portability. Not only 
will these initiatives make it easier for individual workers to 
take their defined contribution savings with them when they 
move from job to job, but they will also reduce leakage out of 
the retirement system by facilitating rollovers where today 
they are not permitted. In particular, the bill's provisions 
allowing rollovers of (1) after-tax contributions and (2) 
distributions from Section 403(b) and 457 plans maintained by 
governments and tax-exempt organizations will help ensure that 
retirement savings does not leak out of the system before 
retirement.
    The bill's portability initiatives will also help eliminate 
several rigid regulatory barriers that have acted as 
impediments to portability. Repeal of the ``same desk'' rule 
will allow workers who continue to work in the same job after 
their company has been acquired to move their 401(k) account 
balance to their new employer's plan. Reform of the ``anti-
cutback'' rule will make it easier for defined benefit and 
other plans to be combined and streamlined in the wake of 
corporate combinations and will eliminate a substantial source 
of confusion for plan participants. We specifically want to 
thank Representatives Portman and Cardin for the refinements 
they have made to their portability provisions in response to 
several administrative concerns raised by APPWP and others. We 
believe the result is a portability regime that will work well 
for both plan participants and plan sponsors.

                      Defined Benefit Plan Funding

    APPWP is also pleased that H.R. 1102--as well as H.R. 
1546--includes an important pension funding reform that we have 
long advocated. The bills' repeal of the 150% of current 
liability funding limit for defined benefit plans would remove 
a budget-driven constraint in our pension law that has 
prevented companies from funding the benefits they have 
promised to their workers. The calculation of this funding 
limitation requires a separate actuarial valuation each year, 
which adds to the cost and complexity of maintaining a defined 
benefit plan. More importantly, the current liability funding 
limit forces systematic underfunding of plans, as well as 
erratic and unstable contribution patterns. Limiting funding on 
the basis of current liability disrupts the smooth, systematic 
accumulation of funds necessary to provide participants' 
projected retirement benefits. In effect, current law requires 
plans to be funded with payments that escalate in later years. 
Thus, employers whose contributions are now limited will have 
to contribute more in future years to meet the benefit 
obligations of tomorrow's retirees. If changes are not made 
now, some employers may be in the position of being unable to 
make up this shortfall and be forced to curtail benefits or 
terminate plans. Failing to allow private retirement plans to 
fund adequately for the benefits they have promised will put 
more pressure on Social Security to ensure income security for 
tomorrow's retirees.
    The problems caused by precluding adequate funding are 
compounded by a 10 percent excise tax that is imposed on 
employers making nondeductible contributions to qualified 
plans. This penalty is clearly inappropriate from a retirement 
policy perspective. Employers should not be penalized for being 
responsible in funding their pension plans. The loss of an 
immediate deduction should, in and of itself, be a sufficient 
deterrent to any perceived abusive ``prefunding.''
    The net effect of the arbitrary, current liability-based 
restriction on responsible plan funding, and the 10 percent 
excise tax on nondeductible contributions, is to place long-
term retirement benefit security at risk. With removal of this 
limit and modification of the excise tax, H.R. 1102 would 
provide the enhanced security for future retirees that comes 
with sound pension funding.

            Additional Proposals to Boost Retirement Savings

    Our testimony today has focused on only a few of the 
important changes contained in H.R. 1102. There are many other 
proposals in the bill that would help American families to save 
for retirement, and I want to touch briefly on a few of them 
before concluding.
     First, the bill includes an important change in 
the tax treatment of ESOP dividends that would provide 
employees with a greater opportunity for enhanced retirement 
savings and stock ownership. Under current law, deductions are 
allowed on dividends paid on employer stock in an unleveraged 
ESOP only if the dividends are paid to employees in cash; the 
deduction is denied if the dividends remain in the ESOP for 
reinvestment. Under H.R. 1102, deductions would also be allowed 
when employees choose to leave the dividends in the plan for 
reinvestment, encouraging the accumulation of retirement 
savings through the employee's ownership interest in the 
employer.
     Second, H.R. 1102 creates a new designed-based 
safe harbor--the Automatic Contribution Trust (ACT)--which 
encourages employers to enroll new workers automatically in 
savings plans when they begin employment. Automatic enrollment 
arrangements such as the ACT have been shown to boost plan 
participation rates substantially, particularly among modest-
income workers.
     Third, the legislation would remedy the 
uncertainty and complexity that today surrounds the tax 
treatment of employer-provided retirement counseling. All 
employer-provided retirement planning, including planning that 
does not relate to the employer's plans, would be excludable 
from employee's income under H.R. 1102. The bill would also 
make clear that employees could purchase retirement counseling 
through salary reduction on a pre-tax basis. Since many 
employers provide retirement education to their employees or 
would like to do so, it is critical that the law surrounding 
the tax treatment of this benefit be clear. Moreover, given the 
importance and popularity of 401(k) plans, where the primary 
responsibility for saving and investing falls on employees, 
employers should continue to be encouraged to provide 
information and education about these plans.

                               Conclusion

    Mr. Chairman, the complexity of America's workplace and the 
diversity of America's workforce require that we maintain an 
employment-based retirement system that is flexible in meeting 
the unique needs of specific segments of the workforce and that 
can adapt over time to reflect the changing needs of workers at 
different points in their lives. For this reason, there is no 
single ``magic'' solution to helping Americans toward a more 
secure retirement. Rather a comprehensive series of responsible 
and well-developed proposals--such as those found in H.R. 
1102--is the best way to make substantial progress in 
strengthening our already successful private retirement system 
and we urge their inclusion in your upcoming tax bill.
    Mr. Chairman, thank you again for the opportunity to appear 
today to share APPWP's views on ways to improve the retirement 
security of American families. We commend your commitment to 
this goal and salute Representatives Portman and Cardin, and 
those with whom they have worked, for crafting and cosponsoring 
a bill that will make this goal a reality. We look forward to 
working with you in the weeks ahead to enact these pension and 
savings reforms as part of your broader effort to make our 
nation's tax system simpler and less burdensome.
      

                                


                                                      June 16, 1999

The Honorable Bill Archer Chairman,
Committee on Ways & Means
U.S. House of Representatives
Washington, DC 20515

    Dear Chairman Archer:

    The undersigned group of organizations dedicated to promoting long-
term savings for retirement would like to express our strong support 
for H.R. 1102, The Comprehensive Retirement Security and Pension Reform 
Act of 1999, which has been introduced by Representatives Rob Portman 
and Ben Cardin.
    Thanks in large part to your efforts and leadership, Congress has 
taken important steps in recent years to strengthen the employer-
sponsored retirement system and to aid American families in saving for 
retirement. Yet we share your conviction that much more can and should 
be done in this area. We believe that The Comprehensive Retirement 
Security and Pension Reform Act of 1999 will substantially advance the 
goals of expanded pension coverage and increased retirement savings.
    Offering a comprehensive retirement reform agenda, H.R. 1102 would 
encourage employers, particularly small employers, to establish and 
maintain workplace retirement plans and would provide enhanced 
opportunities for Americans to save by increasing contribution and 
benefit limits in these plans. It would facilitate the portability and 
preservation of retirement benefits--for both private and public 
retirement systems--and would allow for stronger funding of pension 
plans. H.R. 1102 would also simplify many of the overly complex rules 
governing retirement plans, reducing the administrative and cost 
barriers that have made it difficult for many employers to offer 
retirement benefits and ensuring that today's business transactions are 
not inhibited by outdated and unnecessary pension regulation. We 
believe the reforms contained in H.R. 1102 would mark an important step 
forward for our nation's retirement policy and would extend the 
benefits of pension coverage and retirement savings to many more 
American families.
    We look forward to working in close partnership with you to see The 
Comprehensive Retirement Security and Pension Reform Act of 1999 
enacted this year. Thank you again for your efforts on this critical 
policy issue.

            Sincerely,

American Council of Life Insurance

American Society of Pension Actuaries

Association for Advanced Life Underwriting

Association of Private Pension and Welfare Plans

College and University Personnel Association

Employers Council on Flexible Compensation

ERISA Industry Committee

Government Finance Officers Association

International Personnel Management Association

Investment Company Institute

National Association of Life Underwriters

National Association of Manufacturers

National Association of State Retirement Administrators

National Conference on Public Employee Retirement Systems

National Council on Teacher Retirement

National Defined Contribution Council

National Employee Benefits Institute

National Rural Electric Cooperative Association

National Telephone Cooperative Association

Profit Sharing/401(k) Council of America

Securities Industry Association

Small Business Council of America

U.S. Chamber of Commerce

      

                                


    Mr. English. Thank you, Mr. Stewart.
    Ms. Calimafde, we look forward to your testimony.

STATEMENT OF PAULA A. CALIMAFDE, CHAIR, SMALL BUSINESS COUNCIL 
OF AMERICA, BETHESDA, MARYLAND; AND MEMBER, AND DIRECTOR, SMALL 
BUSINESS LEGISLATIVE COUNCIL; ON BEHALF OF AMERICAN SOCIETY OF 
PENSION ACTUARIES, AND PROFIT SHARING/401(K) COUNCIL OF AMERICA

    Ms. Calimafde. I am Paula Calimafde. I am a practicing tax 
lawyer for more than 23 years in the qualified retirement plans 
and estate planning area. I am the chair of the Small Business 
Council of America. I am a director of the Small Business 
Legislative Council. I was a delegate appointed by Majority 
Leader Trent Lott to the National Summit on Retirement Savings. 
I was appointed by the President to the 1995 White House 
Conference on Small Business and served as the Commissioner of 
Payroll Costs at the 1986 White House Conference on Small 
Business where that section covered Social Security and 
retirement policy.
    Today I am also representing the American Society of 
Pension Actuaries whose members provide actuarial consulting 
administrative services to approximately one-third of all the 
retirement plans in the country, many of which are small 
business plans. I am also representing the Profit Sharing/
401(K) Council of America whose members represent about 3 
million plan participants.
    I want to discuss the reasons why a small business chooses 
not to sponsor a qualified retirement plan. We know that the 
coverage in the small business area is lagging and lagging 
seriously. The best of the statistics show small businesses 
cover somewhere in the 35 percent to 40 percent area, and those 
are the optimistic numbers. So why don't owners of small 
businesses want to sponsor retirement plans? They use a cost-
benefit analysis.
    Imagine a company that has three owners, four employees, 
and at the end of the year has $100,000 of profit. The owners 
can choose to put that money back into the company. They can 
also choose to establish a retirement plan and contribute some 
or all of that 100,000 for all of the employees, including 
themselves, or they can each take out $33,000 in compensation.
    And that is the key to understanding why a lot of small 
businesses don't sponsor retirement plans. In order to induce 
that company to establish a retirement plan and make the 
contribution, the owners must perceive that they will be better 
off with a retirement plan than they would be putting the money 
back into the company or taking it out as compensation. If the 
plan is perceived by owners to be a headache, to require extra 
paperwork, require extra costs to administer the plan both 
inside and outside of the company, as not allowing the owners 
to get enough benefits out of the plan, to subjecting the 
company to audits from IRS on complex and technical rules and 
not being appreciated by employees, then they are not going to 
join the system.
    If the owners do not think there is sufficient benefit in 
the plan for them, they will not join the system. This has been 
the situation we have been facing in the late seventies, all of 
the eighties and the early nineties. It is only recently that 
Congress has begun to realize that extra rules, extra burdens, 
and extra costs do not incentivize small businesses to join the 
qualified retirement plan system.
    H.R. 1102 is the first major piece of legislation to reach 
out in a reasonable manner for small businesses to bring them 
into the system. We now know because the April 6, 1999 CRS 
report for Congress entitled Pension Coverage, Recent Trends 
and Current Policy Issues, that once a small business 
establishes a retirement plan, that coverage or participation 
in that plan is at roughly the same high levels as found in the 
larger businesses. This is a key statistic to understand.
    What it means is that if a small business will join the 
system, and will sponsor a retirement plan, participation is at 
the same high level that you would have in a bigger plan. It is 
roughly 85 percent--85% of all the employees of the company 
participate in that plan. In other words, excellent coverage 
results.
    I want to take a minute and look at the top-heavy rules. 
This is probably not the most important part of this bill. The 
limits--returning the limits to where they stood 17 years ago 
is more important. Increasing the 404 deduction limit is more 
important but make no mistake, the changes to the top-heavy 
rules that are in H.R. 1102 will help small businesses sponsor 
plans by rolling back some of these unnecessary burdens in the 
top heavy area. You know this is a well-grounded piece of 
legislation when it is criticized by both ends of the spectrum.
    Some criticize this bill because they say it does not go 
far enough. These individuals maintain that the top-heavy rules 
are an abomination, that they are obsolete, and that they are 
the number one reason cited by small businesses why small 
business will not sponsor a retirement plan.
    On the other hand, some criticize this bill because they 
believe in effect by trying to roll back some of the extra 
burdens, it is akin to allowing the proverbial camel's nose 
under the tent and that repeal will result in a future bill. 
Just because you have helped out a little bit in this bill, it 
is inevitable that repeal will follow.
    Actually H.R. 1102 is a middle-ground approach. It keeps 
the meat of the top-heavy rules. It keeps the required minimum 
benefits and it keeps the somewhat accelerated minimum 
vesting--accelerated vesting, but it rids the system of some of 
the onerous burdens. In my opinion and in the opinion of those 
I am representing today, ASPA, Profit Sharing Council of 
America, Small Business Legislative Council, and the SBCA, this 
bill would do a tremendous amount to help small businesses and 
let them sponsor retirement plans which would give increased 
security to literally millions of Americans.
    [The prepared statement follows:]

Statement of Paula A. Calimafde, Chair, Small Business Council of 
America, Bethesda, Maryland; and Member, and Director, Small Business 
Legislative Council; on behalf of American Society of Pension 
Actuaries, and Profit Sharing/401(k) Council of America

    The Small Business Council of America (SBCA) is a national 
nonprofit organization which represents the interests of 
privately-held and family-owned businesses on federal tax, 
health care and employee benefit matters. The SBCA, through its 
members, represents well over 20,000 enterprises in retail, 
manufacturing and service industries, virtually all of which 
sponsor retirement plans or advise small businesses which 
sponsor private retirement plans. These enterprises represent 
or sponsor well over two hundred thousand qualified retirement 
plans and welfare plans, and employ over 1,500,000 employees.
    The Small Business Legislative Council (SBLC) is a 
permanent, independent coalition of nearly one hundred trade 
and professional associations that share a common commitment to 
the future of small business. SBLC members represent the 
interests of small businesses in such diverse economic sectors 
as manufacturing, retailing, distribution, professional and 
technical services, construction, transportation, tourism, and 
agriculture. Because SBLC is comprised of associations which 
are so diverse, it always presents a reasoned and fair position 
which benefits all small businesses.
    The American Society of Pension Actuaries (ASPA) is an 
organization of over 4,000 professionals who provide actuarial, 
consulting, and administrative services to approximately one-
third of the qualified retirement plans in the United States. 
The vast majority of these retirement plans are plans 
maintained by small businesses.
    The Profit Sharing/401(k) Council of America (PSCA) is a 
non-profit association that for the past fifty years has 
represented companies that sponsor profit sharing and 401(k) 
plans for their employees. It has approximately 1200 company 
members who employ approximately 3 million plan participants. 
Its members range in size from a six-employee parts distributor 
to firms with hundreds of thousands of employees.
    I am Paula A. Calimafde, Chair of the Small Business 
Council of America and a member of the Board of Directors of 
the Small Business Legislative Council. I am also a practicing 
tax attorney (over 20 years) who specializes in qualified 
retirement plans and estate planning. I can also speak on 
behalf of the Small Business Delegates to the 1995 White House 
Conference on Small Business at which I served as a 
Presidential Delegate. At this conference out of 60 final 
recommendations to emerge, the Pension Simplification and 
Revitalization Recommendation received the seventh highest 
ranking in terms of votes. H.R. 1102, the Comprehensive 
Retirement Security and Pension Reform Act, introduced on March 
11, incorporates many of the most important recommendations 
made by the delegates to the 1995 White House Conference on 
Small Business.
    Why did the delegates consider this recommendation to be so 
important as to vote it as the seventh out of the final sixty 
recommendations? The reason is simple--small business wants to 
be able to join the qualified retirement system. For small 
business, the qualified retirement plan is the best way to save 
for its employees' retirement. Based in part on the current tax 
law, many small businesses do not provide nonqualified pension 
benefits, stock options and other perks. Unfortunately, many, 
if not most, small businesses perceive the qualified retirement 
plan area to be a quagmire of complex rules and burdens. It is 
perceived as a system which discriminates against small 
business owners and key employees. The Conference Delegates 
understood that if the retirement system became more user 
friendly and provided sufficient benefits that they would want 
to join it. By doing so, they could provide for their own 
retirement security, while at the same time providing valuable 
retirement benefits for their other employees.
    As a delegate appointed by Senator Trent Lott to the 
National Summit on Retirement Savings, I was able to share 
information and concerns with fellow delegates in break out 
sessions. Even though small business retirement plan experts, 
administrators and owners were not well represented, their 
ideas came through loud and clear in the break out sessions. 
Calls for repeal of the top heavy rules, increases in 
contribution limits, particularly the 401(k) limit, elimination 
of costly discrimination testing in the 401(k) area, and a 
return to the old compensation limits, were repeated across the 
break out sessions. There were even individuals calling for 
support of a particular piece of legislation--the Portman-
Cardin retirement plan bill (this was last year's bill). Of 
course, many ideas were discussed particularly in the 
educational area, but an impartial observer would have noticed 
that the small business representatives were very united in 
their message--increase benefits, decrease costs. In other 
words, when undertaking a cost/benefit analysis, small business 
currently perceives the costs too high as compared to the 
benefits to be gained.
    At the Summit, the following problems facing small 
businesses in the retirement plan area were brought up: staff 
employees' preference for cash or health care coverage, the 
revenue of the business beings too uncertain, the costs of 
setting up the plan and administering it being too high, 
required company contributions (i.e., the top heavy rules) 
being too high, required vesting giving too much to short term 
employees, too many governmental regulations, and benefits for 
owners and key employees being too small. When asked what could 
break down these barriers, the following answers were given: 
reduce the cost by giving small businesses tax credits for 
starting up a plan; repeal the top-heavy rules; reduce 
administration; allow owners and key employees to have more 
benefits; and change lack of employee demand by educating 
employees about the need to save for their retirement now. Some 
micro small businesses believed that until they were more 
profitable nothing would induce them to join the system.
    Today we are here to focus on employer coverage and 
employee participation issues, explore ways to remove 
burdensome regulatory requirements, improve the level of 
benefits that workers may accrue towards their retirement and 
overall how to strengthen retirement plans. SBCA, SBLC, ASPA 
and PSCA all strongly support the landmark legislation, H.R. 
1102. This legislation if enacted, will promote the formation 
of new small business retirement plans, significantly reduce 
overly complex and unnecessary regulatory requirements, 
increase portability and overall provide more retirement 
security for all of the Americans who work for small business.
    I want to share with you two real life examples. A visiting 
nurses association in Vermont just established a 401(k) plan. 
The average salary of the roughly 150 participants is $17,000. 
90% of the employees decided to participate in the plan by 
saving some of their current salary for future retirement 
security. The average amount saved from their salaries and put 
into the 401(k) plan was 8%. Many were at the 10% to 15% 
levels. Some of the employees would have gone beyond 15% if 
they had been allowed to do so. Many of these employees live in 
very rural areas of Vermont, but they understood the message--
it is imperative to save now for your retirement security 
later. They understood it's primarily their responsibility to 
provide for their retirement income not the federal 
government's responsibility.
    A criticism sometimes aimed at the retirement plan system 
is that it is used disproportionately by the so-called ``rich'' 
or the ``wealthy.'' Practitioners who work in the trenches know 
better. The rules governing the qualified retirement system 
force significant company contributions for all non-highly 
compensated employees if the highly compensated are to receive 
benefits. The 401(k) plan, in particular, is a tremendous 
success story. Employees of all income levels participate, even 
more so when there is a company match. The real example set 
forth above is not unusual (though perhaps the level of savings 
is higher than normal).
    Here's another example. This is a local company 
specializing in testing new drugs, particularly those designed 
to prevent or slow down AIDS. The company started off about 20 
years ago with roughly 20 employees. For each of the last 20 
years, this company has made contributions to its profit 
sharing plan in the amount of 8% to 10%. The company has now 
grown to about 220 employees. Their long-timers now have very 
impressive retirement nest eggs. The company believes this 
money has been well spent. It enjoys the well-deserved 
reputation of being generous with benefits and employee turn-
over is way below the norm for this industry.
    This is a retirement plan success story--a win-win 
situation. The company has a more stable and loyal workforce of 
skilled employees. The employees in turn will have retirement 
security. This plan benefits all eligible employees regardless 
of income level. Every eligible employee in the company has 
received in effect an 8% to 10% bonus every year which was 
contributed on their behalf into a qualified retirement trust 
where it earned tax free growth.

 Some Surprising Good News--Participation Is High in Retirement Plans 
  Sponsored by Companies With Fewer Than 100 Employees and Even With 
                        Fewer Than 25 Employees

    Recently, the Congressional Research Service issued a 
Report for Congress, entitled ``Pension Coverage: Recent Trends 
and Current Policy Issues,'' authored by Patrick J. Purcell, 
Analyst in Social Legislation. This report gives an excellent 
overview of the current coverage trends for retirement plans, 
though it is relying on data through 1997. Thus, in the small 
business area, it is not picking up any additional plan 
sponsorship and thus, coverage, due to the new SIMPLE and some 
of the real simplications that have been accomplished in the 
last several retirement plan bills. (Put down the bills) of the 
last several Congresses. A quick perusal of the many tables 
shows small business lagging in many areas of coverage. For 
example, Table 3. Participation in Pension or Retirement 
Savings Plans by Size of Firm shows in Panel A, that in 1997, 
83.3% of employees in firms with 100 or more employees had 
employers who sponsor a pension or retirement savings plan. 
This is contrasted to 58.1% of employees in companies with 25 
to 99 employees have employers who sponsor such a plan. Worse, 
only 30.3%of employees in firms with under 25 employees have 
employers who sponsor such a plan. It is clear that the size of 
the company impacts retirement plan sponsorship, but in the 
very next table a very interesting pattern emerges.
    Panel B: Percentage of employees in firms that sponsored a 
plan who participated in the plan shows that in 1997, 88.2% of 
employees in firms with 100 or more employees that sponsor a 
pension or retirement savings plan participated in the plan. 
However, 85.5% of employees in companies with 25 to 99 
employees which sponsor such a plan participated. And again, 
the trend holds--84.8% of employees in firms with under 25 
employees whose employers sponsor such a plan participate. In 
short, when small businesses sponsor retirement plans, the 
employees participate at just about the same levels as in 
larger companies. This is a very meaningful statistic and can 
be interpreted to mean that the key is to incentivize small 
business to sponsor retirement plans--once this occurs, 
meaningful participation results. Another way of saying this is 
it is critical to make the system attractive to small business. 
H.R. 1102 does just this--it strips away unnecessary burdens 
and increases incentives to attract small businesses to the 
qualified retirement plan system.

 Three Major Reasons Why Small Businesses Choose Not To Sponsor a Plan

    There are three major reasons why a small business chooses 
not to adopt a retirement plan and H.R. 1102 addresses all 
three.
    First, lack of profitability. H.R. 1102 addresses this 
problem by adding a new salary reduction only SIMPLE plan. This 
is a plan that a small business will adopt regardless of its 
lack of profits because it costs the company almost nothing to 
sponsor. This plan rests on an IRA framework so the company has 
no reporting requirements or fiduciary responsibilities. Also 
the company is not required to make any contributions to the 
plan--so profitability is irrelevant. The plan will give every 
eligible employee of the company a chance to contribute $5,000 
for his or her own retirement security each year.
    The second major reason why small businesses do not sponsor 
retirement plans is because the system is perceived (and 
deservedly so) as too complex and costly. The devastating 
legislation of the 80's and early 90's layered additional 
requirements on small business with overlapping and 
unnecessarily complex rules aimed at preventing abuse in the 
system or discrimination against the non-highly compensated and 
non-key employees. In fact, it often comes as a shock to those 
trying to strengthen the retirement plan system for small 
business that the system has harsher rules designed 
specifically for small business. Probably the most offensive of 
these rules are the so-called ``top heavy rules.'' Because of 
the mechanical tests associated with the top-heavy rules, 
almost all small business plans are top-heavy. When a plan is 
top-heavy, the small business must make special required 
contributions which increase the cost of the small business 
plan and vesting is slightly accelerated. In addition to extra 
rules being placed on small business plans, all plans were 
being subjected to constant changes. These annual changes in 
the law and the regulations combined with reduced benefits, 
first brought the system stagnation and then decline. This 
legislation was prompted by the need to get short term revenue 
and where better to look then the pension system that no one 
understood and few were watching. It was also prompted by a 
need to rid the system of some real abuse (for instance back 
about 20 years ago, it was possible for a retirement plan to 
only make contributions for employees who earned over the 
social security wage base, this rule was eliminated and for 
good reason). Unfortunately, rather than using a fly swatter, a 
nuclear bomb was detonated and we ended up with a system in 
real disrepair. H.R. 1102 preserves the safeguards for non-
highly compensated employees so that they are fully protected, 
while stripping away the unnecessary and overlapping rules so 
that true simplification is achieved.
    H.R. 1102 provides reasoned answers. By stripping away 
needless complexity and government over regulation in the form 
of micro management, the system will have a chance to revive. 
This bill would go a long way towards removing the significant 
burdens imposed on small business by the top heavy rules. It 
would simplify portability. It would repeal the absurdly 
complex and unnecessary multiple use test. It would truly 
simplify the system without harming any of the underlying 
safeguards.
    Some have criticized H.R. 1102 for not repealing the top-
heavy rules because they are obsolete, discriminatory and serve 
as a real road block for small businesses to enter the 
qualified retirement plan system. Others have criticized H.R. 
1102 as the first step towards repeal of the top-heavy rules--
this is the camel's nose under the tent theory--if you try to 
remove any burdens, it's just a matter of time before all the 
rules are repealed. Interestingly, H.R. 1102 by stripping away 
the absurd burdens in the top heavy rules (for instance, 
requiring companies to look back only 1 year instead of 5 to 
determine who is a key employee to reduce extensive 
recordkeeping) while keeping the two meaningful provisions of 
the top-heavy rules--extra contributions required and 
accelerated vesting has tried to reach a middle ground on this 
difficult issue.
    Costs would be reduced by eliminating user fees and 
providing a credit for small business to establish a retirement 
plan. This credit would go a long way towards reducing the 
initial costs of establishing a plan.
    The third reason why small businesses stay away from the 
retirement system is that the benefits that can be obtained by 
the owners and the key employees are perceived as too low. It 
is no secret that small business owners believe that the 
retirement plan system discriminates against them. Short 
vesting periods and quick eligibility have provided more 
benefits for the transient employees at the expense of the 
loyal employees. Cutback in contribution levels hurt key 
employees and owners, (of course they hurt the non-highly 
compensated also, but it took a long time to understand there 
was a very real correlation between what the small business 
owners could put away for themselves and their key employees 
and what would be put in for the non-highly compensated 
employees).
    H.R. 1102 solves this problem also. This legislation 
understands there are two pieces to the puzzle--a reduction in 
complexity and costs is essential but is not sufficient by 
itself. A second piece is required. Increasing the contribution 
limits (in reality reversing the limits) to where they stood in 
1982 is equally important.
    It is interesting to examine where these limits would be 
today if the law in 1982 had not been enacted. The defined 
contribution limit which was $45,475 in 1982, assuming a 
constant 3% COLA would have been $75,163 in 1999. This is where 
401(k) limit would have been also. Only in 1987, was the amount 
an employee could save by 401(k) contributions on an annual 
basis limited to $7,000 and the ``ADP'' tests could further 
limit the amount (below $7,000) for the highly compensated 
employees. The defined benefit limit which was at $136,425 in 
1982, assuming a constant 3% COLA would be at $225,490 today. 
These numbers assume a constant COLA of 3%. The true number 
during those years would be closer to an average of 4%-5%.
    Given how critical it is for people to start saving for 
their own retirement today, it seems most peculiar to have 
limits harsher than what they were 17 years ago. Some people 
say that these limits will not operate as an incentive to small 
businesses to sponsor the plan and will only be used by the so-
called ``rich.'' Not only will the increased limits serve as an 
incentive to small businesses to sponsor a retirement plan, but 
the higher limits will be enjoyed by employees who are not 
``rich''. For instance, it is very common today for both 
spouses to be employed. Quite often, these couples decide that 
one of the spouse's income will be used as much as possible to 
make contributions to a 401(k) plan. Today, the most the couple 
can save is $10,000 (and if the participant spouse makes more 
than $80,000 or makes less but is a 5% owner of a small 
business, then the couple might not even be able to put in 
$10,000). Often, the couple would have been willing to save 
more. These couples might make $40,000, $50,000 or more, but 
they are not ``rich.'' It is only because both spouses are 
working, that they are making decent income levels--we should 
provide the means by which they can save in a tax advantaged 
fashion while they can.
    This same principle applies particularly to women who enter 
and leave the work force intermittently as the second family 
wage earner. They and their families stand to benefit the most 
from increased retirement plan limits because the increased 
limits will provide the flexibility that families require as 
their earnings vary over time and demands such as child 
rearing, housing costs and education affect their ability to 
save for retirement.
    Many mid-size employers rely less on their existing defined 
benefit plan to provide benefits for their key employees and 
more on non-qualified deferred compensation plans. This is a 
direct result of the reduction in the defined benefit plan 
limit. In 1974, the maximum defined benefit pension at age 65 
was $75,000 a year. Today the maximum benefit is $130,000, even 
though average wages have more than quadrupled since 1974. 
Thus, pensions replace much less pre-retirement income now than 
they did in the past. In order for these ratios to return to 
prior levels, the maximum would have to be over $300,000 now. 
The lower limits have caused a dramatic increase in non-
qualified pension plans, which provide benefits over the 
limits. They help only the top-paid employees. This has caused 
a lack of interest in the defined benefit plan since there is 
no incentive to increase benefits since the increases cannot 
benefit the highly compensated employees or key employees. This 
is unfortunate since increases affect all participants. The 
importance of bringing these limits back to the 1982 levels 
cannot be underestimated. They are crucial if small business is 
to be persuaded to join the system.
    Prior to the last several Congresses which worked hard to 
improve the system, the thrust of the laws was how to prevent 
any conceivable abuse and how to limit what the upper middle 
income and upper income employees could receive from a 
retirement plan. Interestingly, it is often obvious for a 
member of Congress to understand that if the upper 2 to 3 
quintiles of income earners are removed from the social 
security system that it could prove the death knell for the 
system because the top earners would be disenfranchised and 
would no longer have any interest in the system. Interestingly, 
this is exactly what has happened during the mid-70's through 
the early 90's in the retirement plan system, but even though 
the same concept applied, it was not apparent. By now it should 
be apparent to all that we have disenfranchised large numbers 
of employees from the qualified retirement system and that this 
has brought about its stagnation and decline.
    Rumors have been circulating to the effect that 20% of all 
retirement plan benefits generated by both the private 
retirement plan system and the governmental retirement system 
go to the top 1% of taxpayers, 75% go to the top 20% of 
taxpayers and less than 10% go to the bottom 60% of taxpayers. 
These rumors appear to be attributable to a talking points 
sheet entitled ``Distribution of Pensions Benefits under 
Current Law'' prepared by the Office of Tax Analysis, 
Department of the Treasury, 1/29/99. Even though it is entitled 
``Distribution of Pension Benefits,'' it seems clear that all 
of the statistics are based on how projected tax expenditures 
for pension contributions and earnings are ``received.'' Half 
of the total projected ``tax expenditure'' is allocated to 
government plans. Even taking into account that 30% of the 
taxpayers pay no tax (so would receive no tax expenditure), the 
numbers still appear to be out of line. It appears that couples 
where both spouses work have been treated as one individual and 
income has been imputed to the couple from a variety of 
sources. The concept of ``tax expenditure'' itself is 
controversial. The theory is based on the premise that all 
sources of money should be taxed and ``belong'' to the 
government. When the government foregoes its collection of this 
money it becomes a ``tax expenditure.'' This is in contrast to 
the theory which states that the government is only entitled to 
tax certain enumerated items and no others. However, these 
rumors have started they are not based on fact and they do a 
real disservice to the people who are trying to revitalize the 
retirement plan system at a time when it is critical to do so.
    Interestingly, the American Council of Life Insurance has 
concluded a research project authored by Janemarie Mulvey, 
Ph.D, Director of Economic Research, May 19, 1999. This study 
defines pension benefits as benefits coming from employer-
sponsored plans, federal, state and local and military, but 
does not include lump sum payments. This study shows that the 
system provides meaningful benefits for many individuals who 
are in the low to middle income ranges. For example, the report 
found that:
    Among Married Couples Receiving Pensions: \1/3\ had incomes 
below $30,000 (median income); 57% had incomes below $40,000 
(average income).
    Nearly 70% of those receiving pensions had income below 
$50,000
    These types of statistics are based on real data and show 
that meaningful benefits are being received by employees who 
have average income.
    Another major ``fix up'' in this bill deals with Section 
404. This section limits a company's deductible contribution to 
a profit sharing plan to 15% of all participant's compensation. 
This limit presently includes employee 401(k) contributions. 
This means that if an employer chose to make a 15% contribution 
to a profit sharing plan, then no employee would be allowed to 
make a 401(k) contribution. Realizing the absurdity of this 
rule, H.R. 1102 would no longer count employee contributions 
(401(k)) towards the 15% overall deduction level.
    Even more importantly, the 15% level would be raised to 
25%. This change would allow small businesses to sponsor one 
plan in place of two plans that are now required to accommodate 
a contribution greater than 15%. This would generate real 
savings to the small business since only one plan document, one 
summary plan description, one annual 5500, etc. would be 
required instead of two.
    This bill is indeed comprehensive legislation which will 
inject needed reforms into the pension system and by doing so 
will truly provide retirement security for countless Americans. 
It will increase small business coverage and it is important 
that we all work hard to see this entire bill enacted into law.
    The Department of Labor's ERISA Advisory Council on 
Employee Welfare and Benefit Plans recently released its Report 
of the Working Group on Small Business: How to Enhance and 
Encourage The Establishment of Pension Plans dated November 13, 
1998. This report provides eight recommendations for solving 
the problems facing small businesses today in the retirement 
plan area. Interestingly, these recommendations mirror many of 
those that came out of the National Summit on Retirement 
Savings.
    The Advisory Council report calls for a Repeal of Top-Heavy 
Rules, Elimination of IRS User Fees, an Increase in the Limits 
on Benefits and Contributions, an Increase in the Limits on 
Includable Compensation, the Development of a National 
Retirement Policy, Consider the development of Coalitions, Tax 
Incentives and the Development of a Simplified Defined Benefit 
Plan.
    The Report explains the legislative development of the top-
heavy rules and then summarizes the layers of legislation that 
occurred subsequent to their passage which made them obsolete. 
The Report states, ``The top-heavy rules under Internal Revenue 
Code Section 416 should be repealed....Their effect is largely 
duplicated by other rules enacted subsequently....They also 
create a perception within the small business community that 
pension laws target small businesses for potential abuses. This 
too discourages small business from establishing qualified 
retirement plans for their employees.''
    It is important to note that the Portman-Cardin legislation 
dramatically improves the top-heavy rules and significantly 
reduces administration expenses associated with them.
    The Report calls for the elimination of User Fees imposed 
by IRS. The Report in part states, ``The imposition of user 
fees adds another financial obstacle to the adoption of 
qualified retirement plans by small business. Although user 
fees apply to all employers--large and small--the cost of 
establishing a plan is more acutely felt among small employers. 
User fees do not vary by size of employer....Now that the 
budget deficit has become a budget surplus, the economic 
justification for user fees is much diminished. User fees 
should be repealed.''
    H.R. 1102 addresses the user fee issue to assist small 
businesses in sponsoring retirement plans.
    The Advisory Council Report calls for increasing the limits 
on benefits and contributions:
    ``The defined benefit and defined contribution plan dollar 
limit were indexed by ERISA and were originally established in 
1974 at $75,000 and $25,000 respectively. From 1976 to 1982, 
the indexing feature was allowed to operate as intended and the 
dollar amounts grew to $136,425 and $45,475. Under the Tax 
Equity and Fiscal Responsibility Act of 1982, the dollar limit 
on defined benefit plans was reduced to $90,000 and the dollar 
limit on defined contribution plans was reduced to $30,000. ...
    ``These reductions in the dollar amounts are widely 
believed to have been revenue driven. These reductions had the 
net effect of adjusting downward the maximum amount of benefits 
and contributions that highly-paid employees can receive in 
relationship to the contributions and benefits of rank and file 
employees. ...
    ``In order to give key employees the incentive needed to 
establish qualified retirement plans and expand coverage, we 
recommend that the $30,000 dollar limit on defined contribution 
plans be increased to $50,000 which will help partially restore 
the dollar amount to the level it would have grown to had the 
indexing continued without alteration since the dollar limit 
was first established in 1974.
    ``Second, we recommend that the $90,000 dollar limit on 
defined benefit plans be increased to $200,000 which will 
restore the dollar amounts lost through alterations in the 
dollar amount since 1974, while maintaining the 1:4 ratio 
established in 1982 as part of TEFRA.
    ``Third, we recommend, that in the future, indexing occur 
in $1,000, not $5,000 increments which has had the effect of 
retarding recognition of the effect of inflation.''
    And finally the report concludes, ``we recommend, that 
actuarial reductions of the defined benefit plans dollar limit 
should be required only for benefits commencing prior to age 
62. This was the rule originally enacted in 1974 as part of 
ERISA.''

 The Portman-Cardin legislation increases the contribution limits with 
  respect to all of the retirement plans. As discussed in more detail 
 below, this is perhaps one of the most important changes that can be 
         made to the system to increase small business access.

    The Report also calls for a corresponding increase in the 
limit on includable compensation for similar reasons. ``Under 
ERISA, there was no dollar limit on the amount of annual 
compensation taken into account for purposes of determining 
plan benefits and contributions. However, as part of the Tax 
Reform Act of 1986, a qualified retirement plan was required to 
limit the annual compensation taken into account to $200,000 
indexed. The $200,000 limit was adjusted upward through 
indexing to $235,843 for 1993. As part of the Omnibus Budget 
Reconciliation Act of 1993, the limit on includable 
compensation was further reduced down to $150,000 for years 
after 1994. Although indexed, adjustments are now made in 
increments of $10,000, adjusted downward. In 1998, the indexed 
amount is $160,000.'' ``We recommend that the limit on 
includable compensation be restored to its 1988 level of 
$235,000 be indexed in $1,000 increments in the future.''

The Portman-Cardin legislation will return the compensation limit back 
   to where it stood in 1988. The system is perceived by many small 
 business owners as discriminatory against key employees; this type of 
  change will allow it to be perceived as more fair to all employees.

    The Report develops a number of recommendations in the area 
of education, including using public service spots on 
television, radio and in the printed media to educate the 
public and raise the awareness of the need to prepare and save 
for retirement. Virtually all of the Report's recommendations 
in this area also were made at the National Summit on 
Retirement Savings. This is a critical area for small business. 
Clearly, more small businesses will want to sponsor retirement 
plans if retirement benefits are perceived as a valuable 
benefit by their employees.

   One of the direct benefits to come out of the National Retirement 
Summit is the educational spots being put on the air by ASEC and EBRI. 
  It is critical for the public to become educated about the need to 
 start saving for their retirement and the benefits of starting early.

    The Report calls for tax credits that could be used as an incentive 
for a small business to adopt a qualified retirement plan or to offset 
administration costs or even retirement education costs.

H.R. 1102 provides tax credits as an incentive for small businesses to 
                        adopt retirement plans.

    Finally the Advisory Council calls for a Simplified Defined Benefit 
Plan.
    The graying of America, and the burden that it will place on future 
generations, should not be ignored. The American Council of Life 
Insurance reports that from 1990 to 2025, the percentage of Americans 
over 65 years of age will increase by 49%. This jump in our elderly 
population signals potentially critical problems for Social Security, 
Medicare and our nation's programs designed to serve the aged.
    While we must shore up Social Security and Medicare, it is clear 
that the private retirement system and private sources for retiree 
health care will have to play a more significant role for tomorrow's 
retirees. The savings that will accumulate for meeting this need will 
contribute to the pool of capital for investments that will provide the 
economic growth needed to finance the growing burdens of Social 
Security and Medicare. The policy direction reflected by H.R. 1102 will 
ensure that sufficient savings will flow into the retirement plan 
system so as to provide a secure retirement for as many Americans as 
possible.
    The last two bills passed by this Congress to enhance the 
retirement system and retirement savings began the process of 
simplifying the technical compliance burdens so that small businesses 
are able to sponsor qualified retirement plans. H.R. 1102 represents 
another huge step forward. Indeed, if this legislation becomes the law, 
only a few changes remain to fully restore the system to its former 
health prior to the onslaught of negative and complex changes of the 
1980's while retaining the needed reforms introduced during that 
period.
    SBCA, SBLC, ASPA and PSCA strongly support the following items in 
H.R. 1102 which will greatly assist businesses, and particularly small 
businesses, in sponsoring retirement plans:

401(k) Changes

    The 401(k) Plan is a tremendous success story. The excitement 
generated by this plan is amazing. Prospective employees ask potential 
employers if they have a 401(k) plan and if so, what the investment 
options are and how much does the employer contribute. Employees meet 
with investment advisors to be guided as to which investments to 
select, employees have 800 numbers to call to see how their investments 
are doing and to determine whether they want to change investments. 
Employees discuss among themselves which investment vehicles they like 
and how much they are putting into the plan and how large their account 
balances have grown.
    The forced savings feature of the 401(k) plan cannot be 
underestimated and must be safeguarded. When a person participates in a 
401(k) plan, he or she cannot remove the money on a whim. Savings can 
be removed by written plan loan which cannot exceed 50% of the account 
balance or $50,000 whichever is less. Savings can be removed by a 
hardship distribution, but this is a tough standard to meet. The 
distribution must be used to assist with a statutorily defined hardship 
such as keeping a house or dealing with a medical emergency. This is in 
contrast to funds inside an IRA or a SIMPLE (which is an employer 
sponsored IRA program) where the funds can be accessed at any time for 
any reason. True, funds removed will be subject to a 10% penalty (which 
is also the case for a hardship distribution from a 401(k) plan), but 
preliminary and totally unofficial data suggests that individuals 
freely access IRAs and SEPs (also an employer sponsored IRA program) 
and that the 10% penalty does not seem to represent a significant 
barrier. In fact, this is why the SIMPLE IRA starts off with a 25% 
penalty for the first two years an individual participates in SIMPLE in 
hopes that if a participant can accumulate a little bit he or she will 
be tempted to leave it alone and watch it grow. Nevertheless, there is 
a distinct difference between asking the employer for a loan or a 
hardship distribution and having to jump through some statutorily and 
well placed hoops versus simply removing money at whim from your own 
IRA.
     Increasing 401(k) contributions from $10,000 to $15,000 is 
a significant, beneficial change which will assist many employees, 
particularly those who are getting closer to retirement age.
     Opening up the second 401(k) Safe Harbor, the ``Match Safe 
Harbor'' to small businesses by exempting it from the Top-Heavy Rules 
is a valuable change which places small businesses on a level playing 
field with larger entities.
     We believe that the voluntary safe harbors will prove to 
be the easiest and most cost effective way to make the 401(k) plan user 
friendly for small businesses. If a small business makes a 3% 
contribution for all non-highly compensated employees, or makes the 
required matching contributions, then the company no longer has to pay 
for the complex 401(k) antidiscrimination testing (nor does it have to 
keep the records necessary in order to do the testing). We recognize 
that many companies will choose to stay outside the safe harbor because 
the 3% employer contribution or required match ``cost of admission'' is 
too high and because it is more cost-effective to stay with their 
current system (including software and written communication material 
to employees). Many believed that small business would embrace the 
voluntary safe harbors that do away with costly complex testing. 
Unfortunately, because of some serious roadblocks placed in the path of 
the voluntary safe harbors by the Internal Revenue Service, it is not 
clear what the future of the safe harbors will be.
     Unfortunately, IRS is imposing a Notice Requirement which 
is very restrictive and will probably cause most small businesses not 
to be able to use the safe harbor this year. IRS Notice 98-52, which 
was published November 16, 1998, requires that a business adopting 
either safe harbor give written notice (in the case of a calendar year 
plan) by March 1st. Now let's examine the rationale behind the notice 
requirement and see whether this type of restriction is justified. 
Remember there are two safe harbors--one is a prescribed company match 
to employee 401(k) contributions, the other is a non-elective 3% 
contribution. A non-elective 3% contribution means that every eligible 
employee receives this contribution whether or not he or she makes 
401(k) contributions. The rationale for notice in the context of the 
match safe harbor is self evident. An employee may very well change his 
or her behavior and contribute more 401(k) contributions knowing that a 
match is going to be made.
    There appears to be no rationale for notice in the context of the 
non-elective 3% contribution--no employee is going to change any 
behavior on knowing that a contribution will be made for them at the 
end of the year.T1 The problem of course is compounded when dealing in 
the small business world. Unless an outside advisor has informed a 
small business that it must give a fairly extensive written notice by 
March 1st and the company complies, it will not be able to take 
advantage of the safe harbor for this entire year. My guess is that 
there will be many, many small businesses this year who would have 
taken advantage of the 3% non-elective safe harbor but will not be able 
to do so because they had not been informed of the requirements of this 
overly restrictive notice requirement. Thus, they will not be able to 
rid themselves of the complex and costly 401(k) anti-discrimination 
testing this year.
    IRS also has stated that the 3% non-elective contribution must be 
paid to every non-highly compensated employee regardless of whether 
they have completed 1000 hours and whether he or she is employed on the 
last day of the plan year. This is more restrictive than either the 
rule for normal plan contributions or the rule for the top-heavy 
minimum contributions. Again, there seems to be no rationale for a safe 
harbor which is designed to help small business avoid complicated 
testing to be made so restrictive.
    IRS has also stated publicly that if the notice has not been given 
correctly or the plan otherwise failed to satisfy the safe harbor after 
electing it (and remember the company is required to elect basically a 
month before the beginning of the plan year), then the plan is 
disqualified. This type of severe penalty will certainly be the death 
knell of the safe harbors for if a small business has to worry about 
disqualification, it will simply stay away from them. A cynic might 
observe that the IRS is doing everything it can to make sure it does 
not carry out Congressional intent. Even statutorily, the Services' 
position cannot be sustained, since the safe harbor is entitled as an 
alternative means to satisfy the non-discrimination tests.
    SBCA, SBLC, ASPA and PSCA suggest that the notice requirement be 
changed to within 30 days of the close of the plan year for those 
companies selecting the 3% non-elective contribution safe harbor. This 
change will allow word to get out to small business about this option 
and give them time to comply with the notice requirement. We also 
suggest that the 3% non-elective contribution be made to either all 
non-highly compensated employees who have worked 1,000 hours or to 
those employees who are employed on the last day of the plan year, but 
not both. We also suggest that it be made clear in writing that if a 
small business does not comply with the safe harbor election, that the 
plan falls back to the regular 401(k) discrimination rules not be 
disqualified.
     Increasing the IRC Section 404 15% deduction limit to 25% 
is a major change which will appreciably assist small businesses. 
Section 404 limits a company's deduction for profit sharing 
contributions to 15% of eligible participants' compensation. Because of 
this rule, today many companies, including small businesses, sponsor 
two plans because the 15% limit is too low for the contributions they 
are putting in for their employees. Most often a money purchase pension 
plan is coupled with a profit sharing plan to allow the company to get 
up to a 25% deduction level. By requiring companies to sponsor two 
plans where one would do, administration expenses and user fees are 
doubled. Each year the company is required to file two IRS 5500 forms 
instead of one. The company is required to have two summary plan 
descriptions instead of one. This change would truly simplify and 
reduce administration expenses and exemplifies the outside of the box 
thinking found in H.R. 1102. In fact, it is interesting to contemplate 
whether Section 404 serves any meaningful function today.
     The Qualified Plus Contribution is an exciting concept 
which may prove to be sought after by employees contributing 401(k) 
contributions.
     Excluding 401(k) contributions made by the employees from 
the IRC Section 404 15% deduction limit will make these plans better 
for all employees. Today, employee 401(k) contributions are included in 
the Section 404 limit. Section 404 limits a company's deduction for 
profit sharing contributions to 15% of eligible participants' 
compensation. This limit covers both employer and employee 401(k) 
contributions. This limitation now operates against public policy; 
either employer contributions are cut back which works to the detriment 
of the employees' retirement security or employee pre-tax salary 
deferred contributions must be returned to the employee. Thus, 
employees lose an opportunity to save for their retirement in a tax-
free environment. This is particularly inappropriate since the employee 
has taken the initiative to save for his or her retirement, exactly the 
behavior Congress wants to encourage, not discourage.
     Repeal of the complicated ``Multiple Use Test'' is a very 
welcome change and will benefit the entire retirement plan system. This 
test was nearly incomprehensible and forced small businesses (really 
their accountants or plan administrators) to apply different anti-
discrimination tests to employer matching contributions than what may 
have been used for the regular 401(k) anti-discrimination tests.
     Allowing employee-pay all 401(k) plans for small business 
is fair. Portman-Cardin would allow a key employee to make a 
contribution to a 401(k) plan sponsored by a small business without 
triggering the top-heavy rules were triggered so that the small 
business was required to make a 3% contribution for all non-key 
employees. Not only is this a trap for the unwary since many small 
businesses, including their advisors, are unaware of this strange rule, 
but it is also unfair since a larger company would be able to sponsor 
an employee-pay-all 401(k) plan and not have to make any employer 
contributions to the plan. The regular 401(k) anti-discrimination tests 
are more than sufficient to ensure that the non-highly compensated 
employees are treated fairly vis a vis the highly compensated 
employees.
     The so-called ``Catch-Up Contributions'' for people 
approaching retirement may be helpful for small business employees, 
particularly those who were not able to save while they were younger.

Changes to Plan Contribution Limits

    Perhaps the most important change in the retirement 
legislation is increasing the dollar limits on retirement plan 
contributions, removing the 25% of compensation limitation and 
increasing the compensation limitation.
     Increasing the $150,000 compensation limit to 
$235,000 is an important change which will bring the plan 
contributions back into line with 1998 dollars. The $150,000 
limit in 1974 (ERISA) dollars is about $46,500 (assuming 5 
percent average inflation). This is far below the $75,000 that 
represented the highest amount upon which a pension could be 
paid under then-new Code Section 415 (back in 1974). This 
cutback has hurt several groups of employees--owners and other 
key employees of all size businesses who make more than 
$150,000 and mid-range employees and managers (people in the 
$50,000 to $70,000 range) who are in 401(k) plans and in 
defined benefit plans. This cutback was perceived by owners and 
other key employees of small businesses as reverse 
discrimination and as a disincentive in establishing a 
retirement plan.
     Increasing the defined contribution limit from 
$30,000 to $45,000 and the defined benefit limit from $130,000 
to $180,000 are strong changes which will increase retirement 
security for many Americans. These numbers are in line with 
actual inflation.

Top Heavy Rules

    These rules are now largely duplicative of many other 
qualification requirements which have become law subsequent to 
the passage of the top-heavy rules. They often operate as a 
``trap for the unwary'' particularly for mid-size businesses 
which never check for top-heavy status and for micro small 
businesses which often do not have sophisticated pension 
advisors to help them. These rules have always been an unfair 
burden singling out only small to mid-size businesses. The 
changes made in H.R. 1102 will significantly simplify the 
retirement system with little to no detriment to any policy 
adopted by Congress during the last decade. The top-heavy rules 
have required extensive record keeping by small businesses on 
an ongoing 5 year basis. They also have represented a 
significant hassle factor for small business--constant 
interpretative questions are raised on a number of top-heavy 
issues and additional work is required to be done by a pension 
administrator when dealing with a top-heavy plan, particularly 
a top-heavy 401(k) plan.
    SBCA, SBLC, ASPA and PSCA support the repeal of the family 
attribution for key employees in a top-heavy plan, as well as 
finally doing away with family aggregation for highly 
compensated employees. These rules require a husband and wife 
and children under the age of 19 who work in a family or small 
business together to be treated as one person for certain plan 
purposes. They discriminate unfairly against spouses and 
children employed in the same family or small business.
    We also support the simplified definition of a key employee 
as well as only requiring the company to keep data for running 
top heavy tests for the current year rather than having to keep 
it for the past four years in addition to the current year.

SIMPLE Plans

    It is exciting to see that the SIMPLE is attracting so many 
small businesses. We believe, though, that the SIMPLE plan 
should be viewed as a starter plan and that all businesses, 
including the very small, should be given incentives to enter 
the qualified retirement plan system as quickly as possible. 
The SIMPLE is an IRA program, as is the old SEP plan and in the 
long run true retirement security for employees is better 
served by strengthening qualified retirement plans rather than 
SIMPLES and SEPs. This is simply because employees have a far 
greater opportunity to remove the money from IRAs and SEPs and 
spend it--the forced savings feature of a qualified retirement 
plan is not present. While we appreciate that for start-up 
companies or micro businesses, a SIMPLE or the proposed salary 
reduction SIMPLE is the best first step into the retirement 
plan system, the company should be encouraged to enter the 
qualified retirement system as soon as possible. By making the 
SIMPLE rules ``better'' than the qualified retirement system, 
the reverse is achieved. Thus, we hope that the ``gap'' between 
the 401(k) limit ($15,000) and the SIMPLE limit ($10,000) and 
the salary reduction SIMPLE limit ($5,000) is carefully 
preserved so that the system does not tilt in the wrong 
direction.
    We do not believe that any other new plans than those set 
forth in H.R. 1102 are needed. We now have a very good mix of 
plans--from those which provide flexibility and choice to very 
simple plans for the companies who do not want administration 
costs.

Required Minimum Distribution Rules

    We support exempting a minimum amount from the required 
minimum distribution rules. We would encourage the Committee to 
also consider whether the rule which delays receiving 
distributions for all employees, other than 5% owners, until 
actual retirement, if later, should be extended to 5% owners. 
There seems to be no policy rationale for forcing 5% owners to 
receive retirement distributions while they are still working.
    We also respectfully suggest the following:
    1. Allow direct lineal descendants of the participant, in 
addition to a spouse, to be able to roll-over a plan 
contribution to an IRA. Today, if a participant dies and names 
the spouse as beneficiary, the spouse can ``roll-over'' the 
retirement plan assets into an IRA, rather than receiving 
payments from the retirement plan. On the other hand, if a 
participant dies and names his or her children as the 
beneficiaries, the children cannot roll-over the assets into an 
IRA and will in most cases be forced to take the distribution 
in one lump sum. This triggers the problem set forth in 2 
below.
    2. Provide an exemption of retirement plan benefits from 
estate taxes. As mentioned above, if the children are forced to 
take a lump sum distribution (and assuming they have no 
surviving parent), the entire retirement plan contribution is 
brought into the estate of their parent who was a plan 
participant and is subject to immediate income tax. This is the 
fact pattern where the plan distribution is reduced by up to 
85% due to taxes--federal and state income taxes and federal 
and state estate taxes. This is why people often say they don't 
want to save in a retirement plan because if they die the 
government takes it all and the children and grandchildren 
receive way too little.
    3. Section 404(a)(7) should be eliminated. Section 
404(a)(7) is an additional deduction limitation imposed on 
companies that sponsor any combination of a defined benefit 
plan and a defined contribution plan. When a company chooses to 
sponsor both types of plans, then it is limited to a 25% of 
compensation limit. The defined benefit plan is subject to a 
myriad of limitations on deductions and contributions. The 
defined contribution plan is likewise subject to its own 
limitations on deductions and contributions. This extra 
limitation often hurts the older employees who would otherwise 
receive a higher contribution in the defined benefit plans. 
Often companies simply choose not to sponsor both types of plan 
because of this limitation.

Plan Loans for Sub-S Owners, Partners and Sole Proprietors

    This is a long overdue change to place all small business 
entities on a level playing field. We support this change.

Repeal of 150% of Current Liability Funding Limit

    This is a very technical issue, but basically defined 
benefit plans are not allowed to fund in a level fashion. Code 
Section 412(c)(7) was amended to prohibit funding of a defined 
benefit plan above 150 percent of current ``termination 
liability.'' This is misleading because termination liability 
is often less that the actual liability required to close out a 
plan at termination, and the limit is applied to ongoing plans 
which are not terminating. This provision is particularly 
detrimental to small businesses who simply cannot adopt a plan 
which does not allow funding to be made in a level fashion. The 
changes made to this law by H.R. 1102 are critical for small 
businesses to be able to sponsor defined benefit plans.
    We also applaud the change in the variable rate premium 
which will assist small businesses which are not allowed to 
fund in a proper fashion because of this limitation.
    A small business will go through a cost-benefit analysis to 
determine whether to sponsor a qualified retirement plan. A 
number of factors are analyzed including the profitability and 
stability of the business, the cost of sponsoring the plan both 
administratively as well as required company contributions, 
whether the benefit will be appreciated by staff and by key 
employees and whether the benefits to the key employees and 
owners are significant enough to offset the additional costs 
and burdens. The legislation being contemplated by this 
Committee will dramatically improve the qualified retirement 
plan system. By making the system more user friendly and 
increasing benefits, more small businesses will sponsor 
retirement plans. Easing administrative burdens will reduce the 
costs of maintaining retirement plans. The changes would 
revitalize the retirement plan system for small business as it 
is perceived by small businesses as more fair to them. Finally, 
the positive changes made by Congress in the 1980's would be 
retained and the time tested ERISA system would stay in place. 
Ultimately, it is essential for this country to do everything 
possible to encourage retirement plan savings so that 
individuals are not dependent upon the government for their 
retirement well-being.
      

                                


    Mr. English. Thank you, Ms. Calimafde.
     Mr. MacDonald, we look forward to your testimony.

 STATEMENT OF J. RANDALL MACDONALD, EXECUTIVE VICE PRESIDENT, 
 HUMAN RESOURCES AND ADMINISTRATION, GTE CORP., IRVING, TEXAS; 
             ON BEHALF OF ERISA INDUSTRY COMMITTEE

    Mr. MacDonald. Good afternoon. My name is Randall 
MacDonald. I am executive vice president of human resources and 
administration of GTE, and a member of the board of directors 
of the ERISA Industry Committee on behalf of whom I appear 
today.
    I am here today to urge that the Full Committee enhance 
retirement security by, first, approving H.R. 1102; second, by 
extending the current authority of section 420 of the Internal 
Revenue Code that permits the use of excess pension assets to 
fund current retiree health obligations; third, by permitting 
ESOP dividends to be reinvested without loss of dividend 
reduction for employers; and finally, by resisting the efforts 
to prevent employers from establishing cash balance and other 
innovative and creative defined benefit plan designs.
    H.R. 1102 corrects many of the problems that are a product 
of the multiplication of the many changes during the past 12 
years. The law did not always impose the current dizzying array 
of limits on the benefits that can be paid from and 
contributions that can be made to tax-qualified plans.
    Between 1982 and 1994, however, scores of laws were enacted 
that repeatedly allowed the ERISA limits on benefit funding. 
H.R. 1102 reverses this trend, and none too soon. This 
Committee does not need to be reminded that the baby-boom 
cohort rapidly is nearing retirement. If we delay action, many 
employers will not have the cash available to pay for rapid 
increases in pension liabilities, and workers will not have 
time to accumulate their savings. H.R. 1102 thus provides an 
opportunity that we cannot afford to pass up.
    Consider this. While retirement savings are accumulating in 
tax qualified plans, they fuel the engine of America's economic 
growth. According to the most recently available statistics, 
pension funds held 28.2 percent of our Nation's equity market, 
15.6 percent of the taxable bonds, and 7.4 percent of cash 
securities.
    Many of today's workers' savings and benefit opportunities 
are significantly restricted by current limits. Limits imposed 
on defined benefit plans imprudently delay funding.
    Pensions are not a benefit for the rich. Most plan 
participants, by the way, are compensated at less than $30,000.
    Finally current law has created a world in which an 
increasing number of people who make decisions about 
compensation and retirement security depend instead on unfunded 
qualified plans for the bulk of their retirement savings.
    ERIC, the ERISA Industry Committee, believes the restored 
limits regarding compensation and regarding the benefits that a 
defined benefit plan may provide will be particularly 
beneficial in increasing the retirement security available to 
American workers.
     H.R. 1102 also promotes pension portability by eliminating 
a significant number of stumbling blocks created by the current 
law. For example, ERIC is especially appreciative that the bill 
repeals the same desk rule. ERIC also supports the bill's 
provisions that facilitate plan-to-plan transfers by providing 
that receiving plan need not maintain all of the optional forms 
benefits under the sending plans.
    ERIC would expand the bill's provisions to allow rollovers 
of after tax contributions. Current rules not only are 
confusing to employees but force them to strip a portion of 
their savings from their accounts just because the savings were 
made with after tax dollars.
    Current law relating to ESOP discourages reinvestment of 
retirement savings and increases leakage. H.R. 1102 remedies 
the law by permitting employers to deduct dividends paid to the 
ESOP when the employees are allowed to take the dividends in 
cash or to leave them in the plan as a reinvestment vehicle for 
retirement security.
    The Committee will also consider this year the extension of 
420 which permits the use of excess pension assets in support 
of companies' retiree health benefits. This has been a highly 
successful effort over the past several years and should be 
continued.
    Finally, we are concerned with the unbalanced, inaccurate, 
and inflammatory publicity surrounding the so-called cash 
balance and other hybrid defined benefit plan designs. Certain 
cash balance and similar plans meet employee demands, 
especially our new generation in the work force, by providing 
an understandable, portable, and secure benefit where 
employers, nonemployees, bear the investment risk and the 
participants benefit is guaranteed by the PBGC, Pension Benefit 
Guaranty Corporation.
    A significant number of large- and medium-size employers 
have adopted the new plan design breaking the ``golden 
handcuffs'' and letting their workers out of ``pension jail,'' 
if you will. The plans have become very popular among the 
increasing number of workers, particularly women, who expect to 
move in and out of the work force and who do not believe that 
they will remain with one employer for their entire career. 
That completes my prepared statement.
    [The prepared statement and attachments follow:]

Statement of J. Randall MacDonald, Executive Vice President, Human 
Resources and Administration, GTE Corp., Irving, Texas; on behalf of 
ERISA Industry Committee

    My name is Randall MacDonald. I am Executive Vice President 
Human Resources and Administration for GTE Corp. I also serve 
on the Board of Directors of The ERISA Industry Committee, 
commonly known as ``ERIC,'' and I am appearing before the 
Committee this afternoon on ERIC's behalf.
    ERIC is a nonprofit association committed to the 
advancement of the employee retirement, health, and welfare 
benefit plans of America's largest employers. ERIC's members 
provide comprehensive retirement, health care coverage, and 
other economic security benefits directly to some 25 million 
active and retired workers and their families. ERIC has a 
strong interest in proposals affecting its members' ability to 
deliver those benefits, their cost and effectiveness, and the 
role of those benefits in the American economy.
    ERIC has played a leadership role in advocating responsible 
solutions to the critical retirement and health care coverage 
issue that face our nation. In addition, ERIC recently 
published policy papers and studies that have received wide 
acclaim. These include:
    --The Vital Connection: An Analysis of the Impact of Social 
Security Reform on Employer-Sponsored Retirement Plans,
    --Getting the Job Done: A White Paper on Emerging Pension 
Issues, and
    --Policy Statement on Health Care Quality and Consumer 
Protection.
    ERIC also has proposed numerous amendments to current law 
designed to facilitate the provision of employee benefits by 
employers and to promote national savings. The organization and 
its members have worked closely with the Ways and Means 
Committee for over twenty-five years to resolve important 
policy questions and to devise practical solutions to the often 
vexing problems facing the Committee and the country.
    ERIC is gratified that, in holding this hearing, the 
Committee and its Chair have displayed a strong interest in 
affirmatively addressing long-term retirement security issues. 
ERIC believes strongly in the importance of addressing these 
security issues now. The need to do so is reflected in 
legislation before the Committee. At least five comprehensive 
pension reform bills have been introduced in the House of 
Representatives in this Congress. They include:
    --H.R.739, The Retirement Account Portability Act, by Reps 
Earl Pomeroy (D-ND) and Jim Kolbe (R-AZ), et al.,
    --H.R.1102, The Comprehensive Retirement Security and 
Pension Reform Act, by Reps. Rob Portman (R-OH) and Ben Cardin 
(D-MD), et al.,
    --H.R. 1213, Employee Pension Portability and 
Accountability Act of 1999, by Rep. Richard Neal (D-MA), et 
al.,
    --H.R.1546, Retirement Savings Opportunity Act of 1999, by 
Rep. Bill Thomas (R-CA), and
    --H.R.1590, Retirement Security Act of 1999, by 
Representative Sam Gejdenson (D-CT), et al.
    In addition, H.R.1176, The Pension Right to Know Act, by 
Rep. Jerry Weller (R-IL), et al., would have a significant 
impact on defined benefit plans sponsored by major employers 
such as the members of ERIC. Several of these bills have 
companion measures that have been introduced in the U.S. 
Senate.
    ERIC will be pleased to provide the Committee with detailed 
comments on any of these bills. Our testimony today, however, 
will focus on H.R. 1102 and H.R. 1176 and comment on the use of 
excess pension assets to pay for other critical employee 
benefits such as medical benefits for retirees.

                  H.R. 1102--Effective Pension Reform

    ERIC would like to focus the Committee's attention on 
H.R.1102, The Comprehensive Retirement Security and Pension 
Reform Act, sponsored by Committee members Rep. Rob Portman and 
Ben Cardin and cosponsored by many Members of this Committee 
and of the House. ERIC thanks Congressmen Portman and Cardin 
and their staffs for the vision, wisdom, and commitment that 
they have displayed in crafting and introducing ground-breaking 
retirement security legislation. H.R.1102 makes significant 
reforms that will strengthen the retirement plans that 
employers voluntarily provide for their employees and improve 
the ability of workers to provide for their retirement.
    ERIC advocates the speedy enactment of major provisions in 
H.R. 1102 that will (1) increase benefit security and enhance 
retirement savings, (2) increase pension portability, and (3) 
rationalize rules affecting plan administration.

       Increased Benefit Security and Enhanced Retirement Savings

    The Internal Revenue Code imposes a dizzying array of 
limits on the benefits that can be paid from, and the 
contributions that can be made to, tax-qualified plans. It was 
not always that way.
    The limits originally imposed by ERISA in 1974 allowed 
nearly all workers participating in employer-sponsored plans to 
accumulate all of their retirement income under funded, tax-
qualified plans. Between 1982 and 1994, however, Congress 
enacted laws that repeatedly lowered the ERISA limits and 
imposed wholly new limits. [See Attachment A].The cumulative 
impact of constricted limits has been to reduce significantly 
retirement savings and imperil the retirement security of many 
workers.
    H.R.1102 turns this tide at a critical time. This Committee 
does not need to be reminded that the baby boom cohort is 
rapidly nearing retirement, and that it is critical for them 
and for our nation that baby boomers have all the incentives 
and resources they need to prepare for their own retirement. 
Retirement planning is a long-term commitment. If we wait until 
this group has begun to retire, it will be too late. Many 
employers will not have cash available to pay for rapid 
increases in pension liabilities, and employees will not have 
time to accumulate sufficient savings. We must act now. The 
provisions of H.R.1102 open the door. It is an opportunity we 
cannot afford to pass up.
    Just as many of the laws restricting retirement savings 
were enacted to increase federal revenues, restoring benefit 
and contribution limits to the more reasonable levels necessary 
to help employees prepare for retirement will reduce federal 
revenues over the short term. ERIC recognizes that the 
Committee has many needs to consider, but ERIC strongly urges 
the Committee to work with us to ensure that the laws enacted 
today clearly provide for increased retirement savings 
opportunities in the future. In reviewing these provisions, 
Congress should consider the following:
     Deferred taxes are repaid to the government. 
Savings accumulated in tax-qualified retirement plans are not a 
permanent revenue loss to the federal government. Taxes are 
paid on almost all savings accumulated in tax-qualified plans 
when those savings are distributed to plan participants and 
beneficiaries. Workers who save now under most types of plans 
will pay taxes on those savings when they retire in the future. 
In 1997, tax-qualified employer-sponsored retirement plans paid 
over $379 billion in benefits, exceeding by almost $63 billion 
the benefits paid in that year by the Social Security Old Age 
and Survivors Insurance (OASI) program. In future years, 
benefits paid from qualified plans will increase dramatically. 
For example, the 1991 Social Security Advisory Council predicts 
the percent of elderly receiving a pension will increase from 
43 percent in the early 1990s to 76 percent by 2018.
     Tax-qualified retirement plans help all workers. 
Budgetary figures analyzing the distributional impact of 
estimated tax expenditures for retirement savings in a way that 
indicates that a ``disproportionate'' share of the tax 
expenditure inures to higher-income taxpayers can be extremely 
misleading in this regard. Such analysis ignores both the fact 
that the top few percent of taxpayers pay most of the income 
taxes collected and the fact that older workers, who are 
nearing retirement often have larger accruals than younger 
workers who are just starting out. Such analysis also is 
misleading because it obscures the importance of tax deferral 
in making it economically possible for lower-income workers to 
save for retirement. According to calculations by the American 
Council of Life Insurance based on data contained in the March 
1998 Current Population Survey, over 50 percent of the pension 
benefits paid go to elderly with adjusted gross incomes below 
$30,000. Such analysis also overlooks the fact that the vast 
majority of participants in employer-sponsored plans are not 
highly compensated individuals. The same ACLI study shows that 
over 77 percent of individuals accumulating retirement savings 
in pension plans in 1997 had earnings below $50,000 and nearly 
45 percent had earnings below $30,000. In addition, among 
married couples receiving a pension today, 70 percent had 
incomes below $50,000 and 57 percent had incomes below $40,000. 
Among widows receiving a pension, nearly 85 percent had incomes 
below $50,000 and 55 percent had incomes below $25,000.
     Retirement savings fuel economic growth. While 
retirement savings are accumulating in tax-qualified plans, 
they serve as an engine for economic growth and thereby 
indirectly produce additional revenue for the federal 
government and directly enhance the ability of the nation to 
absorb an aging population. In 1994, pension funds held 28.2% 
of our Nation's equity market, 15.6% of its taxable bonds, and 
7.4% of its cash securities. In a time of increased concern 
about national savings rates, retirement plans have been a 
major source of national savings and capital investment.
     Today's limits restrict workers' savings. Many of 
today's workers' savings and benefits opportunities are 
significantly restricted by current limits. Recently, in one 
typical ERIC company, workers who were leaving under an early 
retirement program and who had career-end earnings of less than 
$50,000 had the benefits payable to them under their tax-
qualified defined benefit plan reduced by the Internal Revenue 
Code limits. Recent studies by the Employee Benefit Research 
Institute of contribution patterns in 401(k) plans indicate 
that many older workers are constrained by the dollar limits on 
contributions to 401(k) plans. The qualified plan limits also 
curtail the efforts of women and other individuals who have 
gaps in their workforce participation or in their pension 
coverage to make significant savings in a timely manner.
     Today's limits delay retirement funding. Limits 
imposed on defined benefit plans imprudently delay current 
funding for benefits that workers are accruing today. Funding 
is restricted because tax-law limits arbitrarily truncate 
projections of the future salaries on which benefits will be 
calculated. As a result, in some cases, the employer is still 
funding an employee's benefits after the employee has retired. 
This situation will become more burdensome for plan sponsors as 
the large baby-boom cohort moves to retirement. One of the 
major purposes of ERISA was to avert precisely this kind of 
benefit insecurity.
     Today's limits divide the workforce. The 
retirement security of all workers is best served when all 
workers participate together in a common retirement plan, as 
was the case until recent years. The current system has created 
a bifurcated world in which business decision-makers (as well 
as more and more of those who work for them) depend 
increasingly on unfunded nonqualified plans for the bulk of 
their retirement savings. Not only does this cause unnecessary 
complexity in business administration, it diverts energy and 
resources away from the qualified plans.
    H.R. 1102 does not fully restore all limits to their ERISA 
levels. It merely begins that process. Restoring limits to more 
rational levels will be critical to providing retirement 
security to working Americans in the coming decades. Let me 
briefly highlight some of the specific provisions that are of 
particular concern to ERIC members:
    H.R. 1102 (Sec. 101) restores the limits on early 
retirement benefits to more appropriate levels. Under ERISA, 
benefits payable from a tax-qualified plan before age 55 were 
actuarially reduced from a $75,000 dollar limit. In 1999, the 
limit at age 55 is approximately $52,037--more than $20,000 
less than the limit set in 1974. The reduction in limits for 
early retirement--which already results in reduced benefits for 
early retirees and disabled workers earning $50,000 and less--
will become even more severe as the Social Security retirement 
age increases to age 67. H.R.1102 eliminates the requirement 
for actuarial reductions in benefits that commence between age 
62 and the Social Security retirement age.
    Currently scheduled increases in the Social Security 
retirement age, as well as rapidly changing work arrangements, 
mean that early retirement programs will continue to be 
attractive and significant components of many employers' 
benefit plans. Where an employer maintains only tax-qualified 
plans, employees whose benefits are restricted suffer a long-
term loss of retirement benefits. Where the employer also 
maintains a nonqualified plan that supplements its qualified 
plan, employees might accrue full benefits, but the security 
and dependability of those benefits are substantially reduced. 
Since benefits under nonqualified plans are generally not 
funded, and are subject to the risk of the employer's 
bankruptcy, nonqualified plans receive virtually none of the 
protection that ERISA provides.
    H.R. 1102 (Sec. 101) restores the compensation limit to the 
1993 indexed amount. ERISA had no limit on an employee's 
compensation that could be taken into account under a tax-
qualified retirement plan. The Tax Reform Act of 1986 imposed a 
limit of $200,000 (indexed) per year. The Omnibus Budget 
Reconciliation Act of 1993 reduced the limit, and the 
Retirement Protection Act of 1994 slowed down future indexing. 
The 1999 compensation limit is $160,000. If the Tax Reform Act 
limit had remained in effect, the limit today would be 
$272,520. H.R. 1102 would increase the limit to $235,000.
    Although this limit might appear to be aimed at the most 
highly paid employees, it has a substantial effect on employees 
much farther down the salary scale. In a defined benefit plan, 
the principal consequence of the reduced limit is to delay the 
funding of the plan. In plans where benefits are determined as 
a percentage of pay, projected pay increases are taken into 
account in funding the plan. This protects the plan and the 
employer from rapidly increasing funding requirements late in 
an employee's career. However, projected salary increases today 
are truncated at the compensation limit, or $160,000. The 
result is that funding of the plan is delayed--not just for the 
highly paid but for workers earning as little as $40,000.
    This restriction is particularly troublesome today since it 
delays funding for a very large cohort of workers: the baby 
boomers. The limit will result in higher contribution 
requirements for employers in the future. Some employers will 
not be able to make these additional contributions, and they 
may have to curtail the benefits under their plans.
    H.R. 1102 (Sec. 112) permits employer-sponsored defined 
contribution plans to allow employees to treat certain elective 
deferrals as after-tax contributions. In 1997, Congress created 
a new savings vehicle, commonly known as the Roth IRA. Under 
this savings option, individuals may make after-tax 
contributions to a special account. The earnings on those 
contributions accumulate on a tax-free basis, and no tax is 
assessed on distributions if certain conditions are met. H.R. 
1102 and H.R. 1546 permit employers to offer a similar option 
within the employer's 401(k) plan.
    Employer plans offer several advantages to individual 
savers. Payroll deduction programs make decisions to save less 
painful and regular savings more likely to occur. Where 
available, employer matching contributions provide an immediate 
enhancement of savings. Because plans generally allow each 
participant to allocate his or her account balance among 
designated professionally-managed investment funds and index 
funds, participants enjoy the benefits of professional benefit 
management. Participants in employer-sponsored plans also are 
more likely to have free access to information and assistance 
(e.g., decision guides or benefits forecasting software) that 
enable them to make better informed investment decisions.
    Employees who find the tax treatment of these new accounts 
attractive will, under the bill's provision, be able to enhance 
their savings while not losing the benefits of participating in 
an employer plan. To the extent that individuals who find these 
accounts attractive are concentrated among the lower-paid, 
offering such accounts within the employer's 401(k) plan also 
will help to prevent erosion of the plan's ability to comply 
with nondiscrimination tests and will preserve the plan and its 
savings potential for all employees.
    H.R. 1102 (Sec. 202) repeals the 25% of compensation limit 
on annual additions to a defined contribution plan. Under 
current law, the maximum amount that can be added to an 
employee's account in a defined contribution plan in any year 
is the lesser of $30,000 or 25% of the employee's compensation. 
H.R.1102 and H.R. 1546 repeal the 25% limit.
    The 25% limit does not have a practical impact on a 
company's upper echelon employees. For example, for an employee 
earning $200,000 per year, the dollar limit is lower than the 
25% limit. Because of the 25% limit, employers are often forced 
by the law to limit the contributions on behalf of lower-paid 
employees, especially employees who take advantage of the 
savings feature in a Sec. 401(k) plan. Repealing the 25% limit 
will eliminate this problem.
    Repealing the 25% limit also will benefit the significant 
number of employees who want to increase their retirement 
savings at opportune times in their careers, including women 
who have reentered the work force after periods of child-
rearing and others who need to catch up on their retirement 
savings after periods during which other financial obligations 
restricted their ability to save.

                     Increased Pension Portability

    Employers and employees are increasingly involved in 
mergers, business sales, the creation of joint ventures, and 
other changes in business structure.\1\ H.R. 1102 promotes 
pension portability by eliminating a number of significant 
stumbling blocks to portability created by current law. The 
bill will substantially improve employees' ability to transfer 
their retirement savings from one plan to another and to 
consolidate their retirement savings in a single plan where 
they can oversee it and manage it more effectively and 
efficiently.
---------------------------------------------------------------------------
    \1\ One large pension manager (T. Rowe Price) reported that 40% of 
the new plans that it set up in 1995 resulted from mergers, 
acquisitions, and divestitures.
---------------------------------------------------------------------------
    H.R. 1102 (Sec. 303), which allows an employee's after-tax 
contributions to be included in certain rollovers, should be 
expanded. Under current law, any portion of a distribution that 
is attributable to after-tax employee contributions cannot be 
included in a rollover to another employer's plan or to an IRA. 
The rule unnecessarily and unwisely reduces the employee's 
retirement savings, and is inconsistent with the Congressional 
policy of encouraging employees to preserve their retirement 
savings. H.R.1102 allows after-tax money to be included in a 
rollover to an IRA.
    While we applaud the direction set by this provision of 
H.R. 1102, ERIC proposes that the provision be expanded to 
allow after-tax rollovers to qualified employer plans that 
accept them. Both H.R. 1213 (by Rep. Neal) and S.741 (by Sens. 
Graham and Grassley) provide for rollovers either to an 
employer plan or to an IRA.
    H.R. 1102 (Sec. 304) facilitates plan-to-plan transfers. 
Current Treasury regulations unnecessarily impair an employee's 
ability to transfer his or her benefits from one plan to 
another in a direct plan-to-plan transfer. The regulations 
provide that when a participant's benefits are transferred from 
one plan to another, the plan receiving the assets must 
preserve the employee's accrued benefit under the plan 
transferring the assets, including all optional forms of 
distribution that were available under the plan transferring 
the assets. The requirement to preserve the optional forms of 
benefit inhibits the portability of benefits because it creates 
significant administrative impediments for plan sponsors that 
might otherwise allow their plans to accept direct transfers 
from other plans.
    H.R. 1102 resolves this problem by providing that the plan 
receiving the assets does not have to preserve the optional 
forms of benefit previously available under the plan 
transferring the assets if certain requirements are met. The 
provision will encourage employers to permit plan-to-plan 
transfers and will allow employees to consolidate their 
benefits in a single plan where they can oversee and manage 
their retirement savings effectively and efficiently.
    H.R. 1102 (Sec. 305) repeals the Sec. 401(k) ``same desk'' 
rule. As a result of the sale of a business, an employee may 
transfer from the seller to the buyer but continue to perform 
the same duties as those that he or she performed before the 
sale. In these circumstances, under the Sec. 401(k) ``same 
desk'' rule, the employee is not deemed to have ``separated 
from service'' and the employee's Sec. 401(k) account under the 
seller's plan must remain in the seller's plan until the 
employee terminates employment with the buyer. This prevents 
the employee from rolling over his Sec. 401(k) account to an 
IRA or consolidating it with his or her account under the 
buyer's plan.
    Although current law (Internal Revenue Code 
Sec. 401(k)(10)) provides some relief where the seller sells 
``substantially all of the assets of a trade or business'' to a 
corporation or disposes of its interest in a subsidiary, the 
relief provided by current law is deficient in many respects. 
For example, in the case of an asset sale, the sale must cover 
``substantially all'' the assets of the trade or business and 
the buyer must be a corporation. In some cases, it is not clear 
whether the ``substantially all'' standard has been met; in 
others, the transaction does not qualify as a sale; and in 
still other cases, the buyer is not a corporation.
    More importantly, Sec. 401(k) plans are the only tax-
qualified plans that are subject to the ``same desk'' rule. 
[See Attachment B]
    As employees continue to change jobs over the course of 
their careers, it often is difficult for them to keep track of 
their accounts with former employers and difficult for former 
employers to keep track of former employees who may or may not 
remember to send in changes of address or otherwise keep in 
touch with their former employers' plans.
    There is no justification for singling out Sec. 401(k) 
plans for special restrictions on distributions in this way, 
and ERIC strongly supports repeal of the Sec. 401(k) ``same 
desk'' rule, included in H.R. 1102, as well as in H.R. 739 and 
H.R. 1590.
    H.R. 1102 (Sec. 510) allows ESOP dividends to be reinvested 
without the loss of the dividend deduction for the employer. 
Under current law, an employer may deduct the dividends that it 
pays on company stock held by an unleveraged employee stock 
ownership plan (``ESOP'') only if the dividends are paid out in 
cash to plan participants. By favoring early distributions, 
this rule discourages retirement savings and increases 
``leakage'' from the retirement system, much like the 
prohibition on including after-tax savings in a rollover (see 
comments on section 303 of H.R. 1102, above).
    Some employers attempt to cope with the restrictions 
imposed by current law by allowing participants to increase 
their Sec. 401(k) deferrals by the amount of the dividends 
distributed to them. However, this arrangement is convoluted, 
confusing to employees, and effective only up to the legal 
restrictions on Sec. 401(k) deferrals.
    H.R. 1102 remedies this unsatisfactory situation by 
allowing an employer with an ESOP to deduct dividends paid on 
employer securities held by the ESOP whether paid out in cash 
or, at the employee's election, left in the plan for 
reinvestment.

                 Rational Rules for Plan Administration

    Superfluous, redundant, confusing and obsolete rules 
encumber the administration of tax-qualified retirement plans. 
These rules unnecessarily increase the cost of plan 
administration, discourage plan formation, and make retirement 
planning more difficult for employees. Many provisions before 
the Committee significantly advance the work Congress began in 
earlier bills to strip away these regulatory ``barnacles.'' For 
example:
    H.R. 1102 (Sec. 22) updates the definition of an ERISA 
``excess'' plan. ERISA provided for ``excess benefit plans,'' 
that is, nonqualified plans maintained exclusively to pay 
benefits that have been curtailed by the limits in the Internal 
Revenue Code. However, in 1974 the IRC included only the limits 
imposed by IRC Sec. 415. Since that time, a limit has been 
imposed on compensation that can be taken into account under a 
qualified plan [IRC Sec. 401(a)(17)], and several additional 
limits have been imposed on contributions to 401(k) plans. 
These new limits have never been reflected in ERISA's 
definition of ``excess benefit plan.''
    Unless ERISA's definition of an ``excess benefit plan'' is 
updated to reflect the new IRC limits, a rapidly increasing 
numbers of employees will see their retirement benefits 
substantially diminished. The new limits are most damaging to 
older workers who are at the height of their earning capacity 
and ability to save for retirement. Many such workers have been 
unable to set aside sufficient retirement savings earlier in 
their careers because of family obligations such as housing and 
education.
    H.R. 1102 (Sec. 523) allows employers to provide suspension 
of benefit notices through the summary plan description (SPD). 
One of the chief impediments to the creation and maintenance of 
defined benefit plans is their administrative cost and 
complexity. While some of that complexity is inherent in the 
design of these plans, much of it is due to excessive and 
wasteful regulation. The Department of Labor's regulation 
requiring individual ``suspension of benefit'' notices is a 
glaring example of such over-regulation.
    Most defined benefit pension plans provide that, in 
general, benefits do not become payable until the employee 
terminates employment. Pursuant to Department of Labor 
Regulations, however, a plan may not withhold benefit payments 
after an employee has attained normal retirement age, unless 
during the first calendar month or payroll period after the 
employee attains normal retirement age, the plan notifies the 
employee that his or her benefits are suspended. The notice 
must meet complex and detailed specifications. The notice 
requirement should be changed for the following reasons:
     Employees who continue working past the plan's 
normal retirement age do not expect to begin receiving benefit 
payments until they actually retire. Thus, many employees who 
receive the notice view it as a waste of plan assets. For 
others, the notice is perceived as a subtle attempt by the 
employer to expedite their retirement.
     The notice requirement also creates substantial 
record-keeping and paperwork burdens for employers. Regardless 
of the number of employees affected, the employer must incur 
the cost of installing a system to identify and notify each 
employee who works beyond the plan's normal retirement age or 
who is re-employed after attaining normal retirement age.
     In spite of the most conscientious efforts by plan 
administrators to comply with the DOL requirement, errors 
inevitably occur. Unfortunately, a plan that fails to provide 
the required notice to even a single affected employee risks 
losing its tax-qualified status--exposing the plan, the 
employer, and all of the plan's participants and beneficiaries 
to enormous financial penalties.
    The SPD is the primary vehicle for informing plan 
participants and beneficiaries about their rights under 
employee benefit plans. Plans are required by ERISA to supply 
copies of the SPD to participants and beneficiaries, and 
participants have been educated to consult their SPD's for 
information about their benefit plans. As such, the SPD is the 
most appropriate--and effective--mechanism for delivering 
information about the payment of benefits to participants.
    Other provisions. H.R. 1102 makes other changes that remove 
significant regulatory burdens and will enable plan sponsors to 
design plans that meet the needs of their individual 
workforces. For example, section 504 contains modifications 
that will make the separate line of business rules of current 
law more workable. Today's separate line of business rules are 
so complex that many employers have given up trying to use them 
even though the companies involved have significantly diverse 
lines of business. The nature of today's business combinations 
and alliances differs significantly from just a decade ago, 
making it more important to have workable separate line of 
business rules. ERIC looks forward to working with the 
Committee on this and other similar provisions.
    Congress should reject Sec. 501 of H.R. 1102, which changes 
the way in which the qualification standards are enforced. 
Under current law, a plan may be disqualified for failing to 
meet the Internal Revenue Code's qualification requirements 
even if the failure was inadvertent and even if the employer 
has made a good faith effort to administer the plan in 
accordance with the qualification requirements. ERIC has long 
been concerned with this serious problem, and it is very 
appreciative of the interest that the sponsors of H.R.1102 have 
taken in this issue.
    ERIC, however, advocates an enforcement policy that 
emphasizes correction over sanction; that encourages employers 
to administer their plans in accordance with the qualification 
standards; that encourages employers to remedy promptly any 
violations they detect; that reserves IRS involvement for 
serious violations; and that applies appropriate sanctions only 
where employers fail to remedy serious violations that they are 
aware of.
    The Internal Revenue Service has incorporated these 
principles in its Employee Plans Compliance Resolution System 
(``EPCRS''). In formulating and improving EPCRS, the Treasury 
and the Service have been very responsive to the concerns 
expressed by ERIC and other groups. Although we believe that 
improvements can and should be made in EPCRS, we believe that 
improvements are best made at an administrative level, where 
changes can readily be made to respond to changing 
circumstances and to newly-identified issues. If the Committee 
believes that legislation is necessary, we suggest that the 
legislation encourage the Treasury and the Service to expand 
and improve their existing programs.

    Avoiding Misdirected Regulatory Burdens Such Those in H.R. 1176

    As pension law evolves, ERIC urges that Congress avoid 
imposing new regulatory burdens on employer-sponsored plans. 
Several provisions before the Committee, contrary to the 
proposals highlighted above, would continue to heap new 
requirements on plans. Contrary to Congress's objective of 
increasing pension coverage, these requirements, added to those 
of existing law, will encourage plan terminations and 
discourage any employer not already in the pension system from 
entering. ERIC's concerns with H.R. 1176, developed in response 
to media analysis of plans that have been changed from 
traditional defined benefit plans to cash balance plans are 
explained in more detail below.
    H.R. 1176 imposes new notice requirements when a change in 
plan design results in significant reductions in the rate of 
future benefit accruals. Under ERISA Sec. 204(h), plans must 
notify participants in advance of any plan amendment that will 
result in a significant reduction in the rate of benefit 
accruals under the plan.
    ERIC's members invest large sums of money and substantial 
resources in ensuring that employees have a full understanding 
of their benefit plans and any changes to those plans. ERIC is 
concerned that modifications currently proposed to legal 
disclosure requirements will add significantly to plan costs 
without enhancing employee understanding, impose requirements 
that are difficult if not impossible to satisfy, and hinder the 
ability of employers to adjust their plans to meet changing 
business circumstances or changing employee needs. Any of these 
results would defeat the purpose of the amendment by making it 
more difficult for employers to offer significant retirement 
savings opportunities for their employees.
    Recently, legislation has been introduced in response to 
recent news articles and 90-second ``in depth'' TV reports 
concerning conversions of traditional defined benefit plans to 
cash balance plans. The media reports have failed to provide 
balanced background material for understanding the dynamics of 
change in retirement security plans. Attached to this testimony 
is a detailed briefing document to assist the Committee in 
understanding cash balance and other ``hybrid'' defined benefit 
plan designs as well as the recent media controversy and the 
impact of the proposed legislation. [See accompanying brief 
``Understanding Cash Balance and Other ``Hybrid'' Defined 
Benefit Plan Designs'']
    ERIC is particularly concerned that H.R. 1176 requires the 
distribution of information that frequently will be misleading. 
In addition, the bill saddles employers with data collection 
and reporting requirements obligations that are oppressive and 
impractical.
    Cash balance plans are defined benefit plans that express 
the benefit in the form of an individual account balance. As 
such, these plans are welcomed and understandable by employees, 
are easily portable, and accrue benefits more rapidly in an 
employee's career than a traditional defined benefit plan. At 
the same time, participants in a cash balance plan receive all 
the protections of a defined benefit plan that are not 
available to individual account plans such as 401(k) plans: 
employee participation is automatic, contributions are made by 
the employer, the risk of investment return is borne by the 
employer, and the benefit is guaranteed by the Pension Benefit 
Guaranty Corporation.
    Unfortunately, H.R. 1176 requires employers to distribute 
information that often will effectively mislead employees. 
Under the Pension Right to Know Act, whenever a ``large'' 
defined benefit plan is amended in a way that results in a 
significant reduction in the rate of future benefit accrual for 
any one participant, the plan must provide an individually-
tailored ``statement of benefit change'' to every plan 
participant and alternate payee. The ``statement of benefit 
change'' must be based on government-mandated assumptions and 
must project future benefits at several time intervals under 
both the old and new plan provisions.
    The problem is--
     Projections of future benefits are inherently 
unreliable. Even minor changes between the interest rates 
required to be used under the bill and rates that in fact occur 
over time can have a dramatic impact on the value of benefits 
accrued by individual employees.
     Projections of an employee's possible future 
benefits required by the government and provided by the 
employer are easily misinterpreted by the employee as 
guarantees that benefits will accrue according to the 
projections provided.
     The benefit statements required by the bill will 
lead employees to believe that the plan offers a lump-sum 
option that it might not actually provide.
     The benefit statements required by the bill ignore 
other changes in the employer's ``basket of benefits.''
     By requiring projections of future benefit 
accruals under the old plan's provisions--which are no longer 
operative--the bill falsely implies that participants have the 
option to retain the old provisions.
    H.R. 1176 also imposes burdens on employers that are 
intolerable and unjustified. For example,
     Under the bill, whenever a defined benefit plan is 
amended, the employer must analyze the effect of the amendment 
on every individual participant and alternate payee to 
determine whether the amendment significantly reduces the rate 
of future benefit accrual for any one of them.
     If the employer finds that the amendment 
significantly reduces the rate of future benefit accrual for 
any one participant or alternate payee, the bill requires the 
employer to prepare an individually-tailored statement of 
benefit change for every participant and alternate payee.
     Existing plans often include numerous features 
that apply only to certain individuals. For example, groups of 
employees often have been grandfathered under prior plan 
provisions frequently attributable to their participation in a 
predecessor plan that merged into the existing plan following a 
merger or acquisition. Most of the calculations for these 
employees (which could easily run into the thousands in a large 
company) will have to be performed by hand.
     Many employees also are subject to individual 
circumstances that will affect their benefits--e.g. an 
employee's benefit might be subject to a Qualified Domestic 
Relations Order (QDRO) or the employee might have had a break 
in service or a personal or military leave. The calculations 
for many of these employees also will have to be performed by 
hand.
     The calculations required by the bill must be 
completed before the changes in the plan become effective. This 
can take several months. New calculations regarding the 
employees' actual accrued benefit values must then be 
calculated after the plan becomes effective, since only then 
will the applicable interest rate and other variables as of the 
effective date be known.
    The bill also imposes disproportionate and oppressive tax 
penalties. At a time when Congress is properly focusing on 
expanding employer-sponsored retirement plans, the Pension 
Right to Know Act will have the opposite result. The bill will 
have a chilling effect on sponsorship of any form of defined 
benefit plan, pushing medium and large employers to turn to 
compensation and benefit forms that place employees more at 
risk for their own economic and retirement security.

                 Flexible Funding for Employee Benefits

    Retirement security relies not only on adequate cash 
resources. For many, the availability of employer-provided 
retiree medical coverage has materially enhanced their standard 
of living in retirement. Internal Revenue Code (IRC) 
Sec. 401(h) allows a pension plan to provide medical benefits 
to retired employees and their spouses and dependents if the 
plan meets certain requirements.
    These restrictions on 401(h) accounts indicate that only 
new contributions--not existing plan assets--can be used to 
fund a 401(h) account. If the plan is very well funded--so that 
the employer is no longer making any contributions to the 
plan--401(h) is not available. Recognizing that this arbitrary 
restriction unnecessarily imperiled the security of retiree 
medical benefits, Congress in 1990 enacted IRC Sec. 420 to 
permit a pension plan to use part of its surplus assets to pay 
current retiree medical expenses. Although 420 was originally 
scheduled to expire at the end of 1995, Congress later extended 
the life of 420 until 2000.
    Section 420 does not allow advance funding of future 
retiree health liabilities. But because it allows pension 
assets to be used for current retiree health care expenses, 420 
permits excess pension assets to be used productively. In 
addition, because 420 relieves employers of the need to make 
tax-deductible payments for retiree health benefits, 420 raises 
federal tax revenues.
    In order to make a 420 transfer, the employer must meet a 
number of requirements, including the following:
     The transferred amount may not exceed the excess 
of the value of the plan's assets over the greater of the 
plan's termination liability or 125% of the plan's current 
liability. This is designed to assure that the plan retains 
sufficient assets to cover the plan's pension obligations.
     The transferred amount also may not exceed the 
amount reasonably estimated to be what the 401(h) account will 
pay out during the year to provide current health benefits on 
behalf of retired employees who are also entitled to pension 
benefits under the plan. Key employees are not included.
     The pension plan must provide that the accrued 
pension benefits must become nonforfeitable for any participant 
or beneficiary under the plan as well as for any participant 
who separated from service during the year preceding the 
transfer.
     Section 420 also includes a five-year maintenance 
of effort requirement. When 420 was originally enacted, the 
employer was required to maintain the same retiree health costs 
for the five years following the 420 transfer.
     In 1994, Congress changed this cost-maintenance 
requirement to a benefit-maintenance requirement. Under the 
benefit-maintenance requirement, the employer must maintain 
substantially the same level of retiree health benefits during 
the five years following the transfer.
     In addition, ERISA requires the plan administrator 
to notify each participant and beneficiary of the amount to be 
transferred and the amount of the pension benefits that will be 
nonforfeitable immediately after the transfer. Notice must also 
be provided to the Labor Department and any union representing 
plan participants.
    The Senate Finance Committee recently voted to extend 
Sec. 420 through September 30, 2009. The Committee also voted 
to replace the benefit-maintenance requirement with the pre-
1994 cost-maintenance requirement. We encourage this Committee 
to consider the Finance Committee's action.
    That completes my prepared statement. I would like to thank 
the Chair and the Committee for giving ERIC the opportunity to 
testify. I will be happy to respond to any questions that the 
members of the Committee might have.
      

                                


                              Attachment A

       A Historical Summary of Limits Imposed on Qualified Plans

     IRC Sec. 415(b) limit of $120,000 on benefits that 
may be paid from or funded in defined benefit (DB) plans. Prior 
to ERISA, annual benefits were limited by IRS rules to 100% of 
pay. ERISA set a $75,000 (indexed) limit on benefits and on 
future pay levels that could be assumed in pre-funding 
benefits. After increasing to $136,425, the limit was reduced 
to $90,000 in TEFRA (1982). It was not indexed again until 
1988; and it was subjected to delayed indexing, i.e., in $5000 
increments only, after 1994 (RPA). RPA also modified the 
actuarial assumptions used to adjust benefits and limits under 
Sec. 415(b). The limit for 1999 is $130,000. If indexing had 
been left unrestricted since 1974, the limit for 1999 would be 
approximately $238,000.
     IRC Sec. 415(b) defined benefit limit phased in 
over first ten years of service. ERISA phased in the $75,000 
limit over the first ten years of service. This was changed to 
years of participation in the plan (TRA '86).
     IRC Sec. 415(b) early retirement limit. Under 
ERISA, the $75,000 limit was actuarially reduced for 
retirements before age 55. TEFRA imposed an actuarial reduction 
for those retiring before age 62 (subject to a $75,000 floor at 
age 55 or above); and TRA '86 imposed the actuarial reduction 
on any participant who retired before social security 
retirement age and eliminated the $75,000 floor. For an 
employee retiring at age 55 in 1999, the limit (based on a 
commonly-used plan discount rate) is approximately $52,037.The 
early retirement reduction will become even greater when the 
social security retirement age increases to age 66 and age 67.
     IRC Sec. 415(c) limit of $30,000 on contributions 
to defined contribution (DC) plans. ERISA limited contributions 
to a participant's account under a DC plan to the lesser of 25% 
of pay or $25,000 (indexed). The $45,475 indexed level was 
reduced to $30,000 in TEFRA (1982); indexing also was delayed 
by TRA '86 until the DB limit reached $120,000. RPA restricted 
indexing to $5000 increments. The 1999 limit is still $30,000. 
If indexing had been left unrestricted since 1974, the 1999 
limit would be approximately $79,600.
    5. IRC Sec. 415(c) limit of 25% of compensation on 
contributions to defined contribution plans. Prior to ERISA, 
the IRS had adopted a rule of thumb whereby contributions of up 
to 25% of annual compensation to a defined contribution plan 
generally were acceptable. ERISA limited contributions to a 
participant's account under a DC plan to the lesser of 25% of 
pay or $25,000 (indexed). Section 1434 of Public Law 104-188 
alleviates the more egregious problems attributed to the 25% 
limit for nonhighly compensated individuals by including an 
employee's elective deferrals in the definition of compensation 
used for Sec. 415 purposes. Public Law 105-34 alleviates an 
additional problem by not imposing a 10% excise tax on 
contributions in excess of 25% of compensation where the 
employer maintains both a defined benefit and defined 
contribution plan and the limit is exceeded solely due to the 
employee's salary reduction deferrals plus the employer's 
matching contribution on those deferrals.
    6. Contributions included in the IRC Sec. 415(c)'s defined 
contribution plan limit. ERISA counted against the DC limit all 
pre-tax contributions and the lesser of one-half of the 
employee's after-tax contributions or all of the employee's 
after-tax contributions in excess of 6% of compensation. TRA 
'86 included all after-tax contributions.
    7. IRC Sec. 415(e) combined plan limit. Under ERISA, a 
combined limit of 140% of the individual limits applied to an 
employee participating in both a DB and a DC plan sponsored by 
the same employer. E.g., if an employee used up 80% of the DC 
limit, only 60% of the DB limit was available to him or her. 
TEFRA reduced the 140% to 125% for the dollar limits. Section 
1452 of Public Law 104-188 repeals the combined plan limit 
beginning in the year 2000.
    8. IRC Sec. 401(a)(17) limit on the amount of compensation 
that may be counted in computing contributions and benefits. 
TRA '86 imposed a new limit of $200,000 (indexed) on 
compensation that may be taken into account under a plan. OBRA 
'93 reduced the $235,000 indexed level to $150,000. RPA 
restricted future indexing to $10,000 increments. The 1999 
limit is $160,000. If this limit had been indexed since 1986 
without reduction the 1999 level would be $272,520.
    9. IRC Sec. 401(k)(3) percentage limits on 401(k) 
contributions by higher paid employees. Legislation enacted in 
1978 that clarified the tax status of cash or deferred 
arrangements also imposed a limit on the rate at which 
contributions to such plans may be made by highly compensated 
employees. TRA '86 reduced this percentage limit. Section 1433 
of Public Law 104-188 eliminates this requirement for plans 
that follow certain safe-harbor designs, beginning in the year 
1999.
    10. IRC Sec. 401(m)(2) percentage limits on matching 
contributions and after-tax employee contributions. TRA '86 
imposed a new limit on the rate at which contributions may be 
made on behalf of HCEs. Beginning in the year 1999, section 
1433 of Public Law 104-188 eliminates this requirement for 
matching payments on pre-tax (but not after-tax) elective 
contributions of up to 6% of pay if those payments follow 
certain safe-harbor designs.
    11. IRC Sec. 402(g) dollar limit on contributions to 401(k) 
plans. TRA '86 imposed a limit of $7000 on the amount an 
employee may defer under a 401(k) plan. RPA restricted further 
indexing to increments of $500. The 1999 indexed limit is 
$10,000.
    12. IRC Sec. 4980A--15% excise tax on ``excess 
distributions.'' TRA '86 imposed an excise tax (in addition to 
applicable income taxes) on distributions in a single year to 
any one person from all plans (including IRAs) that exceed the 
greater of $112,500 (indexed) or $150,000 (or 5 times this 
threshold for certain lump-sum distributions). RPA restricted 
indexing to $5000 increments. The limit was indexed to $160,000 
in 1997. In addition, TRA '86 imposed a special 15% estate tax 
on the ``excess retirement accumulations'' of a plan 
participant who dies. Section 1452 of Public Law 104-188 
provides a temporary suspension of the excise tax (but not of 
the special estate tax) for distributions received in 1997, 
1998, and 1999. Public Law 105-34 permanently repeals both the 
excess distributions tax and the excess accumulations tax, for 
distributions or deaths after 12-31-96.
    13. IRC Sec. 412(c)(7) funding cap. ERISA limited 
deductible contributions to a defined benefit plan to the 
excess of the accrued liability of the plan over the fair 
market value of the assets held by the plan. OMBRA (1987) 
further limited deductible contributions to 150% of the plan's 
current liability over the fair market value of the plan's 
assets. Public Law 105-34 gradually increases this limit to 
170%.
    14. ERISA Sec. 3(36) definition of ``excess benefit plan.'' 
ERISA limited excess benefit plans to those that pay benefits 
in excess of the IRC Sec. 415 limits. Other nonqualified 
benefits must be paid from ``top hat'' plans under which 
participation must be limited to a select group of management 
or highly compensated employees.
    LEGEND:
    ERISA--Employee Retirement Income Security Act of 1974
    HCE--highly compensated employee
    IRC--Internal Revenue Code
    IRS--Internal Revenue Service
    OBRA '93--Omnibus Budget Reconciliation Act of 1993 (P.L.103-66)
    OMBRA--Omnibus Budget Reconciliation Act of 1987 (P.L.100-203)
    P.L.104-188--The Small Business Job Protection Act of 1996
    P.L.105-34--The Taxpayer Relief Act of 1997
    RPA--The Retirement Protection Act of 1994 (included in the GATT 
Implementation Act, P.L.103-465)
    TEFRA--The Tax Equity and Fiscal Responsibility Act of 1982 (P.L. 
97-248)
    TRA '86--The Tax Reform Act of 1986 (P.L. 99-514)
      

                                


                              Attachment B

   APPLICATION OF SAME DESK RULE TO PAYMENTS FROM TAX-QUALIFIED PLANS
------------------------------------------------------------------------
               Type of Plan                  Does Same Desk Rule Apply?
------------------------------------------------------------------------
Conventional Defined Benefit Pension Plan.  No
Cash Balance Pension Plan.................  No
Money Purchase Pension Plan...............  No
Profit-Sharing Plan.......................  No
Stock Bonus Plan..........................  No
Employee Stock Ownership Plan.............  No
Employer Matching Contributions...........  No
After-Tax Employee Contributions..........  No
Sec.  401(k) Contributions................  Yes \1\
------------------------------------------------------------------------
\1\ The same desk rule also applies to Sec.  403(b) and Sec.  457(b)
  plans, which are nonqualified plans sponsored by governmental and tax-
  eemployers.

      

                                


I. Understanding Cash Balance and Other ``Hybrid'' Defined Benefit Plan 
Designs

    The rapid emergence of new, dynamic technologies and 
obsolescence of many existing products and services, the need 
to respond to new domestic and global competitors, and the 
changing attitudes toward career and work by employees in many 
industries, requires that many employers change their 
incentives to attract and retain talented employees. For 
workers and employers in new and changing industries, and for 
those employees who do not anticipate a single career with one 
employer but who still value retirement security, the 
traditional defined benefit plan design has given way to cash 
balance and similar ``hybrid'' defined benefit pension plans.
    The new plans are responsive to and popular with many 
employees: the benefits are understandable, secured by the 
federal Pension Benefit Guaranty Corporation (PBGC), and 
provide greater benefits to women and others who move in and 
out of the workforce. Moreover, the employer bears the risk of 
investment for benefits that are nevertheless portable, and 
employees under the new plans avoid ``pension jail'' and 
``golden handcuffs.''
    Recent news articles and 90-second ``in depth'' TV reports 
have failed to provide useful and balanced background material 
for understanding the dynamics of change in retirement security 
plans. Moreover, legislation based on media coverage in an 
effort to correct reported problems has been misdirected and 
overreaching.
    In order to start fresh and balance the scales, The ERISA 
Industry Committee has prepared the accompanying materials that 
identify the issues in the present debate and describe why many 
employers have shifted from traditional defined benefit plan 
designs.
    The ERISA Industry Committee (ERIC) is a non-profit 
association committed to the advancement of employee 
retirement, health, and welfare benefit plans of America's 
largest employers and is the only organization representing 
exclusively the employee benefits interests of major employers. 
ERIC's members provide comprehensive retirement, health care 
coverage and other economic security benefits directly to some 
25 million active and retired workers and their families. The 
association has a strong interest in proposals affecting its 
members' ability to deliver those benefits, their cost and 
their effectiveness, as well as the role of those benefits in 
the American economy.
    We hope that these materials will help in understanding the 
new direction many employers are taking to provide retirement 
security. We hope to be in touch with you directly in the 
coming weeks. In the meantime, please feel free to call on any 
of us for information or assistance.

            Very truly yours,
                                            Mark J. Ugoretz
                                                          President
                                          Janice M. Gregory
                                                     Vice President
                                            Robert B. Davis
                                         Legislative Representative

    [Additional attachments are being retained in the Committee 
files. Attachments may be accessed at www.eric.org]
      

                                


    Chairman Archer [presiding]. Thank you, Mr. MacDonald.
    Mr. McCarthy, welcome to the Committee. We will be pleased 
to receive your testimony.

     STATEMENT OF JIM MCCARTHY, VICE PRESIDENT AND PRODUCT 
DEVELOPMENT MANAGER, PRIVATE CLIENT GROUP, MERRILL LYNCH & CO., 
INC., PRINCETON, NEW JERSEY; ON BEHALF OF SAVINGS COALITION OF 
                            AMERICA

    Mr. McCarthy. Thank you, Mr. Chairman. My name is Jim 
McCarthy. I am principally responsible for tax product 
development at Merrill Lynch. Today I am here representing the 
Savings Coalition. I am honored to be here and pleased that the 
Committee is taking such a proactive stance in this area.
    The Savings Coalition is a broad-based group of parties 
representing 75 member organizations all of whom are interested 
in increasing the rate of personal savings in this country. We 
represent homebuilders, realtors, health care companies, 
financial services industries, a list of the Savings Coalition 
members is attached to my commentary.
    As you all know, we have a looming savings crisis in this 
country and I would--to put it in a larger context, I would 
argue that success or failure in this area will cascade either 
positive or negative results into the rest of the personal 
financial health of Americans. The inadequacy of a retirement 
savings pool will have disastrous effects, for example, in 
things like the ability to fund education or health care costs. 
So, as a result, while the savings shortfall is of sufficient 
magnitude to gather everyone's attention, since it is the 
largest pot of assets that tends to be held by American 
workers, its spillover effect, if dealt with correctly and 
solved, is magnified by that preeminent position.
    The members of the Savings Coalition ask you, Mr. Chairman 
and the Members of the Committee, to enact the provisions of 
H.R. 1546, Congressman Thomas' bill also entitled the 
Retirement Savings and Opportunity Act of 1999. Among other 
changes, that legislation would substantially expand personal 
savings by increasing the maximum permitted IRA contribution 
from $2,000 to $5,000. It would eliminate a number of 
interrelated and complex caps on eligibility, counterproductive 
income limits and allow additional catchup contributions to 
IRAs for those nearing retirement.
    Before going into the provisions of 1546 in more detail, 
let me congratulate the Members of the Committee on their work 
in 1997 to, in essence, bring the IRA out of retirement. Our 
experience at Merrill Lynch indicates, for example, that the 
new Roth IRA, which originated in this Committee under the name 
of the American dream savings account, could well be the most 
effective new savings generator since the successful expansion 
of the 401K plans in the early eighties and nineties.
    This has been a critical step in strengthening the private 
savings leg of the traditional three-legged stool. We think in 
large measure the Roth IRA has had the success because of its 
relative simplicity. For example, at Merrill Lynch, we have 
seen an increase of more than 80 percent in IRA contributions 
in the last year. That is an astounding number that I would 
like to put in historical context in just a moment, but given 
that it is the first year of a financial instrument or an 
account vehicle being in place, an 80-percent increase in 
contributions is just a staggering kind of launch of acceptance 
and internalization by the American public.
    Also in our 401(k) business, for example, we have seen less 
leakage out of our system because of the heightened--In 
defining leakage, I refer to the number of distributions that 
are not rolled over to either an IRA or a subsequent employer 
plan, in part because we believe of the heightened public 
awareness of the need to both quantify and then attack through 
aggressive savings the challenge of saving adequately for 
retirement.
    An interesting aspect of the Roth IRA expansion, for 
example, is that we have seen a tremendous increase in the 
amount of traditional IRA contributions. We have had almost a 
60-percent increase in the number of traditional IRA 
contributions that we have had and what we think is that if 
people come to the door asking for ways to focus on retirement 
savings, they will leave with the solution that fits them best.
    We know the personal savings rate in this country has 
dropped from roughly 8 percent during the sixties and seventies 
down to what many would argue is a very anemic one-half of 1 
percent currently, and in certain months we have been negative.
    While we believe that the nature of the statistic is not 
perfect, we believe that this is an area that needs to be 
addressed. Our own research, we have Douglas Bernheim, a 
Stanford economics professor, who prepares a baby-boom index 
for us. That index currently stands at 32 percent, which means 
there is 68 percent inadequacy of retirement savings.
    Let me just get into some of the provisions of H.R. 1546.
    First and foremost, we need to raise the contribution limit 
from $2,000 to $5,000. That limit has been in place since 1981. 
It is far short of the $5,000 that would be the limit in the 
event that a number had been originally indexed.
    We also think that it is increasingly important to 
eliminate the complexity and the interrelation between 
eligibility and income deductions, especially in a married 
couple. Because, in effect, we have imposed a marriage penalty 
on savings, for people who want a simple and portable vehicle 
in which to make their retirement savings. We think that this 
is especially important in that the bulk of job creation is 
happening in the small employer market and, as a result, 
traditional plan coverage is not rising there as fast as it is 
in the larger employer market.
    The last provision is catch-up provisions for those over 
50, the ability to, in effect, fund a plan that has not been 
adequately funded before. We think that it is particularly 
important to women who have been out of the work force or who 
may be more transitory in the work force, and we urge with all 
emphasis and haste that the Committee enact H.R. 1546.
    Thank you.
    [The prepared statement follows:]

Statement of Jim McCarthy, Vice President and Product Development 
Manager, Private Client Group, Merrill Lynch & Co., Inc., Princeton, 
New Jersey; on behalf of Savings Coalition of America

    Mr. Chairman, let me commend you and the other members of 
this Committee for holding this hearing today. Savings, and 
particularly retirement savings, is the key to America's long-
term economic prosperity.
    I am Jim McCarthy, Vice President and Product Development 
Manager, Private Client Group, for Merrill Lynch & Co., Inc. I 
am here today representing the Savings Coalition of America. 
The Savings Coalition is a broad-based group of parties 
interested in increasing personal savings in the United States. 
The 75 member organizations of the Savings Coalition represent 
a wide variety of private sector organizations including 
consumer, education and business groups; senior citizen groups; 
home builders and realtors; health care providers; engineering 
organizations; and trust companies, banks, insurance companies, 
securities firms, and other financial institutions. A list of 
the members of the Savings Coalition is attached.
    With Americans saving less than at any time since World War 
II, we stand at a crossroads. For individuals (including 
especially the baby boom generation), inadequate savings today 
will lead to a retirement crisis in the next century. If 
Americans do not begin saving more for retirement soon, the 
pressures on the Social Security system that are caused by the 
aging of our population will be compounded. With Americans 
living longer, millions of Americans will face prolonged 
retirements without the financial wherewithal to meet day-to-
day needs. Moreover, if low savings rates continue at the 
national level, they will, over time, lead to higher interest 
rates and slower economic growth--further increasing the 
difficulty of dealing with the problems raised by the changing 
demographics of our population. For these and many other 
reasons, doing something now to enhance retirement savings is 
critical.
    Traditionally, retirement security for Americans has been 
based on the so-called ``three-legged stool''--Social Security, 
employer-sponsored retirement plans and personal savings. 
Dealing with our nation's ongoing savings shortfall effectively 
will require that each of those legs be strengthened. In 
particular, Congress should not ignore the critical personal 
savings leg of the three-legged stool and the Individual 
Retirement Account, or IRA, has proven over the last 25 years 
to be the most effective method for focusing personal savings.
    Mr. Chairman, the members of the Savings Coalition ask you 
and the other members of this Committee to enact the provisions 
of H.R. 1546--the Retirement Savings Opportunity Act of 1999, 
introduced by Congressman Thomas. Among other important 
changes, that legislation would substantially expand personal 
savings by increasing the maximum permitted IRA contribution 
from $2,000 to $5,000, eliminating the complex and 
counterproductive income limits on IRA participation, and 
allowing additional catch-up contributions to IRAs for those 
approaching retirement.

                        IRAs and Roth IRAs Work

    Before going into the provisions of H.R. 1546 in more 
detail, let me congratulate the members of this committee for 
beginning the process of bringing the Individual Retirement 
Account ``out of retirement'' in 1997. Our experience at 
Merrill Lynch indicates that the new Roth IRA (which originated 
in this Committee under the name American Dream Savings 
Accounts) could well be the most effective new savings 
generator since the successful expansion of section 401(k) 
plans in the 80s and early 90s.
    One need go no further than the advertisements in the 
newspapers and other media to see that the Roth IRA changes 
that Congress enacted in 1997 have revitalized America's 
interest in the IRA. With expanded advertising, more and more 
people have begun asking questions about the new savings 
options available to them. In the process, they are becoming 
better educated about the importance of saving for retirement. 
For many, there has been a growing awareness of how far behind 
they are in saving for a financially secure retirement.
    Although it is still early, our Financial Consultants tell 
us that many of our customers are responding to the pro-savings 
message that the Roth IRA sends. Significantly, they are 
increasing their savings not only through Roth IRAs, but also 
through traditional IRAs and other savings vehicles.
    As with any new financial product, consumer interest builds 
over time. But under almost any reasonable measure, the Roth 
IRA has been a tremendous success. Industry-wide statistics are 
not yet available for 1998, the first year that the Taxpayer 
Relief Act of 1997 IRA changes went into effect, but 
preliminary results at Merrill Lynch show an unprecedented 
increase in IRA activity. Through December 1998, we have seen 
an increase of more than 80 percent in the number of total IRA 
contributions over the same period in 1997--an astounding 
increase for a new savings vehicle. This includes new Roth IRAs 
and increased contributions to traditional IRAs. And we can 
expect contributions for 1999 and beyond to increase even more 
as consumer awareness grows, just as IRA contributions grew 
steadily between 1982 (the first year IRAs became universally 
available) and 1986 (when IRA access was severely restricted).
    One interesting aspect of the Roth IRA expansion is that we 
have seen considerable spillover savings resulting from the 
Roth IRA advertising. For example, we have experienced a 
sizable increase in traditional deductible IRA contributions. 
To some extent that increase is attributable to the changes 
that were enacted in 1997 expanding the availability of 
deductible IRAs. However, we have seen people who were always 
eligible for deductible IRAs come back because they did not 
realize they were eligible in the past. They have called to ask 
about the Roth IRA, but have decided to contribute to a 
traditional IRA or another savings vehicle. The Roth IRA 
legislation deserves the credit for putting those people back 
in the savings habit.
    To illustrate how big a success the Roth IRA and other 1997 
Act IRA changes have been, one need only compare the early 
stages of today's developing IRA market with the early stages 
of other new savings vehicles created by Congress--including 
earlier versions of the IRA. Once again, we won't have complete 
statistics for quite some time, but when you compare the IRA 
activity we have seen in 1998 with our early experience with 
other products, the success of the 1997 IRA changes becomes 
clear.
    In calendar year 1998, Merrill Lynch established more than 
two and one half times more new IRAs than we established during 
the same period in 1982, the first year of universal IRA 
eligibility. This despite the fact that the IRA available in 
1982 was simpler, available on a fully-deductible basis to most 
Americans, and more tax-advantaged (due to higher marginal 
income tax rates that were in effect in 1982). Additionally, 
with the ongoing popularity of the 401(k) plan, the Roth IRA 
has succeeded in the face of a variety of other alternative 
choice's. Similarly, the new Roth IRA has been extremely well 
received when compared with other recently introduced tax 
vehicles. In 1998, for example, Merrill Lynch established one 
hundred times more Roth IRAs than Medical Savings Accounts.
    These recent developments, confirm what we already knew 
from earlier experience, the IRA works at increasing individual 
savings. The IRA has proven time and again to be the single 
most effective vehicle for encouraging personal retirement 
savings by Americans.

                          Need for More Change

    Despite the initial success of the changes enacted in 1997, 
there is no question that current savings incentives will not 
be sufficient to reverse America's serious savings shortfall. 
The 1997 Act IRA changes were important steps in beginning the 
process of improving the incentives to save. But more change is 
needed.
    Since the 1970s the U.S. personal savings rate has declined 
steadily. During the 1960s and 70s, our national savings rate 
averaged around 8% per year. In the last half of the 80s, it 
dropped to about 5.5% and in the 90s it has dropped to a 3.6% 
annual average. Last year, the savings rate was an anemic \1/2\ 
of 1 percent, the lowest level since the Great Depression of 
the 1930s.
    It is the baby boom generation that is in the most danger. 
Research by Stanford University economist Douglas Bernheim, who 
compiles an annual Baby Boom Retirement Index for Merrill 
Lynch, has consistently shown that the baby boom generation has 
fallen as much as two-thirds behind the rate of savings that 
they need to maintain their current standard of living in 
retirement. It is our responsibility to help the baby boom 
generation (and future generations) to start saving more. If we 
do not accomplish that goal soon, the financial burden that 
will be placed on our Social Security system, our economy, and 
ultimately our children and grandchildren, in the next 
millennium could be disastrous.
    While there are many causes for our national savings 
shortfall, one of the main reasons is that our tax system 
continues to penalize savings and investment. What became known 
as the Roth IRA was an innovative step to correct that 
imbalance. The additional proposals made in H.R. 1546, are the 
next logical steps toward providing every American with a 
meaningful opportunity to save for a secure retirement.
    Let me highlight a few of the changes proposed in the H.R. 
1546 that we believe would have the most beneficial impact.

                                Why 2K?

    The current $2,000 maximum IRA contribution has been in 
place since 1981. H.R. 1546 would increase the maximum IRA 
contribution to $5,000 for both Roth and traditional IRAs (and 
would index that limit for future inflation). That change is 
long overdue--almost 20 years overdue. The limit on IRA 
contributions has been stuck at $2,000 since 1981. If the IRA 
contribution limit had been adjusted for inflation since IRAs 
were created in 1974, Americans could now contribute about 
$5,000 per year to an IRA. Of all retirement savings plans, 
only the IRA limit has never been indexed for inflation.
    As things stand today, the maximum IRA contribution is not 
adequate to meet the growing retirement needs of Americans. 
Future retirees can look forward to longer life expectancies 
and more years in retirement. When combined with continuing 
inflation in medical costs (which are especially important for 
those in retirement) and the long range financial challenges 
facing the Social Security Trust Fund, it becomes clear that 
the need for a significant personal savings component in 
retirement is becoming even more critical than it was in the 
past. A two-legged, stool consisting of Social Security and 
employment-based retirement plans, cannot be expected to meet 
the increasing need. Also, for many of the more than 50 million 
workers who are not covered by an employment-based retirement 
plan, IRAs may be the only retirement savings opportunity.
    Interestingly, we have found that more than 90% of our 
customers contributing to an IRA fund it at the annual $2,000 
maximum. They save the maximum amount permitted and commit that 
amount to long-term retirement savings. With higher 
contribution limits, we fully expect that many of those 
individuals will save more.
    Even for those who do not contribute the maximum in every 
year, the higher contribution limit will allow flexibility to 
make IRA contributions in the years that they have the 
resources to make the contributions. For example, a family 
where one spouse remains at home to care for children will 
often not have disposable income for large IRA contributions. 
When the children are older, however, the couple may be better 
able to make IRA contributions. The higher contribution limit 
will allow that couple to make larger IRA contributions during 
the years they can afford to do so.
    Let me also note that in the course of our experience with 
millions of IRAs we have found that there is a very strong 
correlation between the size of an account and the attention 
and discipline that an individual affords to that account. Put 
simply, once an account achieves a certain ``critical mass,'' 
it becomes the individual's nest egg and they become much more 
disciplined with respect to that account balance. They become 
less likely to make withdrawals and more likely to continue 
adding to the account. Conversely, relatively small accounts 
have a tendency to go dormant after only one contribution and 
are more likely to be withdrawn. Of course, every person's 
``critical mass'' is different, but by raising the maximum 
initial IRA contribution, the chances that more people will 
start down the savings path (and stick to it) will be increased 
substantially.

                          Eliminate Complexity

    Today, eligibility for traditional deductible IRAs, Roth 
IRAs and spousal IRAs can be determined only after the taxpayer 
works through a complex maze of eligibility requirements that 
include a variety of income limitations and phase-outs. Which 
of the various eligibility limits applies depends, in part, on 
the type of IRA the individual wishes to establish and whether 
the individual (or the individual's spouse) actively 
participates in certain types of employment-based retirement 
plans.
    The current IRA eligibility limitations (which were 
initially included in the Tax Reform Act of 1986) are 
unnecessarily complex and counterproductive--doing far more 
harm than good. Those limitations substantially impair the 
potential effectiveness of IRAs as a savings promoter and 
should be repealed as proposed in H.R. 1546. Without the income 
limits, we would see increased savings among all income classes 
and would also eliminate the marriage penalties that are 
inherent in the structure.
    Even with the improvements included in the 1997 Act, many 
middle income Americans are still not eligible for a fully 
deductible IRA. For couples with income above $51,000 and 
individuals with income above $31,000, the fully deductible IRA 
is generally not an option. Although the Roth IRA was wisely 
made available to a broader segment of the population, the 
application of income limits on Roth IRAs remains detrimental.
    To begin with, the current income limits impose a severe 
marriage penalty on certain couples. Take, for example two 
individuals who will earn $30,000 each this year. If they are 
unmarried, both are allowed to make fully deductible $2,000 
contributions to an IRA. If they marry, however, their IRA 
deductions will be reduced to $200 each. Under today's tax 
rules, that couple faces an increase of $1,250 in their Federal 
income taxes just for getting married, and $1,000 of that 
marriage penalty (about 80%) is attributable to the eligibility 
limits currently imposed on deductible IRAs. H.R. 1546 would 
eliminate that marriage penalty.
    Our experience has also shown that the people who are 
harmed most by the income limits are not the wealthy. To the 
truly wealthy, the relatively small IRA tax advantage has 
little affect on their overall tax burden. The people who are 
harmed by the income limits are those who are stuck in the 
middle. These are people who do not necessarily have 
sophisticated tax planners and accountants giving them advice. 
They will only proceed in committing their money into an IRA if 
they are confident that they will not get tripped up by the 
rules. Some of these people will delay contributions to make 
sure they will qualify, and then later forget to make the 
contribution or spend the money before they get around to 
making a contribution. Others may qualify for a full or partial 
IRA this year, but still will not contribute because the 
contribution permitted this year is too small, or because they 
assume they won't qualify in the future and they don't want to 
start contributing if they are not sure they will be able to 
continue the process in future years. Still others are confused 
and believe they may have to withdraw the funds if their income 
goes up in the future.
    The end result of today's complicated limits on IRA 
eligibility is that contributions are not made by many of those 
who are technically eligible (or partially eligible) under the 
rules in a given year. This same chilling effect has been in 
effect since Congress originally imposed income limits on 
deductible IRA eligibility in 1986. Before the 1986 Tax Reform 
Act, the IRA was available to all Americans with earned income. 
The year after the income limits on IRAs went into effect, 
contributions by those who remained eligible dropped by 40%.\1\
---------------------------------------------------------------------------
    \1\ Testimony of Lawrence H. Summers, currently Deputy Secretary of 
the Department of the Treasury, before the U.S. Senate Committee on 
Finance, September 29, 1989.
---------------------------------------------------------------------------
    In restoring universal IRA eligibility and--the rule that 
was in effect before 1986--H.R. 1546 would help all Americans 
to save more. By eliminating the complexity in the current 
rules, Americans will be presented with a consistent and 
understandable pro-savings message--a clear consensus path to 
follow toward retirement security. That message will be 
reinforced by the general media, financial press, financial 
planners, and word-of-mouth. As families gain confidence in the 
retirement savings vehicles available to them, more and more 
will commit to the consensus path.

                         Catch-up Contributions

    H.R. 1546 would also allow those age 50 and older to make 
additional IRA contributions of $2,500 per year. This change 
could be a critical step in helping people who are closer to 
retirement to save more. We believe that this type of targeted 
change could be particularly effective because as people 
approach retirement age they become more focused on retirement 
needs. In many cases, individuals forego making an IRA 
contribution in a particular year because of insufficient 
income, illness, temporary unemployment, a decision to stay 
home with children, or pay for their children's education. 
Annual contribution limitations prevent these individuals from 
making-up for lost retirement savings once the cash-flow crisis 
is over or their income rises.
    Women, in particular, are more likely to have left the paid 
workforce for a period of time to care of children or elderly 
parents. During those years they were probably not eligible (or 
did not have the resources) to make retirement savings 
contributions. Allowing an IRA catch-up would help ensure that 
a woman's decision to fulfill family responsibilities does not 
have to lead to retirement insecurity.
    It is also worth noting that many of those in today's 
population who are approaching or have reached age 50 did not 
have IRAs or 401(k) plans available through most of their 
working careers. They did not have the same opportunities to 
save that today's generations have. Instead, due to changes in 
the structure of the American workplace, they were caught in 
the transition from a relatively robust system of defined 
benefit pensions to the self-reliance focus of today's defined 
contribution landscape. Giving the baby boom generation the 
chance to catch-up for years they may not have saved adequately 
is not only fair, it is critical to helping them build a bridge 
to a financially secure retirement.
    In the end, each American must accept significant 
responsibility for his or her own retirement security. But the 
government must help by reducing the tax burden on those who 
save and by making the choices simple and understandable. With 
that end in mind, our national retirement savings strategy must 
include an effective set of incentives that will expand 
personal savings. And the proven IRA vehicle should be the 
backbone of that effort.
    The IRA changes enacted in the 1997 Act were a significant 
first step toward an improved set of rules for promoting 
personal savings. But more remains to be done. Today, with an 
improved federal budgetary picture, it is time to act on 
additional proposals, like those included in H.R. 1546, that 
will directly address America's impending retirement savings 
crisis. Enhanced retirement savings incentives are the most 
effective investments we can make as a nation. Those 
investments will pay back many times over in increased 
retirement security for Americans and in a stronger economy. 
For these reasons we urge the members of this Committee to 
include proposals that will strengthen the IRA as part of any 
legislation that is reported this year.
      

                                


           SAVINGS COALITION OF AMERICA MEMBER ORGANIZATIONS

Aetna Retirement Services
Alliance of Practicing CPAs
American Association of Engineering Societies
American Century Investments
American Council on Education
American League of Financial Institutions
Americans for Tax Reform
Bank of America
Charles Schwab Corporation
Citigroup
Coalition for Equitable Regulation and Taxation
Consumer Bankers Association
Credit Union National Association
Edward D. Jones & Company
Financial Network Investment Corporation
G.E. Capital
HD Vest Financial Services
Household International
Independent Insurance Agents of America
Investment Company Institute
Institute of Electrical & Electronics Engineers--U. S. Activities
Merrill Lynch & Company, Inc.
Mortgage Bankers Association of America
National Association for the Self-Employed
National Association of Federal Credit Unions
National Association of Independent Colleges and Universities
National Association of Uniformed Services
National Taxpayers Union
Prudential Securities, Inc.
Retirement Industry Trust Association
Savers & Investors League
Securities Industry Association
The Bankers Roundtable
United Seniors Association
United States Chamber of Commerce
Wheat First Butcher Singer
A.G. Edwards, Inc
America's Community Bankers
American Bankers Association
American Council for Capital Formation
American Express Financial Advisors
American Nurses Association
Association of Jesuit Colleges and Universities
Bankers Pension Services
Chase Manhattan Bank
Citizens for a Sound Economy
College Savings Bank
Countrywide Credit Industry
Delaware Charter Guarantee & Trust Company
Fidelity Investments
First Trust Corporation
Gold & Silver Institutes
Home Savings of America
Independent Community Bankers of America
Institute for Research on the Economics of Taxation
International Association for Financial Planning
Lincoln Trust Company
Morgan Stanley Dean Witter
NASDAQ Stock Market
National Association of Enrolled Agents
National Association of Home Builders
National Association of Realtors
National Rural Electric Cooperative Association
PaineWebber, Inc.
Resources Trust Company
Retirement Accounts, Inc.
Scudder Kemper Investments
Sterling Trust Company
USAA
United States Chamber of Commerce
      

                                


    Chairman Archer. Thank you, Mr. McCarthy.
    I don't have any questions, but I do want to explore one 
aspect of where we are in this country and what concerns me and 
that is the dearth of savings.
    We have heard a number of times today, the term ``personal 
savings.'' And is it not true that really what we need to be 
concerned about is total net private savings, not just personal 
savings? Because in the end the benefit of personal savings is 
to invest, to create jobs and productivity, at least according 
to my basic sense of economics. And in that regard all of 
private savings, whether they be personal or whether they be 
held by a business entity, reaches that goal.
    The personal savings, to be productive, must be invested in 
some sort of a productive vehicle. If that productive vehicle 
is able to accumulate additional savings internally, those are 
equal to the personal savings that are invested and become, to 
me, a far better measuring tool as to where we are and where we 
want to go. And, as I understand it, private--not just personal 
but private net savings in this country are at an alltime 
historic low and are negative and not positive. Is that correct 
as you understand the figures right now?
    Mr. McCarthy. I would agree with the Chairman's remarks 
regarding the need to look at the savings in aggregation.
    The personal savings rate as a statistic compiled by the 
Bureau of Economic Analysis is, in fact, negative. I would say 
that it is at best an imperfect measure in the sense that it is 
a residual effect. It doesn't take into account wealth that 
grows outside.
    But I don't think anybody is arguing that savings is 
adequate as it stands now. It clearly needs improvement--both 
ranked with other industrialized nations and to create capital 
formation and thus bring down things like equilibrium interest 
rates and stimulate economic growth, we believe that H.R. 1546 
and a number of other proposals before this Committee right now 
are steps in that direction.
    Chairman Archer. To go back to your analysis, which I 
cannot argue with, because if the accumulation of wealth 
increases, then certainly our savings have gone up, but, on the 
other hand, if the market goes down and, say, personal savings 
rates have gone down, so that works both ways. When the market 
goes up, we do not count that in this standard to determine 
what our personal savings rate is, but when it goes down, we do 
not count it as a negative.
    Mr. McCarthy. The Federal Reserve flow of funds data takes 
into account equity holdings in-household, and it does meter it 
both ways. It catches it up on the upside and catches it on the 
downside, and that becomes the basis for our analysis into 
things like whether people are adequately prepared.
    Chairman Archer. I thank you very much, all of you, for 
your testimony.
    Does any Member wish to inquire?
    Mr. Portman, and then Mr. Weller.
    Mr. Portman. Thank you, Mr. Chairman.
    I want to thank the panelists who are with us now and also 
Jeanne Hoenicke, who spoke earlier regarding the necessity for 
reforms in our pension system, to try to increase that savings 
rate that the Chairman was just talking about, private and 
personal.
    APPWP has been very helpful in putting together this 
proposal over the years, Mr. Stewart, and has been particularly 
helpful in working with us and people in the trenches who every 
day deal with these issues; and I want to ask you a couple of 
quick questions about limits. Can you explain why it is so 
important to raise defined contribution limits?
    Mr. Stewart. First of all, it is not really an increase, it 
is more of a restoration of the limits that H.R. 1102 would 
impose.
    Second, the firm that I work for works with mostly small- 
to medium-sized businesses. In lot of those, the businessowners 
are telling us they have had a tough 5 to 10 years getting 
their business started. They can't afford to start a retirement 
plan. The key decisionmaker may be in their forties or fifties 
at the time they get the business on solid ground. They need to 
make up for the past years that they have not been able to 
contribute to a plan. The restored limits would incent them to 
put enough money away in a qualified tax plan and to get that 
tax-qualified status they need to share some of those benefits 
with the rank and file workers.
    Mr. Portman. That is the point, and we tried to make that 
point this morning. This is a question of getting the 
decisionmakers to make the right decision and get them to have 
the same stake in this plan that the lower-paid workers would 
have. Just in terms of limits, in 1986, the limits on 401(k)s 
and 403(b)s was $30,000. We are proposing raising it from 
$10,000 to $15,000.
    Paula, thank you for your testimony. You are representing 
so many groups I don't know where to start, but all of them 
have been active in the coalition over the last few years and 
you tend to represent, when you look at these three groups 
listed, more of the small business community.
    Can you give us a sense of how important it is to reduce 
setup costs and ongoing PBGC premium costs for small business 
and whether those provisions of the bill are going to make any 
difference in terms of getting more small employers involved in 
establishing pensions?
    Ms. Calimafde. If I can go back to the limits question 
quickly, because from the small business perspective and also I 
think it is the large business perspective, it is important to 
understand that the upper middle income taxpayers and upper 
income earners have, in effect, been disenfranchised from the 
retirement plan system. And if you imagine the Social Security 
system if you took out all of your upper middle income 
taxpayers or your upper income taxpayers or earners and said 
you get no benefits or very reduced benefits, what would happen 
to that system? Many people believe that it would have serious 
consequences to that system being kept energized; and, in a 
sense, that is what has happened in a qualified retirement 
system. These limits have kept out the key employees of the 
companies from having any really meaningful benefits coming 
from the retirement plans; and, consequently, the normal 
pressure to have a plan or increased contributions isn't there.
    Small businesses want to sponsor these plans. As I 
mentioned earlier, it is a cost-benefit analysis. If the costs 
of the plan are too high in relationship to what the benefits 
of the owners and key employees can get, they just simply will 
not sponsor the retirement plan.
    I think what is interesting about H.R. 1102 is that it 
keeps all of the reforms that were put in in the eighties to 
stop abuse and it strips away all of the unnecessary 
complexity, and so it will definitely reduce costs for small 
businesses.
    My estimation is this bill, if passed, would encourage 
small businesses to sponsor retirement plans.
    Mr. Portman. Mr. MacDonald, the Chairman talked about the 
need to look at investments in productive vehicles, that is the 
key, and I could not agree more, and that is why I think the 
pension area is so important.
    You mentioned 28 percent of investments in equities are now 
pension investments. If you can just touch on that, getting 
into the key issues with regard to savings, what will the 
impact be on savings by having an expansion of pensions and 
having more money being invested in these kinds of vehicles?
    Mr. MacDonald. We personally believe, both from a GTE 
perspective and an ERIC perspective, that the expansion of the 
limits is going to encourage employers to stay with their 
plans, particularly defined benefit plans. And what you are 
really talking about here is the ability to have a disciplined, 
secured, guaranteed approach. It is funded. It is there. It is 
in the bank. It creates that savings. It has automatic 
participation. And that is what we are ultimately trying to do 
with all of our people. We are trying to get them to think 
about the retirement security that they need to have when they 
end their career.
    Mr. Portman. Thank you. Thank you, Mr. Chairman.
    Chairman Archer. Thank you, Mr. Portman.
    I am constrained to interject another little bit of an 
issue into this discussion today, very briefly.
    I have long felt that if individual workers realized their 
equity ownership as beneficiaries of a pension plan, they would 
be better citizens. What would it take to create a system where 
every worker would get a statement at the end of each year as 
to what their ownership was in the stocks and bonds held by the 
pension funds?
    Mr. MacDonald. I can only speak for my company, but those 
statements exist today in our company. We go to great pains, 
and I think many large corporations do, to talk about two 
things: What is in the account and what are you accruing as an 
accrued benefit and how that is invested. Each year we go to 
great pains to talk about the investment of those funds and 
provide that information to people. It is a matter of fiduciary 
responsibility. It is there.
    The people who run those investment funds have to report to 
people like myself and tell me. So it is only a matter of 
reproducing and providing it to those same people.
    I also think that it gives them a spirit of ownership. 
Using the ESOP is a good example of that. If they were able to 
reinvest in dividends and have the employer tax deduction, in 
essence what you are really doing is creating further ownership 
in your own company, and that is what we are looking for. We 
are looking for loyalty and commitment. That is what will 
encourage those types of participations in those types of 
plans.
    Chairman Archer. In your report to your workers, do you 
literally give them how much money is in their account and 
identify their beneficial ownership in x number of shares in 
each of the corporations to show what their actual ownership 
is, beneficial equity ownership in each of corporations? Or do 
you simply just list the total number of corporations that the 
entire pension fund is invested in?
    Mr. MacDonald. In fairness, it is the latter. We list the 
total corporations that we are involved in.
    However, to your first point, they don't have to wait until 
the end of year. They can literally call up every day if they 
wanted to and get their pension estimated, their accrued 
benefit to date on an IVR system, put in when they want to 
retire, what the assumptions are that they want to use, so they 
are constantly projecting. That is our way to get them to 
understand the criticality of savings.
    Chairman Archer. If you went one step further, it would be 
even better because if the individual workers saw I have x 
thousands of dollars in my account and that means that I own 10 
shares of IBM and I own 5\1/2\ shares of--whatever, the various 
corporations, it would identify I think more particularly to 
each worker their stake. But I applaud you for what you are 
doing.
    Mr. Neal.
    Mr. Neal. Thank you, Mr. Chairman. I thought the panels 
were very good, Mr. Chairman, and their presentations were 
pretty strong.
    Given the current level of activity with respect to 
conversion of traditional defined benefit plans to cash balance 
plans, in some instances resulting in long-term workers being 
disadvantaged, what notification requirements could you support 
for the workers whose benefits are being changed and would you 
support mandatory individual statements for those employees who 
ask for them?
    Mr. Stewart. There are provisions in H.R. 1102 that APPWP 
supports. As far as disclosure, we feel there needs to be 
adequate disclosure for plan members to know what their 
benefits are going to be--what their benefits are before the 
conversion and what they are going to be after the conversion.
    We don't want to necessarily increase the burdens on the 
plan sponsors, but I might say about cash balance plans that in 
many cases, it is the employees who are asking for cash balance 
plans because they don't necessarily appreciate or know enough 
about the traditional defined benefit plan. They like the idea 
of a cash balance plan because they can see an account building 
up in their name, sort of getting back to what the Chairman was 
talking about.
    But we would support adequate disclosure.
    Mr. Neal. Anyone else?
    Mr. MacDonald. If I may just interject for a second, the 
issue of providing people with information I think most 
companies are very comfortable with, but somehow this cash 
balance thing has gotten completely out of sync. There appears 
to be a feeling that it is all done for savings. That is not 
the issue here.
    The savings issue is really an accounting process that 
people work through the accounting ledger. What is going on is 
that the demographics of the work force are changing. Case in 
point. We just bought a company in 1997, BBN. It is an Internet 
company, 2,000 employees. This year, we will end with 7,000 
employees; and, next year, we will end with 14,000 employees.
    When I talked about our pension plan, rule of 76, age plus 
service for early retirement, they fell asleep. These are 
Internet working people. They are basically looking at 3 to 5 
years, and then they are going somewhere else. Portability is 
becoming the issue. There are a lot of us who would like to 
stay and have the handcuffs and keep people in the jail. We are 
competing for talent. You have to basically look at the needs 
and what the talent is. There is a shortage of labor. We have 
to do what employees are demanding. This is not an issue of 
savings. This is an issue of the war for talent in the 
marketplace.
    Mr. Neal. Any other panelists?
    Ms. Calimafde. In the small business area, there are 
relatively few defined benefit plans, so this is a nonissue for 
small business, unfortunately.
    Mr. Neal. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman.
    I want to thank the panelists for participating today.
    Mr. Stewart, just looking back at statistics, when we talk 
about cash balance conversions, since the eighties, 7 million 
workers have been affected by transition from cash balance 
plans involving 400 companies, including 22 Fortune 100 
companies. When I think about it, for a worker, their pension 
and retirement program is pretty sacred. From the standpoint of 
a company, what is in the interest of a company to convert from 
a traditional pension plan over to a cash balance plan?
    Mr. Stewart. On Friday I was consulting with one of our 
existing customers in Chicago. It is a fairly large nationwide 
company that has locations in several different parts of the 
country. They have a traditional defined benefit plan and a 
traditional 401(k). They have a lot of younger workers, as was 
alluded to earlier. Their formula is a little bit complicated, 
and they want to attract newer, younger workers who are 
probably going to be moving on. The statistics would say that 
the average U.S. worker would have seven to eight jobs before 
they retire.
    So it isn't necessarily a cost savings that they are 
looking at. In fact, the specific instructions that they gave 
us as we went home to prepare a proposal for them, was to keep 
costs the same. We just want a plan that will be more 
understandable to our employees, that they can appreciate a 
little more.
    I think in the traditional DB arena, employees just don't 
know enough about----
    Mr. Weller. Reclaiming my time, the Wall Street Journal 
has, of course, highlighted some of the problems with the 
conversions, and I am sure that you have read those thoroughly. 
And in the Chicago area there have been some conversions 
affecting many of my constituents.
    Senator Moynihan and I have put in legislation two 
companion bills in the House and Senate that would require 
individual statements showing a comparison of the benefits 
under the old plan and the new plan for each of the employees 
because we feel that employees have a right to know the impact 
because we assume that the company knows the impact on the 
company bottom line, but the employees need to know the same.
    What disturbs me, though--and we have an example of where 
one consultant pitched a cash balance plan to a potential 
client. He said, ``One feature which might come in handy is 
that it is difficult for employees to compare prior pension 
benefit formulas to the cash balance approach.'' Don't you feel 
that employees have a right to know the impact of any 
conversion?
    Mr. Stewart. That is an unfortunate comment that the 
consultant had made. I agree that employees should know about 
the change in any benefit plan, whether it is health plan or a 
pension plan.
    Mr. Weller. Do you feel that employees deserve a comparison 
sheet before the conversion showing under their current 
situation their current pension plan and the proposed change, 
what it will mean for them in retirement?
    Mr. Stewart. I think the Association would advocate a 
middle ground approach which is not so burdensome as an 
individualized statement per member. Here is a scenario for a 
30-year-old, 40-year-old, 60-year-old with x number of years of 
service, average compensation being different.
    Mr. Weller. How can the corporation calculate the impact on 
the corporate bottom line without knowing the individual bottom 
line for each individual employee?
    Mr. Stewart. Most of these conversions would involve plans 
with thousands of employees. They wouldn't have it broken down 
one by one. It would be on a bottom-line, plan-level basis.
    Mr. Weller. Senator Moynihan and I believe that we have 
offered some middle ground legislation. We don't prohibit you 
from making a conversion. We just believe that employees have a 
right to know with individual statements. Would you support the 
legislation Senator Moynihan and I have offered?
    Mr. Stewart. We would be willing to work with you to try to 
come up with an acceptable middle ground approach.
    Mr. Weller. I would like to work with you and your 
associates. The corporation certainly knows and whether you are 
a new employee or long-time employee you should know the bottom 
line on the individual impact on your retirement with any 
conversion that might occur.
    Mr. Stewart. I appreciate your comment. I think employees 
do need to be aware, and the more that the employees know about 
the plan the better the plan is going to be.
    Mr. Weller. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Cardin.
    Mr. Cardin. Thank you very much, Mr. Chairman.
    Let me thank all of our witnesses for their participation, 
not just in the hearing today but in helping Mr. Portman and I 
on H.R. 1102 and your other work in pension areas.
    First, following up on the conversation about employee 
education, this morning Ms. Dunn commented on the importance of 
making sure that employees are educated on retirement options 
and what they need to do to make sure that they have secure 
retirement.
    H.R. 1102 clarifies when employers offer retirement 
planning education that it is not taxable to the employee and 
that it clarifies that employers can offer retirement planning 
on a nondiscriminatory basis in a fashion similar to a 
cafeteria benefit plan without the cost being taxable to the 
employee.
    Mr. Chairman, I would like to enter into the record a 
letter of support of these provisions from the Consumer 
Federation of America. CFA points out that education and 
planning increases savings. More specifically, those savers who 
develop an overall financial plan report roughly twice the 
savings of those without a financial plan, but CFA knows that 
most Americans are ill-equipped to develop their own retirement 
planning guide.
    Chairman Archer. Without objection, so ordered.
    [The information follows:]
    [GRAPHIC] [TIFF OMITTED] T0332.001
    
    [GRAPHIC] [TIFF OMITTED] T0332.002
    
      

                                


    Mr. Cardin. I appreciate your response to some of Mr. 
Portman's questions as to the specific provisions in H.R. 1102 
as to what impact it would have.
    The Chairman raises, I think, the initial challenge. We 
need to increase more private savings. Part of what H.R. 1102 
does is, as Mr. Stark points out, is restore some of the 
previous limits. It doesn't really increase in many cases, it 
just restores.
    The question is, will that really increase the amount of 
money that will be put away for savings and retirement if 
Congress were to enact these different limits? I guess that 
would be the first question that I would appreciate your 
response to.
    Mr. Stewart. In our opinion, APPWP, yes, it would lead to 
more plan formation. The money contributed to a plan, as you 
know, is more difficult to get at. It is going to be saved for 
retirement--for long-term retirement needs, yes.
    Ms. Calimafde. Mr. Cardin, I would like to give that a 
shot.
    I think there are sort of two answers or two ways of 
looking at this. One is, at the National Summit on Retirement 
Savings it became clear that education was going to be critical 
to increasing awareness about retirement security. And I don't 
know if you have been hearing these ads on TV, and I don't know 
if they are on the radio now, by ESOP and EBRI where they are 
talking about how important it is to save, to save early and to 
save in a tax-free environment, but they are very effective.
    And my hope is that, as this information gets disseminated, 
young people in their thirties who would probably not put a lot 
of money into a 401(k) plan are going to start thinking twice 
and say maybe I better participate a little bit more now 
because I know what that tax-free growth is going to do when I 
am 60.
    The other answer is, in the small business area, all of the 
employees are carried along with the retirement plan, and a lot 
of these employees really can't save. They are just making 
enough money to live. So the retirement plan sponsored by the 
company is their savings. If they get a 5-percent profit-
sharing contribution or a 7-percent profit-sharing 
contribution, that is real money growing tax-free that they 
wouldn't have saved otherwise.
    To the extent that H.R. 1102 is going to make it easier for 
small businesses to sponsor plans, and one of those factors I 
think is increasing the limits or returning the limits to where 
they were 17 years ago, I think you are going to see greater 
savings occurring even amongst the lowest bands of the income 
levels because those people are employees, they have to get 
retirement benefits, and very often they are very meaningful 
retirement benefits.
    Mr. Cardin. You really anticipated my second question. We 
need to get to younger workers and low-wage workers earlier so 
they start putting money away, and the provisions here would 
really make a difference on younger people, smaller employers 
actually setting up plans.
    Mr. MacDonald.
    Mr. MacDonald. Yes, just looking at it from a defined 
contribution benefit, if you eliminate the 25-percent cap, you 
are really affecting the low-paid worker. The high-paid worker 
is going to get to the $30,000 maximum. But what you are really 
doing is going to the low-paid worker and allowing him or her 
to save more. That is number one.
    Number two, it bothers me that perhaps some of the 
legislation will be driven by Wall Street Journal articles. 
Yesterday's article was completely inaccurate. First of all, it 
described GTE as going to a cash balance plan. That is not the 
case whatsoever. In fact, I looked for the retraction this 
morning in the Wall Street Journal. It will be run tomorrow.
    The bottom line is if we can increase the limits from 160 
to 235, you immediately are securing a benefit, you are 
guaranteeing a benefit for that person. That savings exists. So 
between taking the 25-percent cap off the defined contribution 
as well as securing the defined benefit plan which is a secured 
guaranteed plan, you have ensured savings for people.
    Mr. Cardin. Thank you.
    Thank you, Mr. Chairman.
    Chairman Archer. Perhaps the Members of the Committee would 
benefit from a brief explanation of the difference between a 
defined benefit plan, a cash balance plan and a defined 
contribution plan?
    Ms. Calimafde. Do you want to try that?
    Mr. MacDonald. There is not enough time in the day.
    Chairman Archer. It really would take that long?
    Ms. Calimafde. I will do defined benefit and defined 
contribution. You end up with cash balance plan.
    Chairman Archer. What is the difference between a cash 
balance and a defined contribution?
    Ms. Calimafde. I will try.
    They both have individual account balances. The defined 
contribution plan, whatever is in that plan when the 
participant retires, is what the participant receives. So the 
earnings investments, whether good or bad, follow along with 
that employee.
    As I understand the defined benefit plan, when it converts 
to a cash balance, it looks like a defined contribution plan, 
but it isn't all the way a defined contribution plan. What is 
happening is that there are individual account balances so 
participants can see them, but I believe that the investment 
earnings are still guaranteed, aren't they? So a cash balance 
is really a hybrid type of plan.
    Mr. MacDonald. Let me put it a different way.
    The employer, in a cash balance plan, still assumes the 
risk. It is the employer's responsibility to ensure that the 
accrued benefit is paid so that when--it may be on a fixed 
scale starting from a younger age to an older age--The fixed 
amount is there. The employee has the ability to take it on a 
portable basis elsewhere, but the employer still assumes the 
risk. In a defined contribution plan, in theory, you could be 
putting your money in, and it could be going away.
    Chairman Archer. So under the cash balance concept then, 
the principal amount cannot decline? The employer guarantees 
that that principal amount will not decline?
    Mr. MacDonald. Whatever the accrued benefit obligation is, 
it is there. It is a defined benefit plan. Everyone gravitated 
away from----
    Chairman Archer. So what you are doing is converting the 
defined benefit into a cash balance so that the employee will 
be able to take that with him or with her if they change jobs, 
in effect?
    Mr. MacDonald. That is one example, yes.
    Ms. Calimafde. Another thing, the individual sees their own 
account balance.
    One of the problems of a defined benefit plan, and it is 
unfortunate in a sense, is that it is one big fund and the 
employee knows if they stay with the company until retirement, 
they might get 50 percent of their salary paid for as long as 
they live or their spouse lives, but they have an amorphous 
kind of promise.
    In a defined contribution plan, they have an account 
balance that they see every year. So this is an attempt to try 
to give sort of that individual account balance concept to the 
defined benefit area.
    Mr. MacDonald. Another example, Congressman, the defined 
benefit is like a hockey stick. It limps along, and then all of 
a sudden when I get the right age and the total amount of 
service, in my case age plus service equals 76 points, it jumps 
right up. But I have no idea what that accrued benefit is when 
it jumps up because it is based on final average earnings. The 
accrued benefit in a cash balance plan is an amount of money 
that is set aside each and every year and people can track it. 
They know what they have.
    Ms. Calimafde. It is interesting because the young, more 
transitory employees like the defined contribution plans, the 
401(k) plans. The older employees understand that the defined 
benefit plan will provide a stream of payments following them 
throughout their lifetime, and that is why it is sort of hard 
for companies to put these plans together in a way that the 
employees are appreciating them the most and getting the most 
out of them.
    Chairman Archer. Thank you for that explanation. I don't 
know if I am the only one who needed it.
    Does any other Member wish to inquire?
    Mrs. Johnson.
    Mrs. Johnson of Connecticut. We have mentioned several 
times in this hearing the need to set priorities, and one of 
the great advantages of the Portman-Cardin bill is that through 
its many provisions the hope is that it will bring more people 
into the pension system. People not participating in the 
private pension system will have a chance to come into that 
system.
    That will certainly cost some money, but since the goal is 
to get people in earlier, to have even small holdings held over 
a longer period of time, that seems to me to be of a higher 
priority than raising the amount one can contribute to an IRA. 
Because even though that is very nice, if you talk to any one 
of your kids who is married and raising children, they don't 
have the money--they are lucky if they can get one IRA 
contribution in, and it is tough to try to be saving as much as 
the current law allows.
    So to move from $2,000 to $5,000, that is nice; but my 
understanding is that will not bring new people into the 
system. While it will allow those within the system to retire 
with greater comfort, by the criteria of expanding pension 
savings opportunities, that proposal is not powerful. Would you 
disagree with me on that?
    Mr. McCarthy. I would disagree.
    First of all, the demographics and work patterns in the 
American work force are changing to the point--we talked about 
an Internet company, the transitory nature of the worker. As a 
result, there are many instances now where, even if the 
employer is sponsoring a plan that is an attractive plan and a 
generous plan, because of worker transition from place to place 
and waiting for vesting or waiting for entrance eligibility 
into plans, they are frequently not covered for periods of 
time. That is especially true of people who drop in and out of 
the work force, whether they are attending to child care or any 
other need.
    I agree with you that maximum coverage is the goal. What I 
am asking that you recognize is that there is a number of 
different worker profiles that need to be addressed. One of 
those is the fact that 50 percent of workers are not covered 
whatsoever and, as a result, need to have a simple and portable 
vehicle.
    What we are finding is--and I agree with you also, 
completely, that the issue is critical mass. We find, and EBRI 
(the Employee Benefit Research Institute) will tell you this, 
that there is a critical mass and it varies by person. But once 
you achieve that critical mass, your mindset changes and your 
behavior changes and you go from being a spender and a consumer 
to a saver. The savings becomes a thing to be nurtured.
    As a result, we think that raising the limit, which is 
really where the limit would be if it had been indexed 
originally, will help people get to that critical mass. One 
contribution and then a dormant account is not anybody's goal. 
A contribution of enough size so that you can buy a couple of 
different funds or enough shares of a couple of different 
companies, so that you can see some investment performance and 
at some point you become the owner of a segregated pot of 
assets that doesn't leak away to these ancillary demands. And 
you have gotten enough size that you begin to care about the 
health and well-being of that fund of assets.
    Ms. Calimafde. Mrs. Johnson, I would like to try my hand at 
that one.
    When I think about the marriage penalty--and that would 
affect me and it would affect a great number of taxpayers 
across the country. When you look at the numbers, it appears 
that each family might get $100 or $200. I think the way that 
our economy is today, that $100 or $200 probably would not go 
very far. When you contrast what that might cost compared to 
H.R. 1102 and what this could conceivably do for small business 
employees, I have a very hard time justify spending $100 and 
spreading it to everybody versus giving what could amount to 
real retirement security for many, many Americans. That does 
not quite answer the question.
    I guess if you ask me directly I would say I would rather 
see the money go into H.R. 1102. I think that would ultimately 
help the country. But if I had to compare the marriage penalty 
to increasing the IRA, I would increase the IRA limits. So I 
think there are different steps of priorities.
    Mr. MacDonald. I would argue that we can't lose sight of 
the fact of section 420. The last panel talked about health 
care. The ability to fund retiree health care through pension 
assets is important. This is a package, and many of us look at 
it that way.
    Mrs. Johnson of Connecticut. Thank you.
    Chairman Archer. Let me jump in. We are in an area that 
intrigues and interests me tremendously. We are now speaking of 
personal IRAs as retirement accounts. That is a whole concept 
that we are speaking of here. Yet the pressure has been on the 
Congress and it has built over the years to permit the 
withdrawal of those funds so they are not there for retirement. 
Those political pressures are not going to go away.
    There is one developing today that is very desirable, a new 
widening of the assistance for adoption and a strong push to 
allow IRAs to be withdrawn for adoptions, and on and on and on.
    So we can't simply discuss this in the vacuum that we are 
talking about retirement accounts. We also have to consider the 
fact that these funds can be taken out under certain 
circumstances for first-time home buyers and for medical care, 
and those pressures will continue to mount on the Congress. So 
I just want to say that it is more than just talking about it 
as a retirement account.
    Mr. Cardin. I want to concur in your comments. One of the 
frustrating points is that we try to develop policies to 
encourage more money being put aside for security or 
retirement. On the other hand, we all yield to the easy 
pressure to allow invasion of retirement funds for worthwhile 
purposes but certainly not for retirement. We make it too easy.
    I think as we look to expand the program and do different 
things that we really should be reevaluating those policies. It 
is hard to retract what has already been done, but as we look 
for changes, I would welcome in joining the Chairman to see if 
we can't do something about some of these provisions.
    Mr. McCarthy. I manage a book of business which is about 
$160 billion in IRA accounts. Last year, we paid out slightly 
more than $10 billion in distributions. If you look at our 
distributions, over 80 percent of them go to people over 59\1/
2\, as the law incents that. About 15 percent--between 15 and 
17 percent goes to people under 59 and a half who are 
experiencing some type of dislocation, that they need these 
funds and funds are not available for them for one of the 
enumerated exceptions under the IRS Code 72(t) which is where 
all of the medical expense, adoption expense and all those 
exemptions come in.
    Less than 2 percent in the aggregate of these exception 
reasons--we see in the distribution flow that we have, and it 
is probably the largest in the industry, less than 2 percent in 
the aggregate represents all of these exceptions combined.
    What you see is a phenomenon very akin to 401(k) loans. If 
you create the perception of access, people will deposit money 
because they don't think that they are throwing the money over 
a high brick wall and they can only go visit it until they are 
59\1/2\. What you see when you put a loan provision into a 
401(k) plan is participation jumps up, a multiple of what you 
get in actual loan disbursements. So, as a result, the 
perception of access creates new savings, and that is what 
72(t) and these acknowledgments of other life events do.
    EBRI will tell you that employer plans outstrip in value 
the value of all of the owner-occupied residences in the 
country. And, as a result, since it is such a large portion of 
people's holdings, if you don't acknowledge these other life 
events, as a result people are not going to save. They are 
going to have a zone of paralysis and say I can't afford to 
lock my money up until I am past 60.
    Mr. McCrery. Mr. McCarthy, are you saying that enabling 
people to withdraw their IRA money for purposes other than 
retirement actually encourages savings?
    Mr. McCarthy. I am saying that absolutely and emphatically. 
The perception overweight in people's mind as compared to their 
actual behavior, and you get a lot more savings because people 
can need it. But once you get that critical mass, you don't 
want to take that money out. You are going to find another way 
to meet that need unless you absolutely have to.
    Mr. McCrery. So if we had a different tax system and we had 
an unlimited IRA, you could put in whatever you want tax-free 
and you paid tax on it when you brought it out, that would 
encourage savings?
    Mr. McCarthy. I was wondering when that question was going 
to come. I am all for it. It would make my peers in the other 
tax product areas jealous, but I would be all for it.
    Mr. McCrery. It would be a consumption tax, basically?
    Mr. McCarthy. Essentially.
    Mr. MacDonald. There would be one fundamental difference 
with an IRA, and I am not here to debate my colleague, but in a 
401(k) plan when you take that loan out, indeed you can take 
that loan out, but you have to repay it and you repay it 
through payroll deduction. So you are protecting that savings. 
And when you leave the company, that loan has to be paid down 
as well. So there is a little difference in having the freedom 
of savings in that regard.
    Mr. McCrery. But Mr. McCarthy's point is a good one. The 
more flexible you make these savings vehicles, the more 
attractive the savings vehicles are and the more likely they 
are to, in fact, not spend when they get the money but saving. 
And that is good, not bad.
    Chairman Archer. Well, the gentleman is correct that the 
Chairman--one of the aspects of the Chairman's tax nirvana is a 
zero tax on savings, and I hope that someday this country can 
get there because I believe we will benefit enormously from it 
in the future.
    But there are so many cross currents in this--and you talk 
about human behavior. I know myself that I simply took savings 
out of another vehicle to put into an IRA to take advantage of 
the tax benefit. That was not an increase in net savings. It 
was merely a transfer from one vehicle to another vehicle. An 
awful lot of us who are in a position to do that are definitely 
going to do that. We are going to do all that we can to lighten 
our tax burden within the letter of the law.
    To what degree that impacts on behavior, I am sure we have 
final studies to be able to analyze, but we need more savings 
and we need to do those things that protect existing savings, 
which is just as important as increasing new savings.
    If we dig a hole in an existing savings, that hole has got 
to be filled up before we get an increase in savings. So 
protecting existing savings, which is the death tax and other 
things of that nature, are just as important as the incentive 
for new savings. Then we have to find a way to get new savings, 
too, and try to accomplish both of them in the most effective 
way.
    Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman. I appreciate the 
opportunity to respond briefly to a statement made by one of 
the witnesses.
    As I understood it, you said that by eliminating the 
marriage penalty couples would receive $1,400. It is higher for 
some and less for others, but on average it is $1,400. I 
certainly believe that opportunity to eliminate the marriage 
tax penalty and free up $1,400 that otherwise would go to Uncle 
Sam that people could deposit into their IRA or 401(k) or 
whatever they set aside for retirement is a good idea.
    Thank you, Mr. Chairman.
    Ms. Calimafde. Mr. Weller, are you referring to if you 
completely repealed it? Because I was looking at a phase-in.
    Mr. Weller. A complete repeal would be $1,400.
    Ms. Calimafde. I can't remember the number. I was talking 
about if you phased in, what it would be worth.
    Mr. Weller. The Marriage Tax Elimination Act, which has 230 
cosponsors, does entirely eliminate the marriage tax penalty. 
But you may recall last fall the House passed a partial 
elimination of the marriage tax penalty which benefited 28 
million couples. That is about $240. So that is real money for 
people. That is a month of child care or it is 10 percent of 
what you might want to put into your IRA.
    Ms. Calimafde. I am not saying that it is not. Don't get me 
wrong. But if that same amount of money for that bill went 
toward something like H.R. 1102 and you were able to get 
literally millions of employees now being covered and receiving 
a 5-percent contribution to that plan and it was able to stay 
in that plan for a number of years, I don't think that there 
would be any comparison as to if you looked at it 20 years 
later, which person would be better off, the one who got the 
$240 that they would most likely spend versus the person who 
might have gotten $500, $600 in a tax-free account that they 
couldn't touch for a number of years.
    Mr. Weller. As one who desires to eliminate the marriage 
tax penalty and supports retirement savings, I would beg to say 
if you eliminate the bias against married couples they are 
going to have more money to set aside for savings. If you do 
nothing about the marriage tax penalty, it is still there.
    Ms. Calimafde. Ideally, you could do both. That would be 
the ideal world.
    Chairman Archer. Thank you.
    So often we get a little myopic in the Congress. I fear we 
are doing some of that on the floor today as an emotional 
response to Littleton.
    But as much as I want to get to a zero tax on savings, the 
Tax Code is not the real enemy in savings in this country. The 
real enemy of savings is a plastic credit card. We had no 
greater incentives in the Tax Code when this country did save, 
but we didn't have the credit card. So the battle is with 
instant gratification and the ability to realize that instant 
gratification through the credit card. Do you have any 
suggestions as to what, if anything, we might do about that?
    Ms. Calimafde. The only thing I can think of is education.
    I think what the fellow on my far left mentioned, I have 
seen that, too. When someone has an account balance in a 401(k) 
plan and it is relatively small, let us say it is $400, they 
may take it out in a plan loan to buy a prom dress or 
something--things that are not critical. Once that number 
starts getting to a level, and in my mind the level seems to be 
$1,000 in savings, all of a sudden it seems like something that 
they need to protect and they don't want to invade it. If you 
just can acquire enough, then it seems that there is a tendency 
to leave it alone.
    The second is just education. We are all living longer. You 
cannot retire only on Social Security and live in the manner 
you are accustomed to, in most cases, and you are going to have 
to provide for your own retirement; and to do that the 
retirement system is the best method to accrue these funds. So 
I think it is education.
    Chairman Archer. I certainly agree with that. But human 
nature is a very, very powerful force. When you are presented 
with the opportunity to acquire something that you feel like 
you need, you may not need it but you want it desperately 
today. You do not have to be concerned about whether you have 
money in an IRA or whether you have money anywhere because that 
plastic is in your pocket. All you have to do is present it and 
you have got it. Then the bill comes at the end of the month 
and it is hard to see what your total debt is because the only 
thing that is really featured is your minimum monthly payment, 
this is the real enemy today in this country for savings.
    But I am not dismissing the need to do what we need to do 
in the Tax Code, but I think we need to focus some way or other 
on the big picture.
    I recognize Mr. Portman who has been trying to get into 
this discussion.
    Mr. Portman. I restrained myself earlier trying to compare 
IRAs to pensions and the marriage penalty and so on, but I will 
say what Ms. Calimafde just told you is the answer to the 
problems is H.R. 1102.
    Ms. Calimafde. Here, here.
    Mr. Portman. Seriously, I think a key point is education--
what Ms. Dunn raised earlier and then what Ben Cardin followed 
up with, this letter from the Consumer Federation of America. 
We should do a lot more in terms of education, and more should 
be done at the workplace where most Americans are going every 
day by getting folks into saving, whether it is an IRA or a 
pension plan.
    One other point about the distinction--and, as you know, 
there is the IRA $2,000 to $5,000 increase in our bill as well, 
but I do think we need to keep in mind the power of the 
matching contribution and how that generates over time such 
additional savings; and, second, how these are forced savings 
plans.
    When you have this sort of program in place it forces you 
to save, and that is going to help those folks who are not 
saving now who tend to be in a small business where there is 
nothing or they are in a larger business who are low- or 
middle-income folks who think they can't save enough, and the 
education is a critical part of it, and it is a part of the 
legislation.
    Thank you for giving all of this time on the pension front 
and for the witnesses today.
    Chairman Archer. I compliment all of our witnesses and all 
of the Members who have expressed an interest in this issue 
because I believe it is truly vital as we move forward. We have 
got to do everything that we can to increase savings.
    Now, the employer contribution, Mr. Portman, that you 
mentioned is so important because it magnifies the total 
savings, is not counted, as I understand it, in the personal 
savings rate. It is counted in the net private savings, and 
that is the point that I was trying to make. It is very, very 
important that we not just be focused on the personal savings 
rate but that we focused totally on net private savings.
    Thank you very much.
    The Chair invites our final panel of witnesses to take 
their place at the witness table: Ms. Slater, Mr. Sandmeyer, 
Mr. Loop, Mr. Thompson, Mr. Coyne, and Mr. Speranza. The Chair 
invites our guests and staff to take their seats so we can 
conclude the hearing today.
    Welcome to each member of our final panel. Thank you for 
coming and participating today. I am sorry that you perhaps had 
to wait a little longer than you wanted to wait, but, 
hopefully, it was productive for the Committee.
    Ms. Slater, would you lead off. Would you identify yourself 
for the record and then proceed with your testimony?

