[Senate Prints 107-30]
[From the U.S. Government Publishing Office]


 107th Congress 1st 
       Session            COMMITTEE PRINT                       S. Prt.
                                                                107-30
_______________________________________________________________________

 
               RESTORING EARNINGS TO LIFT INDIVIDUALS AND 
                  EMPOWER FAMILIES (RELIEF) ACT OF 2001

                               ----------                              

 TECHNICAL EXPLANATION OF PROVISIONS APPROVED BY THE COMMITTEE ON MAY 
                                15, 2001

                               ----------                              

                          COMMITTEE ON FINANCE
                          UNITED STATES SENATE


                     Charles E. Grassley, Chairman

[GRAPHIC] [TIFF OMITTED] TONGRESS.#13


                                MAY 2001

            Printed for the use of the Committee on Finance

                                --------

                     U.S. GOVERNMENT PRINTING OFFICE
 72-423                     WASHINGTON : 2001



                          COMMITTEE ON FINANCE

                  CHARLES E. GRASSLEY, Iowa, Chairman
ORRIN G. HATCH, Utah                 MAX BAUCUS, Montana
FRANK H. MURKOWSKI, Alaska           JOHN D. ROCKEFELLER IV, West 
DON NICKLES, Oklahoma                    Virginia
PHIL GRAMM, Texas                    TOM DASCHLE, South Dakota
TRENT LOTT, Mississippi              JOHN BREAUX, Louisiana
JAMES M. JEFFORDS, Vermont           KENT CONRAD, North Dakota
FRED THOMPSON, Tennessee             BOB GRAHAM, Florida
OLYMPIA J. SNOWE, Maine              JEFF BINGAMAN, New Mexico
JON KYL, Arizona                     JOHN F. KERRY, Massachusetts
                                     ROBERT G. TORRICELLI, New Jersey
                                     BLANCHE L. LINCOLN, Arkansas
             Kolan Davis, Staff Director and Chief Counsel
                 John Angell, Democratic Staff Director



                            C O N T E N T S

                              ----------                              
                                                                   Page
  I. Marginal Tax Rate Reduction......................................1
          A. Individual Income Tax Rate Structure (Sec. 101 of 
              the bill and Sec. 1 of the Code)...................     1
          B. Increase Starting Point for Phase-Out of Itemized 
              Deductions (Sec. 102 of the bill and Sec. 68 of the 
              Code)..............................................     5
          C. Repeal of Phase-Out of Personal Exemptions (Sec. 103 
              of the bill and Sec. 151(d)(3) of the Code)........     6
          D. Compliance with Congressional Budget Act (Secs. 111 
              and 112 of the bill)...............................     7
 II. Child Tax Credit.................................................9
          A. Increase and Expand the Child Tax Credit (Sec. 201 
              of the bill and Sec. 24 of the Code)...............     9
          B. Compliance with Congressional Budget Act (Secs. 211 
              and 212 of the bill)...............................    11
III. Marriage Penalty Relief Provisions..............................12
          A. Standard Deduction Marriage Penalty Relief (Sec. 301 
              of the bill and Sec. 63 of the Code)...............    12
          B. Expansion of the 15-Percent Rate Bracket For Married 
              Couples Filing Joint Returns (Sec. 302 of the bill 
              and Sec. 1 of the Code)............................    14
          C. Marriage Penalty Relief and Simplification Relating 
              to the Earned Income Credit (Sec. 303 of the bill 
              and Sec. 32 of the Code)...........................    16
          D. Compliance with Congressional Budget Act (Secs. 311 
              and 312 of the bill)...............................    21
 IV. Education Incentives............................................23
          A. Modifications to Education IRAs (Sec. 401 of the 
              bill and Sec. 530 of the Code).....................    23
          B. Private Prepaid Tuition Programs; Exclusion From 
              Gross Income of Education Distributions From 
              Qualified Tuition Programs (Sec. 402 of the bill 
              and Sec. 529 of the Code)..........................    27
          C. Exclusion for Employer-Provided Educational 
              Assistance (Sec. 411 of the bill and Sec. 127 of 
              the Code)..........................................    31
          D. Modifications to Student Loan Interest Deduction 
              (Sec. 412 of the bill and Sec. 221 of the Code)....    32
          E. Eliminate Tax on Awards Under the National Health 
              Service Corps Scholarship Program and the F. Edward 
              Hebert Armed Forces Health Professions Scholarship 
              and Financial Assistance Program (Sec. 413 of the 
              bill and Sec. 117 of the Code).....................    33
          F. Tax Benefits for Certain Types of Bonds for 
              Educational Facilities and Activities (Secs. 421-
              422 of the bill and Secs. 142 and 146-148 of the 
              Code)..............................................    35
          G. Deduction for qualified Higher Education Expenses 
              (Sec. 431 of the bill and new Sec. 222 of the Code)    39
          H. Credit for Interest on qualified Higher Education 
              Loans (Sec. 432 of the bill and new Sec. 25B of the 
              Code)..............................................    41
          I. Compliance with Congressional Budget Act (Secs. 441 
              and 442 of the bill)...............................    43
  V. Estate, Gift, and Generation-Skipping Transfer Tax Provisions...45
          A. Phaseout and Repeal of Estate and Generation-
              Skipping Transfer Taxes; Increase in Gift Tax 
              Unified Credit Effective Exemption (Secs. 501-542 
              of the bill, secs. 121, 684, 1014, 1040, 1221, 
              2001-2210, 2501, 2502, 2503, 2505, 2511, 2601-2663, 
              4947, 6018, 6019, and 7701 of the Code, and new 
              Secs. 1022, 2058, 2210, 2664, and 6716 of the Code)    45
          B. Expand Estate Tax Rule for Conservation Easements 
              (Sec. 551 of the bill and Sec. 2031 of the Code)...    59
          C. Modify Generation-Skipping Transfer Tax Rules.......    60
              1. Deemed allocation of the generation-skipping 
                  transfer tax exemption to lifetime transfers to 
                  trusts that are not direct skips (Sec. 561 of 
                  the bill and Sec. 2632 of the Code)............    60
              2. Retroactive allocation of the generation-
                  skipping transfer tax exemption (Sec. 561 of 
                  the bill and Sec. 2632 of the Code)............    63
              3. Severing of trusts holding property having an 
                  inclusion ratio of greater than zero (Sec. 562 
                  of the bill and Sec. 2642 of the Code).........    64
              4. Modification of certain valuation rules (Sec. 
                  563 of the bill and Sec. 2642 of the Code).....    65
              5. Relief from late elections (Sec. 564 of the bill 
                  and Sec. 2642 of the Code).....................    66
              6. Substantial compliance (Sec. 564 of the bill and 
                  Sec. 2642 of the Code).........................    67
          D. Expand and Modify Availability of Installment 
              Payment of Estate Tax for Closely-Held Businesses 
              (Secs. 571 and 572 of the bill and Sec. 6166 of the 
              Code)..............................................    68
          E. Compliance with Congressional Budget Act (Secs. 581 
              and 582 of the bill)...............................    69
 VI. Pension and Individual Retirement Arrangement Provisions........71
          A. Individual Retirement Arrangements (``IRAs'') (Secs. 
              601-603 of the bill and Secs. 219, 408, and 408A of 
              the Code)..........................................    71
          B. Pension Provisions..................................    75
              2. Expanding coverage..............................    75
                  (a) Increase in benefit and contribution limits 
                      (Sec. 611 of the bill and Secs. 401(a)(17), 
                      402(g), 408(p), 415 and 457 of the Code)...    75
                  (b) Plan loans for subchapter S shareholders, 
                      partners, and sole proprietors (Sec. 612 of 
                      the bill and Sec. 4975 of the Code)........    78
                  (c) Modification of top-heavy rules (Sec. 613 
                      of the bill and Sec. 416 of the Code)......    79
                  (d) Elective deferrals not taken into account 
                      for purposes of deduction limits (Sec. 614 
                      of the bill and Sec. 404 of the Code)......    83
                  (e) Repeal of coordination requirements for 
                      deferred compensation plans of State and 
                      local governments and tax-exempt 
                      organizations (Sec. 615 of the bill and 
                      Sec. 457 of the Code)......................    84
                  (f) Deduction limits (Sec. 616 of the bill and 
                      Sec. 404 of the Code)......................    85
                  (g) Option to treat elective deferrals as 
                      after-tax Roth contributions (Sec. 617 of 
                      the bill and new Sec. 402A of the Code)....    87
                  (h) Nonrefundable credit to certain individuals 
                      for elective deferrals and IRA 
                      contributions (Sec. 618 of the bill and new 
                      Sec. 25C of the Code)......................    89
                  (i) Small business tax credit for qualified 
                      retirement plan contributions (Sec. 619 of 
                      the bill and new Sec. 45E of the Code).....    91
                  (j) Small business tax credit for new 
                      retirement plan expenses (Sec. 620 of the 
                      bill and new Sec. 45F of the Code).........    93
                  (k) Eliminate IRS user fees for certain 
                      determination letter requests regarding 
                      employer plans (Sec. 621 of the bill)......    94
                  (l) Treatment of nonresident aliens engaged in 
                      international transportation services (Sec. 
                      622 of the bill and Sec. 861(a)(3) of the 
                      Code)......................................    95
              2. Enhancing fairness for women....................    96
                  (a) Additional salary reduction catch-up 
                      contributions (Sec. 631 of the bill and 
                      Sec. 414 of the Code)......................    96
                  (b) Equitable treatment for contributions of 
                      employees to defined contribution plans 
                      (Sec. 632 of the bill and Secs. 403(b), 
                      415, and 457 of the Code)..................    98
                  (c) Faster vesting of employer matching 
                      contributions (Sec. 633 of the bill and 
                      Sec. 411 of the Code)......................   100
                  (d) Modifications to minimum distribution rules 
                      (Sec. 634 of the bill and Sec. 401(a)(9) of 
                      the Code)..................................   101
                  (e) Clarification of tax treatment of division 
                      of section 457 plan benefits upon divorce 
                      (Sec. 635 of the bill and Secs. 414(p) and 
                      457 of the Code)...........................   104
                  (f) Provisions relating to hardship withdrawals 
                      (Sec. 636 of the bill and Secs. 401(k) and 
                      402 of the Code)...........................   105
                  (g) Pension coverage for domestic and similar 
                      workers (Sec. 637 of the bill and Sec. 
                      4972(c)(6) of the Code)....................   107
              3. Increasing portability for participants.........   108
                  (a) Rollovers of retirement plan and IRA 
                      distributions (Secs. 641-643 and 649 of the 
                      bill and Secs. 401, 402, 403(b), 408, 457, 
                      and 3405 of the Code)......................   108
                  (b) Waiver of 60-day rule (Sec. 644 of the bill 
                      and Secs. 402 and 408 of the Code).........   112
                  (c) Treatment of forms of distribution (Sec. 
                      645 of the bill and Sec. 411(d)(6) of the 
                      Code)......................................   112
                  (d) Rationalization of restrictions on 
                      distributions (Sec. 646 of the bill and 
                      Secs. 401(k), 403(b), and 457 of the Code).   114
                  (e) Purchase of service credit under 
                      governmental pension plans (Sec. 647 of the 
                      bill and Secs. 403(b) and 457 of the Code).   115
                  (f) Employers may disregard rollovers for 
                      purposes of cash-out rules (Sec. 648 of the 
                      bill and Sec. 411(a)(11) of the Code)......   116
                  (g) Minimum distribution and inclusion 
                      requirements for section 457 plans (Sec. 
                      649 of the bill and Sec. 457 of the Code)..   117
              4. Strengthening pension security and enforcement..   118
                  (a) Phase-in repeal of 160 percent of current 
                      liability funding limit; deduction for 
                      contributions to fund termination liability 
                      (Secs. 651 and 652 of the bill and Secs. 
                      404(a)(1), 412(c)(7), and 4972(c) of the 
                      Code)......................................   118
                  (b) Excise tax relief for sound pension funding 
                      (Sec. 653 of the bill and Sec. 4972 of the 
                      Code)......................................   119
                  (c) Modifications to section 415 limits for 
                      multiemployer plans (Sec. 654 of the bill 
                      and Sec. 415 of the Code)..................   121
                  (d) Investment of employee contributions in 
                      401(k) plans (Sec. 655 of the bill and Sec. 
                      1524(b) of the Taxpayer Relief Act of 1997)   122
                  (e) Prohibited allocations of stock in an S 
                      corporation ESOP (Sec. 656 of the bill and 
                      Secs. 409 and 4979A of the Code)...........   123
                  (f) Automatic rollovers of certain mandatory 
                      distributions (Sec. 657 of the bill and 
                      Secs. 401(a)(31) and 402(f)(1) of the Code 
                      and Sec. 404(c) of ERISA)..................   126
                  (g) Clarification of treatment of contributions 
                      to a multiemployer plan (Sec. 658 of the 
                      bill)......................................   128
                  (h) Notice of significant reduction in plan 
                      benefit accruals (Sec. 659 of the bill and 
                      new Sec. 4980F of the Code)................   129
              5. Reducing regulatory burdens.....................   133
                  (a) Modification of timing of plan valuations 
                      (Sec. 661 of the bill and Sec. 412 of the 
                      Code)......................................   133
                  (b) ESOP dividends may be reinvested without 
                      loss of dividend deduction (Sec. 662 of the 
                      bill and Sec. 404 of the Code).............   134
                  (c) Repeal transition rule relating to certain 
                      highly compensated employees (Sec. 663 of 
                      the bill and Sec. 1114(c)(4) of the Tax 
                      Reform Act of 1986)........................   135
                  (d) Employees of tax-exempt entities (Sec. 664 
                      of the bill)...............................   135
                  (e) Treatment of employer-provided retirement 
                      advice (Sec. 665 of the bill and Sec. 132 
                      of the Code)...............................   136
                  (f) Reporting simplification (Sec. 666 of the 
                      bill)......................................   137
                  (g) Improvement to Employee Plans Compliance 
                      Resolution System (Sec. 667 of the bill)...   139
                  (h) Repeal of the multiple use test (Sec. 668 
                      of the bill and Sec. 401(m) of the Code)...   140
                  (i) Flexibility in nondiscrimination, coverage, 
                      and line of business rules (Sec. 669 of the 
                      bill and Secs. 401(a)(4), 410(b), and 
                      414(r) of the Code)........................   141
                  (j) Extension to all governmental plans of 
                      moratorium on application of certain 
                      nondiscrimination rules applicable to State 
                      and local government plans (Sec. 670 of the 
                      bill, sec. 1505 of the Taxpayer Relief Act 
                      of 1997, and Secs. 401(a) and 401(k) of the 
                      Code)......................................   143
              6. Other ERISA provisions..........................   144
                  (a) Extension of PBGC missing participants 
                      program (Sec. 681 of the bill and Secs. 
                      206(f) and 4050 of ERISA)..................   144
                  (b) Reduce PBGC premiums for small and new 
                      plans (Secs. 682 and 683 of the bill and 
                      Sec. 4006 of ERISA)........................   145
                  (c) Authorization for PBGC to pay interest on 
                      premium overpayment refunds (Sec. 684 of 
                      the bill and Sec. 4007(b) of ERISA)........   146
                  (d) Rules for substantial owner benefits in 
                      terminated plans (Sec. 685 of the bill and 
                      Secs. 4021, 4022, 4043 and 4044 of ERISA)..   147
              7. Miscellaneous provisions........................   148
                  (a) Tax treatment of electing Alaska Native 
                      Settlement Trusts (section 691 of the Bill 
                      and new sections 646 and 6039H of the Code, 
                      modifying Code sections including 1(e), 
                      301, 641, 651, 661, and 6034A))............   148
          C. Compliance with Congressional Budget Act (Secs. 695-
              696 of the bill)...................................   151
VII. Alternative Minimum Tax........................................153
          A. Individual Alternative Minimum Tax Relief (Sec. 701 
              of the bill and Sec. 55 of the Code)...............   153
          B. Compliance with Congressional Budget Act (Secs. 711 
              and 712 of the bill)...............................   154
VIII.Other Provisions...............................................156

          A. Modification to Corporate Estimated Tax Requirements 
              (Sec. 801 of the bill).............................   156
          B. Authority to Postpone Certain Tax-Related Deadlines 
              by Reason of Presidentially declared disaster (Sec. 
              802 of the bill and Sec. 7508A of the Code)........   156
          C. Compliance with Congressional Budget Act (Secs. 811-
              812 of the bill)...................................   157
Estimated Budget Effects of the ``Restoring Earnings to Life 
  Individuals and Empower Families (`Relief') Act of 2001,'' as 
  Ordered Reported by the Committee on Finance on May 15, 2001...   159



                     I. MARGINAL TAX RATE REDUCTION

                A. Individual Income Tax Rate Structure

             (Sec. 101 of the bill and Sec. 1 of the Code)


                              present law


    Under the Federal individual income tax system, an 
individual who is a citizen or a resident of the United States 
generally is subject to tax on worldwide taxable income. 
Taxable income is total gross income less certain exclusions, 
exemptions, and deductions. An individual may claim either a 
standard deduction or itemized deductions.
    An individual's income tax liability is determined by 
computing his or her regular income tax liability and, if 
applicable, alternative minimum tax liability.
Regular income tax liability
    Regular income tax liability is determined by applying the 
regular income tax rate schedules (or tax tables) to the 
individual's taxable income. This tax liability is then reduced 
by any applicable tax credits. The regular income tax rate 
schedules are divided into several ranges of income, known as 
income brackets, and the marginal tax rate increases as the 
individual's income increases. The income bracket amounts are 
adjusted annually for inflation. Separate rate schedules apply 
based on filing status: single individuals (other than heads of 
households and surviving spouses), heads of households, married 
individuals filing joint returns (including surviving spouses), 
married individuals filing separate returns, and estates and 
trusts. Lower rates may apply to capital gains.
    For 2001, the regular income tax rate schedules for 
individuals are shown in Table 1, below. The rate bracket 
breakpoints for married individuals filing separate returns are 
exactly one-half of the rate brackets for married individuals 
filing joint returns. A separate, compressed rate schedule 
applies to estates and trusts.

                             TABLE 1.--INDIVIDUAL REGULAR INCOME TAX RATES FOR 2001
----------------------------------------------------------------------------------------------------------------
                                        But not
      If taxable income is over          over                     Then regular income tax equals
----------------------------------------------------------------------------------------------------------------
                                                Single individuals

$0..................................     $27,050  15 percent of taxable income.
$27,050.............................      65,550  $4,057.50, plus 28% of the amount over $27,050.
$65,550.............................     136,750  $14,837.50, plus 31% of the amount over $65,550.
$136,750............................     297,350  $36,909.50, plus 36% of the amount over $136,750.
Over $297,350.......................  ..........  $94,725.50, plus 39.6% of the amount over $297,350.

                                               Heads of households

$0..................................      36,250  15 percent of taxable income.
$36,250.............................      93,650  $5,437.50, plus 28% of the amount over $36,250.
$93,650.............................     151,650  $21,509.50, plus 31% of the amount over $93,650.
$151,650............................     297,350  $39,489.50, plus 36% of the amount over $151,650.
Over $297,350.......................  ..........  $91,941.50, plus 39.6% of the amount over $297,350.

                                     Married individuals filing joint returns

$0..................................      45,200  15 percent of taxable income.
$45,200.............................     109,250  $6,780.00, plus 28% of the amount over $45,200.
$109,250............................     166,500  $24,714.50, plus 31% of the amount over $109,250.
$166,500............................     297,350  $42,461.50, plus 36% of the amount over $166,500.
Over $297,350.......................  ..........  $89,567.50, plus 39.6% of the amount over $297,350
----------------------------------------------------------------------------------------------------------------

                           reasons for change


    The Committee believes that providing tax relief to the 
American people is appropriate for a number of reasons. The 
Congressional Budget Office (``CBO'') projects budget surpluses 
of $5.6 trillion over the next 10 fiscal years (2001-2010). 
Federal revenues have been rising as a share of the gross 
domestic product (``GDP''). CBO projects that, during the 
fiscal year 2001-2010 period, Federal revenues will be more 
than 20 percent of the GDP annually. By contrast, during the 
early 1990's, Federal revenues generally were only 17-18 
percent of the GDP. Individual income taxes account for most of 
the recent rise in revenues as a percentage of GDP. Federal 
individual income tax revenues rose to over 10 percent of GDP 
in fiscal year 2000 for the first time in history and are 
projected by the CBO to exceed 10 percent of GDP for each of 
the fiscal years 2001-2010. The CBO projects that the growth of 
Federal revenues will, for fiscal year 2001, outstrip the 
growth of GDP for the ninth consecutive year. Moreover, the CBO 
statesthat ``[t]he most significant source of the growth of 
income taxes relative to GDP was the increase in the effective tax 
rate.'' \1\
---------------------------------------------------------------------------
    \1\ Congressional Budget Office, Congress of the United States, The 
Budget and Economic Outlook: Fiscal Years 2002-2011, January 2001, at 
56.
---------------------------------------------------------------------------
    Taking these things into account, the Committee believes 
that at least a portion of the projected budget surpluses 
should be returned to the taxpayers who are paying Federal 
income taxes while still retaining adequate monies to pay down 
the public debt, fund priorities such as education and defense, 
and secure the future of Social Security and Medicare. The 
Committee believes that this bill provides the appropriate 
level of tax relief without threatening funding for other 
national priorities.
    The Committee bill provides immediate tax relief to 
American taxpayers in the form of a new rate bracket for the 
first $6,000 of taxable income for single individuals and the 
first $12,000 of taxable income for married couples filing a 
joint return. This new 10-percent rate bracket is effective 
this year. The Committee believes that such immediate tax 
relief may encourage short-term growth in the economy by 
providing individuals with additional cash to spend. Also, the 
new 10-percent rate bracket in the Committee bill delivers more 
benefit as a percentage of income to low-income taxpayers than 
high-income taxpayers.
    The Committee bill will provide tax relief to more than 100 
million income tax returns of individuals, including at least 
16 million returns of individuals of owners of businesses (sole 
proprietorships, partnerships, and S corporations). The 
Committee believes that this tax cut will lead to increased 
investment by these businesses, promoting long-term growth and 
stability in the economy and rewarding the businessmen and 
women who provide a foundation for our country's success.
    The Committee also believes that it is appropriate to 
repeal the 10-percent surtax imposed in 1993 to cut the 
deficit. This 10-percent surtax on top of the 36-percent rate 
resulted in a 39.6-percent marginal tax rate for those in the 
highest income tax bracket. Because the Congressional Budget 
Office is projecting budget surpluses over the next ten years, 
the Committee believes that it is appropriate to repeal this 
deficit-era surtax.
    Finally, the Committee believes that the lower rates 
provided by this bill is a fair means to provide tax relief for 
all taxpayers.

                        Explanation of Provision

In general

    The bill creates a new 10-percent regular income tax 
bracket for a portion of taxable income that is currently taxed 
at 15 percent, effective for taxable years beginning after 
December 31, 2000. The bill also reduces other regular income 
tax rates. By 2007, the present-law individual income tax rates 
of 28 percent, 31 percent, 36 percent and 39.6 percent will be 
lowered to 25 percent, 28 percent, 33 percent, and 36 percent, 
respectively.

New low-rate bracket

    The bill establishes a new 10-percent regular income tax 
rate bracket for a portion of taxable income that is currently 
taxed at 15 percent, as shown in Table 3, below. The taxable 
income levels for the new 10-percent rate bracket will be 
adjusted annually for inflation for taxable years beginning 
after December 31, 2006. The new low-rate bracket for joint 
returns and head of household returns will be rounded down to 
the nearest $50. The bracket for single individuals and married 
individuals filing separately will be one-half the bracket for 
joint returns (after adjustment for inflation).
    The 10-percent rate bracket applies to the first $6,000 of 
taxable income for single individuals, $10,000 of taxable 
income for heads of households, and $12,000 for married couples 
filing joint returns.

Modification of 15-percent bracket

    The 15-percent regular income tax bracket is modified to 
begin at the end of the new low-rate regular income tax 
bracket. The 15-percent regular income tax bracket ends at the 
same level as under present law. The bill also makes other 
changes to the 15-percent rate bracket.\2\
---------------------------------------------------------------------------
    \2\ See the discussion of marriage penalty relief, below (Sec. 302 
of the bill).
---------------------------------------------------------------------------

Reduction of other rates

    The present-law regular income tax rates of 28 percent, 31 
percent, 36 percent, and 39.6 percent are phased-down over six 
years to 25 percent, 28 percent, 33 percent, and 36 percent, 
effective for taxable years beginning after December 31, 2001. 
The taxable income levels for the new rates are the same as the 
taxable income levels that apply under the present-law rates.
    Table 2, below, shows the schedule of regular income tax 
rate reductions.

                                  TABLE 2.--REGULAR INCOME TAX RATE REDUCTIONS
----------------------------------------------------------------------------------------------------------------
                                                                28% rate     31% rate     36% rate    39.6% rate
                        Calendar year                          reduced to   reduced to   reduced to   reduced to
----------------------------------------------------------------------------------------------------------------
2002-2004...................................................           27           30           35         38.6
2005-2006...................................................           26           29           34         37.6
2007 and later..............................................           25           28           33          36%
----------------------------------------------------------------------------------------------------------------

Projected regular income tax rate schedules under the bill

    Table 3, below, shows the projected individual regular 
income tax rate schedules when the rate reductions are fully 
phased-in (i.e., for 2007). As under present law, the rate 
brackets for married taxpayers filing separate returns will be 
one half the rate brackets for married individuals filing joint 
returns. In addition, appropriate adjustments will be made to 
the separate, compressed rate schedule for estate and trusts.

                       TABLE 3.--INDIVIDUAL REGULAR INCOME TAX RATES FOR 2007 (PROJECTED)
----------------------------------------------------------------------------------------------------------------
                                        But not
        If taxable income is             over                     Then regular income tax equals
----------------------------------------------------------------------------------------------------------------
                                               Single individuals

$0..................................      $6,150  10 % of taxable income.
$6,150..............................      31,700  $615, plus 15 % of the amount over $6,150.
$31,700.............................      76,800  $4,447.50, plus 25% of the amount over $31,700.
$76,800.............................     160,250  $15,722.50 plus 28% of the amount over $76,800.
$160,250............................     348,350  $39,088.50 plus 33% of the amount over $160,250.
Over $348,350.......................  ..........  $101,161.50, plus 36% of the amount over $348,350.

                                               Heads of households

$0..................................      10,250  10 % of taxable income.
$10,250.............................      42,500  $1,025, plus 15% of the amount over $10,250.
$42,500.............................     109,700  $5,862.50, plus 25% of the amount over $42,500.
$109,700............................     177,650  $22,662.50, plus 28% of the amount over $109,700.
$177,650............................     348,350  $41,688.50, plus 33% of the amount over $177,650.
Over $348,350.......................  ..........  $98,019.50, plus 36% of the amount over $348,350.

                                    Married individuals filing joint returns

$0..................................      12,300  10 % of taxable income.
$12,300.............................  \3\ 57,050  $1,230, plus 15% of the amount over $12,300.
                                              
$57,050.............................     128,000  $7,942.50, plus 25% of the amount over $57,050.
$128,000............................     195,050  $25,680, plus 28% of the amount over $128,000.
$195,050............................     348,350  $44,454, plus 33% of the amount over $195,050.
Over $348,350.......................  ..........  $95,043, plus 36% of the amount over $348,350.
----------------------------------------------------------------------------------------------------------------
\3\ The end point of the 15-percent rate bracket for married individuals filing joint returns also reflects the
  phase-in of the increase in the size of the 15-percent bracket in section 302 of the bill, below.

Revised wage withholding for 2001

    Under present law, the Secretary of the Treasury is 
authorized to prescribe appropriate income tax withholding 
tables or computational procedures for the withholding of 
income taxes from wages paid by employers. The Secretary is 
expected to make appropriate revisions to the wage withholding 
tables to reflect the rate reduction for calendar year 2001 as 
expeditiously as possible.

                             Effective Date

    The new 10-percent rate bracket is effective for taxable 
years beginning after December 31, 2000. The reduction in the 
28 percent, 31 percent, 36 percent, and 39.6 percent rates is 
phased-in beginning in taxable years beginning after December 
31, 2001.

 B. Increase Starting Point for Phase-Out of Itemized Deductions (Sec. 
                102 of the bill and Sec. 68 of the Code)


                              Present Law

Itemized deductions

    Taxpayers may choose to claim either the basic standard 
deduction (and additional standard deductions, if applicable) 
or itemized deductions (subject to certain limitations) for 
certain expenses incurred during the taxable year. Among these 
deductible expenses are unreimbursed medical expenses, 
investment interest, casualty and theft losses, wagering 
losses, charitable contributions, qualified residence interest, 
State and local income and property taxes, unreimbursed 
employee business expenses, and certain other miscellaneous 
expenses.

Overall limitation on itemized deductions (``Pease'' limitation)

    Under present law, the total amount of otherwise allowable 
itemized deductions (other than medical expenses, investment 
interest, and casualty, theft, or wagering losses) is reduced 
by three percent of the amount of the taxpayer's adjusted gross 
income in excess of $132,950 in 2001 ($66,475 for married 
couples filing separate returns). These amounts are adjusted 
annually for inflation. In computing this reduction of total 
itemized deductions, all present-law limitations applicable to 
such deductions (such as the separate floors) are first applied 
and, then, the otherwise allowable total amount of itemized 
deductions is reduced in accordance with this provision. Under 
this provision, the otherwise allowable itemized deductions may 
not be reduced by more than 80 percent.

                           Reasons for Change

    The Committee believes that the overall limitation on 
itemized deductions is an unnecessarily complex way to impose 
taxes and that the ``hidden'' way in which the limitation 
raises marginal tax rates undermines respect for the tax laws. 
The staff of the Joint Committee on Taxation recommended the 
elimination of certain phase-outs, including the overall 
limitation on itemized deductions, in a recent study containing 
recommendations for simplification of the Code.\4\ The overall 
limitation on itemized deductions requires a 10-line worksheet. 
Moreover, the first line of that worksheet requires the adding 
up of seven lines from Schedule A of the Form 1040, and the 
second line requires the adding up of four lines of Schedule A 
of the Form 1040. The Committee believes that reducing the 
application of the overall limitation on itemized deductions 
will significantly reduce complexity for affected taxpayers.
---------------------------------------------------------------------------
    \4\ Joint Committee on Taxation, Study of the Overall State of the 
Federal Tax System and Recommendations for Simplification, Pursuant to 
section 8022(3)(B) of the Internal Revenue Code of 1986 (JCS-3-01), 
April 2001.
---------------------------------------------------------------------------

                        Explanation of Provision

    The bill increases the starting point of the overall 
limitation on itemized deductions for all taxpayers (other than 
married couples filing separate returns) to the starting point 
of the personal exemption phase-out for married couples filing 
a joint return. This amount is projected under present law to 
be $245,500 in 2009. The starting point of the overall 
limitation on itemized deductions for married couples filing 
separate returns would continue to be one-half of the amount 
for other taxpayers.

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2008.

             C. Repeal of Phase-Out of Personal Exemptions


         (Sec. 103 of the bill and Sec. 151(d)(3) of the Code)


                              Present Law

    In order to determine taxable income, an individual reduces 
adjusted gross income by any personal exemptions, deductions, 
and either the applicable standard deduction or itemized 
deductions. Personal exemptions generally are allowed for the 
taxpayer, his or her spouse, and any dependents. For 2001, the 
amount deductible for each personal exemption is $2,900. This 
amount is adjusted annually for inflation.
    Under present law, the deduction for personal exemptions is 
phased-out ratably for taxpayers with adjusted gross income 
over certain thresholds. The applicable thresholds for 2001 are 
$132,950 for single individuals, $199,450 for married 
individuals filing a joint return, $166,200 for heads of 
households, and $99,725 for married individuals filing separate 
returns. These thresholds are adjusted annually for inflation.
    The total amount of exemptions that may be claimed by a 
taxpayer is reduced by two percent for each $2,500 (or portion 
thereof) by which the taxpayer's adjusted gross income exceeds 
the applicable threshold. The phase-out rate is two percent for 
each $1,250 for married taxpayers filing separate returns. 
Thus, the personal exemptions claimed are phased-out over a 
$122,500 range ($61,250 for married taxpayers filing separate 
returns), beginning at the applicable threshold. The size of 
these phase-out ranges ($122,500/$61,250) is not adjusted for 
inflation. For 2001, the point at which a taxpayer's personal 
exemptions are completely phased-out is $255,450 for single 
individuals, $321,950 for married individuals filing a joint 
return, $288,700 for heads of households, and $160,975 for 
married individuals filing separate returns.

                           Reasons for Change

    The Committee believes that the personal exemption phase-
out is an unnecessarily complex way to impose income taxes and 
that the ``hidden'' way in which the phase-out raises marginal 
tax rates undermines respect for the tax laws. The staff of the 
Joint Committee on Taxation recommended the elimination of 
certain phase-outs, including the personal exemption phase-out, 
in a recent study containing recommendations for simplification 
of the Code.\5\ Furthermore, the Committee believes that the 
phase-out imposes excessively high effective marginal tax rates 
on families with children. The repeal of the personal exemption 
phase-out would restore the full exemption amount to all 
taxpayers and would simplify the tax laws.
---------------------------------------------------------------------------
    \5\ Joint Committee on Taxation, Study of the Overall State of the 
Federal Tax System and Recommendations for Simplification, Pursuant to 
section 8022(3)(B) of the Internal Revenue Code of 1986 (JCS-3-01), 
April 2001.
---------------------------------------------------------------------------

                        Explanation of Provision

    The bill repeals the personal exemption phase-out.

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2008.

              D. Compliance with Congressional Budget Act


                    (Secs. 111 and 112 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to income tax rates which are in effect on September 
30, 2011, shall cease to apply as of the close of September 30, 
2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to income tax rates which were terminated under the 
sunset provision shall begin to apply again as of October 1, 
2011, as provided in each such provision or amendment.

                          II. CHILD TAX CREDIT

              A. Increase and Expand the Child Tax Credit

             (Sec. 201 of the bill and Sec. 24 of the Code)

                              present law

    Under present law, an individual may claim a $500 tax 
credit for each qualifying child under the age of 17. In 
general, a qualifying child is an individual for whom the 
taxpayer can claim a dependency exemption and who is the 
taxpayer's son or daughter (or descendent of either), stepson 
or stepdaughter, or eligible foster child.
    The child tax credit is phased-out for individuals with 
income over certain thresholds. Specifically, the otherwise 
allowable child tax credit is reduced by $50 for each $1,000 
(or fraction thereof) of modified adjusted gross income over 
$75,000 for single individuals or heads of households, $110,000 
for married individuals filing joint returns, and $55,000 for 
married individuals filing separate returns. Modified adjusted 
gross income is the taxpayer's total gross income plus certain 
amounts excluded from gross income (i.e., excluded income of 
U.S. citizens or residents living abroad (Sec. 911); residents 
of Guam, American Samoa, and the Northern Mariana Islands (Sec. 
931); and residents of Puerto Rico (Sec. 933)). The length of 
the phase-out range depends on the number of qualifying 
children. For example, the phase-out range for a single 
individual with one qualifying child is between $75,000 and 
$85,000 of modified adjusted gross income. The phase-out range 
for a single individual with two qualifying children is between 
$75,000 and $95,000.
    The child tax credit is not adjusted annually for 
inflation.
    In general, the child tax credit is nonrefundable. However, 
for families with three or more qualifying children, the child 
tax credit is refundable up to the amount by which the 
taxpayer's Social Security taxes exceed the taxpayer's earned 
income credit.
Alternative minimum tax liability
    An individual's alternative minimum tax liability reduces 
the amount of the refundable earned income credit and, for 
taxable years beginning after December 31, 2001, the amount of 
the refundable child credit for families with three or more 
children. This is known as the alternative minimum tax offset 
of refundable credits.
    Through 2001, an individual generally may reduce his or her 
tentative alternative minimum tax liability by nonrefundable 
personal tax credits (such as the $500 child tax credit and the 
adoption tax credit). For taxable years beginning after 
December 31, 2001, nonrefundable personal tax credits may not 
reduce an individual's income tax liability below his or her 
tentative alternative minimum tax.

                           reasons for change

    The Committee believes that a tax credit for families with 
children recognizes the importance of helping families raise 
children. This provision doubles the child tax credit in 
orderto provide additional tax relief to families to help offset the 
significant costs of raising a child. Further, the Committee believes 
that in order to extend some of the benefit of the child credit to 
families who currently do not benefit, the refundable child credit 
should be made available to families regardless of the number of 
children (rather than only families with three or more children). 
Additionally, the Committee believes that the child credit should be 
allowed to offset the alternative minimum tax. The Committee bill also 
repeals the present-law provision reducing the refundable child credit 
by the amount of the alternative minimum tax in order to ensure that no 
taxpayer will face an increase in net income tax liability as a result 
of the interaction of the alternative minimum tax with the regular 
income tax reductions in the Committee bill.

                        Explanation of Provision

    The bill increases the child tax credit to $1,000, phased-
in over eleven years, effective for taxable years beginning 
after December 31, 2000.
    Table 4, below, shows the increase of the child tax credit.

               TABLE 4.--INCREASE OF THE CHILD TAX CREDIT
------------------------------------------------------------------------
                                                           Credit amount
                      Calendar year                          per child
------------------------------------------------------------------------
2001-2003...............................................            $600
2004-2006...............................................             700
2007-2009...............................................             800
2010....................................................             900
2011 and later..........................................           1,000
------------------------------------------------------------------------

    The bill allows the child credit to be claimed against both 
the regular tax and the alternative minimum tax permanently and 
repeals the alternative minimum tax offset of refundable 
credits. Finally, the bill makes the child credit refundable to 
the extent of 15 percent of the taxpayer's earned income in 
excess of $10,000.\6\ Thus, in 2001, families with earned 
income of at least $14,000 and one child will get a refundable 
credit of $600. Families with three or more children are 
allowed a refundable credit for the amount by which the 
taxpayer's social security taxes exceed the taxpayer's earned 
income credit (the present-law rule), if that amount is greater 
than 15 percent of the taxpayer's earned income in excess of 
$10,000.
---------------------------------------------------------------------------
    \6\ For these purposes, earned income is defined as under section 
32, as amended by this bill.
---------------------------------------------------------------------------

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2000.

              B. Compliance with Congressional Budget Act


                    (Secs. 211 and 212 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           reasons for change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to the child tax credit which are in effect on 
September 30, 2011, shall cease to apply as of the close of 
September 30, 2011.

                       restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to the child tax credit which were terminated under 
the sunset provision shall begin to apply again as of October 
1, 2011, as provided in each such provision or amendment.

                III. MARRIAGE PENALTY RELIEF PROVISIONS

             A. Standard Deduction Marriage Penalty Relief

             (Sec. 301 of the bill and Sec. 63 of the Code)

                              present law

Marriage penalty
    A married couple generally is treated as one tax unit that 
must pay tax on the couple's total taxable income. Although 
married couples may elect to file separate returns, the rate 
schedules and other provisions are structured so that filing 
separate returns usually results in a higher tax than filing a 
joint return. Other rate schedules apply to single persons and 
to single heads of households.
    A ``marriage penalty'' exists when the combined tax 
liability of a married couple filing a joint return is greater 
than the sum of the tax liabilities of each individual computed 
as if they were not married. A ``marriage bonus'' exists when 
the combined tax liability of a married couple filing a joint 
return is less than the sum of the tax liabilities of each 
individual computed as if they were not married.
Basic standard deduction
    Taxpayers who do not itemize deductions may choose the 
basic standard deduction (and additional standard deductions, 
if applicable),\7\ which is subtracted from adjusted gross 
income (``AGI'') in arriving at taxable income. The size of the 
basic standard deduction varies according to filing status and 
is adjusted annually for inflation. For 2001, the basic 
standard deduction amount for single filers is 60 percent of 
the basic standard deduction amount for married couples filing 
joint returns. Thus, two unmarried individuals have standard 
deductions whose sum exceeds the standard deduction for a 
married couple filing a joint return.
---------------------------------------------------------------------------
    \7\ Additional standard deductions are allowed with respect to any 
individual who is elderly (age 65 or over) or blind.
---------------------------------------------------------------------------

                           reasons for change

    The Committee is concerned about the inequity that arises 
when two working single individuals marry and experience a tax 
increase solely by reason of their marriage. Any attempt to 
address the marriage tax penalty involves the balancing of 
several competing principles, including equal tax treatment of 
married couples with equal incomes, the determination of 
equitable relative tax burdens of single individuals and 
married couples with equal incomes, and the goal of simplicity 
in compliance and administration. The Committee believes that 
an increase in the standard deduction for married couples 
filing a joint return in conjunction with the other provisions 
of the bill is a responsible reduction of the marriage tax 
penalty.

                        explanation of provision

    The bill increases the basic standard deduction for a 
married couple filing a joint return to twice the basic 
standard deduction for an unmarried individual filing a single 
return. The basic standard deduction for a married taxpayer 
filing separately will continue to equal one-half of the basic 
standard deduction for a married couple filing jointly; thus, 
the basic standard deduction for unmarried individuals filing a 
single return and for married couples filing separately will be 
the same. The increase is phased-in over five years beginning 
in 2006 and would be fully phased-in for 2010 and thereafter. 
Table 5, below, shows the standard deduction for married 
couples filing a joint return as a percentage of the standard 
deduction for single individuals during the phase-in period.

TABLE 5.--PHASE-IN OF INCREASE OF STANDARD DEDUCTION FOR MARRIED COUPLES
                          FILING JOINT RETURNS
------------------------------------------------------------------------
                                                            Standard
                                                         deduction for
                                                        joint returns as
                    Calendar year                        percentage of
                                                            standard
                                                         deduction for
                                                         single returns
------------------------------------------------------------------------
2006.................................................                174
2007.................................................                180
2008.................................................                187
2009.................................................                193
2010 and later.......................................               200%
------------------------------------------------------------------------

                             effective date

    The provision is effective for taxables years beginning 
after December 31, 2005.

B. Expansion of the 15-Percent Rate Bracket For Married Couples Filing 
                             Joint Returns


             (Sec. 302 of the bill and Sec. 1 of the Code)


                              Present Law

In general

    Under the Federal individual income tax system, an 
individual who is a citizen or resident of the United States 
generally is subject to tax on worldwide taxable income. 
Taxable income is total gross income less certain exclusions, 
exemptions, and deductions. An individual may claim either a 
standard deduction or itemized deductions.
    An individual's income tax liability is determined by 
computing his or her regular income tax liability and, if 
applicable, alternative minimum tax liability.

Regular income tax liability

    Regular income tax liability is determined by applying the 
regular income tax rate schedules (or tax tables) to the 
individual's taxable income and then is reduced by any 
applicable tax credits. The regular income tax rate schedules 
are divided into several ranges of income, known as income 
brackets, and the marginal tax rate increases as the 
individual's income increases. The income bracket amounts are 
adjusted annually for inflation. Separate rate schedules apply 
based on filing status: single individuals (other than heads of 
households and surviving spouses), heads of households, married 
individuals filing joint returns (including surviving spouses), 
married individuals filing separate returns, and estates and 
trusts. Lower rates may apply to capital gains.
    In general, the bracket breakpoints for single individuals 
are approximately 60 percent of the rate bracket breakpoints 
for married couples filing joint returns.\8\ The rate bracket 
breakpoints for married individuals filing separate returns are 
exactly one-half of the rate brackets for married individuals 
filing joint returns. A separate, compressed rate schedule 
applies to estates and trusts.
---------------------------------------------------------------------------
    \8\ The rate bracket breakpoint for the 39.6 percent marginal tax 
rate is the same for single individuals and married couples filing 
joint returns.
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee believes that the expansion of the 15-percent 
rate bracket for married couples filing joint returns, in 
conjunction with the other provisions of the bill, will 
alleviate the effects of the present-law marriage tax penalty. 
These provisions significantly reduce the most widely 
applicable marriage penalties in present law.

                        Explanation of Provision

    The bill increases the size of the 15-percent regular 
income tax rate bracket for a married couple filing a joint 
return to twice the size of the corresponding rate bracket for 
an unmarried individual filing a single return. The increase is 
phased-in over five years, beginning in 2006. Therefore, this 
provision is fully effective (i.e., the size of the 15-percent 
regular income tax rate bracket for a married couple filing a 
joint return would be twice the size of the 15-percent regular 
income tax rate bracket for an unmarried individual filing a 
single return) for taxable years beginning after December 31, 
2009. Table 6, below, shows the increase in the size of the 15-
percent bracket during the phase-in period.

    TABLE 6.--INCREASE IN SIZE OF 15-PERCENT RATE BRACKET FOR MARRIED
                      COUPLES FILING A JOINT RETURN
------------------------------------------------------------------------
                                                        End point of 15-
                                                          percent rate
                                                          bracket for
                                                         married couple
                                                          filing joint
                                                           return as
                     Taxable year                      percentage of end
                                                          point of 15-
                                                          percent rate
                                                          bracket for
                                                           unmarried
                                                          individuals
------------------------------------------------------------------------
2006.................................................                174
2007.................................................                180
2008.................................................                187
2009.................................................                193
2010 and thereafter..................................               200%
------------------------------------------------------------------------

                             Effective Date

    The increase in the size of the 15-percent rate bracket is 
effective for taxable years beginning after December 31, 2005.