  STATEMENT OF PHYLLIS HILL SLATER, PRESIDENT AND OWNER, HILL 
    SLATER, INC., GREAT NECK, NEW YORK; AND IMMEDIATE PAST 
   PRESIDENT, NATIONAL ASSOCIATION OF WOMEN BUSINESS OWNERS, 
                    SILVER SPRING, MARYLAND

    Ms. Slater. Thank you, Mr. Chairman.
    My name is Phyllis Hill Slater, and I am president and 
owner of Hill Slater, Inc., a second generation, family-owned 
business that has been serving the engineering and 
architectural community for 3 decades.
    I am also the immediate past president of the National 
Association of Women Business Owners and address you today in 
both capacities.
    I am here today to talk to you about the death tax and its 
destructive effect on me and other small business owners, 
especially the 9 million women-owned businesses in the United 
States.
    As a woman-owned business, I am awarded contracts that will 
stay in force only if my daughter can continue the business 
when I am not here to do so. How can I pass my business with 
its employees and contracts on to my daughter if I must pay a 
55-percent gift tax or estate tax? The 55-percent tax on the 
market value of all of my assets at my death will affect not 
only the future of my business but also will require my family 
to liquidate assets to pay the tax 9 short months after my 
death. And if I want to gift my business or my assets early, I 
must pay the same rate of tax. This is a tax on assets on which 
I have already paid taxes.
    My father started our business, and we have worked hard and 
long hours to grow our business to 22 employees. There are 
those who say that the death tax is paid only by the rich. 
Well, consider this.
    In 1997, 89 percent of the estate tax returns filed were 
from estates of $2.5 million or less, and more than 50 percent 
of the revenue generated is from estates of $5 million or less. 
So the small- and the medium-sized estates are spending the 
time and money to comply with the death tax. And according to 
Alicia Munnell, former member of President Clinton's Council of 
Economic Advisers, the costs of complying with estate tax laws 
are roughly the same amount as the tax revenue collected.
    There are those who say that the tax is needed to 
redistribute the wealth. Well, consider this. Alan Binder, a 
President Clinton appointee, concluded in his book, ``Toward a 
Theory of Income Distribution,'' a radical reform of 
inheritance policies can accomplish comparatively little income 
redistribution. And Joseph Stiglitz, chairman of President 
Clinton's Council of Economic Advisers, in the Journal of 
Political Economy found that the estate tax ultimately might 
cause an increase in income inequality.
    Now some of you may say, but the public views the death tax 
as a good tax and a tax on the rich. Wrong.
    In numerous surveys, national polls and membership 
questionnaires, 75 percent of the respondents concluded that 
the death tax should be eliminated.
    In a national poll conducted last year, the respondents 
concluded that the death tax was more unfair than the payroll 
tax, the income tax, capital gains tax, alternative minimum 
tax, gasoline tax, and property tax. Of all of these taxes they 
are going to pay. Why? Because the death tax, number one, is a 
55-percent tax rate, the highest rate in our tax system; two, a 
tax at the worst time when a death occurs, and three, a tax on 
assets that have been taxed at least two or three times before.
    The reason that the Family Business Estate Tax Coalition 
comprised of over 6 million members and other groups support 
the elimination of the death tax as the right solution is 
because we all realize that increasing the lifetime exemption 
is a short-term solution to a long-term problem. The lifetime 
exemption was raised years ago and it was not enough. It will 
never be enough. With a little bit of inflation and profits in 
our businesses, we will grow past exemption and be back asking 
for more very soon. The families of America need a permanent 
fix to the most unfair tax of all that generates no net revenue 
and the fix is elimination.
    What do NAWBO and I want? We want the death tax, the gift, 
estate and generation-skipping tax to be eliminated. We believe 
that there is a responsible, bipartisan legislation in both the 
House and the Senate to do that now. Congresswoman Dunn and 
Congressman Tanner have introduced H.R. 8 and Senators Kyl and 
Kerrey have introduced S. 1128. Both bills eliminate the death 
tax in a realistic manner. We want families in America to be 
freed from being held hostage to the death tax and allow them 
to use their resources to plan for the growth of their families 
and their businesses. This Congress can do something very 
family friendly. Eliminate the death tax now.
    Thank you.
    [The prepared statement follows:]

Statement of Phyllis Hill Slater, President and Owner, Hill Slater, 
Inc., Great Neck, New York; and Immediate Past President, National 
Association of Women Business Owners, Silver Spring, Maryland

    Good morning, my name is Phyllis Hill Slater and I am the 
President and Owner of Hill Slater, Inc. a second-generation 
family owned business that has been serving the engineering and 
architectural community for nearly three decades. I am also the 
immediate Past President of the National Association of Women 
Business Owners and speak to you here today in both capacities.
    I am here today to talk to you about the ``death tax'' and 
its destructive effect on me and other small business owners, 
especially the 8.5 million women-owned businesses in the U.S. 
today. As a woman-owned business, I am awarded contracts that 
will stay in force only if my daughter can continue the 
business when I am not here to do so. How can I pass my 
business with its employees and contracts on to my daughter if 
I must pay a 55% gift or estate tax? The 55% tax on the market 
value of all of my assets at my death will affect not only the 
future of my business but also will require my family to 
liquidate assets to pay the tax, nine short months after my 
death. And, if I want to gift my business or my assets early, I 
must pay the same rate of tax. This is a tax on assets on which 
I have paid taxes.
    My father started our business and we have worked hard and 
long hours to grow our business to 22 employees. There are 
those who say that the death tax is paid only by the ``rich,'' 
well consider this:
    In 1997, 89% of the estate tax returns filed were from 
estates of $2.5 or less, and more than 50% of the revenue 
generated was from estates of $5 million or less.
    So the small and medium sized estates are spending the time 
and money to comply with the death tax. And, according to 
Alicia Munnell, former member of President Clinton's Council of 
Economic Advisors, the costs of complying with the estate tax 
laws are roughly the same amount as the tax revenue collected.
    There are those who say that the tax is needed to 
redistribute the wealth; well consider this:
    Alan Binder, a President Clinton appointee, concluded in 
his book, Toward a Theory of Income Distribution, ``a radical 
reform of inheritance policies can accomplish comparatively 
little income redistribution.'' And Joseph Stiglitz, Chairman 
of President Clinton's Council of Economic Advisors, in Journal 
of Political Economy, found that the estate tax ultimately 
might cause an increase in the income inequality.
    Now, some of you may be saying, ``but the public views the 
death tax as a good tax and a tax on the rich.'' WRONG!
    In numerous surveys, national polls, and membership 
questionnaires, 75% of the respondents conclude that the death 
tax should be eliminated. In a National Poll conducted last 
year the respondents concluded;
    That the death tax was more unfair than the Payroll Tax, 
Income tax, Capital Gains tax, Alternative Minimum Tax, 
Gasoline Tax, and Property Tax; all of the taxes that they are 
going to pay. WHY Because the death tax is; 1) A 55% TAX RATE, 
(the highest rate in our tax system), 2) A TAX, AT THE WORST 
TIME,WHEN A DEATH HAS OCCURRED, 3) A TAX ON ASSETS THAT HAVE 
BEEN TAXED AT LEAST TWO OR THREE TIMES BEFORE!!
    The reason that the Family Estate Tax Coalition of over 6 
million members and other groups support the elimination of the 
death tax as the right solution is because we all realize that 
increasing the lifetime exemption is a short term solution to a 
long term problem. The lifetime exemption was raised years ago 
and it was not enough. It will never be enough, with a little 
bit of inflation and profits in our businesses we will grow 
past the exemption and be back asking for more very soon. The 
families of America need a permanent fix to the most unfair tax 
of all, that generates no net revenue, and that fix is 
elimination!
    What do I and the NAWBO want. We want the death tax, (the 
gift, estate and generation skipping tax) to be eliminated, and 
we believe that there is responsible, bi-partism legislation, 
in both the House and the Senate, to do that now! Congresswoman 
Dunn and Congressman Tanner have introduced HR 8 and Senator 
Kyl and Senator Kerrey have introduced S1128. Both bills 
eliminate the death tax in a realistic manner. We want families 
in America to be freed from being held hostage to the death tax 
and allow them to use their resources to plan for the growth of 
their families and their businesses.
      

                                


    Chairman Archer. Thank you, Ms. Slater.
    Our second witness is Ronald Sandmeyer. If you will 
identify yourself for the record, you may proceed.

  STATEMENT OF RONALD P. SANDMEYER, JR., PRESIDENT AND CHIEF 
   EXECUTIVE OFFICER, SANDMEYER STEEL COMPANY, PHILADELPHIA, 
      PENNSYLVANIA; ON BEHALF OF NATIONAL ASSOCIATION OF 
                         MANUFACTURERS

    Mr. Sandmeyer. Mr. Chairman and Members of the Committee, 
thank you for the opportunity to appear here today to discuss 
estate taxes. My name is Ron Sandmeyer, Jr. I am here today on 
behalf of the National Association of Manufacturers. The NAM is 
the Nation's largest national broad-based industry trade group. 
Its 14,000 companies and subsidiaries include more than 10,000 
small- and medium-size manufacturers. I am President and chief 
executive officer of Sandmeyer Steel Co., one of more than 
9,000 family-owned or closely held small manufacturers in the 
NAM.
    Every year when NAM surveys small members such as our 
company, repeal of Federal estate and gift taxes emerges as the 
single most important tax policy issue affecting their ability 
to grow. This may surprise some who only see a tax when it is 
collected, but I know, Mr. Chairman, that you were once a small 
manufacturer and that you have seen what I have seen.
    Sandmeyer Steel is a third generation, family-owned 
business in Philadelphia, founded by my grandfather Paul 
Sandmeyer in 1952. We produce stainless steel plate products 
that are sold to fabricators and equipment manufacturers who 
make process equipment used in a variety of different process 
industries. My brother and I have been working with our father 
to try to do what we can to make sure that our company survives 
the difficult transition from second to third generation.
    A good transition includes both a successful management 
succession plan as well as a successful ownership succession 
strategy and, if successful, a transition leaves the company 
independent, strong and capable of continued growth. This is 
important not just to us but also to our 140 employees and 
their families.
    The death tax can be devastating to the ownership 
succession component of the transition between generations in a 
family-owned business. Fewer than one in three family-owned 
companies survive to the next generation. The 55-percent estate 
tax rate does not allow much room to breathe. Very few small- 
and medium-size businesses have that kind of liquidity and 
almost no manufacturer does. The mere threat and uncertainty of 
the death tax is a constant burden to our business. It requires 
costly sacrifices today. Meetings with lawyers, meetings with 
financial planners are expensive and they drain a lot of time 
from the company's key decisionmakers.
    Money spent on things such as attorney fees and life 
insurance premiums could be better invested by us in new pieces 
of equipment or in hiring and training additional employees. 
Time and money spent preparing for the death tax achieves no 
economically useful purpose but a business has to pay this cost 
every year not just at some uncertain date in the future when 
an even bigger bill comes do.
    Uncertainty is unavoidable in estate planning. First of 
all, a businessowner cannot know when the tax will have to be 
paid. It is also hard to anticipate how much tax will 
ultimately be owed because you do not know what the IRS will 
accept as the valuation of your business. Without a fair market 
value sale, valuation is subjective and open to debate and 
possibly even litigation.
    There are no simple tools to solve the liquidity problem. 
Electing an extended payoff can burden a business with an IRS 
lien for more than a decade.
    The family business tax relief available under current law 
is so complicated and so narrowly crafted that it is hard to 
find an attorney willing to advise a client that the family 
business will qualify. Even then there will be times when the 
correct business decision will conflict with what might be the 
optimum tax strategy. For example, trying to make an owner more 
liquid and increase liquidity outside the business so the 
estate tax can be ultimately paid can result in the business 
being ineligible for the limited relief that might have 
existed. Even the increase in the unified credit is of limited 
help to the family businessowner. The credit provides a lump 
sum of money that survives the tax, but once you have built 
that into your plan, all future growth is taxed exactly as 
before. Rate reduction is the only relief short of full repeal 
that reduces your risk on every decision to reinvest and grow 
your company.
    There are several proposed bills that repeal the death tax. 
The NAM supports all of them. Repeal it any way you can. 
Representative Cox has a bill with 200 cosponsors that repeals 
the estate, gift and generation-skipping taxes immediately. 
H.R. 86 would immediately free thousands of small business 
owners to devote more time and attention to growing our 
businesses.
    Representatives Jennifer Dunn and John Tanner of this 
Committee have a different bill, H.R. 8, that phases out the 
tax by reducing rates 5 percent a year until the tax is finally 
eliminated. Dunn-Tanner has found some supporters who have not 
been able to support the Cox bill. Aside from eventually 
eliminating the tax also, the phaseout provides real and 
immediate relief by lowering rates in the short term.
    Repeal unfortunately has not found as firm a footing in the 
Senate. It has not gained the bipartisan support that both Cox 
and Dunn-Tanner enjoy in the House.
    That situation changed recently when Senator Kyl introduced 
the Estate Tax Elimination Act, S.1128. His new bill repeals 
all the death taxes and does away with a step-up in basis. The 
NAM strongly endorses S.1128 with one caveat. We only support 
elimination of the step-up in basis for inherited assets as 
long as it is coupled with immediate and total repeal of the 
death tax. The step-up in basis partially offsets a 
confiscatory estate tax regime. It is critically important to 
keep the current basis rules in place until the death tax is 
totally eliminated. The Kyl bill does permit, however, a 
limited step-up to mirror the existing unified credit so that 
no dollar free from estate tax today would be taxed as capital 
gains under his bill.
    This bill has bipartisan support from several Finance 
Committee Members. It costs less than the Cox proposal and it 
creates a potential revenue stream for the government. But most 
importantly, death would no longer be a taxable event. There is 
all the difference in the world between taxing at death and 
taxing at the time of a voluntary sale. Death, though certain, 
is unpredictable and involuntary. When it occurs the money to 
pay the taxes is still tied up in the business. A voluntary 
sale on the other hand is at a time of one's choosing. The 
taxable value is known and the money from the sale is on the 
table to pay the resulting capital gains tax. That is why 
capital gains taxes don't force companies out of business but 
the death tax usually does.
    It is clear that momentum has been building for death tax 
repeal and I would urge you to eliminate death as a taxable 
event.
    Thank you.
    [The prepared statement follows:]

Statement of Ronald P. Sandmeyer, Jr., President and Chief Executive 
Officer, Sandmeyer Steel Company, Philadelphia, Pennsylvania; on behalf 
of National Association of Manufacturers

    Mr. Chairman and members of the committee, thank you for 
the opportunity to appear before you today to discuss estate 
taxes.
    My name is Ronald P. Sandmeyer, Jr., and I am here today on 
behalf of the National Association of Manufacturers. The NAM is 
the nation's largest national broad-based industry trade group. 
Its 14,000 member companies and subsidiaries, including 
approximately 10,000 small and medium manufacturers, are in 
every state and produce about 85 percent of U.S. manufactured 
goods. The NAM's member companies and affiliated associations 
represent every industrial sector and employ more than 18 
million people.
    I am President and CEO of Sandmeyer Steel, one of the more 
than 9,000 family-owned or closely held small manufacturers in 
the NAM. Every year when the NAM surveys its small members, 
repeal of federal estate and gift taxes emerges as the single 
most important tax policy issue affecting their ability to 
grow.
    This may surprise some who only see a tax when it is 
collected, but I know that you, Mr. Chairman, were once a small 
manufacturer, and that you have seen what I have seen.
    Sandmeyer Steel Company is a third generation family-owned 
business in Philadelphia, Pennsylvania. We produce stainless 
steel plate products that are sold to fabricators and equipment 
manufacturers who make equipment used in a variety of different 
process industries. My grandfather, Paul C. Sandmeyer, founded 
the company in 1952.
    My brother Rodney and I are the third generation at our 
company. We have been working with our father to try to make 
certain that our company survives the difficult transition from 
second to third generation. A good transition includes both a 
successful management succession plan and a successful 
ownership succession strategy. A successful transition is one 
that leaves a company strong and capable of continued growth. 
This is important not just to us, but also to our 140 employees 
and their families.
    The death tax can be devastating to the ownership-
succession component of this transition between generations in 
a family-owned business. A Vermont Life study, which shows that 
fewer than one in three family-owned companies survives to the 
next generation, is not surprising. The 55 percent estate tax 
rate does not allow much room to breathe. Very few businesses 
or business owners have that kind of liquidity, and almost no 
manufacturer does.
    It is a mistake to regard the death tax as a one-time 
burden for a company. The mere threat and uncertainty of the 
death tax looming out there is a constant burden to our 
business. Any business that hopes to survive the death tax must 
make costly sacrifices today. Meetings with lawyers and 
financial planners are expensive and drain a lot of time from a 
company's key decision makers. Money spent on attorney fees and 
life insurance premiums would be better invested in new pieces 
of equipment or in hiring and training additional employees.
    Time and money spent preparing for the death tax simply 
does not help a business in any other way. This diversion of 
valuable human and financial capital achieves absolutely no 
economically useful purpose. It does not increase productivity, 
expand a workforce or put new product on the shelf. A business 
pays this cost every year, not just at some uncertain future 
date when an even bigger bill comes due.
    There is no simple solution in estate planning. Uncertainty 
is unavoidable. To begin with business owners do not know when 
they will have to pay the tax. Then it is hard to anticipate 
how much tax will be owed, because you cannot know in advance 
if the IRS will agree with what you think is a fair valuation 
of your business. Without a fair market value sale, the 
valuation is purely subjective and is open to costly debate and 
dispute.
    There are no simple tools that solve the liquidity problem. 
Electing an extended pay-off under section 6166(b) can burden 
your business with an IRS lien for more than a decade, in 
addition to the debt service payments themselves.
    What about the family business tax relief available under 
current law? Well, it's so complicated and so narrowly crafted 
that it is hard to find a single attorney anywhere who is 
willing to advise a client that the family business will 
qualify. Even then, there will be times when the correct 
business decision will conflict with the optimum tax strategy. 
For example, trying to increase an owner's liquidity outside of 
the business so the tax can be paid ultimately can result in 
the business being ineligible for the limited relief that might 
have existed.
    Even the increase in the unified credit is of limited help 
to a family business owner. The unified credit produces a lump 
sum of money that survives the tax, but once you have built 
that into your plan all future growth is taxed exactly as 
before.
    Rate reduction is the only relief short of full repeal that 
would significantly affect business decisions. Reduce the tax 
rate, and you reduce the risk on every decision to reinvest and 
grow your company.
    There are several proposed bills that repeal the death tax. 
The NAM supports all of them. Repeal it any way you can.
    Representative Cox has a bill that simply repeals the 
estate tax, the gift tax and the generation skipping tax 
immediately. His bill, H.R. 86, would immediately free 
thousands of small-business owners to devote more time and 
attention to growing our businesses. He has attracted 200 
cosponsors to the cause of repeal.
    Representatives Jennifer Dunn and John Tanner, of this 
committee, also have a repeal bill before the House in H.R. 8. 
Their bill phases out the death tax by reducing the rates 5 
percent per year until the tax is finally eliminated. The Dunn-
Tanner approach has found some supporters who have not been 
able to support the Cox bill, particularly those who are 
concerned about the budget impact of outright repeal.
    The phase-out, aside from eventually eliminating the tax, 
also provides real relief in the short term. By lowering 
marginal rates, the Dunn-Tanner bill would improve the ultimate 
rate of return on every investment made in your company.
    Senator Kyl has introduced two bills that repeal the death 
tax. The first was a companion to the Cox bill that gained 30 
cosponsors in the Senate. Despite the enthusiastic support of 
the NAM and numerous other business groups, full and immediate 
repeal has not found a firm footing in the Senate, and in 
particular it has not gained the bipartisan support that both 
the Cox bill and the Dunn-Tanner bill have won in the House.
    That situation changed recently when Senator Kyl introduced 
the Estate Tax Elimination Act, S. 1128. His new bill repeals 
all the death taxes and does away with the step-up in basis. We 
strongly endorse S. 1128 with one caveat: we only support 
elimination of step-up basis for inherited assets as long as it 
is coupled with immediate and total repeal of the death tax. 
Lawmakers added the step-up basis provision to the tax code to 
partially offset a confiscatory estate-tax regime. It is 
critically important to keep the current basis rules in place 
until the death tax is totally eliminated.
    Actually, the Kyl bill does permit a limited step-up in 
basis to mirror the existing unified credit so that no dollar 
free from estate taxes today would be inadvertently taxed under 
his bill.
    This new measure was introduced with bipartisan support 
from several Finance Committee members. The bill costs less 
than the Cox proposal, but it does this by creating a revenue 
stream for the government. Most importantly, however, under the 
bill, death would no longer be a taxable event.
    From my own personal perspective, the new Kyl bill is so 
simple and fundamentally sound that I find it hard to believe 
someone hasn't introduced the concept sooner. Don't tax the 
transfer of a business from one generation to the next. But 
leave the basis unchanged and tax the gain on the sale if and 
when it ever occurs.
    There is all the difference in the world between taxing at 
death and taxing at the time of a voluntary sale. Death, though 
certain, is unpredictable and involuntary. When it occurs, the 
money to pay the taxes is tied up in the business. A voluntary 
sale, on the other hand, is at a time of your choosing, and the 
money from the sale is on the table to pay the resulting 
capital gains taxes. And of course, the taxable value of a sale 
and the amount of the taxes that are payable is certain and 
known prior to the transaction, not months or even years later. 
That is why capital gains taxes don't force companies out of 
business, but the death tax can.
    There are few provisions in the tax code that force 
successful companies out of business. Few provisions tax 
involuntary actions or events. The death tax is one. More often 
than not the death tax actually kills the company soon after 
the owner dies. And I remind you again, don't lose sight of or 
underestimate the costs incurred by people trying to make 
reasonable and prudent preparations just to pay the tax.
    It is clear that momentum has been building for death tax 
repeal. I urge you to eliminate death as a taxable event.
      

                                


    Chairman Archer. Thank you, Mr. Sandmeyer.
    Next witness is Mr. Loop. Mr. Loop, we are happy to have 
you with us. You may proceed.

 STATEMENT OF CARL B. LOOP, JR., PRESIDENT, LOOP'S NURSERY AND 
 GREENHOUSES, INC., JACKSONVILLE, FLORIDA; PRESIDENT, FLORIDA 
   FARM BUREAU FEDERATION; AND VICE PRESIDENT, AMERICAN FARM 
                       BUREAU FEDERATION

    Mr. Loop. Thank you, Mr. Chairman, and Members of the 
Committee. My name is Carl B. Loop, Jr. I come to you today as 
vice president of the American Farm Bureau Federation and as 
president of Loop's Nursery and Greenhouses, Inc., a wholesale 
plant and nursery business in Jacksonville, Florida. It is 
indeed an honor for me to be here today to explain why farmers 
and ranchers feel so strongly that estate taxes should be 
abolished.
    I would like to speak first as Carl Loop, vice president of 
American Farm Bureau Federation. Eliminating the estate tax is 
a top priority for Farm Bureau. We believe that the tax should 
be ended because it can destroy family farms and ranches and 
because the tax penalizes agriculture producers who work hard 
to become successful. When farms are sold to pay estate taxes, 
family businesses are ruined, employees jobs can be lost, open 
spaces can be destroyed, and communities can be damaged. Estate 
tax planning can sometimes help but is a complicated, expensive 
and time consuming endeavor. With about half the farm and ranch 
operators age 55 years or older, the future of American 
agriculture depends on Congress' willingness to eliminate 
estate taxes.
    Now I would like to speak as Carl Loop, president of Loop's 
Nursery and Greenhouses. Eliminating the estate taxes is a top 
priority of the Loop family because the tax threatens to 
destroy our family business. I started my nursery business in 
1949 with a borrowed truck and a $1,500 loan. For 50 years my 
family and I have worked hard to build our business into one of 
the largest wholesale nursery operations in the southeastern 
United States. We now employ between 85 and 100 people year-
round and provide a stable tax base for local government.
    Our business consists of nine acres of greenhouses plus the 
warehouses, cold storage and equipment needed to grow, harvest 
and market our products. Inflation has increased the value of 
both our land and equipment to the point that my family would 
have to sell part of the nursery to pay the death tax. That 
could prove fatal because our assets are single-purpose 
structures that can't be easily liquidated and their forced 
sale would destroy the business.
    My son David and I run the day-to-day operations of Loop's 
Nursery and Greenhouses and it gives me great pleasure to know 
that he and my daughter Jane want to continue the business 
after my death. That may not be possible even though I have 
done everything I can to get ready for the taxes that will be 
due when I die.
    To prepare for my death, I have purchased life insurance. I 
have recapitalized the business. I have issued two classes of 
stock, set up revocable and irrevocable trusts, gifted assets, 
given stock options, and shifted control of the business. After 
hours of worry, years of work, and large attorney fees, I still 
have no assurance that this plan will work and that estate 
taxes will not ruin our business.
    If my family is forced out of business, 85-plus families 
will lose their incomes and Jacksonville will lose a valuable 
part of its business base. My family and I don't understand why 
the government wants to penalize us for being successful 
especially since we have already paid taxes on what we have 
earned. We think our operation is worth a lot more to our 
community and our government as an ongoing business when 
compared to the amount of a one-time estate tax payment.
    Farm Bureau supports passage of H.R. 8, the Death Tax 
Elimination Act, which phases out death taxes through rate 
reduction. This bipartisan bill takes a common sense approach 
to ending the death tax and deserves your support.
    Before closing, I would like to mention several other 
saving and health security tax proposals that would greatly 
benefit farmers and ranchers as outlined in our written 
statement. They are the full deductibility of self-employed 
health insurance premiums, the FARRM, Farm and Ranch Risk 
Management, accounts, capital gains tax cuts, and the fair 
imposition of self-employment taxes.
    Thank you for this opportunity. I would be glad to answer 
any questions.
    [The prepared statement follows:]

Statement of Carl B. Loop, Jr., President, Loop's Nursery and 
Greenhouses, Inc., Jacksonville, Florida; President, Florida Farm 
Bureau Federation; and Vice President, American Farm Bureau Federation

    My name is Carl B. Loop, Jr. I am president of Loop's 
Nursery and Greenhouses, Inc., a wholesale plant nursery 
operation in Jacksonville, Florida. I serve as President of the 
Florida Farm Bureau Federation and as Vice President of the 
American Farm Bureau Federation. Farm Bureau is a general farm 
organization of 4.8 million member families who produce all 
commercially marketed commodities produced in this country.

                              ESTATE TAXES

    Farm Bureau's position on estate taxes is straight forward. 
We recommend their elimination. The issue is so emotionally 
charged that during consideration of the Taxpayer Relief Act of 
1997, Farm Bureau members sent more than 70,000 letters to 
their representatives and senators calling for an end to death 
taxes. I wrote several of those letters because death taxes 
threaten the continuation of my family's livelihood.
    In 1949, after graduating from the University of Florida, I 
started my nursery business with a $1500 loan and a borrowed 
truck. In the early years we got by living on the teacher's 
salary of my wife, Ruth. Everything that I earned was 
reinvested in the business. For 50 years I, along with my wife 
and children, have worked hard to build our business into one 
of the largest wholesale nursery operations in the southeastern 
United States.
    I am proud that my nursery has allowed me to support my 
family and send my three children, Carol, 43, David, 40, and 
Jane, 33, to college. David, earned his degree in ornamental 
horticultural and agriculture economics and now runs the 
business on a daily basis. Without his involvement I wouldn't 
have been able to come here today. My youngest daughter, Jane, 
would also like to come into the business.
    Loop Nursery and Greenhouses, Inc., grows flowering pot 
plants and tropical foliage in 350,000 square feet (nine acres) 
of greenhouses. Also part of the business are warehouses, cold 
storage and the equipment needed to grow, harvest and market 
our products. Between 85 and 100 people are employed year-
round.
    My family feels that our operation not only grows a needed 
product, but also makes a positive contribution to our 
community. In addition to employing 85-plus people, we are a 
community minded business that provides a stable tax base for 
city, county, state and federal government. We do not 
understand why the government wants to penalize us for being 
successful, especially since we already paid taxes on what we 
have earned.
    Inflation has increased the value of both our land and 
equipment to the point that my family would have to sell part 
of the nursery to pay death taxes. This could prove fatal to 
our business because our assets can't be easily liquidated. 
Because greenhouses are single purpose structures, they don't 
have much market value and the only thing a forced partial sale 
would accomplish would be to destroy the viability of our 
business.
    My son and daughter want to continue our family business 
and I would like to pass it on to them. For the last six years, 
I have been working with attorneys to plan for my death. I have 
purchased life insurance, recapitalized the business, issued 
two classes of stock, set up revocable and irrevocable trust 
agreements, gifted assets, given stock options, and shifted 
control of the business. After hours of worry and large 
attorney fees I still don't know if my estate tax plan will 
save our family business.
    It seems to me and my family that Loop's Nursery and 
Greenhouses, Inc., is worth much more to our community and the 
government as an ongoing business when compared to the amount 
of a one-time estate tax payment. If my family is forced out of 
business by death taxes everything that I have worked for will 
be lost, my family will lose its livelihood, 85-plus families 
will lose their incomes and the community will lose a valuable 
part of its business base.
    My situation is not unique. As Vice President of the 
American Farm Bureau, I talk with farmers and ranchers from 
across the country and I can tell you that people everywhere 
are concerned that death taxes will destroy their family 
businesses. Many don't know how severely they will be impacted 
because they don't realize how much their property has 
increased in value due to inflation. Others understand the 
consequences but fail to adequately prepare because the law is 
complicated, because lawyers, accountants and life insurance 
are expensive and because death is a difficult subject.
    It bothers me and my family that while death taxes can cost 
farm and ranch families their businesses and cost them hundreds 
of hours and thousands of dollars for estate planning, 
relatively little revenue is generated for the federal 
government. I am told, that estate tax raise only about 1 
percent of federal tax revenues.
    The potential impact of estate taxes on the future of 
American agriculture is enormous. Individuals, family 
partnerships or family corporations own ninety-nine percent of 
U.S. farms. About half of farm and ranch operators are 55 years 
or older and are approaching the time when they will transfer 
their farms and ranches to their children.
    The situation in my state of Florida is acute. The value of 
farmland there has been inflated far beyond its worth for 
agriculture because developers are willing to pay high prices 
to convert farmland to other uses. It is not uncommon for land 
to be valued at as much as $10,000 an acre. On paper this makes 
a Florida farmer look like a wealthy person, but my farm 
neighbors aren't rich. They simply don't have the money to pay 
a huge estate tax bill without selling part or all of their 
business. While estate tax planning can protect some of the 
farms, it is costly and takes resources that could be better 
used to upgrade and expand their businesses.
    Farm Bureau renews its call for the elimination of estate 
taxes. Action by Congress is needed to preserve our nation's 
family farms and ranches, the jobs they provide and the 
contribution they make to their communities. Farm Bureau stands 
squarely behind the enactment of H.R. 8, the bipartisan Death 
Tax Elimination Act introduced by Reps. Jennifer Dunn and John 
Tanner. This bill takes a common sense approach to ending death 
taxes by reducing the rates 5 percent a year.

                             FARRM ACCOUNTS

    Like other small business persons, farmers and ranchers 
have predictable expenses. Each month they must pay for fuel, 
animal feed, equipment repairs, building maintenance, 
insurance, utilities, and meet a payroll. They must plan for 
seasonal expenses like taxes, seed, heat, and fertilizer. They 
must also budget for major purchases like equipment, land and 
buildings.
    While many expenses can be predicted and to some degree 
controlled, farm income is neither predictable nor 
controllable. The prices that farmers and ranchers receive for 
their commodities are determined by forces that they can't 
control, commodity markets and the weather. Farmers and 
ranchers don't know from one year to the next if their 
businesses will earn a profit, break even, or operate in the 
red. Few other industries must face such a challenge year after 
year after year.
    What all farmers hope for is that the good years will 
outnumber the bad ones. Believing that better times are coming, 
farmers and ranchers get through tough times by spending their 
retirement savings, borrowing money, refinancing debt, putting 
off capital improvements and lowering their standard of living. 
All of these activities damage the financial health of a farm 
or ranch and the well being of the family operating the 
business.
    Unfortunately, 1998 was a very bad year for agriculture and 
many farms and ranches are operating under severe economic 
distress. Last year, in some parts of the country, extreme 
weather or disease destroyed the fall's harvest or made feed 
for livestock scarce. Others were blessed with good crops, but 
faced low prices because of troubled overseas markets. 1999 is 
also shaping up to be a very difficult year for those who 
produce our nation's food and fiber.
    Congress saved many farm and ranch businesses from 
bankruptcy with emergency aid provided by the omnibus 
appropriations bill. Farm Bureau is most appreciative of that 
aid but wants Congress to take steps to break the cycle. If 
emergencies are to be minimized in the future, farmers and 
ranchers must have new and innovative ways to deal with 
uncertain incomes caused by weather and markets. Congress must 
act to give producers the risk management tools they need to 
manage financial jeopardy caused by unpredictable weather and 
markets.
    Farm Bureau supports the creation of Farm and Ranch Risk 
Management (FARRM) Accounts to help farmers and ranchers manage 
risk though savings. Using Farm and Ranch Risk Management 
Accounts, agricultural producers would be encouraged to save 
money in good economic times for the ultimate lean economic 
years. I can't help thinking how different things would be now 
if FARRM accounts had been put on the books five years ago, and 
farmers and ranchers had FARRM savings to use this year.
    FARRM accounts will encourage producers to save up to 20 
percent of their net farm income by the benefit of deferring 
taxes on the income until the funds are withdrawn. The program 
is targeted at real farmers, contains guarantees that the funds 
will not be at risk, and prevents abuse by limiting how long 
savings could be in an account to five years.
    Legislation to create FARRM accounts, H.R. 957, has been 
introduced by Reps. Kenny Hulshof and Karen Thurman. They've 
written their bill so that producers of all commodities, from 
all sizes of operations, who come from all parts of the 
country, can take advantage of FARRM accounts. That's the 
reason over 30 agricultural organizations and more than 150 
representatives support the bill. The organizations are:

Agricultural Retailers Association
Alabama Farmers Federation
American Cotton Shippers Association
American Crop Protection Association
American Farm Bureau Federation
American Mushroom Institute
American Nursery and Landscape Association
American Sheep Industry Association
American Society of Farm Managers & Rural Appraisers
American Soybean Association
American Sugarbeet Growers Association
Black Farmers and Agriculturists Association
Communicating for Agriculture
Farm Credit Council
The Fertilizer Institute
National Association of Wheat Growers
National Barley Growers Association
National Cattlemen's Beef Association
National Corn Growers Association
National Cotton Council of America
National Council of Farmer Cooperatives
National Grain Sorghum Producers
National Grange
National Milk Producers Federation
National Pork Producers Council
National Sunflower Association
North American Export Grain Association
North Carolina Peanut Growers
Peanut Growers Cooperative Marketing Association
Society of American Florists
Southeast Dairy Farmers Association
Southern Peanut Farmers Federation
USA Rice Federation
U.S. Canola Association
U.S. Rice Producers Association
United Egg Producers
United Fresh Fruit and Vegetable Association
Virginia Peanut Growers Association

    My position as Vice President of the American Farm Bureau 
gives me responsibility for the grassroots process that our 
organization uses to develop its policy positions. I listen to 
hours of debate on farm policy and I can't think of another 
idea that has such enthusiastic support as Farm and Ranch Risk 
Management Accounts. FARRM accounts are simple and that's why 
they are so appealing to farmers. Farmers like the idea that 
the government wants to make it easier for them save for a 
``rainy day.'' Congress should enact FARRM accounts into law.

                          CAPITAL GAINS TAXES

    Farm Bureau commends Congress for capital gain tax relief 
passed as part of the Taxpayer Relief Act of 1997. Lower 
capital gains tax rates that took effect two years ago are 
providing real benefit to America's farmers and ranchers.
    Capital gains taxes do however, continue to cause a 
hardship on agricultural producers because farming is capital 
intensive and farming assets are held for long periods of time. 
According to USDA, agricultural assets total $1,140 billion 
with real estate accounting for 79 percent of the assets. 
Studies indicate that farmers and ranchers hold real estate 
assets for an average of 30 years with farmland increasing in 
value 5 to 6 times over that period.
    For farmers and ranchers the capital gains tax is 
especially burdensome because it interferes with the sale of 
farm assets and causes business decisions to be made for tax 
reasons rather than business reasons. The result is the 
inefficient allocation of scarce capital resources, less net 
income for farmers and reduced competitiveness in international 
markets.
    Farmers also need capital gains tax relief in order to 
ensure the cost and availability of investment capital. Most 
farmers and ranchers have limited sources of outside capital. 
It must come from internally generated funds or from borrowing 
from financial institutions. The capital gains tax reduces the 
supply of money available because lenders look closely at 
financial performance, including the impact of the capital 
gains tax on the profit-making ability of a business, when 
deciding loan eligibility.
    In addition, capital gains taxes affect the ability of new 
farmers and ranchers to enter the industry and expand their 
operations. While many think of the capital gains tax as a tax 
on the seller, in reality it is a penalty on the buyer. Older 
farmers and ranchers are often reluctant to sell assets because 
they do not want to pay the capital gains taxes. Buyers must 
pay a premium to acquire assets in order to cover the taxes 
assessed on the seller. This higher cost of land hinders new 
and expanding farmers and ranchers.
    Farm Bureau believes that capital gains taxes should not 
exist. Until repeal is possible, we support cutting the rate of 
taxation to no more than 15 percent. We also recommend passage 
of H.R. 1503 to expand the $500,000 capital gains exclusion for 
homes to include farmland.

                SELF-EMPLOYMENT TAXES AND RENTAL INCOME

    Farmers, ranchers and other self-employed people pay 15.3 
percent self-employment taxes (SE taxes) on net earnings from 
self-employment. Recent Internal Revenue Service (IRS) 
activities have wrongly expanded this tax so that farmers and 
ranchers now have to pay SE taxes on some investment income.
    For 40 years, until 1996, farmers and ranchers paid taxes 
on self-employment earnings as intended by Congress. In that 
year, a Tax Court case and IRS technical advice memorandum 
incorrectly expanded the tax to include income from the cash 
rental of some farmland. The IRS took this position even though 
SE taxes are not generally collected from other property owners 
who have cash rental receipts.
    Farm Bureau supports enactment of H.R. 1044, introduced by 
Reps. Nussle and Tanner, to clarify that farmers and ranchers 
should be treated the same as other property owners and not be 
required to pay SE taxes on cash rental income.

                SELF-EMPLOYED HEALTH INSURANCE DEDUCTION

    The majority of farmers and ranchers are self-employed 
individuals who pay for their own health insurance. Because of 
the high cost of health insurance, many cannot afford high 
quality coverage or must go without health insurance. Even 
though corporations that provided health insurance for their 
employees can deduct premium costs, only 60 percent of the 
self-employed person's health insurance premiums are tax 
deductible in 1999. The deduction is scheduled to increase over 
time until it reaches 100 percent in 2003. Farm Bureau supports 
the immediate full deductibility of health insurance premiums 
paid by the self-employed.
      

                                


    Chairman Archer. Thank you, Mr. Loop.
    Our next witness is Mr. Thompson. If you would identify 
yourself, you may proceed.

  STATEMENT OF SKYLAR THOMPSON, PRESIDENT AND CHIEF OPERATING 
OFFICER, MARKET BASKET FOOD STORES, NEDERLAND, TEXAS; ON BEHALF 
       OF NATIONAL GROCERS ASSOCIATION, RESTON, VIRGINIA

    Mr. Thompson. Thank you. Mr. Chairman and Members of the 
Committee, my name is Skylar Thompson, and I am president of 
Market Basket Food Stores in Nederland, Texas. I would like to 
give you a little background about our family business.
    My father, Bruce Thompson, began his career in the retail 
food business in 1949. He spent 12 years working for large 
chains as department manager, store manager, and later as 
supervisor. In 1962, he decided to go into business for 
himself. He and my mother invested their entire savings along 
with some borrowed capital and bought their first store. They 
worked hard and a lot of hours and were able to buy more 
stores.
    As a young boy I began my career in the business in 1970 
working part-time until graduation from Texas Christian 
University in 1981. Over the years, I worked in a variety of 
positions with the company, gradually working my way up to 
president of the company.
    After 37 years through a lot of hard work and a lot of 
dedicated support from our employees, we very gradually grew 
and expanded the business and now operate 32 stores in the 
Texas and Louisiana marketplaces. As a family business, we are 
committed to serving the needs in the communities where our 
stores are located and our associates live and work.
    One of the biggest threats to our future viability and 
growth is this ominous cloud hanging over our head called the 
Federal estate tax. In the grocery industry, we now compete 
with multibillion dollar megachains with significant financial 
resources. In order to stay competitive, we must continually 
reinvest in our business, remodeling older stores, building new 
stores, adding services and newer technology to better serve 
our customers.
    When the unfortunate death of my mother and father occurs 
in the future, the company will face substantial estate tax 
liability. Having to pay the Federal Government almost 55 
percent of our estate will place a substantial drain on our 
capital base. It will potentially force us to liquidate assets, 
jeopardizing the future growth of our company and the continued 
employment of our loyal associates.
    I am here today on behalf of the National Grocers 
Association to ask for repeal of this unfair and antifamily 
tax. This antifamily, antibusiness tax policy forces many 
families to face the prospect of selling, going out of business 
and denying the next generation of entrepreneurs the 
opportunity to take the risk and reap the rewards that this 
industry has to offer.
    Representatives Jennifer Dunn and John Tanner have 
introduced the Estate and Gift Tax Reduction Act, H.R. 8, which 
would phase out the estate tax by reducing the tax rate 5 
percentage points per year until it reaches zero. 
Representative Chris Cox has introduced the Family Heritage 
Preservation Act, H.R. 86, which calls for the immediate repeal 
of the death tax.
    I want to thank the Chairman for his comments this morning, 
Representatives Dunn and Tanner for sponsoring the legislation, 
and the 22 Members of the Ways and Means Committee who have 
sponsored legislation to eliminate the estate tax and for 
recognizing its importance to every family-owned business 
whether retail or wholesale grocer, farmers, restaurant owners 
or other small businesses.
    The case for eliminating the estate tax has been studied to 
death. Recently the Joint Economic Committee released a 
thorough study. The Economics of the Estate concluded that the 
estate tax generates cost to the taxpayer, the economy and the 
environment that exceed any potential benefits.
    More importantly, NGA's own 1995 study of the family-owned 
members confirmed the real life need for the elimination of the 
Federal estate tax. In the event of the owner's death, 56 
percent of the survey responded that they would have to borrow 
money using at least a portion of the business as collateral 
and 27 percent said they would have to sell all or part of the 
business just to pay the Federal estate tax. Grocers reported 
that this would result in the elimination of jobs, and that 
would surely be a shame.
    Now is the time for Congress to act. The Federal estate tax 
robs privately owned entrepreneurs of the necessary capital 
needed to maintain their competitive position in the 
marketplace against multibillion dollar public companies. 
Failure to act now places the competitive diversity of our free 
enterprise system in serious jeopardy. On behalf of NGA's 
members and family-owned businesses across the country, we 
encourage the Ways and Means Committee to support repeal or 
reduction of the estate tax now.
    Thank you.
    [The prepared statement follows:]

Statement of Skylar Thompson, President and Chief Operating Officer, 
Market Basket Food Stores, Nederland, Texas; on behalf of National 
Grocers Association, Reston, Virginia

    Mr. Chairman and members of the committee, my name is 
Skylar Thompson and I am President and Chief Operating Officer 
of Market Basket Food Stores in Nederland, Texas.
    I'd like to give you a little background about our family-
owned business. My father, Bruce Thompson, began his career in 
the retail food business in July 1949. He spent 12 years 
working for large food chains as department manager, assistant 
store manager and store manager. In February 1962, my father 
decided to strike out on his own and opened his first food 
store. As a young boy, I began my career in the business in 
1970, working part time until graduation from college in 1981. 
Over the years, I have worked in a variety of positions with 
the company, gradually working my way up to becoming president 
and chief operating officer in November 1992. After 37 years, 
through a lot of hard work, long hours and dedicated support 
from our employees, we have gradually grown and expanded our 
company and now operate 32 grocery stores in the Texas and 
Louisiana market-places. As a family business, we are committed 
to serving the needs of the communities where our stores are 
located and associates live and work.
    One of the biggest threats to our future viability and 
growth as a family-owned business is the ominous cloud hanging 
over our heads--the federal estate tax. In the grocery industry 
we now compete with multi-billion dollar mega-chains with 
significant financial resources. To stay competitive, we must 
continue to reinvest in our businesses; remodeling older stores 
and building new ones, adding services and new technology to 
better serve our customers. If we were to experience the 
unfortunate death of my father or mother, the company would 
face substantial estate tax liability. Having to pay the 
federal government almost 55 percent of one of our estates 
would place a substantial drain on our capital base. It would 
potentially force us to liquidate assets, jeopardizing the 
future growth of our company and the continued employment of 
our loyal associates.
    I am here today on behalf of the National Grocers 
Association (N.G.A.) to ask for repeal of this unfair and anti-
family tax.
    The National Grocers Association is the national trade 
association representing retail and wholesale grocers that 
comprise the independently owned and operated sector of the 
food distribution industry. At one time this industry segment 
accounted for half of all food store sales in the United 
States. In recent years, however, a number of successful 
family-run companies have opted to sell because of the economic 
disincentives caused by the estate tax.

                          Summary of Position

    N.G.A.'s retail and wholesale grocers are the backbone of 
their communities, whether they operate a single store or a 
larger community multi-store operation. Repeal of the estate 
tax is N.G.A.'s number one legislative priority. The death tax 
deserves to die. It does substantial harm to family business 
owners, their companies, their employees, their communities and 
to the economy as a whole. On behalf of the nation's 
independent retail grocers and wholesalers, N.G.A. strongly 
urges the Ways and Means Committee and the entire Congress to 
act now to support elimination of the estate tax. Privately-
owned retail grocers are facing unprecedented competition from 
multi-billion dollar mega-chains and supercenter competitors. 
In order to compete, all businesses need capital to reinvest in 
their companies. Keeping up with new technology, remodeling and 
expanding their stores, adding new consumer services, building 
or buying new stores: all of these business decisions are 
predicated on having the necessary capital. The federal estate 
tax of up to 55 percent on the value of their business upon the 
death of an owner places them at a significant competitive 
disadvantage. Instead of using this capital to grow the 
company, it is earmarked to pay taxes.
    This anti-family, anti-business tax policy forces many 
families to face the prospect of selling, going out of 
business, and denying the next generation of entrepreneurs the 
opportunity to take the risks and reap the rewards that this 
industry offers. A week doesn't go by that we don't hear or 
read about a successful family-owned grocer selling the 
business. Successful family-owned businesses are making the 
decision to sell now and pay the capital gains tax, rather than 
the punitive, confiscatory estate tax.

                         Legislative Proposals

    Representatives Jennifer Dunn (R-WA) and John Tanner (D-TN) 
have introduced the Estate and Gift Tax Rate Reduction Act, 
H.R.8, which would phase out the estate tax by reducing tax 
rates by 5 percentage points each year until the rates are 
zero. Representative Chris Cox (R-CA) has introduced the Family 
Heritage Preservation Act, H.R.86, that calls for immediate 
repeal of the death tax. Numerous other estate tax elimination 
proposals have been introduced as well. I want to thank the 22 
members of the Ways and Means Committee who have sponsored 
legislation to eliminate the estate tax and for recognizing its 
importance to every family-owned business--whether retail and 
wholesale grocers, farmers, restaurant owners, or others.
    The important point for the Ways and Means Committee is to 
act now in support of estate tax repeal legislation. Privately-
owned and operated businesses cannot compete competitively when 
the federal government makes small business its indentured 
servant. N.G.A. urges the Ways and Means Committee members to 
act now to preserve the future of privately-owned and operated 
businesses before it is too late.

             Studies Confirm the Need for Estate Tax Repeal

    The case for eliminating the estate tax has been studied to 
death. Recently, the Joint Economic Committee (JEC) released 
its study, The Economics of the Estate Tax, concluding that the 
estate tax generates costs to the taxpayer, the economy and the 
environment that far exceed any potential benefits. 
Specifically, the report found the following:
     The estate tax is a leading cause of dissolution 
for thousands of family-run businesses. Estate tax planning 
further diverts resources available for investment and 
employment.
     The estate tax is extremely punitive, with 
marginal tax rates ranging from 37 percent to nearly 80 percent 
in some instances.
     The existence of the estate tax this century has 
reduced the stock of capital in the economy by approximately 
$497 billion, or 3.2 percent.
     The estate tax violates the basic principles of a 
good tax system: it is complicated, unfair, and inefficient.
     The distortionary incentives in the estate tax 
result in the inefficient allocation of resources, discouraging 
saving and investment, and lowering the after-tax return on 
investments.
     The estate tax raises very little, if any, net 
revenue for the federal government. The distortionary effects 
of the estate tax result in losses under the income tax that 
are roughly the same size as estate tax revenue.
     The enormous compliance costs associated with the 
estate tax are of the same general magnitude as the tax's 
revenue yield, or about $23 billion in 1998.
    ``The Case For Burying the Estate Tax'' by Tax Action 
Analysis, The Tax Policy Arm of the Institute for Policy 
Innovation, reaffirmed the JEC study, and found that:
    ``Estate taxes strike families when they are at their most 
vulnerable: along with the family member, families can lose 
what the family member built. High marginal tax rates often 
force heirs to sell family farms or businesses just to pay the 
estate tax bill. Eliminating the estate tax altogether would 
eliminate all these complexities and injustices with no revenue 
loss to the Treasury. In fact, after ten years, eliminating the 
estate tax would produce sizeable economic gains, actually 
increasing federal revenues above the current baseline.
    Eliminating the federal estate tax in 1999 would cause the 
economy to grow faster than in the current baseline, mainly due 
to a more rapid expansion of the U.S. stock of capital. By the 
year 2010:
     Annual gross domestic product would be $117.3 
billion, or 0.9 percent, above the baseline.
     The stock of U.S. capital would be higher by 
almost $1.5 trillion, or 4.1 percent, above the baseline.
     The economy would have created almost 236,000 more 
jobs than in the baseline.
     Between 1999 and 2008, the economy would have 
produced over $700 billion more in GDP than otherwise.
    The damage that estate taxes do to capital formation 
further magnifies the loss to society. Doing away with estate 
taxes would produce positive economic growth effects large 
enough to offset most of the static revenue loss.
     Between 1999 and 2008, elimination of the estate 
tax would cost the Treasury $191.5 billion.
     But the over $700 billion in additional GDP would 
yield $148.7 billion in higher income, payroll, excise and 
other federal taxes.
     In other words, higher growth would offset 78 
percent of the static revenue loss over the first ten years.
     By 2006, the dynamic revenue gain from eliminating 
the estate tax would be enough to offset the annual static 
revenue loss completely.''
    More importantly, N.G.A.'s own 1995 study of its family-
owned members confirms the real life need for elimination of 
the federal estate tax. In the event of the owner's death, 56 
percent of the survey respondents said they would have to 
borrow money, using at least a portion of the business as 
collateral, and 27 percent said they would have to sell all or 
part of the business to pay federal estate taxes. Grocers 
reported that this would result in the elimination of jobs. 
These findings were similar to those that were conducted as 
part of a broader industry-wide study conducted by the Center 
for the Study of Taxation.
    Here is what other real family-owned grocers have to say 
about the effects of the estate tax:
    From a New Jersey retailer: ``Estate tax has a negative 
impact on what should be positive business decisions. Many 
business owners feel that they cannot expand because they have 
to pay this tax. Also, Americans should be encouraged to save 
and invest to plan for their future. With estate tax, the more 
assets one has with death, the more they have to pay the 
federal government.''
    An Alabama grocer stated: ``As the only son and heir to our 
family owned business, our family lives under the constant fear 
that we will be forced to sell or liquidate our business upon 
the death of my parents in order to pay the estate tax. 
Inasmuch as my father, who is eighty-five years of age, and my 
mother, who is not far behind, have worked hard to develop a 
business that could be passed on not only to their immediate 
family, but as a legacy for their four granddaughters. How 
would we be able to explain to them that all the hard work and 
dedication that has been put into the business for the past 
twenty-seven years was only to pay off the Federal Government 
because their grandparents passed away.''
    A Washington retailer writes: ``I am a small businessman, a 
grocer, running 2 small grocery stores in Naselle and Ocean 
Park Washington. My wife and I have been operating this 
business since 1967. Having recently done extensive & expensive 
financial planning, I know first hand how badly we (our 
country) need to consider repealing our Death Tax. Without 
going into great detail, I will tell you this: Hire a financial 
planner, hire a lawyer, set up trusts and limited partnerships 
and buy a huge insurance policy and you may survive a tax 
burden that is so huge you would have to close your business 
and sell your assets in order to pay it. The cost for all of 
this planning for my small business is ap-proximately $20,000 a 
year. This seams an extreme amount of money. Money that could 
be going to capital improvements, extra labor dollars, etc., 
etc.''
    An Oregon retailer states: ``My grocery business was 
founded by my parents 64 years ago. I am the second generation 
in the family business. My son hopes to carry the business to 
the fourth generation. This is highly questionable with death 
taxes at 55%. If it has to be sold to satisfy the government 
for the unfair and excessive tax, then another small 
independent business is gone, along with the jobs my stores 
offer to this community.''

                               Conclusion

    Numerous studies exist that reinforce the need for 
elimination of the estate tax. Now is the time for Congress to 
act. Privately-owned and operated retail grocers, as well as 
other community businesses, face unprecedented competition and 
need capital in order to compete with multi-billion dollar 
mega-chains and supercenters, such as Wal*Mart. The federal 
estate tax robs privately-owned entrepreneurs of the necessary 
capital needed to maintain their competitive position in the 
marketplace with multi-billion dollar public companies. Failure 
to act now places the competitive diversity of our free 
enterprise system in serious jeopardy. On behalf of N.G.A.'s 
members and family-owned companies across the country, we 
encourage the Ways and Means Committee to support repeal of the 
estate tax now.
      

                                


    Chairman Archer. Thank you, Mr. Thompson. Thank you very 
much for staying within the 5-minute limit.
    Our next witness is Mr. Coyne. If you will identify 
yourself for the record, you may proceed.

 STATEMENT OF MICHAEL COYNE, MEMBER, TUCKERTON LUMBER COMPANY, 
  SURF CITY, NEW JERSEY; ON BEHALF OF NATIONAL FEDERATION OF 
                      INDEPENDENT BUSINESS

    Mr. Coyne. Yes. Good afternoon, Mr. Chairman and Members of 
the Committee. On behalf of the 600,000 members of the National 
Federation of Independent Business, the NFIB, I appreciate the 
opportunity to present the views of small business owners on 
the subject of estate taxes. My name is Michael Coyne. My 
family owns and operates Tuckerton Lumber Co., which is 
headquartered in Surf City, New Jersey.
    My grandfather founded Tuckerton Lumber Co. in 1932. The 
company made it through the ravages of the Great Depression and 
the material shortages of World War II. Today Tuckerton Lumber 
Co. is a community institution. We have three locations and a 
separate kitchen and bath business. We have received the Best 
Home Center of Southern Ocean County Award and I might add that 
we have consistently beaten the largest home center chain in 
the country for this distinction.
    Tuckerton Lumber Co. supports various community efforts, 
including funding for four annual scholarships to graduating 
area high school students. We have 75 employees. We truly do 
regard our employees as our best asset and we treat them 
accordingly. We provide for our employees and their dependents 
full health and dental benefits and a 401(k) plan. On average, 
our employee turnover rate is very low. One employee has been 
with our company for 34 years. Truly, we do regard all of our 
employees as family.
    Mr. Chairman, the death tax endangers both my family's 
business and the jobs of our 75 employees. It literally puts 
seven decades of work, planning, blood, sweat, and tears at 
risk.
    My experience with the death tax began just a decade ago 
when my grandfather passed away. The bulk of the estate, 
including the lumberyards, was transferred to my grandmother. 
Although we had good legal representation and had done the 
appropriate planning, it became obvious that the business would 
not survive another transition. We were and are facing an 
estate tax rate of 55 percent should my grandmother pass away 
any time soon.
    After my grandfather's passing, we were put in the awkward 
position of having to worry about increasing the value of the 
business too much. We have always believed in putting any 
profit back into the business to keep it strong and healthy and 
to help it to grow. Now reinvesting profits can actually 
threaten our business.
    For the past 10 years we have worked with estate lawyers 
and accountants to develop a plan for dealing with the estate 
tax and preserving the family business. In that time, we have 
invested over $1 million in life insurance policies, lawyers 
and accountants' fees and other efforts to ensure that the 
family business will remain intact.
    I am not an economist but I am aware of studies that show 
the cost of the death tax to the economy is greater than the 
revenue it raises for the Federal Government. Considering the 
cost this tax has already imposed on my business before we have 
even paid the tax, I sincerely believe that this is the case.
    Mr. Chairman, I have worked for my family's business 6 days 
a week, often late into the night, for the past 18 years. That 
is not as long as our most senior employee and not even as long 
as my brother-in-law, but it still represents a commitment that 
has consumed most of my adult life. The business is our life. 
It puts food on the table for my family and the families of our 
75 employees. It is simply immoral that a tax has the power to 
take all of that away. We have played by the rules, played a 
key role in the development and success of our community and 
paid millions in taxes throughout the years. Despite all of 
that, the death tax would take away all that we have worked so 
hard to accumulate and preserve.
    In closing, Mr. Chairman, I would like to encourage this 
Committee and Congress to bury the death tax. There is no 
reason to continue a tax that costs more than it raises. I 
understand that a majority of House Members have expressed 
support for completely eliminating the death tax, either 
cosponsoring the Cox bill or the Dunn-Tanner bill. I hope that 
this support will translate into action this year and help 
protect thousands of family businesses like Tuckerton Lumber 
Co.
    I thank the Chairman and Members of this Committee for 
holding this hearing and for the opportunity to present my 
views and experience. I would welcome any questions Members 
might have.
    [The prepared statement follows:]

Statement of Michael Coyne, Member, Tuckerton Lumber Company, Surf 
City, New Jersey; on behalf of National Federation of Independent 
Business

    Good morning. On behalf of the 600,000 members of the 
National Federation of Independent Business (NFIB), I 
appreciate the opportunity to present the views of small 
business owners on the subject of estate taxes.
    My name is Michael. My family owns and operates the 
Tuckerton Lumber Company in Surf City, New Jersey.
    My grandfather founded Tuckerton Lumber Company in 1932. 
The company made it through the ravages of the Great Depression 
and the material shortages of World War II. My grandfather 
purchased the company from his father and the business has been 
in the family ever since.
    Today, Tuckerton Lumber is a community institution. We have 
grown over the years to an operation with three locations and a 
separate Kitchen and Bath business. We have received ``The Best 
Home Center of Southern Ocean County'' award, a Reader's Choice 
Award presented by The Times Beacon Newspaper. I might add, 
that we have consistently beaten the largest home center chain 
in the country for this distinction. Tuckerton Lumber Company 
supports various community efforts, including funding four 
annual scholarships to graduating high school students.
    We also have sixty-five employees. We regard our employees 
as our best asset and we treat them accordingly. We fully fund 
and provide for our employees and their dependents full health 
and dental benefits and a 401(k) plan. On average, our employee 
turnover rate is very low. One employee has been with our 
company for thirty four years. Truly, we regard all of our 
employees as family.
    Mr. Chairman, the death tax endangers both my family's 
business and the jobs of our sixty-five employees. It literally 
puts seven decades of work, planning, blood, sweat and tears at 
risk.
    My experience with the death tax began just ten years ago 
when my grandfather-in-law passed away. The bulk of the estate, 
including the lumber yards, was transferred to my grandmother. 
Although we had good legal representation and had done the 
appropriate planning, it became obvious at the time of the 
transfer that the business would not survive another 
transition. We were facing an accelerated estate tax rate of 
55% should my grandmother pass away.
    Since 1980, the business has tripled in size in terms of 
sales. After my grandfather's passing, we were put in the 
awkward position of having to worry about increasing the value 
of the business too much. We have always believed in putting 
any profit back into the business to keep it strong and healthy 
and to help it grow. It also helps to have a cushion in order 
to weather times of economic slowdown.
    Another problem we face concerns the land on which our main 
office and a fully stocked lumber yard is located. It is 
situated right in the heart of Long Beach Island, a beautiful 
barrier island that is a highly desired location for summer 
homes. Real estate values have remained very high for the last 
twenty-five years, yet moving our main office is out of the 
question. In order to prepare, we have worked with estate 
lawyers and accountants to develop a plan for dealing with the 
estate tax and preserving the family business. In the ten years 
that have passed, we have invested over $1 million in life 
insurance policies, lawyers, accountants and other efforts to 
ensure that when my grandmother passes away, the family 
business will remain intact.
    Mr. Chairman, I have worked for my family's business six 
days a week often late into the night for the past eighteen 
years. That's not as long as our most senior employee, and not 
even as long as my brother-in-law, but it still represents a 
commitment that has consumed most of my adult life.
    That is my story and the story of one family lumber company 
in New Jersey. My membership with NFIB has exposed me to the 
experiences of other family businesses. Jack Faris, President 
of NFIB, recently penned a column that highlighted the efforts 
of another family lumberyard in Missouri. That family was 
paying premiums of thirty thousand dollars a year for a life 
insurance policy against the death tax. I sympathize with that 
family, but I would point out our premiums were three times as 
high.
    In preparation for this hearing, I was also exposed to 
several studies, one by the Joint Economic Committee here in 
Congress, that show the costs of the death tax to families, 
communities, and the economy far outweigh the revenues the tax 
raises for the Treasury. That's not news to me. The million 
dollars my family has invested to prepare for this tax has 
drained resources that could have been used to expand our 
business opportunities and create new jobs. Instead of planning 
for a better business, we're just working to keep what we have.
    In 1997, the Taxpayer Relief Act initiated a series of 
reforms designed to reduce the burden on the death tax on 
family businesses. I welcome those changes and thank Congress 
for taking action, but for my business the relief might be 
described as too little, too late. My grandmother is 91 years 
old, and though we expect her to outlive us all, increasing the 
unified credit to $1 million will still leave her estate 
subject to a tax of millions of dollars.
    This business is our life. It puts food on the table of my 
family and the families of our sixty-five employees. It is 
simply immoral that a tax, applied at the future death of my 
grandmother, has the power to take all of that away. We have 
played by the rules and paid millions in taxes through the 
years. The death tax would take away in after tax dollars all 
we have accumulated through the years. Although I represent the 
third generation involved in the business, we have not 
squandered what has been passed on to us. Quite the contrary, 
we have made the business grow through a lot of hard work, 
discipline and dedication.
    In closing, Mr. Chairman, I would like to encourage this 
Committee and Congress to bury the death tax. There is no 
reason to continue a tax that costs more than it raises. I 
understand a majority of House members have expressed support 
for completely eliminating the death tax--either cosponsoring 
the Cox bill or the Dunn/Tanner bill. I hope this support will 
translate into action this year to help protect family 
businesses like Tuckerton Lumber.
    I thank the Chairman and members of this committee for 
holding this hearing and for the opportunity to present my 
experience.
      

                                


    Chairman Archer. Thank you, Mr. Coyne.
    Our final witness is Mr. Speranza. If you will identify 
yourself, you may proceed.

   STATEMENT OF PAUL S. SPERANZA, JR., CHAIR, TAX COMMITTEE, 
 GREATER ROCHESTER NEW YORK METRO CHAMBER OF COMMERCE; MEMBER, 
  BOARD OF DIRECTORS, AND CHAIRMAN, TAXATION COMMITTEE, U.S. 
CHAMBER OF COMMERCE; ON BEHALF OF BUSINESS COUNCIL OF NEW YORK 
           STATE, INC., AND FOOD MARKETING INSTITUTE

    Mr. Speranza. Good afternoon, Mr. Chairman, and Members of 
the Committee. My name is Paul Speranza and I am pleased to 
appear today before you in my capacity as a member of the board 
of directors and chairman of the Tax Committee of the Chamber 
of Commerce of the United States. The Chamber represents over 3 
million businesses in the United States and is the largest 
business federation in the world. I also represent the Business 
Council of New York State, which is the largest business 
federation in New York State. I am a member of the board of 
directors of that organization as well and that organization's 
representative on the Chamber of Commerce of the United States 
Board of Directors. I also represent the Greater Rochester New 
York Metro Chamber of Commerce and, last, I am representing the 
Food Marketing Institute, which represents the overwhelming 
majority of the Nation's neighborhood supermarkets.
    I appreciate the opportunity to be here today and share 
with you my experiences with respect to estate and gift tax and 
also to share with you the views of the organizations that I 
represent.
    I would request that my formal written statement be 
incorporated into the record and that of Food Marketing 
Institute also be included in the record.
    The Federal estate and gift tax is complex, unfair, and 
inefficient. Number one, it raises approximately 1.5 percent of 
the revenue in this country, and coincidentally that is about 
the amount that it costs for planning, compliance, and 
collection in this economy.
    Number two, the 55-percent estate tax rate is by far the 
highest in the world. As a matter of fact, the lowest effective 
estate and gift tax rate is about the same as the highest 
income tax rate, which shows a great disparity.
    Number three, people are penalized who have saved, risked 
more, and worked hard, many of whom you have heard today. This 
estate and gift tax is a tax on the virtue of working hard and 
saving.
    And last, when this onerous tax applies, workers can be 
laid off, businesses have to borrow funds, reduce capital 
investment, and liquidate or sell their businesses. This 
negatively impacts the owners of those businesses, their 
employees, their families, and many others.
    Here is just one example of how this tax works. The tax 
court decided a case called the Estate of Chenoweth. In that 
case the asset in question was the stock of a privately held 
company. The stock was valued one way for the adjusted gross 
estate purposes for which the tax was applied. That very same 
block of stock was valued in a totally different way resulting 
in a substantially lower value for marital deduction purposes. 
What then happened is an unsuspecting surviving spouse had to 
pay a major amount of tax because of this convoluted 
interpretation using two different valuations. Now the 
interpretation may or may not be right as it relates to the 
law, but it is clearly wrong on the issue of logic and 
fairness.
    I am a retail food industry executive. I work for a closely 
held, privately owned business and I am also a tax attorney. I 
have worked in the estate and gift tax field for approximately 
30 years. When I was in law school, I took every course I could 
in the field and wrote a law review article in that area under 
the supervision of Professor Steven Lind. After law school, I 
went on to get a postgraduate degree in tax law at New York 
University School of Law which consistently has the number one 
tax program in the United States. There I studied under 
professors Guy Maxfield and Richard Stevens. Professors 
Stevens, Maxfield, and Lind are the foremost authorities on the 
estate and gift tax in the United States. Their treatise is the 
definitive work in this field.
    Over the course of my career, I have worked with 
individuals, families, and their businesses to assist them in 
this very difficult and complex field which gets more complex 
as time goes by. At this point in time the law is 
incomprehensible, it is unfair, it is confiscatory and 
downright un-American.
    Now, why do I share all of this with you? The reason I 
share this with you, is because it is time for Congress to put 
estate tax attorneys like me out of business and I am not the 
only one who thinks this way. We can do more productive things 
with our time. We really can. As a matter of fact, a survey was 
recently conducted in upstate New York which is where I live. I 
will describe this survey in more detail in a moment. This 
survey shows many innocent people are losing their jobs as a 
result of this tax.
    Over the last 3 months, I have worked closely with the 
Public Policy Institute of New York State, it is a research and 
educational organization affiliated with the Business Council 
of New York State, to complete a survey on the impact of the 
Federal estate and gift tax on family-owned businesses in 
upstate New York. I have to tell you the economy in upstate New 
York is not doing well. This survey has not yet been formally 
published but the data submitted by 365 family businesses show 
that at least 15,000 jobs are at risk over the next 5 years 
just from those 365 companies as a result of the estate and 
gift tax.
    Now, logic dictates that the number of jobs at risk is 
substantially larger in New York State when you consider all of 
the businesses in New York State and you then consider all the 
businesses in the Nation. I look forward to sharing the details 
of this survey when it is complete.
    We have worked on this survey with Professor Douglas Holtz-
Eakin, who is the chairman of the economics department at the 
Maxwell School of Citizenship and Public Affairs, Syracuse 
University, and I note in the Joint Committee's report for 
today's hearing that his work is mentioned. Syracuse University 
has the number one public administration graduate program in 
the United States. One of the most telling points that 
Professor Holtz-Eakin makes in this report is that the true 
cost of this tax falls upon those individuals who lose their 
jobs and their families.
    Now, we want to thank you, Congresswoman Dunn and 
Congressman Tanner, for supporting and taking the leadership 
role on H.R. 8, which obviously phases out the estate tax over 
a 10- to 11-year period of time at 5 percent a year. Thank you 
very much for your support. Above and beyond that, the U.S. 
Chamber and the other organizations that I represent support in 
principle S. 1128, the Kyl-Kerrey bill. That bill has been 
described earlier so I won't go into great detail. It 
eliminates the estate and gift tax immediately. It eliminates 
the step-up in basis, provides a carryover basis, and in most 
cases provides a tax rate on the disposition of assets at 20 
percent. It also eliminates death as a taxable event. If that 
approach were to be used, I might add one additional point, 
that the Internal Revenue Code section 302 would need to be 
modified because family-owned businesses could end up paying a 
39.6-percent rate versus a much lower capital gain rate.
    So in conclusion, the estate and gift tax depletes the 
estates of taxpayers who have saved their entire lives but let 
us not forget the most important people. Those are the people 
who will lose their jobs as a result of the estate and gift 
tax.
    Thank you for the opportunity for allowing me to testify 
before you today.
    [The prepared statement follows:]

Statement of Paul S. Speranza, Jr., Chair, Tax Committee, Greater 
Rochester New York Metro Chamber of Commerce; Member, Board of 
Directors, and Chairman, Taxation Committee, U.S. Chamber of Commerce; 
on behalf of Business Council of New York State, Inc., and Food 
Marketing Institute

    Mr. Chairman and members of the Committee, my name is Paul 
Speranza and I am pleased to appear before you today in my 
capacity as a member of the Board of Directors of the U.S 
Chamber of Commerce and as Chairman of the Chamber's Taxation 
Committee. The U.S. Chamber is the world's largest business 
federation representing more than three million business 
organizations of every size, sector and region. I also 
represent the Business Council of New York State, Inc., which 
is the largest business federation in New York. In addition, I 
represent the Greater Rochester New York Metro Chamber of 
Commerce, where I chair its tax committee. Lastly, I represent 
the Food Marketing Institute, which represents more than half 
of the food stores in the United States. I appreciate this 
opportunity to relate to the Committee my experiences with the 
impact of the federal estate and gift tax, and to express the 
views of the U. S. Chamber and the other organizations that I 
represent on pending legislative proposals providing relief 
from the federal estate and gift tax.

             BACKGROUND OF THE FEDERAL ESTATE AND GIFT TAX

    The federal estate tax was enacted in 1916 principally to 
finance this country's involvement in World War I. After 1916, 
and despite some early efforts to repeal taxes on wealth 
transfers during peacetime, the federal estate tax has remained 
a consistent feature of the federal tax system. The history of 
the federal estate tax for the years following World War I to 
present day essentially involves a gradual expansion of the 
estate tax base, coupled with increases in the rates of estate 
tax imposed. In 1976, the federal estate tax and gift tax 
structures were combined and a single, unified, graduated 
estate and gift tax system was created.
    Under the current federal estate and gift tax, the rates 
are steeply graduated and begin at 18 percent on the first 
$10,000 of cumulative transfers and reach 55 percent on 
transfers that exceed $3 million. A unified tax credit is 
available to offset a specific amount of a decedent's federal 
estate and gift tax liability. Under the Taxpayer Relief Act of 
1997, this exemption amount was increased to its current 
$650,000 level, and will continue to be increased incrementally 
until it reaches $1 million by the year 2006. The exemption 
amount, however, will not be indexed for inflation after 2006.
    In addition, the Taxpayer Relief Act of 1997 created a new 
exemption for ``qualified family-owned business interests.'' 
However, this exemption, plus the amount effectively exempted 
by the applicable unified credit, cannot exceed $1,300,000. 
Whether a decedent's estate can qualify for the maximum 
$1,300,000 exemption amount depends, among other things, on the 
mix of personal and qualified business assets in the estate at 
the death of the decedent, and satisfaction of an exceedingly 
complex array of conditions relating to the structure of the 
family business and the conduct of the heirs after the 
decedent's death. Indeed, after only two-year's of experience, 
it is clear that many family businesses will not qualify for 
this exemption.

   THE FEDERAL ESTATE AND GIFT TAX IS COMPLEX, UNFAIR AND INEFFICIENT

    When the government in a free society uses its power to 
tax, it has an obligation to do so in the least intrusive 
manner. Taxes imposed should meet the basic criteria of 
simplicity, efficiency, neutrality and fairness. The federal 
estate and gift tax, even with the credits and exemptions 
available under current law, fails miserably to meet any of 
these requisites.
    Today's federal estate and gift is a multi-layered taxing 
mechanism so complex that it literally encourages attempts by 
professional advisers to avoid estate tax liability through a 
variety of transactions and techniques, many of which would not 
(and should not) be undertaken but for the desire to preserve a 
family's savings and capital. This in turn has lead to the 
allocation of billions of dollars of precious business 
resources towards estate tax planning and compliance costs, 
despite the fact that the actual revenue generated accounts for 
less than 1.5 percent of all federal tax collections. 
Coincidentally, the cost of planning, compliance and collection 
of this tax equals the amount of the tax collected.
    Nor can the estate and gift tax be considered either 
neutral or fair to individuals or businesses. The tax is 
progressive in the extreme, with the lowest effective tax rate 
almost equal to the highest income tax rate. This penalizes 
those who have saved more, risked more, and worked harder than 
others. In this way, the estate and gift tax is actually a tax 
on the virtues of industry and thrift.
    Moreover, the estate and gift tax is far more likely to 
affect small and medium-sized businesses today than it was 
sixty years ago. In fact, in 1995, over half of the estate and 
gift tax revenue generated was derived from estates valued at 
less than $5 million. Unfortunately, many small and family-
owned business owners are either unaware of the need for estate 
tax planning or unable to afford it, which later results in an 
estate and gift tax liability that often threatens the 
continued viability of the business. In order to pay such 
liabilities, these businesses are forced to either lay off 
workers, borrow funds, reduce capital investments, liquidate, 
or sell to an outside buyer. These actions harm everyone 
connected with these businesses, including its owners, 
employees, customers, vendors, and families.
    I am a retail food industry executive and a tax attorney; I 
have been involved with the federal estate and gift tax law for 
the last 30 years. While in law school, I wrote a law review 
article on this subject under the supervision of Professor 
Steven Lind. After law school, I received an advanced tax law 
degree from the New York University of Law, where I studied the 
Estate and Gift Tax Law with Professor Richard Stevens and Guy 
Maxfield. Professors Lind, Stevens and Maxfield are the 
nation's foremost authorities in this field and have written 
the definitive textbook on the estate and gift tax law. 
Throughout my career, I have assisted individuals, families, 
and businesses in the estate and gift tax field. The law in 
this field has become substantially more complex over the 
years. It has also become incomprehensible, unfair, 
confiscatory and downright un-American.
    I would like to give you one example to make this point, 
although there are many. The Estate of Chenoweth, 88 T. C. 1577 
(1987), and related cases in certain circumstances value the 
same stock in a closely held family business for gross estate 
purposes higher than it values the very same asset for marital 
deduction purposes. This difference in the valuations of the 
very same asset can leave an unsuspecting surviving spouse with 
a major estate tax liability. Chenoweth may or may not be a 
correct interpretation of the law, but it is definitely wrong 
on logic and fairness. Why do I share all of this? Because the 
time has come for Congress to put estate tax attorneys like me 
out of business. We can find more productive things to do. I 
know that there are other estate tax attorneys who agree with 
me on this matter. As I will explain in more detail below, a 
recent survey conducted in upstate New York shows that innocent 
people are losing their jobs as a result of this cruel tax.
    Over the last three months, I have worked closely with the 
Public Policy Institute of New York State, a research and 
educational organization affiliated with The New York Business 
Council, to complete a survey on the impact of the federal 
estate and gift tax on family business employment levels in 
Upstate New York. While the survey has not yet been formally 
published, the data submitted by the 365 family businesses 
respondents reveals that for these respondents alone, at least 
15,000 jobs in Upstate New York are at risk over the next five 
years as a direct result of the estate and gift tax. This 
figure includes jobs that would not be created because of the 
allocation of resources away from business expansion and 
towards planning for the estate and gift tax, as well as jobs 
that would have to be terminated upon the death of the 
patriarch or matriarch of the business. In fact, over one-third 
of the respondents indicated that they would be compelled to 
take the dramatic and clearly undesirable step of selling or 
completely liquidating the business in order to meet the estate 
and gift tax burden.
    While I look forward to sharing the detailed results of 
this survey with the Committee upon its publication, the 
evidence we have gathered supports overwhelmingly the 
conclusion that the estate and gift tax has a crippling effect 
on job growth, job creation and business expansion in Upstate 
New York's family-business community, which is one of the most 
vital components of the region's economy. I feel almost certain 
that these conclusions would not be substantially different if 
the survey were conducted in other states. Professor Douglas 
Holtz-Eakin, the Chairman of the Economics Department at the 
Maxwell School at Syracuse University, has worked with us on 
this. According to U.S. News and World Report, the Maxwell 
School has been rated as the number one graduate public policy 
school in the United States. Professor Holtz-Eakin's analysis 
points out that the ultimate cost of this tax is borne by those 
who lose their jobs as a result of it.

            PENDING FEDERAL ESTATE AND GIFT TAX LEGISLATION

    As noted above, The Taxpayer Relief Act of 1997 provided a 
narrow class of family businesses with modest relief from the 
estate and gift tax. While virtually any form of relief is 
welcome, the U.S. Chamber and the other organizations that I 
represent feel strongly that any future estate and gift tax 
reform legislation should provide relief to all estates, 
regardless of the size, financial structure or composition of 
the estate's assets.
    The U.S. Chamber and the other organizations that I 
represent continue to support legislation that provides for 
immediate repeal of the estate and gift tax. The case for 
immediate repeal is compelling: the estate and gift tax 
penalizes savings, results in direct and substantial harm to 
family-owned businesses and farms, reduces the rate of job 
creation, is complex, costly and inefficient to comply with 
(and collect) and does not produce substantial federal revenue. 
While outright repeal of the estate and gift tax should thus 
remain the ultimate goal, the U.S. Chamber and the other 
organizations that I represent realize that current budget 
limitations may prevent this Congress from taking that step. If 
so, additional interim estate and gift tax relief should be 
enacted, and should be geared toward what is the most harmful 
aspect of the regime: the outrageously high rates of tax 
imposed.
    Both family business owners and estate tax practitioners 
agree that Congress should avoid any attempts to define what 
does, and what does not, constitute a ``family business'' for 
purposes of targeting estate and gift tax relief. The 
competitive marketplace requires that family businesses 
structure their assets and operations in ways that are as 
varied as the industries in which they engage. It follows that 
conditioning the benefits on the way that a family business may 
chose to structure itself simply cannot achieve an equitable 
distribution of estate and gift tax relief.
    In addition, Congress should avoid merely accelerating the 
increase in the estate and gift tax exemption that already is 
scheduled to be fully phased-in to the $1 million level by the 
year 2006. This would provide additional relief to only those 
estates at the lowest end of the taxable range and would not 
provide any meaningful relief to the medium and larger-sized 
businesses that make more substantial contributions to 
employment levels and local economies. For these businesses, 
merely accelerating the increase in the exemption level is 
insufficient to mitigate the impact of estate and gift tax 
rates that can result in more than half of the value of the 
family business going directly to the U.S. Treasury.
    Currently, the United States has the highest estate and 
gift tax rates of any country, followed by France at 40 
percent, Spain at 38 percent, Germany at 35 percent, and 
Belgium at 30 percent. For estates with a value that equals or 
exceeds $3 million, a maximum rate of 55 percent is imposed, 
even if the majority of the value of the estate is comprised of 
non-liquid assets. With such high rates of tax, it is common 
for the estate and gift tax liability of a business or 
individual to exceed the monetizable value of the estate's 
assets. Thus, even if one were to embrace the dubious notion 
that a tax at death is needed to insure progressivity within 
the tax code and ``backstop'' the income and capital gains tax 
systems, the 55 percent maximum rate is, by any reasonable 
definition, confiscatory.
    There is simply no legitimate rationale for a maximum 
income tax rate of 39.6 percent, a long-term capital gains tax 
rate of 20 percent and a maximum estate and gift tax rate of 55 
percent, which not surprisingly is the highest stated rate of 
tax in the Internal Revenue Code. Only recently has there been 
such a marked disparity between the maximum income tax rate and 
the maximum estate and gift tax rate.
    The U.S. Chamber and the other organizations that I 
represent are thus fully supportive of H.R. 8, the bi-partisan 
legislation introduced by Representatives Jennifer Dunn (R-WA) 
and John Tanner (D-TN) that addresses directly the confiscatory 
estate and gift tax rate structure. The Dunn-Tanner legislation 
provides for a ``phase-out'' of the estate and gift tax over a 
ten-year period, accomplished by a five percentage point, 
across-the-board rate reduction in each of the ten intermediate 
years. The Dunn-Tanner legislation represents a fiscally 
responsible approach to repeal because it mitigates the revenue 
impact with a ten-year phase-in period. Moreover, the Dunn-
Tanner legislation provides immediate rate relief over the 
interim period without introducing any additional complexity 
into the Code.
    The U.S. Chamber and the other organizations that I 
represent also support S.1128, the bi-partisan legislation 
introduced recently by Senators Jon Kyl (R-AZ) and Bob Kerrey 
(D-Neb), and co-sponsored by a coalition of Republican and 
Democrat members of the Senate Finance Committee. Under the 
Kyl-Kerrey bill, estate and gift taxes would be repealed in 
their entirety (and immediately) and the ``step-up'' in basis 
rules applicable to property acquired from a decedent would 
likewise be eliminated. The Kyl-Kerrey bill would thus make 
death a non-taxable event, provide for the ``carry-over'' of 
tax basis with respect to property received from a decedent, 
impose a tax only when the heir decides voluntarily to dispose 
of the asset, and provide that the rate of tax imposed on the 
subsequent sale of such property by the heir will in no case 
exceed the top effective income tax rate of 39.6 percent (and 
in most cases, will be the lower applicable capital gains tax 
rate of 20 percent). Of course, no estate or gift tax will be 
payable in the case of a family-owned business that simply 
continues to pass the business property from generation to 
generation. It also should be noted that in the context of this 
proposal, Section 302 of the Internal Revenue Code should be 
modified to allow all such transactions at the 20 percent 
capital gains rate so long as the appropriate holding period 
requirement is met.
    The U.S. Chamber and the other organizations that I 
represent urge this Committee to consider seriously proposals 
that address the punitive levels of estate and gift tax rates 
and provide for an equitable distribution of relief for the 
varying types of estates and businesses affected by the tax.

                               CONCLUSION

    In conclusion, the estate and gift tax depletes the estates 
of taxpayers who have saved their entire lives, often forcing 
successful family businesses to liquidate or take on burdensome 
debt to pay the tax. Taxpayers should be motivated to make 
financial decisions for business and investment reasons, and 
not be punished for individual initiative, hard work, and 
capital accumulation. Let us also not forget the thousands of 
employees of family-owned businesses who will lose their jobs 
as a result of this unfair tax. They bear the heaviest cost of 
all. The U.S. Chamber and the other organizations that I 
represent believe that the estate and gift tax should be 
repealed immediately. However, short of immediate repeal, the 
estate and gift tax should be reformed in a manner that 
eliminates the well documented negative effects of this tax on 
individuals and the owners of family businesses.
    Thank you for the allowing me the opportunity to testify 
here today.
      

                                


    Chairman Archer. Thank you, Mr. Speranza. The Chair is 
going to go slightly out of order because one of our Members, 
Mr. Tanner, needs to go to another meeting and he is very, very 
interested in this issue. So the Chair recognizes Mr. Tanner 
for any brief comments.
    Mr. Tanner. Mr. Chairman, thank you very much, and I want 
to particularly thank you for this panel. I want to thank you 
all and of course thank Ms. Dunn for her interest in this as 
well.
    What is striking, Mr. Chairman, you all have done a far 
better job than I think any of us could do but what is striking 
here is two things. One, it has been said that small businesses 
are the real economic engines in this country and create the 
vast amount of jobs that are created from time to time therein 
and also that all of you on this panel are not chief executive 
officers of the Fortune 500 or Fortune 100 companies but they 
are family-owned businesses and agriculture enterprises which I 
believe is the fabric of this Nation that must be maintained 
and preserved.
    You all have been eloquent in your presentation and I hope 
that as we go forward, H.R. 8 can receive a place of high 
priority, Mr. Chairman, in your consideration of this entire 
matter. Thank you.
    Chairman Archer. I share the gentleman's comments that this 
panel has done an outstanding job in presentation today. When I 
came to the Congress in 1971, one of my goals was to completely 
eliminate what we used to call estate tax. We are getting 
closer all the time and I am proud of the fact that the new 
Majority that came in in 1995 turned the direction of 
consideration around. The previous Majority wanted to move 
toward a greater taxation under the death tax by reducing the 
exclusion from 600,000 to 200,000. Our new Majority said it is 
totally wrong and we started moving the balance in the other 
direction down the field. Hopefully we will one day achieve the 
ultimate goal of complete elimination.
    I have a lot of other desired goals. You mentioned the 
compliance costs and administrative costs of the death tax, and 
we have a similar situation with the income tax, where we have 
got the brightest and best minds of this country spending full-
time figuring out how to make end runs around the income tax, 
and that is wasted effort.
    Mr. Speranza, I compliment you. One of your colleagues sat 
at the witness table not too long ago, a gentleman from 
Alabama, for whom I have the highest respect, a man named 
Harold Apelinski, who makes his living off of advising people 
how to reduce their death tax liabilities. He said his goal was 
to put himself out of business and that is a truly laudable 
position that you have taken because you have a mind that can 
produce wealth instead of destroying wealth or trying to 
prevent the destruction of wealth. So I do thank you.
    I am curious and I do not want to intrude into your 
personal financial holdings, but I think it is important to 
note that if any one of you has an estate which is likely to be 
valued at over $10 million, that the marginal tax will not be 
55 percent. It will be 60 percent. So the confiscation goes up 
and we should not forget that. Many people don't realize that, 
but I know Mr. Speranza does and all you have got to do is look 
at the Code and you will find out that that is the case.
    I would like to ask Mr. Coyne a question since you 
represent the NFIB and as a former small business person 
myself, I have great sympathy with what that organization 
stands for. Is your presentation which supports the complete 
repeal of the death tax, is that the number one tax priority 
for tax relief of the NFIB this year?
    Mr. Coyne. I believe that is true. I know certainly for our 
business that is the case and has been for 10 years.
    Chairman Archer. I can understand where it would be for 
your business, but I am curious as to whether it is also the 
number one priority for tax relief for the NFIB.
    Mr. Coyne. The complete elimination of the death tax, yes.
    Chairman Archer. Let me also make all of you aware that we 
are going to have no money for tax relief in the year 2000. 
Under the budget that was adopted by the Congress, there will 
be no surplus for tax relief in the year 2000. There will be a 
very nominal amount in the projections for the year 2001, but 
the projected surpluses wedge out over the 10-year period ahead 
of us so that over 10 years we will be able to give slightly 
under $800 billion in the way of tax relief and live within the 
allowable surpluses. So any bill that would immediately repeal 
the death tax is way beyond anything that we can do within the 
budget resolution and the scored revenue losses which we have 
to live with irrespective of the comparison to the 
administrative costs and compliance costs. I am very 
sympathetic to that but we have to live with the official 
estimates and the estimates are that over a 5-year period, 
immediate repeal would lose 170 billion dollars' worth of 
revenue. Over 10 years it would be roughly double that. So you 
can see the revenue constraints that we have to operate under 
and that is just a reality that we all need to be aware of as 
we pursue this ultimate goal. But I do compliment each of you 
and I wish more Members of the Committee were here to listen to 
you.
    Ms. Slater, you made, I thought, an extremely compelling 
presentation, but I thank each of you for coming to be with us 
and I know there are Members here who do wish to inquire. I 
know Ms. Dunn wants to say something. So Ms. Dunn, you are 
recognized.
    Ms. Dunn. Thank you very much, Mr. Chairman, and I 
appreciate your allowing six members of the business community 
who have had great experience with the onerous burden of the 
death tax to come before us. It means a lot for us to be able 
to hear their stories and I will just tell you that only in the 
United States are we given a certificate at birth and a license 
at marriage and a bill at death, and I think those of us here 
today would certainly like to see that bill at death removed.
    A couple of points and then I have a couple of questions I 
would like to direct to the panel. We are looking at a tax that 
brings in 1.4 percent of government revenues. Last year that 
would have been about $23 billion and you have heard the 
panelists talk about the costs of compliance in the private 
sector alone being a similar amount, $23 billion. So that is a 
total of $46 billion that are being brought out of a 
potentially productive market.
    The Chairman talked about the total elimination of the 
death tax and that it is difficult to do considering lots of 
other demands and not as many dollars as we would wish to put 
into tax relief. But I do want to say that H.R. 8, which many 
of you have mentioned in your testimony, would score at $44 
billion over 5 years and it would score at under $200 billion 
over 10 years and that is a comparison to the $780 billion we 
are looking at for tax relief compared to $200 billion.
    As the Chairman says, we have to live within those numbers 
and I think it is a tragedy because when you figure how much 
death tax really does take out of production and you assume 
that you would leave a great deal of that money with your 
companies as they move from family to family, I believe the 
scoring is way off and I think productivity would be huge and 
would offset any of this loss of income. That is my personal 
and other people's personal thought about this whole thing.
    We are constrained by the scoring of the Federal 
Government, which is not a dynamic scoring and therefore does 
not take into consideration the behavior of people when they 
can keep those dollars and not invest those in compliance or 
have them taken by the government that itself spends probably 
60 cents out of each dollar that comes from death tax.
    We are the highest nation in the world with the exception 
of Japan when it comes to rates on inheritance. Japan is the 
only nation that supersedes the United States. We are at top 
rate 55 percent. As we know, the President in his proposal has 
tried to increase that by 5 percent this year. In Japan the 
highest marginal rate is 70 percent and certainly exorbitant.
    I would also make one more point, and that is that the 
unified exemption that we have discussed that stands today at 
650,000 is not a true exemption and that families who leave 
their property, their business, their farm to their children 
actually begin paying after they exempt 650,000 at a 37-percent 
rate, not an 18-percent rate and this is a terrible shame and 
certainly as we look at what we can do on death tax, I think we 
ought to make that unified exemption a true exemption and begin 
paying a tax at 18 percent above and beyond that.
    I wanted to ask Phyllis Hill Slater a question. Ms. Slater, 
you have worked with many, many people, women-owned businesses, 
the minority community in your work as head of NAWBO and 
involvement in the community and I wanted to ask you if you 
would tell us a bit more about the effect of the death tax on 
the minority community and on women.
    Ms. Slater. Well, it is devastating because of the fact 
that this is free enterprise, part of the American dream, to 
own your own business, to move up, to be able to leave 
something to your family, to obtain wealth that you can pass on 
to keep the family strong, and we were told this was--these are 
the rules and this is what you do in order to be part of this 
great country of ours and now, you know, as soon as someone 
dies, they have to sell it, which loses a lot of jobs and also 
devastates the family.
    When I look back and think about my father who served in 
World War II and, by the way, my family has served in every war 
that this country has ever been in, but my father did serve in 
World War II and he had graduated from Stuyvesant High School 
in New York City at the age of 16, so you know he was a smart 
guy. And he graduated from CCNY in 1949 after the war 
interrupted his education, and he worked very, very hard to 
become an engineer and to be a licensed engineer, and there was 
only 13 in his class at the time. He worked very hard. It is a 
slap in his face to say that now his family, his children, his 
grandchildren cannot, cannot live the dream that he worked so 
hard to realize.
    We know now also that women businessowners are starting 
businesses even at a faster rate and one of the things that 
women businessowners are bringing to the business culture is a 
new way of doing business, changing the way we know business, 
more family oriented, bringing great, great practices, best 
practices to the business community and they want to pass it on 
also to their families. This is also a slap in their face 
because we do have to work a little harder and we have to be a 
little better in order to compete.
    Ms. Dunn. Thank you very much, Mrs. Slater. I would like to 
ask unanimous consent to enter into the record an editorial by 
Harry C. Alford, Jr. He is the president and chief executive 
officer of the National Black Chamber of Commerce and he has 
written an op-ed that I think is very revealing that has to do 
with the quest for economic empowerment that gets you, quote-
unquote, freedom and authority. Freedom and authority are the 
keys to Earthly happiness. Getting rid of the death tax will 
start to create a needed legacy and begin a cycle of wealth 
building for blacks in this country. He says we cannot begin to 
build wealth until we start to recycle our precious dollars. We 
cannot recycle our precious dollars until we have businesses 
and ventures to invest in. The death tax is in our way.
    Mr. Chairman, if I may request unanimous consent to enter 
this op-ed into the record, please.
    Mr. Herger [presiding]. Without objection.
    [The information follows:]

BLACKS SHOULD HELP IN DOING AWAY WITH THE ``DEATH TAX,'' an Editorial 
by Harry C. Alford, Jr., President & CEO, National Black Chamber of 
Commerce, Inc.

    We, as a people, have been freed from physical slavery for 
over 134 years and we have yet to begin building wealth. We 
cannot begin utilizing all of the advantages of this free 
economy until we have gained enough wealth to actively 
participate. It's just not civil rights; civil rights can get 
you dignity and respect but we need more. It's just not 
political empowerment; look at Zimbabwe or South Africa where 
we now have enormous political empowerment but, yet, no power 
due to lack of Black wealth. Civil rights and political clout 
are nice but economic empowerment will get you freedom and 
authority. Freedom and authority are the keys to earthly 
happiness.
    The total net worth of African Americans is only 1.2 
percent of the total--versus 14 percent of the population. We 
have been stuck at that number since the end of the Civil War 
in 1865. Getting rid of the ``death tax'' will start to create 
a needed legacy and begin a cycle of wealth building for Blacks 
in this country. That would be a great start to breaking the 
economic chains that bind us.
    What is the death tax? The ``death tax'' is levied against 
the government--assessed value of the deceased's estate. The 
rates can start at 37 percent and can climb to 55 percent. In 
essence, your last remaining parent dies and the estate they 
leave to you and your siblings will be reduced by the IRS by an 
amount equivalent to 37-55 percent of the total worth.
Thus, the legacy left by your elders or left by you to your 
children can be significantly reduced or even wiped out.
    An example: The Chicago Daily Defender--the oldest Black--
owned daily newspaper in the United States--was forced into 
bankruptcy due to financial burdens imposed by the estate tax. 
We all remember what happened when the great Sammy Davis Jr. 
died--his wife was in bankruptcy within six months due to the 
vicious ``death tax.''
    Store owner Leonard L. Harris, a first generation owner of 
Chatham Food Center on the South Side of Chicago, can envision 
all the work and value he has put into his business 
disappearing from his two sons. Says Mr. Harris; ``My focus has 
been putting my earnings back in to grow the business. For this 
reason, cash resources to pay federal estate taxes, based on 
the way valuation is made, would force my family to sell the 
store in order to pay the IRS within 9 months of my death. Our 
yearly earnings would not cover the payment of such a high tax. 
I should know, I started my career as a CPA.''
    We cannot begin to build wealth until we start to recycle 
our precious dollars. We cannot recycle our precious dollars 
until we have businesses and ventures to invest in. The ``death 
tax'' is in our way!
    Fortunately, we now have an opportunity to get the ``legacy 
killer'' out of our lives and future. There are two bills in 
the House and Senate as I write this editorial. HR 86 and S 56 
will repeal the ``death tax.'' HR 8 and S 38 will phase it out 
over a specified period of time. Please keep in mind that this 
estate tax only contributes about 1 percent of the total 
federal revenue, and of each dollar collected, 65 cents is 
spent on collecting the tax. The tax promotes virtually nothing 
but financial hardship and a serious insult to the hard work of 
our parents.
    These bills are making progress on Capitol Hill. However, 
we need to provide a needed boost, especially to members of the 
Congressional Black Caucus who, many times, aren't where they 
should be on financial gain issues. Please call your applicable 
congressperson or senator and tell them you support these bills 
to end the ``death tax.'' Tell them it is all right for Black 
folks to begin building wealth in this country. It is not 
against the law and it certainly is more enjoyable than 
poverty.
    Building wealth will lead to better education, better 
health care, safer streets and sustainable communities. Poverty 
and the lack of economic empowerment will get you frustration 
and hopelessness. The only way to fight poverty is good 
government and laws that do not penalize hard work, success and 
savings. Let's put to death the ``death tax''!
      

                                


    Ms. Dunn. Thank you.
    Mr. Herger. Thank you very much, Ms. Dunn. And thank you, 
Ms. Slater, for that very moving testimony. So many of those of 
us who are supporting this type of legislation hear that it is 
only the ``fat cats,'' the very wealthy that we are helping and 
it is very interesting and very informative to hear your 
testimony that really we are helping some of the very groups 
and minorities that we most want to help in this Nation.
    So thank you very much. Mr. Hulshof to inquire.
    Mr. Hulshof. Thank you, Mr. Chairman. Mr. Darden, I know 
you are pinch hitting now for Mr. Sandmeyer. I assume he had a 
plane to catch, had to get home or something of that nature, 
but what I wanted to point out and I assume you are also 
representing the National Association of Manufacturers?
    Mr. Darden. Yes, sir.
    Mr. Hulshof. Please communicate to him that certainly he 
and his brother are in a distinct minority. By that I mean the 
fact that their family business is now in the third generation 
and when you consider nine out of ten family businesses don't 
make it through a third generation, I think--and while we can't 
lay the entirety of the blame at the feet of the death tax, I 
think the significant part of it needs to rely on the death 
tax. And so please communicate to him just how much of the 
minority he is, he and his family.
    We are making progress, ladies and gentlemen, and the fact 
that you are here, the fact that, as Mr. Tanner pointed out I 
think earlier, that today the Americans Against Unfair Family 
Taxation announced a campaign to help us raise public awareness 
about the impact of death taxes on family-owned businesses and 
I look forward to, hoping some of those television sponsored 
radio ads will run in my home State of Missouri.
    Today as the Chairman pointed out in his opening statement, 
the American Council for Capital Formation released its 24-
country survey. Interestingly, just as a quick perusal of it, 
that many industrialized countries, including Australia, 
Argentina, Canada, India, Mexico, even the People's Republic of 
China do not have any death or inheritance tax and I think as 
was pointed out by Ms. Dunn, other than the country of Japan, 
our highest rate on family-owned businesses is the highest on 
the face of the planet. So I think we are making some progress 
in raising the profile.
    My last count, ladies and gentlemen, is that of the 435 
Members in this body and the House of Representatives, 184 have 
signed on to or cosponsored some sort of death tax relief, 
which is a significant number, and I am hopeful that your 
presence here will help us continue that momentum and yet we 
still have challenges in front of us.
    I note that in today's National Journal of Congress Daily, 
it talks about next week's schedule in the Senate and I noticed 
that the Treasury Secretary designee Mr. Summers is up for 
confirmation hearings and if you weren't aware, and I would 
like your comment, perhaps as those hearings will commence 
soon, Mr. Summers reportedly stated back in 1997 that those of 
you that appear here today and those of us who want to see some 
relief from the Federal death tax are, quote, selfish.
    I would like to have any one of you who chooses to to 
respond to that assertion. Does anybody care to make a comment 
to Mr. Summer's comment?
    Mr. Speranza. I would like to. I would like to make two 
comments as it relates to that. Number one, I firmly believe 
that people have a right to understand where their estate goes. 
People generally do not understand tax gimmicks such as grits, 
grats, cruts, Q-tips, and the like. People work hard all their 
lives, such as the people you heard from today. They can't 
understand where their money is going and why it is tied up in 
the way that it is. I firmly believe that people who work hard 
to accumulate wealth ought to be able to understand their 
estate plans. I don't think that is being greedy to be able to 
know how your assets are going to be handled.
    Number two is that the rates are confiscatory. The State of 
New York is an example. The law is going to change but if you 
were to make a gift today, there is a 21-percent gift tax rate. 
So if you add the 55- and the 21-percent New York State tax 
rate, you get 76 percent. To oppose the requirement that 76 
percent of a gift goes to government, I don't think is greedy. 
I would like to make one last point. When you consider how you 
score these kinds of bills, and I understand you have to employ 
static scoring but logic shouldn't be lost. Whether you are 
greedy or not, just think of somebody considering making a gift 
at a 76-percent gift tax rate versus ratcheting down these 
rates over time or eliminating the estate and gift tax 
completely either under a Dunn-Tanner or Kyl-Kerrey approach. 
People will not transfer assets at such high tax rates. 
However, people will dispose of assets at a 20-percent tax 
rate. We see that right now with the capital gains rates in 
this country. People are not going to dispose of assets at the 
level of    55-, 61-, or 76-percent tax rates.
    Mr. Hulshof. I appreciate that comment. I notice my time is 
about to expire. At town meetings back in the Ninth 
Congressional District of Missouri, the guaranteed applause 
line is as follows. The death of a family member should not be 
a taxable event. And immediately those in attendance will erupt 
in applause. So I appreciate your being here and especially, 
Mr. Loop, appreciate your kind words regarding the farm and 
ranchers management account that you included in your written 
testimony.
    I see my time is up so I will yield back. Thank you.
    Mr. Loop, did you have a further comment if the Chairman 
will indulge you?
    Mr. Loop. I would like to comment because I certainly don't 
see this as greedy. These people are not wealthy people and 
this is particularly true when it comes to farm people. 
Farmland has appreciated in value. Most farm people don't have 
liquid assets. They don't realize they have an estate tax 
problem. Certainly these are not greedy people and they need 
relief from estate taxes.
    Mr. Hulshof. Thank you. Mr. Chairman, I yield back.
    Mr. Herger. Thank you, Mr. Hulshof.
    Mr. McInnis will inquire.
    Mr. McInnis. Thank you, Mr. Chairman. First of all, to my 
colleague, Mr. Hulshof, my response to your question with 
regard to Mr. Summers, if I was a Senator I would vote no on 
his confirmation based entirely on that particular remark. I 
think that is one of the least educated comments I have heard 
in my political career.
    In regards to the gentleman, Mr. Loop, Mr. Loop, my family, 
my wife's side have been ranchers. They realize they have an 
estate tax problem. They have lived poor all their life. They 
are going to die rich because they have a lot of landholdings. 
The fact is there is nothing they can do about it. They can't 
afford counsel. People say go buy life insurance. They barely 
make enough every year. In fact, 3 out of 4 years they lose 
money. And in my particular district, I have a unique district 
in that I represent one of the wealthier districts in the 
country.
    I have got the Rocky Mountains in Colorado. I have got 
resorts like Aspen and places like that that are forcing these 
prices up. And the only choice that these families have of 
course, as you know, is to sell parts of this land and once you 
sell the land, you can't sustain the size of the herd you have. 
Once you can't sustain the size of the herd, you can't sustain 
the family and it goes on down. Unfortunately it also hurts 
open space because of course the highest use of that land is to 
put in 2-acre lots or 35-acre lots and so on.
    I want to mention a couple of things. One, all of you, I 
would like you to take a look at my bill. I have got a bill out 
there that increases the annual gift exclusion from $10,000 to 
$20,000. That has not been changed since the early seventies. 
One way that you can over some time do some type of planning is 
begin to transfer to the next generation and at $20,000 you can 
move some property over a period of time, some substantial 
property.
    One other thing I might note, I had a good friend--Mr. 
Speranza, your comments were excellent. I had a very close 
friend of mine who sold an asset that he had, got hit with 
capital gains tax, and then unfortunately got terminal cancer 
and he died 4 or 5 months later so the effective tax rate on 
the estate was somewhere around 72 percent. When I was talking 
about the family, I said so all the family got was 28 percent. 
The 72-percent tax. So all it left the family was 28 percent. 
That was very interesting because the family member said, no, 
no, we didn't get 28 percent because in order for us to pay the 
72 percent, we had to go to a fire sale. The assets that we had 
to sell, we didn't get to sit and sell them at their real 
value. We had to move them and we had to move them quickly to 
pay the Federal Government. So they figure after the fire sale 
discount that their actual--what they got out of that estate 
was 21 or--20 or 21 percent.
    Now, another thing I might point out is kind of interesting 
in this particular family, they lived in a very small town. 
Seventy percent of the local Episcopal church, their budget, 
their annual budget was provided by this family and a number of 
other things, community, all of the money that that family made 
was banked in that community, was invested in that community, 
and was spent in that community. After that, after the death, 
the family could no longer contribute to the episcopal church 
more--a few dollars every week but certainly not of the same 
kind. It went on down. There is clearly a trickle down effect. 
What has happened is that money was removed almost instantly 
within the time limit, 3 months, whatever it is, from the local 
community there in Colorado to the State and to the Federal 
Government.
    So I think that--and when you look at the estate tax, I 
want to point this out too. I can--and I have got--my studies 
are in business and tax and law and so on. In all of my studies 
and research, I cannot find one tax that is as unequitable, as 
unjustified as the death tax.
    So I appreciate all of your comments today, Ms. Slater, 
what it does to business in the minority community. This is 
nothing but thievery by the Federal Government. So I don't 
think I have overstated my position. It is accurate. I feel 
very strongly.
    Thank you, Mr. Chairman.
    Mr. Herger. Thank you, Mr. McInnis. I also represent a 
rural, agricultural, small business district and the type of 
horror stories that Mr. McInnis is relating is one that each of 
us who have lived in this kind area very long can relate to. So 
it really emphasizes how crucially important the work we have 
before us is.
    With that, Mr. McCrery will inquire.
    Mr. McCrery. Thank you, Mr. Chairman. Mr. Coyne, you said 
that you had spent a lot of time with your tax attorneys, and 
so forth, trying to prepare your grandparents' estate and your 
parents' estate, I guess. In all of those discussions, have you 
talked about the change that the Congress made in the estate 
tax law a couple of years ago with respect to closely held 
family businesses increasing the exemption in effect to I think 
it was $1.3 or $1.5 million per spouse?
    Mr. Coyne. Certainly we have, and it was welcomed but my 
grandfather did pass away 10 years ago, and although grateful 
for all and any relief, we did get the sense that it was in our 
situation too little, too late, I guess.
    Mr. McCrery. Well, Mr. Sandmeyer commented earlier that 
that provision, that liberalization, if you will, of the law 
was of little help because the rules were so complex that I 
think he said no good tax lawyer would recommend that a family 
held business even try to do that because of all of the 
conditions attached.
    Mr. Darden, is that a fair recap of what he said?
    Mr. Darden. Yes. The issue is whether or not the tax 
attorney is worried about being hit with a malpractice suit 
afterward if it turns out that the family does not qualify at 
the later date. The key objection to that provision is that it 
is uncertain whether or not--you can't base your business plans 
on the knowledge that you are going to qualify for that because 
there are so many different factors that may work in there. It 
does represent a tax savings to certain small businesses. But 
as far as a company or a family that has diverse assets and 
they are trying to grow the business, there is the concern that 
if you rely on getting that and you buy less insurance because 
you are counting on qualifying, then you are leaving the door 
open if you don't qualify.
    Mr. McCrery. I see Mr. Speranza nodding his head that this 
is a problem.
    Mr. Speranza. There is no question about it. It is not only 
me, but other tax advisors are very reluctant to use it. It is 
very complicated, number one.
    Number two, people structure their businesses in a 
particular way for many, many purposes. To force family 
businesses to do things in a certain way to try to save taxes 
when there is no guarantee just doesn't work in most cases. It 
was a good attempt, but unfortunately it just didn't work.
    One additional comment on the suggestion of raising the 
$10,000 annual exclusion amount to $20,000, I would 
respectfully report that in the tax community we chuckle over 
how many decades it is going to be before there is another 
change in these exclusion amounts. It was $3,000 for decades. 
It has been $10,000 for decades. That is not a way to plan.
    What we really need is an overall approach that all of us 
have talked about today. With all due respect, we will take 
what we can get, but that is not the way to solve the problem, 
not in that area, not by raising the exemption. The bottom line 
is that businesses, family-owned businesses create jobs and a 
significant number of those businesses that create those jobs 
are worth more than the lifetime exemption amount. We just need 
estate tax relief for this country.
    Mr. McCrery. I want to ask you in just a second what kind 
of relief, but let me hammer this point. Mr. Coyne, the reason 
that I asked you first, you have been in the midst of trying to 
plan, and I was just curious if you had discussed this 
provision of closely held family businesses. If you haven't 
that is OK. If you have and you are knowledgeable on this and 
you might be able to use this, tell me. I was the author of the 
bill that was included in the omnibus tax bill that made this 
change in the estate tax. I thought it was the best thing that 
we could do with the limited amount of money that we had to 
work with. Now what I am hearing is that I was wrong, that 
wasn't the best thing that we can do. I am not a tax lawyer, I 
am just a poor country lawyer with no particular knowledge of 
the Tax Code, and I admit I probably wasn't the best one to 
craft this provision. However, it was with good intent to try 
to help family businesses. But if you are telling me now that 
it is money wasted, maybe we can recoup that money and repeal 
that change and use that money to lower the rates, or whatever 
we can do.
    So, Mr. Coyne, are you telling me that you don't care if we 
repeal that position?
    Mr. Coyne. Well, you asked me if I was involved with the 
discussions of that. We, of course, hired tax attorneys and our 
accountants to discuss that. I was more involved with the day-
to-day operation in trying to figure out--it was basically just 
tell us what is the best course to go so we can survive this 
because at the time my grandmother was 82 years old and married 
for 55 years and I guess the statistics on spouses surviving 
after that--fortunately, she is still strong and kicking but at 
the time it was really very daunting. I am not familiar with 
the intricacies of that.
    Mr. McCrery. If you could ask if they would mind if we 
repealed that change in the Tax Code and apply that money to 
Jennifer Dunn's bill or somebody else's approach. And then Mr. 
Speranza, I will give you a chance to answer my question.
    If it is no good to do what we did with the family business 
and no good to do what we did increasing the gift allowance and 
if it is no good increasing the unified credit, what should we 
do?
    Mr. Speranza. One of two things. Number one, the Dunn-
Tanner approach is excellent. If you repealed the provision you 
just talked about, you then have some funds for perhaps the 
first 5- or 10- or 15-percent reduction in the estate tax 
rates.
    Number two, is is important to take death out of the mix as 
a taxable event. If you consider the Kyl-Kerrey approach, an 
approach that all the organizations I represent support in 
principle, that would be an excellent way to proceed as well. A 
20-percent tax rate in the view of the organizations I 
represent, is going to actually release capital that is now 
tied up. It will actually generate additional tax revenue. 
People will not make gifts now. They just won't do it. So I 
would suggest either Dunn-Tanner or Kyl-Kerrey as the approach 
to use.
    Mr. McCrery. Thank you.
    Mr. Herger. I want to thank the members of this panel for 
your taking the time to appear before us and give your 
testimony and share with us your personal experiences as well 
as all of the members of the other panel.
    With that this hearing of the Ways and Means Committee on 
reducing the tax burden stands adjourned. Thank you very much.
    [Whereupon, at 3:10 p.m., the hearing was adjourned.]
    [Submissions for the record follow:]

Statement of Thomas McInerney, President, Aetna Retirement Services, 
Hartford, Connecticut

                            I. INTRODUCTION

    We appreciate this opportunity to present our views on ways 
to improve the retirement security of Americans. The tax code 
can be an important tool in advancing the retirement security 
of American workers. The private pension system in this country 
is doing a relatively good job at providing retirement benefits 
to a large portion of the American workforce. This is in part 
due to the tax-preferred treatment accorded contributions to 
qualified retirement plans under the tax code.
     We support the improvements to these tax code provisions 
that are included in H.R. 1102, the comprehensive pension 
reform legislation sponsored by Mr. Portman and Mr. Cardin. 
Many of these changes have been sorely needed for many years, 
and we believe if enacted they will have a beneficial effect on 
plans and plan participants, enabling them to better provide a 
secure retirement through their employer-sponsored plans.
    There continues to be a significant gap in coverage, 
however, among workers of smaller businesses. Less than 20 
percent of businesses with fewer than 25 employees sponsored a 
retirement plan. This means that only 13 percent of these 23 
million working Americans has the opportunity to participate in 
an employer-sponsored retirement plan. This is despite 
Congress's recent efforts, most notably in 1996, to create 
plans that small businesses will utilize, for instance, the 
SIMPLE IRA and 401(k) plan, which were authored by Mr. Portman 
in the House.

               II. RETIREMENT PLANS FOR SMALL BUSINESSES

A. Why don't more small businesses offer a retirement plan?

    A survey done by the Employee Benefits Research Institute 
(EBRI) in 1998 found that small businesses had several reasons 
why they decide not to offer a retirement plan. First, 
employees often prefer today's wages to tomorrow's benefits. 
This is likely to be especially true of lower-income workers. 
Second, administrative costs are too high. Third, small 
employers are concerned about fiduciary responsibilities and 
potential liability. Finally, employers are often uncertain 
about their future revenue stream and find it difficult to 
commit to sponsoring a plan.
    On the other hand, the EBRI survey found that small 
businesses might consider starting a retirement plan if certain 
things were to occur. The availability of a business tax credit 
could make a difference in the small business starting a plan. 
Also, reduced administrative requirements, allowing owners to 
save more in the plan, or easing of the vesting requirements 
were amongst other factors cited by small businesses as 
influencing their decision to start a plan.

B. The SIMPLE 401(k)

    Congress in 1996 attempted to respond to the needs of small 
business by enacting the SIMPLE IRA and the SIMPLE 401(k). 
Initial evidence seems to indicate that the SIMPLE IRA has 
proven attractive to some small businesses, primarily, we 
believe, those with one- or two-employees. One of the 
retirement policy concerns with relying on an IRA for 
retirement security is that the participant-owner has easier 
access to the funds than to the funds in an employer-sponsored 
plan (``leakage'').
    On the other hand, the SIMPLE 401(k) has not been much 
utilized by the small employer community. The small employer 
market has not found it attractive thus far, we believe for 
several reasons. The SIMPLE 401(k) requires the employer to 
make a 100 percent matching contribution up to 3 percent of pay 
for those deferring, or a 2 percent contribution for all those 
eligible. The marketplace has deemed this requirement too 
costly. Moreover, while it is expensive for the owner, the 
owner cannot get the full benefit that a regular 401(k) plan 
permits because the maximum deferral permitted is $6,000 rather 
than $10,000.
    Second, small employers continue to be concerned by the 
start-up costs and the related administrative costs of the 
plan. A full plan document is still required as well as a 
summary plan description, spousal notices, loan documents and 
annual plan reporting.

                    III. IMPROVING THE SIMPLE 401(K)

    All of these current concerns/issues can be addressed to 
expand coverage for employees working in small businesses. We 
believe that the SIMPLE 401(k) was the right path for Congress 
to take in attempting to provide small businesses with options 
for creating retirement plans. Much like the other changes 
proposed in H.R. 1102, there are a number of refinements that 
we would suggest be made to the current SIMPLE 401(k) to enable 
it to have the impact with the small business community that 
Congress intended. We hope these can be included with H.R. 1102 
as it moves forward in the legislative process.

A. Reducing employer cost

    First, Congress should act to address the problem of 
employer cost. There are several ways this could be done. Small 
businesses have judged the current match requirements to be too 
expensive. We would propose a somewhat lower match, but also 
some flexibility in the match requirements over a period of 
years recognizing some of the financial challenges small 
businesses often face. For instance, you could require a match 
of 50 percent of the deferral amount up to 4 percent of pay 
with an option for a 100 percent match. To provide flexibility, 
you could permit no match for the first two plan years or grant 
a tax credit to the employer for a match in the first 2 years. 
In addition, you could allow an employer to skip a match in one 
out of five years after the first five years, provided notice 
is given to employees.
    In addition, the employer's administrative costs of running 
a plan could be reduced. For instance, the plan document should 
be simplified to consist of no more than one page, which the 
IRS could put on its website and which the accountant for the 
small business could easily access. Another simplification 
would be to combine the filing of the annual plan return (Form 
5500) with the employer's tax return, for instance, using a 
one-page schedule.
    Employers should not have to worry about setting up another 
plan once they begin to outgrow the SIMPLE 401(k) plan, at 
least for some reasonable period of growth. We would suggest 
that the employer be able to maintain this new SIMPLE 401(k) 
plan until its workforce reaches 100, the cut-off for the 
current SIMPLE 401(k) plan.

B. Making the plan more valuable

    We fully support the change included in H.R. 1102 to raise 
the maximum deferral for both forms of 401(k) plans. This 
should give owners a better incentive to set up these plans. In 
addition, we applaud the catch-up provisions for workers over 
50 and would suggest adding a catch-up provision for workers 
that have been out of the workforce for some specified period 
of time. Finally, we support the provision in the Portman-
Cardin bill permitting business owners to borrow from the plan 
under the same terms as their other employees.

C. Balancing the employee's need for security with the 
employer's fear of liability

    As mentioned above, one of the reasons small businesses do 
not set up retirement plans is their fear of ERISA liability as 
fiduciary of the plan assets. We suggest the creation of a safe 
harbor from ERISA liability along the lines of the current 
404(c) safe harbor. To take advantage of this new safe harbor, 
a SIMPLE 401(k) sponsor would have to place the plan assets in 
an established bank, insurance company, mutual fund or other 
entity regulated by the Federal or State government. This 
entity must publish an annual internal control audit. All 
participants must have toll-free telephone or internet access 
to the entity to verify balances independent of their employer. 
The plan sponsor would have to meet all existing requirements 
for remitting contributions to the entity on a timely basis. If 
these and other 404(c) requirements are met, the plan sponsor 
would enjoy fiduciary protection.

                             IV. CONCLUSION

    Our experience tells us that there is no single solution 
for the pension coverage gap in the small business sector of 
our economy. This sector is highly segmented by demographic and 
market forces, such as age of the owner and the business, the 
type of business, the size of the workforce, the age of the 
workforce and other factors. The existing SIMPLE 401(k) should 
remain in place for the ``bigger'' small businesses. Creative 
thinking on a defined benefit plan for small businesses should 
be encouraged as well.
    We believe, however, with these changes for businesses of 
25 employees or less, the SIMPLE 401(k) could become a popular 
tool for providing retirement security for workers in these 
particularly small businesses. We urge the Committee to give 
consideration to these changes as it contemplates the many 
excellent reforms included in the Portman-Cardin legislation 
and other pension reform bills.
      

                                


Statement of America's Community Bankers

    Mr. Chairman and Members of the Committee:
    America's Community Bankers appreciates this opportunity to 
submit testimony for the record of the hearing on retirement 
and health security. America's Community Bankers (ACB) is the 
national trade association for progressive community bankers 
across the nation. ACB members have diverse business strategies 
based on consumer financial services, housing finance, small 
business lending, and community development, and operate under 
several charter types and holding company structures.
    ACB members are actively involved in offering prototype 
IRAs and qualified plans and recognize the critical need to 
increase the current rate of retirement saving. It has been 
widely reported that the ``baby-boom'' generation is not saving 
out of income at anywhere near the rate needed to provide 
adequate retirement income. ACB recognizes that many households 
are currently reaping the benefit of stellar returns on equity 
holdings in 401(k) and other accounts but these sources do not 
represent truly new savings, merely higher, and potentially 
temporary though of course welcome, returns on existing 
retirement assets. At the same time, despite your best efforts, 
Mister Chairman, Congress seems unable to act to eliminate the 
looming insolvency of the current Social Security system. ACB 
believes that it is imperative that Congress do more to enhance 
the attractiveness of individual retirement plans and employer-
sponsored plans. Inducing a higher level of retirement savings 
through sound tax policy is one way to eliminate some of the 
unavoidable pressure on Social Security. H.R. 1546, the 
Retirement Savings Opportunity Act of 1999, introduced by Rep. 
Thomas and H.R. 1102, the Comprehensive Retirement Security and 
Pension reform Act, introduced by Reps. Portman and Cardin are 
excellent vehicles for accomplishing much needed reform of the 
pension provisions in the tax code and ACB is strongly 
supportive of their enactment.
    Under current law in order for an individual to make the 
maximum IRA contribution for a year he or she is required to 
work through a daunting maze of eligibility and income 
limitations that apply to the interaction of traditional IRAs, 
Roth IRAs, and spousal IRAs. This interaction does not even 
consider the separate eligibility and contribution rules that 
apply for the so-called Education IRA, which cause additional 
confusion for IRA participants. (The mind-boggling complexity 
of the relationships of the various IRA eligibility rules, as 
well as the internal complexity of the Roth IRA rules, are set 
out in Attachment A, Complexities to Consider in the Roth IRA.) 
The confusion caused in the minds of investors by the 
inconsistent and complex eligibility rules may be inhibiting 
participation, particularly among middle class individuals who 
participate in employer plans and who are in the phase-out 
ranges of income. This includes plan participants who marry and 
lose eligibility to make traditional IRA contributions and plan 
participants who quit work and are unaware that they have 
become eligible for a spousal IRA.
    The income limits on the eligibility of participants in 
employer plans was imposed by the Tax Reform Act of 1986. H.R. 
1546 would eliminate the eligibility rules and restore 
universal eligible for traditional IRAs. In addition, H.R. 1546 
would eliminate the income limit (based on ``modified adjusted 
gross income'') on eligibility to contribute to a Roth IRA and 
would change the $100,000 modified AGI limit on Roth IRA 
conversions to $1 million.
    It should be noted that the current $2,000 overall limit on 
IRA contribution has remained unchanged since 1981. IRAs are 
alone among tax-advantaged retirement plans with a contribution 
limit that is not indexed for inflation. In fact, if the 
original $1,500 IRA contribution limit had been indexed for 
inflation since 1974, it would currently be approximately 
$5,000. H.R. 1546 and H.R. 1102, in effect, recognize this fact 
by increasing the overall IRA contribution limit to $5,000 and 
H.R. 1546 would index this amount for future inflation.
    H.R. 1546 would permit IRA owners who are 50 years of age 
and older to make additional annual IRA contributions of 
$3,000. H.R. 1102 would increase the elective deferrals 
permitted under 401(k), SEP, Simple Retirement Accounts, and 
457 plans permitted to be made by 50 year-olds by $5,000. These 
``catch-up'' contributions would create fairer treatment for 
middle class IRA participants who are often unable to make the 
full IRA contribution in their younger years because of family 
obligations.
    Both H.R. 1546 and H.R. 1102 would make an incremental 
expansion of the Roth IRA concept that, given the popularity of 
the Roth IRA, is simply a matter of common sense. Both bills 
would permit 401(k) plans to offer an option whereby employees 
may treat elective deferrals as after-tax contributions and the 
earnings, which will accumulate tax-free, will be tax-free upon 
distribution. Providing the Roth IRA option in a 401(k) is 
likely to substantially increase the employee's retirement nest 
egg, not only because of the inherent advantage of the Roth IRA 
concept for younger participants, but because of the discipline 
that would be imposed by contributions being made under a 
payroll deduction plan.
    Another basic idea that should be considered is the 
redefinition of participation in a defined benefit plan. 
Because of the imposition of vesting periods, an employee who 
changes every three years or so might never gain any vested 
retirement benefits but be debarred from contributing fully to 
a regular IRA account.
    In many cases the Tax Reform Act of 1986 imposed limits on 
the benefits and compensation that could be taken into account 
in funding ERISA benefits. The Omnibus Budget Reconciliation 
Act of 1993 reduced limits still further and the Retirement 
Protection Act of 1994 made reductions in the rates of cost-of-
living indexing. H.R. 1102 would restore these benefit and 
compensation limits and indexing rates schedules that were 
reduced. Similar increases in benefits and indexation rates 
would be made for other plans. For example, the annual benefit 
limit of section 415(b)(1) for defined benefit plans would be 
increased from $90,000 to $180,000. The compensation limit 
under section 401(a)(17) would be increased from $150,000 to 
$235,000. With respect to defined contribution plans, the 
dollar amount of the annual addition would be increased from 
$30,000 to $45,000 and corresponding 25% limitation would be 
eliminated altogether. The limit on elective contributions 
under 401(k), SEP, and 403(b) would be increased from $7,000 to 
$15,000. In the case of 457 Similar increases would be made for 
457 plans, Simple Retirement Plans, and plans maintained by 
local governments and tax-exempt organizations.
    The dollar limits have become unrealistic over time so that 
the increases will benefit primarily middle class employees. 
Senior management will still largely rely on nonqualified 
deferred compensation plans and incentive stock options. Even 
the increase in the section 401(a)(17) limit will benefit all 
employees in a defined benefit plan by accelerating the full 
funding of the plan. In the case of defined contribution plans, 
eliminating the 25% limit will provide middle class workers 
with additional flexibility to make catch-up contributions to 
offset participation lapses during their younger years or when 
they had interrupted employment to raise families.
    Several other provisions in H.R. 1102 would encourage 
employers to create new retirement plans. For example, the 
complex top-heavy rules that often inhibit plan creation by 
smaller employees would be modified and simplified. PBGC 
premiums would be reduced for new plans of small employers and 
phased in for other new single-employer plans. In addition, 
small employers will be eligible for a section 38 credit for a 
portion of the costs of starting up a retirement plan.
    H.R. 1102 will increase pension portability by permitting 
rollovers among section 457, 403(b), qualified plans, and IRAs. 
The bill would also permit rollovers of employee after-tax 
contributions to an IRA. Unaccountably, employee after-tax 
contributions are not permitted to be rolled over to another 
qualified plan--this shortcoming serves no sound policy purpose 
and should be eliminated. In addition, H.R. 1102 would 
eliminate two other rules that inhibit portability in the 
context of a merge or acquisition. Optional forms of benefit 
distribution would no longer be required to be preserved where 
plan benefits are being transferred directly to another plan. 
The requirement in current Treasury regulations that such 
optional benefits be preserved in a transfer of benefits to 
another plan inhibited the consolidation of the acquired 
employees' benefits after a merger or acquisition. Similarly, 
the so-called ``same desk'' rule of section 401(h) would be 
eliminated. This rule prevents an employee from rolling over a 
section 401(k) plan to a new employer's plan or an IRA, where 
the employee continues to perform the same job for the new 
employer after an acquisition. The employee is required to 
remain in the seller's plan because, as a technical matter, he 
or she has not incurred a ``separation from service.''
    Although, strictly speaking, the minimum distribution rules 
of section may not impact an employer's decision to set up a 
retirement plan or an employee's decision to participate or 
establish an IRA, they no longer reflect the realities of the 
workforce and do not serve a valid policy purpose. (It should 
be noted that they do not apply to the Roth IRA.) H.R. 1102 
would substantially simplify the minimum distribution rules.
    Mr. Chairman the need to encourage retirement saving and 
enhance retirement security is critical and you are to be 
applauded for holding this hearing to explore ways to achieve 
this goal. Enactment of H.R. 1546 and H.R. 1102 would 
contribute substantially to achieving it and ACB strongly urges 
the Committee to pass them. Once again, Mr. Chairman, ACB is 
grateful to you and the other members of the Committee for the 
opportunity you have provided to make our views known on this 
very important issue. If you have any questions or require 
additional information, please contact James E. O'Connor, Tax 
Counsel of ACB, at 202-857-3125.
      

                                


ATTACHMENT A

The Considerable Complexities Of The Roth IRA

    Section 408A of the Internal Revenue Act of 1986 (the 
Code), which was added by the Taxpayer Relief Act of 1997 \1\ 
(the 1997 Act) and is effective for tax years beginning after 
December 31, 1997, created the Roth IRA, a new individual 
retirement plan with great potential to encourage new 
retirement savings and take some pressure off Social Security. 
Section 408A was amended by the Internal Revenue Service 
Restructuring and Reform Act of 1998 \2\ (the 1998 Act) and on 
February 3, 1999, final regulations from the Internal Revenue 
Service (TD 8816) were published under section 408A. The 
potential of the Roth IRA has been constrained in several ways. 
The combined annual limit on IRA contributions has remained 
stuck at $2,000 since 1981 because of budgetary constraints and 
misplaced social fairness concerns. In addition, the 
proliferation of individual saving arrangements is confusing. A 
more immediate constraint, however, because it reflects, in 
many instances, specific judgments and reactive decisions of 
Congress and the IRS, is the complexity of the Roth IRA 
provisions and the complexity of their interaction with 
traditional (deductible) IRA provisions. This complexity makes 
the Roth IRA confusing for trustees and participants, has added 
significant overhead costs, and may have discouraged 
competition among potential plan sponsors.
---------------------------------------------------------------------------
    \1\ Public Law 105-34 (111 Stat. 788).
    \2\ Public Law 105-206 (112 Stat. 685).
---------------------------------------------------------------------------

                             Contributions

    Contributions may be made to a Roth IRA beginning on 
January 1, 1998. Like the traditional IRA, contributions may be 
made to a Roth IRA for a particular year until the unextended 
due date (i.e., April 15th for calendar year taxpayers) of the 
income tax return for that year.\3\ Unlike a traditional IRA, 
contributions to a Roth IRA are not deductible,\4\ but the 
entire amount of any ``qualified distribution'' will be tax-
free. (See Qualified Distributions, below.) Note that, by 
comparison with the permanent exclusion from taxation for Roth 
IRA earnings, the tax advantage conferred on nondeductible 
contributions to a traditional IRA is limited to the deferral 
of taxation of their earnings until distribution. Deductible 
contributions cannot be made to a traditional IRA during and 
after the year in which an individual (or spouse, in the case 
of a spousal IRA) reaches age 70\1/2\, but contributions may be 
made to a Roth IRA at any age \5\--to the extent that the 
individual has compensation at that age.
---------------------------------------------------------------------------
    \3\ See section 219(f)(3) of the Internal Revenue Code.
    \4\ See section 408A(c)(1) of the Code. 
    \5\ See section 408A(c)(4) of the Code.
---------------------------------------------------------------------------
    Individuals are permitted to maintain a traditional IRA 
(making deductible and/or nondeductible contributions) and a 
Roth IRA simultaneously, but the maximum annual combination of 
contributions is still limited to the lesser of $2,000 or the 
individual's compensation for the year,\6\ excluding rollover 
contributions to the Roth IRA. (It should be noted that an 
``education IRA'' is not included in the definition of an 
``individual retirement plan'' under section 7701(a)(37) and, 
thus, contributions to an education IRA do not count against 
this annual contribution limit.) The final regulations provide 
that, as is permitted for traditional IRAs under section 
408(c), an employer or employee association may establish and 
even administer a trust set up to hold contributions made to 
separate employee accounts, each of which is treated as a 
separate Roth IRA.\7\ In fact, it seems apparent that the 
regulations are clarifying that section 408(c) is just one of 
the traditional IRA provisions applicable to Roth IRAs under 
the general overlay rule of section 408A(a). Thus, the employer 
intending to create a Roth IRA trust for its employees should 
do so by specific reference to the provisions of section 408(c) 
in order to avoid taking on ERISA duties and liabilities. 
Likewise, a parent or guardian may make contributions to a Roth 
IRA on behalf of a minor, provided the minor has compensation 
in the amount of the contribution.\8\ As with traditional IRAs, 
a 6% penalty on excess contributions applies to the Roth 
IRA,\9\ but the penalty can be avoided by distributing the 
excess before the extended due date of the return for the year 
of contribution.\10\ (See Corrective Distributions, below.
---------------------------------------------------------------------------
    \6\ See section 408A(c)(2) of the Code.
    \7\ See Treasury regulation section 1.408A-2 A-3.
    \8\ See the preamble to the final regulations, General Provisions 
and Establishment of Roth IRAs.
    \9\ See section 4973(f) of the Code.
    \10\ See sections 408A(d)(2)(C) of the Code.
---------------------------------------------------------------------------

         Active Participation in an Employer's Retirement Plan

Traditional IRAs

    Individuals are permitted to deduct the full $2,000 
contribution to a traditional IRA regardless of how high their 
adjusted gross income level may be \11\--provided they are not 
participants in an employer's retirement plan.\12\ Where an 
individual is an ``active participant'' in an employer's 
retirement plan, the portion of an IRA contribution that is 
deductible will decline from the full $2,000 to zero as his or 
her adjusted gross income \13\ increases above a certain dollar 
amount.\14\
---------------------------------------------------------------------------
    \11\ See section 219(b)(1) of the Code.
    \12\ The IRS provides guidance for determining whether an 
individual is an active participant in Notice 87-16, 1987-1 CB 446. If 
an individual's employer maintains a defined benefit plan, he or she is 
treated as an active participant merely on the basis of being eligible 
to participate for any part of the plan year ending with or within the 
individual's tax year, even where he or she elects not to participate 
or ultimately fails to perform the minimum service required to accrue a 
benefit. If the employer maintains a defined contribution plan (a money 
purchase, profit-sharing, which includes a 401(k), or stock bonus 
plan), an individual is an active participant where employer or 
employee contributions or forfeitures are allocated to his or her 
account for a plan year ending on or within the individual's tax year.
    \13\ Three terms applicable to the IRA contribution limits should 
be understood: ``compensation''; ``adjusted gross income''; and 
``modified adjusted gross income.'' IRA contributions must be made from 
compensation and the definition becomes important because Roth IRA 
contributions may be made well into an individual's retirement.
    (1) Compensation may be defined simply as the amount reported on 
the Form W-2 of an employee or the ``earned income'' of a self-employed 
individual. The term compensation includes alimony, but it does not 
include: (1) gifts; (2) distributions from pension plans (including 
401(k) plans and IRAs), commercial annuities, and deferred compensation 
arrangements; and (3) Social Security benefits. See section 219(f)(1) 
of the Code.
    (2) Adjusted gross income, as used to limit contributions by active 
participants in employer plans, includes the taxable portion of social 
security and railroad retirement and passive activity losses and 
credits, but U.S. Savings bond proceeds paid for higher education, 
adoption assistance paid by employers, and the foreign income of U.S. 
citizens to the extent otherwise excluded are added back. The amount of 
any deductible IRA contribution is also added back to AGI. See section 
219(g)(3)(A) of the Code.
    (3) Modified adjusted gross income, which limits the ability of all 
individuals to make Roth IRA contributions, excludes amounts otherwise 
included in AGI resulting from the conversion of a traditional IRA to a 
Roth IRA. See section 408A(c)(3)(C)(i)(I) of the Code and Treasury 
regulation sections 1.408A-3 A-5 and A-6. For taxable years beginning 
after 2004, required minimum distributions from IRAs are also not 
included in modified adjusted gross income for the purpose of 
determining eligibility to convert a traditional IRA to a Roth IRA 
(i.e., the $100,000 modified AGI limitation). See section 
408A(c)(3)(C)(i)(II) of the Code.
    \14\ See section 219(g) of the Code.

---------------------------------------------------------------------------
Roth IRAs

    Unlike traditional IRAs, no limitation is imposed on Roth 
IRA contributions because the owner is an active participant in 
an employer's plan.\15\ The 1998 Act also conferred a benefit 
by clarifying that the amount of the Roth IRA contribution that 
self-employed individuals are permitted to make for a given 
year will not be reduced by any contributions that they make on 
their own behalf to SEP IRAs or SIMPLE IRAs,\16\ as well as 
corporate or Keogh plans. But individuals are not permitted to 
make contributions to a Roth IRA above certain levels of 
``modified adjusted gross income'' \17\--regardless of whether 
they participate in an employer's plan.
---------------------------------------------------------------------------
    \15\ See section 408A(c)(3) of the Code.
    \16\ See section 408A(f)(2) of the Code and Treasury regulation 
section 1.408A-3 A-3(c)(2).
    \17\ See section 408A(c)((3)(A) of the Code.
---------------------------------------------------------------------------

Modified Adjusted Gross Income Limitations on Regular (Annual) Roth IRA 
                             Contributions

    The limitations on regular Roth IRA contributions are as 
follows:
    (1) For a married couple filing a joint return, eligibility 
to make regular Roth IRA contributions is phased out between 
``modified AGI'' of $150,000 and $160,000 (regardless of 
whether or not either spouse is a participant in an employer-
sponsored plan). The statutory calculation of the annual 
contribution a joint return filer is permitted to make is 
$2,000 (or, if less, compensation) reduced by an amount that 
bears the same ratio to $2,000 (or, if less, compensation) that 
the excess of modified AGI over $150,000 bears to $10,000.\18\
---------------------------------------------------------------------------
    \18\ See sections 408A(c)(3)(A) and (C)(ii)(I) of the Code.
---------------------------------------------------------------------------
    (2) For a single individual, eligibility is phased out 
between modified AGI of $95,000 and $110,000. The contribution 
calculation for the single filer is $2,000 (or, if less, 
compensation) reduced by an amount that bears the same ratio to 
$2,000 (or, if less, compensation) that the excess of modified 
AGI over $95,000 bears to $15,000.\19\
---------------------------------------------------------------------------
    \19\ See sections 408A(c)(3)(A) and (C)(ii)(II) of the Code.
---------------------------------------------------------------------------
    (3) For a married individual who files a separate return, 
eligibility is phased out between modified AGI of $0 and 
$10,000. The contribution calculation for the separate filer is 
$2,000 (or, if less, compensation) reduced by an amount that 
bears the same ratio to $2,000 (or, if less, compensation) that 
the excess of modified AGI over $0 bears to $10,000.\20\
---------------------------------------------------------------------------
    \20\ See sections 408A(c)(3)(A) and (C)(ii)(III) of the Code.
---------------------------------------------------------------------------

                     Rounding and De Minimis Rules

    The rounding and de minimis rules applicable to traditional 
IRAs do apply to Roth IRAs. If the contribution under the 
calculation formula is not a multiple of 10, it is rounded to 
the next lowest multiple of 10. If the calculation yields a 
deductible amount of less than $200, but more than zero, the 
owner may deduct a $200 IRA contribution.\21\
---------------------------------------------------------------------------
    \21\ See section 408A(c)(3)(A) of the Code.
---------------------------------------------------------------------------

                            Spousal Roth IRA

    As with a traditional IRA, a working spouse may make a Roth 
IRA contribution on behalf of a spouse who has insufficient 
compensation to make his or her own Roth IRA contribution, 
providing they file a joint return.\22\ After the husband or 
wife makes a regular contribution of up to $2,000 to his or her 
Roth IRA and/or deductible IRA, he or she is then permitted to 
contribute to the other spouse's Roth IRA and/or deductible IRA 
an additional $2,000 or, if it is less, the amount of both 
spouses' combined compensation reduced by the first Roth and/or 
traditional IRA contribution.
---------------------------------------------------------------------------
    \22\ See section 219(c) of the Code.
---------------------------------------------------------------------------
    In other words, the ``excess'' compensation of the higher 
paid spouse is used to boost the eligibility of the other 
spouse to make a Roth IRA contribution, although the actual 
contribution to the spousal Roth IRA may come from the funds of 
either spouse. In the most common set of facts where a working 
spouse has at least $4,000 of compensation, he or she may 
contribute $2,000 to the spousal Roth IRA of a nonworking 
spouse, as well as $2,000 to his or her own IRA. The issue of 
insufficient compensation will more likely arise for Roth IRA 
owners than for owners of traditional IRAs because, as 
mentioned, contributions may be made to a Roth IRA after age 
70\1/2\.

       Interplay of Roth and Traditional IRA Contribution Limits

    Taxpayers should be mindful of the interplay of the Roth 
IRA and the traditional IRA rules so they may maximize the 
benefits of the $2,000 total IRA contribution they are 
permitted to make (if only as a nondeductible IRA contribution) 
while avoiding the 6% penalty on excess contributions that is 
applicable to Roth IRAs, as well as traditional IRAs. The 
distinction between AGI and modified AGI should be borne in 
mind in those years where additional AGI is created by the 
conversion of a traditional IRA to a Roth IRA. 
    A. In the case of the 1998 return of a single individual: 
    (1) Where he or she is an active participant with AGI under 
$30,000, his or her entire $2,000 contribution may be deducted 
as a contribution to a traditional IRA or the entire $2,000 may 
be contributed to a Roth IRA.
    (2) Where the AGI of an active participant is between 
$30,000 and $40,000, the deductibility of a $2,000 IRA 
contribution would be gradually eliminated, but he or she could 
choose between contributing the remainder, or the full amount, 
of the $2,000 to a Roth IRA.\23\
---------------------------------------------------------------------------
    \23\ The deductibility of traditional IRA contributions is phased 
out for single individuals who are active participants in employer 
plans according to the following schedules:

------------------------------------------------------------------------

------------------------------------------------------------------------
1998...........................................           $30,000-$40,00
1999...........................................           $31,000-$41,00
2000...........................................           $32,000-$42,00
2001...........................................           $33,000-$43,00
2002...........................................           $34,000-$43,00
2003...........................................           $40,000-$50,00
2004...........................................           $45,000-$55,00
2005 and thereafter............................           $50,000-$60,00
------------------------------------------------------------------------


    For example, if a single individual, who participates in an 
employer's pension plan, reports $36,000 of AGI on his 1998 
return, he could make a deductible IRA contribution of no more 
than $800 [$2,000 minus $2,000 ($6,000/$10,000)]. See section 
219)(g)(3)(B)(ii) of the Code.
    (3) Where the single active participant's modified AGI is 
between $95,000 and $110,000, the amount of the $2,000 
contribution that can be contributed to a Roth IRA will be 
phased down to zero. Nevertheless, within, or above, this 
modified AGI range, the single filer may contribute the 
remainder of his or her $2,000 contribution to a traditional 
IRA, but only as an after-tax (nondeductible) contribution.\24\
---------------------------------------------------------------------------
    \24\ See section 408(o) of the Code for the rules on nondeductible 
contributions to traditional IRAs.
---------------------------------------------------------------------------
    B. Where the single individual is not an active participant 
in an employer plan, he or she may contribute the entire $2,000 
as a deductible IRA contribution--regardless of how high his or 
her AGI may be.\24\ On the other hand, the ability of a single 
(or married) individual to make a Roth IRA contribution is not 
affected by whether or not he or she is an active participant, 
but the ability of a single individual to contribute to a Roth 
IRA will still phase out between modified AGI of $95,000 and 
$110,000.
---------------------------------------------------------------------------
    \24\ See the general rule of section 219(b)(1), as modified by 
section 219(g)(1) of the Code.
---------------------------------------------------------------------------
    C. With respect to a spouse who joins in a joint return for 
1998 and is an active participant:
    (1) If joint return AGI is less than $50,000, his or her 
$2,000 may be used to make a fully deductible contribution to a 
traditional IRA or the full $2,000 may be contributed to a Roth 
IRA. 
    (2) Where joint AGI is between $50,000 and $60,000, the 
active participant spouse may still contribute the full $2,000 
to a Roth IRA, but within this joint return AGI range the 
deductibility of the active spouse's traditional IRA 
contribution will be phased out for 1998. The active 
participant spouse could split the $2,000 between the portion 
that may be deducted as a traditional IRA contribution and a 
Roth IRA contribution. The deductibility of traditional IRA 
contributions is phased out for married individuals who file 
jointly and are active participants in employer plans according 
to the following schedules:

------------------------------------------------------------------------

------------------------------------------------------------------------
1998...........................................           $50,000-$60,00
1999...........................................           $51,000-$61,00
2000...........................................           $52,000-$62,00
2001...........................................           $53,000-$63,00
2002...........................................           $54,000-$64,00
2003...........................................           $60,000-$70,00
2004...........................................           $65,000-$75,00
2005...........................................           $70,000-$80,00
2006...........................................           $75,000-$85,00
2007 and thereafter............................         $80,000-$100,00
------------------------------------------------------------------------
Note that the ratio of the statutory formula will change for tax years
  after 2006. For example, if a married couple, one of whom participates
  in an employer's pension plan, reports $84,000 of AGI on their 2008
  joint return, the active participant could make a deductible IRA
  contribution of no more than $1,600 [$2,000 minus $2,000 ($4,000/
  $20,000)]. See section 219)g)(3)(B)(i) of the Code. The contribution
  of the other spouse would not be reduced.

    (3) Between joint AGI of $60,000 and joint modified AGI of 
$150,000, the active participant spouse could not make a 
deductible IRA contribution for 1998, but could still 
contribute the full $2,000 to a Roth IRA. 
    (4) Between $150,000 and $160,000 of joint modified AGI, as 
the ability to contribute to a Roth IRA is phased down to zero, 
the remainder of the $2,000 contribution may only be used to 
make a nondeductible IRA contribution.
    D. Where a couple files a joint return and neither spouse 
is an active participant, each can make a $2,000 deductible IRA 
contribution, no matter how high their AGI is for 1998 or a 
subsequent year. Alternatively, all or part of the $2,000 may 
be contributed to a Roth IRA--subject to the phase-out of Roth 
IRA contributions between joint return modified AGI of $150,000 
and $160,000.
    E. For tax years beginning after 1997, where a couple files 
a joint return and only one spouse is an active participant in 
an employer's plan, the deductibility of traditional IRA 
contributions made by or on behalf of the spouse who does not 
participate in an employer's retirement plan will, for most 
couples, no longer be affected by the other spouse's active 
participation. The deductibility of the traditional IRA 
contribution made by or for the spouse who is not an active 
participant will be phased out only as the couple's joint 
return AGI increases from $150,000 to $160,000. The statutory 
calculation of the deductible contribution is $2,000 reduced by 
an amount that bears the same ratio to $2,000 that the excess 
of AGI over $150,000 bears to $10,000.\25\ The couple must file 
a joint return and the spouse who is an active participant in 
the employer's plan will still be subject to a deductibility 
phase-out that begins at AGI of $50,000 for 1998.
---------------------------------------------------------------------------
    \25\ See section 219)(g)(7) of the Code, as amended by a technical 
correction in the 1998 Act.
---------------------------------------------------------------------------
    (1) Below $150,000 of joint return AGI, the entire $2,000 
maximum contribution made by, or on behalf of, a spouse who is 
not an active participant (where the other spouse is) may be 
deducted as a traditional IRA contribution or allocated 
entirely to a Roth IRA. 
    (2) IRA deductibility and Roth eligibility phase out 
between $150,000 and $160,000 of joint return AGI and modified 
AGI, respectively, for the nonparticipant spouse of an active 
participant, but he or she should be mindful of the fact that 
for a year where a traditional IRA is converted to a Roth IRA, 
the amount converted to the Roth will be included in AGI, but 
will not be included in modified AGI. Thus, even though AGI for 
the year may exceed $160,000 because of the conversion, the 
$100,000 modified AGI limit on the ``conversion'' of a 
traditional IRA to a Roth IRA (see ``Conversion to a Roth 
IRA,'' below) makes it highly likely that both spouses will be 
able to make the full $2,000 Roth contribution. 
    (3) Where the joint return modified AGI of a couple, one of 
whom is an active participant and the other is not, is above 
$150,000, all or a portion of each spouse's $2,000 total IRA 
contribution can only be made as a nondeductible traditional 
IRA contribution.
    F. In the case of a married individual who files a separate 
return:
    (1) Regardless of whether the individual or his or her 
spouse is an active participant in an employer's plan, a 
married individual's permitted Roth IRA contribution phases 
down to zero as separate return modified AGI increases from 
zero to $10,000. \26\
---------------------------------------------------------------------------
    \26\ See section 408A(c)(3)(A)(ii) and (C)(ii)(III) of the Code, as 
amended by the 1998 Act.
---------------------------------------------------------------------------
    (2) Where the married individual filing a separate return 
is an active participant, or where his or her spouse is an 
active participant, the ability of either spouse to make a 
deductible IRA contribution will phase out between separate 
return AGI of zero and $10,000.\27\ Any difference between 
$2,000 and the deductible and the Roth IRA contributions that 
are permitted may be contributed as a nondeductible IRA 
contribution.
---------------------------------------------------------------------------
    \27\ See section 219(g)(3)(B)(iii) of the Code.
---------------------------------------------------------------------------
    (3) On the other hand, if neither the individual nor his or 
her spouse is an active participant, there will be no AGI 
limitation on the ability of a married individual filing 
separately to make deductible IRA contributions. \28\
---------------------------------------------------------------------------
    \28\ See section 219(b)(1) of the Code.
---------------------------------------------------------------------------
    The regulations interpret section 408A(c)(2) as providing 
that, where the total contributions for a year to a Roth IRA 
and a traditional IRA exceed the lesser of $2,000 or 
compensation, the excess contribution is deemed to have been 
made to the Roth IRA.\29\ It would seem, however, that should 
an individual's contributions to a Roth IRA and a traditional 
IRA--after age 70\1/2\--exceed the lesser of $2,000 or 
compensation, the excess contribution should be deemed to have 
been made to the traditional IRA (to which contributions cannot 
be made after age 70\1/2\), but the regulations do not address 
this situation.\30\
---------------------------------------------------------------------------
    \29\ See Treasury regulation section 1.408A-3 A-3(d), Example 2..
    \30\ The excess contributed to the traditional IRA cannot be 
treated as a nondeductible contribution for purposes of section 
408A(c)(2)(B) because under section 408(o) nondeductible contributions 
are limited to the amount allowed as a deductible IRA contribution, 
which would be zero after age 70\1/2\. Section 408A(c)(2)(A), however, 
uses the deductible IRA amount without reference to the age 70\1/2\ 
limitation.
---------------------------------------------------------------------------

                        Conversion to a Roth IRA

    In addition to making the regular contributions of up to 
$2,000, owners may roll over or ``convert'' amounts in other 
IRAs to their Roth IRAs. The entire amount converted to a Roth 
IRA will be included in gross income, except that nondeductible 
contributions to a traditional IRA may be converted to a Roth 
IRA tax-free as a return of basis.\31\ The chief benefit 
conferred by a valid Roth conversion is that a contribution, 
far in excess of the regular contribution limit, can begin 
generating tax-free earnings. The 10% premature distribution 
penalty will not apply to a valid conversion distribution, 
despite the fact that the distribution from the traditional IRA 
would fail to qualify for one of the exceptions under section 
72(t)(3)(A).\32\
---------------------------------------------------------------------------
    \31\ See section 408A(d)(3)(A)(i) of the Code.
    \32\ See section 408A(d)(3)(A)(ii) of the Code.
---------------------------------------------------------------------------
    When considering a Roth IRA conversion, the distinction 
between AGI and ``modified AGI'' must be borne in mind. While 
the amount distributed from a traditional IRA in a conversion 
transaction is included in gross income and is, thus, included 
in the calculation of AGI, it is excluded from the calculation 
of a modified AGI amount used to determine eligibility to make 
the conversion.\33\ Only those taxpayers whose modified AGI for 
the distribution year does not exceed $100,000 will be able to 
make a valid Roth IRA conversion.\34\
---------------------------------------------------------------------------
    \33\ See section 408A(c)(3)(C)(i) of the Code.
    \34\ See section 408A(c)(3)(B)(i) of the Code.
---------------------------------------------------------------------------
    It is clear under the statute that a single taxpayer whose 
modified AGI exceeds $100,000 is ineligible to make a 
conversion. It is not entirely clear, based solely on the 
statute, whether the $100,000 modified AGI limit could apply 
individually to joint return filers. (It should be noted that a 
married individual filing separately is not eligible for a Roth 
IRA conversion.\35\) The regulations, however, interpret the 
somewhat ambiguous term ``taxpayer's adjusted gross income'' in 
the statute as requiring that modified AGI be based on joint 
return AGI.\36\ The use of the term ``taxpayer'' arguably gave 
the IRS sufficient interpretive flexibility that the $100,000 
modified AGI limit could have been applied individually to the 
husband and wife who file a joint return. In any case, the 
application of such a severe marriage penalty to Roth IRA 
conversions is indefensible as a matter of sound tax 
policy.\37\ In defense of the IRS interpretation, however, The 
term ``taxpayer'' is also used to refer to the husband and wife 
filing a joint return in sections 408A(c)(3)(A)(i) and 
219(g)(2)(A)(i) of the Code.
---------------------------------------------------------------------------
    \35\ See section 408A(c)(3)(B)(ii) of the Code.
    \36\ See Treasury regulation section 1.408A-4 A-2(b).
    \37\ Nevertheless, a slight bias toward the single return filer 
also exists in the $15,000 phase-out period for regular Roth IRA 
contributions, as opposed to a $10,000 phase-out for joint return 
filers, under section 408A(c)(3)(A)(ii). With respect to traditional 
IRAs, the active participant phase-out periods of section 
219(g)(2)(A)(ii) will be $10,000 for single filers and $20,000 for 
joint return filers for years after 2006.
---------------------------------------------------------------------------
    The only exception to the rule that a married individual 
who files a separate return is ineligible to convert an IRA to 
a Roth IRA applies for a married person who has lived apart 
from his or her spouse for the entire year in which the 
distribution is made. Such a separated spouse may convert a 
Roth IRA, despite filing a separate return, provided the 
$100,000 modified AGI limit is not exceeded on the separate 
return he or she files.\38\
---------------------------------------------------------------------------
    \38\ See section 408A(c)(3)(D) of the Code.
---------------------------------------------------------------------------
    A traditional IRA may be converted to a Roth IRA in any 
year, but if the conversion is made after December 31, 1998, 
the entire amount distributed from the traditional IRA will be 
included in the gross income of the year of the conversion. If 
the conversion is made before January 1, 1999, a special tax 
break is available--the inclusion in gross income will be 
spread ratably over four years--25% will be included in 1998 
gross income and 25% will be included in each of the next three 
years.\39\ The 1998 Act, however, added a provision permitting 
an individual to file an election to include the entire amount 
converted in 1998 gross income.\40\. The election to forego 
four-year spreading must be made on Form 8606 and cannot be 
made or changed after the extended due date of the 1998 
return.\41\ The final regulations clarify that a Roth IRA owner 
who was married at the time of the conversion may continue 
spreading the conversion amount over four years, even though he 
or she becomes divorced or separated during that period.\42\ 
(For the applicable rules where the Roth IRA owner dies during 
the four-year spread period, see Death of the Owner, below.)
---------------------------------------------------------------------------
    \39\ See section 408A(d)(3)(A)(iii) of the Code
    \40\ Ibid.
    \41\ See Treasury regulation section 1.408A-4 A-10.
    \42\ Treasury regulation section 1.408A-4 A-11(c).
---------------------------------------------------------------------------
    The actual conversion to a Roth IRA may be structured as a 
rollover distribution from the traditional IRA followed by a 
contribution to the Roth IRA within the normal 60 day period, a 
trustee-to-trustee transfer, or a transfer between a 
traditional and a Roth IRA maintained by the same trustee 
(which the final regulations clarify includes a simple 
redesignation of the same account.\43\) Whatever form the 
conversion actually takes, it must qualify as a rollover under 
section 408(d)(3), except that, unlike rollovers from one 
traditional IRA to another, rollovers to Roth IRAs are not 
limited to one per year.\44\ Section 408A(e) provides that 
conversion contributions to a Roth IRA may be made only from 
another IRA. In other words, no distributions from corporate, 
section 401(k), section 403(b), section 457, or Keogh plans may 
be converted to Roth IRAs.\45\ In fact, however, it appears 
that amounts may be converted to Roth IRAs from corporate and 
other qualified pension and profit-sharing plans--it just 
requires a two-step process. The amount in the qualified plan 
must first be rolled over to a traditional IRA in the normal 
way \46\ and then converted to a Roth IRA.
---------------------------------------------------------------------------
    \43\ See Treasury regulation section 1.408A-4 A-1(b)(3).
    \44\ See section 408A(e) of the Code, which provides that the 
annual rollover limitation of section 408(d)(3)(B) does not apply.
    \45\ See also section 408A(d)(3)(B) of the Code and Treasury 
regulation section 1.408A-4 A-5.
    \46\ See sections 402(c)(1) and (8)(B)(i) and (ii) of the Code.
---------------------------------------------------------------------------
    Amounts in both SEP \47\ and SIMPLE IRAs \48\ may be rolled 
over to Roth IRAs, but distributions to a participant from a 
SIMPLE IRA cannot be rolled over to a Roth IRA (as well as a 
traditional IRA or a SEP IRA) until he or she has been a 
participant for two years.\49\ The 1998 Act added section 
408A(f)(1) to the Code which provides that a SEP or SIMPLE IRAs 
may not be ``designated'' as a Roth IRA. Although amounts in a 
SEP or SIMPLE IRA may be converted, the plan itself cannot be 
converted (using the term in a non-technical sense), such that 
future contributions under the SEP or SIMPLE IRA agreement can 
treated as made directly to a Roth IRA.\50\ This amendment is 
evidently intended to remove any uncertainty about whether 
contributions could be made to a Roth IRA under the higher SEP 
and SIMPLE IRA limits and whether deductible employer 
contributions and contributions under salary reduction 
arrangements may be made directly to a Roth IRA, with the 
result that employer deductions from, and employee reductions 
in, income created by the SEP and SIMPLE IRA contributions will 
never be recovered by the Treasury.
---------------------------------------------------------------------------
    \47\ See section 408(d)(3)(A)(i) of the Code, as made applicable by 
the general rule of section 408A(a) of the Code.
    \48\ See 408(d)(3)(G) of the Code, as made applicable by the 
general rule of section 408A(a) of the Code.
    \49\ See sections 408(d)(3)(G) and 72(t)(6) of the Code and 
Treasury regulation section 1.408A-4 A-4(a) and (b).
    \50\ See Treasury regulation section 1.408A-4 A-4(c).
---------------------------------------------------------------------------
    Where a Roth IRA conversion straddles two years--i.e., the 
rollover contribution takes place within the 60-day window,\51\ 
but in the year following the rollover distribution--some 
special rules apply. The regulations interpret the requirement 
that a husband and wife must file a joint return to be eligible 
to make a conversion as requiring that the joint return be 
filed for the year that the rollover distribution is paid from 
the traditional IRA, but apparently not for the subsequent year 
when the conversion contribution is made.\52\ Even though the 
rollover contribution occurs in 1999, so long as the rollover 
distribution is made within 1998, the regulations provide that 
the conversion qualifies for the four-year spread period.\53\ 
This provision is logical and fair. It is the distribution from 
the traditional IRA that creates the tax liability and the 
income should be recognized in the year in which the 
distribution occurs.
---------------------------------------------------------------------------
    \51\ See section 408(d)(3)(A)(i) and (ii) of the Code.
    \52\ See Treasury regulation section 1.408A-4 A-2(b).
    \53\ See Treasury regulation section 1.408A-4 A-8.
---------------------------------------------------------------------------
    The regulations also provide that, where a Roth conversion 
is accomplished over two years, the $100,000 modified AGI limit 
that determines eligibility to make the conversion is required 
to be satisfied for the year of distribution.\54\ This 
provisions is not logical--eligibility to make the conversion 
should be determined in the year of the conversion--but it is 
sensible because eligibility to make the conversion is easier 
to determine at the end of the year. Nevertheless, the 
inconsistencies in the rules applicable to two-year conversions 
create complexities to bog down administrators. (See Reversing 
a Roth Conversion and Qualified Distributions, below.)
---------------------------------------------------------------------------
    \54\ See Treasury regulation section 1.408A-4 A-2(a).
---------------------------------------------------------------------------
    No exception has been created from the withholding 
requirements of the Code for conversion amounts included in 
gross income. Regardless, it is likely that most individuals 
who convert IRAs will not have to file estimated tax returns to 
avoid the section 6654(a) penalty for underwithholding, even 
those who convert large dollar amounts, because most 
individuals receive refunds from their 1040s. Even where the 
conversion causes a large increase in 1998 tax liability, a 
taxpayer who received a refund in the previous year will be 
covered under section 6654(d)(1)(B)(ii), which provides that, 
if 100% of last year's tax liability (105% if last year's AGI 
exceeded $150,000) is withheld in the current year, the penalty 
for underwithholding will not be applied. Taxpayers who sent a 
check with last year's return, however, must have 90% of the 
current year's tax withheld to avoid the penalty.\55\ Such 
taxpayers may have a problem if they made a large conversion 
and did not adjust their W-2 withholding or file estimated 
returns. It is in 1999, the second year of the four-year spread 
period, that most taxpayers will have to remember to factor 
into their withholding the tax on 25% of the amount converted.
---------------------------------------------------------------------------
    \55\ See section 6654(d)(1)(B)(i) of the Code.
---------------------------------------------------------------------------

                       Minimum Distribution Rules

    Roth IRAs, unlike traditional IRAs under section 408(a)(6), 
are not subject to the ``minimum distribution rules.'' \56\ The 
minimum distribution rules require distributions to commence by 
April 1st of the calendar year following the year in which the 
owner attains age 70\1/2\ \57\ and the entire interest in the 
plan must be paid over the life or life expectancy of the owner 
or the owner and a designated beneficiary.\58\ The annual 
distributions must at least equal the quotient obtained by 
dividing the individual's account balance by the applicable 
life or joint and survivor life expectancy.\59\ Roth IRA owners 
and administrators must be aware of the minimum distribution 
rule, however, because of the fact that to be valid, a Roth IRA 
conversion must satisfy the requirements for a traditional IRA 
rollover under section 408(d)(3). Section 408(d)(3)(E) provides 
that amounts required to be received as minimum distributions 
are not permitted to be rolled over to an IRA.\60\
---------------------------------------------------------------------------
    \56\ See section 408A(c)(5)(A)(iii) of the Code.
    \57\ See section 401(a)(9)(C)(i)(I) of the Code.
    \58\ See section 401(a)(9)(A)(ii) of the Code and proposed Treasury 
regulation sections 1.401(a)(9)-1 B-1.
    \59\ See proposed Treasury regulation sections 1.401(a)(9)-1 E-1 
through E-8 and F-1 through F-4.
    \60\ See also section 402(c)(4)(B) of the Code.
---------------------------------------------------------------------------
    The regulations make clear that section 408(d)(3)(E) 
applies to any Roth IRA conversion with the following 
consequences: (1) To the extent that the required minimum 
distribution has not been made for the year, the first dollars 
distributed (including a trustee-to-trustee transfer) from the 
traditional IRA in the conversion will be treated as coming 
from the required minimum distribution for that year.\61\ (2) 
To the extent that a required minimum distribution is deemed to 
have been included in a conversion distribution, it will be 
treated as if it were distributed to the owner prior to the 
rollover and then contributed as a regular contribution to the 
Roth IRA.\62\ An owner who does not understand the impact of 
the minimum distribution rules on a Roth IRA conversion may be 
liable for having made an excess contribution and, in 1998, for 
a failure to pay income tax. In this regard, it should be noted 
that, although the required distributions from a traditional 
IRA are permitted to begin as late as the April 1st of the 
calendar year following the calendar year in which the owner 
turns 70\1/2\, such distributions in the subsequent year, as is 
made clear in the preamble to the final regulations, are being 
made for the year in which the owner turned 70\1/2\.\63\ Thus, 
if a conversion distribution is made in the year the 
traditional IRA owner turns 70\1/2\, it will be treated as 
including the required minimum distribution.
---------------------------------------------------------------------------
    \61\ See Treasury regulation section 1.408A-4 A-6(a), which is 
consistent with Treasury regulation section 1.402(c)-2 A-7(a).
    \62\ See Treasury regulation section 1.408A-4 A-6(c).
    \63\ See also section 1.408A-4 A-6(b) of the regulations, which 
refers to ``a year for which a minimum distribution is required 
(including the calendar year in which the individual attains age 70\1/
2\).''
---------------------------------------------------------------------------
    Although up to $2,000 of the minimum distribution that is 
inadvertently included in the conversion may qualify as a 
regular contribution to the Roth IRA, any excess of the 
included minimum distribution amount over $2,000 will be 
treated as an excess contribution subject to the 6% annual 
excess contribution penalty.\64\ A second penalty trap may be 
sprung on 1998 conversions. The amount of any minimum 
distribution that is mistakenly converted in 1998 will still 
have to be included in gross income for 1998, but it is not 
eligible for the four-year spread period because it is not part 
of the 1998 conversion. The Roth IRA owner will, thus, 
underreport taxable income if he or she applies the four-year 
spread period to the minimum distribution amount mistakenly 
treated as part of a 1998 conversion.
---------------------------------------------------------------------------
    \64\ See section 4973(f) of the Code and proposed Treasury 
regulation section 1.401(a)(9)-1 G-1B(a).
---------------------------------------------------------------------------
    The impact of this rule is surreptitious and difficult to 
justify on a policy basis--the minimum distribution amount 
would not escape being included in gross income because it is 
included in the conversion. The Congress can be faulted for 
creating this trap. Taxpayers may be misled by the language of 
section 408A(c)(5) stating that minimum distribution rules 
``shall not apply to any Roth IRA.'' The minimum distribution 
rules should have been made statutorily inapplicable to 
conversions as a simplification measure. The IRS may feel bound 
to their interpretation by the overlay rule of section 408A(a), 
but more detail about the application of the traditional IRA 
rules where gaps exist in the Roth statute would be helpful (on 
this issue and in general).
    In addition, required minimum distributions are currently 
included in modified AGI.\65\ Assuming an IRA owner is even 
aware of this treatment, the owner may still fail to separately 
account for the minimum distribution as an item of modified AGI 
because, based on the misapprehension that the minimum 
distribution amount can be included in a rollover, he or she 
believes that the rollover eliminated any funds in the 
traditional IRA that could be used for a minimum distribution. 
Where the inclusion of the minimum distribution causes modified 
AGI to exceed $100,000, such a misapprehension could cause an 
owner who has attained age 70\1/2\ to make a ``failed 
conversion'' \66\--with the consequences that the deferral in 
his or her traditional IRA would be lost for nothing and, if 
the conversion is made in 1998, that taxable income would also 
be understated by an improper use of the four-year spread 
period. For taxable years beginning after December 31, 2004, 
however, Congress has sensibly eliminated minimum distributions 
from modified AGI.\67\
---------------------------------------------------------------------------
    \65\ See section 408A(c)(3)(C)(i) of the Code.
    \66\ Treasury regulation section 1.408A-8 A-1(b)(4) defines a 
``failed conversion as ``a transaction in which an individual 
contributes to a Roth IRA an amount transferred or distributed from a 
traditional IRA or SIMPLE IRA (including a transfer by redesignation) 
in a transaction that does not constitute a conversion under section 
1.408A-4 A-1.''
    \67\ See section 408A(c)(3)(C)(i)(II) of the Code, as amended by 
the 1998 Act.
---------------------------------------------------------------------------
    The regulations discuss the consequences of a full or 
partial conversion of a traditional IRA that is distributing 
substantially equal annual payments for the life or life 
expectancy of the owner or for the life or life expectancy of 
the owner and a designated beneficiary under section 
72(t)(2(iv) of the Code. Not only will the amount of the 
conversion distribution will not be a premature distribution 
from the traditional IRA subject to the 10% penalty tax of 
section 72(t)(3)(A), but the conversion will not modify the 
annuity schedule, such that the special penalty under section 
72(t)(4)(A) of the Code will apply, nor will the subsequent 
annuity payments from the Roth IRA be subject to the 10% 
penalty--despite being nonqualified distributions. The 
regulations note, however, that, if the 10% penalty is not to 
apply, the ``original series of substantially equal periodic 
payments'' must continue from the Roth IRA (except for the 
owner's death or disability) until five years from the first 
payment and until the owner has attained age 59\1/2\.\68\ The 
final regulations also clarify that where the conversion 
occurred in 1998 and the income inclusion is being spread over 
four years, the ``income acceleration rule'' of section 
408A(d)(3)(E)(i) will be triggered by the annuity payments 
during the spread period. Thus, in addition to the inclusion of 
the amount of the annuity payment for each year, a dollar of 
the deferred income from the 1998 conversion will be 
accelerated into current income for each dollar of annuity 
payment made in 1998, 1999, and 2000 up to the amount of the 
1998 conversion.\69\ (See Conversion Anti-Abuse Rule, below.)
---------------------------------------------------------------------------
    \68\ See Treasury regulation section 1.408A-4 A-12.
    \69\ Ibid.
---------------------------------------------------------------------------

                      Reversing a Roth Conversion

    A failed conversion of a traditional IRA to a Roth IRA may 
subject the distribution to the 10% premature distribution 
penalty \70\ and, to the extent the rollover amount exceeds the 
regular contribution permitted to be made to the Roth IRA, it 
will be subject to the excess contribution penalty.\71\ After 
enactment of the Roth IRA provisions, Congress realized that 
taxpayers may not discover, until they are preparing their tax 
returns for a year, that they were ineligible to make a Roth 
IRA conversion in that year (typically because modified AGI 
exceeded $100,000). Section 408A(d)(6) of the Code, added by 
the 1998 Act, makes it possible to effectively reverse (or 
``recharacterize,'' as the term is used in the regulations 
\72\) a Roth IRA conversion by transferring the contribution, 
together with its earnings from the Roth IRA, back to a 
traditional IRA and, thus, avoid the imposition of penalties. 
It is also possible, under the same provision, to 
recharacterize a contribution that was initially made to a 
traditional IRA, as if it had been made initially to a Roth 
IRA.\73\ In either case, the recharacterization must occur by 
the extended due date of the tax return for the year of the 
failed conversion.\74\
---------------------------------------------------------------------------
    \70\ See section 72(t)(3)(A) of the Code.
    \71\ See section 4973(f) of the Code.
    \72\ See Treasury regulation section 1.408A-5 A-1.
    \73\ See section 408A(d)(6) of the Code.
    \74\ See section 408A(d)(7) of the Code. Particularly with respect 
to 1998 conversions, in order not to lose the benefit of the four-year 
spread period by missing the deadline, owners should be mindful of the 
distinction between the deadline for conversions--the end of the 1998 
calendar year for 1998 conversions--and the recharacterization 
deadline--the extended return due date (August 15th for automatic 
extensions and October 15th for requested extensions).
---------------------------------------------------------------------------
    The recharacterization provision is a means to avoid being 
penalized for a contribution or conversion that proves, in 
hindsight, to have been a mistake. A recharacterization 
transfer is not, however, an alternative to a Roth conversion. 
A conversion is necessarily a taxable event because amounts are 
being transferred to a Roth IRA that were deducted when they 
were contributed previously to the traditional IRA. If 
traditional IRAs could be converted to Roth IRAs without these 
deductions being brought back into income, the Roth IRA 
conversion would amount to the Treasury paying citizens (by 
forgiving a tax indebtedness) to save on a tax-free basis.
    A recharacterization is not a taxable event because the 
contribution made to a Roth (or traditional) IRA--referred to 
by the regulations as the ``FIRST IRA''--is withdrawn and 
contributed to a traditional (or Roth) IRA--the ``SECOND 
IRA''--within the period covered by a single tax return. No 
deductions can be taken for the contribution to the FIRST IRA 
and no deductions taken in previous years will go unrecovered 
by the contribution to the SECOND IRA.
    For example, assume a calendar year taxpayer makes a 
regular contribution to a traditional IRA on January 1, 1998, 
and then recharacterizes the contribution by transferring it 
(together with its earnings from the traditional IRA) to a Roth 
IRA on August 15, 1999 (filing the return under an automatic 
extension). No deduction could be taken on the tax return for 
the traditional IRA contribution because it was canceled within 
the span of the same tax return. On the other hand, if the 
first contribution in 1998 was made to the traditional IRA by 
means of a rollover from a qualified plan, the rollover 
contribution could not then be transferred from the traditional 
IRA to the Roth IRA and labeled a recharacterization. This is 
because the recharacterization transfer is not available for 
contributions for which deductions have been taken that should 
be brought back into income upon being transferred to a Roth 
IRA.\75\
---------------------------------------------------------------------------
    \75\ See section 408A(d)(6)(B)(ii) of the Code.
---------------------------------------------------------------------------
    As a technical matter, the recharacterization provisions 
permit all or a portion of a regular or conversion contribution 
made during the year to the FIRST IRA to be transferred to the 
a SECOND IRA before the extended due date of the return for the 
year, with the transaction being treated as if the contribution 
to the FIRST IRA had actually been made to the SECOND IRA. (The 
transfer to the SECOND IRA is treated as being made on the same 
date that the initial contribution was made to the FIRST IRA.) 
As mentioned, the earnings on the contribution or portion of 
the contribution being transferred from the FIRST IRA to the 
SECOND IRA must also be included in the recharacterization 
transfer.
    The preamble to the final regulations makes clear that an 
excess contribution from a prior year, which would otherwise be 
treated as a contribution for the current year under section 
4973(f) (to the extent that actual contributions for the 
current year are less than the contribution limit for the 
current year), cannot be recharacterized, unless the extended 
due date of the return for the year of the excess contribution 
has not passed. Although such excess contributions are 
otherwise treated as having been made in the year for which 
actual contributions are less than the contribution limit,\76\ 
according to the preamble, only actual contributions may be 
recharacterized and the excess contribution was actually made 
in the prior year.
---------------------------------------------------------------------------
    \76\ See e.g., proposed Treasury regulation section 1.219(a)-2(d).
---------------------------------------------------------------------------
    Where a portion of a contribution is being recharacterized 
or where there have been other contributions to the account, 
the regulations provide that the amount of earnings that must 
also be recharacterized will be determined by reference to a 
relatively simple ratio in section 1.408-4(c)(2)(ii) of the 
regulations.\77\ The fact that the regulations appear to gloss 
over the difficulty of adapting this ratio to a partial 
recharacterization of specific securities makes it seem likely 
that the ratio is intended to be used on a conceptual basis. In 
other words, it makes sense to assume that a trustee will be 
able to exercise judgment in allocating earnings in a partial 
recharacterization to come up with a sensible result where the 
section 1.408-4(c)(2)(ii) regulations would not provide it. It 
should be noted that the final regulation, by eliminating the 
parenthetical phrase ``(but not below zero)'' from section 
1.408-4(c)(2)(iii), as incorporated by reference, make it 
possible to recharacterize a portion of an account or a mixed 
account where either has declined in value.
---------------------------------------------------------------------------
    \77\ See Treasury regulation section 1.408A-5 A-2(c).
---------------------------------------------------------------------------
    The form of the recharacterization transfer is explicitly 
limited by the statute to a trustee-to-trustee transfer. 
(apparently to promote accurate recordkeeping \78\). The final 
regulations clarify that where the owner who made the 
contribution dies within the time for recharacterizing it, the 
executor, administrator, or other person with the 
responsibility for filing the decedent's final income tax 
return may make the recharacterization election.\79\ The final 
regulations also clarify that where there is only one trustee 
involved in a recharacterization, an actual transfer from the 
FIRST IRA to a newly created SECOND IRA is not required--the 
trustee may simply redesignate the FIRST IRA as the SECOND 
IRA.\80\
---------------------------------------------------------------------------
    \78\ See Treasury regulation section 1.408A-5 A-6(a).
    \79\ See Treasury regulation section 1.408A-5 A-6(c).
    \80\ See Treasury regulation section 1.408A-5 A-1.
---------------------------------------------------------------------------
    The regulations provide that employer contributions and 
elective deferrals to SEP and SIMPLE IRAs cannot be 
recharacterized as IRA contributions.\81\ This provision is 
only being consistent with the rule that contributions for 
which deductions were taken cannot be recharacterized--the 
deductions would have been taken on the employer's return in 
the case of the SEP and the elective employee contributions to 
the SIMPLE IRA would not have been included in gross income to 
begin with. The proposed (and now the final) regulations 
provided that an erroneous rollover contribution from a 
traditional IRA to a SIMPLE IRA (which are only permitted to 
accept contributions under salary reduction agreements) may be 
recharacterized.\82\. In addition, it seemed apparent, based on 
the fact that SEP and SIMPLE IRAs are IRAs under section 
7701(a)(37) of the Code \83\ and are, thus, covered by the 
literal language of section 408A(d)(6) of the Code, that the 
conversion of a SEP or SIMPLE IRA could be recharacterized. 
Nevertheless, the proposed regulations did not address the 
issue. The final regulations, however, do make it explicit that 
the conversion of an amount from a SEP or SIMPLE IRA to a Roth 
IRA may be recontributed to the same or a different SEP or 
SIMPLE IRA.\84\
---------------------------------------------------------------------------
    \81\ See Treasury regulation section 1.408A-5 A-5.
    \82\ See Treasury regulation section 1.408A-5 A-4.
    \83\ See sections 408(k) and (p) of the Code.
    \84\ See Treasury regulation section 1.408A-5 A-5.
---------------------------------------------------------------------------
    So-called ``conduit IRAs'' represent an exception to the 
prohibition on rollovers from IRAs to section 401(a) or 403(a) 
qualified plans or section 403(b) annuities. Amounts may be 
rolled over from a qualified plan to an IRA and subsequently 
back to a qualified plan, provided the only amounts in the 
intervening IRA are attributable to rollovers from qualified 
plans. The same rule applies to section 403(b) plans.\85\ The 
preamble to the regulations clarifies that a conduit IRA that 
is converted to a Roth, but then converted back to a 
traditional IRA will redeem its status as a conduit IRA because 
the effect of the recharacterization is that of a transfer 
directly from one conduit IRA to another conduit IRA.
---------------------------------------------------------------------------
    \85\ See section 408(d)(3)(A) of the Code.
---------------------------------------------------------------------------
    Although individuals should generally elect out of 10% 
withholding under section 3405(b) of the Code upon a conversion 
to move more money into the Roth IRA, it is also advisable to 
do so in anticipation of a possible recharacterization. In the 
event of a recharacterization, the 10% withheld on the 
conversion is likely to be recoverable only against other taxes 
owed on the individual's return. The custodian will be 
unwilling to recontribute the 10% withheld to the traditional 
IRA if it has been forwarded to the Treasury. If, however, the 
custodian is willing to return the 10% withheld, the policy 
behind section 408A(d)(6) of the Code supports recontributing 
it to the traditional IRA as part of the recharacterization--
even though technically the 10% withheld was not converted. 
Nevertheless, whether the 10% is contributed by the custodian 
or by the individual from fresh funds, no earnings will have 
accrued on the 10% withheld from the time of the conversion to 
the recontribution to the traditional IRA.
    The regulations provide that the recharacterization must be 
made, as mentioned, by the extended due date of the return 
``for the taxable year for which the contribution was made to 
the FIRST IRA,'' e.g., the Roth conversion. The same provision 
of the regulations also provides that where a rollover 
contribution to a Roth IRA occurs in the year following the 
rollover distribution, the conversion will be treated as 
occurring in the year of the rollover distribution.\86\ For 
other purposes in the regulations, however, where a rollover 
conversion straddles two years, the conversion is deemed to 
occur in the year of the rollover contribution.\87\ At least 
for 1998 conversions, treating the rollover distribution date 
as the conversion date coordinates the recharacterization 
provision with the generous one-time exception provided under 
the regulations that qualifies rollover distributions that 
occur in 1998 for the four-year spread--even though the 
rollover contribution to the Roth IRA occurs within the 60-day 
window in 1999.\88\
---------------------------------------------------------------------------
    \86\ See Treasury regulation section 1.408A-5 A-1(b).
    \87\ See, e.g., Treasury regulation section 1.408A-6 A-2 and A-
5(c).
    \88\ See Treasury regulation section 1.408A-4 A-8.
---------------------------------------------------------------------------
    Admittedly, the bulk of conversions are likely to have 
occurred in 1998 to take advantage of the four-year spread and 
a minority of the conversions in any year are likely to be two-
year rollovers, but, where two-year conversions do occur 
subsequent to 1998, the recharacterization provision could 
cause confusion. For example, if a rollover distribution occurs 
in 1999 and the rollover contribution occurs 60 days later 
during 2000, the owner would be justified in believing that, 
because the conversion is treated as occurring in 2000 for 
other purposes, he or she has until the extended due date of 
the 2000 return to reverse a failed conversion. In fact, the 
conversion must be reversed by the extended due date of the 
1999 return. It should be recalled that the modified AGI limit 
and the joint return requirement apply for the year of the 
rollover distribution where the conversion straddles two 
years,\89\ but the existence of other provisions that are 
consistent with this exception adds to the potential for 
confusion. A helpful simplicity would have been created had the 
IRS been able to treat two-year conversions consistently. 
Treating the year of the rollover distribution as determinative 
would not only have been helpful in making the four year-spread 
available for 1998 distributions, but it would have eliminated 
a trap that has been created in the measurement of the five-
year holding periods for qualified distributions and conversion 
contributions (see Qualified Distributions, below).
---------------------------------------------------------------------------
    \89\ See Treasury regulation section 1.408A-4 A-2(a) and (b).
---------------------------------------------------------------------------
    If, after the initial regular or conversion contribution is 
made to a Roth IRA (traditional IRA)--the FIRST IRA--there are 
one or more intervening transfers to other Roth IRAs 
(traditional IRAs) before the recharacterization or reversal 
transfer is made to the traditional IRA (Roth IRA)--the SECOND 
IRA--then the intervening transfers will be ignored. The 
individual may elect to treat the recharacterization transfer 
to the SECOND IRA as occurring on the date that the initial 
contribution to the FIRST IRA occurred and all the earnings 
from the date of the initial transfer would be credited to the 
SECOND IRA.\90\
---------------------------------------------------------------------------
    \90\ See Treasury regulation section 1.408A-5 A-7.
---------------------------------------------------------------------------
    Recharacterizations, even where limited to one a year, will 
create significant complexity for plan trustees. They must 
remember for information reporting purposes that the income or 
losses of the FIRST IRA will be treated as earned or incurred 
in the SECOND IRA, which is the IRA recharacterized as having 
received the contribution originally. If the first transfer was 
not kept entirely separate, then the earnings must be 
apportioned--an exercise for which the IRS has provided minimal 
guidance. Where two trustees are involved, the need for 
information sharing adds to the complexity.
    [Due to the length of the attachment, it is being partially 
printed and the full attachment is being retained in the 
Committee files. If anyone wants a copy of the statement with 
the full attachment, please contact James O'Connor, America's 
Community Bankers, 202/857-3100.]
      

                                


Statement of American Bankers Association

    The American Bankers Association (ABA) is pleased to have 
an opportunity to submit this statement for the record on 
reducing the tax burden including pension reforms, health care 
incentives, long-term care incentives, estate and gift tax 
relief, and savings incentives.
    The ABA brings together all elements of the banking 
community to best represent the interests of this rapidly 
changing industry. Its membership--which includes community, 
regional, and money center banks and holding companies, as well 
as savings associations, trust companies, savings banks and 
thrifts--makes ABA the largest banking trade association in the 
country.
    There are several proposals to reduce the tax burden on 
individuals and businesses that are of interest to banking 
institutions. The most significant proposals are set out more 
fully below.

                     INDIVIDUAL RETIREMENT ACCOUNTS

    Inadequate personal savings is one of the most important 
long-term issues facing taxpayers in the coming years. Savings 
promote capital formation, which is essential for job creation, 
opportunity and economic growth. The banking industry fully 
supports continued efforts to encourage retirement savings and 
to strengthen IRAs. The primary appeal of the IRA concept to 
individuals is based upon its tax advantages, which are often 
viewed as a supplement to savings, making the IRA an appealing 
product for an individual's long-term savings growth. 
Individuals concerned about the availability of retirement 
funds can appropriately complement social security and other 
retirement savings vehicles with IRAs. Also, the tax penalties 
that accompany early withdrawals operate as an additional 
incentive to save for the long-term.
    We commend Representatives Phil Crane (R-IL) [H.R. 1311, 
the ``IRA Charitable Rollover Incentive Act of 1999'']; Bill 
Thomas (R-CA) [H.R. 1546, ``the Retirement Savings Opportunity 
Act of 1999'']; Richard Neal (D-MA) [H.R. 1311, the ``IRA 
Charitable Rollover Incentive Act of 1999''] and Jennifer Dunn 
(R-WA) [H.R. 1084, the ``Lifetime Tax Relief Act of 1999''] for 
introduction of legislation that would enhance IRAs and 
encourage retirement savings.
    We urge you to include provisions enhancing IRAs in the 
next tax legislation enacted.

                           ESTATE TAX REFORM

    The financial services industry has been involved in estate 
administration for many years. As a consequence, bankers have 
seen many times how families struggle to pay the taxes due when 
a death occurs, particularly when such death is unexpected. 
Some families encounter more than their fair share of obstacles 
when confronted with the required payment of a large death tax 
bill after the death of a loved one. The payment of death taxes 
with respect to a small business owner or farmer may be 
particularly difficult due to a lack of liquid assets in the 
estate. Indeed, the death tax will impact more taxpayers in the 
future as the value of estates increase as a result the 
continued strong growth of the equities market and the increase 
in the proportion of senior citizens to the general population.
    The ABA strongly supports broad-based estate tax relief in 
order to allow small family business owners and family farmers 
to keep their businesses in the family. Any proposed tax law 
change should not increase complexity nor the time and effort 
expended by taxpayers in compliance. In this regard, we urge 
you to increase the unified credit or, in the alternative, to 
significantly reduce the current estate tax rates. However, we 
would oppose any proposal to eliminate both the estate and gift 
tax system and eliminate the step-up in basis rules for 
inherited property, as provided in certain Senate legislation 
(S. 1128, ``the Estate Tax Elimination Act of 1999,'' 
introduced by Senator Jon Kyl (R-AZ)).
    Bank trust departments, which often serve as executors to 
estates, are concerned that S. 1128 would place the burden of 
establishing the carryover basis on the executor. Determining 
the carryover basis would be extremely difficult if not 
virtually impossible in that, unlike property transferred in 
connection with a divorce or gift, the original owner would not 
be available for consultation. Also, records establishing the 
original purchase price of inherited property might not be 
available.
    We urge you to include broad-based death tax relief in the 
next tax legislation enacted.

          REDUCTION OF INCOME TAX RATES FOR TRUSTS AND ESTATES

    The current rate structure complicates the decision-making 
process of fiduciaries to trusts and estates such as bank trust 
departments. A fiduciary may face possible criticism and 
subsequent litigation whenever a decision is made to accumulate 
funds within the estate or trust rather than distribute them. 
There are many legitimate reasons to accumulate assets within 
the estate or trust, such as payment of debts (including estate 
and inheritance taxes); provision of future education benefits 
to minor children; or care of surviving spouses, orphans, 
elderly parents, the mentally or physically disabled, or 
accident victims. High income tax rates for trusts and estates 
may also have an impact on investment decisions. One of the 
factors a prudent fiduciary takes into consideration when 
choosing a particular investment portfolio is the income tax 
consequence. Due to the compressed tax rates, a fiduciary may 
choose to invest trust or estate assets in tax-exempt income 
generating investments. This excludes investment choices such 
as equity mutual funds. Whatever decision the bank trust 
department makes may subject them to potential second-guessing 
by beneficiaries.
    The ABA supports legislation that would provide that trusts 
and estates should be taxed at the same rates as individual 
taxpayers.

          SHORT-TERM CAPITAL GAINS DISTRIBUTED BY MUTUAL FUNDS

    The use of mutual funds as investment options for trust 
accounts is increasing every year. When a trust is invested in 
a mutual fund, it is not clear how dividends payable out of the 
short-term capital gains of a mutual fund are to be treated for 
tax purposes. The Internal Revenue Code requires the mutual 
fund to classify such sums as ordinary dividends. However, the 
short-term capital gains nature of such sums have caused banks 
in certain states to allocate them to principal by direction of 
the trust instrument or state law. Further questions arise as 
to whether this income, when allocated to principal, should be 
excluded from distributable net income (DNI) under Internal 
Revenue Code Section 643(a)(3) as gains from the sale of 
capital assets allocated to principal, and not paid or required 
to be distributed to beneficiaries. Another way to treat these 
sums is to include them in DNI as ordinary dividend income and 
make them potentially taxable to the trust income beneficiary 
under the rules of Section 652 for simple trusts and Section 
662 for complex trusts.
    Due to the lack of certainty in the law and regulations, 
the banking industry differs with respect to its handling of 
the treatment of such dividends and their includability in DNI. 
A similar issue obtains with respect to market value discount 
and currency gains, both of which are allocated to principal 
but taxable as ordinary income. These items are the result of 
bifurcating capital gains between income that is taxed as 
capital gain and income that is taxable as ordinary income.
    We believe that Section 643 should be modified to 
specifically exclude such gains, taxable as ordinary income, 
from DNI. Such action would simplify the Code and reduce 
confusion.

            MODIFICATION OF GENERATION SKIPPING TRANSFER TAX

    Under current law, missed allocations of generation 
skipping transfer (GST) exemption create significant potential 
GST tax liability and no relief is available. The ABA supports 
legislation that would allow the IRS to grant relief to 
taxpayers who inadvertently fail to allocate GST exemption; 
allow validation of certain technically flawed exemption 
allocations; allow retroactive allocation of GST exemption in 
cases of unnatural order of death; automatically allocate a GST 
exemption to certain transfers; and permit division of trusts 
to allow taxpayers to maximize the benefit of the exemption 
without overly complex planning and drafting.
    In this connection, we commend Rep. Jim McCrery (R-LA) for 
the introduction of H.R. 2158, the ``Generation-Skipping 
Transfer Tax Amendments Act of 1999'' and urge its inclusion in 
the next tax legislation enacted.

                           EMPLOYEE BENEFITS

    The American Bankers Association supports long-term savings 
for retirement. Providing pension coverage to a greater number 
of workers will substantially enhance the retirement security 
of American families. The ABA supports initiatives that focus 
specifically on the need to make it easier and less expensive 
for small businesses to start retirement plans. We also support 
increased pension portability. Current law rules should be 
modified to facilitate transfer of employee retirement savings 
from job to job.
    Finally, the overly complex rules governing retirement 
plans should be simplified to reduce costs and administrative 
barriers that keep employers out of the system, interfere with 
business transactions necessary to stay competitive in today's 
economic environment, and inhibit the efficient operation of 
plans sponsored voluntarily by employers for their employees.
    We urge you to include such provisions in the next tax 
legislation enacted.

    ELIMINATION OF 2% FLOOR ON MISCELLANEOUS ITEMIZED DEDUCTIONS IN 
                   CONNECTION WITH IRREVOCABLE TRUSTS

    The ABA supports enactment of legislation that would 
Internal Revenue Code Section 67(e) to exclude irrevocable 
trusts from the 2% rule calculations. This would aid in 
administration of trusts and estates, as well as continue the 
efforts to further simplify the Code.

                               CONCLUSION

    We appreciate having this opportunity to present our views 
on these issues. We look forward to working with you in the 
further development of solutions to our above-mentioned 
concerns.
      

                                


        American Federation of State, County and Municipal 
                                  Employees (AFSCME) et al.
                                                      June 16, 1999

The Honorable Bill Archer
Chairman, House Committee on Ways and Means
United States House of Representatives
Washington, DC 20515

Re: Support for Public Pension Provisions in HR 1102

    Dear Mr. Chairman:

    The national organizations listed, representing state and local 
governments, public employee unions, public retirement systems, and 
millions of public employees, retirees, and beneficiaries, support 
public pension provisions contained in the bipartisan Comprehensive 
Retirement Security and Pension Reform Act (H.R. 1102) sponsored by 
Representatives Rob Portman, Ben Cardin, and many other members of 
Congress. This proposal would strengthen the retirement savings 
programs of public employers and their employees throughout the 
country. We are writing to urge your support for this important 
legislation.
    The Comprehensive Retirement Security and Pension Reform Act would 
remove existing barriers between various types of retirement savings 
plans so that employees may have a better opportunity to manage and 
preserve their retirement savings when they switch jobs. The 
legislation would enhance existing portability in public sector defined 
benefit plans, and would allow workers to take all their deferred 
compensation and defined contribution savings with them when they 
change jobs. H.R. 1102 would additionally provide greater clarity, 
flexibility and equity to the tax treatment of benefits and 
contributions under governmental deferred compensation plans. Finally, 
it would simplify the administration of and stimulate increased savings 
in retirement plans by restoring benefit and compensation limits that 
have not been adjusted for inflation and are generally lower than they 
were fifteen years ago; repealing compensation-based limits that 
unfairly curtail the retirement savings of relatively non-highly paid 
workers; and allowing those approaching retirement to increase their 
retirement savings.
    All of these provisions would help employees build their retirement 
savings, especially those who have worked among various public, non-
profit and private institutions. Our organizations appreciate the 
support that you have shown on past public pension issues and are 
hopeful you will have similar interest in this comprehensive, 
bipartisan legislation. We ask that you please include these proposals 
in pending tax legislation before your Committee.
    If you have any questions or need additional information, 
please contact the following members of our organizations:

Ed Jayne, American Federation of State, County and Municipal Employees
Ned Gans, College and University Personnel Association
Tim Richardson, Fraternal Order of Police
Tom Owens, Government Finance Officers Association
Chris Donnellan, International Brotherhood of Police Oganizations/
National Association of Government Employees
Barry Kasinitz, International Association of Fire Fighters
Michael Lawson, International City/County Management Association
Tina Ott, International Personnel Management Association
Kimberly Nolf, International Union of Police Associations
Neil Bomberg, National Association of Counties
Susan White, National Association of Government Deferred Compensation 
Administrators
Bob Scully, National Association of Police Organizations
Jeannine Markoe Raymond, National Association of State Retirement 
Administrators
Jennifer Balsam, National Association of Towns and Townships
  
  
Ed Braman, National Conference on Public Employee Retirement Systems
Gerri Madrid, National Conference of State Legislatures
Cindie Moore, National Council on Teacher Retirement
David Bryant, National Education Association
Frank Shafroth, National League of Cities
Roger Dahl, National Public Employer Labor Relations Association
Clint Highfill, Service Employees International Union
Larry Jones, United States Conference of Mayors
      

                                


Statement of AMR Corporation, Fort Worth, Texas

                       Introduction and Overview 

    Employer-sponsored defined benefit retirement plans play an 
integral role in guaranteeing retirement security. Yet 
arbitrary and onerous regulations can encourage certain 
employers to abandon such plans. This testimony outlines the 
comments of AMR Corporation on one aspect of how the Internal 
Revenue Code of 1986 (the ``Code''), as amended, has been 
interpreted to impose unfair rules on the sponsors of defined 
benefit retirement plans permitting lump sum payments for 
retiring employees.
    Under the Code, ``qualified'' pension plans must offer a 
lifetime stream of monthly payments to plan participants, 
commencing upon retirement. Many pension plans permit 
participants to receive the value of this lifetime income 
stream in a single lump sum payment. In determining the 
``present value'' of the lifetime income stream that is being 
cashed out, the period over which payments are expected to be 
made (the period ending with the assumed date of death) and the 
rate at which funds are expected to grow (the assumed interest 
rate) are necessary assumptions. The interest rate and 
mortality assumptions are therefore critical in calculating the 
lump sum value of lifetime benefits.
    The Retirement Protection Act of 1994 (the ``RPA'') amended 
section 417(e) of the Internal Revenue Code to specify an 
interest rate that must be used to convert a pension to a 
single lump sum. The RPA also authorizes the Secretary of the 
Treasury to prescribe a mortality table for use in calculating 
lump sums under section 417(e) of the Code. We perceive no 
problem with the current statutory language itself, only with 
its implementation by the Internal Revenue Service.
    The Internal Revenue Service has prescribed a mortality 
table for use by retirement plans. We have no objection to the 
table itself. However, we are concerned with the requirement 
that the table is to be used together with the mandatory 
assumption that half of the participants covered by the plan 
are male and half are female.
    The requirement that a plan must assume that half its 
participants are male and half are female is highly 
questionable. The participation in many plans is dominated by 
one gender. It is an accepted scientific fact that females, as 
a class, have a longer life expectancy than males, as a class. 
Prescribing an artificial ``gender mix,'' therefore, 
artificially and inaccurately enlarges or contracts the true 
average life expectancy of the work force covered by the 
pension plan unless the plan's gender mix is actually in 
balance. Assumed life expectancy is a major factor in 
calculating the amount of a lump sum distribution and in 
funding plans, regardless of whether a lump sum distribution 
benefit is offered.
    These regulations, which appear at Treas. Reg. Section 
1.417(e)-1(d)(2) (the regulations) (effective April 3, 1998), 
do twist actuarial reality by arbitrarily imposing a mandatory 
gender neutral mortality table on pension plans that permit 
lump sum payments. A directly relevant revenue ruling, Rev. 
Rul. 95-6, 1995-1 C.B. 80, 95 TNT 2-1, contains provisions that 
operate in tandem with the regulations. Under these rules, 
regardless of whether the participants in a qualified defined 
benefit pension plan are 90 percent female or 1 percent female, 
all lump sum payments must be calculated using a mortality 
table that assumes the plan population is 50 percent female and 
50 percent male. The IRS has essentially imposed a requirement 
that a pension plan comprised almost entirely of men must 
pretend that half its covered participants are women when it 
calculates its pension payments. These regulations give 
employers of work forces that are gender-imbalanced one more 
reason to abandon their defined benefit plans, or not to adopt 
them. We anticipate that this issue will raise more concern 
when companies with such plans realize that by 2000 all their 
lump sum distributions will have to be calculated based on this 
arbitrary gender assumption.
    The legislative history accompanying the 1993 law mandating 
that Treasury create appropriate mortality tables gives no 
indication whatsoever that Treasury should issue such an 
arbitrary rule. If Treasury and the IRS are unwilling to change 
their rules to reflect actuarial reality, we hope that Congress 
will amend this law to mandate that Treasury utilize gender 
factors reflecting reality in those benefit plans where 
participant gender ratios are particularly unbalanced.

                              The Problem

    A lump sum distribution from a qualified defined benefit 
pension plan to a participant is designed to be the ``actuarial 
equivalent'' of the payments that would otherwise be made 
during that participant's lifetime following retirement (or 
over the joint lifetime of the participant and the 
participant's spouse or other designated annuitant). To fund 
this lifetime income, a plan can use assumptions based on the 
expected lifetimes of its participants and can recognize, for 
example, that the covered participant population is 80 percent 
female and 20 percent male. The assumed mortality rates of 
participants is obviously a major factor in funding pension 
benefits, and it is a universally-accepted and well-documented 
fact that females will on average out-live males of the same 
age.
    In contrast, if lifetime benefits are paid out in a lump 
sum, actuarial reality as described above for funding plans is 
ignored under current Internal Revenue Service rules. To 
determine the amount of lump sum payments, the regulations and 
Rev. Rul. 95-6 require plans to use a mortality table that 
assumes half the covered participant population is male and 
half is female. In the example given above (80 percent female 
and 20 percent male), the mandated 50/50 assumption 
artificially shortens the expected lifetimes of plan 
participants who are female, at least in comparison with the 
actual gender factors that can be used in the plan's funding. 
Nothing in the statute, which simply requires a ``realistic'' 
mortality table without reference to gender, mandates this 
arbitrary result.
    Looking at this result from another perspective, the 
greater the gender disparity in favor of males, the more likely 
the plan will be underfunded if benefits are regularly paid in 
the form of a lump sum. Conversely, the greater the disparity 
in favor of females, the more the plan will become overfunded 
because expected lifetimes are artificially reduced.

                              Current Law

    The Retirement Protection Act of 1994, enacted as part of 
the General Agreement on Trade and Tariffs, amended section 
417(e) of the Code, as well as other sections of the Code and 
the Employee Retirement Income Security Act of 1974, as 
amended. GATT made two significant changes affecting the 
calculation of minimum lump sum payments. First, the statute 
redefined the applicable interest rate. Second, the legislation 
authorized the Treasury Secretary to prescribe a mortality 
table for use in calculating the present value of qualified 
plan benefits. Nothing in the legislative history of GATT 
indicates that Congress intended to preset a particular gender 
blend version of GAM 83.
    Less than two months after passage of GATT, the Internal 
Revenue Service quickly published a mortality table in Rev. 
Rul. 95-6 for use under section 417(e). As provided in the 
statute, the Service's table uses the current prevailing 
commissioner's standard table for group annuities, or the 1983 
GAM Table, which is a sex-distinct table (GAM 83). However, the 
ruling requires a 50/50 mandatory gender split assumption.
    As mentioned above, the Secretary issued final regulations 
on both the new interest rate mortality table assumptions, in 
April of 1998. The regulations provide specific guidance on how 
the interest rate provisions are to be implemented. In 
contrast, for the applicable mortality table, the regulations 
provide only that the table is to be ``prescribed by the 
Commissioner in revenue rulings, notices, or other guidance 
published in the Internal Revenue Bulletin.'' Treas. Reg. 
Section 1.417(e)-I(d)(2). Treasury's approach of publishing the 
table required by the statute in a revenue ruling, instead of 
in the regulations, effectively precluded needed public comment 
on the 50/50 mandatory gender split that would have otherwise 
been required under the Administrative Procedures Act.
    The adverse impact of the regulations will be felt 
particularly in industries where plans are collectively 
bargained. These plans, presumably for historical reasons, 
cover work forces that are frequently heavily skewed by gender. 
Collectively bargained workforces that are dominated by females 
include flight attendants and skilled nurses. Conversely, such 
workforces dominated by males consist of, for example, heavy 
construction, road building, pilots, long-haul trucking, movers 
of household goods, oil and gas, mining, and forestry workers. 
Accordingly, this arbitrary regulatory fiat will work to 
overfund pensions in industries where rates of female plan 
participation are particularly high and will work to underfund 
pensions where rates of male participation are high.
    Rev. Rul. 95-6 hardly levels the playing field between 
annuities and lump sums. Male employees in male-dominated plan 
populations will be strongly encouraged to take their benefits 
in a lump sum in order to take advantage of the windfall, 
possibly exposing their retirement security to the increased 
risk of dissipation of their retirement ``nest egg.'' Female 
employees in female dominated plans will receive less than they 
would if the plan assumptions reflected reality of workforce 
participation by gender.

                   Effect of a 50/50 Mortality Table

    The Service's 50/50-gender blend table has an unintended 
and inequitable effect on the level of funding and on the 
calculation of the present value of lump sum payments. As 
previously discussed, the primary focus of GATT was on reducing 
underfunding of pension plans. Accordingly, GATT's applicable 
mortality table was designed to prevent plan sponsors from 
making assumptions that placed plans at risk by minimized 
funding obligations. The 50/50 mortality table assumptions 
negate that goal by reducing a plan's ability to provide an 
accurate and adequate funding level. The 50/50 assumption, 
which can be objectively inaccurate, requires plan 
administrators to calculate actuarially inaccurate present 
values of lump sum payments, at least where plan population by 
gender is unbalanced.
    For example, if an individual would receive a $1,000 lump 
sum payment at retirement based on GAM 83 using gender specific 
mortality, the following table presents the adjusted lump sum 
amount that would be paid to that individual using the 50/50 
blended table:


                       Discount Rate: 7.0 percent
------------------------------------------------------------------------
                Age                        Male              Female
------------------------------------------------------------------------
55................................              1,042                955
60................................              1,053                944
65................................              1,068                929
------------------------------------------------------------------------

    This table shows that an age 60 male retiree receives a $53 
windfall under the 50/50-blended table and an age 60 female 
retiree receives a $56 shortfall.

                           Proposed Amendment

    Congress should rectify this inaccurate treatment by 
amending the Code to include a rule addressing use of the 
required mortality table for those plans which contain a lump 
sum distribution option and which cover populations that are 
primarily male or primarily female. For example, the Code could 
be amended to include a proposal that would provide an 
alternative rule for determining the present value of a 
permitted lump sum payment if 80 percent or more of a plan's 
covered participant population is comprised of a single gender. 
In such cases, the plan would be permitted an election to 
utilize Treasury's applicable mortality table with the 
assumption that the dominant gender comprises 80 percent, and 
the minority gender comprises 20 percent, of the plan's covered 
participant population. In order to keep the proposal simple, 
the rule could provide that, if in any subsequent plan year the 
plan did not satisfy the 80 percent test then, in that and all 
successive plan years, the plan sponsor could not make such an 
election.
      

                                


Statement of Associated General Contractors of America

    Thank you Chairman Bill Archer for holding a hearing this 
morning on the effect of the death (estate) tax on family-owned 
construction companies. AGC is pleased to submit testimony 
today because elimination of the death tax is our top 
legislative priority for the 106th Congress. 94% of AGC members 
are closely-held businesses--often family-owned--and planning 
for and paying death taxes is an onerous burden our members 
will have to face at some point in the life of their company.
    You'll notice throughout this testimony that we 
consistently refer to the estate tax as the ``death tax.'' We 
prefer to call it the ``death tax'' for two reasons: 1) death 
of the owner of a company is the event that triggers the tax; 
and 2) at a rate of 37% to 55% on all company assets, this tax 
kills small businesses and kills jobs!
    AGC is the nation's largest and oldest construction trade 
organization, founded in 1918. AGC represents more than 33,000 
firms, including 7,200 of America's leading general 
contractors, and 12,000 specialty-contracting firms. They are 
engaged in the construction of the nation's commercial 
buildings, shopping centers, factories, warehouses, highways, 
bridges, tunnels, airports, waterworks facilities, waste 
treatment facilities, dams, water conservation projects, 
defense facilities, multi-family housing projects, and site 
preparation/utilities installation for housing developments.

            EFFECT of DEATH TAXES on CONSTRUCTION COMPANIES

    Business continuity--the passing of years of hard work to 
the next generation--is a great concern to family-owned 
construction companies. Succession planning is long and 
difficult. Owners are forced to answer difficult questions 
about the future of the company they have often worked all 
their life to grow. Who will run the business when I'm gone? 
What does my family think should happen? How will ownership be 
transferred? These are just a few of the questions a contractor 
must address when undertaking succession planning.
    As difficult as succession planning can be, it gets even 
worse when the owner realizes that up to 55% of his or her 
company can be lost to death taxes. When the owner of a 
construction company dies, his or her estate is subject to 
federal and state death taxes. The total value of the estate 
includes the value of the family business along with other 
assets such as homes, cash, stocks, and bonds. At a minimum, an 
estate over $650,000 (gradually increased to $1 million by 
2006) will be subject to a federal death tax rate of 37% and an 
estate over $3 million will be taxed at an astronomical federal 
rate of 55%. This tax is on top of not only the state death tax 
but also the income, business, and capital gains taxes that 
have been paid over an individual's lifetime. It is not 
surprising, then, that more than 70% of family businesses do 
not succeed to the second generation and 87% do not survive to 
the third generation.
    The construction industry is capital intensive, requiring 
large investments in heavy equipment. One single critical 
company asset can cost more than the amount ($650,000) of the 
unified credit. For instance, a 150-ton crane used in bridge 
construction can cost more than $1 million. A scraper can cost 
$700,000 and a large bulldozer can cost more than $800,000.
    Most family-owned construction firms invest a significant 
portion of their after-tax profits in equipment, facilities and 
working capital. This is necessary for these firms to increase 
their net worth, create jobs and continue to be bonded for 
larger projects. Because of these assets, the construction 
industry is especially vulnerable to the devastating effect of 
the death tax.
    Those family-owned construction companies that do survive 
after death taxes have spent thousands, sometimes millions, of 
dollars to plan for and pay death taxes. Of AGC firms involved 
in estate planning, 63% purchase life insurance, 44% have buy/
sell agreements and 29% provide lifetime gifts of stock.
    Last year, Richard Forrestel, a CPA and Treasurer for Cold 
Spring Construction in Akron, New York, testified succinctly 
before this Committee on what death tax planning has cost his 
company:

          ``We spend in excess of $100,000 a year in insurance costs 
        and accounting fees to ensure that we have the capital to pay 
        the death tax and transfer our business from one generation to 
        the next. We have diverted enormous amounts of capital and 
        management time to this process. We ought to be buying 
        bulldozers and backhoes built in Peoria, Illinois rather than 
        wasting capital on intangible life insurance policies.''

    In sum, AGC believes that all the resources spent planning 
for and paying the death tax should be used more productively 
to grow businesses and create jobs.

                        CONSTRUCTION JOB LOSSES

    The death tax not only affects the business owner, but also 
his or her employees. While the death tax rate on a company is 
37% to 55%, for the worker who loses a job because of death 
taxes the rate is in effect an agonizing 100%! AGC's family-
owned firms employ on average 40 persons and have created on 
average 12 new jobs each in the last five years. The death tax, 
however, can destroy these jobs because firms are often forced 
to sell, downsize or liquidate to pay this onerous tax. On 
average, 46 workers lose their jobs every time a family-owned 
business closes. And every time an owner foregoes the purchase 
of new equipment because resources have been diverted to pay 
death taxes, the workers who use and build that equipment are 
impacted.
    Also, remember the effect these family-owned businesses 
have on their immediate community. Family-owned businesses not 
only offer jobs, but they are a vital part of every community 
providing specialized services, supporting local charities, and 
returning earnings back to the local economy.

                   ECONOMIC EFFECTS of the DEATH TAX

    A most frustrating aspect of death taxation is that after 
all the countless hours and financial resources spent preparing 
for and paying the tax, it raises almost no revenue for the 
federal government! Annual death tax receipts total 
approximately $23 billion, less than 1.4% of total tax revenue.
    Furthermore, the Congressional Joint Economic Committee 
released a report last year on the death tax that found that 
this tax ``raises very little, if any, net revenue for the 
federal government.'' The JEC also concluded that the tax 
results in losses under the income tax that are roughly the 
same size as the death tax revenue.

                      LEGISLATION SUPPORTED BY AGC

    AGC appreciates the efforts made by Congress in lowering 
the death tax as part of the Taxpayer Relief Act of 1997. 
However, Congress needs to do much more than simply increase 
the unified credit to help the growing number of family-owned 
businesses facing the death tax. The construction industry 
urges Congress to focus on eliminating death tax rates. As 
stated earlier, the construction industry is capital intensive 
and even the smallest contractors have lifetime assets that 
easily exceed the unified credit amount.
    In the House, we strongly support H.R. 8, introduced by 
Reps. Jennifer Dunn and John Tanner, that calls for gradual 
elimination of the death tax by 5% per year over a period of 
ten years. We also support H.R. 86, introduced by Rep. Chris 
Cox, that calls for full and immediate repeal of this tax. We 
urge you to include legislation eliminating the death tax in 
any upcoming tax legislation.

                                SUMMARY

    The death tax has become an American nightmare at the end 
of the American dream for family-owned construction companies. 
Construction company owners work hard to grow their business. 
They create jobs for people in their community. They pay 
federal and state taxes throughout the life of their company. 
But then, when they die, the federal government steps in and 
takes over half of their company. It is unthinkable in a time 
of surplus that our government imposes a tax that raises so 
little revenue while it devastates businesses and kills jobs. 
AGC urges you to pass legislation to eliminate this terrible 
tax.
    Thank you for the opportunity to present testimony this 
morning.
      

                                


Statement of Certified Financial Planner Board of Standards, Denver, 
Colorado

    The Certified Financial Planner Board of Standards, Inc. is 
submitting this testimony to the United States House of 
Representatives Committee on Ways and Means for inclusion in 
the written record of the June 16, 1999 hearing before the 
Committee on Enhancing Retirement and Health Security.
    The Certified Financial Planner Board of Standards, Inc., 
known as the CFP Board, is pleased to provide information 
concerning Americans' financial futures for the United States 
House of Representatives, Committee on Ways and Means. The CFP 
Board is the professional regulatory organization for over 
34,000 CFP marks holders or licensees. The CFP Board was formed 
in 1985 to benefit the public by fostering professional 
standards in personal financial planning.
    The CFP Board wants the Committee to be aware of a very 
serious problem in this country. Americans are not saving 
nearly enough for retirement. They are not investing properly, 
most of them do not have any kind of financial plan for their 
retirement years, they do not understand the differences 
between managing money before and after retirement, and they 
are very uncomfortable with making the plans for their 
financial futures. So far, the solutions Congress has created 
have not addressed the situation.
    One can not read a paper or magazine, hear the radio, or 
watch the television news without seeing something about the 
retirement crisis facing this country. A 1997 Consumer 
Federation of American and NationsBank survey found only one in 
three savers has a comprehensive retirement plan. In many ways, 
it is fair to say financially, this is a nation at risk. Many 
Americans are finally starting to realize their future is in 
their own hands. In a self-directed, defined contribution plan 
world, they need to be able to properly plan for their 
financial futures since government sources are not nearly going 
to cover all of our expenses in retirement.
    The CFP Board's September 1998 testimony before the 
Department of Labor's ERISA Advisory Council Working Group on 
Small Business provided the results of a 1998 survey of CFP 
marks licensees. The survey revealed 67% of CFP licensees' 
prospective clients consider their employer's retirement plans 
as their primary source for funding retirement goals. However, 
CFP licensees report only a quarter of their prospective 
clients are contributing the maximum amount to their pension 
plans. These figures are even more disturbing when we realize 
that those seeking financial planning advice are more aware of 
the need for retirement than the general population.
    The state of Americans' financial planning is not 
surprising. Over the past 20 years, this country has undertaken 
a massive transfer of financial responsibility from 
professional pension plan managers to everyday workers. 
Retirement planning has moved away from the old defined benefit 
pension plans that required absolutely no input from 
participants, provided a guaranteed monthly income for life and 
were managed by highly trained professionals. Now, those plans 
are largely a variety of self-directed defined contribution 
plans, such as the 401(k), that require participants to manage 
their own accounts. Essentially, American workers have become 
their own pension plan managers.
    The problem is that very few American workers have ever had 
any education or training in retirement or financial planning. 
Securities and Exchange Commission Chairman Arthur Levitt in an 
April 1999 speech stated, ``The plain truth is that we are in 
the midst of a financial literacy crisis. Too many people don't 
know how to determine saving and investment objectives or their 
tolerance for risk. Too many people don't know how to choose an 
investment, or an investment professional, or where to turn for 
help.''
    As an educational resource to the American Institute of 
Certified Public Accountant's (AICPA) Retirement Security 
through Financial Planning Coalition, the CFP Board strongly 
believes the retirement education proposals contained in 
section 520 of H.R. 1102 (Portman-Cardin) and Section 503 of S. 
741 (Graham-Grassley) will encourage American workers to plan 
and save for their financial futures. However, a greater 
service could be done for American workers if the provisions 
went beyond simply retirement and included financial planning.
    Financial planning is the process of meeting life goals 
through the proper management of personal finances. Life goals 
can include buying a home, funding a child's education, passing 
along a family business, or planning for the years after 
retirement. Financial planning provides direction and meaning 
for financial decisions. It allows one to understand how each 
financial decision affects other areas of personal finances. 
For example, buying a particular investment product might help 
pay off a mortgage faster, or it may delay retirement 
significantly. By reviewing each financial decision as part of 
a whole, one can consider short and long-term effects on life 
goals. One can also adapt more easily to life changes and feel 
more secure about reaching life goals.
    In their 1997 9th Annual Retirement Planning Survey, 
Merrill Lynch, Inc. found people with financial plans feel more 
confident about their investment skills and ability to achieve 
their financial goals. Those with a written plan prepared by a 
professional are most confident. Half of people who have 
professionally prepared financial plans and 44% of those with 
self-prepared plans are ``very confident'' they will realize 
their financial goals. Less than a third of the people with no 
plans feel this confident, and 20% are not very or not at all 
confident they will realize their goals. People who have 
financial plans are significantly more likely to have a written 
budget and to put money into savings before paying other 
expenses (41% of planners put money in savings first then pay 
bills while only 14% of people who have no plans did). These 
figures demonstrate the urgent need for Americans to have the 
opportunities and incentives to develop plans for their 
financial futures.
    The CFP Board believes if the proposals contained in 
section 520 of H.R. 1102 and Section 503 of S. 741 become law, 
the nation will be making an investment in the retirement 
security of the American worker. These two proposals are a step 
though in achieving retirement security through financial 
planning. There are many other steps and reaching them all will 
require commitment. As Peter Druker said,

        ``Unless commitment is made, there are only promises and 
        hopes... but no plans.''

    If Congress wants to help Americans reach their financial 
goals and not simply make promises to them and raise their 
hopes, it must commit to helping them plan for the future.
      

                                


Statement of Committee To Preserve Private Employee Ownership

                              Introduction

    This statement is submitted on behalf of the Committee to 
Preserve Private Employee Ownership (``CPPEO''), which is a 
separately funded and chartered committee of the S Corporation 
Association. To date, 34 employers have joined CPPEO and more 
than 45,000 employees across the country are represented by 
CPPEO companies.
    CPPEO welcomes the opportunity to submit a statement to the 
Ways and Means Committee for the written record regarding the 
goal of enhancing Americans' retirement security. CPPEO wishes 
to bring to the Committee's attention the proposal in the 
Administration's Fiscal Year 2000 Budget that would subject the 
income of S corporation ESOPs to the unrelated business income 
tax (``UBIT''). This proposal is inconsistent with the goal of 
enhancing Americans' retirement savings and cannot be 
reconciled with the Administration's own stated goal of 
enhancing retirement savings, as reflected in the 17 revenue 
proposals included by the Administration in its Fiscal Year 
2000 Budget to promote expanded retirement savings, security, 
and portability. The Administration's proposal would 
effectively repeal key provisions in the Taxpayer Relief Act of 
1997 (the ``1997 Act'') \1\ that allowed S corporations to 
create ESOPs in order to promote employee stock ownership and 
employee retirement savings for S corporation employees. CPPEO 
urges the Committee to reject the Administration's S 
corporation ESOP proposal and other proposals which would 
inhibit the creation or the viability of S corporation ESOPs, 
and continue to allow S corporations to have ESOP shareholders 
as contemplated in the 1997 Act. Only by retaining the 
fundamental policies of the 1997 Act can the Committee continue 
to preserve and promote retirement savings for the hundreds of 
thousands of S corporation employees in the United States.
---------------------------------------------------------------------------
    \1\ P.L. 105-34.
---------------------------------------------------------------------------

               Legislative History of S Corporation ESOPs

    In the early 1990s, efforts began to enact legislation that 
would allow S corporation employees to enjoy the benefits of 
employee stock ownership that were already conferred on C 
corporation employees. Finally, in 1996, Congress included a 
provision in the Small Business Jobs Protection Act of 1996 
(the ``1996 Act,'') \2\ that allowed S corporations to have 
ESOP shareholders, effective for taxable years beginning after 
December 31, 1997. This provision, which was added just prior 
to enactment, established Congress' desire to see S corporation 
ESOPs established, but did not result in a viable method to 
allow S corporation ESOPs to be created or sustained.
---------------------------------------------------------------------------
    \2\ P.L. 104-188.
---------------------------------------------------------------------------
    Specifically, a 39.6 percent tax (the unrelated business 
income tax of Internal Revenue Code section 511,\3\ or 
``UBIT'') was imposed on employees' retirement accounts with 
respect to the ESOP's share of the income of the sponsoring S 
corporation and any gain realized by the ESOP when it sold the 
stock of the sponsoring S corporation. The imposition of UBIT 
on S corporation ESOPs meant that the same income was being 
taxed twice, once to employees' ESOP accounts and a second time 
to the employees' distributions from the ESOP. Accordingly, 
owning S corporation stock through an ESOP would subject 
employees to double tax on their benefits, while individuals 
holding S corporation stock directly would be subject to only a 
single level of tax.
---------------------------------------------------------------------------
    \3\ All ``section'' references are to the Internal Revenue Code of 
1986, as amended.
---------------------------------------------------------------------------
    The 1996 Act had another defect that made ESOPs an 
impractical choice for providing employee retirement benefits 
to S corporation employees--the right of ESOP participants to 
demand their distributions in the form of employer securities. 
By law, S corporations cannot have more than 75 shareholders 
and cannot have IRAs or certain other qualified retirement 
plans as shareholders. Therefore, S corporations generally 
could not adopt ESOPs without taking the risk that the future 
actions of an ESOP participant--such as rolling over his or her 
stock into an IRA--could nullify the corporation's election of 
S corporation status.
    Moreover, the 1996 Act did not provide S corporation ESOPs 
with the incentives that are provided to encourage C 
corporation ESOPs. For example, under section 1042, 
shareholders that sell employer stock to a C corporation ESOP 
are allowed to defer the recognition of gain from such sale, 
while S corporation shareholders cannot do so. In addition, 
under section 404(a)(9), C corporations are allowed to make 
additional deductible contributions that are used by an ESOP to 
repay the principal and interest on loans incurred by the ESOP 
to purchase employer stock, though this is also not permissible 
for S corporations. C corporations are also allowed deductions 
under section 404(k)--deductions for which S corporations are 
ineligible--for dividends paid to an ESOP that are used either 
to make distributions to participants or to repay loans 
incurred by the ESOP to purchase employer stock. In addition, 
as a practical matter, S corporation ESOP participants are 
unable to use the ``net unrealized appreciation'' exclusion in 
section 402(e)(4) because this benefit applies only to the 
distributing of employer stock, which S corporations cannot do.
    In the 1997 Act, Congress reaffirmed its policy goal of 
making viable ESOPs available to the employees of S 
corporations and addressed the problems with the ESOP 
provisions in the 1996 Act. Recognizing that S and C 
corporations are fundamentally different entities, Congress did 
not provide S corporation ESOPs with all the advantages and 
incentives provided to C corporation ESOPs (such as the 
favorable tax treatment for shareholders selling stock to the 
ESOP and increased deductions and contribution limits for the 
sponsoring employer discussed above), but it did fix the 
critical problems. The double tax on S corporation stock held 
by an ESOP was eliminated by exempting income attributable to S 
corporation stock held by the ESOP from UBIT. Thus, only one 
level of tax was to be imposed, and it would be on the ESOP 
participant when he or she received a distribution from the 
ESOP. S corporation ESOPs also were given the right to 
distribute cash to participants in lieu of S corporation stock 
in order to avoid the problems of potentially ineligible S 
corporation shareholders and the numerical limit on S 
corporation shareholders.
    While in 1997 it was clear that a key feature of the 
legislation was that S corporation ESOPs would not have the 
same incentives afforded to C corporation ESOPs, Congress 
provided different, but comparable benefits to S corporation 
ESOPs.
    First, the income of S corporation ESOPs under the 1997 Act 
is subject to only a single level of tax. This is a fundamental 
characteristic of the taxation of S corporations and their 
shareholders. As Assistant Secretary of Treasury Donald Lubick 
commented in testimony to this Committee in March of this year, 
no one, including the Administration, disputes that only one 
level of tax should be imposed on S corporations and their 
shareholders.
    The second benefit provided to S corporation ESOPs is that 
the one level of tax is deferred until benefits are distributed 
to ESOP participants. Considerable thought was given in 1997 
relating to whether this deferral tax was appropriate. Various 
ways of taxing S corporation ESOPs and their participants were 
considered in 1997, including ways essentially the same as the 
Administration's proposal, and were rejected by Congress as 
being too complex, burdensome, and unworkable. In order to 
achieve a workable S corporation ESOP tax regime with 
incentives that were roughly commensurate with those available 
to C corporation ESOPs, Congress determined that the deferral 
of the one level of tax, in lieu of the special incentives 
afforded to C corporation ESOPs, was appropriate. The 
Administration's proposal and others which have followed simply 
reject this determination just 18 months after Congress acted.

The Administration's S Corporation ESOP Proposal Would 
Undermine Congressional Retirement Savings Policy

    The Administration's S corporation ESOP proposal would 
undermine the Congressional policy of allowing S corporations 
to establish ESOPs for their employees principally because it 
will not only end deferral, but also will reinstate double 
taxation. The Administration's proposal to allow a deduction to 
the ESOP for distributions to participants would effectively 
create double taxation.
    S corporation ESOPs would be required to pay UBIT for all 
the years that they hold S corporation stock, but would not be 
allowed any way to recover those taxes until distributions are 
made to participants. The rules limiting the timing of 
distributions by an ESOP to its employee participants, like the 
rules for all qualified retirement plans, are designed to 
encourage long-term retirement savings and are intended to 
produce the result that distributions to an employee will occur 
many years, even decades, after the employee first becomes a 
participant in the ESOP. A 2-year carryback and a 20-year 
carryforward of excess deductions, as is suggested by the 
Administration's proposal, will not ensure that the taxes paid 
by the ESOP over many years, even decades, will be recovered. 
Thus, there is no assurance that a future deduction will 
prevent double taxation of employee benefits. Moreover, it 
would encourage ESOP's to make distributions earlier, rather 
than later--a practice that is wholly inconsistent with 
Congress' intent to create ESOPs as long-term vehicles for 
earnings and retirement security. Most telling though, is that 
the estimated revenue to be raised by the Administration's 
proposal is the same as the revenue cost of the 1997 Act, 
demonstrating that the Administration's proposal is simply an 
attempt to repeal the provisions of the 1997 Act and is not 
aimed at preventing what it claims are unintended uses of 
current law.
    The Administration's proposed scheme and other similar 
proposals for eliminating tax deferral have another substantial 
defect. That is, any tax refunds to the ESOP for the tax 
deductions allowed to the ESOP cannot be fairly allocated and 
paid to the employee participants. Assume, for the sake of 
illustration, that employees A and B are the participants in an 
S corporation ESOP, each owning an equal number of shares of S 
corporation stock through the ESOP. A and B work for the next 
20 years and the ESOP pays tax on the income of the S 
corporation attributable to their shares of stock. Then A 
decides to retire and the ESOP sells the shares of stock in A's 
account to the S corporation and pays A the proceeds. The ESOP 
receives a deduction for the distribution to A and is able to 
reduce its UBIT liability for the year it makes a distribution 
to A. In this example, there would be no way the ESOP could use 
the full amount of the deduction for the year it makes a 
distribution to A, nor would it be able to fully use the excess 
amount when it carries the excess deduction back two years. 
Thus, the ESOP would not be able to realize the full benefit of 
the deduction, which was intended to allow the ESOP to recoup 
the taxes it paid over the past 20 years with respect to the 
stock in A's account and, presumably, give A that benefit to 
offset the second level of taxes A will pay. By the time the 
ESOP realizes all the benefits of the deduction, A will have 
long ceased to be a participant in the ESOP and those benefits 
will be allocated to the remaining participant, B.
    In addition, it is not clear how the ESOP could properly 
allocate the benefits that it can immediately realize. The 
deduction is allowed for distributions to participants. After 
the proceeds from the sale of the stock in A's account are 
distributed to A, A ceases to be a participant. The ESOP cannot 
make any additional allocations or distributions to A. As the 
sole remaining participant, B will receive the benefit of those 
deductions.
    The Administration's proposal also resurrects a problem 
under ERISA that the 1997 Act eliminated. The imposition of 
UBIT on S corporation ESOPs raises concerns about fiduciary 
obligations under ERISA for potential ESOP plan sponsors and 
trustees. The potential for double taxation and the inequitable 
allocation of benefits among plan participants will make the 
establishment of S corporation ESOPs unpalatable to anyone who 
would be subject to ERISA. In addition, qualified plan trustees 
typically avoid investments that give rise to UBIT because it 
obligates the trustee to file a federal income tax return for 
the plan's UBIT liability. Under the Administration's proposal, 
the establishment of an S corporation ESOP would necessarily 
involve making investments that give rise to UBIT liability 
because ESOPs are required to invest primarily in employer 
securities. By making S corporation stock an unviable 
investment for ESOPs, the Administration's proposal and others 
like it would prevail against the establishment of many of 
these retirement savings programs. This clearly contradicts 
Congress' intent.
    The Administration's proposal and others attempt to 
characterize the treatment of S corporation ESOPs as a 
corporate tax shelter. These proposals, however, fail to note 
that the beneficiaries of S corporation ESOPs are the 
employees, not the S corporation. Moreover, in testimony before 
this Committee, Assistant Secretary Lubick made it clear that 
the Administration's only concern is that there may be attempts 
by some persons to use the S corporation ESOP provisions as a 
device to gain tax deferral rather than to provide retirement 
savings benefits to employees. Current law was enacted to do 
just what it is doing--encouraging employee ownership of S 
corporations. Indeed, advocating the repeal of a successful 
retirement program--just 18 months after its enactment directly 
contradicts the Administration's stated objective of increasing 
retirement savings, as reflected in the 17 retirement savings 
proposals included in its Fiscal Year 2000 budget.

CPPEO's S Corporation ESOP Anti-Abuse Proposal

    CPPEO and other organizations have, in response to a 
request from Ways and Means Committee staff, developed an anti-
abuse rule that addresses the issue of potential misuses of S 
corporation ESOPs while preserving the ability of S corporation 
employees to be owners of their companies through ESOPs and 
accrue long-term retirement savings. The joint proposal is 
narrowly targeted to penalize only the persons who might 
otherwise misuse the ESOP for their own advantage, or the 
advantage of members of their families, rather than for the 
benefit of S corporation employees. To this end, CPPEO proposes 
that such an anti-abuse rule apply to persons who control an S 
corporation which has misused its ESOP and who are consequently 
responsible  for the misuse of the ESOP to defer tax on their 
income from the S corporation.\4\ Accordingly, persons who 
individually benefit from the deferral of a substantial portion 
of the S corporation's income and who collectively have control 
of the S corporation would be denied the retirement benefits of 
an S corporation ESOP. The penalty for such persons' misuse of 
an S corporation ESOP to gain deferral of tax on S corporation 
income would be the loss of tax deferral for such persons and 
not the disqualification of or tax on, the ESOP. 
Disqualification of, or tax on, the ESOP would unfairly harm 
the retirement savings of non-controlling S corporation 
employees, the intended beneficiaries of the S corporation ESOP 
provisions, whose interests in the ESOP reflect the allocation 
of retirement benefits in accordance with the requirements that 
apply to qualified retirement plans.
---------------------------------------------------------------------------
    \4\ To implement this approach, CPPEO urges that Congress enact an 
amendment to section 1361 to provide that controlling 20-percent 
employee-owners would be taxed currently on S corporation income 
attributable to S corporation stock held by them through the ESOP, and 
on S corporation income attributable to their holdings of ``synthetic 
equity'' (such as options, restricted shares, stock appreciation 
rights, or similar instruments) in the S corporation. In this manner, 
the benefit of tax deferral on S corporation income attributable to the 
use of an ESOP would be denied to the controlling shareholders who 
improperly employ the ESOP (alone or in combination with synthetic 
equity) to gain such tax deferral for themselves or their families, but 
would not be denied to non-controlling employees who participate in the 
ESOP.
---------------------------------------------------------------------------
    The anti-abuse provision described above preserves the use 
of S corporation ESOPs to provide retirement benefits to S 
corporation employees as Congress intended, and explicitly 
prevents the misuse of S corporation ESOPs by those persons 
who, through their control of the S corporation, might 
otherwise seek to use an ESOP simply to defer tax on the S 
corporation income of themselves and their families rather than 
provide retirement savings benefits to their S corporation 
employees.

                               Conclusion

    Current law is working to encourage employee ownership of S 
corporations and promote employee retirement savings, exactly 
as it was intended to work when Congress amended the ESOP rules 
for S corporations in the 1997 Act. Accordingly, CPPEO urges 
the Committee to reject the Administration's S corporation ESOP 
tax proposal because of the great danger it poses to the 
retirement security of S corporation owners who do or can now 
rely on ESOPs as a major (or only) source of retirement 
savings. The tax and retirement policies reflected in the 1997 
Act, resolved just a few months ago, should not now be undone. 
The targeted anti-abuse legislation supported by CPPEO is the 
appropriate response to any concerns that S corporation ESOPs 
could be used for unintended purposes.
      

                                


Statement of J. Michael Keeling, President, ESOP Association

    Chair Archer, ranking member Rangel, and members of the 
Committee, I am Michael Keeling, President of The ESOP 
Association, a national trade association based in Washington, 
D.C., with over 2,100 members nationwide, two-thirds of which 
are corporate sponsors of Employee Stock Ownership Plans, or 
ESOPs, and other members are either providing services to ESOP 
company sponsors, considering installing an ESOP, or affiliated 
with an educational, or non-profit institution.
    We come today because the press release announcement for 
today's hearings set forth that the subject matter for review 
is ``Enhancing Retirement and Health Security.''
    I come with this statement to you on behalf of The ESOP 
Association to urge the Committee, at its very first 
opportunity, which will hopefully be during your consideration 
of a 1999 tax relief bill pursuant to the Congressional FY 2000 
budget resolution, to adopt an expansion of the current law 
pertaining to the deduction of dividends paid on ESOP stock.
    Before describing what the change is that we want, and why 
it is good retirement savings, and good employee ownership 
policy, permit me to indicate to you the widespread support for 
the proposal among members of this Committee, members of the 
House, members of the Senate, and private sector employers and 
groups that represent those employers.
    To note, the proposal we urge you to adopt is Section 510 
of H.R. 1102, ``The Comprehensive Retirement Security and 
Pension Reform Act of 1999,'' introduced primarily by 
Congressmen Portman, and Cardin of your Committee. Although 
their list of co-sponsors grows daily, the latest from the 
world wide web indicates 23 members of Ways and Means are 
sponsors, along with 81 members of the House. Just last 
Thursday, June 10th, your colleague and senior member of the 
House Committee on Education and the Workforce, Cass Ballenger 
introduced H.R. 2124, ``The ESOP Promotion Act of 1999,'' and 
Section 2 is the same as Section 510. Your colleagues 
Congresswomen Nancy Johnson and Karen Thurman, and Congressmen 
Levin and Ramstad joined as original co-sponsors of Mr. 
Ballenger's pro-ESOP bill. (The provision we are discussing 
will be referred to as Section 510, as a shorthand reference.)
    Section 510 is included in Senate bills S.1132, ``The ESOP 
Dividend Reinvestment and Participant Security Act,'' by 
Senators Breaux and Hatch, and S. 741, ``The Pension Coverage 
and Portability Act,'' primarily by Senators Grassley and 
Graham of Florida. Both have attracted bi-partisan Senate 
support.
    But the proposal contained in Section 510 did not crop up 
at the last minute for inclusion in these bills promoting 
either retirement savings or employee ownership--this proposal 
was born in 1997, with the introduction by Breaux and Hatch of 
the 1997 ESOP Promotion Act, and was duplicated by Congressman 
Ballenger in H.R. 1592, which had 8 members of Ways and Means 
as co-sponsors. These two ESOP promotion bills, introduced in 
the second quarter of 1997, soon had their provision on 
dividend reinvestment included in the 1998 version of the 
Portman-Cardin, and Grassley-Gramm.
    The history gets even better Chair Archer, because the 
Oversight Subcommittee of Ways and Means focused on this 
provision at its May 5, 1998, hearings, when Mrs Johnson was 
chair of the Subcommittee, as it reviewed our pension laws, and 
how to make them more palatable to increasing retirement 
savings.
    At that hearing, members of the Subcommittee heard 
testimony from the private sector, from Mr. Ballenger, and from 
trade groups endorsing the expansion of the deduction for 
dividends paid on ESOP stock.
    In fact, on October 20, 1998, then Chair of the Oversight 
Congresswoman Johnson wrote to you an interim report from the 
Subcommittee based on its series of hearings and said, among 
other things, as an interim recommendation that ``The rules 
applicable to the deductibility of the dividends which an 
employer pays with respect to ESOP stock should be addressed 
and an expansion of the ESOP option should be explored.''
    Now, the next few weeks before your final decision on the 
provisions of the 1999 tax relief bill for provisions to 
enhance retirement savings is the time to make last year's 
interim recommendation a permanent pro-savings, pro-employee 
ownership recommendation.
    Now you should explore the questions, ``What is Section 510 
and how will enactment of section 510, as so many have 
recommended enhance retirement savings?''
    The ESOP Association strongly believes that the answer to 
these questions will persuade this Committee to adopt Section 
510 as part of a 1999 tax relief bill.
    So, let us answer the questions set forth above:
    What is Section 510? To answer the question, we first have 
to understand current law pertaining to dividends paid on stock 
in an ESOP. (Note, an ESOP is a tax-qualified defined 
contribution plan that must be primarily invested in employer 
securities that may borrow money to acquire employer 
securities. In other words, it is an ERISA plan that is akin to 
a tax-qualified profit sharing plan. An ESOP must comply with 
all the laws, regulations, and regulatory guidance pertaining 
to ERISA plans, plus many unique, Congressionally sanctioned 
incentives and restrictions to ensure ESOPs are both 
``ownership'' plans, and secure ``ERISA'' plans.)
    Internal Revenue Code Section 404(k) provides that 
dividends paid on ESOP stock are tax deductible if they are 
passed through in cash to the employee participants in the 
ESOP, or if they are used to pay the debt incurred by the ESOP 
in acquiring its employer securities, and the employees receive 
stock equal in value to the dividends. This section of the Code 
was added to the tax code in 1984, and modified in 1986, and in 
1989.
    Section 510 provides that if a sponsor of an ESOP pays 
dividends on ESOP stock that may be passed through the ESOP in 
cash to the employee, and the employee in turn has indicated 
that he or she would like the dividends ``reinvested'' in the 
sponsor's dividend reinvestment program, the sponsor can still 
take the Section 404(k) deduction.
    Now, to the second question asked above--Why would Mr. 
Portman, Mr. Cardin, Mr. Ballenger, Mrs. Johnson, et al want to 
have this proposal considered? Well the reason is simple, but 
typical of most of our tax law, we have to be careful to make 
the simple explanation understandable.
    The IRS has taken the position that when the employee 
voluntarily authorizes his or her dividends on his or her ESOP 
stock to be reinvested in the ESOP sponsor's dividend 
reinvestment program, the value of the dividends is not tax 
deductible for the ESOP sponsor.
    Let me repeat what I just said--if the employee wants to 
reinvest his or her dividends on ESOP stock in more stock to be 
held in the ESOP or a co-ordinated 401(k) plan in order to have 
more savings, the IRS says, ``No tax deduction.'' Think about 
it, the IRS is saying, ``spend the money now, do not save it 
for the future,'' or at least that is the impact of the 
position.
    But the situation in the real world gets even worse in the 
view of ESOP advocates, as there is a way for the plan sponsor 
to keep its tax deduction and for the employee to save more by 
keeping his or her dividends in a 401(k) plan. But this way is 
convoluted to a great extent, requiring the creation of some 
legal fictions that serve no purpose except to make life more 
complex and expensive for the sponsor of the ESOP and 401(k) 
plan.
    Again, here is the explanation. There is a technique that 
the IRS has blessed in several letter rulings back in 1993 and 
1994 that is called the 401(k) switchback. Getting a switchback 
program set up involves quite a bit of rigmarole, and I am not 
going to pretend that what follows is a perfect explanation of 
the technique.
    In brief, under a suitable program, an ESOP participant is 
allowed to make an additional pre-tax deferral to the 401(k) 
plan equal to the amount of the ESOP dividends passed through 
to her or him. The plan sponsor then pays the ESOP dividends to 
the company payroll office, and there is a chain of paper that 
has established an agency relationship between the ESOP 
participant and the payroll office. (This is done by signing 
forms, etc. etc.)
    If the ESOP participant elects the additional 401(k) 
deferral equal to her or his ESOP dividends, his or her 
paycheck would reflect the ESOP dividend amount and the 
additional pre-tax deferral to her or his 401(k) account. The 
paycheck has gone neither up or down for his or her personal 
tax situation.
    Now an employee can elect not to make an additional 401(k) 
deferral, and thus have his or her dividend paid, and have 
personal tax liability on the amount.
    As noted the IRS has held that the plan sponsor does not 
lose the ESOP dividend deduction in a switchback scheme as 
broadly outlined above if the dividends are first paid to the 
payroll office, and the employee has entered into a written 
agency agreement with the payroll office.
    One expert in designing these 401(k) Switchback programs 
writes,

        ``Because the dividend pass-through/401(k) switchback feature 
        involves a considerable amount of work to implement with regard 
        to treasury and payroll procedures (including software 
        programming changes), the company will want to carefully assess 
        the anticipated value of the program both in terms of the 
        expected dividend deduction and enhanced employee ownership 
        values.'' Duncan E. Harwood, Arthur Anderson Consulting, LLP, 
        ``Dividend Pass-Through: Providing Flexibility,'' Proceedings 
        Book, The 1995 Two Day ESOP Deal, Las Vegas, Nevada, page 158, 
        The ESOP Association.

    In short, Section 510 is to simplify encouraging people to 
save their dividends paid on ESOP stock in a manner that 
encourages the corporation to pay dividends in an employee 
owner arrangement, compared to accomplishing the same thing in 
a convoluted way.
    Now, lets turn to the third question set forth at the 
beginning of this statement. Please remember the answer to this 
question would go a long way in determining whether the 
Congress will want to make Section 510 law.
    The answer to this question should be self-evident. The 
current IRS position is anti-savings and anti-simple. To 
encourage saving the dividends on ESOPs in a tax-qualified 
ERSIA plan in a manner that is simple and easy to understand, 
Section 510 should become law.
    Otherwise, we can all accept the IRS position that in order 
to encourage the savings of the ESOP dividends the plan sponsor 
should engage in some mumbo-jumbo involving the payroll office 
being an agent for employees who just happen to figure out how 
to increase their 401(k) elective deferrals and who tell their 
``agent'' to put their dividends in the 401(k) plan.
    In conclusion Chair Archer, the ESOP and employee ownership 
community, in allegiance of sponsors of 401(k) plans and 
dividend reinvestment plans, believe that your focus on 
enhancing retirement savings will lead you and your colleagues 
to conclude that Congress should enact Section 510.
    And, let me pledge that the ESOP community will work with 
you, your colleagues, Committee staff, the staff of the Joint 
Tax Committee, and Treasury staff, to ensure that any 
legislative action on Section 510 meets its intent to be a fair 
and reasonable provision of law, both in terms of application 
and revenue impact, that promotes savings, and employee 
ownership.
    Again, I thank you for your leadership in the area of 
retirement savings.
      

                                


Statement of ESOP Coalition, Somerset, New Jersey

    This written statement is submitted on behalf of the ESOP 
Coalition, an informal organization of more than 30 large and 
small corporations doing business in the communications, 
banking, oil and gas, utilities, manufacturing, automobile, 
retail, and insurance industries. Our work is also supported by 
many trade associations, including the Association of Private 
Pension and Welfare Plans (APPWP); the ERISA Industry Committee 
(ERIC); the ESOP Association; the Financial Executives 
Institute (FEI); the National Association of Manufacturers 
(NAM); and the U.S. Chamber of Commerce.
    The ESOP Coalition commends the Committee and its Chair for 
their proactive role in addressing the vital issues now facing 
this country in securing important retirement protections for 
our workers and retirees. With record numbers of workers on the 
verge of retirement, and many young people entering the 
workforce and commencing participation in their employer's 
retirement programs for the first time, it is more important 
than ever before that our nation's employees understand their 
own roles and responsibilities in saving for the years when 
they no longer will be working and that our laws and policies 
encourage this discipline where possible.
    One proposal currently before this Congress would 
accomplish the worthwhile goal of enhancing retirement security 
while at the same time strengthening the very backbone of the 
American economy: a worker's commitment to his or her employer. 
This provision would further these diverse goals by allowing 
employees to retain in the plan dividends paid on employer 
stock held in an employee stock ownership plan (an ``ESOP'') 
without causing the employer to lose the deduction for these 
ESOP dividends.
    Current law affirms the importance of fostering employee 
ownership in the company by permitting an employer to deduct 
the dividends paid on employer stock held in an ESOP. This 
deduction is given (under Sec. 404(k) of the Internal Revenue 
Code), however, only if the dividends are used to pay off the 
loan held by a leveraged ESOP or the dividends are paid in cash 
to the ESOP participants. No deduction is generally available 
for dividends that the employee would wish to retain in the 
ESOP rather than consume immediately. Although one Internal 
Revenue Service ``solution'' exists whereby some workers are 
able to reinvest some dividends in a 401(k)/ESOP, this approach 
is neither practical nor efficient and often is not available 
to all participants in the ESOP. In addition, many employees 
receive no benefit from this approach because the reinvested 
dividends offset the elective deferrals they might otherwise 
make to their 401(k) plan rather than being treated--like all 
other dividends and interest--as earnings under the plan.
    Thus, current law not only discourages the reinvestment of 
ESOP dividends, it also deprives employees of an efficient 
means of steadily accumulating an ever-growing ownership 
interest in the employer and greater retirement income. A 
simple change to Sec. 404(k) of the Code would correct this 
anomaly by giving employees the additional choice of retaining 
their dividends in the ESOP instead of receiving the dividends 
in cash.
    Many in Congress have recognized the desirability of 
amending Sec. 404(k) of the Code to encourage the retention of 
dividends in an ESOP. In particular, we applaud Rep. Rob 
Portman (R-OH) and Rep. Benjamin Cardin (D-MD) and many other 
Members for supporting this provision in H.R. 1102, ``The 
Comprehensive Retirement Security and Pension Reform Act of 
1999,'' as well as Rep. Cass Ballenger (R-NC) for introducing 
the ``ESOP Promotion Act of 1999,'' which also contains this 
change. This provision also has been included in comparable 
bipartisan pension reform bills in the U.S. Senate.
    Employees today appreciate that their retirement years will 
be vastly more comfortable if they systematically set aside the 
money that will sustain them during their post-working years 
and not allow the dissipation of any of their hard-earned 
savings through periodic dividend pay-outs. Promotion of the 
reinvestment of ESOP dividends is sound tax policy--not only 
because it stems the ``leakage'' of retirement savings, but 
also because it furthers one of the primary purposes of an 
ESOP, encouraging employees to participate more fully in their 
employer's growth. Thus, this provision fosters employee 
responsibility and productivity while simultaneously building 
retirement security.\1\
---------------------------------------------------------------------------
    \1\ For a discussion of the evidence supporting the finding that 
employee ownership improves the performance of publicly traded 
corporations, see ``Unleashing the Power of Employee Ownership,'' a 
July 1998 Research Report by Hewitt Associates LLC.
---------------------------------------------------------------------------
    The ESOP Coalition commends the Committee and its Chair for 
their important work in addressing the issues of retirement 
security and urges that this provision to encourage the 
reinvestment of ESOP dividends be accorded a top priority in 
Congressional efforts to secure comprehensive pension reform.
      

                                


Statement of Financial Planning Coalition

    This Statement is being submitted to the Ways and Means 
Committee of the United States House of Representatives by the 
Financial Planning Coalition for inclusion in the written 
record of the June 16, 1999, hearing before the Committee on 
Enhancing Retirement and Health Security. The members of the 
Financial Planning Coalition are the American Institute of 
Certified Public Accountants, the Consumer Federation of 
America, the Institute of Certified Financial Planners, the 
International Association for Financial Planning, the 
Investment Counsel Association of America, and the Society of 
Financial Service Professionals. The Certified Financial 
Planner Board of Standards, Inc. is an educational consultant 
to the Coalition.\1\
---------------------------------------------------------------------------
    \1\ The American Institute of Certified Public Accountants is the 
national professional association of CPAs in the United States with 
more than 330,000 members in public practice, business and industry, 
government and education.
    The Consumer Federation of America is a non-profit association of 
some 260 pro-consumer groups. It was founded in 1968 to advance the 
consumer interest through advocacy and education.
    The Institute of Certified Financial Planners is a professional 
membership association that exclusively serves Certified Financial 
Planner licensees.
    The International Association for Financial Planning is the largest 
and oldest membership association representing the financial planning 
community, with 123 companies as members of the Broker-Dealer Division 
and over 17,000 individual members nationwide.
    The Investment Counsel Association of America is a national not-
for-profit association that exclusively represents SEC-registered 
investment advisors.
    The Society of Financial Service Professionals was formerly known 
as the American Society of CLU & ChFC. Founded in 1928, it is composed 
of 32,000 members who are dedicated to serving the financial needs of 
individuals, families, and businesses.
    The Certified Financial Planner Board of Standards, Inc. is a non-
profit professional regulatory agency that was founded in 1985. It owns 
and sets the standards for using the CFP certification mark and the 
marks CFP and Certified Financial Planner.
---------------------------------------------------------------------------

                               BACKGROUND

    The convergence of the growing complexity in the financial 
marketplace, and the shifting of a significant portion of 
financial and investment decision making from professionals to 
the American public has created a significant need for 
financial planning services to be more easily accessible. 
Financial planning services must include both education and 
individual professional assistance to help lead individuals 
through the financial marketplace. The use of education and 
financial planning assistance will help Americans to 
effectively manage their finances in ways that allow them to 
provide for their families today and have a secure and 
comfortable retirement.

                        THE CHANGING MARKETPLACE

    The financial world that Americans are living in has become 
increasingly complex. Because of dramatic changes in the way 
pensions are funded, as well as a growing reliance on personal 
savings to fund retirement and other major life goals, 
individuals increasingly make retirement and financial planning 
decisions that were once made for them by professionals. Even 
for those who are financially sophisticated, the determination 
of how much money must be saved for each individual's varied 
future needs, especially for retirement, and how that money 
should be invested is difficult. For those who are not 
financially sophisticated, the complexity of the decisions that 
must be made and the myriad choices that are available make 
these decisions truly daunting.
    Perhaps the most important change is the sea change in the 
type of retirement plans of the American worker in the last 20 
years. In 1975, sixty eight percent of pension plans were 
defined benefit plans.\1\ These plans defined the amount of the 
benefit the worker would receive upon retirement very simply--
the worker would get a check for a specific amount every month 
for the rest of his/her life. The worker did not have to make 
any decisions regarding the amount of money that must be saved 
for retirement or how to invest the money.
---------------------------------------------------------------------------
    \1\ Employee Benefit Research Institute Databook on Employee 
Benefits, 4th Edition.
---------------------------------------------------------------------------
    By 1994, fifty percent of pension payments were made from 
defined contribution plans.\2\ These plans generally require 
the worker to determine how much to save for retirement and how 
to invest the money. Cash balance plans are also becoming very 
popular. They give the employee the flexibility of having a 
portable pension--one that goes with the worker when there is a 
change in employers--but they also often require the worker to 
make investment decisions when there is a change in employers.
---------------------------------------------------------------------------
    \2\ Id.
---------------------------------------------------------------------------
    Also, workers today change jobs much more often than in 
previous years, either due to greater opportunities existing in 
a tight labor market, or due to layoffs accompanying 
consolidation and downsizing. Changing jobs potentially dilutes 
a worker's retirement benefits because the worker leaves a 
position before benefits have vested and/or because some 
pension provisions disfavor leaving early in a career (e.g. the 
pension benefit is calculated as a percentage of an employee's 
top three years of salary).
    Another factor has added to the complexity of managing 
investments and retirement funds. The number and type of 
investment options has skyrocketed in the last 20 years. Not 
only have whole new classes of investments been made available, 
such as Roth IRAs and the complex world of derivatives, but 
within each type of investment the number of choices has 
increased exponentially. For example, in 1983, just 15 years 
ago, there were 1,026 mutual funds to choose from. In 1998, 
there were 7,314.\3\
---------------------------------------------------------------------------
    \3\ 1999 Mutual Fund Fact Book, 39th Ed., pub. By the Investment 
Company Institute.
---------------------------------------------------------------------------
    Because of these changes, the ability of each American to 
retire in comfort increasingly depends on his or her 
proficiency in making sound investment decisions. And sound 
investment decisions encompass how much to save for various 
needs and how to invest the money that is saved. Even for the 
relatively sophisticated, making the mathematical calculation 
to determine how much we need to save in order to have a 
specific income at retirement is not an easy calculation. 
Seventy-five percent of American workers do not know how much 
money they will need to reach their retirement goals.\4\
---------------------------------------------------------------------------
    \4\ Yakoboski and Dickemper, Increased Saving but Little Planning: 
Results of 1997 Retirement Confidence Survey, Employee Benefit Research 
Institute Brief (Nov. 1997).
---------------------------------------------------------------------------
    Yet there is a crisis in savings at the very time that 
savings is becoming crucial to the long term well being of the 
American public.\5\ The personal savings rate in this country 
has fallen to a minus 0.7%.\6\ In a 1998 survey taken by the 
Employee Benefit Research Institute, thirty six percent of 
those surveyed had no money saved for retirement (a summary of 
the survey is attached).\7\ These statistics underscore the 
need to educate Americans about the need for retirement 
planning.
---------------------------------------------------------------------------
    \5\ The SAVER Act (P.L. 105-92 (1997)) (passed unanimously by 
Congress) noted that we have a crisis of savings in this country.
    \6\ Advisory from the Committee on Ways and Means of the United 
States House of Representatives, No. FC-10, June 2, 1999.
    \7\ 1998 Retirement Confidence Survey by the Employee Benefit 
Research Institute.
---------------------------------------------------------------------------

                      EFFECT OF FINANCIAL PLANNING

    We believe that the cornerstone of retirement income 
security is proper financial planning and education (attached 
is a copy of a letter sent to all Members of the Ways and Means 
Committee by the Coalition). This was a finding of the 1998 
National Summit on Retirement Savings that was held in 
Washington, D.C. The consensus of the delegates attending the 
Summit was that the overall solution to the savings crisis is 
education, provided from qualified sources, and made available 
to current workers and retirees over an extended period of 
time. This Summit was mandated by the SAVERS Act and co-hosted 
by the Administration and Congressional leadership. A 1997 
survey by the Consumer Federation of America and NationsBank 
(now Bank of America) confirms this finding (a copy of the 
survey is attached). The survey found that savers with 
financial plans report twice as much savings and investment as 
do savers with comparable incomes, but without plans.

THE COMPREHENSIVE RETIREMENT SECURITY AND PENSION REFORM ACT--H.R. 1102

    The Comprehensive Retirement Security and Pension Reform 
Act was introduced this year by Congressmen Rob Portman (R-OH) 
and Benjamin Cardin (D-MD) and had a total of 98 co-sponsors on 
June 28, 1999. Section 520 of the bill contains an important 
first step in making financial planning available to American 
workers.
    Section 520 of this bill does two things. First, it 
clarifies that the provision of retirement planning services by 
an employer to employees is a de minimis fringe benefit under 
Section 132 of the Internal Revenue Code. This is a 
clarification of existing law. It is clear under current law 
that it is a de minimis fringe benefit when an employer 
provides a seminar to a group of employees to provide 
information about the employer's pension plan. However, it 
begins to fall into a gray area when the employer adds the 
availability of a one-on-one meeting for an employee to discuss 
his/her personal situation, especially when the discussion goes 
beyond the application of the employer's pension plan and 
encompasses other aspects of the employee's financial 
situation.
    It is critical that this area be clarified. Retirement 
planning cannot be done in a vacuum. One of the key questions 
to be answered is how much money can and should be saved for 
retirement purposes. Included in this determination must be the 
consideration of what other assets may be available at 
retirement, including from sources such as Social Security and 
a spouse's pension. But that is only the first step. The 
individual must also determine how much money is currently 
available to save for retirement. And this can only be 
determined by looking at the employee's entire financial 
situation, determining what other needs exist and how much 
money can and should be allocated for those needs. Examples of 
some other critical financial needs that must be factored into 
this calculation are education savings for children and 
provision to help care for elderly parents.
    The second part of Section 520 would allow the employer to 
create an employee benefit plan for its employees regarding 
retirement planning that is similar to a ``cafeteria plan.'' 
This would allow the employer to offer retirement planning or, 
in lieu of the planning, additional salary. If the retirement 
planning service is chosen, there would be no income imputed to 
the employee by reason of taking the service instead of the 
salary.
    These retirement planning benefits would have to be offered 
on a non-discriminatory basis. This would ensure that the rank 
and file employee, not just the highly compensated employee, 
would have access to the benefit.
    Enactment of Section 520 will provide a concrete first step 
to help Americans achieve retirement security. This is a first 
step because it will only reach a limited number of people. Not 
all employers will offer these benefits to their employees. 
Large employers will be more likely to offer such benefits than 
will small employers. And self-employed individuals, 
independent contractors, and part time employees who do not 
receive a full range of benefits will not receive these or 
other retirement planning services.

                               CONCLUSION

    Financial planning and education has become a critical 
element of every American's ability to live and retire in 
comfort. Not only do people save more, but they save smarter 
when they have the proper education and tools. Unfortunately, 
the provision of education and financial planning tools is 
trailing the changes in the marketplace that are making them 
necessary.
    Section 520 of H.R. 1102 is a good starting point in the 
move to make financial planning services and education 
available to all Americans. If Section 520 is enacted, a 
substantial number of Americans will have access to financial 
planning services that were previously unavailable. And the 
provision of these retirement planning and education services 
will prove their worth when they cause a substantial number of 
workers begin to save for retirement that have not done so yet, 
and cause workers who are saving for retirement to save more 
and to invest it more wisely. Section 520 offers a foundation 
upon which other efforts to increase American's access to 
financial planning services can be built.
      

                                


                                                       May 24, 1999

The Honorable Bill Archer
U.S. House of Representatives
Longworth House Office Bldg.
Washington, DC 20515-0001

Re: RETIREMENT PLANNING IS CRITICAL TO ENSURE THE FUTURE SECURITY OF 
        THE AMERICAN WORKER

    Dear Representative Archer:

    We are writing to ask you to support legislative endeavors which 
would make retirement planning more available to the American 
workforce. A proposal contained in both H.R. 1102 and S.741 would make 
it clear that the value of employer provided retirement planning 
assistance is not a taxable fringe benefit to an employee.\1\
---------------------------------------------------------------------------
    \1\ Sec. 520 and Sec. 503 respectively of H.R. 1102, the 
Comprehensive Retirement security and pension Reform Act (the Portman-
Cardin bill) and S. 741, Pension Coverage and Portability Act (the 
Grassley-Graham bill).
---------------------------------------------------------------------------
    The ability of each American to retire in comfort increasingly 
depends on his or her proficiency in making sound investment decisions. 
This means that the cornerstone of retirement income security is proper 
financial planning and education.\2\ Recent surveys and studies have 
underscored the critical need for retirement planning education among 
today's workers.
---------------------------------------------------------------------------
    \2\ The SAVER Act (P.L. 105-92 (1997)) (passed unanimously by both 
houses of Congress) noted that we have a crisis of savings in this 
country. A summit was mandated by this law to establish recommendations 
to encourage savings. One of the main findings of the 1998 National 
Summit on Retirement Savings (co-hosted by the Administration and 
Congressional leadership) was that employers must be urged to ``educate 
employees about the importance of retirement savings.''
---------------------------------------------------------------------------
    Only one in three savers has a comprehensive retirement plan.\3\
---------------------------------------------------------------------------
    \3\ 1997 Survey of Consumer Federation of America and NationsBank 
(now Bank of America).
---------------------------------------------------------------------------
    75% of America's workers do not know how much they will need to 
reach their retirement goals.\4\
---------------------------------------------------------------------------
    \4\ Yakoboski and Dickemper, Increased Saving but Little Planning: 
Results of 1997 Retirement Confidence Survey, Employee Benefit Research 
Institute Brief (Nov. 1997). (hereinafter cited as the Yakoboski 
study).
---------------------------------------------------------------------------
    36% of those surveyed have no money saved for retirement.\5\
---------------------------------------------------------------------------
    \5\ 1998 Retirement Confidence Survey by the Employee Benefit 
Research Institute. (Hereinafter cited as the Retirement Confidence 
Survey).
---------------------------------------------------------------------------
    Of all workers, only 39% received employer provided educational 
material about retirement planning.\6\
---------------------------------------------------------------------------
    \6\ Retirement Confidence Survey.
---------------------------------------------------------------------------
    Evidence also exists that retirement education is a key element in 
ensuring retirement security for workers:
    Savers with financial plans report twice as much savings and 
investments as do savers without plans.\7\
---------------------------------------------------------------------------
    \7\ 1997 Survey by Consumer Federation of America.
---------------------------------------------------------------------------
    81% of workers who received retirement education have money 
earmarked for retirement in an account.\8\
---------------------------------------------------------------------------
    \8\ Retirement Confidence Survey.
---------------------------------------------------------------------------
    These findings are both alarming and encouraging. It means that 
many of today's workers will reach and are reaching retirement age with 
too little income for retirement. These findings also provide hope. The 
studies show that those individuals that receive retirement education 
significantly increase their savings and investments. If we are to 
encourage national savings, we must encourage education to empower each 
American to make the most of his or her investment choices. Retirement 
planning services provided by employers to their employees must be 
encouraged and promoted but--should not be taxed!

            Sincerely,
                                   The American Institute of Certified 
                                       Public Accountants
                                   Certified Financial Planner Board of 
                                       Standards, Inc. (as an education 
                                       consultant to the AICPA)
                                   Consumer Federation of America
                                   Institute of Certified Financial 
                                       Planners
                                   Investment Company Institute
                                   Investment Counsel Association of 
                                       America
                                   Securities Industry Association
      

                                


                                                       May 24, 1999
The Honorable Xavier Becerra
U.S. House of Representatives
Longworth House Office Bldg.
Washington, DC 20515-0001

    Dear Representative Becerra:

Re: RETIREMENT PLANNING IS CRITICAL TO ENSURE THE FUTURE SECURITY OF 
        THE AMERICAN WORKER

    We are writing to ask you to support legislative endeavors which 
would make retirement planning more available to the American 
workforce. A proposal contained in both H.R. 1102 and S.741 would make 
it clear that the value of employer provided retirement planning 
assistance is not a taxable fringe benefit to an employee.\1\
---------------------------------------------------------------------------
    \1\ Sec. 520 and Sec. 503 respectively of H.R. 1102, the 
Comprehensive Retirement security and pension Reform Act (the Portman-
Cardin bill) and S. 741, Pension Coverage and Portability Act (the 
Grassley-Graham bill).
---------------------------------------------------------------------------
    The ability of each American to retire in comfort increasingly 
depends on his or her proficiency in making sound investment decisions. 
This means that the cornerstone of retirement income security is proper 
financial planning and education.\2\ Recent surveys and studies have 
underscored the critical need for retirement planning education among 
today's workers.
---------------------------------------------------------------------------
    \2\ The SAVER Act (P.L. 105-92 (1997)) (passed unanimously by both 
houses of Congress) noted that we have a crisis of savings in this 
country. A summit was mandated by this law to establish recommendations 
to encourage savings. One of the main findings of the 1998 National 
Summit on Retirement Savings (co-hosted by the Administration and 
Congressional leadership) was that employers must be urged to ``educate 
employees about the importance of retirement savings.''
---------------------------------------------------------------------------
    Only one in three savers has a comprehensive retirement plan.\3\
---------------------------------------------------------------------------
    \3\ 1997 Survey of Consumer Federation of America and NationsBank 
(now Bank of America).
---------------------------------------------------------------------------
    75% of America's workers do not know how much they will need to 
reach their retirement goals.\4\
---------------------------------------------------------------------------
    \4\ Yakoboski and Dickemper, Increased Saving but Little Planning: 
Results of 1997 Retirement Confidence Survey, Employee Benefit Research 
Institute Brief (Nov. 1997). (hereinafter cited as the Yakoboski 
study).
---------------------------------------------------------------------------
    36% of those surveyed have no money saved for retirement.\5\
---------------------------------------------------------------------------
    \5\ 1998 Retirement Confidence Survey by the Employee Benefit 
Research Institute. (Hereinafter cited as the Retirement Confidence 
Survey).
---------------------------------------------------------------------------
    Of all workers, only 39% received employer provided educational 
material about retirement planning.\6\
---------------------------------------------------------------------------
    \6\ Retirement Confidence Survey.
---------------------------------------------------------------------------
    Evidence also exists that retirement education is a key element in 
ensuring retirement security for workers:
    Savers with financial plans report twice as much savings and 
investments as do savers without plans.\7\
---------------------------------------------------------------------------
    \7\ 1997 Survey by Consumer Federation of America.
---------------------------------------------------------------------------
    81% of workers who received retirement education have money 
earmarked for retirement in an account.\8\
---------------------------------------------------------------------------
    \8\ Retirement Confidence Survey.
---------------------------------------------------------------------------
    These findings are both alarming and encouraging. It means that 
many of today's workers will reach and are reaching retirement age with 
too little income for retirement. These findings also provide hope. The 
studies show that those individuals that receive retirement education 
significantly increase their savings and investments. If we are to 
encourage national savings, we must encourage education to empower each 
American to make the most of his or her investment choices. Retirement 
planning services provided by employers to their employees must be 
encouraged and promoted but--should not be taxed!

            Sincerely,
                                   The American Institute of Certified 
                                       Public Accountants
                                   Certified Financial Planner Board of 
                                       Standards, Inc. (as an education 
                                       consultant to the AICPA)
                                   Consumer Federation of America
                                   Institute of Certified Financial 
                                       Planners
                                   Investment Company Institute
                                   Investment Counsel Association of 
                                       America
                                   Securities Industry Association

    [Additional attachments are being retained in the Committee 
files.]
      

                                


Statement of Food Marketing Institute

    Thank you, Chairman Archer, for holding a hearing on 
proposals to reduce the tax burden on personal savings. We 
particularly wish to focus on the effect of the estate tax on 
family-owned businesses. The Food Marketing Institute (FMI)--
Your Neighborhood Supermarkets is pleased to submit testimony 
today because elimination of the estate and gift tax is our top 
legislative tax priority for the 106th Congress. About 1,000 of 
our members are family-owned supermarket companies. In fact, 
half of our members are one-store operators. Most of their 
money is tied up in assets-costly stores, refrigeration systems 
and thousands upon thousands of products. The burden of 
planning for and paying estate taxes is a critical issue for 
their companies.
    The bricks and mortar to build a supermarket can cost $3 
million alone, so most grocery store owners, even the smallest 
have personal assets taxed at the top marginal rate of 55%. 
This tax kills family businesses and affects local jobs. We 
also have less than 20 minority-owned grocers, most first-
generation business owners-the first in their families to 
accumulate capital--who wonder if their children will be able 
to succeed them and participate in the great American economy. 
Our members are your constituents. Their customers, who visit 
supermarkets on an average of 2.2 times a week, depend on them 
not only for food shopping convenience, but also for local 
support in charity and community events. They are also 
significant employers in their local operating areas.
    A small food retailer with one to three stores may have 
assets worth about $20 million. Rounding figures a bit, that 
creates an estate tax bill of about $10 million. With yearly 
profits of a penny on the dollar--the industry average--the 
owner has very little cash on hand. While some FMI members buy 
life insurance just to prepare for paying the tax, many cannot 
afford the premiums necessary to protect all of their assets.
    The Food Marketing Institute (FMI) is a nonprofit 
association conducting programs in research, education, 
industry relations and public affairs on behalf of its 1,500 
members including their subsidiaries--food retailers and 
wholesalers and their customers in the United States and around 
the world. FMI's domestic member companies operate 
approximately 21,000 retail food stores with a combined annual 
sales volume of $225 billion--more than half of all grocery 
store sales in the United States. FMI's retail membership is 
composed of large multi-store chains, small regional firms and 
independent supermarkets. Its international membership includes 
200 members from 60 countries.
    FMI's President and CEO Tim Hammonds is the co-chairman of 
a unique coalition that was announced yesterday--Americans 
Against Unfair Family Taxation. What makes us unique is that we 
represent family-owned businesses throughout the United States. 
The coalition will give this issue a much higher profile 
through a national television and print advertising initiative 
and a series of local town meetings designed to inform the 
American people. National research already conducted shows that 
Americans believe a top 55% tax rate is too high and simply 
unfair.

         Effect of the Estate Tax when a Supermarket Owner Dies

    Supermarket succession, the passing of years of hard work 
on to the next generation is a top concern of family-owned 
supermarket retailers and wholesalers. Succession planning is 
long and difficult. Owners are forced to answer difficult 
questions about the future of a company they have worked their 
entire lives to create and grow. The transfer of ownership and 
the family dynamics are central questions in the decision to 
plan for the future of the business. The shocking reality is 
when the owner realizes that from 37% up to 55% of his or her 
company can be lost to estate and gift taxes. When the owner of 
a supermarket dies, the individual's estate is subject to 
federal and state death taxes. The tax not only covers the life 
savings of the one who passed away, abut also the home, land, 
pensions, life insurance, stocks and bonds, annuities, IRAs, 
401K plans and the business assets, as well as anything else 
that has any economic value. The deceased has already paid 
income tax on that money. In addition to income taxes, they 
have paid and collected payroll taxes and employment taxes; 
many have paid capital gains taxes as well.
    Food retailers and wholesalers run capital intensive 
businesses, requiring large investments in land, stores or 
shopping centers, refrigeration, point-of-sale equipment, large 
inventories of products, lighting, transportation, such as 
fleets of trucks, etc. One single asset of a company can be 
more than the amount of the $650,000 exemption or threshold for 
the unified credit. Owners of most family owned grocery stores 
plow their after-tax profits back into their stores in 
equipment, new consumer services, associates/jobs, remodeling 
and new store development. As mentioned earlier, the average 
profit of our industry is one penny on the dollar after taxes, 
so you can see why the supermarket industry is particularly 
vulnerable to the devastating effects of this tax.
    Family-owned supermarkets that do survive after the 
principal owner's death have already spent thousands, and even 
more than $3 to $5 million, according to industry members 
surveyed, to simply plan for the eventuality of estate taxes. 
Most grocery stores involved in planning purchase life 
insurance, have buy/sell agreements or provide lifetime gifts 
of stock. FMI strongly believes that the resources spent 
planning for and paying the death tax could be used more 
productively to grow supermarkets, provide customers with value 
and create additional jobs in the economy.
    It is hard to imagine a more onerous or unfair tax. When 
the owner dies, as much as she or he may have wanted to pass 
the business down to the children or cousins, the estate tax 
puts them in a deep financial hole. This is even before they 
get started. Some try to stay in business by taking out a loan 
with the Internal Revenue Service as their silent partner, 
skimming off a large portion of the profits every year, 
stifling job growth and business expansion. This option is 
extremely risky. The supermarket industry has never been more 
competitive than it is today. To survive, owners must use all 
available capital to upgrade their stores with new services and 
invest in technology to stay as efficient as possible. They 
need all of their slim profits, along with loans from banks and 
other sources, to remain competitive.
    All too often, however, the estate tax forces them to close 
or sell the store. And the community loses an institution that 
may have supported the local economy for years. And the 
industry loses another independent operator, historically the 
source of greatest innovation in our business. The whole idea 
of the self-service supermarket, an American innovation, 
started with independent entrepreneurs in the 1930s.

               Economic Effects of the Federal Estate Tax

    The icing on the cake for FMI members is that after 
involved planning, which takes assets away from their business 
while they are alive; they are shocked to learn that the tax 
raises almost no revenue for the federal government.
    The Joint Economic Committee of Congress released a 
``dynamic'' report in December 1998, which found that this tax 
``raises very little, if any, net revenue for the federal 
government.'' The JEC also concluded that the estate tax 
results in losses under the income tax that are roughly the 
same size as the revenue brought in by the estate tax. Annual 
death tax receipts total approximately $23 billion, less than 
1.4% of total tax revenue.
    FMI believes Congress needs to do much more than simply 
increase the unified credit to help the growing number of 
family owned businesses facing high estate tax rates upon their 
deaths. The supermarket industry urges Congress to focus on 
eliminating these high tax rates. As mentioned earlier, raising 
the unified credit does little to ameliorate the ravaging 
effect of this tax. Closely held supermarkets and their 
wholesalers are capital intensive businesses, whose owners 
invest profits back into their business, but pay taxes at the 
personal rate. Lifetime assets easily exceed the unified credit 
amount of $650,000 (under current law, up to $1 million by 
2006).
    In the House of Representatives, we strongly support the 
bipartisan, leadership legislation, H.R. 8, introduced by Reps. 
Jennifer Dunn and John Tanner that calls for gradual 
elimination of the death tax by 5% per year over a period of 11 
years. We also support H.R. 86, introduced by Rep. Chris Cox, 
which calls for full and immediate repeal of this tax. Versions 
of H.R. 8 have also been introduced in other tax packages, 
sponsored by Rep. Sam Johnson and Reps. Jennifer Dunn and Jerry 
Weller. We urge Congress to include legislation eliminating the 
estate and gift tax in any upcoming tax legislation.

                                Summary

    The federal estate tax has become a huge disincentive to 
continuing small family owned businesses. Take for instance, 
the two-store operator in the nation's heartland, who has built 
his business so he now employs 500 people, with 200 jobs added 
in just the last five years. The fair market value of his 
business is $10 to $20 million. He has spent between $600,000 
and $1 million in succession planning, but he will have to sell 
all or part of the business when he dies to satisfy the estate 
tax. He believes his business will grow and expects to employ 
700 people in his community in the next five years. All would 
lose their positions working for this small, but important 
market innovator, if he died.
    Another supermarket operator has already spent just under 
$10 million in estate taxes, and the second generation has 
managed to hang on, by taking out a loan. This delayed the 
opening of a third store for almost five years and added a 
large debt payment. These funds otherwise could have been used 
to fund parts of his expansion instead of borrowing and adding 
cost to his operations. A few million dollars of the federal 
tax payment was deferred and debt taken on to pay back the 
federal tax over an allotted time period, so most of his 
profits are applied to the federal tax payments.
    Supermarket owners pay federal and state taxes throughout 
the life of their company. When they die, the federal 
government steps in and takes up to half of the worth of the 
their company assets. It is unjust for our government to impose 
a tax that raises so little revenue while it devastates 
businesses and kills jobs. FMI urges you to pass legislation to 
eliminate this tax.
    Thank you for the opportunity to present testimony this 
morning.
      

                                


Statement of Investment Company Institute

    The Investment Company Institute \1\ is pleased to submit 
this statement to the House Committee on Ways and Means 
regarding retirement savings issues raised at its June 16 
hearing. Most importantly, we would like to take this 
opportunity to indicate our strong support for many of the 
provisions of H.R. 1102, the ``Comprehensive Retirement 
Security and Pension Reform Act of 1999'' and H.R. 1546, the 
``Retirement Savings Opportunity Act of 1999.'' Both bills 
would make the nation's retirement plan system significantly 
more responsive to the retirement savings needs of Americans. 
Both bills would encourage retirement savings by providing 
appropriate tax incentives to employers and individuals; and 
both would eliminate many of the unnecessary limitations that 
discourage small employers from establishing retirement plans 
and individuals from trying to save for retirement. The 
Institute commends the sponsors of H.R. 1102 and H.R. 1546 and 
other members of this committee for their interest in 
retirement savings policy.
---------------------------------------------------------------------------
    \1\ The Investment Company Institute is the national association of 
the American investment company industry. Its membership includes 7,576 
open-end investment companies (``mutual funds''), 479 closed-end 
investment companies and 8 sponsors of unit investment trusts. Its 
mutual fund members have assets of about $5.860 trillion, accounting 
for approximately 95% of total industry assets, and have over 73 
million individual shareholders.
---------------------------------------------------------------------------
    Retirement savings are of vital importance to our nation's 
future. Although members of the ``Baby Boom'' generation are 
rapidly approaching their retirement years, studies strongly 
suggest that as a generation, they have not adequately saved 
for their retirement.\2\ Additionally, Americans today are 
living longer. Taken together, these trends will place an 
enormous strain on the Social Security program in the near 
future.\3\ In order to ensure that individuals have sufficient 
savings to support themselves in their retirement years, much 
of this savings will need to come from individual savings and 
employer-sponsored plans.
---------------------------------------------------------------------------
    \2\ For instance, one study concluded that the typical Baby Boomer 
household will need to save at a rate 3 times greater than current 
savings to meet its financial needs in retirement. Bernheim, Dr. 
Douglas B., ``The Merrill Lynch Baby Boom Retirement Index'' (1996).
    \3\ Social Security payroll tax revenues are expected to be 
exceeded by program expenditures beginning in 2014. By 2034, the Social 
Security trust funds will be depleted. 1999 Annual Report of the Board 
of Trustees of the Federal Old-Age and Survivors Insurance and 
Disability Insurance Trust Funds.
---------------------------------------------------------------------------
    The Institute and mutual fund industry have long supported 
efforts to enhance the ability of individual Americans to save 
for retirement in individual-based programs, such as the 
Individual Retirement Account or IRA, and employer-sponsored 
plans, such as the popular 401(k) plan. In particular, we have 
urged that Congress: (1) establish appropriate and effective 
retirement savings incentives; (2) enact saving proposals that 
reflect workforce trends and saving patterns; (3) reduce 
unnecessary and cumbersome regulatory burdens that deter 
employers--especially small employers--from offering retirement 
plans; and (4) keep the rules simple and easy to understand.
    It is our view that together H.R. 1102 and H.R. 1546 
achieve these objectives.

     I. Establish Appropriate and Effective Incentives to Save for 
                               Retirement

A. Raise Low Caps That Unnecessarily Limit Retirement Savings.

    In order to increase retirement savings, Congress must 
provide working Americans with the incentive to save and the 
means to achieve adequate retirement security. Current tax law, 
however, imposes numerous limitations on the amounts that 
individuals can save in retirement plans. Indeed, under current 
retirement plan caps, many individuals cannot save as much as 
they need to. One way to ease these limitations is for Congress 
to update the rules governing contribution limits to employer-
sponsored plans and IRAs. Increasing these limits will 
facilitate greater retirement savings and help ensure that 
Americans will have adequate retirement income.
    H.R. 1102 contains several provisions that would address 
this issue, which the Institute strongly supports. Section 101 
of the bill would increase 401(k) plan and 403(b) arrangement 
contribution limits to $15,000 from the current level of 
$10,000; government-sponsored 457 plan contribution limits 
would increase to $15,000 from the current level of $8,000. 
Another important provision of H.R. 1102 would repeal the ``25% 
of compensation'' limitation on contributions to defined 
contribution plans. These limitations can prevent low and 
moderate-income individuals from saving sufficiently for 
retirement. (As is noted below, the repeal of these limitations 
is also necessary in order to enable many individuals to take 
advantage of the ``catch-up'' proposal in the bill.) H.R. 1546 
contains similar provisions.
    H.R. 1546 also contains an additional proposal that the 
Institute urges Congress to enact. Specifically, Section 101 of 
H.R. 1546 would increase the annual IRA contribution limit to 
$5,000 and permit future adjustments to account for 
inflation.\4\ Today's $2,000 contribution limit was set in 
1981--almost 20 years ago. If adjusted for inflation, this 
limit would be at about $5,000 today. IRAs are a critical 
component of the personal savings tier of the nation's three-
tiered approach to retirement savings. But at the current 
$2,000 contribution limit IRAs no longer provide sufficient 
savings opportunities for many Americans in light of its loss 
of real value to inflation over time, longer anticipated life 
expectancies and continuing increases in medical costs for our 
elderly population. Only the IRA is available to all working 
individuals, including those without access to an employer-
sponsored plan. Raising the IRA contribution limit will provide 
all individuals with expanded retirement savings opportunities.
---------------------------------------------------------------------------
    \4\ H.R. 1102 proposes such an increase, but limits its 
availability only to individuals able to make a fully deductible 
contribution under current income-based eligibility rules. This 
targeted approach complicates these rules, which, as we explain below, 
already are too confusing. Confusing eligibility rules deter individual 
participation in the IRA program.

B. Simplify IRA Eligibility Rules And Bring Back The Universal 
---------------------------------------------------------------------------
Deductible IRA.

    H.R. 1546 would simplify IRA eligibility criteria. Current 
eligibility rules are so complicated that even individuals 
eligible to make a deductible IRA contribution are deterred 
from doing so. When Congress imposed the current income-based 
eligibility criteria in 1986, IRA participation declined 
dramatically--even among those who remained eligible for the 
program. At the IRA's peak in 1986, contributions totaled 
approximately $38 billion and about 29% of all families with a 
head of household under age 65 had IRA accounts. Moreover, 75% 
of all IRA contributions were from families with annual incomes 
less than $50,000.\5\ However, when Congress restricted the 
deductibility of IRA contributions in the Tax Reform Act of 
1986, the level of IRA contributions fell sharply and never 
recovered--to $15 billion in 1987 and $8.4 billion in 1995.\6\ 
Among families retaining eligibility to fully deduct IRA 
contributions, IRA participation declined on average by 40% 
between 1986 and 1987, despite the fact that the change in law 
did not affect them.\7\ The number of IRA contributors with 
income of less than $25,000 dropped by 30% in that one year.\8\ 
Fund group surveys show that even more than a decade later, 
individuals did not understand the eligibility criteria.\9\
---------------------------------------------------------------------------
    \5\ Venti, Steven F., ``Promoting Savings for Retirement 
Security,'' Testimony prepared for the Senate Finance Subcommittee on 
Deficits, Debt Management and Long-Term Growth (December 7, 1994).
    \6\ Internal Revenue Service, Statistics of Income.
    \7\ Venti, supra at note 4.
    \8\ Internal Revenue Service, Statistics of Income.
    \9\ For example, American Century Investments asked 534 survey 
participants, who were self-described ``savers,'' ten general questions 
regarding IRAs. One-half of them did not understand the current income 
limitation rules or the interplay of other retirement vehicles with IRA 
eligibility. Based on survey results, it was concluded that ``changes 
in eligibility, contribution levels and tax deductibility have left a 
majority of retirement investors confused.'' ``American Century 
Discovers IRA Confusion,'' Investor Business Daily (March 17, 1997). 
Similarly, even expansive changes in IRA eligibility rules, when 
approached in piecemeal fashion, require a threshold public education 
effort and often generate confusion. See, e.g., Crenshaw, Albert B., 
``A Taxing Set of New Rules Covers IRA Contributions,'' The Washington 
Post (March 16, 1997) (describing 1996 legislation enabling non-working 
spouses to contribute $2,000 to an IRA beginning in tax year 1997).
---------------------------------------------------------------------------
    Based on these data, the Institute recommends the repeal of 
the IRA's complex eligibility rules, as proposed in H.R. 1546. 
These rules deter lower and moderate income individuals from 
participating in the program. A return to a ``universal'' IRA 
would result in increased savings by middle and lower-income 
Americans.

 II. Enact Savings Proposals That Reflect Workforce Trends and Savings 
                                Patterns

A. Make Retirement Account Balances Portable.

    On average, individuals change jobs once every five years. 
Current rules restrict the ability of workers to roll over 
their retirement account from their old employer to their new 
employer. For example, an employee in a 401(k) plan who changes 
jobs to work for a state or local government may not currently 
take his or her 401(k) balance and deposit it into the state or 
local government's pension plan. Thus, the Institute strongly 
supports Sections 301 and 302 of H.R. 1102, which would enhance 
the ability of American workers to take their retirement plan 
assets to their new employer when they change jobs by 
facilitating the portability of benefits among 401(k) plans, 
403(b) arrangements, 457 state and local government plans and 
IRAs. This change in the law would make it easier for 
individuals to consolidate and manage their retirement savings. 
A related proposal in H.R. 1546 would clarify the ability of 
individuals to open an IRA ``on-line.'' Such clarification of 
the law would facilitate individuals seeking to directly 
rollover retirement plan assets in a computer-based environment 
and thus encourage the preservation of retirement savings.\10\
---------------------------------------------------------------------------
    \10\ Increasingly, individuals are able to access plan account 
balances on-line. According to one 1998 study, approximately 26 percent 
of mid-size companies currently provide Internet access to plan 
accounts. This number is expected to increase. Indeed, one mutual fund 
complex has reported that more 401(k) plan participants access plan 
information on-line than contact the company's phone representatives to 
do so.

---------------------------------------------------------------------------
B. Allow Individuals To ``Catch-Up'' When Able.

    The laws governing pension plans also must be flexible 
enough to permit working Americans to make additional 
retirement contributions when they can afford to do so. 
Individuals, particularly women, may leave the workforce for 
extended periods to raise children. In addition, many Americans 
are able to save for retirement only after they have purchased 
their home, raised children and paid for their own and their 
children's college education. Section 201 of H.R. 1102 and 
Section 401 of H.R. 1546 would address these concerns by 
permitting additional salary reduction ``catch-up'' 
contributions. The catch-up proposal in H.R. 1102 would permit 
individuals at age 50 to save an additional $5,000 annually on 
a tax-deferred basis. Similarly, H.R. 1546 would permit the 
same individuals to increase their contributions by 50% over 
the otherwise permitted amounts. The idea is to let individuals 
who may have been unable to save aggressively during their 
early working years to ``catch up'' for lost time during their 
remaining working years. H.R. 1546 takes the additional step of 
exempting the catch-up contributions from nondiscrimination 
testing. We believe this is necessary to maximize the 
provision's effectiveness. Repeal of the ``25% of 
compensation'' limit, which is proposed in both bills, could 
further enhance the ability of Americans to ``catch-up'' on 
their retirement savings.
    The ``catch-up'' is an excellent idea and is a sorely 
needed, practical response to the work and savings patterns of 
Americans today. We urge Congress to act on this proposal.

       III. Expand Retirement Plan Coverage Among Small Employers

A. Eliminate Unnecessary Regulatory Disincentives To Plan 
Formation.

    The current regulatory structure applied to retirement 
plans contains many complicated and overlapping administrative 
and testing requirements that serve as a disincentive to 
employers, especially small employers, to sponsor retirement 
plans for their workers. Easing these burdens will promote 
greater retirement plan coverage and result in increased 
retirement savings.
    Meaningful pension reform legislation must focus on the 
need to increase pension plan coverage among small businesses. 
Although these businesses employ millions of Americans, less 
than 20 percent of them provide a retirement plan for their 
employees. By comparison, about 84 percent of employers with 
100 or more employees provide pension plans for their 
workforce.\11\
---------------------------------------------------------------------------
    \11\ EBRI Databook on Employee Benefits (4th edition), Employee 
Benefit Research Institute (1997).
---------------------------------------------------------------------------
    Unnecessarily complex and burdensome regulation continues 
to deter many small businesses from establishing and 
maintaining retirement plans. The ``top-heavy rule'' is one 
example of such unnecessary rules.\12\ A 1996 U.S. Chamber of 
Commerce survey found that the top-heavy rule is the most 
significant regulatory impediment to small businesses 
establishing a retirement plan.\13\ The rule imposes 
significant compliance costs and is particularly costly to 
small employers, which are more likely to be subject to the 
rule. It is also unnecessary because other tax code provisions 
address the same concerns and provide similar protections. 
While the Institute believes the top-heavy rule should be 
repealed, Section 104 of H.R. 1102 would make significant 
changes to the rule, which would diminish its unfair impact on 
small employers.
---------------------------------------------------------------------------
    \12\ The top-heavy rule is set forth at Section 416 of the Internal 
Revenue Code. The top-heavy rule looks at the total pool of assets in a 
plan to determine if too high a percentage (more than 60 percent) of 
those assets represent benefits for ``key'' employees. If so, the 
employer is required to (1) increase the benefits paid to non-key 
employees, and (2) accelerate the plan's vesting schedule. Small 
businesses are more likely to have individuals with ownership interests 
working at the company and in supervisory or officer positions, each of 
which are considered ``key'' employees, thereby exacerbating the impact 
of the rule.
    \13\ Federal Regulation and Its Effect on Business--A Survey of 
Business by the U.S. Chamber of Commerce About Federal Labor, Employee 
Benefits, Environmental and Natural Resource Regulations, U.S. Chamber 
of Commerce, June 25, 1996.
---------------------------------------------------------------------------
B. Provide Incentives To Encourage Small Employers To Establish 
Plans.

    In addition to eliminating rules that deter small 
businesses from establishing retirement plans, such employers 
also need appropriate tax incentives to encourage plan 
formation and address their unique economic concerns. There are 
two tax incentives, which are proposed, that we believe would 
effectively encourage small employers.
    First, Congress should provide a tax benefit that would 
reduce the start-up costs associated with establishing a 
pension plan. Both H.R. 1102 and H.R. 1546 propose a tax credit 
for small employers of up to 50% of the start-up costs of 
establishing a plan up to $1,000 for the first credit year and 
$500 for each of the second and third year after the plan is 
established. This modest tax credit would encourage more small 
employers to establish retirement plans by diminishing initial 
costs.
    Second, Congress should provide assistance to small 
employers who would like to contribute to a retirement plan for 
their employees in addition to offering them a salary deferral 
plan. Because many small employers have cash flow constraints, 
they are often reluctant to make a commitment to contribute to 
a retirement plan for their employees. H.R. 1546 would grant 
small employers a tax credit for 50 percent of their 
contributions (up to 3% of employee compensation) to a plan for 
non-highly compensated employees during the first 5 years of a 
plan's operation. This proposal is effectively designed to 
assure it helps those who need assistance the most--smaller 
employers and lower-paid individual employees--and would be an 
excellent way to help small employers deliver a meaningful 
retirement benefits to lower-paid employees.

C. Expand The Effective SIMPLE Plan Program.

    The Institute also strongly supports expanding current 
retirement plans targeted at small employers. Specifically, the 
Institute supports expansion of the SIMPLE plan program, which 
was instituted in 1997 and offers small employers a truly 
simple, easy-to-administer retirement plan.
    The SIMPLE program has been very successful. The Institute 
has found a continued pattern of strong small employer interest 
in SIMPLE plans over the program's two-year history. Indeed, 
new SIMPLE plan formation has continued unabated in the second 
year of its availability. Based on Institute estimates, mutual 
funds held in SIMPLE IRAs experienced tremendous growth in 
1998, increasing from $0.3 billion to $2 billion.
    Additionally, information gathered in informal Institute 
surveys of its members demonstrates just how popular this 
program is. For instance, one firm alone reported almost 10,000 
SIMPLE plans and 47,000 SIMPLE accounts as of December 31, 
1997. This increased by about 50 percent over the next quarter 
to about 14,000 plans and 72,000 accounts. By year-end 1998, 
the firm had an estimated 23,000 SIMPLE plans and 219,000 
accounts. Thus, over one year the number of SIMPLE plans had 
more than doubled and the number of SIMPLE accounts had more 
than quadrupled. Other firms for which such data are available 
demonstrate similar growth rates. An Employee Benefit Research 
Institute study published in October 1998 similarly 
demonstrates the effectiveness of the SIMPLE, finding that 12% 
of small employers with a defined contribution plan report 
having established a SIMPLE plan over a period of less than 2 
years. By comparison, only 9% of small employers surveyed 
sponsored a SEP, a program that has been available since 
1979.\14\
---------------------------------------------------------------------------
    \14\ Paul Yakoboski and Pamela Ostuw, ``Small Employers and the 
Challenge of Sponsoring a Retirement Plan: Results of the 1998 Small 
Employer Retirement Survey,'' EBRI Issue Brief No. 202 (Employee 
Benefit Research Institute, October 1998).
---------------------------------------------------------------------------
    Moreover, the SIMPLE plan has been especially popular with 
the nation's smallest employers. Institute surveys indicate 
that about 90% of those employers establishing SIMPLE plans had 
10 or fewer employees. Employers with 25 or fewer employees 
constitute nearly the entire market.\15\
---------------------------------------------------------------------------
    \15\ Institute informal survey results suggest that SIMPLE plan 
formation is negligible for employers of more than 25 employees.
---------------------------------------------------------------------------
    The success of the SIMPLE program is extremely significant, 
because the lack of retirement plan coverage in the small 
employer population has been stubbornly nonresponsive to 
previous policy initiatives and industry efforts. As noted 
above, under 20 percent of employers with less than 100 
employees provide a retirement plan for their employees, as 
compared to about 84 percent of employers with 100 or more 
employees.
    Despite these successes, Congress can strengthen the SIMPLE 
program in two ways, each of which the Institute strongly 
supports. First, both H.R. 1102 and H.R. 1546 would raise the 
SIMPLE plan contribution limits from $6,000 to $10,000. This 
increase would assure that individuals who work for small 
employers will have opportunities to accumulate sufficient 
retirement savings. (As noted above, other provisions of the 
bills would increase the contribution limits for 401(k), 403(b) 
and 457 plans.) Second, H.R. 1102 would provide for a salary-
reduction-only SIMPLE plan. We believe that this would make the 
program much more effective for employers of 25-100 employees.

              IV. Simplify Unnecessarily Complicated Rules

    Simplicity is the key to successful retirement savings 
programs. This is the lesson of the SIMPLE and IRA programs. 
H.R. 1102 recognizes the need to keep the rules simple in the 
case of employer-sponsored plans. As we have noted above, 
complex and confusing rules diminish retirement plan formation 
and significantly reduce individual participation in retirement 
savings programs. We strongly support numerous provisions in 
H.R. 1102 that would simplify rules. We discuss several of 
these provisions below.
    First, H.R. 1102 would provide a new automatic contribution 
trust nondiscrimination safe harbor. This safe harbor would 
simplify plan administration for employers electing to use it, 
enabling them to avoid costly, complex and burdensome testing 
procedures.\16\ This provision is also an effective way to 
increase participation rates in 401(k) plans, especially the 
participation rates of non-highly compensated employees.
---------------------------------------------------------------------------
    \16\ To qualify for the safe harbor, employers would need to make 
automatic elective contributions on behalf of at least 70% of non-
highly compensated employees and match non-highly compensated employee 
contributions at a rate of 50% of contributions up to 5% or make a 2% 
contribution on behalf of each eligible employee.
---------------------------------------------------------------------------
    Second, the bill also would modify the anticutback rules 
under section 411(d)(6) of the Internal Revenue Code in order 
to permit plan sponsors to change the forms of distributions 
offered in their retirement plans. Specifically, the bill would 
permit employers to eliminate forms of distribution in a 
defined contribution plan if a single sum payment is available 
for the same or greater portion of the account balance as the 
form of distribution being eliminated. This proposed 
modification of the anticutback rule would make plan 
distributions easier to understand, reduce plan administrative 
costs and continue to adequately protect plan participants. In 
addition, H.R. 1102 would permit account transfers between 
defined contribution plans where forms of distributions differ 
between the plans; this modification of the anticutback rule 
also would simplify plan administration. It also would enhance 
benefit portability, which, as noted above, is an important 
public policy objective.
    Finally, H.R. 1102 contains other provisions that would 
simplify currently burdensome rules and which the Institute 
supports. These proposals include repeal of the multiple use 
test and simplification of the separate line of business rules.

                             V. Conclusion

    Improving incentives to save by increasing contribution 
limits to retirement plans and IRAs will provide more 
opportunities for Americans to save effectively for retirement. 
Similarly, rules that accommodate the work and savings patterns 
of today will enable millions of Americans to save toward a 
secure future in their retirement years. Additionally, 
providing appropriately structured tax incentives, such as 
start-up and contribution tax credits for small employers, 
would increase plan formation. And finally, simplifying the 
rules applicable to employer-sponsored plans and IRAs would 
result in a greater number of employer-sponsored plans, a 
higher rate of worker coverage and increased individual 
savings. The Institute strongly supports the provisions 
described above and commends the sponsors of H.R. 1102 and H.R. 
1546 for supporting reforms of the pension system that will 
increase plan coverage and encourage Americans to save for 
their retirement. We encourage members of this Committee and 
Congress to enact this legislation this year.
      

                                


Statement of National Association of Manufacturers

    Mr. Chairman, we are pleased to submit the following 
statement for the record in support of Section 510 of H.R. 
1102, the ``ESOP Dividends May Be Reinvested Without Loss of 
Dividend Deduction'' provision. We are submitting this 
statement on behalf of the National Association of 
Manufacturers--``18 million people who make things in 
America''--the nation's largest and oldest multi-industry trade 
association. The NAM represents 14,000 members (including 
10,000 small and mid-sized companies) and 350 member 
associations serving manufacturers and employees in every 
industrial sector and all 50 states. Headquartered in 
Washington, DC., the NAM also has 11 additional offices across 
the country.
    The Comprehensive Retirement Security and Pension Reform 
Act of 1999 (H.R. 1102), cosponsored by Reps. Rob Portman (R-
OH) and Ben Cardin (D-MD), has attracted over 101 bipartisan 
cosponsors to date. The NAM strongly supports this legislation 
that would make pensions more secure and cut red tape, thereby 
encouraging greater pension coverage. Given the impending 
retirement of the baby boom generation, the passage of pension 
reform legislation is especially critical.
    Among the many provisions of H.R. 1102 is Section 510 
(``ESOP Dividends May Be Reinvested Without Loss of Dividend 
Deduction''), which would promote two critical and intertwined 
goals: to encourage workers to save for retirement and to 
promote employee ownership in their companies in which they 
work. Under current law, employers are able to deduct dividends 
on employer stock held in the employee stock ownership plan 
(ESOP), provided the dividends are paid out in cash to 
participants. The deduction is also permitted in the case of a 
leveraged ESOP, provided the dividends are used to make 
payments on a loan that was made for purposes of acquiring 
company stock for the ESOP.
    While current law encourages employee ownership, it fails 
to fulfill another important goal. It prohibits employees from 
reinvesting those dividends in the plan. This is especially 
unfortunate given the low rate of national savings and the need 
for baby boomers, in particular, to prepare for their 
retirement. Although it is currently possible for some workers 
to reinvest some dividends in the ESOP through an IRS special 
letter ruling, the process is cumbersome, and the dividends 
count toward the employee's 401(k) limits, diminishing what can 
be saved in the plan. Codification of ESOP dividend 
reinvestment would solve this problem.
    There are approximately 10,000 ESOPs in the United States 
with 10 million employee owners. This is almost 10 percent of 
the American workforce. Both large and small firms participate. 
Of the NAM's membership, over 7 percent of small firms have 
ESOPs and in the large firm category the percentage is much 
greater. ESOPs promote employee ownership and a stake in 
America's future. Legislative means to promote their growth 
should be encouraged. Section 510 is an important step in this 
regard.
    Section 510 has attracted wide support. In addition to the 
growing list of bipartisan cosponsors for H.R. 1102, more than 
15 members of the Ways and Means Committee have written to the 
original cosponsors of H.R. 1102, Reps. Rob Portman and Ben 
Cardin, praising the concept of employee stock ownership and 
urging a change in the law to permit an employer dividend 
deduction so employees can reinvest their dividends and save 
for retirement and for other important purposes.
    On behalf of the NAM's 14,000 members, we urge your support 
for Section 510 as part of H.R. 1102. Taken together, ESOP 
dividend reinvestment and the other important provisions of 
H.R. 1102 would do much to build retirement security for 
America's workers and to encourage continued economic growth 
for America's future.
      

                                


Statement of National Association of Professional Employer 
Organizations, Alexandria, Virginia

                            I. INTRODUCTION

    The National Association of Professional Employer 
Organizations (NAPEO) appreciates the opportunity to submit 
this statement for the record of the Committee's hearing on 
retirement and savings issues. NAPEO is the national trade 
association of the professional employer organization (PEO) 
industry. NAPEO represents nearly 600 member firms from start-
ups to large, publicly traded companies. NAPEO members are 
found in all 50 states and employ the vast majority of worksite 
employees in PEO arrangements.
    We applaud the Committee's interest in these issues and 
willingness to look at the tax code for ways to address our 
savings problem in this country, particularly our pending 
retirement savings crisis. It is our view that only through a 
partnership between the government and the private sector can 
this crisis be averted.
    NAPEO's members would like to participate in that effort 
and in fact, we think that we are already doing so. That is 
because our members are in the business of expanding coverage 
and providing benefits to American workers. The professional 
employer organization or ``PEO'' assists mainly workers of 
small- and medium-size businesses. While the owners of these 
small and med-sized businesses focus on the ``business of their 
business'' PEOs assume the responsibilities and liabilities of 
the ``business of employment.'' The PEO assumes responsibility 
for paying wages and employment taxes generally to all the 
workers of its client companies. It maintains employee records, 
handles employee complaints, and provides employment 
information to workers, such as an employee handbook.
    Most significantly, the PEO provides to the workers of its 
customers retirement (usually a 401(k) plan), health, dental, 
life insurance, dependent care and other benefits, which for 
many of these workers is the first opportunity that they have 
had to obtain these benefits through their employment.
    The average NAPEO member customer is a small business with 
just 18 workers and the average wage of these workers is around 
$20,000. These are truly small businesses with employees 
attempting to provide a working wage for themselves and their 
families. Unfortunately, because these workers are employees of 
small businesses, they are often left without the option of 
needed employee benefits.
    A recent Dun & Bradstreet Corporation survey of businesses 
with fewer than 25 employees revealed that only 39% offered 
health care and just 19% offer retirement savings plans. PEOs, 
on the other hand, can provide benefits to these workers on a 
more affordable basis because they can aggregate the workers of 
all of their customers together into a larger group, thereby 
obtaining economies of scale that enable them to set up a 
qualified plan and purchase group health and other employee 
benefit plans. PEOs have the expertise to operate these plans 
in compliance with a rather complex set of requirements imposed 
by the tax code and ERISA.
    An analyst at Alex. Brown & Sons estimates that 40% of 
companies in a PEO co-employment relationship upgrade their 
total employee benefits package as a result of the PEO 
relationship and further, that 25% of the companies upgrading 
their benefits are offering health care and other benefits to 
their workers for the first time.
    A NAPEO survey of its members revealed that 98% offer 
health and dental insurance, 86% offer disability coverage, 80% 
offer vision care and 82% offer retirement savings plans.
    Moreover, in some cases, workers co-employed by a PEO 
obtain the benefits of COBRA rights and the protection of other 
employment laws and regulations, only because they are included 
in the larger workforce of a PEO. By pooling employees of small 
businesses, PEOs bring workers under the protection of federal 
laws applicable to large employers such as HIPPA and the Family 
and Medical Leave Act. In addition, there is generally a higher 
rate of compliance with COBRA and other laws by a professional 
employer (PEO) than by its various clients. PEOs employ staff 
who are knowledgeable about these laws and regulations, and who 
are responsible for addressing employment concerns of worksite 
employees.

          II. PROBLEMS WITH PRESENT LAW: AN OUTDATED TAX CODE

    PEOs have found a need for these types of skills and 
benefits in the market place, as small- and medium-sized 
businesses have slowly but steadily sought out the services of 
PEOs over the past decade. The industry has expanded to meet 
this demand. At the state level, NAPEO sought recognition for 
PEOs and supported regulation, such as licensing, to ensure 
that the industry could grow.
    At the Federal level, however, PEOs have been confronted 
with a tax code that was written long before the development of 
this industry. Therefore, the current rules for who can collect 
taxes and provide benefits do not neatly fit a PEO, its 
customers and workers. In fact, under some interpretations of 
the tax law, PEOs could not do the very things that small 
businesses want and need: collect employment taxes and provide 
retirement, health and other benefits.
    Last year, Congressman Portman (R-OH) and Congressman 
Cardin (D-MD) attempted to address this problem by introducing 
H.R. 1891, which gained the support of 27 Members of this 
Committee. After its introduction, the sponsors and the 
industry met with other interested parties, including the 
Administration, who raised some specific concerns with the 
original bill. As a result, we went back to the drawing board 
to try to come up with an approach to our problem that was 
narrower, addressing the expressed concerns yet allowing us to 
do what we were already doing for small businesses and 
workers--providing benefits and collecting taxes.

              III. REVISED PROPOSAL: CERTIFIED PEO STATUS

    We are pleased to present to the Committee the fruits of 
those efforts--a revised proposal that continues to enjoy the 
support of our original sponsors, Mr. Portman and Mr.
    Cardin, and addresses the concerns raised by the 
Administration with the original proposal. This new proposal, 
unlike H.R. 1891, applies only to PEOs, not to temporary or 
other staffing firms. Thus, the proposal would not affect the 
litigation pending in the 9th Circuit, or any similar 
litigation. Nor does the proposal make any changes in the 
common law tests for who is an employee. In fact, the proposal 
specifically states this through the inclusion of a no-
inference rule with respect to employment status.
    In brief, what the new proposal does is to provide a safe 
harbor for PEOs who elect to meet certain requirements, which 
permits a PEO to assume liability for employment taxes with 
respect to worksite employees and to offer retirement and other 
benefits to such workers. In order to take advantage of this 
safe harbor, a PEO must be certified by the IRS. The 
certification requirements include a net worth test (if a PEO 
wants to have exclusive liability for employment taxes), and 
the submission of an annual audit by a CPA.
    In order to prevent a customer from obtaining any better 
treatment under the tax code's nondiscrimination or other 
qualification rules under this proposal, a PEO's qualified plan 
would be tested under these rules on a customer-by-customer 
basis. A more detailed summary of the proposal is attached as 
an appendix.

     IV. CONCLUSION: WORKERS GET THE BENEFITS THEY NEED AND DESERVE

    Most importantly, this clarification of a PEOs' ability to 
offer retirement and health benefits permits the industry to 
continue to provide the workers of small and medium businesses 
with the benefits that they need and deserve. Current PEO 
customers can breathe a sigh of relief that the PEO plans in 
which their workers are currently participating will not be 
disqualified. PEOs can establish new plans under clear tax code 
rules. The market place's creative response to the difficulties 
of affording and providing benefits in a small business context 
can flourish without the uncertainty imposed by outdated tax 
rules. We believe this represents an ideal model of the public-
private partnership that is needed to address the impending 
retirement savings crisis as well as the immediate health 
problem presented by our country's uninsured workers, and we 
urge its support by this Committee.
      

                                


Overview of Proposed Certified Professional Employer Organization 
Legislation

                         I. Guiding Principles

     Difficulties in reaching conclusions regarding the 
highly factual determination of an ``employee'' and an 
``employer'' should not limit the ability to provide workers 
with retirement, health, and other employee benefits.
     Clients of the CPEO should generally not get any 
significantly better or worse treatment under the 
nondiscrimination or other qualification rules than they would 
get outside of the CPEO arrangement.
     Employment tax administration should not be 
significantly affected by the use of a CPEO.

                         II. General Structure

    If certain conditions are satisfied, an entity certified by 
the Internal Revenue Service as a Certified Professional 
Employer Organization (a ``CPEO'') will be allowed to elect (1) 
to take responsibility for employment taxes with respect to 
worksite employees and (2) to provide such workers with 
employee benefits under a single employer plan sponsored by the 
CPEO.

     III. No Inference with Respect to Employment Status of Workers

    The legislation will expressly state that it does not 
override the common law determination of an individual's 
employer. The legislation will not affect (and will explicitly 
state that it does not affect) the determination of who is a 
common law employer under federal tax laws or who is an 
employer under other provisions of law (including the 
characterization of an arrangement as a MEWA under ERISA), nor 
will status as a CPEO (or failure to be a CPEO) be a factor in 
determining employment status under current rules.

                        IV. Certification by IRS

    In order to be certified as a CPEO under the legislation, 
an entity must demonstrate to the IRS by written application 
that it meets (or will meet) certain requirements. Generally, 
the requirements for certification will be developed by the IRS 
using requirements similar to the requirements for the ERO 
(electronic return originator) program and to practice before 
the IRS, as described in Circular 230 and will include review 
of the experience of the PEO and audit conducted by a certified 
public accountant. In addition, in order to be certified, a 
CPEO must represent that it (or the client) will maintain a 
qualified retirement plan for the benefit of 95% of worksite 
employees.
    The CPEO must notify the IRS in writing of any change that 
affects the continuing accuracy of any representation made in 
the initial certification request. In addition, after initial 
certification, the CPEO must continue to file copies of its 
audited financial statements with the IRS within 180 days after 
the close of each fiscal year.
    Procedures would be established for suspending or revoking 
CPEO status (similar to those under the ERO program). There 
would be a right to administrative appeal from an IRS denial, 
suspension, or revocation of certification.

       V. Operation As a CPEO With Respect to Particular Workers

    After certification, a CPEO will be allowed (1) to take 
responsibility for employment taxes and (2) to provide employee 
benefits with respect to ``worksite employees.'' A worker is a 
``worksite employee'' if the worker and at least 85% of the 
individuals working at the worksite are subject to written 
service contracts that expressly provide that the CPEO will:
     Assume responsibility for payment of wages to the 
worker, without regard to the receipt or adequacy of payment 
from the client for such services;
     Assume responsibility for employment taxes with 
respect to the worker, without regard to the receipt of 
adequacy of payment from the client for such services;
     Assume responsibility for any worker benefits that 
may be required by the service contract, without regard to the 
receipt or adequacy of payment from the client for such 
services;
     Assume shared responsibility with the client for 
firing the worker and recruiting and hiring any new worker; and
     Maintain employee records.
    For this purpose, a worksite would be defined as a physical 
location at which a worker generally performs service or, if 
there is no such location, the location from which the worker 
receives job assignments. Contiguous locations would be treated 
as a single physical location. Noncontiguous locations would 
generally be treated as separate worksites, except that each 
worksite within a reasonably proximate area would be required 
to satisfy the 85% test for the workers at that worksite.
    The legislative history will indicate that the 85% rule is 
intended to describe the typical, non-abusive PEO arrangement 
whereby a business contracts with a PEO to take over 
substantially all its workers at a particular worksite, and 
that this 85% rule is intended to ensure that the benefits of 
the bill are not available in any situation in which a business 
uses a PEO arrangement to artificially divide its workforce.

                    VI. CPEO Employee Benefit Plans

A. CPEO May Sponsor Employee Benefit Plans

    The CPEO may provide worksite employees with any type of 
retirement plan or welfare benefit plan that the client could 
provide. Worksite employees may not, however, be offered a plan 
that the client would be prohibited from offering on its own. 
For example, government workers may not be offered 
participation in section 401(k) plan. Similarly, a CPEO may not 
sponsor a plan that it would be prohibited from offering on its 
own (e.g., a section 403(b) plan). However, an eligible client 
could maintain such plan as discussed below.
    In general, employee benefit provisions (in the Internal 
Revenue Code and in directly correlative provisions in other 
Federal law) that reference the size of the employer or number 
of employees will generally be applied based on the size or 
number of employees of the CPEO. For example, CPEO workers will 
be entitled to COBRA coverage. Similarly, a CPEO welfare 
benefit plan will be treated as a single employer plan for 
purposes of section 419A(f)(6). Plan reporting requirements are 
met at the CPEO level. However, a client which could meet the 
size requirements for eligibility for an MSA or a SIMPLE plan 
could contribute to such an arrangement maintained by the CPEO.

B. Nondiscrimination testing

    The nondiscrimination rules of the Code relating to 
employee benefit plans (including sections 401(a)(4), 
401(a)(17), 401(a)(26), 401(k), 401(m), 410(b) and 416 and 
similar rules applicable to welfare and fringe benefit plans) 
will generally be applied on a client-by-client basis.
    That portion of the CPEO plan covering worksite employees 
with respect to a client will be tested taking into account the 
worksite employees at a client location and all other 
nonexcludable employees of the client, but worksite employees 
would not be included in applying the nondiscrimination rules 
to portions of the plan including worksite employees of other 
clients, to the portion of the plan including non-worksite 
employees, to other plans maintained by the CPEO or to other 
plans maintained by members of the CPEO's controlled group. 
Consequently, the CPEO workforce (other than worksite 
employees) will be treated as a separate employer for testing 
purposes (and will be included in applying the 
nondiscrimination rules to plans maintained by the CPEO or 
members of its controlled group). Thus, for example, in 
applying nondiscrimination rules to a plan maintained by the 
parent of a CPEO for employees of the parent and for 
nonworksite employees of the CPEO, CPEO worksite employees will 
not be taken into account.
    For purposes of testing a particular client's portion of 
the plan under the rules above, general rules applicable to 
that client would apply as if the client maintained that 
portion of the plan. Thus, if the terms of the benefits 
available to the client's worksite employees satisfied the 
requirements of the section 401(k) testing safe harbor, then 
that client could take advantage of the safe harbor. Similarly, 
a client that meets the eligibility criteria for SIMPLE 401(k), 
testing would be allowed to utilize that safe harbor to 
demonstrate compliance with the applicable nondiscrimination 
rules for that client.
    Application of qualified plan and welfare benefit plan 
rules other than the nondiscrimination rules listed above will 
generally be determined as if the client and the CPEO are a 
single employer (consistent with the principle that the CPEO 
arrangement will not result in better or worse treatment). 
Thus, there would be a single annual limit under section 415. 
Section 415 will provide that any cutbacks required as a result 
of the single annual limit to be made in the client plan. 
Deduction limits and funding requirements would apply at the 
CPEO level. In determining deduction limits and minimum funding 
requirements for the CPEO plan, compensation means compensation 
paid to worksite employees by the CPEO. In addition, if the 
client portion of a plan is part of a top heavy group, any 
required top heavy minimum contribution or benefit will 
generally need to be made by the CPEO plan.
    The legislation will also contain language giving the IRS 
the authority to promulgate rules and regulations that 
streamline, to the extent possible, the application of certain 
requirements, the exchange of information between the client 
and the CPEO, and the reporting and record keeping obligations 
of the CPEO with respect to its employee benefit plans.

C. Service Crediting

    There will be special ``crediting'' of service for all 
benefit purposes. The break in service rules will be applied 
with respect to worksite employees using rules generally based 
on the Code section 413 tracking rules.
    Worksite employees will not generally be entitled to 
receive plan distributions of elective deferrals until the 
worker leaves the CPEO group. In cases where a client 
relationship terminates with a CPEO that sponsors a plan, the 
CPEO will be able to ``spin off'' the former client's portion 
of the plan to a new or existing plan maintained by the client. 
Where the terminated client does not establish or wish to 
maintain the client's portion of the CPEO plan, the CPEO plan 
may distribute elective deferrals of worksite employees 
associated with a terminated client only in a direct rollover 
to an IRA designated by the worker. In the event that no such 
IRA is so designated before the second anniversary of the 
termination of the CPEO/client relationship, the assets 
attributable to a client's worksite employees may be 
distributed under the general plan terms (and law) that applies 
to a distribution upon a separation from service.

D. Plan Qualification

    The legislative history will provide that, similar to IRS 
practice in multiple employer plans, disqualification of the 
entire plan will occur if a nondiscrimination failure occurs 
with respect to worksite employees of a client and either that 
failure is not corrected under one of the IRS correction 
programs or that portion of the plan is not spun off and/or 
terminated. Existing government programs for correcting 
violations would be available to the plan sponsor for the plan 
and, in the case of nondiscrimination failures tested at the 
client level, to the client portion of the plan with the fee to 
be based on the size of the affected client's portion of the 
plan. Moreover, the CPEO plan, as a single employer plan, will 
only be required to obtain a single opinion letter and pay a 
single user fee.

E. Testing of Plans Maintained by Client

    The legislation will treat all worksite employees (who are 
not employees of the client) as ``per se'' leased employees of 
the client, thus requiring clients to include to include all 
worksite employees in plan testing. In accordance with current 
leased employee rules, the client will get credit for CPEO plan 
contributions or benefits made on behalf of worksite employees.
    Consistent with this treatment of worksite employees, the 
client would be permitted to cover worksite employees under any 
employee benefit plan maintained by the client and compensation 
paid by the CPEO to worksite employees would be treated as paid 
by the client for purposes of applying applicable qualification 
tests. Limits such as section 404 will apply to the client's 
plan only to the extent the benefits and contributions, in 
aggregation with those under the CPEO's plan, do not exceed the 
limits.

F. Transition Issues

    The legislation will direct the IRS to accommodate 
transfers of assets in existing plans maintained by a CPEO or 
CPEO clients into a new plan (or amended plan) meeting the 
requirements of the legislation (e.g., client-by-client 
nondiscrimination testing) without regard to whether or not 
such plans might fail the exclusive benefit rule because 
worksite employees might be considered common-law employees of 
the client.

                     VII. Employment Tax Liability

    An entity that has been certified as a CPEO must accept 
liability for employment taxes with respect to wages it pays to 
worksite employees of clients. Such liability will be exclusive 
or primary, as provided below. The PEO would generally be 
required to provide the IRS on an ongoing basis with a list of 
clients for which employment tax liability has been assumed and 
a list of the clients for whom it no longer has employment tax 
liability.
    All reporting and other requirements that apply to an 
employer with respect to employment taxes apply to the CPEO for 
wage payments made by the CPEO. In addition, the remittance 
frequency of employment taxes will be determined with reference 
to collections and the liability of the CPEO.
    Wages paid by the client during the calendar year prior to 
the assumption of employment tax liability would be counted 
towards the applicable FICA or FUTA tax wage base for the year 
in determining the employment tax liability of the CPEO (and 
vice versa). Exceptions to payments as wages or activities as 
employment, and thus to the required payment of employment 
taxes, are determined with respect to the client.
    A CPEO will have exclusive liability for employment taxes 
with respect to wage payments made by the CPEO to worksite 
employees (including owners of the client who are worksite 
employees) if the CPEO meets the net worth requirement. The net 
worth requirement is satisfied if the CPEO's net worth (less 
good will and other intangibles) as certified by an independent 
certified public accountant is, on the last day of the fiscal 
quarter preceding the date on which payment is due and on the 
last day of the fiscal quarter in which the payment is due, at 
least:
    $50,000 if the number of worksite employees is fewer than 
500
    $100,000 if the number of worksite employees is 500 to 
1,499
    $150,000 if the number of worksite employees is 1,500 to 
2,499
    $200,000 if the number of worksite employees is 2,500 to 
3,999
    $250,000 if the number of worksite employees is more than 
3,999.
    In the alternative, the net worth requirement could be 
satisfied through a bond (for employment taxes up to the 
applicable net worth amount) similar to an appeal bond filed 
with the Tax Court by a taxpayer or by an insurance bond 
satisfying similar rules.
    Within 60 days after the end of each fiscal quarter, the 
CPEO will provide the IRS with an attestation from an 
independent certified public accountant that states that the 
accountant has found no material reason to question the CPEO's 
assertions with respect to the adequacy of federal employment 
tax payments for the fiscal quarter. In the event that such 
attestation is not provided on a timely basis, the CPEO will 
prospectively cease to have exclusive liability with respect to 
employment taxes (regardless of the net worth or bonding 
requirement). Exclusive liability will not be restored until a 
subsequent attestation is filed.
    For any tax period for which any of these criteria for 
exclusive liability for employment taxes are not satisfied, or 
to the extent the client has not made adequate payments to the 
CPEO for the payment of wages, taxes, and benefits, the CPEO 
will have primary liability and the client will have secondary 
liability for employment taxes.

                          VIII. Effective Date

    These provisions will be effective on January 1, 2001 or, 
if later, 12 months after the date of enactment. The statute 
will direct the IRS to establish the PEO certification program 
at least three months prior to the effective date.
      

                                


Statement of Kenneth B. Allen, Executive Vice President and Chief 
Executive Officer, National Newspaper Association, Arlington, Virginia

    Thank you for allowing me to submit this testimony on 
behalf of the National Newspaper Association in order to 
comment briefly on the inherent unfairness of the estate tax. 
The National Newspaper Association, established in 1885, 
represents nearly 4,000 daily and weekly newspapers nationwide. 
America's community papers inform, educate and entertain 170 
million readers every week. NNA members are the building blocks 
upon which America's communities are founded. More importantly, 
our members are primarily family-owned businesses. As part of 
the Family Business Estate Tax Coalition, we support the 
reduction and elimination of the estate tax rates, specifically 
the passage H.R. 8, the Death Tax Elimination Act, as 
introduced by Representatives Jennifer Dunn and John Tanner.
    NNA believes the confiscatory nature of the estate tax 
punishes family-owned businesses and entrepreneurs. In fact, 
NNA fully supported the estate tax relief provided by Congress 
in the Taxpayer Relief Act of 1997. That legislation raised the 
exemption from $600,000 to $1 million by 2005. The law also 
created a new $1.3 million exemption from estate taxes for 
small business and farms that qualify as ``family-owned.'' We 
applaud Congress and the President for that key first step. 
However, our goal remains the elimination of the estate tax.
    Many community newspapers are forced to sell when the owner 
dies since their assets are not liquid. The families need to 
sell in order to pay the estate tax. This has a devastating 
impact on the entire community. At minimum, someone from 
outside the community could purchase the paper. In the worst 
cases, the paper is sold and closed. When a newspaper that has 
been covering and reporting local news for several generations 
is either sold or closes its doors, the sense of community is 
lost forever. The newspaper owner's family is not the only one 
paying the tax. The reporter who covers local sports, the 
restaurant owner who feeds the newspaper staff and the 
department store that advertises in the paper all suffer under 
the current system. These are two examples of the impact on 
community papers:
     Everett Bey, Chairman of Feather Publishing 
Company, Inc. is facing this very problem. His company prints 
and publishes six weekly newspapers including the Feather River 
Bulletin, the Indian Valley Record, the Chester Progressive, 
the Westwood Pinepress, the Portola Reporter and the Lassen 
County Times with staff and offices in each location. When Mr. 
Bey's wife passed away two years ago, her shares of the company 
were placed in a trust. When Mr. Bey passes, the entire 
business will be left to his only daughter and her husband. 
Feather Publishing Company, Inc. grosses over $3 million 
annually. Based on these revenues, it is entirely possible that 
the Mr. Bey's daughter will be forced to sell the business--a 
business he has owned for nearly 30 years. Mr. Bey started this 
company with seven employees and today he has almost 100. It is 
fundamentally wrong to punish Mr. Bey's family for their hard 
work and success.
     Another community newspaper publisher, Helen 
Buffington of the Jackson Herald, the Commerce News, the Banks 
County News and the Madison County Journal in Georgia explained 
how she and her husband are preparing to transfer the paper to 
their children. Starting with a struggling Georgia daily paper, 
the Buffingtons built a firm that is now worth more than $2 
million. They have been gifting the business to their sons for 
several years and have spent tens of thousands of dollars on 
legal expenses and insurance premiums in an effort to save 
their children from the consequences of the death tax. By 
reinvesting their profits back into the company, the 
Buffingtons have created a family legacy for their children and 
grandchildren. But they fear that when they pass that the IRS 
will come looking to collect. (See attached letters)
    As you know, Representatives Dunn and Tanner have 
introduced H.R. 8, the Death Tax Elimination Act, which would 
gradually reduce the estate tax rate by 5 percent a year until 
the tax is eliminated in 2010. We would prefer to see a more 
rapid phase out, but we support this bill, as it is a good 
piece of legislation and has bipartisan support. Sen. Campbell 
has introduced a companion bill, S. 38, the Estate and Gift Tax 
Rate Reduction Act, which also reduces the estate tax rates by 
5 percent each year until they are eliminated.
    A study released in 1998 by the Congressional Joint 
Economic Committee concluded that the estate tax is a leading 
killer of family-owned businesses. Additionally, valuable 
resources that could be used to strengthen and expand 
businesses, improve working conditions or increase employee's 
wages are rather spent in an attempt to avoid paying the tax. 
The best way I have heard the death tax described is as a 
``virtue'' tax. Unlike a ``sin'' tax, which focuses on vices 
such as tobacco products and alcohol, the estate tax punishes 
people for their hard work and saving for the future. 
Meanwhile, these are qualities many seek to instill in our 
communities.
    Only 30 percent of family owned businesses survive into the 
second generation and only 17 percent survive to a third. This 
is something that must change because small businesses are the 
backbone of our economy and community papers are the heart and 
soul of our communities. It is vital that Congress repeal this 
bad policy or our community newspapers, as we know them, will 
not survive.
    Again, Mr. Chairman, thank you for allowing me the 
opportunity to submit this testimony on behalf of the nation's 
community papers.
      

                                


                                                      July 10, 1998

Senny Boone
National Newspaper Association
Arlington, VA 22209

    Dear Ms. Boone:

    My husband and I had a dream--a dream of owning our own community 
newspaper.
    In 1965, we realized our dream. We purchased a struggling weekly in 
North Georgia for $25,000, including the building and equipment. To 
raise the 10 percent down payment and have a little operating capital, 
we cashed in my insurance policy and sold our home and a small tree 
farm we owned.
    Today, thanks to a number of factors, our firm includes that 
newspaper and three other weeklies, as well as a thriving commercial 
printing operation. Our two sons are in the business. And both my 
husband and I, in our early 70s but being blessed with good health, 
also lend a hand.
    The firm is now worth well over $2 million, according to an 
appraiser. But what happens when my husband and I die? We want our sons 
to have the business and we've been gifting it to them for several 
years. We also have spent thousands of dollars to get legal advice and 
pay insurance premiums in an effort to see that our sons don't have to 
sell the business in order to pay the estate taxes. But we don't know 
what will happen.
    We have worked hard and taken relatively little out of the firm 
over the years in an effort to get it established and to have something 
for our children and grandchildren.
    But as we understand it, the government could levy a tax of up to 
58 percent on it. We don't feel this is fair. We have paid both 
corporate and personal taxes over the years on the earnings of this 
firm. And it seems totally unfair to then require our descendents to 
pay another hefty tax because we have saved and established a strong 
business. It would, in fact, be punishing them for our thriftiness and 
hard work. This, I believe, discourages people from establishing family 
businesses.
    The estate tax should be totally abolished.

            Sincerely,
                             Helen Buffington (Mrs. Herman)
                                                    Editor Emeritus
      

                                


NNA
Attn: Government Relations

Re: Estate tax issue

    Feather Publishing Co., Inc. is a wholly family-owned printing and 
publishing business, located in the Sierra Nevada mountains of Northern 
California, in Plumas and Lassen Counties, with headquarters in Quincy, 
CA. We publish six weekly newspapers: Feather River Bulletin at Quincy; 
Lassen County Times at Susanville; Portola Reporter at Portola; Indian 
Valley Record at Greenville; Chester Progressive at Chester-Lake 
Alamanor; and the PinePress at Westwood, all with individual offices 
and staff at each location.
    When my wife died two years ago, her share of the corporate stock 
was placed in a trust. When I die, that trust and my stock will all go 
to my only daughter and her husband, the latter now serving as 
publisher of our publications. Our annual gross is over $3 million. On 
this basis, it is entirely possible that they will have to sell the 
business in order to pay the estate taxes.
    We have owned this business for almost 30 years, buying the 
Bulletin and two other small weeklies in 1968, inheriting 3 offices and 
7 employees. We now have grown to 6 offices, 97 employees, producing 28 
to 36 page standard newspapers, plus 8 or 10 advertising inserts, 
weekly for each flag. We also publish a two-county telephone directory 
that incorporates phone numbers for three phone companies serving the 
area.
    Over the years, we have seen the number of independent family-owned 
weeklies become smaller and smaller in California. Something has to be 
done to relieve the estate tax burden and allow these family-owned 
enterprises to continue their independent voices.

            Sincerely,
                                             Everett E. Bey
                                              Chairman of the Board
                                       Feather Publishing Co., Inc.
      

                                


   Enhancing Health Security for Responsible Americans by a Private 
                     Citizen in St. Louis, Missouri

Overview:

    The passage of the Health Insurance Portability and 
Accountability Act is a commendable step in improving access to 
health insurance and reducing job lock. While improving access 
to insurance, it does nothing to ensure affordable rates, if an 
individual must switch to individual insurance, after having 
developed a health condition under an individual plan. Further 
reform is needed to ensure that responsible citizens who carry 
health insurance will be able to retain affordable coverage 
over the long term if they should become ill.

This proposal is divided into the following sections:

    Problems with the Current System of Health Insurance
    The Core Reform Proposal
    Cost Issues Related to the Core Proposal
    Other Comments about the Core Proposal
    Additional Reforms Needed
    Cost Issues Related to the Additional Reforms

Problems with the Current System of Health Insurance:

                          Portability Problems

    --The Health Insurance Portability and Accountability Act 
(HIPAA) does nothing to ensure affordable rates, if an 
individual must switch to individual insurance, after having 
developed a health condition. Individuals may be exposed to 
extremely high premiums.

             Other Problems Concerning Individual Insurance

    --If an individual becomes ill under an individual policy, 
their rates can be raised or their policy canceled.
    --Insurance companies should not be allowed to move 
individual policy holders from one internal risk group to 
another so that they can increase individual premiums on some 
groups of their policy holders due to claims. I have heard from 
some insurance agents that this practice may occur under some 
policies without the knowledge of policy holders.
    --When one insurance company takes over another insurance 
company, the individual policy holders need to be protected 
from behind the scenes risk class manipulations, and other 
detrimental changes to their policy.
    --Insurance companies have sometimes deliberately failed to 
send a renewal notice to sick policy holders, hoping they would 
forget to renew their policy.
    --There should be a guarantee that parents can obtain 
insurance for a child born with health problems or birth 
defects. Or at least, considering the principle that one 
ordinarily buys insurance prior to the risk, parents should be 
about to buy the insurance for the child during pregnancy 
without health considerations.

                  Problems Concerning Group Insurance

    --HIPAA provides protections for employer group policies 
and not other types of groups, such as alumni associations, 
professional and trade organizations, etc.
    --HIPAA does not prevent an insurer from raising the 
premium on a group due to claims from its members.
    --When an employer self-insures health of its employees, 
the employer should be subject to any regulations that would 
effect insurance companies offering a similar policy, including 
any applicable consumer protections and liability, if the plan 
is of HMO style. The ERISA provisions that release employers 
and their HMO's from liability can harm the employee.

             Problems Concerning Leaving an Employer Group

    --The current guaranteed ability for employees to convert 
their existing group policy to an individual policy on leaving 
the company is often too expensive, and sometimes reduces the 
coverages, if the original policy had riders for some of its 
coverages.
    --A group policy may not always continue its riders when 
used under COBRA. Riders such as prescription drug coverage 
should continue.
    --COBRA places a responsibility on the employer to continue 
insurance, but the insurance company is not required to carry 
COBRA customers, sometimes leaving an employer to his own 
devices to determine how to provide the ex-employee with 
insurance. If the employer cannot meet the responsibility, the 
ex-employee patient may be unable to use HIPAA to get an 
individual policy because he did not do COBRA first. This 
places both the employer and patient in an unfair bind.
    Insurance companies have delayed the application process of 
HIPAA applicants to cause them to run out their 63 day 
eligibility period, in order to avoid covering them.

                             Other Problems

    --Coverage disputes with HMO's need to involve an 
independent third party in the appeals hearing.
    --The problems regarding health insurance stem partly from 
the federal income tax code, which encouraged the practice of 
associating health insurance with employment. The tax code is 
inconsistent in that employer health insurance is tax free, 
while individuals who buy their own insurance pay taxes on 
income used for this purpose, except if they are self employed, 
then there is partial tax deductibility.
    --Many insurance companies and agents refuse to send a 
sample insurance policy. This makes shopping for all types of 
insurance more difficult.

The Core Reform Proposal:

    The following provisions would solve what I believe are 
some of the worst problems of the health insurance system:
    --To make health insurance more portable (e.g. to better 
allow transitions to situations of self employment, jobs that 
don't offer health insurance, or leaving the workforce), a 
person who developed a condition while under a health insurance 
policy (group or individual) would be able to move to a new 
individual policy and pay the same rate and be underwritten in 
the same class or group of policies as a healthy person of the 
same age, sex, and smoking status, in addition to avoiding the 
delay for coverage of pre-existing condition.
    --A person would retain this protection through multiple 
policy changes over a lifetime, as the insurance industry 
offerings evolve. This protection is important if a person has 
individual insurance and loses it or becomes dissatisfied 
because the insurance company ceases service in the area, goes 
bankrupt, discontinues or changes the product an unsatisfactory 
manner, is merged or taken over by another insurance company, 
or the individual cannot afford the premium and needs a lower 
cost plan whether offered by the original insurer or a 
competitor.
    --These protections would apply whenever an individual does 
not have a break in coverage longer than 63 days since their 
prior period of insurance coverage. To prevent this time limit 
from being wasted by stonewalling insurance companies, the 63 
days should be counted backward from the date of application 
for new insurance, and insurance companies must process 
applications in a timely manner.
    --These insurance protections should apply to allow insured 
young adults to transfer from a parent's health insurance plan 
to their own insurance, regardless of health and for Senior 
Citizens to transfer between Medicare Supplement policies and 
HMO's and vice versa.
    --For those who have had a gap exceeding 63 days, insurance 
companies would be free to use a separate risk group and higher 
prices, based on health history, in order to protect the system 
from people who wait until they are sick to purchase insurance.
    --The use of standard risk class for these insurance 
transfers may imply some minimal protection, even if the law to 
allow them is later repealed, as any individual policy obtained 
by these guidelines would be an ordinary individual policy, 
rather than a separate product or risk class, as now created by 
HIPAA, which could be priced or discontinued separately.
    --Insurance companies would not be allowed to move 
individual policy holders from one risk group to another so 
that they can increase individual premiums on some persons. 
Individual premiums should be based solely on age, sex, smoking 
status, geographic location (a broad-brush division of the 
state into several areas), and health history (only if 
individual has had a gap in coverage of 63 days or longer 
immediately prior to the application date). Individual 
experience rating should be prohibited, to prevent rate 
increases resulting from a decline of health during coverage.
    --The guaranteed acceptance into a group policy for a new 
employer would be extended to all groups that a person is a 
member of for which health insurance is sold (Alumni 
associations, professional and trade organizations, etc.). For 
example, if an Alumni association offers group health insurance 
to graduates of a particular school or university, it would 
have to take all graduates of that school and not impose delays 
or higher premiums for pre-existing conditions (subject to the 
63 day gap rule).
    --Insurance companies would not be allowed to raise the 
premium on a group policy due to change in health of existing 
members.