 C. Marriage Penalty Relief and Simplification Relating to the Earned 
                             Income Credit


             (Sec. 303 of the bill and Sec. 32 of the Code)


                              Present Law

In general

    Eligible low-income workers are able to claim a refundable 
earned income credit. The amount of the credit an eligible 
taxpayer may claim depends upon the taxpayer's income and 
whether the taxpayer has one, more than one, or no qualifying 
children.
    The earned income credit is not available to married 
individuals who file separate returns. No earned income credit 
is allowed if the taxpayer has disqualified income in excess of 
$2,450 (for 2001) for the taxable year.\9\ In addition, no 
earned income credit is allowed if an eligible individual is 
the qualifying child of another taxpayer.\10\
---------------------------------------------------------------------------
    \9\ Sec. 32(i). Disqualified income is the sum of: (1) interest and 
dividends includible in gross income for the taxable year; (2) tax-
exempt income received or accrued in the taxable year; (3) net income 
from rents and royalties for the taxable year not derived in the 
ordinary course of business; (4) capital gain net income for the 
taxpayer year; and (5) net passive income for the taxable year. Sec. 
32(i)(2).
    \10\ Sec. 32(c)(1)(B).
---------------------------------------------------------------------------

Definition of qualifying child and tie-breaker rules

    To claim the earned income credit, a taxpayer must either 
(1) have a qualifying child or (2) meet the requirements for 
childless adults. A qualifying child must meet a relationship 
test, an age test, and a residence test. First, the qualifying 
child must be the taxpayer's child, stepchild, adopted child, 
grandchild, or foster child. Second, the child must be under 
the age 19 (or under age 24 if a full-time student) or 
permanently and totally disabled regardless of age. Third, the 
child must live with the taxpayer in the United States for more 
than half the year (a full year for foster children).
    An individual satisfies the relationship test under the 
earned income credit if the individual is the taxpayer's: (1) 
son or daughter or a descendant of either;\11\ (2) stepson or 
stepdaughter; or (3) eligible foster child. An eligible foster 
child is an individual (1) who is a brother, sister, 
stepbrother, or stepsister of the taxpayer (or a descendant of 
any such relative), or who is placed with the taxpayer by an 
authorized placement agency, and (2) who the taxpayer cares for 
as her or his own child. A married child of the taxpayer is not 
treated as meeting the relationship test unless the taxpayer is 
entitled to a dependency exemption with respect to the married 
child (e.g., the support test is satisfied) or would be 
entitled to the exemption if the taxpayer had not waived the 
exemption to the noncustodial parent.\12\
---------------------------------------------------------------------------
    \11\ A child who is legally adopted or placed with the taxpayer for 
adoption by an authorized adoption agency is treated as the taxpayer's 
own child. Sec. 32(c)(3)(B)(iv).
    \12\ Sec. 32(c)(3)(B)(ii).
---------------------------------------------------------------------------
    If a child otherwise qualifies with respect to more than 
one person, the child is treated as a qualifying child only of 
the person with the highest modified adjusted gross income.
    ``Modified adjusted gross income'' means adjusted gross 
income determined without regard to certain losses and 
increased by certain amounts not includible in gross 
income.\13\ The losses disregarded are: (1) net capital losses 
(up to $3,000); (2) net losses from estates and trusts; (3) net 
losses from nonbusiness rents and royalties; (4) 75 percent of 
the net losses from businesses, computed separately with 
respect to sole proprietorships (other than farming), farming 
sole proprietorships, and other businesses. The amounts added 
to adjusted gross income to arrive at modified adjusted gross 
income include: (1) tax-exempt interest; and (2) nontaxable 
distributions from pensions, annuities, and individual 
retirement plans (but not nontaxable rollover distributions or 
trustee-to-trustee transfers).
---------------------------------------------------------------------------
    \13\ Sec. 32(c)(5).
---------------------------------------------------------------------------

Definition of earned income

    To claim the earned income credit, the taxpayer must have 
earned income. Earned income consists of wages, salaries, other 
employee compensation, and net earnings from self 
employment.\14\ Employee compensation includes anything of 
value received by the taxpayer from the employer in return for 
services of the employee, including nontaxable earned income. 
Nontaxable forms of compensation treated as earned income 
include the following: (1) elective deferrals under a cash or 
deferred arrangement or section 403(b) annuity (Sec. 402(g)); 
(2) employer contributions for nontaxable fringe benefits, 
including contributions for accident and health insurance (Sec. 
106), dependent care (Sec. 129), adoption assistance (Sec. 
137), educational assistance (Sec. 127), and miscellaneous 
fringe benefits (Sec. 132); (3) salary reduction contributions 
under a cafeteria plan (Sec. 125); (4) meals and lodging 
provided for the convenience of the employer (Sec. 119), and 
(5) housing allowance or rental value of a parsonage for the 
clergy (Sec. 107). Some of these items are not required to be 
reported on the Wage and Tax Statement (Form W-2).
---------------------------------------------------------------------------
    \14\ Sec. 32(c)(2)(A).
---------------------------------------------------------------------------

Calculation of the credit

    The maximum earned income credit is phased in as an 
individual's earned income increases. The credit phases out for 
individuals with earned income (or if greater, modified 
adjusted gross income) over certain levels. In the case of a 
married individual who files a joint return, the earned income 
credit both for the phase-in and phase-out is calculated based 
on the couples' combined income.
    The credit is determined by multiplying the credit rate by 
the taxpayer's earned income up to a specified earned income 
amount. The maximum amount of the credit is the product of the 
credit rate and the earned income amount. The maximum credit 
amount applies to taxpayers with (1) earnings at or above the 
earned income amount and (2) modified adjusted gross income (or 
earnings, if greater) at or below the phase-out threshold 
level.
    For taxpayers with modified adjusted gross income (or 
earned income, if greater) in excess of the phase-out 
threshold, the credit amount is reduced by the phase-out rate 
multiplied by the amount of earned income (or modified adjusted 
gross income, if greater) in excess of the phase-out threshold. 
In other words, the credit amount is reduced, falling to $0 at 
the ``breakeven'' income level, the point where a specified 
percentage of ``excess'' income above the phase-out threshold 
offsets exactly the maximum amount of the credit. The earned 
income amount and the phase-out threshold are adjusted annually 
for inflation. Table 7, below, shows the earned income credit 
parameters for taxable year 2001.\15\
---------------------------------------------------------------------------
    \15\ The table is based on Rev. Proc. 2001-13.

                                TABLE 7.--EARNED INCOME CREDIT PARAMETERS (2001)
----------------------------------------------------------------------------------------------------------------
                                                                    Two or more
                                                                    qualifying    One qualifying   No qualifying
                                                                     children          child         children
----------------------------------------------------------------------------------------------------------------
Credit rate (percent)...........................................          40.00%          34.00%           7.65%
Earned income amount............................................         $10,020          $7,140          $4,760
Maximum credit..................................................          $4,008          $2,428            $364
Phase-out begins................................................         $13,090         $13,090          $5,950
Phase-out rate (percent)........................................          21.06%          15.98%           7.65%
Phase-out ends..................................................         $32,121         $28,281         $10,710
----------------------------------------------------------------------------------------------------------------

    An individual's alternative minimum tax liability reduces 
the amount of the refundable earned income credit.\16\
---------------------------------------------------------------------------
    \16\ Sec. 32(h).
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee believes that the present-law earned income 
amount penalizes some individuals because they receive a 
smaller earned income credit if they are married than if they 
are not married. The Committee believes increasing the phase-
out amount for married taxpayers who file a joint return will 
help to alleviate this penalty.
    The bill repeals the present-law provision reducing the 
earned income credit by the amount of the alternative minimum 
tax. This provision ensures that no taxpayer will face an 
increase in net income tax liability as a result of the 
interaction of the alternative minimum tax with the regular 
income tax reductions in the bill.
    The Committee believes that providing tax relief to 
Americans is a top priority. In addition, the Committee 
believes that simplification of our tax laws is important to 
alleviate the burdens on American taxpayers. As required by the 
IRS Restructuring and Reform Act of 1998, the staff of the 
Joint Committee on Taxation has recently released a 
simplification study.\17\ The study contains approximately 150 
recommendations for simplification reaching all areas of the 
Federal tax laws. As a first step toward simplification, the 
Committee believes it should consider simplification to the 
extent possible in the context of fulfilling the priority of 
providing needed tax relief. Thus, the Committee adopts three 
of the proposals recommended by the Joint Committee staff 
relating to the earned income credit: (1) the definition of 
earned income, (2) replacement of the present-law tie-breaker 
rules, and (3) uniformity in the definition of a qualifying 
child.
---------------------------------------------------------------------------
    \17\ Joint Committee on Taxation, Study of the Overall State of the 
Federal Tax System and Recommendations for Simplification, Pursuant to 
Section 8022(3)(B) of the Internal Revenue Code of 1986 (JCS-3-01), 
April 2001.
---------------------------------------------------------------------------
    The definition of earned income is a source of complexity 
insofar as it includes nontaxable forms of employee 
compensation. Present law requires both the IRS and taxpayers 
to keep track of nontaxable amounts for determining earned 
income credit eligibility even though such amounts are 
generally not necessary for other tax purposes. Further, not 
all forms of nontaxable earned income are reported on Form W-2. 
As a result, a taxpayer may not know the correct amount of 
nontaxable earned income received during the year. Further, the 
IRS cannot easily determine such amounts. The Committee 
believes that significant simplification would result from 
redefining earned income to exclude amounts not includable in 
gross income.
    The present-law tie-breaker rules also result in 
significant complexity. When a qualifying child lives with more 
than one adult who appears to qualify to claim the child for 
earned income credit purposes, under present law, the adult 
with the highest modified adjusted gross income is to claim the 
child. In its most recent study, the IRS found that the second 
largest amount of errors, 17.1 percent of overclaims, was 
attributable to the person with the lower modified adjusted 
gross income claiming the child.\18\ The Committee believes it 
is appropriate to replace the present-law tie-breaker rules 
with a more simplified rule that applies only in the case of 
competing claims.
---------------------------------------------------------------------------
    \18\ Internal Revenue Service, Compliance Estimates for Earned 
Income Tax Credit Claimed on 1997 Returns (September 2000), at 10.
---------------------------------------------------------------------------
    The Committee applies the definition of qualifying child 
recommended by the staff of the Joint Committee for purposes of 
the earned income credit as a first step toward broader 
simplification efforts. The Committee believes that the 
distinctions among familial relationships drawn by present law 
in defining a qualifying child add to the complexity of the 
earned income credit. For example, a taxpayer's son or daughter 
is a qualifying child if he or she lived with the taxpayer for 
more than six months, while the taxpayer's niece or nephew is 
required to live with the taxpayer for the entire year, even 
though the taxpayer cared for the child as his or her own. In 
addition, foster children must reside with the taxpayer for the 
entire year as opposed to the general rule of six months. The 
Committee believes that applying a uniform rule that 
requiresany qualifying child to reside with the taxpayer for more than 
six months will alleviate some of the complexity in this area.
    The National Taxpayer Advocate has recommended the 
elimination of the use of modified adjusted gross income as a 
means to simplify the earned income credit.\19\ The Committee 
believes that replacing modified adjusted gross income with 
adjusted gross income reduces the number of calculations 
required, thereby simplifying the credit.
---------------------------------------------------------------------------
    \19\ Internal Revenue Service, National Taxpayer Advocate's FY2000 
Annual Report to Congress, Publication 2104 (December 2000) at 74.
---------------------------------------------------------------------------
    The IRS recently reported that more than a quarter of 
earned income credit claims in 1997, $7.8 billion, were paid 
erroneously.\20\ The IRS found that the most common error 
involved taxpayers claiming children who did not meet the 
eligibility criteria. The IRS attributes most of these errors 
to taxpayers claiming the earned income credit for children who 
do not meet the residency requirement.\21\ Recently, the IRS 
began receiving data from the Department of Health and Human 
Services' Federal Case Registry of Child Support Orders, a 
Federal database containing state information on child support 
payments. This data assists the IRS in identifying erroneous 
earned income credit claims by noncustodial parents. The 
Committee believes that giving the IRS authority to deny 
questionable claims filed by noncustodial parents would reduce 
the erroneous filing and payment of earned income credit 
claims. The Committee, however, would like further information 
regarding the accuracy of the Federal Case Registry of Child 
Support Orders, its usefulness to the IRS in detecting 
erroneous or fraudulent claims, and the appropriateness of 
using math error procedures based on this data.
---------------------------------------------------------------------------
    \20\ Internal Revenue Service, Compliance Estimates for Earned 
Income Tax Credit Claimed on 1997 Returns (September 2000), at 3.
    \21\ Id. at 10.
---------------------------------------------------------------------------

                        Explanation of Provision

    For married taxpayers who file a joint return, the bill 
increases the beginning and ending of the earned income credit 
phase-out by $3,000. These beginning and ending points are to 
be adjusted annually for inflation after 2002.
    The bill simplifies the definition of earned income by 
excluding nontaxable employee compensation from the definition 
of earned income for earned income credit purposes. Thus, under 
the bill, earned income includes wages, salaries, tips, and 
other employee compensation, if includible in gross income for 
the taxable year, plus net earnings from self employment.
    The bill repeals the present-law provision that reduces the 
earned income credit by the amount of an individual's 
alternative minimum tax.
    The bill simplifies the calculation of the earned income 
credit by replacing modified adjusted gross income with 
adjusted gross income.
    The bill provides that the relationship test is met if the 
individual is the taxpayer's son, daughter, stepson, 
stepdaughter, or a descendant of any such individuals.\22\ A 
brother, sister, stepbrother, stepsister, or a descendant of 
such individuals, also qualifies if the taxpayer cares for such 
individual as his or her own child. A foster child satisfies 
the relationship test as well. A foster child is defined as an 
individual who is placed with the taxpayer by an authorized 
placement agency and who the taxpayer cares for as his or her 
own child. In order to be a qualifying child, in all cases the 
child must have the same principal place of abode as the 
taxpayer for over one-half of the taxable year.
---------------------------------------------------------------------------
    \22\ As under present law, an adopted child is treated as a child 
of the taxpayer by blood.
---------------------------------------------------------------------------
    The bill changes the present-law tie-breaking rule. Under 
the bill, if an individual would be a qualifying child with 
respect to more than one taxpayer, and more than one taxpayer 
claims the earned income credit with respect to that child, 
then the following tie-breaking rules apply. First, if one of 
the individuals claiming the child is the child's parent (or 
parents who file a joint return), then the child is considered 
the qualifying child of the parent (or parents). Second, if 
both parents claim the child and the parents do not file a 
joint return together, then the child is considered a 
qualifying child first of the parent with whom the child 
resided for the longest period of time during the year, and 
second of the parent with the highest adjusted gross income. 
Finally, if none of the taxpayers claiming the child as a 
qualifying child is the child's parent, the child is considered 
a qualifying child with respect to the taxpayer with the 
highest adjusted gross income.
    The bill authorizes the IRS, beginning in 2004, to use math 
error authority to deny the earned income credit if the Federal 
Case Registry of Child Support Orders indicates that the 
taxpayer is the noncustodial parent of the child with respect 
to whom the credit is claimed.
    It is the intent of the Committee that by September 2002, 
the Department of the Treasury, in consultation with the 
National Taxpayer Advocate, deliver to the Senate Committee on 
Finance and the House Committee on Ways and Means a study of 
the Federal Case Registry database. The study is to cover (1) 
the accuracy and timeliness of the data in the Federal Case 
Registry, (2) the efficacy of using math error authority in 
this instance in reducing costs due to erroneous or fraudulent 
claims, and (3) the implications of using math error authority 
in this instance, given the findings on the accuracy and 
timeliness of the data.

                             Effective Date

    The bill generally is effective for taxable years beginning 
after December 31, 2001. The bill to authorize the IRS to use 
math error authority if the Federal Case Registry of Child 
Support Orders indicates the taxpayer is the noncustodial 
parent is effective beginning in 2004.

              D. Compliance with Congressional Budget Act


                    (Secs. 311 and 312 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to marriage penalty relief which are in effect on 
September 30, 2011, shall cease to apply as of the close of 
September 30, 2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to marriage penalty relief which were terminated under 
the sunset provision shall begin to apply again as of October 
1, 2011, as provided in each such provision or amendment.

                        IV. EDUCATION INCENTIVES

                   A. Modifications to Education IRAs

            (Sec. 401 of the bill and Sec. 530 of the Code)

                              present law

In general
    Section 530 of the Code provides tax-exempt status to 
education individual retirement accounts (``education IRAs''), 
meaning certain trusts or custodial accounts which are created 
or organized in the United States exclusively for the purpose 
of paying the qualified higher education expenses of a 
designated beneficiary. Contributions to education IRAs may be 
made only in cash.\23\ Annual contributions to education IRAs 
may not exceed $500 per beneficiary (except in cases involving 
certain tax-free rollovers, as described below) and may not be 
made after the designated beneficiary reaches age 18.
---------------------------------------------------------------------------
    \23\ Special estate and gift tax rules apply to contributions made 
to and distributions made from education IRAs.
---------------------------------------------------------------------------
Phase-out of contribution limit
    The $500 annual contribution limit for education IRAs is 
generally phased-out ratably for contributors with modified 
adjusted gross income (between $95,000 and $110,000. The phase-
out range for married taxpayers filing a joint return is 
$150,000 to $160,000 of modified adjusted gross income. 
Individuals with modified adjusted gross income above the 
phase-out range are not allowed to make contributions to an 
education IRA established on behalf of any individual.
Treatment of distributions
    Earnings on contributions to an education IRA generally are 
subject to tax when withdrawn. However, distributions from an 
education IRA are excludable from the gross income of the 
beneficiary to the extent that the total distribution does not 
exceed the ``qualified higher education expenses'' incurred by 
the beneficiary during the year the distribution is made.
    If the qualified higher education expenses of the 
beneficiary for the year are less than the total amount of the 
distribution (i.e., contributions and earnings combined) from 
an education IRA, then the qualified higher education expenses 
are deemed to be paid from a pro-rata share of both the 
principal and earnings components of the distribution. Thus, in 
such a case, only a portion of the earnings are excludable 
(i.e., the portion of the earnings based on the ratio that the 
qualified higher education expenses bear to the total amount of 
the distribution) and the remaining portion of the earnings is 
includible in the beneficiary's gross income.
    The earnings portion of a distribution from an education 
IRA that is includible in income is also subject to an 
additional 10-percent tax. The 10-percent additional tax does 
not apply if a distribution is made on account of the death or 
disability of the designated beneficiary, or on account of a 
scholarship received by the designated beneficiary.
    The additional 10-percent tax also does not apply to the 
distribution of any contribution to an education IRA made 
during the taxable year if such distribution is made on or 
before the date that a return is required to be filed 
(including extensions of time) by the beneficiary for the 
taxable year during which the contribution was made (or, if the 
beneficiary is not required to file such a return, April 15th 
of the year following the taxable year during which the 
contribution was made).
    Present law allows tax-free transfers or rollovers of 
account balances from one education IRA benefiting one 
beneficiary to another education IRA benefiting another 
beneficiary (as well as redesignations of the named 
beneficiary), provided that the new beneficiary is a member of 
the family of the old beneficiary and is under age 30.
    Any balance remaining in an education IRA is deemed to be 
distributed within 30 days after the date that the beneficiary 
reaches age 30 (or, if earlier, within 30 days of the date that 
the beneficiary dies).

Qualified higher education expenses

    The term ``qualified higher education expenses'' includes 
tuition, fees, books, supplies, and equipment required for the 
enrollment or attendance of the designated beneficiary at an 
eligible education institution, regardless of whether the 
beneficiary is enrolled at an eligible educational institution 
on a full-time, half-time, or less than half-time basis. 
Qualified higher education expenses include expenses with 
respect to undergraduate or graduate-level courses. In 
addition, qualified higher education expenses include amounts 
paid or incurred to purchase tuition credits (or to make 
contributions to an account) under a qualified State tuition 
program, as defined in section 529, for the benefit of the 
beneficiary of the education IRA.
    Moreover, qualified higher education expenses include, 
within limits, room and board expenses for any academic period 
during which the beneficiary is at least a half-time student. 
Room and board expenses that may be treated as qualified higher 
education expenses are limited to the minimum room and board 
allowance applicable to the student in calculating costs of 
attendance for Federal financial aid programs under section 472 
of the Higher Education Act of 1965, as in effect on the date 
of enactment of the Small Business Job Protection Act of 1996 
(August 20, 1996). Thus, room and board expenses cannot exceed 
the following amounts: (1) for a student living at home with 
parents or guardians, $1,500 per academic year; (2) for a 
student living in housing owned or operated by the eligible 
education institution, the institution's ``normal'' room and 
board charge; and (3) for all other students, $2,500 per 
academic year.
    Qualified higher education expenses generally include only 
out-of-pocket expenses. Such qualified higher education 
expenses do not include expenses covered by educational 
assistance for the benefit of the beneficiary that is 
excludable from gross income. Thus, total qualified higher 
education expenses are reduced by scholarship or fellowship 
grants excludable from gross income under present-law section 
117, as well as any other tax-free educational benefits, such 
as employer-provided educational assistance that is excludable 
from the employee's gross income under section 127.
    Present law also provides that if any qualified higher 
education expenses are taken into account in determining the 
amount of the exclusion for a distribution from an education 
IRA, then no deduction (e.g., for trade or business expenses), 
exclusion (e.g., for interest on education savings bonds) or 
credit is allowed with respect to such expenses.
    Eligible educational institutions are defined by reference 
to section 481 of the Higher Education Act of 1965. Such 
institutions generally are accredited post-secondary 
educational institutions offering credit toward a bachelor's 
degree, an associate's degree, a graduate-level or professional 
degree, or another recognized post-secondary credential. 
Certain proprietary institutions and post-secondary vocational 
institutions also are eligible institutions. The institution 
must be eligible to participate in Department of Education 
student aid programs.

Time for making contributions

    Contributions to an education IRA for a taxable year are 
taken into account in the taxable year in which they are made.

Coordination with HOPE and Lifetime Learning credits

    If an exclusion from gross income is allowed for 
distributions from an education IRA with respect to an 
individual, then neither the HOPE nor Lifetime Learning credit 
may be claimed in the same taxable year with respect to the 
same individual. However, an individual may elect to waive the 
exclusion with respect to distributions from an education IRA. 
If such a waiver is made, then the HOPE or Lifetime Learning 
credit may be claimed with respect to the individual for the 
taxable year.

Coordination with qualified tuition programs

    An excise tax is imposed on contributions to an education 
IRA for a year if contributions are made by anyone to a 
qualified State tuition program on behalf of the same 
beneficiary in the same year. The excise tax is equal to 6 
percent of the contributions to the education IRA. The excise 
tax is imposed each year after the contribution is made, unless 
the contributions are withdrawn.

                           Reasons for Change

    Education IRAs were intended to help families plan for 
their children's education. However, the Committee believes 
that the present-law limits on contributions to education IRAs 
do not permit taxpayers to save adequately. Therefore, the 
Committee bill increases the contribution limits to education 
IRAs.
    The Committee believes that education IRAs should be 
expanded to provide greater flexibility to families in 
providing for their children's education at all levels of 
education. Thus,the Committee bill allows education IRAs to be 
used for expenses related to elementary and secondary education.
    The Committee believes that other modifications will also 
improve the attractiveness and operation of education IRAs, 
thus improving the effectiveness of education IRAs in assisting 
families in paying for education. Such modifications include 
more flexible rules for education IRAs for special needs 
beneficiaries and relaxation of the rules restricting the use 
of education IRAs and other tax benefits for education in the 
same year.

                        Explanation of Provision

Annual contribution limit

    The bill increases the annual limit on contributions to 
education IRAs from $500 to $2,000. Thus, aggregate 
contributions that may be made by all contributors to one (or 
more) education IRAs established on behalf of any particular 
beneficiary is limited to $2,000 for each year.

Qualified education expenses

    The bill expands the definition of qualified education 
expenses that may be paid tax-free from an education IRA to 
include ``qualified elementary and secondary school expenses,'' 
meaning expenses for (1) tuition, fees, academic tutoring, 
special need services, books, supplies, computer equipment 
(including related software and services), and other equipment 
incurred in connection with the enrollment or attendance of the 
beneficiary at a public, private, or religious school providing 
elementary or secondary education (kindergarten through grade 
12) as determined under State law, and (2) room and board, 
uniforms, transportation, and supplementary items or services 
(including extended day programs) required or provided by such 
a school in connection with such enrollment or attendance of 
the beneficiary.

Phase-out of contribution limit

    The bill increases the phase-out range for married 
taxpayers filing a joint return so that it is twice the range 
for single taxpayers. Thus, the phase-out range for married 
taxpayers filing a joint return is $190,000 to $220,000 of 
modified adjusted gross income.

Special needs beneficiaries

    The bill provides that the rule prohibiting contributions 
to an education IRA after the beneficiary attains 18 does not 
apply in the case of a special needs beneficiary (as defined by 
Treasury Department regulations). In addition, a deemed 
distribution of any balance in an education IRA does not occur 
when a special needs beneficiary reaches age 30.

Contributions by persons other than individuals

    The bill clarifies that corporations and other entities 
(including tax-exempt organizations) are permitted to make 
contributions to education IRAs, regardless of the income of 
the corporation or entity during the year of the contribution.

Contributions permitted until April 15

    Under the bill, individual contributors to education IRAs 
are deemed to have made a contribution on the last day of the 
preceding taxable year if the contribution is made on account 
of such taxable year and is made not later than the time 
prescribed by law for filing the individual's Federal income 
tax return for such taxable year (not including extensions). 
Thus, individual contributors generally may make contributions 
for a year until April 15 of the following year.

Qualified room and board expenses

    The bill modifies the definition of room and board expenses 
considered to be qualified higher education expenses. This 
modification is described with the provisions relating to 
qualified tuition programs, below.

Coordination with HOPE and Lifetime Learning credits

    The bill allows a taxpayer to claim a HOPE credit or 
Lifetime Learning credit for a taxable year and to exclude from 
gross income amounts distributed (both the contributions and 
the earnings portions) from an education IRA on behalf of the 
same student as long as the distribution is not used for the 
same educational expenses for which a credit was claimed.

Coordination with qualified tuition programs

    The bill repeals the excise tax on contributions made by 
any person to an education IRA on behalf of a beneficiary 
during any taxable year in which any contributions are made by 
anyone to a qualified State tuition program on behalf of the 
same beneficiary.
    If distributions from education IRAs and qualified tuition 
programs exceed the beneficiary's qualified higher education 
expenses for the year (after reduction by amounts used in 
claiming the HOPE or Lifetime Learning credit), the beneficiary 
is required to allocate the expenses between the distributions 
to determine the amount includible in income.

                             Effective Date

    The provisions modifying education IRAs are effective for 
taxable years beginning after December 31, 2001.

  B. Private Prepaid Tuition Programs; Exclusion From Gross Income of 
        Education Distributions From Qualified Tuition Programs


            (Sec. 402 of the bill and Sec. 529 of the Code)


                              Present Law

    Section 529 of the Code provides tax-exempt status to 
``qualified State tuition programs,'' meaning certain programs 
established and maintained by a State (or agency or 
instrumentality thereof) under which persons may (1) purchase 
tuition credits or certificates on behalf of a designated 
beneficiary that entitle the beneficiary to a waiver or payment 
of qualified higher education expenses of the beneficiary, or 
(2) make contributions to an account that is established for 
the purpose of meeting qualified higher education expenses of 
the designated beneficiary of the account (a ``savings account 
plan''). The term ``qualified higher education expenses'' 
generally has the same meaning as does the term for purposes of 
education IRAs (as described above) and, thus, includes 
expenses for tuition, fees, books, supplies, and equipment 
required for the enrollment or attendance at an eligible 
educational institution,\24\ as well as certain room and board 
expenses for any period during which the student is at least a 
half-time student.
---------------------------------------------------------------------------
    \24\ An ``eligible education institution'' is defined the same for 
purposes of education IRAs (described above) and qualified State 
tuition programs.
---------------------------------------------------------------------------
    No amount is included in the gross income of a contributor 
to, or a beneficiary of, a qualified State tuition program with 
respect to any distribution from, or earnings under, such 
program, except that (1) amounts distributed or educational 
benefits provided to a beneficiary are included in the 
beneficiary's gross income (unless excludable under another 
Code section) to the extent such amounts or the value of the 
educational benefits exceed contributions made on behalf of the 
beneficiary, and (2) amounts distributed to a contributor 
(e.g., when a parent receives a refund) are included in the 
contributor's gross income to the extent such amounts exceed 
contributions made on behalf of the beneficiary.\25\
---------------------------------------------------------------------------
    \25\ Distributions from qualified State tuition programs are 
treated as representing a pro-rata share of the contributions and 
earnings in the account.
---------------------------------------------------------------------------
    A qualified State tuition program is required to provide 
that purchases or contributions only be made in cash.\26\ 
Contributors and beneficiaries are not allowed to direct the 
investment of contributions to the program (or earnings 
thereon). The program is required to maintain a separate 
accounting for each designated beneficiary. A specified 
individual must be designated as the beneficiary at the 
commencement of participation in a qualified State tuition 
program (i.e., when contributions are first made to purchase an 
interest in such a program), unless interests in such a program 
are purchased by a State or local government or a tax-exempt 
charity described in section 501(c)(3) as part of a scholarship 
program operated by such government or charity under which 
beneficiaries to be named in the future will receive such 
interests as scholarships.
---------------------------------------------------------------------------
    \26\ Special estate and gift tax rules apply to contributions made 
to and distributions made from qualified State tuition programs.
---------------------------------------------------------------------------
    A transfer of credits (or other amounts) from one account 
benefiting one designated beneficiary to another account 
benefiting a different beneficiary is considered a distribution 
(as is a change in the designated beneficiary of an interest in 
a qualified State tuition program), unless the beneficiaries 
are members of the same family. For this purpose, the term 
``member of the family'' means: (1) the spouse of the 
beneficiary; (2) a son or daughter of the beneficiary or a 
descendent of either; (3) a stepson or stepdaughter of the 
beneficiary; (4) a brother, sister, stepbrother or stepsister 
of the beneficiary; (5) the father or mother of the beneficiary 
or an ancestor of either; (6) a stepfather or stepmother of the 
beneficiary; (7) a son or daughter of a brother or sister of 
the beneficiary; (8) a brother or sister of the father or 
mother of the beneficiary; (9) a son-in-law, daughter-in-law, 
father-in-law, mother-in-law, brother-in-law, or sister-in-law 
of the beneficiary; or (10) the spouse of any person described 
in (2)-(9).
    Earnings on an account may be refunded to a contributor or 
beneficiary, but the State or instrumentality must impose a 
more than de minimis monetary penalty unless the refund is (1) 
used for qualified higher education expenses of the 
beneficiary, (2) made on account of the death or disability of 
the beneficiary, (3) made on account of a scholarship received 
by the beneficiary, or (4) a rollover distribution.
    To the extent that a distribution from a qualified State 
tuition program is used to pay for qualified tuition and 
related expenses (as defined in sec. 25A(f)(1)), the 
beneficiary (or another taxpayer claiming the beneficiary as a 
dependent) may claim the HOPE credit or Lifetime Learning 
credit with respect to such tuition and related expenses 
(assuming that the other requirements for claiming the HOPE 
credit or Lifetime Learning credit are satisfied and the 
modified AGI phase-out for those credits does not apply).

                           Reasons for Change

    The Committee believes that distributions from qualified 
State tuition programs should not be subject to Federal income 
tax to the extent that such distributions are used to pay for 
qualified higher education expenses of undergraduate or 
graduate students who are attending college, university, or 
certain vocational schools. In addition, the Committee believes 
that the present-law rules governing qualified tuition programs 
should be expanded to permit private educational institutions 
to maintain certain prepaid tuition programs. The Committee 
believes that the amount of room and board expenses that can be 
paid with tax-free distributions from prepaid tuition plans 
should reflect current costs.

                        Explanation of Provision

Qualified tuition program

    The bill expands the definition of ``qualified tuition 
program'' to include certain prepaid tuition programs 
established and maintained by one or more eligible educational 
institutions (which may be private institutions) that satisfy 
the requirements under section 529 (other than the present-law 
State sponsorship rule). In the case of a qualified tuition 
program maintained by one or more private eligible educational 
institutions, persons are able to purchase tuition credits or 
certificates on behalf of a designated beneficiary (as set 
forth in sec. 529(b)(1)(A)(i)), but would not be able to make 
contributions to a savings account plan (as described in 
sec.529(b)(1)(A)(ii)). Except to the extent provided in regulations, a 
tuition program maintained by a private institution is not treated as 
qualified unless it has received a ruling or determination from the IRS 
that the program satisfies applicable requirements.

Exclusion from gross income

    Under the bill, an exclusion from gross income is provided 
for distributions made in taxable years beginning after 
December 31, 2001, from qualified State tuition programs to the 
extent that the distribution is used to pay for qualified 
higher education expenses. This exclusion from gross income is 
extended to distributions from qualified tuition programs 
established and maintained by an entity other than a State (or 
agency or instrumentality thereof) for distributions made in 
taxable years after December 31, 2003.

Qualified higher education expenses

    The bill provides that, for purposes of the exclusion for 
distributions from qualified tuition plans, the maximum room 
and board allowance is the amount applicable to the student in 
calculating costs of attendance for Federal financial aid 
programs under section 472 of the Higher Education Act of 1965, 
as in effect on the date of enactment, or, in the case of a 
student living in housing owned or operated by an eligible 
educational institution, the actual amount charged the student 
by the educational institution for room and board.\27\
---------------------------------------------------------------------------
    \27\ This definition also applies to distributions from education 
IRAs.
---------------------------------------------------------------------------

Coordination with HOPE and Lifetime Learning credits

    The bill allows a taxpayer to claim a HOPE credit or 
Lifetime Learning credit for a taxable year and to exclude from 
gross income amounts distributed (both the principal and the 
earnings portions) from a qualified tuition program on behalf 
of the same student as long as the distribution is not used for 
the same expenses for which a credit was claimed.

Rollovers for benefit of same beneficiary

    The bill provides that a transfer of credits (or other 
amounts) from one qualified tuition program for the benefit of 
a designated beneficiary to another qualified tuition program 
for the benefit of the same beneficiary is not considered a 
distribution. This rollover treatment applies to a maximum of 
three such transfers with respect to the same designated 
beneficiary.

Member of family

    The bill provides that, for purposes of tax-free rollovers 
and changes of designated beneficiaries, a ``member of the 
family'' includes first cousins of the original beneficiary.

                             Effective Date

    The provisions are effective for taxable years beginning 
after December 31, 2001, except that the exclusion from gross 
income for certain distributions from a qualified tuition 
program established and maintained by an entity other than a 
State (or agency or instrumentality thereof) is effective for 
taxable years beginning after December 31, 2003.

       C. Exclusion for Employer-Provided Educational Assistance


            (Sec. 411 of the bill and Sec. 127 of the Code)


                              Present Law

    Educational expenses paid by an employer for its employees 
are generally deductible by the employer.
    Employer-paid educational expenses are excludable from the 
gross income and wages of an employee if provided under a 
section 127 educational assistance plan or if the expenses 
qualify as a working condition fringe benefit under section 
132. Section 127 provides an exclusion of $5,250 annually for 
employer-provided educational assistance. The exclusion does 
not apply to graduate courses beginning after June 30, 1996. 
The exclusion for employer-provided educational assistance for 
undergraduate courses expires with respect to courses beginning 
after December 31, 2001.
    In order for the exclusion to apply, certain requirements 
must be satisfied. The educational assistance must be provided 
pursuant to a separate written plan of the employer. The 
educational assistance program must not discriminate in favor 
of highly compensated employees. In addition, not more than 
five percent of the amounts paid or incurred by the employer 
during the year for educational assistance under a qualified 
educational assistance plan can be provided for the class of 
individuals consisting of more than five percent owners of the 
employer (and their spouses and dependents).
    Educational expenses that do not qualify for the section 
127 exclusion may be excludable from income as a working 
condition fringe benefit.\28\ In general, education qualifies 
as a working condition fringe benefit if the employee could 
have deducted the education expenses under section 162 if the 
employee paid for the education. In general, education expenses 
are deductible by an individual under section 162 if the 
education (1) maintains or improves a skill required in a trade 
or business currently engaged in by the taxpayer, or (2) meets 
the express requirements of the taxpayer's employer, applicable 
law or regulations imposed as a condition of continued 
employment. However, education expenses are generally not 
deductible if they relate to certain minimum educational 
requirements or to education or training that enables a 
taxpayer to begin working in a new trade or business.\29\
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    \28\ These rules also apply in the event that section 127 expires.
    \29\ In the case of an employee, education expenses (if not 
reimbursed by the employer) may be claimed as an itemized deduction 
only if such expenses, along with other miscellaneous expenses, exceed 
two percent of the taxpayer's AGI. An individual's total deductions may 
also be reduced by the overall limitation on itemized deductions under 
section 68. These limitations do not apply in determining whether an 
item is excludable from income as a working condition fringe benefit.
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                           Reasons for Change

    The Committee believes that the exclusion for employer-
provided educational assistance has enabled millions of workers 
to advance their education and improve their job skills without 
incurring additional taxes and a reduction in take-home pay. In 
addition, the exclusion lessens the complexity of the tax laws. 
Without the special exclusion, a worker receiving educational 
assistance from his or her employer is subject to tax on the 
assistance, unless the education is related to the worker's 
current job. Because the determination of whether particular 
educational assistance is job related is based on the facts and 
circumstances, it may be difficult to determine with certainty 
whether the educational assistance is excludable from income. 
This uncertainty may lead to disputes between taxpayers and the 
Internal Revenue Service.
    The Committee believes that reinstating the exclusion for 
graduate-level employer-provided educational assistance will 
enable more individuals to seek higher education, and that 
further extension of the exclusion is important.
    The past experience of allowing the exclusion to expire and 
later extending it retroactively has created burdens for 
employers and employees. Employees may have difficulty planning 
for their educational goals if they do not know whether their 
tax bills will increase. For employers, the lack of permanence 
of the provision has caused severe administrative problems. 
Uncertainty about the exclusion's future may discourage some 
employers from providing educational benefits.

                        Explanation of Provision

    The provision extends the exclusion for employer-provided 
educational assistance to graduate education and makes the 
exclusion (as applied to both undergraduate and graduate 
education) permanent.

                             Effective Date

    The provision is effective with respect to courses 
beginning after December 31, 2001.

          D. Modifications to Student Loan Interest Deduction


            (Sec. 412 of the bill and Sec. 221 of the Code)


                              Present Law

    Certain individuals may claim an above-the-line deduction 
for interest paid on qualified education loans, subject to a 
maximum annual deduction limit. The deduction is allowed only 
with respect to interest paid on a qualified education loan 
during the first 60 months in which interest payments are 
required. Required payments of interest generally do not 
include voluntary payments, such as interest payments made 
during a period of loan forbearance. Months during which 
interest payments are not required because the qualified 
education loan is in deferral or forbearance do not count 
against the 60-month period. No deduction is allowed to an 
individual if that individual is claimed as a dependent on 
another taxpayer's return for the taxable year.
    A qualified education loan generally is defined as any 
indebtedness incurred solely to pay for certain costs of 
attendance (including room and board) of a student (who may be 
the taxpayer, the taxpayer's spouse, or any dependent of the 
taxpayer as of the time the indebtedness was incurred) who is 
enrolled in a degree program on at least a half-time basis at 
(1) an accredited post-secondary educational institution 
defined by reference to section 481 of the Higher Education Act 
of 1965, or (2) an institution conducting an internship or 
residency program leading to a degree or certificate from an 
institution of higher education, a hospital, or a health care 
facility conducting postgraduate training.
    The maximum allowable annual deduction is $2,500. The 
deduction is phased-out ratably for single taxpayers with 
modified adjusted gross income between $40,000 and $55,000 and 
for married taxpayers filing joint returns with modified 
adjusted gross income between $60,000 and $75,000. The income 
ranges will be adjusted for inflation after 2002.

                           Reasons for Change

    The Committee believes that it is appropriate to expand the 
deduction for individuals who pay interest on qualified 
education loans by repealing the limitation that the deduction 
is allowed only with respect to interest paid during the first 
60 months in which interest payments are required. In addition, 
the repeal of the 60-month limitation lessens complexity and 
administrative burdens for taxpayers, lenders, loan servicing 
agencies, and the Internal Revenue Service. The Committee also 
believes it appropriate to increase the income phase-out ranges 
applicable to the student loan interest deduction to make the 
deduction available to more taxpayers and to reduce the 
potential marriage penalty caused by the phase-out ranges.

                        Explanation of Provision

    The bill increases the income phase-out ranges for 
eligibility for the student loan interest deduction to $50,000 
to $65,000 for single taxpayers and to $100,000 to $130,000 for 
married taxpayers filing joint returns. These income phase-out 
ranges are adjusted annually for inflation after 2002.
    The bill repeals both the limit on the number of months 
during which interest paid on a qualified education loan is 
deductible and the restriction that voluntary payments of 
interest are not deductible.

                             Effective Date

    The provision is effective for interest paid on qualified 
education loans after December 31, 2001.

  E. Eliminate Tax on Awards Under the National Health Service Corps 
   Scholarship Program and the F. Edward Hebert Armed Forces Health 
        Professions Scholarship and Financial Assistance Program


            (Sec. 413 of the bill and Sec. 117 of the Code)


                              Present Law

    Section 117 excludes from gross income amounts received as 
a qualified scholarship by an individual who is a candidate for 
a degree and used for tuition and fees required for the 
enrollment or attendance (or for fees, books, supplies, and 
equipment required for courses of instruction) at a primary, 
secondary, or post-secondary educational institution. The tax-
free treatment provided by section 117 does not extend to 
scholarship amounts covering regular living expenses, such as 
room and board. In addition to the exclusion for qualified 
scholarships, section 117 provides an exclusion from gross 
income for qualified tuition reductions for certain education 
provided to employees (and their spouses and dependents) of 
certain educational organizations.
    The exclusion for qualified scholarships and qualified 
tuition reductions does not apply to any amount received by a 
student that represents payment for teaching, research, or 
other services by the student required as a condition for 
receiving the scholarship or tuition reduction.
    The National Health Service Corps Scholarship Program (the 
``NHSC Scholarship Program'') and the F. Edward Hebert Armed 
Forces Health Professions Scholarship and Financial Assistance 
Program (the ``Armed Forces Scholarship Program'') provide 
education awards to participants on the condition that the 
participants provide certain services. In the case of the NHSC 
Program, the recipient of the scholarship is obligated to 
provide medical services in a geographic area (or to an 
underserved population group or designated facility) identified 
by the Public Health Service as having a shortage of health 
care professionals. In the case of the Armed Forces Scholarship 
Program, the recipient of the scholarship is obligated to serve 
a certain number of years in the military at an armed forces 
medical facility. Because the recipients are required to 
perform services in exchange for the education awards, the 
awards used to pay higher education expenses are taxable income 
to the recipient.

                           reasons for change

    The Committee believes it appropriate to provide tax-free 
treatment for scholarships received by medical, dental, 
nursing, and physician assistant students under the NHSC 
Scholarship Program and the Armed Forces Scholarship Program.

                        Explanation of Provision

    The bill provides that amounts received by an individual 
under the NHSC Scholarship Program or the Armed Forces 
Scholarship Program are eligible for tax-free treatment as 
qualified scholarships under section 117, without regard to any 
service obligation by the recipient. As with other qualified 
scholarships under section 117, the tax-free treatment does not 
apply to amounts received by students for regular living 
expenses, including room and board.

                             Effective Date

    The provision is effective for education awards received 
after December 31, 2001.

 F. Tax Benefits for Certain Types of Bonds for Educational Facilities 
                             and Activities


   (Secs. 421-422 of the bill and Secs. 142 and 146-148 of the Code)


                              Present Law

Tax-exempt bonds

            In general
    Interest on debt \30\ incurred by States or local 
governments is excluded from income if the proceeds of the 
borrowing are used to carry out governmental functions of those 
entities or the debt is repaid with governmental funds (Sec. 
103).\31\ Like other activities carried out or paid for by 
States and local governments, the construction, renovation, and 
operation of public schools is an activity eligible for 
financing with the proceeds of tax-exempt bonds.
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    \30\ Hereinafter referred to as ``State or local government 
bonds.''
    \31\ Interest on this debt is included in calculating the 
``adjusted current earnings'' preference of the corporate alternative 
minimum tax.
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    Interest on bonds that nominally are issued by States or 
local governments, but the proceeds of which are used (directly 
or indirectly) by a private person and payment of which is 
derived from funds of such a private person is taxable unless 
the purpose of the borrowing is approved specifically in the 
Code or in a non-Code provision of a revenue Act. These bonds 
are called ``private activity bonds.'' \32\ The term ``private 
person'' includes the Federal Government and all other 
individuals and entities other than States or local 
governments.
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    \32\ Interest on private activity bonds (other than qualified 
501(c)(3) bonds) is a preference item in calculating the alternative 
minimum tax.
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            Private activities eligible for financing with tax-exempt 
                    private activity bonds
    Present law includes several exceptions permitting States 
or local governments to act as conduits providing tax-exempt 
financing for private activities. Both capital expenditures and 
limited working capital expenditures of charitable 
organizations described in section 501(c)(3) of the Code--
including elementary, secondary, and post-secondary schools--
may be financed with tax-exempt private activity bonds 
(``qualified 501(c)(3) bonds'').
    States or local governments may issue tax-exempt ``exempt-
facility bonds'' to finance property for certain private 
businesses. Business facilities eligible for this financing 
include transportation (airports, ports, local mass commuting, 
and high speed intercity rail facilities); privately owned and/
or privately operated public works facilities (sewage, solid 
waste disposal, local district heating or cooling, and 
hazardous waste disposal facilities); privately-owned and/or 
operated low-income rental housing; and certain private 
facilities for the local furnishing of electricity or gas. A 
further provision allows tax-exempt financing for 
``environmental enhancements of hydro-electric generating 
facilities.'' Tax-exempt financing also is authorized for 
capital expenditures for small manufacturing facilities and 
land and equipment for first-timefarmers (``qualified small-
issue bonds''), local redevelopment activities (``qualified 
redevelopment bonds''), and eligible empowerment zone and enterprise 
community businesses. Tax-exempt private activity bonds also may be 
issued to finance limited non-business purposes: certain student loans 
and mortgage loans for owner-occupied housing (``qualified mortgage 
bonds'' and ``qualified veterans' mortgage bonds'').
    Private activity tax-exempt bonds may not be issued to 
finance schools for private, for-profit businesses.
    In most cases, the aggregate volume of private activity 
tax-exempt bonds is restricted by annual aggregate volume 
limits imposed on bonds issued by issuers within each State. 
These annual volume limits are equal to $62.50 per resident of 
the State, or $187.5 million if greater. The volume limits are 
scheduled to increase to the greater of $75 per resident of the 
State or $225 million in calendar year 2002. After 2002, the 
volume limits will be indexed annually for inflation.
            Arbitrage restrictions on tax-exempt bonds
    The Federal income tax does not apply to the income of 
States and local governments that is derived from the exercise 
of an essential governmental function. To prevent these tax-
exempt entities from issuing more Federally subsidized tax-
exempt bonds than is necessary for the activity being financed 
or from issuing such bonds earlier than needed for the purpose 
of the borrowing, the Code includes arbitrage restrictions 
limiting the ability to profit from investment of tax-exempt 
bond proceeds. In general, arbitrage profits may be earned only 
during specified periods (e.g., defined ``temporary periods'' 
before funds are needed for the purpose of the borrowing) or on 
specified types of investments (e.g., ``reasonably required 
reserve or replacement funds''). Subject to limited exceptions, 
profits that are earned during these periods or on such 
investments must be rebated to the Federal Government.
    Present law includes three exceptions to the arbitrage 
rebate requirements applicable to education-related bonds. 
First, issuers of all types of tax-exempt bonds are not 
required to rebate arbitrage profits if all of the proceeds of 
the bonds are spent for the purpose of the borrowing within six 
months after issuance.\33\
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    \33\ In the case of governmental bonds (including bonds to finance 
public schools), the six-month expenditure exception is treated as 
satisfied if at least 95 percent of the proceeds is spent within six 
months and the remaining five percent is spent within 12 months after 
the bonds are issued.
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    Second, in the case of bonds to finance certain 
construction activities, including school construction and 
renovation, the six-month period is extended to 24 months. 
Arbitrage profits earned on construction proceeds are not 
required to be rebated if all such proceeds (other than certain 
retainage amounts) are spent by the end of the 24-month period 
and prescribed intermediate spending percentages are 
satisfied.\34\ Issuers qualifying for this ``construction 
bond'' exception may elect to be subject to a fixed penalty 
payment regime in lieu of rebate if they fail to satisfy the 
spending requirements.
---------------------------------------------------------------------------
    \34\ Retainage amounts are limited to no more than five percent of 
the bond proceeds, and these amounts must be spent for the purpose of 
the borrowing no later than 36 months after the bonds are issued.
---------------------------------------------------------------------------
    Third, governmental bonds issued by ``small'' governments 
are not subject to the rebate requirement. Small governments 
are defined as general purpose governmental units that issue no 
more than $5 million of tax-exempt governmental bonds in a 
calendar year. The $5 million limit is increased to $10 million 
if at least $5 million of the bonds are used to finance public 
schools.\35\
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    \35\ The Small Business Job Protection Act of 1996 permitted 
issuance of the additional $5 million in public school bonds by small 
governments. Previously, small governments were defined as governments 
that issued no more than $5 million of governmental bonds without 
regard to the purpose of the financing.
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Qualified zone academy bonds

    As an alternative to traditional tax-exempt bonds, States 
and local governments are given the authority to issue 
``qualified zone academy bonds.'' Under present law, a total of 
$400 million of qualified zone academy bonds may be issued in 
each of 1998 through 2001. The $400 million aggregate bond 
authority is allocated each year to the States according to 
their respective populations of individuals below the poverty 
line. Each State, in turn, allocates the credit to qualified 
zone academies within such State. A State may carry over any 
unused allocation for up to two years (three years for 
authority arising before 2000).
    Certain financial institutions (i.e., banks, insurance 
companies, and corporations actively engaged in the business of 
lending money) that hold qualified zone academy bonds are 
entitled to a nonrefundable tax credit in an amount equal to a 
credit rate multiplied by the face amount of the bond. An 
eligible financial institution holding a qualified zone academy 
bond on the credit allowance date (i.e., each one-year 
anniversary of the issuance of the bond) is entitled to a 
credit. The credit amount is includible in gross income (as if 
it were a taxable interest payment on the bond), and the credit 
may be claimed against regular income tax and alternative 
minimum tax liability.
    The Treasury Department sets the credit rate daily at a 
rate estimated to allow issuance of qualified zone academy 
bonds without discount and without interest cost to the issuer. 
The maximum term of the bonds also is determined by the 
Treasury Department, so that the present value of the 
obligation to repay the bond is 50 percent of the face value of 
the bond. Present value is determined using as a discount rate 
the average annual interest rate of tax-exempt obligations with 
a term of 10 years or more issued during the month.
    ``Qualified zone academy bonds'' are defined as bonds 
issued by a State or local government, provided that: (1) at 
least 95 percent of the proceeds is used for the purpose of 
renovating, providing equipment to, developing course materials 
for use at, or training teachersand other school personnel in a 
``qualified zone academy'' and (2) private entities have promised to 
contribute to the qualified zone academy certain equipment, technical 
assistance or training, employee services, or other property or 
services with a value equal to at least 10 percent of the bond 
proceeds.
    A school is a ``qualified zone academy'' if (1) the school 
is a public school that provides education and training below 
the college level, (2) the school operates a special academic 
program in cooperation with businesses to enhance the academic 
curriculum and increase graduation and employment rates, and 
(3) either (a) the school is located in a designated 
empowerment zone or a designated enterprise community, or (b) 
it is reasonably expected that at least 35 percent of the 
students at the school will be eligible for free or reduced-
cost lunches under the school lunch program established under 
the National School Lunch Act.

                           Reasons for Change

    The policy underlying the arbitrage rebate exception for 
bonds of small governmental units is to reduce complexity for 
these entities because they may not have in-house financial 
staff to engage in the expenditure and investment tracking 
necessary for rebate compliance. The exception further is 
justified by the limited potential for arbitrage profits at 
small issuance levels and limitation of the provision to 
governmental bonds, which typically require voter approval 
before issuance. The Committee believes that a limited increase 
of $5 million per year for public school construction bonds 
will more accurately conform this present-law exception to 
current school construction costs.
    Further, the Committee wishes to encourage public-private 
partnerships to improve educational opportunities. To permit 
public-private partnerships to reap the benefit of the implicit 
subsidy to capital costs provided through tax-exempt financing, 
the Committee determined that it is appropriate to allow the 
issuance of tax-exempt private activity bonds for public school 
facilities.

                       Explanation of Provisions

Increase amount of governmental bonds that may be issued by governments 
        qualifying for the ``small governmental unit'' arbitrage rebate 
        exception

    The additional amount of governmental bonds for public 
schools that small governmental units may issue without being 
subject to the arbitrage rebate requirements is increased from 
$5 million to $10 million. Thus, these governmental units may 
issue up to $15 million of governmental bonds in a calendar 
year provided that at least $10 million of the bonds are used 
to finance public school construction expenditures.

Allow issuance of tax-exempt private activity bonds for public school 
        facilities

    The private activities for which tax-exempt bonds may be 
issued are expanded to include elementary and secondary public 
school facilities which are owned by private, for-profit 
corporations pursuant to public-private partnership agreements 
with a State or local educational agency. The term school 
facility includes school buildings and functionally related and 
subordinate land (including stadiums or other athletic 
facilities primarily used for school events) \36\ and 
depreciable personal property used in the school facility. The 
school facilities for which these bonds are issued must be 
operated by a public educational agency as part of a system of 
public schools.
---------------------------------------------------------------------------
    \36\ The present-law limit on the amount of the proceeds of a 
private activity bond issue that may be used to finance land 
acquisition does not apply to these bonds.
---------------------------------------------------------------------------
    A public-private partnership agreement is defined as an 
arrangement pursuant to which the for-profit corporate party 
constructs, rehabilitates, refurbishes or equips a school 
facility for a public school agency (typically pursuant to a 
lease arrangement). The agreement must provide that, at the end 
of the contract term, ownership of the bond-financed property 
is transferred to the public school agency party to the 
agreement for no additional consideration.
    Issuance of these bonds is subject to a separate annual 
per-State private activity bond volume limit equal to $10 per 
resident ($5 million, if greater) in lieu of the present-law 
State private activity bond volume limits. As with the present-
law State private activity bond volume limits, States can 
decide how to allocate the bond authority to State and local 
government agencies. Bond authority that is unused in the year 
in which it arises may be carried forward for up to three years 
for public school projects under rules similar to the 
carryforward rules of the present-law private activity bond 
volume limits.

                             Effective Date

    The provisions are effective for bonds issued after 
December 31, 2001.
    G. Deduction for Qualified Higher Education Expenses

          (Sec. 431 of the bill and new Sec. 222 of the Code)


                              Present Law

Deduction for education expenses

    Under present law, an individual taxpayer generally may not 
deduct the education and training expenses of the taxpayer or 
the taxpayer's dependents. However, a deduction for education 
expenses generally is allowed under Internal Revenue Code 
(``the Code'') section 162 if the education or training (1) 
maintains or improves a skill required in a trade or business 
currently engaged in by the taxpayer, or (2) meets the express 
requirements of the taxpayer's employer, or requirements of 
applicable law or regulations, imposed as a condition of 
continued employment (Treas. Reg. sec. 1.162-5). Education 
expenses are not deductible if they relate to certain minimum 
educational requirements or to education or training that 
enables a taxpayer to begin working in a new trade or business. 
In the case of an employee, education expenses (if not 
reimbursed by the employer) may be claimed as an itemized 
deduction only if such expenses meet the above described 
criteria for deductibility under section 162 and only to the 
extent that the expenses, along with other miscellaneous 
deductions, exceed 2 percent of the taxpayer's adjusted gross 
income.

HOPE and Lifetime Learning credits

            HOPE credit
    Under present law, individual taxpayers are allowed to 
claim a nonrefundable credit, the ``HOPE'' credit, against 
Federal income taxes of up to $1,500 per student per year for 
qualified tuition and related expenses paid for the first two 
years of the student's post secondary education in a degree or 
certificate program. The HOPE credit rate is 100 percent on the 
first $1,000 of qualified tuition and related expenses, and 50 
percent on the next $1,000 of qualified tuition and related 
expenses.\37\ The qualified tuition and related expenses must 
be incurred on behalf of the taxpayer, the taxpayer's spouse, 
or a dependent of the taxpayer. The HOPE credit is available 
with respect to an individual student for two taxable years, 
provided that the student has not completed the first two years 
of post-secondary education before the beginning of the second 
taxable year.\38\ The HOPE credit that a taxpayer may otherwise 
claim is phased-out ratably for taxpayers with modified AGI 
between $40,000 and $50,000 ($80,000 and $100,000 for joint 
returns). For taxable years beginning after 2001, the $1,500 
maximum HOPE credit amount and the AGI phase-out ranges are 
indexed for inflation.
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    \37\ Thus, an eligible student who incurs $1,000 of qualified 
tuition and related expenses is eligible (subject to the AGI phase-out) 
for a $1,000 HOPE credit. If an eligible student incurs $2,000 of 
qualified tuition and related expenses, then he or she is eligible for 
a $1,500 HOPE credit.
    \38\ The HOPE credit may not be claimed against a taxpayer's 
alternative minimum tax liability.
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    The HOPE credit is available for ``qualified tuition and 
related expenses,'' which include tuition and fees required to 
be paid to an eligible educational institution as a condition 
of enrollment or attendance of an eligible student at the 
institution. Charges and fees associated with meals, lodging, 
insurance, transportation, and similar personal, living, or 
family expenses are not eligible for the credit. The expenses 
of education involving sports, games, or hobbies are not 
qualified tuition and related expenses unless this education is 
part of the student's degree program.
    Qualified tuition and related expenses generally include 
only out-of-pocket expenses. Qualified tuition and related 
expenses do not include expenses covered by employer-provided 
educational assistance and scholarships that are not required 
to be included in the gross income of either the student or the 
taxpayer claiming the credit. Thus, total qualified tuition and 
related expenses are reduced by any scholarship or fellowship 
grants excludable from gross income under section 117 and any 
other tax free educational benefits received by the student (or 
the taxpayer claiming the credit) during the taxable year.
            Lifetime Learning credit
    Individual taxpayers are allowed to claim a nonrefundable 
credit, the Lifetime Learning credit, against Federal income 
taxes equal to 20 percent of qualified tuition and related 
expenses incurred during the taxable year on behalf of the 
taxpayer, the taxpayer's spouse, or any dependents. For 
expenses paid after June 30, 1998, and prior to January 1, 
2003, up to $5,000 of qualified tuition and related expenses 
per taxpayer return are eligible for the Lifetime Learning 
credit (i.e., the maximum credit per taxpayer return is 
$1,000). For expenses paid after December 31, 2002, up to 
$10,000 of qualified tuition and related expenses per taxpayer 
return will be eligible for the Lifetime Learning credit (i.e., 
the maximum credit per taxpayer return will be $2,000).
    In contrast to the HOPE credit, a taxpayer may claim the 
Lifetime Learning credit for an unlimited number of taxable 
years. Also in contrast to the HOPE credit, the maximum amount 
of the Lifetime Learning credit that may be claimed on a 
taxpayer's return will not vary based on the number of students 
in the taxpayer's family--that is, the HOPE credit is computed 
on a per student basis, while the Lifetime Learning credit is 
computed on a family wide basis. The Lifetime Learning credit 
amount that a taxpayer may otherwise claim is phased-out 
ratably for taxpayers with modified AGI between $40,000 and 
$50,000 ($80,000 and $100,000 for joint returns).

                           Reasons for Change

    The Committee recognizes that in some cases a deduction for 
education expenses may provide greater tax relief than the 
present-law credits. The Committee wishes to maximize tax 
benefits for education, and provide greater choice for 
taxpayers in determining which tax benefit is most appropriate 
for them.

                        Explanation of Provision

    The bill permits taxpayers an above-the-line deduction for 
qualified higher education expenses paid by the taxpayer during 
a taxable year. Qualified higher education expenses are defined 
in the same manner as for purposes of the HOPE credit.
    In 2002 and 2003, taxpayers with adjusted gross income \39\ 
that does not exceed $65,000 ($130,000 in the case of married 
couples filing joint returns) are entitled to a maximum 
deduction of $3,000 per year. Taxpayers with adjusted gross 
income above these thresholds would not be entitled to a 
deduction. In 2004 and 2005, taxpayers with adjusted gross 
income that does not exceed $65,000 ($130,000 in the case of 
married taxpayers filing joint returns) are entitled to a 
maximum deduction of $5,000 and taxpayers with adjusted gross 
income that does not exceed $80,000 ($160,000 in the case of 
married taxpayers filing joint returns) are entitled to a 
maximum deduction of $2,000.
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    \39\ The provision contains ordering rules for use in determining 
adjusted gross income for purposes of the deduction.
---------------------------------------------------------------------------
    Taxpayers are not eligible to claim the deduction and a 
HOPE or Lifetime Learning Credit in the same year with respect 
to the same student. A taxpayer may claim an exclusion for 
distributions from a qualified tuition plan, distributions from 
an education individual retirement account, or interest on 
education savings bonds, as long as both a deduction and an 
exclusion are not claimed for the same expenses.

                             Effective Date

    The provision is effective for payments made in taxable 
years beginning after December 31, 2001, and before January 1, 
2006.

       H. Credit for Interest on Qualified Higher Education Loans


          (Sec. 432 of the bill and new Sec. 25B of the Code)


                              Present law

    An above-the-line deduction for interest paid on qualified 
education loans is permitted during the first 60 months in 
which interest payments are required. Required payments of 
interest generally do not include voluntary payments, such as 
interest payments made during a period of loan forbearance. 
Months during which interest payments are not required because 
the qualified education loan is in deferral or forbearance do 
not count against the 60-month period. No deduction is allowed 
to an individual if that individual is claimed as a dependent 
on another taxpayer's return for the taxable year.
    The maximum allowable annual deduction is $2,500. The 
deduction is phased-out ratably for single taxpayers with 
modified adjusted gross income between $40,000 and $55,000 and 
for married taxpayers filing joint returns with modified 
adjusted gross income between $60,000 and $75,000. The income 
ranges will be adjusted for inflation after 2002.\40\
---------------------------------------------------------------------------
    \40\ Another section of the bill makes certain modifications to 
present law.
---------------------------------------------------------------------------
    A qualified education loan generally is defined as any 
indebtedness incurred solely to pay for certain costs of 
attendance (including room and board) of a student (who may be 
the taxpayer, the taxpayer's spouse, or any dependent of the 
taxpayer as of the time the indebtedness was incurred) who is 
enrolled in a degree program on at least a half-time basis at 
(1) an accredited post-secondary educational institution 
defined by reference to section 481 of the Higher Education Act 
of 1965, or (2) an institution conducting an internship or 
residency program leading to a degree or certificate from an 
institution of higher education, a hospital, or a health care 
facility conducting postgraduate training.

                           Reasons for Change

    The Committee wishes to make the payment of higher 
education less costly for taxpayers and to give taxpayers a 
choice in maximizing their tax benefits. A credit for interest 
paid on qualified higher education loans will in many cases 
give taxpayers a greater tax benefit than the deduction.

                        Explanation of Provision

    The bill permits taxpayers a nonrefundable personal credit 
for interest paid on qualified education loans during the first 
60 months in which interest payments are required. The maximum 
annual credit available would be $500.
    The credit is phased-out for single taxpayers with modified 
adjusted gross income between $35,000 and $45,000 and for 
married taxpayers filing joint returns with modified adjusted 
gross income between $70,000 and $90,000. These income phase-
out ranges would be adjusted annually for inflation after 2009.
    A taxpayer taking the credit in a taxable year for payment 
of interest on a qualified education loan would not be allowed 
a student loan interest deduction in such taxable year. 
Similarly, if the taxpayer took a deduction, the taxpayer would 
not qualify for the credit.

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2008.

              I. Compliance With Congressional Budget Act


                    (Secs. 441 and 442 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to education which are in effect on September 30, 
2011, shall cease to apply as of the close of September 30, 
2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to education which were terminated under the sunset 
provision shall begin to apply again as of October 1, 2011, as 
provided in each such provision or amendment.

    V. ESTATE, GIFT, AND GENERATION-SKIPPING TRANSFER TAX PROVISIONS

   A. Phaseout and Repeal of Estate and Generation-Skipping Transfer 
     Taxes; Increase in Gift Tax Unified Credit Effective Exemption

  (Secs. 501-542 of the bill, Secs. 121, 684, 1014, 1040, 1221, 2001-
 2210, 2501, 2502, 2503, 2505, 2511, 2601-2663, 4947, 6018, 6019, and 
7701 of the Code, and new Secs. 1022, 2058, 2210, 2664, and 6716 of the 
                                 Code)

                              present law

Estate and gift tax rules
            In general
    Under present law, a gift tax is imposed on lifetime 
transfers and an estate tax is imposed on transfers at death. 
The gift tax and the estate tax are unified so that a single 
graduated rate schedule applies to cumulative taxable transfers 
made by a taxpayer during his or her lifetime and at death. The 
unified estate and gift tax rates begin at 18 percent on the 
first $10,000 in cumulative taxable transfers and reach 55 
percent on cumulative taxable transfers over $3 million. In 
addition, a 5-percent surtax is imposed on cumulative taxable 
transfers between $10 million and $17,184,000, which has the 
effect of phasing out the benefit of the graduated rates. Thus, 
these estates are subject to a top marginal rate of 60 percent. 
Estates over $17,184,000 are subject to a flat rate of 55 
percent, as the benefit of the graduated rates has been phased 
out.
            Gift tax annual exclusion
    Donors of lifetime gifts are provided an annual exclusion 
of $10,000 (indexed for inflation occurring after 1997) of 
transfers of present interests in property to any one donee 
during the taxable year. If the non-donor spouse consents to 
split the gift with the donor spouse, then the annual exclusion 
is $20,000. Unlimited transfers between spouses are permitted 
without imposition of a gift tax.
            Unified credit
    A unified credit is available with respect to taxable 
transfers by gift and at death. The unified credit amount 
effectively exempts from tax transfers totaling $675,000 in 
2001, $700,000 in 2002 and 2003, $850,000 in 2004, $950,000 in 
2005, and $1 million in 2006 and thereafter. The benefit of the 
unified credit applies at the lowest estate and gift tax rates. 
For example, in 2001, the unified credit applies between the 
18-percent and 37-percent estate and gift tax rates. Thus, in 
2001, taxable transfers, after application of the unified 
credit, are effectively subject to estate and gift tax rates 
beginning at 37 percent.
            Transfers to a surviving spouse
    In general.--A 100-percent marital deduction generally is 
permitted for the value of property transferred between 
spouses. In addition, transfers of a ``qualified terminable 
interest''also are eligible for the marital deduction. A 
``qualified terminable interest'' is property: (1) which passes from 
the decedent, (2) in which the surviving spouse has a ``qualifying 
income interest for life,'' and (3) to which an election under these 
rules applies. A ``qualifying income interest for life'' exists if: (1) 
the surviving spouse is entitled to all the income from the property 
(payable annually or at more frequent intervals) or the right to use 
property during the spouse's life, and (2) no person has the power to 
appoint any part of the property to any person other than the surviving 
spouse.
    Transfers to surviving spouses who are not U.S. citizens.--
A marital deduction generally is denied for property passing to 
a surviving spouse who is not a citizen of the United States. A 
marital deduction is permitted, however, for property passing 
to a qualified domestic trust of which the noncitizen surviving 
spouse is a beneficiary. A qualified domestic trust is a trust 
that has as its trustee at least one U.S. citizen or U.S. 
corporation. No corpus may be distributed from a qualified 
domestic trust unless the U.S. trustee has the right to 
withhold any estate tax imposed on the distribution.
    There is an estate tax imposed on (1) any distribution from 
a qualified domestic trust before the date of the death of the 
noncitizen surviving spouse and (2) the value of the property 
remaining in a qualified domestic trust on the date of death of 
the noncitizen surviving spouse. The tax is computed as an 
additional estate tax on the estate of the first spouse to die.
            Expenses, indebtedness, and taxes
    An estate tax deduction is allowed for funeral expenses and 
administration expenses of an estate. An estate tax deduction 
also is allowed for claims against the estate and unpaid 
mortgages on, or any indebtedness in respect of, property for 
which the value of the decedent's interest therein, 
undiminished by the debt, is included in the value of the gross 
estate.
    If the total amount of claims and debts against the estate 
exceeds the value of the property to which the claims relate, 
an estate tax deduction for the excess is allowed, provided 
such excess is paid before the due date of the estate tax 
return. A deduction for claims against the estate generally is 
permitted only if the claim is allowable by the law of the 
jurisdiction under which the estate is being administered.
    A deduction also is allowed for the full unpaid amount of 
any mortgage upon, or of any other indebtedness in respect of, 
any property included in the gross estate (including interest 
which has accrued thereon to the date of the decedent's death), 
provided that the full value of the underlying property is 
included in the decedent's gross estate.
            Basis of property received
    In general.--A taxpayer who receives property from a 
decedent's estate or from a donor of a lifetime gift may want 
to sell or otherwise dispose of the property. Gain or loss, if 
any, on the disposition of the property is measured by the 
taxpayer's amount realized (e.g., gross proceeds received) on 
the disposition, less the taxpayer's basis in such property.
    Basis generally represents a taxpayer's investment in 
property with certain adjustments required after acquisition. 
For example, basis is increased by the cost of capital 
improvements made to the property and decreased by depreciation 
deductions taken with respect to the property.
    Property received from a donor of a lifetime gift takes a 
carryover basis. ``Carryover basis'' means that the basis in 
the hands of the donee is the same as it was in the hands of 
the donor plus any gift tax paid on any unrealized 
appreciation. The basis of a lifetime gift, however, generally 
cannot exceed the property's fair market value on the date of 
the gift. If the basis of the property is greater than the fair 
market value of the property on the date of gift, then, for 
purposes of determining loss, the basis is the property's fair 
market value on the date of gift.
    Property passing from a decedent's estate generally takes a 
stepped-up basis. ``Stepped-up basis'' for estate tax purposes 
means that the basis of property passing from a decedent's 
estate generally is the fair market value on the date of the 
decedent's death (or, if the alternate valuation date is 
elected, the earlier of six months after the decedent's death 
or the date the property is sold or distributed by the estate). 
This step up (or step down) in basis eliminates the recognition 
of any income on the appreciation of the property that occurred 
prior to the decedent's death, and has the effect of 
eliminating the tax benefit from any unrealized loss.
    Special rule for community property.--In community property 
states, a surviving spouse's one-half share of community 
property held by the decedent and the surviving spouse (under 
the community property laws of any State, U.S. possession, or 
foreign country) generally is treated as having passed from the 
decedent, and thus is eligible for stepped-up basis. This rule 
applies if at least one-half of the whole of the community 
interest is includible in the decedent's gross estate.
    Special rules for interests in certain foreign entities.--
Stepped-up basis treatment generally is denied to certain 
interests in foreign entities. Under present law, stock or 
securities in a foreign personal holding company take a 
carryover basis. Stock in a foreign investment company takes a 
stepped up basis reduced by the decedent's ratable share of 
accumulated earnings and profits. In addition, stock in a 
passive foreign investment company (including those for which a 
mark-to-market election has been made) generally takes a 
carryover basis, except that a passive foreign investment 
company for which a decedent shareholder had made a qualified 
electing fund election is allowed a stepped up basis. Stock 
owned by a decedent in a domestic international sales 
corporation (or former domestic international sales 
corporation) takes a stepped up basis reduced by the amount (if 
any) which would have been included in gross income under 
section 995(c) as a dividend if the decedent had lived and sold 
the stock at its fair market value on the estate tax valuation 
date (i.e., generally the date of the decedent's death unless 
an alternate valuation date is elected).
            Provisions affecting small and family-owned businesses and 
                    farms
    Special-use valuation.--An executor can elect for estate 
tax purposes to value certain ``qualified real property'' used 
in farming or another qualifying closely-held trade or business 
at its current-use value, rather than its fair market value. 
The maximum reduction in value for such real property is 
$750,000 (adjusted for inflation occurring after 1997). Real 
property generally can qualify for special-use valuation if at 
least 50 percent of the adjusted value of the decedent's gross 
estate consists of a farm or closely-held business assets in 
the decedent's estate (includingboth real and personal 
property) and at least 25 percent of the adjusted value of the gross 
estate consists of farm or closely-held business property. In addition, 
the property must be used in a qualified use (e.g., farming) by the 
decedent or a member of the decedent's family for five of the eight 
years before the decedent's death.
    If, after a special-use valuation election is made, the 
heir who acquired the real property ceases to use it in its 
qualified use within 10 years of the decedent's death, an 
additional estate tax is imposed in order to recapture the 
entire estate-tax benefit of the special-use valuation.
    Family-owned business deduction.--An estate is permitted to 
deduct the adjusted value of a qualified-family owned business 
interest of the decedent, up to $675,000.\41\ A qualified 
family-owned business interest is defined as any interest in a 
trade or business (regardless of the form in which it is held) 
with a principal place of business in the United States if the 
decedent's family owns at least 50 percent of the trade or 
business, two families own 70 percent, or three families own 90 
percent, as long as the decedent's family owns at least 30 
percent of the trade or business. An interest in a trade or 
business does not qualify if any interest in the business (or a 
related entity) was publicly-traded at any time within three 
years of the decedent's death. An interest in a trade or 
business also does not qualify if more than 35 percent of the 
adjusted ordinary gross income of the business for the year of 
the decedent's death was personal holding company income. In 
the case of a trade or business that owns an interest in 
another trade or business (i.e., ``tiered entities''), special 
look-through rules apply. The value of a trade or business 
qualifying as a family-owned business interest is reduced to 
the extent the business holds passive assets or excess cash or 
marketable securities.
---------------------------------------------------------------------------
    \41\ The qualified family-owned business deduction and the unified 
credit effective exemption amount are coordinated. If the maximum 
deduction amount of $675,000 is elected, then the unified credit 
effective exemption amount is $625,000, for a total of $1.3 million. If 
the qualified family-owned business deduction is less than $675,000, 
then the unified credit effective exemption amount is equal to 
$625,000, increased by the difference between $675,000 and the amount 
of the qualified family-owned business deduction. However, the unified 
credit effective exemption amount cannot be increased above the 
generally applicable exemption amount in effect for the taxable year.
---------------------------------------------------------------------------
    To qualify for the exclusion, the decedent (or a member of 
the decedent's family) must have owned and materially 
participated in the trade or business for at least five of the 
eight years preceding the decedent's date of death. In 
addition, at least one qualified heir (or member of the 
qualified heir's family) is required to materially participate 
in the trade or business for at least 10 years following the 
decedent's death.
    The qualified family-owned business rules provide a 
graduated recapture based on the number of years after the 
decedent's death in which the disqualifying event occurred. 
Under the provision, if the disqualifying event occurred within 
six years of the decedent's death, then 100 percent of the tax 
is recaptured. The remaining percentage of recapture based on 
the year after the decedent's death in which a disqualifying 
event occurs is as follows: the disqualifying event occurs 
during the seventh year after the decedent's death, 80 percent; 
during the eighth year after the decedent's death, 60 percent; 
during the ninth year after the decedent's death, 40 percent; 
and during the tenth year after the decedent's death, 20 
percent. For purposes of the qualified family-owned business 
deduction, the contribution of a qualified conservation 
easement is not considered a disposition that would trigger 
recapture of estate tax.
    In general, there is no requirement that the qualified heir 
(or members of his or her family) continue to hold or 
participate in the trade or business more than 10 years after 
the decedent's death. However, the 10-year recapture period can 
be extended for a period of up to two years if the qualified 
heir does not begin to use the property for a period of up to 
two years after the decedent's death.
    An estate can claim the benefits of both the qualified 
family-owned business deduction and special-use valuation. For 
purposes of determining whether the value of the trade or 
business exceeds 50 percent of the decedent's gross estate, if 
the estate claimed special-use valuation, then the property's 
special-use value is used.
            State death tax credit
    A credit is allowed against the Federal estate tax for any 
estate, inheritance, legacy, or succession taxes actually paid 
to any State or the District of Columbia with respect to any 
property included in the decedent's gross estate. The maximum 
amount of credit allowable for State death taxes is determined 
under a graduated rate table, the top rate of which is 16 
percent, based on the size of the decedent's adjusted taxable 
estate. Most States impose a ``pick-up'' or ``soak-up'' estate 
tax, which serves to impose a state tax equal to the maximum 
Federal credit allowed.
            Estate and gift taxation of nonresident noncitizens
    Nonresident noncitizens are subject to gift tax with 
respect to certain transfers by gift of U.S.-situated property. 
Such property includes real estate and tangible property 
located within the United States. Nonresident noncitizens 
generally are not subject to U.S. gift tax on the transfer of 
intangibles, such as stock or securities, regardless of where 
such property is situated.
    Estates of nonresident noncitizens generally are taxed at 
the same estate tax rates applicable to U.S. citizens, but the 
taxable estate includes only property situated within the 
United States that is owned by the decedent at death. This 
includes the value at death of all property, real or personal, 
tangible or intangible, situated in the United States. Special 
rules apply which treat certain property as being situated 
within and without the United States for these purposes.
    Unless modified by a treaty, a nonresident who is not a 
U.S. citizen generally is allowed a unified credit of $13,000, 
which effectively exempts $60,000 in assets from estate tax.

Generation-skipping transfer tax

    A generation-skipping transfer tax generally is imposed on 
transfers, either directly or through a trust or similar 
arrangement, to a ``skip person'' (i.e., a beneficiary in a 
generation more than one generation below that of the 
transferor). Transfers subject to the generation-skipping 
transfer tax include direct skips, taxable terminations, and 
taxable distributions. Thegeneration-skipping transfer tax is 
imposed at a flat rate of 55 percent (i.e., the top estate and gift tax 
rate) on cumulative generation-skipping transfers in excess of $1 
million (indexed for inflation occurring after 1997).

Selected income tax provisions

            Transfers to certain foreign trusts and estates
    A transfer (during life or at death) by a U.S. person to a 
foreign trust or estate generally is treated as a sale or 
exchange of the property for an amount equal to the fair market 
value of the transferred property. The amount of gain that must 
be recognized by the transferor is equal to the excess of the 
fair market value of the property transferred over the adjusted 
basis (for purposes of determining gain) of such property in 
the hands of the transferor.
            Net operating loss and capital loss carryovers
    Under present law, a capital loss and net operating loss 
from business operations sustained by a decedent during his 
last taxable year are deductible only on the final return filed 
in his or her behalf. Such losses are not deductible by his or 
her estate.
            Transfers of property in satisfaction of a pecuniary 
                    bequest
    Under present law, gain or loss is recognized on the 
transfer of property in satisfaction of a pecuniary bequest 
(i.e., a bequest of a specific dollar amount) to the extent 
that the fair market value of the property at the time of the 
transfer exceeds the basis of the property, which generally is 
the basis stepped up to fair market value on the date of the 
decedent's death.
            Income tax exclusion for the gain on the sale of a 
                    principal residence
    A taxpayer generally can exclude up to $250,000 ($500,000 
if married filing a joint return) of gain realized on the sale 
or exchange of a principal residence. The exclusion is allowed 
each time a taxpayer selling or exchanging a principal 
residence meets the eligibility requirements, but generally no 
more frequently than once every two years.
    To be eligible, a taxpayer must have owned the residence 
and occupied it as a principal residence for at least two of 
the five years prior to the sale or exchange. A taxpayer who 
fails to meet these requirements by reason of a change of place 
of employment, health, or other unforeseen circumstances is 
able to exclude the fraction of the $250,000 ($500,000 if 
married filing a joint return) equal to the fraction of two 
years that these requirements are met.

Excise tax on nonexempt trusts

    Under present law, non-exempt split-interest trusts are 
subject to certain restrictions that are applicable to private 
foundations if an income, estate, or gift tax charitable 
deduction was allowed with respect to the trust. A non-exempt 
split-interest trust subject to these rules would be prohibited 
from engaging in self-dealing, retaining any excess business 
holdings, and from making certain investments or taxable 
expenditures. Failure to comply with the restrictions would 
subject the trust to certain excise taxes imposed on private 
foundations, which include excise taxes on self-dealing, excess 
business holdings, investments which jeopardize charitable 
purposes, and certain taxable expenditures.

                           Reasons for Change

    The Committee finds that the estate and generation-skipping 
transfer taxes are unduly burdensome on affected taxpayers, and 
particularly decedents' estates, decedents' heirs, and 
businesses, such as small business, family-owned businesses, 
and farming businesses. The Committee further believes that it 
is inappropriate to impose a tax by reason of the death of a 
taxpayer. In addition, the Committee believes that increasing 
the gift tax unified credit effective exemption amount and 
reducing gift tax rates will lessen the burden that gift taxes 
impose on all taxpayers and promote simplification for those 
taxpayers who would no longer be subject to the gift tax.

                        Explanation of Provision

Overview of the bill

    Beginning in 2011, the estate and generation-skipping 
transfers taxes are repealed. After repeal, the basis of assets 
received from a decedent generally will equal the basis of the 
decedent (i.e., carryover basis) at death. However, a 
decedent's estate is permitted to increase the basis of assets 
transferred by up to a total of $1.3 million. The basis of 
property transferred to a surviving spouse can be increased 
(i.e., stepped up) by an additional $3 million. Thus, the basis 
of property transferred to a surviving spouse can be increased 
(i.e., stepped up) by a total of $4.3 million. In no case can 
the basis of an asset be adjusted above its fair market value. 
For these purposes, the executor will determine which assets 
and to what extent each asset receives a basis increase. The 
$1.3 million and $3 million amounts are adjusted annually for 
inflation occurring after 2010.
    From 2002 and through 2010, the estate and gift tax rates 
are reduced, the unified credit effective exemption amount are 
increased (from up to $1 million for lifetime transfers in 2004 
to up to $4 million for deathtime transfers in 2010), the 
generation-skipping transfer tax exemption amount is increased, 
and the state death tax credit is phased out (and repealed in 
2005).

Phaseout and repeal of estate and generation-skipping transfer taxes

            In general
    In 2002, the 5-percent surtax (which phases out the benefit 
of the graduated rates) and the rates in excess of 50 percent 
are repealed. In addition, in 2002, the unified credit 
effective exemption amount (for both estate and gift tax 
purposes) is increased to $1 million. In 2003, the estate and 
gift tax rates in excess of 49 percent are repealed. In 2004, 
the estate and gift tax rates in excess of 48 percent are 
repealed, the unified credit effective exemption amount for 
estate tax purposes is increased to $2 million. (The unified 
credit effective exemption amount for gift tax purposes remains 
at $1 million as increased in 2002.) In addition, in 2004, the 
qualified family-owned business deduction is repealed. In 2005, 
the estate and gift tax rates in excess of 47 percent are 
repealed, and the unified credit effective exemption amount for 
estate tax purposes is increased to $3 million. In 2006, the 
estate and gift tax rates in excess of 46 percent are repealed. 
In 2007, the estate and gift tax rates in excess of 45 percent 
are repealed. In 2009, the unified credit effective exemption 
amount for estate tax purposes is increased to $3.5 million. In 
2010, the unified credit effective amount for estate tax 
purposes is increased to $4 million.
    Table 8, below, summarizes the unified credit effective 
exemption amounts and the highest estate and gift tax rates 
under the bill.

 TABLE 8.--UNIFIED CREDIT EXEMPTION AMOUNTS AND HIGHEST ESTATE AND GIFT
                                TAX RATES
                          [Dollars in millions]
------------------------------------------------------------------------
                                          Estate and GST  Highest estate
                                           Tax deathtime   and gift tax
              Calendar year                  transfer          rates
                                             exemption       (percent)
------------------------------------------------------------------------
2002....................................              $1              50
2003....................................               1              49
2004....................................               2              48
2005....................................               3              47
2006....................................               3              46
2007....................................               3              45
2008....................................               3              45
2009....................................             3.5              45
2010....................................               4              45
2011....................................         \1\ N/A         \2\ 40
------------------------------------------------------------------------
\1\ Taxes repealed.
\2\ Gift tax only.

            Repeal of estate and generation-skipping transfer taxes; 
                    modifications to gift tax
    The generation-skipping transfer tax exemption and tax rate 
for a given year (prior to repeal) be equal the unified credit 
effective exemption for estate tax purposes. In addition, as 
under present law, the generation-skipping transfer tax rate 
for a given year will be the highest estate and gift tax rate 
in effect for such year.
    In 2011, the estate and generation-skipping transfer taxes 
are repealed. Also beginning in 2011, the top gift tax rate 
will be 40 percent, and, except as provided in regulations, a 
transfer to a trust will be treated as a taxable gift, unless 
the trust is treated as wholly owned by the donor or the 
donor's spouse under the grantor trust provisions of the Code.
            Reduction in State death tax credit; deduction for State 
                    death taxes paid
    From 2002 through 2004, the top State death tax credit rate 
is decreased from 16 percent as follows: to 8 percent in 2002, 
to 7.2 percent in 2003, and to 7.04 percent in 2004. In 2005, 
after the state death tax credit is repealed, there will be a 
deduction for death taxes (e.g., any estate, inheritance, 
legacy, or succession taxes) actually paid to any State or the 
District of Columbia, in respect of property included in the 
gross estate of the decedent. Such State taxes must have been 
paid and claimed before the later of: (1) four years after the 
filing of the estate tax return; or (2) (a) 60 days after a 
decision of the U.S. Tax Court determining the estate tax 
liability becomes final, (b) the expiration of the period of 
extension to pay estate taxes over time under section 6166, or 
(c) the expiration of the period of limitations in which to 
file a claim for refund or 60 days after a decision of a court 
in which such refund suit has been filed becomes final.

Basis of property acquired from a decedent

            In general
    Beginning in 2011, after the estate and generation-skipping 
transfer taxes have been repealed, the present-law rules 
providing for a fair market value basis for property acquired 
from a decedent are repealed. Instead, a modified carryover 
basis regime generally takes effect. Recipients of property 
transferred at the decedent's death will receive a basis equal 
to the lesser of the adjusted basis of the decedent or the fair 
market value of the property on the date of the decedent's 
death.
    The modified carryover basis rules apply to: (1) property 
acquired from bequest, devise, or inheritance, or by the 
decedent's estate from the decedent; (2) property passing from 
the decedent to the extent such property passed without 
consideration; and (3) certain other property to which the 
present law rules apply.\42\
---------------------------------------------------------------------------
    \42\ Sec. 1014(b)(2) and (3).
---------------------------------------------------------------------------
    Property acquired from a decedent is treated as if the 
property had been acquired by gift. Thus, the character of gain 
on the sale of property received from a decedent's estate is 
carried over to the heir. For example, real estate that has 
been depreciated and would be subject to recapture if sold by 
the decedent will be subject to recapture if sold by the heir.
            Property to which the modified carryover basis rules apply
    The modified carryover basis rules apply to property 
acquired from the decedent. Property acquired from the decedent 
is (1) property acquired by bequest, devise, or inheritance, 
(2) property acquired by the decedent's estate from the 
decedent, (3) property transferred by the decedent to a 
qualified revocable trust (as defined in section 645), (4) 
property transferred by the decedent during his lifetime in 
trust with the right reserved to the decedent at all times 
before his death to make any change to the enjoyment thereof 
through the exercise of a power to alter, amend, or terminate 
the trust,\43\ (5) property passing from the decedent by reason 
of the decedent's death to the extent such property passed 
without consideration (e.g., property held as joint tenants 
with right of survivorship or as tenants by the entireties), 
and (6) the surviving spouse's one-half share of certain 
community property held by the decedent and the surviving 
spouse as community property.
---------------------------------------------------------------------------
    \43\ This is the same property the basis of which is stepped up to 
date of death fair market value under present law sec. 1014(b)(3).
---------------------------------------------------------------------------
            Basis increase for certain property
    Amount of basis increase.--The bill allows an executor to 
increase (i.e., step up) the basis in assets owned by the 
decedent and acquired by the beneficiaries at death. Under this 
rule, each decedent's estate generally is permitted to increase 
(i.e., step up) the basis of assets transferred by up to a 
total of $1.3 million. The $1.3 million is increased by the 
amount of unused capital losses, net operating losses, and 
certain ``built-in'' losses of the decedent. In addition, the 
basis ofproperty transferred to a surviving spouse can be 
increased by an additional $3 million. Thus, the basis of property 
transferred to surviving spouses can be increased by a total of $4.3 
million. Nonresidents who are not U.S. citizens will be allowed to 
increase the basis of property by up to $60,000. The $60,000, $1.3 
million, and $3 million amounts are adjusted annually for inflation 
occurring after 2010.
    Property eligible for basis increase.--In general, the 
basis of property may be increased above the decedent's 
adjusted basis in that property only if the property is owned, 
or is treated as owned, by the decedent at the time of the 
decedent's death. In the case of property held as joint tenants 
or tenants by the entireties with the surviving spouse, one-
half of the property is treated as having been owned by the 
decedent and is thus eligible for the basis increase. In the 
case of property held jointly with a person other than the 
surviving spouse, the portion of the property attributable to 
the decedent's consideration furnished is treated has having 
been owned by the decedent and will be eligible for a basis 
increase. The decedent also is treated as the owner of property 
(which will be eligible for a basis increase) if the property 
was transferred by the decedent during his lifetime to a 
revocable trust (as defined in section 645). The decedent also 
is treated as having owned the surviving spouse's one-half 
share of community property (which will be eligible for a basis 
increase) if at least one-half of the property was owned by, 
and acquired from, the decedent.\44\ The decedent shall not, 
however, be treated as owning any property solely by reason of 
holding a power of appointment with respect to such property.
---------------------------------------------------------------------------
    \44\ Thus, similar to the present law rule in sec. 1014(b)(6), both 
the decedent's and the surviving spouse's share of community property 
could be eligible for a basis increase.
---------------------------------------------------------------------------
    Certain property is not eligible for a basis increase. This 
includes: (1) property that was acquired by the decedent by 
gift (other than from his or her spouse) during the three-year 
period ending on the date of the decedent's death; (2) property 
that constitutes a right to receive income in respect of a 
decedent; (3) stock or securities of a foreign personal holding 
company; (4) stock of a domestic international sales 
corporation (or former domestic international sales 
corporation); (5) stock of a foreign investment company; and 
(6) stock of a passive foreign investment company (except for 
which a decedent shareholder had made a qualified electing fund 
election).
    Rules applicable to basis increase.--Basis increase will be 
allocable on an asset-by-asset basis (in addition, basis 
increase could be allocated to a share of stock or a block of 
stock). However, in no case can the basis of an asset be 
adjusted above its fair market value. If the amount of basis 
increase is less than the fair market value of assets whose 
bases are eligible to be increased under these rules, the 
executor will determine which assets and to what extent each 
asset receives a basis increase.

Reporting requirements

            Lifetime gifts
    A donor is required to provide to recipients of property by 
gift the information relating to the property (e.g., the fair 
market value and basis of property) that was reported on the 
donor's gift tax return with respect to such property.
            Transfers at death
    For transfers at death of non-cash assets in excess of $1.3 
million and generally for appreciated property acquired by the 
decedent within three years of death for which a gift tax 
return was required to have been filed by the donor, the 
executor of the estate (or the trustee of a revocable trust) 
would report to the IRS and any beneficiaries of the estate:
         the name and taxpayer identification number of 
        the recipient of the property,
         an accurate description of the property,
         the adjusted basis of the property in the 
        hands of the decedent and its fair market value at the 
        time of death,
         the decedent's holding period for the 
        property,
         sufficient information to determine whether 
        any gain on the sale of the property would be treated 
        as ordinary income,
         the amount of basis increase allocated to the 
        property, and
         any other information as the Treasury 
        Secretary may prescribe.
            Penalties for failure to file required information
    Any donor required to provide to recipients of property by 
gift the information relating to the property that was reported 
on the donor's gift tax return (e.g., the fair market value and 
basis of property) with respect to such property who fails to 
do so is liable for a penalty of $50 for each failure to report 
such information to a donee.
    Any person required to report to the IRS transfers at death 
of non-cash assets in excess of $1.3 million in value who fails 
to do so is liable for a penalty of $10,000 for the failure to 
report such information. Any person required to report to the 
IRS the receipt by a decedent of appreciated property acquired 
by the decedent within three years of death for which a gift 
tax return was required to have been filed by the donor who 
fails to do so is liable for a penalty of $500 for the failure 
to report such information to the IRS. There also is a penalty 
of $50 for each failure to report such information to a 
beneficiary.
    No penalty is imposed with respect to any failure that is 
due to reasonable cause. If any failure to report to the IRS or 
a beneficiary under the bill is due to intentional disregard of 
the rules, then the penalty is five percent of the fair market 
value of the property for which reporting was required, 
determined at the date of the decedent's death (for property 
passing at death) or determined at the time of gift (for a 
lifetime gift).