Cost Issues Related to the Core Proposal:

    --The approach of providing total portability only when an 
individual has prior coverage is superior to a simple total ban 
on health history questions and pre-existing condition 
considerations, as it requires a person to have had insurance 
to receive the protections, thus protecting the system against 
abuse by people waiting to get insurance until they are sick.
    --Imposing this protection only in cases where the person 
had prior coverage should minimize any resulting increase in 
the cost of individual health insurance, as the total cost 
borne by the industry in claims should not be strongly impacted 
if a chronically ill person moves from one policy to another, 
as that person would not move now if he could not get 
satisfactory coverage. (It may be necessary to require that the 
policies be similar, to prevent a dramatic, abusive upgrade in 
coverage at standard prices after a person becomes ill. It 
would also be necessary to allow transfer to a slightly better 
policy sometimes, to prevent a long term erosion toward 
inferior coverage for people who become chronically ill for 
decades and go through several insurers.)
    --A reinsurance pool could be used by insurance companies 
to protect themselves from the risk of a disproportionate 
number of transfers of sick persons to their policies, but this 
pool should be invisible to the consumer.
    --Due to the provision against raising group premiums, 
there may be some small increases in the cost of group 
insurance for the more healthy groups that would take place 
instead of sharp increases in the cost of group insurance for 
groups that have one or more unhealthy members. This is a good 
thing, as it make insurance do what it was intended to do--
spread the risk.
    --The Core Proposal will require no public funds other than 
those used to monitor insurance companies and enforce the 
rules.

Other Comments about the Core Proposal:

    --These protections would help responsible self employed 
and small business owners/employees who have maintained health 
insurance, as they could obtain individual insurance at an 
affordable price.
    --The COBRA problems would disappear, as COBRA would fall 
into disuse due to the new better options.

Additional Reforms Needed:

    The following provisions would make a more complete reform, 
but are outside what I consider to the be core proposal:
    --For the poor, Medicaid should be considered a qualifying 
insurance for purposes of allowing purchase an individual 
policy when a period of poverty ends.
    --There should be a guarantee that parents can obtain 
insurance for a child born with health problems or birth 
defects. Or at least, considering the principle that one 
ordinarily buys insurance prior to the risk, parents should be 
about to buy the insurance for the child during pregnancy 
without health considerations.
    --One should be able to purchase health insurance in a 
standard risk class upon reaching adulthood, regardless of 
whether the parents maintained insurance during childhood, e.g. 
to not hold the young adult responsible for mistakes of his or 
her parents.
    --Many insurance companies and agents refuse to send a 
sample insurance policy. The text of all insurance policies of 
all types should be a part of the public record to aid shoppers 
for insurance. The text of policies can be shown on the World 
Wide Web (WWW) at minimal cost to the public and/or insurance 
companies may be required to make the sample policies available 
at their cost.
    --The inconsistent tax treatment of health insurance 
premiums should be corrected to reduce this unfairness in the 
tax code. Regulations regarding the deductibility of health 
insurance premiums should not vary depending on whether 
premiums are paid by employer, employee, self-employed 
individual, or non worker. But it would be dangerous to 
implement the tax change without the other reforms, as some 
employers would drop insurance, and many sick people would then 
have inadequate protection.
    --Lifetime policy dollar limits should be prohibited, or at 
least required to be indexed for inflation using a health care 
index, or perhaps insurance companies should provide a choice 
of several indexed dollar limits, much as a policy buyer 
chooses a deductible. Perhaps a minimum dollar limit should be 
considered.
    --When an employer self-insures health of its employees, 
the employer should be subject to any regulations that would 
effect insurance companies offering a similar policy, including 
applicable HMO consumer protections, if the plan is of HMO 
style.
    --When one insurance company takes over another insurance 
company, policyholders of the old company should have the 
option of keeping the original terms of their policy.
    --Insurance companies should be required to send bills and 
renewal notices to all policy holders in a timely manner. They 
should provide the option to the policy holder to have their 
bills sent by certified mail return receipt requested for an 
extra billing fee equal to the additional postage. If a policy 
holder chooses this option, then the insurance company shall be 
forbidden to cancel the policy for nonpayment of premium for at 
least 30 days after the day the bill is sent, or 30 days after 
the renewal date, whichever is later, and then only if they 
have the card back that the bill was received. This provides 
the customer the option to make it the insurance company's 
legal obligation to remind them of their premiums via a bill 
and to ensure that the bill must be received. If certified mail 
billing is not chosen, cancellation should not occur before 30 
days after the renewal date.

Cost Issues Related to the Additional Reforms:

    --The provisions for children and transition to adulthood 
may require public funds or the cost may be spread out in 
higher premiums for everyone or higher premiums for child and 
young adult policies.
    --If sample policies are to be shown on a government 
operated web site, there would be some costs for web 
development services to create and maintain the site.
    --The tax provision may have a cost, or may raise revenue, 
depending on whether all premiums are made deductible, 
partially deductible, or taxable.
      

                                


Statement of Hon. Bill Thomas, a Representative in Congress from the 
State of California

    I hope the Ways and Means Committee will include additional 
pension and Individual Retirement Account options in the coming 
tax relief bill because we still face a retirement savings 
crisis in the very near future. While Congress is concentrating 
on Social Security, we cannot afford to ignore the need for 
substantial private savings if Americans are to maintain their 
lifestyles after retiring.
    Measured by almost any standard, the situation is dire. 
Pensions and personal savings are forming the other legs of 
retirement security, so it would seem reasonable to expect 
Americans to put as much aside as possible. That simply is not 
happening. During the 1990s, our national savings rate was a 
dismal 3.6%. Last year, with the economy doing well, we might 
have expected more savings. Instead, the savings rate dropped 
to 1/2 of one percent. The savings devices we have available 
simply are not doing the job.
    I am cosponsoring the Portman-Cardin pension reform bill 
and have introduced pension and Individual Retirement Account 
expansion legislation of my own, the Retirement Savings Act of 
1999 (H.R. 1546), because it is clear that we need to act 
immediately. Merrill Lynch has consistently found in its market 
research that Americans are saving only a third of the 
resources they need to set aside to prepare for their 
retirement. Those approaching retirement are also beginning to 
see the problem: 60% of those over 50 years old admit they will 
not have what they need. Unfortunately, the distribution of 
knowledge is limited. Many people are just flat ignoring the 
danger and even among those 51 to 61, a third have a grand 
total of $10,000 in savings. We need to give people more tools 
with which to save as soon as possible.
    Initial evidence on the results of our 1997 expansion of 
Individual Retirement Accounts shows Americans will respond 
favorably to new incentives for saving. Merrill Lynch reports 
that its customers increased IRA contributions 80% last year 
and that new information about the ``Roth IRA'' even got 
customers interested in the traditional IRA. Similarly, we can 
expect people to respond favorably to H.R. 1546's proposed 
expansion of IRA contribution limits to $5,000 and similar 
increases in limits for 401(k) and government plans. Its 
creation of new ``back loaded'' tax free savings options for 
participants in more traditional savings accounts, and its 
provision of opportunities for older workers to make increased 
contributions as they approach retirement.
    Now is the time for us to act on these expansions. 
Including H.R. 1546 in the coming tax bill would be a 
productive way for us to cut taxes and help working Americans 
prepare for the retirement income needs they will inevitably 
face. A summary of key elements of the bill follows.

                               H.R. 1546

               RETIREMENT SAVINGS OPPORTUNITY ACT OF 1999

    Increase IRA dollar limit from $2,000 to $5,000 per year. 
Limit will be increased in $100 increments to offset inflation.
    Increase Other dollar-based benefit limits: 401(k) and 
403(b) plan contributions are increased from $10,000 to 
$15,000, 457(b) plan contributions from $8,000 to $12,000 and 
the SIMPLE plan limit to $10,000.
    Increase IRA Income Caps:
     Eliminates income limits on deductible IRA 
contributions.
     Eliminates income limits on Roth IRA 
contributions.
     Income cap for conversion of traditional IRAs to 
Roth IRAs will be raised to $1 million.
    Catch Up Contributions: Those over 50 will be able to 
contribute an additional amount in excess of annual limits 
equal to additional 50% of the annual limit.
    Elimination of 25% of Compensation Limitation: Maximum 
contribution to a defined contribution plan for an individual 
will be $30,000 per year as a result.
    Roth 401(k) and Roth 403(b) plans: Gives participants in 
these plans an opportunity to contribute to these plans on an 
after-tax basis with earnings being tax free on distribution.
    IRA Contributions to an Employer Plan: Allows Employers to 
establish plans to which employees can make direct 
contributions through payroll deductions.
    Full funding limit increase: Law preventing contributions 
to a pension plan in excess of 150% of current liability amount 
of the plan is repealed.
    Electronic Signatures for IRA accounts: facilitates 
electronic investment by allowing electronic signatures to be 
used in funding and controlling Individual Retirement Accounts.


  PROVIDING TAX RELIEF TO STRENGTHEN THE FAMILY AND SUSTAIN A STRONG 
                                ECONOMY

                              ----------                              


                        WEDNESDAY, JUNE 23, 1999

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 10:00 a.m., in 
room 1100 Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    [The advisory announcing the hearing follows:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE

June 9, 1999

No. FC-11

             Archer Announces Second Day in Hearing Series

                      on Reducing the Tax Burden:

           II. Providing Tax Relief to Strengthen the Family

                      and Sustain a Strong Economy

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the Committee will hold the second in a 
hearing series on reducing the tax burden on individuals and businesses 
to review proposals for providing tax relief to strengthen the family 
and sustain a strong economy. On June 2, 1999, Chairman Archer 
announced that the Committee on Ways and Means would conduct a hearing 
series to examine various proposals to provide tax relief (FC-10). On 
the first hearing day, scheduled for June 16, 1999, the Committee will 
consider tax proposals to enhance retirement and health security. The 
second day of the hearing will take place on, Wednesday, June 23, 1999, 
in the main Committee hearing room, 1100 Longworth House Office 
Building, beginning at 10:00 a.m.
      
    Oral testimony will be from both invited and public witnesses. 
Also, any individual or organization not scheduled for an oral 
appearance may submit a written statement for consideration by the 
Committee or for inclusion in the printed record of the hearing.
      

BACKGROUND:

      
    Taxes as a percentage of Gross Domestic Product (GDP) continue to 
rise, increasing the tax burden on American families and businesses. In 
January 1998, the Congressional Budget Office (CBO) reported that taxes 
as a percentage of GDP were 19.9 percent. One year later, CBO reported 
that taxes as a percentage of GDP had risen to 20.7 percent. CBO also 
reports that the Federal budget surplus has materialized sooner than 
anticipated because of the sharp increase in revenues relative to GDP. 
Individual income taxes are responsible for most of the recent 
increase.
      
    Despite these increases in the tax burden and growing budget 
surpluses, the Joint Committee on Taxation (JCT) reported in February 
that President Clinton's FY 2000 budget represents an $89.7 billion tax 
increase over the next 10 years. According to the JCT, the budget 
contains 47 tax proposals that lower taxes by $82.1 billion, but it 
also contains 75 proposals that raise taxes by $171.8 billion, for a 
total tax increase of $89.7 billion.
      
    In announcing the hearing, Chairman Archer stated: ``Taxes are too 
high, and American families and businesses deserve relief. When taxes 
are the highest they've been since World War II and keep going up, we 
should be looking for ways to cut taxes, not raise them even higher. I 
am committed to providing meaningful tax relief this year. If we don't 
cut taxes now, the politicians in Washington will spend every last 
dime--they always have, and they always will.''
      

FOCUS OF THE HEARING:

      
    The focus of the second hearing day will be on proposals to 
strengthen the family and sustain a strong economy. Attention will 
first be given to proposals such as marriage penalty relief, education 
incentives, and individual alternative minimum tax relief. Attention 
will then be focused on proposals including: expiring tax provisions, 
investment incentives, corporate alternative minimum tax relief, and 
other domestic business tax incentives.
      

DETAILS FOR SUBMISSIONS OF REQUESTS TO BE HEARD:

      
    Requests to be heard at the hearing must be made by telephone to 
Traci Altman or Pete Davila at (202) 225-1721 no later than the close 
of business, Tuesday, June 15, 1999. The telephone request should be 
followed by a formal written request to A.L. Singleton, Chief of Staff, 
Committee on Ways and Means, U.S. House of Representatives, 1102 
Longworth House Office Building, Washington, D.C. 20515. The staff of 
the Committee will notify by telephone those scheduled to appear as 
soon as possible after the filing deadline. Any questions concerning a 
scheduled appearance should be directed to the Committee on staff at 
(202) 225-1721.
      
    In view of the limited time available to hear witnesses, the 
Committee may not be able to accommodate all requests to be heard.
      
    Those persons and organizations not scheduled for an oral 
appearance are encouraged to submit written statements for the record 
of the hearing. All persons requesting to be heard, whether they are 
scheduled for oral testimony or not, will be notified as soon as 
possible after the filing deadline.
      
    Witnesses scheduled to present oral testimony are required to 
summarize briefly their written statements in no more than five 
minutes. THE FIVE-MINUTE RULE WILL BE STRICTLY ENFORCED. The full 
written statement of each witness will be included in the printed 
record, in accordance with House Rules.
      
    In order to assure the most productive use of the limited amount of 
time available to question witnesses, all witnesses scheduled to appear 
before the Committee are required to submit 300 copies, along with an 
IBM compatible 3.5-inch diskette in WordPerfect 5.1 format, of their 
prepared statement for review by Members prior to the hearing. 
Testimony should arrive at the Committee office, room 1102 Longworth 
House Office Building, no later than, Monday, June 21, 1999.
      
    Failure to do so may result in the witness being denied the 
opportunity to testify in person.
      

WRITTEN STATEMENTS IN LIEU OF PERSONAL APPEARANCE:

      
    Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit six (6) single-
spaced copies of their statement, along with an IBM compatible 3.5-inch 
diskette in WordPerfect 5.1 format, with their name, address, and 
hearing date noted on a label, by the close of business, Wednesday, 
July 7, 1999, to A.L. Singleton, Chief of Staff, Committee on Ways and 
Means, U.S. House of Representatives, 1102 Longworth House Office 
Building, Washington, D.C. 20515. If those filing written statements 
wish to have their statements distributed to the press and interested 
public at the hearing, they may deliver 200 additional copies for this 
purpose to the Committee office, room 1102 Longworth House Office 
Building, by close of business the day before the hearing.
      

FORMATTING REQUIREMENTS:

      
    Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. All statements and any accompanying exhibits for printing must 
be submitted on an IBM compatible 3.5-inch diskette in WordPerfect 5.1 
format, typed in single space and may not exceed a total of 10 pages 
including attachments. Witnesses are advised that the Committee will 
rely on electronic submissions for printing the official hearing 
record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. A witness appearing at a public hearing, or submitting a 
statement for the record of a public hearing, or submitting written 
comments in response to a published request for comments by the 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
name, company, address, telephone and fax numbers where the witness or 
the designated representative may be reached. This supplemental sheet 
will not be included in the printed record.
      
    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
material submitted solely for distribution to the Members, the press, 
and the public during the course of a public hearing may be submitted 
in other forms.
      

    Note: All Committee advisories and news releases are available on 
the World Wide Web at ``http://www.house.gov/ways__means/''.
      

    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.
      

                                


    Chairman Archer. Good morning to everyone on this beautiful 
June day.
    The Committee will continue its hearings today into how 
best to reduce the peacetime record-high tax bite on the 
American people. Americans are paying too much in taxes and, as 
history has shown, any taxpayer money left in Washington most 
surely will be spent. Today's hearing will focus on ways to 
help hardworking families and individuals and companies for 
which they work.
    The marriage tax penalty continues to penalize 21 million 
American couples with a higher tax burden for the simple reason 
that they are married. At a time when the experts tell us that 
children in one-parent families often fare worse than those 
with two parents, we should be encouraging marriage, not 
penalizing it.
    Likewise, we should be looking for ways to strengthen and 
improve education. No question, many Americans receive a world-
class education. But for many other Americans, the state of 
education is not as good as it could be. I am very interested 
in proposals like my Education Savings Account bill which would 
give a helping hand to our children, their parents, and their 
schools. That bill received bipartisan support in the House and 
Senate, but did not receive favor from President Clinton. I 
hope President Clinton will reconsider his opposition to this 
common sense approach because elected officials and wealthy 
Americans should not be the only ones who can afford to send 
their children to good schools.
    As I said in February, my 1999 tax bill will include a $2.5 
billion school construction initiative that makes permanent 
changes to tax-exempt bond rules to spur school construction 
now and in the future. This plan will make it much easier for 
State and local governments to comply with complicated bonding 
rules and will help build more public schools all across the 
country, from the Spring Branch Independent School District in 
Texas to larger school districts in Los Angeles, New York, and 
everywhere in between.
    Finally, we will explore ways to encourage savings and 
investment, which helps families build wealth and keeps our 
economy strong. The Congressional Research Service projects 
that 83.6 million Americans will own stock in 1999. That is an 
all-time high. It is 170 percent more than in 1970. Today 
owning stocks is no longer just for Wall Street and high-
rollers. Women are creating investment clubs at an amazing pace 
all across the Nation.
    Clearly, we are at a crossroads. The old approach of income 
redistribution has failed to end poverty or close the widening 
income gap. We shouldn't be fixing old problems with old ideas. 
Rather, we should work to expand opportunity for all Americans 
so they, too, can enjoy our strong economy and now is our 
chance, this year.
     I now recognize Mr. Rangel for any statement that he might 
like to make. Without objection, all Members will be entitled 
to insert any written statements in the record.
    Mr. Rangel.
    Mr. Rangel. Thank you, Mr. Chairman, for this opportunity 
to listen to some views that people may have as to how we can 
improve our Tax Code and encourage economic growth, as well as 
views about strengthening the family. I will be brief since I 
intend to testify as a witness myself. I do hope that these 
open hearings will continue and that we in the Minority will 
have the opportunity to work with those of you in the Majority 
so that we can develop a bipartisan tax bill which not only we 
can support, but that the President can sign into law.
    Thank you.
    Chairman Archer. I thank the gentleman. Our lead-off 
witness today is a man whose name has been well-known in 
history to the people of this country. I might say one that I 
have greatly respected all of my life. For the purpose of 
introduction, I am going to recognize the gentleman from Ohio, 
Mr. Portman.
    Mr. Portman. I thank the Chairman very much for allowing me 
to briefly introduce a long-time friend and, actually, one of 
my most distinguished constituents, Bob Taft. Bob is our new 
and very popular Governor of the state of Ohio, but he is not 
new to these issues, Mr. Chairman. He has been, as Secretary of 
State, up here in Washington giving us guidance, working with 
the National Association of the Secretaries of State. Before 
that, he was a State representative. Before that he was a 
country commissioner. So he brings a wealth of government 
experience and knowledge to the task before us today which is 
looking at the Federal Unemployment Tax. And I applaud him for 
the work he is now doing, picking up for Governor Voinovich and 
others, as head of the Coalition for Employment Security 
Financing Reform. And we are delighted to have him before the 
Ways and Means Committee today.
    Chairman Archer. Governor, welcome. We are honored to have 
you here and we will be pleased to receive your testimony.

 STATEMENT OF HON. ROBERT ``BOB'' A. TAFT, GOVERNOR, STATE OF 
OHIO; ON BEHALF OF COALITION FOR EMPLOYMENT SECURITY FINANCING 
                             REFORM

    Governor Taft. Thank you very much, Mr. Chairman. I want to 
thank you and Congressman Rangel and also my hometown 
Congressman Portman for the courtesy you have shown in allowing 
me to testify first this morning. I really appreciate that.
    Mr. Chairman, Members of the Committee, my name is Bob 
Taft, Governor of the state of Ohio. Thank you for the 
opportunity to appear in support of the repeal of the temporary 
Federal Unemployment Tax surcharge and to urge you to reform 
the employment security financing system to provide full 
funding for the unemployment insurance and employment services 
programs.
    Congress enacted the FUTA, Federal Unemployment Tax Act, 
surcharge in 1976 to provide funds to reimburse depleted trust 
fund accounts that have long since been restored. The Balanced 
Budget Act of 1997 extended this surcharge much longer than 
necessary to the fiscal year 2007. There is no longer any 
justification for the extension of this temporary tax surcharge 
at the level of .2 percent.
    Not only are employers being overtaxed, but appropriations 
from this dedicated source of administrative funds have been 
cut. In 1997, 49 of the 53 States and jurisdictions receiving 
administrative funding for unemployment insurance and 
employment service functions received less from Washington than 
the FUTA taxes they collected from employers in their States. 
Since 1990, less than $0.58 of every employer FUTA tax $1.00 
has been returned in administrative funding to the prepared 
states.
    A comparison of the taxes paid by employers to 
administrative funds provided to the prepared States paints a 
compelling picture. From 1993 to 1997, FUTA tax collections 
increased from $4.23 billion to $6.45 billion while 
administrative funding to the prepared states was cut from 
$3.81 billion to $3.36 billion. I have included with the 
testimony a graph of this trend to demonstrate the growing 
inequity of this system. Although the latest data are available 
only through 1997, the trend line has continued in 1998 and 
1999, rendering the return of employer taxes to the prepared 
States an increasingly smaller percentage with each year.
    In our State of Ohio, we receive less than $0.37 on the 
$1.00 that we send to Washington. Inadequate funding in recent 
years has caused us to close 22 local employment offices, 
significantly reduce staff, and use State general revenues to 
make up for cuts in Federal funds that are being maintained in 
trust, ostensibly to provide the very services that have been 
cut through the appropriations process. The differential 
between Federal administrative funds provided and actual costs 
continues to increase for our State. In 1993, the State deficit 
in Federal funding compared to cost was $13.3 million. By 1997, 
that deficit had grown to $18.1 million.
    We must do a better job of supporting State efforts to 
ensure the ability of American families to adjust to the 
demands of the work force in the coming century by providing 
adequate funding for employment services for those who become 
unemployed. It is time for a change. We need a system that 
properly funds States for administration and minimizes the tax 
burden on the employers who pay for it. We need to ensure 
employers that the employment taxes they pay will be used for 
the employment services promised when the tax was first 
imposed.
    A coalition of 28 State and over 90 State and national 
employer organizations representing millions of employers have 
formed a coalition for reform of employment security financing. 
The coalition worked with Representative Clay Shaw to develop 
H.R. 3684 in the last session. Ohio Senator Mike DeWine has 
introduced a similar bill, S. 462 earlier this year designed to 
reform the system.
    The proposal has been carefully crafted to address the 
Federal/State partnership, appropriate funding levels, and 
employer taxes. The proposal includes provisions to repeal the 
0.2 percent FUTA surcharge; to transfer responsibility for 
collection of the FUTA tax to States; to provide adequate 
dedicated funds for administration of the unemployment 
insurance program and public employment services; and to 
increase the flexibility of the use of funds as part of the 
work force development system designed by each State.
    It is time to repeal this unnecessary surtax. I urge you to 
favorably consider legislation such as that introduced by 
Senator DeWine.
    Thank you very much, Mr. Chairman.
    [The prepared statement follows:]

Statement of Hon. Robert ``Bob'' A. Taft, Governor, State of Ohio; on 
behalf of Coalition for Employment Security Financing Reform

    Mr. Chairman, members of the committee, my name is Bob 
Taft, Governor of Ohio. Thank you for the opportunity to appear 
before you today in support of the repeal of the ``temporary'' 
Federal Unemployment Tax (FUTA) surcharge and urge you to 
reform the employment security financing system to provide full 
funding for the unemployment insurance and employment service 
programs.
    Congress enacted the FUTA surcharge in 1976 to provide 
funds to reimburse depleted trust fund accounts that have long 
since been restored. The Tax Relief Act of 1997 extended this 
surcharge much longer than necessary through the year 2007. 
There is no justification for the 30 year extension of this 
``temporary'' tax surcharge.
    Not only are employers being overtaxed, but appropriations 
from this dedicated source of administrative funds have been 
cut. In 1997, 49 of the 53 states and jurisdictions receiving 
administrative funding for unemployment insurance and 
employment service functions received less than the FUTA taxes 
collected from employers in the states. Since 1990, less than 
58 cents of every employer FUTA tax dollar has been returned in 
administrative funding for states.
    A comparison of the taxes paid by employers to 
administrative funds provided to the states paints a compelling 
picture. From 1993 to 1997, FUTA tax collections increased from 
$4.23 billion to $6.45 billion while administrative funding was 
cut from $3.81 billion to $3.36 billion. I have provided a 
graph of this trend to demonstrate the inequity of the system. 
Although the latest data is only available through 1997, the 
trend line has continued in 1998 and 1999, rendering the return 
of employer taxes to the states an increasingly smaller 
percentage with each year.
    In Ohio, we receive less than 37 cents on the dollar. 
Inadequate funding in recent years has caused us to close 22 
local offices, significantly reduce staff, and use State 
general revenue to make up for cuts in federal funds that are 
being maintained in trust ostensibly to provide the very 
services that have been cut through the appropriations process.
    The differential between federal administrative funds 
provided and actual costs continues to increase. In 1993 the 
state deficit in federal funding compared to cost was $13.3 
million. By 1997 the deficit had grown to $18.1 million.
    We must do a better job of supporting state efforts to 
ensure the ability of American families to adjust to the 
demands of the workforce in the coming century by providing 
adequate funding for employment services for those who become 
unemployed.
    It is time for a change! We need a system that properly 
funds states for administration and minimizes the tax burden on 
the employers who pay for it.
    A coalition of 28 states and over 90 state and national 
employer organizations representing millions of employers have 
formed a coalition for reform of employment security financing. 
The coalition worked with Representative Clay Shaw to develop 
HR 3684 last session. Senator Mike DeWine introduced a similar 
bill, S 462, earlier this year designed to reform the system.
    The proposal has been carefully crafted to address the 
federal/state partnership, appropriate funding levels, and 
employer taxes. The proposal includes provisions to:
     Repeal the .2 FUTA surcharge;
     Transfer responsibility for collection of the FUTA 
tax to the states;
     Provide adequate dedicated funds for 
administration of the unemployment insurance program and public 
employment services; and
     Increase the flexibility of the use of funds as 
part of the workforce development system designed by each 
state.
    It is time to repeal this unnecessary tax. I urge you to 
favorably consider legislation such as that introduced by 
Senator DeWine.
      

                                


[GRAPHIC] [TIFF OMITTED] T0841.001

[GRAPHIC] [TIFF OMITTED] T0841.002

    Chairman Archer. Governor, thank you for taking your time 
to appear before us on an issue that I believe is extremely 
important. Has the Governors Conference taken a position on 
this issue?
    Governor Taft. The National Governors Conference has not, 
but it is a project that I will be urging them to take on in 
our summer conference in St. Louis this year. As I indicated, 
we have 28 States signed up. Other States are supportive, and I 
believe that we have a good chance of getting NGA support for 
the project.
    Chairman Archer. Do you know of any Governor who does not 
share your views?
    Governor Taft. I do not. There may be some, but I have not 
had a chance to speak to every Governor on this particular 
issue.
    Chairman Archer. OK. I only have one last question. As you 
are aware, the President has said that the States should use 
their unemployment trust funds in order to pay for family 
leave. Do you have a position on that?
    Governor Taft. We are aware that the President has made 
this proposal. We are examining the costs and benefits of this 
proposal currently in Ohio. We are also waiting for additional 
clarification from the Department of Labor that would assist us 
to understand the consequences of the proposal, so we have that 
proposal under examination at the present time.
    Chairman Archer. So, currently, you do not have a position 
established on that proposal.
    Governor Taft. That is correct.
    Chairman Archer. Thank you, very much, Governor.
    Mr. Rangel.
    Mr. Rangel. Thank you, Mr. Chairman. And thank you, 
Governor. I think our President's position is that the funds 
could be used for family leave, not that they should. As a 
matter of fact, I think, Governor, that you yourself would like 
to use the funds for work force development systems.
    Governor Taft. Work force development, yes, sir.
    Mr. Rangel. And, clearly, family leave could be 
incorporated. Could be, but I think that would be your call. 
You would not object if you wanted to use it that way, would 
you?
    Governor Taft. Well, we are reviewing that whole issue in 
Ohio.
    Mr. Rangel. Exactly.
    Governor Taft. And, you know, we will be in a better 
position after we hear more from the Department of Labor about 
what is contemplated to take a position on that issue.
    Mr. Rangel. Well, I think President Clinton has made it 
clear that this is a State issue for Governors to decide and 
certainly not the White House.
    Governor Taft. Yes, we would feel a lot better about some 
of these new proposals if we could get more of our Federal 
employer taxes back in Ohio.
    Mr. Rangel. Well, tell me, you indicated that you receive 
back only less than $0.37 on the $1.00 paid in. That is as it 
relates to the FUTA tax?
    Governor Taft. Yes.
    Mr. Rangel. Do you know what your return is on the Federal 
dollar coming back to Ohio, as opposed to the Federal taxes 
that are paid?
    Governor Taft. Are you referring to total Federal dollars 
for all purposes?
    Mr. Rangel. Yes. Yes.
    Governor Taft. We are under 100 percent, but I don't have 
the exact percentage with me this morning.
    Mr. Rangel. What other examples of work force development 
systems would you think about using the funds for?
    Governor Taft. Well, we have a huge challenge, Congressman, 
in implementing the Welfare Reform Act. We have made progress, 
but we need to do more to help those folks who remain on the 
rolls to address their issues through training, through 
education, through services, through matching them with jobs in 
order to meet the goals that have been established by the 
Congress in the Federal Welfare Reform Act.
    In addition to that, we now have many of these people who 
are working. So, really, they have transferred over from the 
welfare system to the unemployment or employment system. We are 
very concerned as to what happens to them if they should lose 
their employment, that they need services promptly, 
expeditiously, effectively, to help them to reenter the work 
force and obtain employment once again. So we want to improve 
and streamline and use these funds to improve our work force 
development and training programs, both for welfare reform and 
also to match employees throughout the state to jobs in a very 
tight economy.
    Mr. Rangel. Well, I certainly support the goals that you 
want to achieve and thank you so much for taking the time to 
share your views with this Committee.
    Governor Taft. Thank you very much, Congressman.
    Mr. Rangel. Thank you, Mr. Chairman.
    Chairman Archer. Mr. McCrery.
    Mr. McCrery. Thank you, Mr. Chairman. Governor Taft, tell 
us again why this 0.2-percent surtax was levied in the first 
place.
    Governor Taft. It was levied back in 1976 because at that 
time the trust funds were depleted. There was much unemployment 
and economic hardship at that time. There was extension of 
unemployment compensation benefits. But my understanding is 
that those funds were replenished in 1987, which is, of course, 
12 years ago. And my understanding also is that, currently, the 
balances in the unemployment and employment services trust 
funds now are in the neighborhood of $20 billion and the 
current Federal obligations could be met merely by the interest 
on the trust funds that have accumulated over the years.
    Mr. McCrery. So this was a dedicated tax, dedicated to a 
specific purpose, levied on employers around this country and 
that specific purpose was met in 1987.
    Governor Taft. That is correct. It cost employers $14.00 
per employee.
    Mr. McCrery. And so, since then, this tax has been 
extended, not for the original purpose, but really just to 
provide general revenues to the Federal Government.
    Governor Taft. That is exactly right. It is on-budget money 
that is used for the Federal deficit.
    Mr. McCrery. In Louisiana, we get about 40 percent of the 
administrative funds back from the Federal Government. You 
stated that less than 58 percent, generally, around the United 
States, is returned to the States. So Ohio and Louisiana are 
not doing as well as the national average. We need to work on 
that.
    But it is really, the Federal portion of the unemployment 
tax is principally used, is it not, or dedicated, to 
administrative expenses of the States in administering this 
program.
    Governor Taft. That is exactly right. The tax I am 
referring to, the FUTA tax, is for administrative purposes.
    Mr. McCrery. So its principal purpose is not to pay 
benefits, but to pay administrative expenses.
    Governor Taft. That is correct. These changes have nothing 
to do with and do not alter the payroll tax that States collect 
for benefits and forward to the U.S. Treasury, which is in turn 
paid out for benefits. This is the administrative side of the 
equation.
    Mr. McCrery. And you are telling us that even though that 
tax is supposedly dedicated to reimbursing the States for 
administrative expenses, States are only getting back 58 
percent of what they pay in.
    Governor Taft. That is exactly right.
    Mr. McCrery. How does welfare reform fit with this picture? 
Does it make it more difficult on the States in terms of the 
administrative expenses of their unemployment program?
    Governor Taft. Well, we are trying to modernize our work 
force development system in Ohio through the use of computers 
and telecommunications and other means to help to place those 
recipients who are still on our rolls into jobs. And we have an 
opportunity to do so in a tight job market, but the lack of 
Federal funding coming back for work force development and 
employment service training is making it more difficult for us 
to achieve those goals and realize the targets that have been 
set for us under Federal welfare reform legislation.
    Mr. McCrery. Governor Taft, I agree with you that this is a 
tax that should have been repealed a long time ago. I think it 
is unfair for the American people and, in this case, 
particularly, employers to be told they are going to be taxed 
for a specific purpose and then that specific purpose is 
satisfied and yet the tax continues to be levied. That is just 
not the way we ought to operate, in my view, as representatives 
of the people in this country.
    Governor Taft. I am very pleased to hear that.
    Mr. McCrery. So I appreciate very much your testimony.
    Governor Taft. Thank you.
    Mr. McCrery. Thank you.
    Chairman Archer. Mr. Houghton.
    Mr. Houghton. Thank you, Mr. Chairman. Governor, great to 
have you here.
    Governor Taft. Thank you.
    Mr. Houghton. Let me try to understand this in terms of a 
taxpayer. There was a tax levied in 1976. It served its 
purpose. The purpose is no longer there. Therefore, you want to 
repeal that tax. But, at the same time, if I understand it, if 
I am a citizen of this country, I will still be paying the same 
tax, but it will be levied by the State. Is that right?
    Governor Taft. No, no. Regarding the 0.2-percent surcharge, 
we propose and Senator DeWine's legislation proposes, should be 
completely eliminated. So the employers would no longer have 
that burden. That would relieve the employers of the country of 
a tax burden of about $1.6 billion per year.
    Mr. Houghton. Yes, but does the State pick up that 
corresponding part of the tax if it needs it later on?
    Governor Taft. No. No, that would not be picked up by the 
State. The 0.2-percent surcharge is just a small part of the 
total FUTA tax. The total FUTA tax net is about 0.6 percent. 
That 0.6 percent tax for administering unemployment 
compensation would remain in place unaffected by this.
    Mr. Houghton. I see. Thank you very much.
    Chairman Archer. Does any other Member wish to be 
recognized? Mr. Coyne.
    Mr. Coyne. Thank you, Mr. Chairman. Governor Taft, aren't 
State trust fund accounts currently running balances that are 
lower as a proportion of covered wages than in earlier periods?
    Governor Taft. I am not--could you repeat that question 
again? I am not sure that I understand it.
    Mr. Coyne. Well, the percentage of the balances in the 
trust fund account are lower than the total wages that people 
earn that are covered by unemployment insurance. It is a lower 
percentage.
    Governor Taft. Well, in terms of unemployment compensation 
benefits, those are basically in balance. The benefits paid out 
and the taxes collected for benefits are basically in balance 
and the States have the ability to adjust those under Federal 
law to make sure that they do balance. If there is a need for 
additional dollars, then the unemployment compensation tax 
would be increased in any particular State. So those funds stay 
in balance.
    What we are referring to here today is the administrative 
side of the equation. And all of these trust funds, by the way, 
are held in the U.S. Treasury and the States draw down from 
them. But in the administrative accounts for unemployment 
administration, there is a total balance here in Washington of 
in excess of approximately $20 billion.
    Mr. Coyne. But if--or more likely when--we have the next 
recession, if you were not to have this surcharge, would that 
not put an administrative burden on the States that they 
wouldn't be able to handle if, as I say, or when, the recession 
comes?
    Governor Taft. Well, the States will be able to pay their 
share. For example, for extended unemployment compensation 
benefits that would be paid in a time of recession, the States 
pay 50 percent. We are prepared to pay that share. The Federal 
Government's share is also 50 percent. And there is a special 
fund dedicated in the Federal Government to pay that amount. It 
is called the Extended Unemployment Compensation Account.
    Currently, in 1999, the balance in that account is $16.9 
billion. The last recession in the early nineties cost a total, 
in terms of additional costs to the Federal Government, of 
about $4 billion. So you have a balance, currently, more than 
four times what the last recession cost in terms of providing 
extended unemployment compensation benefits to workers who had 
lost their jobs.
    Mr. Coyne. Well, as I look at it----
    Governor Taft. Healthy balance.
    Mr. Coyne [continuing]. Yes. As I look at it, the trust 
fund is a trust fund that is needed for a rainy day. We are all 
experiencing a very vibrant and positive economy in this 
country today, but I think that the purpose of this fund has 
always been for the rainy day that is sure to come. It is not a 
matter of whether it is going to come, it is when it is going 
to come.
    Thank you.
    Governor Taft. Yes, that is correct. But just to reiterate, 
the almost $17 billion balance in that particular fund would be 
more than ample for virtually any kind of a rainy day that 
would be contemplated, based on previous recessions.
    Chairman Archer. Mr. Portman.
    Mr. Portman. Thank you, Mr. Chairman. And, Governor, again, 
thanks for taking the time to be in Washington today to help us 
out with this issue. In terms of the rainy day issue, I think 
it is probably important to note that the U.S. Department of 
Labor has set some standards and, based on the Department of 
Labor's own standards, I think those trust funds at the Federal 
level exceed the projections of payout through fiscal year 
2004.
    Governor Taft. In fact, Congressman Portman, I understand, 
under current Labor Department projections, the interest alone 
on the Federal trust funds is adequate to pay for the 
anticipated Federal expenses through fiscal year 2004.
    Mr. Portman. Well, I appreciate your raising this issue 
with the Membership. I think a lot of Members of Congress 
probably aren't as focused on this as you are, heading up this 
coalition and now some of the other Governors. I think it would 
be helpful if we could hear from you as to the impact on 
employers in the state of Ohio and all the other States 
represented by this panel today. What is the impact of 
continuation of the surcharge tax?
    Governor Taft. Well, in the state of Ohio alone, in terms 
of the 0.2 percent surcharge, employers are paying $70 million 
per year. And across the country, that would translate into 
$1.6 billion, just the surcharge portion alone. So we would be 
talking about significant savings to employers.
    In addition to that, currently the States collect the tax 
for benefits and the Federal Government, IRS, collects the tax 
for administration. So employers have to deal with two 
different entities on basically the same program. This is very 
complicated and imposes significant additional administrative 
costs on employers across the country. I have seen one estimate 
as much as $1 billion of additional administrative expenses. 
And what we propose in Senator DeWine's legislation is that the 
States would collect both those taxes, which would streamline 
the collection of taxes and save some additional administrative 
expenses to employers, in addition, of course, to the reduction 
they would see from the elimination of the surcharge.
    Mr. Portman. Well, again, I encourage you to keep pursuing 
that overall reform. I think it is worth noting that the DeWine 
legislation and the Shaw legislation from last year goes beyond 
repealing the surcharge, which, again, was put in place in 1976 
for a problem that was resolved by 1987. And it seems to me 
that is inappropriate, given the Department of Labor's own 
projections to continue to hoard here in Washington when it 
should be going back.
    But these reforms go beyond that, as you indicate, to 
streamline the system. And I know there is a lot of interest on 
this panel in doing that. Even outside this panel, Mr. 
Traficant has approached me a number of times. Mr. Collins has 
worked on this issue. Mr. McCrery is working on this issue. Mr. 
Shaw and others and colleagues from the other side of the 
aisle. So I hope it is something that we can work on this year, 
in conjunction with the Senate, and begin not just to look at 
the surcharge, which is a very important issue--I know that is 
the focus of your comments today--but also your other ideas on 
how to streamline the system and make it better for employers.
    After all, this is much like the Social Security payroll 
tax. The employer side comes out of the employees pocket. And 
we are talking about an impact on employers, but, ultimately, 
it comes out of the worker's paycheck.
    Governor Taft. That is right.
    Mr. Portman. Again, thank you very much for being willing 
to spend the time with us today.
    Governor Taft. Thank you, Congressman.
    Chairman Archer. Mr. Cardin.
    Mr. Cardin. Thank you, Mr. Chairman. Governor, it is a 
pleasure to have you here.
    Governor Taft. Thank you.
    Mr. Cardin. Let me just make one point. I think many of us 
are sympathetic to the concerns that you raise about repealing 
the 0.2 percent surcharge, but, as has been pointed out, under 
our budget rules, that would have to be offset. That that is 
revenues that come in under the Unified Budget as an on-budget 
revenue source, as you have pointed out. Some of us aren't very 
happy about our budget rules, but we have to comply with our 
budget rules.
    So I am just curious. Have you come forward today with some 
suggestions on how we might be able to offset that?
    Governor Taft. First of all, I want to congratulate the 
Congress on the tremendous progress you have made toward 
achieving a balanced budget. I think it is truly remarkable. In 
fact, your success creates the opportunity for us to now come 
in and say, ``Now that you are balancing your budget, how about 
this surtax that you imposed over 20 years ago that we are 
still paying? And you are not sending us back enough to 
administer our unemployment compensation programs.'' And I 
recognize there would be a cost of $1.6 billion which the 
Congress would have to find from some source. And I would like 
to think it most appropriate for me to leave it to the wisdom 
of you and your Members and the Congress to determine how that 
might occur.
    But we would really earnestly ask you to consider looking 
at this particular issue. Because I think we can make the 
system both better and more fair.
    Mr. Cardin. Well, having served on this Committee for now 
close to 10 years, I can assure you we don't have exclusive 
wisdom on that. So we will take whatever help we can get on 
trying to come up with offsetting revenues.
    Let me mention the second point. I also served in the 
Maryland legislature for 20 years during a very difficult 
period in the eighties when we went into special session 
because of unemployment insurance and had a crisis in our State 
in order to try to meet the burdens that were on our workers 
who were out of work. You point out that there is at least some 
balance, a significant balance, in the fund to deal with these 
problems. But let me just caution all of us that when we change 
these funding sources, to remember that when we go into 
recession, it is difficult to raise the revenues necessary to 
deal with extended benefits. And extended benefits can be more 
costly than the $4 billion that you mentioned.
    And if we are going to make a permanent change in repealing 
the surcharge, then I think we also must have a safe plan to 
deal with workers who are going to be out of work needing 
extended benefits, perhaps for an extended period of time. That 
was the whole concept of the shared relationship between the 
Federal Government and the States. And this surcharge does go 
into that fund. It is not just administrative. The moneys go 
into the extended benefit program as part of the 0.8 percent 
and goes into a loan fund that is available to States if they 
need to do that.
    So I guess my point is I agree with your testimony. Clearly 
the original purpose for which the surcharge was put into 
effect, we have accomplished those goals. But we should be 
mindful that when you are in recession, it is the most 
difficult time to try to find the revenues necessary, 
particularly at the state level, to deal with these issues. And 
I would invite your comments.
    Governor Taft. Yes, I would concur with your comment there, 
and we certainly would not propose that you reduce the 
balances--the very, really extraordinary balances that exist 
now in the different funds that provide that cushion against a 
recession. That is very, very important. All we are suggesting 
is that it may not be necessary, because of the size of these 
surpluses, to continue to add additional money to those 
surpluses at the expense of the States.
    Mr. Cardin. Well, one of the things that you could do is 
have some form of an automatic trigger so that it doesn't 
require additional congressional action if the fund balances 
drop below a certain amount. There are certain things that we 
could do in order to ensure that the extended benefit program 
is adequately financed.
    Governor Taft. Yes.
    Mr. Cardin. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Collins.
    Mr. Collins. Thank you, Governor, for being here with us 
this morning.
    Governor Taft. Thank you.
    Mr. Collins. The former Governor of Georgia, Governor Zel 
Miller, was very supportive of not only repealing the surtax, 
but also devolving the tax back to the States, as well as our 
former labor commissioner who came up several times on this 
particular issue. Where we have always run into opposition here 
or problems is from organized labor. And you can understand 
their concerns. Which are that they are afraid that if this 
tax, the surtax, is repealed and the tax is devolved back to 
the States, that it could have some negative impact on 
benefits. Do you see any negative impact?
    Governor Taft. Absolutely not. This is an entirely separate 
funding stream. In fact, it might be possible that, as a result 
of this reform, more of the administrative moneys would find 
their way into the benefits fund, which would create the 
opportunity to possibly even increase benefits if necessary at 
a time of recession.
    Mr. Collins. Well, I think that is a point that should be 
well made by you and other Governors and labor commissioners 
across the country who support not only repeal, but devolving 
the tax back to the States. As you say, it can help support 
your State labor agency itself and the programs there. It also 
gives you a lot of flexibility. Mr. Cardin mentioned a special 
session in Maryland. We went into legislature in Georgia back 
in the late eighties and early nineties. Commissioner Joe 
Tanner wore out a pair of shoes walking the halls of the 
general assembly encouraging an increase in the tax in Georgia 
to build a fund. And he was successful and I voted for that. It 
was one of the very few times that I have ever voted for any 
type of tax increase at all.
    But we did that under the pretense, too, that if we built 
this fund, at some point we would be able to give relief to 
employees. And I see where here we can give relief to employers 
and employers then can also have the funds to better the 
benefits of their employees in other ways.
    Governor Taft. Exactly.
    Mr. Collins. Rather than through a tax that has to be 
funneled back through the government which, oftentimes, as you 
say, is just totally eaten by administrative costs. So we 
appreciate your support.
    Governor Taft. Thank you very much.
    Mr. Collins. Appreciate you being here. And, hopefully, we 
will be successful. As far as the offset, as I have told a lot 
of groups that I have spoken to in the last few days, this is a 
game of dealer's choice. The dealer happens to be the Chairman 
from Texas. I hope this is part of his choice.
    Thank you. [Laughter.]
    Governor Taft. Thanks very much, Congressman.
    Chairman Archer. Governor, I see--let me first recognize 
the gentleman from Michigan, Mr. Levin.
    Mr. Levin. Thank you, Mr. Chairman. Welcome, Governor.
    Governor Taft. Thank you.
    Mr. Levin. We have met under--in other ways and I have 
enjoyed our relationship.
    Governor Taft. Thank you.
    Mr. Levin. And I am glad you are here because--for a 
variety of reasons--you help open up the discussion of 
unemployment compensation maybe beyond your expectation. But it 
is useful to do that.
    Mr. Cardin and Mr. Coyne raised questions about extended 
benefits and I hope you would take a look again, if you would, 
at the experience of Ohio and other industrial States. And not 
in the recession of the early nineties, but the recession in 
the early and mid-eighties. Because you referred to enough 
moneys to handle the unemployment in the a recession type of 
nineties, but, you know, in the mid-eighties, we were 
struggling incessantly here with the issue of extended 
benefits. And I don't have, offhand, the amount, but it was far 
beyond the amount needed in the recession of the nineties.
    We have an extended benefit program that is inadequate and 
was grossly so in the eighties. And your State suffered 
terribly as a result. And it was two or three times that we had 
to struggle to revise the extended benefit formula. So I would 
hope, as Governor of a large and important and dynamic State, 
you would take another look at the extended benefit program and 
tell us whether you think it is adequate. Because the focus 
should not only be on the 0.2 percent--and I think there are 
problems with the administrative end of it--but also with the 
entire system that the 0.8 percent finances.
    Because you may be unhappy if there is another recession 
with action taken here. I have a chart from the Labor 
Department and I don't know all the definitions, but it 
diagrams, it spells out how much the States have in their funds 
to last for their own programs in the case of a severe 
recession. And Ohio is toward the bottom, quite below the state 
average in terms of how long the funding would last.
[GRAPHIC] [TIFF OMITTED] T0332.022

      

                                


    Also--and it is not directly related--but the recipiency 
rates have been going down in this country. And today the U.S. 
average unemployment covering the unemployed is 36 percent--
only 36 percent--of the unemployed are covered by the present 
system. My own State of Michigan, that is 48 percent. 
Pennsylvania is 53 percent. I am using other industrial States. 
And Illinois, if I can pick it out here, is 39 percent. And 
Ohio is 31 percent. So the way your unemployment system in your 
State is structured, less than a third of the unemployed 
receive unemployment compensation.
    So I urge that we take this proposal and look at the 
extended benefit program, as well as other facets of our 
unemployment compensation system. And coming from a State that 
has experienced ups and downs maybe beyond the norm or the 
average, I would be interested in your sending us your thoughts 
about the extended benefit program. You know, one of the 
problems is it doesn't click it. As I remember it, Ohio wasn't 
even covered by the present law during the severe recession of 
the eighties. We had to redo the formula.
    Governor Taft. We did provide extended benefits, I know, 
but----
    Mr. Levin [continuing]. But the original--the formula as it 
is presently devised I don't think covers it. So give us the 
wisdom of your further inquiry, if you would. And let us look 
at the administrative part of this, but also other facets of 
the system that are supposed to be financed beyond 
administrative.
    Governor Taft. We will do that.
    Mr. Levin. All right. Thank you.
    Governor Taft. Thank you.
    Chairman Archer. Does any other Member wish to inquire?
    [No response.]
    If not, Governor, thank you so much for taking the time to 
make your presentation to us.
    Governor Taft. Thank you very much, Mr. Chairman. I really 
appreciate the opportunity to testify.
    Chairman Archer. You are welcome.
    Governor Taft. Congressman Rangel, thank you very much.
    Chairman Archer. Our next panel is a number of our 
colleagues, led by Mr. Rangel. You will come and take seats at 
the witness table. If a few more of our Members go down and 
join you, then we will not have anybody up here to ask the 
questions. Mr. Rangel, welcome to the Ways and Means Committee. 
We would be pleased to receive your testimony.

   STATEMENT OF HON. CHARLES B. RANGEL, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF NEW YORK

    Mr. Rangel. Thank you. The last time that you, Mr. 
Chairman, testified as a witness, you made it clear that it may 
be your last time. I hope this is not the last time that I have 
a chance to testify.
    Let me thank you and my other colleagues for being here 
this morning as we listen to ideas that Members and others have 
as to how we can improve the Tax Code and quality of life for 
most Americans. As I said earlier in my opening statement, I 
hope we have the same opportunity to share ideas when we are 
drafting the tax bill as we have had today to listen to ideas.
    Mr. Chairman, as you and I work together to see how much 
support we can get in a bipartisan way to repair our Social 
Security system, I believe that, if we are able to accomplish 
this, it would give a lot of confidence to the House of 
Representatives and, hopefully the Senate, that we can tackle 
serious problems in a serious way. If there are some people who 
believe that Democrats can benefit by the failures of the 
Majority, I don't agree with them. I don't think that the 
electorate is sophisticated enough just to pick out Republicans 
as having failed. We might all get caught in their outrage and 
achieve that reputation as well.
    And I do believe that with the serious problems that we 
face as a nation, there are serious, very serious, differences 
in how Republicans and how Democrats approach those problems. 
Under our great system, we give the voters an opportunity to 
see which direction is most compatible with their beliefs.
    Certainly, when we deal with the questions of health care, 
the patients bill of rights, gun safety, or housing, there is 
enough controversy. But to me, one of the most important issues 
on which we are divided is education. When we move into this 
next century, our young people have to be prepared better than 
ever before to meet the challenges of international trade and 
competition. We have an obligation not to say that education is 
a local or State issue, but instead to make certain that 
American workers are the best trained workers in the entire 
world.
    It has been reported that some people in the Majority would 
want a State to be able to remove itself from the direction of 
Federal legislation in providing assistance to kids that come 
from poorer communities, that is to allow that State to opt out 
of that system and to use the money for whatever purpose it 
wishes without any Federal direction. There are others who 
believe that the best way to handle the problem of education is 
to allow the parent to deposit money into a bank account on 
which the parent would receive tax-free benefits and that the 
money could be used in any way to assist the child, perhaps for 
private education. Of course, if you spend the principal, 
perhaps because you are poor and need to eat you have no 
interest; you have no benefit. But this is the thinking of some 
people.
    Others believe that we should use a voucher system. They 
say let the parents decide where they want their children to 
attend school. After all, wealthy kids go to private schools. 
This thinking does not take into account the fact that it is 
public schools that 90 percent of our kids attend. It is the 
public school system that is the institution that has allowed 
so many people like myself even to dream of getting out of 
poverty.
    And that is the reason, Mr. Chairman, why I am asking for 
support for H.R. 1660. This bill would allow local and State 
communities to issue bonds. And the bonds would be virtually 
cost-free for the communities because the Federal Government 
would provide a tax credit equivalent to the interest payments 
communities would otherwise be required to pay. The General 
Accounting Office has indicated that it would take $112 billion 
to repair and to renovate existing public schools. And another 
$60 billion during the next decade for upkeep and to build the 
new schools that will be necessary to educate our children.
    For those who are anxious to support the private school 
system, by all means do that and encourage that. But for those 
communities that have only the public school system, I am not 
here to defend the entire system. However, I hope that we can 
identify the communities where that public school system is not 
working and demand that the school system go into partnership 
with the private sector, with the local and State governments, 
to come up with the curricula that are needed to make the 
children productive and to make certain that we never are able 
to say that education is not a Federal responsibility, even 
though we only contribute 7 percent toward the financing of 
public education throughout the country.
    And we have to keep in mind that in the areas where the 
public schools are failing, whether it is in the rural areas or 
whether it is in the inner-city areas, all of us lose because 
these students are not able to produce, not able to be as 
productive, not able to make a contribution toward improving 
our economy because of their lack of training. When a kid knows 
that there are no opportunities, then the temptations of drugs 
and violence and making unwanted babies are there. Take a look 
at the prison population that has increased dramatically from 
250,000 in 1970 to 1.3 million today, the highest level of any 
Nation in the entire world. And in the great city of New York, 
we are prepared to spend $84,000 for every kid that gets 
arrested as opposed to the $8,000 that we are forced to fight 
for to provide a decent public school education.
    H.R. 1660 is supported by the teachers, supported by the 
superintendents, supported by the mayors and, supported by 
businesses and unions alike. I ask you, no matter how you 
intend to put together the bill that you may place before this 
Committee, to please consider this legislation. It is needed 
because we are losing teachers. We are losing students. And, 
indeed, we are losing schools, unless we have the resources to 
build and to rebuild and to modernize the existing schools that 
we have today.
    Thank you, Mr. Chairman, and I thank you, my colleagues.
    [The prepared statement follows:]

Statement of Hon. Charles B. Rangel, a Representative in Congress from 
the State of New York

    Colleagues. I am pleased to testify before you today about 
the state of the public school system in the United States. It 
is becoming increasingly apparent that the most important 
challenge facing this country today is the need to improve our 
educational system. Investment in public education is the key 
to developing young minds and giving all of America's children 
a chance to excel.
    At the present time, however, some of our young people 
attend schools where facilities are crumbling, classrooms are 
overcrowded, students are without computer and internet access, 
and many teachers are uncertified and under qualified. It is a 
shame that the United States maintains a public education 
system that subjects some of its students to a poor quality of 
education--in effect, dooming them to a future that is bypassed 
by the prosperity and promise of the new global economy.
    Many children today are attending school in trailers or in 
dilapidated school buildings. We cannot expect learning to 
occur in those environments. The General Accounting Office 
reports that approximately one-third of America's public 
schools is in need of extensive repair or replacement. The 
report estimates that it will cost $112 billion to repair, 
renovate, and modernize our existing schools and another $60 
billion over the next decade to build new schools. It is 
estimated that in New York City alone more than one-half of the 
city's 1,100 school buildings are over half a century old. 
Thirty-eight percent of these schools are estimated to be in 
need of extensive renovation.
    In an effort to help schools meet their capital needs, I 
have introduced legislation, H.R. 1660, a bill designed to 
provide approximately $24 billion in interest-free funds to 
State and local governments for school construction and 
modernization projects. I believe this bill is a meaningful 
first step in addressing the problem of crowded, dilapidated 
and outdated school facilities.
    H.R. 1660, The School Construction and Modernization Act of 
1999, extends and enhances the education zone proposal that was 
enacted on a limited basis in the 1997 Taxpayer Relief Act. 
This program is designed to create working partnerships between 
public and private entities to improve education and training 
opportunities for students in high poverty rural and urban 
area.
    Some have argued that the Federal government should have no 
role in assisting the public school system at the K through 12 
level. I disagree strongly. The Federal government historically 
has provided financial resources to the public school system. 
It has done so in part by providing tax-exempt bond financing 
that enables State and local governments to fund capital needs 
through low-interest loans. This bill is, in many respects, 
very similar to tax-exempt bond financing. The bill provides 
special tax benefits to holders of certain State and local 
education bonds without requiring any additional layers of 
bureaucracy at the Federal or State level. The procedures used 
to determine whether bonds are eligible for those special 
benefits are substantially the same as the procedures 
applicable currently in determining whether a State or local 
bond is eligible for tax-exempt bond financing.
    I also want to be very clear that H.R. 1660 supports our 
public school system. I believe that improving our public 
school system should be our highest priority. Approximately 90 
percent of the students attending kindergarten through grade 12 
attend public schools. If we can find the resources to provide 
additional tax incentives, it is imperative that these 
incentives focus on improving a public school system that 
serves such a large segment of our student population. For this 
reason, I have and will continue to oppose legislation, such as 
the so-called ``Coverdell'' legislation, that diverts scarce 
resources away from our public school system.
    The Republicans are promoting a change in the tax-exempt 
bond arbitrage rules that they claim is a meaningful response 
to the problem of dilapidated and crowded school buildings. 
Under current law, a school district issuing construction bonds 
can invest the bond proceeds temporarily in higher-yielding 
investments and retain the arbitrage profits if the bond 
proceeds are used for school construction within two years. The 
Republican arbitrage proposal would extend the period during 
which those arbitrage profits could be earned for four years. 
The Republican proposal does not benefit those districts with 
immediate needs to renovate and construct schools. It benefits 
only districts that can delay completion of school construction 
for more than 2 years. It is inadequate at best. At worst, it 
may increase costs for those districts most in need because 
more bonds could be issued earlier.
    My bill includes a provision that would extend the Davis-
Bacon requirements to construction funded under the new 
program. This provision is consistent with the policy that 
Federally subsidized construction projects should pay 
prevailing wage rates. The bill also includes provisions 
designed to ensure that local workers and contractors are able 
to participate in the construction projects.
    It is becoming increasingly clear to many across the 
country that some parts of our current education system are 
producing students who come out of high school with a knowledge 
base that is incomplete or obsolete. Some schools produce 
graduates ill-equipped to compete in an increasingly fast-
paced, knowledge-based, technological world. It is deplorable 
that some of our young people are doomed to failure because 
they attend resource-poor schools where facilities are 
crumbling, classrooms are overcrowded, students are without 
computer and internet access, and many teachers are uncertified 
and under qualified.
    Tragically, the young people who are most likely to be 
subjected to an inferior education in this system are those who 
attend school in urban and rural areas with high rates of 
poverty and those who are of African American and Hispanic 
descent. In a country that prides itself on its leadership in 
world affairs, the negative effects of race and income continue 
to have a pervasive impact on the quality of education and the 
life's chances of affected students. These educational 
disparities are a national disgrace and must be addressed.
    Failing students in poor communities are almost sure to 
face high rates of illiteracy, incarceration, joblessness, and 
drug abuse. Since 1970, the prison population has increased 
from 260,000 to 1.8 million people in 1997 (nearly a 600% 
increase). Studies indicate that 70% of inmates lack basic 
literacy skills, 49% have not completed high school, more than 
70% used illegal drugs one month prior to their arrest, and 40% 
in state prisons lived below the poverty level prior to 
incarceration. It is important to realize that these 
incarcerated individuals are not born criminals. Many are the 
products of failed support systems, including schools that have 
neglected to provide them with the proper tools to compete and 
excel in today's society. It is unacceptable that some of our 
children are locked up with no hope for the future in the 
richest, most powerful country in the world. This is a waste of 
talent and productivity.
    Supporting a punitive incarceration policy rather than 
front-end investments like education and training is also a 
waste of money. Why do we spend $84,000 per year to keep 
someone incarcerated but only $9,000 per year to educate him or 
her? Wouldn't it make more sense to provide people with the 
tools they need to compete before they end up in jail or on the 
street? The U.S. must reassess its misplaced priorities and 
make a greater investment in its public education system so 
that all of America's children can receive a quality education 
that enables them to compete in the global economy of the 21st 
Century.
    Now that the war in Kosovo has ended, it is time to declare 
a war much closer to home--one of great significance to 
national security and to the economic and social stability of 
our nation. America's new ``war'' at home should be a national 
initiative to reform failing public schools. Contrary to what 
some claim, the answer is not to throw out the entire public 
education system when only a few parts are dysfunctional. The 
U.S. must focus on turning disadvantaged schools inside out so 
that they can be transformed into model schools where students 
can learn in a positive and affirming environment. This effort 
requires a serious commitment from the federal government with 
substantial cooperation from local and state government, 
teachers unions, parents, and businesses. Serious school reform 
would entail providing better teacher training, more effective 
curricula, improved access to new technologies, refurbished or 
new facilities, smaller class sizes and innovative partnerships 
between schools, businesses and communities.
    As a community, we should establish strong expectations for 
student performance based on academic literacy, social 
competency, civic responsibility, occupational opportunity, and 
technical proficiency. Additionally, these expectations should 
be aligned with the needs of the U.S. economy so that we can 
continue to produce strong economic growth. Investment in 
public education is the key to developing young minds and 
giving all of America's children a chance to excel.
    The President recently embarked on a new initiative to 
focus federal resources in those areas of the country that have 
been underdeveloped in terms of business opportunities. It is 
important to recognize that this ``new markets'' initiative 
cannot thrive without also nurturing the underdeveloped human 
talent in these distressed areas. We must have new minds for 
new markets if we are serious about truly improving the 
conditions of poor communities throughout America.
    There is no reason why a country possessing the genius and 
talent to develop the internet, create innovative computers and 
software, and generate enough produce to feed the world, cannot 
successfully reform its own public education system. We have 
the know-how and expertise, now we need the willpower and 
commitment.
    Due to a strong economy and budget surpluses, the U.S. now 
has a unique opportunity and strong incentive to invest in its 
human capital. Public education has helped make the U.S. the 
world leader that it is today. It must be our nation's priority 
to radically reform poor performing public schools if we are to 
guarantee our children's future in the global economy.
      

                                


    Chairman Archer. Thank you, Mr. Rangel.
    Our next witness is Congressman Jerry Weller from Illinois.
    Mr. Weller, you may proceed.

 STATEMENT OF HON. JERRY WELLER, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF ILLINOIS

    Mr. Weller. Thank you, Mr. Chairman. And I want to thank 
you and this Committee for the opportunity to testify today on 
an issue that I believe is really an issue of fairness. And 
that is the issue of eliminating the marriage tax penalty which 
is imposed on married working couples in 66 different ways by 
our current Tax Code.
    Earlier this year, Representative McIntosh, Representative 
Danner, and I introduced bipartisan legislation, H.R. 6, to 
eliminate the marriage tax penalty for the majority of 
Americans who suffer it by doubling the standard deduction as 
the chart here to my right shows and broadening each tax 
bracket for joint filers to twice that of singles. And I am 
please to tell you that we now have gained a majority of House 
as bipartisan cosponsorship of 230 cosponsors of our 
legislation to eliminate the marriage tax penalty.
    In the last 30 years, our tax laws have punished married 
couples when both spouses work. For no other reason than the 
decision to be joined in holy matrimony, more than 21 million 
couples a year are penalized an average, according to the 
Congressional Budget Office, of $1,400 per year. They pay more 
in taxes than they would if they were single and not only is 
the marriage penalty unfair, it is wrong that our Tax Code 
punishes society's most basic institution. I would also note 
that the marriage tax penalty exacts a disproportionate toll 
particularly on working women and low-income couples with 
children.
    Let me give you a couple of examples of how the marriage 
tax penalty unfairly affects middle class, working couples in 
the district that I represent. In the first example, two 
schoolteachers live in the district that I represent. They are 
from Joliet, Illinois. Shad Hallohan makes $38,000 a year in 
salary. His wife Michelle makes $23,500 a year in salary, both 
as teachers. Since they chose to live their lives in holy 
matrimony and, of course, file jointly, their combined income 
of $61,500 pushes them into a higher tax bracket of 28 percent, 
producing a marriage tax penalty of $957 in higher taxes. 
Michelle and Shad would have liked to have been here today, but 
the couple is about to have their first baby and Michelle's 
doctor cautioned against travel. But Michelle did ask me to 
relay a message to the Committee today. For their new and 
growing family, $957 marriage tax penalty means 3,000 diapers 
for their new baby.
    I also have a chart here to my right which illustrates how 
the marriage tax penalty works and our solution to solve it. To 
my right on this chart, of course, I have a machinist who works 
at Caterpillar in Joliet and a schoolteacher who works in the 
Joliet public schools. They have identical incomes. As single 
individuals, after you consider the standard deduction and 
exemption, they each, if they file as single and stay single, 
pay in the 15-percent tax bracket. But if they choose to marry, 
they, on average, with their combined income pushing them into 
a higher tax bracket, combined income of $60,500, pay the 
average marriage tax penalty of almost $1,400. The marriage tax 
penalty--excuse me, the Marriage Tax Elimination Act would 
eliminate this marriage tax penalty for this machinist who 
works at Caterpillar and this local schoolteacher.
[GRAPHIC] [TIFF OMITTED] T0841.032

      

                                


    On average, America's working couples pay $1,400 more a 
year in taxes than individuals with the same incomes. And that 
is real money back home in Illinois. $1,400 is 1 year's tuition 
at a local community college in Illinois as well as 3 months' 
day care at a local day care center. If you think about, over 
10 years, the average married working couples suffers a 
marriage tax penalty of $1,400 in higher taxes just because 
they are married and that is real money. For many people, that 
is a new car.
    I believe that in the era of Federal budget surpluses which 
do not include Social Security revenues, American families 
deserve to have their tax burden lowered. We should focus on 
Tax Code simplification, beginning with eliminating the 
unfairness of the marriage tax penalty.
    I would also note that Tax Code simplification is the focus 
of legislation that I partnered up with Jennifer Dunn on and we 
have introduced on March 11 of this year called the Lifetime 
Tax Relief Act. This legislation simplifies the Tax Code by 
eliminating the marriage tax penalty, phasing out the death 
tax, providing alternative minimum tax relief for middle-class 
families and making the R&D tax credit and other extenders 
permanent.
    This legislation eliminates the marriage tax penalty by 
doubling the standard deduction and widening the 15-percent tax 
bracket for married couples. I would also point out that our 
legislation widens the 15-percent tax bracket by 10 percent, 
guaranteeing that a family making under $55,000 will not be 
pushed into the 28-percent tax bracket.
    I believe the issue of eliminating the marriage tax penalty 
can best be framed by asking these questions: Do Americans feel 
it is fair that our Tax Code imposes a higher tax on marriage? 
Do Americans feel it is fair that the average married working 
couple pays almost $1,400 more in taxes than a couple with 
almost identical income living together outside of marriage? I 
think all Americans agree. The marriage tax penalty is unfair 
and today is the day to eliminate it.
    Eliminating the marriage tax penalty addresses an important 
issue of fairness. I hope we can work together, Mr. Chairman 
and Members of this Committee, in a bipartisan way, as we have 
demonstrated with the Marriage Tax Elimination Act, to make 
elimination of the marriage tax penalty punishing 21 million 
married working couples just for being married the number one 
priority for family tax relief this year.
    Thank you, Mr. Chairman.
    [The prepared statement and attachment follows:]

Statement of Hon. Jerry Weller, a Representative in Congress from the 
State of Illinois

    I want to thank you for holding this hearing on providing 
tax relief to families. I appreciate the opportunity to testify 
on an issue that is really an issue of fairness, eliminating 
the marriage tax penalty imposed on married working couples in 
66 different ways by our tax code.
    On February 10, 1999, Representatives McIntosh, Danner and 
I introduced H.R. 6 to eliminate the marriage tax penalty for 
the majority of Americans families who suffer it by doubling 
the standard deduction and broadening each tax bracket for 
joint filers to twice that of singles. H.R. 6 now enjoys broad 
bipartisan support with 230 cosponsors.
    Since 1969, our tax laws have punished married couples when 
both spouses work. For no other reason than the decision to be 
joined in holy matrimony, more than 21 million couples a year 
are penalized an average $1,400 per year. They pay more in 
taxes than they would if they were single. Not only is the 
marriage penalty unfair, it's immoral that our tax code 
punishes society's most basic institution. The marriage tax 
penalty exacts a disproportionate toll on working women and 
lower income couples with children.
    Let me give you two examples of how the marriage tax 
penalty unfairly affects middle class married working couples 
in my district.
    In my first example, two school teachers live in my 
district in Joliet, Illinois. Shad makes $38,000 a year in 
salary. His wife Michelle makes $23,500 a year in salary. If 
they would both file their taxes as singles, as individuals, 
they would pay 15 percent.
    But if they chose to live their lives in holy matrimony, 
and now file jointly, their combined income of $61,500 pushes 
them into a higher tax bracket of 28 percent, producing a tax 
penalty of $957 in higher taxes. Michelle and Shad would have 
liked to have been here today but, the couple is about to have 
their first baby and Michelle's doctor cautioned against any 
travel. Michelle asked me to relay a message to the Committee 
today, for their growing family, $957 means 3000 diapers for 
their new baby.
    Another couple from my district, living in Wilmington, 
Illinois, pays an even higher marriage penalty each year. 
Calley is a bank teller and earns $21,800. John is an insurance 
salesman that earned $51,700. Their marriage tax penalty was 
$1,053 last year.
    On average, America's married working couples pay $1,400 
more a year in taxes than individuals with the same incomes. 
That's serious money. $1,400 is a year's tuition at Joliet 
Junior College and 3 months of daycare at a Joliet child care 
center. Over ten years, average couples pay $14,000 more in 
taxes than singles! This can represent the cost of a new car or 
a year of college tuition at almost any university in America.
    I believe that in an era of federal budget surpluses which 
do not include Social Security revenues, American families 
deserve to have their tax burden lowered. We should focus on 
tax code simplification beginning with eliminating the 
unfairness of the marriage tax penalty.
    Tax code simplification is the focus of a bill that 
Jennifer Dunn and I introduced on March 11, 1999 called the 
Lifetime Tax Relief Act. This bill, H.R. 1084, simplifies the 
tax code by eliminating the marriage tax penalty, phasing out 
the death tax, adjusting the AMT for families, and making the 
``extenders'' permanent.
    H.R. 1084 eliminates the marriage tax penalty by doubling 
the standard deduction and 15% tax bracket for married couples, 
as is accomplished in H.R. 6. Additionally, the Lifetime Tax 
Relief Act widens the 15% tax bracket by 10%. This guarantees 
that a family making under $55,000 will not be pushed into the 
28% tax bracket.
    I think the issue of the marriage penalty can best be 
framed by asking these questions: Do Americans feel its fair 
that our tax code imposes a higher tax penalty on marriage? Do 
Americans feel its fair that the average married working couple 
pays almost $1,400 more in taxes than a couple with almost 
identical income living together outside of marriage--is it 
right that our tax code provides an incentive to get divorced?
    Eliminating the marriage tax penalty addresses a important 
issue of fairness--I hope we can work together to eliminate it. 
Mr. Chairman, I would again like to thank you for giving me the 
opportunity to address the Committee on this important issue 
affecting 21 million American families. I would be happy to 
answer any questions.
[GRAPHIC] [TIFF OMITTED] T0841.030

      

                                


    Chairman Archer. Thank you, Mr. Weller. You stand out as a 
leader in attempting to give relief on this particular area of 
the Tax Code.
    Mr. Weller. Thank you.
    Chairman Archer. We are pleased also to have with us today 
Congresswoman Pat Danner. We are delighted to have you here. 
Welcome and we will be pleased to receive your testimony.

STATEMENT OF HON. PAT DANNER, A REPRESENTATIVE IN CONGRESS FROM 
                     THE STATE OF MISSOURI

    Ms. Danner. Thank you, Mr. Chairman. An aspiring Speaker 
some years ago asked then-President Franklin Roosevelt for his 
suggestions in public speaking and the President said: Be 
brief, be sincere, and be seated. So I will try to follow that 
admonition.
    I thank you all for the opportunity to testify before you 
today. I know that my colleague Jerry Weller has discussed in 
detail the benefits of eliminating the marriage tax penalty. 
And today I would like to inform you of Missouri's experience 
and, indeed, leadership on this issue. And I think that the 
Congressman seated to my left who is a Member of your Committee 
would concur with my remarks, since we are both Missourians, 
probably.
    When the minister utters the phrase ``for better or 
worse,'' although the couple doesn't realize it at the time, he 
is uttering a phrase that will have a reflection on their 
income tax returns when they file married tax returns. For some 
taxpayers, it is for the better. For some taxpayers, it is for 
the worse. In my home State of Missouri, fortunately, it is for 
the better.
    Missouri permits married couples to file jointly or 
separately on the same tax form using whichever of the options 
imposes the least amount of taxes on their income. Despite this 
loss of revenue that Missouri experiences because of our 
friendly married couple filing tax laws, Missouri is in the 
process of refunding money this year to all who pay income tax. 
As a matter of fact, married couples in Missouri will receive 
an estimated refund this year of $108 and, as Congressman 
Hulshof notes, we have already started receiving those checks.
    Mr. Chairman, Missouri, the Show Me State, has shown the 
Federal Government there should be and is fairness and equity 
in the way our State income tax system addresses the issue of 
taxes levied on married couples. Years ago, Missouri's general 
assembly gave couples relief from a marriage tax penalty. Today 
our State is still able to provide them with a tax refund. The 
Congress can and should do no less.
    I hope you will agree I have been brief. I have been 
sincere. And I am already seated.
    [The prepared statement follows:]

Statement of Hon. Pat Danner, a Representative in Congress from the 
State of Missouri

    Mr. Chairman and Members of the Committee:
    Thank you for the opportunity to testify before you today. 
I know my colleague, Mr. Weller, has discussed with you in 
detail the national benefits of eliminating the marriage tax 
penalty. Today, I would like to inform you of Missouri's 
experience, and indeed leadership, on this issue.
    Mr. Chairman, Missouri--the Show Me State--can show the 
Federal Government that there should be, and is, fairness and 
equity in the way our state income tax system addresses the 
issue of taxes levied upon married couples.
    Married taxpayers filing in Missouri have two options. They 
may file jointly or separately--using whichever of the options 
imposes the least amount of taxes upon their income.
    Now is the perfect time for the federal government to 
emulate Missouri. The booming economy in Missouri has made more 
revenue available--so much so that tax refund checks are 
flooding back to our citizens.
    Missouri's Governor has stated, ``Our robust economy makes 
it possible to offer new, meaningful tax relief this year. And 
we can afford to give Missourians this reasonable tax relief 
without jeopardizing our investments in education, public 
safety and other crucial state services.''
    Years ago, Missouri's General Assembly gave couples relief 
from a marriage tax penalty, and today our state is still able 
to provide them with a tax refund. The Congress can, and 
should, do no less!
      

                                


    Chairman Archer. Ms. Danner, you are a superb witness.
    Thank you very much. [Laughter.]
    Ms. Danner. Mr. Chairman, sometimes I sit on that side of 
the witness table and I recognize what we as Members would laud 
in those who testify before us.
    Chairman Archer. Well, the Chair greatly appreciates your 
brevity.
    Mr. Hulshof, we are delighted to have you before the 
Committee on the other side. And we will be pleased to receive 
your testimony.

 STATEMENT OF HON. KENNY HULSHOF, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF MISSOURI

    Mr. Hulshof. Thank you, Mr. Chairman. What I would like to 
do, Mr. Chairman, is really deviate from my prepared remarks as 
I expect them to be submitted for the record and really want to 
follow up on what the gentleman from New York has said.
    First of all, thank you for having this hearing. But I want 
to talk a little bit about education, specifically about H.R. 
7. Mr. Chairman, the American people, and I think this 
Congress, are clearly placing a priority on the education of 
our kids and I think the policies, of course, and the Education 
Committee will get part of the job done. But I think this 
Committee really does have a lot to offer regarding helping 
parents be more involved in their education.
    Chairman Archer. Would you suspend for a moment?
    Mr. Hulshof. Be happy to, Mr. Chairman.
    Chairman Archer. The Chair would suggest that perhaps 
Congressman McIntosh and Congressman Baird go, vote, and then 
come back. We want to continue this through the vote.
    Mr. Hulshof.
    Mr. Hulshof. Thank you, Mr. Chairman. I think everybody on 
this Committee would agree that the best tool that we could 
employ would be to bring parents involved into the education 
process. We cannot, of course, legislate mandatory attendance 
at the parent-teachers meetings. We cannot require parents 
through legislative fiat spending time with their kids and 
maybe helping them with their homework. We can, however, bring 
in the power of the purse and provide some flexibility for 
parents to put aside some additional moneys for education and 
that is what I want to focus on in the few minutes that I have 
got today.
    I think that we can build on what this Committee did and 
what Congress did and, ultimately, what the President signed 
into law back in 1997 when we first enacted the education 
savings accounts. The idea that we have, Mr. Chairman, in H.R. 
7--and it is regrettable that Senator Coverdell was not able to 
be here today. He has been the champion of this legislation in 
the other body--but what we would like to do with the education 
savings accounts is not pick winners or losers. We want to 
commit as many resources as possible to the education system 
period.
    And, listening to Mr. Weller and thinking about the 
marriage tax penalty, if there were some way that we could 
eliminate the marriage penalty and, especially as young couples 
begin to start a family, they are not thinking about 
retirement. Yes, Roth IRAs are a great idea, but when you think 
about $1,400 more each year that they pay in income taxes, what 
a great solution if they were able to dedicate that $1,400--
instead of paying it to the Federal Government--if they were to 
put it into a savings for student account. Just think, as Mr. 
Rangel pointed out, that there would not be sufficient moneys 
there for these education expenses. Boy, if you were putting 
this $1,400 instead of paying in a marriage tax penalty to the 
government, if you were putting it into a savings for student 
account from the time that the child was their first year of 
age. By the time they were ready for first grade, they would 
have nearly $8,400 in that account plus probably about $10,000, 
including the additional savings from the earnings from 
interest.
    What we do in this bill, in H.R. 7, is really expand the 
education savings account by taking the $500 contribution limit 
off, raising that up to $2,000. As you know, Mr. Chairman, the 
education savings account was specifically focused on college 
education. Let us remove that restraint and allow these 
aftertax dollars that buildup on these education accounts be 
used for kindergarten all the way through the 12th grade.
    If a parent chooses to home-school their kids, they can use 
it. If you choose to send your kid to public school, they can 
use it. If you choose to have a private education, parents are 
making that choice. I would point out for Members of the 
Committee, anticipating your question, the Joint Tax Committee 
says that 70 percent of the savings to the taxpayers would be, 
first of all, families making $75,000 or less and sending their 
kids to public education.
    So this is a win-win situation. If you have special needs 
students, if your child is having a tough time with math, you 
can hire a tutor. If your child is having a tough time reading, 
you can use this money for Hooked on Phonics. But the decisions 
are not made here in Washington; they are made right around the 
kitchen table with parents working with teachers for the 
betterment of their kids. I think it is a win-win situation. I 
would urge this Committee to consider H.R. 7.
    Thank you for the time to visit about it today.
    [The prepared statement follows:]

Statement of Hon. Kenny Hulshof, a Representative in Congress from the 
State of Missouri

    Mr. Chairman, let me start by thanking you for holding this 
hearing as part of the three part series on reducing the 
federal tax burden. In particular, I appreciate the opportunity 
to testify today on behalf of my legislation, H.R. 7, the 
Education Savings and School Excellence Act.
    The American people clearly place a priority on our 
children's education. As Members of Congress, we should be 
responsive to this worthwhile objective and enact policy that 
encourages accountability, quality and makes it easier for 
parents to get involved in the process of ensuring that their 
children receive an education that will prepare them for the 
challenges they will face in the future.
    The 106th Congress is off to a good start. Acting in a 
bipartisan manner, we passed and the President signed the Ed-
Flex bill, which will give educators at the local level the 
ability to use federal resources were they are needed most. In 
the future, I would expect the U.S. House to begin its 
consideration of a bill to reauthorize the Elementary and 
Secondary Education Act (ESEA). I hope the bipartisan spirit 
that prevailed during the debate on the Ed-Flex bill carries 
over to the consideration of ESEA.
    As a member of this committee, I firmly believe that we can 
make some common-sense changes to the tax code to help in the 
effort of improving education for our children. Some of these 
proposals are included in H.R. 7, the Education Savings and 
School Excellence Act. I would like take the opportunity to 
thank Representative Lipinski, a Democrat from Illinois, for 
joining me in this bipartisan effort.
    The Taxpayer Relief Act (TRA) of 1997, which this committee 
crafted, established Education IRA's. These savings vehicles 
were designed to help parents save for a child's college 
education. It was wise for us to enact this provision--but we 
can do better.
    H.R. 7 builds on the Education IRA's included in TRA 97. I 
call these expanded Education IRA's Savings for Students 
Accounts (SFSA's). Savings for Students Accounts would expand 
the current law contribution limit on Education IRA's from $500 
annually to $2,000 annually. The money set-aside in a Savings 
for Students Account could be used to help pay for both college 
and K-12 education expenses. H.R. 7 also modifies the rules 
governing existing Education IRA's to give parents the ability 
to provide essential education materials and services to 
special needs children.
    I think that everyone would agree that regardless of the 
policies we pass in Washington, the best tool to improve a 
child's education is engaged, caring parents. We cannot 
legislate involved parents. Congress cannot force a parent to 
attend a PTA meeting or to meet regularly with their child's 
teachers.
    But we can make it easier for parents to make a 
contribution to their child's education. For example, under my 
bill, if a student is having difficulty in Math class, a parent 
could use funds set aside in a Savings for Student Account to 
pay for a tutor, buy computer software for the home PC or 
enroll the child in after-school classes. This will help 
parents and teachers work together as powerful allies in the 
effort to improve our children's education.
    Let me also briefly mention some of the other provisions in 
the Education Savings and School Excellence Act. Prepaid 
tuition plans have become an increasingly popular way for 
parents to save for a child's college education. H.R. 7 will 
make distributions from both public and private prepaid tuition 
plans to pay for higher education expenses tax free. 
Representatives English, Granger, and Scarborough all deserve 
credit for their hard-work on this important issue.
    The Education Savings and School Excellence Act also helps 
foster continuing education by encouraging employers to cover 
an employee's undergraduate studies. This is accomplished by 
excluding employer-provided education assistance from an 
employee's income for tax purposes. H.R. 7 will also help 
provide relief from complicated bond arbitrage regulations to 
encourage the construction and rehabilitation of public 
schools. Lastly, my bill excludes amounts received from 
National Health Service Corps Scholarship Program from income 
for tax purposes.
    Last month, the Senate Committee on Finance approved S. 
1134, the Affordable Education Act of 1999, which is similar to 
H.R. 7. The bipartisan efforts of Senator Coverdell, Republican 
of Georgia and Senator Torricelli, Democrat of New Jersey, have 
helped enhance the visibility of this issue in the U.S. Senate. 
It is my hope that this bipartisan spirit of cooperation will 
prevail in the U.S. House and that we will be able to give 
parents the meaningful tools in H.R. 7 to help educate our 
children.
    Helping families save for their children's education while 
improving public education is a win-win proposal. I look 
forward to working with my colleagues on this committee to 
improve the quality of education our children receive.
      

                                


    Chairman Archer. Thank you, Mr. Hulshof. Mr. Graham, would 
you like to commence? We only have 4 minutes left.
    Mr. Graham. I can do this in 2 minutes.
    Chairman Archer. All right. That would be great. You may 
proceed. We are happy to have you.

   STATEMENT OF HON. LINDSEY O. GRAHAM, A REPRESENTATIVE IN 
           CONGRESS FROM THE STATE OF SOUTH CAROLINA

    Mr. Graham. Thank you. Thank you, Mr. Chairman. I would 
hate to have your job. Every tax plan that has been talked 
about and I am probably, I think, a cosponsor of everyone and 
eventually we have got to pick and choose, just as we have to 
do on spending.
    I am here in support of H.R. 1840, the Small Savers Act, 
which has already been testified to regarding about the 
Committee by Mr. Jefferson, who is a Member of your Committee. 
I have got Mr. Clyburn as a cosponsor, Roy Blunt, Alcee 
Hastings, Saxby Chambliss, Matt Salmon, Bob Wexler. This is 
bipartisan. It is something the Congress needs, I think, 
desperately in this area.
    What it does, Mr. Chairman, it addresses the lack of 
savings in this country. One-third of Americans have no 
savings. Another third has less than $3,000. This plan has been 
endorsed by the New York Stock Exchange. Senators Coverdell and 
Torricelli started this concept in the Senate. It has 
bipartisan support there. This bill would pass if we could ever 
get it to the floor and vote on it.
    What it does is it changes the tax bracket for millions of 
Americans by taking the 15-percent bracket and expanding it 
$10,000 over 5 years, $5,000 for singles. By 2004, a family of 
4 making $72,000 will be in the 15-percent bracket, which is a 
break for a lot of Americans. The first $5,000 of capital 
gains, long-term capital gains, is tax free. That helps a lot 
of Americans in their retirement as they get ready to retire. 
The first $500 in dividend and interest income is tax free. 
That helps a lot of Americans who are on fixed incomes with 
small investments to keep more money in their pocket.
    It doubles--not doubles, excuse me, it adds the ability to 
deduct from your IRAs $3,000 rather than $2,000. That would be 
$6,000 per couple and it will be indexed for inflation by 2009. 
It allows Americans to save in the middle-class manner. It has 
bipartisan support. It costs $345.7 billion by 2009, which is 
half of the non-Social Security surplus. Mr. Chairman, if 
Americans had this opportunity, they would have a lot money 
when they retire. They would have a lot more control over their 
lives. We could do some things with Social Security because the 
pressure would be off. This is a plan that allows America to 
save better than it has been able to do in the past. I 
appreciate your review of it.
    [The prepared statement follows:]

Statement of Hon. Lindsey O. Graham, a Representative in Congress from 
the State of South Carolina

    Dear Mr. Chairman and Members of the Committee,
    Thank you for allowing me to testify in support of H.R. 
1840, the Small Savers Act I introduced along with Reps. 
William Jefferson (D-LA) and Robert Wexler (D-FL).
    One-third of Americans have no savings and another one-
third have less than $3,000. With such a low rate of savings, 
many people are not equipped to deal with financial trouble or 
plan for retirement. This is a problem which must be addressed.
    Our legislation, co-sponsored in the Senate by Paul 
Coverdell (R-GA) and Robert Torricelli (D-NJ), is the only 
bipartisan, across-the-board tax relief plan introduced in the 
106th Congress.
    The provisions of the bill include:
    Returning more middle-income taxpayers to the lowest tax 
bracket--The lowest federal tax bracket, 15 percent, will be 
expanded by $10,000 over 5 years, $5,000 for singles. By 2004, 
a family of four making up to approximately $72,000 will still 
be able to file in the lowest tax bracket.
    Reduce taxes on long-term investments--The first $5,000 in 
long-term capital gains is tax-free.
    Encourage savings and investment--The first $500 in 
dividend and interest income is tax-free, $250 for singles.
    Strengthen retirement planning--The contribution limits on 
traditional (deductible) IRA's will be raised from $2,000 to 
$3,000 and be indexed for inflation after 2009.
    By making some income tax-free, the bill also has the added 
bonus of reducing the complexity of the federal tax code and 
allowing more individuals to file their taxes using IRS Form 
1040EZ, the simplest IRS tax form.
    Estimates provided by the Joint Committee on Taxation show 
the costs of the bill, $345.7 billion through 2009, to be one-
half the expected non-Social Security surplus. With the 
government running a surplus, it's only right that we should 
provide the taxpayers with relief.
    Every Member of Congress, whether they're Republican or 
Democrat, has their own ideas about what a tax bill should look 
like. I think if any of the sponsors were given complete 
control, they would draw up something different. But in this 
business, sometimes you've got to give a little here and there 
to get something done.
    That's why I think this bill and the fact we've been able 
to come together is unique. We're addressing the high taxation 
problem in a bipartisan manner. I hope this committee and the 
Congress will look favorably on our work.
      

                                


    Chairman Archer. Thank you very much. I think you and I 
both probably need to go vote. There are 2 minutes left. We 
appreciate your testimony. Well, the Committee will stand in 
recess until we have another Member come back to preside.
    [Recess.]
    Ms. Dunn [presiding]. Please take your seats. The Committee 
will resume its hearing.
    We would like to hear now from Jim Turner, the Member from 
Texas.

STATEMENT OF HON. JIM TURNER, A REPRESENTATIVE IN CONGRESS FROM 
                       THE STATE OF TEXAS

    Mr. Turner. Thank you, Ms. Dunn. It is a pleasure to appear 
before the Committee, and I appreciate very much the 
opportunity to testify on an issue that is very important to me 
and my district, and I know to you and yours, and the 
legislation that I testify about today is of course very 
similar to a piece of legislation that you also have 
introduced, and so I appreciate this opportunity.
    H.R. 1916 is the Reforestation Tax Relief Act of 1999. It 
deals with an issue that is very important to many of us. In 
fact, there are over 100 members of the Forestry 2000 Task 
Force that are heavily dependent upon the forest products 
industry in their particular districts. I know in my case that 
forestry is the number one industry in my congressional 
district.
    Back as early as 1980, the Congress recognized that there 
needed to be some incentive for landowners to reforest their 
lands. It is not only good for the economy but it is good for 
the environment, and the Congress passed a tax credit to allow 
those who plant pine trees or timber on their lands to receive 
a tax credit and to be able to amortize their expenses over a 
period of time. Current law provides an amortization period of 
7 years and a maximum investment tax credit of 10 percent of a 
$10,000 maximum expenditure for amortization purposes.
    My bill does a very simple thing: it simply doubles those 
numbers. It allows the writeoff of $25,000 in expenses for 
reforestation and increases, of course, correspondingly, the 
investment tax credit to 10 percent of that amount, and it 
shortens the amortization period from 7 years to 3, thus trying 
to increase the incentive for private landowners to reforest 
their lands.
    The charts I have at the right will pretty well tell the 
story. If you look at the East Texas area that I represent, 
what you see--depicted on the first chart--is the ownership of 
forest lands in East Texas. That first chart shows you that the 
public lands of the national forest are about 7 percent; it 
shows you that the forest products industry, the large timber 
companies, own about 32 percent of the land; and small 
landowners, which I call the nonindustrial, private landowners, 
own about 61 percent. On the next chart, you see what is 
happening in terms of reforestation of those forest lands. It 
shows you that the forest products industry, the large timber 
companies, are doing a pretty good job. They harvest about 
73,000 acres of land on average in a year, and they are 
replanting about the same amount, about 99 percent. On the 
other hand, the small, private landowners, the mom-and-pop 
folks who own a little land and hopefully would be encouraged 
by this legislation to plant pine trees, are not doing that 
currently. Apparently, the current incentive in the law is not 
sufficient. They are harvesting 91,000 acres in an average year 
and only replanting about 40 percent of that. My bill is 
directly aimed to try to encourage those small landowners to 
replant their trees.
    Now, why is this important? Let us see the next chart. What 
you see is that for a number of years in an area like East 
Texas--and I suspect you will find this pretty much true all 
across the South and the Southeast--that through about 1964 and 
1987, in East Texas, we were actually growing more timber than 
we were harvesting. That trend reversed in about 1987, and you 
see the projections in the outyears. We will harvest more 
timber than we plant. That is a very dangerous trend for the 
economy of regions like mine because it is essential that the 
forest products industry has access to an adequate supply of 
timber at a reasonable price if we are going to be competitive 
in the international market in producing lumber and paper and 
other forest products. If we allow the supply to diminish, 
those mills that depend upon that supply will have to pay 
higher prices. The law of supply and demand will govern, and 
these mills will have to pay higher prices for that raw 
product, and our forest products will not be competitive either 
in our country or internationally. Therefore, the survival 
economically of areas like mine depends upon how good a job we 
do in replanting our forest so that we can have the kind of 
supply that is necessary.
    The next chart shows you the environmental benefits of 
reforestation; they are obvious--the absorption of carbon 
dioxide and the preservation of wetlands. Reforestation is 
essential so that we don't cut trees where we shouldn't be 
cutting them.
    On the final chart you will see the economic impact of 
reforestation. The Texas Forest Service that provided the data 
that you see here today has as its goal the reforestation of 1 
million acres within 10 years in Texas. That would generate--if 
we were successful--new jobs for East Texas. You see the 
numbers there--15,000 jobs and an added $3 billion to the 
economy.
    So, I would urge the Committee to seriously consider this 
legislation. I think it is important for the economic and 
environmental impacts it will have on many of our districts in 
the long term.
    [The prepared statement and attachments follow:]

Statement of Hon. Jim Turner, a Representative in Congress from the 
State of Texas

    Thank you very much, Mr. Chairman, Mr. Rangel (NY), members 
of the Committee. Thank you for asking me to come here before 
you this morning.
    It is truly a pleasure to be able to testify, with my 
fellow colleagues, before the House Ways and Means Committee 
regarding such an important issue as providing needed and well-
deserved tax relief to Americans. As members of Congress, 
American families and businesses are relying on us to deliver 
meaningful tax relief. It is my belief that as a result of this 
hearing, Congress will be better suited to take the necessary 
steps to provide substantial tax relief to millions of 
Americans.
    As part of this effort, I recently reintroduced H.R. 1916, 
the Reforestation Tax Relief Act of 1999, which will provide 
expanded and immediate tax incentives to encourage timberland 
owners to reforest their lands. Representing over 150,000 
private forest landowners in my congressional district, I 
realize the importance of maintaining a strong and viable 
forestry industry in the United States and am convinced this 
legislation is a step in the right direction for our economy 
and for our environment.
    The economy of the Second District of Texas and many of the 
districts represented by the 107 Congressional members of the 
Forestry 2000 Task Force are heavily dependent on the long-term 
viability of the forestry industry. We must act today to 
provide needed tax incentives to landowners to encourage the 
replanting of our forests. If we do not act now to promote 
reforestation practices, through improved and immediate tax 
incentives, we will be unable to maintain a competitive forest 
and wood products industry with reasonable timber prices in the 
future. In addition, the ecological impact on the quality of 
our environment will be severe for many generations to come.
    The decision to reforest, particularly after harvesting, 
can be a difficult one. Evidence shows that America's larger, 
industrial land owners and foresters are doing an acceptable 
job of reforesting; however, our smaller, non-industrial forest 
owners need added incentives to help in the reforestation 
process. Since 1985, the amount of timber harvested in Texas 
has exceeded the annual growth rate of reforestation efforts 
and future harvests are projected to substantially outpace 
annual growth of replanting activities on commercial 
timberland. As a matter of fact, in Texas, non-industrial 
foresters harvest an estimated 91,000 acres per year but only 
replant 36,000 acres per year. For the sake of our nation's 
forests, for the sake of our environment, for the sake of our 
economy, and for the sake of all Americans, this alarming trend 
must be halted.
    A shortage of timber in the future will mean that forests 
will continue to disappear, our nation's beautiful environment 
will ultimately suffer, and we will see higher prices for raw 
material, which will in turn make it difficult to survive in an 
increasingly competitive market. The expenses are high and the 
eventual benefits of reforestation are long term because of the 
simple fact trees must grow for many years until mature enough 
for harvesting. I believe this legislation is necessary to 
overcome the economic reality faced by those involved in this 
industry. Reforestation is good for the environment, good for 
economy and good for the industry.
    H.R. 1916 addresses the concerns I mentioned before by 
making simple changes to existing law through increasing the 
amount of reforestation expenses that can be amortized from 
$10,000 to $25,000 per year, reducing the required amortization 
period from 84 to 36 months, and increasing the annual tax 
credit from $1,000 to $2,500 for reforestation expenses. With 
these changes, forest landowners will be encouraged to operate 
in an ecologically sound manner that leads to the expansion of 
investment in this vital natural resource. Several House 
Members have cosponsored this legislation in a show of 
bipartisan support, which translates into potential good news 
for the future stability of our forestry-based economy.
    Environmentalists agree that reforesting can have numerous 
benefits for the environment. By replanting our nation's 
forests we will also further protect our wetlands, streamside 
and wildlife management zones and critical habitats. 
Additionally, the planting and replanting of trees will help 
reduce levels of unhealthy carbon dioxide and produce increased 
levels of oxygen into the atmosphere. Furthermore, 
reforestation will help to address the growing concerns 
associated with noise and air pollution. Lastly, by promoting 
reforestation tax incentives, landowners will continue to 
transform marginal and highly erodible agricultural land, which 
is used for livestock and commodity production, into 
ecologically beneficial forestland. While I realize the 
expenses are high and the eventual benefits of reforestation 
may seem years down the road since trees must grow for many 
years until mature enough for harvesting, I believe we can all 
agree that reforestation is not only good for the economy, but 
is good and needed for the environment.
    Other states across America can learn from what we are 
doing in my home state. The goal of the forestry community in 
Texas is to reforest 1 million acres over the next ten years 
which will generate more than 15,000 new jobs in the forest-
based economy and an additional $3 billion to the economy 
annually. By all working together, we can make sure the economy 
and the environment of the 21st Century will be strong and 
thriving for future generations.
      

                                


[GRAPHIC] [TIFF OMITTED] T0841.003

[GRAPHIC] [TIFF OMITTED] T0841.004

[GRAPHIC] [TIFF OMITTED] T0841.005

[GRAPHIC] [TIFF OMITTED] T0841.006

[GRAPHIC] [TIFF OMITTED] T0841.007

[GRAPHIC] [TIFF OMITTED] T0841.008

[GRAPHIC] [TIFF OMITTED] T0332.021

      

                                


    Ms. Dunn. Thank you very much, Mr. Turner. You are, in 
fact, correct. It also affects my district and I know many 
others around this Nation.
    We will hear next from the gentleman from Indiana, Mr. 
McIntosh.

   STATEMENT OF HON. DAVID M. MCINTOSH, A REPRESENTATIVE IN 
               CONGRESS FROM THE STATE OF INDIANA

    Mr. McIntosh. Thank you very much, Ms. Dunn, and thank you 
for allowing me to have an opportunity to come before the 
Committee once again to testify about the Marriage Penalty 
Elimination Act that Jerry Weller and Pat Danner and I have 
cosponsored this year. The Committee has already heard from 
both of them on this, and they explained in great detail the 
legislation, which I know this Committee is familiar with. So, 
I would ask permission to summarize my remarks and include the 
full specs into your record.
    Chairman Archer [presiding]. Without objection.
    Mr. McIntosh. Thank you, Mr. Chairman.
    This bill is widely supported--19 of the 23 Republican 
Members of the Committee are in support of it; 230 of our 
colleagues are cosponsors, including a number of our colleagues 
on the Democratic side of the aisle. It is a bill that 
everybody agrees should become law. The task for the Committee 
is to decide how best to do that in the context of a 
reconciliation bill.
    Last year, I brought two of my constituents here--Sharon 
Mallory and Darryl Pierce--and I wanted to remind the Committee 
about that, because in a way their plight demonstrates the 
urgency of passing this legislation. They explained to the 
Committee that they work for about $10 an hour at a factory in 
Connersville, Indiana. They decided they wanted to get married, 
went to H&R Block, and were told that Sharon would have to give 
up her $900 tax refund, and they would be penalized about 
$2,100 if they got married. This happens to millions of people 
across the country. They ended up postponing their marriage. It 
broke my heart when I saw their letter. Well, Sharon called our 
office last week to ask, ``How is Congress doing on this?'' And 
we were able to tell her that the Committee is taking up the 
tax bill once again, but, frankly, we hadn't been able to get 
anything done last year. Although the Committee did part of it 
in its bill and the House passed that, we couldn't get the 
Senate to act. And I told her I am optimistic that this year we 
will see some work done, and she said, ``Good.'' I asked her if 
she had gotten married yet, and they still haven't gotten 
married; still are waiting for some action. They can't afford 
to, she said, without some action being taken to eliminate this 
marriage penalty tax.
    And, so I come before you today, and in my remarks I talk 
about the harm to children for families that break up, the harm 
to working women who pay a disproportionate share of this tax 
if they decide to go back into the work force after their 
children have been raised, and the harm to minorities who, in a 
disproportionate number, are the families in which both the 
father and the mother work in order to make enough money to 
raise their family.
    But let me just close by saying to the Committee, I commend 
you moving forward this year on a tax bill. I know that you are 
constrained by the reconciliation instructions in the Budget 
Act and that you will hear from a lot of people with very good 
proposals for changing our Tax Code and that it will be a 
struggle to fit all of those into the limited amount of tax 
cuts that can be brought forward under those reconciliation 
proposals. Having seen the Committee work in the past, I know 
you will do the best of squeezing as many good provisions into 
those limitations as possible, but let me urge you to go beyond 
what you were able to last year with the deductions since there 
is more money and, at least, taking a look in a 10-year 
perspective, try very hard to eliminate the bracket effects so 
that the constituents that Jerry mentioned in his testimony 
truly will have their problems solved, and they won't be caught 
in those bracket shifts where suddenly they are thrown from a 
15-percent marginal tax rate into a 28-percent marginal tax 
rate just because they are both working and they are married.
    With that, let me say thank you to the Committee for giving 
us an opportunity to come and testify, and thank you for taking 
up this tax bill once again. It is going to be a difficult 
task, but I think it is critical for us in this Congress to 
move forward with that.
    Thank you.
    [The prepared statement follows:]

Statement of Hon. David M. McIntosh, a Representative in Congress from 
the State of Indiana

    Mr. Chairman and members of the Committee, I welcome the 
opportunity to come before you once again to urge this 
committee to eliminate the Marriage Penalty, the insidious 
quirk in the tax code that actually penalizes people for 
getting married. Since 19 of the 23 Republican members of this 
committee are cosponsors of the Weller-McIntosh Marriage Tax 
Elimination Act, I know many of you share my desire to get rid 
of this tax once and for all.
    Last year, if you remember, I brought two constituents of 
mine, Sharon Mallory and Darryl Pierce, who are victims of the 
marriage penalty to share their story before this committee. 
Sharon and Darryl could not afford to get married because of 
the incredible tax bite that would result from tying the knot. 
They still aren't married and contacted my office just this 
last Monday to find out if Congress had taken action yet. It 
was embarrassing to tell them that Congress has done nothing. 
It is time to act. I honestly can't find anyone who supports a 
designed government policy which undermines the traditional 
institution of the family and discriminates against women and 
minorities.
    The marriage penalty entered our tax code thirty years ago 
and has contributed to the decline of the family. Our nation 
has seen a decrease in marriage and increase in divorce. 
Divorce is reaching epidemic levels. Twice as many single 
parent households exist in America today as when the marriage 
penalty came into effect.\1\ The terrible financial strain 
caused by the marriage penalty contributes to the decline of 
the family. Simply put, the marriage penalty is doing great 
harm to our society by frustrating family cohesion.
---------------------------------------------------------------------------
    \1\ The Statistical Abstract of the United States, Department of 
Commerce, Table No. 146, ``Marriages and Divorces,'' p. 104: 1996.
---------------------------------------------------------------------------
    The devastating consequences of divorce on parents and 
children are well documented. When parents divorce, they are 
likely to die earlier, their general health is worse, and 
sadly, many divorced adults, particularly young mothers, are 
thrown into poverty.\2\ The effects on children are no less 
destructive. The National Fatherhood Initiative has shown that 
where divorce occurs, the children are more prone to violence, 
illegal drugs, suicide, and
---------------------------------------------------------------------------
    \2\ Dr. Wade Horn, The National Fatherhood Initiative, ``Father 
Facts 2,'' p.10: 1997.
---------------------------------------------------------------------------
    dropping out of school. Over Ninety percent, Ninety 
percent!, of children on welfare are from homes with only one 
parent.\3\
---------------------------------------------------------------------------
    \3\ Ibid.
---------------------------------------------------------------------------
    And by the way, don't interpret these facts as an attack on 
single mothers. I was raised by a single mom. I know the 
sacrifices she made for us. Single moms are heroes born out of 
necessity.
    Let us simply get rid of the government penalties that help 
break up families. Beyond its effects on our core institution 
of marriage, its effects on working women and minorities are 
particularly devastating.
    The marriage penalty could equally be known as ``The Tax on 
Working Women.'' When the marriage penalty was proposed, 
America was a far different place. Most women were not yet in 
the workforce. Today, 75 percent of married couples have two 
incomes.\4\ The marriage penalty always hits the second-earner 
hardest. Therefore, this tax clearly discriminates against 
women who may enter and leave the workforce according to their 
needs at home. They sometimes face a marginal tax rate of an 
astounding 50%! \5\ Taxing mothers unfairly for simply wanting 
to provide for their families is wrong. The Weller-McIntosh 
legislation provides much greater freedom for women to work 
without having to worry about the taxman.
---------------------------------------------------------------------------
    \4\ The Congressional Budget Office, ``For Better of for Worse: 
Marriage and the Federal Income Tax,'' (June 1997), Table 10, p.39.
    \5\ The Greater Washington Societies of Certified Public 
Accountants, Sept. 1997
---------------------------------------------------------------------------
    African-Americans are especially hard hit by the marriage 
tax. As you may know, the marriage penalty occurs when both 
spouses work and make roughly the same income. Black women 
historically have entered the workforce in larger numbers than 
white women. According to a University of Cincinnati Law School 
Study by Dorothy Brown, 73% of married back women are 
breadwinners and black women contribute approximately 40% of 
their household's income.\6\ Our legislation brings fairness 
back into the tax code so that African-American women and 
families can keep more of their hard earned money to provide 
for their children.
---------------------------------------------------------------------------
    \6\ Dorothy Brown, ``The Marriage Bonus/Penalty in Black and 
White,'' University of Cincinnati Law Review (Spring 1997), p.5.
---------------------------------------------------------------------------
    Who is against our bill? Only someone who believes that big 
government is a higher priority than families. I am sick and 
tired of hearing that the federal government can't afford the 
passage of this bill. Did anyone in Washington ask married 
couples if they could afford the $1,400 marriage penalty 
imposed on them? The federal government can tighten its belt to 
help families. I contend that we have no choice but to pass 
this measure because of its hurtful effects on families.
    Mr. Chairman, I want to conclude on the subject of 
families. At a time when we are witnessing the almost 
unthinkable horror of kids killing kids, I think we can all 
agree that the need for strong families is greater than ever. 
Realistically, Congress cannot do a great deal to build 
stronger families. That process starts in our homes, churches, 
and communities. However, one thing the Congress can do is 
eliminate the marriage penalty.
    We have a choice. We can continue down the path of 
undermining the family and having more children brought up 
without knowing the difference between right and wrong. Or we 
can choose a different path: a path based on the firm 
conviction that the family must be the foundation of our 
society. We can choose a path where families are lifted up--not 
punished by government. We can provide a place where young 
people like Sharon and Darryl can find happiness and finally be 
married.
    I realize that official Washington scoffs at the idea of 
strengthening families, but the American people have a special 
wisdom in these matters. They understand how important this 
effort is in light of recent events. The American people will 
support eliminating this unfair tax. It is crucial that we 
succeed because the future of the family and the future of 
America are inseparable.
    Thank you, Mr. Chairman.
      

                                


    Chairman Archer. Thank you, Mr. McIntosh, and thank you for 
your leadership on this issue. We appreciate your testimony.
    Our next witness is Mr. Turner. Have you testified yet?
    Mr. Turner. Yes, Mr. Chairman, while you were out.
    Chairman Archer. All right. Our next witness is Congressman 
Baird. Welcome, and we are pleased to receive your testimony.

  STATEMENT OF HON. BRIAN BAIRD, A REPRESENTATIVE IN CONGRESS 
                  FROM THE STATE OF WASHINGTON

    Mr. Baird. Thank you very much, Mr. Chairman. It is a 
pleasure and a privilege to be here to address an extremely 
important issue of fairness and equity in the Tax Code. Before 
I talk about the particular issue, which is sales tax 
deduction, I would like to acknowledge my support of 
inheritance tax reform in the bill, offered by my colleague 
Congresswoman Dunn and my friend, Mr. Tanner, as well. I think 
it is another bill whose time has come, and we need to move 
forward on that.
    Mr. Chairman, for good intent, I am sure, the 1986 tax 
reform bill eliminated the sales tax deduction which was 
necessary, perhaps, at the time to help us balance the budget, 
but it created an inequity between States, including States 
such as yours, mine of Washington, Wyoming, Tennessee, and 
Florida; those States that have no income tax but pay only 
sales tax. Every year, when it is time to fill out our Federal 
tax refund--or, hopefully, refund--our Federal tax return, 
residents of States that have income tax are able to deduct the 
amount they pay to their State in income tax, but those of us 
with only sales tax have to enter a zero on that line. It is my 
belief, and, certainly, the belief of many residents of my 
State and the other affected States that this is unfair.
    What we have proposed to remedy this is H.R. 1433. We have 
about 30 cosponsors, and, essentially, it is a very simple 
proposal. It would allow residents of States to deduct either 
their income tax or their sales tax. We have made it an either/
or choice to reduce the scoring impact, but our goal is to 
restore at least a modicum of fairness to people from different 
States. Simply put, we don't believe it is the Federal 
Government's role to dictate to States whether they should have 
an income tax or a sales tax to support their State government, 
but that is effectively what the current Federal Code does. So, 
by giving a choice, we restore some tax fairness, and we keep 
the scoring impact to a minimum.
    Like all my colleagues here, I am committed to a balanced 
budget, and there has been, indeed, many good proposals put 
forward for how we might adjust the Tax Code, but, for myself, 
I think the top priority should be restoring fairness across 
States.
    One other issue I want to briefly address and that is some 
tax relief for victims of disasters. Particularly in my 
district, there are folks who have lost all of their belongings 
to a slow-moving landslide. It has eliminated 130 homes, and 
they were unable, completely unable, to buy insurance for this 
kind of disaster. As a result, should they be fortunate enough 
to have their mortgage forgiven, under current code, that could 
be counted as a gift, and they would pay full taxes on a house 
that has been completely destroyed. We will be introducing some 
legislation to provide tax relief to a very small but important 
subset of folks who have lost their possessions and home in a 
disaster, and I hope the Committee will look favorably on that.
    I would like, if I may, to yield a couple of minutes to my 
colleague, Mr. Clement, from Tennessee, to further address the 
issue of sales tax deduction.
    [The prepared statement follows:]

Statement of Hon. Brian Baird, a Representative in Congress from the 
State of Washington

    Thank you, Mr. Chairman.
    Mr. Chairman and members of the Committee, I'm honored to 
be here today for this extremely important hearing, and I truly 
appreciate the opportunity to share some specific tax concerns 
that have put a strain on constituents in my home state of 
Washington.
    I'm here primarily to discuss tax fairness in the context 
of the federal sales tax deduction; but with the Chairman's 
consent, I would like to take just a moment to mention my 
strong support for legislation that my colleague from the state 
of Washington, Congresswoman Dunn, and the distinguished 
gentleman from Tennessee, Mr. Tanner, have introduced to repeal 
the estate tax. I also want to take a moment to discuss 
measures that I have proposed to provide relief to certain 
disaster victims.
    Let me initially discuss the difficulties with the estate 
tax. In addition to some fundamental problems with the tax that 
seriously harm family-owned small businesses and smaller family 
farms, I think there are a few rarely-mentioned reasons for its 
repeal. One, many of the family-owned small businesses with 
more capital assets than covered by the exclusion employ many 
people at good family wages, especially within smaller 
communities, and often reinvest generously in those 
communities. Yet, far too often, the estate tax forces families 
to sell such businesses to larger corporate interests with less 
involvement in the community and less interest in maintaining a 
strong, well-paid local workforce.
    Second, in my district, and I know that Congresswoman Dunn 
understands this well, we have a lot of family foresters who 
have been very good stewards of the land over many years. 
However, the estate tax may force the families of many of these 
land-owners to sell off all or part of that forest land before 
it reaches full maturity. So it is my belief that there are 
good labor and environmental reasons to provide additional 
estate tax relief.
    Now, if I may return to the principle theme of my 
testimony, I will explain the rationale for restoring the sales 
tax deduction. In principle, Mr. Chairman, I believe that the 
federal government must strive to avoid tax policies that favor 
residents of some states over others. Unfortunately, I believe 
that one egregious failure to adhere to this principle is found 
in the manner in which the federal government allows taxpayers 
to deduct state and local taxes.
    I'm sure, Mr. Chairman and members of the Committee, that 
you are well aware of the problem. Simply put, residents of 
states without state income taxes now pay a greater percentage 
of taxes to the federal government than residents of states 
with state income taxes. Solely on account of the system of 
taxation their state uses to collect revenues, they pay more 
federal tax. That differential treatment of taxpayers is a 
profound inequity that the 106th Congress should rectify.
    The repeal of the sales tax deduction in 1986, although 
well intended, resulted in a significant disparity between 
states. By disallowing state sales tax deductions, but 
retaining state income tax deductions in the federal code, we 
now have a system in which one individual with an income and 
financial profile that is identical to another person may pay 
higher taxes to the same federal government simply because they 
live in different states. As a result, residents of states such 
as Texas, Florida, Washington, Tennessee, South Dakota, Nevada, 
Alaska, Wyoming, and New Hampshire, pay more in federal taxes 
than residents of equal income in other states. In effect, 
residents of states without income taxes are underwriting a 
disproportionate share of the federal budget.
    It's not that Washingtonians pay less in taxes. On the 
contrary, we're in the top quarter of states in amount of our 
personal income that goes to taxes. The question becomes, 
should residents of my state pay hundreds more dollars per year 
to the federal treasury for nothing more in return, than those 
individuals living across the river in another state. I believe 
that they should not.
    To remedy this situation, I have proposed legislation, 
along with about 30 cosponsors, including several members of 
this committee, that will restore the sales tax deduction for 
taxpayers in states that do not have an income tax. My measure 
would allow taxpayers to deduct either their state income tax 
or state sales taxes paid in a given year. By giving a choice 
of deducting either sales or income tax, the budgetary scoring 
is kept to a minimum, but equity and fairness are restored 
across states.
    To keep the sales tax deduction simple for taxpayers, under 
this legislation the Internal Revenue Service would be directed 
to develop standard tables for taxpayers to use in determining 
their average sales tax deduction. Such tables, similar to 
those used by taxpayers prior to 1986, would include average 
calculations, based upon income and household size, for a 
taxpayer in a given state. The bill does not restore the 
itemized deduction of individual purchases; it only allows 
taxpayers to deduct an averaged amount based on income level 
and family size.
    I, like all of my colleagues in this body, am committed to 
maintaining a balanced budget, and I am also committed to the 
principle of equal taxation as dictated by the Constitution. 
But, as we wrestle with the options for spending projected 
budget surpluses in the foreseeable future, I ask my colleagues 
to put themselves in the position of more than 50 million 
taxpayers who live in sates with no income tax and no means of 
deducting sales taxes; and I ask that we prioritize the 
restoration of fairness for taxpayers nationwide.
    So, as you review the many tax relief proposals before you 
today and if, in fact, the committee develops legislation to 
provide relief in this Congress, I strongly encourage you to 
consider this common-sense proposal, for the simple reason that 
it is the right thing to do.
    Mr. Chairman, I have one final issue that I would like to 
bring to the committee's attention a situation in my district 
that warrants significant tax relief.
    Since before I was sworn in as a member of this body, I 
have been working with a group of constituents from the City of 
Kelso, in my Southwest Washington district, to provide 
assistance to their disaster-torn community.
    This city has literally has been torn apart by slow-moving 
landslides that resulted from heavy rainfalls. During the last 
14 months, more than 130 homes have been destroyed by those 
landslides, and the remainder of the homes in the area may 
suffer the same fate in the next 5 to 10 years.
    What differentiates this disaster from many others is the 
fact that insurance was not readily available for this type of 
disaster--in fact, most homeowners policies specifically 
exclude mudslides as a covered peril--and now many of these 
folks have lost nearly everything they own.
    Therefore, Mr. Chairman, I have devised some targeted tax 
measures that would assist individuals in this type of 
situation, in state or federally-declared disaster areas 
resulting from disasters for which insurance is not readily 
available. First, my measure would clarify the law to ensure 
that any discharge of debt provided to these homeowners would 
not be taxable as income. Second, it would establish a tax 
credit to help those taxpayers whose homes are destroyed, but 
who are required to continue paying mortgage payments on their 
destroyed home. Additionally, it would adjust the computation 
of the casualty loss deduction by allowing taxpayers to deduct 
the fair market value of a home, instead of only the basis in 
the home as permitted under current law. Finally, Mr. Chairman, 
in those cases where the homeowner is fortunate enough to sell 
a home located in such a devastated area, which may or may not 
have been irreparably damaged but may be severely devalued, 
this legislation allows taxpayers to deduct the full value of 
that loss.
    Mr. Chairman, I would be happy to include a copy of this 
legislation, which I am introducing this week, with my 
testimony. I realize that the situation in my state may be 
unusual, but as such, the impact of this measure on the federal 
government should be limited. However, it's impact in helping 
to rebuild the lives of our disaster victims would be enormous.
    At this point, Mr. Chairman, I would be happy to answer 
questions from members of the committee about any of this 
testimony.
    Again, I want to thank you, and members of the committee 
for graciously granting me this opportunity, and I yield back 
the balance of my time.
      

                                


    Chairman Archer. Mr. Clement.
    Mr. Clement. Thank you, Mr. Chairman. It is a pleasure to 
be here before this distinguished Committee and be associated 
with Mr. Baird, who I think so much of, and his legislation 
that offers so much to all of us. I also want to agree with him 
about the legislation proposed by Ms. Dunn and Mr. Tanner, 
which I strongly support on eliminating the inheritance tax.
    In 1997, the citizens of Tennessee paid an average of $927 
in State and local sales taxes but could not deduct $1 of it 
from their Federal income tax returns. So, basically, 
Tennesseans are being forced to pay taxes on their taxes, just 
like Texas and the other States that do not have an income tax. 
My colleagues, this is just not right. In fact, Tennessee 
Lieutenant Governor John Wilder is exploring options for filing 
a class-action lawsuit against the Federal Government asserting 
that the citizens of Tennessee are being discriminated against 
simply because they live in a State that has chosen not to 
enact a State income tax.
    Mr. Chairman, I submit to you that the Federal Government 
should treat all taxpayers equally regardless of the system of 
taxation their State employs. The Tax Deduction Fairness Act 
simply would allow taxpayers to deduct either their State 
income tax or State and local sales taxes from their Federal 
income tax returns. We have an opportunity to restore fairness 
and equity to the Tax Code in this Congress without making the 
Tax Code more complex and without abandoning our fiscal 
discipline.
    In addition, this legislation would return to the States 
the decision of how to fund their operations by removing the 
incentive toward a State income tax from the Federal Tax Code. 
Regardless of your views on income taxes, sales taxes, or some 
alternate tax structures, I am sure you would agree that States 
should have the right to decide for themselves how they want to 
collect their revenues without interference from the Federal 
Government.
    In closing, I would like to thank Congressman Baird for 
introducing this important legislation, and I hope that the 
Committee will consider including it if there should be a tax 
relief package in this Congress.
    Thank you, Mr. Chairman.

Statement of the Honorable Bob Clement, M.C., Tennessee

    Thank you, Mr. Chairman. I appreciate the opportunity to 
appear before the Committee today to testify about an issue of 
fundamental fairness for the citizens of Tennessee as well as 
the other seven states that do not have a state income tax. In 
1986, the state and local sales tax deduction was eliminated 
from the federal tax code in an effort to expand the tax base. 
While well-intentioned, the elimination of the sales tax 
deduction created a fundamental inequity between states that 
have adopted an income tax and those that have not. That's 
because, under the current tax code, sales tax paid on the 
purchase of goods or services cannot be deducted from an 
individual's tax return, while state income tax can be 
deducted.
    In 1997, the citizens of Tennessee paid an average of $927 
in state and local sales taxes but could not deduct one dollar 
of it from their federal income tax returns. So basically, 
Tennesseans are being forced to pay taxes on their taxes. My 
colleagues, this is just not right. In fact, Tennessee 
Lieutenant Governor John Wilder is exploring options for filing 
a class action lawsuit against the federal government asserting 
that the citizens of Tennessee are being discriminated against 
simply because they live in a state that has chosen not to 
enact a state income tax. Mr. Chairman, I submit to you that 
the federal government should treat all taxpayers equally, 
regardless of the system of taxation their state employs.
    The Tax Deduction Fairness Act simply would allow taxpayers 
to deduct either their state income tax or state and local 
sales taxes from their federal income tax returns. We have an 
opportunity to restore fairness and equity to the tax code in 
this Congress without making the tax code more complex and 
without abandoning our fiscal discipline.
    In addition, this legislation would return to the states 
the decision of how to fund their operations by removing the 
incentive toward a state income tax from the federal tax code. 
Regardless of your views on income taxes, sales taxes or some 
alternate tax structures, I'm sure you would agree that states 
should have the right to decide for themselves how they want to 
collect their revenues without interference from the federal 
government.
    In closing, I would like to thank Congressman Baird for 
introducing this important legislation and I hope that the 
Committee will consider including it if there should be a tax 
relief package in this Congress. Thank you, Mr. Chairman.
      

                                


    Chairman Archer. Thank you, Mr. Clement.
    Our last witness today is Congressman Crowley from New 
York. Mr. Crowley, we are glad to have you before the 
Committee. You may proceed.

STATEMENT OF HON. JOSEPH CROWLEY, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF NEW YORK

    Mr. Crowley. Thank you, Chairman Archer and Ranking Member 
Rangel, for giving me the opportunity to talk about the 
overcrowding and structural problems faced by our schools and 
the need for the House of Representatives to provide tax-based 
relief for those problems. My colleague from New York, Mr. 
Rangel, has introduced legislation, H.R. 1660, which I believe 
will provide substantial relief to communities across this 
country at the least cost to the Federal Government.
    Mr. Chairman, I represent the Seventh Congressional 
District in New York, which encompasses parts of Queens and the 
Bronx. The schools in my district face similar problems to 
schools all across this country. The New York City School 
District is the largest in the Nation, serving over a million 
students, and I represent the Community School District 24, the 
most overcrowded school district in the city, which operates at 
114 percent over capacity. In total, I represent 3 of the 10 
most overcrowded schools in the City of New York. Over the next 
10 years, this number will increase, and five of the six school 
districts I represent will be operating over capacity. School 
District 24, by the year 2007, is predicted to be operating at 
168 percent over capacity.
    These charts I have brought here show the situation faced 
by five school districts located within my congressional 
district--you all have copies of these charts. This first chart 
illustrates the enrollment versus the capacity of high schools 
in Queens--this is enrollment, this is capacity. The second 
chart illustrates the enrollment versus the capacity of high 
schools in the Bronx. Again, the enrollment on the left, 
capacity on the right. The third chart I have shows the 
enrollment versus the capacity of elementary schools and 
intermediate schools in Queens County. This fourth chart I have 
shows that even after an aggressive building and modernization 
plan by the City and State of New York, the City of New York 
will not have enough seats for its students. In fact, by the 
year 2007, Queens County is predicted to comprise 66.3 percent 
of the shortage in New York City. And, last, this chart shows 
how every single school district in Queens will be operating 
over capacity within the next 10 years, not by just a few 
students, but between 5,000 and 10,000 students per district 
will not have seats in Queens County.
    New York City and Queens, in particular, is facing a 
rapidly growing school-age population. In Queens, the school 
enrollments are increasing by a minimum of 30,000 students 
every 5 years. The school system simply cannot handle this 
rapid growth. In fact, the schools cannot handle the current 
level of student enrollment. The average New York City school 
was built 50 years ago--1 in 5 is over 75 years of age--and 
these older schools do not meet the needs of the 21st century. 
Some, such as P.S. 87 in Middle Village, Queens, still uses 
coal to heat its school. Others have converted closets, 
bathrooms, and even hallways have been converted into 
classrooms.
    In this first picture I have here--it is in District 30 of 
my district--where you see 50 students and 2 teachers teaching 
a regular kindergarten classroom in one room; 50 students in 
one room. The second picture I have here is a picture of a 
class being taught in the hallway in my district. And the third 
picture I have here is a picture of a class being taught in a 
closet.
    In May, I hosted an education roundtable in my district. I 
invited every school principal and superintendent to that 
roundtable in my district. We had a great discussion, and the 
overwhelming feeling was that we need new schools constructed 
and the existing schools to be modernized. I recently sent out 
a survey asking school principals regarding their schools. The 
survey asked questions about the makeup of the student body, 
the school's infrastructure as well as safety concerns and 
parental involvement. The majority of these principals were 
concerned about the infrastructure. One school, P.S. 11 in 
Woodside, Queens, has had to convert their locker rooms, shower 
rooms, and supply closets into classrooms. This is in addition 
to the temporary classrooms constructed to accommodate the 
increased student population. I would also add that P.S. 229, 
where I went to grammar school, not only has temporary 
classrooms but has built an additional wing, and the 
schoolyard, where I grew up and played, no longer exists. The 
Renaissance High School in Jackson Heights operates on two 
shifts--from 7:50 a.m. until 5 p.m. at night. What happens to 
the important extracurricular activities? How about school 
sports participation? How about volunteer work by students or 
even after-school jobs? A vital part of our students' overall 
academic experience is being denied to them, and our students 
and our communities are the true losers.
    Mr. Chairman, I think you will agree that the schools in 
New York City and in many other cities and towns across this 
Nation are in a state of crisis. Local communities and States 
simply do not have the resources to adequately modernize and 
construct enough new schools to meet the growing enrollment 
demands.
    A commonsense, tax-saving proposal is Representative's 
Charles Rangel's H.R. 1660, the Public School Modernization Act 
of 1999. H.R. 1660 contains two tax provisions that will help 
schools to modernize their buildings and relieve overcrowding 
conditions. Using tax credits, Mr. Rangel's bill will provide 
approximately $24 billion in interest-free funds for school 
modernization projects and new building construction. 
Essentially, the bill is tax-exempt bond financing for school 
districts. It does not add to the Tax Code or provide for 
direct appropriations to States; rather, it would allow State 
and local governments to issue qualified school construction 
bonds to fund construction or rehabilitation of public schools. 
Interest on these qualified bonds would in effect be paid by 
the Federal Government through an annual tax credit to the 
bondholders on the amount of interest accrued. An additional 
benefit of this proposal is that communities whose schools 
offer bonds will not have to face increased taxes, thereby 
decreasing the tax burden for our less fortunate communities. 
Above all, the bonds provide our communities with a flexible 
and cost-effective approach to school modernization and 
construction.
    I understand there are alternatives out there to Mr. 
Rangel's bill. However, H.R. 1660 is unique in that it 
allocates half of its bond authority base on the existing 
Federal Title I grants formula and the other half to the 
hundred school districts in the country with the largest number 
of low-income students. The alternative uses a 50/50 allocation 
that combines Title I and the overall number of K-12 students. 
Mr. Rangel's bill will ensure that the neediest communities get 
the assistance that they desperately need.
    And, Mr. Chairman and Members of the Committee, I thank you 
for your time and ask you to call on me if you need any 
additional information.
    Thank you.
    [The prepared statement and attachments follow:]

Statement of Hon. Joseph Crowley, a Representative in Congress from the 
State of New York

    I want to thank Chairman Archer and Ranking Member Rangel 
for giving me to time to talk about to overcrowding and 
structural problems faced by our schools and the need for the 
House of Representatives to provide tax based relief. My 
colleague from New York, Mr. Rangel, has introduced legislation 
which I believe will provide substantial relief to communities 
across the country at the least cost to the federal government.
    Mr. Chairman, I represent the 7th Congressional District of 
New York, which encompasses parts of Queens and the Bronx. The 
schools in my district face similar problems to schools across 
the country. The New York City School District is the largest 
in the nation, serving over a million students. I represent 
Community School District 24, the most over-crowded school 
district in the city, which operates at 114% capacity. In 
total, I represent three of the ten most overcrowded schools in 
the city of New York. Over the next 10 years, this number will 
increase and five of the six school districts I represent will 
be operating over capacity. CSD 24 will be operating at 168% 
over capacity! These charts I have here show the situation 
faced by the five school districts located within my 
Congressional District. (See attached charts).
    1. This Chart illustrate the enrollments versus the 
capacities of high schools in Queens
[GRAPHIC] [TIFF OMITTED] T0841.009

    2. This Chart illustrates the enrollments versus the 
capacities of high schools in the Bronx
[GRAPHIC] [TIFF OMITTED] T0841.010

    3. This Chart shows the enrollments versus the capacities 
of elementary and intermediate schools in Queens
[GRAPHIC] [TIFF OMITTED] T0841.011

    4. This chart shows that even after an aggressive building 
and modernization plan by New York City's Board of Education, 
the City of New York will not have enough seats for its 
students!
[GRAPHIC] [TIFF OMITTED] T0841.012

    5. Lastly, this chart shows how EVERY SINGLE school 
district in Queens will be operating over capacity within the 
next ten years. Not by just a few students, but between five 
and ten thousand students will not have seats!

[GRAPHIC] [TIFF OMITTED] T0841.013

    New York City, and Queens in particular, is facing a 
rapidly growing school-age population. In Queens, the school 
enrollments are increasing by a minimum of 30,000 students 
every five years. The school system simply cannot handle this 
rapid growth. In fact, the schools cannot handle the current 
level of student enrollment. The average New York City school 
was built 50 years ago; one in five over 75 years ago; and 
these older school do not meet the needs of the 21st century. 
Some, such as P.S. 87 in Middle Village, Queens, still use coal 
to heat the schools; others have converted closets, bathrooms, 
and even hallways into classrooms. See attached photographs.
[GRAPHIC] [TIFF OMITTED] T0841.014

[GRAPHIC] [TIFF OMITTED] T0841.015

[GRAPHIC] [TIFF OMITTED] T0841.016


    In May, I hosted an education roundtable in my district. I 
invited every school principal and Superintendent. We had a 
great discussion and the overwhelming feeling was that we need 
new schools constructed and the existing structures modernized. 
I recently sent out a survey asking school principal regarding 
their schools. The survey asked questions about the make-up of 
the student body, the school's infrastructure, as well as 
safety concerns and parental involvement. The majority of these 
Principals were concerned about their infrastructure. One 
school--P.S. 11 in Woodside, Queens, has had to convert their 
locker rooms, shower rooms, and supply closets into classrooms. 
This is in addition to the temporary classrooms constructed to 
accommodate the increased student population. The Renaissance 
High School in Jackson Heights operates on two shifts, from 
7:50 a.m. until 5:00 p.m. What happens to important extra-
curricular activities? How about sports participation? 
Volunteer work by students? Even after school jobs? A vital 
part of a students overall academic experience is being denied 
to them and our students and our communities are the losers.
    Mr. Chairman, I think you will agree that the state of 
schools in New York City, and in many other cities and towns 
across the nation, is a crisis situation. Local communities and 
states simply do not have the resources to adequately modernize 
and construct enough new schools to meet the growing enrollment 
demands. A commonsense, tax-saving proposal is Representative 
Charlie Rangel's H.R. 1660, the Public School Modernization Act 
of 1999.
    H.R. 1660 contains two tax provisions that will help 
schools to modernize their buildings and relieve over-crowded 
conditions. Using tax-credits, Mr. Rangel's bill would provide 
approximately $24 billion in interest-free funds for school 
modernization projects and new building construction. 
Essentially, the bill is tax-exempt bond financing for the 
school districts. It does not add to the tax code or provide 
for a direct appropriation to states. Rather, it would allow 
State and Local governments to issue qualified school 
construction bonds to fund construction or rehabilitation of 
public schools. Interest on these qualified bonds would in 
effect be paid by the Federal government through an annual tax 
credit to the bondholders on the amount of interest accrued. An 
additional benefit of this proposal is that communities whose 
schools offer bonds will not have to face increased taxes, 
thereby decreasing the tax burden or our less fortunate 
communities. Above all, bonds provide our communities with a 
flexible and cost-effective approach to school modernization 
and construction.
    I understand there are alternatives out there to Mr. 
Rangel's bill. However, H.R. 1660 is unique in that is 
allocates half of its bond authority based on the existing 
federal Title I grants formula and the other half to the 
hundred school districts with the largest number of low income 
students. The alternatives use a fifty-fifty allocation that 
combines Title I and the overall number of K-12 students. Mr. 
Rangel's bill will ensure that the neediest communities get the 
assistance that they desperately need.
    Mr. Chairman and members of the committee, I thank you for 
your time and ask you to call on me if you need any additional 
information.
      

                                


    Chairman Archer. Thank you, Mr. Crowley.
    Does any Member of the Committee wish to inquire?
    Ms. Dunn.
    Ms. Dunn. Thank you very much, Mr. Chairman, and I want to 
thank my colleague from Washington State, Mr. Baird, for his 
efforts to reinstate the sales tax deduction. Mr. Chairman, 
this is a tax that negatively effects you in your State and 
those of us in Washington State and apparently Tennessee and 
other States, and I really feel that only being able to deduct 
a State income tax from Federal taxes is a huge invasion of 
States' rights, and I think it is something that we ought to 
pay attention to, and, in fact, wondered, when Mr. Foley was 
our Speaker, if he might lead us in this direction, and I am 
delighted that Mr. Baird has done just that.
    I also want to thank Mr. Turner particularly for coming 
here today to testify on behalf of his bill, H.R. 1916, which 
would allow forest product companies to expense more of their 
reforestation expenses. We need to do all we can to help 
industries in this business. Lots of these industries have been 
lagging lately because of Federal requirements and taxes and 
regulations, and I think it is really important that he is 
pushing into this area.
    I have also included a similar provision in the bill that I 
have introduced, which is H.R. 1083, the Reforestation Tax Act, 
and this provides a comprehensive approach to increasing the 
global competitiveness of today's forest product companies. 
H.R. 1083 has the support already, Mr. Chairman--65 Members of 
Congress, I am sure, many of whom would want to be on your 
bill, and 14 of those are Members of the Ways and Means 
Committee, and virtually every forest products company, both 
large and small, as well as forestry associations and labor 
unions. And so I want to give a lot of credit to Mr. Turner for 
recognizing the importance of this issue and helping to advance 
this worthy cause.
    I would say simply one more thing: Mr. Weller and I have 
included in a larger bill the Lifetime Tax Relief Act, the work 
that he and Mr. McIntosh have done on the marriage penalty, and 
we believe this is critically important to be part of a larger 
tax bill. There are many forms that relief could take, but Mr. 
Weller and Mr. McIntosh have been the leaders on this issue, 
and, as I go home to my district and speak before groups around 
this country, that is always the primary tax relief issue that 
comes up in the form of questions. So, not to leave out my work 
that I have done on death tax relief, and I appreciate your 
crediting Mr. Tanner and me with that, because we have worked 
very hard on this, and we think fairness dictates that this 
sort of relief be given to folks who are paying tax in the 
United States.
    Thank you, Mr. Chairman.
    Chairman Archer. Mr. Rangel.
    Mr. Rangel. Mr. Chairman, I want to thank all of the 
panelists. I also appreciate the statement given by the 
gentleman from Tennessee. Having fought for the deductibility 
of State income taxes, I can see the equity issue as it relates 
to sales taxes. Mr. Crowley, while you eloquently described the 
crisis that exists in New York City schools, we want the 
Committee to know that the Conference of Mayors has indicated 
that this same crisis exists throughout the United States, in 
urban as well as rural areas, and especially in the poorer 
communities, which would be targeted for assistance by our 
legislation.
    The emphasis of the Majority seems to be on the individual 
savings accounts where the parents would be able to deposit 
$2,000, and if that $2,000 was dedicated in any way toward the 
education of the child, the interest on that amount would be 
tax free. Could you see how this could possibly alleviate the 
crisis about which you testify?
    Mr. Crowley. I can't see how that, in and of itself, could 
help build schools or modernize the schools, at least in my 
district; I can't speak for suburban----
    Mr. Rangel. One of the other exciting educational ideas 
that they have put forth is substituting Federal funding for 
vouchers. Do you see how that would alleviate the 
overcrowdedness that exists in the schools about which you were 
testifying?
    Mr. Crowley. I don't see how vouchers, in and of 
themselves, could alleviate the problems we are facing in my 
district or in the city of New York, and in terms of--vouchers 
will do nothing to modernize the public school system in our 
city.
    Mr. Rangel. The most creative proposal that they have 
recently come up with is to remove all the Federal criteria 
that target the funds to help meet educational goals and allow 
the Governors to decide how they would want to use the 7 
percent of their spending that comes from Federal dollars. 
Knowing that you were a member of the State legislature and 
knowing the spending formulas that relate to New York City and 
the rest of the State, would you believe allowing the Governors 
to decide how to use Federal dollars would help you with the 
problems that you testify today?
    Mr. Crowley. I particularly fear in New York State that 
that would not be the case. Having come from there and knowing 
that we get shortchanged on an annual basis in New York City, 
to leave it in the hands of the legislature and the Governor 
would not be a wise thing to do, and I think that is why your 
plan, Mr. Rangel, would drive the money where it is mostly 
needed, especially as it pertains to Title I programs in the 
City of New York and in my district in particular. I know I 
fare much better with your bill than I would with any of the 
other bills that are proposed.
    Mr. Rangel. Thank you, and I thank the panel. Thank you, 
Mr. Chairman.
    Chairman Archer. Mr. McInnis.
    Mr. McInnis. Thank you, Mr. Chairman.
    First of all, just to kind of piggyback on the state of the 
death tax situation, another way I think an approach that we 
could do is a bill I have introduced, which is to take the gift 
exemption every year from $10,000 to $20,000. We have never 
seen an adjustment since, I think, in the seventies on that 
factor, so until we are able to eliminate the death tax of 
which I wholly support, and, in fact, I am a cosponsor of the 
bill, I think we should look at the gift tax.
    My second thing was for Congressman Baird. I agree with 
your comments; I am little confused, though. I am not aware of 
a disaster or a situation where a home burns or something like 
that that the mortgage company forgives the mortgage. I am not 
sure they have the authority to forgive the mortgage. Where I 
have seen a mortgage written off is where somebody doesn't make 
their payments; they just walk off and abandoned the property. 
The mortgage company writes the loan off, and the IRS considers 
that, then, as a taxable event. So, I am trying to distinguish 
between the two. One, I think the disaster--I would agree with 
you, if, in fact, that ever occurs--that if it is forgiven, 
then I think we should look at that as an exemption, and, 
ironically, in my district, we had somebody who was kidnapped--
a bank president. And, believe it or not, the bank gave the 
bank president's family the money to pay the kidnappers, and 
then the IRS charged that as a gift. They later backed off of 
that after publicity, but they initially tried it. So, that 
happens, but the written off aspect of it, that, I think, is a 
taxable event. So, would you distinguish for me? Does it occur?
    Mr. Baird. Let me give you the situation we face. There is 
a very slow moving landslide; it has taken out about 130 homes. 
The FEMA funds and SPA and HUD are not really well equipped to 
deal with a disaster of this sort, and we are trying to help 
them out in every way we can through the existing government 
agencies. But several of the homeowners are in the following 
circumstance: their home, which may have had $150,000, $175,000 
of equity, has been destroyed. They now have to find and live 
in another home.
    There are several problems, and we are going to piece them 
together. First problem is this issue of forgiveness. A few of 
the lenders have said, basically, ``We don't feel right 
continuing to charge you for your mortgage on a home that you 
can't live in.'' Quite literally, out of the goodness of their 
heart, they are going to forgive the mortgage. They are going 
to say, ``You don't owe us any more money.'' That, under 
current code, as we understand it, could be constituted as a 
gift, and the homeowner would then have to pay taxes on a gift, 
which is really, for them, effectively, a valueless gift.
    Mr. McInnis. But that in fact is happening? You know of 
mortgages being forgiven?
    Mr. Baird. We know of several cases where that has 
happened.
    The other side to this deals more with the casualty loss 
provision, which we would also like to address, and let me 
briefly raise that. Current casualty loss--these homes are 
completely wiped out; they are buried under mud--current 
casualty loss calculates your casualty basis from the value of 
the house when you purchased it. Many of these homeowners have 
owned their homes for 30 years, and obviously the current 
equity is quite a bit higher than that. So, we would like to 
also propose adjusting the casualty loss. Again, what we are 
trying to deal with are disasters of a sort for which you 
cannot readily buy insurance, because we don't want to create 
the Tax Code as de facto disaster insurance. This is a niche 
where people have been hurt and left out, and it is a way to 
try to help them out over time.
    Mr. McInnis. I think your approach is very reasonable.
    Mr. Chairman, I yield back the balance of my time.
    Chairman Archer. Mr. English.
    Mr. English. Thank you, Mr. Chairman.
    Mr. Turner, I am delighted that you are here to testify. I 
think the proposal you have brought before us, as with Ms. 
Dunn's proposal, is a solid contribution to the debate on how 
the Tax Code could be made more environmentally friendly. I 
think you have already in your testimony made a strong case on 
how this expanded tax credit would help the forestry industry, 
including the one we have in western Pennsylvania. Let me ask 
you: beyond that advantage, would you care to comment on the 
environmental impact of providing this tax credit and the level 
of support from conservation groups for what you are proposing?
    Mr. Turner. Thank you, Mr. English, for that question. As 
you well know, anytime you reforest lands you improve the 
quality of the air; there is a very obvious relationship. The 
other thing that happens when you encourage reforestation is 
you take pressure off areas that you really should not be 
harvesting for timber. You are able to preserve wetlands, you 
are able to preserve streambeds, and you are able to manage 
your land better if you decrease this pressure. And, of course, 
in areas like we represent where there is a demand upon the 
forest from the forest products industry, anytime we can 
provide a greater supply of the raw product, we are not only 
going to help the environment but we are also going to lower 
the cost of that raw product to those mills and help them to be 
more competitive. Therefore, it is kind of a win-win if you 
encourage landowners, and, as you know, in my bill, we are 
basically targeting the small landowners, the ones that on the 
chart I had up a minute ago are not reforesting their lands as 
fast as they are harvesting their timber. I think it is a win-
win for everybody.
    Mr. English. So, in other words, this would benefit the 
little guy. Sometimes tax preferences that are built in aimed 
at the forestry industry tend to be mischaracterized as 
corporate welfare. This would clearly not be a case of 
corporate welfare. This would be aimed at the little guy, and 
it would have clear and demonstrable environmental benefits; it 
would improve land use, and it would address the large problem 
of deforestation.
    Mr. Turner. No question about it. In fact, the chart--I 
might ask my staff to put it back up--the chart that was 
produced by the Texas Forest Service regarding the situation in 
Texas is probably very similar to other areas across the 
country. What it shows you is that the large industrial 
landowners, the timber companies, are doing a great job of 
reforesting the lands after they harvest the timber. On the 
left side of the chart you can see they are reforesting about 
99 percent, but the small landowner on the right side of the 
chart is only reforesting 40 percent of the lands that have 
been harvested. Under current law you can amortize 10,000 
dollars' worth of your expenses, and my bill simply moves that 
figure up to $25,000. That amount hasn't changed since 1986, so 
inflation alone would justify the increase. Then, of course, 
the investment tax credit remains the same at 10 percent.
    What it means is that at a cost of $80 to $100 for 
replanting timber--replanting seedlings per acre--the average 
landowner can probably replant, under our expanded amount of 
$25,000, about 250 to 300 acres of land. Clearly, my bill is 
aimed at that small landowner and trying to get that number up 
on the right side of that chart.
    Mr. English. Mr. Turner--you have explained to us the 
benefits from the standpoint of the person involved in the 
timber industry--may I ask, what would be the overall cost of 
your provision, if it were included in a tax bill?
    Mr. Turner. The cost estimate on my bill over 5 years is 
$112 million, and over 10 years, it is $253 million--a very 
modest cost considering the economic benefits and the 
environmental benefits that would flow from it.
    Mr. English. Ms. Dunn's bill, I think, is broader and would 
I believe extend to a broader range of taxpayers, including the 
corporate taxpayers. I think your proposal is very interesting, 
and we appreciate your taking the time to call our attention to 
it.
    Thank you. I yield back my time.
    Mr. Turner. Thank you, Mr. English.
    Chairman Archer. Any other Member wish to inquire? If not, 
the Chair is very grateful to all of you for making your 
presentations today. We thank you, we excuse you, and we will 
go to our next panel.
    Mr. Bennett, Dr. Kepple, Mr. Grayson, Dr. Gillespie, Mr. 
Baratta, Ms. Zedalis, will you please come to the witness 
table?
    It's the Chair's intention to continue this hearing 
straight through the lunch period. So Members who wish to grab 
a bite of lunch need to go and then return as soon as they 
wish, but we will not take a break for lunch.
    We are happy to have each of you before the Committee 
today. And, Mr. Bennett, will you please lead off? The Chair 
would reiterate the rules which are for you to keep your oral 
testimony within 5 minutes. Your entire written statement, 
without objection, will be printed in the record. When you are 
recognized, identify yourself for the record and then proceed 
with your testimony.
    Mr. Bennett.

     STATEMENT OF HON. MARSHALL BENNETT, MISSISSIPPI STATE 
 TREASURER, AND ADMINISTRATOR, MISSISSIPPI PREPAID AFFORDABLE 
   COLLEGE TUITION PLAN; ON BEHALF OF COLLEGE SAVINGS PLANS 
                            NETWORK

    Mr. Bennett. Thank you, Mr. Chairman. Good morning, I am 
Marshall Bennett, the State Treasurer of the State of 
Mississippi, and I am representing the college savings plans 
across America, the national College Savings Plans Network, and 
it represents each State that is represented here on the Ways 
and Means Committee.
    I don't know how many of you read on Sunday before last, an 
article in The Washington Post entitled, ``Students Pay Dearly 
for Debt.'' It talked about the exploding levels of debt among 
college students creating negative effects. Debt diverts the 
students' attention from academics, it creates a debt-burdened 
class of new graduates who have a difficult time of getting 
their life started in their new careers.
    Well, Americans have begun to ask for relief. From 1980 to 
1995, the U.S. Department of Education loan portfolio went from 
$20.2 billion to $11.5 billion. American families have had to 
rely on debt to meet the higher cost of higher education for 
their kids. As a result, the portion of the household income 
needed to pay college tuition has doubled during this same 
period. The soccer moms across this country are beginning to 
scream for solutions. the States have found a solution and that 
is in the Qualified States Savings Plans to encourage families 
to save for their children's college tuition rather than to go 
into debt. Many States have granted State tax deductions, State 
tax exemptions to encourage their citizens to have family 
savings.
    One common feature of the Qualified State Savings Plans is 
that they are all statutorily created. They operate under 
prescribed investment policies. The savings funds are dedicated 
for higher education. The plans generally include a refund 
provision for the beneficiaries who choose not to go to college 
or get scholarships. Plans are national in scope and are 
portable to any public or private college in the Nation.
    I have brought with me, Mr. Chairman, a map of the United 
States showing the current State plans. Forty-four States and 
the District of Columbia have legislative authority to create 
college savings programs. Twenty States operate prepaid plans, 
including the Texas Tomorrow Fund. Sixteen States operate 
college savings plans, including New York, Mr. Rangel, and 
California. Fifteen savings plans and one additional prepaid 
plan are expected to open within the next year. Already one 
million students have signed up for the tuition plans 
representing $5 billion in market value of investments.
    Well, Congress has acted too in passing, in 1996, the Small 
Business Job Protection Act and creating section 529 of the 
Internal Revenue Code. You have recognized tax deferred 
treatment, like IRAs, for the college savings plans across the 
country. You have recognized the safety, security, stability, 
and benefits of these plans by granting this special tax 
treatment.
    We feel that under current law, however, that even deferred 
taxation creates a disincentive to participate in savings 
because participants don't understand or are not receptive to 
paying taxes on income they have not personally received but 
which is used to pay the institutions of higher learning. The 
Internal Revenue Service now has created proposed rules 
requiring a complex accounting and reporting system and 
administrative burdens on the college savings plans across the 
country. Currently, any tax withheld from the distribution 
reduces the funds available for parents and students to pay for 
their college tuition.
    What we really need is an exclusion from gross income tax 
of the earnings in the college savings plans. This would 
motivate families to save for college, encourage college 
attendance by providing clear and easily understood uniform tax 
treatment. Many of the States offer tax exemption now and tax 
deduction.
    We have already seen that when a family purchases a 
contract or sets up a savings plan, the child is more likely to 
attend college. College attendance makes for a better trained 
work force which pays more taxes.
    The reason that Congress has granted this special tax, 529 
status to the States is that you know that the States have 
adequate oversight of these plans. The programs are overseen by 
the State legislatures, the executive branch, the higher 
education authorities. the State programs have strict reporting 
requirements. They are subject to administrative procedure 
laws, procurement laws, ethics laws, a variety of open meetings 
laws, public information sunshine laws, and State audits.
    You have before Congress now a number of proposals which 
would expand the 529 plan to permit private colleges and 
universities to establish qualified tuition proposals. We 
generally support proposals which encourage families to save 
for their children's higher education. However, as 
administrators of current college savings plans, we are 
concerned about the proposals to permit private colleges and 
universities to establish Qualified Tuition Programs without 
oversight and accountability. As these proposals move forward 
in Congress, we urge this Committee to ensure that private 
plans have effective oversight to maintain financial security. 
We recommend that you consider a requirement that private 
institutions be subject to the same regulation and oversight as 
stringent as the oversight which State programs are subject to. 
It is just good basic consumer protection and accountability.
    CSPN believes that the Securities and Exchange Commission 
regulation, for example, would ensure the contributions are 
soundly managed and that disclosure requirements would ensure 
that private programs operate soundly. Frankly, ladies and 
gentlemen, we are not concerned about the Princetons, the 
Northwesterns, the Stanfords, and the Notre Dames. What we are 
concerned about are schools like the El Paso Beauty School, the 
Chicago Truck Driving School, or the Pineville Bible College. 
Some may be good schools and well intended but financially 
marginal or even financially distressed or mismanaged. Just 
look at the fiasco that has happened with student grants and 
student loans at proprietary schools that have gone out of 
business creating a national crisis. The last thing that anyone 
wants is for even one poorly managed private college or a group 
of them to market a savings plan that becomes insolvent or has 
financial problems and the students will be left holding an 
empty bag.
    The financial collapse of a private plan would adversely 
reflect on all other college savings plans across the country. 
If a private unpaid tuition program fails, the public would 
have the difficulty distinguishing between those plans that are 
failed and the ones that are soundly managed by State-sponsored 
and financially backed plans. All the State plans have State 
moral obligations or general obligations behind them.
    We urge this Committee to amend the current tax laws to 
encourage family savings, eliminate the Federal income tax on 
accrued interest, and call for strict oversight and regulation 
recognizing that if people want parity in the tax provisions, 
you should also require parity in accountability and oversight.
    Thank you, Mr. Chairman, for your opportunity granted here 
and your strong support of college savings across America.
    [The prepared statement follows:]

Statement of Hon. Marshall Bennett, Mississippi State Treasurer, and 
Administrator, Mississippi Prepaid Affordable College Tuition Plan; on 
behalf of College Savings Plans Network

                              Introduction

    Mr. Chairman and Members of the Committee, I am Marshall 
Bennett, the State Treasurer of Mississippi, Administrator of 
the Mississippi Prepaid Affordable College Tuition Plan 
(``MPACT''), and Chairman of the College Savings Plans Network 
(``CSPN''). CSPN was formed in 1991 as an affiliate to the 
National Association of State Treasurers. CSPN is a national 
association representing the common interests of state-operated 
college savings tuition plans. The primary mission of the 
Network is to encourage families to save ahead for college. To 
accomplish its mission, the College Savings Plans Network 
shares information among existing programs, provides 
information to other state agencies which are interested in 
starting a college savings program, and monitors federal 
activities and legislation affecting state programs. CSPN 
welcomes the opportunity to discuss sound methods to improve 
access to post-secondary education.
    A recent headline in the Washington Post read ``Students 
Pay Dearly for Debt.'' The article noted that ``exploding'' 
levels of debt among college students create a number of 
negative effects, including the diversion of students' 
attention from academics as they look for work to payoff school 
loans while in school, and debt levels which force students to 
drop out or file for bankruptcy. A longer-term effect is the 
creation of a debt-burdened class of new graduates who have a 
difficult time getting a start with their careers. The campus 
debt explosion is a function of college costs, which have risen 
faster than family incomes. Regrettably, debt shapes the 
contemporary college experience. While I cannot provide an 
answer to why debt levels are so high, I can offer the 
experience of the states in addressing this problem. There is a 
way to help families and students avoid burdensome debt.
    The cost of attending college, whether at a public 
institution or a private college, continues to rise steadily. 
In order to send their children to college, American families 
have increasingly relied upon debt to meet the rising cost of a 
higher education. According to the National Commission on the 
Cost of Higher Education, between 1976 and 1996, the average 
tuition at public 4-year universities increased from $642 to 
$3,151 (390 percent) and from $2,881 to $15,581 (440 percent) 
at private 4-year universities. In contrast, according to the 
U.S. General Accounting Office, median household income rose by 
only 82 percent. As a result, the portion of a household's 
income needed to pay for college tuition nearly doubled during 
the period.
    Rising tuition rates force families to resort to loans to 
fund their children's college education. From 1980 to 1995, the 
U.S. Department of Education's loan portfolio increased from 
$2.2 billion to $11.5 billion. Not only are more loans being 
taken out, the size of the loans has increased. GAO reports 
that, at the undergraduate level, the percentage of post 
secondary students who had borrowed by the time they graduated 
increased from 41 percent in 1992-93 to 52 percent in 1995-96, 
and the average amount of debt per student increased from about 
$7,800 to about $9,700 in constant 1995-96 dollars. Students 
attending 4-year public institutions showed the largest 
increase in the number of borrowers. Sixty percent of seniors 
graduating from these schools in 1995-96 borrowed at some point 
in their program, up from 42 percent in 1992-93 and about even 
with the percentage of borrowers at private 4-year colleges. At 
the same time, the value of a college education grew, 
increasing the demand for college enrollments. The constantly 
rising costs coupled with higher demand create uncertainty for 
families who want to send their children to college.

                 College Tuition Plans Promote Savings

    The best answer to rising college costs is to encourage 
advance family savings. Student financial aid programs are 
facing more and more demands at a time when resources have been 
reduced. Over dependence on financial aid has caused the total 
annual cost of federal financial aid, originally targeted to 
help lower-income families, to rise at an unsustainable rate. 
Budgetary constraints force the federal government, as well as 
state governments, to reduce direct student financial aid. As 
government financial aid is reduced, the responsibility for 
funding college falls more directly on families. The well 
documented low savings rate in the U.S. also clearly indicates 
that additional incentives are required to get families to 
start saving for their children's college education.
    The states recognized the need to foster saving for 
college, which is economically more sound, both for families 
and for institutions of higher education. Thus, beginning in 
the late 1980s, the states tuition savings programs to 
encourage families to save for college. Qualified state tuition 
programs (``;QSTPs'') are a convenient method for many families 
to fund the high costs of college. The plans encourage early 
college savings and promote future access to higher education 
for children of middle-class families. The basic premise of 
these programs is that they encourage families to purchase 
future college tuition at an actuarially determined cost based 
on today's prices. Thus, qualified state college tuition plans 
act as a catalyst for college savings. Families participating 
in the programs save specifically for college where otherwise 
they would not set aside money for this purpose. The programs 
also raise attention to the need to save for college. As a 
result, QSTPs provide a unique psychological benefit because 
they guarantee future college costs, providing parents with 
permanent assurance about their children's future.

             How the College Savings Plan Programs Operate

    States have long worked to identify ways to encourage 
citizens to attend college. For example, since 1959, New Jersey 
has offered college savings bonds to its citizens to encourage 
enrollment. As concerns about the affordability of college grew 
in the 1980s, states established a variety of college savings 
programs to assure access to higher education. Michigan 
established the first prepaid college tuition plan in 1986. 
Alabama, Florida and Ohio followed between 1988 and 1989. From 
1989 to 1997, there was moderate growth in the number of 
programs, due principally to uncertainty over the federal tax 
treatment of the programs. Federal legislation approved in 1996 
and 1997 under the bipartisan leadership of the Committee on 
Ways & Means encouraged many more states to set up these plans.
    The state-sponsored college tuition programs have achieved 
tremendous success. Since enactment of the Small Business Job 
Protection Act of 1996 and the Taxpayer Relief Act of 1997, the 
number of children participating in the programs has 
skyrocketed, and the number of states with programs has nearly 
doubled. All of the remaining states are studying the 
feasibility of establishing a qualified state tuition program. 
The state-sponsored college tuition programs help families save 
for the high cost of a college education. As a result, many 
more of our children will have the opportunity to gain a higher 
education, which benefits the entire nation through a better 
educated, more productive workforce.
    The states have designed their college tuition programs to 
account for the particular circumstances of their higher 
education establishment. The programs are intended to promote 
access to higher education by providing individuals with a 
convenient method to fund the rising cost of post-secondary 
education. Each program has unique features intended to 
encourage its citizens to participate in the programs. However, 
the qualified state tuition programs may be divided into two 
general types. Prepaid plans and savings plans.

Prepaid Tuition Plans

    The first broad type of plan is the prepaid tuition plan. 
These programs are analogous to a defined benefit pension plan. 
Under a prepaid tuition program, states enter into contracts 
with families, corporations or other entities that purchase 
contracts to acquire tuition benefits or waive costs for 
designated beneficiaries. Under prepaid plans, contract 
purchasers prepay tuition and mandatory fees, and in some 
states, room and board expenses, for a set number of academic 
periods or course units. Contracts may be for junior college, 
community college or for four-year undergraduate programs. A 
number of prepaid programs also permit the purchase of 
contracts for graduate school expenses. All prepaid programs 
permit the use of distributions for out-of-state and private 
institutions, although the amount of covered expenses may be 
based on in-state tuition.
    Under a prepaid plan, the price of a contract is determined 
prior to purchase. The contract price depends on the type of 
contract purchased, the projected date of the designated 
beneficiary's enrollment, the current and projected cost of 
tuition, the overall number of years until the beneficiary 
enrolls in college, and the assumed rate of return. The 
contribution amounts are also capped, in compliance with 
section 529 of the Internal Revenue Code. The programs pool all 
payments into one large fund and invest it with the goal of 
achieving a rate of return that is higher than the rate of 
tuition increases anticipated at the participating colleges.
    Various refund provisions may apply if the beneficiary 
cannot use the benefits due to death or disability; chooses to 
not go to college; or attends an out-of-state college or 
proprietary college. The programs generally do not guarantee 
that the beneficiary will be accepted for enrollment at one of 
the participating colleges. However, under many plans, new 
beneficiaries may be named in place of the original one. 
Finally, in the case the fund becomes actuarially unsound, most 
states have built an escape clause into their plans that would 
allow them to end the program and issue refunds to the 
participants.
    States offer a variety of payment plans, including lump-sum 
payments and installment plans. Once a unit of tuition is 
purchased, the tuition rate is locked in. When a child is ready 
to go to college, the state transfers directly to the 
institution an amount equal to the cost of tuition at the time 
of enrollment. Many states guarantee that the contributions to 
the plans will cover future tuition costs.

Savings Plans or Savings Trusts

    The second type of plan is referred to as the savings plan 
or savings trust, analogous to a defined contribution pension 
plan. Under these plans, families enter into participation 
agreements where they pledge to make cash contributions to an 
account for the beneficiary. Generally, these agreements 
require a minimum contribution amount, the purpose of which is 
to encourage participants to save on a regular basis, which is 
generally a more effective way to save for higher education 
expenses. Contributions to the savings plans are also capped, 
in order prevent their use as an abusive tax shelter.
    Under savings programs, the state invests the funds to 
equal the anticipated future costs of tuition when the child 
goes to college. The state may directly manage the funds or may 
employ outside investment managers or brokers. Either way, the 
investments are subject to strict guidelines designed to ensure 
that the funds keep pace with anticipated tuition inflation. 
Under these plans, states do not guarantee the tuition nor a 
rate of return, but offer incentives, including state tax 
incentives, for saving. Fund investments may vary, based on the 
age of the designated beneficiary. The funds contributed on 
behalf of a younger beneficiary may be weighted more toward 
equities, while funds for a student nearing college enrollment 
are normally weighted toward fixed income investments. Most 
states allow these plans to be used for tuition or room and 
board expenses, in-state or nationally.

Common Features

    Although each state's QSTP is unique, taking into account 
the needs and circumstances of the state, there are several 
features common to prepaid and savings plans:
     The plans are statutorily created;
     The plans are administered by the state and/or 
governed by a Board appointed by the state and comprised of 
state officials and others;
     State personnel operate the plans, which are 
governed by strict financial and program accountability 
requirements;
     The plans are limited to prescribed investment 
policies and standards;
     The savings provided by the plans are dedicated to 
the provision of higher education, with prescribed limitations 
governing the return of savings or prepayments only in the 
event of such circumstances as death, permanent disability; or 
the failure of the beneficiary to meet entrance requirements; 
and
     The plans generally include a refund provision for 
beneficiaries who choose not to matriculate.

                  A Current Profile of the State Plans

    Forty-four states and the District of Columbia have 
authority to operate and manage college tuition programs. 
Currently, nineteen states operate prepaid plans and 16 a 
savings plan. Fourteen new savings plans and one additional 
prepaid plan are expected to begin operation within the next 
year. Every remaining state, except Georgia, which operates the 
lottery funded HOPE scholarship program, has legislation 
pending or is actively studying the establishment of a college 
tuition plan. Currently, there are nearly one million signed 
college tuition contracts. The estimated fair market value of 
these contracts is over $5 billion. The exact totals for the 
number of contracts and participants are not available because 
several of the programs are just now completing their peak 
spring open enrollment periods. However, the numbers of 
participants and contracts are expected to show healthy growth 
this year. These figures reflect the strong support by state 
residents who are diligently saving for the college education 
of their children or grandchildren.

                     Current Federal Tax Treatment

    The Small Business Job Protection Act of 1996 clarified the 
tax treatment of contributions made to state college savings 
programs. Prior to the 1996 law change, the treatment of 
distributions from QSTPs was not clear. The Internal Revenue 
Service considered implementing rules which would have treated 
the prepaid contracts as a form of contingent debt instrument 
because, like bonds, they mature at a certain future date. The 
IRS proposed to tax participants in prepaid programs annually 
on ``phantom'' income earned on prepaid accounts. However, 
because the beneficiaries in most cases are children, the 
earnings would generally not be large enough to result in a tax 
liability. Moreover, the inconvenience to participants and the 
costly paperwork involved in annual income reporting would have 
substantially reduced the popularity of the plans. Indeed, the 
uncertainty with the law was the principal reason for the slow 
growth in the number of plans, as well as the slow growth in 
the number of plan participants.
    Working closely with the College Savings Plans Network and 
the National Association of State Treasurers, the 104th 
Congress passed section 529 of the Internal Revenue Code. The 
new section clarified the federal tax treatment of qualified 
state tuition plans and outlined the qualifications required to 
establish the tax-exempt status of the state agencies which 
administer the programs. Section 529 also clarified the tax-
deferred status of earnings, and set the policies and 
procedures related to the refund of the account if the 
beneficiary dies before distribution of the funds.
    Under the 1996 Act, the federal income tax obligation on 
contributions to a qualified state college tuition plan is 
deferred until the contributions are redeemed. Upon redemption, 
the applicable tax is levied on the student who benefits from 
the plan, not the contributor. The federal income tax is due on 
the difference between the current value of the contributions 
and their original cost. As a result, the accrued interest 
income is taxed at the beneficiary's rate. The annual increase 
in value is not subject to annual capital gains tax.
    Further, in the Taxpayer Relief Act of 1997, Congress said 
that deferred tax treatment applied not only to amounts used 
for tuition, but also funds used on room and board. The 1997 
Act also clarified the estate and gift tax treatment of the 
programs. Under the provision, a contribution to a qualified 
state tuition program is a completed gift eligible for the 
annual gift tax exclusion and the annual generation-skipping 
transfer exclusion. A special rule applies to gifts in excess 
of the annual exclusion, under which a contributor may elect to 
take the contribution into account ratably over five years. The 
College Savings Plans Network strongly supported these changes 
because they make participation in the plans more attractive to 
families.

   Proposals to Clarify the Current Tax Treatment of Qualified State 
                         College Tuition Plans

    The College Savings Plans Network believes additional 
legislation is necessary to increase the attractiveness and 
marketability of the plans. Congress is currently considering a 
number of proposals to provide an exclusion from gross income 
for distributions from qualified state tuition programs.\1\ The 
proposals properly focus on increasing the attractiveness of 
college tuition plans. Under current law, the taxation of 
distributions creates a disincentive to participate in the 
plans because potential participants may not understand or be 
receptive to paying taxes on income they had not personally 
received, but which is used to pay qualified education 
expenses. Program sponsors are concerned that this disincentive 
hinders maximizing participation in the programs. Program 
sponsors are also concerned that requirements to notify 
taxpayers of the tax on certain distributions may create costly 
administrative burdens for the plans.
---------------------------------------------------------------------------
    \1\ H.R. 588; S. 387; H.R. 58, the College Savings Protection Act; 
H.R. 7, Education Savings and School Excellence Act of 1999; S. 13 and 
H.R. 254, Collegiate Learning and Student Savings Act; S. 1054, Savings 
for Scholars Act; H.R. 464, Higher Education Affordability and 
Availability Act; S. 14, Education Savings Account and School 
Excellence Act of 1999; S. 277, Educational Opportunities and 
Excellence Act of 1999; S. 1013, Child Savings Account Act; S. 1134, 
Affordable Education Act of 1999; H.R. 892, Renewing America's Schools 
Act; H.R. 1084, Lifetime Tax Relief Act of 1999.
---------------------------------------------------------------------------
    The College Savings Plans Network believes that 
establishing an exclusion from gross income for distributions 
from the qualified state tuition programs is essential to 
encouraging savings and college attendance. An exclusion from 
gross income would recognize that contributions to the programs 
cannot be used for any purpose other than higher education. Any 
tax withheld from the distribution would reduce funds available 
to pay college expenses, increasing the cost to attend college. 
The public policy of this proposal is to enable and motivate 
families to save for college by providing clear and easily 
understood tax treatment of the qualified state tuition plans.
    The basic transaction of the qualified state tuition 
programs is the purchase of a service to be provided in the 
future. After entering into a prepaid tuition contract or 
establishing a savings plan account, families have no control 
over the assets contributed to the plan. Contributions are 
transferred directly to the college or university when the 
child attends school. Thus, the accounts are not liquid and 
cannot be use for non-education purposes without incurring a 
federal tax penalty and penalties or charges issued by the 
state. The student will have to find other means of generating 
funds to pay the tax.
    Congress should make the programs tax-free in order to 
encourage savings and college attendance. When a family 
purchases a contract or sets up a saving plan, the child is 
more likely to actually enroll in college. By encouraging 
savings, Congress benefits the national economy. College 
attendance makes for a better-trained workforce, which pays 
more taxes.