Certain tax benefits extending past the date for repeal of the estate 
        tax

    Prior to repeal of the estate tax, many estates may have 
claimed certain estate tax benefits which, upon certain events, 
may trigger a recapture tax or other estate tax. Because repeal 
of the estate tax is effective for decedents dying after 
December 31, 2010, these estate tax recapture provisions 
generally will continue to apply to estates of decedents dying 
before January 1, 2011.
            Qualified conservation easements
    A donor may have retained a development right in the 
conveyance of a conservation easement that qualified for the 
estate tax exclusion. Those with an interest in the land may 
later execute an agreement to extinguish the right. If an 
agreement to extinguish development rights is not entered into 
within the earlier of (1) two years after the date of the 
decedent's death or (2) the date of the sale of such land 
subject to the conservation easement, then those with an 
interest in the land are personally liable for an additional 
tax. This provision is retained after repeal of the estate tax, 
which will ensure that those persons with an interest in the 
land who fail to execute the agreement remain liable for any 
additional tax which may be due after repeal.
            Special-use valuation
    Property may have qualified for special-use valuation prior 
to repeal of the estate tax. If such property ceases to qualify 
for special-use valuation, for example, because an heir ceases 
to use the property in its qualified use within 10 years of the 
decedent's death, then the estate tax benefit is required to be 
recaptured. The recapture provision is retained after repeal of 
the estate tax, which will ensure that those estates that 
claimed this benefit prior to repeal of the estate tax will be 
subject to recapture if a disqualifying event occurs after 
repeal.
            Qualified family-owned business deduction
    Property may have qualified for the family-owned business 
deduction prior to repeal of the qualified family-owned 
business deduction and estate tax. If such property ceases to 
qualify for the family-owned business deduction, for example, 
because an heir ceases to use the property in its qualified use 
within 10 years of the decedent's death, then the estate-tax 
benefit is required to be recaptured. The recapture provision 
would be retained after repeal of the qualified family-owned 
business deduction and estate tax, which would ensure that 
those estates that claimed this benefit before repeal of the 
qualified family-owned business deduction and estate tax would 
be subject to recapture if a disqualifying event occurs after 
repeal.
            Installment payment of estate tax for estates with an 
                    interest in a closely-held business
    The present-law installment payment rules are retained so 
that those estates that entered into an installment payment 
arrangement prior to repeal of the estate tax will continue to 
make their payments past the date for repeal.
    If more than 50 percent of the value of the closely-held 
business is distributed, sold, exchanged, or otherwise disposed 
of, the unpaid portion of the tax payable in installments must 
be paid upon notice and demand from the Treasury Secretary. 
This rule is retained after repeal of the estate tax, which 
will ensure that such dispositions that occur after repeal of 
the estate tax will continue to subject the estate to the 
unpaid portion of the tax upon notice and demand.
            Qualified domestic trusts for noncitizen surviving spouses
    Under the bill, there will continue to be an estate tax 
imposed on (1) any distribution prior to January 1, 2022, from 
a qualified domestic trust before the date of the death of the 
noncitizen surviving spouse and (2) the value of the property 
remaining in a qualified domestic trust on the date of death of 
the noncitizen surviving spouse if such surviving spouse dies 
before January 1, 2011.

Transfers to foreign trusts, foreign estates, and nonresidents who are 
        not U.S. citizens

    The present-law rule providing that a transfer (during life 
or at death) by a U.S. person to a foreign trust or estate 
generally is treated as a sale or exchange is expanded. Under 
the bill, a transfer by a U.S. person to a nonresident who is 
not a U.S. citizen is treated as a sale or exchange of the 
property for an amount equal to the fair market value of the 
transferred property. The amount of gain that must be 
recognized by the transferor is equal to the excess of the fair 
market value of the property transferred over the adjusted 
basis of such property in the hands of the transferor.

Transfers of property in satisfaction of a pecuniary bequest

    Under the bill, gain or loss on the transfer of property in 
satisfaction of a pecuniary bequest is recognized only to the 
extent that the fair market value of the property at the time 
of the transfer exceeds the fair market value of the property 
on the date of the decedent's death (not the property's 
carryover basis).

Transfer of property subject to a liability

    The bill clarifies that gain is not recognized at the time 
of death when the estate or heir acquires from the decedent 
property subject to a liability that is greater than the 
decedent's basis in the property. Similarly, no gain is 
recognized by the estate on the distribution of such property 
to a beneficiary of the estate by reason of the liability. This 
rule does not apply if the transfer is from the decedent's 
estate to a tax-exempt beneficiary, which includes (1) the 
United States, any State or political subdivision thereof, any 
U.S. possessions, any Indian tribal government, or any agency 
or instrumentality of the aforementioned; (2) an organization 
exempt from tax (other than a farmers' cooperative described in 
section 521); or (3) any foreign person or entity.

Income tax exclusion for the gain on the sale of a principal residence

    The income tax exclusion of up to $250,000 of gain on the 
sale of a principal residence is extended to estates and heirs. 
Under the bill, if the decedent's estate or an heir sells the 
decedent's principal residence, $250,000 of gain can be 
excluded on the sale of the residence, provided the decedent 
used the property as a principal residence for two or more 
years during the five-year period prior to the sale. In 
addition, if an heir occupies the property as a principal 
residence, the decedent's period of ownership and occupancy of 
the property as a principalresidence can be added to the heir's 
subsequent ownership and occupancy in determining whether the property 
was owned and occupied for two years as a principal residence.

Excise tax on non-exempt trusts

    Under the bill, split-interest trusts are subject to 
certain restrictions that are applicable to private foundations 
if an income tax charitable deduction, including an income tax 
charitable deduction by an estate or trust, was allowed with 
respect to transfers to the trust.

                             effective date

    The estate and gift rate reductions, increases in the 
estate tax unified credit exemption equivalent amounts and 
generation-skipping transfer tax exemption amount, and 
reductions in and repeal of the state death tax credit are 
phased-in over time, beginning with estates of decedents dying 
and gifts and generation-skipping transfers made after December 
31, 2001. The repeal of the qualified family-owned business 
deduction is effective for estates of decedents dying after 
December 31, 2003.
    The estate and generation-skipping transfer taxes are 
repealed, and the carryover basis regime takes effect for 
estates of decedents dying and generation-skipping transfers 
made after December 31, 2010. The provisions relating to 
recognition of gain on transfers to nonresidents noncitizens is 
effective for transfers made after December 31, 2010.
    The top gift tax rate will be 40 percent, and transfers to 
trusts generally will be treated as a taxable gift unless the 
trust is treated as wholly owned by the donor or the donor's 
spouse, effective for gifts made after December 31, 2010.
    An estate tax on distributions made from a qualified 
domestic trust before the date of the death of the surviving 
spouse will no longer apply for distributions made after 
December 31, 2021. An estate tax on the value of property 
remaining in a qualified domestic trust on the date of death of 
the surviving spouse will no longer apply after December 31, 
2010.

          B. Expand Estate Tax Rule for Conservation Easements


            (Sec. 551 of the bill and Sec. 2031 of the Code)


                              present law

In general

    An executor can elect to exclude from the taxable estate 40 
percent of the value of any land subject to a qualified 
conservation easement, up to a maximum exclusion of $100,000 in 
1998, $200,000 in 1999, $300,000 in 2000, $400,000 in 2001, and 
$500,000 in 2002 and thereafter (Sec. 2031(c)). The exclusion 
percentage is reduced by 2 percentage points for each 
percentage point (or fraction thereof) by which the value of 
the qualified conservation easement is less than 30 percent of 
the value of the land (determined without regard to the value 
of such easement and reduced by the value of any retained 
development right).
    A qualified conservation easement is one that meets the 
following requirements: (1) the land is located within 25 miles 
of a metropolitan area (as defined by the Office of Management 
and Budget) or a national park or wilderness area, or within 10 
miles of an Urban National Forest (as designated by the Forest 
Service of the U.S. Department of Agriculture); (2) the land 
has been owned by the decedent or a member of the decedent's 
family at all times during the three-year period ending on the 
date of the decedent's death; and (3) a qualified conservation 
contribution (within the meaning of sec. 170(h)) of a qualified 
real property interest (as generally defined in sec. 
170(h)(2)(C)) was granted by the decedent or a member of his or 
her family. For purposes of the provision, preservation of a 
historically important land area or a certified historic 
structure does not qualify as a conservation purpose.
    In order to qualify for the exclusion, a qualifying 
easement must have been granted by the decedent, a member of 
the decedent's family, the executor of the decedent's estate, 
or the trustee of a trust holding the land, no later than the 
date of the election. To the extent that the value of such land 
is excluded from the taxable estate, the basis of such land 
acquired at death is a carryover basis (i.e., the basis is not 
stepped-up to its fair market value at death). Property 
financed with acquisition indebtedness is eligible for this 
provision only to the extent of the net equity in the property.

Retained development rights

    The exclusion for land subject to a conservation easement 
does not apply to any development right retained by the donor 
in the conveyance of the conservation easement. An example of 
such a development right would be the right to extract minerals 
from the land. If such development rights exist, then the value 
of the conservation easement must be reduced by the value of 
any retained development right.
    If the donor or holders of the development rights agree in 
writing to extinguish the development rights in the land, then 
the value of the easement need not be reduced by the 
development rights. In such case, those persons with an 
interest in the land must execute the agreement no later than 
the earlier of (1) two years after the date of the decedent's 
death or (2) the date of the sale of such land subject to the 
conservation easement. If such agreement is not entered into 
within this time, then those with an interest in the land are 
personally liable for an additional tax, which is the amount of 
tax which would have been due on the retained development 
rights subject to the termination agreement.

                           reasons for change

    The Committee believes that expanding the availability of 
qualified conservation easements will further ease existing 
pressures to develop or sell environmentally significant land 
in order to raise funds to pay estate taxes and would, thereby, 
advance the preservation of such land. The Committee also 
believes it appropriate to clarify the date for determining 
easement compliance.

                        explanation of provision

    The bill expands the availability of qualified conservation 
easements by eliminating the requirement that the land be 
located within a certain distance from a metropolitan area, 
national park, wilderness area, or Urban National Forest. Thus, 
under the bill, a qualified conservation easement may be 
claimed with respect to any land that is located in the United 
States or its possessions. The bill also clarifies that the 
date for determining easement compliance is the date on which 
the donation was made.

                             effective date

    The provisions are effective for estates of decedents dying 
after December 31, 2000.

            C. Modify Generation-Skipping Transfer Tax Rules


1. Deemed allocation of the generation-skipping transfer tax exemption 
        to lifetime transfers to trusts that are not direct skips (Sec. 
        561 of the bill and Sec. 2632 of the Code)

                              Present Law

    A generation-skipping transfer tax generally is imposed on 
transfers, either directly or through a trust or similar 
arrangement, to a ``skip person'' (i.e., a beneficiary in a 
generation more than one generation below that of the 
transferor). Transfers subject to the generation-skipping 
transfer tax include direct skips, taxable terminations, and 
taxable distributions. An exemption of $1 million (indexed 
beginning in 1999) is provided for each person making 
generation-skipping transfers. The exemption can be allocated 
by a transferor (or his or her executor) to transferred 
property.
    A direct skip is any transfer subject to estate or gift tax 
of an interest in property to a skip person. A skip person may 
be a natural person or certain trusts. All persons assigned to 
the second or more remote generation below the transferor are 
skip persons (e.g., grandchildren and great-grandchildren). 
Trusts are skip persons if (1) all interests in the trust are 
held by skip persons, or (2) no person holds an interest in the 
trust and at no time after the transfer may a distribution 
(including distributions and terminations) be made to a non-
skip person.
    A taxable termination is a termination (by death, lapse of 
time, release of power, or otherwise) of an interest in 
property held in trust unless, immediately after such 
termination, a non-skip person has an interest in the property, 
or unless at no time after the termination may a distribution 
(including a distribution upon termination) be made from the 
trust to a skip person. A taxable distribution is a 
distribution from a trust to a skip person (other than a 
taxable termination or direct skip).
    The tax rate on generation-skipping transfers is a flat 
rate of tax equal to the maximum estate and gift tax rate in 
effect at the time of the transfer (55 percent under present 
law) multiplied by the ``inclusion ratio.'' The inclusion ratio 
with respect to any property transferred in a generation-
skipping transfer indicates the amount of ``generation-skipping 
transfer tax exemption'' allocated to a trust. The allocation 
of generation-skipping transfer tax exemption reduces the 55-
percent tax rate on a generation-skipping transfer.
    If an individual makes a direct skip during his or her 
lifetime, any unused generation-skipping transfer tax exemption 
is automatically allocated to a direct skip to the extent 
necessary to make the inclusion ratio for such property equal 
to zero. An individual can elect out of the automatic 
allocation for lifetime direct skips.
    For lifetime transfers made to a trust that are not direct 
skips, the transferor must allocate generation-skipping 
transfer tax exemption--the allocation is not automatic. If 
generation-skipping transfer tax exemption is allocated on a 
timely-filed gift tax return, then the portion of the trust 
which is exempt from generation-skipping transfer tax is based 
on the value of the property at the time of the transfer. If, 
however, the allocation is not made on a timely-filed gift tax 
return, then the portion of the trust which is exempt from 
generation-skipping transfer tax is based on the value of the 
property at the time the allocation of generation-skipping 
transfer tax exemption was made.
    Treas. Reg. sec. 26.2632-1(d) further provides that any 
unused generation-skipping transfer tax exemption, which has 
not been allocated to transfers made during an individual's 
life, is automatically allocated on the due date for filing the 
decedent's estate tax return. Unused generation-skipping 
transfer tax exemption is allocated pro rata on the basis of 
the value of the property as finally determined for estate tax 
purposes, first to direct skips treated as occurring at the 
transferor's death. The balance, if any, of unused generation-
skipping transfer tax exemption is allocated pro rata, on the 
basis of the estate tax value of the nonexempt portion of the 
trust property (or in the case of trusts that are not included 
in the gross estate, on the basis of the date of death value of 
the trust) to trusts with respect to which a taxable 
termination may occur or from which a taxable distribution may 
be made.

                           reasons for change

    The Committee recognizes that there are situations where a 
taxpayer would desire allocation of generation-skipping 
transfer tax exemption, yet the taxpayer had missed allocating 
generation-skipping transfer tax exemption to an indirect skip, 
e.g., because the taxpayer or the taxpayer's advisor 
inadvertently omitted making the election on a timely-filed 
gift tax return or the taxpayer submitted a defective election. 
Thus, the Committee believes that automatic allocation is 
appropriate for transfers to a trust from which generation-
skipping transfers are likely to occur.

                        Explanation of Provision

    Under the bill, generation-skipping transfer tax exemption 
will be automatically allocated to transfers made during life 
that are ``indirect skips.'' An indirect skip is any transfer 
of property (that is not a direct skip) subject to the gift tax 
that is made to a generation-skipping transfer trust.
    A generation-skipping transfer trust is defined as a trust 
that could have a generation-skipping transfer with respect to 
the transferor (e.g., a taxable termination or taxable 
distribution), unless:
           the trust instrument provides that more than 
        25 percent of the trust corpus must be distributed to 
        or may be withdrawn by 1 or more individuals who are 
        non-skip persons (a) before the date that the 
        individual attains age 46, (b) on or before 1 or more 
        dates specified in the trust instrument that will occur 
        before the date that such individual attains age 46, or 
        (c) upon the occurrence of an event that, in accordance 
        with regulations prescribed by the Treasury Secretary, 
        may reasonably be expected to occur before the date 
        that such individual attains age 46;
           the trust instrument provides that more than 
        25 percent of the trust corpus must be distributed to 
        or may be withdrawn by 1 or more individuals who are 
        non-skip persons and who are living on the date of 
        death of another person identified in theinstrument (by 
name or by class) who is more than 10 years older than such 
individuals;
           the trust instrument provides that, if 1 or 
        more individuals who are non-skip persons die on or 
        before a date or event described in clause (1) or (2), 
        more than 25 percent of the trust corpus either must be 
        distributed to the estate or estates of 1 or more of 
        such individuals or is subject to a general power of 
        appointment exercisable by 1 or more of such 
        individuals;
           the trust is a trust any portion of which 
        would be included in the gross estate of a non-skip 
        person (other than the transferor) if such person died 
        immediately after the transfer;
           the trust is a charitable lead annuity trust 
        or a charitable remainder annuity trust or a charitable 
        unitrust; or
           the trust is a trust with respect to which a 
        deduction was allowed under section 2522 for the amount 
        of an interest in the form of the right to receive 
        annual payments of a fixed percentage of the net fair 
        market value of the trust property (determined yearly) 
        and which is required to pay principal to a non-skip 
        person if such person is alive when the yearly payments 
        for which the deduction was allowed terminate.
    If any individual makes an indirect skip during the 
individual's lifetime, then any unused portion of such 
individual's generation-skipping transfer tax exemption is 
allocated to the property transferred to the extent necessary 
to produce the lowest possible inclusion ratio for such 
property.
    An individual can elect not to have the automatic 
allocation rules apply to an indirect skip, and such elections 
will be deemed timely if filed on a timely-filed gift tax 
return for the calendar year in which the transfer was made or 
deemed to have been made or on such later date or dates as may 
be prescribed by the Treasury Secretary. An individual can 
elect not to have the automatic allocation rules apply to any 
or all transfers made by such individual to a particular trust 
and can elect to treat any trust as a generation-skipping 
transfer trust with respect to any or all transfers made by the 
individual to such trust, and such election can be made on a 
timely-filed gift tax return for the calendar year for which 
the election is to become effective.

                             Effective Date

    The provision applies to transfers subject to estate or 
gift tax made after December 31, 2000, and to estate tax 
inclusion periods ending after December 31, 2000.

2. Retroactive allocation of the generation-skipping transfer tax 
        exemption (Sec. 561 of the bill and Sec. 2632 of the Code)

                              Present Law

    A taxable termination is a termination (by death, lapse of 
time, release of power, or otherwise) of an interest in 
property held in trust unless, immediately after such 
termination, a non-skip person has an interest in the property, 
or unless at no time after the termination may a distribution 
(including a distribution upon termination) be made from the 
trust to a skip person. A taxable distribution is a 
distribution from a trust to a skip person (other than a 
taxable termination or direct skip). If a transferor allocates 
generation-skipping transfer tax exemption to a trust prior to 
the taxable termination or taxable distribution, generation-
skipping transfer tax may be avoided.
    A transferor likely will not allocate generation-skipping 
transfer tax exemption to a trust that the transferor expects 
will benefit only non-skip persons. However, if a taxable 
termination occurs because, for example, the transferor's child 
unexpectedly dies such that the trust terminates in favor of 
the transferor's grandchild, and generation-skipping transfer 
tax exemption had not been allocated to the trust, then 
generation-skipping transfer tax would be due even if the 
transferor had unused generation-skipping transfer tax 
exemption.

                           Reasons for Change

    The Committee recognizes that when a transferor does not 
expect the second generation (e.g., the transferor's child) to 
die before the termination of a trust, the transferor likely 
will not allocate generation-skipping transfer tax exemption to 
the transfer to the trust. If a transferor knew, however, that 
the transferor's child might predecease the transferor and that 
there could be a taxable termination as a result thereof, the 
transferor likely would have allocated generation-skipping 
transfer tax exemption at the time of the transfer to the 
trust. The Committee believes it is appropriate to provide that 
when there is an unnatural order of death (e.g., when the 
second generation dies before the first generation transferor), 
the transferor can allocate generation-skipping transfer tax 
exemption retroactively to the date of the respective transfer 
to trust.

                        Explanation of Provision

    Under the bill, generation-skipping transfer tax exemption 
can be allocated retroactively when there is an unnatural order 
of death. If a lineal descendant of the transferor predeceases 
the transferor, then the transferor can allocate any unused 
generation-skipping transfer exemption to any previous transfer 
or transfers to the trust on a chronological basis. The 
provision allows a transferor to retroactively allocate 
generation-skipping transfer exemption to a trust where a 
beneficiary (a) is a non-skip person, (b) is a lineal 
descendant of the transferor's grandparent or a grandparent of 
the transferor's spouse, (c) is a generation younger than the 
generation of the transferor, and (d) dies before the 
transferor. Exemption is allocated under this rule 
retroactively, and the applicable fraction and inclusion ratio 
would be determined based on the value of the property on the 
date that the property was transferred to trust.

                             Effective Date

    The provision applies to deaths of non-skip persons 
occurring after December 31, 2000.

3. Severing of trusts holding property having an inclusion ratio of 
        greater than zero (Sec. 562 of the bill and Sec. 2642 of the 
        Code)

                              Present Law

    A generation-skipping transfer tax generally is imposed on 
transfers, either directly or through a trust or similar 
arrangement, to a ``skip person'' (i.e., a beneficiary in a 
generation more than one generation below that of the 
transferor). Transfers subject to the generation-skipping 
transfer tax include direct skips, taxable terminations, and 
taxable distributions. An exemption of $1 million (indexed 
beginning in 1999) is provided for each person making 
generation-skipping transfers. The exemption can be allocated 
by a transferor (or his or her executor) to transferred 
property.
    If the value of transferred property exceeds the amount of 
the generation-skipping transfer tax exemption allocated to 
that property, then the generation-skipping transfer tax 
generally is determined by multiplying a flat tax rate equal to 
the highest estate tax rate (which is currently 55 percent) by 
the ``inclusion ratio'' and the value of the taxable property 
at the time of the taxable event. The ``inclusion ratio'' is 
the number one minus the ``applicable fraction.'' The 
applicable fraction is a fraction calculated by dividing the 
amount of the generation-skipping transfer tax exemption 
allocated to the property by the value of the property.
    Under Treas. Reg. 26.2654-1(b), a trust may be severed into 
two or more trusts (e.g., one with an inclusion ratio of zero 
and one with an inclusion ratio of one) only if (1) the trust 
is severed according to a direction in the governing instrument 
or (2) the trust is severed pursuant to the trustee's 
discretionary powers, but only if certain other conditions are 
satisfied (e.g., the severance occurs or a reformation 
proceeding begins before the estate tax return is due). Under 
current Treasury regulations, however, a trustee cannot 
establish inclusion ratios of zero and one by severing a trust 
that is subject to the generation-skipping transfer tax after 
the trust has been created.

                           Reasons for Change

    Complexity can be reduced if a generation-skipping transfer 
trust is treated as two separate trusts for generation-skipping 
transfer tax purposes--one with an inclusion ratio of zero and 
one with an inclusion ratio of one. This result can be achieved 
by drafting complex documents in order to meet the specific 
requirements of severance. The Committee believes it is 
appropriate to make the rules regarding severance less 
burdensome and less complex.

                        Explanation of Provision

    Under the bill, a trust can be severed in a ``qualified 
severance.'' A qualified severance is defined as the division 
of a single trust and the creation of two or more trusts if (1) 
the single trust was divided on a fractional basis, and (2) the 
terms of the new trusts, in the aggregate, provide for the same 
succession of interests of beneficiaries as are provided in the 
original trust. If a trust has an inclusion ratio of greater 
than zero and less than one, a severance is a qualified 
severance only if the single trust is divided into two trusts, 
one of which receives a fractional share of the total value of 
all trust assets equal to the applicable fraction of the single 
trust immediately before the severance. In such case, the trust 
receiving such fractional share shall have an inclusion ratio 
of zero and the other trust shall have an inclusion ratio of 
one. Under the provision, a trustee may elect to sever a trust 
in a qualified severance at any time.

                             Effective Date

    The provision is effective for severances of trusts 
occurring after December 31, 2000.

4. Modification of certain valuation rules (Sec. 563 of the bill and 
        Sec. 2642 of the Code)

                              Present Law

    Under present law, the inclusion ratio is determined using 
gift tax values for allocations of generation-skipping transfer 
tax exemption made on timely filed gift tax returns. The 
inclusion ratio generally is determined using estate tax values 
for allocations of generation-skipping transfer tax exemption 
made to transfers at death. Treas. Reg. 26.2642-5(b) provides 
that, with respect to taxable terminations and taxable 
distributions, the inclusion ratio becomes final on the later 
of the period of assessment with respect to the first transfer 
using the inclusion ratio or the period for assessing the 
estate tax with respect to the transferor's estate.

                           Reasons for Change

    The Committee believes it is appropriate to clarify the 
valuation rules relating to timely and automatic allocations of 
generation-skipping transfer tax exemption.

                        Explanation of Provision

    Under the bill, in connection with timely and automatic 
allocations of generation-skipping transfer tax exemption, the 
value of the property for purposes of determining the inclusion 
ratio shall be its finally determined gift tax value or estate 
tax value depending on the circumstances of the transfer. In 
the case of a generation-skipping transfer tax exemption 
allocation deemed to be made at the conclusion of an estate tax 
inclusion period, the value for purposes of determining the 
inclusion ratio shall be its value at that time.

                             Effective Date

    The provision is effective for transfers subject to estate 
or gift tax made after December 31, 2000.

5. Relief from late elections (Sec. 564 of the bill and Sec. 2642 of 
        the Code)

                              Present Law

    Under present law, an election to allocate generation-
skipping transfer tax exemption to a specific transfer may be 
made at any time up to the time for filing the transferor's 
estate taxreturn. If an allocation is made on a gift tax return 
filed timely with respect to the transfer to trust, then the value on 
the date of transfer to the trust is used for determining generation-
skipping transfer tax exemption allocation. However, if the allocation 
relating to a specific transfer is not made on a timely-filed gift tax 
return, then the value on the date of allocation must be used. There is 
no statutory provision allowing relief for an inadvertent failure to 
make an election on a timely-filed gift tax return to allocate 
generation-skipping transfer tax exemption.

                           Reasons for Change

    The Committee believes it is appropriate for the Treasury 
Secretary to grant extensions of time to make an election to 
allocate generation-skipping transfer tax exemption and to 
grant exceptions to the statutory time requirement in 
appropriate circumstances, e.g., when the taxpayer intended to 
allocate generation-skipping transfer tax exemption and the 
failure to timely allocate generation-skipping transfer tax 
exemption was inadvertent.

                        Explanation of Provision

    Under the bill, the Treasury Secretary is authorized and 
directed to grant extensions of time to make the election to 
allocate generation-skipping transfer tax exemption and to 
grant exceptions to the time requirement, without regard to 
whether any period of limitations has expired. If such relief 
is granted, then the gift tax or estate tax value of the 
transfer to trust would be used for determining generation-
skipping transfer tax exemption allocation.
    In determining whether to grant relief for late elections, 
the Treasury Secretary is directed to consider all relevant 
circumstances, including evidence of intent contained in the 
trust instrument or instrument of transfer and such other 
factors as the Treasury Secretary deems relevant. For purposes 
of determining whether to grant relief, the time for making the 
allocation (or election) is treated as if not expressly 
prescribed by statute.

                             Effective Date

    The provision applies to requests pending on, or filed 
after, December 31, 2000. No inference is intended with respect 
to the availability of relief from late elections prior to the 
effective date of the provision.

6. Substantial compliance (Sec. 564 of the bill and Sec. 2642 of the 
        Code)

                              Present Law

    Under present law, there is no statutory rule which 
provides that substantial compliance with the statutory and 
regulatory requirements for allocating generation-skipping 
transfer tax exemption will suffice to establish that 
generation-skipping transfer tax exemption was allocated to a 
particular transfer or trust.

                           Reasons for Change

    The Committee recognizes that the rules and regulations 
regarding the allocation of generation-skipping transfer tax 
exemption are complex. Thus, it is often difficult for 
taxpayers to comply with the technical requirements for making 
a proper election to allocate generation-skipping transfer tax 
exemption. The Committee therefore believes it is appropriate 
to provide that generation-skipping transfer tax exemption will 
be allocated when a taxpayer substantially complies with the 
rules and regulations for allocating generation-skipping 
transfer tax exemption.

                        Explanation of Provision

    Under the bill, substantial compliance with the statutory 
and regulatory requirements for allocating generation-skipping 
transfer tax exemption will suffice to establish that 
generation-skipping transfer tax exemption was allocated to a 
particular transfer or a particular trust. If a taxpayer 
demonstrates substantial compliance, then so much of the 
transferor's unused generation-skipping transfer tax exemption 
will be allocated to the extent it produces the lowest possible 
inclusion ratio. In determining whether there has been 
substantial compliance, all relevant circumstances will be 
considered, including evidence of intent contained in the trust 
instrument or instrument of transfer and such other factors as 
the Treasury Secretary deems appropriate.

                             Effective Date

    The provision applies to transfers subject to estate or 
gift tax made after December 31, 2000. No inference is intended 
with respect to the availability of a rule of substantial 
compliance prior to the effective date of the provision.

D. Expand and Modify Availability of Installment Payment of Estate Tax 
                      for Closely-Held Businesses


       (Secs. 571 and 572 of the bill and Sec. 6166 of the Code)


                              Present Law

    Under present law, the estate tax generally is due within 
nine months of a decedent's death. However, an executor 
generally may elect to pay estate tax attributable to an 
interest in a closely-held business in 2 or more installments 
(but no more than 10). An estate is eligible for payment of 
estate tax in installments if the value of the decedent's 
interest in a closely-held business exceeds 35 percent of the 
decedent's adjusted gross estate (i.e., the gross estate less 
certain deductions). If the election is made, the estate may 
defer payment of principal and pay only interest for the first 
five years, followed by up to 10 annual installments of 
principal and interest. This provision effectively extends the 
time for paying estate tax by 14 years from the original due 
date of the estate tax.\45\ A special two-percent interest rate 
applies to the amount of deferred estate tax attributable to 
the first $1 million (adjusted annually for inflation occurring 
after 1998) in taxable value of a closely-held business. The 
interest rate applicable to the amount of estate tax 
attributable to the taxable value of the closely-held business 
in excess of $1 million is equal to 45 percent of the rate 
applicable to underpayments of tax under section 6621 (i.e., 45 
percent of the Federal short-term rate plus 3 percentage 
points). Interest paid on deferred estate taxes is not 
deductible for estate or income tax purposes.
---------------------------------------------------------------------------
    \45\ For example, assume estate tax is due in 2001. If interest 
only is paid each year for the first five years (2001 through 2005), 
and if 10 installments of both principal and interest are paid for the 
10 years thereunder (2006 through 2015), then payment of estate tax 
would be extended by 14 years from the original due date of 2001.
---------------------------------------------------------------------------
    For purposes of these rules, an interest in a closely-held 
business is: (1) an interest as a proprietor in a sole 
proprietorship, (2) an interest as a partner in a partnership 
carrying on a trade or business if 20 percent or more of the 
total capital interest of such partnership is included in the 
decedent's gross estate or the partnership had 15 or fewer 
partners, and (3) stock in a corporation carrying on a trade or 
business if 20 percent or more of the value of the voting stock 
of the corporation is included in the decedent's gross estate 
or such corporation had 15 or fewer shareholders. The decedent 
may own the interest directly or, in certain cases, ownership 
may be indirect, through a holding company. If ownership is 
through a holding company, the stock must be non-readily 
tradable. If stock in a holding company is treated as business 
company stock for purposes of the installment payment 
provisions, the 5-year deferral for principal and the 2-percent 
interest rate do not apply. The value of any interest in a 
closely-held business does not include the value of that 
portion of such interest attributable to passive assets held by 
such business.

                           Reasons for Change

    The Committee finds that the present-law installment 
payment of estate tax provisions are restrictive and prevent 
estates of decedents who otherwise held an interest in a 
closely-held business at death from claiming the benefits of 
installment payment of estate tax. Thus, theCommittee wishes to 
expand and modify availability of the provision to enable more estates 
of decedents with an interest in a closely-held business to claim the 
benefits of installment payment of estate tax.

                        Explanation of Provision

    The bill expands availability of the installment payment 
provisions by providing that an estate of a decedent with an 
interest in a qualifying lending and financing business is 
eligible for installment payment of the estate tax. The bill 
also provides that an estate with an interest in a qualifying 
lending and financing business that claims installment payment 
of estate tax must make installment payments of estate tax 
(which will include both principal and interest) relating to 
the interest in a qualifying lending and financing business 
over five years.
    The bill also clarifies that the installment payment 
provisions require that only the stock of holding companies, 
not that of operating subsidiaries, must be non-readily 
tradable in order to qualify for installment payment of the 
estate tax. The bill also provides that an estate with a 
qualifying property interest held through holding companies 
that claims installment payment of estate tax must make all 
installment payments of estate tax (which will include both 
principal and interest) relating to a qualifying property 
interest held through holding companies over five years.

                             Effective Date

    The provision is effective for decedents dying after 
December 31, 2001.

              E. Compliance With Congressional Budget Act


                    (Secs. 581 and 582 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to estate, gift, and generation-skipping taxes which 
are in effect on September 30, 2011, shall cease to apply as of 
the close of September 30, 2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to estate, gift, and generation-skipping taxes which 
were terminated under the sunset provision shall begin to apply 
again as of October 1, 2011, as provided in each such provision 
or amendment.

      VI. PENSION AND INDIVIDUAL RETIREMENT ARRANGEMENT PROVISIONS

            A. Individual Retirement Arrangements (``IRAs'')

  (Secs. 601-603 of the bill and Secs. 219, 408, and 408A of the Code)

                              present law

In general
    There are two general types of individual retirement 
arrangements (``IRAs'') under present law: traditional IRAs, to 
which both deductible and nondeductible contributions may be 
made, and Roth IRAs. The Federal income tax rules regarding 
each type of IRA (and IRA contribution) differ.
Traditional IRAs
    Under present law, an individual may make deductible 
contributions to an IRA up to the lesser of $2,000 or the 
individual's compensation if neither the individual nor the 
individual's spouse is an active participant in an employer-
sponsored retirement plan. In the case of a married couple, 
deductible IRA contributions of up to $2,000 can be made for 
each spouse (including, for example, a homemaker who does not 
work outside the home), if the combined compensation of both 
spouses is at least equal to the contributed amount. If the 
individual (or the individual's spouse) is an active 
participant in an employer-sponsored retirement plan, the 
$2,000 deduction limit is phased-out for taxpayers with 
adjusted gross income (``AGI'') over certain levels for the 
taxable year.
    The AGI phase-out limits for taxpayers who are active 
participants in employer-sponsored plans are as follows.
        Taxable years beginning in                       Phase-out range
Single Taxpayers:
        2001............................................  $33,000-43,000
        2002............................................   34,000-44,000
        2003............................................   40,000-50,000
        2004............................................   45,000-55,000
        2005 and thereafter.............................   50,000-60,000
Joint Returns:
        2001............................................  $53,000-63,000
        2002............................................   54,000-64,000
        2003............................................   60,000-70,000
        2004............................................   65,000-75,000
        2005............................................   70,000-80,000
        2006............................................   75,000-85,000
        2007 and thereafter.............................  80,000-100,000

    The AGI phase-out range for married taxpayers filing a 
separate return is $0 to $10,000.
    If the individual is not an active participant in an 
employer-sponsored retirement plan, but the individual's spouse 
is, the $2,000 deduction limit is phased-out for taxpayers with 
AGI between $150,000 and $160,000.
    To the extent an individual cannot or does not make 
deductible contributions to an IRA or contributions to a Roth 
IRA, the individual may make nondeductible contributions to a 
traditional IRA.
    Amounts held in a traditional IRA are includible in income 
when withdrawn (except to the extent the withdrawal is a return 
of nondeductible contributions). Includible amounts withdrawn 
prior to attainment of age 59\1/2\ are subject to an additional 
10-percent early withdrawal tax, unless the withdrawal is due 
to death or disability, is made in the form of certain periodic 
payments, is used to pay medical expenses in excess of 7\1/2\ 
percent of AGI, is used to purchase health insurance of an 
unemployed individual, is used for education expenses, or is 
used for first-time homebuyer expenses of up to $10,000.

Roth IRAs

    Individuals with AGI below certain levels may make 
nondeductible contributions to a Roth IRA. The maximum annual 
contribution that may be made to a Roth IRA is the lesser of 
$2,000 or the individual's compensation for the year. The 
contribution limit is reduced to the extent an individual makes 
contributions to any other IRA for the same taxable year. As 
under the rules relating to IRAs generally, a contribution of 
up to $2,000 for each spouse may be madeto a Roth IRA provided 
the combined compensation of the spouses is at least equal to the 
contributed amount. The maximum annual contribution that can be made to 
a Roth IRA is phased-out for single individuals with AGI between 
$95,000 and $110,000 and for joint filers with AGI between $150,000 and 
$160,000.
    Taxpayers with modified AGI of $100,000 or less generally 
may convert a traditional IRA into a Roth IRA. The amount 
converted is includible in income as if a withdrawal had been 
made, except that the 10-percent early withdrawal tax does not 
apply and, if the conversion occurred in 1998, the income 
inclusion may be spread ratably over four years. Married 
taxpayers who file separate returns cannot convert a 
traditional IRA into a Roth IRA.
    Amounts held in a Roth IRA that are withdrawn as a 
qualified distribution are not includible in income, or subject 
to the additional 10-percent tax on early withdrawals. A 
qualified distribution is a distribution that (1) is made after 
the five-taxable year period beginning with the first taxable 
year for which the individual made a contribution to a Roth 
IRA, and (2) which is made after attainment of age 59\1/2\, on 
account of death or disability, or is made for first-time 
homebuyer expenses of up to $10,000.
    Distributions from a Roth IRA that are not qualified 
distributions are includible in income to the extent 
attributable to earnings, and subject to the 10-percent early 
withdrawal tax (unless an exception applies).\46\ The same 
exceptions to the early withdrawal tax that apply to IRAs apply 
to Roth IRAs.
---------------------------------------------------------------------------
    \46\ Early distribution of converted amounts may also accelerate 
income inclusion of converted amounts that are taxable under the 4-year 
rule applicable to 1998 conversions.
---------------------------------------------------------------------------

Taxation of charitable contributions

    Generally, a taxpayer who itemizes deductions may deduct 
cash contributions to charity, as well as the fair market value 
of contributions of property. The amount of the deduction 
otherwise allowable for the taxable year with respect to a 
charitable contribution may be reduced, depending on the type 
of property contributed, the type of charitable organization to 
which the property is contributed, and the income of the 
taxpayer.
    For donations of cash by individuals, total deductible 
contributions to public charities may not exceed 50 percent of 
a taxpayer's adjusted gross income (``AGI'') for a taxable 
year. To the extent a taxpayer has not exceeded the 50-percent 
limitation, contributions of cash to private foundations and 
certain other nonprofit organizations and contributions of 
capital gain property to public charities generally may be 
deducted up to 30 percent of the taxpayer's AGI. If a taxpayer 
makes a contribution in one year that exceeds the applicable 
50-percent or 30-percent limitation, the excess amount of the 
contribution may be carried over and deducted during the next 
five taxable years.
    In addition to the percentage limitations imposed 
specifically on charitable contributions, present law imposes a 
reduction on most itemized deductions, including charitable 
contribution deductions, for taxpayers with adjusted gross 
income in excess of a threshold amount, which is adjusted 
annually for inflation annually for inflation. The threshold 
amount for 2001 is $132,950 ($66,475 for married individuals 
filing separate returns). For those deductions that are subject 
to the limit, the total amount of itemized deductions is 
reduced by three percent of AGI over the threshold amount, but 
not by more than 80 percent of itemized deductions subject to 
the limit. The effect of this reduction may be to limit a 
taxpayer's ability to deduct some of his or her charitable 
contributions.

                           Reasons for Change

    The Committee is concerned about the low national savings 
rate, and that individuals may not be saving adequately for 
retirement. The present-law IRA contribution limits have not 
been increased since 1981. The Committee believes that the 
limits should be raised in order to allow greater savings 
opportunities.
    The Committee understands that, for a variety of reasons, 
older individuals may not have been saving sufficiently for 
retirement. For example, some individuals, especially women, 
may have left the workforce temporarily in order to care for 
children. Such individuals may have missed retirement savings 
options that would have been available had they remained in the 
workforce. Thus, the Committee believes it appropriate to 
accelerate the increase in the IRA contribution limits for such 
individuals.

                        Explanation of Provision

Increase in annual contribution limits

    The provision increases the maximum annual dollar 
contribution limit for IRA contributions from $2,000 to $2,500 
for 2002 through 2005, $3,000 for 2006 and 2007, $3,500 for 
2008 and 2009, $4,000 for 2010, and $5,000 for 2011. After 
2011, the limit is adjusted annually for inflation in $500 
increments.

Additional catch-up contributions

    The bill provides that individuals who have attained age 50 
may make additional catch-up IRA contributions. The otherwise 
maximum contribution limit (before application of the AGI 
phase-out limits) for an individual who has attained age 50 
before the end of the taxable year is increased by $500 for 
2002 through 2005, $1000 for 2006 through 2009, $1,500 for 
2010, and $2,000 for 2011 and thereafter.

Deemed IRAs under employer plans

    The bill provides that, if an eligible retirement plan 
permits employees to make voluntary employee contributions to a 
separate account or annuity that (1) is established under the 
plan, and (2) meets the requirements applicable to either 
traditional IRAs or Roth IRAs, then the separate account or 
annuity is deemed a traditional IRA or a Roth IRA, as 
applicable, for all purposes of the Code. For example, the 
reporting requirements applicable to IRAs apply. The deemed 
IRA, and contributions thereto, are not subject to the Code 
rules pertaining to the eligible retirement plan. In addition, 
the deemed IRA, and contributions thereto, are not taken into 
account in applying such rules to any other contributions under 
the plan. The deemed IRA, and contributions thereto, are 
subject to the exclusive benefit and fiduciary rules of ERISA 
to theextent otherwise applicable to the plan, and are not 
subject to the ERISA reporting and disclosure, participation, vesting, 
funding, and enforcement requirements applicable to the eligible 
retirement plan.\47\ An eligible retirement plan is a qualified plan 
(Sec. 401(a)), tax-sheltered annuity (Sec. 403(b)), or a governmental 
section 457 plan.
---------------------------------------------------------------------------
    \47\ The provision does not specify the treatment of deemed IRAs 
for purposes other than the Code and ERISA.
---------------------------------------------------------------------------

Tax-free IRA withdrawals for charitable purposes

    The bill provides an exclusion from gross income for 
qualified charitable distributions from an IRA: (1) to a 
charitable organization (as described in sec. 170(c)) to which 
deductible contributions may be made; (2) to a charitable 
remainder annuity trust or charitable remainder unitrust; (3) 
to a pooled income fund (as defined in sec. 642(c)(5)); or (4) 
for the issuance of a charitable gift annuity. The exclusion 
applies with respect to distributions described in (2), (3), or 
(4) only if no person holds an income interest in the trust, 
fund, or annuity attributable to such distributions other than 
the IRA owner, his or her spouse, or a charitable organization.
    In determining the character of distributions from a 
charitable remainder annuity trust or a charitable remainder 
unitrust to which a qualified charitable distribution from an 
IRA is made, the charitable remainder trust is required to 
treat as ordinary income the portion of the distribution from 
the IRA to the trust that would have been includible in income 
but for the provision, and as corpus any remaining portion of 
the distribution. Similarly, in determining the amount 
includible in gross income by reason of a payment from a 
charitable gift annuity purchased with a qualified charitable 
distribution from an IRA, the taxpayer is not permitted to 
treat the portion of the distribution from the IRA that would 
have been taxable but for the provision and that is used to 
purchase the annuity as an investment in the annuity contract.
    A qualified charitable distribution is any distribution 
from an IRA that is made after age 70\1/2\, that qualifies as a 
charitable contribution (within the meaning of sec. 170(c)), 
and that is made directly to the charitable organization or to 
a charitable remainder annuity trust, charitable remainder 
unitrust, pooled income fund, or charitable gift annuity (as 
described above).\48\ A taxpayer is not permitted to claim a 
charitable contribution deduction in any year for amounts 
transferred from his or her IRA to a charity or to a trust, 
fund, or annuity that, because of the provision, are excluded 
from the taxpayer's income. Conversely, if the amounts 
transferred are otherwise nontaxable, e.g., a qualified 
distribution from a Roth IRA, the regularly applicable 
deduction rules apply.
---------------------------------------------------------------------------
    \48\ It is intended that, in the case of transfer to a trust, fund, 
or annuity, the full amount distributed from an IRA will meet the 
definition of a qualified charitable distribution if the charitable 
organization's interest in the distribution would qualify as a 
charitable contribution under section 170.
---------------------------------------------------------------------------

                             Effective Date

    The provision is generally effective for taxable years 
beginning after December 31, 2001. The provision relating to 
deemed IRAs under employer plans is effective for plan years 
beginning after December 31, 2002. The provision relating to 
tax-free IRA withdrawals for charitable purposes is effective 
for taxable years beginning after December 31, 2009.

                         B. Pension Provisions


1. Expanding coverage

            (a) Increase in benefit and contribution limits (Sec. 611 
                    of the bill and Secs. 401(a)(17), 402(g), 408(p), 
                    415 and 457 of the Code)

                              Present Law

In general

    Under present law, limits apply to contributions and 
benefits under qualified plans (Sec. 415), the amount of 
compensation that may be taken into account under a plan for 
determining benefits (Sec. 401(a)(17)), the maximum amount of 
elective deferrals that an individual may make to a salary 
reduction plan or tax sheltered annuity (Sec. 402(g)), and 
deferrals under an eligible deferred compensation plan of a 
tax-exempt organization or a State or local government (Sec. 
457).

Limitations on contributions and benefits

    Under present law, the limits on contributions and benefits 
under qualified plans are based on the type of plan. Under a 
defined contribution plan, the qualification rules limit the 
annual additions to the plan with respect to each plan 
participant to the lesser of (1) 25 percent of compensation or 
(2) $35,000 (for 2001). Annual additions are the sum of 
employer contributions, employee contributions, and forfeitures 
with respect to an individual under all defined contribution 
plans of the same employer. The $35,000 limit is adjusted 
annually for inflation for cost-of-living adjustments in $5,000 
increments.
    Under a defined benefit plan, the maximum annual benefit 
payable at retirement is generally the lesser of (1) 100 
percent of average compensation, or (2) $140,000 (for 2001). 
The dollar limit is adjusted for cost-of-living increases in 
$5,000 increments.
    Under present law, in general, the dollar limit on annual 
benefits is reduced if benefits under the plan begin before the 
social security retirement age (currently, age 65) and 
increased if benefits begin after social security retirement 
age.

Compensation limitation

    Under present law, the annual compensation of each 
participant that may be taken into account for purposes of 
determining contributions and benefits under a plan, applying 
the deduction rules, and for nondiscrimination testing purposes 
is limited to $170,000 (for 2001). The compensation limit is 
adjusted annually for inflation for cost-of-living adjustments 
in $10,000 increments.

Elective deferral limitations

    Under present law, under certain salary reduction 
arrangements, an employee may elect to have the employer make 
payments as contributions to a plan on behalf of the employee, 
or tothe employee directly in cash. Contributions made at the 
election of the employee are called elective deferrals.
    The maximum annual amount of elective deferrals that an 
individual may make to a qualified cash or deferred arrangement 
(a ``section 401(k) plan''), a tax-sheltered annuity (``section 
403(b) annuity'') or a salary reduction simplified employee 
pension plan (``SEP'') is $10,500 (for 2001). The maximum 
annual amount of elective deferrals that an individual may make 
to a SIMPLE plan is $6,500 (for 2001). These limits are 
adjusted annually for inflation in $500 increments.

Section 457 plans

    The maximum annual deferral under a deferred compensation 
plan of a State or local government or a tax-exempt 
organization (a ``section 457 plan'') is the lesser of (1) 
$8,500 (for 2001) or (2) 33\1/3\ percent of compensation. The 
$8,500 dollar limit is increased for inflation in $500 
increments. Under a special catch-up rule, the section 457 plan 
may provide that, for one or more of the participant's last 
three years before retirement, the otherwise applicable limit 
is increased to the lesser of (1) $15,000 or (2) the sum of the 
otherwise applicable limit for the year plus the amount by 
which the limit applicable in preceding years of participation 
exceeded the deferrals for that year.

                           Reasons for Change

    The tax benefits provided under qualified plans are a 
departure from the normally applicable income tax rules. The 
special tax benefits for qualified plans are generally 
justified on the ground that they serve an important social 
policy objective, i.e., the provision of retirement benefits to 
a broad group of employees. The limits on contributions and 
benefits, elective deferrals, and compensation that may be 
taken into account under a qualified plan all serve to limit 
the tax benefits associated with such plans. The level at which 
to place such limits involves a balancing of different policy 
objectives and a judgment as to what limits are most likely to 
best further policy goals.
    One of the factors that may influence the decision of an 
employer, particularly a small employer, to adopt a plan is the 
extent to which the owners of the business, the decision-
makers, or other highly compensated employees will benefit 
under the plan. The Committee believes that increasing the 
dollar limits on qualified plan contributions and benefits will 
encourage employers to establish qualified plans for their 
employees.
    The Committee understands that, in recent years, section 
401(k) plans have become increasingly more prevalent. The 
Committee believes it is important to increase the amount of 
employee elective deferrals allowed under such plans, and other 
plans that allow deferrals, to better enable plan participants 
to save for their retirement.

                        Explanation of Provision

Limits on contributions and benefits

    The bill provides faster annual adjusting for inflation of 
the $35,000 limit on annual additions to a defined contribution 
plan. Under the provision this limit amount is adjusted 
annually for inflation in $1,000 increments.\49\
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    \49\ The 25 percent of compensation limitation is increased to 100 
percent of compensation under another provision of the bill.
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    The provision increases the $140,000 annual benefit limit 
under a defined benefit plan to $150,000 for 2002 through 2004 
and to $160,000 for 2005 and thereafter. The dollar limit is 
reduced for benefit commencement before age 62 and increased 
for benefit commencement after age 65.

Compensation limitation

    The provision increases the limit on compensation that may 
be taken into account under a plan to $180,000 for 2002, 
$190,000 for 2003, and $200,000 for 2004 and 2005. After 2005, 
this amount is adjusted annually for inflation in $5,000 
increments.

Elective deferral limitations

    In 2002, the provision increases the dollar limit on annual 
elective deferrals under section 401(k) plans, section 403(b) 
annuities, and salary reduction SEPs to $11,000. In 2003 and 
thereafter, the limits increase in $500 annual increments until 
the limits reach $15,000 in 2010, with annual adjustments for 
inflation in $500 increments thereafter. The provision 
increases the maximum annual elective deferrals that may be 
made to a SIMPLE plan to $7,000 for 2002 and 2003, $8,000 for 
2004 and 2005, $9,000 for 2006 and 2007, and $10,000 for 2008. 
After 2008, the $10,000 dollar limit is adjusted annually for 
inflation in $500 increments.

Section 457 plans

    The dollar limit on deferrals under a section 457 plan is 
increased to $9,000 in 2002, and is increased in $500 annual 
increments thereafter until the limit reaches $11,000 in 2006. 
Beginning in 2007, the limit is increased in $1,000 annual 
increments until it reaches $15,000 in 2010. After 2010, the 
limit is adjusted annually for inflation thereafter in $500 
increments. The limit is twice the otherwise applicable dollar 
limit in the three years prior to retirement.\50\
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    \50\ Another provision increases the 33\1/3\ percentage of 
compensation limit to 100 percent.
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                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (b) Plan loans for subchapter S shareholders, partners, and 
                    sole proprietors (Sec. 612 of the bill and Sec. 
                    4975 of the Code)

                              Present Law

    The Internal Revenue Code prohibits certain transactions 
(``prohibited transactions'') between a qualified plan and a 
disqualified person in order to prevent persons with a close 
relationship to the qualified plan from using that relationship 
to the detriment of plan participants and beneficiaries.\51\ 
Certain types of transactions are exempted from the prohibited 
transaction rules, including loans from the plan to plan 
participants, if certain requirements are satisfied. In 
addition, the Secretary of Labor can grant an administrative 
exemption from the prohibited transaction rules if she finds 
the exemption is administratively feasible, in the interest of 
the plan and plan participants and beneficiaries, and 
protective of the rights of participants and beneficiaries of 
the plan. Pursuant to this exemption process, the Secretary of 
Labor grants exemptions both with respect to specific 
transactions and classes of transactions.
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    \51\ Title I of the Employee Retirement Income Security Act of 
1974, as amended (``ERISA''), also contains prohibited transaction 
rules. The Code and ERISA provisions are substantially similar, 
although not identical.
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    The statutory exemptions to the prohibited transaction 
rules do not apply to certain transactions in which the plan 
makes a loan to an owner-employee.\52\ Loans to participants 
other than owner-employees are permitted if loans are available 
to all participants on a reasonably equivalent basis, are not 
made available to highly compensated employees in an amount 
greater than made available to other employees, are made in 
accordance with specific provisions in the plan, bear a 
reasonable rate of interest, and are adequately secured. In 
addition, the Code places limits on the amount of loans and 
repayment terms.
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    \52\ Certain transactions involving a plan and S corporation 
shareholders are permitted.
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    For purposes of the prohibited transaction rules, an owner-
employee means (1) a sole proprietor, (2) a partner who owns 
more than 10 percent of either the capital interest or the 
profits interest in the partnership, (3) an employee or officer 
of a Subchapter S corporation who owns more than five percent 
of the outstanding stock of the corporation, and (4) the owner 
of an individual retirement arrangement (``IRA''). The term 
owner-employee also includes certain family members of an 
owner-employee and certain corporations owned by an owner-
employee.
    Under the Internal Revenue Code, a two-tier excise tax is 
imposed on disqualified persons who engage in a prohibited 
transaction. The first level tax is equal to 15 percent of the 
amount involved in the transaction. The second level tax is 
imposed if the prohibited transaction is not corrected within a 
certain period, and is equal to 100 percent of the amount 
involved.

                           Reasons for Change

    The Committee believes that the present-law prohibited 
transaction rules regarding loans unfairly discriminate against 
the owners of unincorporated businesses and S corporations. For 
example, under present law, the sole shareholder of a C 
corporation may take advantage of the statutory exemption to 
the prohibited transaction rules for loans, but an individual 
who does business as a sole proprietor may not.

                        Explanation of Provision

    The provision generally eliminates the special present-law 
rules relating to plan loans made to an owner-employee (other 
than the owner of an IRA). Thus, the general statutory 
exemption applies to such transactions. Present law continues 
to apply with respect to IRAs.

                             Effective Date

    The provision is effective with respect to years beginning 
after December 31, 2001.
            (c) Modification of top-heavy rules (Sec. 613 of the bill 
                    and Sec. 416 of the Code)

                              Present Law

In general

    Under present law, additional qualification requirements 
apply to plans that primarily benefit an employer's key 
employees (``top-heavy plans''). These additional requirements 
provide (1) more rapid vesting for plan participants who are 
non-key employees and (2) minimum nonintegrated employer 
contributions or benefits for plan participants who are non-key 
employees.

Definition of top-heavy plan

    A defined benefit plan is a top-heavy plan if more than 60 
percent of the cumulative accrued benefits under the plan are 
for key employees. A defined contribution plan is top heavy if 
the sum of the account balances of key employees is more than 
60 percent of the total account balances under the plan. For 
each plan year, the determination of top-heavy status generally 
is made as of the last day of the preceding plan year (``the 
determination date'').
    For purposes of determining whether a plan is a top-heavy 
plan, benefits derived both from employer and employee 
contributions, including employee elective contributions, are 
taken into account. In addition, the accrued benefit of a 
participant in a defined benefit plan and the account balance 
of a participant in a defined contribution plan includes any 
amount distributed within the 5-year period ending on the 
determination date.
    An individual's accrued benefit or account balance is not 
taken into account in determining whether a plan is top-heavy 
if the individual has not performed services for the employer 
during the 5-year period ending on the determination date.
    In some cases, two or more plans of a single employer must 
be aggregated for purposes of determining whether the group of 
plans is top-heavy. The following plans must be aggregated: (1) 
plans which cover a key employee (including collectively 
bargained plans); and (2) any plan upon which a plan covering a 
key employee depends for purposes of satisfying the Code's 
nondiscrimination rules. The employer may be required to 
include terminated plans inthe required aggregation group. In 
some circumstances, an employer may elect to aggregate plans for 
purposes of determining whether they are top heavy.
    SIMPLE plans are not subject to the top-heavy rules.

Definition of key employee

    A key employee is an employee who, during the plan year 
that ends on the determination date or any of the four 
preceding plan years, is (1) an officer earning over one-half 
of the defined benefit plan dollar limitation of section 415 
($70,000 for 2001), (2) a 5-percent owner of the employer, (3) 
a 1-percent owner of the employer earning over $150,000, or (4) 
one of the 10 employees earning more than the defined 
contribution plan dollar limit ($35,000 for 2001) with the 
largest ownership interests in the employer. A family ownership 
attribution rule applies to the determination of 1-percent 
owner status, 5-percent owner status, and largest ownership 
interest. Under this attribution rule, an individual is treated 
as owning stock owned by the individual's spouse, children, 
grandchildren, or parents.

Minimum benefit for non-key employees

    A minimum benefit generally must be provided to all non-key 
employees in a top-heavy plan. In general, a top-heavy defined 
benefit plan must provide a minimum benefit equal to the lesser 
of (1) two percent of compensation multiplied by the employee's 
years of service, or (2) 20 percent of compensation. A top-
heavy defined contribution plan must provide a minimum annual 
contribution equal to the lesser of (1) three percent of 
compensation, or (2) the percentage of compensation at which 
contributions were made for key employees (including employee 
elective contributions made by key employees and employer 
matching contributions).
    For purposes of the minimum benefit rules, only benefits 
derived from employer contributions (other than amounts 
employees have elected to defer) to the plan are taken into 
account, and an employee's social security benefits are 
disregarded (i.e., the minimum benefit is nonintegrated). 
Employer matching contributions may be used to satisfy the 
minimum contribution requirement; however, in such a case the 
contributions are not treated as matching contributions for 
purposes of applying the special nondiscrimination requirements 
applicable to employee elective contributions and matching 
contributions under sections 401(k) and (m). Thus, such 
contributions would have to meet the general nondiscrimination 
test of section 401(a)(4).\53\
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    \53\ Treas. Reg. sec. 1.416-1 Q&A M-19.
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Top-heavy vesting

    Benefits under a top-heavy plan must vest at least as 
rapidly as under one of the following schedules: (1) three-year 
cliff vesting, which provides for 100 percent vesting after 
three years of service; and (2) two-six year graduated vesting, 
which provides for 20 percent vesting after two years of 
service, and 20 percent more each year thereafter so that a 
participant is fully vested after six years of service.\54\
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    \54\ Benefits under a plan that is not top heavy must vest at least 
as rapidly as under one of the following schedules: (1) five-year cliff 
vesting; and (2) three-seven year graded vesting, which provides for 20 
percent vesting after three years and 20 percent more each year 
thereafter so that a participant is fully vested after seven years of 
service.
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Qualified cash or deferred arrangements

    Under a qualified cash or deferred arrangement (a ``section 
401(k) plan''), an employee may elect to have the employer make 
payments as contributions to a qualified plan on behalf of the 
employee, or to the employee directly in cash. Contributions 
made at the election of the employee are called elective 
deferrals. A special nondiscrimination test applies to elective 
deferrals under cash or deferred arrangements, which compares 
the elective deferrals of highly compensated employees with 
elective deferrals of nonhighly compensated employees. (This 
test is called the actual deferral percentage test or the 
``ADP'' test). Employer matching contributions under qualified 
defined contribution plans are also subject to a similar 
nondiscrimination test. (This test is called the actual 
contribution percentage test or the ``ACP'' test.)
    Under a design-based safe harbor, a cash or deferred 
arrangement is deemed to satisfy the ADP test if the plan 
satisfies one of two contribution requirements and satisfies a 
notice requirement. A plan satisfies the contribution 
requirement under the safe harbor rule for qualified cash or 
deferred arrangements if the employer either (1) satisfies a 
matching contribution requirement or (2) makes a nonelective 
contribution to a defined contribution plan of at least three 
percent of an employee's compensation on behalf of each 
nonhighly compensated employee who is eligible to participate 
in the arrangement without regard to the permitted disparity 
rules (Sec. 401(1)). A plan satisfies the matching contribution 
requirement if, under the arrangement: (1) the employer makes a 
matching contribution on behalf of each nonhighly compensated 
employee that is equal to (a) 100 percent of the employee's 
elective deferrals up to three percent of compensation and (b) 
50 percent of the employee's elective deferrals from three to 
five percent of compensation; and (2), the rate of match with 
respect to any elective contribution for highly compensated 
employees is not greater than the rate of match for nonhighly 
compensated employees. Matching contributions that satisfy the 
design-based safe harbor for cash or deferred arrangements are 
deemed to satisfy the ACP test. Certain additional matching 
contributions are also deemed to satisfy the ACP test.

                           Reasons for Change

    The top-heavy rules primarily affect the plans of small 
employers. While the top-heavy rules were intended to provide 
additional minimum benefits to rank-and-file employees, the 
Committee is concerned that in some cases the top-heavy rules 
may act as a deterrent to the establishment of a plan by a 
small employer. The Committee believes that simplification of 
the top-heavy rules will help alleviate the additional 
administrative burdens the rules place on small employers. The 
Committee also believes that, in applying the top-heavy minimum 
benefit rules,the employer should receive credit for all 
contributions the employer makes, including matching contributions.

                        Explanation of Provision

Definition of top-heavy plan

    In determining whether a plan is top-heavy, the bill 
provides that distributions during the year ending on the date 
the top-heavy determination is being made are taken into 
account. The present-law 5-year rule applies with respect to 
in-service distributions. Similarly, the bill provides that an 
individual's accrued benefit or account balance is not taken 
into account if the individual has not performed services for 
the employer during the 1-year period ending on the date the 
top-heavy determination is being made.

Definition of key employee

    The bill (1) provides that an employee is not considered a 
key employee by reason of officer status unless the employee 
earns more than the compensation limit for determining whether 
an employee is highly compensated ($85,000 for 2001) \55\ and 
(2) repeals the top-10 owner key employee category. The 
provision repeals the 4-year lookback rule for determining key 
employee status and provides that an employee is a key employee 
only if he or she is a key employee during the preceding plan 
year. An employee who was not an employee in the preceding plan 
year, or who was an employee only for part of the year, is 
treated as a key employee if it can be reasonably anticipated 
that the employee will meet the definition of a key employee 
for the current plan year.
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    \55\ The compensation limit is determined without regard to the 
top-paid group election.
---------------------------------------------------------------------------
    Thus, under the provision, an employee generally is 
considered a key employee if, during the prior year, the 
employee was (1) an officer with compensation in excess of 
$85,000, (2) a 5-percent owner, or (3) a 1-percent owner with 
compensation in excess of $150,000. The present-law limits on 
the number of officers treated as key employees under (1) 
continue to apply.

Minimum benefit for nonkey employees

    Under the provision, matching contributions are taken into 
account in determining whether the minimum benefit requirement 
has been satisfied.\56\
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    \56\ Thus, this provision overrides the provision in Treasury 
regulations that, if matching contributions are used to satisfy the 
minimum benefit requirement, then they are not treated as matching 
contributions for purposes of the section 401(m) nondiscrimination 
rules.
---------------------------------------------------------------------------
    The bill provides that, in determining the minimum benefit 
required under a defined benefit plan, a year of service does 
not include any year in which no key employee or former key 
employee benefits under the plan (as determined under sec. 
410).

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (d) Elective deferrals not taken into account for purposes 
                    of deduction limits (Sec. 614 of the bill and Sec. 
                    404 of the Code)

                              Present Law

    Employer contributions to one or more qualified retirement 
plans are deductible subject to certain limits. In general, the 
deduction limit depends on the kind of plan.
    In the case of a defined benefit pension plan or a money 
purchase pension plan, the employer generally may deduct the 
amount necessary to satisfy the minimum funding cost of the 
plan for the year. If a defined benefit pension plan has more 
than 100 participants, the maximum amount deductible is at 
least equal to the plan's unfunded current liabilities.
    In the case of a profit-sharing or stock bonus plan, the 
employer generally may deduct an amount equal to 15 percent of 
compensation of the employees covered by the plan for the year.
    If an employer sponsors both a defined benefit pension plan 
and a defined contribution plan that covers some of the same 
employees (or a money purchase pension plan and another kind of 
defined contribution plan), the total deduction for all plans 
for a plan year generally is limited to the greater of (1) 25 
percent of compensation or (2) the contribution necessary to 
meet the minimum funding requirements of the defined benefit 
pension plan for the year (or the amount of the plan's unfunded 
current liabilities, in the case of a plan with more than 100 
participants).
    For purposes of the deduction limits, employee elective 
deferral contributions to a section 401(k) plan are treated as 
employer contributions and, thus, are subject to the generally 
applicable deduction limits.
    Subject to certain exceptions, nondeductible contributions 
are subject to a 10-percent excise tax.

                           Reasons for Change

    Subjecting elective deferrals to the normally applicable 
deduction limits may cause employers to restrict the amount of 
elective deferrals an employee may make or to restrict employer 
contributions to the plan, thereby reducing participants' 
ultimate retirement benefits and their ability to save 
adequately for retirement. The Committee believes that the 
amount of elective deferrals otherwise allowable should not be 
further limited through application of the deduction rules.

                        Explanation of Provision

    Under the provision, the applicable percentage of elective 
deferral contributions is not subject to the deduction limits, 
and the application of a deduction limitation to any 
otheremployer contribution to a qualified retirement plan does not take 
into account the applicable percentage of elective deferral 
contributions. The applicable percentage is 25 percent for 2002 through 
2010, and 100 percent for 2011 and thereafter.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (e) Repeal of coordination requirements for deferred 
                    compensation plans of State and local governments 
                    and tax-exempt organizations (Sec. 615 of the bill 
                    and Sec. 457 of the Code)

                              Present Law

    Compensation deferred under an eligible deferred 
compensation plan of a tax-exempt or State and local government 
employer (a ``section 457 plan'') is not includible in gross 
income until paid or made available. In general, the maximum 
permitted annual deferral under such a plan is the lesser of 
(1) $8,500 (in 2001) or (2) 33\1/3\ percent of compensation. 
The $8,500 limit is increased for inflation in $500 increments. 
Under a special catch-up rule, a section 457 plan may provide 
that, for one or more of the participant's last three years 
before retirement, the otherwise applicable limit is increased 
to the lesser of (1) $15,000 or (2) the sum of the otherwise 
applicable limit for the year plus the amount by which the 
limit applicable in preceding years of participation exceeded 
the deferrals for that year.
    The $8,500 limit (as modified under the catch-up rule), 
applies to all deferrals under all section 457 plans in which 
the individual participates. In addition, in applying the 
$8,500 limit, contributions under a tax-sheltered annuity 
(``section 403(b) annuity''), elective deferrals under a 
qualified cash or deferred arrangement (``section 401(k) 
plan''), salary reduction contributions under a simplified 
employee pension plan (``SEP''), and contributions under a 
SIMPLE plan are taken into account. Further, the amount 
deferred under a section 457 plan is taken into account in 
applying a special catch-up rule for section 403(b) annuities.

                           Reasons for Change

    The Committee believes that individuals participating in a 
section 457 plan should also be able to fully participate in a 
section 403(b) annuity or section 401(k) plan of the employer. 
Eliminating the coordination rule may also encourage the 
establishment of section 403(b) or 401(k) plans by tax-exempt 
and governmental employers (to the extent permitted under 
present law).

                        Explanation of Provision

    The provision repeals the rules coordinating the section 
457 dollar limit with contributions under other types of 
plans.\57\
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    \57\ The limits on deferrals under a section 457 plan are modified 
under other provisions of the provision.
---------------------------------------------------------------------------

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (f) Deduction limits (Sec. 616 of the bill and Sec. 404 of 
                    the Code)

                              Present Law

    Employer contributions to one or more qualified retirement 
plans are deductible subject to certain limits. In general, the 
deduction limit depends on the kind of plan. Subject to certain 
exceptions, nondeductible contributions are subject to a 10-
percent excise tax.
    In the case of a defined benefit pension plan or a money 
purchase pension plan, the employer generally may deduct the 
amount necessary to satisfy the minimum funding cost of the 
plan for the year. If a defined benefit pension plan has more 
than 100 participants, the maximum amount deductible is at 
least equal to the plan's unfunded current liabilities.
    In some cases, the amount of deductible contributions is 
limited by compensation. In the case of a profit-sharing or 
stock bonus plan, the employer generally may deduct an amount 
equal to 15 percent of compensation of the employees covered by 
the plan for the year.
    If an employer sponsors both a defined benefit pension plan 
and a defined contribution plan that covers some of the same 
employees (or a money purchase pension plan and another kind of 
defined contribution plan), the total deduction for all plans 
for a plan year generally is limited to the greater of (1) 25 
percent of compensation or (2) the contribution necessary to 
meet the minimum funding requirements of the defined benefit 
pension plan for the year (or the amount of the plan's unfunded 
current liabilities, in the case of a plan with more than 100 
participants).
    In the case of an employee stock ownership plan (``ESOP''), 
principal payments on a loan used to acquire qualifying 
employer securities are deductible up to 25 percent of 
compensation.
    For purposes of the deduction limits, employee elective 
deferral contributions to a qualified cash or deferred 
arrangement (``section 401(k) plan'') are treated as employer 
contributions and, thus, are subject to the generally 
applicable deduction limits.\58\
---------------------------------------------------------------------------
    \58\ Another provision of the bill provides that elective deferrals 
are not subject to the deduction limits.
---------------------------------------------------------------------------
    For purposes of the deduction limits, compensation means 
the compensation otherwise paid or accrued during the taxable 
year to the beneficiaries under the plan, and the beneficiaries 
under a profit-sharing or stock bonus plan are the employees 
who benefit under the plan with respect to the employer's 
contribution.\59\ An employee who is eligible to make elective 
deferrals under a section 401(k) plan is treated as benefiting 
under the arrangement even if the employee elects not to 
defer.\60\
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    \59\ Rev. Rul. 65-295, 1965-2 C.B. 148.
    \60\ Treas. Reg. sec. 1.410(b)-3.
---------------------------------------------------------------------------
    For purposes of the deduction rules, compensation generally 
includes only taxable compensation, and thus does not include 
salary reduction amounts, such as elective deferrals under a 
section 401(k) plan or a tax-sheltered annuity (``section 
403(b) annuity''), elective contributions under a deferred 
compensation plan of a tax-exempt organization or a State or 
local government (``section 457 plan''), and salary reduction 
contributions under a section 125 cafeteria plan. For purposes 
of the contribution limits under section 415, compensation does 
include such salary reduction amounts.

                           Reasons for Change

    The Committee believes that compensation unreduced by 
employee elective contributions is a more appropriate measure 
of compensation for qualified retirement plan purposes, 
including deduction limits, than the present-law rule. Applying 
the same definition for deduction purposes as is generally used 
for other plan purposes will also simplify application of the 
qualified plan rules. The Committee also believes that the 15 
percent of compensation limit may restrict the amount of 
employer contributions to the plan, thereby reducing 
participants' ultimate retirement benefits and their ability to 
adequately save for retirement.

                        Explanation of Provision

    Under the provision, the definition of compensation for 
purposes of the deduction rules includes salary reduction 
amounts treated as compensation under section 415. In addition, 
the annual limitation on the amount of deductible contributions 
to a profit-sharing or stock bonus plan is increased from 15 
percent to 25 percent of compensation of the employees covered 
by the plan for the year. Also, except to the extent provided 
in regulations, a money purchase pension plan is treated like a 
profit-sharing or stock bonus plan for purposes of the 
deduction rules.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (g) Option to treat elective deferrals as after-tax Roth 
                    contributions (Sec. 617 of the bill and new Sec. 
                    402A of the Code)

                              Present Law

    A qualified cash or deferred arrangement (``section 401(k) 
plan'') or a tax-sheltered annuity (``section 403(b) annuity'') 
may permit a participant to elect to have the employer make 
payments as contributions to the plan or to the participant 
directly in cash. Contributions made to the plan at the 
election of a participant are elective deferrals. Elective 
deferrals must be nonforfeitable and are subject to an annual 
dollar limitation (Sec. 402(g)) and distribution restrictions. 
In addition, elective deferrals under a section 401(k) plan are 
subject to specialnondiscrimination rules. Elective deferrals 
(and earnings attributable thereto) are not includible in a 
participant's gross income until distributed from the plan.
    Elective deferrals for a taxable year that exceed the 
annual dollar limitation (``excess deferrals'') are includible 
in gross income for the taxable year. If an employee makes 
elective deferrals under a plan (or plans) of a single employer 
that exceed the annual dollar limitation (``excess 
deferrals''), then the plan may provide for the distribution of 
the excess deferrals, with earnings thereon. If the excess 
deferrals are made to more than one plan of unrelated 
employers, then the plan may permit the individual to allocate 
excess deferrals among the various plans, no later than the 
March 1 (April 15 under the applicable regulations) following 
the end of the taxable year. If excess deferrals are 
distributed not later than April 15 following the end of the 
taxable year, along with earnings attributable to the excess 
deferrals, then the excess deferrals are not again includible 
in income when distributed. The earnings are includible in 
income in the year distributed. If excess deferrals (and income 
thereon) are not distributed by the applicable April 15, then 
the excess deferrals (and income thereon) are includible in 
income when received by the participant. Thus, excess deferrals 
that are not distributed by the applicable April 15th are 
taxable both in the taxable year when the deferral was made and 
in the year the participant receives a distribution of the 
excess deferral.
    Individuals with adjusted gross income below certain levels 
generally may make nondeductible contributions to a Roth IRA 
and may convert a deductible or nondeductible IRA into a Roth 
IRA. Amounts held in a Roth IRA that are withdrawn as a 
qualified distribution are not includible in income and are not 
subject to the additional 10-percent tax on early withdrawals. 
A qualified distribution is a distribution that (1) is made 
after the 5-taxable year period beginning with the first 
taxable year for which the individual made a contribution to a 
Roth IRA, and (2) is made after attainment of age 59\1/2\, is 
made on account of death or disability, or is a qualified 
special purpose distribution (i.e., for first-time homebuyer 
expenses of up to $10,000). A distribution from a Roth IRA that 
is not a qualified distribution is includible in income to the 
extent attributable to earnings, and is subject to the 10-
percent tax on early withdrawals (unless an exception 
applies).\61\
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    \61\ Early distributions of converted amounts may also accelerate 
income inclusion of converted amounts that are taxable under the 4-year 
rule applicable to 1998 conversions.
---------------------------------------------------------------------------

                           Reasons for Change

    The recently-enacted Roth IRA provisions have provided 
individuals with another form of tax-favored retirement 
savings. For a variety of reasons, some individuals may prefer 
to save through a Roth IRA rather than a traditional deductible 
IRA. The Committee believes that similar savings choices should 
be available to participants in section 401(k) plans and tax-
sheltered annuities.

                        Explanation of Provision

    A section 401(k) plan or a section 403(b) annuity is 
permitted to include a ``Roth contribution program'' that 
permits a participant to elect to have all or a portion of the 
participant's elective deferrals under the plan treated as Roth 
contributions. Roth contributions are elective deferrals that 
the participant designates (at such time and in such manner as 
the Secretary may prescribe) \62\ as not excludable from the 
participant's gross income.
---------------------------------------------------------------------------
    \62\ It is intended that the Secretary generally will not permit 
retroactive designations of elective deferrals as Roth contributions.
---------------------------------------------------------------------------
    The annual dollar limitation on a participant's Roth 
contributions is the section 402(g) annual limitation on 
elective deferrals, reduced by the participant's elective 
deferrals that the participant does not designate as Roth 
contributions. Roth contributions are treated as any other 
elective deferral for purposes of nonforfeitability 
requirements and distribution restrictions.\63\ Under a section 
401(k) plan, Roth contributions also are treated as any other 
elective deferral for purposes of the special nondiscrimination 
requirements.\64\
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    \63\ Similarly, Roth contributions to a section 403(b) annuity are 
treated the same as other salary reduction contributions to the annuity 
(except that Roth contributions would be includible in income).
    \64\ It is intended that the Secretary will provide ordering rules 
regarding the return of excess contributions under the special 
nondiscrimination rules (pursuant to sec. 401(k)(8)) in the event a 
participant makes both regular elective deferrals and Roth 
contributions. It is intended that such rules will generally permit a 
plan to allow participants to designate which contributions would be 
returned first or to permit the plan to specify which contributions 
will be returned first.
---------------------------------------------------------------------------
    The plan is required to establish a separate account, and 
maintain separate recordkeeping, for a participant's Roth 
contributions (and earnings allocable thereto). A qualified 
distribution from a participant's Roth contribution account is 
not includible in the participant's gross income. A qualified 
distribution is a distribution that is made after the end of a 
specified nonexclusion period and that is (1) made on or after 
the date on which the participant attains age 59\1/2\, (2) made 
to a beneficiary (or to the estate of the participant) on or 
after the death of the participant, or (3) attributable to the 
participant being disabled.\65\ The nonexclusion period is the 
5-year-taxable period beginning with the earlier of (1) the 
first taxable year for which the participant made a Roth 
contribution to any Roth contribution account established for 
the participant under the plan, or (2) if the participant has 
made a rollover contribution to the Roth contribution account 
that is the source of the distribution from a Roth contribution 
account established for the participant under another plan, the 
first taxable year for which the participant made a Roth 
contribution to the previously established account.
---------------------------------------------------------------------------
    \65\ A qualified special purpose distribution, as defined under the 
rules relating to Roth IRAs, does not qualify as a tax-free 
distribution from a Roth contribution account.
---------------------------------------------------------------------------
    A distribution from a Roth contribution account that is a 
corrective distribution of an elective deferral (and income 
allocable thereto) that exceeds the section 402(g) annual limit 
on elective deferrals or a corrective distribution of an excess 
contribution under the special nondiscrimination rules 
(pursuant to sec. 401(k)(8) (and income allocable thereto) is 
not a qualified distribution. In addition, the treatment of 
excess Roth contributions is similar to thetreatment of excess 
deferrals attributable to non-Roth contributions. If excess Roth 
contributions (including earnings thereon) are distributed no later 
than the April 15th following the taxable year, then the Roth 
contributions are not includible in gross income as a result of the 
distribution, because such contributions are includible in gross income 
when made. Earnings on such excess Roth contributions are treated the 
same as earnings on excess deferrals distributed no later than April 
15th, i.e., they are includible in income when distributed. If excess 
Roth contributions are not distributed no later than the applicable 
April 15th, then such contributions (and earnings thereon) are taxable 
when distributed. Thus, as is the case with excess elective deferrals 
that are not distributed by the applicable April 15th, the 
contributions are includible in income in the year when made and again 
when distributed from the plan. Earnings on such contributions are 
taxable when received.
    A participant is permitted to roll over a distribution from 
a Roth contribution account only to another Roth contribution 
account or a Roth IRA of the participant.
    The Secretary of the Treasury is directed to require the 
plan administrator of each section 401(k) plan or section 
403(b) annuity that permits participants to make Roth 
contributions to make such returns and reports regarding Roth 
contributions to the Secretary, plan participants and 
beneficiaries, and other persons that the Secretary may 
designate.

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2003.
            (h) Nonrefundable credit to certain individuals for 
                    elective deferrals and IRA contributions (Sec. 618 
                    of the bill and new Sec. 25C of the Code)

                              Present Law

    Present law provides favorable tax treatment for a variety 
of retirement savings vehicles, including employer-sponsored 
retirement plans and individual retirement arrangements 
(``IRAs'').
    Several different types of tax-favored employer-sponsored 
retirement plans exist, such as section 401(a) qualified plans 
(including plans with a section 401(k) qualified cash-or-
deferred arrangement), section 403(a) qualified annuity plans, 
section 403(b) annuities, section 408(k) simplified employee 
pensions (``SEPs''), section 408(p) SIMPLE retirement accounts, 
and section 457(b) eligible deferred compensation plans. In 
general, an employer and, in certain cases, employees, 
contribute to the plan. Taxation of the contributions and 
earnings thereon is generally deferred until benefits are 
distributed from the plan to participants or their 
beneficiaries.\66\ Contributions and benefits under tax-favored 
employer-sponsored retirement plans are subject to specific 
limitations.
---------------------------------------------------------------------------
    \66\ In the case of after-tax employee contributions, only earnings 
are taxed upon withdrawal.
---------------------------------------------------------------------------
    Coverage and nondiscrimination rules also generally apply 
to tax-favored employer-sponsored retirement plans to ensure 
that plans do not disproportionately cover higher-paid 
employees and that benefits provided to moderate- and lower-
paid employees are generally proportional to those provided to 
higher-paid employees.
    IRAs include both traditional IRAs and Roth IRAs. In 
general, an individual makes contributions to an IRA, and 
investment earnings on those contributions accumulate on a tax-
deferred basis. Total annual IRA contributions per individual 
are limited to $2,000 (or the compensation of the individual or 
the individual's spouse, if smaller). Contributions to a 
traditional IRA may be deducted from gross income if an 
individual's adjusted gross income (``AGI'') is below certain 
levels or the individual is not an active participant in 
certain employer-sponsored retirement plans. Contributions to a 
Roth IRA are not deductible from gross income, regardless of 
adjusted gross income. A distribution from a traditional IRA is 
includible in the individual's gross income except to the 
extent of individual contributions made on a nondeductible 
basis. A qualified distribution from a Roth IRA is excludable 
from gross income.
    Taxable distributions made from employer retirement plans 
and IRAs before the employee or individual has reached age 
59\1/2\ are subject to a 10-percent additional tax, unless an 
exception applies.

                           Reasons for Change

    The Committee recognizes that the rate of private savings 
in the United States is low; in particular many low- and 
middle-income individuals have inadequate savings or no savings 
at all. A key reason for these low levels of saving is that 
lower-income families are likely to be more budget constrained 
with competing needs such as food, clothing, shelter, and 
medical care taking a larger portion of their income. The 
Committee believes providing an additional tax incentive for 
low- and middle-income individuals will enhance their ability 
to save adequately for retirement.

                        Explanation of Provision

    The bill provides a temporary nonrefundable tax credit for 
contributions made by eligible taxpayers to a qualified plan. 
The maximum annual contribution eligible for the credit is 
$2,000. The credit rate depends on the adjusted gross income 
(``AGI'') of the taxpayer. Only joint returns with AGI of 
$50,000 or less, head of household returns of $37,500 or less, 
and single returns of $25,000 or less are eligible for the 
credit. The AGI limits applicable to single taxpayers apply to 
married taxpayers filing separate returns. The credit is in 
addition to any deduction or exclusion that would otherwise 
apply with respect to the contribution. The credit offsets 
minimum tax liability as well as regular tax liability. The 
credit is available to individuals who are 18 or over, other 
than individuals who are full-time students or claimed as a 
dependent on another taxpayer's return.
    The credit is available with respect to elective 
contributions to a section 401(k) plan, section 403(b) annuity, 
or eligible deferred compensation arrangement of a State or 
local government (a ``sec. 457 plan''), SIMPLE, or SEP, 
contributions to a traditional or Roth IRA, andvoluntary after-
tax employee contributions to a qualified retirement plan. The present-
law rules governing such contributions continue to apply.
    The amount of any contribution eligible for the credit is 
reduced by taxable distributions received by the taxpayer and 
his or her spouse from any savings arrangement described above 
or any other qualified retirement plan during the taxable year 
for which the credit is claimed, the two taxable years prior to 
the year the credit is claimed, and during the period after the 
end of the taxable year and prior to the due date for filing 
the taxpayer's return for the year. In the case of a 
distribution from a Roth IRA, this rule applies to any such 
distributions, whether or not taxable.
    The credit rates based on AGI are as follows.

----------------------------------------------------------------------------------------------------------------
                                                                                                     Credit rate
               Joint filers                    Heads of households            All other filers        (percent)
----------------------------------------------------------------------------------------------------------------
$0-$30,000...............................  $0-$22,500.................  $0-$15,000.................           50
$30,000-$32,500..........................  $22,500-$24,375............  $15,000-$16,250............           20
$32,500-$50,000..........................  $24,375-$37,500............  $16,250-$25,000............           10
Over $50,000.............................  Over $37,500...............  Over $25,000...............            0
----------------------------------------------------------------------------------------------------------------

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2001, and before January 1, 2007.
            (i) Small business tax credit for qualified retirement plan 
                    contributions (Sec. 619 of the bill and new Sec. 
                    45E of the Code)

                              Present Law

    The timing of an employer's deduction for compensation paid 
to an employee generally corresponds to the employee's 
recognition of the compensation. However, an employer that 
contributes to a qualified retirement plan is entitled to a 
deduction (within certain limits) for the employer's 
contribution to the plan on behalf of an employee even though 
the employee does not recognize income with respect to the 
contribution until the amount is distributed to the employee.

                           Reasons for Change

    The Committee understands that many small employers are 
reluctant to establish a qualified retirement plan that 
provides nonelective or matching contributions to all 
employees. Plans that offer only salary reduction contributions 
may not provide sufficient incentive for lower- and middle-
income employees to save. The Committee believes that providing 
a credit for employers who provide nonelective and matching 
contributions for nonhighly compensated employees will result 
in greater retirement saving for such employees.

                        Explanation of Provision

    The bill provides a nonrefundable income tax credit for 
small employers equal to 50 percent of certain qualifying 
employer contributions made to qualified retirement plans on 
behalf of nonhighly compensated employees. The credit is not 
available with respect to contributions to a SIMPLE IRA or SEP. 
For purposes of the provision, a small employer means an 
employer with no more than 20 employees who received at least 
$5,000 of earnings in the preceding year. A nonhighly 
compensated employee is defined as an employee who neither (1) 
was a five-percent owner of the employer at any time during the 
current year or the preceding year, or (2) for the preceding 
year, had compensation in excess of $80,000 (adjusted annually 
for inflation, this amount is $85,000 for 2001).\67\ The credit 
is available for the first three plan years of the plan.
---------------------------------------------------------------------------
    \67\ The top paid group election, which under present law permits 
an employer to classify an employee as a nonhighly compensated employee 
if the employee had compensation in excess of $80,000 (adjusted 
annually for inflation) during the preceding year but was not among the 
top 20 percent of employees of the employer when ranked on the basis of 
compensation paid to employees during the preceding year, is not taken 
into account in determining nonhighly compensated employees for 
purposes of the provision.
---------------------------------------------------------------------------
    The provision requires a small employer to make nonelective 
contributions equal to at least one percent of compensation to 
qualify for the credit. The credit applies to both qualifying 
nonelective employer contributions and qualifying employer 
matching contributions, but only up to a total of three percent 
of the nonhighly compensated employee's compensation. The 
credit is available for 50 percent of qualifying benefit 
accruals under a nonintegrated defined benefit plan if the 
benefits are equivalent, as defined in regulations, to a three-
percent nonelective contribution to a defined contribution 
plan.
    To qualify for the credit, the nonelective and matching 
contributions to a defined contribution plan and the benefit 
accruals under a defined benefit plan are required to vest at 
least as rapidly as under either a three-year cliff vesting 
schedule or a graded schedule that provides 20-percent vesting 
per year for five years. In order to qualify for the credit, 
contributions to plans other than pension plans must be subject 
to the same distribution restrictions that apply to qualified 
nonelective employer contributions to a section 401(k) plan, 
i.e., distribution only upon separation from service, death, 
disability, attainment of age 59\1/2\, plan termination without 
a successor plan, or acquisition of a subsidiary or 
substantially all the assets of a trade or business that 
employs the participant.\68\ Qualifying contributions to 
pension plans are subject to the distribution restrictions 
applicable to such plans.
---------------------------------------------------------------------------
    \68\ The rules relating to distribution upon separation from 
service are modified under another provision of the bill.
---------------------------------------------------------------------------
    A defined contribution plan to which the small employer 
makes the qualifying contributions (and any plan aggregated 
with that plan for nondiscrimination testing purposes) is 
required to allocate any nonelective employer contributions 
proportionally to participants' compensation from the employer 
(or on a flat-dollar basis) and, accordingly, without the use 
of permitted disparity or cross-testing. An equivalent 
requirement must be met with respect to a defined benefit plan.
    Forfeited nonvested qualifying contributions or accruals 
for which the credit was claimed generally result in recapture 
of the credit at a rate of 35 percent. However, recapture does 
notapply to the extent that forfeitures of contributions are 
reallocated to nonhighly compensated employees or applied to future 
contributions on behalf of nonhighly compensated employees. The 
Secretary of the Treasury is authorized to issue administrative 
guidance, including de minimis rules, to simplify or facilitate 
claiming and recapturing the credit.
    The credit is a general business credit.\69\ The 50 percent 
of qualifying contributions that are effectively offset by the 
tax credit are not deductible; the other 50 percent of the 
qualifying contributions (and other contributions) are 
deductible to the extent permitted under present law.
---------------------------------------------------------------------------
    \69\ The credit cannot be carried back to years before the 
effective date.
---------------------------------------------------------------------------

                             Effective Date

    The credit is effective with respect to contributions paid 
or incurred in taxable years beginning after December 31, 2002, 
with respect to plans established after such date.
            (j) Small business tax credit for new retirement plan 
                    expenses (Sec. 620 of the bill and new Sec. 45F of 
                    the Code)

                              Present Law

    The costs incurred by an employer related to the 
establishment and maintenance of a retirement plan (e.g., 
payroll system changes, investment vehicle set-up fees, 
consulting fees) generally are deductible by the employer as 
ordinary and necessary expenses in carrying on a trade or 
business.

                           Reasons for Change

    One of the reasons some small employers may not adopt a 
tax-favored retirement plan is the administrative costs 
associated with such plans. The Committee believes that 
providing a tax credit for certain administrative costs will 
reduce one of the barriers to retirement plan coverage.