                 Oversight of the College Savings Plans

    The state-sponsored college tuition programs are secured by 
the moral or political obligation of the states. To back this 
obligation, the state programs are subject to multiple levels 
of oversight. These oversight mechanisms protect the financial 
integrity of the programs, ensuring that the contributions to 
the programs are soundly invested and that the actuarial goals 
of the plans are met. Safe financial operation of the programs 
means that when a beneficiary enrolls in college, the program 
can pay out the proper amount of tuition.
    The plans are administered by state entities, variously 
called boards, authorities, or trusts. Executive committees or 
trustees, subject to specific qualification requirements, are 
responsible for the overall direction of the programs. They 
generally are comprised of officials from the state 
legislature, executive branch, higher education authority, or 
from financial institutions and the public. Many of the 
programs also have public advisory committees. The executive 
entities are responsible for operation of the funds and for 
oversight of the strict investment policies governing the 
contributions to the funds.
    By statute or regulation, the operating authorities are 
required to follow prudent investment practices to maximize the 
total return on investment and to ensure that the investments 
meet the future obligations of the funds. Generally, these 
investment guidelines state that the investment profile seeks 
to maximize return consistent with the security of principal, 
and subject the investments to generally accepted prudency 
rules. In addition, many of the funds are required to follow 
detailed asset allocation rules to ensure diversity of 
investment and liquidity of the funds.
    All of the programs are subject to financial and actuarial 
audit and reporting requirements. Audits may be conducted 
internally, by legislative oversight committees, or by external 
auditors. National accounting firms audit many programs. By 
law, the reports are required to include a detailed statement 
of the financial condition and rates of return of the programs. 
Most of the reports also discuss any risks associated with the 
program. These reports generally are required to be distributed 
to the state legislature, the governor and other executive 
branch officials, and to program participants. All states make 
some form of the reports available to the public, and many post 
this information on Internet websites.
    In most states, the qualified tuition program is subject to 
administrative procedure laws, procurement laws, ethics and 
financial disclosure rules, and a variety of open meeting and 
public disclosure statutes. The purpose of all of these rules 
is to ensure that the public has information to make an 
informed judgement on the financial condition of the program 
and to ensure that the programs are operated in the soundest 
financial manner possible. As public trusts, the states demand 
the highest degree of financial integrity of the programs. 
Strict oversight provides assurance that when a child enrolls 
in college, the funds saved for their education are available 
to pay for school.
    A number of bills have been introduced that would expand 
Section 529 to permit private colleges and universities to 
establish qualified tuition programs. The College Savings Plans 
Network supports all proposals designed to encourage families 
to save for their children's higher education, because making 
it easier for families to save for college is in the long-term 
interest of the nation. However, as the administrators of the 
state-sponsored college savings plans, we are concerned about 
proposals to expand Section 529 to permit private colleges and 
universities to establish qualified tuition programs. As these 
proposals move forward in the legislative process, we urge the 
Committee to ensure that there is effective oversight and 
financial security of the private institution programs.
    In allowing private institutions to establish qualified 
tuition programs, the Committee should consider a requirement 
that the private institutions be subject to regulation and 
oversight as rigorous as the oversight to which the state 
programs are subject. A multi-state private prepaid tuition 
plan, qualified under Section 529, should be subject to strict 
oversight and reporting requirements. CSPN believes Securities 
and Exchange Commission registration requirements, for example, 
would ensure that contributions held in common and invested by 
a private entity would be soundly managed, and would permit 
prospective participants to determine the financial soundness 
of such plans. The last thing anyone wants is for even one 
poorly managed private college to market a savings plan that 
becomes insolvent or has financial problems. This may result in 
parents and students left holding an empty bag and would 
adversely reflect on all the other college savings plans. If a 
private prepaid tuition program failed, the public would have 
difficulty distinguishing between the failed plan and the 
soundly managed state sponsored plans.

                               Conclusion

    The College Savings Plans Network believes promoting 
greater access to higher education and encouraging savings over 
debt is sound public policy. The existing state sponsored 
college tuition programs promote savings and reduce the need 
for financial aid and subsidized student loans. As a result, 
the limited amounts of financial aid can be focused to directly 
benefit lower income students. Moreover, these programs enable 
more young Americans to go to college and secure higher paying 
positions, providing a better-educated workforce.
    CSPN urges the Committee to amend current tax law to help 
encourage families to plan, prepare, and save, rather than rely 
on student loans or financial aid to educate their children. 
CSPN supports proposals to establish an exclusion from gross 
income for distributions from a qualified tuition program. 
Eliminating all federal income taxes on the accrued interest 
earned through the state programs would create an additional 
incentive for college savings. An exclusion from gross income 
for distributions from the qualified state tuition programs 
encourages innovation by the states, which can tailor the 
programs to meet the needs of its citizens while taking into 
account its unique mix of higher education institutions. CSPN 
commends the Committee on Ways & Means' leadership on these 
proposals and urges the Committee to include these provisions 
in the Fiscal Year 2000 Budget Reconciliation bill or any other 
tax legislation to be considered by the Committee in 1999.
    The state tuition savings programs are subject to strict 
oversight and regulation in order to ensure that the programs 
are operated in a sound financial manner. CSPN urges the 
Committee to recognize the need for an equal level of oversight 
to ensure that private institution qualified tuition programs 
also operate in a manner, which guarantees that when a 
beneficiary enrolls in college, sufficient funds are available 
to cover the costs of tuition. The failure of a private 
institution program would reflect negatively on the successful 
state tuition programs.
    Thank you again, Mr. Chairman, for your strong support of 
the state college tuition programs and the hundreds of 
thousands of families who participate in them. We look forward 
to working with you on legislation to promote advance savings 
for college. I would be pleased to answer any questions.
      

                                


    Mrs. Johnson of Connecticut [presiding]. Thank you, Mr. 
Bennett.
    Dr. Kepple.

  STATEMENT OF THOMAS KEPPLE, JR., Ph.D., PRESIDENT, JUNIATA 
 COLLEGE, HUNTINGTON, PENNSYLVANIA; AND CHAIRMAN, TUITION PLAN 
                           CONSORTIUM

    Mr. Kepple. Thank you, Madame Chairwoman. I am Tom Kepple, 
president of Juniata College, a liberal arts college located in 
central Pennsylvania. I am also the chair of the Tuition Plan 
Consortium, a group of 127, and growing, independent colleges 
and universities from across the Nation.
    Our consortium has a found a way to do exactly what 
Congress has challenged higher education to do. That is, to 
significantly lower the cost of college education without 
sacrificing the quality of our programs which are the envy of 
the world. Our program is to build upon the highly successful 
prepaid tuition plans now operating in 20 States that Mr. 
Bennett has recently described. Plans that allow parents and 
grandparents to guarantee the future cost of in-State public 
colleges and universities. Our program captures all the 
positive aspects of these plans and adds three important new 
benefits.
    First, the tuition plan represents the first truly 
nationwide prepayment tuition program. Our members represent 
the greatest geographic and mission diversity of any plan in 
existence. We already have members in 35 States and the 
District of Columbia. And we plan to add, perhaps triple in 
size over the next several years.
    Let me illustrate the geographic diversity by the map you 
will see to my right. You will note that there are colleges all 
across the United States, and let me briefly mention just a few 
of these to indicate our diversity. And by the way, there are 
no truck driving schools among our group. In Texas, Rice, 
Austin College, Trinity University, SMU, TCU. In New York, 
Barnard, Ithaca, the University of Rochester. In Pennsylvania, 
Westminster, Grove City, Juniata College, Swarthmore. In 
Maryland, Goucher. In Washington, the University of Puget 
Sound. In Minnesota, St. Olaf. In Illinois, the University of 
Chicago: In Indiana Notre Dame, the University of the South in 
Tennessee, Eckerd College in Florida, Princeton University in 
New Jersey, and Birmingham Southern College in Alabama.
    This diversity is a major benefit to families who 
understandably cannot be sure what college their children will 
ultimately attend.
    Second, our plan guarantees the future cost of tuition at 
private colleges and universities across the Nation, something 
that individual State programs logically cannot do.
    Third, and most importantly, the Consortium will offer to 
sell guaranteed future tuition to families at below today's 
tuition rates. We actually will be reducing the cost of 
college, thus making it more affordable for more families.
    In Juniata's case, we are considering a discount as 
significant as 50 percent below today's tuition rates. For 
example, full tuition this year at Juniata College is $18,000. 
A parent or grandparent could purchase a full year of education 
18 years from now for about $9,000 for a newborn child. Of 
course, this discount would be less for older children and 
member colleges will establish their own discount rates.
    How can we guarantee a future tuition at a discount? The 
member institutions of Tuition Plan have years of experience in 
managing their own individual endowments. By applying this 
experience and employing sound investment safeguards, we expect 
to earn a rate of return in excess of tuition inflation. In 
fact, over 18 years, we expect to earn enough in our 
investments to cover the increases in tuition and offer a 
discount to grandparents.
    You may be surprised to learn that nationally 48 percent of 
students attending private colleges have family incomes under 
$50,000. Nearly identical to the 49 percent attending public 
colleges. As you would expect, these families are especially 
concerned about being able to afford the cost of a college 
education. Prepaid tuition programs are designed for these 
middle income American families who seek to guarantee the 
future tuition and protection against investment risks. In our 
plan, investment risk is shifted from families to Consortium 
members.
    Not only would we be required to comply with the safeguards 
and rules under 529, and not only is it to the public's 
interest that we are required, but it is also very much in our 
interest to provide effective oversight and financial security 
for prepayments since tuition plan members will bear the 
ultimate risks.
    We know that this plan is interesting to American families. 
I have already had to return a $31,000 check from a grandparent 
who wished to begin the tuition prepayment program for his 
grandchildren. That is something that college presidents don't 
like to do.
    Now we need your help. As you know, section 529 covers only 
plans established by States, thus omitting the opportunity for 
groups of private colleges and universities develop a tax 
advantage plan. Congress has already identified that section 
529 is not consistent with other Federal higher education 
policies that do not distinguish between public and private 
institutions. Last year, a provision to rectify the situation 
was included in both the Chairman's bill and your alternative, 
Mr. Rangel. More than 80 Members of Congress, representing a 
bipartisan coalition, have supported this legislation.
    I sincerely hope that all your effort and this broad base 
of support will lead to passage of this important measure, 
legislation that is endorsed by the statement, by the American 
Council for Education on this issue.
    Mr. Chairman, Mr. Rangel, Members of the Committee, on 
behalf of the 127 member institutions of the Tuition Plan 
Consortium and the entire higher education community, I thank 
you for support and look forward to working with you to make 
this tremendous opportunity a reality for the benefit of 
millions of American families.
    Thank you.
    [The prepared statement and attachments follow:]

Statement of Thomas Kepple, Jr., Ph.D., President, Juniata College, 
Huntington, Pennsylvania; and Chairman, Tuition Plan Consortium

    Mr. Chairman, Representative Rangel, distinguished members 
of the Committee, I am the president of Juniata College, a 
small independent college in Huntington, Pennsylvania with 
1,200 undergraduate students. We are one of 108 independent 
colleges and universities in Pennsylvania. Together, 
independent institutions graduate over half of all students who 
attend four-year colleges in the state.
    I also serve as Chairman of Tuition Plan Consortium, a non-
profit consortium comprised of a growing group of independent 
colleges and universities from across the country. By the time 
of our planned program launch, we hope to include several 
hundred institutions. Ours is a diverse membership including 
institutions such as Rice University, a major research 
university in Houston, Texas, and Ithaca College, a small 
liberal arts college in upstate New York. Working together to 
help American families, we are developing a nationwide prepaid 
tuition plan that encourages parents, grandparents, and other 
family members to save now for the future college expenses of 
younger children.
    Education is a top concern for American families. Recently, 
fifty eight percent of Americans surveyed by the American 
Council on Education (ACE) agreed that ``a college degree is so 
important that, regardless of how much it costs, I am going to 
make sure that my children go to college.'' But when asked what 
they worry about most, many say they do not know how they will 
pay for their children's education. The tax bill this committee 
passed last year expanded the tax treatment for qualified 
state-sponsored tuition plans to include prepaid tuition 
programs established and maintained by non-profit, private 
colleges and universities. We thank you for your past support 
and urge that once again Congress act to help independent 
higher education respond to the public's anxiety over how to 
provide for the cost of their children's college.
    Today, for many middle income families, paying for higher 
education means going into debt. In fact, families incurred 
more college-related debt during the 1990s than the previous 
three decades combined. In the last ten years, the number of 
students with student loans increased by 87%. The cost of not 
saving for college when children are younger and then having to 
rely upon loans, increases a family's burden enormously. 
Families must pay interest on their loans rather than having 
interest work for them. Congress helped borrowers in the last 
tax bill by restoring the tax deductibility of interest on 
student loans for the first 60 months of payments. We applaud 
your initiative, and we urge Congress to increase incentives 
for families to save as well as to borrow.
    State governments have developed programs designed to help 
families pay for college. The response to long-established 
prepaid state tuition plans in Texas, Pennsylvania and other 
states indicates clearly that families respond to incentives 
encouraging them to save for college, especially when they can 
defer taxes. To date, nearly 700,000 students have prepaid 
tuition benefits under 21 state plans. These families lock in 
the cost of tuition at public colleges, and therefore no longer 
need to worry about future tuition increases.
    Since Congress enacted Section 529 of the tax code in 1996 
authorizing tuition prepayment programs, the number of state 
plans has increased sharply. The state-sponsored programs have 
helped families save for college, but they leave several 
important needs unmet. Fewer than half of the states currently 
offer prepaid tuition plans that protect families against 
tuition inflation. Colleges such as Juniata draw students 
widely from other states, which makes it difficult for families 
to take full advantage of state tuition plans; and tuition 
benefits in state plans generally are not extended to private 
colleges and universities. For these reasons, many private 
institutions want to offer prepaid tuition plans which address 
more fully the needs of families who wish to have their 
children attend private colleges and universities.
    Many families prefer to send their children to independent 
colleges because of smaller class sizes, particular academic 
programs, religious affiliations, and other reasons. 
Nationally, nearly 20 percent of college-bound students attend 
an out-of-state institution. In some states, particularly those 
in the New England region, the percentage of students traveling 
out of state to attend college is as high as 67 percent. A 
nationwide plan is also important for families that move from 
one state to another while their children are young. Each year 
more than six million individuals in America move from one 
state to another. A national prepaid tuition plan gives these 
families the alternative of securing prepaid tuition regardless 
of a change in residence or attendance at an out-of-state 
college or university.
    Prepaid tuition programs are designed for middle-income 
Americans. Our research indicates that higher income families 
may be less likely to participate in prepaid tuition plans. 
Higher income families have the resources to absorb the risk of 
aggressive investments and often wish to maintain control of 
their assets rather than purchase guaranteed tuition. The 
experience of existing state plans supports this and indicates 
that these plans appeal most highly to middle income families 
looking for an easy and secure way to save for college. Seventy 
one percent of families participating in the Florida Prepaid 
College Program have an income under $50,000. Families with 
annual incomes of less than $35,000 have purchased sixty two 
percent of contracts sold through the Pennsylvania Tuition 
Account Program. And, the average monthly contribution to a 
family's college savings account during 1995 in Kentucky was 
$43.
    Nationally, forty eight percent of the dependent students 
attending private, not-for-profit colleges have family incomes 
under $50,000, nearly identical to the forty nine percent 
attending public colleges. In our case, at Juniata College, the 
majority of our students come from families with incomes under 
$63,000. As you might expect, these families of modest means 
are especially concerned with being able to afford the cost of 
a college education. They are most likely to purchase tuition 
plans that offer a guarantee of future tuition and protection 
against tuition inflation. In addition, in the case of Tuition 
Plan, participating colleges intend to offer families future 
tuition benefits at a price less than today's cost. Finally, we 
believe the benefits of tax deferral are essential to creating 
sufficient value for a program to meet family needs.
    Including prepaid tuition plans established and maintained 
by non-profit, independent colleges and universities in Section 
529 would be consistent with other federal higher education 
policies that do not distinguish between public and private 
institutions. Specifically, students receiving Pell and other 
grants, direct student loans, federally guaranteed student 
loans, and other forms of federal financial aid are permitted 
to attend any accredited institution. Also, families may claim 
HOPE and Lifetime Learning tax credits whether their children 
attend public or private college. And finally, regardless of 
their alma mater's affiliation, all student loan beneficiaries 
are able to deduct the interest expenses associated with their 
student loans from their taxable income. Ensuring a level 
playing field within Section 529 would be consistent with this 
important precedent set through existing federal, higher 
education programs. All families would get equal tax treatment 
regardless of their choice of a public or private college. By 
encouraging all families to save for college through qualified 
tuition plans Congress would help increase national savings and 
would provide private colleges an incentive to keep a close 
watch on long-term costs.
    A bipartisan group of more than 80 Members of Congress are 
supporting legislation to enhance qualified tuition plans under 
Section 529. Mr. Chairman, Mr. Rangel, members of the 
Committee, private colleges have found a way to do exactly what 
Congress asked of the higher education community: to reduce the 
cost of a college degree without sacrificing the quality of 
instruction that remains the envy of the world. On behalf of 
the future students at our nation's private colleges, I thank 
you for your support. I look forward to working with you to 
make this valuable opportunity a reality to the benefit of 
millions of American families.
      

                                


[GRAPHIC] [TIFF OMITTED] T0841.017

      

                                


    Mrs. Johnson of Connecticut. Thank you very much, Dr. 
Kepple.
    Mr. Grayson.

    STATEMENT OF JERRY GRAYSON, REGIONAL DIRECTOR, DETWILER 
            FOUNDATION COMPUTERS FOR SCHOOLS PROGRAM

    Mr. Grayson. Thank you, Madam Chair, Mr. Rangel, Honorable 
Committee Members, I appreciate this opportunity to speak to 
you on the New Millennium Classrooms Act, which is coming 
before you in this legislative session.
    My name is Jerry Grayson. I am regional director with the 
Computers for Schools Program. What we do is solicit computer 
donations from businesses, from institutions, from individuals, 
and from organizations. We have those machines refurbished. And 
then we place them in schools.
    Two years ago, Congress passed the 21st century Classrooms 
Act as part of the Taxpayer Relief Act of 1997. That Act 
provided businesses with a tax deduction for computer donations 
if the machines were 2 years old or less. This was seen as a 
way to increase and enhance the level of technology available 
in schools. This Act was pushed through with the guidance of 
Chairman Archer and the support and sponsorship of Congressman 
Randy ``Duke'' Cunningham. We appreciate their support and 
their championing of this cause.
    Unfortunately, the act has not lived up to the promise and 
intent that Congress had when it passed the Act. We found from 
businesses that the 2-year window of opportunity was a bit too 
short for their business cycle and that the tax deduction did 
not offset what essentially was penalization of them for 
donations of machines of that age.
    The New Millennium Classrooms Act is an attempt to address 
these issues. It opens that window from 2 to 3 years for the 
age of equipment donated. And as opposed to the deduction, it 
allows for a tax credit of 30 percent for machines that are 3 
years old or less. That credit is increased to 50 percent when 
the equipment is designated for schools in empowerment zones, 
enterprise zones, and on Indian reservations. There is a third 
element to this, the Act broadens the base with which we can 
draw these machines, thus making newer machines available in a 
higher quantity.
    I believe the New Millennium Classrooms Act has the 
potential to have a significant impact on the level of 
technology available in our schools and especially in schools 
in empowerment zones, enterprise zones, and on Indian 
reservations. And these are the schools most in need of 
equipment upgrading. Increasingly, we are seeing what you might 
call a digital divide, that is, students in poorer schools 
having less technology available to them as they go through 
their computer instruction. What we now see is an average of 24 
to 1, students-to-computer ratio in the average classroom of 
multimedia computers. But that ratio jumps to 32 students per 
computer when you look at schools in economically disadvantaged 
areas. These are the very students who by and large receive 
less positive feedback. They come from a less nurturing 
environment for the most part and computers help them the most. 
Computers are patient. They are persistent. They offer 
immediate reward for correct responses. These are the students 
who really need these machines. The New Millennium Classrooms 
Act has the potential to have a significant effect on these 
students' lives.
    Let me just close with a couple of anecdotes here about our 
program and the kind of impact New Millennium can have within a 
program like ours. We work with one school in northern 
Maryland, in north Harford County, North Harford High School. 
They were undergoing a project in class with a database and 
unfortunately before a donation of our machines, they had five, 
six, eight students standing around one machine trying to take 
part in the project. Because we donated to them, they were able 
to put each student at a terminal. Test scores went up as a 
result of it.
    In New Jersey, our program works through a Welfare-to-Work 
Workforce Development Project and the machines we put in are 
refurbished by former welfare recipients who are now learning a 
viable skill. Computer repair skills are the skills of the 
future.
    Finally, in Hawaii, we were able to give machines to a 
rural school in the big island where students were not in the 
position to take some college prep courses because of their 
isolation. Now through distance learning, using our machines, 
they can take college prep courses from a professor at the 
University of Hawaii in Honolulu.
    Thank you, Madam Chair, Mr. Rangel, Chairman Archer, 
Congressman Portman and Congressman Becerra for your support, 
for your time, and we appreciate your patience and your 
consideration of this important legislation. Thank you.
    [The prepared statement follows:]

Statement of Jerry Grayson, Regional Director, Detwiler Foundation 
Computers for Schools Program

    Mr. Chairman, Honorable Committee Members, Staff and 
Guests:
    Thank you for the privilege of addressing you on what I 
consider legislation important to the country's future.
    My name is Jerry Grayson. I am regional director for the 
Detwiler Foundation Computers for Schools program. That means I 
develop our computer donation program in states and communities 
across the country.
    The Detwiler Foundation began in 1991 when John, Carolyn 
and Diana Detwiler recognized the opportunity to put business 
computers being retired to use in schools--places where the 
level of technology continues to lag significantly behind the 
business standard. Computers for Schools started in California 
and, beginning in 1997, has been branching out to partner with 
organizations across the country. Unofficially, we are the 
nation's single most productive source of donated computers to 
schools. We have facilitated donations of more than 56,000 
computers in 27 states.
    The 21st Century Classrooms Act, part of the Tax Relief Act 
of 1997, was an attempt to enhance those donations with more 
and newer technology. It provides businesses with an enhanced 
tax deduction for donation of equipment two years old or less. 
We are among the many students, parents, teachers and friends 
of education most grateful to Congressman Randy ``Duke'' 
Cunningham for his sponsorship of this far-sighted legislation 
and his championing of better technology in our schools.
    Unfortunately, the promise of the Act has not been 
fulfilled. We at Computers for Schools have received more than 
a thousand calls regarding the Act and have worked with dozens 
of companies eager to put it to use. Most could not for two 
primary reasons: the two-year provision did not fit their 
equipment use cycle and the deduction enhancement did not 
provide significant incentive. In general, a business buys a 
computer with a three-year life cycle in mind. Asking business 
owners to donate equipment before that cycle is complete 
essentially asks them to take a loss on their equipment 
investment. Many in a position to donate--those with 
accelerated equipment use patterns--still found that the 
deduction provisions in the Act did not adequately compensate 
them for the loss of revenue they could receive by getting a 
fair market price for the machines.
    Before us today is the New Millennium Classrooms Act, which 
builds on the foundation laid by Congressman Cunningham's 
initial work. It is our opinion at Computers for Schools that 
the New Millennium legislation will take us closer to 
accomplishing the intent behind the 21st Century Classrooms 
Act. Several elements of the bill are key in this regard; it 
expands the window through which donations can be made from two 
years to three and it provides for a more straight-forward tax 
credit for eligible donations. Additionally, this credit--30 
percent for donations for unspecified direction--will rise to 
50 percent when the donation is designated for enterprise or 
empowerment zone schools. This legislation also helps us expand 
the group of eligible donors and thus raises the potential for 
the significant donations intended.
    I would like to repeat something I said in opening my 
testimony; this is important legislation. Through the breadth 
and depth of our experience at Computers for Schools we have 
seen the kind of difference computer donations can make in our 
schools. But perhaps that is best illustrated by the experience 
of students who have been the recipients of donated computers.
    Ladies and gentlemen of the committee, the legislation you 
are considering has the power to alter lives. I don't have to 
tell you we live in a world increasingly dependent on 
technology. Our children must be prepared for that world as 
thoroughly as is within our power. This is about life options--
the ability and capability of students to make positive choices 
about who they are, what they can do and who they will become. 
When we have the opportunity to provide them the resources 
needed to make those positive choices, and we don't, we have 
stifled their futures.
    The New Millennium Classrooms Act helps open those options. 
The case for computer-aided teaching and its positive impact on 
academic achievement grows stronger every day. Just last week 
in testimony before the Joint Economic Committee, Secretary of 
Education Richard Riley emphasized the importance of technology 
in education. He noted that with an expectation of 70 percent 
growth in computer and technology-related jobs in the next six 
years, students who can use technology effectively will be in 
the best position to build rewarding careers and productive 
lives.
    With this trend as a backdrop, consider that children from 
lower income areas and many disadvantaged minority children--
children less likely to have computers at home--are 
unfortunately also less likely to have computers in their 
schools. For example, schools with 81percent or more 
economically disadvantaged students, as defined by federal 
education Title I eligibility, have one multimedia computer for 
every 32 students while a school with less than 20 percent 
economically disadvantaged students will have a multimedia 
computer for every 22 students. Schools with 90 percent or more 
minority students have one multimedia system for every 30 
students. Additionally, just over 50 percent of the schools 
with 70 percent or more poor students have Internet access 
compared to nearly 80 percent of schools which have less than 
11 percent lower income students.
    Now consider that the very students with the least 
technology available to them are the ones who can be helped 
most by its use. This was borne out by a recent City University 
of New York study that noted dramatic increases in test scores 
for disadvantaged students once computer-aided instruction was 
introduced or increased in their curricula. Computers are 
patient, persistent and operate with total equanimity. These 
characteristics have special relevance for disadvantaged youth 
growing up in tough, often less-than-nurturing surroundings. 
These are also the very youth helped most by this legislation 
because of its incentive clause to encourage equipment 
donations where they are needed most--to enterprise and 
empowerment zones. The New Millennium Classrooms Act is an act 
of empowerment.
    Even outside the target zones delineated in the bill, our 
schools stand in dire need of technology upgrading. Depending 
on which figures you look at, students-per-computer ratio 
across the country can be as low as ten or eleven to one. 
That's about ten students for each computer. But that ratio 
includes millions of woefully substandard machines; 386's, 
286's, Apple IIe's, even old 8086's and Commodore 64's. The 
best that can be said about these systems is that they're a 
step above typewriters, but even that statement is suspect. 
Getting serious, up-to-date education software installed on any 
of these or, in many cases Internet access, is out of the 
question.
    While that ten-to-one ratio of students per computer may 
sound promising, it needs to be put in another context. 
Statistics by the Educational Testing Service show a much lower 
students per computer ratio of 24 students to one multimedia 
computer. Multimedia computers are the type that provide 
adequate access to the Internet and to the kind of software 
that teachers find useful as teaching tools. Keep in mind that 
the students-per-multimedia computer ratio increases to 32 to 
one for lower income school districts, and the Department of 
Education recommends that the optimal ratio of students per 
computer is five to one.
    The New Millennium Classrooms Act would spur the donation 
of nothing older than Pentium II generation technology. This 
raises the bar in our schools where the average machine today 
is the 486SX processor, circa 1990. If enacted, New Millennium 
accepts nothing built prior to 1997 and keeps that standard 
moving forward with the calendar.
    In addition to its direct impact on teaching and learning, 
this bill provides other benefits to help us better prepare for 
the next century.
    The Rand Institute estimates it will cost about $15 billion 
to provide U.S. schools with the technology necessary to 
educate our children for the future. The New Millennium 
Classrooms Act helps us stretch the funds available, providing 
more opportunities for other critical technology needs such as 
teacher training and curricular software.
    As we approach a preferable level of technology in our 
schools, this bill lets us do so in a cost-effective manner--
easing pressure on federal and state budgets. I want to be 
clear; we do not advocate this legislation as a replacement to 
state and federal technology expenditures. This is, however, a 
way to limit the inflation of that spending. Many of you have 
already noted that a time of better budget health is also a 
time to be more mindful of spending. From a cost-benefit 
perspective, New Millennium helps keep the pulse of spending 
more even and secures more for less in the process.
    New Millennium also triggers more business interest and 
involvement in our communities and our schools. I am not here 
to discuss the extent and nature of that involvement--that is 
for local schools and communities to decide. But the Act gives 
businesses another tool through which they can contribute to 
their communities. In the process those businesses are not 
penalized financially and, when they concentrate their giving 
on empowerment and enterprise zones, they may--I emphasize 
may--they may see a slight benefit. The Act also encourages the 
most environmentally sensitive of recycling options re-use.
    This Act also has Welfare to Work and workforce development 
implications. In our work, Computers for Schools is partnered 
with numerous refurbishing facilities where trainees are the 
chronically underemployed or unemployed. To give one example, 
our donations in New Jersey, which go through four state 
community colleges, are refurbished and outfitted for schools 
by former welfare recipients. They are learning skills that can 
move them so far ahead it turns welfare checks into distant 
specks in their rear-view mirrors.
    Other trainees through our program include inmates at 
correctional facilities, students in vocational and technical 
schools and those in high schools and even middle schools. For 
all of them, the equation is the same; exposure to the latest 
technology only enhances their training, making them more ready 
for key certifications such as A+ and MCSE or Microsoft 
Certified Systems Engineer. These skills are in high demand. 
They can make the transition from welfare to work, or crime to 
work, permanent. But it doesn't happen without the opportunity.
    As we see it at Computers for Schools, opportunity is what 
the New Millennium Classrooms Act is all about. First and 
foremost, it opens a world of opportunity to students and 
teachers in the classroom. It gives local, state and federal 
budget makers the opportunity to extend their tight dollars. 
For business, it's an opportunity to contribute to students and 
communities without being penalized in the process. And we have 
just noted how this legislation can help trainees.
    In every case we are talking about the impact this Act can 
have on people's lives. Our children face a daunting world of 
constant change. It's the least we can do to give them all the 
positive tools at our disposal to help them meet that change. 
The New Millennium Classrooms Act does that.
    Thank you.
      

                                


    Mrs. Johnson of Connecticut. Thank you, Mr. Grayson.
    Dr. Gillespie.

STATEMENT OF CHRISTINA GILLESPIE, M.D., RECENT GRADUATE, TUFTS 
 UNIVERSITY SCHOOL OF MEDICINE; AND RECIPIENT, NATIONAL HEALTH 
                   SERVICE CORPS SCHOLARSHIP

    Dr. Gillespie. Good afternoon. Thank you for the 
opportunity to testify. I am Christina Gillespie, a recent 
medical school graduate and a recipient of the National Health 
Service Corps Scholarship. This morning, I would like to 
address the taxation of the National Health Service 
Scholarship. I will be sharing the ways in which the taxes 
affected me personally and the potential long-term consequences 
of the tax on the health of our Nation's most needy 
communities.
    I started medical school with a clear professional goal. 
Having worked extensively with the homeless during my 
undergraduate years, I knew I wanted to be a primary care 
physician working in a community with limited access to health 
care. As you probably know, completing a medical education is 
no small feat. But I was surprised to find that the biggest 
barriers were financial. My first year of medical school would 
cost me $45,000. For even a middle-class or an upper-class 
family, the cost is prohibitive. I, like many of classmates, 
turned to loan programs to finance my education. My projected 
debt at graduation was $200,000, and I was told by my financial 
aid counselor that a career in primary care was an unrealistic 
goal because I would not be able to afford my loan payments. 
And a career in primary care working with underserved 
populations? Get real.
    It is no exaggeration to say that the National Health 
Service Corps Scholarship Program was a dream come true. The 
National Health Service would pay for my tuition and fees, 
books, and provide me with a monthly stipend. In return for 
each year of funding, I would spend 1 year working in what is 
known as a Health Professional Shortage Area, or a medically 
underserved community. The program was a way to meet my 
personal and professional goals without being crippled by 
$200,000 of interest-accumulating debt.
    In the summer of 1997, half way through my medical 
training, I received notice that I would be taxed on the full 
amount of my scholarship. I had always been taxed on my stipend 
payments, but now I would also need to pay taxes on my tuition 
and fees, about $45,000 a year, as if it were income. The 
reason for the new taxation was that section 117FE of the 
Internal Revenue Code had been misinterpreted. The IRS had 
taken the position that the scholarship amount was compensation 
for future services. This position is erroneous. I am not and 
never will be an employee of the National Health Service. While 
in medical school, I was a full-time student receiving a 
scholarship. While in residency training, I will be employed by 
my residency program. And when I begin my National Health 
Service commitment, I will be employed by the clinic in which I 
am working.
    I would like to share with you some numbers to make this 
issue more concrete. Before the taxation, I was receiving $915 
a month in stipend payments. After the tax went into effect, I 
received only $254 a month. This was not nearly enough to cover 
the cost of rent, food, utilities, and transportation. I had 
only a few months forewarning and scrambled to borrow 
additional money in loans. To add insult to injury, I had to 
borrow even more money to pay State taxes, which were not 
automatically withheld. My service commitment, of course, 
remains unchanged despite my additional loan burden.
    The National Health Service Corps Scholarship Program is an 
innovative way to encourage health care providers to work in 
areas which otherwise would have no access to care. 
Unfortunately, the new tax has made the program less attractive 
to students. It would certainly be a shame to see some of our 
Nation's most dedicated health care professionals lose their 
enthusiasm for underserved communities simply because of an 
unfair tax.
    Hopefully, I have impressed upon you the importance of 
reversing the National Health Service tax. This is an issue 
about access to higher education for low- and middle-income 
families. This is an issue about unfair taxation. And, finally, 
this is an issue about providing quality health care to 
America's most needy communities.
    Please support H.R. 1414, a bill which seeks to reverse the 
taxation of the National Health Service Corps Scholarship.
    Thank you for your attention.
    [The prepared statement follows:]

Statement of Christina Gillespie, M.D., Recent Graduate, Tufts 
University School of Medicine; and Recipient, National Health Service 
Corps Scholarship

    Good Morning. Thank you for inviting me to speak before you 
today. I am Christina Gillespie, a recent graduate of Tufts 
University School of Medicine, and a recipient of the National 
Health Service Corps Scholarship. This morning I would like to 
address the taxation of the NHSC Scholarship. I will be sharing 
the ways in which the tax has affected me personally, and the 
potential long-term consequences of the tax on the health of 
our nation's most needy communities.
    I started medical school with a clear professional goal. 
Having worked extensively with the homeless during my 
undergraduate years, I knew I wanted to be a primary care 
physician working in a community with limited access to health 
care. Four years later, my commitment is unwavering.
    As you probably know, completing a medical education is no 
small feat. But I was surprised to find that the biggest 
barriers were financial. My first year of medical school would 
cost me $45,000 (that was in 1995, today a year of education at 
my medical school is approximately $52,000). For even middle 
class and upper-middle class families, the cost is prohibitive. 
I, like many of my classmates, turned to loan programs to 
finance my education. My projected debt at graduation was 
$200,000, and I was told by my financial aid counselor that a 
career in primary care was an unrealistic goal, because I would 
not be able to afford my loan payments. And a career in primary 
care, working with under-served populations? Get real.
    It is no exaggeration to say that the National Health 
Service Corps Scholarship program was a dream come true. The 
NHSC would pay for my tuition and fees, books, and provide me 
with a monthly stipend. In return for each year of funding, I 
would spend 1 year working in what is known as a Health 
Professional Shortage Area--a medically under-served community. 
I would also commit to specializing in a primary care field. 
This program was a way to meet my personal and professional 
goals of providing health care for the nation's most needy 
populations, without being crippled by $200,000 of interest-
accumulating debt.
    In the summer of 1997, half way through my medical 
training, I received notice that I would be taxed on the FULL 
amount of my scholarship. I had always been taxed on my stipend 
payments, but now I would also need to pay taxes on my tuition 
and fees, about $45,000 a year, as if it were income. The 
reason for the new taxation was that section 117 (c) of the 
Internal Revenue Code had been misinterpreted. The IRS had 
taken the position that the scholarship amount was compensation 
for future services. This position is erroneous. I am not, and 
never will be an employee of the NHSC. While in medical school, 
I was a full time student receiving a scholarship, not an 
employee. While in residency training, I will be employed by my 
residency program. And when I begin my National Health Service 
commitment, I will be employed by the clinic in which I am 
working.
    I would like to share with you some numbers, to make this 
issue more concrete. Before the taxation, I was receiving 
$915.00 per month in stipend payments. After the taxation went 
into effect, $661.00 was withheld monthly, and I received only 
$254.00 per month. As a medical student, I was used to living 
on a small budget, but two hundred and fifty dollars was not 
nearly enough to cover the cost of rent, food, utilities, and 
transportation. I had only a few months forewarning, and 
scrambled to borrow additional money in loans. To add insult to 
injury, I had to borrow even more money to pay state taxes, 
which were not automatically withheld. My service commitment 
remains unchanged, despite my additional loan burden. I will be 
working as a family practitioner, and will take a position with 
less compensation than I might earn in a more wealthy 
community.
    The National Health Service Corps scholarship program is an 
innovative way to encourage health care providers to work in 
areas which otherwise would have no access to care. 
Unfortunately, the new tax has made the program less attractive 
to health professional students. It would certainly be a shame 
to see some of our nation's most dedicated health care 
professionals lose their enthusiasm for under-served 
communities simply because of an unfair tax.
    Hopefully I have impressed upon you the importance of 
reversing the NHSC tax. This is an issue about access to higher 
education for lower and middle-income families. This is an 
issue about unfair taxation. And finally, this is an issue 
about providing quality health care to America's most needy 
rural and inner city communities.
    Please support H.R. 1414, a bill which seeks reverse the 
taxation of the NHSC scholarship. Thank you for your attention. 
I would be happy to answer any questions at this time.
      

                                


    Mrs. Johnson of Connecticut. Thank you very much, Dr. 
Gillespie.
    Mr. Baratta.

  STATEMENT OF JEFFREY A. BARATTA, INVESTMENT BANKER, STONE & 
     YOUNGBERG LLC; AND MEMBER, CALIFORNIA-FEDERAL SCHOOL 
                    INFRASTRUCTURE COALITION

    Mr. Baratta. Yes, good afternoon, Madam Chair and Mr. 
Rangel. Thank you very much for this opportunity. I look 
forward to hopefully providing some information that can help 
here.
    My name is Jeff Baratta and I am an investment banker with 
Stone & Youngberg, a broker-dealer in California. I am also a 
member of the California-Federal School Infrastructure 
Coalition. I first would like to thank Chairman Archer for his 
comments on such a national pressing need as school facilities 
earlier this morning. I would also like to thank Chairman 
Rangel for his development of the tax credit bond issue through 
the QZAB bond program just several years ago. And also to you, 
Madam Chair, for your authoring of H.R. 1760.
    My purpose for being here today is to discuss with you the 
expansive facility needs within the State of California for 
school construction and also to discuss with you the 
enhancements made, as outlined in H.R. 1660, that clearly will 
help the tax credit bond program. the State of California is 
currently in need of $20 billion in funds for school 
facilities, new construction and for modernization projects 
over the next 5 years.
    In November 1998, the State passed a statewide bond measure 
totaling $60.2 billion for K-12 education. Just to give you an 
idea of how quickly that is going to be spent, a 600-student 
elementary school will cost approximately $7.75 million. A 
1,000-student middle school will cost $13.75 million. And a 
2,000-student high school will cost approximately $36 million. 
Now there are many, many school districts in the State of 
California that will need more than just one of those schools a 
year. So the money will go quickly.
    There is a process in the State of California where 
statewide construction dollars can be combined with local 
general obligation bond debt to help build and rehab school 
facilities. The issue surrounding that is that the local school 
district must first get a two-thirds super majority vote to get 
the bond passed. Since 1986, there have been 711 school 
districts that have attempted this type of election. Only 378 
of those districts have passed for a 53 percent passage rate. 
On top of the 330 school districts that failed over that time 
period, there were many other school districts that didn't even 
bother to take the expense of the election and try it out 
because they had no hope. And, quite frankly, they had no hope 
because the tax rates on the local GO bonds were too high and 
the voters would just say no.
    The Qualified School Construction Bond Program, outlined in 
H.R. 1660 can help reduce the local GO bond tax rates by 25 to 
30 percent thereby allowing more funds to go directly to the 
school district and get more of those facility needs taken care 
of.
    This truly is a three-pronged approach to facility funding. 
We need local dollars out of the general obligation bonds. We 
need State dollars through the statewide bond program, and we 
need Federal dollars through the tax credit bond program.
    The tax credit bond program, through the Qualified School 
Construction Bond, H.R. 1660, has truly been enhanced and it 
has been done in six different ways that I would like to touch 
on. The move from annual tax credit allocations to quarterly 
allocations will actually help the end investor match up the 
credit against when their tax liabilities are due. The ability 
to carry over the unused tax credits into the next year will 
help the end investor again focus on the fact that they can use 
those tax credits in any year and not put a penalty cost 
against the security itself because they may not be able to use 
the tax credit in 1 year or the next.
    The ability to strip the security, the principal portion of 
the security, away from the tax credit portion is a very large 
piece as well. You then get two securities and you can market 
them to two different buyers. The increase investor base into 
the retail funds, the new construction component and the 
elimination of the private contribution will also help in the 
pricing. If the price goes up, the yield goes down and 
effectively what you want to do is move the investment moneys 
from the investment community over into the schools and the 
school sites to meet their facility needs.
    In today's world, school construction financing is a very 
expensive way to meet the need, so the country needs 
participation on all three levels. They need the local, State, 
and Federal Government to provide those needs. I truly believe 
that H.R. 1660 can accomplish the goals of enhancing the 
marketability of the bonds and increasing the ease of use for 
schools.
    Madam Chair, you authored H.R. 1760 and it encompasses the 
same tax credit mechanisms as H.R. 1660. There are many other 
proposals on the table today, but none like H.R. 1660 and 1760 
that will provide the most resources in the most efficient and 
timely fashion. Schools can receive approximately $25 billion 
with a calculated cost of $3.1 billion. The need is now and 
this is an incredible opportunity to leverage the most dollars 
for the least cost.
    I thank you for this opportunity and would request a letter 
be entered into the record from the Cal-Fed Coalition to the 
California delegation.
    Mrs. Johnson of Connecticut. So ordered, Mr. Baratta.
    [The information follows:]

                Cal-Fed School Infrastructure Coalition    
                                       Sacramento, CA 95814
                                                       June 8, 1999

The Honorable Randy Cunningham
US House of Representatives
2238 Rayburn House Ofc. Bldg. Washington, D.C. 20515

    Dear Representative Cunningham:

    Cal-Fed School Infrastructure Coalition is writing to ask your 
support and co-sponsorship for two important bills addressing the need 
to assist local communities in the rebuilding of California's schools. 
These bills are HR 1660, The Public School Modernization Act introduced 
by Congressman Charles Rangel (D) of New York and HR 1760 introduced by 
Congresswoman Nancy Johnson (R) of Connecticut.
    The Cal-Fed School Infrastructure Coalition is a coalition of local 
school districts, architects, financial firms, developers and school 
suppliers working to support federal tax and other incentives to help 
California and local communities address the pressing need to renovate, 
modernize and build schools. The school facilities problem in 
California has reached critical proportions and necessitates 
partnerships among local, state and federal governments.
    California's school facility needs for 1995-96 through 2005-2006 
are:
    Growth (including $3 billion for land costs and backlog) $15.0 
billion
    Modernization $10.0 billion
    Deferred Maintenance $5.0 billion
    HR 1660 would allocate $3.029 billion in school bonds to 
California, while HR 1760 would allocate $2.927 billion in school 
constructions bonds to our state.
    The national need for repair and renovation of schools, estimated 
by the Government Accounting Office (GAO) in 1996 to exceed $112 
billion requires federal partnerships with states and local 
communities. Today, the cost of projected repairs, renovations and 
technology additions surpasses the GAO 1996 estimate. In addition, more 
than $70 billion will be needed to build new schools to meet record 
enrollments.
    The School Modernization Act of 1999 (HR 1660) will provide $22 
billion in zero interest bonds for the construction and renovation of 
public school facilities at a five-year cost of $3.7 billion. 
Representative Rangel's bill also will expand the Qualified Zone 
Academy Bonds (QZAB) program.
    Established in the Taxpayer Relief Act of 1997, QZABs provide the 
equivalent of zero interest bonds for a variety of activities including 
school renovation and repair. Underway in a number of states, QZABs are 
financing innovative school renovations to support new education 
programs.
    The America's Better Classroom's Act (HR 1760) also will provide 
federal assistance to states and local communities through tax credits 
to underwrite $25 billion in school modernization bonds.
    The major difference between these two bills is the allocation of 
the bonds. HR 1660 allocates $25 billion to the States, half ($12.5 
billion) based on the existing Title I formula, and the other half 
($12.5 billion) to the 100 school districts with the largest number of 
low-income students. HR 1760 bases the allocation on Title I and the 
school aged population and allocates all the bonds directly to the 
States for allocation to local communities.
    A federal investment of $3.1 billion will generate $25 billion in 
school construction bonds. Under both HR 1660 and HR 1760 the federal 
government provides a tax credit in lieu of interest and the 
responsibility for the bond principal will be at the state and local 
level. All decision-making prerogatives related to the actual school 
renovation and construction remains a local community decision.
    We look forward to working with the members of the California 
delegation to enact bipartisan provisions to help local communities 
build the schools their children will need to succeed in the 21st 
century.
    We hope you can join as a cosponsor on HR 1660 and HR 1760 to 
assist communities in California build and modernize their schools.

            Sincerely yours,
                                                  Mike Vail
                                                          President

MV/ad
California Cosponsors to HR 1660
(Rangel bill)
5 MATSUI (D-CA)

6 WOOLSEY (D-CA)

8 PELOSI (D-CA)

13 STARK (D-CA)

16 LOFGREN (D-CA)

17 FARR (D-CA)

24 SHERMAN (D-CA)

29 WAXMAN (D-CA)

30 BECERRA (D-CA)

31 MARTINEZ (D-CA)

32 DIXON (D-CA)

33 ROYBAL-ALLARD (D-CA)

35 WATERS (D-CA)

37 MILLENDER-MCDONALD (D-CA)

42 BROWN, GEORGE (D-CA)

46 SANCHEZ (D-CA)

50 FILNER (D-CA)


California Cosponsors to HR 1760
(Johnson bill)

38 HORN (R-CA)
      

                                


    Mr. Baratta. Thank you.
    [The prepared statement follows:]

Statement of Jeffrey A. Baratta, Investment Banker, Stone & Youngberg 
LLC; and Member, California-Federal School Infrastructure Coalition

    Mr. Chairman and Members of the Ways and Means Committee:
    I appreciate the opportunity to address you on this very 
important issue of new financing techniques for school 
construction. Mr. Chairman we greatly appreciate your attention 
and support on this pressing national issue of school 
facilities. It is important to thank Mr. Rangel as well for his 
role in developing the Qualified Zone Academy Bond (QZAB) 
program and the concept of using federal tax-credits to help 
school facility needs.
    I am here today to provide testimony to the expansive 
facility needs of school districts and the enhanced market 
viability of the Qualified School Construction Bond (QSCB) 
program, school modernization bonds, as outlined in H.R. 1660.
    As we are all painfully aware, school facility needs 
increase every day as our school age population continues to 
grow. In the State of California alone school facility needs 
top $20 billion for the next five years. For example the cost 
of one 600 student elementary school is $7.75 million. A 1,000 
student middle school will cost $13.75 million and a 2,000 
student high school will cost $36 million. Student enrollment 
is increasing at such a rapid rate that many communities will 
have to build more than one elementary school, more than one 
middle school and more than one high school per year.
    In November 1998, California voters approved a $6.2 billion 
state-wide bond measure for K-12 education. Although this will 
help many schools it is woefully short of meeting the current 
needs.
    Through a two-thirds majority vote election, school 
districts throughout California can avail themselves to locally 
secured general obligation bonds. From 1986 through the present 
time, 711 school districts have attempted local general 
obligation bond elections. Of that number approximately 53% or 
378 school districts have been successful. On top of the 333 
unsuccessful campaigns there are many more districts that knew 
they did not have a chance and therefore did not spend the 
money to try an election. Local communities are constantly 
struggling to balance local tax rates with the need to 
modernize existing schools and to build new schools to meet 
rapidly rising enrollments.
    One of the main reasons school districts lose elections is 
that the tax rates are more than the voters are willing to pay. 
H.R. 1660 will provide some relief to those districts that have 
been unsuccessful and also to those districts who have been 
unable to try an election. Zero interest bonds through the QSCB 
program can reduce the tax-rate associated with the repayment 
of the bonds. This federal program will give school districts 
another option to fund school facilities.
    H.R. 1660 is another piece of the puzzle named ``School 
District Capital Funding.'' Through the proper financing 
structure, local districts can be helped in their overall 
attempt to receive local general obligation bond approval. The 
zero-interest tax-credit program will allow school districts to 
lower tax rate estimates and ultimately get approval from their 
local voters.
    Districts will start to be able to meet the growing school 
facility need through the combination of local general 
obligation bond financing, California construction dollars, 
from the recently approved state-wide bond measure, and federal 
tax-credit bonds.
    Mr. Rangel has done an excellent job, through H.R. 1660 of 
combining the most pressing needs of school districts and the 
requirements of the traditional tax-exempt bond markets.
    The current QZAB program has been used in certain 
situations and has been very successful for those districts 
able to participate. As with any new program, interest starts 
slowly and then builds. Every day more and more districts are 
looking to the QZAB program for help.
    H.R. 1660 has taken the primary aspects of the tax-credit 
bonds in the QZAB program and increased their ease of use for 
schools.
    H.R. 1660 provides six distinct enhancements that will 
greatly increase the marketability and trading value of the 
QSCB program to the bond market. These enhancements will 
immediately create new capital funding strategies for schools 
to meet their increasing facility needs.
    The six market enhancements are as follows:
     Quarterly tax-credit payments versus annual tax-
credit payments.
     The ability to carry-over unused tax-credits from 
year to year.
     The ability to strip the principal and tax-credit 
components apart and make two separate securities.
     The increased investor base (i.e. retail investor 
funds)
     The addition of new construction to the list of 
possible uses of the proceeds.
     The elimination of private contributions.
    Mr. Chairman, let me please take a few moments to discuss 
the price and yield relationship within the bond market. In the 
bond market prices and yields move in an inverse relationship 
to each other. As prices for a security increase the yield on 
that security decreases. Therefore, a security worth $100 (par 
amount) that sells above the par amount, (at a premium) will 
provide greater proceeds to the issuer and a lower yield to the 
investor. So, if a security sells at a price below par (at a 
discount) the issuer receives less proceeds and the investor 
receives a higher yield.
    The following is an expanded discussion of the above listed 
enhancements:

                         Quarterly Tax-credits 

    The move from annual tax-credit payments in the QZAB 
program to quarterly tax-credit payments in the QSCB program 
allows the investors to match up their tax liability, which is 
due quarterly, with the earned tax-credit. Waiting for one full 
year to realize any return from the investment is difficult and 
therefore costly in the pricing of the investment. This is one 
reason why a discount is attached to the QZAB program. 

                         Tax-credit Carry-over 

    Allowing unused tax-credits to carry-over into the 
following year is a great enhancement. In the QZAB program an 
increased discount was associated with the loss of tax-credits 
when the investor could not use them. Therefore, investors were 
calculating a total return based on approximately 80% usage of 
the tax-credits. Having the ability to transfer credits into 
the following year when the investors tax liability comes back 
eliminates the need to attach a higher discount to the 
security. 

                     Stripability of the Security 

    The ability to strip the principal component of the 
security from the tax-credit component will lower the discount 
of the overall security. This stripping mechanism allows for 
the capturing of the two distinctly different credits. The 
principal component will carry the credit of the issuing 
agency, while the tax-credit component will carry the credit of 
the United States government. This difference means a higher 
price is paid for the tax-credits (which means a lower yield), 
while a somewhat lower price will be paid for the principal 
maturity (which means a higher yield). The two separate prices 
will be better than that of the single priced security. Another 
reason for this situation is that investors differ as to their 
end requirements. To a tax-credit investor the need to receive 
principal re-payment is far less than the current need to 
receive a quarterly tax-credit or benefit. To an investor 
looking for no current income a single principal maturity in 
the future fits perfectly. Because of these differences school 
districts through their financial team can market the 
securities to the absolute best buyers thereby receiving the 
most proceeds for their projects. 

                        Increased Investor Base 

    Any time you can increase the competition (willing buyers), 
you can typically decrease the costs associated with selling 
the product. The decreased yield, which translates into a 
higher price for the security will provide more proceeds to 
schools and further help the capital funding requirements.

                      New Construction Component 

    This enhancement is a major change for school districts. 
New construction is a very important piece for growing school 
districts. With many school districts building at least one 
school per year and sometimes even more, including new 
construction as an authorized use is paramount. The bonds will 
benefit in the market because of the increased presence. As the 
securities become more prevalent in the market place the 
liquidity problems will decrease and a secondary market will 
appear. 

                   Private Contribution Elimination 

    By eliminating the private contribution component the small 
suburban and rural school districts can participate. Sometimes 
it is difficult to get businesses to look to these smaller 
districts when a larger district is located in the same 
geographic area. Small school districts are squeezed further 
with lower fiscal resources. A zero interest loan program, such 
as the QSCB program, can help those districts meet their 
facility needs. 

                             Other Issues 

    Two other issues are important to discuss. The first issue 
is that H.R. 1660 will utilize a different tax-credit 
calculation than what is currently in place for the QZAB 
program. This new rate will capture the volatility of the 
market by fluctuating on a daily basis, until the pricing day 
of the bonds. This is different than the old QZAB rate which is 
calculated monthly based on a prior month's market.
    The second issue deals with the size of the program. A 
multi-billion dollar bonding program will cause the market to 
take notice. With a $25 billion program the liquidity issue 
associated with the QZAB program should effectively be removed. 
Investors will no longer be faced with an illiquid or non-
tradable security. These two issues will greatly help the bonds 
be priced closer to their original par value.
    It is important to remember that school district capital 
needs are greater than the resources that can be provided from 
one or two government entities, such as the local governments 
or the state governments or even the federal governments. In 
today's world building schools is so expensive participation by 
local, state and federal governments is the only way we will 
develop the resources to build and modernize the schools our 
country needs to serve all our children in the future. H.R. 
1660 will augment local and state resources to help provide 
needed capital facilities to school districts throughout the 
Nation. The changes, as discussed above, will enhance the 
market viability of the tax-credit bonds. This will in turn 
provide greater proceeds to construct and modernize more 
schools.
    Congresswoman Nancy Johnson has recently authored H.R. 
1760. This bill encompasses the same mechanisms for facility 
funding as the QSCB program, as defined in H.R. 1660. There are 
many other proposals on the table today as well. All of the 
proposals can be viewed as beneficial to schools, but in what 
magnitude and how quickly? H.R. 1660 and H.R. 1760 provide the 
most resources in the most efficient and timely fashion. H.R. 
1660 has been calculated as providing $25 billion for school 
facilities at a cost of $3.1 billion over the next five years. 
The need is now and this is an incredible way to leverage the 
most dollars for the least cost.
    It is time for the Federal government to partner with local 
agencies to help provide facilities for our children. Both H.R. 
1660 and H.R. 1760 can help provide for this national facility 
need. I urge your support and thank you for your time and 
consideration.
      

                                


    Mrs. Johnson of Connecticut. Thank you for your testimony.
    Ms. Zedalis.

STATEMENT OF LEWIS H. SPENCE, DEPUTY CHANCELLOR FOR OPERATIONS, 
  NEW YORK CITY BOARD OF EDUCATION; AS PRESENTED BY PATRICIA 
 ZEDALIS, CHIEF EXECUTIVE, DIVISION OF SCHOOL FACILITIES, NEW 
                  YORK CITY BOARD OF EDUCATION

    Ms. Zedalis. Thank you, Madam Chair, Mr. Rangel, and 
Members of the Committee. Please convey my thanks also to 
Chairman Archer for giving me the opportunity to address you 
today on the issue of how the Federal Government can play a 
meaningful and positive role in rebuilding America's schools. 
My name is Patricia Zedalis and I am head of School Facilities 
for the New York City Board of Education, the largest public 
school system in the country with 1.1 million school children 
and over 11,000 individual school buildings.
    I especially want to thank Congressman Charles Rangel for 
his leadership on this issue. Congressman Rangel initiated 
congressional activity in this area when he authored the 
Qualified Zone Academy Bond legislation in 1997. He followed 
through on his commitment to improve our Nation's schools by 
introducing H.R. 1660, the Public School Modernization Act of 
1999, which is before this Committee.
    I also want to thank Congressman Joe Crowley for his 
efforts to focus attention on this very important issue in this 
session of Congress.
    Finally, I want to commend Congresswoman Nancy Johnson for 
her efforts to bring the issue of school construction to the 
attention of her colleagues on this Committee. It is the New 
York City Board of Education's sincere hope that the consensus 
that exists between Representatives Rangel and Johnson on the 
need to address this issue will lead to a bipartisan bill that 
is passed by the 106th Congress. Congresswoman Johnson's bill 
is substantively identical to Congressman Rangel's proposal, as 
both proposals provide the same form and level of tax credits 
to pay the interest on State and local school construction 
bonds. However, the Board prefers Congressman Rangel's 
legislation because its allocation formula is more targeted at 
high-need communities and New York City is certainly a high-
need community.
    Across America, urban, rural, and high-growth suburban 
school districts all face difficult school modernization 
problems. The one thing they hold in common is the struggle to 
find the resources to modernize their existing school 
facilities and to build new schools for rapidly rising student 
enrollment. The need has been well-established by the General 
Accounting Office.
    Just to give you an idea of New York City's needs, we have 
had explosive enrollment growth in the nineties, which has 
begun to taper off. Our enrollment growth was in excess of 
20,000 a year. One of the largest other school systems in the 
New York is Yonkers. It only has around 22,000 students. So we 
replicated the school district of Yonkers every year for most 
of the nineties.
    School facility problems negatively impact the safety and 
learning of school children everywhere. The average school 
building in America is 50 years old. These buildings were not 
designed to meet the demands of current and future technology. 
The GAO also reports that 38 percent of urban school districts, 
29 percent of suburban, and 30 percent of rural school 
districts have at least one building needing extensive repair 
or total replacement. In New York City, we have 280 schools 
that require complete exterior modernization and many of those 
schools also need complete interior modernization. The issues 
of school replacement and extensive repair affect over 14 
million students nationwide. I am here today to ask you to make 
an investment in these 14 million children. That investment 
begins with the fundamental right of every child to a safe and 
adequate learning environment that supports achievement at the 
most challenging levels. Where students learn what really 
matters.
    In 1993, New York City took the lead in our State by 
setting rigorous graduation standards that were eventually 
adopted statewide. This year's eighth graders will be the first 
high school class required to take an all-regions curriculum 
developed by the New York State Board of Regents. We are asking 
these students to take 3 years of science, 2 of those years in 
laboratory sciences, though there are not adequate facilities 
to support their learning. Without significant investment in 
the physical infrastructure of the New York City public 
schools, we are setting these children up to fail. At the 
moment, we have over $100 million in our current capital plan 
to take care of upgrading science labs. That will only handle 
approximately 50 schools. We have 200 high schools in New York 
City.
    We as adults lack credibility when we tell children that we 
have high expectations for their achievement and that literacy, 
math, and science are paramount while at the same time we shunt 
them into outdated and overcrowded classrooms with meager 
laboratories and decrepit laboratories. The environment in 
which we place our children speaks volumes about what we really 
expect from them. It is the children in our schools who face 
the real building and capacity issues everyday. It is our 
students who must cope with leaking roofs, peeling plaster, and 
overcrowded classrooms. The lack of adequate facilities takes 
its greatest toll on instruction and hampers our ability to 
effectively implement early intervention strategies, such as 
reducing class size and critical grades, which is an extremely 
important initiative in New York City and we are definitely 
constrained in achieving our goals of class-size reduction 
unless we can provide new facilities.
    In addition, school districts must be able to provide 
adequate air conditioned space for its most at-risk students 
who will attend summer school classes in an effort to perform 
at grade level and ultimately acquire the tools needed to lead 
our Nation into the 21st century.
    This is not a call for massive federalization of school 
construction, which is and should remain a primary 
responsibility of States and localities. However, it is 
recognition that the infrastructure needs of public schools 
have out-paced the ability of State and local governments to 
meet these demands by themselves. New York, like many 
localities, is doing its part in school construction. The City 
is addressing the board's school infrastructure needs with a $7 
billion capital plan over the next 5 years. As you just heard, 
California has a $60.2 billion statewide program. Our capital 
plan's main goals are to expand our program to bring our 
existing facilities to a state of good repair, increase program 
accessibility, upgrade or provide new speciality spaces, and to 
increase capacity to relieve overcrowding, provide universal 
pre-K, and class-size reduction. This $7 billion doesn't 
achieve everything that we need to do in terms of technology 
and modernizing our existing buildings. It just gets us further 
along.
    We need partners at the Federal level to meet all of our 
pressing needs. The idea of the Federal Government assisting 
localities and addressing their critical needs is not a novel 
concept. You have acted decisively in many other areas, 
transportation being one of them because it is considered 
important to the national economy. I am sure that no one here 
questions the importance of schools to our economic 
competitiveness in the 21st century. We believe that schools 
deserve the same attention that many other areas such as 
transportation receive.
    As Congress considers the broad range of school 
construction proposals that have been introduced in this 
Congress, New York City hopes that Congress will ultimately 
enact legislation that addresses the magnitude of the 
nationwide need for construction assistance. H.R. 1660 does 
that.
    First and foremost, Congress must pass legislation that 
offers substantial and immediate assistance to local schools. 
Given the $200 billion in construction needs nationwide, the 
Board strongly supports H.R. 1660. H.R. 1660 will provide 
meaningful support----
    Mrs. Johnson of Connecticut. Ms. Zedalis, could you 
conclude your remarks since the red light has been on for a 
while now?
    Ms. Zedalis. Yes, thank you very much. H.R. 1660 will 
provide $1.8 billion to New York City schools. The $1.8 billion 
will help us to begin to start working on the interior of our 
buildings. It will help us to provide much needed new seats. 
Our current plan provides 32,000 with a need of over 75,000 
seats.
    [The prepared statement follows:]

Statement of Lewis H. Spence, Deputy Chancellor for Operations, New 
York City Board of Education; as presented by Patricia Zedalis, Chief 
Executive, Division of School Facilities, New York City Board of 
Education

    Mr. Chairman and Members of the Committee:
    Thank you Chairman Archer for the opportunity to address 
the issue of how the federal government can play a meaningful 
and positive role in rebuilding America's schools.
    I especially want to thank Congressman Charles Rangel for 
his leadership on this issue. Congressman Rangel initiated 
congressional activity in this area when he authored the 
Qualified Zone Academy Bonds program in 1997. He followed-
through on his commitment to improving our nation's schools by 
introducing H.R. 1660, the School Infrastructure Modernization 
Act of 1999. As the committee is aware, this legislation would 
provide tax credits to pay the interest on nearly $25 billion 
in state and local bonds over the next two years to build and 
modernize up to 6,000 public schools.
    I also want to thank Congressman Joe Crowley for his 
efforts to focus attention on the need for school construction 
legislation in this session of Congress. While he is not a 
member of the Ways and Means Committee, he has been a strong 
advocate in Washington for the needs of New York City's public 
schools and we are grateful for his work in this area.
    Finally, I want to commend Congresswoman Nancy Johnson for 
her efforts to bring the issue of school construction to the 
attention of her colleagues on the Ways and Means Committee. It 
is the New York City Board of Education's sincere hope that the 
consensus that exists between Representatives Rangel and 
Johnson on the need to address this issue will lead to a 
bipartisan bill that is passed by the 106th Congress. 
Congresswoman Johnson's bill is substantively identical to 
Congressman Rangel's proposal as both proposals provide the 
same form and level of tax credits to pay the interest on state 
and local school construction bonds. However, the Board prefers 
Congressman Rangel's legislation because its allocation formula 
is more targeted at high-need communities.
    Across America, urban, rural, and high-growth suburban 
school districts all face different and difficult school 
modernization problems. Yet, the one thing that they hold in 
common is the struggle to find the resources to modernize 
existing school facilities and to build new schools for rapidly 
rising student enrollments. The national need for repair and 
renovation of schools, estimated by the Government Accounting 
Office in 1996 to exceed $112 billion, requires federal 
partnerships with states and local communities. Today, the cost 
of projected repairs, renovations and technology additions 
surpasses the GAO 1996 estimate. In addition, more than $70 
billion will be needed to build new schools to meet record 
enrollments.
    School facility problems negatively impact the safety and 
learning of school children everywhere. The average school 
building in America is 50 years old. These buildings were not 
designed to meet the demands of current and future technology. 
The GAO also reports that 38% of urban schools, 29% of suburban 
schools, and 30% of rural schools have at least one building 
needing extensive repair or total replacement. This affects 
over 14 million students throughout the nation.
    I am here today to ask Congress to make an investment in 
these 14 million children. That investment begins with the 
fundamental right of every child to a safe and adequate 
learning environment that supports achievement at the most 
challenging levels.
    In 1993, New York City took the lead in our state by 
setting rigorous graduation standards that were eventually 
adopted statewide. This year's eighth graders will be the first 
high school class required to take an all-Regents curriculum 
developed by the New York State Board of Regents. Students will 
need four years of English, three years of math and three years 
of science to graduate. They will have to pass five Regents 
exams, including a Regents exam in Lab Science. We are asking 
these students to take three years of science, two of those 
years in laboratory sciences, though there are not adequate 
facilities to support their learning. Without significant 
investment in the physical infrastructure of the New York City 
public schools, we are setting these children up to fail.
    We as adults lack credibility when we tell children that we 
have high expectations for their achievement and that literacy, 
math and science are paramount while at the same time we shunt 
them into outdated and overcrowded classrooms with meager 
libraries and decrepit laboratories. The environment in which 
we place our children speaks volumes about what we really 
expect from them. It is the children in our schools who face 
the real building and capacity issues every day. It is our 
students who must cope with leaking roofs, peeling plaster and 
overcrowded classrooms. The lack of adequate facilities takes 
its greatest toll on instruction and hampers our ability to 
effectively implement early intervention strategies such as 
reducing class size in critical grades. In addition, school 
districts must be able to provide adequate, air-conditioned 
space for its most at-risk students who will attend summer 
school classes in an effort to perform at grade-level and 
ultimately acquire the tools needed to lead our nation into the 
21st century.
    This is not a call for massive federalization of school 
construction, which is, and undoubtedly will remain, a primary 
responsibility of states and localities. However, it is 
recognition that infrastructure needs of public schools have 
outpaced the ability of state and local governments to meet 
these demands by themselves. New York City, like many 
localities, is doing its part on school construction. The City 
is addressing the Board's school infrastructure needs; $7 
billion has been committed to our five-year capital plan, which 
will:
     Expand our program to bring our existing 
facilities to a state of good repair;
     Increase program accessibility to achieve 
compliance with the Americans with Disabilities Act;
     Upgrade or provide new specialty spaces, such as 
science laboratories, to meet expanded graduation requirements; 
and
     Increase capacity to relieve existing overcrowding 
and accommodate enrollment growth, and reduce class size in 
pre-kindergarten and early grades.
    Of course, much more needs to be done, and New York City 
and other school systems around the nation cannot do it alone. 
We need partners at the federal level to meet all these 
pressing needs.
    The idea of the federal government assisting localities 
address their critical needs is not a novel concept. Last year, 
Congress acted decisively to provide federal support to our 
state and local communities as a partner in building America's 
roads, highways, and transit system. In 1998 Congress 
authorized spending of $250 billion for these purposes. I do 
not question the wisdom of these investments, given their 
importance to our national economy. However, I do question the 
rationale of those who claim that we cannot afford to invest 
ten cents for every highway dollar on schools given their 
relationship to our economic competitiveness in the 21st 
century marketplace.
    As Congress considers the broad range of school 
construction proposals that have been introduced in the 106th 
Congress, the New York City Board of Education hopes that 
Congress will ultimately enact legislation that addresses the 
magnitude of the nationwide need for construction assistance.
    First and foremost, Congress must pass legislation that 
offers substantial and immediate assistance to local schools. 
Given the $200 billion in construction needs nationwide, the 
Board strongly supports H.R. 1660, which was authored by 
Congressman Rangel earlier this year and is awaiting 
consideration by this committee.
    H.R. 1660 will provide meaningful support to local 
communities by providing a tax credit to the holder of the 
school modernization bonds in lieu of interest paid by the 
school district. This financing scheme wisely maximizes a 
relatively small federal investment of $3.1 billion by 
leveraging $25 billion in local school construction and 
modernization. Local communities, such as New York City, would 
benefit from the savings and by the investment in the public 
school infrastructure. We would also benefit from the bill's 
flexibility since it involves no federal interference in local 
school decisions. The design and selection of the construction 
and modernization projects will be totally within the 
discretion of state and local public school officials, a 
concept that has always enjoyed bipartisan support.
    We appreciate Chairman Archer's interest in assisting local 
schools through changes in the current arbitrage requirements, 
and do not argue that it could be of some benefit to certain 
schools with less-immediate capital needs. However, the 
proposal to extend the rebate period from two to four years 
would be of little value to New York City's public schools. New 
York City's practice is to issue general obligation bonds to 
reimburse cash flow expended on capital projects. Bond 
proceeds, therefore, do not earn any interest that would be 
subject to increase from the proposed legislation.
    From New York City's perspective, H.R. 1660 offers the most 
meaningful form of federal assistance because the interest-free 
subsidy really adds up. We estimate that the school 
modernization bond program contained in this legislation will 
allow New York City to issue $1.8 billion in bonds and save up 
to $890 million in interest payments. With $1.8 billion in 
additional funds, New York City would expand its program to 
upgrade many of its 1,100 buildings, particularly to undertake 
critical work on interior systems; not investing in these 
buildings means we will lose capacity. With these additional 
funds we would also dedicate a portion for adding new seats. 
Under our five-year plan we project that we will add over 
32,000 new seats in our classrooms, but our total need is 
actually in excess of 75,000 seats. We could also begin the 
rebuilding of our physical education facilities, such as 
gymnasiums, because education doesn't just occur in the 
traditional classroom setting. Clearly, this is a significant 
incentive for us to improve our school infrastructure that can 
really make a difference in our ability to improve learning 
spaces for our children.
    As we approach the new millennium, America must invest the 
resources needed to improve school facilities and to provide 
our students with greater numbers of well-equipped classrooms 
to accommodate smaller class sizes and to enhance learning 
environments. We must send a message to our children that they 
matter to us, that they deserve state of the art schools, that 
they are an integral part of the health of our communities. 
Unfortunately, many of our nation's children live in poor urban 
and rural neighborhoods, isolated from the economic, cultural 
and civic life of America. Yet they are as bright, full of 
potential, and precious to our future as the most privileged 
children growing up in affluence. We need these and all 
children to succeed if our nation is to thrive economically and 
socially in the next century. Therefore, I respectfully request 
the committee to approve H.R. 1660 and bring it to the House 
floor for full debate and consideration.
    Thank you Mr. Chairman and members of the Committee for 
your time and consideration of the New York City Board of 
Education's views on school construction.
      

                                


    Mrs. Johnson of Connecticut. Thank you.
    Ms. Zedalis. Thank you.
    Mrs. Johnson of Connecticut. I certainly appreciate your 
point about the needs of the cities, but I have been 
increasingly impressed with the needs of the rural areas. They 
have a very, very small tax base to shoulder any of these 
costs, as you all pointed out, school construction costs have 
absolutely zoomed. If we are going to provide modern, high-tech 
environments, they are much more costly. If you do not help 
rural communities in the same way, then you will have, in a 
sense, the kids from the country backward. Any agricultural 
enterprise now, I mean Dearing, in my part of the country, 
requires very sophisticated computer knowledge and attritional 
knowledge. And not to have those kids have classrooms that are 
sophisticated is really a disadvantage to them. So that is why 
my bill is different in that it takes half of the money and 
allocates on the basis of student population. I don't think we 
can afford to, as important as it is to rebuild the inner-city 
schools, I don't think we can afford to disadvantage the rural 
schools.
    Dr. Gillespie, I wanted you to go through in a little more 
detail, but not long because other people have questions too, 
why your stipend of $915 a month was reduced to $254 a month 
just by the IRS making the decision that your stipend was 
taxable? Now they did not make a similar decision in regard to 
all other stipends. And one of the reasons I think this has to 
be addressed legislatively is that it wasn't fair to single out 
one program and treat it differently than other programs. But I 
don't understand why the stipend would have been quite so 
dramatically impacted, less than 25 percent remaining. Could 
you go through your calculation there a little more precisely?
    Dr. Gillespie. Yes, the decrease in the stipend was so 
dramatic because the tuition at my medical college was so high. 
So because the tuition was being considered income, the tuition 
is about $35,000 a year and all of that was being considered 
income in addition to my stipend payment. So when taxes were 
withheld from the monthly stipend only $254 was left.
    Mrs. Johnson of Connecticut. So they withheld FICA taxes 
for the first time?
    Dr. Gillespie. What?
    Mrs. Johnson of Connecticut. Did they withhold FICA taxes 
for the first time from the $35,000 portion?
    Dr. Gillespie. Actually, FICA taxes were not withheld. They 
withheld Federal Income taxes.
    Mrs. Johnson of Connecticut. And then also income taxes?
    Dr. Gillespie. Right. They were withheld as income, as if 
it were income.
    Mrs. Johnson of Connecticut. I think the thing that is hard 
for people to see is that this money had no FICA tax on it 
either so that is 15 percent between FICA and Medicare and then 
income taxes over and above that. Fifteen percent for FICA and 
Medicare taxes. And then over and above that the income tax. 
Otherwise, you couldn't account for such a heavy load.
    Dr. Gillespie. Income taxes accounted for the entire 
withholding.
    Mrs. Johnson of Connecticut. Yes, Social Security taxes. 
OK, thank you.
    Mr. Rangel.
    Mr. Rangel. Madam Chairwoman, you will be pleased to know 
that our bills really are compatible when it comes to allowing 
the rural areas to participate in the bond issues. The major 
difference is that mine concentrates more of its benefits on 
areas of need than yours does. I think that is very important 
because of the diversity in formulas that we have in our major 
States. The amazing thing is that we never have a problem with 
the budget for construction of prisons. I just never understand 
why that budget is so easy to enact and an adequate education 
budget is not.
    But I want to thank the supporters of this approach, 
including Mrs. Johnson because Mrs. Johnson is a breath of 
fresh air when it comes to innovative ideas. The Majority 
thinking on her side of the aisle is that we should remove all 
requirements by States and local governments for Federal aid. 
There is an article in today's New York Times which states that 
Governors should be able to determine what they want to do with 
the money rather than to have it earmarked toward improving 
education. The Chairman has said he believes that the approach 
of Senator Coverdell, which would allow individual savings 
accounts to accumulate tax-free interest earnings if the 
accounts are dedicated for the child's education. Also, more 
and more Republicans talk about vouchers. Many parents prefer 
to send their children to private schools, but I am impressed 
that more and more people recognize the fact that the education 
of our children in the public school system is a national issue 
that cannot be ignored. And I really want to thank you for your 
support.
    Last week, Madam Chairwoman, the Conference of Mayors voted 
their overwhelming support for this approach. I am anxious to 
work with you and Chairman Archer to make our bills even more 
compatible so that we do not cause damage to our budget as we 
encourage people, local and State governments, to invest in 
education.
    I want to thank the entire panel. Dr. Gillespie, I will be 
working with the Chairwoman to see what remedy we can have for 
the problems that you had to endure personally and, of course, 
Mr. Grayson--where is your foundation located, Mr. Grayson?
    Mr. Grayson. We are in La Jolla, California, but we, as I 
noted, serve the entire country. We operate in 27 States at 
this time.
    Mr. Rangel. Well, I wish you would send some additional 
information as to what you do and where you do it because----
    Mr. Grayson. I have got some with me and you are welcome to 
it.
    Mr. Rangel. I appreciate the fact that it is targeted to 
the areas where it is most needed. I want to thank the entire 
panel.
    I yield back the balance of my time.
    Mrs. Johnson of Connecticut.
    Mr. English.
    Mr. English. Thank you, Madam Chair. Mr. Bennett, welcome. 
I appreciate your coming here to offer such eloquent testimony 
for Qualified State Tuition Plans, which have been in the case 
of Pennsylvania very successful. It is my privilege to work 
with your counterpart and colleague, Barbara Hafer, in 
Pennsylvania on expanding the tax breaks. I notice here 
specifically you encourage the Committee to consider the 
exclusion from gross income for distributions from Qualified 
Tuition programs and also eliminate all Federal income taxes on 
accrued interest. I wonder, knowing as you undoubtedly do, that 
there was an attempt by this Committee to write a much broader 
tax break for these plans and that in 1997 when we did our tax 
bill, we were faced with a violent reaction, that's the best 
way I can describe it, from the Treasury, which opposed the 
extent of the tax break we had written and charged that we were 
creating an opportunity for tax breaks for the rich and 
specifically abuses by high-income taxpayers.
    Mr. Bennett, can you put us at ease on this? Are these 
programs the sorts of programs that are utilized by plutocrats. 
I mean is Bill Gates' kid going to be in this program?
    Mr. Bennett. Well, of course, the programs are open to all 
citizens regardless of income. We find from the results of the 
million students that are enrolled in it now, the great 
majority, over 55 percent are in the middle-income bracket, 
family income between $20,000 and $70,000.
    Mr. English. And you don't see any way that high-income 
taxpayers could somehow structure this to be a special tax 
break or exclusion for income?
    Mr. Bennett. No, because if they use it for anything other 
than higher educational expenses, then it is taxable.
    Mr. English. That is wonderful. That puts me at ease.
    Now can you tell me how many qualified State tuition plans 
currently allow participation by private colleges or allow a 
break that is comparable to that for State institutions be 
extended over to private colleges?
    Mr. Bennett. All plans, all prepaid plans of the 20 allow 
for public or private institutions to participate. A student 
can choose wherever they want to go and the tuition will be 
paid to that institution. The savings plan States obviously 
have a program where the proceeds that are earned while it is 
in the invested plan can be spent anywhere. And, of course, 
those are market-driven and it very well could produce enough 
income to pay for any private institution's tuition, no matter 
what the cost.
    Mr. English. I have not seen a formal study on this, Mr. 
Bennett, but my impression is that the tax break allowable for 
a private institution in some of the State programs, and I 
applaud them for including private schools, the break for 
private institutions is really not as great as the one for 
public institutions. And that is where I would like to bring 
Dr. Kepple in. Welcome and thank you very much for representing 
our smaller institutions in Pennsylvania, which I have a number 
of within my congressional district.
    Mr. Kepple. Yes, you do, sir.
    Mr. English. Mr. Bennett in his testimony makes the point 
that there needs to be some sort of regulatory regime for 
private prepaid tuition plans if we end up creating a tax 
incentive for those. Would you care to comment on what you 
think would be appropriate. And I take it you don't really 
object to that?
    Mr. Kepple. We do not object at all. We believe that is an 
appropriate move, and we certainly support the 529 section and 
would follow those basic rules.
    Mr. English. Well, I think that is outstanding. As both of 
you gentlemen know, I have legislation in currently that you 
have referenced in your testimony that would allow for a level 
tax playingfield for both kinds of institutions. I hope both 
kinds of programs ultimately are available and flourish because 
I think it is a great way for middle-class families to save. I 
am running out of time, but I want to thank both of you for 
highlighting these points before our Committee and providing 
eloquent testimony.
    Mr. Kepple. Thank you.
    Mr. English. Thank you, gentlemen.
    Chairman Archer [presiding]. Mr. Hulshof.
    Mr. Hulshof. Thank you, Mr. Chairman. I am constrained to 
make a quick comment to my friend from New York, and I don't 
know if this puts me in the open-minded Republican category or 
some other characterization that he chooses to make. There are 
some of us, most of us, who do not believe that there is a one-
size-fits-all regarding education. If we are truly sincere 
about helping our kids learn and get a world-class education, 
we should look at a variety of things. The gentleman from New 
York talked about vouchers. And, clearly, low-income 
scholarships allowing parents make those choices is one facet. 
I spent some time this morning talking about the Savings for 
Student Accounts, which really does provide the flexibility and 
puts it in the hands of the parents because I don't believe any 
American student should be discriminated against because he or 
she goes to a public school or private school or is home-
schooled. So I make that remark.
    I also applaud Mr. English, your efforts, which you talked 
about. What we tried to do in H.R. 7 was take many of these 
free-standing bills and roll them into one. For instance, Dr. 
Gillespie, you will be happy to know that we do in H.R. 7, you 
talk about 1414, which is a free-standing bill, we incorporate 
that idea in this comprehensive Education Savings and School 
Excellence Act because we have heard the stories of people just 
like you. So we want to make sure that not only the National 
Health Corps Scholarship program but the F. Edward Abare Armed 
Forces Health Profession Scholarship and Financial Assistance 
Program, which is a mouthful, also gets the same treatment. So 
that is in H.R. 7.
    Mr. Baratta, let me ask you a question and to preface the 
question, let me tell you that I posed this same identical 
question to the former Secretary of the Treasury, Mr. Rubin, 
and if it is any consolation to you, he didn't have the answer 
for me that day either. So having said that, especially 
regarding the Qualified Zone Academy Bond Program, do you have 
any idea how many school districts across the country have 
utilized QZABs to help provide additional construction?
    Mr. Baratta. Yes, sir, I can answer that with the knowledge 
that I have today. There may be a couple out there that I am 
not aware of. The State of California had two school districts 
combined for a $12 million issue. And the Chicago public 
schools did one also, I believe it was $14 million. In the 
State of Oklahoma, there were 10 rural school districts that 
participated in the program. I have contacts with Milwaukee 
public schools and some others in Kansas City. And I believe 
Texas is moving along as well.
    Mr. Hulshof. So as far as those here today who have taken 
advantage, I think you speak correctly, so let me first commend 
you for having the answer that the Secretary did not. Can you 
tell me, since you have the information, let me go one step 
further and ask you specifically those, the QZABs used, I think 
for the Fresno and Clovis school districts in your home State 
of California, what percent of par those issues sold for?
    Mr. Baratta. The Fresno-Clovis transaction actually sold at 
a $91 price, which means 91 cents on the dollar came to the 
school district.
    Mr. Hulshof. OK. Let me move on and really continue the 
questioning that Mr. English asked. And, again, we incorporated 
his idea, Mr. Bennett and Dr. Kepple, of the Qualified Tuition 
programs, and, Mr. Bennett, let me ask you the reverse question 
that Phil asked Dr. Kepple regarding being willing to embrace 
oversight. With that caveat--and I read your testimony--would 
you be supportive of allowing private prepaid tuition plans 
were the private institutions to have some similar type of 
oversight that you have?
    Mr. Bennett. Well, I think we support any effort to broaden 
the accessibility across the country. The difference is that 
the IRS regulation under 529 is really not enough oversight as 
far as the investment portfolio is concerned, as far as the 
financial stability. It penalizes the participant and protects 
the Federal Government in the Treasury from tax fraud, but it 
doesn't protect the consumer from purchasing a plan that is 
mismanaged, whereas SEC regulation would require filings and 
disclosure and management requirements and criteria before they 
could even sell the plans to the public.
    Mr. Hulshof. I appreciate that. Thank you, each of you, for 
your presence and testimony today.
    Chairman Archer. Mr. Hayworth.
    Mr. Hayworth. Thank you, Mr. Chairman. I thank the 
witnesses for taking time to come and visit with us today. I 
apologize for the fact that I was not able to be here earlier. 
I had another markup so I couldn't hear all of your comments.
    Mr. Baratta, specifically to you, I am interested in your 
assessment of H.R. 1660. And I am concerned about provisions 
that incorporate Davis-Bacon into this legislation, into the 
whole question of school construction. Won't inclusion of 
Davis-Bacon needlessly increase the cost of school construction 
under this bill?
    Mr. Baratta. Only being able to respond to the California 
issue, the answer to that is, no, it won't. We have a 
prevailing wage in the State of California for schools 
currently and that will not affect us in any way.
    Mr. Hayworth. What is interesting, you mentioned prevailing 
wages in the State of California because, as you do in your 
profession, I wonder if you may have done an independent 
analysis of the impact of expanding Davis-Bacon requirements on 
this bill, that is, its impact on project cost and small 
business and also minority contractors and women? Has anyone 
done that type of analysis within California?
    Mr. Baratta. None that I have seen.
    Mr. Hayworth. OK. So really we don't really have empirical 
data to show us that it doesn't adversely impact those 
contractors and those folks?
    Mr. Baratta. None that I can provide you today, yes.
    Mr. Hayworth. Well, I hope that at the Federal level such 
an analysis I think would be helpful, especially when we are 
trying to assess just what transpires with wages. You mentioned 
California specifically and our concerns at the Federal level, 
this would be the first Federal tax bill that would incorporate 
Davis-Bacon in such a manner. And as we prepare, I guess the 
question would be why should we make such a drastic change in 
policy at a time when the Department of Labor has admitted it 
is not capable of accurately surveying wages for purposes of 
issuing the required wage determinations under the act?
    Mr. Baratta. I will have to beg off on that question, sir, 
not necessarily being in that area.
    Mr. Hayworth. OK, sir, well, again, if anyone on the panel 
would care to address it? I just believe we have some real 
concerns if the idea is to, in fact, improve school facilities 
and I welcome State initiatives and, indeed, at the national 
level, just 2 weeks ago, my Education Land Grant Act was passed 
unanimously on the floor of the House of Representatives that 
will help rural areas in terms of land costs and free up a 
great deal of government-controlled, federally controlled land 
for rural school districts. Its impact will be great, but 
before we take such a drastic step in terms of federalizing, if 
you will, school construction, I am very concerned about school 
construction costs, and I think that if we include Davis-Bacon, 
we are looking at an inflation in costs in terms of 
construction by 5 to 38 percent. So those would be my concerns.
    Again, I thank all of you for taking time, and I yield back 
the balance of my time.
    Chairman Archer. The Chair would like to inquire briefly, 
and I apologize that I did not get to listen to the testimony 
of each one of you, but I do thank each of you for coming. The 
Members on the Committee on both sides of the aisle have a 
strong desire to do everything we can to improve the 
educational structure of the country. You have that same 
desire, perhaps in different ways, but the same desire. After 
we have done appropriate within the Tax Code, the Tax Code 
cannot solve the problems. When we talk about the debt that our 
young people have today to go to college, it is a matter of 
great, great concern. But the Tax Code cannot solve all of that 
problem.
    As I look at the numbers, the cost of a public, 4-year 
college education in the last 10 years has more than doubled, 
more than doubled. What are we going to do to restrain the 
cost? We are terribly concerned about health care costs 
outstripping the rate of inflation, and we feel that we just 
cannot continue on that path. What are we going to do about 
education? Are they receiving twice the education today in 
their colleges as we did 10 years ago? I don't think so. Does 
anyone have a suggestion as to what we do about lowering cost 
so that young people can afford education and do not have so 
much debt?
    Mr. Kepple. Mr. Chairman.
    Chairman Archer. Dr. Kepple.
    Mr. Kepple. Mr. Chairman, I think we mentioned some of 
these things while you were out, but under our private prepaid 
program, we expect to actually reduce the cost of higher 
education, and we are doing it by investing those funds, 
prepaid early and giving a discount to parents and grandparents 
who have prepaid those funds. So, indeed, we hope to in fact 
reduce the costs over time of our programs. But at the same 
time not reduce the quality that, in fact, is the envy of the 
world. It is a very important part of this formula.
    Mr. Bennett. Mr. Chairman, what happens in the qualified 
plans is that the tuition is locked in at today's price so no 
matter how high the tuition cost increases at the colleges, the 
investments cover that increase. So that to the American family 
who is paying for college, they are only paying at 1999 prices 
when their kid may not even go to college until 2010. The other 
thing you are seeing some of the State legislatures do, such as 
in Virginia and in our State, is they have put a moratorium for 
2 years or 3 years on the increase in tuition at the public 
universities in the State, which give families an opportunity 
to at least plan for the next 2 to 3 years on the inflation 
factor of college costs.
    Chairman Archer. I think the prepaid tuition program is a 
wonderful program that so many colleges have gone into, which 
guarantees to young couples their children will be able to go 
to school at the fixed price at whatever time they decide to 
fund it. But that is only one side of the ledger. That has 
nothing to do with the cost of the education. Ultimately that 
cost must be recovered. If it is not recovered from the prepaid 
tuition parents, it will be recovered somewhere else. I don't 
know whether any of you get into that, but I just wonder what, 
if any, efforts are underway in the colleges today to restrain 
the costs?
    Mr. Kepple. Mr. Chairman, I can't speak for every college 
and university in the country but I have been at three 
different institutions over the last 25 years, and I can't tell 
you of a board meeting at any of those institutions where this 
topic was not discussed with our board. It is an issue that we 
all try to grapple with at every meeting and seek different 
ways, innovative ways we hope, to reduce the cost. We are 
seeing I think a reduction in the increase in tuition certainly 
at most private institutions, and I suspect also at public 
institutions as well. So the cost inflation rate that you have 
seen in the last several years is in fact being reduced, but we 
have not solved the problem.
    Chairman Archer. OK. Thank you very much. You are excused 
and we will get to our next panel.
    Mr. Baroody, Mr. Capps, Mr. Bloomfield, Mr. McCants, Mr. 
Greenberg, and Mr. Leonard, if you will come to the witness 
table.
    Welcome, gentlemen. You are encouraged to keep your oral 
testimony within 5 minutes and, without objection, your entire 
written statement will be inserted in the record. And after 
identifying yourself, each of you may proceed.
    Mr. Baroody, will you lead off, please?

STATEMENT OF MICHAEL E. BAROODY, SENIOR VICE PRESIDENT, POLICY, 
  COMMUNICATIONS AND PUBLIC AFFAIRS, NATIONAL ASSOCIATION OF 
                         MANUFACTURERS

    Mr. Baroody. Yes, sir, and thank you very much. I would 
like to thank the Chairman and the Members of the Committee for 
giving us the opportunity to testify and for holding these very 
important hearings. My name is Michael Baroody, and I am here 
to testify on behalf of the National Association of 
Manufacturers, our 14,000 members, large, medium, and small, 
and our 350 member associations, and especially the 18 million 
people who make things in America. And I am here to testify in 
favor of progrowth and----
    Chairman Archer. Mr. Baroody, will you suspend for a 
moment?
    Mr. Baroody. Yes, sir.
    Chairman Archer. The Chair encourages all of our guests and 
staff to take seats. If they wish to converse, to do so outside 
the Committee room.
    Now, Mr. Baroody.
    Mr. Baroody. Thank you, Mr. Chairman. I am here to testify 
in favor of progrowth and proworker tax relief.
    America's economy has expanded impressively over the past 
18 years, with only one relatively mild downturn in that entire 
period. At the NAM, we are proud of the disproportionately 
large contribution American manufacturers have made to that 
expansion. Coupled with fiscal restraint in recent years, our 
booming economy has filled Federal coffers beyond expectations 
and yielded the first Federal budget surplus in a generation.
    Throughout the past decade, the NAM has been an advocate 
for growth, I would say for ``more growth.'' And against the 
widespread common wisdom in the early nineties that growth 
rates of 2 percent or so were the best we could expect, the NAM 
insisted we could do better with growth rates of 3 percent or 
more. Over the past 3 years, this economy has averaged 
noninflationary growth of about 4 percent, and we believe it 
has proven us right.
    The fiscal 2000 budget resolution approved by Congress with 
its projections for a 10-year budget surplus of almost $800 
billion, not including Social Security revenues, rests on the 
assumption of continued growth. We strongly agree the surplus 
should be returned to taxpayers through tax relief, but believe 
just as strongly that a substantial portion of the total tax 
cut should take the form of an insurance policy for continued 
growth. Last December, the NAM announced our advocacy for 
across-the-board reductions in tax rates for just that reason. 
We thought such tax rates balanced between individuals and 
corporations would give us a balanced growth stimulus. We 
thought then and think now that it would be the best insurance 
policy for growth. But if such a broad-based tax cut seems for 
the time out of reach, we nonetheless continue to believe that 
growth-oriented tax cuts should be included in the package for 
the sake of maintaining our expansion and realizing Congress's 
current revenue projections.
    As the Chairman knows, because the NAM has carried on a 
much-appreciated dialog with him over the years, we believe 
that the Federal Tax Code is the single largest current 
obstacle to economic growth. It needs to be reformed and 
replaced with a Progrowth Code, but until it is, we believe 
that certain provisions, such as repeal of the corporate AMT 
and the estate tax, a permanent extension of the R&D tax 
credit, and simplification of international tax provisions are 
essential pro-growth incentives that need to be incorporated 
into an otherwise Antigrowth Code.
    I would say also that such progrowth provisions should 
account in our view for about a third of the total tax cut. 
This was the proportion that went to businesses in the tax cuts 
of the sixties and the currently unsettled state of the world 
economy we think justifies a similar portion now. That would 
translate into a 10-year total of about $250 billion, more than 
enough to accommodate the four provisions I have mentioned. 
And, importantly, to ensure the prospects for continued 
expansion.
    The NAM believes that additional relief from the corporate 
alternative minimum tax, the AMT, is a critical component of 
ensuring long-term sustained economic growth in the United 
States. And we note, Mr. Hayworth, the work you have been doing 
to put together a bill that would improve the implementation. 
And we, on behalf of the NAM and the coalition we represent, 
express our gratitude to you for that. Despite the relief that 
was enacted in 1997, many of our member companies, particularly 
those in distressed industries, continue to be burdened by the 
unfair AMT. The NAM believes that the best solution is repeal. 
Short of repeal, we strongly support legislative changes to 
allow corporate taxpayers to use AMT credits more quickly, Mr. 
Hayworth, than they can under current law. It is also important 
to ensure that companies that have paid the AMT are not further 
penalized by losing any of the value of these credits. These 
credits represent assets on the books of AMT companies. We also 
support eliminating arbitrary limits on net operating losses 
and foreign tax credits under the AMT.
    Also, a permanent extension of the R&D tax credit would 
provide an effective economic stimulus. Increased productivity, 
new product development, and process improvements are direct 
results of technological advancements that occur from R&D 
activities. Two-thirds of the growth in manufacturing is 
attributable to productivity improvements from technological 
advance derived primarily from U.S.-based R&D. The 
manufacturing sector performs 77 percent of all private 
industrial R&D in the United States and the R&D tax credit is a 
key factor in promoting that. The tax credit has been 
particularly effective in spurring incremental R&D that 
probably would not have been conducted without additional funds 
provided by this incentive. Also, the R&D tax credit is a job 
creator. More than three-quarters of the credit dollars are 
used for the salaries of American workers performing R&D in the 
United States.
    The temporary tax credit is scheduled to expire a week from 
today on June 30. Its history of lapses and temporary 
extensions stymies planning for R&D activities and exacerbates 
tax compliance difficulties. We strongly urge enactment of a 
permanent R&D tax credit, including a modest increase in the 
alternative incremental research credit, as proposed in the 
bill introduced by Committee Members Nancy Johnson and Bob 
Matsui.
    Another powerful and effective progrowth tax policy would 
be elimination of the death tax imposed on a business when an 
owner dies. The estate tax burden is the leading reason why 
more than two-thirds of family-owned businesses are sold or 
liquidated by heirs. Eliminating this burden would allow small 
business owners to invest more money in expanding their 
companies and hiring additional workers. They could make long-
range plans based on rational business issues and not tax 
policy concerns. Simplification of the current international 
tax regime would also provide an effective economic stimulus by 
reducing compliance burdens and helping to level the 
playingfield between U.S.-based companies and their foreign 
competitors.
    The NAM believes the international tax rules are overly 
complex, arbitrary, and, in many cases, unfair. We will provide 
more expansive comments on international tax issues in 
conjunction with this Committee's hearing scheduled for next 
week, June 30.
    There are also, finally, a number of more targeted tax cuts 
supported by the NAM that would have a positive impact on 
growth and our economy. They certainly include education 
incentives, such as a permanent exclusion for employer-provided 
tuition assistance and an expansion of this benefit to cover 
graduate education, as well as additional incentives for 
training, lifelong learning, and school donations.
    We also support tax rate relief for small businesses 
operating as S corporations and additional capital gains tax 
relief for individuals. In addition, capital gains tax relief 
for corporations is important. Lowering the capital gains tax 
rate reduces the cost of capital and promotes U.S. economic 
growth and job creation. Legislators began the job in 1977 by 
lowering the top rate on individual capital gains from 28 
percent to 20 percent, we hope that efforts will continue by 
enacting similar reductions in capital gains tax rates for 
corporations.
    Clearly, the robust economic growth experienced by the 
United States during most of the past decade has benefited 
businesses and workers alike. We believe it is critical to 
continue this growth and welcome the opportunity to work with 
this Committee to develop progrowth tax policies.
    Thank you for this opportunity.
    [The prepared statement follows:]

Statement of Michael E. Baroody, Senior Vice President, Policy, 
Communications and Public Affairs, National Association of 
Manufacturers

    Chairman Archer, members of the Committee, my name is 
Michael Baroody. I am here to testify on behalf of the National 
Association of Manufacturers; our 14,000 member companies, 
large, medium and small; our 350 member associations; and the 
18 million people who make things in America.
    And I am here to testify in favor of pro-growth and pro-
worker tax relief.
    America's economy has expanded impressively over the past 
18 years, with only one relatively mild downturn in the entire 
period. At the NAM, we are proud of the disproportionately 
large contribution American manufacturers have made to that 
expansion. Coupled with the fiscal restraint of recent years, 
our booming economy has filled federal coffers beyond 
expectations and yielded the first federal budget surplus in a 
generation. This made possible a budget resolution, passed by 
Congress earlier this year, which provides for $778 billion in 
tax cuts over the next ten years.
    Throughout the past decade, the NAM has been an advocate 
for growth. Against the widespread common wisdom of the early 
'90s that growth rates of 2 percent to 2.5 percent were all we 
could expect and all we should strive for--and that growth 
rates in excess of that would reignite inflation--the NAM 
insisted we could and should do better, with growth rates of 3 
percent or more. Regardless of whether we were in a new 
economy, we said, the old formulas and the old certainties 
needed a new look. Over the past three years, this economy has 
averaged non-inflationary growth of about 4 percent. We believe 
we've been proven right.
    The budget resolution I cited--with its projections for a 
10-year budget surplus of almost $800 billion, not including 
Social Security revenues--rests on the assumption of continued 
growth. We strongly agree that the surplus should be returned 
to taxpayers through tax relief--but we believe just as 
strongly that a substantial portion of the total tax cut should 
take the form of an insurance policy for continued growth. 
Without continuing growth, of course, the entire tax-relief 
plan will be frustrated.
    Last December, the NAM announced our advocacy of across-
the-board reductions in tax rates. We called for rate cuts that 
were balanced between individuals and businesses. In that way, 
both the growth stimulus and the tax relief would also be 
balanced--in NAM's terms--between our 14,000 manufacturing 
member companies and the 18 million people who make things in 
America, between America's working families and the companies 
they work for, between the supply side and the demand side. We 
thought then, and think now, that this would be the best 
insurance policy for growth. But if such a broad-based tax cut 
seems for the time out of reach, we nonetheless continue to 
believe that growth-oriented tax cuts should be included in the 
package, for the sake of maintaining our expansion and 
realizing Congress' current revenue projections.
    As you also know, Mr. Chairman, because the NAM has carried 
on a much-appreciated dialogue with you over the years, we 
believe that the federal tax code is the single largest current 
obstacle to economic growth. It needs to be reformed and 
replaced with a pro-growth code. Until it is, we believe that 
certain provisions--such as repeal of the corporate AMT and the 
estate tax, a permanent extension of the R&D tax credit and 
simplification of international tax provisions--are essential 
pro-growth incentives that need to be incorporated into an 
otherwise anti-growth tax code.
    As a final point of preface, Mr. Chairman, we believe that 
such pro-growth provisions should account for about a third of 
the total tax cut. This was the proportion that went to 
businesses in the tax cuts of the '60s and the currently 
unsettled state of the world economy justifies a similar 
portion now. That would translate into a 10-year total of about 
$250 billion--more than enough to accommodate the four 
provisions I have mentioned and, importantly, to ensure the 
prospects for continued expansion.

                             Corporate AMT

    The NAM believes that additional relief from the corporate 
alternative minimum tax (AMT) is a critical component of 
ensuring long-term sustained economic growth in the United 
States. AMT relief enacted in 1997 significantly reduced the 
cost of capital for AMT payers by conforming AMT depreciation 
lives with regular tax lives for property placed in service 
after 1998. Nonetheless, the AMT, sometimes known as the anti-
manufacturing tax, remains an impediment to economic growth and 
job creation in the United States, particularly in the capital-
intensive manufacturing sector of the economy.
    The NAM strongly opposed enactment of the corporate AMT in 
1986, arguing that the AMT would have a negative impact on U.S. 
manufacturing. Unfortunately, this proved to be true. During 
the early 1990's, many companies, particularly in the 
manufacturing sector, reported large losses to their 
shareholders and were forced to reduce employment. At the same 
time, because of the way the AMT works, these companies were 
forced to make large AMT payments to the federal government.
    Mr. Chairman, the NAM welcomed your proposal in 1995 to 
repeal the corporate AMT and worked vigorously for enactment of 
this proposal. Although this effort was not successful, our 
members appreciated your leadership in advancing the more 
limited depreciation reforms enacted in 1997.
    Despite the changes enacted in 1997, many of our member 
companies, particularly those in distressed industries, 
continue to be burdened by the unfair AMT. In order to improve 
this situation, the NAM strongly supports legislative changes 
to allow corporate taxpayers to use AMT credits more quickly 
than they can under current law. It also is important to ensure 
that companies that have paid the AMT are not further penalized 
by losing any of the value of these credits. These credits 
represent assets on the books of AMT companies. The NAM also 
supports eliminating arbitrary limits on net operating losses 
and foreign tax credits under the AMT.

                       A Permanent R&D Tax Credit

    A permanent extension of the research and experimentation 
tax credit, commonly referred to as the R&D tax credit, also 
would provide an effective economic stimulus. The contribution 
of research and development to economic growth cannot be 
overstated. Increased productivity, new product development and 
process improvements are direct results of technological 
advances that occur from R&D activities. In fact, two-thirds of 
the growth in manufacturing is attributable to productivity 
improvements from technological advances derived primarily from 
U.S.-based R&D. According to the National Science Foundation, 
the manufacturing sector performs 77 percent of all private 
industrial R&D in the United States. The R&D tax credit is a 
key factor in promoting increased research spending by 
manufacturers.
    The tax credit has been particularly effective in spurring 
incremental R&D that probably would not have been conducted 
without additional funds provided by this incentive. A number 
of small businesses, which account for $20 billion or 14 
percent of total industrial R&D spending in 1996, also benefit 
from the credit. Moreover, many smaller companies that do not 
conduct enough R&D to benefit from the credit experience a 
``spillover benefit'' when R&D performed by another company 
generates additional business for them and gives them access to 
new technology to improve their productivity.
    The R&D tax credit is also a job creator and an investment 
in our greatest asset: people. More than 75 percent of the 
credit dollars are used for the salaries of American workers 
performing U.S.-based R&D. These trained and skilled workers 
performing R&D enjoy greater economic security and higher 
wages. Without these workers, we would not have the innovative 
ideas that are the genesis of many R&D activities.
    The temporary tax credit is scheduled to expire, once 
again, a week from today on June 30. A history of lapses and 
temporary extensions of the credit, since its initial enactment 
in 1981, stymies business planning for R&D activities and 
exacerbates tax-compliance difficulties. The NAM strongly urges 
enactment of a permanent R&D tax credit, including a modest 
increase in the alternative incremental research credit (AIRC) 
rates, as proposed in the bill (H.R. 835) introduced by 
committee members Nancy Johnson (R-CT-6) and Bob Matsui (D-CA-
5). In addition to extending the credit permanently, the AIRC 
rate increase will provide greater parity for those companies 
that do not qualify for the regular credit.
    The Johnson/Matsui bill enjoys wide bipartisan support. The 
bill's 143 cosponsors include half of the Ways and Means 
Committee members. A companion bill in the Senate (S. 680), has 
43 cosponsors, including half of the Senate Finance Committee 
members.

                            Death Tax Repeal

    Another powerful and effective pro-growth tax policy is 
elimination of the death tax imposed on a business when an 
owner dies. The estate tax burden is the leading reason why 
more than two-thirds of family-owned businesses are sold or 
liquidated by heirs. Under the current system, closely held 
businesses devote significant resources to costly and 
complicated planning to minimize the estate tax, diverting 
major financial resources from hiring and business expansion. 
In short, federal estate taxes take a toll on economic growth 
and job creation. Eliminating this burden would allow small 
business owners to invest more money in expanding their 
companies and hiring additional workers. They could make long-
range plans based on rational business issues and not tax 
policy concerns.
    Just last week, an NAM member and small business owner, Ron 
Sandmeyer Jr. from Sandmeyer Steel Company in Philadelphia, 
appeared before this committee to discuss the difficulties his 
company faces today as it prepares for the transition to a new 
generation of ownership and ask you to eliminate the estate tax 
burden. His testimony reflects the concerns and problems faced 
by many of our 10,000 small and medium manufacturers in trying 
to plan for and pay this onerous tax.

                    International Tax Simplification

    Simplification of the current international tax regime 
would also provide an effective economic stimulus by reducing 
compliance burdens and helping to level the playing field 
between U.S.-based companies and their foreign competitors.
    The NAM believes that the international tax rules in the 
federal tax code are overly complex, arbitrary, and, in many 
cases, unfair. U.S. companies are facing increased competition 
from counterparts in other countries that have the distinct 
advantage of a more rational tax policy. Furthermore, U.S. 
trade and tax policies are at odds. Trade is essential to 
expand our markets, but our current tax system penalizes 
foreign source income by taxing it even more severely than 
domestic source income, and by requiring enormous amounts of 
additional recordkeeping.
    The NAM will provide more expansive comments on 
international tax issues in conjunction with the committee 
hearing scheduled for June 30.

                               Conclusion

    Clearly the robust economic growth experienced by the 
United States during most of the past decade has benefitted 
businesses and workers alike. The NAM believes that it is 
critical to continue this growth and welcomes the opportunity 
to work with this committee to develop progrowth tax policies. 
Undoubtedly, the current tax system represents a major drag on 
the economy and should be replaced with a simpler and fairer 
system that encourages work, investment and entrepreneurial 
activity. Pending reform, there are a number of tax cut 
proposals that fit within the current budgetary constraints and 
that will stimulate job creation and economic growth. These 
pro-growth tax incentives include corporate AMT repeal, a 
permanent R&D tax credit, elimination of the death tax and 
international tax simplification.
    There also are a number of more targeted tax cuts, 
supported by the NAM, which would have a positive impact on our 
economy. Those proposals include education incentives such as a 
permanent exclusion for employer-provided tuition assistance 
and an expansion of this benefit to cover graduate education, 
as well as additional incentives for training, lifelong 
learning and school donations. The NAM also supports tax-rate 
relief for small businesses operating as S-corporations and 
capital gains tax cuts for individuals and corporations.
    We applaud you, Mr. Chairman, for holding these hearings 
and for your commitment to meaningful tax relief for American 
families and businesses. Our members agree with you, Mr. 
Chairman, that if the surplus is not returned to taxpayers 
through tax cuts, it will likely go towards more government 
spending.
      

                                


    Chairman Archer. Thank you.
    Mr. Capps.

   STATEMENT OF R. RANDALL CAPPS, CORPORATE TAX DIRECTOR AND 
 GENERAL TAX COUNSEL, ELECTRONIC DATA SYSTEMS CORPORATION; ON 
                 BEHALF OF R&D CREDIT COALITION

    Mr. Capps. Good afternoon, Mr. Chairman and Members of the 
Committee. My name is Randy Capps. I am corporate tax director 
for Electronic Data Systems. I would like to thank you for this 
opportunity to speak to you about the research and 
experimentation tax credit.
    I am here on behalf of my company, EDS, and the R&D Credit 
Coalition. EDS has been a leader in the global information 
technology services industry for more than 35 years. Our 
140,000 employees deliver management consulting, electronic 
business solutions, and systems and technology services to 
improve the performance of more than 9,000 businesses and 
government clients in approximately 50 countries.
    The R&D Credit Coalition is comprised of 53 trade and 
professional organizations and approximately 1,000 companies of 
all sizes who rely on the credit to reduce the cost of high-
risk research. The Coalition supports a permanent extension of 
the credit and a 1-percent increase in the rates of the 
alternative incremental research credit, as called for in H.R. 
835. Introduced by Congresswoman Nancy Johnson and Congressman 
Robert Matsui, the bill currently has 143 cosponsors. An 
identical bill, S. 680, has 43 cosponsors in the Senate.
    The first point I would like to address with the Committee 
is why the credit is so important. It is important because it 
offsets the tendency to under invest in R&D. The single biggest 
factor driving productivity growth is innovation. However, 
companies cannot capture fully the rewards of their innovations 
because they can't control the indirect benefits of their 
technology on the economy. As a result, the rate of return to 
society from innovation is twice that which accrues to the 
individual company.
    The credit is important because it helps U.S. business 
remain competitive in a world marketplace. And, unfortunately, 
our Nation's private sector investment in R&D, as a percentage 
of GDP, is far below many of our major foreign competitors. 
Foreign governments are competing aggressively for research 
investments by offering substantial tax and other financial 
incentives. Companies that do research in the United States are 
at a disadvantage when competing with foreign-based 
multinationals who have lower research costs.
    The credit is also important because R&D spending is very 
responsive to the incentive it provides. Economic studies of 
the credit have found that a $1 reduction in the aftertax price 
of R&D stimulates approximately $1 of additional private R&D 
spending in the short-run and about $2 of additional R&D in the 
long-run.
    The credit is important because research and development is 
about jobs and people. Investment in R&D is ultimately an 
investment in people, their education, their jobs, their 
economic security, and their standard of living. Dollars spent 
on R&D are primarily spent on salaries for engineers, 
researchers, and technicians. At EDS, over 90 percent of the 
expenses qualifying for the R&D credit go to salaries for 
employees directly involved in research.
    The second point I would like to address with the Committee 
is that the credit should be permanent to have the maximum 
incentive value. Research projects cannot be turned off and on 
like a light switch. If the credit is to achieve its maximum 
return in increased R&D activity, the practice of extending the 
credit for short periods and allowing it to lapse must be 
eliminated and the credit must be made permanent. Only then 
will the full potential of its incentive be felt across all the 
sectors of our economy.
    The final point I would like to address with the Committee 
is that the alternative credit rate should be increased. In 
1996, the elective alternative incremental research credit was 
added, making it available to R&D intensive industries which 
could not qualify for the credit under the regular criteria. 
The alternative credit adds flexibility to address changes in 
business models and R&D spending patterns.
    In addition to making the credit permanent, H.R. 835 
provides for a modest increase in the alternative credit rates 
to bring the incentive effect more in line with that provided 
by the traditional credit. It is important to note that the 
increase in the alternative credit rates is low cost, does not 
affect the structure of the current credit, and is the only 
change endorsed by the Coalition.
    In conclusion, making the R&D credit permanent promotes the 
long-term economic interests of the United States. It will 
encourage investments that lead to innovative products and 
processes that contribute to economic growth, increased 
productivity, new and better U.S. jobs, and higher standards of 
living for all Americans.
    Thank you.
    [The prepared statement follows:]

Statement of R. Randall Capps, Corporate Tax Director and General Tax 
Counsel, Electronic Data Systems Corporation; on behalf of R&D Credit 
Coalition

    Good morning. Mr. Chairman and members of the committee, my 
name is Randy Capps, and I am Corporate Tax Director for 
Electronic Data Systems. I would like to thank you for the 
opportunity to speak with you about the research and 
experimentation tax credit and to thank you and all the members 
of the committee who have supported the credit over the years.
    I am here this morning on behalf of my company and the R&D 
Credit Coalition. EDS has been a leader in the global 
information technology services industry for more than 35 
years. Our 140,000 employees deliver management consulting, 
electronic business solutions, and systems and technology 
expertise to improve the performance of more than 9,000 
business and government clients in approximately 50 countries. 
EDS reported revenues of $16.9 billion in 1998.
    The R&D Credit Coalition is comprised of 53 trade and 
professional organizations and approximately 1,000 companies of 
all sizes who rely on the credit to reduce the cost of high 
risk research. The coalition supports a permanent extension of 
the credit and a one percentage point increase in the rates of 
the alternative incremental research credit as called for in 
H.R. 835. Introduced by Congresswoman Nancy Johnson and 
Congressman Robert Matsui, this bill currently has 143 
cosponsors. An identical bill, S. 680, has 43 cosponsors on the 
Senate side.
    The companies in the Coalition represent a broad range of 
industries including the information technology, electronics, 
chemicals, pharmaceuticals, biotechnology, automotive, and 
manufacturing industries. We are united by our conviction that 
extending the credit is critical to our companies, our economy, 
and an enhanced quality of life for all Americans.
    My own industry, information technology services, was born 
out of basic research and is driven by the applied research of 
hundreds of innovative corporations. This corporate R&D 
produces a growing range of products and services that are 
generating productivity increases throughout the economy. The 
technological revolution that is occurring in my industry is 
replicated in other industries that participate in the 
coalition. These industries are reinventing themselves and in 
the process are creating a broad range of high-paid, high-
skilled jobs in the United States.
    Last week, the Joint Economic Committee held a high tech 
summit that included three days of hearings and a hands on 
demonstration of products and services made possible by 
corporate R&D. Sixteen companies, including EDS, were part of 
the R&D exhibit. EDS showcased our Interactive Billing Services 
which are part of a suite of electronic business applications 
developed by EDS. The cost of this development was reduced by 
the credit. We believe the end result will be productivity 
increases and substantial cost savings for EDS' customers and 
for our customers' customers.
    R&D is the primary source of technological innovation. 
According to the U.S. Office of Technology Policy, 
technological innovation has accounted for up to half of U.S. 
economic growth during the past five decades.

                   I. R&D CREDIT LEGISLATIVE HISTORY

    The R&D credit was enacted in 1981 to provide an incentive 
for companies to increase their U.S. R&D activities. As 
originally passed, the R&D credit was to expire at the end of 
1985. Recognizing the importance and effectiveness of the 
provisions, Congress decided to extend it. In fact, since 1981 
the credit has been extended nine times. In addition, the 
credit's focus has been sharpened by limiting both qualifying 
activities and eligible expenditures. With each extension, the 
Congress indicated its strong bipartisan support for the R&D 
credit. Most recently, the Congress approved a one year 
extension of the credit, until June 30, 1999.
    In 1996, the elective Alternative Incremental Research 
Credit (``;AIRC'') was added to the credit, increasing its 
flexibility and making the credit available to R&D intensive 
industries which could not qualify for the credit under the 
regular criteria. The AIRC adds flexibility to the credit to 
address changes in business models and R&D spending patterns 
which are a normal part of a company's life cycle. The sponsors 
of H.R. 835 and S. 680 recognize the importance of the AIRC. 
Their legislation, in addition to making the credit permanent, 
provides for a modest increase in the AIRC rates that will 
bring the AIRC's incentive effect more into line with the 
incentive provided by the regular credit to other research-
intensive companies.
    According to the conference report of the Tax Reform Act of 
1986, the R&D credit was originally limited to a five-year term 
in order ``to enable the Congress to evaluate the operation of 
the credit.'' It is understandable that the Congress in 1981 
would want to adopt this new credit on a trial basis. The 
credit has long since proven over the seventeen years of its 
existence to be an excellent, highly leveraged investment of 
government resources to provide an effective incentive for 
companies to increase their U.S.-based R&D.
    The historical pattern of temporarily extending the credit 
reduces the incentive effect of the credit. The U.S. research 
community needs a stable, consistent R&D credit in order to 
maximize its incentive value and its contribution to the 
nation's economic growth and sustain the basis for ongoing 
technology competitiveness in the global arena.

                   II. WHY DO WE NEED AN R&D CREDIT?

A. The credit offsets the tendency for under investment in R&D

    The single biggest factor driving productivity growth is 
innovation. As stated by the Office of Technology Assessment in 1995: 
``Much of the growth in national productivity ultimately derives from 
research and development conducted in private industry.'' Sixty-six to 
eighty percent of productivity growth since the Great Depression is 
attributable to innovation. In an industrialized society, R&D is the 
primary means by which technological innovation is generated.
    Companies cannot capture fully the rewards of their innovations 
because they cannot control the indirect benefits of their technology 
on the economy. As a result, the rate of return to society from 
innovation is twice that which accrues to the individual company. This 
situation is aggravated by the high risk associated with R&D 
expenditures. As many as eighty percent of such projects are believed 
to be economic failures.
    Therefore, economists and technicians who have studied the issue 
are nearly unanimous that the government should intervene to increase 
R&D investment. The most recent study, conducted by the Tax Policy 
Economics Group of Coopers & Lybrand, concluded that ``absent the R&D 
credit, the marketplace, which normally dictates the correct allocation 
of resources among different economic activities, would fail to capture 
the extensive spillover benefits of R&D spending that raise 
productivity, lower prices, and improve international trade for all 
sectors of the economy.'' Stimulating private sector R&D is 
particularly critical in light of the decline in government funded R&D 
over the years. Direct government R&D funding has declined from 57% to 
36% of total R&D spending in the U.S. from 1970 to 1994. Over this same 
period, the private sector has become the dominant source of R&D 
funding, increasing from 40% to 60%.

B. The credit helps U.S. business remain competitive in a world 
marketplace

    The R&D credit has played a significant role in placing American 
businesses ahead of their international competition in developing and 
marketing new products. It has assisted in the development of new and 
innovative products; providing technological advancement, more and 
better U.S. jobs, and increased domestic productivity and economic 
growth. This is increasingly true in our knowledge and information-
driven world marketplace.
    Research and development must meet the pace of competition. In many 
instances, the life cycle of new products is continually shrinking. As 
a result, the pressure of getting new products to market is intense. 
Without robust R&D incentives encouraging these efforts, the ability to 
compete in world markets is diminished.
    Continued private sector R&D is critical to the technological 
innovation and productivity advances that will maintain U.S. leadership 
in the world marketplace. Since 1981, when the credit was first 
adopted, there have been dramatic gains in R&D spending. Unfortunately, 
our nation's private sector investment in R&D (as a percentage of GDP) 
lags far below many of our major foreign competitors. For example, U.S. 
firms spend (as a percentage of GDP) only one-third as much as their 
German counterparts on R&D, and only about two-thirds as much as 
Japanese firms. This trend must not be allowed to continue if our 
nation is to remain competitive in the world marketplace.
    Moreover, we can no longer assume that American companies will 
automatically choose to site their R&D functions in the United States. 
Foreign governments are competing aggressively for U.S. research 
investments by offering substantial tax and other financial incentives. 
Even without these tax incentives, the cost of performing R&D in many 
foreign jurisdictions is lower than the cost to perform equivalent R&D 
in the U.S.
    An OECD survey of sixteen member countries found that thirteen 
offer R&D tax incentives. Of the sixteen OECD nations surveyed, twelve 
provide a R&D tax credit or allow a deduction for more than 100% of R&D 
expenses. Six OECD nations provide accelerated depreciation for R&D 
capital. According to the OECD survey, the U.S. R&D tax credit as a 
percentage of industry-funded R&D was third lowest among nine countries 
analyzed.
    Making the U.S. R&D tax credit permanent, however, would markedly 
improve U.S. competitiveness in world markets. The 1998 Coopers & 
Lybrand study found that, with a permanent credit, annual exports of 
goods manufactured here would increase by more than $6 billion, and 
imports of good manufactured elsewhere would decrease by nearly $3 
billion. Congress and the Administration must make a strong and 
permanent commitment to attracting and retaining R&D investment in the 
United States. The best way to do that is to permanently extend the R&D 
credit.

C. The credit provides a targeted incentive for additional R&D 
investment, increasing the amount of capital available for innovative 
and risky ventures

    The R&D credit reduces the cost of capital for businesses that 
increase their R&D spending, thus increasing capital available for 
risky research ventures.
    Products resulting from R&D must be evaluated for their financial 
viability. Market factors are providing increasing incentives for 
controlling the costs of business, including R&D. Based on the cost of 
R&D, the threshold for acceptable risk either rises or falls. When the 
cost of R&D is reduced, the private sector is likely to perform more of 
it. In most situations, the greater the scope of R&D activities, or 
risk, the greater the potential for return to investors, employees and 
society at large.
    The R&D credit is a vital tool to keep U.S. industry competitive 
because it frees-up capital to invest in leading edge technology and 
innovation. It makes available additional financial resources to 
companies seeking to accelerate research efforts. It lowers the 
economic risk to companies seeking to initiate new research, which will 
potentially lead to enhanced productivity and overall economic growth.

D. Private industrial R&D spending is very responsive to the R&D 
credit, making the credit a cost effective tool to encourage economic 
growth

    Economic studies of the credit, including the Coopers & Lybrand 
1998 study, the KPMG Peat Marwick 1994 study, and the article by B. 
Hall entitled: ``R&D Tax Policy in the 1980s: Success or Failure?'' Tax 
Policy and the Economy (1993), have found that a one-dollar reduction 
in the after-tax price of R&D stimulates approximately one dollar of 
additional private R&D spending in the short-run, and about two dollars 
of additional R&D in the long run. The Coopers & Lybrand study predicts 
that a permanent R&D credit would lead U.S. companies to spend $41 
billion more (1998 dollars) on R&D for the period 1998-2010 than they 
would in the absence of the credit. This increase in private U.S. R&D 
spending, the 1998 study found, would produce substantial and tangible 
benefits to the U.S. economy.
    Coopers & Lybrand estimated that this permanent extension would 
create nearly $58 billion of economic growth over the same 1998-2010 
period, including $33 billion of additional domestic consumption and 
$12 billion of additional business investment. These benefits, the 1998 
study found, stemmed from substantial productivity increases that could 
add more than $13 billion per year of increased productive capacity to 
the U.S. economy. Enacting a permanent R&D credit would lead U.S. 
companies to perform significantly more R&D, substantially increase 
U.S. workers' productivity, and dramatically grow the domestic economy.

E. Research and Development is About Jobs and People

    Investment in R&D is ultimately an investment in people, their 
education, their jobs, their economic security, and their standard of 
living. Dollars spent on R&D are primarily spent on salaries for 
engineers, researchers and technicians.
    When R&D results in new products and services, the incentives that 
support R&D translate into salaries of employees in manufacturing, 
administration and sales. Successful R&D also means salaries to people 
in the distribution channels who bring new products to customers and 
service providers and developers of complementary products. Finally, 
customers benefit from advances in technology that improve their 
productivity and ability to compete. By making other industries more 
competitive, research within one industry contributes to preserving and 
creating jobs across the entire economy.
    At EDS more than 90 percent of expenses qualifying for the R&D 
credit go to salaries for employees directly involved in research. 
These are high-skill, high-wage jobs that employ U.S. workers. 
Investment in R&D, in people working to develop new ideas, is one of 
the most effective strategies for U.S. economic growth and competitive 
vitality. Indeed, the 1998 Coopers & Lybrand study shows improved 
worker productivity throughout the economy with the resulting wage 
gains going to hi-tech and low-tech workers alike. U.S. workers' 
personal income over the 1998-2010 period, the 1998 study predicts, 
would increase by more than $61 billion if the credit were permanently 
extended.

F. The R&D credit is a market driven incentive

    The R&D credit is a meaningful, market-driven tool to encourage 
private sector investment in research and development expenditures. Any 
taxpayer that increases their R&D spending and meets the technical 
requirements provided in the law can qualify for the credit. Instead of 
relying on government-directed and controlled R&D spending, businesses 
of all sizes, and in all industries, can determine what types of 
products and technology to invest in so that they can ensure their 
competitiveness in the world marketplace.

III. THE R&D CREDIT SHOULD BE MADE PERMANENT TO HAVE MAXIMUM INCENTIVE 
                                 EFFECT

    As the Joint Committee on Taxation points out in the 
Description of Revenue Provisions in the President's Fiscal 
Year 2000 Budget Proposal (JCS-1-99), ``If a taxpayer considers 
an incremental research project, the lack of certainty 
regarding the availability of future credits increases the 
financial risk of the expenditure.'' Research projects cannot 
be turned off and on like a light switch. If corporate managers 
are going to take the benefits of the R&D credit into account 
in planning future research projects, they need to know that 
the credit will be available to their companies for the years 
in which the research is to be performed. Research projects 
have long horizons and extended gestation periods. Furthermore, 
firms generally face longer lags in adjusting their R&D 
investments compared, for example, to adjusting their 
investments in physical capital.
    In order to increase their R&D efforts, businesses must 
search for, hire, and train scientists, engineers and support 
staff. They must often invest in new physical plants and 
equipment. There is little doubt that a portion of the 
incentive effect of the credit has been lost over the past 
seventeen years as a result of the constant uncertainty over 
the continued availability of the credit.
    If the credit is to provide its maximum potential for 
increased R&D activity, the practice of periodically extending 
the credit for short periods and then allowing it to lapse, 
must be eliminated, and the credit must be made permanent. Only 
then will the full potential of its incentive effect be felt 
across all the sectors of our economy. No one has said this 
more forcefully than Federal Reserve Chairman Alan Greenspan 
who testified at last week's high technology summit. Chairman 
Greenspan was emphatic in his conclusion that, if there is a 
credit, it should be permanent.

                             IV. CONCLUSION

    Making the R&D credit permanent promotes the long-term 
economic interests of the United States. It will eliminate the 
uncertainty over the credit's future and enable businesses to 
make better long-term decisions regarding investments in 
research. Private sector R&D leads to innovative products and 
processes that contribute to economic growth, increased 
productivity, new and better U.S. jobs, and higher standards of 
living for all Americans. By creating an environment favorable 
to private sector R&D investment, a permanent credit will make 
it easier for U.S. companies to compete effectively in the 
global economy and help to ensure the growth of high-skill jobs 
in the United States.
    EDS strongly supports the permanent extension of the R&D 
credit and increasing the AIRC rates by 1 percentage point. The 
credit expires on June 30, 1999. I urge you to provide a 
seamless and permanent extension as soon as possible.
      

                                


    Chairman Archer. Thank you.
    Mr. Bloomfield.

 STATEMENT OF MARK BLOOMFIELD, PRESIDENT, AMERICAN COUNCIL FOR 
                       CAPITAL FORMATION

    Mr. Bloomfield. Mr. Chairman, thank you for the opportunity 
to be here today. For the record, I am Mark Bloomfield, 
president of the American Council for Capital Formation, and I 
am accompanied by Dr. Margo Thorning, our senior vice president 
and chief economist.
    Mr. Chairman, the subject of today's hearing is tax relief 
to strengthen the family and sustain a strong economy. A strong 
economy is necessary to strengthen the family and I will 
therefore focus my remarks on tax policy to promote 
competitiveness, growth, and retirement security.
    The American Council proposes that if Congress decides to 
enact a multi-year tax cut, a substantial portion should be 
dedicated to savings and investment initiatives. We offer as a 
model two well thought out initiatives enacted since World War 
II that moved this country toward a tax system suitable for the 
first post-war period. One was proposed by a Democratic 
president, the other by a Republican. In our view, the striking 
characteristic of the Kennedy-Johnson tax cuts of the sixties 
and the Reagan tax cuts of the eighties is that they were not 
confined to tax cuts and taxes on consumption, but provided 
liberal reductions in tax rates on growth-producing savings and 
investment. Both plans fueled economic growth in succeeding 
years.
    As with the past generations, a major responsibility of 
today's generation is to lay a strong economic basis for the 
future.
    The question then before all of us is which tax cuts are 
most effective in enhancing competitiveness, increasing 
economic growth, and promoting retirement savings? To try to 
answer that question in anticipation of today's hearing on a 
1999 tax bill, the American Council for Capital Formation 
commissioned five new studies:
    One, an analysis of the macroeconomic impact of the 1997 
capital tax cuts;
    Two, an international survey of death taxes in 24 
countries;
    Three, an analysis of the impact of the death tax on 
investment, entrepreneurship, and employment;
    Four, an international comparison of the taxation of 
savings in 24 countries; and
    Five, an analysis of pension reform.
    We summarized the results of these studies in our written 
testimony, but would be pleased to discuss them with you in the 
question period which will follow. Our new studies confirm and 
our recommended tax cuts address the deleterious impact of the 
current U.S. Tax Code on savings and investment. Economists 
agree that the U.S. tax system is strongly biased in favor of 
consumption and against savings and investment, thus raising 
capital costs. Indeed, the United States taxes both savings and 
investment, including U.S. corporate investment and foreign 
source income, as well as capital gains, dividends, and 
interest much more harshly than do most of our competitors. 
This impairs U.S. competitiveness in the world markets.
    Also, take note that experts predict that today's Federal 
budget surpluses may be relatively short-lived. The long-term 
prosperity of the United States remains threatened by the 
prospect of looming budget deficits arising from the need to 
fund the retirement of the baby boom generation in the next 
century.
    Remember, the U.S. savings rate continues to compare 
unfavorably with those of other countries, as well as with our 
own past experience. Thus, the American Council for Capital 
Formation recommends a menu of tax options for you to consider 
that taken either together or singularly could enhance 
competitiveness, increase economic growth, and promote 
retirement security. We have organized this menu into tax cuts 
for individuals and tax cuts for business. Economically sound 
tax cuts for individuals include increasing the deductible IRA 
contribution limit or raising the income level; repealing the 
death tax; providing a tax-free rollover for reinvested 
savings; reducing the capital gains tax and providing an annual 
exclusion for capital gains; increasing pension affordability; 
establishing personal retirement accounts; providing a 
deduction for dividends and interest.
    Sound tax cuts for business include phasing in expensing 
for plant and equipment outlays, providing more favorable tax 
treatment for investment to promote environmental goals, 
providing relief from the corporate AMT, reforming the foreign 
tax provisions of the U.S. Tax Code, reducing the corporate 
capital gains tax, and liberalizing employer-sponsored pension 
plans.
    In conclusion, persistently low U.S. savings rates and 
investment that in recent decades has lagged behind our 
industrial competitors, despite continued economic growth and 
low unemployment, provide real challenges to our country. It is 
in that context that we strongly urge this Committee to 
dedicate a significant amount of any multiyear tax cut for 
competitiveness, growth, and retirement security.
    Thank you.
    [The prepared statement follows:]

Statement of Mark Bloomfield, President, American Council for Capital 
Formation

                              Introduction

    My name is Mark Bloomfield. I am president of the American 
Council for Capital Formation and I am accompanied by Dr. Margo 
Thorning, the ACCF's senior vice president and chief economist.
    The ACCF represents a broad cross-section of the American 
business community, including the manufacturing and financial 
sectors, Fortune 500 companies and smaller firms, investors, 
and associations from all sectors of the economy. Our 
distinguished board of directors includes cabinet members of 
prior Republican and Democratic administrations, former members 
of Congress, and well-known business leaders. Our affiliated 
public policy think tank, the ACCF Center for Policy Research, 
includes on its board leading mainstream scholars from 
America's most prestigious universities, as well as prominent 
public finance experts from the private sector.
    Mr. Chairman, we commend you for this timely hearing on tax 
relief to strengthen families and sustain a strong economy as 
we prepare to enter the next millennium. The question then 
becomes which taxes should be cut. For example, some experts 
are calling for using the surplus to promote social goals such 
as relief of the ``marriage penalty'' that often results in 
married couples paying more federal tax than two single people 
with the same income levels. Other experts support using the 
budget surplus to reduce death taxes, capital gains, or 
marginal income tax rates.
    The central theme of the ACCF's testimony is that if the 
Congress does indeed approve a tax cut, any such cut should 
enhance competitiveness, increase economic growth, and promote 
retirement saving.
    We would also like to use the opportunity of this hearing 
to showcase several new research projects that our Center for 
Policy Research commissioned especially in anticipation of the 
Ways and Means Committee hearings on this year's tax bill. 
Specifically, our Center's new research focuses on:
     An analysis by David Wyss, chief economist, DRI, 
on the macroeconomic impact of the 1997 capital gains tax cuts;
     A new international survey by Arthur Andersen LLP 
comparing ``death'' taxes in 24 major industrial and developing 
countries, including most of the United States' major trading 
partners;
     An analysis by Professor Douglas Holtz-Eakin, 
chairman of the Department of Economics at Syracuse University, 
which analyzes the impact of the current estate tax on capital 
accumulation, saving, capital costs, investment, and 
employment, especially employment in the small business sector;
     A comparison by Arthur Andersen LLP of the tax 
treatment of retirement savings, insurance products, social 
security, and mutual funds in 24 major industrial and 
developing countries.
     An analysis of pension reform by Dr. Sylvester 
Schieber, director of Watson Wyatt Worldwide Research and 
Information Center and a member of the Social Security Advisory 
Council.
    For our part, if Congress decides to consider a major 
multi-year tax cut, we offer as a model two well-thought-out 
tax initiatives enacted since World War II that moved this 
country toward a tax system suitable for the post-war period. 
We have the opportunity today to emulate the Kennedy-Johnson 
tax cuts of the 1960s and the Reagan tax cuts of the early 
1980s and, in so doing, put in place a tax system appropriate 
for the challenges of the new century.
    In our view, the striking characteristic of the Kennedy-
Johnson and Reagan plans for tax cuts today is that they were 
not confined to cuts in taxes on consumption but provided 
liberal reductions in tax rates on growth-producing saving and 
investment. To be sure, these earlier tax plans included badly 
needed cuts in marginal income tax rates, but in addition both 
included sharp reductions in capital gains tax rates. Moreover, 
the first Kennedy tax cuts (1961-1962) liberalized some 
business depreciation rates and, of primary importance, created 
for the first time a tax credit for business investment in 
equipment. The Reagan tax plan included similar components and 
also liberalized Individual Retirement Accounts (IRAs).
    Both plans fueled economic growth in succeeding years. The 
Kennedy-Johnson initiative opened the way for the golden 
economic era of the 1960s, with 4 percent productivity growth 
until economic overheating set in as a result of sharp 
increases in deficit spending. Similarly, the Reagan tax cut 
set the stage for strong economic performance in succeeding 
years and laid the base for growth in the U.S. economy in the 
1990s. One may quarrel about the financing of the Reagan tax 
cuts and whether there was sufficient balance in the form of 
spending cuts. Our point is that the tax cuts recognized the 
essentiality of stronger individual saving and lower business 
capital costs for investment to foster economic growth.
    As with past generations, a major responsibility of today's 
generation is to lay a strong economic base for future 
generations. To do so, we should follow the wisdom of these 
earlier, brilliantly conceived tax plans and ensure that a 
significant proportion of any tax cut is dedicated to saving 
and investment initiatives. If we are genuinely concerned about 
our children, grandchildren, and generations beyond, we should 
have the discipline to deny a reasonable amount of consumption 
to ourselves today in order to enhance prospects for growth in 
the future and to provide retirement security for all. It is in 
that context that we strongly urge the Congress to dedicate a 
significant amount of any multi-year tax cut for 
competitiveness, growth, and retirement security.
    In advocating this position we do not at all deny the 
merits of other tax proposals currently advanced. The marriage 
tax penalty should be corrected over time, and marginal tax 
rates are far too high and should be reduced. Indeed, lower 
marginal tax rates will foster economic growth but with less 
leverage than more direct tax cuts on individual saving and 
productive business investment. To this end, our testimony 
suggests a menu of a dozen direct tax cuts to promote pro-
growth saving and investment (including investments to reduce 
pollution and increase energy efficiency in order to address 
the potential threat of global warming and other environmental 
concerns).
    In essence, the U.S. tax code treats saving (including 
retirement saving) and investment very harshly. Since saving is 
essential to investment and growth, this harsh taxation of 
saving in the United States works against higher living 
standards for coming generations and may also impair the 
economic strength that underlies our world leadership position. 
In addition, our tax code hits saving and investment harder 
than those of many of our international competitors. The 
foreign-source income of U.S. multinationals is also subject to 
higher taxes than that of many of our competitors. All of these 
facts are of increasing concern as globalization continues.
    Tax reform can be carried out through a broad-based 
restructuring in which consumption, rather than income, becomes 
the tax base, or it can be accomplished through incremental 
changes to the current income tax base which reduce the tax 
burden on various types of saving and on investment. Either 
type of tax restructuring would enhance U.S. productivity and 
economic growth and could promote the achievement of 
environmental goals. Tax reductions, we want to stress, should 
not come at the expense of fiscal responsibility or reforming 
social security.
    As a predicate to our tax cut proposal to promote 
competitiveness, economic growth, and retirement security, we 
would like to set out the intellectual framework for such a 
plan by first discussing the impact of the current U.S. tax 
code on saving and investment.

          IMPACT OF THE U.S. TAX CODE ON SAVING AND INVESTMENT

                  Taxation of U.S. Business Investment

    Economists are in broad agreement that the cost of capital 
for investment is significantly affected by tax policy. The 
``user cost of capital'' is the pretax rate of return on a new 
investment that is required to cover the purchase price of the 
asset, the market rate of interest, inflation, risk, economic 
depreciation, and taxes. This capital cost concept is often 
called the ``hurdle rate'' because it measures the return an 
investment must yield before a firm would be willing to start a 
new capital project. Stanford University Professor John Shoven, 
an internationally renowned public finance scholar, estimates 
that in the United States about one-third of the cost of 
capital is due to taxes. In other words, hurdle rates are 50 
percent higher than they otherwise would be due to the tax 
liability on the income produced by the investment. Quite 
clearly, therefore, the higher the tax on new investment, the 
less investment that will take place.
    Several measures show that the United States taxes new 
investment more heavily than most of our international 
competitors. For example, according to a study by the centrist 
Progressive Policy Institute (the research arm of the 
Democratic Leadership Council), the marginal tax rate on 
domestic U.S. corporate investment is 37.5 percent, exceeding 
that of every country in the survey except Canada (see Figure 
1). The tax rate calculations include the major features of 
each country's tax code, including individual and corporate 
income tax rates, depreciation allowances, and whether the 
corporate and individual tax systems are integrated.
    Tax rates on foreign-source investment, which are 
indicators of how much encouragement domestic firms are given 
to enhance their economic viability by expanding operations 
abroad, again show the United States falling behind. The U.S. 
tax rate is 43.4 percent versus an average of 36.7 percent in 
the other G-7 countries (see Figure 2).
    Prior to the 1986 Tax Reform Act (TRA), the United States 
had one of the best capital cost recovery systems in the world. 
For example, the present value of the deductions for investing 
in machinery to produce computer chips and in modern and 
competitive continuous casting equipment for steel production 
were close to 100 percent under the strongly pro-investment tax 
regime in effect from 1981 to 1985, according to a study by 
Arthur Andersen LLP (see Table 1). In contrast, under current 
law the present value of the capital cost recovery allowance 
for that same investment today for computer chips is only 85 
percent and for continuous casting equipment is only 81 
percent.
    The Arthur Andersen study also shows that the United States 
lags behind many of our major competitors in capital cost 
recovery for equipment that is technologically innovative, is 
crucial to U.S. economic strength, or helps prevent pollution. 
Capital cost recovery provisions for pollution-control 
equipment are much less favorable now than prior to TRA's 
passage. For example, the present value of cost recovery 
allowances for wastewater treatment facilities used in pulp and 
paper production was approximately 100 percent prior to TRA 
'86. Under TRA '86, the present value for wastewater treatment 
facilities dropped to 81 percent. Allowances for scrubbers used 
in the production of electricity were 90 percent prior to TRA 
'86; the present value fell to 55 percent after TRA '86. As is 
true in the case of productive equipment, both the loss of the 
investment tax credit and lengthening of depreciable lives in 
TRA raised effective tax rates.
    While the Taxpayer Relief Act of 1997 substantially 
improved cost recovery allowances for corporate alternative 
minimum taxpayers (AMT), those firms are still disadvantaged 
relative to firms paying the regular corporate income tax (see 
Table 1). The AMT limits or delays the benefit of tax code 
provisions that are based on investment in plant, equipment, 
research and development, mining, energy exploration and 
production, pollution abatement, and many others. Companies 
that have been subject to the AMT since its enactment have 
accumulated numerous AMT credits. These credits reflect cash 
that is not available for new productivity-improving 
investment.

                  Taxation of U.S. Multinational Firms

    A tax reduction plan should also focus on the need of U.S. 
multinational companies (especially in the industrial and 
financial sectors) to be competitive and gain market share, 
both at home and abroad. Such a tax cut could enhance the 
ability of U.S. firms to compete in global markets by reducing 
the competitive disadvantages that they face. For example, as a 
1997 study sponsored by the ACCF Center for Policy Research 
showed, U.S. financial service firms face much higher tax rates 
on foreign-source income than do their international 
competitors when operating in a third country such as Taiwan 
(see Figure 3). A 12-country analysis shows that U.S. insurance 
firms are taxed at a rate of 35 percent on income earned abroad 
compared to 14.3 percent for French-, Swiss-, or Belgian-owned 
firms. As a consequence of their more favorable tax codes, 
foreign financial service firms can offer products at lower 
prices than can U.S. firms, thereby giving them a competitive 
advantage in world markets.

                         Capital Gains Taxation

    The ACCF's first new 1999 study, which is on capital gains 
taxation, was prepared by Dr. David Wyss, chief economist of 
Standard & Poor's DRI and a top public finance expert, finds 
that the Taxpayer Relief Act of 1997, which reduced the long-
term individual capital gains tax rate from a top rate of 28.0 
percent to 20.0 percent has had several favorable impacts on 
the U.S. economy in the intervening two years. First, the net 
cost of capital for new investment fell by about 3 percent; 
other things being equal, this will raise business investment 
by 1.5 percent per year. Over a 10-year period, the capital 
stock will rise by 1.2 percent and productivity will increase 
by 0.4 percent relative to the baseline forecast. Second, a 
significant share of the increase in stock prices since 1997 
(about 25 percent) is due to lower taxes on individual capital 
gains realizations. Third, Dr. Wyss's analysis shows that when 
a dynamic rather than a static analysis is used, the stronger 
growth of the economy adds to total federal tax revenues in the 
long run. Finally, Dr. Wyss rebuts several new studies which 
attempt to debunk the importance of lower capital gains tax 
rates in encouraging start-ups and venture capital.
    In spite of the 1997 tax reductions whose favorable 
economic impacts are documented by Dr. Wyss's new analysis, 
U.S. capital gains tax rates, which affect the cost of capital 
and therefore investment and economic growth, are still high 
compared to those of other countries. In fact, most industrial 
and developing countries tax individual and corporate capital 
gains more lightly than does the United States, according to a 
1998 survey of 24 industrialized and developing countries that 
the ACCF commissioned from Arthur Andersen LLP.
    Both short- and long-term capital gains on equities are 
taxed at higher rates in the United States than in most of the 
other 23 countries surveyed. Short-term gains are taxed at 39.6 
percent in the United States compared to an average of 19.4 
percent for the sample as a whole. Long-term gains face a tax 
rate of 20 percent in the United States versus an average of 
15.9 percent for all the countries in the survey. Thus, U.S. 
individual taxpayers face tax rates on long-term gains that are 
26 percent higher than those paid by the average investor in 
other countries. In addition, the United States is one of only 
five countries surveyed with a holding period requirement in 
order for the investment to qualify as a capital asset.
    Similarly, short- and long-term corporate capital gains tax 
rates are higher in the United States than in most other 
industrial and developing countries surveyed. Both short- and 
long-term gains are taxed at a maximum rate of 35 percent in 
the United States, compared to an average of 22.8 percent for 
short-term gains and 19.6 percent for long-term gains in the 
sample as a whole. In other words, U.S. corporations face long-
term capital gains tax rates almost 80 percent higher than 
those of all but two of the other countries surveyed (Germany 
[45 percent] and Australia [36 percent], and only four of the 
24 countries surveyed impose a holding period in order to be 
eligible for preferential corporate capital gains tax rates.

                   Taxation of Interest and Dividends

    Interest and dividends received by individuals also are 
taxed more heavily in the United States than in many other 
countries, according to the 1998 Arthur Andersen survey of 24 
countries. High tax rates on dividends and interest received 
raise the cost of capital for new investment and slow U.S. 
economic growth. The top marginal income tax rate is 39.6 
percent in the United States compared to an average of 32.4 
percent in the countries surveyed as a whole. Nearly 40 percent 
of the countries surveyed tax interest income at a lower rate 
than ordinary income; for example, Italy taxes ordinary income 
at a top rate of 46 percent while its top tax rate on interest 
income is only 27 percent.
    In several countries surveyed, small savers receive special 
encouragement in the form of lower taxes or exemptions on a 
portion of the interest they receive. For example, in Germany, 
the first $6,786 of interest income for married couples filing 
a joint return ($3,393 for singles) is exempt from tax; in 
Japan, interest on saving up to $26,805 is exempt from tax for 
individuals older than 65; in the Netherlands, the first $987 
of interest income for married couples ($494 for singles) is 
exempt from tax; and in Taiwan, the first $8,273 of interest 
received from local financial institutions is exempt from tax.
    Similarly, dividend income is also taxed more heavily in 
the United States than in the other countries surveyed; the 
U.S. tax rate is 60.4 percent (combined corporate and 
individual tax on dividend income) compared to an average of 
51.1 percent in the surveyed countries as a whole. Of the 
countries surveyed, 62.5 percent offset the double taxation of 
corporate income (the income is taxed at the corporate level 
and again when distributed in the form of dividends) by 
providing either a lower tax rate on dividend income received 
by a shareholder or by providing a corporation with a credit 
for taxes paid on dividends distributed to their shareholders.
    In the case of dividends received, small savers receive 
preferential treatment in about one-fourth of the countries 
surveyed. In France, for example, the first $2,661 of dividends 
on French shares received by a married couple is exempt from 
tax ($1,330 for singles); in the Netherlands, the first $987 of 
dividend income for married couples ($494 for singles) is 
exempt from tax; and in Taiwan, the first $8,273 of dividends 
from local companies is exempt from tax.

                      Death and the U.S. Tax Code

    Many top academic scholars and policy experts conclude that 
the estate tax should be repealed or reduced because it adds to 
the already heavy U.S. tax burden on saving and investment. For 
example, analysis by MIT's Professor James Poterba shows that 
the U.S. estate tax can raise the cost of capital by as much as 
3 percent. The estate tax also makes it harder for family 
businesses, including farms, to survive the deaths of their 
founders. The ACCF's second new study, which was compiled by 
Arthur Andersen LLP, surveys 24 industrialized and developing 
countries and shows that the top U.S. federal marginal death 
tax rate is higher than that of all other countries surveyed 
except for Japan (see Figure 4). Death tax rates imposed on 
estates inherited by spouses and children average only 21.6 
percent for the 24 countries in the study, compared to 55 
percent in the United States. (Tax rates are often higher on 
assets inherited by more distant relatives or by non-
relatives). Seven countries Argentina, Australia, Canada, 
China, India, Indonesia, and Mexico have no death or 
inheritance taxes. The average marginal top tax rate in the 17 
countries with a death tax is only 30.5 percent, which is 
slightly more than one-half of the U.S. top federal estate tax 
rate. Not only are U.S. death tax rates higher than those in 
most of the industrialized and developing world, but the value 
of the estate where the top tax rate applies is lower. The 
average value of the estate where the top tax rate applies is 
over $4 million compared to only $3 million in the United 
States.
    The third new ACCF-sponsored study, prepared by Professor 
Douglas Holtz-Eakin, chairman of the Department of Economics at 
Syracuse University, analyzes the impact of the current death 
tax on capital accumulation, saving, capital costs, investment, 
and employment.
    First, using a sample of data collected by the Public 
Policy Institute of New York State in May, 1999, Professor 
Holtz-Eakin notes that there is a negative relationship between 
anticipated death tax liability and growth in employment, 
particularly for growing firms. His analysis suggests that at 
least 15,000 jobs will be lost in New York State over the next 
five years due to the effect of the estate tax on small firms. 
Second, the death tax reduces U.S. annual investment by sole 
proprietors in the range of 2 to 10 percent or almost $45 
billion in 1996. Third, the death tax hits hard at 
entrepreneurs; of the total number of people liable for the 
estate tax, 48 percent are entrepreneurs. Professor Holtz-Eakin 
states that the death tax should not be viewed as hitting all 
savers equally. Instead, the tax hits especially hard at 
entrepreneurs who are trying to put money into their business. 
For these individuals, their saving is their investment.
    Professor Holtz-Eakin concludes that his study suggests 
that the estate tax is shifted--forward in time to the business 
operation and onto factors of production (capital and labor). 
Since most incidence studies suggest that labor supply bears 
the incidence of labor taxes and that slower capital 
accumulation hurts productivity and real wages, this suggests 
that the estate tax on the ``rich and dead'' small business 
owners and entrepreneurs may be in part paid by their far-from-
rich and very alive employees.

               The U.S. Tax Code and Retirement Security

    Experts predict that today's federal budget surpluses may 
be relatively short-lived phenomena. The long-term prosperity 
of the United States remains threatened by the prospect of 
looming budget deficits arising from the need to fund the 
retirement of the baby boom generation in the next century. In 
addition, the U.S. saving rate continues to compare unfavorably 
with that of other nations, as well as with our own past 
experience; U.S. net domestic saving has averaged only 4.8 
percent of GDP since 1991 compared to 9.3 percent over the 
1960-1980 period (see Table 2). Though the U.S. economy is 
currently performing better than the economies of most other 
developed nations, in the long run low U.S. saving and 
investment rates will inevitably result in a growth rate short 
of this country's true potential.
    The ACCF's fourth new study is a survey of the tax 
treatment of retirement savings, insurance products, social 
security, and mutual funds in 24 major industrial and 
developing countries, including most of the United States' 
major trading partners. The survey (also compiled for the ACCF 
by Arthur Andersen LLP) shows that the United States lags 
behind its competitors in that it offers fewer and less 
generous tax-favored saving and insurance products than many 
other countries. For example:
     Life insurance premiums are deductible in 42 
percent of the surveyed countries but not for U.S. taxpayers; 
for many individuals life insurance is a form of saving;
     Thirty-three percent of the sampled countries 
allow deductions for contributions to mutual funds for 
retirement purposes while the United States does not;
     More than half of the countries surveyed allow a 
mutual fund investment pool to retain earnings without current 
tax, a provision which increases the fund's assets; the United 
States does not;
     Thirty percent of the countries with social 
security systems allow individuals to choose increased benefits 
by increasing their contributions during their working years; 
and
     Canada, for example, provides a generally 
available deduction of up to $9,500 (indexed) yearly for 
contributions to a private retirement account, compared to a 
maximum deductible IRA contribution of $2,000 for qualified 
taxpayers in the United States.
    The ACCF's study demonstrates that many countries have gone 
further than the United States to encourage their citizens to 
save and provide for their own retirement and insurance needs.

                  Reform of the Private Pension System

    The ACCF's fifth new study, ``Improving the Retirement 
Security System in the United States Through Mechanisms for 
Added Savings,'' by Dr. Sylvester Schieber and his colleagues, 
Richard Joss and Marjorie M. Kulah of Watson Wyatt Worldwide, a 
prominent pension consulting firm, contends that the U.S. 
private pension system should be expanded and reformed, 
particularly for small employers who are responsible for much 
of the growth in employment in recent years. Pension policy 
experts contend that long-service, high-income employees of 
large firms benefit most from the current system. The public 
interest would be better served, they argue, if pension rules 
were simpler and easier to administer. For example, complicated 
and costly rules to prevent ``discrimination'' discourage 
employers, especially small ones, from offering pension plans.
    Dr. Schieber concludes that all of the elements of the 
retirement system need to be shored up in order to anticipate 
the claims the baby boomers will make beginning next decade. In 
the case of employer sponsored pension plans, most of the 
policy initiatives undertaken during the last two decades have 
led to restricted saving through these plans. The long-term 
implication of this result is that plan sponsors are either 
going to face higher contribution costs in the future than if 
they had been allowed to contribute to their plans at 
historical rates, or they will curtail benefits.
    The potential curtailing of benefits from employer-
sponsored plans is a direct threat to the retirement security 
of today's workers. First, Dr. Schieber states it is imperative 
that employers begin to more effectively communicate to workers 
the importance and necessity of saving for retirement. 
Employers should be encouraged to expand existing 
communications efforts. Second, in the case of employer-
sponsored plans, Dr. Schieber advocates further simplification 
of the multiple funding and contribution limits to which these 
plans are subject. The funding biases that have skewed plan 
sponsors toward defined contribution plans should be 
eliminated. The inconsistencies in public policy that result 
from a given level of funding resulting in tax penalties for 
overfunding, on the one hand, and government penalties for 
underfunding, on the other, should be resolved. Although Dr. 
Schieber is a strong advocate of employer-sponsored plans and 
their expanded availability, he recognizes that not everyone 
has an opportunity to participate in such a plan. For such 
workers, the playing field should be leveled so they can 
effectively save on their own through tax-preferred retirement 
plans.

    A TAX MENU FOR COMPETITIVENESS, GROWTH, AND RETIREMENT SECURITY

    Those who favor a truly level playing field to encourage 
saving and investment by individuals and businesses, stimulate 
economic growth, and create new and better jobs, believe 
savings (including capital gains) should not be taxed at all. 
This view was held by top economists in the past and is held by 
many mainstream economists today. The fact is however that an 
income tax hits saving more than once--first when income is 
earned, and again when interest and dividends on the investment 
financed by saving are received, or when capital gains from the 
investment are realized. The playing field is tilted away from 
saving and investment because the individual or company that 
saves and invests pays more taxes over time than if all income 
were consumed and no saving took place. Taxes on income that is 
saved raise the capital cost of new productive investment for 
both individuals and corporations, thus dampening such 
investment. As a result, future growth in output and living 
standards is impaired.
    While fundamental reform of the U.S. federal tax code 
continues to interest policymakers, the public, and the 
business community, the key question is whether a totally new 
system would be worth the inevitable disruption, cost, and 
confusion the switch would create. Several recent analyses by 
academic scholars and government policy experts including 
University of California Professor Alan Auerbach, Boston 
University Professor Laurence Kotlikoff, the Joint Committee on 
Taxation, and the Congressional Budget Office conclude that 
substituting a broad-based consumption tax for the current 
federal income tax would have a positive impact on economic 
growth and living standards. A consumption tax exempts all 
saving and investment from tax; all income saved is tax-free 
and all investment is written off, or ``expensed,'' in the 
first year. As a result, the cost of capital for new investment 
would fall by about 30 percent.
    If, instead of fundamental tax reform, political reality 
requires an incremental approach to tax reform, the ACCF 
recommends a menu cut of tax options that, taken either 
together or singly, could enhance competitiveness, increase 
economic growth, and promote retirement security. We have 
organized the menu into tax cuts for individuals and tax cuts 
for business.

                        Tax Cuts for Individuals

     Increase the deductible IRA contribution and/or raise the 
income limit. This step would make IRAs more accessible to middle and 
upper-middle income individuals and families. Many academic analyses by 
top public finance scholars indicate that IRAs do produce new saving 
that would not otherwise take place. An increase in the $2,000 
deductible contribution for each employed person to $4,000 and/or 
raising the income ceiling for deductible contributions to $120,000 for 
married couples, for example, would tend to raise the personal saving 
rate.
     Repeal the federal estate (death) tax. Many public finance 
scholars support its elimination because it is a tax on capital and 
thus reduces the funds available for productive private investment, 
especially in family-run businesses. The ACCF's two new analyses on the 
death tax indicate that the death tax is higher in the United States 
than elsewhere and that the entrepreneurial sector and small businesses 
are particularly hard hit by the tax.
     Provide a tax-free ``rollover'' for reinvested mutual 
funds, interest, dividends, and capital gains. Allowing individual 
savers to make tax-free investments from the proceeds from transactions 
of this type would significantly increase the mobility of capital and 
would be a powerful incentive to save.
     Reduce the individual capital gains tax rate and provide 
an exclusion. A significant reduction from the current maximum tax rate 
of 20 percent would reduce the cost of capital, stimulate investment, 
and encourage the entrepreneurial activity that is a major source of 
U.S. economic growth. In addition, an annual exclusion of $5,000, for 
example, would help encourage saving and reduce the complexity of the 
tax code by allowing middle income investors to realize a relatively 
modest amount of capital gains without paying tax.
     Increase pension portability and access to tax-preferred 
saving plans. These reforms would make it more attractive for workers 
to take part of their compensation in the form of a ``nest egg'' for 
retirement than under current law. For example, easing rollover rules 
to allow employees to transfer between different types of plans and 
easing benefit transfer rules between qualified plans so employees can 
move benefits to their new employers' plans would not only increase 
retirement security but also help productivity growth through not 
hindering workers from changing jobs among firms and industries. 
Greater access to and higher ceiling on tax preferred saving accounts 
such as IRAs would also increase retirement security.
     Establish personal retirement accounts. Both the Clinton 
Administration and members of Congress have proposed using part of the 
budget surplus to fund personal retirement accounts. Chairman Bill 
Archer (R-TX) and Rep. Clay Shaw (R-FL) have introduced a proposal that 
both reforms social security and allows for the creation of individual 
accounts and the purchase of individual annuities for workers.
     Provide a deduction for dividends and interest received by 
individuals. Exempting, for example, the first $2,000 of dividends and 
interest received by married taxpayers ($1,000 for singles) is an 
approach used in many other countries.

                         Tax Cuts for Business

    Comprehensive tax reform, to shift the federal tax base 
from income to consumption and thus permit the expensing of all 
investment, would have the strongest impact on capital costs 
and economic growth. However, more modest tax cuts on 
investment would also stimulate capital formation and growth.
     Phase in expensing for plant and equipment 
outlays. Scholars agree that expensing is the most efficient 
way of reducing the cost of capital for new investment. In the 
period 1981-1985, the United States had one of the best tax 
treatments for new investment in the world. In today's global 
economy, U.S. firms need tax parity with foreign firms in order 
to compete effectively.
     Provide more favorable tax treatment for 
investment to promote environmental goals. Tax credits or other 
provisions for environmental expenditures required to meet 
federal, state, and local standards or to enhance energy 
efficiency would ease the compliance costs facing U.S. 
industry. In addition, such tax measures would make it easier 
for capital-intensive manufacturing firms to continue operating 
their U.S. facilities.
     Provide relief from the corporate AMT. Eliminating 
the myriad of investment-based AMT preference items is 
essential. Additionally, providing for accelerated use of AMT 
credits will help alleviate the competitive disadvantage faced 
by commodity-based industries that are suffering low world 
prices. It will allow and ensure the long-term growth and 
competitiveness of basic U.S. industry. Relief efforts must 
take care not to diminish the value of the credits that have 
accrued in the past.
     Reform the foreign tax provisions of the U.S. tax 
code. Moving to a consumption tax in which all foreign-source 
income is exempt from tax (a ``territorial'' tax) would have a 
strong positive impact on the international competitiveness of 
U.S. firms. However, such a fundamental shift in tax policy is 
not now ``on the table.'' Still, firms' ability to compete 
abroad could be enhanced through a variety of reforms to U.S. 
foreign tax provisions. U.S. industrial and financial service 
firms face higher taxes on their foreign-source income than do 
their international competitors (see Figures 2 and 3). Reducing 
the tax burden on the foreign-source income of U.S. firms would 
be beneficial by allowing them to be more competitive in 
foreign markets. For example, making permanent the one-year 
provision that reforms Subpart F of the Internal Revenue Code 
for financial service firms such as securities firms, insurance 
companies, banks, and finance companies would be an important 
step. As a matter of sound tax policy, U.S.-based financial 
service firms should be able to defer U.S. tax on the active 
income of their foreign subsidiaries until those earnings are 
returned to the U.S. parent company.
    It is equally important not to impose stringent new tax 
policies that make U.S. industrial and financial firms less 
competitive. For example, proposed changes that tighten the 
foreign tax credit and deferral would put U.S. firms at a 
further disadvantage.
     Reduce the corporate capital gains tax rate. A 
corporate capital gains tax cut would reduce capital costs and 
increase investment. Sound tax policy as well as economic 
considerations argue for a reduction in the U.S. maximum 
corporate capital gains rate of 35 percent, which is now the 
same as the top regular corporate tax rate. This would 
reinstate the historical U.S. treatment of corporate capital 
gains; an alternative corporate capital gains tax was part of 
the Internal Revenue Code from 1942 until its repeal by the Tax 
Reform Act of 1986. Reducing corporate capital gains tax rates 
would also help move the U.S. tax code toward a consumption tax 
base by lightening the burden on income from investment.
     Liberalize employer-sponsored pension plans. 
Improvements to employer-sponsored pension plans would increase 
saving and enhance retirement security. Small employers are 
often unable to provide pensions for their employees because of 
the cost and complexity of the system. A tax credit for 
businesses establishing new plans would be especially helpful 
to small employers. Creating a simplified defined benefit plan 
for small employers would promote the retirement security of 
small-firm employees.

                               CONCLUSION

    Persistently low U.S. saving rates, and investment that in 
recent decades has lagged behind our industrial competitors 
despite continued economic growth and low unemployment, 
underline the need for pro-growth tax policies as a substantial 
part of any tax bill approved by this Committee. Given the 
projected budget surplus and the desire of many in Congress to 
enact a major tax cut for Americans, there is clearly an 
opportunity to move the U.S. tax system in a pro-growth 
direction.
    We therefore urge Congress to give the most careful 
consideration to the pro-growth tax provisions discussed here.
      

                                



    Table 1.--International Comparison of the Present Value of Equipment Used to Make Selected Manufacturing Products and Pollution Control Equipment
                                                                 [As a percent of cost]
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                     Telephone                                       Wastewater  Wastewater
                                                                                                 Continuous  Engine   Treatment   Treatment   Scrubbers
                                                           Computer  Switching  Factory  Crank-    Casting               for       for Pulp    Used in
                                                             Chips               Robots  shafts   for Steel  Blocks   Chemical    and Paper  Electricity
                                                                     Equipment                   Production          Production   Equipment     Plants
--------------------------------------------------------------------------------------------------------------------------------------------------------
United States:
  1985 Law...............................................    100.1      100.1     100.1   100.1     100.1     100.1     100.1       100.1         89.7
  MACRS \1\..............................................     85.2       85.2      80.8    80.8      80.8      80.8      85.2        80.8         54.5
  DAMT \2\...............................................     83.0       83.0      77.9    77.9      77.9      77.9      83.0        78.0         54.5
Brazil...................................................     75.7       74.8      74.7    74.7      88.3      74.7      74.7        74.7         79.4
Canada...................................................     76.9       75.9      74.0    73.8      74.2      73.6      85.3        85.3         85.3
Germany..................................................     83.6       83.0      82.7    83.9      82.2      83.9      71.8        69.7         68.9
Japan....................................................     87.1       86.2      83.4    83.9      81.4      83.7      84.6        83.7         82.4
Korea....................................................     88.7       84.3      82.6    80.1      77.7      79.6      95.2        93.9         92.2
Singapore................................................     91.7       91.7      91.7    91.7      91.7      91.7      91.7        91.7         91.7
Taiwan...................................................     83.9       78.0      79.0    64.3      63.5      63.7     147.0       147.0        147.0
--------------------------------------------------------------------------------------------------------------------------------------------------------
Notes: 1. MACRS = Modified Accelerated Cost Recovery System (current law) for regular taxpayers.
2. AMT = Alternative minimum tax (current law, Taxpayer Relief Act of 1997).

Source: Stephen R. Corrick and Gerald M. Godshaw, ``AMT Depreciation: How Bad is Bad?'' in Economic Effects of the Corporate Alternative Minimum Tax
  (Washington, D.C.: American Council for Capital Formation Center for Policy Research, September 1991). Updated by Arthur Andersen LLP, Office of
  Federal Tax Services, Washington, D.C., January 1998.


             Table 2. Flow of U.S. Net Saving and Investment
    Percent of GDP in current dollars; national income accounts basis
------------------------------------------------------------------------
                                       Average    Average   Average 1991-
                                      1960-1980  1981-1985     1999***
------------------------------------------------------------------------
Net private domestic saving.........       8.1%       8.0%         5.4%
State and local government surpluses       2.1%       1.9%         1.5%
Subtotal of private and state saving      10.2%       9.9%         6.9%
    Less: Federal budget deficit....      -0.8%      -3.8%        -2.1%
Net domestic saving available for          9.3%       6.1%         4.8%
 private investment.................
Net inflow of foreign saving*.......      -0.4%       1.2%         1.4%
Net private domestic investment.....       8.9%       7.4%         6.2%
Gross private domestic investment...      16.0%      16.9%        14.3%
Nonresidential fixed investment.....      10.4%      12.2%         9.9%
Producers' durable equipment........       6.6%       7.4%         7.1%
Information processing, related            1.6%       3.1%         3.2%
 equipment, computers, and
 peripheral equipment...............
Industrial equipment................       1.9%       1.8%         1.6%
Producers' durable equipment less          5.2%       5.0%         4.7%
 info processing and related
 equipment..........................
Personal saving.....................       5.4%       5.8%         2.5%
Net business saving**...............       2.7%       2.2%        2.9%
------------------------------------------------------------------------
*In the 1960-1980 period, the United States sent more capital abroad
  than it received; thus net inflow was negative during this period.
**Net business saving = gross private saving - personal saving -
  corporate and noncorporate capital consumption allowance.
***Preliminary estimates for first quarter of 1999.
Source: Department of Commerce Bureau of Economic Analysis, National
  Income Accounts. Update prepared by American Council for Capital
  Formation Center for Policy Research, June 1999.

   [GRAPHIC] [TIFF OMITTED] T0841.018
  
  [GRAPHIC] [TIFF OMITTED] T0841.019
  
  [GRAPHIC] [TIFF OMITTED] T0841.020
  
  [GRAPHIC] [TIFF OMITTED] T0841.021
  
      

                                


    Chairman Archer. Thank you, Mr. Bloomfield.
    Mr. McCants.