                        Explanation of Provision

    The bill provides a nonrefundable income tax credit for 50 
percent of the administrative and retirement-education expenses 
for any small business that adopts a new qualified defined 
benefit or defined contribution plan (including a section 
401(k) plan), SIMPLE plan, or simplified employee pension 
(``SEP''). The credit applies to 50 percent of the first $1,000 
in administrative and retirement-education expenses for the 
plan for each of the first three years of the plan.
    The credit is available to an employer that did not employ, 
in the preceding year, more than 100 employees with 
compensation in excess of $5,000. In order for an employer to 
be eligible for the credit, the plan must cover at least one 
nonhighly compensated employee. In addition, if the credit is 
for the cost of a payroll deduction IRA arrangement, the 
arrangement must be made available to all employees of the 
employer who have worked with the employer for at least three 
months.
    The credit is a general business credit.\70\ The 50 percent 
of qualifying expenses that are effectively offset by the tax 
credit are not deductible; the other 50 percent of the 
qualifying expenses (and other expenses) are deductible to the 
extent permitted under present law.
---------------------------------------------------------------------------
    \70\ The credit cannot be carried back to years before the 
effective date.
---------------------------------------------------------------------------

                             Effective Date

    The credit is effective with respect to costs paid or 
incurred in taxable years beginning after December 31, 2001, 
with respect to plans established after such date.
            (k) Eliminate IRS user fees for certain determination 
                    letter requests regarding employer plans (Sec. 621 
                    of the bill)

                              Present Law

    An employer that maintains a retirement plan for the 
benefit of its employees may request from the Internal Revenue 
Service (``IRS'') a determination as to whether the form of the 
plan satisfies the requirements applicable to tax-qualified 
plans (Sec. 401(a)). In order to obtain from the IRS a 
determination letter on the qualified status of the plan, the 
employer must pay a user fee. The user fee may range from $125 
to $1,250, depending upon the scope of the request and the type 
and format of the plan.\71\
---------------------------------------------------------------------------
    \71\ Authorization for the user fees was originally enacted in 
section 10511 of the Revenue Act of 1987 (Pub. L. No. 100-203, December 
22, 1987). The authorization was extended through September 30, 2003, 
by Public Law Number 104-117 (An Act to provide that members of the 
Armed Forces performing services for the peacekeeping efforts in Bosnia 
and Herzegovina, Croatia, and Macedonia shall be entitled to tax 
benefits in the same manner as if such services were performed in a 
combat zone, and for other purposes (March 20, 1996)).
---------------------------------------------------------------------------
    Present law provides that plans that do not meet the 
qualification requirements will be treated as meeting such 
requirements if appropriate retroactive plan amendments are 
made during the remedial amendment period. In general, the 
remedial amendment period ends on the due date for the 
employer's tax return (including extensions) for the taxable 
year in which the event giving rise to the disqualifying 
provision occurred (e.g., a plan amendment or a change in the 
law). The Secretary may provide for general extensions of the 
remedial amendment period or for extensions in certain cases. 
For example, the remedial amendment period with respect to 
amendments relating to the qualification requirements affected 
by the General Agreements on Tariffs and Trade, the Uniformed 
Services Employment and Reemployment Rights Act of 1994, the 
Small Business Job Protection Act of 1996, the Taxpayer Relief 
Act of 1997, and the Internal Revenue Service Restructuring and 
Reform Act of 1998 generally ends the last day of the first 
plan year beginning on or after January 1, 2001.\72\
---------------------------------------------------------------------------
    \72\ Rev. Proc. 2000-27, 2000-26 I.R.B. 1272.
---------------------------------------------------------------------------

                           Reasons for Change

    One of the factors affecting the decision of a small 
employer to adopt a plan is the level of administrative costs 
associated with the plan. The Committee believes that reducing 
administrative costs, such as IRS user fees, will help further 
the establishment of qualified plans by small employers.

                        Explanation of Provision

    An eligible employer is not required to pay a user fee for 
a determination letter request with respect to the qualified 
status of a new retirement plan that the employer maintains and 
with respect to which the employer has not previously made a 
determination letter request. An employer is eligible under the 
provision if (1) the employer has no more than 100 employees, 
(2) the employer has at least one nonhighly compensated 
employee who is participating in the plan, and (3) during the 
three-taxable year period immediately preceding the taxable 
year in which the request is made, neither the employer nor a 
related employer established or maintained a qualified plan 
with respect to which contributions were made or benefits were 
accrued for substantially the same employees covered under the 
plan with respect to which the request is made. In addition, 
determination letter requests for which user fees are not 
required under the provision are not taken into account in 
determining average user fees. The provision applies only to 
requests by employers for determination letters concerning the 
qualified retirement plans they maintain. Therefore, a sponsor 
of a prototype plan is required to pay a user fee for a request 
for a notification letter, opinion letter, or similar ruling. 
An employer that adopts a prototype plan, however, is not 
required to pay a user fee for a determination letter request 
with respect to the employer's plan.

                             Effective Date

    The provision is effective for determination letter 
requests made after December 31, 2001.
            (l) Treatment of nonresident aliens engaged in 
                    international transportation services (Sec. 622 of 
                    the bill and Sec. 861(a)(3) of the Code)

                              Present Law

    Generally, compensation for services performed in the 
United States is treated as U.S. source income. Under a special 
rule, compensation is not treated as U.S. source income if the 
compensation is paid for labor or services performed by a 
nonresident alien in connection with the individual's temporary 
presence in the United States as a regular member of the crew 
of a foreign vessel engaged in transportation between the 
United States and a foreign country or a possession of the 
United States. However, this special rule does not apply for 
purposes of qualified retirement plans (including the minimum 
coverage and nondiscrimination requirements applicable to such 
plans), employer-provided group-term life insurance, or 
employer-provided accident and health plans.

                           Reasons for Change

    The Committee believes that nonresident aliens who are in 
the United States temporarily as crew members of foreign 
vessels engaged in transportation between the United States and 
a foreign country or a possession of the United States and who 
otherwise have no U.S. source income for Federal tax purposes 
should be disregarded in applying the nondiscrimination and 
other requirements applicable to employee benefit plans.

                        Explanation of Provision

    Under the provision, the special rule relating to 
compensation paid for labor or services performed by a 
nonresident alien in connection with the individual's temporary 
presence in the United States as a regular member of the crew 
of a foreign vessel engaged in transportation between the 
United States and a foreign country or a possession of the 
United States compensation is extended in order to apply for 
purposes of qualified retirement plans, employer-provided 
group-term life insurance, and employer-provided accident and 
health plans. Therefore, such compensation is not treated as 
U.S. source income for any purpose under such plans, including 
the application of the qualified retirement plan minimum 
coverage and nondiscrimination requirements.

                             Effective Date

    The provision is effective with respect to remuneration for 
services performed in plan years beginning after December 31, 
2001.

2. Enhancing fairness for women

            (a) Additional salary reduction catch-up contributions 
                    (Sec. 631 of the bill and Sec. 414 of the Code)

                              Present Law

Elective deferral limitations

    Under present law, under certain salary reduction 
arrangements, an employee may elect to have the employer make 
payments as contributions to a plan on behalf of the employee, 
or to the employee directly in cash. Contributions made at the 
election of the employee are called elective deferrals.
    The maximum annual amount of elective deferrals that an 
individual may make to a qualified cash or deferred arrangement 
(a ``401(k) plan''), a tax-sheltered annuity (``section 403(b) 
annuity'') or a salary reduction simplified employee pension 
plan (``SEP'') is $10,500 (for 2001). The maximum annual amount 
of elective deferrals that an individual may make to a SIMPLE 
plan is $6,500 (for 2001). These limits are adjusted annually 
for inflation for inflation in $500 increments.

Section 457 plans

    The maximum annual deferral under a deferred compensation 
plan of a State or local government or a tax-exempt 
organization (a ``section 457 plan'') is the lesser of (1) 
$8,500 (for 2001) or (2) 33\1/3\ percent of compensation. The 
$8,500 dollar limit is increased for inflation in $500 
increments. Under a special catch-up rule, the section 457 plan 
may provide that, for one or more of the participant's last 
three years before retirement, the otherwise applicable limit 
is increased to the lesser of (1) $15,000 or (2) the sum of the 
otherwise applicable limit for the year plus the amount by 
which the limit applicable in preceding years of participation 
exceeded the deferrals for that year.

                           Reasons for Change

    Although the Committee believes that individuals should be 
saving for retirement throughout their working lives, as a 
practical matter, many individuals simply do not focus on the 
amount of retirement savings they need until they near 
retirement. In addition, many individuals may have difficulty 
saving more in earlier years, e.g., because an employee leaves 
the workplace to care for a family. Some individuals may have a 
greater ability to save as they near retirement.
    The Committee believes that the pension laws should assist 
individuals who are nearing retirement to save more for their 
retirement.

                        Explanation of Provision

    The bill provides that the otherwise applicable dollar 
limit on elective deferrals under a section 401(k) plan, 
section 403(b) annuity, SEP, or SIMPLE, or deferrals under a 
section 457 plan is increased for individuals who have attained 
age 50 by the end of the year.\73\ Additional contributions 
could be made by an individual who has attained age 50 before 
the end of the plan year and with respect to whom no other 
elective deferrals may otherwise be made to the plan for the 
year because of the application of any limitation of the Code 
(e.g., the annual limit on elective deferrals) or of the plan. 
Under the provision, the additional amount of elective 
contributions that could be made by an eligible individual 
participating in such a plan is the lesser of (1) the 
applicable dollar amount or (2) the participant's compensation 
for the year reduced by any other elective deferrals of the 
participant for the year.\74\ The applicable dollar amount is 
$500 for 2002 through 2004, $1,000 for 2005 and 2006, $2,000 
for 2007, $3,000 for 2008, $4,000 for 2009, and $7,500 for 2010 
and thereafter.
---------------------------------------------------------------------------
    \73\ Another provision increases the dollar limit on elective 
deferrals under such arrangements.
    \74\ In the case of a section 457 plan, this catch-up rule does not 
apply during the participant's last three years before retirement (in 
those years, the regularly applicable dollar limit is doubled).
---------------------------------------------------------------------------
    Catch-up contributions made under the provision are not 
subject to any other contribution limits and are not taken into 
account in applying other contribution limits. In addition, 
such contributions are not subject to applicable 
nondiscrimination rules.\75\
---------------------------------------------------------------------------
    \75\ Another provision increases the dollar limit on elective 
deferrals under such arrangements.
---------------------------------------------------------------------------
    An employer is permitted to make matching contributions 
with respect to catch-up contributions. Any such matching 
contributions are subject to the normally applicable rules.
    The following examples illustrate the application of the 
provision, after the catch-up is fully phased-in.
    Example 1: Employee A is a highly compensated employee who 
is over 50 and who participates in a section 401(k) plan 
sponsored by A's employer. The maximum annual deferral limit 
(without regard to the provision) is $15,000. After application 
of the special nondiscrimination rules applicable to section 
401(k) plans, the maximum elective deferral A may make for the 
year is $8,000. Under the provision, A is able to make 
additional catch-up salary reduction contributions of $7,500.
    Example 2: Employee B, who is over 50, is a participant in 
a section 401(k) plan. B's compensation for the year is 
$30,000. The maximum annual deferral limit (without regard to 
the provision) is $15,000. Under the terms of the plan, the 
maximum permitted deferral is 10 percent of compensation or, in 
B's case, $3,000. Under the provision, B can contribute up to 
$10,500 for the year ($3,000 under the normal operation of the 
plan, and an additional $7,500 under the provision).

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2001.
            (b) Equitable treatment for contributions of employees to 
                    defined contribution plans (Sec. 632 of the bill 
                    and Secs. 403(b), 415, and 457 of the Code)

                              Present Law

    Present law imposes limits on the contributions that may be 
made to tax-favored retirement plans.

Defined contribution plans

    In the case of a tax-qualified defined contribution plan, 
the limit on annual additions that can be made to the plan on 
behalf of an employee is the lesser of $35,000 (for 2001) or 25 
percent of the employee's compensation (Sec. 415(c)). Annual 
additions include employer contributions, including 
contributions made at the election of the employee (i.e., 
employee elective deferrals), after-tax employee contributions, 
and any forfeitures allocated to the employee. For this 
purpose, compensation means taxable compensation of the 
employee, pluselective deferrals, and similar salary reduction 
contributions. A separate limit applies to benefits under a defined 
benefit plan.
    For years before January 1, 2000, an overall limit applied 
if an employee was a participant in both a defined contribution 
plan and a defined benefit plan of the same employer.

Tax-sheltered annuities

    In the case of a tax-sheltered annuity (a ``section 403(b) 
annuity''), the annual contribution generally cannot exceed the 
lesser of the exclusion allowance or the section 415(c) defined 
contribution limit. The exclusion allowance for a year is equal 
to 20 percent of the employee's includible compensation, 
multiplied by the employee's years of service, minus excludable 
contributions for prior years under qualified plans, tax-
sheltered annuities or section 457 plans of the employer.
    In addition to this general rule, employees of nonprofit 
educational institutions, hospitals, home health service 
agencies, health and welfare service agencies, and churches may 
elect application of one of several special rules that increase 
the amount of the otherwise permitted contributions. The 
election of a special rule is irrevocable; an employee may not 
elect to have more than one special rule apply.
    Under one special rule, in the year the employee separates 
from service, the employee may elect to contribute up to the 
exclusion allowance, without regard to the 25 percent of 
compensation limit under section 415. Under this rule, the 
exclusion allowance is determined by taking into account no 
more than 10 years of service.
    Under a second special rule, the employee may contribute up 
to the lesser of: (1) the exclusion allowance; (2) 25 percent 
of the participant's includible compensation; or (3) $15,000.
    Under a third special rule, the employee may elect to 
contribute up to the section 415(c) limit, without regard to 
the exclusion allowance. If this option is elected, then 
contributions to other plans of the employer are also taken 
into account in applying the limit.
    For purposes of determining the contribution limits 
applicable to section 403(b) annuities, includible compensation 
means the amount of compensation received from the employer for 
the most recent period which may be counted as a year of 
service under the exclusion allowance. In addition, includible 
compensation includes elective deferrals and similar salary 
reduction amounts.
    Treasury regulations include provisions regarding 
application of the exclusion allowance in cases where the 
employee participates in a section 403(b) annuity and a defined 
benefit plan. The Taxpayer Relief Act of 1997 directed the 
Secretary of the Treasury to revise these regulations, 
effective for years beginning after December 31, 1999, to 
reflect the repeal of the overall limit on contributions and 
benefits.

Section 457 plans

    Compensation deferred under an eligible deferred 
compensation plan of a tax-exempt or State and local 
governmental employer (a ``section 457 plan'') is not 
includible in gross income until paid or made available. In 
general, the maximum permitted annual deferral under such a 
plan is the lesser of (1) $8,500 (in 2001) or (2) 33\1/3\ 
percent of compensation. The $8,500 limit is increased for 
inflation in $500 increments.

                           Reasons for Change

    The present-law rules that limit contributions to defined 
contribution plans by a percentage of compensation reduce the 
amount that lower- and middle-income workers can save for 
retirement. The present-law limits may not allow such workers 
to accumulate adequate retirement benefits, particularly if a 
defined contribution plan is the only type of retirement plan 
maintained by the employer.
    Conforming the contribution limits for tax-sheltered 
annuities to the limits applicable to retirement plans will 
simplify the administration of the pension laws, and provide 
more equitable treatment for participants in similar types of 
plans.

                        Explanation of Provision

Increase in defined contribution plan limit

    The provision increases the 25 percent of compensation 
limitation on annual additions under a defined contribution 
plan to 50 percent for 2002 through 2010, and 100 percent for 
2011 and thereafter.\76\
---------------------------------------------------------------------------
    \76\ Another provision increases the defined contribution plan 
dollar limit.
---------------------------------------------------------------------------

Conforming limits on tax-sheltered annuities

    The provision repeals the exclusion allowance applicable to 
contributions to tax-sheltered annuities. Thus, such annuities 
are subject to the limits applicable to tax-qualified plans.
    The provision also directs the Secretary of the Treasury to 
revise the regulations relating to the exclusion allowance 
under section 403(b)(2) to render void the requirement that 
contributions to a defined benefit plan be treated as 
previously excluded amounts for purposes of the exclusion 
allowance. For taxable years beginning after December 31, 2000, 
the regulatory provisions regarding the exclusion allowance are 
applied as if the requirement that contributions to a defined 
benefit plan be treated as previously excluded amounts for 
purposes of the exclusion allowance were void.

Section 457 plans

    The provision increases the 33\1/3\ percent of compensation 
limitation on deferrals under a section 457 plan to 50 percent 
for 2002 through 2010, and 100 percent for 2011 and thereafter.

                             Effective Date

    The provision generally is effective for years beginning 
after December 31, 2001. The provision regarding the 
regulations under section 403(b)(2) is effective on the date of 
enactment. The provision regarding the repeal of the exclusion 
allowance applicable to tax-sheltered annuities is effective 
for years beginning after December 31, 2010.
            (c) Faster vesting of employer matching contributions (Sec. 
                    633 of the bill and Sec. 411 of the Code)

                              Present Law

    Under present law, a plan is not a qualified plan unless a 
participant's employer-provided benefit vests at least as 
rapidly as under one of two alternative minimum vesting 
schedules. A plan satisfies the first schedule if a participant 
acquires a nonforfeitable right to 100 percent of the 
participant's accrued benefit derived from employer 
contributions upon the completion of five years of service. A 
plan satisfies the second schedule if a participant has a 
nonforfeitable right to at least 20 percent of the 
participant's accrued benefit derived from employer 
contributions after three years of service, 40 percent after 
four years of service, 60 percent after five years of service, 
80 percent after six years of service, and 100 percent after 
seven years of service.\77\
---------------------------------------------------------------------------
    \77\ The minimum vesting requirements are also contained in Title I 
of ERISA.
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee understands that many employees, particularly 
lower- and middle-income employees, do not take full advantage 
of the retirement savings opportunities provided by their 
employer's section 401(k) plan. The Committee believes that 
providing faster vesting for matching contributions will make 
section 401(k) plans more attractive for employees, 
particularly lower- and middle-income employees, and will 
encourage employees to save more for their own retirement. In 
addition, faster vesting for matching contributions will enable 
short-service employees to accumulate greater retirement 
savings.

                        Explanation of Provision

    The provision applies faster vesting schedules to employer 
matching contributions. Under the provision, employer matching 
contributions must vest at least as rapidly as under one of the 
following two alternative minimum vesting schedules. A plan 
satisfies the first schedule if a participant acquires a 
nonforfeitable right to 100 percent of employer matching 
contributions upon the completion of three years of service. A 
plan satisfies the second schedule if a participant has a 
nonforfeitable right to 20 percent of employer matching 
contributions for each year of service beginning with the 
participant's second year of service and ending with 100 
percent after six years of service.

                             Effective Date

    The provision is effective for contributions for plan years 
beginning after December 31, 2001, with a delayed effective 
date for plans maintained pursuant to a collective bargaining 
agreement. The provision does not apply to any employee until 
the employee has an hour of service after the effective date. 
In applying the new vesting schedule, service before the 
effective date is taken into account.
            (d) Modifications to minimum distribution rules (Sec. 634 
                    of the bill and Sec. 401(a)(9) of the Code)

                              Present Law

In general

    Minimum distribution rules apply to all types of tax-
favored retirement vehicles, including qualified plans, 
individual retirement arrangements (``IRAs''), tax-sheltered 
annuities (``section 403(b) annuities''), and eligible deferred 
compensation plans of tax-exempt and State and local government 
employers (``section 457 plans''). In general, under these 
rules, distribution of minimum benefits must begin no later 
than the required beginning date. Minimum distribution rules 
also apply to benefits payable with respect to a plan 
participant who has died. Failure to comply with the minimum 
distribution rules results in an excise tax imposed on the 
individual plan participant equal to 50 percent of the required 
minimum distribution not distributed for the year. The excise 
tax may be waived if the individual establishes to the 
satisfaction of the Commissioner that the shortfall in the 
amount distributed was due to reasonable error and reasonable 
steps are being taken to remedy the shortfall. Under certain 
circumstances following the death of a participant, the excise 
tax is automatically waived under proposed Treasury 
regulations.

Distributions prior to the death of the individual

    In the case of distributions prior to the death of the plan 
participant, the minimum distribution rules are satisfied if 
either (1) the participant's entire interest in the plan is 
distributed by the required beginning date, or (2) the 
participant's interest in the plan is to be distributed (in 
accordance with regulations), beginning not later than the 
required beginning date, over a permissible period. The 
permissible periods are (1) the life of the participant, (2) 
the lives of the participant and a designated beneficiary, (3) 
the life expectancy of the participant, or (4) the joint life 
and last survivor expectancy of the participant and a 
designated beneficiary. In calculating minimum required 
distributions, life expectancies of the participant and the 
participant's spouse may be recomputed annually.
    In the case of qualified plans, tax-sheltered annuities, 
and section 457 plans, the required beginning date is the April 
1 of the calendar year following the later of (1) the calendar 
year in which the employee attains age 70\1/2\ or (2) the 
calendar year in which the employee retires. However, in the 
case of a 5-percent owner of the employer, distributions are 
required to begin no later than the April 1 of the calendar 
year following the year in which the 5-percent owner attains 
age 70\1/2\. If commencement of benefits is delayed beyond age 
70\1/2\ from a defined benefit plan, then the accrued benefit 
of the employee must be actuarially increased to take into 
accountthe period after age 70\1/2\ in which the employee was 
not receiving benefits under the plan.\78\ In the case of distributions 
from an IRA other than a Roth IRA, the required beginning date is the 
April 1 following the calendar year in which the IRA owner attains age 
70\1/2\. The pre-death minimum distribution rules do not apply to Roth 
IRAs.
---------------------------------------------------------------------------
    \78\ State and local government plans and church plans are not 
required to actuarially increase benefits that begin after age 70\1/2\.
---------------------------------------------------------------------------
    In general, under proposed Treasury regulations, in order 
to satisfy the minimum distribution rules, annuity payments 
under a defined benefit plan must be paid in periodic payments 
made at intervals not longer than one year over a permissible 
period, and must be nonincreasing, or increase only as a result 
of the following: (1) cost-of-living adjustments; (2) cash 
refunds of employee contributions; (3) benefit increases under 
the plan; or (4) an adjustment due to death of the employee's 
beneficiary. In the case of a defined contribution plan, the 
minimum required distribution is determined by dividing the 
employee's benefit by an amount from the uniform table provided 
in the proposed regulations.

Distributions after the death of the plan participant

    The minimum distribution rules also apply to distributions 
to beneficiaries of deceased participants. In general, if the 
participant dies after minimum distributions have begun, the 
remaining interest must be distributed at least as rapidly as 
under the minimum distribution method being used as of the date 
of death. If the participant dies before minimum distributions 
have begun, then the entire remaining interest must generally 
be distributed within five years of the participant's death. 
The five-year rule does not apply if distributions begin within 
one year of the participant's death and are payable over the 
life of a designated beneficiary or over the life expectancy of 
a designated beneficiary. A surviving spouse beneficiary is not 
required to begin distribution until the date the deceased 
participant would have attained age 70\1/2\.

Special rules for section 457 plans

    Eligible deferred compensation plans of State and local and 
tax-exempt employers (``section 457 plans'') are subject to the 
minimum distribution rules described above. Such plans are also 
subject to additional minimum distribution requirements (Sec. 
457(d)(2)(b)).

                           Reasons for Change

    For many years, the minimum distribution rules have been 
among the most complex of the rules relating to tax-favored 
arrangements. On January 17, 2001, the Secretary of the 
Treasury issued revised proposed regulations relating to the 
minimum distribution rules. The Committee believes that the 
implementation of these revised proposed regulations, along 
with additional statutory modifications of the minimum 
distribution rules, will result in significant simplification 
for individuals and plan administrators.

                        Explanation of Provision

    The provision applies the present-law rules applicable if 
the participant dies before distribution of minimum benefits 
has begun to all post-death distributions. Thus, in general, if 
the employee dies before his or her entire interest has been 
distributed, distribution of the remaining interest is required 
to be made within five years of the date of death, or begin 
within one year of the date of death and paid over the life or 
life expectancy of a designated beneficiary. In the case of a 
surviving spouse, distributions are not required to begin until 
the surviving spouse attains age 70\1/2\. The provision 
includes a transition rule with respect to the provision 
providing that the required beginning date in the case of a 
surviving spouse is no earlier than the April 1 of the calendar 
year following the calendar year in which the surviving spouse 
attains age 70\1/2\. In the case of an individual who died 
before the date of enactment and prior to his or her required 
beginning date and whose beneficiary is the surviving spouse, 
minimum distributions to the surviving spouse are not required 
to begin earlier than the date distributions would have been 
required to begin under present law.
    In addition, the Treasury is directed to revise the life 
expectancy tables under the applicable regulations to reflect 
current life expectancy.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (e) Clarification of tax treatment of division of section 
                    457 plan benefits upon divorce (Sec. 635 of the 
                    bill and Secs. 414(p) and 457 of the Code)

                              Present Law

    Under present law, benefits provided under a qualified 
retirement plan for a participant may not be assigned or 
alienated to creditors of the participant, except in very 
limited circumstances. One exception to the prohibition on 
assignment or alienation rule is a qualified domestic relations 
order (``QDRO''). A QDRO is a domestic relations order that 
creates or recognizes a right of an alternate payee to any plan 
benefit payable with respect to a participant, and that meets 
certain procedural requirements.
    Under present law, a distribution from a governmental plan 
or a church plan is treated as made pursuant to a QDRO if it is 
made pursuant to a domestic relations order that creates or 
recognizes a right of an alternate payee to any plan benefit 
payable with respect to a participant. Such distributions are 
not required to meet the procedural requirements that apply 
with respect to distributions from qualified plans.
    Under present law, amounts distributed from a qualified 
plan generally are taxable to the participant in the year of 
distribution. However, if amounts are distributed to the spouse 
(or former spouse) of the participant by reason of a QDRO, the 
benefits are taxable to the spouse (or former spouse). Amounts 
distributed pursuant to a QDRO to an alternate payee other than 
the spouse (or former spouse) are taxable to the plan 
participant.
    Section 457 of the Internal Revenue Code provides rules for 
deferral of compensation by an individual participating in an 
eligible deferred compensation plan (``section 457 plan'') of a 
tax-exempt or State and local government employer. The QDRO 
rules do not apply to section 457 plans.

                           reasons for change

    The Committee believes that the rules regarding qualified 
domestic relations orders should apply to all types of 
employer-sponsored retirement plans.

                        explanation of provision

    The provision applies the taxation rules for qualified plan 
distributions pursuant to a QDRO to distributions made pursuant 
to a domestic relations order from a section 457 plan. In 
addition, a section 457 plan is not treated as violating the 
restrictions on distributions from such plans due to payments 
to an alternate payee under a QDRO. The special rule applicable 
to governmental plans and church plans applies for purposes of 
determining whether a distribution is pursuant to a QDRO.

                             effective date

    The provision relating to tax treatment of distributions 
made pursuant to a domestic relations order from a section 457 
plan is effective for transfers, distributions, and payments 
made after December 31, 2001. The provisions relating to the 
waiver of restrictions on distributions and the application of 
the special rule for determining whether a distribution is 
pursuant to a QDRO is effective on January 1, 2002, except that 
in the case of a domestic relations order entered before 
January 1, 2002, the plan administrator (1) is required to 
treat such order as a QDRO if the administrator is paying 
benefits pursuant to such order on January 1, 2002, and (2) is 
permitted to treat any other such order entered before January 
1, 2002, as a QDRO even if such order does not meet the 
relevant requirements of the provision.
            (f) Provisions relating to hardship withdrawals (Sec. 636 
                    of the bill and Secs. 401(k) and 402 of the Code)

                              present law

    Elective deferrals under a qualified cash or deferred 
arrangement (a ``section 401(k) plan'') may not be 
distributable prior to the occurrence of one or more specified 
events. One event upon which distribution is permitted is the 
financial hardship of the employee. Applicable Treasury 
regulations\79\ provide that a distribution is made on account 
of hardship only if the distribution is made on account of an 
immediate and heavy financial need of the employee and is 
necessary to satisfy the heavy need.
---------------------------------------------------------------------------
    \79\ Treas. Reg. sec. 1.401(k)-1.
---------------------------------------------------------------------------
    The Treasury regulations provide a safe harbor under which 
a distribution may be deemed necessary to satisfy an immediate 
and heavy financial need. One requirement of this safe harbor 
is that the employee be prohibited from making elective 
contributions and employee contributions to the plan and all 
other plans maintained by the employer for at least 12 months 
after receipt of the hardship distribution.
    Under present law, hardship withdrawals of elective 
deferrals from a qualified cash or deferred arrangement (or 
403(b) annuity) are not eligible rollover distributions. Other 
types of hardship distributions, e.g., employer matching 
contributions distributed on account of hardship, are eligible 
rollover distributions. Different withholding rules apply to 
distributions that are eligible rollover distributions and to 
distributions that are not eligible rollover distributions. 
Eligible rollover distributions that are not directly rolled 
over are subject to withholding at a flat rate of 20-percent. 
Distributions that are not eligible rollover distributions are 
subject to elective withholding. Periodic distributions are 
subject to withholding as if the distribution were wages; 
nonperiodic distributions are subject to withholding at a rate 
of 10 percent. In either case, the individual may elect not to 
have withholding apply.

                           reasons for change

    Although the Committee believes that it is appropriate to 
restrict the circumstances in which an in-service distribution 
from a 401(k) plan is permitted and to encourage participants 
to take such distributions only when necessary to satisfy an 
immediate and heavy financial need, the Committee is concerned 
about the impact that a 12-month suspension of contributions 
may have on the retirement savings of a participant who 
experiences a hardship. The Committee believes that the 
combination of a six-month contribution suspension and the 
other elements of the regulatory safe harbor will provide an 
adequate incentive for a participant to seek sources of funds 
other than his or her 401(k) plan account balance in order to 
satisfy financial hardships.
    The present-law rules regarding the ability to rollover 
hardship distributions create administrative burdens for plan 
administrators and confusion on the part of plan participants. 
The Committee believes that providing a uniform rule for all 
hardship distributions will simplify application of the 
rollover rules.

                        explanation of provision

    The Secretary of the Treasury is directed to revise the 
applicable regulations to reduce from 12 months to six months 
the period during which an employee must be prohibited from 
making elective contributions and employee contributions in 
order for a distribution to be deemed necessary to satisfy an 
immediate and heavy financial need. The revised regulations are 
effective for years beginning after December 31, 2001.
    In addition, any distribution made upon hardship of an 
employee is not an eligible rollover distribution. Thus, such 
distributions are not permitted to be rolled over, and are 
subject to the withholding rules applicable to distributions 
that are not eligible rollover distributions. The provision 
does not modify the rules under which hardship distributions 
may be made. For example, as under present law, hardship 
distributions of qualified employer matching contributions are 
only permitted under the rules applicable to elective 
deferrals.
    The provision is intended to clarify that all assets 
distributed as a hardship withdrawal, including assets 
attributable to employee elective deferrals and those 
attributable to employermatching or nonelective contributions, 
are ineligible for rollover. This rule is intended to apply to all 
hardship distributions from any tax qualified plan, including those 
made pursuant to standards set forth in section 401(k)(2)(B)(i)(IV) 
(which are applicable to section 401(k) plans and section 403(b) 
annuities) and to those treated as hardship distributions under any 
profit-sharing plan (whether or not in accordance with the standards 
set forth in section 401(k)(2)(B)(i)(IV)). For this purpose, a 
distribution that could be made either under the hardship provisions of 
a plan or under other provisions of the plan (such as provisions 
permitting in-service withdrawal of assets attributable to employer 
matching or nonelective contributions after a fixed period of years) 
could be treated as made upon hardship of the employee if the plan 
treats it that way. For example, if a plan makes an in-service 
distribution that consists of assets attributable to both elective 
deferrals (in circumstances where those assets could be distributed 
only upon hardship) and employer matching or nonelective contributions 
(which could be distributed in nonhardship circumstances under the 
plan), the plan is permitted to treat the distribution in its entirety 
as made upon hardship of the employee.

                             effective date

    The provision directing the Secretary to revise the rules 
relating to safe harbor hardship distributions is effective on 
the date of enactment. The provision providing that hardship 
distributions are not eligible rollover distributions is 
effective distributions made after December 31, 2001. The 
Secretary is authorized to issue transitional guidance with 
respect to the provision of the bill providing that hardship 
distributions are not eligible rollover distributions to 
provide sufficient time for plans to implement the new rule.
            (g) Pension coverage for domestic and similar workers (Sec. 
                    637 of the bill and Sec. 4972(c)(6) of the Code)

                              present law

    Under present law, within limits, employers may make 
deductible contributions to qualified retirement plans for 
employees. Subject to certain exception, a 10-percent excise 
tax applies to nondeductible contributions to such plans.
    Employers of household workers may establish a pension plan 
for their employees. Contributions to such plans are not 
deductible because they are not made in connection with a trade 
or business of the employer.

                           reasons for change

    Under present law, individuals who employ domestic and 
similar workers may be discouraged from providing pension plan 
coverage for such employees because of the possible adverse tax 
consequences from making nondeductible contributions. As a 
result, such workers, who are typically lower income, may be 
denied the opportunity for tax-favored retirement savings. The 
Committee believes that such individuals who employ such 
workers should be encouraged to provide pension coverage.

                        explanation of provision

    Under the provision, the 10-percent excise tax on 
nondeductible contributions does not apply to contributions to 
a SIMPLE plan or a SIMPLE individual retirement account, which 
are nondeductible solely because the contributions are not a 
trade or business expense under section 162. Thus, for example, 
employers of household workers are able to make contributions 
to such plans without imposition of the excise tax. As under 
present law, the contributions are not deductible. The present-
law rules applicable to such plans, e.g., contribution limits 
and nondiscrimination rules, continue to apply. The provision 
does not apply with respect to contributions on behalf of the 
individual and members of his or her family.
    No inference is intended with respect to the application of 
the excise tax under present law to contributions that are not 
deductible because they are not made in connection with a trade 
or business of the employer.
    As under present law, a plan covering domestic workers is 
not qualified unless the coverage rules are satisfied by 
aggregating all employees of family members taken into account 
under the attribution rules in section 414(c), but disregarding 
employees employed by a controlled group of corporations or a 
trade or business.

                             effective date

    The provision is effective for taxable years beginning 
after December 31, 2001.

3. Increasing portability for participants

            (a) Rollovers of retirement plan and IRA distributions 
                    (Secs. 641-643 and 649 of the bill and Secs. 401, 
                    402, 403(b), 408, 457, and 3405 of the Code)

                              present law

In general

    Present law permits the rollover of funds from a tax-
favored retirement plan to another tax-favored retirement plan. 
The rules that apply depend on the type of plan involved. 
Similarly, the rules regarding the tax treatment of amounts 
that are not rolled over depend on the type of plan involved.

Distributions from qualified plans

    Under present law, an ``eligible rollover distribution'' 
from a tax-qualified employer-sponsored retirement plan may be 
rolled over tax free to a traditional individual retirement 
arrangement (``IRA'')\80\ or another qualified plan.\81\ An 
``eligible rollover distribution'' means any distribution to an 
employee of all or any portion of the balance to the credit of 
the employee in a qualified plan, except the term does not 
include (1) any distribution which is one of a series of 
substantially equal periodic payments made (a) for the life (or 
life expectancy) of the employee or the joint lives (or joint 
life expectancies) of the employee and the employee's 
designated beneficiary, or (b) for a specified period of 10 
years or more, (2) any distribution to the extent such 
distribution is required under the minimum distribution rules, 
and (3) certain hardship distributions. The maximum amount that 
can be rolled over is the amount of the distribution includible 
in income, i.e., after-tax employee contributions cannot be 
rolled over. Qualified plans are not required to accept 
rollovers.
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    \80\ A ``traditional'' IRA refers to IRAs other than Roth IRAs or 
SIMPLE IRAs. All references to IRAs refer only to traditional IRAs.
    \81\  An eligible rollover distribution may either be rolled over 
by the distributee within 60 days of the date of the distribution or, 
as described below, directly rolled over by the distributing plan.
---------------------------------------------------------------------------

Distributions from tax-sheltered annuities

    Eligible rollover distributions from a tax-sheltered 
annuity (``section 403(b) annuity'') may be rolled over into an 
IRA or another section 403(b) annuity. Distributions from a 
section 403(b) annuity cannot be rolled over into a tax-
qualified plan. Section 403(b) annuities are not required to 
accept rollovers.

IRA distributions

    Distributions from a traditional IRA, other than minimum 
required distributions, can be rolled over into another IRA. In 
general, distributions from an IRA cannot be rolled over into a 
qualified plan or section 403(b) annuity. An exception to this 
rule applies in the case of so-called ``conduit IRAs.'' Under 
the conduit IRA rule, amounts can be rolled from a qualified 
plan into an IRA and then subsequently rolled back to another 
qualified plan if the amounts in the IRA are attributable 
solely to rollovers from a qualified plan. Similarly, an amount 
may be rolled over from a section 403(b) annuity to an IRA and 
subsequently rolled back into a section 403(b) annuity if the 
amounts in the IRA are attributable solely to rollovers from a 
section 403(b) annuity.

Distributions from section 457 plans

    A ``section 457 plan'' is an eligible deferred compensation 
plan of a State or local government or tax-exempt employer that 
meets certain requirements. In some cases, different rules 
apply under section 457 to governmental plans and plans of tax-
exempt employers. For example, governmental section 457 plans 
are like qualified plans in that plan assets are required to be 
held in a trust for the exclusive benefit of plan participants 
and beneficiaries. In contrast, benefits under a section 457 
plan of a tax-exempt employer are unfunded, like nonqualified 
deferred compensation plans of private employers.
    Section 457 benefits can be transferred to another section 
457 plan. Distributions from a section 457 plan cannot be 
rolled over to another section 457 plan, a qualified plan, a 
section 403(b) annuity, or an IRA.

Rollovers by surviving spouses

    A surviving spouse that receives an eligible rollover 
distribution may roll over the distribution into an IRA, but 
not a qualified plan or section 403(b) annuity.

Direct rollovers and withholding requirements

    Qualified plans and section 403(b) annuities are required 
to provide that a plan participant has the right to elect that 
an eligible rollover distribution be directly rolled over to 
another eligible retirement plan. If the plan participant does 
not elect the direct rollover option, then withholding is 
required on the distribution at a 20-percent rate.

Notice of eligible rollover distribution

    The plan administrator of a qualified plan or a section 
403(b) annuity is required to provide a written explanation of 
rollover rules to individuals who receive a distribution 
eligible for rollover. In general, the notice is to be provided 
within a reasonable period of time before making the 
distribution and is to include an explanation of (1) the 
provisions under which the individual may have the distribution 
directly rolled over to another eligible retirement plan, (2) 
the provision that requires withholding if the distribution is 
not directly rolled over, (3) the provision under which the 
distribution may be rolled over within 60 days of receipt, and 
(4) if applicable, certain other rules that may apply to the 
distribution. The Treasury Department has provided more 
specific guidance regarding timing and content of the notice.

Taxation of distributions

    As is the case with the rollover rules, different rules 
regarding taxation of benefits apply to different types of tax-
favored arrangements. In general, distributions from a 
qualified plan, section 403(b) annuity, or IRA are includible 
in income in the year received. In certain cases, distributions 
from qualified plans are eligible for capital gains treatment 
and averaging. These rules do not apply to distributions from 
another type of plan. Distributions from a qualified plan, IRA, 
and section 403(b) annuity generally are subject to an 
additional 10-percent early withdrawal tax if made before age 
59\1/2\. There are a number of exceptions to the early 
withdrawal tax. Some of the exceptions apply to all three types 
of plans, and others apply only to certain types of plans. For 
example, the 10-percent early withdrawal tax does not apply to 
IRA distributions for educational expenses, but does apply to 
similar distributions from qualified plans and section 403(b) 
annuities. Benefits under a section 457 plan are generally 
includible in income when paid or made available. The 10-
percent early withdrawal tax does not apply to section 457 
plans.

                           Reasons for Change

    Present law encourages individuals who receive 
distributions from qualified plans and similar arrangements to 
save those distributions for retirement by facilitating tax-
free rollovers to an IRA or another qualified plan. The 
Committee believes that expanding the rollover options for 
individuals in employer-sponsored retirement plans and owners 
of IRAs will provide further incentives for individuals to 
continue to accumulate funds for retirement. The Committee 
believes it appropriate to extend the same rollover rules to 
governmental section 457 plans; like qualified plans, such 
plans are required to hold plan assets in trust for employees.

                        Explanation of Provision

In general

    The bill provides that eligible rollover distributions from 
qualified retirement plans, section 403(b) annuities, and 
governmental section 457 plans generally may be rolled over to 
any of such plans or arrangements.\82\ Similarly, distributions 
from an IRA generally are permitted to be rolled over into a 
qualified plan, section 403(b) annuity, or governmental section 
457 plan. The direct rollover and withholding rules are 
extended to distributions from a governmental section 457 plan, 
and such plans are required to provide the written notification 
regarding eligible rollover distributions. The rollover notice 
(with respect to all plans) is required to include a 
description of the provisions under which distributions from 
the plan to which the distribution is rolled over may be 
subject to restrictions and tax consequences different than 
those applicable to distributions from the distributing plan. 
Qualified plans, section 403(b) annuities, and section 457 
plans are not required to accept rollovers.
---------------------------------------------------------------------------
    \82\ Hardship distributions from governmental section 457 plans are 
considered eligible rollover distributions.
---------------------------------------------------------------------------
    Some special rules apply in certain cases. A distribution 
from a qualified plan is not eligible for capital gains or 
averaging treatment if there was a rollover to the plan that 
would not have been permitted under present law. Thus, in order 
to preserve capital gains and averaging treatment for a 
qualified plan distribution that is rolled over, the rollover 
must be made to a ``conduit IRA'' as under present law, and 
then rolled back into a qualified plan. Amounts distributed 
from a section 457 plan are subject to the early withdrawal tax 
to the extent the distribution consists of amounts attributable 
to rollovers from another type of plan. Section 457 plans are 
required to separately account for such amounts.

Rollover of after-tax contributions

    The bill provides that employee after-tax contributions may 
be rolled over into another qualified plan or a traditional 
IRA. In the case of a rollover from a qualified plan to another 
qualified plan, the rollover is permitted to be accomplished 
only through a direct rollover. In addition, a qualified plan 
is not permitted to accept rollovers of after-tax contributions 
unless the plan provides separate accounting for such 
contributions (and earnings thereon). After-tax contributions 
(including nondeductible contributions to an IRA) are not 
permitted to be rolled over from an IRA into a qualified plan, 
tax-sheltered annuity, or section 457 plan.
    In the case of a distribution from a traditional IRA that 
is rolled over into an eligible rollover plan that is not an 
IRA, the distribution is attributed first to amounts other than 
after-tax contributions.

Expansion of spousal rollovers

    The bill provides that surviving spouses may roll over 
distributions to a qualified plan, section 403(b) annuity, or 
governmental section 457 plan in which the spouse participates.

Treasury regulations

    The Secretary is directed to prescribe rules necessary to 
carry out the provisions. Such rules may include, for example, 
reporting requirements and mechanisms to address mistakes 
relating to rollovers. It is anticipated that the IRS will 
develop forms to assist individuals who roll over after-tax 
contributions to an IRA in keeping track of such contributions. 
Such forms could, for example, expand Form 8606--Nondeductible 
IRAs, to include information regarding after-tax contributions.

                             Effective Date

    The provision is effective for distributions made after 
December 31, 2001.
            (b) Waiver of 60-day rule (sec. 644 of the bill and Secs. 
                    402 and 408 of the Code)

                              Present Law

    Under present law, amounts received from an IRA or 
qualified plan may be rolled over tax free if the rollover is 
made within 60 days of the date of the distribution. The 
Secretary does not have the authority to waive the 60-day 
requirement, except during military service in a combat zone or 
by reason of a Presidentially declared disaster. The Secretary 
has issued regulations postponing the 60-day rule in such 
cases.

                           Reasons for Change

    The inability of the Secretary to waive the 60-day rollover 
period may result in adverse tax consequences for individuals. 
The Committee believes such harsh results are inappropriate and 
that providing for waivers of the rule will help facilitate 
rollovers.

                        Explanation of Provision

    The bill provides that the Secretary may waive the 60-day 
rollover period if the failure to waive such requirement would 
be against equity or good conscience, including cases of 
casualty, disaster, or other events beyond the reasonable 
control of the individual subject to such requirement. For 
example, the Secretary may issue guidance that includes 
objective standards for a waiver of the 60-day rollover period, 
such as waiving the rule due to military service in a combat 
zone or during a Presidentially declared disaster (both of 
which are provided for under present law), or for a period 
during which the participant has received payment in the form 
of a check, but has not cashed the check, or for errors 
committed by a financial institution.

                             Effective Date

    The provision applies to distributions made after December 
31, 2001.
            (c) Treatment of forms of distribution (Sec. 645 of the 
                    bill and Sec. 411(d)(6) of the Code)

                              Present Law

    An amendment of a qualified retirement plan may not 
decrease the accrued benefit of a plan participant. An 
amendment is treated as reducing an accrued benefit if, with 
respect to benefits accrued before the amendment is adopted, 
the amendment has the effect of either (1) eliminating or 
reducing an early retirement benefit or a retirement-type 
subsidy, or (2) except as provided by Treasury regulations, 
eliminating an optional form of benefit (Sec. 411(d)(6)).\83\
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    \83\ A similar provision is contained in Title I of ERISA.
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    Under regulations recently issued by the Secretary,\84\ 
this prohibition against the elimination of an optional form of 
benefit does not apply in the case of (1) a defined 
contribution plan that offers a lump sum at the same time as 
the form being eliminated if the participant receives at least 
90 days' advance notice of the elimination, or (2) a voluntary 
transfer between defined contribution plans, subject to the 
requirements that a transfer from a money purchase pension 
plan, an ESOP, or a section 401(k) plan must be to a plan of 
the same type and that the transfer be made in connection with 
certain corporate mergers, acquisitions, or similar 
transactions or changes in employment status.
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    \84\ Treas. Reg. sec. 1.411(d)-4, Q&A-2(e) and Q&A-(3)(b).
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee understands that the application of the 
prohibition against the elimination of any optional form of 
benefit frequently results in complexity and confusion, 
especially in the context of business acquisitions and similar 
transactions, and makes it difficult for participants to 
understand their benefit options and make choices that are 
best-suited to their needs. The Committee believes that it is 
appropriate to permit the elimination of duplicative benefit 
options that develop following plan mergers and similar events 
while ensuring that meaningful early retirement benefit payment 
options and subsidies may not be eliminated.