   STATEMENT OF LARRY MCCANTS, PRESIDENT, CHAIRMAN AND CHIEF 
 EXECUTIVE OFFICER, FIRST NATIONAL BANK, GOODLAND, KANSAS; ON 
             BEHALF OF AMERICAN BANKERS ASSOCIATION

    Mr. McCants. I would like to commend this Committee and the 
Chairman for holding hearings to focus attention on domestic 
tax incentives. As a community banker--first of all, my name is 
Larry McCants. I am from the First National Bank in Goodland, 
Kansas, and I am representing the American Bankers Association. 
And as a community banker, I must point out many of the 
proposals will help level the playingfield between small 
taxpaying community banks and tax-exempt credit unions and the 
farm credit system. I have submitted my full written statement 
for inclusion in the record and will limit my comments today to 
that portion pertaining to subchapter S banking.
    In order to survive this intensely competitive financial 
service market, community bankers, such as myself, continue to 
look for ways to improve efficiencies. Nonbank competitors, 
such as the farm credit system lenders and the credit unions, 
enjoy significant tax advantages which make it even more 
difficult for community banks to compete in their local 
markets. Therefore, proposals such as improvement and expansion 
of the subchapter S tax laws for banking institutions are of 
particular interest to community banks.
    The American Bankers Association would like to commend 
Representatives Scott McInnis, Jim McCrery, and J.D. Hayworth 
for introducing H.R. 1994, which would further remove 
unreasonable burdens placed on S corporations.
    Our bank, which is an employee-owned bank through our ESOP 
elected subchapter S status in January 1998. Although over 
1,200 FDIC-insured banking institutions and savings 
institutions have elected subchapter S status. It is important 
to note that potential tax burdens and strict eligibility 
standards continue to exist. We strongly urge you to remove 
many of the competitive barriers and unreasonable burdens 
placed on S corporation banking institutions in the next tax 
bill.
    We consider the following legislative proposals most 
significant to community banking:
    Number one, tax relief for S corporation banking 
institutions should include a provision to clarify that 
interest in dividends on investments held by a bank should not 
be considered passive investment income. An S election will 
terminate if, for 3 consecutive years, 25 percent or more of 
the gross receipts consist of passive investment income. For 
bank regulatory purposes, a bank must maintain certain types of 
investments for liquidity. Banks must pledge securities to 
secure municipal deposits. At certain times of the year, banks 
may be required to hold excess securities and double pledge for 
the same deposits as deposits are transferring between 
municipalities. Bonds issued under H.R. 1660 would be 
considered passive investment.
    The IRS requires an ambiguous and controversial reasonable 
liquidity needs standard to be met. As a former bank examiner, 
I can't define ``reasonable liquidity,'' and I can't imagine an 
IRS agent attempting to make that determination because each 
bank is different based on its own role in the community. It is 
unnecessary and inappropriate to impose this limitation on 
subchapter S banks.
    National banking laws and several State statutes also 
require directors of banks to own certain percentages of bank 
stock. Legislation is needed to ensure that director qualifying 
shares will not be considered a second class of stock.
    Number three, the proposal to raise current shareholder 
limit from 75 shareholders to 150 would significantly enhance 
and promote a healthy small business and banking environment. 
The current 75-shareholder limit restricts participation in S 
corporations by local community investors and restricts the 
ability to raise capital.
    I personally had to ask several of my shareholders to sell 
their shares back to the bank, to our bank holding company in 
order to qualify for subchapter S treatment.
    Number four, S corporation tax relief should expand the 
category of permitted shareholders to include family limited 
partnerships and IRAs to assist in retirement and estate tax 
planning.
    And, number five, finally, tax relief is sorely needed to 
require the Treasury to modify existing regulations to allow 
bad debt deductions to offset built-in gains income.
    I appreciate this opportunity to present the ABA's views, 
and I would be pleased to answer any questions that you may 
have later.
    And, Congresswoman Johnson, I would specifically like to 
thank you for your assistance in trying to keep taxes imposed 
ESOPs.
    Thank you.
    [The prepared statement follows:]

Statement of Larry McCants, President, Chairman and Chief Executive 
Officer, First National Bank, Goodland, Kansas; on behalf of American 
Bankers Association

    Mr. Chairman and members of the Committee, I am Larry 
McCants, Chairman, President and CEO of First National Bank, 
Goodland, Kansas. I am pleased to appear before you today to 
present the views of the American Bankers Association (ABA) on 
providing tax relief to strengthen the family and sustain a 
strong economy.
    The ABA brings together all elements of the banking 
community to best represent the interests of this rapidly 
changing industry. Its membership--which includes community, 
regional, and money center banks and holding companies, as well 
as savings associations, trust companies, and savings banks--
makes ABA the largest banking trade association in the country.
    At the outset, I would like to commend you for holding this 
hearing to focus attention on domestic business tax incentives. 
There are a number of proposals currently of interest to 
banking institutions. As a community banker, I must point out 
that any proposals that help to level the playing field between 
small, tax paying community banks and ever expanding tax-exempt 
credit unions are particularly attractive. Banking institutions 
play a variety of important roles in many of the proposals 
being discussed in this series of hearings.
    My comments today will address a few of the more direct 
domestic tax proposals with particular emphasis on Subchapter S 
banking.

                              Subchapter S

    In order to survive in this intensely competitive financial 
services market, community bankers, such as myself, must 
continually look for ways to improve efficiencies, operations 
and tax savings. Non-bank competitors, such as farm credit 
system lending institutions and credit unions, continue to 
enjoy significant tax advantages, which makes it even more 
difficult for banks to compete in their local communities. 
Therefore, tax relief measures, such as the improvement and 
expansion of the subchapter S tax laws for banking 
institutions, is of particular interest to the community 
banking industry.
    The ABA would like to commend Representatives Scott McInnis 
(R-CO), Jim McCrery (R-LA) and J.D. Hayworth (R-AZ) for 
introducing legislation that would help subchapter S banking 
institutions to compete with tax-exempt and ever expanding 
credit unions. H.R. 1994, the Subchapter S Reform Act of 1999, 
would further remove unreasonable burdens placed on S 
corporations, consistent with congressional intent. We would 
also like to commend Representative Marge Roukema (R-NJ) for 
introducing legislation that would improve and expand the 
subchapter S banking industry.
    As you are aware, the Small Business Job Protection Act of 
1996 permitted eligible banks, for the first time, to become S 
corporations beginning in January 1997. My bank, First National 
Bank of Goodland, Kansas, was one of the first banking 
institutions to elect subchapter S status in 1997.
    The subchapter S tax laws provide a method of taxation for 
eligible corporations that reduces burdens associated with the 
imposition of corporate-level taxes. Under the subchapter S 
regime, shareholders are taxed in a manner that is similar to 
the taxation of a partnership. Shareholders are taxed on the 
earnings of the corporation, whether or not such earnings are 
distributed. Data recently released by the FDIC shows that over 
1,200 FDIC-insured banking and savings institutions have 
elected subchapter S status. This number represents over 10% of 
the banking industry--primarily community banks seeking to 
survive in an extremely competitive financial services 
environment. It is important to note that potential tax burdens 
and strict eligibility standards continue to exist, thus 
preventing many banking institutions from taking advantage of 
this unique tax status. We strongly urge you to include 
provisions to remove many of the competitive barriers and 
unreasonable burdens placed on S Corporation banking 
institutions in the next tax package you enact.

               Increase Shareholder Limit From 75 To 150

    The ABA supports raising the subchapter S shareholder limit 
to 150. The Small Business Job Protection Act of 1996 increased 
the number of eligible subchapter S shareholders from 35 to 75. 
Many small businesses and banks with 75 or more shareholders 
are unable to take advantage of subchapter S tax benefits. 
Raising the shareholder limit to 150 would not only help expand 
subchapter S to many otherwise eligible small businesses, but 
would help community banks compete on a level playing field 
with non-bank competitors. Such a change would significantly 
enhance and promote a healthy and competitive small business 
and banking environment.

            Allow Individual Retirement Account Shareholders

    The ABA supports the expansion of eligible subchapter S 
shareholders to include individual retirement accounts (IRAs). 
Under the current tax laws, IRAs are not permissible subchapter 
S shareholders. The Small Business Job Protection Act of 1996 
permitted qualified plans (including ESOPs) and certain tax-
exempt entities to become eligible S corporation shareholders. 
Consistent with Congress' policy of expanding S Corporation 
ownership to certain tax advantaged plans or entities, IRAs 
(including Roth IRAs) should be eligible subchapter S 
shareholders.

             Allow Family Limited Partnership Shareholders

    The ABA supports allowing limited family partnerships to 
become eligible subchapter S shareholders. Family limited 
partnerships are commonly utilized by community bank 
shareholders. This arrangement is utilized primarily to 
generate valuation discounts (for estate and gift tax purposes) 
on the transfer of a limited interest in the partnership. Under 
current law, partnerships, including limited partnerships, are 
impermissible subchapter S shareholders. Allowing a specific 
type of family limited partnership as an eligible subchapter S 
shareholder would greatly benefit family-owned community banks 
wishing to convert to subchapter S status.

    Exclude Bank Investment Securities From The Passive Income Rules

    The ABA supports the proposal to clarify that interest and 
dividends on investments held by a bank shall not be considered 
passive investment income. Under current law, an S election 
will terminate if, for three consecutive years, 25% or more of 
the gross receipts of an S corporation consists of passive 
investment income. Further, a corporate-level tax (currently 
35%) is imposed on an S corporation on any such excess passive 
investment income. For bank regulatory purposes, a bank must 
maintain certain types of investment assets for liquidity and 
other purposes. Though the IRS addressed subchapter S bank 
passive income issues in previous regulatory guidance (Notice 
97-5) and excluded certain bank assets from the passive income 
limitations, we believe that it did not go far enough. An 
ambiguous and controversial ``reasonable liquidity needs'' 
standard will be applied by the IRS in determining whether 
assets not specifically listed are exempt from the passive 
income tax rules. Such a standard not only undermines a banking 
regulator's authority to examine and enforce safety and 
soundness laws, but is unnecessary given the limited amount of 
investment assets banks are permitted to hold under existing 
statutes. This provision would exclude bank investment 
securities from the subchapter S passive income limitations.

                 Treatment Of Director Qualifying Stock

    The ABA supports the proposal clarifying that qualifying 
bank director stock shall not be treated as a second class of 
stock. Under the national banking laws and several state 
statutes, a director of a national bank is generally required 
to own a certain percentage of stock in the bank. The OCC 
allows such stock to be preferred and held through various 
plans, such as IRAs. Under the subchapter S laws, any stock 
that confers different economic rights than stock issued to 
other shareholders is considered an impermissible second class 
of stock. This provision would ensure that stock that is 
required to be owned by bank directors will not be considered a 
second class of stock for subchapter S eligibility purposes.

       Bad Debt Chargeoffs To Offset Loan Loss Reserve Recapture

    The ABA supports the proposal requiring Treasury to modify 
existing regulations to allow bad debt deductions to offset 
built-in gains income during the entire 4-year bad debt reserve 
recapture period. Under a subchapter S regime, a bank must use 
the specific chargeoff method of accounting for bad debts. 
Banks that switch from the reserve method of accounting for bad 
debts to the specific chargeoff method must take the reserve 
into income over 4 years (section 481 adjustment). The amount 
taken into income is treated as an item of built-in gain and 
subject to a corporate-level built-in gain tax under section 
1374 of the Code. A bank's bad debt reserve recapture built-in 
gain can only be offset by built-in losses realized in the same 
tax year. Treasury regulations currently only allow bad debt 
chargeoff deductions to offset built-in gain income in the 
first year of an S election.

       Include Banks In Three-Year Rule Under Section 1363(b)(4)

    The ABA supports the proposal to modify the applicability 
of the 3-year rule under section 1363(b)(4). Under section 
1363(b)(4), corporate preference items under section 291 
(including special bank disallowance or cutback items) apply 
only during the first three years of an S corporation that 
converted from a C corporation. The tax laws do not specify 
whether this three-year rule applies to banks that are treated 
as QSubs. The Small Business Job Protection Act of 1996 
permitted S Corporations to hold QSub subsidiaries. Under the 
subchapter S tax laws, QSubs are disregarded for tax purposes 
and treated as a division of the parent. Most subchapter S 
banks operate in a holding company structure and elect QSub 
status for their bank subsidiaries. A technical reading of the 
statute excludes QSubs because it only refers to S corporations 
(or any predecessor) that was a C corporation.

                             Capital Gains

    The American Bankers Association supports the enactment of 
legislation to reduce the tax rate on capital gains. We believe 
that capital gains tax relief is necessary in order to increase 
capital formation, stimulate saving and investment, raise real 
wages for U.S. workers and boost economic growth in the U.S.
    A reduction in capital gains tax rates would encourage 
domestic investment, particularly venture capital investments 
by financial institutions, by lowering the excessively high 
cost of capital. A broad based reduction would benefit a wide 
variety of income groups and economic sectors, including 
retirees, middle income families, large and small investors, 
businesses, farmers, and entrepreneurs. The banking industry 
continues to promote savings and investment. Reducing the 
capital gains tax rate would ``unlock'' capital assets, lower 
interest rates and spur the economy, resulting in raising 
federal revenues.

                     Low-Income Housing Tax Credit

    The ABA supports the proposal to raise the $1.25 per capita 
cap to $1.75 per capita. This dollar value has not been 
increased since it was first set in the 1986 Act. Since that 
time the Consumer Price Index for All Items has increased by 
50%. That is, $1.25 in 1986 dollars is worth only $.63 today. 
Adjustment for inflation would yield an amount slightly in 
excess of $1.75. Raising the cap would assist in the 
development of much needed affordable rental housing in all 
areas of the country.

                         Educational Assistance

    The ABA supports the permanent extension of tax incentives 
for employer provided education. The banking and financial 
services industries are experiencing dramatic technological 
changes. This provision will assist in the retraining of 
employees to better face global competition. Employer provided 
educational assistance is a central component of the modern 
compensation package and is used to recruit and retain vital 
employees.

                Research And Experimentation Tax Credit

    The ABA supports the permanent extension of the tax credit 
for research and experimentation. The banking industry is 
actively involved in the research and development of new 
intellectual products and services in order to compete in an 
increasingly sophisticated and global marketplace. The proposal 
would extend sorely needed tax relief in this area.

                      Qualified Zone Academy Bonds

    The ABA supports the proposals to authorize the issuance of 
additional qualified zone academy bonds and school 
modernization bonds and to modify the tax credit bond program. 
The proposed changes would facilitate the usage of such bonds 
by financial institutions in impacted areas.

                               CONCLUSION

    The ABA appreciates having this opportunity to present our 
views on providing tax relief to strengthen the family and 
sustain a strong economy. We look forward to working with you 
in the future on these most important matters.
      

                                


    Chairman Archer. Thank you, Mr. McCants.
    Mr. Greenberg.

     STATEMENT OF ARTHUR GREENBERG, COUNSEL, EQUITY GROUP 
 INVESTMENTS, CHICAGO, ILLINOIS, ON BEHALF OF NATIONAL REALTY 
   COMMITTEE, NATIONAL ASSOCIATION OF REAL ESTATE INVESTMENT 
TRUSTS, NATIONAL ASSOCIATION OF REALTORS, NATIONAL ASSOCIATION 
 OF INDUSTRIAL AND OFFICE PROPERTIES, INTERNATIONAL COUNCIL OF 
   SHOPPING CENTERS, NATIONAL MULTI-HOUSING COUNCIL/NATIONAL 
    APARTMENT ASSOCIATION, AND BUILDING OWNERS AND MANAGERS 
                   ASSOCIATION INTERNATIONAL

    Mr. Greenberg. Thank you, Mr. Chairman. Mr. Chairman, 
Members of the Committee, my name is Arthur Greenberg. I am 
associated with Equity Group Investments, a real estate 
investment company headquartered in Chicago, Illinois. I also 
serve on the Tax Policy Committees of the National Realty 
Committee and the National Association of Real Estate 
Investment Trusts. I am also testifying today on behalf of the 
National Association of Realtors, the National Association of 
Industrial and Office Properties, the International Council of 
Shopping Centers, the National Multi-Housing Association, the 
National Apartment Association, and the Building Owners and 
Managers Association International.
    Real estate is a critically important sector of our 
economy, generating almost 20 percent of the nation's gross 
domestic product and accounting for nearly nine million jobs. 
The aggregate value of the Nation's real estate stock, land, 
buildings, and improvements is over $20 trillion. Economic 
growth and real estate go hand-in-hand. Clearly, real estate 
should be included in any consideration of tax relief 
legislation designed to sustain economic growth.
    The real estate industry is not here seeking tax incentives 
today. Rather, we are seeking tax changes that reflect the 
economics of today's real estate transactions and treat real 
estate fairly relative to other investments.
    Our written statements present a number of tax changes we 
support, but because of the time, let me highlight three of 
them in this presentation.
    The first is H.R. 844, legislation to provide a 10-year 
depreciation class life for leasehold improvements, sponsored 
by Mr. Shaw and 34 other Members of the Committee. Leasehold 
improvements are the build-outs an owner does in order to 
customize leased space for a business tenant. Most leases, and 
the improvements made pursuant to them, typically last less 
than 10 years. Writing off the cost of these improvements over 
39 years, while the rental income is received over the lease 
term, increases the cost to the owner providing these 
improvements. The result is the amount and quality of the 
improvements will be compromised.
    Who would benefit as a result of H.R. 844? Certainly, the 
tenant, who would receive the most efficient and modern space 
available for his business, as all businesses rely on their 
business space to be productive and competitive. In addition, 
small business would benefit because their space needs to 
evolve extremely rapidly and almost 80 percent of building 
owners are small businesses themselves. In addition, H.R. 844 
would also aid community revitalization by removing a tax 
impediment to improving and revitalizing the buildings that 
make up that community.
    The second issue I want to highlight is H.R. 1616, the REIT 
Modernization Act, sponsored by Representatives Thomas and 
Cardin and cosponsored by over two-thirds of the Committee's 
Members. This bill would modernize the REIT rules to allow 
REITs to remain competitive by permitting a REIT to establish a 
fully taxable service subsidiary. The real estate industry has 
been evolving rapidly into a consumer-oriented service 
business. The current REIT rules make it difficult for REITs to 
compete with others in the marketplace by limiting a REIT's 
ability to provide leading edge services to its tenants and use 
its expertise to serve as third parties. H.R. 1616 allows REITs 
the ability to respond to the evolving needs of their tenants 
and importantly, the bill contains a number of rules designed 
to ensure that the income generated by the service subsidiary 
is taxed at the level before being passed on to the REIT.
    The third issue I would like to address is the capital 
gains and the treatment of recaptured depreciation. Low capital 
gains rates are important to unlocking investments and allowing 
capital to flow more freely and productively. Therefore, a 
further rate reduction would be welcome. However, to be 
meaningful to real estate, the depreciation recapture must be 
lowered as well. We support H.R. 2054, Mr. English's bill 
proposing to reduce the recapture rate to the capital gains 
rate, the same treatment that applied prior to the 1997 Tax 
Act. At a minimum, we believe the 25 percent depreciation 
recapture rate should be reduced proportionately with any 
reduction in the capital gains rate. Otherwise, real estate 
would be much further disadvantaged relative to other 
investment assets such as stock.
    In the case of real estate, sales proceeds over the 
adjusted tax bases of the property in most cases is a result of 
appreciation in the property, not overly generous depreciation 
deductions. Several factors contribute to appreciation and the 
overall value of the property. These include inflation, land 
values, road and other transportation improvements, the 
economy, and local market conditions.
    In conclusion, Mr. Chairman, we believe that these tax 
items: reforming depreciation for leasehold improvements, 
modernizing the REIT operating rules, and lowering both the 
capital gains and depreciation recapture rates together with 
the other items in our written statement will help sustain the 
economy, promote competitiveness, and create jobs. In 
particular, I want to point out one of the other items which we 
support is the provision in Mrs. Johnson's bill, H.R. 2020, 
allowing the deductibility of brownfield cleanup expenses. This 
would help community revitalization and in-fill development 
across the country.
    Thank you for your time. I will be pleased to answer any 
questions you may have.
    [The prepared statement follows:]

Statement of Arthur Greenburg, Counsel, Equity Group Investments, 
Chicago, Illinois; on behalf of National Realty Committee, National 
Association of Real Estate Investment Trusts, National Association of 
Realtors, National Association of Industrial and Office Properties, 
International Council of Shopping Centers, National Multihousing 
Council/National Apartment Association, and Building Owners and 
Managers Association International

    Chairman Archer and Members of the Committee, the above 
mentioned real estate organizations \1\ appreciate the 
opportunity to testify before the Committee on Ways and Means 
regarding tax relief to strengthen the family and sustain a 
strong economy. We applaud the Committee's effort to enact 
broad-based tax relief and look forward to working with you Mr. 
Chairman and with all the committee members on upcoming tax 
legislation.
---------------------------------------------------------------------------
    \1\ National Realty Committee (NRC) serves as Real Estate's 
Roundtable in Washington for national policy issues vital to commercial 
and income producing real estate. NRC Members are America's leading 
real estate owners, advisors, builders, investors, lenders and 
managers. NRC offices are located at 1420 New York Avenue, NW suite 
1100, Washington DC 20005, 202-639-8400.Contact: Stephen M. Renna.
    National Association of Real Estate Investment Trusts (NAREIT) is 
the national trade association of the REIT industry. NAREIT's members 
are public and private REITs, and professionals with an interest in the 
REIT and the real estate investment industries. NAREIT is located at 
1875 Eye Street, NW Suite 600, Washington, D.C. 20006, 202-739-9400. 
Contact: Tony Edwards.
    National Association of Realtors (NAR) is comprised of brokers, 
agents, property managers, counselors and others involved in all 
aspects of the real estate industry. About three-fourths of NAR's 
730,000 members are involved in residential real estate. NAR is located 
at 700 11th Street, NW, Washington, DC 20001, 202-383-1000. Contact: 
Linda Goold.
    National Association of Industrial and Office Properties (NAIOP) is 
provides developers and owners of industrial, office and related 
commercial properties with effective support to create, protect and 
enhance property values. Through chapters nationwide, NAIOP facilities 
communication, networking and provides a forum for continuing education 
and promotes effective grassroots public policy related to real estate 
development. NAIOP is headquartered at Woodland Park, 2201 Cooperative 
Way, Herndon, VA 20171, 703-904-7100. Contact: Mele Williams.
    International Council of Shopping Centers (ICSC) is the trade 
association of the shopping center industry. Its 32,000 members in 60 
countries represent owners, developers, retailers, lenders and all 
others having a professional interest in the shopping center industry. 
ICSC's Washington office is located at 1033 North Fairfax Street, Suite 
404, Alexandria, VA 22314, 703-549-7404. Contact: Wayne Mehlman.
    The National Multi Housing Council (NMHC) and National Apartment 
Association (NAA) represent the majority of the nation's firms 
participating in the multifamily rental housing industry. NMHC and 
NAA's combined memberships are engaged in all aspects of the 
development and operation of apartment communities, including 
ownership, construction, finance, and management. NMHC and NAA operate 
jointly a federal legislative program. NMHC is headquartered at 1850 M 
Street, NW, Suite 540, Washington, DC 20036, 202-659-3381. NAA is 
located at 201 North Union Street, Alexandria, VA 22314, 703-518-6141. 
Contact: James Arbury.
    Building Owners and Managers Association International (BOMA) is a 
federation of 85 United States, 10 Canadian and 5 international 
associations representing over 6 billion square feet of North American 
office space. BOMA's purpose is to represent the interests of the 
commercial real estate industry on policy matters, and to collect, 
analyze and disseminate information. BOMA is headquartered at 1201 New 
York Avenue, NW, Suite 300, Washington, DC 20005, 202-408-2662. 
Contact: Gerald Lederer.
---------------------------------------------------------------------------
    Real estate taxation is comprehensive and complicated. 
There are many changes that should or could be made to this 
broad area of taxation. However, we have chosen to focus our 
testimony on the following limited number of initiatives that 
we believe have broad consensus throughout the industry and are 
important to sustaining a strong national economy:
     H.R. 844, legislation to provide a 10 year 
depreciation class life for leasehold improvements.
     H.R. 1616, the REIT Modernization Act.
     A reduction in the depreciation recapture tax rate 
that is at least proportionate to any reduction in the capital 
gains tax rate.
     Deductibility of brownfield cleanup expenses as 
provided in H.R. 2020.
     Modification to the closely held REIT rules only 
to the extent necessary to address clearly identified and 
substantiated tax avoidance transactions.
     Modification to the ``at-risk'' rules to allow 
publicly traded real estate debt to come under the ``qualified 
nonrecourse financing'' exception.

                              BACKGROUND 

Real Estate and the U.S. Economy

    Millions of Americans share in the ownership of the nation's real 
estate--those who own homes, those who own buildings in which they 
operate their businesses and those who invest directly or indirectly in 
real estate. Commercial and residential real estate assets constitute 
almost half of the nation's domestic investment. No tangible capital 
asset is more important to the U.S. economy than real estate.
    Real estate represents about 20 percent of America's gross domestic 
product and accounts for nearly 9 million jobs. About $293 billion in 
federal state and local tax revenues is generated annually by real 
estate and almost 70 percent of all tax revenues raised by local 
governments come from real property taxes. Unquestionably, real estate 
is a direct, vital and major contributor to the nation's economy.
    The impact of real estate on the nation's economic health and 
welfare is further complemented by the role it plays in providing the 
space in which Americans live, work, shop, recreate, learn, worship and 
heal. Real estate enhances our quality of life and is vital to the 
nation's productivity. 

State of the Real Estate Industry

    Today's real estate markets, as a whole, are in overall good 
health. Interest rates and inflation are low and availability of 
capital and credit is good. Furthermore, housing demand for multi-
family and single homes is good and work and shopping space, in most 
regions, is at a high level of occupancy.
    However, the current healthy status of real estate can be affected 
quickly and dramatically as demonstrated by the financial crisis that 
erupted last summer in Japan and Russia. The international credit 
crisis brought about by the faltering economies of these countries led 
to a near shut-down of the commercial mortgage-backed security (CMBS) 
market as anxious investors stood on the sidelines forcing yield 
spreads to widen to the point that no debt placements were being made. 
This occurred despite the underlying fundamentals of real estate 
investment remaining strong. Clearly, this was a financial crisis, not 
a real estate crisis, but real estate was nonetheless seriously 
affected. Fortunately, investor worries have eased and the credit 
markets are returning to normal. Nevertheless, some residual effects 
remain; particularly among public real estate investment trusts (REITs) 
whose stock prices plunged by double-digit amounts and have yet to 
fully recover.
    Interest rates similarly can affect the course of the real estate 
industry. The anticipated increase in interest rates in response to 
inflation concerns will have a direct impact on all real estate from 
coast to coast as the cost of buying or owning a home, apartment 
building, office buildings, shopping center or warehouse will increase.
    Real estate also is affected by its tax treatment. The turmoil in 
the industry created by the tax changes of the Tax Reform Act of 1986 
is evidence of this. Real estate tax laws should bear a rational 
relationship to the economics of the real estate transaction. In cases 
where certain social results are clear, such as homeownership and 
affordable low-income housing, tax laws should help bring about such 
results. They also should not unduly restrict the ability of investment 
real estate owners to respond to changing economic and market 
conditions--an ability critical to the competitiveness of any 
investment asset.

              SUMMARY OF PROPOSED REAL ESTATE TAX CHANGES

    We urge the committee to include the following tax 
proposals in the broad-based tax relief legislation soon to be 
considered. We want to be clear that these are not all the real 
estate tax proposals supported by the above-mentioned real 
estate organizations. However, they do reflect those proposals 
of the highest priority and those that have the broad, 
collective support of the real estate industry. 
    Ten Year Depreciation for Leasehold Improvements (H.R. 844, 
S. 879) 
    As a function of doing business, most owners of office, 
retail and other commercial rental real estate must routinely 
reconfigure, change or somehow improve their rental space to 
suit the needs of new or existing tenants. H.R. 844, introduced 
by Representative Shaw with 91 bipartisan cosponsors including 
32 Members of the Committee, would reduce the depreciable 
recovery period for leasehold improvements from the current 39 
years to 10 years. This would more closely align the expenses 
incurred to construct these improvements with the income they 
generate during the lease term.
    Enacting H.R. 844 would help make buildings more modern and 
efficient for business tenants and help businesses stay 
competitive. Small businesses particularly would benefit by 
H.R. 844 since their rapid growth rate often results in rapidly 
changing space needs. Further, an overwhelming percentage of 
building owners (80 percent) are small businesses. The bill 
also would help maintain the vitality of buildings and 
buildings are a main contributor to the overall vitality of 
neighborhoods and communities. By helping maintain and improve 
existing space, H.R. 844 would ease pressure to develop new 
buildings which is contributing to the ``sprawl'' problems in 
many communities across the country.
    Current leasehold improvement depreciation rules clearly do 
not make economic sense. The owner receives taxable income 
produced by leasehold improvements over the life of the lease 
(i.e. 10 years) yet can only recover his costs for building 
those improvements over 39 years--nearly a rate four times 
slower. This mismatch of income and expenses causes the owner 
to incur an artificially high tax cost on these improvements.
    For example, a building owner who makes a $100,000 
leasehold improvement for a 10-year, $1 million lease would be 
able to recover his entire investment by the end of that lease 
at a rate of $10,000 a year. Under current law, this $100,000 
improvement is recovered at a rate of $2,564 per year over 39 
years. By reducing this cost recovery period, the expense of 
making these improvements would fall more into line with the 
economics of a commercial lease transaction, and more property 
owners would be able to adapt their buildings to fit the 
demanding needs of today's modern business tenant. Small 
business should find this bill particularly helpful. Small 
businesses turn over their rental space more frequently than 
larger businesses and over 80 percent of building owners who 
provide space to small businesses are small businesses 
themselves.
    Also, the longer an existing building remains viable for 
tenants who need modern, efficient commercial space, the less 
pressure on property owners to develop greenfields in outlying 
suburban areas and the less growth impact on communities. This 
is particularly significant in light of the fact that Americans 
are increasingly concerned about preserving open space, natural 
resources and a sense of neighborhood. Current 39 year 
leasehold depreciation is an impediment to reinvesting in 
existing properties and communities and therefore contributes 
to the development of new properties and what is commonly known 
as ``sprawl.'' This legislation would remove that tax 
impediment and help to level the tax playing field for new 
development and redevelopment.
    Additionally, a recently issued Congressional Research 
Service (CRS) report entitled ``Depreciation and the Taxation 
of Real Estate'' by Jane G. Gravelle lends support to the 
merits of, and justification for, H.R. 844. The report 
concludes that depreciation of nonresidential structures is 
more restrictive today than at any time since 1953, while 
depreciation on residential structures is more restrictive than 
it has been since 1971. It also finds that the tax burden on 
structures is higher than that on equipment. In fact, in order 
to equalize the effective tax rates between equipment and 
office and apartment structures, a depreciation life of 20 
years would be required. In the case of factory buildings, a 
life of 17 years would be required.
    Finally, S. 879 is the companion bill to H.R. 844. 
Introduced by Senators Conrad, Mack Nickles, Robb and Baucus, 
it currently has 12 bipartisan cosponsors. We believe the 
broad, bipartisan cosponsorship and support for H.R. 844 and S. 
879 justifies their inclusion in the respective tax bills 
drafted by this Committee and the Senate Finance Committee. 

              REIT Modernization Act (H.R. 1616, S. 1057) 

    Based in part on the rationale for mutual funds, Congress 
created REITs in 1960 to allow people of all means to invest 
easily and effectively in income-producing real estate. A REIT 
is essentially a corporation or business trust combining the 
capital of many investors to own, operate, and/or finance 
income-producing real estate, such as apartments, shopping 
centers, offices and warehouses. Like a mutual fund, a REIT may 
deduct all dividends paid to its shareholders provided that its 
assets are primarily composed of real estate held for the long 
term, its income is mainly derived from real estate, and it 
distributes most of its taxable income to shareholders. In 
addition to benefiting investors, the lower debt levels 
associated with REITs have had a positive effect on the 
economy.
    Subsequent positive changes made by Congress over the 
almost 40 years since the enactment of the original REIT rules 
have helped to make the REIT industry a vibrant part of today's 
publicly traded real estate market. However, the real estate 
industry rapidly has been evolving into a customer-oriented 
service business. The current rules governing the REIT industry 
make it difficult for REITs to compete with others in the 
marketplace by limiting a REIT's ability to provide leading 
edge services to its tenants and to use its expertise to serve 
third parties.
    Building on a similar proposal contained in the 
Administration's budget package, H.R. 1616, co-sponsored by 
over two-thirds of the members of the Ways and Means Committee, 
would modernize the REIT rules to allow REITs to remain 
competitive by satisfying customer demand. H.R. 1616 would 
permit a REIT to own up to 100% of a taxable REIT subsidiary 
(``TRS'') that could provide ``non-customary'' services to its 
tenants and to provide services to third parties, thus enabling 
REITs to be in a better position to attract and retain top-
quality tenants, maintain better quality control over the 
services rendered to their tenants, and produce greater 
customer loyalty. The TRS would be fully subject to a 
corporate-level tax as well as to a number of rules designed to 
prevent any inappropriate shifting of income between the parent 
REIT and the subsidiary company. H.R. 1616 also would modernize 
several other important rules applicable to REITs, such as 
reducing a REIT's distribution requirement to 90%.
    Given the breadth of the support for REIT modernization and 
the legislation's importance to the continuing competitiveness 
of the publicly traded real estate industry, we encourage you 
to include H.R. 1616 in the Chairman's mark. 

        Capital Gains Rate Reduction and Depreciation Recapture 

    In the context of the current tax debate, a number of 
policymakers in Congress have expressed interest in reducing 
capital gains taxes in order to sustain economic growth and 
generate additional revenues. Lowering the capital gains rates 
would further ``unlock'' assets and allow capital to flow more 
freely and productively. Historically, the real estate industry 
has favored low capital gains rates and would welcome further 
rate reduction. However, further capital gains rate reduction 
raises the important issue of depreciation recapture. If 
Congress chooses to enact a capital gains rate cut in 1999, we 
believe the appropriate action to take is to reduce the 
depreciation recapture rate to the same rate as the capital 
gains rate. At a minimum, the depreciation recapture rate 
should be reduced proportionately.
    In 1997, Congress revamped the capital gains regime 
applicable to real estate that had been in place since 1963. 
From 1963 until the 1997 changes, when an income-producing 
property was sold, the aggregate of previously allowed 
depreciation deductions was taken back into income (or 
``recaptured''). If the owner had used the straight-line method 
of depreciation for recovering the costs of the property, then 
the recapture amount was taxed at capital gains rates. (During 
any periods between 1963 and 1986 when accelerated depreciation 
had been an allowable method, the accelerated method resulted 
in ordinary income treatment for depreciation recapture amount. 
Since 1986, however, accelerated depreciation has not been an 
allowable method for real estate.) Another way of describing 
this treatment was that the gain above adjusted basis was 
treated as a capital gain.
    In 1997, Congress overturned this long-standing regime. 
Since 1997, the gain above the adjusted basis of real property 
has been broken into two elements. All previously allowed 
depreciation allowances (even straight-line) are taxed at 25% 
(representing neither ordinary income nor capital gains). Only 
the gain above the original purchase price (plus improvements) 
is taxed at capital gains rates of 20%. Thus, since 1997, the 
effective rate of tax on any sale of income-producing real 
estate has been higher than the 20% capital gains rate 
applicable to sales of most other capital assets.
    Taxing recapture amounts at rates higher than capital gains 
rates implies that depreciation allowances have been taken in 
amounts in excess of economic depreciation, or that the 
depreciation allowance has been overstated. We disagree. The 
``gain'' on the sale of real estate often is due to extrinsic 
factors--not excessive tax depreciation. The building itself 
does, in fact, depreciate over time like any other wasting 
asset. Real estate is very capital and maintenance intensive as 
the building shell and interior components constantly 
deteriorate and wear out requiring their upgrading or 
replacement.
    Gains in real estate often are attributable to inflation, 
appreciation in the value of the land, road and other 
transportation improvements and the marketplace and economy in 
general. Applying a recapture rate to this appreciation higher 
than the capital gain rate is inappropriate because the 
appreciation is capital gain. Such treatment would discriminate 
against real estate relative to other assets and put real 
estate at an even greater competitive disadvantage for 
investment dollars
    The recent CRS study on depreciation by Jane Gravelle cited 
above supports this position. The study shows that the cost 
recovery period for real estate is unduly long. It concludes 
that, in order to be treated on a par with investment in 
equipment, the cost recovery period for real estate should be 
reduced to 20 years. The 1997 depreciation recapture changes 
exacerbated the disparity in tax treatment between real estate 
and other assets. Another reduction in the capital gains rate 
without, at a minimum, the proportionate reduction in the 
recapture rate, would make this disparity even more pronounced.
    We urge Congress, therefore, to be mindful of the recapture 
implications created by further capital gains rate reduction. 
We believe revisiting the capital gains issue presents an 
opportunity to redress the inappropriate recapture treatment 
imposed in 1997. At a minimum, Congress should act to ensure 
that that real estate is not further disadvantaged relative to 
other assets by making reductions in capital gains and 
depreciation recapture rates proportionate. 

Deductibility of Brownfield Cleanup Expenses 

    Brownfield properties, once the source of jobs and tax 
revenue for hundreds of communities across the U.S., are often 
stigmatized by a legacy of environmental contamination and 
cleanup liability. Encouraging investors to purchase and 
remediate an estimated 400,000 mildly polluted yet potentially 
renewable industrial sites not only makes good economic and 
business sense, it makes for good neighborhoods. Yet, only a 
handful of these troubled properties have been restored. Why? 
One reason is the lack of clear federal guidelines to relieve 
innocent parties from the prospect of unlimited legal liability 
for cleaning up contamination that they had no role in 
creating. Another reason is a federal tax system that creates 
economic disincentives for businesses that might otherwise 
consider rehabilitating brownfields.
    Unless a brownfields site is located in a federally 
targeted empowerment zone, the costs of cleaning up 
contaminants must be capitalized and added to the cost of the 
land rather than deducted in the year they are incurred. 
Capitalized costs can only be recovered when the property is 
sold. Long term holding of real estate results in minimal, if 
any, effective recovery of these costs. Depending on the extent 
and type of contamination, these costs can be substantial.
    The 1997 Taxpayer Relief Act provided immediate expensing 
of brownfield cleanup costs in empowerment zones and other high 
poverty targeted areas. This tax treatment should be extended 
to non-targeted areas as well. Therefore, we support the urban 
revitalization provision in H.R. 2020, introduced by 
Representative Nancy Johnson (CT), which would allow the 
expensing of brownfield cleanup costs. Other Members of the 
Committee, such as Mr. Weller and Mr. Neal also have supported 
improved tax treatment of brownfield cleanup expenses. If full 
deductibility cannot be provided, then, at a minimum, a rapid 
amortization period such as 60 months should be provided. 
Requiring that these costs be capitalized to the basis of the 
land is a disincentive to acquisition and redevelopment. 
Removing this tax impediment would allow for more infill 
development and revitalization of existing properties. This 
would contribute to revitalization of existing communities and 
help ease the pressure to build new properties on greenfields. 

Modifications to Closely-held REIT Rules 

    We understand that the Committee is reviewing a Clinton 
Administration proposal to modify the closely held REIT rules 
in light of recent high profile tax avoidance transactions that 
involved closely held REITs.
    The capitalization of real estate through REITs that has 
occurred in the 1990s has been an important factor in the 
recovery of the real estate industry which itself is making a 
significant contribution to the strength of the overall 
economy. We are concerned with the impact the Administration's 
closely held proposal could have on capital flows to real 
estate and the potential resulting negative effect on asset 
values and jobs. We believe the Administration's proposed 
prohibition on all closely held REITs is overly broad and 
unnecessary to prevent improper tax avoidance.
    The highly visible ``step-down'' preferred and liquidating 
REIT transactions do not represent all, or even most, uses of 
the closely held REIT. In fact, most of the uses of closely 
held REITs that we are aware of are quite legitimate and play 
an important role in the capitalization of real estate by 
domestic and foreign capital sources.
    Legitimate uses of closely held REITs include, for example, 
REITs owning other REITs (which the Administration's proposal 
properly acknowledges) and incubator REITs. Incubator REITs are 
closely held REITs that serve as precursors to publicly held 
REITs. Incubator REITs that have developed into publicly held 
REITs have created jobs and resulted in additional revenue to 
Treasury through taxes paid on dividends.
    Domestic and foreign partnerships, mutual funds, pension or 
profit-sharing trusts or other pass-through entities also 
should not be counted as one entity in determining whether any 
``person'' owns 50 percent or more of the vote or value of a 
REIT. Partnerships, mutual funds and other pass-through 
entities are usually ignored for tax purposes and, therefore, 
the owners of these entities, be they partners, shareholders or 
beneficiaries, should be considered the ``persons'' owning a 
REIT.
    Also, joint ventures between private and public REITs 
recently have taken on heightened importance. In present market 
conditions, depressed stock prices hamper the ability of many 
public REITs to go back to the stock market to raise equity 
capital. Many of these same REITs want to limit borrowings 
under their lines of credit to maintain, or improve, their 
investment grade ratings. They, therefore, are relying on 
privately structured joint ventures with closely held REITs to 
raise equity in order to complete new transactions and to grow.
    In many cases, a third party investor owns a majority share 
of the closely held REIT. Although the Administration's 
proposal would allow a REIT to own another REIT, such ownership 
effectively would be limited to REITs that meet the ownership 
requirements of the proposal. This would have a material 
adverse impact on the ability of public REITs to tap into the 
much needed alternative source of capital provided by joint 
ventures with closely held private REITs.
    Therefore, as you review the closely held REIT rules, we 
recommend that you refrain from enacting broad-based 
prohibitions such as that proposed by the Administration. We 
further recommend that, at a minimum, the legitimate uses of 
closely held REITs be allowed to continue under any 
modification of the closely held REIT rules.

Modify the ``At-Risk'' Rules to Treat Publicly Traded Debt as 
Qualified Nonrecourse Financing 

    The ``at-risk'' rules of Section 465 were extended to real 
estate in the 1986 Tax Reform Act in a broad effort to curb 
real estate tax shelters. Congress recognized at the time, 
however, that real estate traditionally used nonrecourse 
financing and, therefore, allowed ``qualified nonrecourse 
financing'' to receive at-risk treatment.
    Qualified nonrecourse financing is nonrecourse financing 
provided by a person in the business of lending (i.e. banks, 
insurance companies, pension funds) that is secured by the real 
property. This exception was adequate for the type of real 
estate lending that existed in 1986--property specific 
financing from traditional lending institutions.
    Since 1986, however, real estate financing has undergone 
significant changes. The most significant being the use of 
publicly traded debt to finance real estate. This is general 
obligation debt provided by the public through investment banks 
typically to real estate investment trusts. It is essentially 
the same as a corporate bond issued by any publicly traded 
corporation.
    Currently, publicly traded debt does not meet the technical 
requirements of the qualified nonrecourse financing because the 
lender--in this case the public--is not in the business of 
lending. Furthermore, the debt is a general obligation of the 
company and is not secured by a specific property interest as 
is a typical mortgage loan.
    The failure of the at-risk rules to be updated as real 
estate financing has evolved is creating unfair potential tax 
liabilities for many real estate owners and serious compliance 
headaches. The Internal Revenue Service has recognized this and 
issued private letter rulings that alleviate some of the 
concerns created by the outdated at-risk rules. However, these 
rulings are limited in their usefulness and only apply to the 
taxpayer applying for the ruling.
    Logic dictates that a technical statutory modification is 
needed to update the at-risk rules so they are relevant to 
modern real estate financing transactions. We have been working 
on such a modification with Members of the Ways and Means 
Committee and staff of the Joint Committee on Taxation. Mr. 
Foley has submitted draft language to Chairman Archer and 
requested that this language be included in his mark. We urge 
you to adopt this narrowly targeted and appropriate 
modification to the at-risk rules.

                               CONCLUSION

    Again, we thank you Mr. Archer and Members of the Committee 
for this opportunity to testify. We reiterate that real estate 
is a major contributor to our economy and the sustained and 
healthy growth rate experienced by it since the early 1990s. 
The aggregate value of the nation's real estate stock --land, 
buildings and other fixed improvements--is over $20 trillion. 
The importance of maintaining and growing this value cannot be 
understated. We believe the tax proposals outlined in this 
testimony are needed to for the health and welfare of the real 
estate industry and the economy. They are reasonable, carefully 
thought-through and necessary. We urge you to enact them today. 
Whatever revenue costs to the Treasury that may be associated 
with them, (and some, in fact, should raise revenues), will be 
offset by the economic and social benefits they would help 
bring about. We look forward to working with the Chairman and 
Members of the Committee on these issues as the broad-based tax 
relief effort progresses.
      

                                


    Chairman Archer. Thank you, Mr. Greenberg.
    Mr. Leonard.

 STATEMENT OF CHARLES H. LEONARD, SENIOR VICE PRESIDENT, CHIEF 
    FINANCIAL OFFICER AND TREASURER, TEXAS EASTERN PRODUCTS 
  PIPELINE COMPANY; ON BEHALF OF COALITION OF PUBLICLY TRADED 
                          PARTNERSHIPS

    Mr. Leonard. Good afternoon, Mr. Chairman and Members of 
the Committee. I am pleased and honored to have been invited to 
testify before you. My name is Charles H. Leonard, and I am the 
senior vice president and chief financial officer and treasurer 
of Texas Eastern Products Pipeline Co., the general partner of 
TEPPCO Partners, L.P., a publicly traded partnership based in 
Houston. TEPPCO is one of the largest pipeline common carriers 
of refined petroleum products and LPGs in the United States and 
is also engaged in the gathering, transportation, storage, and 
marketing of crude oil, and the transportation of natural gas 
liquids.
    The Coalition of Publicly Traded Partnerships, on whose 
behalf I am speaking today, is a trade association representing 
publicly traded partnerships, or PTPs, and their general 
partners. The legislative issue on which I will testify is of 
critical importance not only to TEPPCO, but to all publicly 
traded partnerships.
    I am here to ask your help in remedying a provision in the 
Tax Code which unfairly, unintentionally, and for no good 
policy purpose discriminates against PTPs with regard to 
investment by mutual funds. Legislation to address this 
situation, H.R. 607, has been introduced by Representative Bill 
Thomas and is cosponsored by 12 Committee Members.
    As their name suggests, PTPs, also known as master limited 
partnerships or MLPs, are limited partnerships which are traded 
on public exchanges. The interests in a PTP are referred to as 
units, the investors are unitholders. Most PTPs are structured 
so that unitholders receive quarterly cash distributions which 
generally provide them with a very good yield on their 
investment.
    On the financial markets, PTPs are seen as investments 
which provide steady income through the quarterly distributions 
and some measure of growth. This makes them an attractive 
investment option for retirees in particular or for anyone 
wishing to receive a steady income stream.
    The Coalition currently knows of 56 PTP issues that are 
trading on the exchanges or over the counter. Of these, about 
half are in energy-related industries. The rest are in real 
estate investment and homebuilding, mortgage securities, 
timber, investment management, and various other industries. 
PTPs have operations in just about every State in the country 
and unit holders in every State.
    Our problem is that the Tax Code prevents us from 
attracting mutual funds as investors. Under the Regulated 
Investment Co., or RIC, rules of the Code, mutual funds must 
receive 90 percent of their gross income from specified 
sources. Income from a partnership, even one that is publicly 
traded, does not qualify. Neither the quarterly distributions, 
nor the partnership income allocated to the mutual fund fall 
into one of the approved categories.
    Thus, a mutual fund cannot invest in a PTP unless it is 
certain that the resulting income, together with all other 
nonqualifying sources, will not exceed 10 percent of its gross 
income. Faced with the burden of monitoring percentages, and 
loss of their special tax status if they exceed the 10-percent 
limit, most mutual funds choose not to take the risk.
    Mutual funds are an increasingly important segment of the 
capital markets. Moreover, a growing number of individual 
investors, and most of our public unit holders are individuals, 
are investing through mutual funds rather than buying 
securities directly. This means that a company that is not 
bought by mutual funds is at a huge disadvantage. The 
disadvantage is compounded by the fact that if mutual funds 
aren't buying your securities, most analysts don't bother to 
follow them.
    Analysts that do follow PTPs have found some excellent 
investments to recommend to their clients. For example, a 
recent analysis issued by an analyst at A.G. Edwards and Co. 
found several energy-related PTPs to be appropriate investments 
for both conservative and aggressive income investors. 
Unfortunately, such analysts are few and far between. We 
believe that if there were more activity in our units by mutual 
funds, it would increase interest among other investors.
    We also believe that our units are seriously undervalued 
because of this problem and that resolving it could increase 
the value by anywhere from 5 to 10 percent. This could have a 
significant effect on capital formation and market value in 
those industries, particularly energy-related industries, where 
PTP use is concentrated.
    The RIC rules were written before such a thing as a 
publicly traded partnership existed. As we understand it, the 
rules reflect two concerns. First, mutual funds should not be 
active participants in a company's business, as a partner in a 
smaller partnership might be. Second, because they were 
illiquid, sometimes risky, and often structured to generate tax 
losses, nontraded partnerships were considered inappropriate 
for mutual funds.
    Neither of these concerns applies in the case of PTPs. PTPs 
are liquid by definition, are safe, and fully SEC regulated, 
and are structured to generate income. The mutual fund would be 
only one of tens of thousands of unitholders contributing 
capital, not a participant in managing the business.
    In short, there is no reason to treat PTP units differently 
from any other publicly traded security, and it is highly 
unfair to place them at this disadvantage in attracting mutual 
fund investment.
    H.R. 607 would resolve this issue by simply making income 
derived from a PTP a qualifying income source for mutual funds. 
This will allow the decision on mutual fund investment in PTPs 
to be made the same way it is made for other publicly traded 
securities: by a mutual fund manager who evaluates each PTP's 
current performance and outlook for the future.
    This legislation will make it easier for PTPs to raise the 
capital they need to grow, expand their operations, and create 
new jobs. It will also increase the value of the units held by 
the PTP investors who live in your States. I urge you to make 
the Tax Code more fair and rational by including H.R. 607 in 
the tax bill that you will write in July.
    [The prepared statement follows:]

Statement of Charles H. Leonard, Senior Vice President, Chief Financial 
Officer and Treasurer, Texas Eastern Products Pipeline Company; on 
behalf of Coalition of Publicly Traded Partnerships

    I am pleased and honored to have been invited to testify 
before this Committee. My name is Charles H. Leonard, and I am 
the Senior Vice President, Chief Financial Officer and 
Treasurer of Texas Eastern Products Pipeline Company, the 
general partner of TEPPCO Partners, L.P., a publicly traded 
partnership based in Houston. TEPPCO is one of the largest 
pipeline common carriers of refined petroleum products and LPGs 
in the United States and is also engaged in the gathering, 
transportation, storage and marketing of crude oil, and the 
transportation of natural gas liquids.
    The Coalition of Publicly Traded Partnerships, on whose 
behalf I am speaking today, is a trade association representing 
PTPs and their general partners. The legislative issue on which 
I will testify is of critical importance not only to TEPPCO, 
but to all publicly traded partnerships.
    I am here to ask your help in remedying a provision in the 
tax code which unfairly, unintentionally, and for no good 
policy purpose that we can discern, discriminates against 
investment in publicly traded partnerships with regard to 
investment by mutual funds. For those of you who are not 
familiar with PTPs, I would like to briefly explain this 
business entity, and then discuss the problem.

                      Publicly Traded Partnerships

    As their name suggests, publicly traded partnerships (PTPs) 
are limited partnerships which are traded on public exchanges. 
They are also commonly known as ``master limited partnerships'' 
or MLPs. The interests in a PTP are called ``units'' and the 
investors are referred to as ``unitholders.''
    Most PTPs are structured so that unitholders receive 
quarterly cash distributions, which generally provide them with 
a very good yield on their investment.
    On the financial markets, PTPs are seen as investments 
which provide a steady income through the quarterly 
distributions and some measure of growth, although usually less 
than that of corporate investments. For this reason, they are 
often compared with bonds or utility stocks in market analyses. 
This makes them a very attractive investment option for 
retirees in particular, or for anyone wishing to receive a 
steady income stream.
    Since the PTP rules of section 7704 of the Code were 
enacted in 1987, only those partnerships receiving 90 percent 
of their income from specific sources can be publicly traded 
and still be taxed as partnerships. These sources include 
interest, dividends, real estate rental income and gain from 
the sale of real estate, and income from a broad range of 
natural resource activities.
    In addition, there are several PTPs not meeting the gross 
income test which were already in existence when the 1987 rules 
were passed. They received a 10-year grandfather period at that 
time, and now, under rules enacted in 1997, may continue to be 
taxed as partnerships if they elect to pay a 3.5% gross income 
tax.
    The Coalition currently knows of 56 PTP issues that are 
trading on the New York and American Stock Exchanges, NASDAQ, 
or over-the-counter. Of these, 25 are in energy related 
industries--oil and gas exploration, processing, pipeline 
transportation of various petroleum products, propane 
distribution, and so on. Ten are in real estate investment or 
homebuilding, 7 invest in mortgage securities, 3 are timber 
companies, and one produces and markets agricultural chemicals. 
Three are ``grandfathered'' PTPs in the advisory business, and 
the rest are scattered among various industries. There may be 
other PTPs of which we are unaware because they are very thinly 
traded or are still in formation.
    These PTPs collectively have operations in just about every 
state in the country and unitholders in every state. TEPPCO, 
for example, currently has operations in 24 states, including 
the following states represented by the Members of this 
Committee: Texas, our home state, Louisiana, New York, 
Illinois, Pennsylvania, Ohio, Colorado, Oklahoma, Missouri, and 
Kentucky. Other PTPs in the Coalition have a presence in many 
of these state--particularly Texas, which is the home of a 
number of the energy-related PTPs--as well as a strong presence 
in California and operations in Upper Midwest states like 
Minnesota, Wisconsin, Nebraska, Iowa and the Dakotas. A list of 
currently trading PTPs and the location of their headquarters 
is attached to this testimony.
    A 1998 study by Pricewaterhouse Coopers estimated that as 
of 1996, PTPs collectively owned about $27 billion in net 
assets. Based on an examination of SEC filings, the Coalition 
believes that PTPs had roughly $20 billion in market capital at 
the end of 1997. While we are a small part of the overall 
market, we are not an insignificant one.

                   Regulated Investment Company Rules

    The problem which we need your help in resolving is that 
the tax code prevents us from attracting mutual funds as 
investors. Under the Regulated Investment Company (RIC) rules 
in section 851 of the tax code, mutual funds must receive 90 
percent of their gross income from specified sources. Income 
received from a partnership, even one that is publicly traded, 
does not qualify. The quarterly distributions, while resembling 
dividends, are not in fact dividends for tax purposes; and the 
partnership income allocated to the mutual fund only rarely 
will fall into one of the section 851 categories.
    Thus, a mutual fund cannot invest in a PTP or other 
partnership unless it is certain that the income it receives 
from that partnership, together with all other nonqualifying 
income sources, will not exceed 10 percent of its gross income. 
Faced with the burden of monitoring percentages, and the dire 
consequences of exceeding the 10 percent limit--loss of their 
special tax status--most mutual funds choose not to take the 
risk.
    Mutual funds, as we all know, are an increasingly important 
segment of the capital markets. Moreover, a growing number of 
individual investors--which is where most of our public 
unitholders come from--are investing through mutual funds 
rather than buying securities directly. This means that a 
company that is not being bought by mutual funds is at a huge 
disadvantage. The disadvantage is compounded by the fact that 
if mutual funds aren't buying your securities, most analysts 
don't bother to follow them.
    Those few analysts who have chosen to follow the PTP market 
have found some excellent investments to recommend to their 
clients. For example a recent analysis issued by an analyst in 
A.G. Edwards & Company's St. Louis office found several energy 
related PTPs to be appropriate investments for both 
conservative and aggressive income investors. Unfortunately, 
such analysts are few and far between; there are not nearly 
enough to generate the type of ``buzz'' on Wall Street that 
helps sell securities. We believe that if there were more 
activity in our units by mutual funds, it would increase 
interest among other investors.
    As a result of this situation, we believe our that our 
units are seriously undervalued, and that if this impediment to 
mutual fund investment were removed, their value would increase 
by anywhere from 5% to 10%. The 1998 Pricewaterhouse Coopers 
study agreed, and predicted that investors would realize 
substantially greater capital gains from their PTP units if 
this provision were enacted. It is our strong belief, 
therefore, that this measure could have a significant effect on 
capital formation and market value in those industries, 
particularly natural resource industries, where PTP use is 
concentrated.
    Before changing the way the RIC rules work for PTPs, it 
makes sense to examine the policy behind these rules and 
whether that policy is applicable in the case of PTPs. It is 
our understanding that there are two essential policy reasons 
behind the current rules. First, because of the flow-through 
nature of a partnership, an investor in a partnership is 
technically considered to be engaging in the partnership's 
business. The writers of the RIC rules did not want RICs to be 
actively engaged in businesses, but only passive investors; 
hence they set the rules up so that a partnership investment 
would qualify only if it was generating income characteristic 
of a passive investment.
    This makes sense in the case of smaller, nontraded 
partnerships, where the RIC might indeed be in a position to 
influence the partnership's business dealings. In a PTP, 
however, the RIC is in the same position it would be as a 
corporate shareholder, one of tens of thousands of investors 
who contribute capital to the enterprise but have no role to 
play in the company's management.
    Also, at the time the RIC rules were written there were no 
traded partnerships. PTPs did not come into existence until the 
early 1980s, when computer technology made it possible to track 
complex partnership tax attributes for large numbers of 
investors. Before that, a partnership investment was highly 
illiquid, required a sizeable investment, and was often quite 
risky. As this Committee knows, many nontraded partnerships in 
earlier days were set up for the specific purpose of generating 
losses. For all these reasons, they were not a suitable 
investment for a mutual fund.
    PTP units, however, are safe and potentially attractive 
investments for mutual funds. By definition, they are publicly 
traded and hence are liquid; and they can be obtained in small 
investment increments. Moreover, being fully regulated by the 
SEC, PTP units are no more risky than any other traded 
security. They have always been structured for the purpose of 
generating income, not loss, for their investors.
    In short, there is no reason to treat PTP units differently 
from any other security that is traded on the public markets, 
and it is highly unfair to place them at this disadvantage in 
attracting mutual fund investment.

                          Legislative Solution

    Representative Bill Thomas, with the cosponsorship of 
twelve members of this Committee, has introduced H.R. 607, 
which would resolve this issue by simply making income derived 
from a publicly traded partnership a qualifying income source 
for mutual funds. This will allow the decision on whether and 
how much a mutual fund invests in PTP units to be made in the 
same way it is made for other publicly traded securities: by a 
mutual fund manager who evaluates each PTP's current 
performance and outlook for the future.
    PTPs are an important vehicle for capital formation, 
particularly in the energy and natural resources industries. 
This legislation will make it easier for PTPs which may 
currently operate in your states to raise the capital they need 
to grow, expand their operations, and create new jobs. And by 
eliminating an application of the Code which has no policy 
justification and which results in an undervaluation of PTP 
units, this provision will increase the value of the units held 
by the PTP investors who live in your states. I urge you to 
make the tax code more fair and rational by including the 
Thomas bill in the tax legislation that you will write in July.

 COALITION OF PUBLICLY TRADED PARTNERSHIPS PUBLICLY TRADED PARTNERSHIPS
                Partnerships trading as of June 22, 1999
------------------------------------------------------------------------
                                    Exchange/Symbol    Principal Offices
------------------------------------------------------------------------
REAL ESTATE--Income Properties
 and Homebuilders
  American Real Estate Partners.  NYSE/ACP..........  Mt. Kisco, New
                                                       York
  Carey Diversified LLC.........  NYSE/CDC..........  New York, New York
  Hallwood Realty Partners......  AMEX/HRY..........  Dallas, Texas
  Heartland Partners............  AMEX/HTL..........  Chicago, Illinois
  Interstate General Company,     AMEX/IGC..........  Chantilly,
   L.P..                                               Virginia
  National Realty L.P...........  AMEX/NLP..........  Dallas, Texas
  New England Realty Associates,  NASDAQ/NEWRZ......  Boston,
   L.P..                                               Massachusetts
  Newhall Land and Farming        NYSE/NHL..........  Valencia,
   Company.                                            California
  Royal Palm Beach Colony, L.P..  OTC/RPAMZ.........  Hollywood, Florida
  Teeco Properties, L.P.........  OTC/3TPLPZ........  New York, New York
REAL ESTATE--Mortgage Loan
  America First Apartment         NASDAQ/APROZ......  Omaha, Nebraska
   Investors.
  America First Tax Exempt        NASDAQ/AFTXZ......  Omaha, Nebraska
   Mortgage Fund.
  American Insured Mortgage       AMEX/AII..........  Rockville, MD
   Investors 85.
American Insured Mortgage         AMEX/AIJ..........  Rockville, MD
 Investors 86.
  American Insured Mortgage       AMEX/AIK..........  Rockville, MD
   Investors 88.
  Municipal Mortgage & Equity,    NYSE/MMA..........  Baltimore, MD
   LLC.
  Oxford Tax-Exempt Fund II,      AMEX//OTF.........  Bethesda, MD
   L.P..
NATURAL RESOURCE--Oil and Gas,
 Energy Processing &
 Distribution
  Amerigas......................  NYSE/APU..........  King of Prussia,
                                                       Pennsylvania
  Buckeye Partners, L.P.........  NYSE/BPL..........  Emmaus,
                                                       Pennsylvania
  Cornerstone Propane Partners,   NYSE/CNO..........  Watsonville,
   L.P..                                               California
  Dorchester Hugoton Ltd........  NASDAQ/DHULZ......  Garland, Texas
  Enterprise Products Partners,   NYSE/EPD..........  Houston, Texas
   L.P..
  EOTT Energy Partners..........  NYSE/EOT..........  Houston, Texas
  Ferrellgas Parters, L.P.......  NYSE/GEL..........  Houston, Texas
    Hallwood Energy Partners....  AMEX/HEP..........  Dallas, Texas
  Hallwood Energy Partners,       AMEX/HEPCWI.......  Dallas, Texas
   Class C.
  Heritage Propane Partners,      NYSE/HPG..........  Tulsa, Oklahoma
   L.P..
  Kaneb Pipe Line Partners--Sr.   NYSE/KPP..........  Dallas, Texas
   Preferred.
  Kaneb Pipe Line Partners--      NYSE/KPU..........  Dallas, Texas
   Preferred.
  Kinder Morgan Energy Partners,  NYSE/ENP..........  Houston, Texas
   L.P..
  Lakehead Pipe Line Partners...  NYSE/LHP..........  Duluth, Minnesota
  Leviathan Gas Pipeline Ptrs.,   NYSE/LEV..........  Houston, Texas
   L.P..
  National Propane Partners,      NYSE/NPL..........  Cedar Rapids, Iowa
   L.P..
  Northern Border Partners, L.P.  NYSE/NBP..........  Omaha, Nebraska
  Plains All American Pipeline,   NYSE/PAA..........  Dallas, Texas
   L.P..
  Pride Companies, L.P..........  NYSE/PRF..........  Abilene, Texas
  Star Gas Partners, L.P........  NYSE/SGU..........  Stamford,
                                                       Connecticut
  Suburban Propane..............  NYSE/SPH..........  Whippany, New
                                                       Jersey
  Sun Energy Partners, L.P......  NYSE/SLP..........  Dallas, Texas
  TEPPCO Partners, L.P..........  NYSE/TPP..........  Houston, Texas
  Unimar Company, L.P...........  AMEX/UMR..........  Houston, Texas
NATURAL RESOURCE--Timber and
 Minerals
  Crown Pacific, L.P............  NYSE/CRO..........  Portland, Oregon
  Pope Resources................  NASDAQ/POPEZ;.....  Poulsbo,
                                  PSE/PRP...........   Washington
  Terra Nitrogen, L.P...........  NYSE/TNH..........  Sioux City, Iowa
  U.S. Timberlands Company, L.P.  NASDAQ/TIMBZ......  Klamath Falls,
                                                       Oregon
INVESTMENT ADVISORS
  Alliance Capital Management,    ANYSE/AC..........  New York, New York
   L.P..
  NVest, L.P....................  NYSE/NEW..........  Boston,
  (formerly New England.........                       Massachusetts
  Investment Companies).........
  PIMCO Advisors Holdings, L.P..  NYSE/PA...........  Newport Beach,
                                                       California
MISCELLANEOUS
  Airlease, Ltd.................  NYSE/FLY..........  San Francisco,
                                                       California
  Borden Chemicals & Plastics     NYSE/BCU..........  Geismar, Louisiana
   L.P..
  Boston Celtics L.P............  NYSE/BOS..........  Boston,
                                                       Massachusetts
  Cedar Fair, L.P...............  NYSE/FUN..........  Sandusky, Ohio
  Equus Gaming Company..........  NASDAQ/EQUUS......  Hato Rey, Puerto
                                                       Rico
  FFP Partners, L.P.............  AMEX/FFP..........  Fort Worth, Texas
  Mauna Loa Macadamia Partners,   NYSE/NUT..........  Honolulu, Hawaii
   L.P..
------------------------------------------------------------------------

      

                                


    Mrs. Johnson of Connecticut [presiding]. I thank the panel 
for your testimony on a range of issues of importance across 
the country.
    Mr. Capps, I wanted to have you address briefly, because I 
do have some other questions in my time, I did want to have you 
address why the AIRC is important, why extension of just the 
old R&D tax credit doesn't meet our needs? And then if you 
would also speak to the broader question of why the market--
some people will say to me, ``Well, the market rewards R&D. If 
you have better products out there, you win in the market,'' so 
why does government need to recognize R&D costs at all and then 
why do we need that addition that we, frankly, have worked so 
hard on?
    Mr. Capps. Well, first addressing the AIRC or the 
alternative credit. It is extremely important to all members of 
the Coalition, including companies like EDS, who have 
historically used the traditional credit. Back in 1994, 
companies were coming from different directions as far as their 
approach to the credit. And Members of this Committee had 
suggested that the business community try to tie together and 
come up with a unified front and proposal for a structure for 
the credit. We deliberated and worked amongst ourselves for 
over a year and ultimately came up with a design, the 
traditional credit, which did in fact work well for most 
companies. But then also the incremental credit, which picked 
up other companies that were doing substantial amounts of 
research, were research-intensive but the historical base 
period that we used in the traditional credit wasn't a good 
measure or reasonable basis, a good basis to use to measure 
them on a go-forward basis.
    So we came up with this compromise structure. We think it 
works well. As a business community, we are coming forward with 
a structure for the credit that includes both the traditional 
and the alternative credit. And the alternative credit is 
essentially the glue that helps hold our Coalition together. So 
it is very important to us.
    As far as your question regarding the free market and why 
isn't it an adequate incentive for research and development in 
the private sector, much of the research that is done is 
compelled for competitive reasons by the free market. What the 
R&D credit is focusing on are those activities, those research 
projects that are on the margin, where a company is evaluating 
whether or not to go forward with a project, it will look at 
the benefits that it is going to realize from that research. 
Well, the benefits that flow to the economy and society at 
large can greatly exceed that benefit that the company is 
getting. So with the credit and the added capital that it 
provides the companies, they can pick up those marginal 
activities which end up providing a significant benefit to the 
economy as a whole.
    Kind of driving home that point, I just saw something in 
The Washington Post this morning talking about my industry, the 
information technology industry, and it says that, 
``Information technology industries are having a huge impact on 
the economy, contributing more than one-third of U.S. economic 
growth between 1995 and 1998, even though they account for just 
8 percent of the Gross Domestic Product.'' And that is 
reflecting this concept that the benefits that flow to the 
economy greatly exceed what the individual companies get. And 
that is out of a Commerce Department study that they just came 
out with.
    Mrs. Johnson of Connecticut. I appreciate that because we 
actually in other areas invest a tremendous amount of public 
money, in health research, in much of our defense research 
flows over into the private sector and our national lab 
research capability goes over to the private sector only when 
it is economic for a company to be able to pick up the 
additional research necessary to translate the basic research 
into product. But you are right, if there is a one-to-one 
relationship between research and product, if it were always 
that easy, we wouldn't need to help. And many, many companies 
do that kind of research and don't take the credit because it 
is fairly inexpensive and it is very fast-moving and it is hard 
to document. So there is a lot of R&D that goes on that the 
government doesn't have any role in.
    The kinds of R&D projects that go on that the government 
has a legitimate interest in are those that are higher risk, 
may not lead exactly to products, and do take a much longer 
term investment. And I know you made the point in your 
testimony that permanency is important because the bigger, more 
significant projects that are going to lead to generations of 
products in the future are the very kind of projects that need 
the credit and that are disadvantaged by these very short-term 
extensions that we have enjoyed or suffered in the past.
    Mr. Capps. At EDS, we have undertaken research projects 
that have spanned 10, 12 years.
    Mrs. Johnson of Connecticut. Thank you. I just want to ask 
Mr. Greenberg, if I may, Mr. Greenberg, thank you for your 
testimony and being specific about a number of bills that have 
been introduced by Committee Members and their impact on a 
number of markets that you are associated with, the number of 
industries that you are associated with. It is also true that 
29 of the 39 Members of this Committee are cosponsors of my 
bill and Mr. Rangel's interest in raising the cap on the low-
income housing tax credit to expand the availability of high-
quality, well-managed, affordable units. The credits currently 
are in tremendous demand, the demand far exceeds the 
availability of the credits. And I just wondered what you 
thought about that bill since it isn't one of the ones you 
mentioned?
    Mr. Greenberg. Well, it isn't one of the ones we mentioned, 
but some of our members definitely have an interest in that. 
And we do support the fact that if low-income housing credits 
will increase the production and the construction of low-income 
housing for people, that it is a good thing and we would 
support that. It wasn't one of the main topics because it 
didn't encompass most of our members.
    Mrs. Johnson of Connecticut. Well, your focus on broader 
things like build-out costs and brownfields and REIT 
modernization do take a slightly different approach to this. 
But certainly the low-income housing tax credit has proved its 
power in the affordable housing range.
    Mr. Greenberg. But we do support that because if it does 
create low-income housing, if it does help produce more 
construction of low-income housing, we do support that, yes.
    Mrs. Johnson of Connecticut. Thank you.
    Mr. Levin.
    Mr. Levin. Thank you. Welcome. Mr. Baroody, in your 
testimony, you referred toward the end to section 127.
    Mr. Baroody. Yes, sir.
    Mr. Levin. And might I kind of make a pitch? We have had an 
uphill battle on this, as you know, especially including 
graduate education. And I think there are a lot of 
misconceptions about what kind of graduate education was really 
being abetted by 127. It wasn't doctors and lawyers, it was 
primarily people who, for example, wanted to increase their 
engineering proficiencies. I don't know what the odds are for 
making progress this time around. We almost did so last time in 
this Committee. And I just want to express my hope that 
everybody who is interested in this will help to focus 
attention on it.
    Mr. Baroody. The pitch is taken, Mr. Levin. And our members 
are very serious about the continuing and the predictably 
growing need for higher level skills across the board of our 
membership. So we are very serious about this, and would look 
forward to working with you on it.
    Mr. Levin. OK, because I think within manufacturing, there 
is really a revolution within the workplace and connected with 
it, this distinction between rust belt and high-tech and all 
that is really very, I think, misinformed, if I might say so.
    Let me ask you, Mr. Capps, there was a question about the 
R&D tax credit, but I want to emphasize the issue of permanency 
because it is pretty clear there will be an extension. I would 
doubt that there won't be an extension. There always has been 
except there was one gap. So, briefly, if you would, make the 
strong case for its permanent extension.
    Mr. Capps. With the on-and-off nature of the credit, it 
makes it difficult for companies, especially like EDS that have 
undertaken long-term research projects that can span a decade, 
to take the credit into account in the out years. Economically, 
I cannot tell my management at EDS and the people who are 
undertaking our research, that we are going to have a credit 
for sure next year. I gambled on the year when we had the 
lapse, and I said, ``Oh, don't worry, they will extend it 
retroactively. They have been doing that consistently.'' And I 
got stung on that. All the economists that have studied it, we 
have got a number of reports we can cite to you, have found 
that the simple act of having it permanent as opposed to just 
these annual extensions effectively turbocharges it, and we get 
a huge incremental benefit going forward from the standpoint of 
jobs, from the standpoint of exports increasing, and imports 
decreasing. It is like turbocharging it effectively. And I know 
at EDS, we would avail ourselves of it even more in our 
economic analyses and modeling, just like we used to do with 
the investment tax credit. Every time before we purchased 
equipment or undertook a long-range capital investment plan, we 
modeled in the ITC, having a reasonable expectation that it was 
going to be around.
    Mr. Levin. OK. Mr. Bloomfield, you mentioned some studies. 
Why don't you make sure we get them, if you would, just send 
them to us. I want to ask you a question though, if I might 
skip to the leaseholder improvement provision. When a lessee 
makes the improvements, not the lessor, but the lessee, what is 
the rule in terms of the amortization?
    Mr. Greenberg. They get to amortize it out over the period 
of their lease.
    Mr. Levin. Over the period of their lease. So one of the 
arguments is that there is a major differential in treatment 
depending on who makes the leasehold improvements?
    Mr. Greenberg. That's true. In fact, there is a 
disincentive for the landlord to make an improvement, and more 
of an incentive for him to have the tenant make it.
    Mr. Levin. OK, thank you. Thank you, Mr. Chairman.
    Chairman Archer [presiding]. Mr. English.
    Mr. English. Thank you, Mr. Chairman. Mr. Greenberg, in 
your testimony you mentioned that REITs are at a competitive 
disadvantage in today's marketplace. Can you give us some 
examples on why REITs aren't competitive currently?
    Mr. Greenberg. Yes, the rules currently state that if a 
REIT renders services to its tenants that aren't customary and 
usual and for the convenience of the tenants, that it will 
taint all the rental income they get from that tenant and make 
it bad income. If a REIT has more than 5 percent of their gross 
income as bad income, they lose their REIT status. Now, the 
REITs have to wait while their competitors are offering these 
services to their tenants until enough of the competitors are 
doing it where it becomes customary and usual. And then the 
REIT has to wait on top of that until the IRS finally agrees 
that they then see that it is customary and usual.
    To give you a couple of examples, I got the first ruling 
that said that cable TV was customary and usual for apartment 
buildings. It took us over 2 years to get the IRS to agree that 
it was customary and usual--that cable TV was customary and 
usual.
    I just got a ruling on high-speed Internet for office 
buildings, that high-speed Internet was a form of 
communications for office tenants. It took over 16 months to 
get that. While the competitors of the REITs are out making 
deals and offering these services to their tenants, the REITs 
had to sit around and wait until they can get these private 
letter rulings.
    Mr. English. That's interesting. Mr. Greenberg, I want to 
thank you for mentioning in your testimony my legislation to 
reduce the depreciation recapture rate, which a number of my 
colleagues have signed on to. I noticed that there was a recent 
CRS report on real estate depreciation that concluded that real 
estate depreciation is less favorable today than at any time 
since 1953. It went on to conclude that the recovery period for 
commercial real estate would have to be reduced to 20 years to 
provide real estate the same effective tax rate as equipment. 
Would you agree that this supports your position, that ``sale 
proceeds above the adjusted bases'' are not ``the result of 
overly generous depreciation, but are in fact a gain?''
    Mr. Greenberg. Yes, definitely I would. And to elaborate a 
little bit more on that, it was 20 years, the report said 20 
years for office and residential and 17 years for industrial 
properties. So it was even lower to make them equivalent to the 
depreciation tax effect for equipment. Today we are using 39-
year-life depreciation. So the depreciation recapture we are 
talking about, we are really taxing part of the appreciation, 
not the depreciation.
    Mr. English. Thank you, Mr. Greenberg. Mr. Bloomfield, I am 
curious about the details of your study on the impact of the 
reduction, the last reduction in 1997 of the capital gains tax. 
Can you elaborate on your findings and also how they might 
impact on the assumptions that underlay our revenue estimates 
about capital gains tax cuts?
    Mr. Bloomfield. Well, let me begin by indicating that DRI 
did an analysis of the 1997 capital gains tax cut. And, as you 
know, there are five revenue implications of reducing the 
capital gains tax cut. The first is the arithmetic one when you 
lower the rate. And David Wyss, the chief economist for DRI, 
looked at that, which is a revenue loss. The second is the 
unlocking that takes place, which is a revenue gain. The third, 
and perhaps the most important part of David Wyss' analysis, is 
that it had a significant impact on the value of the assets. So 
if the value of the asset went up, you obviously got more 
revenue when you sold that asset. The fourth is some small, 
minor revenue loss, reclassification of ordinary income into 
capital gains to take advantage of the lower rate. And the 
final one is the impact on the growth of the economy.
    And the preliminary report, which is in our testimony, 
indicates that both in the short-term and in the long-run, if 
you take into account those five revenue implications, that the 
1997 capital gains tax cut was a revenue gainer. It definitely 
was not a revenue loss. If you look at the impact of the 1997 
capital gains tax cut in terms of its overall economic impact, 
whether it be on the impact of the cost of capital, whether it 
be impact on investment, whether it be impact on GNP, all of 
those are also positive. So a capital gains tax cut is one of 
those few tax cuts which really is a free lunch, particularly 
because of its impact on revenue.
    Now, the next question I assume is, can we generate revenue 
with additional capital gains cuts? Senator Lott and others in 
the Senate have suggested reducing the capital gains tax cut to 
generate revenue. Obviously, a lot of it depends what revenue 
implications you take into account. And, as you know, both the 
Joint Committee and the CBO take into account some of those 
revenue effects. But as many people on this Committee, 
including the Chairman know, you can craft a capital gains tax 
cut which could raise revenue in the budget window that you are 
looking at if it is carefully crafted.
    Mr. English. Thank you, Mr. Bloomfield. That is testimony 
that really turns a lot of conventional notions on their head 
here and it is welcome for that reason.
    Mr. Chairman, I thank you for the opportunity.
    Chairman Archer. Mr. Hulshof.
    Mr. Hulshof. Mr. Chairman, may I begin by asking how many 
of you are appearing here personally for the first time to give 
testimony, just by a show of hands. So a few rookies and a few 
veterans. For those of you appearing for the first time, it is 
incumbent upon us at this moment to single out those provisions 
that we have authored or that we have cosponsored and to talk 
about them. And so since that is a requirement, let me take 
this moment then. Mr. Bloomfield, and especially thank you for 
your kind comments, I know you didn't mention them 
specifically, but Mr. Neal and I have the small savers 
provision, and I think it is seriously worth pointing out that 
many of the other industrialized countries really do encourage 
savings and thrift. For instance, you talk about Germany 
providing some nearly $7,000 exclusion from taxable income, 
interest that is derived and married couples, and other 
countries, even more than that. And I know regarding the small 
savers provision that Mr. Neal and I have introduced, much more 
modest than that. And so I appreciate the fact that you have 
included that.
    And now let me get to really a more serious policy question 
and maybe as a preface. In the days leading up to this 
Committee marking up the Taxpayer Relief Act of 1997, there was 
a witness sitting where you were, and I don't recall who asked 
him the question, but the question was posed if the witness had 
to choose whether he would embrace a capital gains cut or death 
tax relief, which one would he suggest the Committee accept and 
which one would he let go by the wayside. And I think the 
response was something like that, that that is like asking a 
pedestrian whether they would like to be hit by a bus or by a 
car. This question, if you could just put the policy, the 
theoretical, economics aside, there is some discussion among 
Members about addressing the corporate capital gains rate. And, 
as you have pointed out, there is no distinction between long-
term gains or short-term gains, although you also note that in 
other countries that there is for instance a different rate 
perhaps for short-term gains as opposed to a different rate for 
a long-term gain. Is that a good idea? Why is it a good idea or 
not a good idea if we were to maybe create a two-tier approach 
of dealing with corporate capital gains or would you think that 
that is akin to being that dubious pedestrian that I mentioned?
    Mr. Bloomfield. You are talking about a sliding scale for 
corporate capital gains?
    Mr. Hulshof. I'm saying if we had, yes, a short-term gain 
or a long-term gain, similar as we do for individuals?
    Mr. Bloomfield. Well, let me first respond with two points. 
Number one, Mr. English, with regard to the impact of the 1997 
capital gains tax cut, in my testimony, I have laid out the 
details of David Wyss's report.
    Number two, with regard to Mr. Neal and Mr. Hulshof, it is 
true that there are incentives for small savers around the 
world, and what I would like to do is introduce into the record 
an analysis that Arthur Andersen did on that issue.
    But getting back to the poor witness in my seat who had to 
choose among various tax cuts, I suggested a menu, which I said 
singularly and together could move the country forward because 
they would reduce the bias in the Tax Code against saving and 
investment. There are political and policy questions to 
address. There are economists like Stanford Professor John 
Shoven who have tried to rank the different tax cuts, but that 
is hard to do. I cannot be in a situation of saying that one 
tax cut, a capital gains cut versus elimination of the death 
tax would have a greater impact. It would depend on how the cut 
is structured.
    For example, let's get to the issue you raised, that of 
capital gains cuts for corporations and individuals. We tax 
both individual and corporate capital gains much higher than 
the rest of the world. We have always had a differential 
between ordinary income and capital gains. We no longer have 
that on the corporate side. That causes all sorts of 
distortions. If you look internationally, corporate capital 
gains, both short- and long-term capital gains, are much lower 
in the rest of the world. Other countries do tax short-term 
corporate capital gains differently than long-term capital 
gains. In the United States, we tax both short- and long-term 
corporate capital gains at a 35-percent rate.
    I would encourage you to strongly consider a corporate 
capital gains tax cut. There are ways to address it depending 
on holding periods, and so forth, to deal with the revenue 
effect.
    Chairman Archer. Does any other Member wish to inquire?
    Mr. Neal.
    Mr. Neal. Thank you, Mr. Chairman. Mr. Bloomfield, is that 
Arthur Andersen report sympathetic to Mr. Hulshof's bill and my 
bill?
    Mr. Bloomfield. It most certainly is.
    Mr. Neal. All right, you can submit it for the record. 
[Laughter.]
    Mr. Bloomfield. Mr. Neal, I could read it here. It is 
several pages. You pick your country, and I will tell you what 
the----
    [The information follows:]

American Council for Capital Formation

Center for Policy Research

Special Report

Small Saver Incentives: An International Comparison of the Taxation of 
                 Interest, Dividends, and Capital Gains

    Many countries tax the interest, dividends, and capital 
gains income received by individuals more lightly than does the 
United States, according to a recent survey of twenty-four 
industrialized and developing countries that the ACCF Center 
for Policy Research commissioned from Arthur Andersen LLP. High 
tax rates on dividends and capital gains increase the bias 
against saving and investment, raise the cost of capital for 
new investment, and slow U.S. economic growth. The Center study 
also shows that many countries provide tax incentives for small 
savers by exempting some portion of the income from tax.

                            Interest Income

    Interest received by individuals is taxed at a higher rate 
in the United States than in many other countries; the marginal 
tax rate is 39.6 percent in the United States compared to an 
average of 32.4 in the countries surveyed as a whole (see 
comparison table, p. 3, and accompanying notes, p. 5). Nearly 
40 percent of the countries surveyed tax interest income at a 
lower rate than ordinary income; for example, Italy taxes 
ordinary income at a top rate of 46 percent while its top tax 
rate on interest income is only 27 percent.
    In several countries surveyed, small savers receive special 
encouragement in the form of lower taxes or exemptions on a 
portion of the interest they received:
     Australia: The first $1,951 of interest is taxed 
at a rate of 33.5 percent (instead of the 48.5 percent rate on 
ordinary income).
     Belgium: The first $1,484 of interest on bank 
saving accounts is exempt from tax.
     Chile: The first $1,100 of interest income is 
exempt from tax.
     Germany: The first $6,786 of interest income for 
married couples filing a joint return ($3,393 for singles) is 
exempt from tax.
     Japan: Interest on saving up to $26,805 is exempt 
from tax for individuals older than 65.
     Netherlands: The first $987 of interest income for 
married couples ($494 for singles) is exempt from tax.
     Taiwan: The first $8,273 of interest received from 
local financial institutions is exempt from tax.
     United Kingdom: Interest income received by savers 
in the 23 percent income tax bracket is taxed at a rate of 20 
percent.

                            Dividend Income

    Dividend income is also taxed more heavily in the United 
States than in the other countries surveyed; the U.S. tax rate 
is 60.4 percent (combined corporate and individual tax on 
dividend income) compared to an average of 51.1 percent in the 
surveyed countries as a whole (see comparison table, p. 3, and 
accompanying notes, pp. 5-6). Of the countries surveyed, 62.5 
percent offset the double taxation of corporate income (the 
income is taxed at the corporate level and again when 
distributed in the form of dividends) by providing either a 
lower tax rate on dividend income received by a shareholder or 
by providing a corporation with a credit for taxes paid on 
dividends distributed to their shareholders.
    In addition, small shareholders receive preferential 
treatment in about one-fourth of the countries surveyed:
     Australia: The first $1,951 of dividends is taxed 
at a rate of 33.5 percent (instead of the 48.5 percent rate on 
ordinary income).
     Chile: Taxpayers may exclude the first 50 percent 
of dividends received up to $33,000 annually; above this 
threshold, 20 percent of dividends received are excluded from 
tax.
     France: The first $2,661 of dividends on French 
shares received by a married couple is exempt from tax ($1,330 
for singles).
     Japan: Dividends of less than $350 from each 
individual corporation are taxed at a top rate of 20 percent 
instead of 50 percent. In addition, shareholders with non-
dividend income of less than $70,000 get a 10 percent tax 
credit on dividends received; those with non-dividend income 
greater than $70,000 get a tax credit on dividends ranging from 
5 percent to 10 percent.
     Netherlands: The first $987 of dividend income for 
married couples ($494 for singles) is exempt from tax.
     Taiwan: The first $8,273 of dividends from local 
companies is exempt from tax.

                        Capital Gains Tax Rates

    Both short- and long-term capital gains on equities are taxed at 
higher rates in the United States than in most of the other twenty-
three countries surveyed. Short-term gains are taxed at ordinary income 
rates as high as 39.6 percent in the United States compared to an 
average of 19.4 percent for the sample as a whole (see comparison 
table, p. 4, and accompanying notes, p. 6). Long-term gains face a tax 
rate of 20 percent in the United States versus an average of 15.9 for 
all the countries surveyed. Thus, U.S. individual taxpayers face tax 
rates on long-term gains that are 26 percent higher than those paid by 
the average investor in other countries. In addition, the United States 
is one of only five countries surveyed with a holding period 
requirement in order for the investment to qualify as a capital asset.
    Several countries provide incentives for small savers to invest in 
capital assets:
     Canada: Provides an exclusion for the sale of shares of 
Canadian-owned small businesses, subject to a lifetime limit.
     Chile: Provides an annual capital gains exclusion of 
$6,600.
     Denmark: Exempts capital gains from the sale of publicly 
listed shares valued at less than $16,000 if held three or more years.
     France: Exempts capital gains if gross proceeds are less 
than a threshold amount ($8,315 in 1998).
     United Kingdom: Excludes up to $11,225 per year of net 
gains.

                              Conclusions

    The Center's study demonstrates that many countries tax the 
interest, dividends, and capital gains received by individual 
taxpayers at lower rates than does the United States. A 
substantial number of countries also provide special tax 
incentives to encourage small savers. Perhaps not 
coincidentally, almost all the countries surveyed have higher 
saving rates than the United States. More favorable tax 
treatment for U.S. savers, especially small savers, could 
encourage individuals to provide more for their own retirement 
as well as help to provide the funds necessary for investment 
and economic growth.
[GRAPHIC] [TIFF OMITTED] T0841.028

[GRAPHIC] [TIFF OMITTED] T0841.029

      

                                


Notes

                            Interest Income

    Argentina--Interest from certain saving accounts and 
certificates of deposit receives preferential treatment.
    Australia--The first A$3,000 (US $1,951) of investment 
income from any source (including interest, dividends, and 
other business income of individuals) is subject to tax at 33.5 
percent instead of 48.5 percent.
    Belgium--Exemption up to BF 55,000 (US $1,484) for interest 
on bank saving accounts (``spaarboekje'').
    Chile--Interest income up to US $1,100 annually is exempt 
from tax.
    China--Interest income earned on a deposit placed in China 
banks, or on a bond or debt issued by China, is exempt from 
tax.
    France--A withholding tax of approximately 30 percent may 
be requested.
    Germany--With respect to net interest income, single 
individuals can claim an allowance of DM 6,100 (US $3,393) per 
year, and married persons filing a joint income tax return can 
claim an allowance of DM 12,200 (US $6,786) per year.
    India--Interest income from certain specified securities 
(typically government securities) could be exempt.
    Italy--Interest income earned on bonds whose duration is 
longer than 18 months is taxed at 12.5 percent.
    Japan--Interest on saving up to %3.5 million (US $26,805) 
is exempt from tax for individuals older than 65.
    Korea--Various rate reductions are available for interest 
income.
    Mexico--Mexican-source interest is withheld at 1.7 percent 
of the principal.
    Netherlands--An exclusion of NLG 1,000 (US $494) (NLG 2,000 
[US $987] if individual is married) is available for interest 
income. The exclusion will be reduced by tax-deductible 
interest paid on personal loans.
    Poland--The interest income of individuals earned on loans 
and bonds is not aggregated with other sources of income and is 
subject to a flat 20 percent income tax.
    For individuals, interest income earned on State Treasury 
securities, local government bonds, and personal bank accounts 
is generally exempt.
    Singapore--Interest income received from savings with the 
POS Bank in Singapore, or foreign source interest income that 
is not remitted to Singapore, is exempt.
    Sweden--An individual may deduct certain interest expenses 
to offset interest income.
    Taiwan--Individual residents may exclude interest income 
from deposits in local financial institutions and dividends 
from local companies from taxable income up to NT$270,000 (US 
$8,273) per year.
    U. Kingdom--A U.K. individual whose marginal tax rate is 23 
percent pays tax at a rate of 20 percent on savings income 
including interest.
    United States--Interest earned on qualified municipal bonds 
is tax exempt.

                            Dividend Income

    Argentina--Dividends are exempt from tax.
    Australia--The corporation keeps account of the amount of 
tax it has paid. At the time a dividend is paid, the 
corporation ``franks'' the dividend by notionally attaching to 
it the amount of Australian tax the corporation has paid on the 
profits from which the dividend is paid. Dividends are deemed 
to have been paid from the taxed profits first. The shareholder 
is assessed on both the cash dividend and the imputed tax 
(i.e., the dividend is ``grossed up''). The imputed tax is then 
allowed as a credit against the shareholder's tax. Any excess 
credit cannot be refunded.
    Belgium--Dividends are subject to reduced rates of tax, 25 
percent for dividends on bearer shares and 15 percent for 
dividends on nominative shares.
    Brazil--Dividends are exempt from tax.
    Canada--Individual shareholder is taxable on 125 percent of 
the dividend received, and claims a credit equal to 13.33 
percent of the total taxable dividend amount.
    Chile--The 15 percent tax paid at the company level may be 
credited against the tax on the shareholder's taxable dividend 
(i.e., cash dividend plus the tax credit).
    Under a special regime, individuals may exclude 50 percent 
of dividends received up to US $33,000 annually. Above this 
threshold, 20 percent of dividends received are excluded.
    China--Dividends from A shares listed in Shenzhen and 
Shanghai Stock Exchanges are currently exempt from tax.
    France--The shareholder credit equals 33.33 percent of the 
grossed-up dividend.
    For dividends on French shares, a single individual may 
take a special deduction up to Fr 8,000 (US $1,330), and 
married persons may deduct up to Fr 16,000 (US $2,661).
    Germany--A corporate income tax credit on dividends is 
granted to shareholders in the amount of 43 percent of the net 
dividend. In addition, the corporation receives a refund of 
income tax, reducing the corporate rate from 45 percent to 30 
percent.
    Hong Kong--Dividends from a corporation which is chargeable 
to tax are not included in the taxable income of any other 
person chargeable to tax.
    India--The corporation paying the dividend pays an 
additional tax equal to 10 percent of the dividend distributed 
to the shareholders. The shareholders are not subject to any 
additional tax on the dividend received.
    Italy--The credit is 58.73 percent of the dividends 
provided that the distributing company has paid an equal amount 
of taxes on the earnings distributed. The tax credit is offset 
against personal income tax computed on the dividend grossed up 
by the amount of the tax credit.
    Dividends subject to a withholding tax as a definitive tax 
are excluded from the taxable income. Individuals are allowed 
to opt for the definitive withholding at 12.5 percent. In such 
cases no tax credit is granted and the total tax burden on 
corporate earnings is 49.5 percent.
    Japan--Dividends of less than $350 from each individual 
corporation are taxed at a top rate of 20 percent instead of 50 
percent. In addition, shareholders with non-dividend income of 
less than $70,000 get a 10 percent tax credit on dividends 
received; those with non-dividend income greater than $70,000 
get a tax credit on dividends ranging from 5 percent to 10 
percent.
    Korea--The shareholder credit is 19 percent.
    Mexico--Dividends are exempt from tax.
    Netherlands--An individual may exclude NLG 1,000 (US $494) 
for dividends received from a Dutch resident company (NLG 2,000 
[US $987] for married individuals).
    Poland--Dividends distributed to individuals are subject to 
a definitive 20 percent withholding tax.
    Singapore--The dividend is subject to normal individual 
income tax with a credit equal to the 26 percent corporate tax 
paid with respect to the earnings distributed.
    Dividend income from shares held outside Singapore and not 
remitted to Singapore is exempt from tax.
    Taiwan--The shareholder credit equals the amount of the 
dividend (net of corporate tax) multiplied by 33.33 percent.
    An individual may exclude interest received from a 
financial institution and dividends from local companies up to 
NT$270,000 (US $8,273) per year.
    U. Kingdom--At present, 25 percent of the cash dividend is 
available as a credit. From April 1999, 11.1 will be available. 
The taxable amount of the dividend is the cash dividend plus 
the credit.
    After March 1999, the combined rate on corporate earnings 
will be 47.5 percent.

                          Capital Gains Income

    Canada--Exclusion applies only to sale of shares of 
Canadian-owned small businesses, subject to a lifetime limit.
    Chile--Original cost is adjusted by internal inflation. 
Annual limit for capital gains exclusion is approximately US 
$6,600.
    Denmark--Gains on publicly listed shares held three or more 
years are tax exempt if taxpayer owns less than US $16,000 of 
the company's shares.
    France--Capital gains realized by individuals are not taxed 
if gross proceeds are less than a threshold amount (for 1998, 
Fr 50,000 [US $8,315]).
    U. Kingdom--Sliding scale of rates applies to one to ten 
years of ownership through an exclusion that rises gradually to 
75 percent for assets held ten or more years. Thus, assets held 
ten or more years face a top marginal rate of 10 percent.
    An individual may exclude up to #6,800 (US $11,225) per 
year of net capital gains.
    United States--Shares held 12 months or more are taxed at a 
rate lower than that on ordinary income under the IRS 
Restructuring and Reform Act of 1998.
      

                                


    Mr. Neal. I was going to encourage you to save it if it 
wasn't supportive of our view.
    Mr. Greenberg, I have a question on H.R. 844, the leasehold 
depreciation bill. I represent an old New England city and, as 
you know, old New England cities all look alike now. In your 
testimony, you make reference to how this bill would help small 
business and I would like you to speak to that after you speak 
to how the bill would help old cities in their revitalization 
processes. Our manufacturing base is fairly stable in this 
economy, but at one time the hand-tool industry was highly 
dominant and now it is but a fraction of what it once was.
    Mr. Greenberg. Well, the issue has to do with the 
disincentive for the landlord to make the improvements by 
virtue of the fact that he has to depreciate over 39 years and 
the rental stream is for a shorter period. As a result of that, 
the landlord is not willing to make the kind of improvements 
that someone else who is building a new building might already 
put in in the beginning, in the early period. And, therefore, 
you will find urban sprawl. You will find people moving out and 
going to more modern buildings, higher tech buildings, and so 
forth, rather than the landlord updating his. So that will 
create growth away from the inner city as opposed to trying to 
keep it in the inner city.
    And regarding the small business person, the small business 
person is usually the person who is starting out and he doesn't 
have the capital to lay out to make his improvements, so you 
really want the landlord to make the improvements. And the 
small business person pays for the improvements by paying an 
increased rent over that period of time. And that is in effect 
having the landlord finance his improvements for him. The 
incentive would be if the landlord were able to write that off 
over the period he is receiving the income on it. In most other 
areas, we try to match income and expenses, but this one we 
don't.
    And, as I said before, we have given an incentive for the 
tenant to make improvements because he can write it off over 
the period of his lease. The landlord must write it off over 39 
years. So H.R. 844 would help small business because the 
landlord has as much of an incentive or he is not de-
incentivized to make those tenant improvements for the small 
business. And, as you know, small businesses hope to grow and 
increase. Their size space needs change. The configuration of 
their office space changes, and they need all of these kinds of 
services.
    Mr. Neal. I think that given the debate that is about to be 
undertaken on the whole notion of suburban growth, urban 
sprawl, and a host of other issues that come together, I think 
there really is an extraordinary opportunity here for old 
cities as more and more suburbanites resist any sort of growth 
and put up signs essentially that say, ``No more growth.'' And 
I think that how it is done, hopefully in a tasteful manner, 
can really bring many of these old cities back to life. And I 
think as perspective entrepreneurs look at old cities now, they 
look at them in a different light than they did just 10 years 
ago. So I think that the suggestion you made is right on 
target.
    Mr. Greenberg. Yes, I think there are two areas. I think 
both the tenant improvement one and the brownfields one 
should----
    Mr. Neal. Brownfields, yes.
    Mr. Greenberg. The two of them together should increase the 
ability to keep people back in the cities and to encourage 
construction within the cities.
    Mr. Neal. Thank you very much. Thank you, Mr. Chairman.
    Chairman Archer.
    Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman. And I will direct my 
question to Mr. Greenberg, who represents the community who I 
have the privilege of representing and glad to see you here. 
You just, with my friend, Mr. Neal, you touched on an issue, of 
course, which is of great concern in the Chicago region and 
that is the issue of brownfields. And it is estimated that 
there is at least 2,000 brownfields in the Chicago metropolitan 
area. And 2 years ago, as part of the Balanced Budget Act, we 
had a limited provision which provided a tax incentive for the 
clean up of brownfields, encouraging private investors and I 
have seen that work in the 10th Ward in Chicago down in Hegwich 
with what is the largest brownfield in the State now is being 
rejuvenated as a result of that tax incentive.
    But do you have a feel, since this tax incentive was 
targeted solely to Federal empowerment zones and to low-income 
census tracks and to neighboring census tracks, what percent of 
the brownfields in the Chicago metropolitan area benefit from 
that targeted brownfield incentive?
    Mr. Greenberg. I don't know. I believe it is a pretty small 
percentage. One of our members is someone who develops or 
redevelops industrial buildings. And he is extremely interested 
in this, especially in the Chicago area because there are a lot 
of areas that are not targeted empowerment zones.
    And I don't look at it as a tax incentive, the ability to 
write off brownfields expenses. I look at it as correcting a 
disincentive because what is happening is if you were to repair 
or fix any kind of a problem, you get to write that off. You 
get to expense it as you fix the problem. The problem with 
brownfields is you bought a piece of property, you inherited a 
piece of property that has contamination. If you spend the 
money to fix it up, that gets capitalized into the cost of the 
land. You never recognize the benefit of what you paid for 
until you ultimately sell that project. Well, that is a 
disincentive. You are not giving the people incentive to 
correct the problem. And I think that cities like Chicago, 
would benefit tremendously by being able to have people not be 
disincentivized from repairing contamination.
    Mr. Weller. I know 2 years ago, I worked closely with Mayor 
Daley on this issue, and we had some success. And I am 
constantly reminded by a lot of other community leaders in 
Illinois, of course, that there are a lot of middle-class and 
rural communities in the suburbs as well as rural areas that 
are denied this tax incentive because of the way it was 
targeted. And I believe it is a fairness issue to these other 
communities because a brownfield could be that gas station on 
that strategic quarter in town that everyone wonders why nobody 
buys it and puts it to work or it could be an industrial park 
in a rural area that is just sitting there and it both has an 
environmental initiative to clean up the environment and 
preserve open space because it is estimated that greenfield 
industrial parks consume about three to four times as much land 
as the old traditional, old-fashioned brownfield industrial 
parks.
    So my hope is as we work over the next few years that we 
can find a way to expand that brownfields, lack of a better 
word, tax incentive to encourage private investors to clean up 
these old brownfields, put them back to work, revitalize those 
old communities and also help clean up our environment.
    Mr. Greenberg. We hope so too.
    Mr. Weller. So thank you. I am glad you are here. I 
appreciate it.
    Mr. Greenberg. Thank you.
    Chairman Archer. Mr. Hayworth.
    Mr. Hayworth. Thank you, Mr. Chairman. To the witnesses, 
thank you all for coming. And to my colleague from Missouri, 
thank you for delineating those who are newcomers to testify, 
as well as those who are grizzled but not cynical veterans of 
the entire process. My friend from the ``Show Me State'' really 
had more of a ``tell me'' approach when he talked about 
different legislation. And in that spirit, taking his cue, Mr. 
Baroody, thank you for your comments about the bill I am 
preparing to introduce today as a matter of fact with the 
cosponsorship of eight Members of this Committee.
    You know, Mr. Chairman and colleagues, it is interesting 
that ofttimes we are awash in a sea of acronyms. In Washington, 
DC, in general, especially with reference to tax policies and 
just a casual observation, the letters I am about to use, you 
just invert a little bit and they become a major issue for 
America's bankers. We can get to that in a second. But in this 
case, I am not speaking of ATMs, but of the AMT, the 
alternative minimum tax. Mr. Baroody, why is the AMT referred 
to as an antimanufacturing tax?
    Mr. Baroody. Mr. Hayworth, because it operates with effect 
all too often among manufacturers generally, and our members 
specifically. Clearly, any company that has to make large 
investments in plant and equipment, and that is the 
manufacturing community, are especially affected by the AMT. 
And inherently the AMT is designed to have that effect when a 
company is doing relatively poorly in terms of profits. That is 
where the AMT inherently triggers in. So it has the effect of 
focusing specifically on capital intensive companies when they 
are in the worst situation financially.
    Mr. Bloomfield. Mr. Hayworth, can I also comment on that?
    Mr. Hayworth. Indeed, please do.
    Mr. Bloomfield. First of all, let me not be dilatory and 
also not avoiding congratulating and thanking you for your 
leadership on the AMT. To put some numbers on that, if you 
could please look at table 1 of our testimony, there is a 
comparison of the taxation of equipment. Table 1 compares the 
present value of certain types of equipment in the United 
States under the 1985 lax law, MACRS, and the AMT with present 
values for the same equipment in several other countries. And 
whether you are looking at computer chips or telephone 
switching equipment, crankshafts, or pollution control 
equipment, you can see what the AMT does in reducing the value 
of that important investment.
    I could say one other thing. I don't know what the rules of 
the Committee are in terms of studies appearing, but do CRS 
studies automatically become part of the Committee's record? 
Because there is one that is troublesome and that is Jane 
Gravelle's study of ``Capital Gains Taxes, Innovation, and 
Growth'' in January 28, 1999, that indicated that capital gains 
tax cuts do not have much of an impact on entrepreneurship and 
venture capital. And we have asked David Wyss of DRI to respond 
to that. And if I could at some point, I would like his 
analysis to be put in the record to rebuttal Ms. Gravelle's 
piece.
    Mr. Hayworth. I thank you for that observation, Mr. 
Bloomfield. And we will check with the Chairman vis-a-vis the 
rules of the Committee and the House to see if that report can, 
in fact, be included.
    I mentioned earlier the bankers. Mr. McCants, thank you for 
coming out from Goodland to this challenging land right here 
around the Nation's capital. And I just wanted to thank you as 
well for mentioning the legislation of Mr. McInnis and I am 
pleased to cosponsor that along with my friend from Louisiana.
    Your testimony says that the IRS reasonable liquidity needs 
standards undermine a regulator's authority to examine and 
enforce safety and soundness laws. Could you please explain or 
elaborate what you mean by that statement?
    Mr. McCants. Well, from a regulatory standpoint, we need 
certain amounts of investments that are very liquid. And that 
liquidity comes from our bond portfolio, for the most part. 
And, consequently, such as in our particular case, we are just 
a small $250 million bank. But in December we may be borrowing 
$30 million or $40 million in funds from the Federal home loan 
bank in upstream correspondence. And then, in turn, in January, 
we may be selling $10 million or $20 million in funds because 
we are an agricultural bank and those farmers are not going to 
be paying taxes by selling grain in December when they sell it 
in January and defer those gains.
    So, consequently, we see big shifts in liquidity and we 
have to be prepared for that. So we maintain large bond 
balances in our bank portfolio to help prepare for liquidity 
needs and seasonal runoffs of deposits. Well, by really 
overstating our balance sheet and our income from the bond 
portfolio, we are doing ourself a disservice and we could 
jeopardize our S corporation status by doing it.
    And then, consequently, the other side of the coin is some 
of our municipalities are depositing huge government payments 
in January and we have to have bonds to pledge for our county 
as the funds are going to the school district and, 
consequently, we have got to pledge to both entities at the 
same time. So we have to have a very liquid bond portfolio to 
generate that kind of pledging ability.
    So, in doing that, yes, we are overstating the income from 
our bond portfolio or the necessary. It is good business? No, 
probably isn't. Is it good for our municipalities? Yes, it is 
very good because they don't have to go outside our area.
    Mr. Hayworth. Thank you, sir, very much. Thank you, Mr. 
Chairman.
    Chairman Archer. The Chair will conclude the inquiry with 
this panel for about 5 minutes and then the Committee will 
stand in recess to vote. When we come back, we will hear from 
our last panel today.
    Gentlemen, thank you for your input. You speak to a great 
degree on items in the Tax Code that will affect job creation 
and productivity which, in the Chair's opinion, is the 
essential ingredient to improve the lot of workers in the next 
century, all American workers. If we do not create better jobs 
and higher productivity, then we are not going to be able to 
see an improvement in the standard of living. Having said that, 
in the opinion of each of you, what is the single biggest thing 
that we can do in the Tax Code to bring that about: more job 
creation, higher productivity? Mr. Baroody.
    Mr. Baroody. You ask for a single----
    Chairman Archer. One thing, now, only. [Laughter.]
    Mr. Baroody. Yes, sir. The discussion may have gone on when 
you were out about whether we want to be hit by a bus or a car. 
I won't try to hide behind that. As you heard--first, it is 
exactly what the Chairman intends, a very difficult question. 
What we have testified today and historically support are tax 
provisions which see to the continued growth of the economy. 
That was the thrust of my testimony.
    That was why, last December, we called for across-the-
board, evenly balanced, and fair approaches. I would be hard-
pressed, Mr. Chairman, right now, to answer your question on 
its own terms. And I regret that.
    Clearly the R&D tax credit, in terms of bang for the buck, 
if I could put it that way, is hugely important. But the 
operation of the AMT, right now, functions, as Mr. Hayworth's 
question suggests, as an antimanufacturing tax.
    Chairman Archer. Well, that was three things.
    Mr. Baroody. Yes, sir.
    Chairman Archer. You know, I have got to prioritize.
    Mr. Baroody. I understand.
    Chairman Archer. I am asking each of you to prioritize. I 
am not saying that that is the only thing that you would want. 
But I would like to know what you feel is the number one 
priority. Mr. Capps.
    Mr. Capps. Mr. Chairman, I think it all centers around 
technology. Federal Reserve Chairman Alan Greenspan----
    Chairman Archer. OK. We have got a limited amount of time. 
What in the Tax Code would you change that would have the 
biggest impact on job creation and productivity?
    Mr. Capps. I would make a permanent extension of the 
research tax credit. It is job-oriented, technology-oriented. 
It is going to give growth and productivity increases to the 
economy and keep driving it.
    Chairman Archer. OK. All right. Mr. Bloomfield.
    Mr. Bloomfield. Replacing the income tax with a consumption 
tax. And if you won't do that----
    Chairman Archer. That is the right answer. OK. [Laughter.]
    Mr. Bloomfield. Then I had better stop. If you won't do 
that, people smarter than me, like Professor John Shoven, said 
probably reducing the cost of capital for expensing for 
investment.
    Chairman Archer. Reducing the cost of----
    Mr. Bloomfield [continuing]. The cost of capital by 
expensing investment.
    Chairman Archer. OK. All right. Mr. McCants.
    Mr. McCants. I would have to agree with Mr. Bloomfield. I 
think whatever we can do to reduce the cost of capital is 
essential.
    Chairman Archer. I agree with that, but what in the Tax 
Code would you change that would have the biggest impact on 
that?
    Mr. McCants. I think by being able to accelerate the 
expensing of items.
    Chairman Archer. Accelerate expensing. All right. Mr. 
Greenberg.
    Mr. Greenberg. I agree because you need something to 
encourage the entrepreneurship in this country to create the 
jobs and I think that would be one of the ways to do that.
    Chairman Archer. Mr. Leonard.
    Mr. Leonard. Encourage equity investment in American 
industry.
    Chairman Archer. All right. But what change in the Tax Code 
would you make to do that?
    Mr. Leonard. Specifically in the case of my testimony is to 
allow publicly traded partnerships to be treated as investments 
by mutual funds. This would allow more equity to flow into such 
partnerships.
    Chairman Archer. All right. In your opinion, that would do 
more for job creation and productivity than any other single 
change in the Tax Code?
    Mr. Leonard. I think in certain areas, yes.
    Chairman Archer. OK. Several of you mentioned the R&E 
credit and there is good bipartisan support for extension of 
it. I have always been curious, though. How much of that credit 
goes to industries who would do the research any how without 
the credit? What percent of the credit, in your opinion or your 
knowledge by any data that you have, is going to industries 
that would otherwise, because of competitive pressures, do the 
very same thing?
    Mr. Capps. I don't think it is a function of what 
industries is it going to; on the margin it makes a difference 
to all industries. In the United States now, we are all under 
competitive pressure and the market is driving us to do 
research. And much of our research is market-driven. But what 
is being incentivized is, across-the-board, those projects on 
the margin that wouldn't have gotten done otherwise. The credit 
is providing the capital and the incentive to go that extra 
step and pick up those projects. So it is not industry-
specific. It is across-the-board, I think.
    Chairman Archer. Well, that is my last question. I only 
have one brief statement to make before you are excused. As I 
listen to witnesses who come forward with different types of 
suggestions for improvements in the Income Tax Code, whether it 
be your panel or any other panel, it is generally on the basis 
of fairness and equity that the proposals are made. Every time 
that we adopt a proposal, we create within the Tax Code other 
areas of inequity and unfairness. When we do something to 
create more equity in one case, we have less equity in another 
case.
    I am more and more convinced that Mr. Bloomfield is right. 
The only way to solve these problems is to have a true level 
playingfield by abolishing the income tax, completely and 
totally, and getting the IRS completely and totally out of 
running our lives one way or another. Go to a specific tax 
which has no grey areas, which is a consumption tax, a spending 
tax, a sales tax. Whatever you want to call it. Then you have 
specificity. You have no opportunity for the IRS to say, oh, 
but this is right. Or that is wrong. Or anything else.
    So I simply say we will keep working to try to fix the 
income tax, but we will never get there. Thank you very much. 
We will stand in recess until the votes are over.
    [Recess.]
    Chairman Archer. The Committee will come to order. My 
apologies for keeping all of you people waiting. I know my 
former colleagues understand that when the votes are called 
over there, there is not much you can do about it. We are glad 
to have all of you before us. The rules, of course, are that we 
would like for you to try to keep your oral testimony within 5 
minutes and your entire written statements, without objection, 
will be printed in the record. At least two of you are no 
strangers at all to this Committee room and we are delighted to 
see you back before us again. Henson Moore, would you like to 
lead off?

    STATEMENT OF HON. W. HENSON MOORE, PRESIDENT AND CHIEF 
 EXECUTIVE OFFICER, AMERICAN FOREST AND PAPER ASSOCIATION; AND 
                   FORMER MEMBER OF CONGRESS

    Mr. Moore. Thank you, Mr. Chairman. My name is Henson 
Moore. I am the president of the American Forest and Paper 
Association, which is the national trade organization 
representing the forest products industry.
    We are the biggest in the world. Nobody makes more lumber, 
building materials, or paper products than the United States, 
currently. In 1992, Fortune Magazine said that our industry was 
one of the two or three heavy industries the United States had 
left that was competitive worldwide. Unfortunately, since 
1992--and it may have even begun before that--that 
competitiveness is slipping away.
    We did a study last year, a study of all of the factors 
that are important to our industry and compared them with the 
countries with whom we compete in our industry. And, 
unfortunately, on every one of those factors, and taxes is one 
of them, we came out as being either the worst off or almost 
the worst off. And those factors are having a telling effect on 
us being able to compete.
    In the field of taxes, we asked Pricewaterhouse to compare 
the effective tax rate of our industry, both as a manufacturer, 
which would affect industries besides just us, and on forestry 
operations, which is just us; to take a look at those and 
compare it with five sample countries with whom we compete that 
are major competitors of ours: Brazil, Canada, Finland, 
Indonesia, and Japan.
    And as a result of that study by Pricewaterhouse, it came 
back a bit worse than we thought, that, overall, generally, the 
effective tax rate on our industry in the United States, as a 
corporation, is 55 percent. And the only country higher than 
that--and just slightly higher than that--is Canada. The rest 
of the countries with whom we compete had effective tax rates 
substantially lower.
    In the case of manufacturing, we were at about something 
like 62 percent. Canada was at about 70 percent. And forestry 
operations, overall, we were at 55 percent and Canada was at 
about 60 percent. Some countries like Indonesia is minus 2 
percent. They pay you to plant trees and take care of forests 
there. And just plain reforestation expenses, the cost of 
planting trees after you cut them and taking care of that until 
they get to a point you can harvest them, the United States has 
the distinction of having the highest tax rate of all of the 
countries studied at 63 percent.
    Basically, Mr. Chairman, the biggest cost in our industry 
is fiber, the tree. The tree in the United States now costs 
more and is going up substantially. And then the tax bit on us 
providing or maintaining or reforesting and providing that 
source of fiber is too high for us to be competitive. We need 
to move on all of these factors we studied: costs of 
environmental compliance, transportation costs, international 
trade barriers and tariff barriers to our products. There are a 
number of factors we looked at, but taxes is one of the key 
ones.
    And if we don't address that, our industry is not going to 
remain--in fact, it isn't today--as competitive as it was. And 
we don't think it is today as competitive as it should be. We 
may not even be competitive, period. And we saw changes last 
year for the first time, swings in reduction in our exports and 
increases in imports.
    And so, basically, Mr. Chairman, we would like to call your 
attention to a bill that one of the Members of the Committee 
has sponsored, Representative Dunn, the Reforestation Tax Act, 
along with a number of cosponsors from the Committee and about 
65 in the House. It has been introduced in the Senate, 
yesterday, by Senators Mikulski and Breaux with 13 senators 
cosponsoring it so far there.
    It basically does two things. It cuts the capital gains tax 
rate for corporations and individuals in owning forest and it 
raises the cap that is on now for a tax credit for 
reforestation and shortens the amortization period on the 
balance. And those two things, according to Pricewaterhouse, if 
this Committee were to pass those two things on the forestation 
cost side of the tax study, it would put us about in the middle 
of the pack of the countries with whom we compete. We are now 
at the bottom of the pack or the top of the pack, however you 
look at it. Top of taxes, but it would move us to about the 
middle of the pack.
    And so the bill would, in fact, have a dramatic effect on 
that part of our lack of competitiveness. The remaining part on 
taxes, just the tax rate and the tax bite on a manufacturing 
concern in the United States, that wouldn't really be affected 
by this and that is something that would have to wait for a 
later day when this Committee has a bill before it that affects 
all manufacturing in that regard. And so, Mr. Chairman, we 
would urge the Committee to seriously considering including in 
its bill, the Reforestation Tax Act.
    [The prepared statement follows. Attachments are being 
retained in the Committee files.]

Statement of Hon. W. Henson Moore, President and Chief Executive 
Officer, American Forest & Paper Association; and Former Member of 
Congress

    My name is Henson Moore. I am President & CEO of the 
American Forest & Paper Association. AF&PA represents more than 
240 member companies and related associations that engage in or 
represent the manufacturers of pulp, paper, paperboard and wood 
products. America's forest and paper industry ranges from 
state-of-the-art paper mills to small, family-owned saw mills 
and some 9 million individual woodlot owners.
    The U.S. forest products industry is vitally important to 
the nation's economy. We employ 1.5 million people, and rank 
among the top ten manufacturing employers in 46 states. Our 
industry has annual sales exceeding $230 billion, and accounts 
for about seven percent of U.S. manufacturing shipments.
    The U.S. forest products industry has many important 
assets, including a productive work force, technological know-
how, and an abundant renewable domestic fiber base. Yet we are 
facing severe global competitive challenges. In 1992, Fortune 
magazine listed this industry as one of the most competitive 
U.S. industries. That assessment increasingly no longer 
applies.
    There is currently not a level playing field between us and 
our competitors around the world. Our taxes are higher than 
those of competing nations, and there are unfair trade barriers 
to the exporting of our products to other markets. The cost of 
compliance with our nation's environmental laws is higher, and 
transportation costs are greater than anywhere else around the 
globe. Additionally, increased restrictions on fiber are 
limiting access to the lifeblood of our industry. If we cannot 
successfully address these challenges, the public demand for 
forest products will increasingly be filled by other nations 
who do not adhere to our high standards. The cost to the global 
environment and to our economy will be significant.
    As a result, our industry has done an intensive self-
examination to determine what is causing that shift in our 
international competitiveness, and my written testimony 
includes AF&PA's white paper on that analysis. To summarize 
however, the US forest products industry critically looked at 
all of the key factors--forestry practices here and overseas, 
environmental practices here and abroad, access to fiber, 
tariff and non-tariff barriers to our exports, labor, taxes, 
and transportation costs--to determine where we could improve 
our international competitiveness. Some findings we expected--
others we didn't. Basically, we are not as competitive as we 
need to be on any of these factors.
     Some key factors are beyond our industry's direct 
control, such as exchange rates and the build up of overseas 
capacity.
     Some factors are subject to the whims of 
international negotiations, such as the tariff reductions 
proposed in the APEC tariff initiative and now the ATL 
initiative, which we hope to see bear fruit in the WTO 
Ministerial in Seattle in November. Tariffs in the US on paper 
and wood products imports have been basically non-existent 
since the 1980's, while our major trading partners continue to 
hide behind tariff walls on these same products. We continue to 
fight for tariff elimination--through GATT, through APEC, and 
now maybe the WTO--but the window for meaningful change is 
becoming more narrow all the time.
     At home, other competitive factors can be improved 
by industry initiatives, such as the Sustainable Forestry 
Initiative. In the SFI, AF&PA members are voluntarily taking 
steps to show the rest of the world what can be accomplished 
through our industry's self initiated program to support 
sustainable forestry practices on lands AF&PA members manage 
and actively promote such practices on other forestlands.
    However, today we would like to focus on one of the major 
domestic factors--that of taxes. As part of our industry 
analysis, we asked PriceWaterhouseCoopers to do a study that 
compared the effective tax burdens on investments in paper 
manufacturing and forestry and timber in the United States and 
our top 5 competitors: Brazil, Canada, Finland, Indonesia, and 
Japan.
    And the results? The US has the second highest effective 
tax rate on all forestry operations among its major 
competitors--55%--while reforestation costs in the US were 
subject to the highest effective tax rate of all countries 
studied--63%.
    These results probably were not intended and were the 
result of years of tax policy changes without an analysis of 
the accumulated effect on competitiveness. But the problems we 
now face can and must be addressed through positive 
Congressional action. Congress can act now to remove certain 
tax disincentives in current law that would go a long way to 
insure the future competitiveness of this industry.
    The changes the forest products industry recommends are 
embodied in the Reforestation Tax Act, HR 1083, introduced by 
Rep. Jennifer Dunn, a member of this committee, and supported 
by 64 additional co-sponsors in the House, including 14 members 
of this committee. An identical bill, S.1240, has also been 
introduced in the Senate by Senators Murkowski and Breaux with 
15 co-sponsors.
    HR 1083 would essentially do two things:

  1. MITIGATE THE COMPETITIVE DISADVANTAGE OF INVESTING IN THE FOREST 
                           PRODUCTS INDUSTRY.

    The Reforestation Tax Act recognizes the unique nature of 
timber and the overwhelming risks that accompany investment in 
this essential natural asset, and attempts to place the 
industry on a more competitive footing with our competitors. In 
short, it would reduce the capital gains paid on timber for 
both individuals and corporations and expand the current 
reforestation credit. Because it often takes decades for a tree 
to grow to a marketable size, it is important that we look 
carefully at the long-term return on investment and the 
treatment of the costs associated with owning and planting of 
timber.
    The bill would provide a sliding scale reduction in the 
amount of taxable gain based on the number of years the asset 
is held (3% per year). The maximum reduction allowed would be 
50 percent. Thus, if the taxpayer held the timber for 17 years, 
the effective tax rate for corporate holdings would be 17.5% 
and the rate for most individuals would be 10%.
    AND
    2. ENCOURAGE REPLANTING BY LIFTING THE EXISTING CAP ON THE 
REFORESTATION TAX CREDIT AND AMORTIZATION PROVISIONS OF THE TAX 
CODE.
    Currently, the first $10,000 of reforestation expenses are 
eligible for a 10 percent tax credit and can be amortized over 
7 years. No additional expenses are eligible for either the 
credit or the deduction, meaning that most reforestation 
expenses are not recoverable until the timber is harvested. The 
legislation removes the $10,000 cap and allows all 
reforestation expenses to qualify for the tax credit and to be 
amortized over a 5-year period. This change in the law will 
provide a strong incentive for increased reforestation by 
eliminating the arbitrary cap on such expenses.
    These tax changes will provide a strong incentive for 
landowners of all sizes to not only plant and grow trees, but 
also to reforest their land after harvest. This is key to 
maintaining a long-term sustainable supply of fiber and to 
keeping land in a forested state. The Dunn bill does not affect 
the manufacturing tax competitive inequities--that will have to 
wait for another day. But it does address the reforestation 
element and goes a long way to solving that part of the 
problem. We believe it moves us from the most taxed to about 
the middle of the pack. That will start us down the path back 
towards being competitive.
    HR 1083, the Reforestation Tax Act, has united this 
industry and is endorsed by all elements of the forest products 
industry--small growers, organized labor, large and medium 
sized forest and paper companies, and regional forestry 
associations across the country. I would like to submit for the 
record letters of support for the Dunn bill which express the 
backing of 98 industry CEOs, the Carpenters Union, and 28 
regional and state forestry associations. I might add these 
include a resolution of support for HR 1083 from the Texas 
Forestry Association. The Reforestation Tax Act recognizes the 
unique nature of timber and the overwhelming risks that 
accompany investment in this essential natural asset, and 
attempts to place the industry on a more even footing with our 
competitors.
    HR 1083 would reduce capital gains taxes paid on timber for 
both individuals and corporations and expand the current 
reforestation credit. Because it often takes decades for a 
timber grower to recoup his or her investment, it is important 
that we look carefully at the long-term return on investment 
and the treatment of the costs associated with owning and 
planting of timber.
    It is our strong belief that this bill represents not only 
fair tax policy, but also promotes good trade and environmental 
policy, and will help keep the industry competitive as we enter 
the next century.
    As you begin the process of putting together a tax bill 
next month, we urge you to include HR 1083 in the Chairman's 
mark. It is a bipartisan bill which is in the best interest of 
the environment, the economy, and both corporate and private 
landowners who are some of the best environmental stewards in 
this country.
    Thank you, Mr. Chairman, for this opportunity to testify, 
and I would be happy to answer any questions.
      

                                


    Chairman Archer. Thank you, Mr. Moore.
    Mr. Andrews.

 STATEMENT OF HON. MICHAEL A. ANDREWS, TRUSTEE, NATIONAL TRUST 
     FOR HISTORIC PRESERVATION; A FORMER MEMBER OF CONGRESS

    Mr. Andrews. Thank you very much.
    Chairman Archer. Welcome. We would be pleased to receive 
your testimony.
    Mr. Andrews. I am delighted to have a chance to be here. I 
am Michael Andrews, and I am here on behalf of the National 
Trust for Historic Preservation. I serve on the board of 
trustees and I am here because president Richard Moe could not 
be here this afternoon. But I am delighted to have an 
opportunity to talk with you about H.R. 1172, the ``Historic 
Home Ownership Assistance Act.''
    It is a bill that the National Trust believes can be a 
powerful tool to encourage revitalization of our inner-city 
communities and save precious historic structures. Let me say 
at the onset that there are 19 Members of this Committee that 
are cosponsors of the bill and some 130 bipartisan members of 
the House. Congressman Clay Shaw and John Lewis are the two 
leading cosponsors of this really, truly important legislation.
    Briefly, let me tell you a little bit about the National 
Trust. There are over 275,000 members in the Trust. It was 
chartered in 1949 by the Congress to preserve our Nation's 
historic structures and heritage. There is nothing more 
important than recognizing what needs to be done in our 
country's inner cities and historic neighborhoods to maintain 
the sense of community and save those structures. This bill 
really augments and complements the Federal rehabilitation tax 
credit that has been so successful for commercial uses.
    For instance, the Federal rehabilitation tax credit, just 
in the last year, has leveraged some $2 billion in private 
investment in restoring commercial structures for business use; 
structures, in many cases, that would have been razed or not 
used at all have been put back into active use and most of 
them--most, not all, but most of them--find themselves in 
inner-city areas. And in the last 20 years, since Federal 
rehabilitation tax credit was initiated, $20 billion in private 
investment has gone into saving those kinds of structures.
    In our city of Houston, for instance, the famed Rice Hotel 
would likely not have been restored without the use of that 
important tax credit. And what this legislation (H.R. 1172/S. 
664) does is focus on families and home ownership. It is very 
tightly drawn to say that a young family or a couple that wants 
to live in a historic neighborhood, to live in a historic 
structure, can receive a 20 percent tax credit to help them 
restore that structure. There is a maximum allowable credit of 
$40,000 on any given structure. The developers themselves could 
rehabilitate the properties, but they have to pass on the tax 
credit to the homeowners. Homeowners have to live in the 
property itself for 5 years to qualify for the tax credit.
    We think these historic areas, much like the way the 
commercial tax credit works in empowerment zones, should have 
added incentives for poor families to encourage them to restore 
structures. In Houston, for instance, again, the fourth ward, 
Freedmanstown, where 15 years ago there were well over 400 
structures on the National Register for historic sites is a 
good example. And today there are less than 200. They are being 
destroyed almost daily. Those are primarily homes for single 
families. They are not businesses; they are not tall buildings, 
as you know, Mr. Chairman. They are homes.
    And the way this tax credit is structured is that a young 
family or family that wants to restore a historic house and use 
that credit, can get a tax credit against the interest rate 
that they pay. They can turn it into their mortgage company, if 
they don't have enough revenue to itemize their taxes. So it is 
tightly drawn not to simply reward a wealthy family in 
particular in a wealthy neighborhood, but to try to focus the 
credit where it is needed the most, in our country's inner 
cities and older suburbs.
    This is an important bill. It is modest, relatively modest 
in its cost. The revenue estimate is about $678 million over 5 
years. It is something that I hope the Chairman will consider 
in the context of the tax bill as a very important way to 
encourage home ownership in our country's inner cities.
    [The prepared statement follows:]

Statement of Hon. Michael A. Andrews, Trustee, National Trust for 
Historic Preservation; a Former Member of Congress

          H.R. 1172, The Historic Homeownership Assistance Act

    I am pleased to have this opportunity to present to the 
U.S. House of Representatives Committee on Ways and Means the 
views of the National Trust for Historic Preservation on H.R. 
1172, the Historic Homeownership Assistance Act, which would 
provide a 20 percent income tax credit based on expenditures 
related to the certified rehabilitation of an owner-occupied 
home in a historic district. The National Trust strongly 
supports passage of this legislation, and asks the Committee to 
include the provisions of this bill in any tax package it 
advances. The National Trust for Historic Preservation, 
chartered by Congress in 1949, is a nonprofit organization with 
more than 275,000 members. As the leader of the national 
historic preservation movement, the Trust is committed to 
saving America's diverse historic environments and to 
preserving and revitalizing the livability of communities 
nationally.
    I want to begin my testimony by commending Congressmen E. 
Clay Shaw and John Lewis for championing the Historic 
Homeownership Assistance Act, which is critical to preserving 
historic districts and stabilizing older neighborhoods around 
the country. The legislation has 130 cosponsors in the House 
from both sides of the aisle, including 19 members of the Ways 
and Means Committee. The Historic Homeownership Assistance Act 
accomplishes the goals of historic preservation, homeownership 
and community revitalization.

I. The Need for a Historic Homeowner Tax Credit

    America's historic resources are at risk. In the decades 
since World War II, in tragic counterpoint to the growth of the 
sprawling new suburbs, we have witnessed the progressive 
erosion and loss of older neighborhoods and communities all 
across the country. As new development pushes relentlessly into 
the countryside, it erodes the prospects for preserving (or 
restoring) the economic vitality of our older cities, towns, 
and suburbs.
    Protecting the Irreplaceable: Historic buildings cannot be 
saved unless they have users. They will not have users unless 
the areas in which they are located have an economic pulse.
    I believe that all Americans are committed at heart to the 
preservation of our heritage. As preservationists, we have 
developed tools to save the individual treasured building from 
the wrecker's ball. We do not always succeed, but we are not 
without the means to show the way and make the case for 
preservation.
    What we lack are the tools to address the problems of 
blight and abandonment that threaten entire older neighborhoods 
and communities. In the decade from 1980 to 1990, Chicago lost 
41,000 housing units to abandonment, Philadelphia 10,000 and 
St. Louis 7,000. Smaller communities suffered the same fate, 
and the trend continues. Some of these houses were 
architectural gems; many were ordinary houses. But taken 
together they constituted the physical fabric of a way of life 
which is now gone.
    The historic homeowners tax credit would complement the 
existing historic rehabilitation tax credit for commercial 
historic properties. The commercial tax credit has generated 
approximately $20 billion in private reinvestment in historic 
commercial properties across the country over the past 20 
years. This tax credit leveraged more than $2 billion in 
private investment last year alone. Unlike the commercial 
credit however, only existing and prospective homeowners would 
benefit from the new tax credit.
    H.R. 1172 is designed to work in a broad range of contexts; 
each community is likely to find its own applications. From 
small towns in New England and the midwest to large and small 
cities on the east and west coasts, as well as older 
neighborhoods everywhere, homeowners will be attracted by the 
appearance of a different era, but the convenience of living in 
older, established neighborhoods.
    Clearly, this is no time for massive government programs 
which might or might not be successful in helping to preserve 
these resources. What is needed is a carefully targeted 
incentive to revitalize these communities which will involve a 
minimum of government involvement and a maximum of individual 
initiative, one that is modest in cost and limited in scope but 
that can spark broad private activity. We believe H.R. 1172 is 
a fair, feasible and cost-effective answer for revitalizing 
older communities, encouraging homeownership, and protecting 
historic homes.

II. Eligible Structures

    The universe of buildings eligible for the tax credit is a 
limited one. Only buildings that are listed in the National 
Register of Historic Places, are contributing buildings in 
National Register Historic Districts or in nationally-certified 
state or local districts, or are individually listed on a 
nationally-certified state or local register would qualify. The 
National Park Service has estimated that slightly in excess of 
one million buildings nationwide presently fall in those 
categories.
    To insure that their historic character is preserved, 
buildings receiving the credit would have to be rehabilitated 
in accordance with the Secretary of the Interior's Standards 
for Rehabilitation. However, the bill provides that 
certification of compliance may be performed by states or even 
localities under cooperative agreements entered into with the 
Secretary of the Interior. In addition, the bill authorizes the 
states to charge processing fees, the proceeds of which would 
be used to fund the costs of processing the applications for 
certification.

III. Costs and Benefits

    Because of the constraints on eligibility that I have 
described, the revenue implications of H.R. 1172 would be 
modest. Nevertheless I believe it can make a real difference in 
communities all across the county--from decaying small towns to 
threatened big-city neighborhoods. By providing an incentive 
for Americans at all income levels to invest in the 
rehabilitation of deteriorated buildings and become home owners 
in older neighborhoods and communities, it can provide the 
following benefits:
     saving invaluable historic resources, which would 
otherwise be lost through decay, abandonment and demolition.
     stabilizing and rescuing endangered communities 
through the infusion of new home owners, who will make a 
commitment to the enhancement of community life through their 
purchase of a home.
     providing cities and towns with the chance to 
strengthen their tax bases by attracting middle-income and more 
affluent residents.
     creating jobs and stimulating economic activity in 
areas where economic opportunities are scant.

IV. Major Provisions of H.R. 1172

Rate of Credit:

    The credit, which would equal 20% of qualified 
rehabilitation expenditures, would be available to homeowners 
in condominiums and cooperatives as well as single-family 
homes. It could be used by the do-it-yourself rehabber, or 
someone who purchases a home rehabilitated by a developer. In 
the latter case, the credit would accrue not to the developer, 
but to the purchaser of the home.

Maximum Credit, Minimum Expenditures

    The maximum credit allowable would be $40,000 for each 
principal residence, subject to Alternative Minimum Tax 
provisions. As with the current credit, rehabilitation must be 
substantial--the greater of $5,000 or the adjusted basis of an 
eligible building, with an exception for buildings in census 
tracts targeted as distressed for Mortgage Revenue Bond 
purposes under I.R.C. Section 143(j)(1) and Enterprise and 
Empowerment Zones, where the minimum would be $5,000. At least 
five percent of the qualified rehabilitation expenditures would 
have to be spent on the exterior of the building.

V. Homeownership and Historic Preservation

    Central to the American dream is the desire to own one's 
own home. But home ownership is more than just a personal goal; 
by giving residents a true stake in their community, it 
promotes the qualities of neighborliness needed to heal and 
revive threatened and decaying residential areas.
    The existing Federal tax credit for historic rehabilitation 
is not available to homeowners, but applies only to commercial 
property or other property held for the production of income. 
H.R. 1172 fills that gap. Moreover, because the tax credit that 
H.R. 1172 would create is limited to persons who occupy the 
building for which the tax credit is claimed as their personal 
residence, there are no tax shelters, no ``passive losses'' and 
no syndications. This provision is in contrast the to the 
existing rehabilitation tax credit for commercial historic 
properties. The historic homeowners tax credit only acts is an 
incentive purely for homeowners and homebuyers.

VI. Opportunities for Low and Moderate Income Home Buyers

    There is a widespread misperception that historic districts 
are places where only upper-income families live. While it is 
true that some of the better known districts on the National 
Register have been rehabilitated by or for affluent people, it 
is equally true that the older housing stock in the United 
States tends far more to be occupied by families with more 
modest incomes. Indeed, according to an analysis of 1990 census 
data, 29% of the 8,700 National Register historic districts lie 
within or contain tracts with poverty rates greater than 20%.
    This legislation has been drafted to provide homeownership 
opportunities in rehabilitated historic buildings to Americans 
with a broad spectrum of income levels. For those who do not 
have sufficient income to be able to use a tax credit, the bill 
creates a Historic Rehabilitation Mortgage Credit Certificate 
that can be used to reduce the interest rate on their mortgage 
loan.
    Rehabilitation would have to be substantial. As I stated 
earlier, the bill would follow existing law by requiring a 
minimum investment in qualified rehabilitation expenditures 
equal to the greater of $5,000 or the adjusted tax basis of the 
building. However, an exception would be made for economically 
distressed census tracts where the minimum investment required 
would be $5,000. Taxpayers at all income levels would be 
permitted to use the credit, but the amount of credit available 
to a homeowner would be limited to $40,000.
    Consider, as an example, a hypothetical home rehabilitated 
by a developer which qualifies for the credit. Assume that the 
home has a selling price of $150,000 and contains $100,000 in 
qualified rehabilitation expenditures. The credit on this home 
is $20,000 (20% of $100,000). This would more than cover a down 
payment of 10% on the home. In this case the credit would have 
the effect of reimbursing the home purchaser for the down 
payment. Although this example involves a developer, the credit 
could also be used by an individual homeowner to help defray 
the cost of rehabilitating his current or newly-purchased 
residence.

VII. Illustrations

    As I stated earlier, the Historic Homeownership Assistance 
Act benefits families with a broad spectrum of incomes. Allow 
me to provide two examples:
    Barrington Historic District in Barrington, Illinois, is a 
historic commuter suburb of Chicago consisting of Victorian 
country homes. Barrington is a much-desired place to live. 
While Barrington's popularity has encouraged investment in the 
historic district, it has also invited problems. Some homes 
have been destroyed or converted drastically through 
speculation, while others have been boarded up while owners 
hold out for property values to increase. The Historic 
Homeownership Assistance Act would spur further revitalization, 
and help prevent Barrington's popularity from ruining the very 
qualities that make the town so special--and strengthen the 
sense of community of Barrington.
    Mount Morris Park Historic District in Harlem consists of 
19th Century townhouses, originally bought by prosperous white 
middle-class households. Today, Mount Morris is a growing 
neighborhood, with an economically diverse African-American 
population. One district homeowner, Josephine Jones, has spent 
the last decade reconverting her 1880s townhouse from a 
boarding house to a single-family home. Because she is a 
retiree, she has limited tax liability. Ms. Jones wants to 
complete her rehabilitation at a cost of $200,000. With the 
Historic Homeownership Assistance Act, Ms. Jones could receive 
a Mortgage Credit Certificate for $40,000 (20 percent of 
qualified rehabilitation expenditures). She could transfer the 
certificate to the mortgage lender in exchange for a reduced 
interest rate on her home mortgage loan. A local bank, more 
likely to grant her a loan with the backing of the certificate, 
could reduce its own federal income tax by $40,000.

                            VIII. Conclusion

    When preservation begins in a community, good things 
follow. H.R. 1172 is not a cure-all for ailing communities. 
Change for the better, if it is to come, will be incremental. 
It will result from decisions made by individual Americans, one 
family at a time. But H.R. 1172 can be a spark that ignites 
those private decisions to the benefit of our families, our 
communities, and our heritage as Americans. On behalf of the 
275,000 members of the National Trust for Historic 
Preservation, I strongly urge the prompt enactment of this 
legislation.
      

                                


    Chairman Archer. Thank you, Mr. Andrews.
    Our next witness is Mr. Wolyn. Welcome. You may proceed.

  STATEMENT OF MICHAEL A. WOLYN, EXECUTIVE DIRECTOR, NATIONAL 
  ALLIANCE OF SALES REPRESENTATIVES ASSOCIATIONS,  ATLANTA,  
                            GEORGIA

    Mr. Wolyn. Mr. Chairman, Members of the Ways and Means 
Committee, my name is Michael Wolyn. I am executive director of 
the National Alliance of Sales Representatives Associations or 
NASRA. And, on behalf of the 10,000 members of NASRA, I want to 
thank you for the opportunity to speak to you today and discuss 
a tax relief issue of great concern to that membership.
    The issue that we would like to address impacts every sales 
representative and other independent businessowner who must 
travel to sell for a living. The issue I would like to address 
is the tax limiting the tax deduction for meals. Current tax 
law allows the deduction of a business meal at half its value, 
not 100 percent, as a legitimate business deduction, but 50 
percent. Many of our member groups have asked legitimate 
questions. If the meal is a true business meal or a true 
business-related expense, why isn't it fully deductible?
    Most of our members do not have formal offices. Most work 
out of home offices. When a rep is working his or her 
territory, they are technically on the road. Many are out 150 
to 170 nights a year. One of the methods of dealing with their 
customers, the small and large retailers they service, is to 
get them out of their store, out of their stock room or to get 
them into an area where a relationship can be developed. And, 
more often than not, that relationship is developed in a local 
coffee shop or a bagel shop.
    I have got an example for you. One of the gentlemen you may 
well know, Bob Lantour out of Houston, Texas, who, 
unfortunately, can't be here because his roof blew off last 
week in a storm, indicates to me by letter that he was out 137 
nights last year and had 411 meals. Now I posed the question: 
411 meals? And he says, yes, I sometimes eat five times a day.
    Well, before I became executive director of this body, I 
was a traveling sales representative. I traveled the 13 western 
States based out of San Francisco, California. And I was out 
more than 200 nights a year and, quite literally, had more than 
5 meals a day. I would build my business around meals. I would 
have coffee in the morning. Breakfast, if you will. Coffee and 
danish. I would have a mid-morning break where I would take a 
retailer out of a store.
    My best story, I think, that I can relate when I was 
drafting the testimony, speaking to some of the folks up here. 
I used to be a manufacturer out of Hong Kong and this one 
particular story, I flew in from Hong Kong to New York in 
advance of a market week, had to go, got in at 5 in the 
morning, went to the New York Athletic Club from there to Chock 
Full O'Nuts, if you have ever been to Chock Full O'Nuts on 
Broadway. Didn't go to have coffee, went to have a business 
meeting. On that particular day, according to my record, I had 
seven meals. None of which, by the way, for sustenance. All of 
which were for relationship building.
    And my point, simply, is this. That this is a, for people 
that do not have a marketing budget or promotional budget, this 
is, in fact, their marketing and promotion budget. I know this 
conduct, business may seem strange--five meals a day--but the 
average ticket is not enormous. We are looking at meals--the 
National Restaurant Association suggest that the average meal 
is about $11.00 a meal. Dinner is about $22.00.
    To date, two bills have been introduced on this issue that 
meet the stated goal of helping small business. H.R. 1195, 
which was introduced by Congressman McCrery--we appreciate that 
and thank you very much--has been cosponsored by 
Representatives Tanner, Foley, Farr, Ramstad, Dunn, Weller, 
Jefferson, and Shaw. In the Senate, the companion language has 
been introduced by Senator Breaux. Identical language is also 
included in H.R. 2087, a bill that has been introduced by 
Congressman Talent, Chairman of the Committee on Small 
Business.
    Both bills target the increased meal deduction to small 
business with less than $5 million in gross sales. The proposed 
legislation would increase the meal deduction limitation to 80 
percent by 5 percent increments over the next 6 years and we 
would appreciate your consideration for this bill.
    [The prepared statement follows:]

Statement of Michael A. Wolyn, Executive Director, National Alliance of 
Sales Representatives Associations, Atlanta, Georgia

    Mr. Chairman, members of the Ways and Means Committee, my 
name is Michael A. Wolyn, Executive Director of the National 
Alliance of Sales Representatives Associations, or NASRA. On 
behalf of the 10,000 members of NASRA I want to thank you for 
the opportunity to speak before you today to discuss a Tax 
Relief issue of great concern to NASRA members.
    NASRA is a coalition of sales representative organizations 
founded by the Bureau of Wholesales Sales Representatives and 
the International Home Furnishings Representatives Association. 
NASRA represents the interests of more than 10,000 independent 
wholesale sales representatives in the apparel, home 
furnishings, gift, western, ski/outdoor, and footwear 
industries. A full list of NASRA member groups is included in 
this statement.
    NASRA is comprised solely of national sales representative 
associations. These associations are generally made up of local 
chapters, which conduct regional trade shows in their 
respective industries. These trade shows bring together 
hundreds of representatives and thousands of retailers, making 
them a significant contributor to the local economies.
    NASRA's sole objective is the advocacy of the legislative 
interests of its member organizations. On the federal level, 
NASRA promotes economic and tax policies that level the playing 
field on which sales representatives compete. At the state 
level NASRA has achieved a remarkable record of successfully 
advocating state laws protecting sales representatives right to 
collect earned commissions.
    The typical NASRA member is a self-employed business owner. 
NASRA members represent the lines of multiple manufacturers and 
participate in regional trade shows in cities throughout the 
US, often comprising a territory of up to seven states.
    Usually paid exclusively by commission, these sales 
representatives pay all business expenses out-of-pocket and are 
not reimbursed by their principals. They typically drive 30,000 
business miles per year and spend approximately 150 nights per 
year in hotels. While compensation levels vary, the average 
member grosses between $80,000 and $100,000 per year, and 
expends approximately $30,000 per year in business-related 
expenses.
    At the outset I would like to compliment the members of 
this Committee. In recent years the Ways and Means Committee 
has proposed changes in several areas of the tax law that are 
of great benefit to the sales representative community. 
Legislation clarifying the home office deduction rules and 
making permanent and increasing the health insurance deduction 
for self-employed business owners are of substantial benefit to 
sales representatives, and they are grateful to you for these 
tax rule changes.
    Today, I wanted to address a provision that impacts every 
sales representative and other independent business owners who 
must travel to sell for a living. The issue I would like to 
address is the tax rule limiting the tax deduction for meals. 
It is an issue that several members of this committee have 
become concerned over and it is one that we hope Congress can 
redress this year.

                               BACKGROUND

    As a part of the Tax Reform Act of 1986 Congress determined 
that the meal deduction should be reduced from 100 percent to 
80 percent. The General Explanation of the Tax Reform Act of 
1986 prepared by the Joint Committee on Taxation, stated the 
following rationale for limiting the meal deduction.
    ``The Congress believes that prior law, by not focusing 
sufficiently on the personal-consumption element of deductible 
meal and entertainment expenses, unfairly permitted taxpayers 
who could arrange business settings for personal consumption to 
receive, in effect, a Federal tax subsidy for such consumption 
that was not available to other taxpayers.
    The taxpayers who benefit from deductibility tend to have 
relatively high incomes, and in some cases the consumption may 
bear only a loose relationship to business necessity.''
    In 1993 Congress further limited the deduction by reducing 
it from 80 percent to 50 percent. The rationale by congress for 
further reducing the meal deduction limits presumed a bias that 
the person using the meal deduction was a wealthy corporate 
executive and that the meal was incidental to the business 
purpose at best.
    The substantiation rules, while slightly revised, provided 
no increased reliability to Congress that the meal deduction 
incurred was a valid tax deductible business expense. For 
purposes of comparison, large companies weren't asked to 
relinquish any portion of their advertising budgets nor a 
portion of their office rents that applied to lavish conference 
rooms for client meetings.

         HOW SALES REPRESENTATIVES USE MEALS IN THEIR BUSINESS

    An independent sales representative like any other 
salesperson must go out and meet the person they are selling 
to. To do that they must go to the customer's location in small 
towns and on country roads. On average sales representatives 
travel 30,000 miles per year and spend an average of 150 days 
and nights on the road.
    Having taken the time to go to the customer's business, 
they seek to find an opportunity to build a relationship with 
the buyer. They must then find a way to meet one on one with 
the buyer, away from distractions like CNN, other calls, 
employee questions, etc.
    This is normally done in a moderately priced local 
restaurant where both individuals can have a quiet focused 
discussion on products and prices. On the road this restaurant 
is the sales rep's conference room. On the road this is the 
rep's advertising budget. On the road this is the way business 
is done.

                     ADVERTISING & CONFERENCE ROOMS

    Most sales representatives work out of their homes. 
Therefore they lack a formal conference room for client 
meetings. Yet they are expected to have a place to meet with a 
prospective client. In addition sales representatives do not 
have large advertising budgets with which to create goodwill 
and name recognition. Advertising of this nature is not cost 
effective and misses most of the real target market.
    The conference room for the rep on the road is the local 
restaurant, the advertising budget is the time that a rep can 
get a buyer to spend one on one time with him or her to view 
the products that they represent.

              CURRENT RESEARCH ON WHO USES MEAL DEDUCTIONS

    In 1998 a study on the use of the business meal deduction 
confirmed several facts widely understood by sales 
representatives who are major users of the meal deduction as a 
way of doing business.
    The research done for the National Restaurant Association 
revealed that:
    One fifth of business meal users are self-employed.
    Over two thirds of the business meal spenders have incomes 
of less than $60,000 and 37 percent have incomes below $40,000.
    Low to moderately priced table service restaurants are the 
most popular types for business meals, with the average check 
equaling less than $20, and occur throughout the US, with 50 
percent occurring in small towns and rural areas.
    The average check size was $11.60 for lunch and $22.52 for 
dinner. These facts illustrate that the primary user of the 
business meal who is putting out the cost of the meal from his 
or her own pocket, are not tax abusers but business people 
expending business capital for a business purpose.
    Clearly, the rationale that limiting the meal deduction 
would only harm large companies for whom a meal as 
entertainment was merely incidental to any business purpose, is 
inaccurate. In reality, the limitation inadvertently harms many 
small businesses, and especially the independent sales 
representative.
    Restricting the meal deduction is also discriminatory 
against those small business owners for whom the meal is both 
advertising and conference room facility. It is especially 
interesting to note that an employer can reimburse an employee 
for a meal permitting the employee to entertain, yet a self-
employed business owner is limited to a 50 percent deduction 
for entertainment. This creates an imbalance between the 
independent sales representative and the employed sales 
representative.
    It does seem that the rules are stacked in favor of the 
large company to keep small business owners at a competitive 
disadvantage.

                         LEGISLATIVE PROPOSALS

    To date two bills have been introduced on this issue that 
meet their stated goal of helping small business. HR 1195, was 
introduced by Congressman McCrery, and has been cosponsored by 
Representatives Tanner, Foley, Farr, Ramstad, Dunn, Weller, 
Jefferson, Johnson, and Shaw of the Ways and Means Committee. 
In the Senate, companion language has been introduced by 
Senator Breaux.
    Identical language is also included in HR 2087, a bill that 
has been introduced by Congressman Talent, Chairman of the 
Committee on Small Business. Both bills target the increased 
meal deduction to small businesses with less than $5 million in 
gross sales. The proposed legislation would increase the meal 
deduction limitation to 80 percent by 5 percent increments over 
the next six years.
    Similar legislation has been enacted on behalf of employees 
are limited to the number of hours they may work by federal 
rules such as truckers and airline pilots. This proposal 
mirrors the same concept.

                            ECONOMIC IMPACT

    This hearing is focused on tax relief to sustain a strong 
economy, and information that supports a positive economic 
effect from a tax benefit is important. The National Restaurant 
Association has estimated the economic benefit of moving the 50 
percent meal deduction to 80 percent. Based on data produced by 
the Bureau of Economic Analysis, they estimate that this change 
would produce between $4.2 and $5.2 billion in economic impact 
across the country.
    We do know that for a sales representative the meal 
deduction is a cost of doing business, not a tax dodge. It is 
as much a cost of doing business as buying a computer or a car 
for travel to meet with customers.

                               CONCLUSION

    Once again, I appreciate the opportunity to appear before 
you today. We strongly believe that enacting the proposal HR 
1195, would be positive tax relief that would benefit many 
independent sales representatives, and many other small 
business owners.
    We believe that restoring this provision would address a 
competitive disadvantage that they have had to deal with since 
1986. We encourage the members of this committee to include 
such language in any tax relief legislation enacted this year.
      

                                


APPENDIX

                           NASRA MEMBERSHIP 

    Bureau of Wholesale Sales Representatives
    International Home Furnishings Representatives Association
    National Golf Sales Agents
    Ski & Outdoor Sales Representatives Association
    Western Winter Sports Sales Representatives Associations
    New England Ski Sales Representatives Association
    Eastern Ski Sales Representatives Association
    Mid West Ski Sales Representatives Association
    Southeast Winter Sports Association
    Western Shoe Association
    Boot & Shoe Travelers of New York
    National Association of Selling Agents
    Professional Representatives Organization
    Independent Sales Association
      

                                


    Chairman Archer. Mr. Wolyn, thank you. As I listen to the 
kind of life that you have led and the amount of sustenance 
that you have taken in every day, I wonder why you are not 300 
pounds. [Laughter.]
    Mr. Wolyn. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Nemtzow.

STATEMENT OF DAVID NEMTZOW, PRESIDENT, ALLIANCE TO SAVE ENERGY; 
       ON BEHALF OF COALITION FOR ENERGY-EFFICIENT HOMES

    Mr. Nemtzow. Thank you, Mr. Chairman. I am David Nemtzow, 
and I am president of the Alliance to Save Energy. Thank you 
very much for the opportunity to testify today.
    I am testifying today on behalf of the Coalition for 
Energy-Efficient Homes. This is an ad hoc coalition that we 
have created for one single purpose: to support Congressman 
Thomas on H.R. 1358, the Energy Affordable Home Act. If it 
pleases the Chairman, I would like to include for the record 
the more than 50 companies that are members of our coalition, 
many of whom are represented here today. And if the Chairman 
would indulge me, my colleagues are right behind me, 
representing the National Association of Home Builders; 
representing the Nation's leading insulation manufacturers; 
Owens Corning Window Manufacturers; and the Alliance to Save 
Energy. And it is a very broad coalition designed to help this 
one bill.
    [The information follows:]

                       Alliance Associates, 1998

3M
AlliedSignal
American Gas Association
American Gas Cooling Center
Andersen Corporation
Anonymous
Armstrong International
AT&T
Battelle/PNNL
Bear Stearns and Company
Brookhaven National Laboratory
California Energy Commission
Cardinal IG
CertainTeed Corporation
City of Austin/Austin Energy
Dewey Ballantine
Dow Chemical
Edison Electric Institute
E-Mon
Energy Performance Services
Enron Corporation
Fannie Mae Foundation
Florida Solar Energy Center
Gas Research Institute
Geothermal Heat Pump Consortium
Hagler Bailly, Inc.
Honeywell
IBM
Intercontinental Energy Corporation
Iowa Energy Center
Johns Manville
Johnson Controls
Lawrence Berkeley National Laboratory
Libbey-Owens-Ford
Lithonia Lighting
Los Angeles Department of Water & Power
MagneTek
National Insulation Association
National Renewable Energy Laboratory
New England Electric System
New York State Energy Research & Development Authority
Nexus Energy Software
North American Insulation
Manufacturers Association
Northern States Power Company
Oak Ridge National Laboratory/
Lockheed Martin Corporation
Ontario Power Generation
OSRAM SYLVANIA
Owens Corning
Polyisocyanurate Insulation
Manufacturers Association
Public Service Company of New Mexico
Sempra Energy
Sensor Switch
Society of the Plastics Industry
Polyurethane Division
Solar Energy Industries Association
Southern California Edison
Spirax Sarco
Swagelok
Tennessee Valley Authority
Texas A&M University
Energy Systems Laboratory
Thermo Electron
Washington Gas
Watt Stopper
Whirlpool Corporation
Xenergy
      

                                


    Mr. Nemtzow. Let me just say that the Alliance to Save 
Energy was founded in 1977 on a bipartisan basis by Senator 
Chuck Percy and Senator Hubert Humphrey. And they invited their 
colleagues in the Congress and in business to work together to 
promote energy efficiency. And today we are chaired by Senator 
Jeff Bingaman and Jim Jeffords on the Senate side and by your 
colleagues John Porter and Ed Markey and continue our tradition 
of bipartisan support for energy efficiency.
    We are here today to testify in the strongest support for 
Congressman Thomas' bill, the Energy Efficient Affordable Home 
Act, H.R. 1358. It is also cosponsored by several Members of 
this Committee and I want to thank Mr. Herger and Mr. English 
for their cosponsorship. Mr. Rangel also is a cosponsor as well 
as several other Members. And I would also like to acknowledge 
Mr. Matsui who, on behalf of the administration, is introducing 
a similar bill, somewhat different from ours, but with similar 
goals. And what these Members of Congress have in common is a 
commitment to work to provide energy efficient homes for 
America's families.
    I know you have heard a lot of witnesses today and I know 
you are tired and I very much appreciate your attention. So I 
will try to sweeten the deal for you by saying, of all the 
witnesses you hear today, I may be the only one who will 
promise you and can deliver to you--are you ready--affordable 
housing for American families, cleaner air quality, lower risk 
from foreign oil, and an opportunity to cut bills nationwide 
and stimulate the economy. So I know you have heard a lot of 
witnesses. Let me tell me how we are going to do that and why 
you can be confident in that.
    H.R. 1358 would provide a tax credit for new and existing 
homes that significantly upgrade their energy efficiency. For 
new homes that met these tight standards--and these standards, 
Mr. Chairman, are 30 percent beyond what is known in my 
business as the IECC, the International Energy Conservation 
Code. And the IECC code is already quite stringent. So 30 
percent beyond that is really a tough standard. Only about 1 
percent to 2 percent of the homes in the country this year even 
come close today. And it would provide a $2,000 credit for 
homes that can meet that new tough standard. It would be around 
for 5 years and then sunset after 5 years. And we have built in 
provisions to make sure that this credit is verifiable and that 
this Committee can be confident that you are getting your 
money's worth.
    Why are we doing this? The reason is quite simple. By 
making homes more energy efficient, we are doing several 
things. One is we are making housing more affordable for 
American families. Energy is the second largest cost of housing 
in this country. After the rent or the mortgage, energy is 
number two. It is ahead of security. It is ahead of insurance. 
It is ahead of landscaping. And so by lowering energy bills and 
by lowering utility bills through more insulation or better 
windows or a better furnace, we are lowering Americans' utility 
bills and making their homes more affordable for them for years 
to come.
    Number two, we are improving the air quality. Why do I say 
that? Because homes pollute. We don't notice it the way we 
notice it with cars, but when homes use energy and they burn 
that energy, whether it is at a power plant or in the basement 
in the fuel oil tank, there is pollution that is created. In 
fact, the average home in America produces twice the pollution 
of the average car. If we cut that, we will be able to lower 
the pollution, whether it is climate pollution or local urban 
pollution.
    I don't have to tell you, Mr. Chairman, about our dangerous 
dependence on foreign oil. Do you know a lot of our oil imports 
are for home heating oil? We can cut that.
    And, finally, the reason this bill is so important and why 
we thank Congressman Thomas and his colleagues for their 
leadership, is that homebuilders are trying to do the right job 
for America. They are trying to build good homes at a good 
price. But the reality is that homebuilders don't pay the 
utility bills. They build the house. They want it to be a good 
quality house. But they don't pay the bills. It is the home 
buyer who pays the bills. So by providing this modest tax 
credit that is verifiable, you are bridging the split 
incentive. You are letting the homebuilders focus on what they 
are good at, building a good quality home that is affordable, 
because of the credit. And you are helping American families, 
especially those middle income families make their homes more 
affordable for years to come.
    I think you will find it is a winner for American families. 
It is a winner for this Committee. Thank you again for the 
opportunity to testify on behalf of the coalition.
    [The prepared statement follows:]

Statement of David Nemtzow, President, Alliance to Save Energy; on 
behalf of Coalition for Energy-Efficient Homes

    Mr. Chairman and Members of the Committee, thank you for 
the opportunity to testify before you today on behalf of the 50 
member organizations of the Coalition for Energy-Efficient 
Homes regarding H.R. 1358, sponsored by Rep. Bill Thomas, the 
Energy Efficient Home Act of 1999.
    My name is David Nemtzow. I am President of the Alliance to 
Save Energy, a bi-partisan, non-profit coalition of business, 
government, environmental, and consumer leaders dedicated to 
improving the efficiency with which our economy uses energy. 
Senators Charles Percy and Hubert Humphrey founded the Alliance 
in 1977; it is currently chaired by Senators Jeff Bingaman and 
James Jeffords, as well as your colleagues, Representatives 
John Porter and Ed Markey.
    Seventy companies and organizations currently belong to the 
Alliance to Save Energy. If it pleases the Chairman I would 
like to include for the record a complete list of the 
Alliance's Board of Directors and Associate members, which 
includes the nation's leading energy efficiency firms, electric 
and gas utilities, and other companies providing cost savings 
and pollution reduction to the marketplace.
    I am pleased to be testifying today on behalf of the 
Coalition for Energy-Efficient Homes, a group of companies, 
trade associations, and non-profit groups united in the goal of 
seeking incentives for the construction of homes that are 
better for the environment, more affordable, and more 
comfortable. This broad collection of members is composed of 
energy-efficiency advocates, home builders, electric utilities, 
and building products manufacturers. Prominent members of the 
Coalition include the National Association of Home Builders, 
the North American Insulation Manufacturers Association, the 
Andersen Windows Corporation, Cardinal IG, the Polyisocyanurate 
Insulation Manufacturers Association, and the Edison Electric 
Institute. I would also like to include for the record a list 
of the current members of this group.
    The Alliance to Save Energy has a long history of 
researching and evaluating federal energy efficiency efforts. 
We also have a long history of supporting and participating in 
efforts to promote energy efficiency that rely not on mandatory 
federal regulations, but on partnerships between government and 
business and between the federal and State governments.

                            I. INTRODUCTION

Today's Testimony

    Mr. Chairman, I am here today to address the need for promoting 
energy-efficiency in residential construction and existing homes. The 
Coalition for Energy Efficient Homes strongly supports H.R. 1358, the 
Energy-Efficient Affordable Home Act of 1999, sponsored by your 
colleague, Rep. Bill Thomas. We believe that this legislation will 
provide a sound plan for substantially increasing the energy-efficiency 
and affordability of American homes by providing tax credits to home 
builders for constructing highly-efficient homes, and to home owners 
for upgrading the efficiency of their existing houses.
    In addition, I will elaborate on the continuing need for increasing 
energy-efficiency in the U.S. and, Mr. Chairman, the forceful role that 
energy-efficiency has already played in bolstering our economy and 
protecting our environment.

Tax Credits: A Mechanism for Change

    For as long as the current tax system has been in place in the 
U.S., policy-makers have used tax credits to promote activities deemed 
desirable for the public good. Whether investment tax credits or the 
earned income credit, Congress has extensively used this mechanism to 
provide financial incentives for public goals. We support the extension 
of this practice to fortify the energy-efficiency of our nation by 
enlisting home builders and homeowners in active participation.

          II. THE ENERGY-EFFICIENT AFFORDABLE HOME ACT OF 1999

    Mr. Chairman, we have nothing but strong praise today for 
Rep. Thomas, and his foresight and concern in offering H.R. 
1358. We have taken up the banner for his legislation and are 
building strong support for it. The Energy Efficient Affordable 
Home Act currently has 24 cosponsors, including several members 
of the Committee, such as Congressmen Rangel, Ramstad, Herger, 
English, Cardin, and Weller.
    However, Mr. Chairman, Mr. Thomas' bill is not the only 
proposal circulating which would provide tax credits for highly 
efficient homes. Last year, Rep. Matsui worked with President 
Clinton to offer a credit for efficient new homes and we 
understand that an updated version is soon to be introduced. As 
we will explain later, we differ with the qualification level 
in last year's Matsui bill. However, the Coalition for Energy 
Efficient Homes still strongly commends both Congressman Matsui 
and President Clinton for their fine efforts to address and 
raise attention for this issue.

Why Do We Need Tax Credits for Energy Efficient Homes?

    Mr. Chairman, tax credits for energy-efficient homes will 
address several key areas of concern for Americans. Frankly, 
Mr. Chairman, increasing the energy-efficiency of the economy 
is an ongoing process for the nation, desirable for its 
significant benefits to the economy, the environment, national 
security and our competitiveness internationally. Increased 
energy-efficiency has already resulted in a windfall for the 
U.S. economy, which I will discuss in more detail later. As 
well as providing a macro-economic boon, energy efficiency is a 
decentralized way for average Americans to gain better 
financial control of their lives.
    H.R. 1358 Improves Home Affordability--This tax credit 
would make houses more affordable for average American 
families. In many homes, energy is the second largest component 
of the total cost of housing, so cutting energy and utility 
bills can make homes dramatically more affordable for 
Americans, especially for moderate and low-income households. 
While some mortgage lenders and underwriters have programs that 
make loans based on the lower energy costs of efficient homes, 
the reality is that home buyers and home builders alike need a 
break up front to lower the first cost of efficient housing. 
Home-ownership for all who desire it has long been a public 
policy goal in the U.S. and this legislation would further that 
goal.
    H.R. 1358 Improves Environmental Quality--Mr. Chairman, 
investments in energy-efficiency provide a no-regrets strategy 
for reducing emissions which carries huge ancillary benefits to 
Americans, regardless of what one thinks of climate change. 
Frankly, energy-efficiency has been noted in a number of 
studies as a potentially key solution to the problem. Although 
the Alliance to Save Energy does not endorse any specific 
targets or timetables for emissions reductions, we believe that 
if reducing carbon emissions is a national goal, investment in 
energy-efficiency provides a non-regulatory, decentralized, 
cost-effective way to do that. In addition, the Alliance 
believes if a scientific and political consensus for action 
should develop down the road, early investment in energy-
efficiency provides a cost-effective insurance policy that can 
help make sure that we are still in a position to affect the 
problem when we decide to act.

H.R. 1358 Increases National Security--Mr. Chairman, we went to 
war in large part over oil in 1991 and we bombed Iraq again 
last year. Aside from transportation, our largest household use 
of oil is for home heating. Increasing the energy-efficiency of 
new and existing homes may be the best way to reduce our more 
than 50 percent dependence on foreign oil supplies, next to 
raising automobile fuel economy standards--a politically 
difficult alternative. This legislation, by lowering our per 
capita national consumption of home heating oil will help in 
the battle to maintain our lifestyle while reducing our 
vulnerability to oil supply fluctuation.
    H.R. 1358 Increases Consumer Awareness--Focus groups 
conducted by the Alliance to Save Energy revealed that a large 
number of Americans are unaware of either the scope or the 
effect of energy use in the home. In fact, many of the people 
we spoke with were shocked to learn that their home generates 
twice as much air pollution as their car on a yearly basis. Yet 
our studies and other research shows that the vast majority of 
Americans consider themselves environmentalists and want to do 
the right thing. H.R. 1358 will provide needed incentives for 
homeowners to become better educated about their energy 
situation and enable them to act in the most economically wise 
and environmentally sound manner. Currently the options for 
buying energy-efficient homes are limited, as I will now 
discuss.

Tax Credits for Energy-Efficiency: A Checkered Past?

    As you know, we are not the first group to advocate tax 
credits for improving energy-efficiency in homes. Credits for 
energy-efficient equipment spawned by the energy crises of the 
1970s gave a broad credit for items that might loosely be 
construed to reduce energy-use in homes. Those credits have 
been regarded by many observers as having cost the Treasury far 
too much for the actual energy-efficiency gains achieved. In 
fact, Mr. Chairman, you could basically enclose your hardware 
store bills with your tax return and that credit for nearly any 
home improvement that could broadly be construed as improving 
efficiency.
    H.R. 1358 represents a generation of progress from those 
initial attempts at providing incentives for home energy-
efficiency. This bill offers a credit for very specific 
measures of achievement. It draws from the work of scores of 
experts over the past 20 years who have painstakingly 
determined what constitutes an energy-efficient home. Back in 
1980, there was no such consensus. We have the ability to act 
decisively today to make our homes more affordable, less 
polluting, and more comfortable--and document it in a precise 
and reliable fashion.
    Mr. Chairman, even the greatest ideas often take time to be 
reconsidered, debated and improved. The plan for providing tax 
credits for energy-efficient homes is no exception. As we 
speak, we are wrapping up several months of hard work to try 
and improve the mechanisms in H.R. 1358, and working with Rep. 
Thomas to incorporate those changes. The input of 
environmentalists, home builders, home energy raters, state 
officials and others has been critical to what we believe will 
reduce revenue-impact, reduce the possibility of free riders 
and fraud, and ultimately broaden the support for this bill. 
Where applicable, the changes we will be recommending to Rep. 
Thomas will be noted.