                        Explanation of Provision

    A defined contribution plan to which benefits are 
transferred is not treated as reducing a participant's or 
beneficiary's accrued benefit even though it does not provide 
all of the forms of distribution previously available under the 
transferor plan if (1) the plan receives from another defined 
contribution plan a direct transfer of the participant's or 
beneficiary's benefit accrued under the transferor plan, or the 
plan results from a merger or other transaction that has the 
effect of a direct transfer (including consolidations of 
benefits attributable to different employers within a multiple 
employer plan), (2) the terms of both the transferor plan and 
the transferee plan authorize the transfer, (3) the transfer 
occurs pursuant to a voluntary election by the participant or 
beneficiary that is made after the participant or beneficiary 
received a notice describing the consequences of making the 
election, and (4) the transferee plan allows the participant 
orbeneficiary to receive distribution of his or her benefit under the 
transferee plan in the form of a single sum distribution.
    Furthermore, the provision directs the Secretary of the 
Treasury to provide by regulations that the prohibitions 
against eliminating or reducing an early retirement benefit, a 
retirement-type subsidy, or an optional form of benefit do not 
apply to plan amendments that eliminate or reduce early 
retirement benefits, retirement-type subsidies, and optional 
forms of benefit that create significant burdens and 
complexities for a plan and its participants, but only if such 
an amendment does not adversely affect the rights of any 
participant in more than a de minimis manner.
    It is intended that the factors to be considered in 
determining whether an amendment has more than a de minimis 
adverse effect on any participant will include (1) all of the 
participant's early retirement benefits, retirement-type 
subsidies, and optional forms of benefits that are reduced or 
eliminated by the amendment, (2) the extent to which early 
retirement benefits, retirement-type subsidies, and optional 
forms of benefit in effect with respect to a participant after 
the amendment effective date provide rights that are comparable 
to the rights that are reduced or eliminated by the plan 
amendment, (3) the number of years before the participant 
attains normal retirement age under the plan (or early 
retirement age, as applicable), (4) the size of the 
participant's benefit that is affected by the plan amendment, 
in relation to the amount of the participant's compensation, 
and (5) the number of years before the plan amendment is 
effective.
    The Secretary is directed to issue, not later than December 
31, 2002, final regulations under section 411(d)(6), including 
regulations required under the provision.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001, except that the direction to the Secretary 
is effective on the date of enactment.
            (d) Rationalization of restrictions on distributions (Sec. 
                    646 of the bill and Secs. 401(k), 403(b), and 457 
                    of the Code)

                              Present Law

    Elective deferrals under a qualified cash or deferred 
arrangement (``section 401(k) plan''), tax-sheltered annuity 
(``section 403(b) annuity''), or an eligible deferred 
compensation plan of a tax-exempt organization or State or 
local government (``section 457 plan''), may not be 
distributable prior to the occurrence of one or more specified 
events. These permissible distributable events include 
``separation from service.''
    A separation from service occurs only upon a participant's 
death, retirement, resignation or discharge, and not when the 
employee continues on the same job for a different employer as 
a result of the liquidation, merger, consolidation or other 
similar corporate transaction. A severance from employment 
occurs when a participant ceases to be employed by the employer 
that maintains the plan. Under a so-called ``same desk rule,'' 
a participant's severance from employment does not necessarily 
result in a separation from service.
    In addition to separation from service and other events, a 
section 401(k) plan that is maintained by a corporation may 
permit distributions to certain employees who experience a 
severance from employment with the corporation that maintains 
the plan but do not experience a separation from service 
because the employees continue on the same job for a different 
employer as a result of a corporate transaction. If the 
corporation disposes of substantially all of the assets used by 
the corporation in a trade or business, a distributable event 
occurs with respect to the accounts of the employees who 
continue employment with the corporation that acquires the 
assets. If the corporation disposes of its interest in a 
subsidiary, a distributable event occurs with respect to the 
accounts of the employees who continue employment with the 
subsidiary. Under a recent IRS ruling, a person is generally 
deemed to have separated from service if that person is 
transferred to another employer in connection with a sale of 
less than substantially all the assets of a trade or 
business.\85\
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    \85\ Rev. Rul. 2000-27, 2000-21 I.R.B. 1016.
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee believes that application of the ``same 
desk'' rule is inappropriate because it hinders portability of 
retirement benefits, creates confusion for employees, and 
results in significant administrative burdens for employers 
that engage in business acquisition transactions.

                        Explanation of Provision

    The provision modifies the distribution restrictions 
applicable to section 401(k) plans, section 403(b) annuities, 
and section 457 plans to provide that distribution may occur 
upon severance from employment rather than separation from 
service. In addition, the provisions for distribution from a 
section 401(k) plan based upon a corporation's disposition of 
its assets or a subsidiary are repealed; this special rule is 
no longer necessary under the provision.

                             Effective Date

    The provision is effective for distributions after December 
31, 2001, regardless of when the severance of employment 
occurred.
            (e) Purchase of service credit under governmental pension 
                    plans (Sec. 647 of the bill and Secs. 403(b) and 
                    457 of the Code)

                              Present Law

    A qualified retirement plan maintained by a State or local 
government employer may provide that a participant may make 
after-tax employee contributions in order to purchase 
permissive service credit, subject to certain limits (Sec. 
415). Permissive service credit means credit for a period of 
service recognized by the governmental plan only if the 
employee voluntarily contributes to the plan an amount (as 
determined by the plan) that does not exceed the amount 
necessary to fund the benefit attributable to the period of 
service and that is in addition to the regular employee 
contributions, if any, under the plan.
    In the case of any repayment of contributions and earnings 
to a governmental plan with respect to an amount previously 
refunded upon a forfeiture of service credit under the plan (or 
another plan maintained by a State or local government employer 
within the same State), any such repayment is not taken into 
account for purposes of the section 415 limits on contributions 
and benefits. Also, service credit obtained as a result of such 
a repayment is not considered permissive service credit for 
purposes of the section 415 limits.
    A participant may not use a rollover or direct transfer of 
benefits from a tax-sheltered annuity (``section 403(b) 
annuity'') or an eligible deferred compensation plan of a tax-
exempt organization of a State or local government (``section 
457 plan'') to purchase permissive service credits or repay 
contributions and earnings with respect to a forfeiture of 
service credit.

                           Reasons for Change

    The Committee understands that many employees work for 
multiple State or local government employers during their 
careers. The Committee believes that allowing such employees to 
use their section 403(b) annuity and section 457 plan accounts 
to purchase permissive service credits or make repayments with 
respect to forfeitures of service credit will result in more 
significant retirement benefits for employees who would not 
otherwise be able to afford such credits or repayments.

                        Explanation of Provision

    A participant in a State or local governmental plan is not 
required to include in gross income a direct trustee-to-trustee 
transfer to a governmental defined benefit plan from a section 
403(b) annuity or a section 457 plan if the transferred amount 
is used (1) to purchase permissive service credits under the 
plan, or (2) to repay contributions and earnings with respect 
to an amount previously refunded under a forfeiture of service 
credit under the plan (or another plan maintained by a State or 
local government employer within the same State).

                             Effective Date

    The provision is effective for transfers after December 31, 
2001.
            (f) Employers may disregard rollovers for purposes of cash-
                    out rules (Sec. 648 of the bill and Sec. 411(a)(11) 
                    of the Code)

                              Present Law

    If a qualified retirement plan participant ceases to be 
employed by the employer that maintains the plan, the plan may 
distribute the participant's nonforfeitable accrued benefit 
without the consent of the participant and, if applicable, the 
participant's spouse, if the present value of the benefit does 
not exceed $5,000. If such an involuntary distribution occurs 
and the participant subsequently returns to employment covered 
by the plan, then service taken into account in computing 
benefits payable under the plan after the return need not 
include service with respect to which a benefit was 
involuntarily distributed unless the employee repays the 
benefit.\86\
---------------------------------------------------------------------------
    \86\ A similar provision is contained in Title I of ERISA.
---------------------------------------------------------------------------
    Generally, a participant may roll over an involuntary 
distribution from a qualified plan to an IRA or to another 
qualified plan.\87\
---------------------------------------------------------------------------
    \87\ Other provisions expand the kinds of plans to which benefits 
may be rolled over.
---------------------------------------------------------------------------

                           Reasons for Change

    The present-law cash-out rule reflects a balancing of 
various policies. On the one hand is the desire to assist 
individuals to save for retirement by making it easier to keep 
retirement funds in tax-favored vehicles. On the other hand is 
the recognition that keeping track of small account balances of 
former employees creates administrative burdens for plans.
    The Committee is concerned that, in some cases, the cash-
out rule may discourage plans from accepting rollovers because 
the rollover will increase participants' benefits to above the 
cash-out amount, and increase administrative burdens. The 
Committee believes that disregarding rollovers for purposes of 
the cash-out rule will further the intent of the cash-out rule 
by removing a possible disincentive for plans to accept 
rollovers.

                        Explanation of Provision

    A plan is permitted to provide that the present value of a 
participant's nonforfeitable accrued benefit is determined 
without regard to the portion of such benefit that is 
attributable to rollover contributions (and any earnings 
allocable thereto).

                             Effective Date

    The provision is effective for distributions after December 
31, 2001.
            (g) Minimum distribution and inclusion requirements for 
                    section 457 plans (Sec. 649 of the bill and Sec. 
                    457 of the Code)

                              Present Law

    A ``section 457 plan'' is an eligible deferred compensation 
plan of a State or local government or tax-exempt employer that 
meets certain requirements. For example, amounts deferred under 
a section 457 plan cannot exceed certain limits. Amounts 
deferred under a section 457 plan are generally includible in 
income when paid or made available. Amounts deferred under a 
plan of deferred compensation of a State or local government or 
tax-exempt employer that does not meet the requirements of 
section 457 are includible in income when theamounts are not 
subject to a substantial risk of forfeiture, regardless of whether the 
amounts have been paid or made available.\88\
---------------------------------------------------------------------------
    \88\ This rule of inclusion does not apply to amounts deferred 
under a tax-qualified retirement plan or similar plans.
---------------------------------------------------------------------------
    Section 457 plans are subject to the minimum distribution 
rules applicable to tax-qualified pension plans. In addition, 
such plans are subject to additional minimum distribution rules 
(Sec. 457(d)(2)(B)).

                           Reasons for Change

    The Committee believes that the rules for timing of 
inclusion of benefits under a governmental section 457 plan 
should be conformed to the rules relating to qualified plans. 
The Committee also believes that section 457 plans should be 
subject to the same minimum distribution rules applicable to 
qualified plans.

                        Explanation of Provision

    The bill provides that amounts deferred under a section 457 
plan of a State or local government are includible in income 
when paid. The provision also repeals the special minimum 
distribution rules applicable to section 457 plans. Thus, such 
plans are subject to the minimum distribution rules applicable 
to qualified plans.

                             Effective Date

    The provision is effective for distributions after December 
31, 2001.

4. Strengthening pension security and enforcement

            (a) Phase-in repeal of 160 percent of current liability 
                    funding limit; deduction for contributions to fund 
                    termination liability (Secs. 651 and 652 of the 
                    bill and Secs. 404(a)(1), 412(c)(7), and 4972(c) of 
                    the Code)

                              Present Law

    Under present law, defined benefit pension plans are 
subject to minimum funding requirements designed to ensure that 
pension plans have sufficient assets to pay benefits. A defined 
benefit pension plan is funded using one of a number of 
acceptable actuarial cost methods.
    No contribution is required under the minimum funding rules 
in excess of the full funding limit. The full funding limit is 
generally defined as the excess, if any, of (1) the lesser of 
(a) the accrued liability under the plan (including normal 
cost) or (b) 160 percent of the plan's current liability, over 
(2) the value of the plan's assets (Sec. 412(c)(7)).\89\ In 
general, current liability is all liabilities to plan 
participants and beneficiaries accrued to date, whereas the 
accrued liability full funding limit is based on projected 
benefits. The current liability full funding limit is scheduled 
to increase as follows: 165 percent for plan years beginning in 
2003 and 2004, and 170 percent for plan years beginning in 2005 
and thereafter.\90\ In no event is a plan's full funding limit 
less than 90 percent of the plan's current liability over the 
value of the plan's assets.
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    \89\ The minimum funding requirements, including the full funding 
limit, are also contained in title I of ERISA.
    \90\ As originally enacted in the Pension Protection Act of 1997, 
the current liability full funding limit was 150 percent of current 
liability. The Taxpayer Relief Act of 1997 increased the current 
liability full funding limit to 155 percent in 1999 and 2000, 160 
percent in 2001 and 2002, and adopted the scheduled increases described 
in the text.
---------------------------------------------------------------------------
    An employer sponsoring a defined benefit pension plan 
generally may deduct amounts contributed to satisfy the minimum 
funding standard for the plan year. Contributions in excess of 
the full funding limit generally are not deductible. Under a 
special rule, an employer that sponsors a defined benefit 
pension plan (other than a multiemployer plan) which has more 
than 100 participants for the plan year may deduct amounts 
contributed of up to 100 percent of the plan's unfunded current 
liability.

                           Reasons for Change

    The Committee is concerned that the current liability full 
funding limit, which focuses on current but not projected 
benefits, may result in inadequate funding of pension plans and 
thus jeopardize pension security. The Committee believes that 
repealing the current liability full funding limit will 
encourage responsible pension funding and help ensure that plan 
participants receive promised benefits. Also, the Committee 
believes that the special deduction rule should be expanded to 
give more plan sponsors incentives to adequately fund their 
plans.

                        Explanation of Provision

Current liability full funding limit

    The provision gradually increases and then repeals the 
current liability full funding limit. The current liability 
full funding limit is 160 percent of current liability for plan 
years beginning in 2002, 165 percent for plan years beginning 
in 2003, and 170 percent for plan years beginning in 2004. The 
current liability full funding limit is repealed for plan years 
beginning in 2005 and thereafter. Thus, in 2005 and thereafter, 
the full funding limit is the excess, if any, of (1) the 
accrued liability under the plan (including normal cost), over 
(2) the value of the plan's assets.

Deduction for contributions to fund termination liability

    The special rule allowing a deduction for unfunded current 
liability generally is extended to all defined benefit pension 
plans, i.e., the provision applies to multiemployer plans and 
plans with 100 or fewer participants. The special rule does not 
apply to plans not covered by the PBGC termination insurance 
program.\91\
---------------------------------------------------------------------------
    \91\ The PBGC termination insurance program does not cover plans of 
professional service employers that have fewer than 25 participants.
---------------------------------------------------------------------------
    The provision also modifies the special rule by providing 
that the deduction is for up to 100 percent of unfunded 
termination liability, determined as if the plan terminated at 
the end of the plan year. In the case of a plan with less than 
100 participants for the plan year, termination liability does 
not include the liability attributable to benefit increases for 
highly compensated employees resulting from a plan amendment 
which was made or became effective, whichever is later, within 
the last two years.

                             Effective Date

    The provision is effective for plan years beginning after 
December 31, 2001.
            (b) Excise tax relief for sound pension funding (Sec. 653 
                    of the bill and Sec. 4972 of the Code)

                              Present Law

    Under present law, defined benefit pension plans are 
subject to minimum funding requirements designed to ensure that 
pension plans have sufficient assets to pay benefits. A defined 
benefit pension plan is funded using one of a number of 
acceptable actuarial cost methods.
    No contribution is required under the minimum funding rules 
in excess of the full funding limit. The full funding limit is 
generally defined as the excess, if any, of (1) the lesser of 
(a) the accrued liability under the plan (including normal 
cost) or (b) 160 percent of the plan's current liability, over 
(2) the value of the plan's assets (Sec. 412(c)(7)). In 
general, current liability is all liabilities to plan 
participants and beneficiaries accrued to date, whereas the 
accrued liability full funding limit is based on projected 
benefits. The current liability full funding limit is scheduled 
to increase as follows: 165 percent for plan years beginning in 
2003 and 2004, and 170 percent for plan years beginning in 2005 
and thereafter.\92\ In no event is a plan's full funding limit 
less than 90 percent of the plan's current liability over the 
value of the plan's assets.
---------------------------------------------------------------------------
    \92\ As originally enacted in the Pension Protection Act of 1997, 
the current liability full funding limit was 150 percent of current 
liability. The Taxpayer Relief Act of 1997 increased the current 
liability full funding limit to 155 percent in 1999 and 2000, 160 
percent in 2001 and 2002, and adopted the scheduled increases described 
in the text. Another provision gradually increases and then repeals the 
current liability full funding limit.
---------------------------------------------------------------------------
    An employer sponsoring a defined benefit pension plan 
generally may deduct amounts contributed to satisfy the minimum 
funding standard for the plan year. Contributions in excess of 
the full funding limit generally are not deductible. Under a 
special rule, an employer that sponsors a defined benefit 
pension plan (other than a multiemployer plan) which has more 
than 100 participants for the plan year may deduct amounts 
contributed of up to 100 percent of the plan's unfunded current 
liability.
    Present law also provides that contributions to defined 
contribution plans are deductible, subject to certain 
limitations.
    Subject to certain exceptions, an employer that makes 
nondeductible contributions to a plan is subject to an excise 
tax equal to 10 percent of the amount of the nondeductible 
contributions for the year. The 10-percent excise tax does not 
apply to contributions to certain terminating defined benefit 
plans. The 10-percent excise tax also does not apply to 
contributions of up to six percent of compensation to a defined 
contribution plan for employer matching and employee elective 
deferrals.

                           Reasons for Change

    The Committee believes that employers should be encouraged 
to adequately fund their pension plans. Therefore, the 
Committee does not believe that an excise tax should be imposed 
on employer contributions that do not exceed the accrued 
liability full funding limit.

                        Explanation of Provision

    In determining the amount of nondeductible contributions, 
the employer is permitted to elect not to take into account 
contributions to a defined benefit pension plan except to the 
extent they exceed the accrued liability full funding limit. 
Thus, if an employer elects, contributions in excess of the 
current liability full funding limit are not subject to the 
excise tax on nondeductible contributions. An employer making 
such an election for a year is not permitted to take advantage 
of the present-law exceptions for certain terminating plans and 
certain contributions to defined contribution plans.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (c) Modifications to section 415 limits for multiemployer 
                    plans (Sec. 654 of the bill and Sec. 415 of the 
                    Code)

                              Present Law

    Under present law, limits apply to contributions and 
benefits under qualified plans (Sec. 415). The limits on 
contributions and benefits under qualified plans are based on 
the type of plan.
    Under a defined benefit plan, the maximum annual benefit 
payable at retirement is generally the lesser of (1) 100 
percent of average compensation for the highest three years, or 
(2) $140,000 (for 2001). The dollar limit is adjusted for cost-
of-living increases in $5,000 increments. The dollar limit is 
reduced in the case of retirement before the social security 
retirement age and increases in the case of retirement after 
the social security retirement age.
    A special rule applies to governmental defined benefit 
plans. In the case of such plans, the defined benefit dollar 
limit is reduced in the case of retirement before age 62 and 
increased in the case of retirement after age 65. In addition, 
there is a floor on early retirement benefits. Pursuant to this 
floor, the minimum benefit payable at age 55 is $75,000.
    In the case of a defined contribution plan, the limit on 
annual is additions if the lesser of (1) 25 percent of 
compensation \93\ or (2) $35,000 (for 2001).
---------------------------------------------------------------------------
    \93\ Another provision increases this limit to 100 percent of 
compensation.
---------------------------------------------------------------------------
    In applying the limits on contributions and benefits, plans 
of the same employer are aggregated. That is, all defined 
benefit plans of the same employer are treated as a single 
plan, and all defined contribution plans of the same employer 
are treated as a single plan. Under Treasury regulations, 
multiemployer plans are not aggregated with other multiemployer 
plans. However, if an employer maintains both a plan that is 
not a multiemployer plan and a mulitemployer plan, the plan 
that is not a multiemployer plan is aggregated with the 
multiemployer plan to the extent that benefits provided under 
the multiemployer plan are provided with respect to a common 
participant.\94\
---------------------------------------------------------------------------
    \94\ Treas. Reg. sec. 1.415-8(e).
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee understands that, because pension benefits 
under multiemployer plans are typically based upon factors 
other than compensation, the section 415 benefit limits 
frequently result in benefit reductions for employees in 
industries in which wages vary annually.

                        Explanation of Provision

    Under the provision, the 100 percent of compensation 
defined benefit plan limit does not apply to multiemployer 
plans. With respect to aggregation of multiemployer plans with 
other plans, the bill provides that multiemployer plans are not 
aggregated with single-employer defined benefit plans 
maintained by an employer contributing to the multiemployer 
plan for purposes of applying the 100 percent of compensation 
limit to such single-employer plan.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (d) Investment of employee contributions in 401(k) plans 
                    (Sec. 655 of the bill and Sec. 1524(b) of the 
                    Taxpayer Relief Act of 1997)

                              Present Law

    The Employee Retirement Income Security Act of 1974, as 
amended (``ERISA'') prohibits certain employee benefit plans 
from acquiring securities or real property of the employer who 
sponsors the plan if, after the acquisition, the fair market 
value of such securities and property exceeds 10 percent of the 
fair market value of plan assets. The 10-percent limitation 
does not apply to any ``eligible individual account plans'' 
that specifically authorize such investments. Generally, 
eligible individual account plans are defined contribution 
plans, including plans containing a cash or deferred 
arrangement (``401(k) plans'').
    The term ``eligible individual account plan'' does not 
include the portion of a plan that consists of elective 
deferrals (and earnings on the elective deferrals) made under 
section 401(k) if elective deferrals equal to more than one 
percent of any employee's eligible compensation are required to 
be invested in employer securities and employer real property. 
Eligible compensation is compensation that is eligible to be 
deferred under the plan. The portion of the plan that consists 
of elective deferrals (and earnings thereon) is still treated 
as an individual account plan, and the 10-percent limitation 
does not apply, as long as elective deferrals (and earnings 
thereon) are not required to be invested in employer securities 
or employer real property.
    The rule excluding elective deferrals (and earnings 
thereon) from the definition of individual account plan does 
not apply if individual account plans are a small part of the 
employer's retirement plans. In particular, that rule does not 
apply to an individual account plan for a plan year if the 
value of the assets of all individual account plans maintained 
by the employer do not exceed 10 percent of the value of the 
assets of all pension plans maintained by the employer 
(determined as of the last day of the preceding plan year). 
Multiemployer plans are not taken into account in determining 
whether the value of the assets of all individual account plans 
maintained by the employer exceed 10 percent of the value of 
the assets of all pension plans maintained by the employer. The 
rule excluding elective deferrals (and earnings thereon) from 
the definition of individual account plan does not apply to an 
employee stock ownership plan as defined in section 4975(e)(7) 
of the Internal Revenue Code.
    The rule excluding elective deferrals (and earnings 
thereon) from the definition of individual account plan applies 
to elective deferrals for plan years beginning after December 
31, 1998 (and earnings thereon). It does not apply with respect 
to earnings on elective deferrals for plan years beginning 
before January 1, 1999.

                           Reasons for Change

    The Committee believes that the effective date provided in 
the Taxpayer Relief Act of 1997 with respect to the rule 
excluding elective deferrals (and earnings thereon) from the 
definition of individual account plan has produced unintended 
results.

                        Explanation of Provision

    The provision modifies the effective date of the rule 
excluding certain elective deferrals (and earnings thereon) 
from the definition of individual account plan by providing 
that the rule does not apply to any elective deferral used to 
acquire an interest in the income or gain from employer 
securities or employer real property acquired (1) before 
January 1, 1999, or (2) after such date pursuant to a written 
contract which was binding on such date and at all times 
thereafter.

                             Effective Date

    The provision is effective as if included in the section of 
the Taxpayer Relief Act of 1997 that contained the rule 
excluding certain elective deferrals (and earnings thereon).
            (e) Prohibited allocations of stock in an S corporation 
                    ESOP (Sec. 656 of the bill and Secs. 409 and 4979A 
                    of the Code)

                              Present Law

    The Small Business Job Protection Act of 1996 allowed 
qualified retirement plan trusts described in section 401(a) to 
own stock in an S corporation. That Act treated the plan's 
share of the S corporation's income (and gain on the 
disposition of the stock) as includible in full in the trust's 
unrelated business taxable income (``UBTI'').
    The Tax Relief Act of 1997 repealed the provision treating 
items of income or loss of an S corporation as UBTI in the case 
of an employee stock ownership plan (``ESOP''). Thus, the 
income of an S corporation allocable to an ESOP is not subject 
to current taxation.
    Present law provides a deferral of income on the sales of 
certain employer securities to an ESOP (Sec. 1042). A 50-
percent excise tax is imposed on certain prohibited allocations 
of securities acquired by an ESOP in a transaction to which 
section 1042 applies. In addition, such allocations are 
currently includible in the gross income of the individual 
receiving the prohibited allocation.

                           Reasons for Change

    In enacting the 1996 Act provision allowing ESOPs to be 
shareholders of S corporations, the Congress intended to 
encourage employee ownership of closely-held businesses, and to 
facilitate the establishment of ESOPs by S corporations. At the 
same time, the Congress provided that all income flowing 
through to an ESOP (or other tax-exempt S shareholder), and 
gains and losses from the disposition of the stock, was treated 
as unrelated business taxable income. This treatment was 
consistent with the premise underlying the S corporation rules 
that all income of an S corporation (including all gains of the 
sale of the stock of the corporation) should be subject to a 
shareholder-level tax.
    In enacting the present-law rule relating to S corporation 
ESOPs in 1997, the Congress was concerned that the 1996 Act 
rule imposed double taxation on such ESOPs and ESOP 
participants. The Congress believed such a result was 
inappropriate. Since the enactment of the 1997 Act, however, 
the Committee has become aware that the present-law rules allow 
inappropriate deferral and possibly tax avoidance in some 
cases.
    The Committee continues to believe that S corporations 
should be able to encourage employee ownership through an ESOP. 
The Committee does not believe, however, that ESOPs should be 
used by S corporations owners to obtain inappropriate tax 
deferral or avoidance.
    Specifically, the Committee believes that the tax deferral 
opportunities provided by an S corporation ESOP should be 
limited to those situations in which there is broad-based 
employee coverage under the ESOP and the ESOP benefits rank-
and-file employees as well as highly compensated employees and 
historical owners.

                        Explanation of Provision

In general

    Under the provision, if there is a nonallocation year with 
respect to an ESOP maintained by an S corporation: (1) the 
amount allocated in a prohibited allocation to an individual 
who is a disqualified person is treated as distributed to such 
individual (i.e., the value of the prohibited allocation is 
includible in the gross income of the individual receiving the 
prohibited allocation); (2) an excise tax is imposed on the S 
corporation equal to 50 percent of the amount involved in a 
prohibited allocation; and (3) an excise tax is imposed on the 
S corporation with respect to any synthetic equity owned by a 
disqualified person.\95\
---------------------------------------------------------------------------
    \95\ The plan is not disqualified merely because an excise tax is 
imposed under the provision.
---------------------------------------------------------------------------
    It is intended that the provision will limit the 
establishment of ESOPs by S corporations to those that provide 
broad-based employee coverage and that benefit rank-and-file 
employees as well as highly compensated employees and 
historical owners.

Definition of nonallocation year

    A nonallocation year means any plan year of an ESOP holding 
shares in an S corporation if, at any time during the plan 
year, disqualified persons own at least 50 percent of the 
number of outstanding shares of the S corporation.
    A person is a disqualified person if the person is either 
(1) a member of a ``deemed 20-percent shareholder group'' or 
(2) a ``deemed 10-percent shareholder.'' A person is a member 
of a ``deemed 20-percent shareholder group'' if the aggregate 
number of deemed-owned shares of the person and his or her 
family members is at least 20 percent of the number of deemed-
owned shares of stock in the S corporation.\96\ A person is a 
deemed 10-percent shareholder if the person is not a member of 
a deemed 20-percent shareholder group and the number of the 
person's deemed-owned shares is at least 10 percent of the 
number of deemed-owned shares of stock of the corporation.
---------------------------------------------------------------------------
    \96\ A family member of a member of a ``deemed 20-percent 
shareholder group'' with deemed owned shares is also treated as a 
disqualified person.
---------------------------------------------------------------------------
    In general, ``deemed-owned shares'' means: (1) stock 
allocated to the account of an individual under the ESOP, and 
(2) an individual's share of unallocated stock held by the 
ESOP. An individual's share of unallocated stock held by an 
ESOP is determined in the same manner as the most recent 
allocation of stock under the terms of the plan.
    For purposes of determining whether there is a 
nonallocation year, ownership of stock generally is attributed 
under the rules of section 318,\97\ except that: (1) the family 
attribution rules is modified to include certain other family 
members, as described below, (2) option attribution do not 
apply (but instead special rules relating to synthetic equity 
described below apply), and (3) ``deemed-owned shares'' held by 
the ESOP are treated as held by the individual with respect to 
whom they are deemed owned.
---------------------------------------------------------------------------
    \97\ These attribution rules also apply to stock treated as owned 
by reason of the ownership of synthetic equity.
---------------------------------------------------------------------------
    Under the provision, family members of an individual 
include (1) the spouse \98\ of the individual, (2) an ancestor 
or lineal descendant of the individual or his or her spouse, 
(3) a sibling of the individual (or the individual's spouse) 
and any lineal descendant of the brother or sister, and (4) the 
spouse of any person described in (2) or (3).
---------------------------------------------------------------------------
    \98\ As under section 318, an individual's spouse is not treated as 
a member of the individual's family if the spouses are legally 
separated.
---------------------------------------------------------------------------
    The provision contains special rules applicable to 
synthetic equity interests. Except to the extent provided in 
regulations, the stock on which a synthetic equity interest is 
based is treated as outstanding stock of the S corporation and 
as deemed-owned shares of the person holding the synthetic 
equity interest if such treatment results in the treatment of 
any person as a disqualified person or the treatment of any 
year as a nonallocation year. Thus, for example, disqualified 
persons for a year includes those individuals who are 
disqualified persons under the general rule(i.e., treating only 
those shares held by the ESOP as deemed-owned shares) and those 
individuals who are disqualified individuals if synthetic equity 
interests are treated as deemed-owned shares.
    ``Synthetic equity'' means any stock option, warrant, 
restricted stock, deferred issuance stock right, or similar 
interest that gives the holder the right to acquire or receive 
stock of the S corporation in the future. Except to the extent 
provided in regulations, synthetic equity also includes a stock 
appreciation right, phantom stock unit, or similar right to a 
future cash payment based on the value of such stock or 
appreciation in such value.\99\
---------------------------------------------------------------------------
    \99\ The provisions relating to synthetic equity do not modify the 
rules relating to S corporations, e.g., the circumstances in which 
options or similar interests are treated as creating a second class of 
stock.
---------------------------------------------------------------------------
    Ownership of synthetic equity is attributed in the same 
manner as stock is attributed under the provision (as described 
above). In addition, ownership of synthetic equity is 
attributed under the rules of section 318(a)(2) and (3) in the 
same manner as stock.

Definition of prohibited allocation

    An ESOP of an S corporation is required to provide that no 
portion of the assets of the plan attributable to (or allocable 
in lieu of) S corporation stock may, during a nonallocation 
year, accrue (or be allocated directly or indirectly under any 
qualified plan of the S corporation) for the benefit of a 
disqualified person. A ``prohibited allocation'' refers to 
violations of this provision. A prohibited allocation occurs, 
for example, if income on S corporation stock held by an ESOP 
is allocated to the account of an individual who is a 
disqualified person.

Application of excise tax

    In the case of a prohibited allocation, the S corporation 
is liable for an excise tax equal to 50 percent of the amount 
of the allocation. For example, if S corporation stock is 
allocated in a prohibited allocation, the excise tax equals 50 
percent of the fair market value of such stock.
    A special rule applies in the case of the first 
nonallocation year, regardless of whether there is a prohibited 
allocation. In that year, the excise tax also applies to the 
fair market value of the deemed-owned shares of any 
disqualified person held by the ESOP, even though those shares 
are not allocated to the disqualified person in that year.
    As mentioned above, the S corporation also is liable for an 
excise tax with respect to any synthetic equity interest owned 
by any disqualified person in a nonallocation year. The excise 
tax is 50 percent of the value of the shares on which synthetic 
equity is based.

Treasury regulations

    The Treasury Department is given the authority to prescribe 
such regulations as may be necessary to carry out the purposes 
of the provision.

                             Effective Date

    The provision generally is effective with respect to plan 
years beginning after December 31, 2002. In the case of an ESOP 
established after July 11, 2000, or an ESOP established on or 
before such date if the employer maintaining the plan was not 
an S corporation on such date, the provision is effective with 
respect to plan years ending after July 11, 2000.
            (f) Automatic rollovers of certain mandatory distributions 
                    (Sec. 657 of the bill and Secs. 401(a)(31) and 
                    402(f)(1) of the Code and Sec. 404(c) of ERISA)

                              Present Law

    If a qualified retirement plan participant ceases to be 
employed by the employer that maintains the plan, the plan may 
distribute the participant's nonforfeitable accrued benefit 
without the consent of the participant and, if applicable, the 
participant's spouse, if the present value of the benefit does 
not exceed $5,000. If such an involuntary distribution occurs 
and the participant subsequently returns to employment covered 
by the plan, then service taken into account in computing 
benefits payable under the plan after the return need not 
include service with respect to which a benefit was 
involuntarily distributed unless the employee repays the 
benefit.
    Generally, a participant may roll over an involuntary 
distribution from a qualified plan to an IRA or to another 
qualified plan. Before making a distribution that is eligible 
for rollover, a plan administrator must provide the participant 
with a written explanation of the ability to have the 
distribution rolled over directly to an IRA or another 
qualified plan and the related tax consequences.

                           Reasons for Change

    The Committee believes that present law does not adequately 
encourage rollovers of involuntary distribution amounts. 
Failure to roll over these amounts can significantly reduce the 
retirement income that would otherwise be accumulated by 
workers who change jobs frequently. The Committee believes that 
making a direct rollover the default option for involuntary 
distributions will increase the preservation of retirement 
savings.

                        Explanation of Provision

    The provision makes a direct rollover the default option 
for involuntary distributions that exceed $1,000 and that are 
eligible rollover distributions from qualified retirement 
plans. The distribution must be rolled over automatically to a 
designated IRA, unless the participant affirmatively elects to 
have the distribution transferred to a different IRA or a 
qualified plan or to receive it directly.
    The written explanation provided by the plan administrator 
is required to explain that an automatic direct rollover will 
be made unless the participant elects otherwise. The plan 
administrator is also required to notify the participant in 
writing (as part of the general written explanation or 
separately) that the distribution may be transferred without 
cost to another IRA.
    The provision amends the fiduciary rules of ERISA so that, 
in the case of an automatic direct rollover, the participant is 
treated as exercising control over the assets in the IRA upon 
the earlier of (1) the rollover of any portion of the assets to 
another IRA, or (2) one year after the automatic rollover.
    The provision directs the Secretary of Labor to issue safe 
harbors under which the designation of an institution and 
investment of funds in accordance with the provision are deemed 
to satisfy the requirements of section 404(a) of ERISA. In 
addition, the provision authorizes and directs the Secretary of 
the Treasury and the Secretary of Labor to give consideration 
to providing special relief with respect to the use of low-cost 
individual retirement plans for purposes of the provision and 
for other uses that promote the preservation of tax-qualified 
retirement assets for retirement income purposes.

                             Effective date

    The provision applies to distributions that occur after the 
Department of Labor has adopted final regulations implementing 
the provision.
            (g) Clarification of treatment of contributions to a 
                    multiemployer plan (Sec. 658 of the bill)

                              Present Law

    Employer contributions to one or more qualified retirement 
plans are deductible subject to certain limits. In general, 
contributions are deductible for the taxable year of the 
employer in which the contributions are made. Under a special 
rule, an employer may be deemed to have made a contribution on 
the last day of the preceding taxable year if the contribution 
is on account of the preceding taxable year and is made not 
later than the time prescribed by law for filing the employer's 
income tax return for that taxable year (including 
extensions).\100\
---------------------------------------------------------------------------
    \100\ Section 404(a)(6).
---------------------------------------------------------------------------
    A change in method of accounting includes a change in the 
overall plan of accounting for gross income or deductions or a 
change in the treatment of any material item used in such 
overall plan. A material item is any item that involves the 
proper time for the inclusion of the item in income or taking 
of a deduction.\101\ A change in method of accounting does not 
include correction of mathematical or posting errors, or errors 
in the computation of tax liability. Also, a change in method 
of accounting does not include adjustment of any item of income 
or deduction that does not involve the proper time for the 
inclusion of the item of income or the taking of a deduction. A 
change in method of accounting also does not include a change 
in treatment resulting from a change in underlying facts.
---------------------------------------------------------------------------
    \101\ Treas. Reg. sec. 1.446-1(e)(2)(ii)(a).
---------------------------------------------------------------------------

                           Reasons for Change

    The Committee is aware that the interaction of the rules 
regarding employer contributions to qualified retirement plans 
and the rules regarding what constitutes a method of accounting 
has resulted in some uncertainty for taxpayers. Specifically, 
there is some uncertainty regarding whether the determination 
of whether a contribution to a multiemployer pension plan is on 
account of a prior year under section 404(a)(6) is considered a 
method of accounting. The uncertainty regarding this issue has 
resulted in disputes between taxpayers and the IRS that the 
Committee believes can be avoided by eliminating the 
uncertainty.

                        Explanation of Provision

    The provision clarifies that a determination of whether 
contributions to multiemployer pension plans are on account of 
a prior year under section 404(a)(6) is not a method of 
accounting. Thus, any taxpayer that begins to deduct 
contributions to multiemployer plans as provided in section 
404(a)(6) has not changed its method of accounting and is not 
subject to an adjustment under section 481. The provision is 
intended to respect, not disturb, the effect of the statute of 
limitations. The provision is not intended to permit, as of the 
end of the taxable year, aggregate deductions for contributions 
to a qualified plan in excess of the amounts actually 
contributed or deemed contributed to the plan by the taxpayer. 
The Secretary of the Treasury is authorized to promulgate 
regulations to clarify that, in the aggregate, no taxpayer will 
be permitted deductions in excess of amounts actually 
contributed to multiemployer plans, taking into account the 
provisions of section 404(a)(6).
    No inference is intended regarding whether the 
determination of whether a contribution to a multiemployer 
pension plan on account of a prior year under section 404(a)(6) 
is a method of accounting prior to the effective date of the 
provision.

                             Effective Date

    The provision is effective after the date of enactment.
            (h) Notice of significant reduction in plan benefit 
                    accruals (Sec. 659 of the bill and new Sec. 4980F 
                    of the Code)

                              Present Law

    Section 204(h) of Title I of ERISA provides that a defined 
benefit pension plan or a money purchase pension plan may not 
be amended so as to provide for a significant reduction in the 
rate of future benefit accrual, unless, after adoption of the 
plan amendment and not less than 15 days before the effective 
date of the plan amendment, the plan administrator provides a 
written notice (``section 204(h) notice''), setting forth the 
plan amendment (or a summary of the amendment written in a 
manner calculated to be understood by the average plan 
participant) and its effective date. The plan administrator 
must provide the section 204(h) notice to each plan 
participant, each alternate payee under an applicable qualified 
domestic relations order (``QDRO''), and each employee 
organization representing participants in the plan. 
Theapplicable Treasury regulations \102\ provide, however, that a plan 
administrator need not provide the section 204(h) notice to any 
participant or alternate payee whose rate of future benefit accrual is 
reasonably expected not to be reduced by the amendment, nor to an 
employee organization that does not represent a participant to whom the 
section 204(h) notice must be provided. In addition, the regulations 
provide that the rate of future benefit accrual is determined without 
regard to optional forms of benefit, early retirement benefits, 
retirement-type subsidiaries, ancillary benefits, and certain other 
rights and features.
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    \102\ Treas. Reg. sec. 1.411(d)-6.
---------------------------------------------------------------------------
    A covered amendment generally will not become effective 
with respect to any participants and alternate payees whose 
rate of future benefit accrual is reasonably expected to be 
reduced by the amendment but who do not receive a section 
204(h) notice. An amendment will become effective with respect 
to all participants and alternate payees to whom the section 
204(h) notice was required to be provided if the plan 
administrator (1) has made a good faith effort to comply with 
the section 204(h) notice requirements, (2) has provided a 
section 204(h) notice to each employee organization that 
represents any participant to whom a section 204(h) notice was 
required to be provided, (3) has failed to provide a section 
204(h) notice to no more than a de minimis percentage of 
participants and alternate payees to whom a section 204(h) 
notice was required to be provided, and (4) promptly upon 
discovering the oversight, provides a section 204(h) notice to 
each omitted participant and alternate payee.
    The Internal Revenue Code does not require any notice 
concerning a plan amendment that provides for a significant 
reduction in the rate of future benefit accrual.

                           Reasons for Change

    The Committee is aware of recent significant publicity 
concerning conversions of traditional defined benefit pension 
plans to ``cash balance'' plans, with particular focus on the 
impact such conversions have on affected workers. Several 
legislative proposals have been introduced to address some of 
the issues relating to such conversions.
    The Committee believes that employees are entitled to 
meaningful disclosure concerning plan amendments that may 
result in reductions of future benefit accruals. The Committee 
has determined that present law does not require employers to 
provide such disclosure, particularly in cases where 
traditional defined benefit plans are converted to cash balance 
plans. The Committee also believes that any disclosure 
requirements applicable to plan amendments should strike a 
balance between providing meaningful disclosure and avoiding 
the imposition of unnecessary administrative burdens on 
employers, and that this balance may best be struck through the 
regulatory process with an opportunity for input from affected 
parties.
    The Committee understands that there are other issues in 
addition to disclosure that have arisen with respect to the 
conversion of defined benefit plans to cash balance or other 
hybrid plans, particularly situations in which plan 
participants do not earn any additional benefit under the plan 
for some time after conversion (called a ``wear away''). The 
Committee believes that this issue should be further studied by 
the Treasury in order to provide guidance to the Congress.

                        Explanation of Provision

    The provision adds to the Internal Revenue Code a 
requirement that the plan administrator of a defined benefit 
pension plan furnish a written notice concerning a plan 
amendment that provides for a significant reduction in the rate 
of future benefit accrual, including any elimination or 
reduction of an early retirement benefit or retirement-type 
subsidy.\103\ The notice is required to set forth: (1) a 
summary of the plan amendment and the effective date of the 
amendment; (2) a statement that the amendment is expected to 
significantly reduce the rate of future benefit accrual; (3) a 
description of the classes of employees reasonably expected to 
be affected by the reduction in the rate of future benefit 
accrual; (4) examples illustrating the plan changes for these 
classes of employees; (5) in the event of an amendment that 
results in the significant restructuring of the plan benefit 
formula, as determined under regulations prescribed by the 
Secretary (a ``significant restructuring amendment''), a notice 
that the plan administrator will provide, generally no later 
than 15 days prior to the effective date of the amendment, a 
``benefit estimation tool kit'' (described below) that will 
enable employees who have completed at least one year of 
participation to personalize the illustrative examples; and (6) 
notice of each affected participant's right to request, and of 
the procedures for requesting, an annual benefit statement as 
provided under present law. The plan administrator is required 
to provide the notice not less than 45 days before the 
effective date of the plan amendment.
---------------------------------------------------------------------------
    \103\ The provision also modifies the present-law notice 
requirement contained in section 204(h) of Title I of ERISA to provide 
that an applicable pension plan may not be amended to provide for a 
significant reduction in the rate of future benefit accrual in the 
event of a failure by the plan administrator to exercise due diligence 
in meeting a notice requirement similar to the notice requirement that 
the provision adds to the Internal Revenue Code. In addition, the 
provision expands the current ERISA notice requirement regarding 
significant reductions in normal retirement benefit accrual rates to 
early retirement benefits and retirement-type subsidies.
---------------------------------------------------------------------------
    The notice requirement does not apply to governmental plans 
or church plans with respect to which an election to have the 
qualified plan participation, vesting, and funding rules apply 
has not been made (Sec. 410(d)).
    The plan administrator is required to provide this 
generalized notice to each affected participant and each 
affected alternate payee. For purposes of the provision, an 
affected participant or alternate payee is a participant or 
alternate payee to whom the significant reduction in the rate 
of future benefit accrual is reasonably expected to apply.
    As noted above, the provision requires the plan 
administrator to provide a benefit estimation tool kit, no 
later than 15 days prior to the amendment effective date, to a 
participant for whom the amendment may reasonably be expected 
to produce a significant reduction in the rate of future 
benefit accrual if the amendment is a significant restructuring 
amendment. The plan administrator is not required to provide 
this benefit estimation tool kit to any participant who has 
less than one year of participation in the plan.
    The benefit estimation tool kit is designed to enable 
participants to estimate benefits under the old and new plan 
provisions. The provision permits the tool kit to be in the 
form ofsoftware (for use at home, at a workplace kiosk, or on a 
company intranet), worksheets, or calculation instructions, or other 
formats to be determined by the Secretary of the Treasury. The tool kit 
is required to include any necessary actuarial assumptions and formulas 
and to permit the participant to estimate both a single life annuity at 
appropriate ages and, when available, a lump sum distribution. The tool 
kit is required to disclose the interest rate used to compute a lump 
sum distribution and whether the value of early retirement benefits is 
included in the lump sum distribution.
    The provision requires the benefit estimation tool kit to 
accommodate employee-provided variables with respect to age, 
years of service, retirement age, covered compensation, and 
interest rate (when variable rates apply). The tool kit is 
required to permit employees to recalculate estimated benefits 
by changing the values of these variables. The provision does 
not require the tool kit to accommodate employee variables with 
respect to qualified domestic relations orders, factors that 
result in unusual patterns of credited service (such as 
extended time away from the job), special benefit formulas for 
unusual situations, offsets from other plans, and forms of 
annuity distributions.
    In the case of a significant restructuring amendment that 
occurs in connection with a business disposition or acquisition 
transaction and within one year following the date of the 
transaction, the provision requires the plan administrator to 
provide the benefit estimation tool kit prior to the date that 
is 12 months after the date on which the generalized notice of 
the amendment is given to the affected participants.
    The provision permits a plan administrator to provide any 
notice required under the provision to a person designated in 
writing by the individual to whom it would otherwise be 
provided. In addition, the provision authorizes the Secretary 
of the Treasury to allow any notice required under the 
provision to be provided by using new technologies, provided 
that at least one option for providing notice is not dependent 
upon new technologies.
    The provision imposes on a plan administrator that fails to 
comply with the notice requirement an excise tax equal to $100 
per day per omitted participant and alternate payee. No excise 
tax is imposed during any period during which any person 
subject to liability for the tax did not know that the failure 
existed and exercised reasonable diligence to meet the notice 
requirement. In addition, no excise tax is imposed on any 
failure if any person subject to liability for the tax 
exercised reasonable diligence to meet the notice requirement 
and such person provides the required notice during the 30-day 
period beginning on the first date such person knew, or 
exercising reasonable diligence would have known, that the 
failure existed. Also, if the person subject to liability for 
the excise tax exercised reasonable diligence to meet the 
notice requirement, the total excise tax imposed during a 
taxable year of the employer will not exceed $500,000. 
Furthermore, in the case of a failure due to reasonable cause 
and not to willful neglect, the Secretary of the Treasury is 
authorized to waive the excise tax to the extent that the 
payment of the tax is excessive relative to the failure 
involved.
    The provision directs the Secretary of the Treasury to 
issue, not later than one year after the date of enactment, 
regulations with respect to early retirement benefits or 
retirement-type subsidies, the determination of a significant 
restructuring amendment, and the examples that are required 
under the generalized notice and the benefit estimation tool 
kit.
    In addition, the provision directs the Secretary of the 
Treasury to prepare a report on the effects of significant 
restructurings of plan benefit formulas of traditional defined 
benefit plans. Such study is to examine the effect of such 
restructurings on longer service participants, including the 
incidence and effects of ``wear away'' provisions under which 
participants earn no additional benefits for a period of time 
after the restructuring. The Secretary is directed to submit 
such report, together with recommendations thereon, to the 
Committee on Ways and Means and the Committee on Education and 
the Workforce of the House of Representatives and the Committee 
on Finance and the Committee on Health, Education, Labor, and 
Pensions of the Senate as soon as practicable, but not later 
than one year after the date of enactment.