Major Provisions of H.R. 1358:

    New Homes Tax Credit--Mr. Chairman, 1.5 million homes are 
built each year. The Alliance to Save Energy estimates that 
less than 2 percent of those are built to a what we would call 
a high level of energy-efficiency, achievable with technology 
available at your local Home Depot. We now measure energy-
efficiency levels against the International Energy Conservation 
Code (IECC) of 1998. The IECC is a model, consensus code 
developed by the private sector to employ existing, off-the-
shelf technology to produce a reasonably energy-efficient home. 
The IECC corrects for climatic differences throughout the 
country.
    H.R. 1358 provides that between the years 2000 and 2004, a 
tax credit of $2000 may be claimed by a home builder for 
construction of an energy-efficient home that exceeds the 1998 
IECC by 30 percent or more. Mr. Chairman, moving 30 percent 
beyond that code constitutes a highly efficient house. In 
addition, Mr. Chairman, the Alliance estimates that the average 
increased cost of reaching this level of efficiency in a home 
costs $3000, so that a 5-year federal incentive would leverage 
significant additional resources. The Alliance estimates that 
these measures will save the owner of an average new home 
approximately $250 per year.

Builder Credit Vs. Buyer Credit: The Chicken Versus the Egg

    While my political instincts see merit in providing a tax 
credit to home buyers, I am strongly supportive of a builder 
credit. Unless highly-efficient houses are built in greater 
numbers than they are today, a tax credit for these homes will 
be highly underutilized. Without offering an incentive for 
construction, rather than sale of the house, there simply won't 
be enough houses available for people to buy, to have any 
effect on our housing stock.
    It brings me back to my earlier question of why highly 
energy-efficient homes aren't being built. Frankly, many if not 
all home builders are attentive to at least two things: keeping 
homes affordable and responding to customer demand. As an 
energy-efficiency advocate, it pains me to say this, but most 
consumers do not yet pay as much attention as they should to 
the energy-efficiency of a new home. While these concerns are 
essential for how comfortable their house will be and how much 
it will cost to live in on a year-to-year basis, a buyer's eye 
is often more swayed by the jacuzzi tub or Corian countertops 
than by the insulation level in the walls.
    Giving the builder a tax credit gets their attention, gives 
them a chance to upgrade their building practices, and to use 
advanced energy-efficiency as a sales tool, addressing three of 
the biggest obstacles to improving the energy-efficiency of our 
nation's housing stock in a significant way. While a credit for 
the buyer might be more attractive politically, it simply won't 
do the job as well. With the builder credit, the typical tract 
builder putting up a development of 100 townhouses will be 
motivated to build higher efficiency into them up front--
meaning more homebuyers, and more moderate-income families--
will get the real benefit of the credit, which is lower energy 
bills.

How is a House Certified as Energy Efficient?

    This is one area almost certain to be markedly affected by 
changes to the bill. Those changes will provide two paths to 
the builder for certifying his homes for qualification for the 
credit.
    First, we recommend that there be a prescriptive path that 
sets out very specific values for a number of areas of the 
home, such as windows, wall insulation, foundation insulation, 
and other areas of the building envelope. The second suggested 
path is a performance option that would allow an accredited 
home energy rater to come in and certify the house for annual 
energy performance 30 percent beyond the IECC. Bringing in a 
professional to assess the home allows a builder to exploit 
particularly effective efficiency measures without having to 
follow a prescriptive path in every area of the house. We 
believe that a combination of the two options gives the builder 
the maximum flexibility while assuring that qualifying homes 
will reach the required efficiency level.

Why Not 50 percent Above IECC ... or More?

    Last year's proposal by Rep. Matsui contained a very 
similar credit as H.R. 1358 does, only it required that 
qualifying homes be 50 percent beyond the model code. We have 
three major differences with a 50 percent approach. First, we 
believe that a 50 percent improvement is not achievable by the 
average builder. Second, requiring houses to be 50 percent 
beyond the IECC will severely limit the number of builders that 
become interested in qualifying, because the cost of that extra 
20 percent will further outstrip the size of the credit. Third, 
the awarding of the credit to the home buyer will fail to 
provide the incentive to builders needed to result in the 
construction of a significant number of energy-efficient homes.
    I believe that part of the reason the Administration 
program went with a 50 percent standard is that they were 
restricted by the revenue allocations for the various parts of 
their Climate Change Technology Initiative. If we were to 
devise a package with a cap of $3.5 billion over 5 years--as 
the Administration package has done--energy-efficient homes 
would play a larger role in it than the $450 million allocated 
to it in that program.

What Does it Cost?

    The short answer to this one, Mr. Chairman, is we don't yet 
know. Rep. Thomas made a request for scoring by the Joint 
Committee on Taxation, but has not yet returned its estimates. 
In addition, information has been submitted to JCT reflecting 
amendments we hope to see in H.R. 1358.

Existing Homes Tax Credit

    While making new homes more energy-efficient is essential 
for the future, the lion's share of energy use and energy waste 
in the residential sector remains in existing homes. The 1.5 
million homes built each year pale in comparison to the 100 
million that already stand--many millions of which were built 
before energy-efficiency became a major consideration in 
housing construction.
    The current bill allows a homeowner to claim a tax credit 
for 20 percent of the cost of improving the energy-efficiency 
of their home by 30 percent from a baseline level, up to a 
$2000 limit over the 5 years. We have been working with 
Coalition members, other stakeholders, and Rep. Thomas to 
better-define the details of the existing home provision to 
limit revenue-impact, free ridership and the potential for 
fraud.

         III. ENERGY-EFFICIENCY: A CONTINUING NATIONAL PRIORITY

    In order to fully make the argument for H.R. 1358, Mr. 
Chairman, the Alliance would like to comment on how energy-
efficiency has delivered over the past 25 years for the 
American public. That background, illustrates why improving the 
energy-efficiency of our economy is a more urgent priority than 
ever before.

A Bipartisan Political Tradition

    From the days of our first national nightmare of gas lines 
and soaring fuel prices, energy-efficiency has had champions in 
Congress from both sides of the aisle. Sen. Charles Percy, who 
founded the Alliance to Save Energy in 1977, recognized the 
need to promote energy-efficiency to address a glaring hole in 
our nation's economic security. He recruited Sen. Hubert 
Humphrey for this endeavor in the final days of his life to 
demonstrate that the need to pursue greater energy-efficiency 
in the economy obliterated party lines. In addition, he knew 
that a partnership between business, government, 
environmentalists, and consumer advocates would not only result 
in benefits for each sector, it would help avoid the need for 
coercive regulation when our problems reach crisis level.
    That maxim is no less true today, even though oil supplies 
and prices have eased. Our fossil fuel economy is now believed 
by many to have put new stresses on our environment. Energy-
efficiency has been repeatedly cited as a key solution to slow 
the loading of carbon and other greenhouse gases into the 
atmosphere. Fortunately, we now have a quarter-century track 
record of showing how energy-efficiency reduces emissions of 
criteria air pollutants as well as carbon.
    Support of action by the federal government to promote 
energy-efficiency has also been historically bipartisan. Though 
the establishment of the Department of Energy and energy-
efficiency programs is most often associated with the Carter 
Administration, key advancements in federal efforts were made 
under the Reagan and Bush Administrations. While funding was 
cut severely from Carter-era levels, President Ronald Reagan 
signed the National Appliance Efficiency and Conservation Act 
(NAECA) the law requiring DOE to set energy-efficiency 
standards for appliances and other equipment. That program has 
led to tens of billions of dollars in savings for the American 
people and significant carbon emissions reductions. The Bush 
Administration, in the context of its support for the Rio 
Treaty, began to significantly expand funding for DOE energy-
efficiency and renewable energy efforts and created the Green 
Lights and Energy Star programs at EPA. In addition, President 
Bush signed the Energy Policy Act of 1992, which expanded the 
scope and magnitude of energy-efficiency efforts.
    The House and Senate caucuses devoted to promoting 
renewable energy and energy-efficiency continue that tradition 
of bipartisanship. Currently, the House Renewable Energy Caucus 
features 65 Republicans and 84 Democrats, while the newer 
Senate version counts 10 Republicans and 14 Democrats. Such 
support from all parts of the political spectrum is what has 
made clean energy a driving force in the American economy.
    Mr. Chairman, of the current cosponsors of this 
legislation, 11 are Republicans and 13 are Democrats. Rep. 
Thomas's plan to bolster our nation's energy-efficiency through 
housing follows this long bipartisan tradition of support for 
doing more with less.

An Economic Workhorse for the U.S.

    Energy efficiency makes money and puts people to work. The 
economic gains from energy efficiency come in two forms. The 
greatest benefit comes from displaced costs--money that 
households and businesses can spend elsewhere because they no 
longer have to spend it on energy. That spending includes 
additional investment and hiring additional workers. Direct 
economic benefits come from growth in industries that generate 
energy-efficient products and services. Companies that sell 
insulation or efficient windows domestically and/or for export 
employ Americans in high-skill service and manufacturing jobs. 
Secondary economic benefits come from businesses and consumers 
re-spending these newfound energy savings in sectors of the 
economy which are more labor-intensive than energy supply.

Energy-Efficiency Must Be Measured as an Energy Source

    The U.S. economy has become significantly more energy-
efficient over the past quarter-century. But we often fail to 
realize the actual contribution of energy efficiency to our GDP 
and national well being.
    Mr. Chairman, it isn't easy to compare the contribution of 
energy-efficiency to the environment and the economy with more 
traditional energy sources such as oil and coal. It requires 
the observer to regard saved or unused energy as created energy 
in the same way that oil comes out of the well and coal comes 
out of the mine. In addition, I think that any economist would 
tell you that energy-efficiency measures have increased the 
supply of energy and thus helped to lower the price. Energy not 
used is just as salable and usable when conserved as when 
produced. Upgrades in energy-efficiency made to home 
appliances, industrial equipment, building systems, or car and 
truck fleets serve as an energy source that increases our 
overall supply of electricity, coal, oil, and natural gas.

Energy-Efficiency, our Number 2 Energy Source

    Alliance research shows that, for 1997, the most recent 
year for which we have complete data, energy-efficiency was the 
second leading source of energy for U.S. consumption, and if we 
consider only domestic energy sources, it's number one. Mr. 
Chairman, it would have been number one if we declined to count 
oil imports, now more than half of this nation's oil 
consumption. Our analysis of 1997 energy consumption shows that 
energy efficiency provided the nation with 29.5 quadrillion 
Btus (quads), approximately 25 percent of U.S. energy 
consumption. While energy-efficiency trails our mammoth oil 
consumption (36.3 quads), it significantly outstrips the 
contribution of natural gas (22.5 quads), coal (21.0 quads), 
nuclear (6.7 quads) and hydro (3.8 quads). (See attached 
chart.)
    Mr. Chairman, the contribution of energy-efficiency to our 
nation's overall supply is now so great that we cannot regard 
it as an esoteric externality anymore. It is a commodity just 
like oil and gas, and deserves a the same consideration. We 
must promote and support it in the same way we do the coal belt 
and the oil patch, which enjoy a variety of tax breaks and 
subsidies based on their use of fuel.
    These figures show energy-efficiency for what it is--an 
unparalleled driver of environmentally sound economic growth.
    Mr. Chairman these economic snapshots of efficiency show an 
energy industry that spans the economy and the populace. But it 
is not an energy industry that looks like what we have known in 
the past. However, all the functions of traditional energy 
industries are represented. But with energy-efficiency, the 
miners are businesses trying to cut their costs. The roughnecks 
are homeowners trying to keep their families warmer in the 
winter. The geologists are mechanical engineers working to get 
more out of less. Energy-efficiency is highly dispersed 
throughout the economy. And because of its diffuse nature, 
energy-efficiency doesn't carry the political clout of the 
coal-mining regions, or of the oil and gas-producing regions. 
There is no ``energy-efficiency patch.''
    By the same token there is not a defined energy-efficiency 
industry. Whirlpool makes highly efficient appliances but they 
sell washing machines and refrigerators, not energy efficiency. 
Honeywell sells controls that regulate building systems that 
can save a company millions of dollars a year, not energy 
efficiency. Johns-Manville and Owens-Corning sell fiberglass 
insulation which can make a house warmer, more comfortable, and 
more economical to live in, but they sell insulation, not 
energy-efficiency. Likewise, Andersen Corporation sells highly-
efficient windows, but their first concern is marketing those 
products, not the energy-efficiency they carry with them.
    So when we have to make tough choices about what we do with 
federal dollars, we must think about energy-efficiency as what 
it is--an energy source that is essential for the economic 
health of our nation--and one that is paying off like a gusher 
for the American people. And yes, Mr. Chairman, that energy is 
produced cleanly, displacing both conventional air pollutants 
as well as ones believed by many to be causing a warming of the 
Earth's climate. It enhances our national security, as I have 
spoken of earlier. Energy-efficiency cuts costs for businesses 
and consumers, and it increases our international 
competitiveness--all the things we have traditionally talked 
about.
    The tough choices on our environment and economy--such as 
whether to establish tax credits for efficient homes--must be 
made with a clear eye on the contribution to the environment, 
the economy, national security, and international 
competitiveness delivered in the past and promised for the 
future by energy-efficiency.

                            III. CONCLUSION

    Mr. Chairman, H.R. 1358 and the improvements to it that I 
have discussed here set out a prudent, accountable path to 
significantly upgrade the energy-efficiency of our nation's 
housing stock. It does this not just by subsidizing efficient 
construction, but by teaching more home builders to construct 
more efficient houses, and more consumers about the value of 
owning them. Once a builder is acquainted with energy-efficient 
building practices he or she will more likely realize that they 
are not difficult, that significant strides that can be made 
with off-the-shelf technology, and that energy-efficiency is 
helpful as a marketing tool. Homeowners will realize a 
difference in dollar savings attainable by making relatively 
inexpensive improvements to their home.

A Time For Action

    Mr. Chairman, as I have shown, energy-efficiency has 
provided a massive source of clean, affordable energy to our 
economy, and has significantly reduced air pollution in this 
country. One guarantee for the future is that as our population 
rises, our housing stock will grow with it. Providing 
incentives to improve the energy-efficiency of the our homes 
will have help save American families millions of dollars on 
heating and cooling bills and reduce air pollution 
significantly, while allowing more families to own homes.
    We believe these are highly laudable goals, Mr. Chairman, 
and on behalf of the Coalition for Energy Efficient Homes, I 
urge that you include H.R. 1358 in any tax bill reported by the 
Ways and Means Committee this summer.
    Thank you for your consideration and the opportunity to 
speak before you. I would be happy to take any questions that 
you or other Committee members might have at this time.
      

                                


    Chairman Archer. Thank you.
    Mr. Wallace, welcome. You may proceed.

  STATEMENT OF ERIC P. WALLACE, CERTIFIED PUBLIC ACCOUNTANT, 
PITTSBURGH, PENNSYLVANIA; ON BEHALF OF ASSOCIATED BUILDERS AND 
              CONTRACTORS, INC., ROSSLYN, VIRGINIA

    Mr. Wallace. Thank you, Mr. Chairman. Good afternoon, Mr. 
Chairman and Members of the Committee. My name is Eric Wallace. 
I am a CPA and I speak today on behalf of the Association of 
Builders and Contractors.
    ABC is a national trade association representing more than 
20,000 contractors, subcontractors, material suppliers, and 
related firms from across the country, including all 
specialties, in the construction industry. We would like to 
thank Chairman Archer and the Committee Members for conducting 
this hearing on providing the tax relief to strengthen the 
family and sustain a strong economy.
    I am a practicing CPA with over 20 years of experience 
serving contractors and service providers from across the 
country in the fields of taxation, accounting, auditing, and 
consulting. I recently researched and authored an article 
titled ``The IRS and the Cash Basis Contractor'' that appeared 
in several publications. My extensive experience dealing with 
this issue enables me to provide you specific expertise and 
insight concerning the need for legislation to clarify that 
small business taxpayers are allowed to use the cash method of 
accounting without limitation.
    The IRS is currently targeting nearly all contractors and 
service providers who report their taxable income on the cash 
method of accounting. One of the most onerous changes that a 
contractor or service provider can face is an IRS initiated 
change in its tax accounting method from the cash to the 
accrual method. Such IRS proposed audit changes typically 
subject the taxpayer to over $100,000 due with a significant 
portion of this consisting of mandatory assessed interest and 
penalties.
    The difference between the cash method and the accrual 
method of accounting is not that the cash method necessarily 
results in a greater income. The only difference is one of 
timing of the reporting of income and expenses. For example, if 
a cash basis contractor collects their money early and doesn't 
pay their vendors, they could actually be reporting their 
income earlier. It is a matter of timing, not of collection 
based upon revenue.
    But now more than ever, the IRS is pushing the cash audit 
position on a national level. The IRS spelled out its position 
on the cash basis when, in 1987, it released its Construction 
Audit Technique Guide as part of its market segment 
specialization program. In their Audit Technique Guide, it 
stated that IRS examiners should generally conclude that a 
contractor or service provider should be changed from the cash 
method of accounting when their material costs as a percentage 
of their gross receipts is 15 percent or more. There are not 
that many contractors that would be able to fulfill that 
criterion. And, depending on the facts and circumstances, the 
method when it is less than 15 percent. This position is not 
based upon any specific Tax Code, but is the result of several 
court cases that are successfully litigated by the Service.
    This push is based upon a certain logic flow. The Service 
logic flow is generally summarized as follows: materials are 
merchandise. If the cost of merchandise is over 15 percent of 
gross revenues, it is a significant income-producing factor. If 
it is a significant income-producing factor, they have to use 
inventories. And if they have to use inventories, they are 
required to use an accrual method of accounting. The result of 
this push would leave few if any contractors able to stay on 
the cash accounting method.
    One of the IRS authors of the Audit Technique Guide stated 
to me that the only type of cash contractor that the IRS is 
permitting to stay on the cash method is an asphalt contractor 
who does not maintain their own asphalt plant. All other 
contractors are fair game. The Service denies that there is a 
national coordinated effort to focus on the construction 
contractors and service providers. And they believe that they 
are merely enforcing the laws as they interpret them.
    I, however, do believe there is a national effort, based 
upon the calls that I have received from across the country and 
advising other CPAs and advising construction contractors. For 
example, the IRS audited a carpet installer from Michigan doing 
slightly more than $1 million in revenue with materials and 
supply costing equal to 12 percent of the revenue. The only IRS 
audit adjustment was to change him from cash to the accrual, 
resulting in penalties of almost over $100,000.
    The Service believes that, based upon a selective series of 
court decisions and their interpretation of regulations and 
congressional intent, their position to change all contractors 
and service providers from cash to accrual is justified. But 
that is in conflict with congressional intent on the cash 
method, referring back to the 1986 congressional 
documentations: Quote, ``The Committee recognizes that the cash 
method generally is a simpler method of accounting and that 
simplicity justifies its continued use by certain taxpayers for 
certain types of activities. Small businesses should continue 
to use the cash method of accounting in order to avoid the 
higher cost of compliance, which would result if they are 
forced to switch from the cash method.''
    The IRS specialist who wrote the Audit Technique Guide 
stated to me that the only hope for cash basis contractors is a 
congressional solution. ABC applauds H.R. 2273, introduced by 
Mr. English along with the Small Business Committee Chairman 
Jim Talent, which would provide a much needed congressional 
solution. The English-Talent legislation would stop the IRS' 
universal push against cash basis contractors and service 
providers and enable those small businesses to utilize the 
simple cash method without fear of IRS reprisal. ABC, along 
with a broad-based coalition of other construction groups and 
other organizations, endorses this legislation. We strongly 
urge the Committee to include this common-sense legislation as 
it draft its legislation this year.
    In addition, the ABC would just like to comment on several 
other issues, such as Mr. English's introduction of a bill to 
repeal the look-back method, H.R. 2347; the indexing of 
thresholds for construction contractors including the section 
460 threshold requiring recognization of the percentage of 
completion method; AMT relief, as we have discussed; and, 
certainly, estate tax relief. Again, I would like to thank 
Chairman Archer and the Committee Members for allowing ABC to 
present their concerns regarding these important issues and I 
do welcome the questions you may have.
    [The prepared statement follows:]

Statement of Eric P. Wallace, Certified Public Accountant, Pittsburgh, 
Pennsylvania; on behalf of Associated Builders and Contractors, Inc., 
Rosslyn, Virginia

    Good afternoon, Mr. Chairman and members of the Committee. 
My name is Eric P. Wallace, CPA, and I speak today on behalf of 
Associated Builders and Contractors, Inc. ABC is a national 
trade association representing more than 20,000 contractors, 
subcontractors, material suppliers and related firms from 
across the country including all specialties in the 
construction industry. We would like to thank Chairman Archer 
and the Committee members for conducting this hearing on 
``Providing Tax Relief to Strengthen the Family and Sustain a 
Strong Economy.''
    I am a practicing CPA with over 20 years of experience 
serving contractors and service providers from across the 
country in the fields of taxation, accounting, auditing, and 
consulting. I recently researched and authored an article 
titled ``The IRS and Cash Basis Contractors'' that appeared in 
publications of the Construction Financial Management 
Association as well as ABC. My extensive experience dealing 
with this issue enables me to provide to you specific expertise 
and insight concerning the need for legislation to clarify that 
small business taxpayers are allowed to use the cash method of 
accounting without limitation.
    Later in this statement, ABC would like to weigh in on some 
additional key issues affecting its members, the construction 
industry and the economy as a whole. The complexity and cost of 
these tax burdens are taking a devastating toll on 
contractors--particularly small contractors--and their 
employees. Lifting the weight of these outdated and burdensome 
requirements will allow contractors to devote their time, money 
and resources towards productivity, growth and providing new 
jobs.

                    CASH BASIS METHOD OF ACCOUNTING

    The IRS is targeting just about all contractors and service 
providers who report their taxable income on the cash basis of 
accounting. One of the most onerous audit adjustments a 
contractor or service provider can face is an IRS initiated 
change in its tax accounting method from the cash to the 
accrual method. Such IRS proposed audit changes typically 
subject the taxpayer to over $100,000 due to the IRS with a 
significant portion of this consisting of mandatory assessed 
interest and penalties.
    The difference between the cash method and the accrual 
method is not that the accrual method necessarily results in a 
greater taxable income. The only difference is one of timing of 
the reporting of income and expense. As an example, if a cash 
basis contractor or service provider collects its billings in 
advance and delays the payment of its payables, it will report 
income sooner under the cash method than it would under the 
accrual method.
    Now, more than ever, the IRS is pushing their cash audit 
change position on a national level. The IRS spelled out its 
position on the cash basis when, in late 1997, it released its 
``Construction Audit Technique Guide'' (ATG) as part of its 
Market Segment Specialization Program. In this ATG, it stated 
that IRS examiners should generally conclude that a contractor 
or service provider should be changed from the cash basis of 
accounting when their material cost, as a percentage of their 
gross receipts, is 15% or more, and depending on the facts and 
circumstances, can be changed when the ratio is less than 15%. 
This position is not based on any specific code section but is 
the result of several court cases successfully litigated by the 
Service.
    This push is based upon a certain logic flow. The Service 
foundation logic is generally summarized as follows: materials 
are merchandise; if the cost of merchandise is over 15% of 
gross receipts, it is a significant income producing factor; if 
material is a significant income producing factor, the 
contractor or service provider must use inventories; if the 
taxpayer is required to use inventories, it is required to use 
an accrual method of accounting.
    The result of this national push by the Service would leave 
few, if any, contractors or service providers remaining on the 
cash basis of accounting. One of the IRS authors of the ATG 
stated to me that the only type of cash basis contractor that 
the Service is permitting to stay on the cash basis is an 
asphalt contractor who does not produce their own asphalt in a 
plant. (This is based upon the Galedridge Construction, Inc. v. 
Commissioner, T.C. Memo 1997-240 court case, though the IRS has 
still not agreed to the Galedridge decision.) All other 
contractors or service providers are ``fair game.''
    The Service denies that there is a national coordinated 
effort to focus on construction contractors and service 
providers and that they are merely enforcing the law as they 
interpret it. I, however, do believe that there is a national 
effort based upon the calls that I have received from 
contractors, service providers, and other practicing CPAs from 
across the country. For example, the IRS audited a carpet 
installer from Michigan doing $1.2 million in revenue with 
material and supplies equaling 12% of his revenue. The only 
audit issue was to change him from the cash method to the 
accrual method. The cost to him of such a change was almost 
$100,000. The IRS auditor had used as support the newly 
released IRS ATG. I advised an underground utility pipeline 
contractor from Pennsylvania to voluntarily change from the 
cash method to the accrual method because, if audited by the 
IRS, it would face over $100,000 in interest and penalties. A 
window installer from Texas, with about 20% of revenues for 
materials as a cost of revenue, would be forced out of business 
if the IRS proposed a change from the cash method and assessed 
the mandatory interest and penalties.
    The Service believes, based upon a selective series of 
court decisions and their interpretation of regulations and 
congressional intent, that their position to change all 
contractors and service providers from the cash method of 
accounting to the accrual method is justified. This is in 
conflict with congressional intent on the use of the cash 
method. ``The committee recognizes that the cash method 
generally is a simpler method of accounting and that simplicity 
justifies its continue use by certain types of taxpayers and 
for certain types of activities. Small businesses should be 
allowed to continue to use the cash method of accounting in 
order to avoid the higher cost of compliance which will result 
if they are forced to switch from the cash method.'' [House 
Report 99-426, at 605-606 (1985), 1986-3 C.B. (Vol.2) 1, 605-
606.]
    A head IRS Construction Industry Specialist stated to me 
that, based upon the current IRS approach and court cases, cash 
basis contractors and most service providers will not be able 
to maintain their cash reporting position or have it supported 
in court. Their only hope is a congressional solution.
    ABC applauds legislation introduced by Ways and Means 
member Phil English along with Small Business Committee 
Chairman Jim Talent, which would provide this much-needed 
congressional solution. Mr. Talent included an identical 
provision in the Small Employer Tax Relief Act (H.R. 2087). The 
current ATG states that ``Reg 1.446-1 (a)(4)(i) and 1.471-1 
provide that the use of an inventory accounting method is 
required in every case in which the sale of merchandise is an 
income producing factor. The fact that the use of an inventory 
accounting method may result in inventory balances that are 
zero or minimal is irrelevant.'' It is clear that the Service 
position is inappropriate. The English-Talent legislation would 
stop the Service's universal push against cash basis 
contractors and service providers and enable these small 
businesses to utilize the simpler cash method without fear of 
severe IRS reprisal. ABC, along with a broad-based coalition of 
construction and other organizations from across the small 
business spectrum, endorses this legislation. We strongly urge 
the Committee to include this common sense legislation as it 
drafts its tax legislation this year.

                            LOOK-BACK METHOD

    The construction industry has fallen under a provision in 
the Tax Reform Act of 1986 aimed to target major defense and 
aerospace contractors. The law requires ``percentage of 
completion'' and look-back accounting methods for contracts 
lasting more than one tax year. Contractors must estimate their 
costs and revenues and, upon completion of the contract, ``look 
back'' and substitute the actual costs and revenues for those 
estimated at the conclusion of the prior tax years. 
Construction contractors face look-back calculations can number 
in the thousands and can take between 15 to 30 hours to 
complete for each project. Construction contractors pay 
thousands of dollars each year just to comply with look-back 
requirements without any justification or need to do so.
    Because the majority of construction contracts are 
completed within one or two years and success in the industry 
is dependent on financial accuracy, look-back has no effect on 
``catching'' underreported revenues or gains. Instead, 
approximately 75% of the industry's look-back calculations 
result in zero dollars being remitted to the IRS, and 25% are 
owed money by the IRS. Look-back accounting is an unnecessary 
requirement and an onerous burden on construction contractors 
(as well as the IRS) with virtually no gain to the Treasury. 
The current de minimis rules, including those recently 
implemented as part of 1997 Taxpayer Relief Act, are not 
sufficient relief. ABC strongly supports repeal of look-back 
for commercial construction contractors.

                         INDEXING OF THRESHOLDS

    Several key thresholds in the tax code affect contractors' 
tax liability. These include the $10 million threshold under 
section 460(e) and the $5 million threshold under section 448. 
Since 1986 these amounts have not been adjusted for inflation. 
This has had the effect of forcing contractors to use more 
complex accounting methods.
    ABC believes that these thresholds should be indexed for 
inflation in the same manner as other items are treated in the 
tax code. An example would be how the amount of the personal 
exemption increases each year or the mileage rate increments 
annually.

                     ALTERNATIVE MINIMUM TAX (AMT)

    The corporate AMT was enacted in 1986 to end a perceived 
abuse that corporations were reporting earnings to 
shareholders, yet not paying any federal income tax in that 
year by taking legitimate deductions and credits. The actual 
operation of the AMT has imposed a severe penalty on companies 
whose businesses require large capital investments to modernize 
and remain competitive. The AMT penalizes investment, 
particularly by imposing a considerably slower depreciation 
rate. It doubles compliance costs, forcing corporations to keep 
two separate deduction records and engage in complex 
calculations. The AMT also adds complexity for small 
contractors by requiring use of the percentage of completion 
method for long term contracts.
    AMT proponents see it as a significant revenue source and 
argue that it ensures all corporations reporting income pay at 
a base tax. However, the AMT treats corporations with generally 
the same long-term economic incomes very differently. The AMT 
penalizes capital intensive firms with relatively low profit 
margins for their products. These firms are being denied the 
benefit of accelerated depreciation which is afforded to their 
non-AMT competitors.
    ABC supports repeal or a significant reduction in the 
adverse effects of the AMT. ABC advocates allowing S-
corporations similar treatment to C-corporations regarding 
small company exemptions. Additionally, ABC favors allowing the 
AMT credit to be carried back, as contractors can be unfairly 
penalized due to depreciation and other unique timing 
preferences;

                           ESTATE TAX RELIEF

    Federal estate [death] tax rates have increased 
significantly since their implementation in the early 1900s. 
They are so high now that families must often sell their 
businesses in order to pay the taxes. This in turn creates 
disruption for the employees, customers, and suppliers and the 
community. Death taxes not only jeopardize the survival of 
family-owned construction companies, they also divert critical 
funds that could be invested in the business to grow and 
provide more jobs.
    Construction companies are frequently family owned and do 
not have the liquid assets to withstand an assault from the IRS 
upon the unfortunate death of the owner. Therefore, the 
construction industry is particularly hard hit by the estate 
tax burden. ABC is supportive of legislation that will relieve 
the estate tax burden on businesses. Specific measures ABC 
supports include rate relief, increasing and simplifying the 
exemption for closely held businesses, and indexing the unified 
credit and closely held business exclusion for inflation. 
Ultimately, ABC members would like to see death taxes 
eliminated. ABC strongly supports H.R. 8, the Estate and Gift 
Tax Rate Reduction Act.

                 CAPITAL GAINS CUTS AND SIMPLIFICATION

    The 1986 Tax Reform Act constituted the largest capital 
gains tax hike in more than 50 years. Real Estate and 
Construction were devastated, and have only in the last few 
years recovered. Increasing the exclusion for capital gains 
would unlock hundreds of billions of dollars of unrealized 
capital gains, thus promoting more efficient allocation of 
capital and increasing capital formation, economic growth and 
job creation. Opponents claim a capital gains relief will be a 
tax cut for the rich. In fact, a cut in the capital gains tax 
would actually increase taxes paid by the wealthy and benefit 
poor and working-class Americans most. It would expand economic 
opportunities for the working-class by encouraging capital 
formation, new business creation, and investment in capital-
starved inner cities. It would lead to the creation of more 
than half a million new jobs and increased wages by the year 
2000.
    ABC supports reducing or eliminating the capital gains tax 
burden on businesses and individuals.

                 INDEPENDENT CONTRACTOR SIMPLIFICATION

    Currently, the Internal Revenue Service relies on a 20-
factor test to be classified as an independent contractor. It 
is often criticized as too subjective, arbitrary, inconsistent, 
and burdensome. Considering the fact that back-tax assessments 
imposed on businesses with reclassified employees are often 
large and potentially bankrupting, ABC believes that the test 
for classification should be clear and simple.
    The construction industry faces unique problems due to its 
fluctuating work demand and seasonal forces which affect 
employment levels. Many in the industry can not afford nor have 
the need to maintain specialized trade craftsmen as full-time, 
long-term employees, which may be needed several times 
throughout the year but not enough to warrant full-time or even 
part-time employment. Independent contractors are often the 
perfect answer to a pressing demand for the special skills and 
know-how often required for short term projects.
    Independent contractors are an important sector of the 
economy--there is no better way to become established as a 
small business than to begin as an independent contractor. Many 
ABC members started their own businesses by working as 
independent contractors. Independent contractor relationships 
can be advantageous for all involved. The arrangement allows 
the independent contractor to have the freedom to choose his or 
her work schedule, a business owner the flexibility to adjust 
staff demands with business activity, and the consumer the 
opportunity to benefit from a reasonably priced, quality 
product. ABC believes that companies should be able to make 
sound economic decisions about the classification of 
individuals as employees or independent contractors, without 
fear of misclassification or penalty from the IRS. ABC opposes 
H.R. 1525.

                    SCHOOL CONSTRUCTION TAX CREDITS

    ABC would like to express its strong opposition to tax 
proposals before the Committee that would limit flexibility and 
competition for small contractors by expanding Davis-Bacon 
requirements to school construction tax credits. 
Representatives Charles Rangel (H.R. 1660) and Nancy Johnson 
(H.R. 1760) have introduced bills which would allow states and 
localities to issue special bonds for school improvements and 
construction. The federal government would effectively pay the 
interest via a tax credit to the bond holder.
    H.R. 1660 and H.R. 1760 include an unprecedented expansion 
of the Davis-Bacon Act into the area of school construction tax 
credits for purchasers of qualified school modernization bonds, 
by amending the General Education Provisions Act. As a result, 
this is a wholly new application of the federal Davis-Bacon Act 
to tax credits, without any justification for such an expansion 
into these state and local efforts. Davis-Bacon has been shown 
to increases public construction costs by anywhere from 5 to 38 
percent above what the project would have cost in the private 
sector. The unnecessary costs will be directly passed on to the 
customers--the American taxpayers in these school districts--
who have to pay for the inefficiencies and waste in federal 
programs. Furthermore, the application of Davis-Bacon makes no 
sense because the burdensome requirements of the Act operate as 
a disincentive to contractors and corporations to get involved 
in school construction, undercutting the very purpose of the 
bill which is supposed to be to create tax incentives to 
attract capital.
    In contrast, Chairman Archer's school construction proposal 
would make it easier for state and local governments issuing 
public school construction bonds to comply with the arbitrage 
rebate rules, by extending the time for issuers to spend bond 
proceeds from two to four years. It would preserve local 
control of education funds and help scarce tax dollars go 
farther.
    Congress and the Administration should not be hampering 
efforts to leverage capital into school construction by 
imposing outdated and wasteful Davis-Bacon Act requirements 
that act as an unfunded mandate on local school districts. 
Adding federal Davis-Bacon requirements to local school 
construction tax credits would hurt those who fund, provide, 
and receive public education by forcing school districts to pay 
more for providing less. The inflated construction costs from 
Davis-Bacon will further limit already scarce dollars which 
could be better spent on real efforts to help education, such 
as additional schools, more repairs and facility improvements, 
schoolbooks, computers, and other educational services that 
actually improve classroom learning and benefit school 
children.

                               CONCLUSION

    As stated earlier, these onerous tax provisions are having 
a dramatic negative effect on contractors, their employees and 
the economy as a whole. Much needed legislative changes to 
these outdated and burdensome requirements will allow small 
companies to devote their time, money and resources towards 
productivity, growth and providing new jobs. We would like to 
thank Chairman Archer and the Committee members for allowing 
ABC to present its concerns regarding these important issues, 
and I welcome any questions the Committee may have.
      

                                


    Chairman Archer. Thank you, Mr. Wallace.
    Our remaining witnesses come in tandem. Ms. McMullin, I 
believe you share your time and testimony with Mr. Henderson. 
We are happy to have you before the Committee. Welcome. You may 
proceed.

   STATEMENT OF RUTH R. MCMULLIN, CHAIRPERSON, EAGLE-PICHER 
       PERSONAL INJURY SETTLEMENT TRUST, CINCINNATI, OHIO

    Ms. McMullin. Mr. Chairman, thank you very much. My name is 
Ruth McMullin and I am here as a trustee, as chairperson of the 
Eagle-Picher Personal Injury Settlement Trust to testify on 
behalf and in support of H.R. 580, which has been introduced by 
Congressman Crane and is cosponsored by Congressman Rangel and 
several other Members of this Committee.
    The Eagle-Picher Trust is a settlement fund under section 
468(b). Like other settlement trusts, it was established to pay 
claims of persons who were deemed by a court to have been 
injured. Typically, these trusts are substantially underfunded. 
They can pay claims at nowhere near their full value. The trust 
that I chair is responsible for making payments to people with 
asbestos-related illnesses, past, present, and well into the 
next century.
    Now section 468(b) governs how settlement funds are taxed. 
Currently, settlement funds pay taxes on both capital gains and 
ordinary income tax at the very highest ordinary income tax 
rate. Now in 1986, when the tax rules for settlement funds were 
established, there was no difference in the rate of taxation 
between ordinary income and capital gains and so there was no 
need to specify different rates on those two types of income 
for settlement funds. But now, however, things have changed and 
settlement funds still pay ordinary income tax rates on their 
capital gains. As a result, our beneficiaries are subjected to 
higher taxes on capital gains than any other beneficiaries of 
any other taxable trust or, for that matter, any other 
individual taxpayer.
    H.R. 580 remedies this inequity. It is a very simple bill, 
one that provides capital gains earned by settlement funds to 
be taxed at capital gain rates like all other taxable trusts. 
Simple or not, this bill is extremely important to the 
beneficiaries of long-term settlement funds such as the Eagle-
Picher Trust.
    As trustees, we are obligated to pay claimants several 
decades into the future. Today, asbestos trusts make payments 
to approximately 500,000 people and our actuaries estimate that 
approximately another 500,000 people will become ill and make 
claims that we will have to meet over the next few decades.
    Now, without capital gains relief, trustees of these funds 
cannot prudently invest in equities. trustees of these funds 
need to be able to avail themselves of the long-term growth 
potential which investment in equities would permit. If H.R. 
580 is passed, it will, first, allow us the higher rates of 
return available from equities. And, second, equally 
importantly, it will allow us to invest in ways such as to 
reduce investment risk through critically important 
diversification, particularly important because our trusts will 
last for so many years. Now, even with this bill, our assets 
will fall far short of the amount needed to permit payment in 
full of the claims of our beneficiaries. Nonetheless, it will 
make a huge difference in the lives of our beneficiaries and 
their families, the vast majority of whom are working people, 
sick and who have very limited financial resources.
    Mr. Chairman and Members of the Committee, I want to thank 
you again for the opportunity to testify on behalf of the 
beneficiaries of my trust and other settlement funds. With your 
permission, I am pleased now to introduce Mr. Roosevelt 
Henderson, who is one of those beneficiaries. He can tell you, 
firsthand, exactly how important this bill is to him, to his 
family, to others like him, and to their families. Thank you 
very much.
    [The prepared statement follows:]

Joint Statement of Ruth R. McMullin, Chairperson, Eagle-Picher, 
Personal Injury Settlement Trust, Cincinnati, Ohio; and Roosevelt 
Henderson, Texas City, Texas; on behalf of Eagle-Picher Personal Injury 
Settlement Trust

    Mr. Chairman and members of the Committee, my name is Ruth 
McMullin, and I am Chairperson of the Eagle-Picher Personal 
Injury Settlement Trust.
    Thank you very much for the opportunity to testify in 
support of H.R. 580, which has been introduced by Congressman 
Crane and is cosponsored by Congressman Rangel and several 
other members of this Committee. H.R. 580 is a very simple 
bill. Due to a technical flaw in current law, capital gains 
earned by settlement funds are presently taxed at the highest 
ordinary income tax rate rather than at the rates normally 
applicable to capital gains. That flaw, which appears to be a 
drafting oversight, unfairly penalizes the hundreds of 
thousands of families who depend on settlement funds to help 
pay their medical and living expenses. H.R. 580 would correct 
that flaw by providing that capital gains earned by settlement 
funds would be taxed at a capital gains rate, as is the case 
with all other taxable trusts.
    By way of background, settlement funds are trusts which are 
used in connection with the settlement of certain tort claims. 
The settlement fund which I chair, and others like it, have 
been established in accordance with section 468B of the 
Internal Revenue Code. Section 468B, which was enacted as part 
of the Tax Reform Act of 1986, controls the tax treatment of 
qualified payments to funds used in the extinguishment of tort 
liabilities as well as the taxation of income earned by those 
funds. Section 468B(d)(2) defines a designated settlement fund 
as any fund (1) which is established pursuant to a court order, 
(2) which extinguishes completely the taxpayer's tort liability 
with respect to a class of claimants, as determined by the 
court, (3) which is managed and controlled by persons unrelated 
to the to the taxpayer, (4) in which the taxpayer does not have 
a beneficial interest in the income or corpus, and (5) to which 
no amount may be transferred other than ``qualified payments.''
    Because section 468B does not cross-reference to the 
capital gains rates of section 1(h) of the Internal Revenue 
Code, settlement funds are taxed at the highest ordinary income 
tax rate of 39.6% on both ordinary and capital gains income 
earned before such earnings are distributed to claimants. The 
capital gains earned by all other taxable trusts are taxed at 
capital gains rates, typically 20%. Despite an exhaustive 
search of the legislative history, we have not found any 
explanation of this anomaly. In fact, we have not found any 
evidence that Congress even was aware that section 468B created 
this problem. In view of the fact that there was no difference 
between capital gains and ordinary income rates at the time 
section 468B was enacted, the failure to cross-reference to the 
capital gains rates of section 1(h) in section 468B appears to 
be a drafting oversight. Indeed, Congress traditionally has 
allowed capital gains earned by a trust to be taxed at capital 
gains rates where a differential between the rates exists. For 
example, in ``The Small Business Job Protection Act of 1996,'' 
Congress specifically provided that capital gains earned by 
``electing small business trusts'' be taxed at capital gains 
rates.
    H.R. 580 simply would amend section 468B by adding a cross-
reference to section 1(h), thus ensuring that capital gains 
earned by settlement trusts would be taxed at capital gains 
rates. Doing so is consistent with sound tax policy and simple 
fairness. The burden of taxing a settlement fund's capital 
gains at the highest ordinary income rate falls upon the 
claimants of the fund, thus reducing the amounts that they 
would otherwise be able to recover. Moreover, capital gains 
income should be taxed at the same rate, whether generated by a 
settlement fund, an electing small business trust, or an 
individual.
    Passage of H.R. 580 is particularly important to the 
beneficiaries of settlement funds such as the Eagle-Picher 
Personal Injury Settlement Trust, which will be obligated to 
pay claims several decades into the future. Certain settlement 
funds, such as those established to pay, for example, 
securities fraud claims, distribute all their assets to a 
clearly defined group of claimants over a relatively short 
period of time, typically a matter of months. Those settlement 
funds almost never invest in equities, and thus do not realize 
capital gains. Other settlement funds, most notably those 
established to pay individuals afflicted by asbestos-related 
illnesses, must manage their assets to maximize payments to a 
very large, undefined group of claimants over the course of 
many years. Asbestos settlement funds currently make payments 
to approximately 500,000 persons, and actuaries estimate that 
approximately 500,000 additional claimants will be identified 
in the coming years. Furthermore, those payments will need to 
continue until about the year 2030.
    Unfortunately, the asbestos settlement funds have enough 
funds to pay only a small fraction of the amount of the claims 
against them. Therefore, it is imperative that we be able to 
invest the assets of the trusts in a way to maximize the return 
for our beneficiaries. In general, the best long term returns 
are achieved by investing in equities. Yet investment advisers 
have stated that settlement funds cannot responsibly invest 
more than a very modest part of our portfolios in equities 
given the current taxation of capital gains, and as 
fiduciaries, trustees of the settlement funds must be attentive 
to their advice. Changing the capital gains rate on settlement 
funds would change the investment advisers' asset allocation 
models to permit greater investments in equities. As a 
consequence, passage of H.R. 580 would permit settlement trusts 
to earn a higher return on their investments. In fact, we 
project that that greatest benefit to settlement fund claimants 
would result not from tax savings, but from the reallocation of 
a portion of the portfolios from relatively low-yielding 
assets, such as tax-free municipal bonds, into higher-yielding 
equities. Unfortunately, those investment gains still would 
fall far short of the amounts needed to permit full payment of 
the claims of our beneficiaries. Nonetheless, the additional 
investment income would make a very real difference in the 
lives of our beneficiaries and their families, the vast 
majority of whom are working people with very limited financial 
resources.
    Mr. Chairman and members of the Committee, thank you again 
for the opportunity to testify. I am now pleased to have you 
hear from Mr. Roosevelt Henderson, who can explain this issue 
to you further.
      

                                


    Chairman Archer. Mr. Henderson, we are happy to have you 
before the Committee. I am particularly happy to have another 
Texan sitting out there. We welcome you and we will be glad to 
hear your testimony.

STATEMENT OF ROOSEVELT HENDERSON, TEXAS CITY, TEXAS; ON BEHALF 
 OF EAGLE-PICHER PERSONAL INJURY SETTLEMENT TRUST, CINCINNATI, 
                              OHIO

    Mr. Henderson. Mr. Chairman and the rest of the Members of 
the Committee, I am Roosevelt Henderson from Texas City. I 
would like to thank the Members of the Committee for allowing 
me this opportunity to come before you and talk about H.R. 580.
    This H.R. 580 would allow us to have more money to pay our 
bills, for medical expenses, which these settlements are coming 
from. And we would like to take this opportunity to ask the 
Chairman and the Committee to rely on passing this bill, H.R. 
580. And we want to thank you again, Mr. Chairman. Thank you 
for the job you have done in Texas and we want to continue to 
thank you.
    We just want to be put on the playingfield with everybody 
else. Everybody else is paying 20 percent taxes and we are 
paying 39.6 percent. And we would just like to be put on the 
same playingfield with everybody else. And thank you.
    [The prepared statement follows:]

Statement of Roosevelt Henderson, Texas City, Texas; on behalf of 
Eagle-Picher Personal Injury Settlement Trust, Cincinnati, Ohio

    Mr. Chairman and members of the Committee, my name is 
Roosevelt Henderson and I live in Texas City, Texas. I am here 
to testify on behalf of approximately one million families of 
disabled persons who are, or will be, dependent on settlement 
funds to meet their medical and living expenses. On behalf of 
those families, I strongly urge the Committee to support H.R. 
580.
    For many years, I put installation in industrial plants, 
businesses, and homes in the Texas City area. Because of my 
exposure to asbestos, I developed severe breathing problems and 
was forced to retire. I am a former president of the Texas City 
chapter of the NAACP and I try to remain active in civic 
affairs to the extent my health permits. However, most of my 
time and energies are spent at home, where I care for my wife, 
who is in poor health.
    Mr. Chairman, I am grateful that you have called this 
hearing to discuss tax relief for America's families. I can 
tell you first hand, we need it. I am also grateful for your 
leadership in seeking capital gains tax cuts. You are right 
when you say that capital gains tax relief is important to all 
Americans, no matter what their income levels. My wife and I do 
not have much, but we would certainly benefit if settlement 
funds paid the same lower taxes on capital gains as everyone 
else. Right now, settlement funds set up to pay asbestos-
related claims do not have enough money to pay the full value 
of the claims due to people like me. Ending the unfair tax 
treatment of capital gains earned by settlement funds would 
make a very real difference for my wife and me.
    Finally, I personally want to thank Mr. Crane and Mr. 
Rangel for sponsoring H.R. 580 and for arranging for me to 
speak here today. They are both fine public servants, and I 
know I speak on behalf of all the families that would be helped 
by H.R. 580 in expressing our deep gratitude.
    Mr. Chairman, thank you for the chance to speak with you 
today.
      

                                


    Chairman Archer. Thank you, Mr. Henderson. The Chairman 
would like to put everybody on the same playingfield with a 
zero tax on income, but we will get into that at another time.
    We are very fortunate today, Mr. Henderson. We have got 
another Texan at the other end of the table down there 
appearing with you, Mr. Andrews. I am pleased to hear the 
testimony of every one of you. I thank you for coming.
    I now will find out if any Members wish to inquire.
    Yes, Mr. English.
    Mr. English. Thank you, Mr. Chairman. Mr. Moore, we heard 
testimony at the beginning of this day from Representative 
Turner and comments from Representative Dunn, who have both 
offered different approaches to a reforestation credit. I 
wondered if I could get your comments, given that 
Representative Turner's credit seems to be narrower. 
Representative Dunn's seems to apply to a much broader range of 
taxpayers. My understanding is that your preference would be 
that there be no limit on this credit and that it form the 
basis of a very strong tax policy aimed at encouraging 
reforestation. Could you give us your thoughts on the relative 
benefits of those two approaches?
    Mr. Moore. Yes, Congressman, I would be happy to try. They 
are similar in the extent that both bills deal with the 
reforestation tax credit. Jennifer Dunn's bill also deals with 
corporate capital gains rates on forest products--on trees, 
rather, which Congressman Turner's bill does not. Congressman 
Turner's bill also stops--I think it raises the cap from 
$10,000 where it presently is to $25,000. Ms. Dunn's bill takes 
it off entirely.
    What the effect of that is simply you are targeting the tax 
effect to some very small landowners in the Turner bill 
concept, and that's all well and good. The problem exists 
across the entire panoply of growing trees in the United 
States, and so you are missing the much bigger target. In terms 
of moving the needle of the industry being competitive, his 
bill moves it a notch; Ms. Dunn's bill moves it halfway.
    And, so, for example, in the United States today, corporate 
landowners own probably about 17 percent of the forest land of 
the country, but they produce 45 percent of the wood. That is 
intensive silvaculture going on, which brings on expenses. 
Congressman Turner's bill would completely miss that and would 
go at small landowners who basically aren't producing that much 
wood but own half the forest land in the country and who are 
very important to the process. Congresswoman Dunn's bill 
affects both. It doesn't just affect just the small; it covers 
both. It lowers the capital gains rate on everybody. It raises 
the cap or takes the cap on reforestation expenses for 
everybody.
    And, so you have correctly characterized it. Her bill is 
much broader, affects the entire industry, does a great deal 
more. Our initial indication is, as I said, would put us at 
about the middle of the pack of the country's with whom we 
compete in taxation on forestry operations.
    Mr. English. Thank you, sir.
    Mr. Wallace, I am delighted to see another western 
Pennsylvanian here, and I wondered if I could pursue a line of 
questioning on your testimony?
    First of all--because I think most people really still have 
trouble getting their arms around the real differences between 
cash and accrual. In your view, what does the average 
contractor spend as a percentage of revenue on material or 
merchandise costs?
    Mr. Wallace. I would say, at a minimum, 30 to 50 percent; 
some contractors more, but I would say in order to achieve the 
IRS numbers of 15 percent or less, there are very few, if any, 
contractors are going to meet that number.
    Mr. English. So, in other words, this mandate would be 
applied to almost all contractors.
    Mr. Wallace. That is exactly right, almost all contractors.
    Mr. English. If the IRS continues this push to change all 
contractors with material costs in excess of 15 percent from 
the cash method, what effect would this have on the 
construction industry?
    Mr. Wallace. It is going to have a tremendous negative 
effect on the construction industry. It is going to reduce 
production, the creation of jobs, it is going to require a lot 
of compliance and paperwork, and it is going to require them to 
report their taxes earlier than collecting the funds.
    Mr. English. And if Congress legislates the use of the cash 
method for small contractors of service providers, are you at 
all concerned about the transition end or implementation of 
such a law?
    Mr. Wallace. I am concerned, and I would like to see a 
congressional comment or intent to say to the IRS, ``Let us 
just not enforce this for 1999 and beyond, but don't pick on 
those contractors for the prior years that they are still 
currently auditing, and so forth.''
    Mr. English. And, Mr. Wallace, finally, if the IRS requires 
a contractor's service provider to report their income on the 
accrual method, would this mean that they would pay tax on 
retainages that have not been collected, and doesn't the 
retainage amount typically equal 10 percent of the contract and 
in the majority of times exceed the contractors profit on the 
Federal contract?
    Mr. Wallace. The answer is yes to both of your questions. 
It will require them to report their income earlier, and it is 
going to require them to pay taxes in a greater amount than 
their final profit on the job.
    Mr. English. Thank you, Mr. Wallace, for your testimony. It 
is most helpful in making the case for Congress intervening in 
this issue. Thank you for your time.
    Mr. Wallace. Thank you for your help and the Chairman's 
help.
    Chairman Archer.
    Mr. McCrery.
    Mr. McCrery. Thank you, Mr. Chairman.
    First, just a comment for Mr. Wolyn. I appreciate your 
coming before the Committee today and underscoring the fact 
that business meals are in fact a legitimate business expense, 
particularly for small business people who have to use that as 
a means to market their products.
    But my questions are for Mr. Moore, a fellow Louisianan; 
not because he is a fellow Louisianan, but----
    Chairman Archer. If the gentleman will yield, I intended to 
say that he was an almost Texan. [Laughter.]
    Mr. McCrery. That is right--but because I share Mr. Moore's 
concern about our domestic timber industry, forest products 
industry. Louisiana, of course, has a very large stake in that 
industry. Mr. Moore, would you say that our domestic forest 
products industry is distressed right now?
    Mr. Moore. Yes, Congressman, it is. I will give you some 
examples. We are, by every economist agreement, the second most 
capital intensive industry in the United States, yet we have 
earned the cost of capital once in the last decade--1995. We 
were ranked last year by Fortune magazine--the same magazine 
that said in 1992 we were competitive--ranked the 26 industries 
in the United States in terms of profitability. We were 25th, 
the very bottom. Our imports have gone down dramatically--our 
exports, rather, and imports to the United States in our area 
are going up dramatically. The last factor--there are no new 
mills being built in our industry in the United States; they 
are being built in developing countries. And, so, basically, we 
can try to provide some additional data, but I think those 
indicators pretty well indicate this is an industry that is 
losing its competitive edge and is starting to downsize. We 
lost 10,000 jobs last year. We used to employ 1.5 million; last 
year, we lost 10,000, and we see that trend continuing.
    Mr. McCrery. And you pointed out in your testimony several 
reasons why you think our domestic industry is at a competitive 
disadvantage in the tax treatment, and I agree with that. When 
you look at just the growing trees, for example, why should we 
treat an investment in trees any different from any other 
investment? Is it more risky? Are you less likely--is it easier 
to put your money into some safer investment? Can you expand on 
that?
    Mr. Moore. I think the ultimate optimist is somebody who 
puts money in the ground in trees. Farmers are thought to be 
real optimists, but their crops are generally annual. In this 
business, you put your money in the ground, and you are lucky 
if you can start harvesting or getting anything back. Depending 
on the species and the part of the country you are in, the 
soonest is about 15 to 17 years, and you really get your 
investment back in about 40 years. Meanwhile, you have the risk 
of forest fires, the risk of storms, the risk of insect 
infestation, and there is even theft, and all of this makes 
this a very risky proposition, one that our companies are 
beginning to measure whether it is worth putting the money into 
it or would they do better putting the money someplace else? 
And individuals who are not in our business but just might own 
100 acres of land or 50 acres of land are important to us, 
because they do provide about half of the fiber that our 
industry consumes. They are sitting there 50-years-old 
thinking, ``I am going to put $200 an acre into reforesting an 
acre in land and wait 40 years to recover it?'' And, so, yes, 
it is a pretty risky business, and it is one that Congress has 
recognized. Even the 1986 Tax Act recognized this industry's 
investment was very different from that of others.
    Mr. McCrery. And it is a problem not only for individuals 
but also for corporations. You said that even some corporations 
are beginning to question whether they should put their 
stockholders' money into some other investment, because the 
return is not enough to justify the risk. Is that right?
    Mr. Moore. Exactly. We have seen some companies develop 
housing developments and golf courses out of the forest lands. 
I think if you want to see the country stay forested, there 
needs to be incentives, at least on par with other competing 
countries, to put the trees in the ground. Otherwise, I think 
we are going to see a decline in that.
    Mr. McCrery. Well, besides the obvious advantage of a 
vibrant forest products industry--1.5 million jobs in this 
country--is there an environmental advantage to keeping a 
healthy forest, healthy trees, in this country?
    Mr. Moore. Well, judging by the folks who get upset when we 
cut them even when we plant them, I would say that, yes, there 
must be some advantage to keeping trees in the ground. 
Certainly, it is important for wildlife; it is important to the 
aesthetics--all of us like the thought of there being forest 
there that we might someday take a walk in or hunt or fish in. 
And, so, yes, we think there very definitely is that. If there 
is something to global warming, then, obviously, carbon 
sequestration is very important, and so these things addressed 
in the Dunn bill will promote, hopefully, and begin to take 
some of the incentives out of reforestation; take some of the 
disincentives out of reforestation.
    Mr. McCrery. Thank you, Mr. Moore. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Shaw.
    Mr. Shaw. I would like to follow up just a little bit on 
the previous line of questioning with regard to Henson and the 
planting of the trees. Also, there is not only just the 
environmental considerations that you have talked about, there 
is also the question of erosion. As a matter of fact, there are 
erosion programs whereby the Federal Government actually pays 
people to plant trees to stop the erosion, so it is good for 
clean water, as well.
    And I would like to add to the answer that you gave with 
regard to why would you distinguish this from, perhaps, other 
investments? And another reason is what we are doing is if you 
are farmer and buy fertilizer and whatever you buy, you get to 
write that off; you don't have to wait until that crop comes 
in, and this is just recognizing the tree farmer as a farmer, 
and that is exactly what they are. They just have to wait 
longer for their investment to come back, but I think just from 
the standpoint of just not only competitiveness and the 
environment, I think it is just a question of basic fairness, 
not requiring the capitalization.
    Do we have any figures or do we have any estimates as to 
what it would be to go back to the old law like it used to be, 
just simply saying when you cut your timber and replant it, you 
get to write it off? Do we have any figures on that?
    Mr. Moore. Congressman, we don't. We can try to get those 
for you. I think you could probably get them quicker from the 
Joint Committee than we can. We do have figures, obviously, 
that we have seen on the Dunn bill, but, no, I don't know what 
the revenue loss would be for that.
    Mr. Shaw. I think maybe the Committee ought to take a look 
at that to see what would be the effect rather than going 
through the--writing it off over a period of several years and 
then getting a tax credit. I mean, it is just a quick writeoff. 
Just go back to existing law what it was a number of years ago. 
In fact, since I have been in this Congress, I think that has 
been changed.
    Historic preservation, and it is nice to see you back here 
before this Committee, Mr. Andrews and I know you have been 
very active in this area. This is a piece of legislation that 
really gives you a two-for. You get not only historic 
preservation, but you also get housing, and I can tell you 
having renovated two townhouses on Capitol Hill, it is a little 
costly, and I think that there is certainly a national interest 
in preserving many of these older homes around the country, and 
I think the statistics that you gave us as to how they are 
disappearing is really quite startling, and I would hope that 
that would be included in the bill that finally comes out of 
this Committee and maybe even the Chairman's part.
    Mr. McCrery. Will the gentleman yield?
    Mr. Shaw. Yes, I would be glad to yield.
    Mr. McCrery. If I am not mistaken--Mr. Andrews, correct me 
if I am wrong--but you are here totally on a voluntary basis, 
is that right? [Laughter.]
    Mr. Andrews. Yes, I am. Yes, this is something that I feel 
very strongly about. You know, there are a lot of things that 
need to be done for our country's cities and our 
neighborhoods--fighting crime, better schools, better 
infrastructure. This is one important step, though, that can 
make a significant difference in encouraging families to 
rehabilitate historic structures and preserve our culture and 
our heritage. If you look at every successful city, those 
cities have done a good job of preserving their history and 
their culture and their heritage. They have not allowed their 
neighborhoods to be decimated and razed, and this is a very 
modest cost bill, but it will have far-reaching impacts on 
historic neighborhoods.
    Mr. McCrery. Mr. Chairman, let me clarify, I didn't mean to 
imply that any of the others were here--were compelled to be 
here; I mean that Mr. Andrews is not being paid by the 
association he is representing; he is here just as a volunteer 
on behalf of that cause. So, thanks.
    Chairman Archer. The gentleman might want to quit while he 
is ahead. [Laughter.]
    Mr. Shaw. Thank you. I yield back, Mr. Chairman.
    Chairman Archer. Mr. Moore, one of the things I have noted 
over the years is a misunderstanding about forestry and proper 
management of trees. Is it not true that with proper forest 
management and selective cutting, in contrast to clear cutting, 
there are environment benefits? You reduce the amount of 
greenhouse gases that come from the decaying of older trees 
that are not cut prior to the time that they go into decline.
    Mr. Moore. Yes, Mr. Chairman. Also, you would help prevent 
insect infestation. Anything old tends to get weaker; it tends 
to get sicker; it tends to do less for the environment, and it 
consumes less carbon.
    Chairman Archer. Furthermore, don't you open up the forest 
for the growth of younger trees so that they can produce their 
beneficial effect on the environment?
    Mr. Moore. Yes, that is a raging debate now in the Kyoto 
Protocol discussions of these very points you are making. The 
science of silvaculture and the foresters would say, 
``Absolutely, you are correct on these points.'' That is 
disputed by some who are not trained in forestry.
    Chairman Archer. Thank you. Any other inquiry?
    The Chair thanks all of you for your presentations today, 
we appreciate all of your input, and you are excused.
    There being no further testimony before the Committee, the 
Committee will stand adjourned.
    [Whereupon, at 3:43 p.m., the hearing was adjourned.]
    [Submissions for the record follow:]

Statement of America's Community Bankers

    Mr. Chairman and Members of the Committee:
    America's Community Bankers appreciates this opportunity to 
submit testimony for the record of the hearing on ways to 
strengthen the family and sustain a strong economy. America's 
Community Bankers (ACB) is the national trade association for 
progressive community bankers across the nation. ACB members 
have diverse business strategies based on consumer financial 
services, housing finance, small business lending, and 
community development, and operate under several charter types 
and holding company structures.

                              Introduction

    Our testimony will focus on a single legislative proposal 
that is uniquely suited to both strengthening the family and 
helping to sustain a strong economy. This is a proposal to 
increase the per capita limit on the low-income housing tax 
credit (LIHTC) from $1.25 to $1.75. It was introduced in the 
House this year by Representatives Nancy Johnson and Charles 
Rangel as H.R. 175 and introduced in the Senate this year by 
Senators Connie Mack and Bob Graham as S. 1017, as well as 
advocated in the Administration's fiscal year 2000 budget 
proposal. As an important part of the thrift industry's 
commitment to housing, ACB's member institutions have been 
participants, as direct lenders and, through subsidiaries and 
affiliates, as investors, in many low-income housing projects 
that were viable only because of the LIHTC. The per capita 
ceiling on the annual allocation of the LIHTC has not been 
increased since the credit was created by the Tax Reform Act of 
1986. Many member institutions have communicated to ACB that 
there are shortages of affordable rental housing in their 
communities and that, if the supply of LIHTCs were increased, 
such housing could be more efficiently produced to address this 
shortage.
    Experts in the field have commented on the unique ability 
of the LIHTC to strengthen the family and create private sector 
jobs that strengthen the economy. For example, Joseph Lynch, 
the Commissioner of the New York State Division of Housing and 
Community Renewal testified on May 27, 1999, at the IRS public 
hearing on proposed regulations intended to enhance the 
compliance monitoring of LIHTC projects (REG 114664-97) that:

          ``It is important to note that the housing credit not only 
        develops and preserves decent housing, it also stimulates 
        business activity, creating private sector jobs and generating 
        tax revenues. Based on information provided by the National 
        Association of Home Builders, my staff estimates that the 
        housing credit assisted development of those 30,840 units that 
        I talked about has created more than 31, 765 jobs and generated 
        more than a billion dollars in wages and more than half a 
        billion dollars in combined federal, state, and local tax 
        revenues and fees, the bottom line is that the housing credit 
        is a very wise investment, a wise investment for the federal 
        government, for the states, for private investors, and for low-
        income families and other citizens who live in decent, safe, 
        and affordable housing made possible by the credit.''

                               Background

    The LIHTC was created in 1986, and made permanent in 1993, 
to replace a variety of housing subsidies, the efficiency of 
which had been called into question. Under Section 42 of the 
Internal Revenue Code, a comprehensive regime of allocation and 
oversight was created, requiring the involvement of both the 
IRS and state and local housing authorities, to assure that the 
LIHTC is targeted to increase the available rental units for 
low-income citizens. This statutory scheme has been revised in 
several subsequent tax acts to eliminate potential abuses.
    Nevertheless, the Code does impose the judgment of federal 
bureaucrats over that of state housing agencies in making 
credit allocations. Section 42 requires the housing credit 
allocation agencies to develop qualified allocation plans to 
target their tax credits to proposed housing projects that meet 
their ``housing priorities'' and that include selection 
criteria that are ``appropriate to local conditions.'' In 
addition the Code requires the agencies to ``give preference'' 
to projects ``serving the lowest-income tenants'' and projects 
``obligated to serve qualified tenants for the longest 
periods.'' Because the Code does not define these terms or set 
forth the procedures for implementing the program's 
requirements, it gives the allocating agencies the flexibility 
to respond to their particular needs.
    Every year since 1987, each state has been allocated a 
total amount of LIHTCs equal to $1.25 per resident. The annual 
per capita limit may be increased by a reallocation of the 
unused credits previously allocated to other states, as well as 
the state's unused LIHTC allocations from prior years. The 
annual allocation must be awarded within two years or returned 
for reallocation to other states. State and local housing 
authorities are authorized by state law or decree to award the 
state's allocation of LIHTCs to developers who apply by 
submitting proposals to develop qualified low-income housing 
projects.
    A ``qualified low-income project'' under Section 42(g) of 
the Code is one that satisfies the following conditions. (1) It 
must reserve at least 20 percent of its available units for 
households earning no more than 50 percent of the area's median 
gross income, adjusted for family size, or at least 40 percent 
of the units must be reserved for households earning no more 
than 60 percent of the area's median gross income, adjusted for 
family size. (2) The rents (including utility charges) must be 
restricted for tenants in the low-income units to 30 percent of 
an imputed rental income limitation based on the number of 
bedrooms in the unit. (3) During a compliance period, the 
project must meet habitability standards and operate under the 
above rent and income restrictions. The compliance period is 15 
years for all projects placed in service before 1990. 
Amendments in 1989 extended the period for which credit project 
are required to serve low-income households to 30 years, but 
included an exception that, in some instances, could permit a 
sale that would result in the project's conversion to market 
rental rates after 15 years.
    Putting together a qualifying proposal is, however, only 
the first step for a developer seeking an LIHTC award. The 
state or local housing agency is required to select from among 
all of the qualifying projects by means of a LIHTC allocation 
plan satisfying the requirements of Section 42(m). The 
allocation plan must set forth housing priorities appropriate 
to local conditions and preference must be given to projects 
that will serve the lowest-income tenants and will serve 
qualified tenants for the longest time.
    Section 42 effectively requires state and local housing 
agencies to create a bidding process among developers to ensure 
that the LIHTCs are allocated to meet housing needs 
efficiently. To this end the Code imposes a general limitation 
on the maximum LIHTC award that can be made to any one project. 
Under Section 42(b) the maximum award to any one project is 
limited to nine percent of the ``qualified basis'' (in general, 
development costs, excluding the cost of land, syndication, 
marketing, obtaining permanent financing, and rent reserves) of 
a newly constructed building. Qualified basis may be adjusted 
by up to 30 percent for projects in a qualified census tract or 
``difficult development area.'' For federally subsidized 
projects and substantial rehabilitations of existing buildings, 
the maximum annual credit is reduced to four percent. The nine 
and four percent annual credits are payable over 10 years. In 
1987, the first year of the LIHTC, the 10-year stream of these 
credits was equivalent to a present value of 70 percent and 30 
percent, respectively, of qualified basis. Since 1987, the 
Treasury has applied a statutory discount rate to the nominal 
annual credit percentages to maintain the 70 and 30 percent 
rates.
    The LIHTC has to be taken over 10 years, but the period 
that the project must be in compliance with the habitability 
and rent and income restrictions is 15 years. This creates an 
additional complication. The portion of the LIHTC that should 
theoretically be taken in years 11 through 15 is actually taken 
pro rata during the first 10 years. Where there is 
noncompliance with the project's low-income units during years 
11 through 15, the related portion of the LIHTC that was, in 
effect, paid in advance will be recaptured.
    Where federally subsidized loans are used to finance new 
construction or substantial rehabilitation, the developer may 
elect to qualify for the 70 percent present value of the credit 
by reducing the qualified basis of the property. Where federal 
subsidies are subsequently obtained during the 15-year 
compliance period, the qualified basis must then be adjusted. 
On the other hand, certain federal subsidies do not affect the 
LIHTC amount, such as the Affordable Housing Program of the 
Federal Home Loan Banks, Community Development Block Grants, 
and HOME Investment Partnership Act funds.
    The LIHTCs awarded to developers are, typically, offered to 
syndicators of limited partnerships. Because of the required 
rent restrictions on the project, the syndications attract 
investors who are more interested in the LIHTCs and other 
deductions the project will generate than the unlikely prospect 
of rental profit. The partners, who may be individuals or 
corporations, in essence, provide the equity for the project, 
while the developer's financial stake may be limited to 
providing the debt financing.
    The LIHTC is limited, however, in its tax shelter potential 
for the individual investor. Individuals are limited by the 
passive loss rules to offsetting no more than $25,000 of active 
income (wages and business profits) with credits and losses 
from rental real estate activities. For an individual in the 
28% bracket, for example, the benefit from the LIHTC would be 
limited to $7,000. It should also be borne in mind that such 
credits are unavailable against the alternative minimum tax 
liability of individuals and corporations.

                         No Abuses Found by GAO

    Three years ago the Chairs of the Ways and Means Committee 
and its Subcommittee on Oversight requested the GAO to study 
the LIHTC program and, specifically, to evaluate: whether the 
LIHTC was being used to meet state priority housing needs; 
whether the costs were reasonable; and whether adequate 
oversight was being performed. The resulting GAO report, which 
took more than a year to compile, amounted to, in the measured 
terms of such reports, a validation of the program. (The report 
was careful ``o emphasize that GAO has never taken a position 
on whether the tax credit should be retained or repealed.'' See 
Tax Credits: Opportunities to Improve Oversight of the Low-
Income Housing Program (GAO/GGD/RCED-97-55, March 28, 1997, p. 
52).
    Among the GAO findings were the following:
    1. Although renters in credit properties are permitted by 
the Code to earn up to 60% of the local area's median income, 
the actual renters earn on average 37% of the local median and 
more than three-fourths meet HUD's definition of ``very low 
income''--i.e., their incomes were below 50% of the local 
median income. (To verify tenant income, GAO selected a random 
sample of at least one tenant in each of the randomly sampled 
projects and reviewed IRS tax return data on those tenants.
    2. The average monthly rent of about $453 per apartment in 
a credit property is below market--as much as 23% below the 
maximum rent set by the Code and 25% below HUD's national Fair 
Market Rent.
    3. About 26% of the properties were intended to serve 
primarily the elderly and about 5% were intended to serve 
people with special needs. About 53% of the properties were in 
rural areas, 36% were in urban areas, and the remainder were in 
suburban areas.
    4. States are giving preference in awarding credit to 
projects dedicated to providing low-income housing for more 
than the 30-year compliance period required for properties 
placed in service after 1989. Two-thirds of the projects 
studied by the GAO had extended use commitments to low-income 
tenants longer than 30 years or had waived the option to 
convert to market rate after the fifteenth year.
    5. Development costs for credit properties are reasonable. 
The average cost of developing credit properties was about 
$60,000 per unit and about two-thirds of these units cost less 
than or the same as the average noncredit unit.
    6. Section 42 requires the states to consider the 
``reasonableness'' of project development costs, but does not 
specify a national standard of reasonableness. The states have 
adopted a number of practices to directly control costs and to 
manage competition in ways that will promote cost control. The 
National Council of State Housing Agencies has provided ``best 
practice'' guidance on cost control. Of the 54 allocating 
agencies surveyed by the GAO, 48 have established guidelines 
for controlling overall project construction costs. The 
remaining agencies reported that they rely on competition in 
the application process or on their staff's expertise to 
control development costs.

                  Proposed IRS Compliance Regulations

    While the GAO could find no actual abuses or fraud in the 
LIHTC program, it did determine that the procedures that some 
states use to review and implement project proposals needed to 
be improved. The report recommended changes in the appropriate 
IRS regulations with respect to existing state agency 
compliance procedures used to ensure the eligibility of 
projects for the credit. The GAO also recommended that the IRS 
regulations be amended to establish clear requirements to 
ensure independent verification of the developer's information 
on sources and uses of funds submitted to a state agency. The 
assurance of reliable and complete cost and financing 
information will enable state agencies to avoid providing more 
(or fewer) credits than are actually authorized.
    In response to the GAO recommendation the IRS issued 
proposed regulations under section 42(m)(1)(B)(iii) of the Code 
that substantially toughened the compliance monitoring 
currently required of the state agencies administering the 
LIHTC. Under the proposed regulations state agencies will be 
required to conduct an on-site inspection of every one of their 
LIHTC projects at least once every three years, including a 
review of the compliance records of 20% of the project's 
tenants. The agencies will be required to conduct an on-site 
inspection of each new project by the end of the year following 
the year it is placed in service, including a review of the 
compliance documents for 100% of the tenants. In addition, the 
proposed regulations would shift to the state agencies the 
responsibility for conducting all health, safety, and building 
code inspections of LIHTC projects and would require such 
inspections at least once every three years.
    The proposed regulations also require that, under section 
42(m)(2)(A) of the Code, the developer must obtain a CPA's 
audit opinion on the accuracy of the financial statements and 
certifications provided by the developer to the state agency, 
including the costs that may qualify for inclusion in eligible 
basis under section 42(d) and the amount of the LIHTC. At the 
hearing on the proposed regulations held on May 27, 1999, The 
three, out of the four, speakers who represented state agencies 
and developers stated that these new requirements were too 
burdensome.

                 The Necessity for Expanding the LIHTC

    The GAO, after a detailed examination, found no evidence 
that fraud or abuse is occurring in the LIHTC program and did 
find substantial evidence that the program is working as 
Congress intended to provide the genuinely needy with decent 
affordable housing. The IRS, at the recommendation of the GAO, 
has issued stringent proposed regulations that are intended to 
assure compliance with the congressional purpose expressed in 
the LIHTC statute. Whether or not these proposed regulations 
would impose compliance burdens on state agencies and 
developers that are too onerous, Congress should at least be 
assured that the IRS is diligently working to eliminate any 
potential for fraud of abuse in the LIHTC.
    The only problem with the LIHTC is its insufficiency to 
meet the urgent need that currently exists for affordable 
housing. The only increase in the total amount of LIHTCs since 
1987 has been through population growth, which has been only 
five percent nationwide over the 10-year period (floor 
statement of Senator Alphonse D'Amato, October 3, 1997). Had 
the $1.25 per capita limit been indexed for inflation since the 
inception of the LIHTC, as is commonly done in other Code 
provisions, it would be comparable to the $1.75 limit the 
Administration is proposing. According to the Joint Committee 
on Taxation, the Consumer Price Index measurement of cumulative 
inflation between 1986 and the third quarter of 1998 was 
approximately 49.5 percent. Using this index to adjust the per 
capita limit, it would now be approximately $1.87. The GDP 
price deflator for residential fixed investment indicates 39.9 
percent price inflation, which would have increased the per 
capita limit to approximately $1.75. (See Joint Committee on 
Taxation, Description of Revenue Provisions Contained in the 
President's Fiscal Year 2000 Budget Proposal (JCS-1-99), 
February 22, 1999)
    More affordable low-income housing is urgently needed. 
``Despite the success of the Housing Credit in meeting 
affordable rental housing needs, the apartments it helps 
finance can barely keep pace with the nearly 100,000 low cost 
apartments which were demolished, abandoned, or converted to 
market use each year. Demand for Housing Credits currently 
outstrips supply by more than three to one nationwide. 
Increasing the cap as I propose would allow states to finance 
approximately 27,000 more critically needed low-income 
apartments each year using the Housing Credit, helping to meet 
this growing need.'' (floor statement of Representative Nancy 
Johnson, January 6, 1999).
    ``And, as Adam Smith would have predicted, this incentive 
does the job. Since 1987, state agencies have allocated over $3 
billion in Housing Credits to help finance nearly one million 
apartments for low income families, including 70,000 apartments 
in 1997. In my own state of Florida, the Credit is responsible 
for helping finance over 52,000 apartments for low income 
families, including 3,300 apartments in 1997. The demand for 
Housing Credits nationwide currently outstrips supply by more 
than three to one'' (floor statement of Senator Connie Mack, 
May 12, 1999).
    ``In the state of Florida, for example, the LIHTC has used 
more than $187 million in tax credits to produce approximately 
42,000 affordable rental units valued at over $2.2 billion. Tax 
credit dollars are leveraged at an average of $12 to $1. 
Nevertheless, in 1996, nationwide demand for the housing credit 
greatly outpaced supply by a ratio of nearly 3 to 1. In 
Florida, credits are distributed based upon a competitive 
application process and many worthwhile projects are denied due 
to a lack of tax credit authority'' (floor statement of Senator 
Bob Graham, October 3, 1997).
    ``In 1996, states received applications requesting more 
than $1.2 billion in housing credits-- far surpassing the $365 
million in credit authority available to allocate that year. In 
New York, the New York Division of Housing and Community 
Renewal received applications requesting more than $104 million 
in housing credits in 1996--nearly four times the $29 million 
in credit authority it already had available'' (floor statement 
of Senator Alphonse D'Amato, October 3, 1997). ``The Housing 
Credit is the primary federal-state tool for producing 
affordable rental housing all across the country. Since it was 
established, state agencies have allocated over $3 billion in 
Housing Credits to help finance nearly one million homes for 
low income families, including 70,000 apartments in 1997. In my 
own state of Connecticut, the Credit is responsible for helping 
finance over 7,000 apartments for low income families, 
including 650 apartments in 1997'' (floor statement of 
Representative Nancy Johnson, January 6, 1999).

                               Conclusion

    Based on the foregoing, it is clear that it is time to 
increase the LIHTC. Increasing the availability of the LIHTC is 
one of the top legislative priorities of ACB. Our members have 
been in the forefront of those who have been using the LIHTC to 
profitably increase the housing stock of their communities and, 
by their use of the LIHTC, our members are proving that it is 
possible to do well by doing good in their communities. ACB 
appreciates very much this opportunity to testify for the 
record of this important hearing and commends you, Mister 
Chairman, and the members of the Subcommittee for holding it. 
If you have any questions or if ACB can be of further 
assistance, please do not hesitate to call James O'Connor, at 
202-857-3125.
      

                                


Joint Statement of American Association of Colleges of Osteopathic 
Medicine, Chevy Chase, MD; and Association of American Medical Colleges

    The Association of American Medical Colleges (AAMC) and the 
American Association of Colleges of Osteopathic Medicine 
(AACOM) are pleased to have this opportunity to comment on 
reducing the tax burden on individuals through increased 
education incentives.
    We believe that there is a compelling public interest in 
exempting payments for tuition and education-related expenses 
under the National Health Service Corps (NHSC) Scholarship 
Program from gross income for tax calculation purposes. The 
NHSC Scholarship Program provides highly educated health care 
professionals to federally-designated health professional 
shortage areas, often in rural or inner city locations. By 
levying a tax on the tuition and fees portion of NHSC 
scholarships, participation in the program is jeopardized, 
threatening the ability of under-served health communities to 
secure needed medical providers.
    The NHSC Scholarship Program was established more than 20 
years ago to provide health professions students with funding 
to cover tuition and education related expenses, as well as a 
monthly stipend for living expenses, in exchange for a 
commitment to provide primary health care services in a 
federally-designated health professional shortage area (HPSA). 
During this time, the NHSC Scholarship Program has produced 
over 23,000 doctors, physician assistants, nurse midwives and 
other health care professionals. The program attracts a 
culturally diverse applicant pool--over 40 percent of 
recipients are minorities--who are more sensitive to the health 
care issues in underserved areas, but at the same time also are 
more sensitive to incurring debt. Because the imposition of tax 
on the scholarship drastically reduces the amount of the 
monthly stipend, students may be forced to find additional 
funding sources or look at other scholarship options, reducing 
the ability to fulfill the national priority of increasing 
access to health care in medically underserved areas.
    On August 29, 1997, the NHSC sent notification to health 
professions schools and students of their intention, based on 
the result of a new Internal Revenue Service (IRS) 
interpretation, to begin withholding federal income tax on the 
entire amount of scholarships awarded to NHSC scholarship 
recipients. According to the IRS, taxation of the entire 
scholarship amount is required to comply with a change in the 
tax code, specifically a 1986 amendment to 26 USC 117 (c).
    In 1994, the NHSC sought clarification of the 1986 
amendment to section 117 (c) from the IRS. The IRS 
interpretation concluded that NHSC scholarships are awarded as 
payment for substantial future services and therefore are not 
excludable from gross income under section 117 (c). The IRS 
distinguishes NHSC scholarships from other award programs 
administered by the Department of Health and Human Services 
such as Scholarships for Students with Exceptional Financial 
Need (EFN), Financial Assistance for Disadvantaged Health 
Professions Students (FADHPS), and Mental Health Clinical 
Traineeship (MHCT). The IRS concluded that these programs ``do 
not impose the same substantial quid pro quo service 
requirements on the participants as are imposed upon NHSC 
participants'' and therefore are not subject to the same 
federal taxation.
    Prior to 1986, NHSC scholarship recipients were required to 
pay federal tax only on the stipend portion of the scholarship. 
Tuition and related expenses were excluded from gross income. 
Although an unintended effect of the Tax Reform Act of 1986 was 
to levy tax on NHSC scholarships, the provision went unnoticed 
and unenforced until the NHSC's 1994 inquiry. To comply with 
the 1997 IRS interpretation, the NHSC began withholding the 
entire tax obligation from the stipend part of the scholarship, 
beginning December 1, 1997. Many NHSC scholarship recipients 
encountered drastic reductions in the amount of their monthly 
stipends as a result of the IRS interpretation.
    A reduced stipend is likely to cause these students to seek 
supplemental financial assistance to meet their living expenses 
and creates a disincentive for students to participate in the 
program. The high cost of medical school tuition means that 
students could face thousands of dollars in tax payments on 
their scholarships. In addition, NHSC analysis shows that 
students in their second, third and fourth years of study are 
impacted to even greater degrees. In a worst case scenario, the 
NHSC estimates that a fourth year student at a high-cost 
institution would not only forfeit the entire stipend in 
federal tax payments, but additionally owe nearly $300.
    Bipartisan legislation aimed at exempting NHSC scholarship 
payments from income for tax purposes was recently introduced 
in both chambers of Congress. Representatives Nancy Johnson (R-
Conn.) and Karen Thurman (D-Fla.) introduced H.R. 1414 on April 
14, 1999, and Senator Jim Jeffords (R-Vt.) introduced S. 288 on 
January 21, 1999. This version also exempts scholarships 
granted under the F. Edward Hebert Armed Forces Health 
Professions Scholarship and Financial Assistance Program. The 
proposal is also part of Senate Finance Committee Chairman 
William Roth's (R-Del.) education tax break package which was 
approved by his committee on May 19, 1999. The section related 
to NHSC and Armed Forces scholarship exemptions was costed at 
only $8 million over the next 10 years. This is a minimal price 
to pay to increase access to high quality health care in 
underserved areas.
    There also is no opposition to this proposal. The current 
congressional proposals include significant support from both 
sides of the aisle, and similar language was approved by both 
chambers in the 105th Congress before being vetoed by the 
president for unrelated reasons. However, the Administration 
included a similar proposal in the FY 2000 budget request as 
part of a larger administration proposal to expand education 
initiatives. In the Analytical Perspectives volume of the FY 
2000 Budget Proposal, the Administration proposes to amend 
current law to provide that ``any amounts received by an 
individual under the NHSC Scholarship Program or the Armed 
Forces Health Professions Scholarship and Financial Assistance 
Program are `qualified scholarships' excludable from income, 
without regard to the recipient's future service obligation.''
    In conclusion, the AAMC and AACOM believe that taxing 
tuition and education related expenses under the NHSC 
Scholarship Program creates a disincentive to participation in 
a program that serves a compelling national public policy 
interest. As you compose legislation aimed at reducing the tax 
burden on individuals, we urge you to include a provision 
exempting these important scholarships from gross income for 
tax purposes.
    The AAMC represents the nation's 125 accredited medical 
schools, some 400 major teaching hospitals and health systems, 
86 professional and scientific societies representing 87,000 
faculty members, and the nation's medical students and 
residents.
    AACOM represents the 19 accredited colleges of osteopathic 
medicine in the United States as well as all osteopathic 
medical students and osteopathic interns and residents.
      

                                


          American Association of Engineering Societies    
                                  Washington, DC 20036-3690
                                                      June 14, 1999

The Honorable William Archer
Chairman
Ways and Means Committee
U.S. House of Representatives
Washington, DC 20515

    Dear Mr. Chairman:

    The Engineers Public Policy Council of the American Association of 
Engineering Societies strongly supports HR 1682, the Private Sector 
Research and Development Investment Act of 1999 that was introduced by 
Representatives Wilson and Ford. This legislation would make the 
federal Research and Experimentation Tax Credit permanent and expand 
the basic research credit component. Enclosed is a copy of our position 
statement, which we would appreciate being placed in the record of your 
committee's June 23rd hearing.
    Federal policy should foster investment in research, both public 
and private, in order to ensure our nation's ability to compete in the 
market place of the 21st Century. Making the credit permanent should be 
a top priority for Congress to enable private industry to create long-
term research plans that will benefit all of society.
    The R&E tax credit provides a vital incentive for private companies 
to increase their R&D spending in the U.S. The credit is both a good 
investment in U.S. productivity and job growth, as well as a critical 
compliment to direct federal support for R&D. Investment in engineering 
and science research is the lifeblood of technological innovation, 
which drives U.S. economic growth, environmental progress, and national 
security. Private firms fund almost two-thirds of the nation's 
engineering and science research.
    AAES notes that only HR 1682 seeks to address the gross under-
utilization of the basic research credit. The enhancements proposed by 
this legislation will spur private industry to undertake more basic 
research programs, many at our nation's research universities. The 
results will not only include great advances in our body of knowledge, 
but also the training of the next generation of researchers.
    If you have any questions, please feel free to contact Pete Leon, 
AAES Director of Public Policy at (202) 296-2237.

            Sincerely,
                                      Dr. Theodore T. Saito
                                                    1999 EPPC Chair
      

                                


American Association of Engineering Societies Recommendations

                     Make the R&E Credit Permanent

    The R&E credit should be made a permanent part of the tax 
code. While the temporary nature of the credit was originally 
justified as a way to review the performance of the law, 17 
years has been a more than adequate review period. A recent 
study by Coopers and Lybrand claimed that a permanent credit 
would stimulate $41 billion in additional R&D by 2010. While 
current budget constraints are cited as the principal barrier 
to permanence, we urge Congress to give more weight to the 
expected long-term gains to society of a permanent credit than 
is given to short-term revenue loss.

 Reform the ``Basic Research Credit'' to Promote Collaborative Research

    Studies by the Office of Technology Assessment (OTA), 
Congressional Research Service (CRS), and others conclude that 
the current ``Basic Research Credit'' is ineffective. We 
believe this is due to its narrow definition of research and 
its incremental nature. According to OTA, basic research 
payments to universities and other qualified organizations 
represented only 0.4 percent of total qualified research in 
1992.
    The definition of research under this provision should be 
expanded to include all long-term, high-risk collaborative 
research. While one of the strengths of the R&E credit is that 
it leaves decisions on what research areas to fund to the 
private sector, a robust incentive for long-term collaborative 
research would increase the credit's spillover benefits to 
society. Such a credit should foster basic and long-term 
precompetitive research, which industry has cut back on, and 
promote company-to-company, company-to-university, and company-
to-federal laboratory partnerships. It should also include 
expenditures for collaborative research involving nonprofit 
research centers.
    Further, because this type of research does not represent a 
major portion of a typical company's R&D budget, an incremental 
design--as is currently used under the Basic Research Credit--
is not likely to affect decisions on R&D strategies and, thus, 
not provide a sufficient incentive. By contrast, a 20% flat 
credit would be much simpler and would likely create the needed 
incentive for firm's to pursue more long-term research through 
joint ventures with universities, laboratories, nonprofit 
centers, and industry-wide consortia. Such research allows 
firms to share costs, hedge risks, and broaden their 
technological competence. It can also speed the rate of 
technology diffusion across firms and produce multiple societal 
benefits.

                         Adjust the Base Period

    To be fair and effective, the base amount realistically has 
to account for changes in a firm's research intensity over 
time. The current 1984-88 period is both discriminatory and 
outdated. While some firms do very well with this base period, 
many others reap little or no benefit because their sales have 
grown faster (or fallen more slowly) than their qualified 
research expenses since the base period. The current 1984-88 
base simply is not a reasonable benchmark for many companies 
given their current business conditions. One proposal worth 
considering is to permit companies to use any 4-year period 
within the previous 10 years, which would better match their 
current business environment while retaining the incremental 
nature of the credit.

                          Repeal the 50% Rule

    The 50% rule reduces the value of the credit to firms that 
have substantially increased their R&D spending over their base 
period. This rule is particularly troublesome for small firms, 
which produce the lion's share of new jobs in the U.S. Under 
the 50% rule, many high-tech start up firms often see the 
effective rate of the R&E tax credit cut in half.
      

                                


American Association of Engineering Societies

The Federal R&E Tax Credit

June 16, 1998

                        Summary Recommendations

     Make the R&D Tax Credit Permanent
     Reform the ``Basic Research Credit'' to Promote 
Collaborative Research
     Adjust the Base Period
     Repeal the 50% Rule

                              Introduction

    Investment in science and engineering research is the 
lifeblood of technological innovation, which drives U.S. 
economic growth, environmental progress, and national security. 
Almost two-thirds of the nation's science and engineering 
research is funded by private firms. The federal share of total 
U.S. R&D investment has decreased steadily and currently 
represents 31% of total R&D spending, down from 57% in 1970.
    The increasing role of the private sector in funding U.S. 
science and engineering R&D is likely to continue. Moreover, 
considering that private firms typically underinvest in R&D 
when responding solely to the marketplace and that real R&D 
growth in many manufacturing industries has declined, federal 
policies--both direct and indirect--that induce additional 
private R&D investment are essential. Currently, the Research 
and Experimentation (R&E) tax credit is the centerpiece of the 
federal government's indirect support for R&D.
    The American Association of Engineering Societies (AAES) 
believes that the R&E tax credit provides an important, market-
driven incentive for companies to increase their R&D spending 
in the U.S. The credit is both a good investment in U.S. 
productivity and job growth and a critical complement to direct 
federal subsidies for R&D.

                        How the R&E Credit Works

    In 1981, Congress created the R&E tax credit to encourage 
business to increase their R&D spending in the U.S. Under 
section 41 of the Internal Revenue Code, a firm can claim a 20% 
tax credit on the amount by which its qualified research 
expenditures (QREs) exceed a base level. Such an incremental 
design, in principle, minimizes the likelihood of providing a 
tax subsidy to a firm for R&D that would have taken place in 
the absence of the credit.
    The base amount is determined by multiplying a firm's 
``fixed base percentage'' (the ratio of its combined QREs from 
1984-88 to its combined gross income in that period) by its 
average gross income in the preceding 4 tax years.
    QREs generally include salaries and wages, supplies, and 
65% of the total amount paid for contract research. Basic 
research payments to universities and other scientific research 
organizations are also treated as QREs. The primary 
expenditures that do not qualify are property, plant, and 
equipment costs as well as depreciation on R&D capital goods. 
Qualified research, while not well defined under section 41, 
must be technological in nature and relate to the development 
of new or improved business components. Generally, roughly 50 
percent of industry R&D expenditures qualify for the tax 
credit.

                 Importance to Engineers and Scientists

    Because almost 70% of R&E tax credit dollars claimed are 
investments in the salaries of U.S. research employees, the 
credit benefits engineers and scientists directly by fostering 
high-skilled, high-paying jobs in the U.S. In addition to the 
direct benefit on jobs and wages of engineers and scientists, 
most studies show that the credit stimulates substantial 
amounts of additional science and engineering research, which 
improves productivity across virtually all industries and, 
thus, our economic strength and standard of living.
    At a time when U.S. companies are looking increasingly to 
moving development of products for foreign markets offshore, 
the R&E tax credit encourages companies to keep a greater 
portion of R&D, and the related jobs, in the U.S.
    Studies have shown that the credit benefits companies of 
all sizes and all sectors of the economy. Industries that 
particularly benefit include: electrical and electronic 
equipment, communications, chemicals and allied products, 
biotechnology, machinery, motor vehicles and equipment, 
instruments and related products, and business services.

                    Effectiveness of the R&E Credit

    The U.S. General Accounting Office, Bureau of Labor 
Statistics, the National Bureau of Economic Research, and many 
private researchers agree that the R&E tax credit stimulates 
substantial amounts of additional R&D. Exactly how much 
spending is stimulated per dollar of revenue lost (the ``bang-
per-buck'' ratio) varies. Many recent studies, however, support 
the conclusion that for each dollar lost in tax revenue, the 
credit stimulates a dollar of new R&D spending in the short 
run, and as much as two dollars in the long run. This implies 
long-run gains in productivity, wages, and GDP.
    While this ratio is a useful barometer, more important is 
the net benefit the credit produces for society. Determining 
what type of research is stimulated by the credit is difficult, 
however, as is measuring the social rate of return on R&D. R&D 
investment, in general, provides substantial returns to 
society. In fact, economists estimate that half of U.S. 
economic productivity since WWII is attributable to technical 
progress driven by science and engineering research. And past 
studies suggest that the median social rate of return on R&D in 
general exceeds twice the median private rate of return
    Most studies have shown that the structure of the R&E 
credit can also have a significant impact on its effectiveness. 
When Congress decided in 1990, for example, that taxpayers 
claiming the credit must forego the deductibility of those 
qualifying research expenses under a separate section of the 
tax code (Section 174), it essentially lowered the maximum 
effective rate of the regular credit from the statutory level 
of 20% to 13%. In addition, since the base amount can never be 
less than 50% of current year's QREs, the marginal rate of the 
credit is frequently capped at 6.5%. This ``50% rule'' 
particularly impacts small firms.
    Perhaps the most important hindrance to the credit's 
effectiveness is its temporary status. The continuing short-
term approach to stimulating long-term research is a more 
costly and much less efficient policy than a permanent credit. 
Many firms overlook the R&E credit when setting their research 
budgets because they cannot be certain of its future 
availability as they plan long-term research projects. Repeated 
on-again, off-again extensions dampen the very incentive value 
the credit was enacted to promote. This is particularly the 
case for companies with longer planning horizons, such as 
biotechnology firms. Allowing gaps in coverage to occur, as 
happened in 1996, reduces the incentive even further.
      

                                


Statement of Jaime Steve, Legislative Director, American Wind Energy 
Association

    The American Wind Energy Association,\1\ or AWEA, 
respectfully submits this written testimony in support of a 
five-year extension of the existing 1.5 cent per kilowatt-hour 
production tax credit (PTC) for electricity produced using wind 
energy resources. An immediate extension of this provision is 
crucial if we are to see significant growth in the domestic 
wind energy industry. We are grateful for the opportunity to 
participate in the deliberations of the House Ways and Means 
Committee as it considers this important issue.
---------------------------------------------------------------------------
    \1\ The American Wind Energy Association, or AWEA, was formed in 
1974 and has nearly 700 members from 48 states. AWEA represents 
virtually every facet of the wind energy industry, including turbine 
manufacturers, project developers, utilities, academicians, and 
interested individuals.
---------------------------------------------------------------------------
    The Energy Policy Act of 1992 (EPAct) enacted the PTC as 
Section 45 of the Internal Revenue Code. The credit is phased 
out if the price of wind generated electricity is sufficiently 
high. In report language accompanying EPAct (H. Rpt. 102-474, 
Part 6, p. 42), the Ways and Means Committee stated, ``The 
Credit is intended to enhance the development of technology to 
utilize the specified renewable energy sources and to promote 
competition between renewable energy sources and conventional 
energy sources.''
    Since its inception, the PTC has supported wind energy 
development and production. In the 1980's, electricity 
generated with wind could cost as much as 25 cents per 
kilowatt-hour. Since then wind energy has reduced its cost by a 
remarkable 80% to the current levelized cost of between 4 and 5 
cents per kilowatt-hour.
    The 1.5 cent per kilowatt-hour credit enables the industry 
to compete with other generating sources being sold at 3 cents 
per kilowatt-hour. The extension of the credit will enable the 
industry to continue to develop and improve its technology to 
drive costs down even further and provide Americans with 
significantly more clean, emissions-free electricity 
generation. Indeed, experts predict the cost of wind equipment 
alone can be reduced by another 40% from current levels, with 
an appropriate commitment of resources to research and 
development and from manufacturing economies of scale.
    Current PTC Provision: The Production Tax Credit (PTC) 
provides a 1.5 cent per kilowatt-hour credit (adjusted for 
inflation) for electricity produced from a facility placed in 
service between December 31, 1993 and June 30, 1999 for the 
first ten years of the facility's existence. The credit is only 
available if the wind energy equipment is located in the United 
State and electricity is sold to an unrelated party. Under 
current law, the tax credit qualification date would expire on 
June 30, 1999. A five-year extension would create a new sunset 
date of June 30, 2004.
    Status: A five-year extension of this provision--through 
June 30, 2004--was introduced in the House (H.R. 750) by Rep. 
Bill Thomas (R-CA). H.R. 750 has been cosponsored by 26 Ways 
and Means Committee members, including Reps. Jim Nussle (R-IA), 
Jennifer Dunn (R-WA), Robert Matsui (D-CA), Jim McDermott (D-
WA), John Lewis (D-GA) and Karen Thurman (D-FL). At present, 
H.R. 750 has 124 co-sponsors. A similar bill (S. 414) has been 
introduced in the Senate by Senators Chuck Grassley (R-IA) and 
James M. Jeffords (R-VT) joined by 10 members of the Senate 
Finance Committee, including Sens. Frank Murkowski (R-AK), Kent 
Conrad (D-ND) and Bob Kerrey (D-NE). At present, S. 414 has 25 
co-sponsors. A five-year extension of the wind tax credit is 
also contained within the Clinton Administration's FY 2000 
budget proposal.
    Contributions of Wind Power: Wind is a clean, renewable 
energy source which helps to protect public health, secure a 
cleaner environment, enhance America's national security 
through increased energy independence, and reduce pollution. In 
fact, reducing air pollutants in the United States will 
necessitate the promotion of clean, environmentally-friendly 
sources of renewable energy such as wind energy. Further, 
renewable energy technologies such as wind power should play an 
important role in a deregulated electrical generation market.
    With the proper set up policies in place, wind power alone 
has the potential to generate power to provide the electric 
energy needs of as many as 10 million homes by the end of the 
next decade. The extension of the PTC will not only assure the 
continued availability of wind power as a clean energy option, 
but it also will help the wind energy industry secure its 
position in the restructured electricity market as a fully 
competitive, renewable source of electricity.
    Significant Economic Growth Potential of Wind Power: The 
global wind energy market has been growing at a remarkable rate 
over the last several years and is the world's fastest growing 
energy technology. The growth of the market offers significant 
export opportunities for U.S. wind turbine and component 
manufacturers.
    The World Energy Council has estimated that new wind 
capacity worldwide will amount to $150 billion to $400 billion 
worth of new business over the next twenty years. Experts 
estimate that as many as 157,000 new jobs could be created if 
U.S. wind energy equipment manufacturers are able to capture 
just 25% of the global wind equipment market over the next ten 
years. Only by supporting its domestic wind energy production 
through the extension of the PTC can the U.S. hope to develop 
the technology and capability to effectively compete in this 
rapidly growing international market.
    Finally, we must stress that the immediate extension of the 
PTC is critical to the continued development of the wind energy 
industry. Since the PTC is a production credit available only 
for energy actually produced from wind facilities, the credit 
is conditioned on permitting, financing and construction of the 
facilities. The financing and permitting requirements for a new 
wind facility often require two to three years of lead time. 
With the credit due to expire on June 30, 1999, wind energy 
developers and investors are reluctant to commit to new 
projects without the assurance of the continued availability of 
the PTC.
    The American Wind Energy Association appreciates the 
opportunity to submit written testimony on this matter. We 
stand ready to assist the Committee in any way regarding the 
five-year extension of the wind energy Production Tax Credit.

    Thank you.
                                             Jaime C. Steve
                                               Legislative Director
                                   American Wind Energy Association
                                               Washington, DC 20001
      

                                


Statement of AMT Coalition for Economic Growth

    The AMT Coalition for Economic Growth is a broad-based 
coalition formed to advocate relief from the corporate 
Alternative Minimum Tax (AMT). The coalition is comprised of 
companies and associations representing the following 
manufacturing-related industries: automotive, builders and 
contractors, chemicals, energy, information technology, mining, 
paper, printing, steel, transportation and utilities.
    Mr. Chairman, the Coalition commends you and this committee 
for recognizing the negative impact the corporate AMT has had 
on job creation, economic growth and workers in many basic 
manufacturing industries. In 1997, this committee approved 
meaningful reform of the AMT by partially eliminating the 
depreciation adjustment under the AMT. We share your view, 
however, that more relief is needed.

                             The Problems:

    Numerous adjustments, preferences and limitations under the 
AMT continue to hinder investments in important areas such as 
equipment, research and development, mining, energy exploration 
and production, pollution abatement and many others. Over the 
past 13 years, many companies have accumulated numerous AMT 
credit carryforwards. Due to current law limitations, they have 
not been able to fully recover these credits in a timely 
manner. Still others are hampered by arbitrary limitations such 
as the 90 percent limitation on net operating losses and 
foreign tax credits. This latter limitation results in a 
portion of an AMT payer's foreign earnings being taxed twice.
    Even with the 1997 reforms, investments in plant and 
equipment are penalized by the difference between the 150 
percent declining balance method allowed under the AMT and the 
200 percent declining balance method of the regular tax. This 
depreciation method gap continues to place companies at a 
competitive disadvantage against their foreign competitors. 
Other accounting method differences under the current AMT that 
are discriminatory are the treatment of long-term contracts and 
LIFO inventory rules.
    These problems are not unique to large businesses. Many 
small and medium size businesses continue to face the bite of 
the AMT as well. Subchapter S corporations cannot take 
advantage of the small business provisions enacted in the 1997 
legislation. Still others continue to be subject to AMT because 
they are growing quickly, but their revenue stream has not yet 
caught up to their investment levels, or they face limitations 
on the use of work-opportunity tax credits. And most businesses 
continue to face the onerous recordkeeping burden of 
calculating their taxes using two different sets of rules to 
determine whether their alternative minimum tax liability 
exceeds their regular tax liability.

                        Suggestions for Relief:

    In 1995, this committee and the U.S. House of 
Representatives approved legislation to phase-out the corporate 
AMT. Unfortunately that legislation was not enacted. The 
Coalition strongly supported the 1995 proposal. We believe it 
should serve as a model for future legislative action on AMT.
    A critical element of the 1995 House passed phase-out was 
the preservation of the value of AMT credits, even after full 
repeal of AMT. The bill accomplished this by allowing companies 
to use AMT credits to offset up to 90 percent of their regular 
tax liability. AMT credits are carried as assets on a company's 
books, because they represent ``pre-paid'' taxes. The cash 
value of these credits is already being diminished due to the 
long period of time that may pass before the credits can be 
fully recovered. The Coalition firmly believes that any AMT 
reform efforts that would further restrict the use or reduce 
the value of these credits would penalize the very companies 
that have suffered the most detriment from the system.
    If the Committee chooses not to repeal the corporate AMT, 
the Coalition would strongly urge the adoption of a proposal to 
allow faster utilization of AMT credits. The Coalition has 
united in its efforts to support this approach because the 
relief is broad-based and focused most directly on companies 
that have suffered the greatest harm. Specifically, a company 
with long-term, unused AMT credits, should be allowed to reduce 
its tentative minimum tax by a maximum of 50 percent using such 
credits. Long-term AMT credits would be defined as credits that 
are more than three years old. The credit portion to be allowed 
would be the lesser of: (1) the aggregate amount of the 
taxpayer's AMT credits that are more than three years old; or 
(2) 50 percent of the taxpayer's tentative minimum tax. Under 
this proposal a taxpayer would be required to use its oldest 
AMT credits first. The proposal would operate as an addition to 
the present-law ability of a corporation to use AMT credits to 
reduce its regular tax.
    In addition, for taxpayers with AMT net operating losses 
(NOLs) in the current and two previous years, AMT NOLs could be 
carried back up to 10 years to offset AMT paid in previous 
years. This provision would help the most troubled firms, 
especially those in commodity-based industries.
    The Coalition advocates this proposal because many 
companies continue to be penalized by the AMT in ways 
unintended by Congress; the AMT credit is a case in point. The 
original intent of the AMT credit was to provide a taxpayer 
which paid alternative minimum tax in any year, an alternative 
minimum tax credit in future years. This rule was intended to 
insure that companies did not, over time, pay more under the 
AMT than was owed under the regular income tax. Under current 
law, AMT credits may be used to reduce regular tax but not the 
alternative minimum tax.
    In practice, the corporate alternative minimum tax 
continues to impose a significant long-term tax burden on 
capital intensive and commodity based industries. Given the 
high rate of tax in relation to profit margins for these 
industries, the alternative minimum tax operates to lock many 
U.S. firms into the AMT, burdening them with unused (and 
potentially unusable) AMT credits. The AMT adversely affects 
the profitability and cash flow necessary for American 
companies to invest and remain competitive in the world market. 
Many of the companies with significant long-term AMT credits 
have also felt the double whammy of depressed world-wide 
commodity prices due to the global financial crisis of the 
previous two years.
    While some reform has occurred in the calculation of 
depreciation, no changes have been enacted to the numerous 
other investment-based adjustments and preferences, or to the 
arbitrary limitations on the use of foreign tax credits and 
net-operating losses. Furthermore, after years of paying the 
AMT, many companies have significant unused alternative minimum 
tax credits that cannot be used due to current law limitations. 
This proposed change would provide greater financial certainty 
that AMT credits could be recovered in a timely manner.
    Mr. Chairman and Committee members, you are commended for 
having this hearing on reducing the tax burden to sustain our 
strong economy. The Coalition believes that AMT relief is a 
critical component of a growth oriented tax policy and urges 
it's inclusion in the Ways and Means Committee tax bill later 
this year.
      

                                


Joint Statement of Hon. Robert Coble, Mayor, Columbia, South Carolina; 
and Hon. Stephen Creech, Mayor, Sumter, South Carolina

    Chairman Archer and members of the Committee, thank you for 
this opportunity to submit testimony on the important tax 
legislation that you will consider this year. After years of 
surpluses and mounting debt, you must now tackle the pleasant 
question of how to work with a surplus. The recent predictions 
by the Congressional Budget Office and the Office of Management 
and Budget that the federal government will run a large non-
Social Securitysurplus in the coming decade present you with 
many opportunities.
    We appreciate the desire to use some of this surplus to 
give the American people a measure of tax relief. However, the 
previous decade's tremendous economic growth that led to these 
surplus forecasts also presents us with an historic opportunity 
to invest in our nation's most troubled neighborhoods. Although 
a decade of economic prosperity has led to investments in 
central city neighborhoods that would have seemed impossible 
ten years ago, the good times have yet to reach our distressed 
communities. For these reasons, we urge you to include full 
funding for the second round of Empowerment Zones, Enterprise 
Communities and Strategic Planning Communities.
    This second round of Empowerment Zones were authorized by 
the Taxpayer Relief Act of 1997 (PL 105-34). The second round 
designations were awarded earlier this year. Thanks to the 
commitment and hard work of our citizens, Columbia and Sumter 
were awarded with one of these designations. As you can 
imagine, preparing an Empowerment Zone application requires a 
tremendous amount of time and resources. When we decided to 
embark on the application process, we were relying on the good 
faith of Congress and the Administration to provide the same 
level of funding given to the first round of Empowerment Zones. 
In his FY 2000 budget request, President Clinton requested full 
funding of $100 million over ten years for each of the 15 
second round urban Empowerment Zones and $40 million over ten 
years for each of the five second round rural Empowerment 
Zones. Bipartisan legislation (HR 2170) mirroring that request 
has been introduced. We urge you to include that bill in any 
tax legislation produced by your Committee.
    We are very excited about our plans for the Sumter-Columbia 
Empowerment Zone. That excitement is shared by broad segments 
of our community, including the business community. We are 
amazed at the broad support our Empowerment Zone enjoys and are 
confident that this will translate into success. For the first 
time our most distressed neighborhoods are looking at a 
brighter future. It would be a shame if this hope and 
excitement were dashed because of a lack of funding--funding we 
were counting on when we embarked on these ambitious plans.
    In addition to funding for the second round of Empowerment 
Zones, there are a number of issues before this Committee that 
are an important part of our economic development plan. These 
include enhancement of the Low-Income Housing Tax Credit (HR 
175, which enjoys overwhelming bipartisan support in this 
Congress and the support of our entire delegation), the 
extension of the Work Opportunity Tax Credit, the extension of 
the Welfare-to-Work Tax Credit, creation of a Commercial 
Revitalization Tax Credit, and the enhancement of industrial 
development bonds.
    The surplus combined with our strong economy gives Congress 
an opportunity to make a difference in some of our nations' 
most distressed urban neighborhoods. We urge you to seize this 
opportunity. Thank you for your attention to our views on these 
important matters.
      

                                


Statement of Construction Financial Management Association, Princeton, 
New Jersey

    Mr. Chairman and Members of the Committee:
    The Construction Financial Management Association (CFMA) is 
pleased to comment on various tax issues of importance to our 
members and to the construction industry. CFMA was established 
in 1981 and represents more than 6,500 financial managers in 
the construction industry. Our members are employed by 2,500 
construction companies across the U.S. More than one-third of 
these companies have gross annual revenues ranging from $25-99 
million.
    As the Committee considers a tax package later this summer, 
CFMA supports the Committee's efforts to eliminate the estate 
and gift tax and provide tax relief for individuals and 
businesses. Additionally, CFMA encourages the Committee to 
include, in a tax-reduction package, proposals that would 
clarify and simplify the rules governing worker classification, 
clarify the use of the cash basis method of accounting for 
small businesses and provide relief from costly and time-
consuming look-back calculations.
    The cost and complexity of our Nation's tax law is imposing 
an onerous burden on construction companies at a time when 
Congress should be encouraging these companies to devote their 
resources to increasing productivity, promoting growth and 
encouraging job creation.

                           ESTATE TAX RELIEF

    The Federal estate tax was first enacted in 1916 and was 
imposed primarily to finance our nation's involvement in World 
War I. The tax has evolved since then, and today, the estate, 
gift and generation-skipping transfer taxes form a unified 
transfer tax system. The estate and gift tax share a unified 
progressive rate schedule and an applicable ``unified credit'' 
that shelters a portion of the value of a decedent's estate. 
The unified credit, which, for 1999, effectively exempts the 
first $650,000 of a deceased taxpayer's estate and any gifts 
made during the current year from taxation will incrementally 
increase up to $1 million in year 2006. This exemption amount, 
however, will not be indexed for inflation after 2006.
    Additionally, a change to the law in 1997 resulted in a 
limited exclusion for certain ``family-owned business 
interests,'' from the taxable portion of an estate provided 
that such interests comprise more than 50 percent of a 
decedent's estate. This exclusion may be taken only to the 
extent that the exclusion, plus the amount effectively exempted 
under the unified credit does not exceed $1.3 million

Impact of the Estate Tax on the Construction Industry

    Construction companies are generally family-owned 
enterprises and often do not have the liquid assets to pay 
taxes owed on an estate upon the death of the owner. Thus, the 
construction industry is particularly hard hit by the estate 
tax system. The burden imposed by the estate and gift tax is a 
leading reason why many family-owned construction companies are 
forced to sell or liquidate the business when there is a death 
in the family.
    Under the current system, closely-held construction 
businesses devote significant resources to costly and 
complicated planning to minimize the estate tax. This effort 
diverts financial resources from hiring and business expansion. 
Additionally, planning for the estate tax is not a one-time 
event. The threat and uncertainty of the estate tax is a 
constant burden for small businesses, which must make costly 
and time-consuming decisions today if they hope to survive when 
the business is passed on to the next generation. There is no 
simple solution in estate planning. Business owners do not know 
when the tax will have to be paid and it is difficult to 
ascertain how much tax will be owed. Funds spent on attorney 
fees and insurance policies would be better spent if they were 
invested in new resources or on hiring and training new 
workers. This diversion of valuable human and financial capital 
achieves no economic benefit.

Eliminate the Estate and Gift Tax System

    CFMA supports eliminating this confiscatory tax and 
encourages the Committee to support the efforts of House Ways 
and Means Committee Members Jennifer Dunn (R-WA) and John 
Tanner (D-TN), who have introduced H.R. 8, the Death Tax 
Elimination Act. H.R. 8 would phase out the highest current 
estate tax rate of 55 percent by five percentage points each 
year until it is completely eliminated in 2010.
    Entrepreneurs and other visionary business leaders should 
be allowed to make financial decisions for business and 
investment reasons and not be punished for initiative, hard 
work and capital accumulation.

                         WORKER CLASSIFICATION

    Classification of workers as either employees or 
independent contractors has been a perennial problem for all 
parties involved in this issue and CFMA supports efforts to 
clarify and simplify the myriad of rules, factors and 
circumstances that dictate current law.
    The construction industry faces unique worker 
classification problems due to its fluctuating work demand and 
seasonal forces which affect employment levels. Many in the 
industry can not afford nor have the need to maintain 
specialized trade craftsmen as full-time, long-term employees. 
Such workers may be needed several times throughout the year 
but not enough to warrant full-time or even part-time 
employment. Independent contractors are often the best solution 
to a pressing demand for the special skills and expertise often 
required for short-term projects.
    Congress adopted section 530 of the Revenue Act of 1978 in 
recognition that the rules on the classification of workers as 
``employees'' or ``independent contractors'' were imprecise. 
For years before section 530 was enacted, the IRS increased its 
employment tax audits--leading to increased controversies 
between the IRS and businesses. Section 530 was a stopgap 
measure to provide Congress time to produce a permanent 
solution to the complexity of the independent contractor issue 
that would eliminate this source of controversy. Although 
Congress has made some progress on the issue, it has also 
learned the lesson learned earlier by business and the IRS: 
this issue eludes simple solutions.

Importance of Section 530 to the Construction Industry

    Construction projects frequently involve an amalgamation of 
independent economic entities that come together under unique 
and complex legal arrangements for a specific job and then 
disperse. These entities are a combination of corporations, 
partnerships and sole proprietors who associate as general 
contractors, first and second-tier subcontractors, material and 
equipment suppliers and other vendors.
    Within the construction industry, the general/subcontractor 
and subcontractor/sub-subcontractor relationships have always 
been the norm for doing business. Additionally, specialty trade 
contractors are hired on a project-by-project basis for short 
durations under varying contractual arrangements to complete 
certain assignments. These contracts can include lump-sum, 
fixed-fee, cost-plus, time and material, or labor-only 
agreements. Contractors can be selected on a competitive bid or 
negotiated basis depending upon the assignment.
    The construction industry has always relied upon the 
existence of a contractor-subcontractor relationship to carry 
out construction projects. The industry must continue to rely 
on these relationships because:
     the requirements of each particular project differ 
so dramatically as to the scope of work to be performed, the 
degree of skills needed, the number of disciplines to be 
engaged, and the human resources to be allocated;
     general contractors cannot afford to hire the 
number and variety of trade specialists they need as full-time 
or even part-time employees; and
     construction work, by its very nature, is 
cyclical, unpredictable, intermittent and non-repetitive.
    Removal of the section 530 ``safe-harbor'' would threaten 
the long-standing industry practice of subcontracting and would 
threaten the ordinary way of doing business for smaller 
contractors and, especially, sole proprietors.
    If section 530 is not available for the construction 
industry, the IRS could attempt to recharacterize legitimate 
independent contractors as employees, producing uncertainty and 
confusion for the industry. To avoid such a result, industry 
practice would have to be changed. And, before those practices 
can be changed, many general contractors will find that--in the 
eyes of the IRS--they are not general contractors but 
employers.
    For example, in construction management, it is long-
standing industry practice for an owner to contract directly 
with a general contractor who will manage a project and enter 
into contracts with trade specialists and other independent 
contractors. However, it is also common industry practice for 
an owner to contract directly with a general contractor and 
with the trade specialists and other independent contractors. 
In both cases, under industry practice, the general contractors 
and the subcontractors are independent contractors.
    If section 530 protection were removed, however, it is all 
but certain that some IRS agents will decide that owners who 
contract directly with subcontractors are employers under the 
common law ``20 factor'' test. Consequently, owners, general 
contractors, and subcontractors will be left in a situation 
where they can no longer feel confident when they have issued a 
contract or work order that the IRS will view the arrangement 
similarly.
    In addition, it is important to note that many construction 
contracts are acquired on a competitive bid basis. By removing 
section 530 protection, contractors would have to either 
increase the price for this contingency or else assume that any 
changes would impact their bid profit. This situation simply 
adds risk to an already very risk-laden business.
    CFMA contends that the majority of construction contractors 
use legitimate independent contractors for legitimate economic 
reasons. CFMA also recognizes that there are abuses in the 
system, but does not believe that these abuses are so 
widespread that the entire working structure of the industry 
needs to be dismantled. CFMA supports legislative initiatives 
that would simplify and clarify the law regarding worker 
classification. One of these approaches that merits review by 
the Committee was introduced in the Senate by Small Business 
Committee Chairman Christopher Bond (R-MO). S. 344 would 
provide a general safe harbor and protection against 
retroactive reclassification of an independent contractor in 
certain circumstances. The bill is designed to provide 
certainty for businesses that enter into independent-contractor 
relationships and minimize the risk of significant tax bills 
for back taxes, interest, and penalties if a worker is 
misclassified.

                    CASH BASIS METHOD OF ACCOUNTING

    Currently, businesses are required to use the accrual 
method of accounting for income tax reporting if they are 
involved in merchandise sales and maintain an inventory. There 
is an exception that allows small businesses with less than $5 
million in annual revenues to use the cash basis method of 
accounting. Cash basis accounting simply allows a business to 
recognize only those revenues it has actually received.
    Unfortunately, the IRS has increasingly sought to challenge 
the use of cash basis accounting, forcing small construction 
companies to switch accounting methods, often at significant 
cost. One of the most difficult and onerous tax adjustments a 
construction contractor can face is an IRS imposed change in 
accounting methods. The cost involved with switching accounting 
methods, coupled with the mandatory interest and penalties that 
are often assessed by the IRS can severely impact the bottom 
line for these small businesses.
    CFMA supports legislation introduced by House Small 
Business Committee Chairman James Talent (R-MO) and Ways and 
Means Committee Member Phil English (R-PA), that would clarify 
the use of cash accounting by small businesses. H.R. 2273 would 
provide that small business taxpayers with average annual gross 
receipts of $5 million or less for the prior three years would 
be entitled to use the cash method of accounting without 
limitation. Specifically, the legislation would provide that 
small business taxpayers shall not be required to use the 
accrual method of accounting because they sell merchandise or 
have inventory.
    This clarification would greatly benefit small construction 
companies who currently use cash basis accounting and are 
concerned that the IRS could arbitrarily force them to change 
accounting methods.

                     LOOK-BACK METHOD OF ACCOUNTING

    The Tax Reform Act of 1986 included a provision that 
continues to unfairly impact the construction industry. 
Congress intended for the provision to target large defense and 
aerospace contractors by requiring ``percentage of completion'' 
and look-back accounting methods for contracts lasting more 
than one tax year. Under current law, contractors must estimate 
their costs and revenues and, upon completion of the contract, 
``look-back'' and substitute the actual costs and revenues for 
those estimated at the conclusion of the prior tax years.
    Unfortunately, construction companies can face look-back 
calculations numbering in the thousands, which results in a 
significant financial as well as manpower costs to comply with 
the law. Construction contractors spend thousands of dollars in 
accounting fees each year complying with look-back 
requirements. In an industry dependent on financial accuracy, 
look-back has little effect on ``catching'' underreported 
revenues or gains. Construction contractors, by their very 
nature, are optimistic people. Owners' estimates of profits to 
be realized on any given project tend to be high, not low. 
Therefore, approximately 75 percent of the industry's look-back 
calculations result in refunds, not revenues!
    CFMA strongly supports legislation (H.R. 2347) introduced 
by Committee Member Phil English (R-PA) that would repeal the 
look-back method for commercial construction contractors. The 
look-back method of accounting imposes costly and time-
consuming reporting requirements on construction companies that 
result in virtually no additional revenue for the Treasury.

                               CONCLUSION

    CFMA appreciates the opportunity to present to the 
Committee its views on tax issues that significantly impact the 
construction industry. The current estate and gift tax is one 
of the most onerous burdens facing family-owned construction 
companies, many of which must be sold, downsized or liquidated 
just to pay this ``death'' tax. Accounting for only one percent 
of annual revenues for Treasury, this tax is not worth the 
devastation is causes family-owned construction companies.
    Worker classification continues to be a perennial problem 
for the construction industry and any efforts to simplify and 
clarify current law is supported by CFMA. Other changes 
beneficial to the construction industry include clarification 
of the use of the cash basis method of accounting for small 
businesses and relief from costly and difficult look-back 
calculations.
    CFMA supports the Committee's efforts to relieve the 
excessive tax burden on small businesses and to preserve the 
accumulated savings of productive and hard-working citizens.
      

                                


Statement of Hon. Paul D. Coverdell, a United States Senator from the 
State of Georgia

    Chairman Archer and the other Members of the Committee. I 
would like to thank you very much for inviting me to appear 
before this Committee hearing to present my views on providing 
millions of hard-working American families the tax relief they 
deserve and need.
    Today Congress confronts a dilemma most Americans never 
anticipated, a Federal budget surplus approaching one trillion 
dollars. This historic surplus affords us the rare opportunity 
to create the foundations of a permanent prosperity for 
generations of Americans.
    In particular, I believe that we have an obligation to use 
the current Federal surplus to accomplish three important 
objections. First, we must ensure that we stop Washington's 
traditional urge to spend money from the Social Security Trust 
Fund on new federal programs. In that regard, we must make 
protecting Social Security our number one priority.
    Second, because the current Federal surplus is the product 
of the prosperity created by the American people and their 
hardwork, we should make every effort to return as much of the 
non-Social Security surplus to the American people. We must 
stop the arrogance of Washington that refuses to relinquish its 
grip on the pursestrings and the pocketbooks of the American 
people.
    And lastly, we must use part of the Federal surplus to give 
parents, families and communities the power and the resources 
they need to provide our nation's children with the world's 
best and most successful education opportunities.

  Broad Tax Relief for Working Americans and Great Incentives to Save

    Although the economy is strong, there are troubling signs. 
Personal bankruptcies and consumer debt are at record levels. 
The personal savings rate is at Depression-era lows and has 
actually fallen into the negative. Consumer prices jumped in 
April by 0.7 percent, the largest monthly gain in nearly nine 
years according to the Labor Department.
    In the Senate, I have joined a bi-partisan group of 
colleagues to offer a substantial tax relief plan that returns 
the prosperity surplus to the American people as well as 
expands the options and incentives that families have to save 
for the future.
    The plan I introduced, the Small Savers Act, is based on 
three principles to address these concerns. First, any tax cut 
should provide broad-based rate relief. Second, tax cuts should 
be targeted at savings and investment.
    And third, that anything we do should simplify the code.
    An unnoticed and un-wanted side effect of the soaring 
economy has been that middle class workers are forced into tax 
brackets never intended for them. Small Savers expands the 15% 
tax bracket by $10,000 over five years ($5,000 for singles) 
returning 7 million taxpayers to the lowest bracket. But, 
because more income will be taxed at a lower rate, 35 million 
taxpayers will gain tax relief.
    To reverse the dangerous personal savings trend in this 
country, Small Savers would exempt the first $500 in a family's 
dividend and interest income from taxation. This would 
essentially make a $10,000 savings account tax-free. The Joint 
Economic Committee reports such a change would eliminate all 
taxes on savings for 30 million Americans.
    Small Savers would do more than just take the government 
out of the business of taxing a family's savings. The plan also 
excludes the first $5,000 in long-term capital gains from 
taxation. The Federal Reserve Board's 1995 Survey of Consumer 
Finance reported that 75% of stockholders have incomes less 
than $75,000. The stock market is no longer simply a place 
where the wealthy get wealthier, but where lower and middle 
class families can build a secure retirement. By excluding 
capital gains, rather than reducing the rate, we can eliminate 
capital gains taxes for 10 million people.
    The final aspect of Small Savers aimed at encouraging 
retirement security is a modest increase in the contribution 
limit for a deductible IRA from $2,000 to $3,000. Although we 
have taken steps previously to increase the availability of 
IRAs, the limit on contributions has remained at $2,000 since 
1981. Had we been indexing the limit for inflation, individuals 
would be able to contribute nearly $5,000 a year to their 
retirement.
    All too often small businesses cannot afford to establish 
pension plans for their employees. For their employees and the 
self-employed, the ability to contribute to an IRA is often the 
only means of retirement savings available. It is simply unfair 
to restrict them to an annual contribution of $2,000.
    Lastly, Small Savers would simplify tax filing for millions 
of Americans. It is estimated that it takes the 67 million 
Americans with dividend and interest income over an hour just 
to fill out their Schedule B form for such income. Small Savers 
would eliminate that requirement for 7 million Americans. The 
Schedule D form for capital gains is even worse. An estimated 
22 million Americans had capital gains or losses last year. For 
them, filling out the 54-line Schedule D took, on average, 
nearly 7 hours. Small Savers would eliminate this arduous 
requirement for 10 million Americans. Overall, Small Savers 
would return nearly 74 million man-hours formerly used to fill 
out tax forms into productive activities.
    With a revenue impact of estimate $134.7 billion over 5 
years and $345.7 billion over ten years, Small Savers will not 
interfere with seeking and meeting other tax relief goals--
whether they be education tax relief, health tax relief, 
marriage penalty relief, business tax relief, etc. In the end, 
I believe that if the Federal government collects too much in 
taxes, it owes it to taxpayers to return some of their hard-
earned dollars.
    In short, Small Savers recognizes the problems of an unfair 
tax burden... lack of savings and investment and a tax code 
that is too complicated. It is the first step to restoring 
fundamental fairness to the millions of hard working, middle 
class families who deserve tax relief.

 Educating Our Nation's Children--Providing New Choices for America's 
                                Families

    Educating our children is among the most important issue that we 
face as public servants. In that regard, I would like to wish the 
Committee well as it considers a number of very important tax measures 
designed to assist families and communities in their efforts to provide 
our children the quality education that they deserve.
    Needless to say, the education of our nation's children is one of 
the most sacred and important issues that we as public servants can 
address. For much of the past century, America's place as a leading 
industrial and intellectual force in the world has been established by 
the pre-eminence of our nation's education system. Simply put, our 
schools were the best in the world, and as a result Americans started 
the Industrial Revolution, ushered in the Nuclear Age, and paved the 
Super Information Highway.
    Unfortunately, just as the world economy and marketplace have 
become more competitive and interdependent, we have lost significant 
ground to other nations in the educational achievements of our 
children. For example, the results of the most recent International 
Math and Science Study reveal that U.S. seniors have lost their 
competitive edge over their counterparts in Western Europe in math and 
science. In physics, U.S. 12th graders seniors finished last behind 20 
other countries, including Latvia and the Czech Republic. The 
Organization for Economic Cooperation and Development reported on 
November 13, 1998, that, even though the United States dedicates one of 
the largest shares of GDP to education, it has fallen behind other 
economic powers in high school graduation rates.
    With these recent reports showing an alarming lack of academic 
achievement among an increasing number of American students, the 
Congress and the Administration must work together to develop a new 
path toward improving our nation's schools and ensuring that each and 
every child receives a first-class education.
    During the State of the Union, however, the President outlined a 
litany of new programs that are very similar to a number of federal 
programs already on the books.
    While these proposals may make for good newspaper copy, there are 
already more than 800 federal education programs spread across 39 
federal agencies. New programs are not the answer. If new federal 
education programs were the answer to educational excellence, our 
schools would still be among the world's best.
    I believe there is a better way to improve the quality of education 
our children receive.
    Education Savings Accounts are a major step in a bi-partisan reform 
effort. Here's how they work: a parent, relative, friend, business, 
union, charitable organization--anyone--could contribute up to $2000 in 
an account which could be withdrawn tax-free if used for a child's K-12 
education expenses.
    Right now, the law allows parents to contribute up to $500 per year 
for a child's college education. We increase that amount to $2000 per 
year and allow for tax-free withdrawals for K-12 educational expenses, 
as well.
    With education savings account, 14 million families (over 20 
million kids) will take advantage of ESAs, generating $12 billion in 
education savings that might otherwise not exist.
    You would think such a modest reform--which builds on a law signed 
by President Clinton--would be embraced by everyone. Not opponents of 
reform, however, who see allowing families to keep their own money as a 
great threat.
    Those who oppose this bill, stand in the way on new opportunities 
for millions of children and their families. Just consider how many 
people benefit from our plan:
     14 million families--20 million children--from benefiting 
from education savings accounts;
     $12 billion in savings from being pumped into K-12 
education;
     1 million college students in state pre-paid tuition plans 
from receiving tax relief;
     1 million workers from receiving education assistance 
through their employers.
     Hundreds of local school districts from using more of 
their local money to build and repair new schools.
    Those of us--Republicans and Democrats--who believe parents should 
have the ability to invest in their kids' futures believe we represent 
the most important special interest--children. And, in the end, we will 
prevail.
    We have a great challenge before us. For too long, our children 
have been victimized by failing schools, growing bureaucracies and 
politicians who ignore their needs. During the 106th Congress, we can 
do better to help our children succeed. We must put aside our partisan 
differences, and join in a bipartisan effort to change a culture and 
system that for too long has let our kids down. I pledge to undertake 
that effort, I can only hope that my colleagues on the other side of 
the aisle will do so too.
      

                                


Statement of Richard P. Walker, Managing Director, CSW Renewable 
Energy, Central & South West Corporation, Dallas, Texas

    Mr. Chairman and other distinguished members of the 
committee, my name is Richard Walker. I am Managing Director of 
CSW Renewable Energy, a subsidiary of Central & South West 
Corporation of Dallas, Texas. I want to thank you for providing 
me with this opportunity to testify on the importance of 
extending the wind energy production tax credit (PTC) until the 
year 2004.
    Central and South West Corporation (CSW) has been active in 
the research and development of wind energy for six years, and 
was named as the American Wind Energy Association's Utility of 
the Year in 1996. CSW owns and operates the first wind farm 
built as part of the U. S. Department of Energy's Turbine 
Verification Program in which state-of-the-art, U.S.-
manufactured wind turbine technology is being tested. In 
addition, a 75 megawatt wind farm is currently being built near 
the west Texas community of McCamey in order to serve the 
customers of three CSW subsidiaries--West Texas Utilities 
Company, Central Power and Light Company, and Southwestern 
Electric Power Company.
    CSW is an investor-owned electric utility holding company 
based in Dallas, Texas. CSW owns and operates four electric 
utilities in the United States: Central Power and Light 
Company, Public Service Company of Oklahoma, Southwestern 
Electric Power Company, and West Texas Utilities Company. These 
companies serve 1.7 million customers in an area covering 
152,000 square miles of Texas, Oklahoma, Louisiana, and 
Arkansas.
    CSW also owns a regional electricity company in the United 
Kingdom, SEEBOARD plc, which serves 2 million customers in 
Southeast England. CSW engages in international energy, 
telecommunications and energy services businesses through 
nonutility subsidiaries including CSW Energy, CSW 
International, C3 Communications, EnerShop, and CSW Energy 
Services. CSW is currently in the process of seeking regulatory 
approval for a merger with American Electric Power Company, 
based in Columbus, Ohio, and expects the merger to be completed 
sometime in the 4th quarter of 1999.
    I want to commend Representative Bill Thomas, and all of 
the cosponsors of H.R. 750, for their leadership in supporting 
legislation to extend the wind energy PTC until the year 2004. 
H.R. 750 has broad, bipartisan support. H.R. 750 was introduced 
with sixty (60) original cosponsors, including 19 members of 
this committee. H.R. 750 is currently supported by 123 
cosponsors, including 26 (two-thirds) of the members of this 
committee. The Senate companion bill, S. 414, has similar 
broad, bipartisan support, including a majority (11) of the 
members of the Senate Finance Committee. Additionally, a five-
year extension of the PTC was included in the President's 
FY2000 Budget.
    I hope the committee will include a five-year extension of 
the wind energy PTC in the tax bill the committee intends to 
mark-up next month. As the committee knows, the current PTC 
will expire next week, June 30, 1999.

                  I. BACKGROUND OF THE WIND ENERGY PTC

    The wind energy PTC, enacted as part of the Energy Policy 
Act of 1992, provides an inflation-adjusted 1.5 cents/kilowatt-
hour credit for electricity produced with wind equipment for 
the first ten years of a project's life. The credit is 
available only if the wind energy equipment is located in the 
United States and electricity is generated and sold. The credit 
applies to electricity produced by a qualified wind energy 
facility placed in service after December 3, 1993, and before 
June 30, 1999. The current credit expires next week, June 30, 
1999.

                 II. WHY DO WE NEED A WIND ENERGY PTC?

A. The Wind Energy PTC is Helping to Drive Costs Down, Making Wind 
Energy

    A Viable and Efficient Source of Renewable Power

    The efficiency of wind generated electric energy has increased 
dramatically since the early to mid-1980s. The machine technology of 
the 1980's was in its early stages and the cost of wind energy during 
this time period exceeded 25 cents/kilowatt-hour. Since that time, 
however, the wind industry has succeeded in reducing wind energy 
production costs by a remarkable 80% to the current cost of about 4.5 
cents/kilowatt-hour. The 1.5 cents/kilowatt-hour credit enables the 
industry to compete with other generating sources currently being sold 
in the range of 2.5 to 3.0 cents/kilowatt-hour.
    The industry expects that its costs will continue to decline as 
wind turbine technology and manufacturing economies of scale increase 
in efficiency. Through further machine development and manufacturing 
efficiencies, the wind energy industry anticipates the cost of wind 
energy will be further reduced to 3 cents/kilowatt-hour or lower by the 
year 2004, which will enable it to fully compete on its own in the 
marketplace.
    The most significant factor contributing to the dramatic reduction 
in U.S. wind energy production costs over the years--since the early 
1980s--has been the dramatic improvement in machine efficiency. Since 
the 1980's, the industry has developed three generations of new and 
improved machines, with each generation of design improving upon its 
predecessor. As a result, reduced costs of production of new wind 
turbines, blade designs, computer controls, and extended machine 
component life have been achieved. Proven machine technology has 
evolved from the 50-kilowatt machines of the 1980's to the 750-kilowatt 
machines of today that have the capacity to satisfy the energy demands 
of as many as 150 to 200 homes annually. Moreover, four new 1,650-
kilowatt class machines have recently been installed in Texas that are 
expected to further improve the technology's efficiency and reduce wind 
power costs.
    The wind industry anticipates that wind energy production costs 
will continue to decline in the future, and is confident that the next 
two generations of wind turbine design--estimated to be available by 
the year 2004 --will sufficiently lower costs in order to enable the 
industry to compete in the United States on its own merits with fossil-
fueled generation. The five-year extension of the wind energy PTC will 
bridge the commercialization gap for the industry until it can compete 
on its own by the year 2004.

B. Wind Power will Play an Important Role in a Deregulated Electrical 
Market

    The electrical generation market is going through significant 
changes as a result of efforts to restructure the industry at both the 
Federal and State levels. Renewable energy sources such as wind power 
are certain to play an important role in a deregulated electrical 
generation market. In Texas, for example, just last week, June 18, 
1999, Governor George W. Bush signed into law restructuring legislation 
that provides for the addition of 2,000 megawatts of renewable energy 
generating capacity in Texas by the year 2009. Wind power will play a 
significant role over the next decade in enabling Texas to meet this 
new goal and the extension of the wind energy PTC will help in this 
effort by ensuring that Texans receive the lowest cost renewable energy 
possible.

C. Wind Power Contributes to the Reduction of Greenhouse Emissions

    Wind-generated electricity is an environmentally friendly form of 
renewable energy that produces no greenhouse gas emissions. Several 
polls, surveys, and focus groups of our customers have made it clear 
that the use of environmentally friendly sources of electrical 
generation is very important to them. Renewable energy sources such as 
wind power are particularly helpful in reducing greenhouse gas 
emissions. Significant reductions of greenhouse gas emissions in the 
United States can only be achieved through the combined use of many 
new, energy-efficient technologies, including those used for the 
production of renewable energy. The extension of the wind energy PTC 
will assure the continued availability of wind power as a clean, 
renewable energy source.

D. Wind Power has Significant Economic Growth Potential, Provides a 
Supplemental Income Source for Farmers, and Creates New Jobs in Local 
Economies

    1. Domestic--Wind energy has the potential to play a meaningful 
role in meeting the growing electricity demand in the United States. 
With the appropriate commitment of resources to wind energy projects, 
it is estimated that wind power could generate power to as many as 10 
million homes by the end of the next decade. There currently are a 
number of wind power projects operating across the country. These 
projects are currently generating 1,761 megawatts of wind power in the 
following states: Texas, New York, Minnesota, Iowa, California, Hawaii 
and Vermont.
    There also are a number of new wind projects currently under 
development in the United States. These new projects will generate 670 
megawatts of wind power in the following states: Texas, Colorado, 
Minnesota, Iowa, Wyoming and California.
    The domestic wind energy market has significant potential for 
future growth because, as the sophistication of wind energy technology 
continues to improve, new geographic regions in the United States 
become suitable for wind energy production. The top twenty states for 
future wind energy potential, as measured by annual energy potential in 
the billions of kWhs in environment and land use exclusions for wind 
class sites of 3 and higher, include:

 
      1.     North Dakota..................................       1,210
      2.     Texas.........................................       1,190
      3.     Kansas........................................       1,070
      4.     South Dakota..................................       1,030
      5.     Montana.......................................       1,020
      6.     Nebraska......................................         868
      7.     Wyoming.......................................         747
      8.     Oklahoma......................................         725
      9.     Minnesota.....................................         657
     10.     Iowa..........................................         551
     11.     Colorado......................................         481
     12.     New Mexico....................................         435
     13.     Idaho.........................................          73
     14.     Michigan......................................          65
     15.     New York......................................          62
     16.     Illinois......................................          61
     17.     California....................................          59
     18.     Wisconsin.....................................          58
     19.     Maine.........................................          56
     20.     Missouri \1\..................................          52
 
Source: An Assessment of the Available Windy Land Area and Wind Energy
  Potential in the Contiguous United States, Pacific Northwest
  Laboratory, 1991.


    Sixteen states, including CSW's home state of Texas, have greater 
wind energy potential than California where, to date, the majority of 
wind development has taken place.
    The increasing sophistication of wind energy technology has enabled 
the industry to open up new regions of the country to wind energy 
production. In addition to the recent growth of wind power in Texas, 
another area of the country that has been opened up to wind power 
production in the last few years is the Farm Belt. Since wind power 
projects and farming are totally compatible --a wind power plant can 
operate on land that is being farmed with little or no displacement of 
crops or livestock--wind power projects are now being sited on land in 
the Farm Belt that is also being used for crop and livestock 
production. The lease payments paid by wind project developers to 
landowners is a valuable source of steady, additional income for 
farmers. For example, a new wind plant soon to go on line in Clear 
Lake, Iowa will pay rent to fourteen different landowners who will be 
supplementing their income by leasing their land for the operation of 
the new wind plant without disrupting their farming operations. This is 
a win-win situation for farmers and consumers.
    Electricity production from renewable resources takes advantage of 
local resources rather than those that may be imported. In addition to 
the lease payments discussed above, this results in several economic 
development opportunities such as increasing tax bases for counties, 
construction jobs, on-going operation and maintenance jobs, and 
manufacturing opportunities. The wind farms recently completed or 
currently being constructed in the U.S. have provided manufacturing 
opportunities in Champagne, Illinois, Tehachapi, California, 
Gainesville, Texas, Shreveport, Louisiana, Tulsa, Oklahoma, and El 
Paso, Texas, just to name a few.
    2. International--The global wind energy market has been growing at 
a remarkable rate over the last several years and is the world's 
fastest growing energy technology. The growth of the market offers 
significant export opportunities for United States wind turbine and 
component manufacturers. The World Energy Council has estimated that 
new wind capacity worldwide will amount to $150 to $400 billion worth 
of new business over the next twenty years. Experts estimate that as 
many as 157,000 new jobs could be created if United States wind energy 
equipment manufacturers are able to capture just 25% of the global wind 
equipment market over the next ten years. Only by supporting its 
domestic wind energy production through the extension of the wind 
energy PTC can the United States hope to develop the technology and 
capability to effectively compete in this rapidly growing international 
market.

E. The Immediate Extension of the Wind Energy PTC is Critical

    Since the wind energy PTC is a production credit available 
only for energy actually produced from new facilities, the 
credit is inextricably tied to the financing and development of 
new facilities. The financing and permitting requirements for a 
new wind facility often require up to two to three or more 
years of lead-time. With the credit due to expire next week, 
wind energy developers and investors are unable to move ahead 
with new projects. The immediate extension of the wind energy 
PTC is therefore critical to the continued development and 
evolution of the wind energy market. In addition, the five-year 
extension is also necessary to give wind industry manufacturers 
the confidence to invest in additional production facilities 
within the U.S.

                            III. CONCLUSION

    Extending the wind energy PTC for an additional five years 
is critical for a number of reasons. The credit enables wind-
generated energy to compete with fossil fuel-generated power, 
thus promoting the development of an industry that has the 
potential to efficiently meet the electricity demands of 
millions of homes across the United States. If the wind energy 
PTC is extended, wind energy is certain to be an important form 
of renewable energy in a deregulated electrical market, and is 
an environmentally-friendly energy source that can aid in the 
reduction of greenhouse gas emissions. The economic 
opportunities of the wind energy market are significant, both 
domestically and internationally. As such, we urge the 
committee to extend the wind energy PTC until the year 2004 so 
that the industry can continue to develop this important 
renewable energy resource.
    Thank you for providing me with this opportunity to present 
CSW's views on the extension of the wind energy PTC.
      

                                


Statement of Kenneth C. Karas, Chairman and Chief Executive Officer, 
Enron Wind Corp., Tehachapi, California

    My name is Ken Karas, and I am the Chairman and Chief 
Executive Officer of Enron Wind Corp., a subsidiary of Enron 
Renewable Energy Corporation. Enron Wind Corp., the largest 
U.S. manufacturer and developer in the wind energy industry, 
offers a fully integrated range of services including wind 
assessment, project siting, engineering, project finance, 
turbine production, construction, and operation and maintenance 
of wind energy facilities. Enron Wind Corp. completed 300 
megawatts of installed capacity in 1999. Over the last nineteen 
months, the company has installed 667 wind turbines for a total 
installed capacity of 500.25 megawatts. Most recently, we 
finished construction of a new 16.5 megawatt facility in 
California producing electricity to be sold into the green 
market. Other recent projects include development of new wind 
facilities in Minnesota and Iowa totaling approximately 239 
megawatts. As a committed member of the wind energy industry, 
Enron Wind Corp. strongly endorses the broadly supported 
proposal to extend the Wind Energy Production Tax Credit 
(``PTC'') for five years.
    The current Wind Energy PTC, first enacted under the Energy 
Policy Act of 1992, provides a 1.5-cent-per-kilowatt-hour tax 
credit, adjusted for inflation after 1992, for electricity 
produced from wind or ``closed-loop'' biomass. The credit is 
available for wind energy production facilities placed in 
service prior to July 1, 1999, and applies to wind energy 
produced for the first ten years after the facilities are 
brought on line. However, the current credit is scheduled to 
expire as of June 30, 1999. The loss of the Wind Energy PTC 
would be a critical blow to the future of wind power in the 
United States at a pivotal time in its development as viable 
large scale energy technology.
    A five year extension of the placed-in-service date for the 
Wind Energy PTC has been introduced in legislation in both the 
House and Senate as well as being included in the 
Administration's FY 2000 budget proposal. These proposals would 
extend the availability of the credit to facilities placed in 
service through June 30, 2004. H.R. 750, introduced by 
Representative Bill Thomas (R-CA), has been cosponsored by 26 
members of the Ways and Means Committee and has 129 cosponsors 
in the House of Representatives. Companion legislation in the 
Senate, S. 414, introduced by Senators Charles Grassley (R-IA) 
and James M. Jeffords (R-VT) currently has 10 cosponsors on the 
Senate Finance Committee and 25 cosponsors in the Senate. A 
recent revenue estimate prepared by the Joint Committee on 
Taxation concludes that the legislation would have a modest 
revenue impact of $1 million in FY 1999, $5 million in FY 2000, 
and only $76 million over five years.
    Wind energy has made phenomenal advances in the last 
fifteen years achieving improvements in reliability, 
efficiency, and cost per kilowatt hour. Energy Secretary Bill 
Richardson recently remarked, ``We think that wind technology 
has the most potential of any renewable energy technology right 
now.'' This enhanced potential is driven by improved 
technologies, the vast amount of untapped wind resources in the 
United States, and an interest in green generation sources by 
consumers. Nonetheless, the cost of energy continues to be a 
key concern both to consumers and to utilities choosing to 
develop wind energy projects. Extension of the Wind Energy PTC 
now is essential to provide parity with fossil fuel 
technologies, and to achieve the economies of scale necessary 
to deliver energy to consumers at cost effective rates. As most 
wind energy projects require a minimum of two years to develop, 
extension of the Wind Energy PTC for five years is critical now 
to ensure the availability of long-term, low-cost financing for 
wind energy projects. Despite these difficulties, close to 900 
megawatts will have been installed in the last year prior to 
the June 30, 1999 date for expiration of the credit.
    Extension of the Wind Energy PTC is a targeted investment 
in renewable energy that will provide significant returns to 
the country, including:
     Continuing to Reduce the Cost of Wind Power: 
Dramatic advances have been made in the cost of wind power with 
some current projects currently based upon a cost of below 5 
cents per kilowatt hour. Stimulating investment through the 
Wind Energy PTC will continue to bring these costs down as wind 
energy begins to achieve economies of scale, allowing the 
industry to compete head-to-head with other conventional 
generating sources;
     Achieving Reduced CO2 Emissions: The Department of 
Energy has cited wind power as one of the emerging electricity 
supply technologies needed to reduce the emissions of carbon 
dioxide (CO2) caused by burning fossil fuels; and
     Creating Jobs, Tax and Export Revenues: A healthy 
domestic wind energy industry creates the momentum to continue 
developing wind energy technologies for export abroad into the 
booming world market for renewable power, which in turn creates 
more jobs at home. Wind projects provide federal, state and 
local tax revenues that over time exceed the cost of the tax 
credits provided by the PTC.
    We at Enron Wind Corp. are excited to be at the forefront 
of one of the most promising renewable energy technologies 
available, and believe that the Wind Energy PTC represents a 
sound investment in the American economy, renewable energy and 
our environment. I urge your support for this important and 
cost-effective initiative.
      

                                


Statement of Hon. Elton Gallegly, a Representative in Congress from the 
State of California

    Mr. Chairman, I appreciate this opportunity to testify on 
how to find ways to provide tax relief to strengthen the family 
and sustain a strong economy by sharing with you two bills I 
have introduced this Congress.
    The first would modify or expand investment incentives for 
the American family. As the committee is aware, the U.S. 
savings rate fell into negative territory in September of last 
year and now we are at the lowest levels ever recorded. This 
means that, collectively, individuals not only did not save 
anything but actually raided their savings to pay current 
spending. The last time this occurred was in 1938, during the 
Great Depression.
    The American family is actually saving less, and this will 
mean that there will be less money available in the retirement 
years for the working parents of today. We must provide 
incentives to the families now to prevent creating an 
exorbitant baby-boom tax on the families of tomorrow. To 
counter this alarming trend in negative family savings, I have 
introduced H.R. 1322-a bill which will provide investment 
incentives to encourage long-term savings by increasing the 
amount that may be contributed to individual retirement plans.
    H.R. 1322 is simple and straightforward. The measure will 
raise the maximum annual contribution limit to traditional or 
Roth IRAs from $2,000 to $5,000. The amount taxpayers can 
deduct would remain at $2,000 but would be annually indexed to 
inflation.
    The IRA is the most inspired investment incentive device to 
promote long term savings Washington has ever created. However, 
Mutual Funds magazine has reported that the IRA is receding in 
importance at the very moment it should be rapidly expanding. 
Merely to offset inflation since IRAs were introduced, annual 
IRA contribution limits would have to be raised to more that 
$5,000.
    We ought to encourage long term investment and empower 
these individuals who desire to use IRAs to supplement their 
retirement. This legislation will make the IRA an even more 
effective way for American families to save.
    In addition, providing a high quality education to our 
children is my highest priority. An educated populace is key to 
economic prosperity. To accomplish this goal, I have introduced 
H.R. 638, the Teacher Investment and Enhancement (TIE) Act.
    While it is important to know how to teach, it is equally 
if not more important to know what you are teaching. However, 
many teachers are teaching ``out-of-field'' and, therefore, are 
not sufficiently knowledgeable in their subject area. Offering 
more education opportunities for our teachers is an investment 
in our children and one we cannot afford not to take. The TIE 
Act addresses this problem by providing secondary teachers the 
incentives to return to college to take courses in the classes 
they teach. This will be accomplished by doubling the current 
Lifetime Learning Tax Credit for tuition expenses for the 
continuing education of secondary teachers in their fields of 
teaching. This increase would allow such teachers to receive up 
to a $4,000 tax break for college tuition costs.
    I look forward to working with the committee on both of 
these measures. I am hopeful the committee will include these 
proposals in any tax relief bill that is brought up for 
consideration.
      

                                


Statement of Hon. Scott L. King, Mayor, Gary, Indiana

    Chairman Archer, Ranking Member Rangel and Members of the 
Committee, I appreciate the opportunity to submit the following 
testimony as you hear and review the written statements of 
members of the public on how our government can most 
effectively reduce the tax burden on hardworking Americans and 
businesses.
    Mr. Chairman the cities of Gary, Hammond, and East Chicago, 
Indiana are the proud recipients of a second round Empowerment 
Zone designation. I write today on behalf of the citizens of 
our three cities to ask that this Committee honor the work that 
we are doing, in partnership with 20 private sector businesses 
to bring long term economic revitalization to the Calumet 
region. As you begin crafting a tax package I ask that you 
include grant funding for the second round of Empowerment 
Zones, Enterprise, and Strategic Planning Communities.
    The Calumet Area Empowerment Zone is home to approximately 
48,889 residents, 40% of which live at or below the poverty 
line. In three of the neighborhoods included in the Zone, the 
percentage of individuals over the age of twenty-five that lack 
a high school diploma range from 25% in the Brunswick 
neighborhood to 45% in the Central/Mission neighborhood, and 
44% in the Emerson community. The 1998 unemployment rates for 
the three cities range from 3.6% in Hammond, 6% in East Chicago 
to 7.1% in Gary, all three significantly above the state rate 
of 2.8%.
    Mr. Chairman I urge you to consider these demographics in 
light of even more staggering economic trends for the Northwest 
Indiana region as a whole. Historically the region's economy 
has been centered primarily around heavy industry, steel in 
particular. Over the last three decades we have witnessed 
severe slumps in the region's economy due primarily to the 
downsizing of steel and related service industries. The 
downsizing of the steel industry resulted in marked reductions 
in the civilian workforce, population declines ranging from 20% 
in Hammond to 40% and 41% in Gary and East Chicago 
respectively, and a 42.7% reduction in the total number of 
manufacturing jobs region-wide.
    Despite these alarming statistics, our region's leaders, 
citizens and businesses have come together to address our 
shared challenges and concerns. The future of our entire region 
rests on our ability to create jobs, foster economic 
opportunity, and attract new business investment to the Calumet 
region. The tax incentives provided to Empowerment Zones, 
Enterprise Communities, and our private sector partners under 
the Taxpayer Relief Act of 1997 will go a long way toward 
helping us achieve this end. These incentives will not only 
ease the burden of financing our revitalization plans by 
providing tax-exempt bonding authority, but will also provide 
much needed incentives for businesses to invest in distressed 
communities across this nation.
    On the contrary, Mr. Chairman, the tax incentives provided 
under the '97 tax bill are simply not enough on there own, to 
allow us to do the kind of work that must be done to truly 
rebuild and stabilize our region's economy. I ask that you and 
the Members of this Committee, maintain your commitment to the 
distressed communities across this nation that received second 
round Empowerment Zone and Enterprise Community designations. I 
urge you to provide the $1.7 billion in mandatory funding that 
we desperately need to fully implement our revitalization 
plans, which we are confident will yield tremendous economic 
growth and opportunity for the Northwest Indiana region and 
other communities throughout the nation.
    Mr. Chairman and Members of the Committee thank you again 
for your time and favorable consideration.
      

                                


Statement of the Higher Education Community

    Mr. Chairman and Members of the Committee, we greatly 
appreciate your holding this hearing in anticipation of the 
reconciliation tax bill expected next month. We particularly 
appreciate your dedicating time during this hearing for 
consideration of education-related tax issues.
    The higher education associations listed below have 
identified the following tax items as priorities for the higher 
education community:

   Remove current restrictions on claiming the student loan interest 
                               deduction.

    We are supportive of various bipartisan proposals to 
eliminate the 60-month limit on claiming the student loan 
interest deduction. Current law places several restrictions on 
claiming this deduction. Students who need to borrow to finance 
their education should not be restricted on claiming a tax 
deduction for interest on their borrowing.
    We feel current restrictions should be lifted to allow more 
students and former students to qualify for this deduction that 
limit its use and greatly complicate the administration of this 
benefit. In addition to repealing the 60-month limit, which 
would allow the interest to remain deductible as long as the 
loan is outstanding, we also support an increase in the amount 
of interest allowable for the deduction. Under current law, the 
deduction cannot exceed $1,500 in 1999, $2,000 in 2000, $2,500 
in 2001 and beyond. Finally, the income threshold for the 
phase-out of this deduction needs to be increased. Currently, 
taxpayers with incomes of $40,000 for single taxpayers and 
$60,000 for joint returns are phased-out of eligibility for 
this deduction. Certainly, students who financed their 
education through student-loans and subsequently graduate with 
high amounts of debt should not lose eligibility for this 
deduction based on an arbitrary income threshold that renders 
the deduction practically useless.

Enactment of Charitable IRA Rollover legislation that would provide new 
    incentives for donors to give funds held in various retirement 
    accounts, such as 403(b), 401(k), and Keogh plans, directly to 
                               charities.

    Under current law, an individual taxpayer may withdraw 
funds from an Individual Retirement Account (IRA) without 
penalty after age 59\1/2\, and must commence withdrawals by the 
April 1st following the year in which he or she attains age 
70\1/2\. IRA withdrawals are fully taxable as income to the 
individual in the years they occur. A donor who withdraws IRA 
funds for transfer to a charity will be subject to tax on the 
entire withdrawal, offset to varying degrees by the charitable 
deduction.
    Legislation recently introduced by Representatives Phil 
Crane and Richard Neal, H.R. 1311, would allow a donor to 
rollover IRA funds to a charity with favorable tax treatment, 
as either an outright gift or a life-income gift such as a 
charitable remainder trust, gift annuity or contribution to a 
pooled income fund. If the IRA funds are rolled over as an 
outright gift to the charity, the donor will not be subject to 
income tax at the time of withdrawal and transfer. If the IRA 
funds are rolled over as a life-income gift, the donor will be 
subject to taxes on subsequent income payments received for the 
gift. In either case, the donor would receive a charitable 
deduction only to the extent that the gift has ``basis'' as a 
result of after-tax contributions to the IRA.
    Higher education and charitable organizations strongly 
support this proposal, which has the potential to unlock 
substantial new sources of funding for the charitable community 
from donors who hold billions of dollars in IRA and other 
retirement accounts.

    Permanent extension of Section 127, employer-provided education 
      assistance, for both graduate and undergraduate course work.

    For many Americans attempting to balance work, family, and 
economic priorities, Section 127 is the only feasible and 
affordable way that they can further their education and 
thereby improve their skills and remain competitive in today's 
job market. Section 127 is a purely private-sector initiative, 
and represents an important tool for encouraging employer 
investment in their workers' continuing education. Like any 
other employer benefit, it is purely voluntary, and is provided 
by many employers because they see value and a return on an 
investment in their employees' education. Section 127 is of 
special importance to women and minorities, as well as those at 
the bottom of the career ladder who need better skills to 
advance
    Section 127 provides more appropriate tax treatment for 
this educational benefit than the new Lifetime Learning tax 
credit. The credit, equal to 20 percent of the first $5,000, 
does not fully offset the tax liability that arises if the 
benefit is considered taxable income. In addition, the credit 
is not sensitive to family size--the maximum tuition that may 
be counted towards the credit is $5,000, whether the taxpayer 
is single, married, or married with children in college. As a 
result, parents with a child in college who are continuing 
their own education at the same time will receive no benefit 
from the new Lifetime Learning tax credit, and will also be 
liable for additional taxes if any educational benefit they 
receive is not covered by Section 127.
    The on-again, off-again status of Section 127 has prevented 
workers who need the educational assistance most from fully 
participating in the program. Some workers have postponed 
registering for classes because of uncertainty about whether 
the benefits would be taxable, while others have scaled back 
their education plans. We strongly support the permanent 
extension of this expiring provision for both graduate and 
undergraduate education.

       Tax relief for college savings and prepaid tuition plans.

    In addition to supporting equal tax treatment for all types 
of plans, we are very supportive of expanding the tax relief to 
include tax free distributions from these plans. Section 529 of 
the IRC should be expanded to ensure fair tax treatment to all 
college savings and pre-paid tuition plans. In addition, to 
further encourage these as savings options for families, tax 
free distributions would be highly desirable. We appreciate and 
support the numerous bills Members of both the House and Senate 
have introduced to achieve such tax relief for these plans.

    An increase in the annual contribution limit to Education IRAs.

    Education IRAs (also known as Education Savings Accounts, 
or ``ESAs'') were created as part of the Taxpayer Relief Act of 
1997 to provide a new savings option for families trying to 
plan ahead for future education expenses. ESAs were intended to 
appeal to the many individuals who are comfortable with 
traditional IRAs as a saving option. Unfortunately, the current 
$500 annual contribution limit is simply too low to enable 
families to build sufficient savings for higher education 
expenses. For this reason, ESAs have proved to be ineffective 
in their current form. We appreciate the wide support for 
increasing the contribution amount and hope appropriate 
language will be included in tax legislation at your next 
opportunity.

  Amend the Internal Revenue Code of 1986 to repeal or substantially 
   modify the information-reporting requirement relating to the Hope 
               Scholarship and Lifetime Learning Credits.

    We urge you to address the costly reporting requirements 
related to the Hope Scholarship and Lifetime Learning Credits. 
While we believe that repealing the requirements is in the best 
interest of both institutions and the IRS, significant 
modifications of the reporting requirements are another option 
to consider. IRS/Treasury temporarily reduced the reporting 
requirements in tax years 1998 and 1999 and may do so again for 
tax year 2000.
    Making the current minimal reporting requirements 
permanent-and thus avoiding the pending requirement for schools 
to annually obtain the taxpayer SSN, name and address for 
dependent students-would be one such significant modification 
that falls short of repeal. We also urge you to modify the 
reporting requirements to limit the universe on whom tax 
reports must be sent. This would reduce institutional reporting 
by allowing schools to report on only those students who 
request such reporting and provide the school with adequate 
information to file such a report.

                  Research and Development Tax Credit

    The higher education community perceives the objectives of 
the credit as twofold: first, to encourage sustained support 
from the private sector for the conduct of basic research by 
colleges and universities and, second, to involve colleges and 
universities to a greater extent in research oriented to 
practical applications. The credit also fosters the interaction 
between industry and the talents and skills available at 
colleges and universities.
    Permanent extension of the R&D credit will contribute to 
increased research and development and higher annualized rates 
of return; and it will stimulate economic growth, improve 
productivity, and benefit the entire economy. The credit is 
also central to the continuation and expansion of partnerships 
between industry and universities, which will speed progress 
toward important scientific discoveries.
    Thank you Mr. Chairman and Members of the Committee for 
allowing us the opportunity to submit this testimony for the 
record. We greatly appreciate your holding this hearing and 
focusing a portion of it on education-related tax provisions. 
We hope you will find our comments and recommendations useful 
as you continue building the next reconciliation package. We 
feel very strongly that inclusion of these items in upcoming 
tax legislation would present a well-rounded and much needed 
higher education tax relief package.
    On behalf of:

Accrediting Association of Bible Colleges
American Association of Community Colleges
American Association of Dental Schools
American Association of Presidents of Independent Colleges
American Association of State Colleges and Universities
American Council on Education
Association of Advanced Rabbinical and Talmudic Schools
Association of American Universities
Association of Community College Trustees
Association of Governing Boards of Universities and Colleges
Association of Jesuit Colleges and Universities
Coalition of Higher Education Assistance Organizations
Council for Advancement and Support of Education
Council for Christian Colleges & Universities
Council of Graduate Schools
Council of Independent Colleges
National Association for Equal Opportunity in Higher Education
National Association of College and University Business Officers
National Association of Independent Colleges and Universities
National Association of Schools and Colleges of the United Methodist 
Church
National Association of Student Financial Aid Administrators
North American Division of Seventh-Day Adventists
The Mennonite Board of Education
      

                                


Joint Statement of IRA Charitable Rollover Working Group

    Mr. Chairman and Members of the Committee, this written 
statement is submitted to the House Ways and Means Committee on 
behalf of the IRA Charitable Rollover Working Group, a 
coalition of nonprofit associations nationwide that was formed 
specifically in order to promote passage of the IRA Charitable 
Rollover Incentive Act (H.R. 1311, S. 1086). Passage of this 
legislation is also supported by two broad-based coalitions of 
charitable organizations throughout the nation--Charitable 
Accord, which is focused mainly on charitable giving issues, 
and Independent Sector, which addresses a wider range of 
charitable issues. Attached is a list of the members of the 
Working Group. In addition, Charitable Accord has a list of 200 
members, and Independent Sector a list of 41 members, that 
endorse the enactment of H.R. 1311/S. 1086 into law. These 
endorsees represent the interests of service and religious 
groups, museums and arts groups, colleges and universities, 
private and community foundations, and other charitable 
organizations across the country.
    Although charitable giving has increased in recent years, 
charitable organizations still face the continued challenge of 
meeting the needs of the people they serve. Over the past two 
decades, government funding for programs that serve social 
needs have been significantly reduced. According to a recent 
study prepared for Independent Sector, under the President's FY 
1998-2002 budget proposal, inflation-adjusted federal spending 
for FY 2002 in budget functions of concern to nonprofits would 
decline 3% below FY 1995 levels. Moreover, if entitlement-
driven spending for income security is excluded from the 
calculation, inflation-adjusted spending for the remaining 
categories of concern to nonprofits would decline 9% below FY 
1995 levels. Among those services that will suffer the largest 
declines in the federal share of their funding from 1996 to 
2002 are: services to the elderly (from 17% to 9%); nursing 
homes for the elderly (from 42% to 30%); housing, community 
development and other community services (from 50% to 31%); 
home healthcare (from 39% to 27%); and food services (from 46% 
to 36%). Consequently, the charitable sector, which is expected 
to fill this gap, must constantly seek additional resources, 
for example, through charitable gifts, or cut back on programs 
as social needs continue to grow.
    Excess IRA assets represent a very large, untapped source 
of potential support for the nation's charities. According to 
Joint Tax Committee staff, there is currently more than $1 
trillion in IRA accounts and $5 trillion in defined 
contribution accounts, which can be rolled into IRA accounts. 
In addition, economists estimate that more than $10 trillion in 
wealth will be transferred to the so-called baby-boomer 
generation from their parents. One result of this large 
generational transfer is that, for many individuals, IRA assets 
accumulated under favorable market conditions will be less 
necessary for their retirement and, at least in part, available 
for charitable giving. However, current law presents serious 
tax disincentives to such gifts.
    Under current law, IRA withdrawals are fully taxable as 
ordinary income to the individual in the years they occur. A 
donor who withdraws IRA assets for transfer to a charity is 
subject to tax on the entire amount, offset to varying extents 
by the charitable deduction. Although charitable organizations 
frequently receive inquiries from potential donors about giving 
IRA assets during their lifetimes, the tax consequences are so 
significant a deterrent that such gifts are rarely made.
    The following are selected examples from an informal survey 
that was designed to solicit anecdotal information about how 
current tax law inhibits donors interested in making charitable 
gifts from the rollover of IRA assets. A growing number of 
individuals report that they have satisfactory arrangements in 
place for their retirement income, and that they want to give a 
portion of their IRA assets to charity. In virtually all 
examples collected, when the potential donors were informed 
that they must pay ordinary income tax on any IRA assets they 
give to charity, they chose not to make such gifts.
     A national disease association with headquarters 
in Illinois has had two inquiries this year about gifts of 
approximately $1 million each from IRA assets. The first was 
from a widow with other assets, who considered establishing a 
charitable remainder trust that would not only ``do some good 
for society'' but also provide her with annual income to care 
for her disabled child. The second was from a highly successful 
businessman nearing retirement, who wanted to set up a 
charitable remainder unitrust. Because of the tax consequences, 
neither individual has made the proposed gift.
     A 71 year old male donor with a $1.3 million IRA 
wishes to make a life-income gift to a major public university 
in Texas. He would like to receive annual income payments that 
would help ensure the care of his wife, who is in the early 
stages of Alzheimers. Given the tax consequences of such a gift 
under current, the donor has not been willing to move forward.
     The husband of a hospital volunteer at a medical 
center in Tennessee would like to establish a charitable trust 
to benefit cancer research, which was responsible for the 
recent death of his wife. He wants to use retirement plan 
assets of $1.8 million to establish this cancer research fund, 
to provide himself with annual payments for retirement income, 
and to reduce the tax burden on his heirs, which would be 
greater for IRA assets than other appreciated securities. He 
has been advised against such a gift because of tax 
disincentives under current law.
     A successful entrepreneur, who is a board member 
of an Arizona foundation, proposed to make a life-income gift 
of up to $.5 million from excess qualified pension plan 
proceeds. This gift, in addition to providing retirement income 
for himself and his wife, would assist in financing two 
community hospitals, a children's dental clinic, a food bank, 
an adult day healthcare center, long-term and rehabilitative 
care facilities, and a host of other medical and social 
services. However, upon investigation, he concluded that the 
tax consequences were too unfavorable.
     A major university in Pennsylvania has recently 
received about 24 calls per year concerning gifts from IRA 
assets. Typical cases are in the $100,000 range, but one 
inquiry was regarding a $700,000 gift. To date, all except one 
of these donors have decided against making such a gift.
     In Maryland, an elderly couple, who had a lifetime 
commitment to volunteerism and a history of charitable giving 
to a hospital foundation, a community-based housing group, and 
a welfare-to-work training organization, inquired about 
establishing a charitable remainder trust from IRA assets. They 
wanted to benefit their philanthropic interests, but provide 
some additional income for whomever was the survivor. However, 
concern about the high level of taxation on assets withdrawn 
from their IRA prevented them from proceeding with the 
proposal.
     One major university in California has received at 
least 12 inquiries in the past year, and another received four 
inquiries, about making outright gifts or establishing 
charitable trusts by assigning IRA or other qualified pension 
assets. However, upon learning about the tax treatment of those 
actions, no prospect has actually made a gift.
     A major social welfare provider in Illinois was 
approached by a contributor who wanted to donate outright his 
total IRA assets of $650,000. Given the unfavorable income tax 
consequences under current law, he did not make he gift.
     A research university in New York has had six 
inquiries in the past two years about gifts in the $1.5 to $3.0 
million range from IRA assets. Given the unfavorable tax 
consequence under current law, none of these gifts has 
materialized.
     A community foundation in California received an 
inquiry from a donor, wishing to use IRA assets to establish a 
$.5 million scholarship fund. However, when the tax 
implications were reviewed, the donor declined to create this 
fund.
    In contrast, given passage of the IRA Charitable Rollover 
Incentive Act (H.R. 1311), if IRA assets were rolled over to 
charity as an outright gift, they would be removed from the 
donor's tax calculation of ordinary income. In addition, if IRA 
assets were rolled over as a life-income gift, the annual 
income payments from the gift would still be subject to 
taxation. In both cases, the donor would not receive a 
charitable deduction unless after-tax dollars had been 
contributed to the IRA.
    The following example will illustrate the different tax 
consequences under current law and H.R. 1311. Mr. Smith, age 
60, has accumulated approximately $1,000,000 in his IRA and 
other tax-favored retirement plans. While he believes he will 
only need about $750,000 for retirement, he plans to leave his 
IRA intact for another 10 years rather than pay tax on 
withdrawal of assets.
    If legislation is enacted allowing charitable IRA rollovers 
with favorable tax treatment, Mr. Smith can transfer IRA assets 
he will not need for retirement to the charity as an outright 
gift or a life-income gift. Either way, these gifts will not be 
subject to tax upon withdrawal and transfer of his IRA assets 
to the charity. His gift would be tax-deductible only to the 
extent he had previously funded his IRA with after-tax dollars.
    If Mr. Smith prefers a life-income gift, for example, he 
can transfer $250,000 to a 7% charitable remainder annuity 
trust, from which he will receive $17,500 in annual taxable 
income (a 7% return on the $250,000) for life. Over the first 
10 years, Mr. Smith (assuming a 39.6% tax bracket) may pay 
income taxes totaling as high as $69,300 on income totaling 
$175,000.
    By contrast, under current law, Mr. Smith could owe an 
initial tax of approximately $79,600 on the $250,000 
withdrawal, even after taking into account the charitable 
deduction he may receive for contributing the net proceeds to 
the trust. Mr. Smith may then contribute only $170,400 to the 
trust, from which he will receive $11,900 in annual taxable 
income (a 7% return on the $170,400) for life. Over the first 
10 years, Mr. Smith may pay income taxes totaling as high as 
$47,124 on the income totaling $119,000.
    This proposed legislation is good public policy. Since 
other qualified retirement plans can now be rolled over tax-
free into IRAs, this proposal would unlock substantial new 
resources for the support of charitable organizations and their 
public-service missions. In addition, this proposal would 
realign tax treatment on IRA assets to match current tax laws 
that apply to other assets donated to charity. Finally, to the  
extent  that  donors  transfer  IRA  assets  into  life-income  
gifts  soon  after  age 59--, rather than waiting until the 
required distributions at age 70--, this proposal would 
generate new tax revenues, partially offsetting revenue losses.
    Implementation of H.R. 1311 will involve lost revenue, 
which was estimated by the Joint Tax Committee staff at $1.4 
billion in the first five years. However, the revenue loss 
would be partially offset by life-income gifts (e.g., 
charitable remainder trusts or charitable gift annuities) that 
would accelerate revenue to the degree that individuals, before 
age 70--when withdrawals must begin, roll IRA funds into such 
gifts, which will generate taxes on the annual income payments. 
Attached are three charts illustrating that, in many cases, the 
tax revenue created by an IRA rollover to a life-income gift 
may exceed the tax revenue lost because of the tax exclusion 
permitted by the legislation. The illustrations reflect single 
and dual income recipients at ages 60, 70, and 80 together with 
their respective single and joint life expectancies. Current 
calculations show the federal income tax revenue ``lost'' and 
``found'' under these three life-income arrangements.
    Although IRA assets were originally intended as a 
supplement to retirement income, withdrawal is now allowed in 
order to assist in financing a home or a college education. It 
is equally, perhaps more, appropriate for public policy to 
allow financially successful individuals, who have reached a 
point where IRA and other tax-deferred retirement assets are 
not needed for retirement, to use those assets not to benefit 
personally, but to support charities that better the lives of 
others. Moreover, in the case of life-income gifts, a portion 
of the IRA assets would be retained as retirement income for 
the donor and his or her spouse alone, with the remainder 
passing to charity upon the death of the participants. 
Furthermore, since an IRA may now pass to charity at death by a 
direct or life-income gift, the proposal parallels the current 
tax code.
    Some may incorrectly characterize H.R. 1311 as a tax break 
for the wealthy. The plain fact is that many middle-class 
Americans, including teachers, nurses, sales persons, retired 
military, and librarians, frequently express their desire to 
make gifts using IRA assets. Many retirement plans have 
multiplied well beyond anticipated needs and expectations as a 
result of favorable investment markets and moderate inflation. 
These donors want the removal of a tax disincentive, not a tax 
break, in order to complete their charitable objectives. 
Indeed, upper-bracket taxpayers can best afford, and are most 
likely to make, this type of wealth transfer to charity. 
However, if this proposal were passed into law, although the 
government would give up a tax worth 39.6% of the value of the 
asset, the donor would give up 100% of the asset. The 
government would not collect tax on the transfer of the asset 
to charity because the transfer does not financially benefit 
the donor. Thus, there is no income on which to levy a tax. 
Rather, this untaxed asset transfer will increase private 
support for public services that the government would otherwise 
be called upon to provide. Therefore, it is good public policy 
to create incentives that encourage individuals, including 
upper-bracket taxpayers, to support philanthropy through gifts 
of IRA assets.
    The future of the charitable sector and of the public 
services it provides depends upon expanding financial resources 
to meet increasing social needs. The existing billions of 
dollars in IRA assets constitute a significant, untapped 
resource for charitable purposes. This proposal would allow 
individuals, who have assets in excess of requirements for 
their retirement, to make penalty-free donations of IRA assets 
to support the charitable sector and its public-service 
mission. For these reasons, we urge the passage of H. R. 1311.
      

                                


IRA Charitable Rollover Working Group

American Arts Alliance
American Association of Museums
American Bar Association
American Council on Education
American Heart Association
American Hospital Association
American Institute for Cancer Research
American Red Cross
Association for Healthcare Philanthropy
Association of American Universities
Association of Art Museum Directors
Association of Jesuit Colleges and Universities
Baptist Joint Committee
CARE, Inc
Catholic Health Association
Charitable Accord
Council for the Advancement and Support of Education
Council on Foundations
Council of Jewish Federations
Goodwill Industries International
Independent Sector
National Association of Independent Colleges and Universities
National Association of Independent Schools
National Committee on Planned Giving
National Health Council
National Multiple Sclerosis Society
National Society of Fund Raising Executives
The Salvation Army
United Way of America
[GRAPHIC] [TIFF OMITTED] T0841.022

[GRAPHIC] [TIFF OMITTED] T0841.023

[GRAPHIC] [TIFF OMITTED] T0841.024

      

                                


Statement of Maria J. Jerardi, Third Year Student, Georgetown 
University School of Medicine; and Recipient, National Health Service 
Corps Scholarship

    I am writing to you with my concerns about the impact of 
the new Internal Revenue Service (IRS) taxation policy on 
myself as well as on other National Health Service Corps (NHSC) 
scholarship recipients nationwide. I am appealing to you now 
for your assistance in changing this policy through support of 
H.R. 1414 and H.R. 324. While I acknowledge the importance of 
civic responsibility, which includes paying taxes, I believe 
that there are several issues that distinguish the case of NHSC 
scholarship recipients.
    First, I completely agree with the tax liability of the 
monthly stipend NHSC Scholars receive to cover their living 
expenses ($915.00 per month), however it is generally the case 
that support received as a scholarship and used for tuition, 
books, and mandatory fees is tax-deductible. The recent 
decision by the IRS to require NHSC Scholars to pay taxes on 
the entire value of the scholarship has had several negative 
ramifications. It results in financial hardship for the 
recipients and undermines the purpose of the program while 
serving only to transfer funds from one federal agency to 
another.
    It should be emphasized that I am currently a medical 
student and will soon be a resident and then a practicing 
physician. As a resident I will be employed by the hospital 
affiliated with my residency program and as a clinician I will 
work for a private, non-profit clinic. Consequently the 
argument by the IRS that NHSC scholars are receiving payment in 
advance, to support their education, in exchange for future 
services rendered makes no sense. I will not be employed by the 
NHSC or the Department of Health and Human Services during 
either my residency or the four year clinic placement which 
will immediately follow my residency. Clearly section 117 (c) 
of the Internal Revenue Code was not intended to penalize NHSC 
scholars and the current policy has resulted from a 
misinterpretation of this regulation by the IRS.
    Due to the expense of attending a private medical school 
such as Georgetown University where tuition is over $26,000.00 
per year, this new tax provision results in a significant 
reduction in the proportion of expenses covered by a NHSC 
scholarship. Currently, the monthly stipend of $915.00 per 
month which used to be reduced to approximately $800.00 per 
month after federal withholding has been reduced to $380.00 per 
month for Georgetown students due to increased tax liability. 
This amount covers less than a third of the budgeted monthly 
living expenses of a Georgetown medical student (estimated by 
the financial aid office to be approximately $1200.00 per 
month). Consequently, this scholarship which is supposed to be 
sufficient to cover the normal expenses of a medical student 
(tuition, books, supplies, fees, and living expenses) is no 
longer meeting this goal. Consequently, I was forced to take 
out approximately $11,500.00 in loans to cover living expenses 
for the 1998-99 school year. Additionally, as a Maryland state 
resident, I have incurred an additional state income tax 
liability requiring me to borrow an additional $6,600 in the 
middle of the past academic year to cover the cost of my state 
taxes.
    The necessity of this type of lending is somewhat 
nonsensical, considering that the money I am now borrowing 
through federally-subsidized loan programs (from the Department 
of Education) is being used indirectly to pay taxes to a 
government agency (the Internal Revenue Service) on a 
scholarship I received from another government agency (the 
Department of Health and Human Services). Additionally, the 
necessity of these loans is undermining the whole purpose of 
the NHSC program. The NHSC strives to encourage health 
professions students to practice in medically-underserved rural 
and urban areas (MUAs) in the U.S. These are areas which are in 
great need of physicians and other health professionals in 
order to provide the access to health care deserved by all 
communities in our country.
    The NHSC requires a year in an underserved area for each 
year of support received. However, the NHSC also encourages 
scholarship recipients to continue to serve in medically-
underserved communities after the completion of the commitment 
required by the scholarship. The organization does this by 
striving to recruit those individuals who will continue to 
serve in such areas despite the challenges posed to one's work 
and lifestyle by work in rural or urban health professional 
shortage areas (HPSAs). One of the major drawbacks of working 
in such a region is the lower level of compensation offered by 
many of the federally-funded clinics in these communities. By 
removing the debt burden experienced by many medical students, 
this scholarship once enabled recipients to select positions 
after completion of their commitment somewhat independent of 
financial considerations. Now, with the prospect of having to 
borrow over $65,000 (if I am forced to continue my current 
level of borrowing to cover losses of stipend income to both 
state and federal tax liability) during my medical education in 
addition to the debt burden incurred by undergraduate and 
graduate school, I know that my ability to take future 
positions (following my scholarship commitment) in regions of 
the country that critically need my services will be limited by 
salary considerations. I may have to find a job which provides 
a sufficient salary to cover the much higher monthly payments 
required by my much increased level of indebtedness.
    At the time I applied for an NHSC scholarship, these 
current tax issues were not apparent. I chose to attend 
Georgetown because of the superior clinical training I believe 
it provides. However, this decision was made with the 
expectation of receiving an NHSC scholarship. Now with this 
recent tax ruling by the IRS, my financial situation has 
changed dramatically. Had I known before of the debt burden 
that I would be forced to incur even with the NHSC scholarship, 
I would have made the choice to attend a less-expensive school 
and not participate in the NHSC program.
    As the United States continues to deal with its apparent 
surplus of physicians, despite the fact that many rural 
counties in the midwest and southeast are without any physician 
services, the NHSC program can serve a valuable role. With 
increasing financial constraints on government spending, the 
maximization of cost-effectiveness of federal programs is 
vital. Why not allow NHSC scholarship recipients to receive the 
benefits which are supposed to be provided through this 
program? By allowing these students to pursue an education in 
the health professions with little or no debt burden, the 
program stands a much better chance of making a long-term 
impact on the physician maldistribution problem in our country 
and maximizing the program's cost-effectiveness. Without debt 
burden, the clinicians this program trains will stay in areas 
of critical need longer, thereby making a bigger contribution 
to the ultimate goals of the NHSC.
    I thank you for your concern about the impact of these tax 
changes on my program of study and on my future as a community-
oriented physician. More importantly I appreciate your concern 
for those communities in our country without adequate access to 
health care who will truly be most affected by these tax 
changes. For all of these reasons I ask you to please support 
the quick passage of H.R. 1414, a bill which seeks to reverse 
the taxation of the NHSC scholarship.

            Sincerely,
                                           Maria J. Jerardi
      

                                


Joint Statement of Victor Ashe, Mayor, City of Knoxville, Tennessee

    As Mayor of the City of Knoxville, I am pleased to have the 
opportunity to communicate to this Committee a sense of the 
community support for the federal Empowerment Zone (EZ) 
initiative.

                               Background

    In 1994, hundreds of members of our community, spurred by 
the promise of the new Empowerment Zone/Enterprise Community 
(EZ/EC) program, came together to develop a strategic plan for 
the most distressed areas of our city. Residents and other 
stakeholders from throughout the community joined together to 
conduct an introspective evaluation of the strengths and 
problems of the city, and to develop strategies and 
relationships to tap those strengths and attack those problems. 
Citizens, local government, private businesses, and nonprofit 
organizations worked together to define and plan for the 
revitalization of an area that traditionally had been seen as 
past its prime at best, and not worth saving at worst.
    That planning formed the basis for Knoxville's Round I 
application for EZ/EC designation. Although Knoxville was not 
selected as an EZ or an EC in 1994, the relationships formed 
during that planning process continued to grow and flourish. 
The planning process set in motion a new way of looking at 
Knoxville's central city and its potential as an investment 
opportunity. It laid the groundwork for more inclusive and open 
local planning. Best of all, it forged a plan backed by the 
commitment of residents, local government, and philanthropic 
organizations. It empowered the community to see what is 
possible in Knoxville, and it created some of the tools 
necessary to make that vision a reality.
    The community could have seen all of the hard work on the 
Round I application as fruitless when Knoxville was not chosen 
as an Empowerment Zone, but that is not what happened. The 
city, with its public and private partnerships stayed committed 
to implementing as much of the 1994 EZ plan as possible without 
the federal EZ funding.
    When the opportunity for Round II EZ designation became 
available in 1998, again the residents and other stakeholders 
in Knoxville's central city joined together to develop a plan. 
The 1998 effort built upon and expanded the 1994 planning 
process, incorporating the most promising ideas from that 
earlier effort. The result of the 1998 planning process was a 
plan with broad-based community support, a plan that promises 
genuine empowerment combined with new economic prosperity for 
our most challenged neighborhoods.

          The Importance of the Empowerment Zone to Knoxville

    Knoxville's Empowerment Zone is not just a few isolated 
patches of poverty--it encompasses more than 20% of the total 
geographic area of the City and houses almost 30% of 
Knoxville's population.
    Our Empowerment Zone faces the challenges common to many 
older urban areas. The Zone suffers from workforce 
obsolescence, a paucity of community capital, and weak civic 
attachment. Brownfields dot the Zone's industrial landscape. 
Virtually every Zone neighborhood faces blighted dilapidated 
housing and overgrown vacant lots. The majority of Zone 
residents need to develop new job skills, because the ones that 
once supported them have become unmarketable in the information 
age. Other residents have become dependent upon public 
assistance programs that will no longer sustain them and must 
engage in education and training that will challenge them to 
become contributors to our social and economic fabric.

          The Importance of the Empowerment Zone to the Region

    Knoxville's EZ carries tremendous significance as the 
historic, geographic, and economic heart of Southern 
Appalachia. The revitalization of the Zone and its 
reintegration into the economic and social fabric of East 
Tennessee are essential to the long-term vitality and commerce 
of the entire Southern Appalachian region, an area with more 
than six million residents and 86,000 square miles.

               Empowerment Zone as Investment Opportunity

    We here in Knoxville view our Empowerment Zone as an 
investment opportunity. It does have more than its share of 
competitive disadvantages, but these problems are neither too 
deeply rooted nor too overwhelming to solve. Since 1993, the 
community has been steadily assembling the resources needed for 
a renaissance in the Heart of Knoxville. Other investors have 
begun to see the possibilities of the Zone, but these 
investments need augmentation to sustain them. With the help of 
the federal government, the assets of this Zone can and will be 
developed into competitive advantages that will yield economic 
and social returns far greater than any initial investment.
    Our successful shepherding of investment in our EZ will 
require us to adhere to some basic tenets of business practice. 
We will:
     Build on the competitive advantages and eliminate 
the competitive disadvantages of the Zone.
     Target resources to maximize neighborhood 
improvements.
     Increase the economic value of doing business in 
the Zone.
     Provide flexible, accountable, effective 
management of the Zone.
     Mobilize the private sector.

             Use of Federal Investment in Empowerment Zone

    Federal funding appropriated for the Empowerment Zone 
initiative will result in highly visible programs that achieve 
broad goals of economic opportunity and improved quality of 
life. Some examples of projects in Knoxville that need 
Empowerment Zone funding to become a reality:
     Redevelopment of Brownfields: A public/private 
partnership led by the City of Knoxville will pilot and then 
replicate a model for redeveloping contaminated or 
underutilized commercial and industrial sites within our Zone. 
This initiative will lead to the creation of 1,800 new jobs and 
will leverage an anticipated $98 million in private investment 
over the period of designation.
     Empowerment Bank: The City and its partners will 
establish an institution to provide comprehensive services for 
small businesses in the Empowerment Zone. It will be set up in 
one location and provide a wide-range of capital and technical 
assistance under one roof. This initiative will leverage more 
than $2 million in private lending and create at least 50 jobs 
per year.
     Workforce Competitiveness: This initiative will 
provide Zone residents with training and match them with job 
opportunities in the Zone and the region. This initiative would 
build on current capabilities and would be one way of targeting 
our resources to achieve maximum results.
     Housing Affordability and Choice: Using the EZ 
funds to leverage a private pool of lending, this initiative 
would allow us to focus on mixed income financing with two 
components: a fund of private financing that can be used for 
purposes where it is normally difficult to obtain a loan; and 
subsidy funds that encourage existing residents to improve 
their homes, enable households that could not otherwise afford 
it to purchase, construct, or purchase/rehabilitate a home in 
the Zone. This effort would result in the construction of 1,000 
new housing units and the rehabilitation of 500 additional 
homes over the period of designation.
     Preservation-based Housing Rehabilitation: Through 
this program, endangered historic homes will be acquired, 
stabilized, and marketed to low-and middle-income home buyers 
and other investors. This program will not only help to 
preserve our heritage and the historic character of our older 
neighborhoods, it will also attract new investment into the 
area. Empowerment Zone funding for this initiative can leverage 
$200,000 from the National Trust for Historic Preservation, 
$100,000 from local sources, and additional private investment 
in renovation and restoration.

      Empowerment Zone Funding as a Means to Spur Other Investment

    What all of the examples above illustrate is the concept of 
leverage: using federal funds as seed money to attract other 
investment. With the commitments already in place, a federal 
investment of $100 million in the Knoxville Empowerment Zone 
will leverage more than $550 million in additional private and 
public funding. In addition, the projects described above will 
attract private investment not yet committed to the Zone will 
in excess of $100 million. Over the ten year designation, I 
would expect that an investment of $100 million in federal EZ 
funding would result in $1 billion in total new investment in 
Knoxville's Empowerment Zone. This is a rate of return that any 
investor could be proud of.

         Why your support for this legislation is so important

    Healthy cities have long been the foundations of our 
national economic life. The Empowerment Zone initiative offers 
a means of achieving revitalization for the most distressed 
parts of American cities. If we can work together to reverse 
the declines affecting these areas--redeveloping contaminated, 
underutilized industrial sites; attracting businesses to expand 
and hire Zone residents; fighting crime and lack of civic 
attachment; promoting community pride; preserving our heritage; 
improving our housing opportunities--we can help to ensure the 
long term health of our national economy.
    Like all of the Round II Empowerment Zones, Knoxville has 
assembled a large group of committed partners. Residents, 
businesses, financial institutions, philanthropic 
organizations, nonprofit organizations, educational 
institutions, and governmental entities have all come together 
to support Knoxville's EZ initiative. This broad-based group 
has carefully developed a plan that can bring lasting health 
and vitality back to an area that has suffered significant 
disinvestment. They have pledged their time, energy, and 
financial resources to making the plan become a reality. But 
they cannot do it without support from the federal government. 
You can provide the seed money and tax incentives that leverage 
tremendous amounts of private funding. You can provide the 
resources that will bring new partners to the table. With $100 
million in EZ funding, we can leverage a $1 billion 
revitalization effort. Without your support, the promise 
offered by our EZ plan cannot become a reality.
    Thank you for your consideration of this very important 
issue.

            Respectfully submitted,
                                                Victor Ashe
      

                                


                 2308 Rayburn House Office Building        
                                      Washington, DC 20515-0505    
                                                       July 2, 1999

The Honorable Bill Archer
Chairman
Committee on Ways and Means
U.S. House of Representatives
1102 Longworth House Office Building
Washington, D.C. 20510

    Dear Mr. Chairman,

    I am writing to bring your attention to an issue related to the 
Hope Scholarship and Lifetime Learning tax credits affecting colleges 
and universities in a manner unintended by Congress. Provisions of the 
Taxpayer Relief Act of 1997 require colleges to file an information 
return with the IRS, supplying a copy to the student or to the taxpayer 
who claims the student as a dependent, for all students for whom 
tuition and fees were received in the tax year. This requirement is 
imposed without regard to whether the students will be eligible for the 
tax credits or will choose to take advantage of them.
    The IRS issued interim guidelines for colleges and universities to 
follow for the 1998 and 1999 tax years and is in the process of 
drafting regulations that will increase the amount of data those 
institutions are required to supply. This reporting standard has 
created a problem for all postsecondary institutions. In my state of 
California it is particularly burdensome for the California Community 
College system because the number of reports that must be filed far 
exceed the number of students who will utilize the tax credits.
    I have received correspondence from the Chancellor of the 
California Community Colleges in support of changes to these IRS 
requirements and in support of HR 1389, the Higher Education Reporting 
Relief Act introduced by Congressman Manzullo. I request that this 
letter be included as part of the Committee's hearing record for June 
23, 1999 on ``Providing Tax Relief to Strengthen The Family and Sustain 
a Strong Economy.''
    In addition, I am cosponsoring HR 1389 with Mr. Manzullo, and I 
hope that the Ways and Means Committee will give full consideration to 
this measure in this session of Congress.
    Thank you for your consideration on this important matter.

            Sincerely,
                                           ROBERT T. MATSUI
                                                 Member of Congress
      

                                


                            STATE OF CALIFORNIA            
                      CALIFORNIA COMMUNITY COLLEGES        
                                    CHANCELLOR'S OFFICE    
                                          Sacramento, CA 95814-3607
                                                      June 21, 1999

The Honorable Donald Manzullo
United States House of Representatives
Cannon House Office Building
Washington, D.C. 20515

    Dear Congressman Manzullo:

    I am writing to thank you for your continuing efforts to repeal 
provisions of the Taxpayer Relief Act of 1997 (TRA) that require 
institutions of higher education to devote significant resources to 
providing data to the Internal Revenue Service in a manner that is 
inconsistent with serving student needs. The California Community 
Colleges are strong supporters of H.R. 1389, the Higher Education 
Reporting Relief Act, and I am anxious to do whatever I can to help you 
and Congressman Matsui secure passage of this legislation in the 106th 
Congress.
    The California Community Colleges are eager to assist all students 
who can qualify for the higher education tax benefits to take advantage 
of them. However, current law requires the colleges to file an 
information return with the IRS, supplying a copy to the student or to 
the taxpayer who claims the student as a dependent, for all students 
from whom tuition and fees were received in the tax year. This 
requirement is imposed without regard to whether the students will be 
eligible for the tax credits or will choose to take advantage of them. 
This reporting standard has created a problem for all postsecondary 
institutions, but nowhere is the inefficiency of the statutory approach 
more clear than in the California Community Colleges system, where 
colleges are required to report on more than 2 million students but, 
because of our uniquely low enrollment fees, only one-third of those 
students are likely to claim the tax credits. My office has estimated 
that the annual accounting, system programming, printing, mailing, and 
student services support costs to comply with these requirements is 
likely to average $108,000 for each of the 106 California Community 
Colleges. Thus the colleges in our system are expected to spend more 
than $11 million per year in order to provide less than $51 million in 
student tax benefits.
    I am attaching a table that displays our calculation of tax credit 
utilization and reporting costs. Based on consultation with management 
information systems staff in my office, I also want to briefly outline 
where we see the major data processing costs arising and delineate our 
concerns about the usefulness of the data we will provide so that you 
will better understand the problems that institutions like ours are 
facing and the weaknesses in the current statutory reporting approach.
    Detailed Issues:

    Identifying Students in Their First Two Years of Postsecondary 
                               Education

    Institutions are required to indicate those students who, 
as of the beginning of the taxable year, have not completed the 
first two years of postsecondary education at an eligible 
educational institution. Colleges cannot accurately determine 
who those students are because a student may have taken units 
at other colleges, may have taken advanced placement courses in 
high school, may be concurrently enrolled in more than one 
college, may have changed majors, and may have even completed a 
degree at another institution before enrolling at a community 
college. Unless a student's prior units are applicable to their 
current educational objective, colleges do not record their 
postsecondary history. Therefore, community colleges are likely 
to report all enrolled students in this category, since we do 
not provide programs that extend beyond the first two years of 
postsecondary education. This calls into question the validity 
of the assumptions about Hope tax credit eligibility the IRS 
can make from the data.

                  Excluding Certain Types of Students

    The statute excludes from eligibility students who have 
been ``convicted of a federal or state felony offense for the 
possession or distribution of a controlled substance as of the 
end of the taxable year for which the credit is claimed.'' 
Colleges do not have access to this kind of law enforcement 
information and will report students to the IRS who may fall 
into this category.

    Identifying Students who are Enrolled in an Eligible Degree or 
                          Certificate Program

    The California Community Colleges do not enroll students 
into specific programs, but rather provide the opportunity for 
students to fulfill a variety of educational objectives. From 
an information systems perspective, the determination as to 
whether or not a student is enrolled in a degree or certificate 
program is not made until the student has completed the 
program. While financial aid and counseling offices monitor 
students' progress toward a specific goal within an eligible 
program for the 15 percent of students who receive federal 
Title IV student financial aid, there is no mechanism to make 
an accurate determination about enrollment in a specific 
program for the general student population.

                 Exclusion of Fees for Certain Courses

    The statute and IRS guidelines provide that ``qualified 
tuition and related expenses'' does not include expenses that 
relate to any course of instruction that involves sports, 
games, or hobbies unless the course is part of the student's 
degree program or, in the case of the Lifetime Learning tax 
credit, the student is enrolled in the course to acquire or 
improve job skills. Colleges have no mechanism to make this 
determination on a student-by-student basis and are likely to 
report all instructional fees as ``qualified tuition and 
related expenses.'' Thus, the IRS will not have reliable data 
on which to determine tax credit eligibility.

             Reconciling the Academic Year and the Tax Year

    Virtually all college record-keeping is on a term and 
academic year basis. Extensive programming is required to 
conform student fee and financial aid data to a calendar year/
tax year reporting schema. Accomplishing this is complicated by 
the fact that a student may pay fees in one calendar year for a 
term that begins in the next calendar year and then, because 
enrollment fees are charged on a per-unit basis, receive a 
refund of some or all of their fees in the next calendar year 
if their enrollment plans change. Taxpayers in 1999 and 
subsequent years will be required to report refunds of amounts 
claimed as ``qualified tuition and related expenses'' in a 
prior tax year; they may also report any reduction of 
previously reported educational assistance. Under current 
statute, colleges can be required to annually report both types 
of prior-year adjustments, necessitating additional expansion 
of institutional recordkeeping. Because the reporting timeframe 
required by the IRS occurs in the middle of the adjustment 
period for the typical fall term (January and February), 
adjustments after the tax year will be the norm rather than an 
exception.

         Aggregating ``Qualified Tuition and Related Expenses''

    The IRS Restructuring and Reform Act of 1998 (H.R. 2676) 
responded to college concerns about their ability to report net 
out-of-pocket expenses as required in the original statue by 
defining ``qualified tuition and related expenses'' as a 
distinct element and limiting institutional responsibility for 
reporting educational assistance that offsets tax credit 
eligibility to grants processed through the institution. 
However, reporting ``qualified tuition and related expenses'' 
in a single record for each student remains problematic because 
community colleges frequently maintain separate components, 
such as extension campuses, noncredit programs, community 
service courses, contract education, and others, that are not 
unified into a single database or information system. Bringing 
those together and reporting a single student record to the IRS 
requires extensive systems development and programming. 
Although the H.R. 2676 Conferees authorized the Treasury to 
exempt colleges from filing information returns for non-degree 
students enrolled exclusively in non-credit courses, and IRS 
interim guidelines did not require the reporting of any fee 
information for 1998, institutions are not free to exclude 
community service and other non-core enrollments from their TRA 
databases because a credit-enrolled student who is also taking 
a non-credit community service class is entitled to include the 
community service course fees as part of ``qualified tuition 
and related expenses.''

                    Matching Taxpayers and Students

    The statutory requirement that colleges provide information 
returns to taxpayers who are not students but are eligible to 
claim a Hope or Lifetime Learning tax credit for a dependent 
student assumes that colleges posses information that is not 
collected. If students are required to provide eligible 
taxpayer information to colleges as a condition for the 1098-T 
to be sent to the taxpayer, it will involve creation of a 
database that colleges need for no other purpose and will 
increase programming and mailing costs. If colleges are 
required to assertively collect eligible taxpayer information 
from all students in order to comply with the letter of current 
statute, those costs will be magnified. This is a clear example 
of burden that should appropriately be placed on the Treasury 
being diverted to colleges and universities.

 Interim Guidelines and Incremental Implementation Adds to Total Costs

    Colleges are grateful for Congressional efforts and the 
Treasury Secretary's willingness to delay full implementation 
of the TRA reporting requirements, and appreciate the intent 
that issues of institutional cost and burden be taken into 
consideration as final regulations are drafted. However, 
colleges have been put in the position of having to 
simultaneously comply with IRS interim requirements that are 
inconsistent with the statute; anticipate, as institutional 
systems are developed, future IRS requirements based on the 
statute; and be responsive to students and parents seeking 
information needed in the preparation of their tax returns. 
These functions are not complementary. For example, interim IRS 
guidelines relieved colleges of the statutory responsibility to 
include financial information on the 1998 1098-T forms provided 
to students, but required them to send the forms to virtually 
all students, including hundreds of thousands of students in 
our system with no or minimal tax credit eligibility. Because 
colleges were required to include a college telephone number 
for taxpayers to seek additional information, colleges had to 
have available for students, parents, and professional tax 
preparers the financial information that IRS did not require. 
Furthermore, college personnel had to respond to inquiries from 
ineligible taxpayers who assumed the tax credit was available 
to them because they received the 1098-T form.
    I have heard it suggested that full implementation of the 
statutory reporting requirements should simply be delayed for 
another year, but that provides a solution for no one. From our 
perspective, colleges and universities will continue to be in 
an untenable position until their responsibilities under the 
TRA are clearly defined. And from what I understand to be the 
Treasury's perspective, while the extensive institutional 
reporting requirements in the TRA were designed to prevent 
widespread taxpayer fraud, information received by the IRS 
under the interim reporting procedures does little more than 
confirm a taxfiler's college enrollment. If enrollment 
verification is sufficient to meet the Treasury's needs, there 
are much simpler and less costly ways to achieve that objective 
than what is currently required.
    Repeal of the TRA institutional reporting requirements 
would allow colleges to focus their efforts on providing 
information about the tax credits to students and parents and 
assisting those that can benefit from them to obtain the 
information necessary to claim them. The California Community 
Colleges, operating on the lowest margin of revenues per 
student of any public institutions of higher education in the 
nation, simply cannot afford to expend resources that do not 
contribute to the educational programs and services needed by 
our students without there being consequences for student 
access and program quality. The resources we are now forced to 
divert to serving the needs of the IRS represent resources that 
are denied to our students. Passage of the Higher Education 
Reporting Relief Act will result in better service to those 
students and families who will actually benefit from the higher 
education tax credits and enable colleges to focus their 
efforts on fulfilling their educational missions. Please be 
assured that I will make every effort to help you gain its 
passage.
    If my office can be of any assistance to you as this legislation 
advances, please do not hesitate to contact me directly or contact 
Linda Michalowski, Director of Federal Relations, at (916) 327-0186. 
You can also feel free to call on Bob Canavan at our Federal Liaison 
Office at (202) 462-5911.

            Sincerely,
                                         Thomas J. Nussbaum
                                                         Chancellor
cc: The Honorable Robert Matsui
Board of Governors President Schrimp
Vice Chancellor Walters
      

                                


Statement of National Association of Home Builders

    On behalf of the 197,000 member firms of the National 
Association of Home Builders (NAHB), we would like to express 
our support for Chairman Archer (R-TX) convening a hearing on 
proposals that would reduce the tax burden on individuals and 
businesses. NAHB appreciates the Chairman's willingness to 
listen to the concerns of individuals, businesses and 
organizations such as ours on the tax proposals that reduce the 
burden on our members the most.

  Increase the annual state authority for the Low Income Housing Tax 
                                 Credit

    NAHB's top tax policy priority for the 106th Congress is to 
increase the annual state authority for the Low Income Housing Tax 
Credit (LIHTC) to $1.75 per capita. The current LIHTC cap of $1.25 per 
capita has not been adjusted since the program's inception in 1986, 
while inflation has eroded the credits' purchasing power by 
approximately 45%. As a result, twelve million American households 
eligible for this program are not benefiting and are still paying too 
much of their income for rent or living in substandard housing. 
Therefore, the need for an increase in the credit is critical.
    NAHB therefore, endorses H.R. 175, introduced by the Chair of the 
House Ways and Means Subcommittee on Human Resources, Representative 
Nancy Johnson (R-CT) along with Ranking Member Charles Rangel (D-NY). 
H.R. 175 or ``The Affordable Housing Opportunity Act of 1999,'' will 
increase the annual authority for the Low Income Housing Tax Credit 
program from $1.25 per capita to $1.75 per capita and index the amount 
for inflation. The bill currently has 324 cosponsors including 74% (29 
of the 39 members) of the Ways and Means Committee. Additionally, an 
identical bill in the Senate, S. 1017, was introduced by Senators 
Connie Mack (R-FL) and Bob Graham (D-FL) and has 61 cosponsors 
including 60% of the Finance Committee.
    Created by Congress in 1986 and made permanent in 1993, the Low 
Income Housing Tax Credit is the nation's primary tool for building 
affordable rental housing. It is responsible for having produced 95% of 
all units and over 900,000 homes. The LIHTC has also been a cornerstone 
of revitalization in low-income communities and contributes to economic 
growth, generating approximately 70,000 jobs, $2.3 billion in wages and 
$1.2 billion in federal, state and local taxes annually.

          Reforms to the Low Income Housing Tax Credit Program

    Rep. Nancy Johnson is planning to introduce another bill 
that will increase the LIHTC to $1.75 per capita and reform the 
program. NAHB would like to include a reform in this bill that 
would level the playing field between non-profits and for 
profit developers of low income housing credit projects.
    NAHB would like to minimize the taxpaying status of the 
sponsor as a factor in determining LIHTC allocations without 
eliminating the 10% set aside for nonprofit organizations. In 
1997, 24 states had more than 30% of their LIHTC allocations go 
to non-tax paying entities, 10 states had more than 50% go to 
non-profits, 7 of which allocated over 70% of their credits to 
non-profit sponsors. These numbers show that most non-profit 
sponsors can compete head-to-head with taxpaying developers 
without preferential treatment. As a result, Rep. Nancy Johnson 
proposes to eliminate the additional selection criteria 
preference for non-profits in Section 42(m)(1)(C) of the Code 
without eliminating the current 10% set-aside for non-profit 
developers. NAHB has agreed with this concept and fully 
supports Rep. Nancy Johnson's efforts.
    Another programmatic reform that NAHB would like to see 
included in this year's tax package is a provision to provide 
finality for the amount of tax credits issued by the state 
agencies. The LIHTC program provides to each state a limited 
amount of tax credits that are used to finance, in part, the 
building of affordable housing. Developers of Section 42 
affordable housing must submit to an underwriting process by 
the state allocating agency at three different times in order 
to be awarded housing tax credits. The three determinations 
include an assessment of all the sources of financing and the 
total development costs for the project. This assessment of 
sources and uses results in a calculation by the state as to 
the minimum amount of credits necessary to fill the ``funding 
gap'' to make the project financially viable. Once the state 
agency issues the final amount of tax credits, in the form of 
an 8609 determination, the developer then sells those credits 
to investors at a discount which raises the necessary equity 
funds to build the project.
    The continued success of the program is dependent upon the 
certainty, stability and finality of the tax credit allocations 
by the state. However, the certainty, and therefore viability, 
of the LIHTC has been threatened by the IRS, which has begun 
auditing LIHTC projects and recalculating the amount of credits 
awarded by the state causing instability for the affordable 
housing credit industry.
    Recently, the IRS released a new LIHTC Audit Guide which 
makes it clear that the IRS will not treat allocations of the 
tax credits by state agencies as final. In its 1989 amendments 
to the housing credit program, Congress imposed on state 
agencies the burden of determining the appropriate amount of 
credit. Over the last two years, the IRS has begun second 
guessing state allocations by auditing projects and 
reevaluating the amount of credits awarded by the state 
agencies. This has resulted in the retroactive recalculation of 
what costs are included and excluded in the ``formula'' used to 
determine the appropriate amount of tax credits that can be 
claimed by an applicant.
    This retroactive recalculation and ultimate recapture of 
tax credits by the IRS is unfair and contravenes congressional 
intent. The states received the affordable housing units for 
the tax credits issued and the IRS is coming in to reclaim the 
tax credits after the public benefit intended by Congress has 
been bestowed by the private sector. There are no assertions by 
the IRS that the housing has not been occupied by qualified low 
income residents or that the costs in dispute have not or 
should not have been incurred. It is simply an after the fact 
calculation of which costs were included in the ``eligible 
basis.''
    The LIHTC program must have a certain and predictable base 
for making the calculation of the amount of tax credits that 
any project may need. The ``eligible basis'' concept in Section 
42 involves many factual determinations and potential disputes 
over whether a cost associated with a project is either 
``eligible'' or ``ineligible'' for inclusion in the calculation 
of the basis. The largest area of dispute with the IRS has been 
professional and developer fees. The IRS is taking a position 
that certain portions of the developer and professional fees 
should not be considered eligible for tax credit equity 
financing. This has not been the practice in the affordable 
housing industry and if true, would not produce enough credit 
equity funds to finance the building of most projects. By 
excluding portions of developer and professional fees, the IRS 
is creating instability and uncertainty about credit 
allocations. When allocations are uncertain, it threatens the 
continued viability of the program and must be addressed now in 
order to prevent the capital markets from fleeing the industry.

                   Impact of the New IRS Audit Guide

    The result of some IRS audits has been a recapture of tax 
credits which does not increase funds for affordable LIHTC 
housing. A recapture by the IRS does not return the funds to 
the states for reallocation. Therefore, no increased affordable 
housing results and the recaptured credits are lost from the 
housing program completely.
    When the formula for tax credit allocations is uncertain, 
the allocations are unstable. Without the reliability of 
allocations, the ability to plan for the development of housing 
with private financing is restrained. The success of the LIHTC 
program depends on leveraging private corporate funds to 
produce affordable housing that reaches a policy goal set by 
Congress. Private capital and capital markets, however, are 
very sensitive to risks and potential risks. Therefore, the 
possibility that an IRS audit will result in the recapture of 
tax credits may have a negative influence on the capital 
markets and cause potential investors to flee the market based 
on the perception of the high risk of recapture.
    In addition to a slow down or reduction in capital flows to 
LIHTC projects, the prices paid for credits may decline to 
compensate for the increased risk of recapture and loss of 
credits to the investor. When the discount paid by investors 
increases and the price for credits declines, there will be 
fewer housing units or lesser quality units built for the same 
revenue offset to the Treasury.

                              The Solution

    The housing credit industry needs a legislative solution 
that defines what is in, or out of, eligible basis for purposes 
of calculating the 8609 tax credit allocation. As a result, 
NAHB would like to work with Congress to develop a legislative 
proposal that does the following three things: 1) increases 
certainty for determining eligible basis and hence tax credit 
allocations, 2) protects existing tax credit allocations and 3) 
provides finality for future tax credit allocations.
    NAHB believes that as a part of the solution Congress 
should provide legislative finality in the area that has the 
largest potential for tax credit recalculation and recapture 
and limit the amount of retroactive recaptures. Thus, NAHB 
would like Congress to clarify that reasonable fees for 
development, architectural and other services are included in a 
building's adjusted basis, without regard to whether a portion 
of the services involved might be attributable to aspects of 
the development process which are not includable in basis. In 
doing so, Congress would recognize that these types of services 
performed in the course of a project's development are, in 
themselves, critical to the production of qualified low-income 
housing projects, and therefore, that the reasonable fees for 
such services are properly chargeable to capital accounts and 
includable in eligible basis. Although a particular element of 
a developer's, contractor's or architect's services, for 
example, may involve an aspect of the development process which 
is not, itself, includable in depreciable basis (e.g., 
landscaping or obtaining financing) does not make the 
particular services less important to the project or less 
appropriate for treatment as capitalized costs. Congress must 
clarify that it expects that, in determining the reasonableness 
of fees, the Treasury Department will be guided by the policies 
and determinations of the housing credit agency with authority 
over the building(s) at issue.
    Additionally, NAHB would like Congress to make final the 
state agencies determination that a building was developed in a 
timely manner in accordance with the requirements of the Code. 
The purpose of the 10% test and the two year in-service rule of 
Code section 42(h)(1)(E) is to assure that projects receiving 
carryover allocations of tax credit authority are ready to 
proceed and will be placed in service in a timely fashion. Once 
a project is actually placed in service, these objectives have 
been achieved. Congress should make it clear that after a 
housing credit agency determines that a building has been 
placed in service, the allocation to that building may not be 
challenged, absent fraud, on the technical ground of a 
deficiency in the carryover allocation. Adoption of this 
solution will provide greater certainty to investors, thereby 
increasing the efficiency of the tax credit, and will reduce 
legal fees and other transactional costs.
    NAHB would like to work with Congress in formulating a 
legislative solution to resolve these issues and ensure the 
continued success and viability of the LIHTC program.NAHB would 
like to work with Congress in formulating a legislative 
solution to resolve these issues and ensure the continued 
success and viability of the LIHTC program.

                     Private Activity Bond Increase

    NAHB also supports H.R. 864, introduced by Representative 
Amo Houghton Jr. (R-NY), Chair of the House Ways and Means 
Subcommittee on Oversight. H.R. 864 will increase the private 
activity bond cap to $75 per resident or $255 million, if 
greater, and index it for inflation by the year 2000. Senators 
John Breaux (D-LA) and Orrin Hatch (R-UT) introduced S. 459 an 
identical bill in the Senate.
    Currently the Internal Revenue Code limits the amount of 
tax-exempt private activity bonds that each state may issue to 
$50 per resident of the state, or $150 million if greater. This 
cap is severely restricting the ability of states and 
localities to meet pressing housing, economic development, and 
other investment needs of the citizens and communities.
    Although last year the private activity bond cap was 
increased, it does not begin to take effect until 2003. The 
1998 Omnibus Appropriations Bill, H.R. 4328, increased the 
state private activity bond cap to $55 per capita or $165 
million starting in 2003 with a phased in increase to $75 per 
capita or $225 million annually by 2007 for each state. This 
increase is too slow to keep up with the growing need for 
private activity bonds.
    The demand for private activity bonds far exceeds the 
supply in most states, leaving many individuals without an 
opportunity to achieve the American dream of home ownership. 
One example is the overwhelming demand in almost every state 
for Mortgage Revenue Bonds (MRBs), issued primarily by state 
housing finance agencies (HFAs) to finance modestly-priced, 
first time homes for lower income families. According to the 
National Council of State Housing Agencies (NCSHA), in 1996, 
state HFAs issued almost $7.5 billion in MRBs for nearly 
100,000 mortgages. The NCSHA estimates that in 1996, State HFAs 
could have used an additional $2 billion in bond cap authority. 
Unfortunately, this causes home ownership to remain out of 
reach for thousands of other families many of which could be 
better served by the MRB program.

                   Energy Efficiency Homes Tax Credit

    Another NAHB tax policy priority is H.R. 1358, ``the Energy 
Efficiency Affordable Home Act of 1999'' which was introduced 
by Congressman Bill Thomas (R-CA), a member of the House Ways 
and Means Committee. This bill provides a flat $2000 tax credit 
for the purchase of any new energy efficient home that exceeds 
the 1998 International Energy Conservation Code (IECC) by 30%. 
It also offers a credit of 20% for the cost of an upgrade 
project, up to $2000, for a homeowner who upgrades the energy 
efficiency of his or her home by 30%. NAHB supports this bill 
because it encourages voluntary energy efficiency, provides for 
a cleaner environment, lower utility costs and reduced carbon 
emissions and pollution.
    The Clinton Administration is also interested in this issue 
and has proposed its own tax credit proposal; however, the 
amount of the credit is tiered to reflect the energy efficiency 
level achieved over the IECC. Also, the administration's 
proposal does very little to address existing home energy 
efficiency. Last year, Representative Robert Matsui (D-CA) 
introduced the administration's proposal.

                  Contributions in Aid of Construction

    Finally, Congress should also include a change in this 
year's tax bill that would treat Contributions in Aid of 
Construction (CIAC) as non-taxable contributions to capital. 
The taxation of CIAC creates an unnecessary and unfair burden 
on economic growth. It requires utilities to pay taxes on the 
contributions of land and utility infrastructure from the 
builders which raises the ultimate price of the utility to the 
customer.
    Prior to 1986, CIAC were considered non-taxable events. 
However, the Tax Reform Act of 1986 changed the treatment of 
CIAC by making those capital contributions taxable income to 
the utility. The result of the CIAC tax has been the increased 
cost of new development for both private and public facilities 
by more than 50 percent. CIAC taxes tax-exempt entities such as 
municipal governments, school districts, charitable 
institutions and even the federal government.
    In many states, the utility is required to assess the CIAC 
tax on the capital contribution at the time of the contribution 
or payment. The result is that when a new customer pays the 
cost or contributes property to connect to the utility system, 
that cost to the customer must be ``grossed up'' to cover the 
utility's tax liability. The amount of the gross up varies with 
federal and state tax rates, but it can increase the cost by 
over 50 percent. In other states, the utility may pass CIAC tax 
onto its other customers in higher utility bills. In both 
cases, the CIAC tax unnecessarily and improperly increases the 
cost of extending utility services to new customers on the 
system. In many cases, the tax is high enough to stop the 
transaction entirely.
    In 1996, Congress reversed the requirement that taxes be 
paid on CIAC for regulated public utilities providing water and 
sewage disposal services. NAHB would urge Congress to grant an 
equal tax exclusion for all CIAC including electric energy and 
gas distribution.

                      Independent Contractor Issue

    We also want to bring to your attention our opposition to 
Congressman Kleczka and Houghton's bill, H.R. 1525, the 
``Independent Contractor Clarification Act.'' NAHB is opposed 
to this bill for several reasons. First, this bill will turn 
back the clock 20 years and undermine the current law regarding 
whether an individual is an independent contractor or an 
employee. This bill begins with the statutory presumption that 
an individual is an employee unless the parties can prove 
otherwise. Current law is neutral and does not, in theory, 
present a preference either way although, in practice, there is 
a bias against independent contractors. By creating a statutory 
preference towards employees, Congress would ignore a national 
policy that places the utmost importance and value on 
independent contractors and the small businesses that utilize 
their services.
    Secondly, the bill provides a three-prong test to determine 
employment status that does not simplify the test but only 
complicates it further. The test consists of three elements: 
the service recipient must lack control, make their services 
available to others and have entrepreneurial risk. Neither 
``control'' nor ``entrepreneurial risk'' is defined in the 
bill. Although the bill repeals the common law test, the new 
test would be even more subjective than current law, and would 
create even greater uncertainty and confusion because the new 
test lacks clear definition and guidance.
    Thirdly, the bill repeals Section 530, a safe harbor 
provision that allows small businesses and the independent 
contractors they may engage to rely on ``long standing industry 
practice'' as a guide to the appropriate classification of 
individuals. H.R. 1525 repeals Section 530 and replaces it with 
a narrower safe harbor, reliance on substantial authority. 
There have been few favorable IRS rulings over the years that 
might constitute substantial authority. What makes this repeal 
so damaging is that it will return us to an era when the IRS 
had the tools, the authority and power to stifle the 
entrepreneurial spirit or independent contractors and small 
businesses and was subject to the mercy of the enforcers.
    What NAHB and other small businesses are looking for is 
clarity and surety regarding the classification of the service 
provider and protection against retroactive reclassification. A 
bill S. 344, the ``Independent Contractor Simplification and 
Relief Act of 1999'' sponsored by Senator Kit Bond does achieve 
that goal. Please consider other avenues to address worker 
classification because H.R. 1525 is not the answer.
    NAHB appreciates your attention to issues of concern to our 
members and look forward to changes in the tax code that 
include the priorities mentioned in this testimony.
      

                                


Statement of Steven A. Wechsler, National Association of Real Estate 
Investment Trusts

    As requested in Press Release No. FC-11 (June 9, 1999), the 
National Association of Real Estate Investment Trusts 
(``NAREIT'') respectfully submits these comments in connection 
with the Committee on Ways and Means' review of tax relief 
proposals to sustain a strong economy. NAREIT thanks the 
Chairman and the Committee for the opportunity to share its 
views on several important issues affecting REITs and publicly 
traded real estate companies.
    NAREIT's comments address (1) H.R. 1616, the Real Estate 
Investment Trust Modernization Act of 1999; (2) the 
Administration proposals to modify the treatment of closely 
held real estate investment trusts ('REITs'') and amend section 
1374 \1\ to treat an ``S'' election by a large C corporation as 
a taxable liquidation of that C corporation; (3) H.R. 844; and 
(4) at risk rules applying to nonsecured public debt. We 
appreciate the opportunity to present these comments.
---------------------------------------------------------------------------
    \1\ For purposes of this Statement, ``section'' refers to the 
Internal Revenue Code of 1986, as amended.
---------------------------------------------------------------------------
    NAREIT is the national trade association for REITs and 
publicly traded real estate companies. Members are REITs and 
publicly traded businesses that own, operate and finance 
income-producing real estate, as well as those firms and 
individuals who advise, study and service these businesses. 
REITs are companies whose income and assets are mainly 
connected to income-producing real estate. By law, REITs 
regularly distribute most of their taxable income to 
shareholders as dividends. NAREIT represents over 200 REITs and 
publicly traded real estate companies, as well as over 1,600 
industry professionals who provide a range of legal, 
investment, financial and accounting-related services to these 
companies.

                           Executive Summary

    REIT Modernization Act. Congress created REITs in 1960 to 
make investment in income producing real estate easily and 
readily available to investors from all walks of life, yet 
current law prevents REITs from providing needed and emerging 
services to their tenants, putting them at a competitive 
disadvantage in the real estate marketplace. In addition, 
current law requires REITs to use indirect and inefficient 
methods in order to provide services to third parties. The 
Administration's Fiscal Year 2000 Proposed Budget contains a 
proposal to address these issues by authorizing REITs to own 
and operate taxable REIT subsidiaries. Because it is a better 
solution to the competitive limitations facing REITs today, 
NAREIT strongly supports H.R. 1616, the Real Estate Investment 
Trust Modernization Act of 1999 co-sponsored by Messrs. Thomas, 
Cardin and 31 other members of the House of Representatives.
    H.R. 1616 would incorporate the principles of the 
Administration's Fiscal Year 2000 proposal to allow a REIT to 
own stock in taxable REIT subsidiaries, with four significant 
exceptions. First, H.R. 1616 would require taxable REIT 
subsidiaries to fit within the current, unified 25% asset test, 
rather than the complex and cumbersome 5% and 15% assets tests 
under the Administration proposal. Second, H.R. 1616 would 
limit interest deductions on debt between a REIT and its 
taxable subsidiary in accordance with the current earnings 
stripping rules of section 163(j), whereas the Administration 
would eliminate even a reasonable amount of intra-party 
interest deductions. Third, H.R. 1616 would prohibit a taxable 
REIT subsidiary from operating or managing hotels, while 
allowing a subsidiary to lease a hotel from its affiliated REIT 
so long as (a) the rents are set at market levels, (b) the 
rents are not tied to net profits, and (c) the hotel is 
operated or managed by an independent contractor. Fourth, H.R. 
1616 would not apply the new rules on taxable REIT subsidiaries 
to current arrangements so long as a new trade or business is 
not engaged in and substantial new property is not acquired, 
unless the REIT affirmatively elects taxable REIT subsidiary 
status for its existing third party subsidiaries. Conversely, 
the Administration proposal would apply to current arrangements 
after an undefined period of time. H.R. 1616 also would make 
other beneficial and modernizing changes to the REIT tax rules, 
such as restoring the distribution requirement to 90% from 95%.
    Closely Held REITs. The Administration proposes to prevent 
any entity from owning 50% or more of the vote or value of a 
REIT's stock. NAREIT supports the Administration's intention to 
craft a new ownership test intended to correspond to a REIT's 
primary mission: to make investment in income-producing real 
estate accessible to ordinary investors. However, we believe 
that the Administration's proposal is too broad, and therefore 
should be narrowed to prevent only non-REIT C corporations from 
owning 50% or more of a REIT's stock (by vote or value). In 
addition, the new rules should not apply to so-called 
``incubator REITs'' that have proven to be a viable method by 
which small investors can access publicly traded real estate 
investments.
    Built-in Gain Tax. The Administration proposes to deny S 
corporations, mutual funds and REITs worth more than $5 million 
from using the 10-year deferral rule under section 1374. 
Congress has rejected the Administration's call for a change in 
the section 1374 rules for three straight budgets. NAREIT 
recommends that Congress again reject this proposal. We also 
ask Congress to conduct oversight of the IRS to ensure that it 
does not do administratively what it has not been able to 
achieve by legislation.
    Tenant Improvements. NAREIT strongly supports H.R. 844, 
which would change the depreciation period of certain tenant 
improvements to 10 years to better approximate their true 
economic lives.
    At Risk Rules. NAREIT urges Congress to update the 
qualified nonrecourse financing rules to include publicly 
traded debt.

                          Background on REITs

    A REIT is a corporation or business trust combining the 
capital of many investors to own, operate or finance income-
producing real estate, such as apartments, shopping centers, 
offices and warehouses. REITs must comply with a number of 
requirements, some of which are discussed in detail in this 
statement, but the most fundamental of these are as follows: 
(1) REITs must pay at least 95% of their taxable income to 
shareholders; (2) most of a REIT's assets must be real estate; 
(3) REITs must derive most of their income from real estate 
held for the long term; and (4) REITs must be widely held.
    In exchange for satisfying these requirements, REITs (like 
mutual funds) benefit from a dividends paid deduction so that 
most, if not all, of a REIT's earnings are taxed only at the 
shareholder level. On the other hand, REITs pay the price of 
not having retained earnings available to meet their business 
needs. Instead, capital for growth and significant capital 
expenditures largely comes from new money raised in the 
investment marketplace from investors who have confidence in 
the REIT's future prospects and business plan.
    Congress created the REIT structure in 1960 to make 
investments in large-scale, significant income-producing real 
estate accessible to investors from all walks of life. Based in 
part on the rationale for mutual funds, Congress decided that 
the only way for the average investor to access investments in 
larger-scale commercial properties was through pooling 
arrangements. In much the same ways as shareholders benefit by 
owning a portfolio of securities in a mutual fund, the 
shareholders of REITs can unite their capital into a single 
economic pursuit geared to the production of income through 
commercial real estate ownership. REITs offer distinct 
advantages for smaller investors: greater diversification 
through investing in a portfolio of properties rather than a 
single building and expert management by experienced real 
estate professionals.
    Despite the purpose of the REIT structure, the industry 
experienced very little growth for over 30 years mainly for two 
reasons. First, at the beginning REITs were seriously 
constrained by policy limitations. REITs were mandated to be 
passive portfolios of real estate. REITs were permitted only to 
own real estate, not to operate or manage it. This meant that 
REITs needed to use third party independent contractors, whose 
economic interests might diverge from those of the REIT's 
owners, to operate and manage the properties. This was an 
arrangement the investment marketplace did not accept readily 
or warmly.
    Second, during these years the real estate investment 
landscape was colored by tax shelter-oriented characteristics. 
Through the use of high debt levels, which created artificial 
bases for depreciation, interest and depreciation deductions 
significantly reduced taxable income--in many cases leading to 
so-called ``paper losses'' used to shelter a taxpayer's other 
income. Since a REIT is geared specifically to create 
``taxable'' income on a regular basis and a REIT, unlike a 
partnership, is not permitted to pass ``losses'' through to its 
owners, the REIT industry could not compete effectively for 
capital against tax shelters.
    In the Tax Reform Act of 1986 (the ``1986 Act''), Congress 
changed the real estate investment landscape. On the one hand, 
by limiting the deductibility of interest, lengthening 
depreciation periods and restricting the use of ``passive 
losses,'' the 1986 Act drastically reduced the potential for 
real estate investment to generate tax shelter opportunities. 
This meant, going forward, that real estate investment needed 
to be on a more economic and income-oriented footing.
    On the other hand, as part of the 1986 Act, Congress 
modified a significant policy constraint that had been imposed 
on REITs at the beginning. The Act permitted REITs not merely 
to own, but also to operate and manage most types of income 
producing commercial properties by providing ``customary'' 
services associated with real estate ownership. Finally, for 
most types of real estate (other than hotels, health care 
facilities and some other activities that consist of a higher 
degree of personal services), the economic interests of the 
REIT's shareholders could be merged with those of the REIT's 
operators and managers.
    Despite Congress' actions in 1986, significant REIT growth 
did not begin until 1992. One reason was the real estate 
recession in the early 1990s. Until the late 1980s banks and 
insurance companies kept up real estate lending at a 
significant pace. Foreign investment, particularly from Japan, 
also helped buoy the marketplace. But by 1990 the combined 
impact of the Savings and Loan crisis, the 1986 Act, 
overbuilding during the 1980s by non-REITs and regulatory 
pressures on bank and insurance lenders, led to a nationwide 
depression in the real estate economy. During the early 1990s 
commercial property values dropped between 30 and 50%. Credit 
and capital for commercial real estate became largely 
unavailable. As a result of this capital crunch, many borrowers 
defaulted on loans, resulting in losses by financial 
institutions and expense to the federal government.
    Against this backdrop, starting in 1992, many private real 
estate companies realized that the best and most efficient way 
to access capital was from the public marketplace utilizing 
REITs. At the same time, many investors decided that it was a 
good time to invest in commercial real estate--assuming 
recovering real estate markets were just over the horizon. They 
were right.
    Since 1992, the REIT industry has attained impressive 
growth as new publicly traded REITs infused much needed equity 
capital into the over-leveraged real estate industry. Today 
there are over 200 publicly traded REITs with an equity market 
capitalization exceeding $150 billion. These REITs are owned 
primarily by individuals, with 49% of REIT shares owned 
directly by individual investors and 37% owned by mutual funds, 
which are owned mostly by individuals. But REITs certainly do 
not just benefit investors.
    The lower debt levels associated with REITs compared to 
real estate investment overall have had a positive effect 
throughout the economy. Average debt levels for REITs are 40-
50% of market capitalization, compared to leverage of 75% and 
often higher used when real estate is privately owned. The 
higher equity capital cushions REITs from the negative effects 
of fluctuations in the real estate market that have 
traditionally occurred. The ability of REITs better to 
withstand market downturns should have a stabilizing effect on 
the real estate industry and its lenders, resulting in fewer 
future bankruptcies and work-outs. Consequently, the general 
economy will benefit from reduced real estate losses by 
federally insured financial institutions.
    Consistent with the policy underlying the REIT rules, many 
believe that, over time, the U.S. commercial real estate 
economy will move toward more and more ownership by REITs and 
publicly traded real estate companies. Yet, future growth may 
be significantly limited by the inability of REITs under 
current law to be able to provide more services to their 
tenants than they are currently allowed to perform. Although 
the 1986 Act largely married REIT management to REIT assets and 
the Taxpayer Relief Act of 1997 included additional helpful 
REIT reforms, REITs still must operate under limitations that 
increasingly will make them non-competitive in the emerging, 
customer-oriented real estate marketplace. NAREIT looks forward 
to working with Congress and the Administration further to 
modernize and improve the REIT rules so that REITs can continue 
to offer investors from all walks of life opportunities for 
rewarding investments in income-producing real estate.

                   I. REIT MODERNIZATION ACT OF 1999

A. Taxable REIT Subsidiaries

    As part of the asset diversification tests applied to 
REITs, a REIT may not own more than 10% of the outstanding 
voting securities of a non-REIT corporation pursuant to section 
856 (c)(5)(B).\2\ The Administration's Fiscal Year 1999 Budget 
proposed to amend section 856(c)(5)(B) to prohibit REITs from 
holding stock possessing more than 10% of the vote or value of 
all classes of stock of a non-REIT corporation.\3\ The 
Administration's Fiscal Year 2000 Budget proposed an exception 
to this vote or value rule for taxable REIT subsidiaries.
---------------------------------------------------------------------------
    \2\ The shares of a wholly-owned ``qualified REIT subsidiary'' 
(``QRS'') of the REIT are ignored for this test.
    \3\ Since it is a disregarded entity for tax purposes, a qualified 
REIT subsidiary would be excepted from the requirement that a REIT not 
own more than 10% of the vote or value of another corporation.
---------------------------------------------------------------------------
    1. Background and Current Law. The activities of REITs are 
strictly limited by a number of requirements that are designed 
to ensure that REITs serve as a vehicle for public investment 
in real estate. First, a REIT must comply with several income 
tests. At least 75% of the REIT's gross income must be derived 
from real estate, such as rents from real property, mortgage 
interest and gains from sales of real property (not including 
dealer sales). In addition, at least 95% of a REIT's gross 
income must come from the above real estate sources, dividends, 
interest and sales of securities.
    Second, a REIT must satisfy several asset tests. On the 
last day of each quarter, at least 75% of a REIT's assets must 
be real estate assets, cash and government securities. Real 
estate assets include interests in real property and mortgages 
on real property. As mentioned above, the asset diversification 
rules require that a REIT not own more than 10% of the 
outstanding voting securities of an issuer (other than a 
qualified REIT subsidiary under section 856(i)). In addition, 
no more than 5% of a REIT's assets can be represented by 
securities of a single issuer (other than a qualified REIT 
subsidiary).
    REITs have been so successful in operating their properties 
and providing permissible services to their tenants that they 
have been asked to provide these services to non-tenants, 
utilizing expertise and capabilities associated with the REIT's 
real estate activities. In addition, mortgage REITs are 
presented with substantial opportunities to service the 
mortgages that they securitize. The asset and income tests, 
however, restrict how and to what extent REITs can engage in 
these activities. A REIT can earn only up to 5% of its income 
from sources other than rents, mortgage interest, capital 
gains, dividends and interest. However, many REITs have had the 
opportunity to maximize shareholder value by earning more than 
5% from third party services.
    Starting in 1988, the Internal Revenue Service (``IRS'') 
issued private letter rulings to REITs approving a structure to 
facilitate a REIT providing a limited amount of services to 
third parties.\4\ These rulings sanctioned or permitted a 
structure under which a REIT owns no more than 10% of the 
voting stock and up to 99% of the value of a non-REIT 
corporation through nonvoting stock. Usually, managers or 
shareholders of the REIT own the voting stock of the ``Third 
Party Subsidiary'' (``TPS,'' also known as a ``Preferred Stock 
Subsidiary''). The TPS typically either provides to unrelated 
parties services already being delivered to a REIT's tenants, 
such as landscaping and managing a shopping mall in which the 
REIT owns a joint venture interest, or engages in other real 
estate activities, such as development, which the REIT cannot 
undertake to the same extent. A TPS of a mortgage REIT 
typically services a pool of securitized mortgages and sells 
mortgages as part of the securitization process that has the 
effect of lowering homeowners' interest rates.
---------------------------------------------------------------------------
    \4\ PLRs 8825112, 9340056, 9428033, 9431005, 9436025 9440026. See 
also PLRs 9507007, 9510030, 9640007, 9733011, 9734011, 9801012, 
9808011, 9835013.
---------------------------------------------------------------------------
    The REIT receives dividends from the TPS that are treated 
as qualifying income under the 95% income test, but not the 75% 
income test.\5\ Accordingly, a REIT continues to be principally 
devoted to real estate operations. While the IRS has approved 
using the TPS for services to third parties and ``customary'' 
services to tenants the REIT could otherwise provide, the IRS 
has not permitted the use of these subsidiaries to provide 
impermissible, non-customary real estate services to REIT 
tenants.\6\
---------------------------------------------------------------------------
    \5\ The REIT does not qualify for a dividends received deduction 
with respect to TPS dividends. I.R.C. Sec. 857(b)(2)(A).
    \6\ But see PLR 9804022. In addition, the IRS has been flexible in 
allowing a TPS to engage in an ``independent line of business'' in 
which it provides a service to the public and a minority of the users 
are REIT tenants. See, e.g., PLRs 9627017, 9734011, 9835013.
---------------------------------------------------------------------------
    2. Administration Proposal. In 1998, the Administration 
proposed changing the asset diversification tests to prevent a 
REIT from owning securities in a C corporation that represent 
10% of either the corporation's vote or its value. The proposal 
would have applied with respect to stock acquired on or after 
the date of first committee action. In addition, to the extent 
that a REIT's ownership of TPS stock would have been 
grandfathered by virtue of the effective date, the grandfather 
status would have terminated if the TPS engaged in a new trade 
or business or acquired substantial new assets on or after the 
date of first committee action.
    In its Fiscal Year 2000 Budget, the Administration again 
proposed to base the 10% asset test on either vote or value. 
However, it also proposes an exception for two types of taxable 
REIT subsidiaries (``TRS''). A qualified business subsidiary 
(``QBS'') would be the successor to the current TPS and could 
engage in the same activities as can a TPS today. A REIT could 
not own more than 15% of its assets in QBSs. The second type of 
TRS would be a qualified independent contractor subsidiary 
(``QIKS''), which could provide non-customary services to the 
affiliated REIT's tenants. A REIT could not own more than 5% of 
its assets in QIKSs as part of its 15% TRS allocation.
    Under the Administration's proposal, a TRS could not deduct 
any interest payments to its affiliated REIT, and 100% excise 
tax penalties would be imposed to the extent that any pricing 
between a TRS and either its affiliated REIT or that REIT's 
tenants was not set on an arms'-length basis. The new TRS rules 
would apply to all existing TPSs after a time period to be 
determined by Congress.
    3. Statement in Support of H.R. 1616. The REIT industry has 
grown significantly during the 1990s, from an equity market 
capitalization under $10 billion to over $150 billion. The TPS 
structure is used extensively by today's REITs and has been a 
small, but important, part of recent industry growth. These 
subsidiaries help ensure that the small investors who own REITs 
are able to maximize the return on their capital by taking full 
economic advantage of core business competencies developed by 
REITs in owning and operating the REIT's real estate or 
mortgages. The Administration appropriately recognized that it 
makes sense to allow a REIT to utilize these core competencies 
through taxable subsidiaries so long as the REIT remains 
focused on real estate and the subsidiary's operations are 
appropriately subject to a corporate level tax.
    In addition, the Administration's proposal recognizes that 
the REIT rules need to be modernized to permit REITs to remain 
competitive. By virtue of the ``customary'' standard in 
defining permissible REIT rental activities, REITs must wait 
until their competitors have established new levels of service 
before providing that service to their customers. This ``lag 
effect'' assures that REITs are never leaders in their markets, 
but only followers, to the detriment of their shareholders. 
Under the Administration proposal, the REIT could render such 
services to its tenants through a subsidiary that is subject to 
corporate tax.
    The Administration's TRS proposal is a serious and very 
significant step in the right direction, but NAREIT requests 
Congress instead to enact H.R. 1616. This bill parallels the 
Administration's subsidiary proposal, but improves and 
clarifies this concept in four major ways.
    First, H.R. 1616 would require taxable REIT subsidiaries to 
fit within the current, unified 25% asset test, rather than the 
unnecessarily complex and cumbersome 5% and 15% assets tests 
under the Administration proposal described above. Requiring 
two types of TRSs would cause severe complexity and 
administrative burdens, such as allocating costs between a QBS 
and a QIKS without incurring a 100% excise tax. Further, the 
Code should encourage, rather than prohibit, the same TRS 
providing the same service to its affiliated REIT's tenants and 
to third parties to make it easier to ensure that the pricing 
of those services is set at market rates. Moreover, the 5% and 
15% limits are unnecessarily restrictive given the fact that 
the subsidiary is subject to a corporate level tax on all of 
its activities. H.R. 1616 adopts the better approach of 
treating TRS stock as an asset that must fit within the current 
25% basket of non-real estate assets a REIT that can own, along 
with other non-real estate assets such as personal property.
    Second, H.R. 1616 would limit interest deductions on debt 
between a REIT and its taxable REIT subsidiary in accordance 
with the current earnings stripping rules of section 163(j), 
whereas the Administration would eliminate even a reasonable 
amount of intra-party interest deductions. Congress confronted 
very similar earnings stripping concerns in the 1980s with 
respect to foreign organizations and their U.S. subsidiaries 
and resolved those concerns by enacting section 163(j). This 
section permits interest deductions on objective, modest 
amounts of related party debt. Section 163(j) is easily 
implemented, and guidance has been provided by final 
regulations. H.R. 1616 would adopt even stricter rules for 
REITs and their subsidiaries by limiting the interest 
deductions to market rates, or else suffer a 100% excise tax. 
Clearly, REITs should not be forced to comply with an absolute 
denial of legitimate interest deductions when foreign 
organizations in similar circumstances are not so limited.
    Third, the Administration's proposal does not address 
whether REITs could use a TRS to own or operate hotels or 
health care facilities. H.R. 1616 would prohibit a taxable REIT 
subsidiary from operating or managing hotels and health care 
facilities, while allowing a subsidiary to lease a hotel from 
its affiliated REIT so long as (a) the rents are set at market 
levels, (b) the rents are not tied to net profits, and (c) the 
hotel is operated or managed by an independent contractor.
    Fourth, H.R. 1616 would not apply the new rules on 
subsidiaries to current arrangements so long as a new trade or 
business is not engaged in and substantial new property is not 
acquired, unless the REIT affirmatively elects, on a timely 
basis, taxable REIT subsidiary status for such TPS. Conversely, 
the Administration proposal would become effective after an 
undefined period of time. REITs have planned their operations 
based on IRS rulings starting in 1988 that have sanctioned or 
permitted TPSs and should not be penalized for following 
established policy. H.R. 1616 would adopt the approach to an 
effective date contained in last year's Administration's budget 
proposals that acknowledged the IRS' earlier acquiescence to 
the TPS structure.

Other Provisions in H.R. 1616

    NAREIT strongly endorses the other important modernization 
provisions contained in H.R. 1616: (1) restoration of the 
distribution requirement to the 90% level that applied to REITs 
from 1960 to 1980 (and that has at all times applied to mutual 
funds); (2) providing more flexibility for a REIT to hire an 
independent contractor to operate nursing homes, etc. without a 
lease for up to six years when the REIT takes back a health 
care property at the end of a lease and cannot re-lease it; (3) 
in the case of a publicly traded corporation being tested as an 
independent contractor, H.R. 1616 only would examine 
shareholders owning more than 5% of the corporation's stock; 
and (4) to prevent some traps for the unwary, H.R. 1616 would 
make some technical changes about how a company computes pre-
REIT earnings and profits that it must distribute to its 
shareholders after electing REIT status or having a C 
corporation merge into it.

           II. OTHER ADMINISTRATION PROPOSALS AFFECTING REITS

A. Closely Held REITS

    The Administration's Fiscal Year 2000 Budget proposes to 
add a new rule, creating a limit of less than 50% on the vote 
or value of stock any entity could own in any REIT.
    1. Background and Current Law. As discussed above, Congress 
created REITs to make real estate investments easily and 
economically accessible to the small investor. To carry out 
this purpose, Congress mandated two rules to ensure that REITs 
are widely held. First, five or fewer individuals cannot own 
more than 50% of a REIT's stock.\7\ In applying this test, most 
entities owning REIT stock are ``looked through'' to determine 
the ultimate ownership of the stock by individuals. Second, at 
least 100 persons (including corporations and partnerships) 
must be REIT shareholders. Both tests do not apply during a 
REIT's first taxable year, and the ``five or fewer'' test only 
applies in the last half of each subsequent taxable year of the 
REIT.
---------------------------------------------------------------------------
    \7\ I.R.C. Sec. 856(h)(1). There is no apparent reason why the 
proposed ownership test similarly should not be aimed at limiting more 
than 50% stock ownership, rather than 50% or more as now proposed.
---------------------------------------------------------------------------
    The Administration appears to be concerned about non-REITs 
establishing ``captive REITs'' and REITs doing ``step-down 
preferred'' transactions for various tax planning purposes, 
which the Administration finds abusive, such as the 
``liquidating REIT'' structure curtailed by the 1998 budget 
legislation.\8\ The Administration proposes changing the ``five 
or fewer'' test by imposing an additional requirement. The 
proposed new rule would prevent any ``person'' (i.e., a 
corporation, partnership or trust, including a pension or 
profit sharing trust) from owning stock of a REIT possessing 
50% or more of the total combined voting power of all classes 
of voting stock or 50% or more of the total value of shares of 
all classes of stock. Certain existing REIT attribution rules 
would apply in determining such ownership, and the proposal 
would be effective for entities electing REIT status for 
taxable years beginning on or after the date of first committee 
action.
---------------------------------------------------------------------------
    \8\ NAREIT supported the Administration's and Congress' move to 
limit the tax benefits of liquidating REITs.
---------------------------------------------------------------------------
    Statement Providing Limited Support for Administration 
Proposal on Closely Held REITs. NAREIT generally shares the 
Administration's views and concerns. We believe that the REIT 
structure is meant to be widely held and that it should not be 
used for abusive tax avoidance purposes. Therefore, NAREIT 
fully supports the intent of the proposal. But we are concerned 
that the Administration proposal casts too broad a net, 
prohibiting legitimate, temporary use of ``closely held'' REITs 
and fails to recognize that ownership by another pass-through 
entity is widely held. A limited number of exceptions are in 
order to allow certain ``entities'' to own a majority of a 
REIT's stock. For instance, NAREIT certainly agrees with the 
Administration's decision to exclude a REIT's ownership of 
another REIT's stock from the proposed new ownership limit.\9\ 
NAREIT would like to work with Congress and the Administration 
to ensure that any action to curb abuses does not disallow 
transactions necessary to foster the future REIT marketplace 
and to recognize the widely held nature of certain non-REIT 
entities.
---------------------------------------------------------------------------
    \9\ If the proposed test remains applicable to all persons owning 
more than 50% of a REIT's stock, then Congress should apply the 
exception for a REIT owning another REIT's stock by examining both 
direct and indirect ownership so as not to preclude an UPREIT owning 
more than 50% of another REIT's stock.
---------------------------------------------------------------------------
    First, an exception should be allowed to enable a REIT's 
organizers to have a single large investor for a temporary 
period, such as in preparation for a public offering of the 
REIT's shares. Such an ``incubator REIT'' sometimes is majority 
owned by its sponsor to allow the REIT to accumulate a track 
record that will facilitate its going public. The 
Administration proposal would prohibit this important approach 
which, in turn, could curb the emergence of new publicly traded 
REITs in which small investors may invest.
    Second, there is no reason why a partnership, mutual fund, 
pension or profit-sharing trust or other pass-through entity 
should be counted as one entity in determining whether any 
``person'' owns 50% of the vote or value of a REIT. A 
partnership, mutual fund or other pass-through entity is 
usually ignored for tax purposes. The partners in a partnership 
and the shareholders of a mutual fund or other pass-through 
entity should be considered the ``persons'' owning a REIT for 
purposes of any limits on investor ownership. Similarly, the 
Code already has rules preventing a ``pension held'' REIT from 
being used to avoid the unrelated business income tax rules, 
and therefore the new ownership test should not apply to 
pension or profit-sharing plans. Instead, NAREIT suggests that 
the new ownership test apply only to non-REIT C corporations 
that own more than 50% of a REIT's stock.\10\
---------------------------------------------------------------------------
    \10\ As under the current ``five or fewer'' test, any new ownership 
test should not apply to a REIT's first taxable year or the first half 
of subsequent taxable years. See I.R.C. Sec. Sec. 542(a)(2) and 
856(h)(2).
---------------------------------------------------------------------------

                           III. SECTION 1374

    The Administration's Fiscal Year 2000 Budget proposes to 
amend section 1374 to treat an ``S'' election by a C 
corporation valued at $5 million or more as a taxable 
liquidation of that C corporation followed by a distribution to 
its shareholders. This proposal also was included in the 
Administration's Fiscal Year 1997, 1998 and 1999 proposed 
budgets.

A. Background and Current Law

    Prior to its repeal as part of the Tax Reform Act of 1986, 
the holding in a court case named General Utilities permitted a 
C corporation to elect S corporation, REIT or mutual fund 
status (or transfer assets to an S corporation, REIT or mutual 
fund in a carryover basis transaction) without incurring a 
corporate-level tax. With the repeal of the General Utilities 
doctrine in 1986, such transactions arguably would have been 
immediately subject to tax but for Congress' enactment of 
section 1374. Under section 1374, a C corporation making an S 
corporation election pays any tax that otherwise would have 
been due on the ``built-in gain'' of the C corporation's assets 
only if and when those assets are sold or otherwise disposed of 
during a 10-year ``recognition period.'' The application of the 
tax upon the disposition of the assets, as opposed to the 
election of S status, works to distinguish legitimate 
conversions to S status from those made for purposes of tax 
avoidance.
    In Notice 88-19, 1988-1 C.B. 486 (the ``Notice''), the IRS 
announced that it intended to issue regulations under section 
337(d)(1) that in part would address the avoidance of the 
repeal of General Utilities through the use of REITs and 
regulated investment companies (``RICs,'' i.e. mutual funds). 
In addition, the IRS noted that those regulations would enable 
the REIT or RIC to be subject to rules similar to the 
principles of section 1374. Thus, a C corporation can elect 
REIT status and incur a corporate-level tax only if the REIT 
sells assets in a recognition event during the 10-year 
``recognition period.''
    In a release issued February 18, 1998, the Treasury 
Department announced that it intends to revise Notice 88-19 to 
conform to the Administration's proposed amendment to limit 
section 1374 to corporations worth less than $5 million, with 
an effective date similar to the statutory proposal. This 
proposal would result in a double layer of tax: once to the 
shareholders of the C corporation in a deemed liquidation and 
again to the C corporation itself upon such deemed liquidation.
    Because of the Treasury Department's intent to extend the 
proposed amendment of section 1374 to REITs, these comments 
address the proposed amendment as if it applied to both S 
corporations and REITs.

B. Statement in Support of the Current Application of Section 
1374 to REITs

    As stated above, the Administration proposal would limit 
the use of the 10-year election to REITs valued at $5 million 
or less. NAREIT believes that this proposal would contravene 
Congress' original intent regarding the formation of REITs, 
would be both inappropriate and unnecessary in light of the 
statutory requirements governing REITs, would impede the 
recapitalization of commercial real estate, likely would result 
in lower tax revenues, and ignores the basic distinction 
between REITs and partnerships.
    A fundamental reason for a continuation of the current 
rules regarding a C corporation's decision to elect REIT status 
is that the primary rationale for the creation of REITs was to 
permit small investors to make investments in real estate 
without incurring an entity level tax, and thereby placing 
those persons in a comparable position to larger investors. 
H.R. Rep. No. 2020, 86th Cong., 2d. Sess. 3-4 (1960).
    By placing a toll charge on a C corporation's REIT 
election, the proposed amendment would directly contravene this 
Congressional intent, as C corporations with low tax bases in 
assets (and therefore a potential for a large built-in gains 
tax) would be practically precluded from making a REIT 
election. As previously noted, the purpose of the 10-year 
election is to allow C corporations to make S corporation and 
REIT elections when those elections are supported by non-tax 
business reasons (e.g., access to the public capital markets), 
while protecting the Treasury from the use of such entities for 
tax avoidance.
    Additionally, REITs, unlike S corporations, have several 
characteristics that support a continuation of the current 
section 1374 principles. First, there are statutory 
requirements that make REITs long-term holders of real estate. 
The 100% prohibited transactions tax on REITs complements the 
10-year election mechanism.
    Second, while S corporations may have no more than 75 
shareholders, a REIT faces no statutory limit on the number of 
shareholders it may have and is required to have at least 100 
shareholders. In fact, some REITs have hundreds of thousands of 
beneficial shareholders. NAREIT believes that the large number 
of shareholders in a REIT and management's fiduciary 
responsibility to each of those shareholders preclude the use 
of a REIT as a vehicle primarily to circumvent the repeal of 
General Utilities. Any attempt to benefit a small number of 
investors in a C corporation through the conversion of that 
corporation to a REIT is impeded by the REIT widely-held 
ownership requirements.
    The consequence of the Administration proposal would be to 
preclude C corporations in the business of managing and 
operating income-producing real estate from accessing the 
substantial capital markets' infrastructure, comprised of 
investment banking specialists, analysts, and investors, that 
has been established for REITs. In addition, other C 
corporations that are not primarily in the business of 
operating commercial real estate would be precluded from 
recognizing the value of those assets by placing them in a 
professionally managed REIT. In both such scenarios, the 
hundreds of thousands of shareholders owning REIT stock would 
be denied the opportunity to become owners of quality 
commercial real estate assets.
    Furthermore, the $5 million dollar threshold that would 
limit the use of the current principles of section 1374 is 
unreasonable for REITs. While many S corporations are small or 
engaged in businesses that require minimal capitalization, 
REITs as owners of commercial real estate have significant 
capital requirements. As previously mentioned, it was Congress' 
recognition of the significant capital required to acquire and 
operate commercial real estate that led to the creation of the 
REIT as a vehicle for small investors to become owners of such 
properties. The capital intensive nature of REITs makes the $5 
million threshold essentially meaningless for REITs.
    It should be noted that this proposed amendment is unlikely 
to raise any substantial revenue with respect to REITs, and may 
in fact result in a loss of revenues. Due to the high cost that 
would be associated with making a REIT election if this 
amendment were to be enacted, it is unlikely that any C 
corporations would make the election and incur the associated 
double level of tax without the benefit of any cash to pay the 
taxes. In addition, by remaining C corporations, those entities 
would not be subject to the REIT requirement that they make 
taxable distributions of 95% of their income each tax year.
    Moreover, the Administration justifies its de facto repeal 
of section 1374 by stating that ``[t]he tax treatment of the 
conversion of a C corporation to an S corporation generally 
should be consistent with the treatment of its [sic] conversion 
of a C corporation to a partnership.'' Regardless of whether 
this stated reason for change is justifiable for S 
corporations, in any event it should not apply to REITs because 
of the material differences between REITs and partnerships.
    Unlike partnerships, REITs cannot (and have never been able 
to) pass through losses to their investors. Further, REITs can 
and do pay corporate level income and excise taxes. Simply put, 
REITs are C corporations. Thus, REITs are not susceptible to 
the tax avoidance concerns raised by the 1986 repeal of the 
General Utilities doctrine.
    We note that on March 9, 1999, the Treasury Department and 
the IRS released their 1999 Business Plan, in which it listed a 
project for ``[r]egulations regarding conversion of C 
corporation to to [sic] RIC or REIT status.'' On February 22, 
1996, the Treasury Department issued a release stating that 
``the IRS intends to revise Notice 88-19 to conform to the 
proposed amendment to section 1374, with an effective date 
similar to the statutory proposal.'' We urge the Congress to 
use its oversight authority to be certain that the Treasury 
Department does not by-pass Congress and enact the ``built-in 
gain'' tax on REITs and RICs administratively. Any such action 
would directly contravene Congress' repeated rejection of any 
statutory change in this area.
C. Summary

    The 10-year recognition period of section 1374 currently 
requires a REIT to pay a corporate-level tax on assets acquired 
from a C corporation with a built-in gain, if those assets are 
disposed of within a 10-year period. Combined with the 
statutory requirements that a REIT be widely held and a long-
term holder of assets, current law assures that the REIT is not 
a vehicle for tax avoidance. The proposal's two level tax would 
frustrate Congress' intent to allow the REIT to permit small 
investors to benefit from the capital-intensive real estate 
industry in a tax efficient manner.
    Accordingly, NAREIT believes that tax policy considerations 
are better served if the Administration's section 1374 proposal 
is not enacted. Further, the Administration should not 
contravene the Congress' clear intent in this area by 
attempting to impose this double level tax on REITs and RICs by 
administrative means.

                        IV. TENANT IMPROVEMENTS

    As an essential part of meeting customer demands, landlords 
routinely construct improvements to leased space to conform to 
a tenant's requirements. The average lease term (and therefore 
the usefulness of the ``build out'' for the tenant) ranges from 
five to ten years. However, since the Tax Reform Act of 1986, 
landlords must depreciate these ``tenant improvements'' over 
the tax life of the entire building: 39 years.
    H.R. 844 and S. 879 would ameliorate this disconnect 
between the tenant improvement's economic life and its tax 
write-off period. For the purposes of simplicity, under H.R. 
844 and S. 879 a lessor would depreciate its tenant 
improvements over ten years.
    NAREIT joins the other national real estate trade 
associations in strongly urging the Committee to incorporate 
H.R. 844 in its mark-up of tax legislation this year. H.R. 844 
would remove disincentives currently in place that discourage 
landlords from updating buildings, and would more closely 
conform the tax Code to economic realties.

                            V. AT RISK RULES

    In 1986, Congress extended the at risk rules for the first 
time to real estate. However, it created an exception for 
``qualified nonrecourse financing,'' since it recognized that 
loans made by an unrelated party in the lending business would 
not be used to create the ``tax shelters'' targeted by the 
underlying rules.
    Congress modernized the REIT rules in the 1986 Act, and the 
REIT industry has blossomed from less than $10 billion in 
equity market capitalization to about $150 billion today. As 
REITs have matured into full-fledged public companies, they 
have used the financing techniques long traditional to public 
companies. More than two thirds of the publicly traded REITs 
now have investment grade rating from the credit agencies and 
routinely issue nonsecured corporate debt. The use of such debt 
benefits the economy because the rating agencies require a 
conservative level of debt.
    However, as with the rest of the real estate sector, REITs 
routinely use partnerships to own and operate real estate 
holdings. Under the current at risk rules, a REIT's partners 
are penalized by the REIT's use of unsecured debt because the 
money is lent by the public markets rather than an entity 
engaged in the business of lending money.
    Even though the Internal Revenue Service has issued some 
private letter rulings that provide some limited relief in 
these situations, NAREIT strongly recommends that Congress 
update the at risk rules to include a publicly traded debt as 
being eligible as qualified nonrecourse financing. Such debt 
should include a debt instrument which either is traded on an 
established securities market or is readily tradable on a 
secondary market (or the substantial equivalent thereof).
    NAREIT thanks the Committee for the opportunity to comment 
on these important proposals.
      

                                


                The National Coalition for Public Education
                                          Washington, DC 20005-4905
                                                      June 22, 1999

Members of the House Ways and Means Committee
Washington, D.C. 20515

    Dear Committee member:

    It is expected that your June 23rd hearing on Tax Reduction 
Proposals will address many tax-related issues including those related 
to education incentives. We understand that the committee could 
consider education tax subsidies as part of an education-related tax 
package. The following members of the National Coalition for Public 
Education urge you NOT to support education savings accounts or any 
similar measure designed to create a tax subsidy for K-12 private and 
religious schools' tuition, homeschooling and other education expenses. 
The National Coalition for Public Education opposes funneling scarce 
tax revenues to private and religious schools through such mechanisms 
as K-12 education tax subsidies, tax credits and education savings 
accounts.
    NCPE's opposition to education tax subsidies was bolstered by a 
recent analysis conducted by the Joint Committee on Taxation on a 
Senate tax subsidy proposal. It found that the benefit to students in 
public school would be $5 a year for a program which would cost 
taxpayers more than $2.6 billion over the next ten years. However, the 
IRA accounts would only exist for a few years because the accounts' 
benefits expire in 2003. These education tax accounts are designed to 
help wealthy families pay for private school tuition. Families unable 
to save, including most families earning less than $55,000 a year, 
would not benefit at all. Higher income families who already send their 
children to private schools would gain most of the benefits. For all 
children the tax benefits would be minimal. According to the Joint 
Committee on Taxation's analysis of a similar proposal debated last 
year, families with students in private schools would receive a benefit 
of $37 annually.
    The federal government should be focusing its efforts and public 
funds towards our nation's public schools where 90% of America's 
children are educated. Real investments are needed, such as tax credits 
to subsidize $25 billion of public school construction bonds, which 
would make a real difference in our childrens' education. Tax subsidies 
do nothing to raise academic standards for all children, provide safe 
learning environments, increase teacher quality or increase parent 
involvement in schools.
    The undersigned groups urge you to oppose the inclusion of 
education tax subsidies in any future tax bill. This proposal is merely 
a scheme to use public money to offset the cost of private and 
religious schools for wealthy families.

            Sincerely,

American Association of Educational Service Agencies

American Association of School Administrators

American Association of University Women

American Civil Liberties Union

American Federation of State, County and Municipal Employees (AFSCME)

American Federation of Teachers

American Humanist Association

American Jewish Committee

American Jewish Congress

Americans for Religious Liberty

Americans United for Separation of Church and State

Council of Chief State School Officers

Council of the Great City Schools

Mexican American Legal Defense and Education Fund

National Association of Elementary School Principals

National Association of School Psychologists

National Association of State Boards of Education

National Association of State Directors of Special Education

National Council of Jewish Women

National Education Association

National PTA

National Rural Education Association

National School Bards Association

New York City Board of Education

People for the American Way

Service Employees International Union AFL-CIO

Union of American Hebrew Congregations

Unitarian Universalist Association

United Auto Workers International Union

Women of Reform Judaism

[GRAPHIC] [TIFF OMITTED] T0841.025

[GRAPHIC] [TIFF OMITTED] T0841.026

[GRAPHIC] [TIFF OMITTED] T0841.027

      

                                


                  National Conference of State Legislatures
                                                      June 10, 1999

Representative Bill Archer, Chair
House Ways and Means Committee
1102 Longworth House Office Bldg.
Washington, DC 20510

Re: FY 2000 Tax Legislation

    Dear Chairman Archer:
    We write on behalf of the National Conference of State Legislatures 
(NCSL) to urge you to include tax items of critical importance to state 
legislatures in your Chairman's mark of reconciliation legislation.
    Efforts by the Congress and the administration over the last 
several years, including passage of the 1997 balanced budget agreement, 
have produced federal budget surpluses that are expected to continue 
well into the future. These past budget decisions have prompted 
discussion of possible tax changes among members of Congress and the 
administration.
    We are concerned that federal tax relief not come at the expense of 
federal support for vital state-federal programs and partnerships. NCSL 
continues to support the objectives of the bipartisan budget agreement, 
yet we are well aware that the agreement places steep constraints on 
the construction of the thirteen appropriations bills for FY 2000. In 
the past, states shared disproportionately in federal efforts to reduce 
the deficit with major cuts to state-federal programs and partnerships. 
On the tax side, numerous tax changes made for deficit reduction 
purposes eliminated or significantly reduced preferential tax treatment 
in areas of importance to state and local governments.
    As you prepare your mark, NCSL trusts that you will give major 
consideration to our tax priorities which we believe strengthen the 
intergovernmental partnership as well as advance our shared goals of 
simplification, ensuring fairness and encouraging work and savings.
    NCSL asks that you include the following provisions in your mark of 
tax legislation:
    1) Pension Portability and Simplification: Proposals forwarded by 
Representatives Rob Portman and Benjamin Cardin, Senators Charles 
Grassley and Bob Graham and the President would make significant 
strides to increase the national savings rate, encourage retirement 
savings, simplify pension administration, and increase compensation 
limits reduced in the 1980s for deficit reduction purposes. 
Specifically, NCSL urges your inclusion of provisions that would:
     Enhance existing portability in public sector defined 
benefit plans, as well as allow portability between all retirement 
plans when employees change employment.
     Provide much needed clarity, flexibility and equity to the 
tax treatment of benefits and contributions under governmental 457 
deferred compensation plans.
     Restore benefit and compensation limits that have not been 
adjusted for inflation and are generally lower than they were fifteen 
years ago.
     Repeal compensation-based limits that unfairly curtail the 
retirement savings of relatively non-highly paid workers.
     Allow those approaching retirement to increase their 
retirement savings and further enhance their retirement security 
through catch-up provisions.
    2) Pubic School Construction and Modernization: NCSL supports 
efforts by the Congress and the administration to increase support for 
school construction and modernization. We urge you to include in your 
mark tax provisions for school construction that conform to existing 
state constitutional and regulatory requirements in order to maximize 
the impact of these provisions. Further, we urge inclusion of 
provisions supported in both the House and Senate that would treat 
qualified public educational facility bonds as exempt facility bonds 
and provide additional increases in the arbitrage rebate exception for 
governmental bonds used to finance education facilities. Current 
arbitrage rules essentially tax interest income on these bonds at a 
rate of 100% and thereby limit the states' ability to leverage 
infrastructure funds for school construction and modernization.
    3) Private Activity Bond Volume Cap: Volume caps have unduly 
restricted the use of bonds for projects that have increasingly become 
governmental responsibilities. The Omnibus Reconciliation Act of 1998 
included a partial, phased-in increase of the bond cap. NCSL supports 
H.R. 864 and S. 459, which would accelerate the increase of the volume 
cap and provide for an inflationary adjustment of the cap.
    4) Low-Income Housing Tax Credit: NCSL has long supported this 
important tax credit. H.R. 175 and S. 1017 provide an increase in the 
tax credit to $1.75 per capita and provide for an inflationary 
adjustment in the credit.
    While the President's budget proposal includes recommendations 
that, if adopted, will have a significant and positive impact on the 
delivery of specific services, we strongly disagree with several of the 
President's recommendations for tax offsets. We urge you not to include 
these offsets in your mark:
    1) State Bank Exam Fees: We are hopeful that these fees, rejected 
by the Congress in the past, are not taken as an offset for federal 
priorities. The Administration's proposal would constitute a double tax 
on state-chartered banks for exams conducted by state banking 
departments and which are used by both the Federal Deposit Insurance 
Corporation and the Federal Reserve Board. The proposed fee would 
create an inequity in our nation's dual banking system as national 
chartered banks would not be assessed this double charge.
    2) Leasing to State and Local Government: The President's proposal 
would limit the ``tax benefits for lessors of tax-exempt use property'' 
The Administration contends that in certain cross-border transactions 
involving tax-exempt entities, lessors have inappropriately applied 
certain tax benefits. Since introduction of the proposal in February, 
the Treasury has exercised its authority to shut down these cross-
border transactions through the issuance of Revenue Ruling 99-14 and 
Final Section 467 Regulations. The application of the Administration's 
proposal to tax-exempt state and local governments which lease 
equipment such as 911 emergency systems, school busses, police 
vehicles, computers and other high cost technology, would severely 
increase the cost of these leases for state and local government 
entities and likely eliminate leasing as a cost effective equipment 
acquisition option for state and local governments.
    As lawmakers, we understand the magnitude of the challenge that 
balancing the federal budget and determining how best to preserve or 
use the federal surplus presents. We know the decisions that must be 
made to address the challenge are difficult. As well, we understand 
that many exceptional tax relief proposals may be more difficult to 
implement in FY 2000. We would urge you to consider phasing in these 
proposals, as additional funds become available. State and local 
governments have much at stake in the method of financing the federal 
budget as federal and state tax systems are inextricably linked. We 
stand willing to help at all stages of the process.
    We look forward to cooperating with you as the reconciliation 
process moves forward. If we can provide additional information, please 
contact Gerri Madrid (202-624-8670) or Michael Bird (202-624-8686).

            Sincerely,
                         Representative Daniel T. Blue, Jr.
       Senior Majority Leader, North Carolina House Representatives
               President, National Conference of State Legislatures

                          Representative Paul S. Mannweiler
                  Minority Leader, Indiana House of Representatives
         President Elect, National Conference of State Legislatures
      

                                


Statement of the National Council of Farmer Cooperatives

    The National Council of Farmer Cooperatives (NCFC) supports 
and is working for the inclusion of H.R. 1914 into the upcoming 
tax bill. H.R. 1914 allows a farmer cooperative to bypass the 
dividend allocation rule, a regulatory rule that negatively 
impacts the amount of the patronage dividend deduction taken by 
a cooperative.
    As cooperatives look to the 21st Century, it is important 
for the industry to have the appropriate tools so it can 
continue to give value to its farmer owners. In today's world, 
businesses need to be adequately capitalized if they hope to 
remain competitive. Farmer cooperatives have a difficult time 
raising capital. The reason is that they generally have only 
two sources of capital--their farmer owners and borrowing from 
a lending institution. Farmer cooperatives do not raise capital 
from financial markets by issuing voting common stock because 
members hold this stock.
    However, farmer cooperatives are allowed to issue a class 
of non-voting preferred stock that can be used to raise equity 
from sources other than its farmer owners. When issuing a 
dividend bearing class of nonvoting preferred stock on which a 
dividend payment is made, a cooperative must comply with the 
``dividend allocation rule,'' which has an adverse tax affect 
on the cooperative and has been one reason why farmer 
cooperatives must heavily rely on debt financing.
    What is the dividend allocation rule? The dividend 
allocation rule applies when a cooperative pays a dividend on 
its capital stock or other proprietary capital interests (a 
``Capital Stock Dividend''). The rule causes a portion of the 
capital stock dividend to be allocated to the patronage 
operation and reduces the amount of the patronage dividend 
deduction, thereby creating additional taxable income for the 
cooperative.
    This rule has a long history going back to the 1920s, and 
currently is interpreted under Treasury Regulation Sec. 1.1388-
1(a)(1). It has evolved over the years to go beyond the 
particular situations in which it was developed to become a 
general rule that has a devastating effect on the industry's 
ability to raise equity capital. The prohibition established by 
the rule is one of the main reasons why cooperatives are 
heavily dependent on debt capital for their financing today.

                               H.R. 1914:

    NCFC has been working with Representative Bill Thomas in 
attempting to change this regulation. Congressman Thomas has 
introduced H.R. 1914, a bill that, if enacted, would repeal the 
``dividend allocation rule.''
    H.R. 1914 adds the following sentence to Sec. 1388 and 
effectively changes the regulation:
    (a) IN GENERAL-Subsection (a) of section 1388 of the 
Internal Revenue Code of 1986 (relating to patronage dividend 
defined) is amended by adding at the end the following: `For 
purposes of paragraph (3), net earnings shall not be reduced by 
amounts paid during the year as dividends on capital stock or 
other proprietary capital interests of the organization to the 
extent that the articles of incorporation or bylaws of such 
organization or other contract with patrons provide that such 
dividends are in addition to amounts otherwise payable to 
patrons which are derived from business done with or for 
patrons during the taxable year.'
    The language of H.R. 1914 is straightforward. It reverses 
the language of the regulation if agreed to by the patrons of 
the farmer cooperative. The effect of the language would allow 
a farmer cooperative to pay a ``capital stock dividend'' 
without first reducing the patronage earnings of the 
cooperative's patrons.
    H.R. 1914 allows cooperatives and their members to bypass 
the rule by agreeing in the articles, bylaws, or other contract 
that a Capital Stock Dividend would first be paid from 
nonpatronage and accumulated earnings of the cooperative before 
patronage dividends would be reduced. This would allow the 
cooperative, for example, to create a class of nonvoting 
preferred stock and pay dividends on this stock exclusively 
from nonpatronage earnings. The cooperative would not reduce 
the amount of its patronage dividend deduction by any portion 
of the Capital Stock Dividend.
    The benefits of this legislation for cooperatives could be 
substantial. Among other things, a cooperative could more 
easily:
     (1) raise capital from outside investors without 
having the farmer members who patronize the cooperative lose 
control;
     (2) create a class of nonvoting preferred stock 
that could be traded on capital markets, thereby providing 
liquidity to the cooperative's interests;
     (3) create a preferred stock program for 
management and employees that would improve incentive programs;
     (4) repurchase a departing member's interests for 
dividend paying stock, rather than debt; and
     (5) increase the amount of patronage earnings paid 
to the farmer owners.
    For these reasons, NCFC supports and is working for the 
inclusion of H.R. 1914 into the upcoming tax bill, and we look 
forward to working with the Ways & Means Committee on this 
issue.
    NCFC is a nationwide association of cooperative businesses 
owned and controlled by farmers. Its membership includes nearly 
70 major farmer marketing, supply and credit cooperatives, plus 
the state councils of cooperatives in 31 states. NCFC's 
members, in turn, represent nearly 4,000 local cooperatives, 
with a combined membership that includes approximately 1.6 
million farmers in the United States. NCFC members handle 
almost every type of agricultural commodity produced in the 
United States.
    Farmer cooperatives are self-help organizations that were 
formed, and operate today, to meet the needs of farmers for 
reliable and fairly-priced sources of farm supplies 
(fertilizer, seed, feed, petroleum products, herbicides and 
pesticides), services and credit, and to provide farmers 
assistance in effectively marketing the commodities that they 
produce. Some cooperatives focus on serving a single function--
providing farm supplies to members (referred to as ``supply 
cooperatives''), or helping members market a particular kind of 
crop (referred to as ``marketing cooperatives''). Others 
perform several different functions for their members. Whatever 
their function, farmer cooperatives are an extension of the 
farming operations of their members. Their importance to 
agriculture is demonstrated by the fact that most American 
farmers are affiliated with one or more cooperative.
      

                                


Statement of National Education Association

    Mr. Chairman and Members of the Committee:
    On behalf of the 2.4 million members of the National 
Education Association (NEA), we thank you for the opportunity 
to submit our views on education-related tax proposals.
    As you move forward to consider a comprehensive tax 
package, we urge you to include meaningful proposals to 
strengthen public education by addressing the critical needs of 
students and schools. NEA strongly supports inclusion in any 
tax package of tax credits to subsidize interest paid on school 
construction and modernization bonds. We believe such tax 
credits offer the best tax-related avenue for improving public 
education. In addition, NEA supports proposals to extend and 
expand tax exemptions for employer-provided educational 
assistance (Sec. 127) and to remove time limits on deductions 
for student loan interest payments. NEA strongly opposes 
proposals to permit tax-free withdrawals from education IRAs 
for K-12 private, religious, and home-school education 
expenses.

                  Tax Credits for School Modernization

    Public school construction and modernization is a top NEA 
priority. We urge Congress to provide significant federal 
assistance for school construction and modernization as part of 
any tax package.
    NEA members routinely express concern about the state of 
school buildings and facilities. Stories of leaking roofs, 
holes in walls, and overcrowded schools forced to hold classes 
held in temporary trailers are commonplace. The disrepair of 
our public schools is a nationwide problem that demands 
nationwide attention.
    The average school building in America is nearly 50 years 
old. Schools are in worse shape than any other part of the 
nation's infrastructure, according to a 1998 American Society 
of Civil Engineers study. Almost 60 percent of our nation's 
public schools report at least one building feature--such as 
roofs, exterior walls, windows, plumbing, heating/ventilation, 
electrical power, and lighting--in need of extensive repair, 
overhaul, or replacement. Every day 14 million children attend 
schools in inadequate buildings. The problem affects urban, 
suburban, and rural areas. A 1995 study by the General 
Accounting Office (GAO) found that 38 percent of urban school 
districts, 29 percent of suburban school districts, and 30 
percent of rural school districts have at least one building 
needing extensive repair or total replacement. Yet, while 
Congress just last year provided $216 billion for roads, 
bridges, and mass transit, to-date virtually no federal funds 
have been made available to improve school buildings.
    Overcrowded classrooms and structurally unfit school 
buildings impair student achievement, diminish student 
discipline, and compromise student safety. A 1996 study by the 
Virginia Polytechnic Institute and State University found an 
11-point difference in academic achievement between students in 
substandard classrooms and demographically similar children in 
a first-class learning environment. Similarly, a 1995 study of 
North Dakota high schools found a positive correlation between 
school condition and both student achievement and student 
behavior. A 1995 study of overcrowded schools in New York City 
found students in such schools scored significantly lower on 
both mathematics and reading exams than did similar students in 
underutilized schools.
    Ensuring all of our nation's students access to safe, 
modern schools that are not overcrowded will require a 
significant federal investment. Although school construction 
is, and will remain, primarily a state and local 
responsibility, states and school districts cannot meet the 
current urgent needs without federal assistance. In 1995, GAO 
estimated that just repairing existing school facilities would 
cost $112 billion. Wiring and equipping schools for technology 
will require billions more. In addition, building new 
facilities to meet the demands of surging enrollments could 
cost as much as $73 billion. States and localities simply 
cannot finance this magnitude of repair and construction 
without federal assistance.
    NEA strongly supports the Public School Modernization Act 
(H.R. 1660), sponsored by Representatives Charles Rangel with 
150 bipartisan cosponsors, and the America's Better Classrooms 
Act (H.R. 1760), sponsored by Representative Nancy Johnson with 
17 bipartisan cosponsors. These critical bills recognize the 
urgent need for federal school modernization assistance by 
providing tax credits to subsidize interest paid on $25 billion 
in school construction bonds.
    ``Zero-interest school modernization bonds'' offer a 
sensible, flexible, cost-effective approach for modern schools 
and better learning:
     Tax credits for school modernization bonds would 
create an effective local/state/federal partnership. The 
federal government would provide the necessary resources but 
leave decisions about which schools to build or repair to 
states and localities.
     Tax credits would create no additional 
bureaucracy. Existing government departments would implement 
the program.
     Zero-interest modernization bonds are fiscally 
sound. Three billion dollars in federal tax credits would 
generate $25 billion in bonds, with every dollar going for 
repair or construction.
     The tax credits would free up local monies 
normally spent on bond interest for additional investments in 
teaching and learning. As an example, the state of Connecticut 
paid over $100 million in interest on school debt in 1997-98. 
The interest on a typical 30-year tax-exempt bond almost equals 
the amount borrowed. Even on 15-year bonds the interest totals 
about 35 percent of the amount borrowed. Thus, the tax credits 
for bond interest would result in substantial savings for local 
districts. Such fiscal relief for school districts would help 
relieve pressure on property taxes, and thus make it easier to 
convince local voters to pass school bond referenda.
    In addition to the $25 billion in zero-interest school 
modernization bonds, NEA supports the School Construction Act 
of 1999 (H.R. 996), sponsored by Representative Bob Etheridge, 
which would provide $7 billion in bonds to states with high 
enrollment growth. States and localities will need to build 
some 6,000 new schools to serve additional students in the next 
decade. H.R. 996 would help meet some of this need by targeting 
additional resources to areas with the greatest projected 
growth.
    NEA recognizes that some Members of Congress--including 
Chairman Archer--seek to address school modernization needs 
through ``arbitrage relief'' proposals. Such proposals would 
allow school districts to retain earnings on bond proceeds for 
an additional two years, instead of rebating the funds to the 
federal government.
    While NEA commends the Chairman's interest in addressing 
the school modernization issue, we believe that arbitrage 
relief will not provide the type of meaningful assistance 
necessary to meet nationwide school modernization needs. While 
arbitrage relief might benefit some schools, it would fall well 
short of the need and would fail to leverage new investments 
for construction. Under an arbitrage relief plan, school 
districts would have to delay construction for at least two 
years to receive any benefit. Thus, areas with the most urgent 
needs would not be helped. In addition, arbitrage relief would 
provide little, if any, assistance for rural areas, as many 
rural schools are already exempt from arbitrage requirements. 
Even for those schools that can stretch out construction for 
two additional years, arbitrage profits would only amount to 
$10 on average for each $1000 of bond principal.
    The American public overwhelmingly supports a significant 
federal investment in school buildings. Americans' support for 
a federal investment in public school repair, renovation, and 
modernization transcends partisanship and geography. As 
demonstrated by a 1998 survey conducted by Republican pollster 
Frank Luntz, Republicans, Independents, and Democrats, in 
cities, suburbs, and rural areas want safe, modern school 
facilities. NEA believes that zero-interest school 
modernization bonds offer the best approach to ensuring all our 
students such safe, modern schools.

                Private School Education Tax Subsidies 

    NEA strongly opposes proposals to permit tax-free 
withdrawals from education IRAs for K-12 private, religious, 
and home-school education expenses. We believe these proposals, 
such as Representative Hulshof's Education Savings and School 
Excellence Act of 1999 (H.R. 7), represent bad tax and 
education policy.
    Education tax subsidies would disproportionately benefit 
private school students. Although families with children in 
private school represent only 7 percent of families eligible 
for the education IRA, they would receive more than half (52%) 
the tax benefits. Such subsidies would also disproportionately 
benefit wealthier families. Almost 70 percent of the benefits 
would go to the wealthiest 20 percent of families. In addition, 
although the cost to taxpayers would be over $2.6 billion, the 
average tax benefit to families with children in public schools 
would only be $5. For families with children in private school, 
the average tax break would be $37. The majority of working 
families earning less than $50,000 would get an annual tax cut 
of only $2.50. Such a small benefit would not create any 
incentive for families to increase savings.
    Despite rhetoric to the contrary, tax subsidies do not 
offer parents ``school choice.'' Private schools retain the 
freedom to deny admission to anyone they choose--especially 
children with costly special needs such as a learning or 
physical disability or limited-English proficiency. Tax 
subsidies also do not give choices to working families who 
cannot afford to pay or save for their child's private school 
tuition.
    Unlike tax credits for school modernization bonds, proposed 
tax subsidies for education IRAs fail to address the real 
problems confronting our nation's schools. They merely use the 
tax system to subsidize private school tuition and costs, while 
doing nothing to raise academic standards for all children, 
reduce class sizes, provide safe learning environments, improve 
teacher quality, or increase parent involvement in schools. 
Education tax subsidies divert attention away from a real 
debate on how to improve public schools and offer instead only 
a minor benefit to those who least need it. We urge you to 
reject such tax subsidy proposals in favor of proposals, such 
as tax credits for school modernization bonds, which will make 
a real difference for the majority of students and schools.

              Additional Education-Related Tax Proposals 

    In addition to tax credits for school modernization bonds, 
NEA supports several tax proposals to assist college students 
in meeting educational expenses. We support the Employee 
Educational Assistance Act of 1999 (H.R. 323)--sponsored by 
Rep. Levin, and 125 bipartisan cosponsors, which would 
permanently extend the tax exclusion for employer-provided 
educational assistance and restore the exclusion for graduate 
level educational assistance. This proposal would benefit not 
only students seeking to continue their education but 
employers, who will benefit substantially from sending 
employees to school to acquire additional skills. Extending and 
expanding the exclusion for employer-provided educational 
assistance could also have a significant impact on teacher 
quality, as more teachers would be able to take graduate 
courses to enhance their skills and learn new technologies 
without facing tax consequences for the employer-provided 
assistance.
    NEA also supports repealing the limit on the number of 
months during which interest paid on a college student loan is 
deductible. This proposal will help students facing 
overwhelming student loan debt and will eliminate complexity 
and administrative burdens for borrowers and financial 
institutions. Many teachers will benefit from this proposal. 
Lowering the tax burden for teachers--who often face large 
student loan debts but receive low salaries compared to other 
professions--will be of great assistance. Removal of the time 
restriction on student loan deductibility was proposed in the 
President's budget and is the cornerstone of legislation 
sponsored by Representatives Hulshof and English (H.R. 2141).
    Both extending and expanding the exclusion for employer-
provided educational assistance and eliminating the 60-month 
limit on deducting student loan interest enjoy broad bipartisan 
support. Both proposals offer practical solutions to helping 
students meet the rising costs of education. NEA urges 
inclusion of both proposals in the final tax package.

                               Conclusion

    NEA believes that a tax package offers an important 
opportunity to make real strides toward improving public 
education. We urge you to reject efforts to divert public funds 
for the benefit of a small number of students in private 
schools and instead to craft an education tax package providing 
real benefits to the majority of students in public schools.
    We thank you for the opportunity to offer our views and 
hope we can now move forward to address the critical needs of 
our public schools.
      

                                


Statement of Kristine S. Arnold, MS-II, University of Health Sciences, 
College of Osteopathic Medicine; on behalf of National Rural Health 
Association

    My name is Kristine Arnold, and I am representing the 
National Rural Health Association (NRHA). I want to thank the 
Chairman, and the members of the House Ways and Means Committee 
for allowing me the opportunity to submit written testimony 
regarding the Committee's hearing on reducing the tax burden on 
individuals and families.
    The NRHA is a national nonprofit membership organization 
that provides leadership on rural health issues. Through 
discussion and exploration, the NRHA works to create a clear 
national understanding of rural health care, its needs, and 
effective ways to meet them. The association's mission is to 
improve the health of rural Americans and to provide leadership 
on rural health issues through advocacy, communication, 
education and research. As you are well aware, rural areas are 
unique. They differ from urban communities in their geography, 
population mix and density, economics, lifestyle, values and 
social organization. Rural people and communities require 
programs that respond to their individual characteristics and 
needs.
    The membership of the NRHA is a diverse collection of 
individuals and organizations, all of whom share the common 
bond of an interest in rural health. Individual members come 
from all disciplines and include hospital and rural health 
clinic administrators, physicians, nurses, dentists, non-
physician providers, health planners, researchers and 
educators, state offices of rural health and policy-makers. 
Organization and supporting members include hospitals, 
community and migrant health centers, state health departments 
and university programs.
    I would like to share with you the NRHA's support for a 
change in the tax code that would exclude from federal income 
and FICA taxation tuition and other educational related 
expenses for National Health Service Corps (NHSC) scholars.
    The NHSC is helping to improve our nation's health, one 
community at a time. NHSC primary care providers represent many 
disciplines, including allopathic and osteopathic physicians, 
nurse practitioners, certified nurse-midwives, physician 
assistants, dentists, dental hygienists, clinical social 
workers, psychiatric nurse specialists, and marriage and family 
therapists. Over the past 25 years, more than 20,000 NHSC 
clinicians have spent all or part of their careers going where 
others choose not to go, serving the poorest, the least 
healthy, and the most isolated of our fellow Americans. There 
are currently 2,821 primary medical health professionals 
shortage areas (HPSAs). Today, 4.6 million people who would 
otherwise lack access are receiving high-quality primary care 
from over 2,400 dedicated NHSC professionals.
    I am currently an NHSC scholar and second year medical 
student at the University of Health Sciences, College of 
Osteopathic Medicine in Kansas City, Missouri. Beginning 
December 1997, the Internal Revenue Service (IRS) began 
withholding taxes on NHSC scholarships to comply with a 1986 
change in the tax code. This move by the IRS has been 
devastating to NHSC scholars because it places us in a higher 
tax bracket, and drastically reduces our living stipends. The 
monthly stipend for an NHSC scholar is currently $935. Each 
month $547 of that $935 is withheld from my stipend, leaving me 
with $388 to pay for my living expenses. (This number varies 
from school to school depending on the cost of tuition and 
fees). As a result I have been forced to take out a loan to pay 
for the majority of my living expenses. In April, I filed my 
federal and state income taxes and found that my reported 
income was in excess of $40,000; consequently I owed more than 
$5,000 in additional taxes. Again, I had to turn to a loan from 
the federal government to pay for the tax.
    One of the major incentives for participating in the NHSC 
scholarship program is the opportunity to graduate from medical 
school without debt. In return, NHSC scholars agree to serve in 
a federally designated HPSA for a number of years. Serving in 
one of these areas might otherwise prove to be financially 
impossible considering that the average debt for medical school 
graduates in the United States is currently $80,000. The burden 
the taxation of NHSC scholarships places on potential NHSC 
scholars may be a significant deterrent to interested and 
motivated students and clinicians who might otherwise be 
recruited to live and work in those areas most desperate for 
health professionals.
    The taxation of National Health Service Corps scholarships 
by the IRS is in direct conflict with the mission of the 
program. In order to resolve this problem, Congress must 
provide the IRS with the legislative authority required to 
continue to exclude from gross income any amounts received 
under the tuition and related expenses portion of the NHSC 
scholarship. This provision would make the NHSC Scholarship 
Program comparable to the Veteran's Administration (VA) 
Scholarship program.
    Last year, the House of Representatives included a 
provision to remedy this issue in a broader education bill that 
was later passed by the Congress, but vetoed by President 
Clinton for reasons other than this provision. Currently, 
legislation has been introduced in both the House and the 
Senate (H.R. 1344 and S. 980) that would exclude tuition and 
related expenses under the NHSC scholarships from taxation. The 
NHSC tax provision is supported by the Senate Rural Health 
Caucus, the House Rural Health Care Coalition, and the 
Department of Health and Human Services. In addition, a number 
of outside organizations support passage of this provision 
including the National Organization of State Offices of Rural 
Health, the American Psychological Association, the National 
Association of Community Health Centers, and the American 
Medical Student Association.
    In closing the NRHA encourages the Committee members to 
include this important provision in an omnibus tax reform 
measure or other legislative vehicle considered by the Congress 
this year. Enactment of this provision would enable the NHSC to 
carry out its continuing mission of bringing health care to 47 
million underserved Americans.
      

                                


Statement of David Goldstein, Energy Program Co-director, Natural 
Resources Defense Council, San Francisco, California

    Mr. Chairman and Members of the Committee:
    The Natural Resources Defense Council appreciates the 
opportunity to provide written testimony following the hearing 
of 23 June, 1999. We will comment concerning two pieces of 
legislation before your Committee, H.R. 1358, sponsored by 
Representative Bill Thomas, and H.R. 2380, sponsored by 
Representative Robert Matsui.
    The Natural Resources Defense Council is a national 
environmental organization with over 400,000 members and 
contributors. NRDC has promoted energy efficiency at the state, 
regional, national and international levels for 25 years, and 
has pioneered the development of market transformation programs 
to promote efficiency through overcoming market barriers.
    NRDC's analysis, summarized below, concludes that the 
Thomas Bill, while well intentioned, fails to meet most of this 
criteria for effective market transformation. NRDC therefore 
opposes this legislation. The Matsui Bill does satisfy the 
criteria and we urge the Committee to support it.
    Improving energy efficiency is a policy that has broad 
support from stakeholders in the environmental movement, the 
utility industry, citizens' groups, private companies, business 
organizations, states and cities, and others. Over 5% of the 
nation's GDP is spent on energy, but this could be reduced by 
half or more at a net profit. Increasing energy efficiency 
provides new business opportunities, improves the 
competitiveness of the American economy, provides increased 
numbers of jobs, and saves money for consumers, while at the 
same time providing cleaner water, cleaner air, and less 
pressure on limited energy resources.
    Even though energy efficiency is cheaper than continuing to 
pay bills for energy supply, many of the technologies that 
would provide these savings are not widely available in the 
marketplace. In part, this market failure occurs because many 
consumers do not make the fundamental decisions concerning 
their own energy efficiency. Members of Congress and their 
staffs, along with much of the business world, work in office 
spaces where they do not pay their own utility bills. An 
investment in energy efficiency would not make sense for them, 
no matter how quick the payback, because someone else is paying 
the energy bills. Consumers who rent their houses have the same 
problems, as do those citizens who purchase energy-using 
products such as refrigerators or washing machines on the used 
market. Few new homeowners are able to make important energy 
efficiency decisions that will affect their energy bills.
    Because of these and other persistent market barriers, many 
of the most promising technologies are not even offered to the 
consumer.
    But, many state energy offices and utilities working with 
businesses, builders, and homeowners, have learned how to 
overcome these barriers during the past 25 years through a 
number of programs and policies.
    One important new policy is market transformation. By 
offering targeted incentives for high levels of energy 
efficiency and maintaining them for a long enough time to make 
new product introduction worthwhile, market transformation can 
bring forth new products that would not otherwise be available. 
Once sold and mass produced, the price comes down, and these 
products can succeed with reduced or even eliminated policy 
intervention.
    Tax credits provide an opportunity to extend these state-
level successes while reducing the tax burden of individual 
households or businesses. But, as we learned in the 1970's, 
carelessly drawn up tax credits can simply contribute to 
inefficiency in the tax system: by paying for behavior that was 
going to happen anyway, with little effect once they have 
expired. In contrast to market transformation, where a small 
amount of ``seeding'' with federal money leads to large and 
continuing benefits, poorly structured tax credits leave no 
lasting effect and are wasteful of taxpayer's money.
    What are the criteria that market transforming tax credits 
should meet?
     The tax credits must be enforceable and workable: 
it must be simple to determine compliance with the credit and 
simple to apply for the credit and verify that the application 
is correct.
     The tax credit should make economic sense: the 
value of the credit should be commensurate with the cost of the 
technology it is attempting to bring forth and with the 
benefits to the consumer from the technology.
     The tax credits should introduce technologies that 
would not otherwise be purchased in significant numbers, or 
create new infrastructure that would not otherwise be there.
     The tax credits should be competitively fair: they 
should not favor one fuel or another (for technologies using 
utility-supplied fuels), or one technology approach over 
another, when both would be equally effective in protecting the 
environment and saving money for consumers.
     They should be based on programs that have a track 
record of working and learn from the experience of programs 
that have failed.
     They should minimize free ridership: people who 
qualify for the tax credit without doing anything different.

                            The Thomas Bill

    While superficially the Thomas Bill appears to meet several 
of the criteria for market transformation, the structure and 
actual language is fatally flawed in a number of different 
ways:
     The bill is not workable in its current form.
     For new homes complying by prescriptive methods, 
the legislation allows builders to self-certify. No oversight 
procedure is establish to see whether this self-certification 
works.
     If builders say they installed something different 
than what they are really installing, there is no obvious way 
to check this. The IRS does not know much about energy 
efficiency technologies, and does not have the staff expertise 
to review building plan documents, particularly since no 
standardized format for submitting results to the IRS is 
provided for in the legislation.
     Even if new buildings are designed in a way that 
qualifies with the criteria for the tax credit, there is no 
mechanism for assuring that houses are constructed to meet 
these plans.
     Since the tax credit goes to the builder and not 
to the home buyer, the buyer is not assured a means by which to 
know whether or not his or her home qualified for the tax 
credit. If the consumer's utility bills are no lower than those 
of his neighbors, he would not realize that anything is amiss.
     For new homes complying using the performance 
approach, a number of different options are offered for how to 
do the calculations. Experience at the state level has shown 
clearly that builders will ``shop around'' for the method that 
gives them the most credit for the least amount of work. 
Builders and their consultants have been very creative in 
applying the rules for how to perform performance calculations. 
Energy savings of 30% in theory could be 10% or even smaller in 
practice.
     For existing buildings, contractors can self-
certify to the taxpayer both the cost of the improvement 
attributable to energy efficiency and the extent of compliance 
with the prescriptive regulations. The temptations to ``fudge'' 
should be self-evident.
     For existing houses, the legislation is unclear on 
what actual criteria the contractor has to meet. In many 
climates, it is quite possible that very little physical 
improvements have to be made in order to qualify for the tax 
credit. The concern is that home repairs made for other 
purposes will be construed by the contractor to have been made 
for the purposes of energy efficiency.
     The legislation does not provide for regulatory 
oversight of the programs; even if we know after the first year 
that qualifying houses are being built that hardly save any 
energy, there is no regulatory mechanism for changing things to 
fix the problems.
     In summary, the lack of firm rules opens the door 
to waste and abuse. Fraud would be unnecessary because the 
taxpayer can abuse the system as much as he or she wants 
without breaking any explicit rules.
     The value of tax credit is excessive compared to 
the amount of energy saved. The value of energy savings for 
reducing heating and cooling costs by 30% would be about $150 
per year. A $2,000 tax credit would take over 15 years to pay 
back, even on a societal cost basis. This is excessive, 
particularly considering the fact that in many regions, the 
cost of meeting the criteria for this bill as intended is less 
than $700 (and the cost for meeting the requirements as written 
will, of course, be substantially less because the results will 
be less.
     The Thomas proposal is not fuel neutral. It will 
cause many homes to switch from gas to electricity in order to 
qualify more easily for the tax credit. In some cases, 
depending on how the rules are made or interpreted, the shift 
could be in the reverse direction. In any event, it does not 
enhance, but rather restricts competition between fuel 
suppliers.
     There may be significant problems with free 
ridership, particularly in regions of the country where strong 
energy codes are already being enforced, such as Oregon, 
California, and Florida.
     The legislation could undercut the emerging Home 
Energy Rating Systems (HERS) industry by allowing less 
qualified new entrants to make certifications on the same basis 
as existing, legitimate organizations.

                            The Matsui Bill

    The Matsui Bill does a good job of building on the 
successes of state programs and avoiding the mistakes of 
earlier failed programs. This bill covers a number of different 
technologies; our comments are not intended to be 
comprehensive.
    For new housing, the Matsui Bill offers a tiered approach 
with increasing tax credits for increasing savings. This is an 
approach that has been used successfully by utility programs.
    The lower tier, which is equivalent in savings to the 
Thomas Bill, provides a relatively easily achievable target 
with commensurately less reward. The highest tier provides an 
ambitious target with a more substantial financial incentive. 
The builder gets to choose which level of incentive he or she 
is aiming for. The housing section of the Matsui Bill has the 
following attributes:
     The implementation of the tax credits program is 
simple and effective; it builds on the experience of over a 
million houses in complying with similarly structured state 
energy efficiency building codes:
     Compliance is determined by experts certified by 
private sector firms. The Department of Energy is given 
authority to regulate the quality assurance and training 
programs of these firms based on a private sector model cited 
in the legislation.
     As in the Thomas Bill, a simple prescriptive path 
is offered for compliance. The Department of Energy is charged 
with developing this path. Because it is determined by 
regulation, mid-course corrections can be made to make the path 
more usable or to solve problems that occur in the field.
     A more flexible performance-based approach is 
allowed based on oversight by the Department of Energy. This 
oversight follows the successful experience of implementing 
performance-based approaches in a simple-to-enforce fashion in 
California and Florida. By relying on these states' software-
based approach, all of the complexity is taken away from both 
the users (the home energy raters) and the government auditors. 
The complexity is all ``hidden'' in the software. Software 
eligible to determine compliance must be certified by the 
Secretary of Energy.
     Since the certifications must be prepared by a 
third party, and given to the homeowner (taxpayer), there is a 
clear record that the house is supposed to be energy efficient 
and concerning what measures the builder took to make it energy 
efficiency. This establishes responsibility based on the 
consumer's self interest in assuring that energy efficiency 
measures are real.
     The highest level of tax credit, $2,000, is paid 
for savings of 50%. These savings may be in the neighborhood of 
$300/year or greater, so the tax credit is not out of 
proportion with the level of financial benefits that are being 
achieved.
     The higher tiers are easiest to meet using new 
construction methods for leak-free ducts and tightly 
constructed houses. To verify these results, a new home 
diagnostics industry will need to be created. The tax credits 
legislation can cause this industry to come into existence. 
Once it is there, the high economic attractiveness of these 
measures make it likely that they will continue to be used even 
after the tax credit expires.
     The legislation explicitly calls for fuel 
neutrality, so that there is no incentive to switch from gas or 
oil to electricity, or in the reverse direction. The 
performance-based approach provides the maximum level of 
competition between different technologies.
    The Matsui Bill also provides tiered tax credits for more 
efficient heating, cooling, and water heating equipment. These 
tax credits are similar to programs that have worked with 
extremely high effectiveness in bringing forth more efficient 
refrigerators, air conditioners, and water heaters, based on 
utility rebates. The tax credit programs are likely to be more 
effective than the utility programs because the manufacturers 
who are required to make the investments to bring forth these 
advanced technologies can be assured of several years' worth of 
tax credit, as opposed to utility programs that can only be 
committed to one year at a time.
    The Matsui Bill does not cover existing homes as the Thomas 
Bill does. NRDC believes that this is unfortunate, since a 
higher level of energy savings can be achieved in existing 
houses than in new houses. We believe that existing houses that 
meet the component requirements established for new houses--for 
example, the insulation levels in the ceiling, or the windows, 
or the walls--should qualify for a pro-rata fraction of the tax 
credit for new homes. This should not be a major budgetary 
impact, because it is difficult to meet these advanced levels 
designed for new houses in existing homes.
    The Matsui Bill also provides tax credits for energy-saving 
renewable technologies, such as solar water heating systems. 
While this is a good idea, the implementation in the bill is 
flawed. The legislation, as it stands, pays for a fraction of 
the expenditures on the device, rather than the results 
achieved by the device. As is the case in the housing and 
equipment sections of the Matsui bill, it is better to pay for 
achieving performance goals than for spending money.
    The Matsui Bill also provides incentives for energy 
efficient new automobiles. This section is structured 
imperfectly because it tends to ``pick winners'' among 
technologies and focuses only on improvements in the drive 
train, as opposed to all of the other areas of the car where 
fuel economy improvements can be made. Nevertheless, this bill 
would encourage technology advancement for the purpose of fuel 
economy in automobiles adding export value to fuel-efficient 
U.S. vehicles.
    Fuel consumption in cars causes multiple problems in the 
United States, including the nation's highest level of 
dependence on imported fuels. The seriousness of this problem 
commends support of even imperfect approaches towards solving 
this immense economic and geopolitical as well as environmental 
problem.

                        Summary and Conclusions

    NRDC believes that tax credits have an important role to 
play in a diversified portfolio of policies to improve energy 
efficiency in an economically justified way. The Thomas Bill, 
while well intended, is so structurally flawed that NRDC 
opposes this bill. The Matsui Bill is both structurally and 
technically more workable and worthy of enactment. Although 
NRDC has suggestions for improvements to the bill, we support 
it and urge the committee to include it in its markup.
      

                                


Statement of Hon. Paul D. Fraim, Mayor, City of Norfolk

    Chairman Archer and Members of the Committee, I am Paul 
Fraim, Mayor of the City of Norfolk, Virginia. I appreciate the 
opportunity to submit my comments in writing to you on an issue 
of importance not only to our community but to the many other 
communities participating in Round II of the Empowerment Zone/
Enterprise Community (EZ/EC) program.
    I am writing to urge you to include HR 2170, cosponsored by 
Reps. Rangel and Foley which completes the funding for the 
Round II EZECs in any tax bill which passes your committee this 
year. This program has been crucial to our local community in 
strengthening families and enabling more of our citizens to 
participate in the benefits of a strong economy.

                              Background:

    The Omnibus Budget Reconciliation Act of 1993 (P.L. 103-66) 
authorized 11 Empowerment Zones (EZs) and 94 Enterprise 
Communities (ECs) to receive tax relief benefits and federal 
funding of $100 million for each urban EZ, $40 million for each 
rural EC, and $3 million for each EC to implement local plans.
    Four years later, in 1997, 20 new Empowerment Zones were 
authorized as part of the tax reconciliation package in the 
Balanced Budget Act (15 Round II urban and 5 Round II rural 
EZs). These were selected and announced in January 1999. Unlike 
the first round, this second round of 20 new EZs were not 
authorized to benefit from the employer wage tax credit.
    In his budget for FY99 President Clinton proposed to fund 
the 20 new EZs at virtually the same level as the first round 
of EZ/ECs, requiring such funding to be mandatory and flowing 
through the Title XX Social Services Block Grant (SSBG). In the 
absence of a tax bill last year, $60 million in appropriations 
were provided to start up the program: $3 million each for the 
15 new urban EZs, $2 million each for the 5 new rural EZs, and 
$250,000 for each of 20 new rural ECs.
    This year the President's Budget for FY 2000 contained 
about $1.7 billion (over nine years) to fully fund the EZs and 
ECs and to provide $3 million each for 15 new Strategic 
Planning Communities (SPCs). Funding for the program is 
contained in HR 2170.

                           Norfolk, Virginia:

    Norfolk was fortunate to have been chosen to be an 
Enterprise Community during the first round of EZ/EC 
designations. The central focus of our program has been to 
enable substantial numbers of our citizens, who would not 
otherwise have had the means to do so, to achieve economic 
self-sufficiency in our community. Working in concert with and 
through our existing neighborhood centers and with the help of 
the City's business leaders and a number of existing training
    organizations, we have been able to offer our citizens 
services ranging from basic job readiness training and even 
specialized training using existing and new programs, to job 
placement, and on-the-job support.
    Our job placement rate is about 60% with another 16% 
pursuing additional training or educational opportunities. 
Nearly 900 individuals have been employed over the last four 
years, with a retention rate of 75%, above the norm for average 
employees. The word is spreading that a better life is 
available and demand for training exceeds supply. The cost per 
person trained and employed is only $3,654--substantially lower 
than most employment training programs.
    Chartered first as a town in 1682, Norfolk is one of the 
nation's older cities which means aging public schools and 
infrastructure, and little undeveloped land to attract new 
business. Our inability to grow and our age are exacerbated by 
the fact that almost 50% of our land is tax exempt, in large 
part due to being home to the world's largest naval base and 
the second largest commercial--but tax exempt--port on the East 
Coast. We are ranked first among Virginia's 140 cities and 
counties for ``fiscal stress,'' a well accepted state measure 
of imbalance between fiscal requirements and tax resources.
    Despite all this, Norfolk is a city that is aggressively 
and creatively working to solve our problems, to make Norfolk a 
great place to live, work and visit. Hardly a day passes that 
we don't encounter a visitor who remembers Norfolk as it was 
twenty years ago and cannot believe how positively we have 
changed. We have revitalized our waterfront and in the last ten 
years increased our tax base ten-fold.
    Meeting these significant challenges has not been easy. The 
City is in a constant financial struggle to meet the needs of 
our constituents within the resources available while 
maintaining our AA bond rating. For these reasons, the EZ/EC 
program is vital to Norfolk and to those who live here.
    In addition to the tax incentives and federal funds 
provided in the program, federal EZ/EC designation triggers 
state tax benefits and grants which supplement federal support. 
By requiring the state zone to conform with the federal zone, 
we have been also been able to expand the number of eligible 
businesses from 600 to 1700.

        EZEC Funding Is Necessary to Complement Tax Incentives:

    Other communities may have had a different experience but, 
for Norfolk, the expanded use of tax-exempt private activity 
bonds for our EC has not been of significant value in 
attracting new business to Norfolk. We have been told the bonds 
are too restrictive and complicated, especially for small 
businesses. Incentives for businesses to locate in ECs or EZs 
need to be attractive enough to realistically enable the 
community to compete with other regions of the country and 
adjacent jurisdictions.
    Tax incentives for businesses to hire EZ/EC residents are 
beneficial but, unfortunately, the new
    EZs do not receive the Employer Wage Credit which was 
available to the first round of EZs.
    Conceptually, the Work Opportunities Tax Credit (WOTC) 
should provide similar advantages but in Norfolk it is not used 
extensively. Employers tell us it is too burdensome and overly 
bureaucratic.
    Because most of our effort has been devoted to job 
readiness training and placement for our citizens, it has been 
the federal funding that has made the big difference in our 
community. This view is shared by other mayors and local 
government leaders who competed successfully for an EZ and EC 
designation.
    Norfolk was instrumental in organizing the ``EZ/EC Round II 
Coalition'' (Attachment) which meets regularly to share 
information on progress to convince Congress that it has an 
obligation to complete the process already undertaken regarding 
this program. All of us invested a great deal to compete for 
the new EZ and EC designations in good faith with the 
understanding that the plans for our local communities would be 
funded by the Congress that authorized Round II of this 
program.
    Finally, Mr. Chairman and Members, your desire to reduce 
the tax burden on families and keep the economy strong can be 
realized in part by completing the funding for the EZ/EC 
communities--communities which represent populations that have 
not benefitted from the strength of the current economy as much 
as all of us would like.
    Thank you for your consideration of our request.
    Attachment
      

                                


                       EZ/EC II COALITION Members

Empowerment Zones--

Thomas M. Menino, Mayor--Boston, MA

Michael Parolli, Mayor--Bridgeton, NJ

Anthony Campanella, Mayor--Vineland, NJ

Roxanne Qualls, Mayor--Cincinnati, OH

Robert D. Coble, Mayor--Columbia, SC

Stephen M. Creech, Mayor--Sumter, SC

Gregory S. Lashutka, Mayor--Columbus, OH

Carlos M. Ramirez, Mayor--El Paso, TX

Scott King, Mayor--Gary, IN

Robert A. Pastrick, Mayor--East Chicago, IN

Jean Dean, Mayor--Huntington, WV

Robert A. Cleary, Mayor--Ironton, OH

Victor Ashe, Mayor--Knoxville, TN

Joe Carollo, Mayor--Miami, FL

Sharon Sayles Belton, Mayor--Minneapolis, MN

John DeStefano, Jr., Mayor--New Haven, CT

Paul D. Fraim, Mayor--Norfolk, VA

James W. Holley III, Mayor--Portsmouth, VA

Miguel A. Pulido, Mayor--Santa Ana, CA

Clarence Harmon, Mayor--St. Louis, MO

Gordon Bush, Mayor--East St. Louis, IL

Richard Borer, Mayor--West Haven, CT

Kim Steffield--Cordele, GA

Irvin Rustad--Fargo, ND

Herb Wounded Head--Pine Ridge, SD

John Thurman--Riverside County, CA

Lisa Thurston--Ullin, IL


Strategic Planning Communities--


Rick Mystrom, Mayor--Anchorage, AK

Richard Arrington, Jr., Mayor--Birmingham, AL

Peter Clavelle, Mayor--Burlington, VT Clyde M. Rabideau, Jr., Mayor--
Plattsburgh, NY

Joseph P. Riley, Jr., Mayor--Charleston, SC

R. Keith Summey, Mayor--North Charleston, SC

Hardy Johnson, Jr., Mayor--Jackson, MS

Kay Barnes, Mayor--Kansas City, MO

Carol S. Marinovich, Mayor--Kansas City, KS

David L. Armstrong, Mayor--Louisville, KY

Jan Laverty Jones, Mayor--Las Vegas, NV

Michael Montandon, Mayor--North Las Vegas, NV

Jim Dailey, Mayor--Little Rock, AR

Patrick Henry Hays, Mayor--North Little Rock, AR

Marc Morial, Mayor--New Orleans, LA

Rudolph Giuliani, Mayor--New York/Brooklyn, NY

Sharpe James, Mayor--Newark, NJ

Chris Bollwage, Mayor--Elizabeth, NJ

Vincent A. Cianci, Jr., Mayor--Providence, RI

Howard W. Peak, Mayor--San Antonio, TX

Brian Ebersole, Mayor--Tacoma/Lakewood, WA


Rural Enterprise Communities


Timothy Gilmartin, Mayor--Metlakatla Indian

Larry Rodgers--Four Corners

Zak Gonzalez--Orange Cove, Huron, Parlier, and Tule River Tribal 
Council

Barbara Cacchione--Empowerment Alliance of SW Florida

Karen M. Holt--Molokai

Lanny McIntosh--Austin

Sharla Krenzel--Wichita County

Charlotte Mathis--Bowling Green

John C. Bott--Lewiston

Tim Wolverton--Clare County

Melissa Buckles-Fort Peck Assiniboine and Sioux Tribe

John Strand--Deming

Billie J. Floyd--Tri-County Indian Nations

Debra Hanna--Fayette

Joe Vuknic--Allendale County ALIVE

Tom Mottern--Clinch-Powell

Leodoro Martinez--Middle Rio Grande

Martin Wold--Tri-County Rural

Gale Kruger--Northwoods Niijii

Ben Newhouse--Upper Kanawha Valley

      

                                


Statement of Hon. Bill Thomas, a Representative in Congress from the 
State of California

    Mr. Chairman, I appreciate having an opportunity to comment 
on provisions I believe should be included in the coming tax 
bill.
    With respect to expiring provisions, I urge the inclusion 
of my bill to extend the Production Tax Credit (PTC) for wind 
power for an additional 5 years, H.R. 750. The bill has 
tremendous support in the House. One hundred and twenty-four 
members of the House, including 27 members of the Committee on 
Ways and Means, are cosponsors.
    Wind offers one technology we can use to reduce climate-
changing emissions. The America Wind Energy Association has 
estimated that under an extension of the PTC, working in 
conjunction with a set of policies aimed at further reducing 
costs, wind energy can achieve 30,000 megawatts of generating 
capacity in our country by 2010. Doing so would reduce 
CO2 emissions by up to 100 million metric tons, 
about 18% of the reduction that the electric industry must 
achieve to reduce emissions back to 1990 emissions levels.
    We should also give the embattled oil industry some help by 
including a five year carry back treatment to net operating 
losses resulting from the production of oil and gas as proposed 
in H.R. 423. Congress already extended a five year carry back 
to farmers and President Clinton has offered such a provision 
to the steel industry. My bill, which is supported by the 
Independent Producers Association of America and the California 
Independent Producers Association, aids the domestic oil 
industry in the same fashion.
    The recent increase in crude oil prices hardly means that 
H.R. 423 is no longer needed. Prices of late have risen on 
speculation that OPEC will maintain price discipline, hardly 
something on which we can count. H.R. 423 can serve as an 
insurance policy against further loss of jobs and production, 
both of which are valuable in this economy.
    H.R. 607 will remove barriers to mutual fund investment in 
publicly-traded partnerships (PTPs). PTP shares are subject to 
federal regulations on reporting data to the market. The shares 
are openly traded on public exchanges. In spite of these 
similarities to stocks and bonds, PTP shares are avoided by 
mutual funds managers because of outdated Internal Revenue Code 
standards.
    Under the Code, mutual funds can lose their pass-through 
status if more than 10% of their income comes from investments 
which are not listed in the statute. As PTP shares are not 
among the listed investments, fund managers avoid PTP shares 
due to the risk of earning too much income from them. H.R. 607 
provides a simple solution to this anomaly by including PTP 
shares in the list of assets generating income a mutual fund 
can count to its legal requirements.
    H.R. 1713 resolves long-standing problems for companies 
trying to manage risk with respect to vital supplies and 
working capital. Increasingly, businesses are relying on 
hedging and financial derivatives to manage their exposure to 
the risk of input price changes and capital costs.
    For taxpayers, the lack of clarity means continued 
uncertainty as to whether or not instruments will be treated as 
capital assets for tax purposes. Unless gain and loss are 
treated the same way, taxpayers' ability to manage risk will 
remain limited by the tax code.
    H.R. 1713 resolves the issue by defining hedge transactions 
as those in which risk is being managed. The language of the 
bill has been developed with Treasury and the resulting bill 
will actually raise federal revenue.
    I also strongly recommend the inclusion of H.R. 1616, the 
Real Estate Investment Trust Modification Act of 1999, in the 
coming bill. This bill, which Congressman Cardin and I 
coauthored, will resolve outstanding problems in the tax 
treatment of Real Estate Investment Trusts (REITs). H.R. 1616 
incorporates the Administration's REIT proposals but goes 
beyond them to make critical improvements in three areas of the 
law: services, the treatment of hotels, and handling bankrupt 
or foreclosed health care properties.
    The bill allows REITs to offer tenants services through 
Taxable REIT Subsidiaries. These subsidiaries will pay tax on 
income they earn. Severe penalties will apply to excessive 
changes used to shift subsidiary income back to the parent 
company, reducing the risk of ``earnings stripping'' schemes. 
The creation of these subsidiaries is vital to modernizing the 
role of REITs in offering resources to their tenants.
    Services are an increasingly important part of the real 
estate trade. While corporations and partnerships can offer 
potential tenants internet connections and other services, a 
REIT can only offer such services after the IRS deems them 
``customary'' in the trade. Until services are deemed 
customary, the income they generate puts a REIT at risk of 
losing its pass-through status. Today's law therefore makes 
REITs inherently less competitive than other rentors in the 
market.
    The bill also corrects an anomaly in the treatment of hotel 
REITs. Today, the law forces a REIT to have an independent 
third party lease the REITs' properties to a hotel operator. 
This rule diverts rental profits from the REIT shareholders to 
a third party. The bill's TRS requirement allows hotel REITs to 
use Taxable REIT Subsidiaries to conduct these activities.
    The final significant adjustment is in the treatment of 
health care properties subject to foreclosure proceedings or 
abandoned by lessees. Present law requires a REIT to find a new 
tenant within an unreasonably short period of time. Failure to 
meet this requirement means income from the property cannot be 
treated as rental income of the sort needed to remain a REIT. 
H.R. 1616 gives REITs in this difficult position up to two 
years in which to find a new tenants.
    For additional environmental benefits in reducing 
greenhouse gases, I urge the inclusion of H.R. 1358 in the 
coming tax bill. H.R. 1358 creates tax incentives to raise the 
energy efficiency of both new and existing homes. In the case 
of new homes, 30% more efficient than model code standards, a 
builder would receive a $2,000 credit. Homeowners would get a 
$2,000 credits for making improvements to existing housing 
stock.
    Incentives to improve homes are a good way to achieve 
voluntary greenhouse gas reductions. The average home today is 
responsible for about 12 tons of carbon dioxide in the 
atmosphere. H.R. 1358 gives builders and homeowners a 
substantial incentive to cut those emissions without forcing 
them to take prescribed steps.
    The Alliance to Save Energy has estimated the new home 
credit in H.R. 1358 would reduce the carbon dioxide emissions 
by up to 200,000 tons per year, nearly seven times the 
reduction expected from the Administration's proposal in this 
year's budget. Further, H.R. 1358 provides incentives to 
improve older homes as well. While older housing is far less 
efficient in its use of energy and substantial gains could be 
made there, the Administration's budget ignores this vital 
area.
    Finally, I have introduced H.R. 1914 to correct a flaw in 
the ``dividend allocation'' rule applicable to farmer 
cooperatives. Generally, a cooperative can deduct dividends 
paid to farmers which are based on cooperative earnings from 
business done for those farmer patrons. Earnings from other 
``nonpatronage sources'' are taxed when received by the coop as 
well as in the farmers' hands. Over the years, a ``dividend 
allocation rule'' has developed out of Treasury and court 
decisions that now creates problems for coops using sales of 
stock to raise capital.
    Coops are increasingly interested in raising funds through 
stock sales because many are reaching the limits of raising 
capital through debt. If dividends are paid on stock, the 
allocation rule taxes some income three times because the rule 
makes the coop reduce its dividends paid deduction based on the 
amount paid out on stock.
    H.R. 1914 puts an end to the third level of tax by 
allocating dividends paid on stock to nonpatronage sources of 
income and retained earnings first. Adoption of this rule will 
allow farmer cooperatives to continue serving agriculture in 
today's sophisticated markets.
      

                                


             Statement of U.S. Securities Markets Coalition

    This statement is submitted by the U.S. Securities Markets 
Coalition. The members of the Coalition are The American Stock 
Exchange, The Boston Stock Exchange, The Chicago Board Options 
Exchange, The Chicago Stock Exchange, The Cincinnati Stock 
Exchange, The NASDAQ Stock Market, The National Securities 
Clearing Corporation, The Options Clearing Corporation, The 
Pacific Stock Exchange, and The Philadelphia Stock Exchange. 
The statement sets forth two recommendations for improving the 
accuracy and fairness of the ``tax straddle'' rules. The 
proposals, which are relatively modest, will result in more 
equitable treatment of investors seeking to hedge risk 
associated with appreciated securities by tailoring the tax 
straddle rules to more precisely implement their underlying 
purposes. The statement also urges the Committee to proceed 
cautiously in considering certain aspects of the 
Administration's proposal to repeal the special rules for stock 
under section 1092(d)(3).

                                OVERVIEW

    The significant increases in the value of equity securities 
in recent years have led many investors to seek to hedge their 
appreciated stock positions against possible declines in value. 
While the options exchanges provide an efficient means for 
investors to hedge such risks,\1\ certain aspects of the ``loss 
deferral'' rule of section 1092, relating to tax straddles, 
impose what amounts to a tax penalty on legitimate hedges of 
appreciated stock with options and other financial instruments.
---------------------------------------------------------------------------
    \1\ Trading volume on the options exchanges has increased 
significantly in recent years. For example, the total volume on the 
options exchanges has increased from 295,000,000 contracts in 1996 to 
406,000,000 contracts in 1998, with each contact representing an option 
on 100 shares of stock.
---------------------------------------------------------------------------
    The Administration has previously recognized the 
``punitive'' nature of the loss deferral rule,\2\ and in 1997 
and 1998 the Administration proposed legislation to make 
certain aspects of the rule more equitable.\3\ In both 
instances, the Administration's proposal was coupled with 
certain proposals to expand and clarify the tax straddle rules 
of section 1092 and to clarify the treatment of ordinary 
business hedges. Although the Administration's Year 2000 Budget 
includes these latter proposals, the Administration 
inexplicably did not renew its prior proposal to ameliorate the 
harsh effects of the loss deferral rule.
---------------------------------------------------------------------------
    \2\ See ``Report on Tax Simplification Proposals,'' U.S. Treasury 
Department (April 16, 1997) (``[T]he loss deferral provision under the 
straddle rules is punitive and sometimes results in a total 
disallowance of losses.''); ``General Explanations of the 
Administration's Revenue Proposals,'' U.S. Treasury Department 
(February 1998) at pp. 52-53 (``[T]he loss deferral provision under the 
straddle rules can be punitive and sometimes results in a total 
disallowance of losses.'').
    \3\ See id.
---------------------------------------------------------------------------
    The Coalition urges the Committee to improve the fairness 
and accuracy of the loss deferral rule in order that taxpayers 
who enter into legitimate hedges of appreciated stock positions 
will not receive inappropriately harsh tax treatment. 
Specifically, the Coalition recommends that section 1092 be 
amended to provide that (i) gain that has economically accrued 
before a straddle is created will not be taken into account for 
purposes of applying the loss deferral rule, and (ii) losses 
that have been deferred under the rule will be ``freed up'' on 
a proportionate basis as gains on offsetting positions are 
recognized.
    The Coalition also recommends that the Committee exercise 
considerable caution in evaluating the Administration's 
proposal to eliminate the special treatment of stock under the 
tax straddle rules. If the proposal is broadly implemented, it 
will have significant consequences that need to be carefully 
examined.

                               Discussion

    1. The ``loss deferral'' rule and its origins. Under Code 
section 1092(a)(1), a recognized loss with respect to a 
position in a straddle is taken into account only to the extent 
that it exceeds unrecognized gain with respect to one or more 
positions that were offsetting positions with respect to the 
position from which the loss arose. This rule (the ``loss 
deferral'' rule) is applied at the end of the year in which the 
loss is recognized. Any loss that is deferred under this rule 
is treated as sustained in the following year, when the loss is 
again subjected to the same rule (i.e., it is to be taken into 
account only to the extent it exceeds the unrecognized gain in 
positions that were offsetting positions).
    The loss deferral rule was enacted in 1981 along with the 
other ``anti-straddle rules'' of section 1092. The specific 
transactions that Congress had in mind were straddles in 
commodities and commodities futures, which had become widely 
touted as transactions that could be used to create artificial 
losses to defer tax on unrelated gains.\4\ For example, a 
taxpayer seeking to shelter a capital gain would simultaneously 
enter into both long and short futures contracts with different 
delivery months in the following year. Whichever way the price 
of the underlying asset moved, the value of one contract would 
go up while the value of the other contract would go down. The 
taxpayer would then close out the loss contract and replace it 
with a similar contract with a slightly different delivery 
month. The taxpayer would use the loss to offset unrelated 
capital gain. In the following year, the taxpayer would close 
out both of the remaining contracts, in effect deferring gain 
from one year to the next.\5\ The loss deferral rule prevents 
this result by denying the taxpayer the ability to claim the 
loss on the straddle position to the extent there is 
unrecognized gain in the offsetting position at year-end.
---------------------------------------------------------------------------
    \4\ See S. Rep. No. 97-144, 97th Cong. 1st Sess. 145-146 (1981).
    \5\ See S. Rep. No. 97-144, supra, at 146. For a more detailed 
description of a classic commodities straddle, see Rev. Rul. 77-185, 
1977-1 C.B. 48 (describing a straddle transaction in silver futures 
contracts).
---------------------------------------------------------------------------
    As part of the 1981 anti-straddle legislation, Congress 
also adopted section 1256, which marks all regulated futures 
contracts to market at year-end. This mark-to-market regime, 
which treats all regulated futures contracts (and certain other 
contracts) as sold at the end of the year, prevents taxpayers 
from using straddles consisting solely of these contracts to 
create artificial losses.
    In 1984, the straddle provisions, including the loss 
deferral rule, were extended to cover (i) straddles consisting 
of options on stock, (ii) straddles consisting of stock and an 
option (or options) with respect to substantially identical 
stock or securities, and (iii) under regulations, straddles 
consisting of stock and positions with respect to substantially 
similar or related property (other than stock). See Code 
Sec. 1092(d)(3).
    2. Gain that arises before a straddle is created should not 
be taken into account under the loss deferral rule.--A loss on 
a position that was part of a straddle is deferred to the 
extent of any unrecognized gain remaining with respect to a 
position that was offsetting to the loss position. Current law 
does not distinguish between unrecognized gain that arose 
during the period of the straddle and unrecognized gain that 
arose before the straddle was entered into.
    The failure to make this distinction is understandable in 
light of the types of transactions that Congress had in mind 
when the straddle provisions were adopted in 1981. These 
transactions typically entailed simultaneously entering into 
long and short commodities futures contracts. When both 
``legs'' of a straddle are entered into at the same time, there 
can be no preexisting gain associated with either position, and 
any loss from a position is properly viewed as ``artificial'' 
to the extent that the taxpayer has economic gain on an 
offsetting position. As the Treasury Department has previously 
explained, straddle transactions are ``transactions having 
multiple components in which the same market movement 
simultaneously produces a loss and a gain.'' \6\
---------------------------------------------------------------------------
    \6\ See Statement of John E. Chapoton, Assistant Secretary of the 
Treasury Department for Tax Policy, Before the Ways and Means Committee 
on November 2, 1983 at page 21.
---------------------------------------------------------------------------
    The enactment of section 1092 (as well as section 1256) put 
a stop to the types of transactions Congress was concerned 
about in 1981. In today's world, the straddle rules most 
commonly operate with respect to transactions in which a 
taxpayer has held a position (such as stock) for some period of 
time before entering into another position (such as an option 
on the stock) to hedge some of the risk associated with the 
first position. If the taxpayer hedges appreciated stock, say, 
by purchasing a put option on that stock, any loss with respect 
to the put option will generally be deferred under the loss 
deferral rule without regard to whether the stock increases in 
value during the time the put option is outstanding.
    Example:
          Assume that an investor bought 1,000 shares of Amazon.com at 
        $5 a share and that it is currently trading at $150 a share. 
        The investor buys a put option on all 1,000 shares with an 
        exercise price of $140 a share, for which the investor pays 
        $5,000. The put protects the investor if the stock price drops 
        below $140. On the put's expiration date, Amazon.com is trading 
        at $145, so the put expires unexercised. The taxpayer has a 
        loss of $5,000 on the put (as well as an economic loss on 
        Amazon.com during the period of the straddle).
          Under current law, the taxpayer cannot claim the $5,000 loss 
        on the put because he continues to hold the Amazon.com stock 
        with unrecognized gain that is greater than the amount of that 
        loss. This is true even though (i) all of the gain accrued 
        economically before the straddle was entered into, and (ii) the 
        value of Amazon.com actually declined during the period of the 
        straddle.

    There is no policy rationale to support the result under 
current law. The loss on the put in the example is a real 
economic loss (as opposed to the ``artificial losses'' that 
Congress sought to preclude by enacting section 1092). The gain 
that current law takes into account all arose before the 
straddle was entered into and cannot properly be viewed as 
offsetting the loss on the put.
    The Coalition recommends that the loss deferral rule of 
section 1092(a)(1) be amended so that gain accruing before the 
straddle is entered into is not taken into account in 
determining the amount of any loss to be deferred as a result 
of the straddle transaction. This change will both reduce the 
unfairness inherent in present law and more precisely implement 
the original purpose of the straddle rules, which was to 
prevent taxpayers from creating economically offsetting gains 
and losses through straddle transactions and using the losses 
to defer tax on unrelated gains.
    As a corollary of this change, any economic loss on a 
position that arises before a straddle transition is entered 
into would also be disregarded in determining the amount of 
unrecognized gain on that position for purposes of applying the 
loss deferral rule. This change will prevent taxpayers from 
exploiting the lack of precision in the current rules by 
entering into straddles with respect to positions with ``built-
in losses.'' \7\
---------------------------------------------------------------------------
    \7\ A taxpayer who holds a depreciated stock or security may be 
able to generate artificial losses through straddle transactions and 
avoid application of the loss deferral rule. Assume a taxpayer holds 
stock with a basis of $10,00 and a value of $8,000. The taxpayer enters 
into a straddle transaction that results in a $2,000 loss on the 
offsetting position and a $2,000 increase in the value of the stock 
during the straddle. Because there is no overall gain in the stock, the 
loss deferral rule will not defer the deduction of the $2,000 loss 
(even though it was economically offset by $2,000 of gain on the stock 
during the time the straddle was in place).
---------------------------------------------------------------------------
    The Coalition's proposal can be readily implemented by 
limiting the amount of loss subject to the loss deferral rule 
to the amount of unrecognized gain in the retained offsetting 
position(s) that arose after the time the straddle was created. 
Because application of the straddle rules is limited to 
positions with respect to actively traded personal property, it 
should generally not be difficult to determine the market value 
of the position at the time the straddle is created (i.e., when 
the offsetting position is entered into). Current law already 
depends on determining the market value of the position as of 
the end of the year.
    The application of the Coalition's proposal can be 
illustrated by the following example.
    Example:

          Investor X holds 1,000 shares of stock with a basis of 
        $10,000 ($10 per share) and a value of $60,000 ($60 per share). 
        X buys a put option with an exercise price of $60 on all 1,000 
        shares, paying a premium of $7,000. At the expiration of the 
        put, the stock is trading at $62 per share, and the put expires 
        worthless. X continues to hold the stock, which is trading at 
        $62 at year-end.

    Under current law, X cannot deduct any portion of the 
$7,000 loss on the put because the unrecognized gain in the 
stock exceeds that amount. This is true even though the $7,000 
loss on the put was offset by only a $2,000 gain in the stock 
during the period the straddle was in place. Under the 
proposal, X would be allowed to deduct $5,000, which represents 
the real economic loss to X during the time the straddle is in 
place. The remaining $2,000 of loss, which was offset by gain 
on the stock, would be deferred as under current law. The only 
additional change would be that the unrecognized gain taken 
into account at year-end would be limited to the excess over 
$60 per share (the value of the stock at the time the straddle 
was entered into).\8\
---------------------------------------------------------------------------
    \8\ The Coalition's proposal to segregate gain (or loss) that 
arises before a straddle is created for purposes of the loss deferral 
rule is consistent with approaches taken by Congress in other areas. 
For example, under Code section 475(b)(3), if a securities dealer holds 
property for investment and then converts it to dealer property, the 
property becomes subject to the mark-to-market rules of that section 
However, only gains and losses arising after the date of conversion are 
marked to market. Any unrealized gain or loss existing at the date of 
conversion remains suspended until the property is sold.
    Another analogous provision is former section 851(g), which 
provided that gains and losses of regulated investment companies during 
the period of any ``designated hedging transaction'' would be netted 
for purposes of the ``short-short test'' of former section 851(b)(3). 
Thus, any gain or loss arising before such a hedging transaction was 
entered into was segregated from the calculation of the net gain or 
loss during the period the hedging transaction was in place.
---------------------------------------------------------------------------
    In light of the substantial appreciation of equities over 
the last several years, and the desire of investors to hedge 
risks associated with their appreciated investments, this is an 
appropriate time for the Committee to correct an obvious 
inequity in the straddle rules. The loss deferral rule of 
current law is unnecessarily crude and imprecise. The Coalition 
urges the Committee to report legislation that will make the 
loss deferral rule both more equitable and more accurate in 
light of its intended purpose.
    3. Permit deferred losses to be deducted proportionately as 
offsetting gains are recognized.--Under current law, a loss on 
a position that was part of a straddle apparently has to be 
deferred to the extent of any unrecognized gain with respect to 
one or more positions that were offsetting to the loss 
position. See Code Sec. 1092(a)(1)(A). This rule applies even 
if the taxpayer has recognized a substantial portion of the 
gain associated with such offsetting positions.
    Example:

          Investor B buys 1,000 shares of Selectron at $50 share and 
        buys a put option on all 1,000 shares with a strike price of 
        $45 at a cost of $2,000. Assume that the stock goes up to $70 
        per share and the puts expire worthless. B then sells 900 
        shares of the stock, thereby recognizing $18,000 of gain 
        ($63,000 of proceeds less basis of $45,000). Under current law 
        it appears that B cannot deduct any portion of the $2,000 loss 
        on the puts because he still has $2,000 of unrecognized gain in 
        his 100 remaining shares of stock. This is true even though B 
        sold--and recognized gain on--90% of the stock position that 
        was offsetting to the puts.

    This aspect of current law is unnecessarily harsh and 
should be corrected. Section 1092 should be amended to provide 
that a taxpayer is permitted to deduct a portion of any loss 
from a position that was part of a straddle to the extent that 
he or she has recognized a similar portion of gain associated 
with offsetting positions in the straddle. Thus, in the above 
example, B would be permitted to deduct 90% of his loss on the 
puts ($1,800) because he recognized the gain associated with 
90% of his stock position.
    This proposal is consistent with the hedge timing rules of 
Treasury Regulation section 1.446-4. It appropriately matches 
the timing of the loss on the hedging position to the timing of 
the gain on the hedged position. As with the proposal set forth 
above, it would both improve the accuracy of the tax straddle 
rules and ameliorate unnecessarily harsh consequences under 
current law.
    4. The Administration's proposal to eliminate the special 
rules for stock.--The Administration's Year 2000 Budget 
includes a proposal to repeal the special rules for stock under 
section 1092(d)(3). These rules generally limit application of 
the straddle rules, in the case of stock, to (i) straddles 
consisting of stock and options with respect to substantially 
identical stock or securities, and (ii) to the extent provided 
by regulations, straddles consisting of stock and positions 
with respect to substantially similar or related property 
(other than stock).
    In 1995 Treasury exercised its regulatory authority to 
apply the straddle rules to straddles consisting of stock and 
positions with respect to substantially similar or related 
property (other than stock). See Treas. Reg. Sec. 1.1092(d)-2. 
This regulation provides guidance on the meaning of the phrase 
``substantially similar or related property'' by cross-
referencing Treas. Reg. Sec. 1.246-5, which was adopted at the 
same time and which provides guidance on the meaning of the 
same phrase for purposes of section 246(c). The IRS has also 
issued a proposed regulation that would amend Treas. Reg. 
Sec. 1.1092(d)-2 to make clear that the regulation applies to a 
straddle consisting of stock and an equity swap.
    It is our understanding that Treasury's main reason for 
making the legislative proposal to eliminate the special rules 
for stock is to eliminate any uncertainty regarding its 
authority under current law to apply the straddle rules to 
stock offset by an equity swap. However, the proposal, as 
stated, would have much broader consequences, some of which are 
difficult to gauge.
    There are two areas that we believe need careful study if 
the special rules for stock are to be repealed. First, long 
stock and short stock positions (i.e., short sales), which have 
long been governed by section 1233, would become straddles 
subject to section 1092. At a minimum, the proposed change 
would appear to make the rules of section 1233 redundant as 
applied to publicly traded stock. Whether there may also be 
some unintended consequences is a subject that should be 
carefully studied.
    Perhaps of greater importance, and creating greater 
uncertainty, would be the elimination of the ``substantially 
similar or related property'' standard (which is part of the 
special rules for stock in section 1092(d)(3)). As noted above, 
Treasury has issued guidance on the meaning of that standard 
under section 246(c) and has incorporated that guidance by 
reference for purposes of section 1092(d). While that guidance 
is not without its problems, it does provide a body of law that 
taxpayers (and the government) can refer to and rely upon. 
Simply eliminating that standard under section 1092 would raise 
substantial uncertainties as to the potential scope of the 
application of the straddle rules to stock. Unless there is 
some compelling reason to eliminate this standard, the 
Coalition would urge the Committee not to do so. At the very 
least, careful study must be given to the types of transactions 
that could conceivably cause stock to be part of a straddle if 
the standard is eliminated.

                                   - 