                             Effective Date

    The provision is effective for plan amendments taking 
effect on or after the date of enactment. The period for 
providing any notice required under the provision will not end 
before the last day of the 3-month period following the date of 
enactment. Prior to the issuance of Treasury regulations, a 
plan is treated as meeting the requirements of the provision if 
the plan makes a good faith effort to comply with such 
requirements.

5. Reducing regulatory burdens

            (a) Modification of timing of plan valuations (Sec. 661 of 
                    the bill and Sec. 412 of the Code)

                              Present Law

    Under present law, plan valuations are generally required 
annually for plans subject to the minimum funding rules. Under 
proposed Treasury regulations, except as provided by the 
Commissioner, the valuation must be as of a date within the 
plan year to which the valuation refers or within the month 
prior to the beginning of that year.\104\
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    \104\ Prop. Treas. Reg. sec. 1.412(c)(9)-1(b)(1).
---------------------------------------------------------------------------

                           Reasons for Change

    While plan valuations are necessary to ensure adequate 
funding of defined benefit pension plans, they also create 
administrative burdens for employers. The Committee believes 
that permitting limited elections to use as the valuation date 
for a plan year any date within the immediately preceding plan 
year in the case of well-funded plans strikes an appropriate 
balance between funding concerns and employer concerns about 
plan administrative burdens.

                        Explanation of Provision

    The provision incorporates into the statute the proposed 
regulation regarding the date of valuations. The provision also 
provides, as an exception to this general rule, that the 
valuation date with respect to a plan year may be any date 
within the immediately preceding plan year if, as of such date, 
plan assets are not less than 125 percent of the plan's current 
liability. Information determined as of such date is required 
to be adjusted actuarially, in accordance withTreasury 
regulations, to reflect significant differences in plan participants. 
An election to use a prior plan year valuation date, once made, could 
only be revoked with the consent of the Secretary.

                             Effective Date

    The provision is effective for plan years beginning after 
December 31, 2001.
            (b) ESOP dividends may be reinvested without loss of 
                    dividend deduction (Sec. 662 of the bill and Sec. 
                    404 of the Code)

                              Present Law

    An employer is entitled to deduct certain dividends paid in 
cash during the employer's taxable year with respect to stock 
of the employer that is held by an employee stock ownership 
plan (``ESOP''). The deduction is allowed with respect to 
dividends that, in accordance with plan provisions, are (1) 
paid in cash directly to the plan participants or their 
beneficiaries, (2) paid to the plan and subsequently 
distributed to the participants or beneficiaries in cash no 
later than 90 days after the close of the plan year in which 
the dividends are paid to the plan, or (3) used to make 
payments on loans (including payments of interest as well as 
principal) that were used to acquire the employer securities 
(whether or not allocated to participants) with respect to 
which the dividend is paid.
    The Secretary may disallow the deduction for any ESOP 
dividend if he determines that the dividend constitutes, in 
substance, an evasion of taxation (Sec. 404(k)(5)).

                           Reasons for Change

    The Committee believes that it is appropriate to provide 
incentives for the accumulation of retirement benefits and 
expansion of employee ownership. The Committee has determined 
that the present-law rules concerning the deduction of 
dividends on employer stock held by an ESOP discourage 
employers from permitting such dividends to be reinvested in 
employer stock and accumulated for retirement purposes.

                        Explanation of Provision

    In addition to the deductions permitted under present law 
for dividends paid with respect to employer securities that are 
held by an ESOP, an employer is entitled to deduct the 
applicable percentage of dividends that, at the election of 
plan participants or their beneficiaries, are (1) payable in 
cash directly to plan participants or beneficiaries, (2) paid 
to the plan and subsequently distributed to the participants or 
beneficiaries in cash no later than 90 days after the close of 
the plan year in which the dividends are paid to the plan, or 
(3) paid to the plan and reinvested in qualifying employer 
securities. The applicable percentage is 25 percent for 2002 
through 2004, 50 percent for 2005 through 2007, 75 percent for 
2008 through 2010 and 100 percent for 2011 and thereafter.

                             Effective Date

    The provision is effective for taxable years beginning 
after December 31, 2001.
            (c) Repeal transition rule relating to certain highly 
                    compensated employees (Sec. 663 of the bill and 
                    Sec. 1114(c)(4) of the Tax Reform Act of 1986)

                              Present Law

    Under present law, for purposes of the rules relating to 
qualified plans, a highly compensated employee is generally 
defined as an employee \105\ who (1) was a five-percent owner 
of the employer at any time during the year or the preceding 
year or (2) either (a) had compensation for the preceding year 
in excess of $85,000 (for 2001) or (b) at the election of the 
employer, had compensation in excess of $85,000 for the 
preceding year and was in the top 20 percent of employees by 
compensation for such year.
---------------------------------------------------------------------------
    \105\ An employee includes a self-employed individual.
---------------------------------------------------------------------------
    Under a rule enacted in the Tax Reform Act of 1986, a 
special definition of highly compensated employee applies for 
purposes of the nondiscrimination rules relating to qualified 
cash or deferred arrangements (``section 401(k) plans'') and 
matching contributions. This special definition applies to an 
employer incorporated on December 15, 1924, that meets certain 
specific requirements.

                           Reasons for Change

    The Committee believes it appropriate to repeal the special 
definition of highly compensated employee in light of the 
substantial modification of the general definition of highly 
compensated employee in the Small Business Job Protection Act 
of 1996.

                        Explanation of Provision

    The provision repeals the special definition of highly 
compensated employee under the Tax Reform Act of 1986. Thus, 
the present-law definition applies.

                             Effective Date

    The provision is effective for plan years beginning after 
December 31, 2001.
            (d) Employees of tax-exempt entities (Sec. 664 of the bill)

                              Present Law

    The Tax Reform Act of 1986 provided that nongovernmental 
tax-exempt employers were not permitted to maintain a qualified 
cash or deferred arrangement (``section 401(k) plan''). This 
prohibition was repealed, effective for years beginning after 
December 31, 1996, by the Small Business Job Protection Act of 
1996.
    Treasury regulations provide that, in applying the 
nondiscrimination rules to a section 401(k) plan (or a section 
401(m) plan that is provided under the same general arrangement 
as the section 401(k) plan), the employer may treat as 
excludable those employees of a tax-exempt entity who could not 
participate in the arrangement due to the prohibition on 
maintenance of a section 401(k) plan by such entities. Such 
employees may be disregarded only if more than 95 percent of 
the employees who could participate in the section 401(k) plan 
benefit under the plan for the plan year.\106\
---------------------------------------------------------------------------
    \106\ Treas. Reg. sec. 1.410(b)-6(g).
---------------------------------------------------------------------------
    Tax-exempt charitable organizations may maintain a tax-
sheltered annuity (a ``section 403(b) annuity'') that allows 
employees to make salary reduction contributions.

                           Reasons for Change

    The Committee believes it appropriate to modify the special 
rule regarding the treatment of certain employees of a tax-
exempt organization as excludable for section 401(k) plan 
nondiscrimination testing purposes in light of the provision of 
the Small Business Job Protection Act of 1996 that permits such 
organizations to maintain section 401(k) plans.

                        Explanation of Provision

    The Treasury Department is directed to revise its 
regulations under section 410(b) to provide that employees of a 
tax-exempt charitable organization who are eligible to make 
salary reduction contributions under a section 403(b) annuity 
may be treated as excludable employees for purposes of testing 
a section 401(k) plan, or a section 401(m) plan that is 
provided under the same general arrangement as the section 
401(k) plan of the employer if (1) no employee of such tax-
exempt entity is eligible to participate in the section 401(k) 
or 401(m) plan and (2) at least 95 percent of the employees who 
are not employees of the charitable employer are eligible to 
participate in such section 401(k) plan or section 401(m) plan.
    The revised regulations will be effective for years 
beginning after December 31, 1996.

                             Effective Date

    The provision is effective on the date of enactment.
            (e) Treatment of employer-provided retirement advice (Sec. 
                    665 of the bill and Sec. 132 of the Code)

                              Present Law

    Under present law, certain employer-provided fringe 
benefits are excludable from gross income (Sec. 132) and wages 
for employment tax purposes. These excludable fringe benefits 
include working condition fringe benefits and de minimis 
fringes. In general, a working condition fringe benefit is any 
property or services provided by an employer to an employee to 
the extent that, if the employee paid for such property or 
services, such payment is allowable as a deduction as a 
business expense. A de minimis fringe benefit is any property 
or services provided by the employer the value of which, after 
taking into account the frequency with which similar fringes 
are provided, is so small as to make accounting for it 
unreasonable or administratively impracticable.
    In addition, if certain requirements are satisfied, up to 
$5,250 annually of employer-provided educational assistance is 
excludable from gross income (Sec. 127) and wages. This 
exclusion expires with respect to courses beginning after 
December 31, 2001.\107\ Education not excludable under section 
127 may be excludable as a working condition fringe.
---------------------------------------------------------------------------
    \107\ The exclusion does not apply with respect to graduate-level 
courses.
---------------------------------------------------------------------------
    There is no specific exclusion under present law for 
employer-provided retirement planning services. However, such 
services may be excludable as employer-provided educational 
assistance or a fringe benefit.

                           Reasons for Change

    In order to plan adequately for retirement, individuals 
must anticipate retirement income needs and understand how 
their retirement income goals can be achieved. Employer-
sponsored plans are a key part of retirement income planning. 
The Committee believes that employers sponsoring retirement 
plans should be encouraged to provide retirement planning 
services for their employees in order to assist them in 
preparing for retirement.

                        Explanation of Provision

    Qualified retirement planning services provided to an 
employee and his or her spouse by an employer maintaining a 
qualified plan are excludable from income and wages. The 
exclusion does not apply with respect to highly compensated 
employees unless the services are available on substantially 
the same terms to each member of the group of employees 
normally provided education and information regarding the 
employer's qualified plan. The exclusion is intended to allow 
employers to provide advice and information regarding 
retirement planning. The exclusion is not limited to 
information regarding the qualified plan, and, thus, for 
example, applies to advice and information regarding retirement 
income planning for an individual and his or her spouse and how 
the employer's plan fits into the individual's overall 
retirement income plan. On the other hand, the exclusion is not 
intended to apply to services that may be related to retirement 
planning, such as tax preparation, accounting, legal or 
brokerage services.

                             Effective Date

    The provision is effective with respect to taxable years 
beginning after December 31, 2001.
            (f) Reporting simplification (Sec. 666 of the bill)

                              Present Law

    A plan administrator of a pension, annuity, stock bonus, 
profit-sharing or other funded plan of deferred compensation 
generally must file with the Secretary of the Treasury an 
annual return for each plan year containing certain information 
with respect to the qualification, financial condition, and 
operation of the plan. Title I of ERISA also may require the 
plan administrator to file annual reports concerning the plan 
with the Department of Labor and the Pension Benefit Guaranty 
Corporation (``PBGC''). The plan administrator must use the 
Form 5500 series as the format for the required annual 
return.\108\ The Form 5500 series annual return/report, which 
consists of a primary form and various schedules, includes the 
information required to be filed with all three agencies. The 
plan administrator satisfies the reporting requirement with 
respect to each agency by filing the Form 5500 series annual 
return/report with the Department of Labor, which forwards the 
form to the Internal Revenue Service and the PBGC.
---------------------------------------------------------------------------
    \108\ Treas. Reg. sec. 301.6058-1(a).
---------------------------------------------------------------------------
    The Form 5500 series consists of two different forms: Form 
5500 and Form 5500-EZ. Form 5500 is the more comprehensive of 
the forms and requires the most detailed financial information. 
A plan administrator generally may file Form 5500-EZ, which 
consists of only one page, if (1) the only participants in the 
plan are the sole owner of a business that maintains the plan 
(and such owner's spouse), or partners in a partnership that 
maintains the plan (and such partners' spouses), (2) the plan 
is not aggregated with another plan in order to satisfy the 
minimum coverage requirements of section 410(b), (3) the 
employer is not a member of a related group of employers, and 
(4) the employer does not receive the services of leased 
employees. If the plan satisfies the eligibility requirements 
for Form 5500-EZ and the total value of the plan assets as of 
the end of the plan year and all prior plan years beginning on 
or after January 1, 1994, does not exceed $100,000, the plan 
administrator is not required to file a return.
    With respect to a plan that does not satisfy the 
eligibility requirements for Form 5500-EZ, the characteristics 
and the size of the plan determine the amount of detailed 
financial information that the plan administrator must provide 
on Form 5500. If the plan has more than 100 participants at the 
beginning of the plan year, the plan administrator generally 
must provide more information.

                           Reasons for Change

    The Committee believes that it is appropriate to simplify 
the reporting requirements for plans eligible to file Form 
5500-EZ, because such plans do not cover any employees of the 
business owner.

                        Explanation of Provision

    The Secretary of the Treasury is directed to modify the 
annual return filing requirements with respect to plans that 
satisfy the eligibility requirements for Form 5500-EZ to 
provide that if the total value of the plan assets of such a 
plan as of the end of the plan year and all prior plan years 
beginning on or after January 1, 1994, does not exceed 
$250,000, the plan administrator is not required to file a 
return.

                             Effective Date

    The provision is effective on January 1, 2002.
            (g) Improvement to Employee Plans Compliance Resolution 
                    System (Sec. 667 of the bill)

                              Present Law

    A retirement plan that is intended to be a tax-qualified 
plan provides retirement benefits on a tax-favored basis if the 
plan satisfies all of the requirements of section 401(a). 
Similarly, an annuity that is intended to be a tax-sheltered 
annuity provides retirement benefits on a tax-favored basis if 
the program satisfies all of the requirements of section 
403(b). Failure to satisfy all of the applicable requirements 
of section 401(a) or section 403(b) may disqualify a plan or 
annuity for the intended tax-favored treatment.
    The Internal Revenue Service (``IRS'') has established the 
Employee Plans Compliance Resolution System (``EPCRS''), which 
is a comprehensive system of correction programs for sponsors 
of retirement plans and annuities that are intended, but have 
failed, to satisfy the requirements of section 401(a), section 
403(a), or section 403(b), as applicable.\109\ EPCRS permits 
employers to correct compliance failures and continue to 
provide their employees with retirement benefits on a tax-
favored basis.
---------------------------------------------------------------------------
    \109\ Rev. Proc. 2001-17, 2001-7 I.R.B. 589.
---------------------------------------------------------------------------
    The IRS has designed EPCRS to (1) encourage operational and 
formal compliance, (2) promote voluntary and timely correction 
of compliance failures, (3) provide sanctions for compliance 
failures identified on audit that are reasonable in light of 
the nature, extent, and severity of the violation, (4) provide 
consistent and uniform administration of the correction 
programs, and (5) permit employers to rely on the availability 
of EPCRS in taking corrective actions to maintain the tax-
favored status of their retirement plans and annuities.
    The basic elements of the programs that comprise EPCRS are 
self-correction, voluntary correction with IRS approval, and 
correction on audit. The Self-Correction Program (``SCP'') 
generally permits a plan sponsor that has established 
compliance practices to correct certain insignificant failures 
at any time (including during an audit), and certain 
significant failures within a 2-year period, without payment of 
any fee or sanction. The Voluntary Correction Program (``VCP'') 
program permits an employer, at any time before an audit, to 
pay a limited fee and receive IRS approval of a correction. For 
a failure that is discovered on audit and corrected, the Audit 
Closing Agreement Program (``Audit CAP'') provides for a 
sanction that bears a reasonable relationship to the nature, 
extent, and severity of the failure and that takes into account 
the extent to which correction occurred before audit.
    The IRS has expressed its intent that EPCRS will be updated 
and improved periodically in light of experience and comments 
from those who use it.

                           Reasons for Change

    The Committee commends the IRS for the establishment of 
EPCRS and agrees with the IRS that EPCRS should be updated and 
improved periodically. The Committee believes that future 
improvements should facilitate use of the compliance and 
correction programs by small employers and expand the 
flexibility of the programs.

                        Explanation of Provision

    The Secretary of the Treasury is directed to continue to 
update and improve EPCRS, giving special attention to (1) 
increasing the awareness and knowledge of small employers 
concerning the availability and use of EPCRS, (2) taking into 
account special concerns and circumstances that small employers 
face with respect to compliance and correction of compliance 
failures, (3) extending the duration of the self-correction 
period under SCP for significant compliance failures, (4) 
expanding the availability to correct insignificant compliance 
failures under SCP during audit, and (5) assuring that any tax, 
penalty, or sanction that is imposed by reason of a compliance 
failure is not excessive and bears a reasonable relationship to 
the nature, extent, and severity of the failure.

                             Effective Date

    The provision is effective on the date of enactment.
            (h) Repeal of the multiple use test (Sec. 668 of the bill 
                    and Sec. 401(m) of the Code)

                              Present Law

    Elective deferrals under a qualified cash or deferred 
arrangement (``section 401(k) plan'') are subject to a special 
annual nondiscrimination test (``ADP test''). The ADP test 
compares the actual deferral percentages (``ADPs'') of the 
highly compensated employee group and the nonhighly compensated 
employee group. The ADP for each group generally is the average 
of the deferral percentages separately calculated for the 
employees in the group who are eligible to make elective 
deferrals for all or a portion of the relevant plan year. Each 
eligible employee's deferral percentage generally is the 
employee's elective deferrals for the year divided by the 
employee's compensation for the year.
    The plan generally satisfies the ADP test if the ADP of the 
highly compensated employee group for the current plan year is 
either (1) not more than 125 percent of the ADP of the 
nonhighly compensated employee group for the prior plan year, 
or (2) not more than 200 percent of the ADP of the nonhighly 
compensated employee group for the prior plan year and not more 
than two percentage points greater than the ADP of the 
nonhighly compensated employee group for the prior plan year.
    Employer matching contributions and after-tax employee 
contributions under a defined contribution plan also are 
subject to a special annual nondiscrimination test (``ACP 
test''). The ACP test compares the actual deferral percentages 
(``ACPs'') of the highly compensated employee group and the 
nonhighly compensated employee group. The ACP for each group 
generally is the average of the contribution percentages 
separately calculated for the employees in the group who are 
eligible to make after-tax employee contributions or who are 
eligible for an allocation of matching contributions for all or 
a portion of the relevant plan year. Each eligible employee's 
contribution percentage generally is the employee's aggregate 
after-tax employee contributions and matching contributions for 
the year divided by the employee's compensation for the year.
    The plan generally satisfies the ACP test if the ACP of the 
highly compensated employee group for the current plan year is 
either (1) not more than 125 percent of the ACP of the 
nonhighly compensated employee group for the prior plan year, 
or (2) not more than 200 percent of the ACP of the nonhighly 
compensated employee group for the prior plan year and not more 
than two percentage points greater than the ACP of the 
nonhighly compensated employee group for the prior plan year.
    For any year in which (1) at least one highly compensated 
employee is eligible to participate in an employer's plan or 
plans that are subject to both the ADP test and the ACP test, 
(2) the plan subject to the ADP test satisfies the ADP test but 
the ADP of the highly compensated employee group exceeds 125 
percent of the ADP of the nonhighly compensated employee group, 
and (3) the plan subject to the ACP test satisfies the ACP test 
but the ACP of the highly compensated employee group exceeds 
125 percent of the ACP of the nonhighly compensated employee 
group, an additional special nondiscrimination test (``multiple 
use test'') applies to the elective deferrals, employer 
matching contributions, and after-tax employee contributions. 
The plan or plans generally satisfy the multiple use test if 
the sum of the ADP and the ACP of the highly compensated 
employee group does not exceed the greater of (1) the sum of 
(A) 1.25 times the greater of the ADP or the ACP of the 
nonhighly compensated employee group, and (B) two percentage 
points plus (but not more than two times) the lesser of the ADP 
or the ACP of the nonhighly compensated employee group, or (2) 
the sum of (A) 1.25 times the lesser of the ADP or the ACP of 
the nonhighly compensated employee group, and (B) two 
percentage points plus (but not more than two times) the 
greater of the ADP or the ACP of the nonhighly compensated 
employee group.

                           Reasons for Change

    The Committee believes that the ADP test and the ACP test 
are adequate to prevent discrimination in favor of highly 
compensated employees under 401(k) plans and has determined 
that the multiple use test unnecessarily complicates 401(k) 
plan administration.

                        Explanation of Provision

    The provision repeals the multiple use test.

                             Effective Date

    The provision is effective for years beginning after 
December 31, 2001.
            (i) Flexibility in nondiscrimination, coverage, and line of 
                    business rules (Sec. 669 of the bill and Secs. 
                    401(a)(4), 410(b), and 414(r) of the Code)

                              Present Law

    A plan is not a qualified retirement plan if the 
contributions or benefits provided under the plan discriminate 
in favor of highly compensated employees (Sec. 401(a)(4)). The 
applicable Treasury regulations set forth the exclusive rules 
for determining whether a plan satisfies the nondiscrimination 
requirement. These regulations state that the form of the plan 
and the effect of the plan in operation determine whether the 
plan is nondiscriminatory and that intent is irrelevant.
    Similarly, a plan is not a qualified retirement plan if the 
plan does not benefit a minimum number of employees (Sec. 
410(b)). A plan satisfies this minimum coverage requirement if 
and only if it satisfies one of the tests specified in the 
applicable Treasury regulations. If an employer is treated as 
operating separate lines of business, the employer may apply 
the minimum coverage requirements to a plan separately with 
respect to the employees in each separate line of business 
(Sec. 414(r)). Under a so-called ``gateway'' requirement, 
however, the plan must benefit a classification of employees 
that does not discriminate in favor of highly compensated 
employees in order for the employer to apply the minimum 
coverage requirements separately for the employees in each 
separate line of business. A plan satisfies this gateway 
requirement only if it satisfies one of the tests specified in 
the applicable Treasury regulations.

                           Reasons for Change

    It has been brought to the attention of the Committee that 
some plans are unable to satisfy the mechanical tests used to 
determine compliance with the nondiscrimination and line of 
business requirements solely as a result of relatively minor 
plan provisions. The Committee believes that, in such cases, it 
may be appropriate to expand the consideration of facts and 
circumstances in the application of the mechanical tests.

                        Explanation of Provision

    The Secretary of the Treasury is directed to modify, on or 
before December 31, 2001, the existing regulations issued under 
section 414(r) in order to expand (to the extent that the 
Secretary may determine to be appropriate) the ability of a 
plan to demonstrate compliance with the line of business 
requirements based upon the facts and circumstances surrounding 
the design and operation of the plan, even though the plan is 
unable to satisfy the mechanical tests currently used to 
determine compliance.
    The Secretary of the Treasury is directed to provide by 
regulation applicable to years beginning after December 31, 
2001, that a plan is deemed to satisfy the nondiscrimination 
requirements of section 401(a)(4) if the plan satisfies the 
pre-1994 facts and circumstances test, satisfies the conditions 
prescribed by the Secretary to appropriately limit the 
availability of such test, and is submitted to the Secretary 
for a determination of whether it satisfies such test (to the 
extent provided by the Secretary).
    Similarly, a plan is deemed to comply with the minimum 
coverage requirement of section 410(b) if the plan satisfies 
the pre-1989 coverage rules, is submitted to the Secretary for 
a determination of whether it satisfies the pre-1989 coverage 
rules (to the extent provided by the Secretary), and satisfies 
conditions prescribed by the Secretary by regulation that 
appropriately limit the availability of the pre-1989 coverage 
rules.

                             Effective Date

    The provision relating to the line of business requirements 
under section 414(r) is effective on the date of enactment. The 
provision relating to the nondiscrimination requirements under 
section 401(a)(4) is effective on the date of enactment, except 
that any condition of availability prescribed by the Secretary 
is not effective before the first year beginning not less than 
120 days after the date on which such condition is prescribed. 
The provision relating to the minimum coverage requirements 
under section 410(b) is effective for years beginning after 
December 31, 2001, except that any condition of availability 
prescribed by the Secretary by regulation will not apply before 
the first year beginning not less than 120 days after the date 
on which such condition is prescribed.
            (j) Extension to all governmental plans of moratorium on 
                    application of certain nondiscrimination rules 
                    applicable to State and local government plans 
                    (Sec. 670 of the bill, sec. 1505 of the Taxpayer 
                    Relief Act of 1997, and Secs. 401(a) and 401(k) of 
                    the Code)

                              Present Law

    A qualified retirement plan maintained by a State or local 
government is exempt from the rules concerning 
nondiscrimination (Sec. 401(a)(4)) and minimum participation 
(Sec. 401(a)(26)). All other governmental plans are not exempt 
from the nondiscrimination and minimum participation rules.

                           Reasons for Change

    The Committee believes that application of the 
nondiscrimination and minimum participation rules to 
governmental plans is unnecessary and inappropriate in light of 
the unique circumstances under which such plans and 
organizations operate. Further, the Committee believes that it 
is appropriate to provide for consistent application of the 
minimum coverage, nondiscrimination, and minimum participation 
rules for governmental plans.

                        Explanation of Provision

    The provision exempts all governmental plans (as defined in 
sec. 414(d)) from the nondiscrimination and minimum 
participation rules.

                             Effective Date

    The provision is effective for plan years beginning after 
December 31, 2001.

6. Other ERISA provisions

            (a) Extension of PBGC missing participants program (Sec. 
                    681 of the bill and Secs. 206(f) and 4050 of ERISA)

                              Present Law

    The plan administrator of a defined benefit pension plan 
that is subject to Title IV of ERISA, is maintained by a single 
employer, and terminates under a standard termination is 
required to distribute the assets of the plan. With respect to 
a participant whom the plan administrator of a single employer 
plan cannot locate after a diligent search, the plan 
administrator satisfies the distribution requirement only by 
purchasing irrevocable commitments from an insurer to provide 
all benefit liabilities under the plan or transferring the 
participant's designated benefit to the Pension Benefit 
Guaranty Corporation (``PBGC''), which holds the benefit of the 
missing participant as trustee until the PBGC locates the 
missing participant and distributes the benefit.
    The PBGC missing participant program is not available to 
multiemployer plans or defined contribution plans and other 
plans not covered by Title IV of ERISA.

                           Reasons for Change

    The Committee recognizes that no statutory provision or 
formal regulatory guidance exists concerning an appropriate 
method of handling missing participants in terminated 
multiemployer plans or defined contribution plans and other 
plans not subject to the PBGC termination insurance program. 
Therefore, sponsors of these plans face uncertainty with 
respect to missing participants. The Committee believes that it 
is appropriate to extend the established PBGC missing 
participant program to these plans in order to reduce 
uncertainty for plan sponsors and increase the likelihood that 
missing participants will receive their retirement benefits.

                        Explanation of Provision

    The provision directs the PBGC to prescribe for terminating 
multiemployer plans rules similar to the present-law missing 
participant rules applicable to terminating single employer 
plans that are subject to Title IV of ERISA.
    In addition, plan administrators of certain types of plans 
not subject to the PBGC termination insurance program under 
present law are permitted, but not required, to elect to 
transfer missing participants' benefits to the PBGC upon plan 
termination. Specifically, the provision extends the missing 
participants program to defined contribution plans, defined 
benefit plans that have no more than 25 active participants and 
are maintained by professional service employers, and the 
portion of defined benefit plans that provide benefits based 
upon the separate accounts of participants and therefore are 
treated as defined contribution plans under ERISA.

                             Effective Date

    The provision is effective for distributions from 
terminating plans that occur after the PBGC has adopted final 
regulations implementing the provision.
            (b) Reduce PBGC premiums for small and new plans (Secs. 682 
                    and 683 of the bill and Sec. 4006 of ERISA)

                              Present Law

    Under present law, the Pension Benefit Guaranty Corporation 
(``PBGC'') provides insurance protection for participants and 
beneficiaries under certain defined benefit pension plans by 
guaranteeing certain basic benefits under the plan in the event 
the plan is terminated with insufficient assets to pay benefits 
promised under the plan. The guaranteed benefits are funded in 
part by premium payments from employers who sponsor defined 
benefit plans. The amount of the required annual PBGC premium 
for a single-employer plan is generally a flat rate premium of 
$19 per participant and an additional variable-rate premium 
based on a charge of $9 per $1,000 of unfunded vested benefits. 
Unfunded vested benefits under a plan generally means (1) the 
unfunded current liability for vested benefits under the plan, 
over (2) the value of the plan's assets, reduced by any credit 
balance in the funding standard account. No variable-rate 
premium is imposed for a year if contributions to the plan were 
at least equal to the full funding limit.
    The PBGC guarantee is phased-in ratably in the case of 
plans that have been in effect for less than five years, and 
with respect to benefit increases from a plan amendment that 
was in effect for less than five years before termination of 
the plan.

                           Reasons for Change

    The Committee believes that reducing the PBGC premiums for 
new plans and small plans will help encourage the establishment 
of defined benefit pension plans, particularly by small 
employers.

                        Explanation of Provision

Reduced flat-rate premiums for new plans of small employers

    Under the provision, for the first five plan years of a new 
single-employer plan of a small employer, the flat-rate PBGC 
premium is $5 per plan participant.
    A small employer is a contributing sponsor that, on the 
first day of the plan year, has 100 or fewer employees. For 
this purpose, all employees of the members of the controlled 
group of the contributing sponsor are taken into account. In 
the case of a plan to which more than one unrelated 
contributing sponsor contributes, employees of all contributing 
sponsors (and their controlled group members) are taken into 
account in determining whether the plan is a plan of a small 
employer.
    A new plan means a defined benefit plan maintained by a 
contributing sponsor if, during the 36-month period ending on 
the date of adoption of the plan, such contributing sponsor (or 
controlled group member or a predecessor of either) has not 
established or maintained a plan subject to PBGC coverage with 
respect to which benefits were accrued for substantially the 
same employees as are in the new plan.

Reduced variable-rate PBGC premium for new plans

    The bill provides that the variable-rate premium is phased-
in for new defined benefit plans over a six-year period 
starting with the plan's first plan year. The amount of the 
variable-rate premium is a percentage of the variable premium 
otherwise due, as follows: 0 percent of the otherwise 
applicable variable-rate premium in the first plan year; 20 
percent in the second plan year; 40 percent in the third plan 
year; 60 percent in the fourth plan year; 80 percent in the 
fifth plan year; and 100 percent in the sixth plan year (and 
thereafter).
    A new defined benefit plan is defined as described above 
under the flat-rate premium provision relating to new small 
employer plans.

Reduced variable-rate PBGC premium for small plans

    In the case of a plan of a small employer, the variable-
rate premium is no more than $5 multiplied by the number of 
plan participants in the plan at the end of the preceding plan 
year. For purposes of the provision, a small employer is a 
contributing sponsor that, on the first day of the plan year, 
has 25 or fewer employees. For this purpose, all employees of 
the members of the controlled group of the contributing sponsor 
are taken into account. In the case of a plan to which more 
than one unrelated contributing sponsor contributes, employees 
of all contributing sponsors (and their controlled group 
members) are taken into account in determining whether the plan 
is a plan of a small employer.

                             Effective date

    The reduction of the flat-rate premium for new plans of 
small employers and the reduction of the variable-rate premium 
for new plans is effective with respect to plans established 
after December 31, 2001. The reduction of the variable-rate 
premium for small plans is effective with respect to plan years 
beginning after December 31, 2001.
            (c) Authorization for PBGC to pay interest on premium 
                    overpayment refunds (Sec. 684 of the bill and Sec. 
                    4007(b) of ERISA)

                              Present Law

    The PBGC charges interest on underpayments of premiums, but 
is not authorized to pay interest on overpayments.

                           Reasons for Change

    The Committee believes that an employer or other person who 
overpays PBGC premiums should receive interest on a refund of 
the overpayment.

                        Explanation of Provision

    The provision allows the PBGC to pay interest on 
overpayments made by premium payors. Interest paid on 
overpayments is calculated at the same rate and in the same 
manner as interest is charged on premium underpayments.

                             Effective Date

    The provision is effective with respect to interest 
accruing for periods beginning not earlier than the date of 
enactment.
            (d) Rules for substantial owner benefits in terminated 
                    plans (Sec. 685 of the bill and Secs. 4021, 4022, 
                    4043 and 4044 of ERISA)

                              Present Law

    Under present law, the Pension Benefit Guaranty Corporation 
(``PBGC'') provides participants and beneficiaries in a defined 
benefit pension plan with certain minimal guarantees as to the 
receipt of benefits under the plan in case of plan termination. 
The employer sponsoring the defined benefit pension plan is 
required to pay premiums to the PBGC to provide insurance for 
the guaranteed benefits. In general, the PBGC will guarantee 
all basic benefits which are payable in periodic installments 
for the life (or lives) of the participant and his or her 
beneficiaries and are non-forfeitable at the time of plan 
termination. The amount of the guaranteed benefit is subject to 
certain limitations. One limitation is that the plan (or an 
amendment to the plan which increases benefits) must be in 
effect for 60 months before termination for the PBGC to 
guarantee the full amount of basic benefits for a plan 
participant, other than a substantial owner. In the case of a 
substantial owner, the guaranteed basic benefit is phased-in 
over 30 years beginning with participation in the plan. A 
substantial owner is one who owns, directly or indirectly, more 
than 10 percent of the voting stock of a corporation or all the 
stock of a corporation. Special rules restricting the amount of 
benefit guaranteed and the allocation of assets also apply to 
substantial owners.

                           Reasons for Change

    The Committee believes that the present-law rules 
concerning limitations on guaranteed benefits for substantial 
owners are overly complicated and restrictive and thus may 
discourage some small business owners from establishing defined 
benefit pension plans.

                        Explanation of Provision

    The bill provides that the 60-month phase-in of guaranteed 
benefits applies to a substantial owner with less than 50 
percent ownership interest. For a substantial owner with a 50 
percent or more ownership interest (``majority owner''), the 
phase-in depends on the number of years the plan has been in 
effect. The majority owner's guaranteed benefit is limited so 
that it could not be more than the amount phased-in over 60 
months for other participants. The rules regarding allocation 
of assets apply to substantial owners, other than majority 
owners, in the same manner as other participants.

                             Effective Date

    The provision is effective for plan terminations with 
respect to which notices of intent to terminate are provided, 
or for which proceedings for termination are instituted by the 
PBGC, after December 31, 2001.

7. Miscellaneous provisions

            (a) Tax treatment of electing Alaska Native Settlement 
                    Trusts (section 691 of the Bill and new sections 
                    646 and 6039H of the Code, modifying Code sections 
                    including 1(e), 301, 641, 651, 661, and 6034A))

                              Present Law

    An Alaska Native Settlement Corporation (``ANC'') may 
establish a Settlement Trust (``Trust'') under section 39 of 
the Alaska Native Claims Settlement Act (``ANCSA'') \110\ and 
transfer money or other property to such Trust for the benefit 
of beneficiaries who constitute all or a class of the 
shareholders of the ANC, to promote the health, education and 
welfare of the beneficiaries and preserve the heritage and 
culture of Alaska Natives.
---------------------------------------------------------------------------
    \110\ 43 U.S.C. 1601 et. seq. A Settlement Trust is subject to 
certain limitations under ANCSA, including that it may not operate a 
business. 43 U.S.C. 1629e(b).
---------------------------------------------------------------------------
    With certain exceptions, once an ANC has made a conveyance 
to a Trust, the assets conveyed shall not be subject to 
attachment, distraint, or sale or execution of judgment, except 
with respect to the lawful debts and obligations of the Trust.
    The Internal Revenue Service (``IRS'') has indicated that 
contributions to a Trust constitute distributions to the 
beneficiary-shareholders at the time of the contribution and 
are treated as dividends to the extent of earnings and profits 
as provided under section 301 of the Code.\111\ Also, a Trust 
and its beneficiaries are generally taxed subject to applicable 
trust rules.\112\
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    \111\ See, e.g., PLR 9824014; PLR 9433021; PLR 9329026 and PLR 
9326019.
    \112\ See Subchapter J of the Code (Secs. 641 et. seq.); Treas. 
Reg. Sec. 1.301.7701-4.
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                           Reasons for Change

    The Committee is concerned that present law may inhibit 
many ANCs from establishing Settlement Trusts, due to the IRS 
present law treatment of a contribution by an ANC to a Trust as 
a dividend to the extent the ANC has current or accumulated 
earnings and profits in the year of the contribution. So long 
as the ANC shareholders or beneficiaries of the Trust do not 
receive the money or other property that is contributed to the 
Trust, the Committee believes it is appropriate to allow the 
transfer to the Trust without causing dividend treatment.
    The Committee also believes it is appropriate for a 
Settlement Trust to be able to accumulate its earnings at the 
lowest individual tax rate rather than the higher rates that 
generally apply to trusts, and to distribute earnings taxed at 
that rate to Alaska Native beneficiaries without additional 
taxation to the beneficiaries.
    At the same time, the Committee believes it is appropriate 
to require a Settlement Trust to elect to obtain the benefits 
of the new provisions, and to provide safeguards for such 
electing Trusts that prevent the benefits from being used by 
persons other than Alaska Natives, or from being used to 
circumvent basic tax law provisions in an unintended manner.

                        Explanation of Provision

    The provision allows an election under which special rules 
will apply in determining the income tax treatment of an 
electing Trust and of its beneficiaries. An electing Trust will 
pay tax on its income at the lowest rate specified for ordinary 
income of an individual (or corresponding lower capital gains 
rate). The provision also specifies the treatment of 
distributions by an electing Trust to beneficiaries, the 
reporting requirements associated with such an election, and 
the consequences of disqualification for these benefits due to 
the allowance of certain impermissible dispositions of Trust 
interests or ANC stock.
    Under the provision, a trust that is a Settlement Trust 
established by an Alaska Native Corporation under section 39 of 
ANCSA may make an election for its first taxable year ending 
after the date of enactment of the provision to be subject to 
the rules of the provision rather than otherwise applicable 
income tax rules. If the election is in effect, no amount will 
be included in the gross income of a beneficiary of such Trust 
by reason of a contribution to the Trust.\113\ In addition, 
ordinary income of the electing Trust, whether accumulated or 
distributed, will be taxed only to the Trust (and not to 
beneficiaries) at the lowest individual tax rate for ordinary 
income. Capital gains of the electing Trust will similarly be 
taxed to the Trust at the capital gains rate applicable to 
individuals subject to such lowest rate. These rates will 
apply, rather than the higher rates generally applicable to 
trusts or to higher tax bracket beneficiaries. The election is 
made on a one-time basis only. The benefits of the election 
will terminate, however, and other special rules will apply, if 
the electing Trust or the sponsoring ANC fail to satisfy the 
restrictions on transferability of Trust beneficial interests 
or of ANC stock.
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    \113\ If the ANC transfers appreciated property to the Trust, 
section 311(b) of the Code will apply to the ANC, as under present law, 
so that the ANC will recognize gain as if it had sold the property for 
fair market value. The Trust takes the property with a fair market 
value basis, pursuant to section 301(d) of the Code.
---------------------------------------------------------------------------
    The treatment to beneficiaries of amounts distributed by an 
electing Trust depends upon the amount of the distribution. 
Solely for purposes of determining what amount has been 
distributed and thus which treatment applies under these rules, 
the amount of any distribution of property is the fair market 
value of the property at the time of the distribution.\114\
---------------------------------------------------------------------------
    \114\ Section 661 of the Code, which provides a deduction to the 
trust for certain distributions, does not apply to an electing Trust 
under the provision unless the election is terminated by 
disqualification. Similarly, the inclusion provisions of section 662 of 
the Code, relating to amounts to be included in income of 
beneficiaries, also do not apply to a qualified electing Trust.
---------------------------------------------------------------------------
    Amounts distributed by an electing Trust during any taxable 
year are excludable from the gross income of the recipient 
beneficiary to the extent of (1) the taxable income of the 
Trust for the taxable year and all prior taxable years for 
which an election was in effect (decreased by any income tax 
paid by the Trust with respect to the income) plus (2) any 
amounts excluded from gross income of the Trust under section 
103 for those periods.\115\
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    \115\ In the case of any such excludable distribution that involves 
a distribution of property other than cash, the basis of such property 
in the hands of the recipient beneficiary will generally be the 
adjusted basis of the property in the hands of the Trust, unless the 
Trust makes an election to pay tax, in which case the basis in the 
hands of the beneficiary would be the fair market value of the 
property. See Code sections 643(e) and 643(e)(3).
---------------------------------------------------------------------------
    If distributions to beneficiaries exceed the excludable 
amounts described above, then such excess distributions are 
reported and taxed to beneficiaries as if distributed by the 
ANC in the year of the distribution by the electing Trust to 
the extent the ANC then has current or accumulated earnings and 
profits, and are treated as dividends to beneficiaries.\116\ 
Additional distributions in excess of the current or 
accumulated earnings and profits of the ANC are treated by the 
beneficiaries as distributions by the Trust in excess of the 
distributable net income of the Trust for such year.\117\
---------------------------------------------------------------------------
    \116\ The treatment of such amounts distributed by an electing 
Trust as a dividend applies even if all or any part of the 
contributions by an ANC to a Trust would not have been dividends at the 
time of the contribution under present law; for example, because the 
ANC had no current or accumulated earnings and profits, or because the 
contribution was made from Alaska Native Fund amounts that may not have 
been taxable. See 43 U.S.C. 1605.
    \117\ Such distributions would not be taxable to the beneficiaries. 
In the case of any such nontaxable distribution that involves a 
distribution of property other than cash, the basis of such property in 
the hands of the recipient beneficiary will generally be the adjusted 
basis of the property in the hands of the Trust, unless the Trust makes 
an election to pay tax, in which case the basis in the hands of the 
beneficiary will be the fair market value of the property. See Code 
sections 643(e) and 643(e)(3).
---------------------------------------------------------------------------
    The fiduciary of an electing Trust must report to the IRS, 
with the Trust tax return, the amount of distributions to each 
beneficiary, and the tax treatment to the beneficiary of such 
distributions under the provision (either as exempt from tax to 
the beneficiary, or as a distribution deemed made by the ANC). 
The electing Trust must also furnish such information to the 
ANC. In the case of distributions that are treated as if made 
by the ANC, the ANC must then report such amounts to the 
beneficiaries and must indicate whether they are dividends or 
not, in accordance with the earnings and profits of the ANC. 
The reporting thus required by an electing Trust will be in 
lieu of, and will satisfy, the reporting requirements of 
section 6034A (and such other reporting requirements as the 
Secretary of the Treasury may deem appropriate).
    The earnings and profits of an ANC will not be reduced by 
the amount of its contributions to an electing Trust at the 
time of the contributions. However, the ANC earnings and 
profits will be reduced as and when distributions are 
thereafter made by the electing Trust that are taxed to 
beneficiaries under the provision as dividends from the ANC to 
the Trust beneficiaries.
    If in any taxable year the beneficial interests in the 
electing Trust may be disposed of to a person in a manner that 
would not be permitted under ANCSA if the interests were 
Settlement Common Stock (generally, to a person other than an 
Alaska Native),\118\ then the special provisions applicable to 
electing Trusts, including the favorable ordinary income tax 
rate and corresponding lower capital gains tax rate, cease to 
apply as of the beginning of such taxable year. The 
distributable net income of the Trust is increased up to the 
amount of current and accumulated earnings and profits of the 
ANC as of the end of that year, but such increase shall not 
exceed the fair market value of the assets of the Trust as of 
the date the beneficial interests of the Trust became 
disposable.\119\ Thereafter, the Trust and its beneficiaries 
are generally subject to the rules of subchapter J and to the 
generally applicable trust income tax rates. Thus, the increase 
in distributable net income will result in the Trust being 
taxed at regular trust rates to the extent the recomputed 
distributable net income is not distributed to beneficiaries; 
and beneficiaries will be taxed to the extent there are 
distributions. Normal reporting rules applicable to trusts and 
their beneficiaries will apply. The basis of any property 
distributed to beneficiaries will also be determined under 
normal trust rules. The same rules apply if any stock of the 
ANC may be disposed of to a person in a manner that would not 
be permitted under ANCSA if the stock were Settlement Common 
Stock and the ANC makes a transfer to the Trust.
---------------------------------------------------------------------------
    \118\ Under ANSCA, Settlement Common Stock is subject to 
restrictions on transferability. If changes are made to permit 
additional transferability of such stock, then the Settlement Common 
Stock is cancelled and Replacement Common Stock is issued. See 43 
U.S.C. 1602(p), 1606(h) and 1629c.
    \119\ To the extent the earnings and profits of the ANC increase 
distributable net income of the Trust under this provision, the ANC 
will have a corresponding adjustment reducing its earnings and profits.
---------------------------------------------------------------------------
    The provision contains a special loss disallowance rule 
that reduces any loss that would otherwise be recognized by a 
shareholder upon the disposition of a share of stock of a 
sponsoring ANC by a ``per share loss adjustment factor.'' This 
factor reflects the aggregate of all contributions to an 
electing Trust sponsored by such ANC made on or after the first 
day the trust is treated as an electing Trust, expressed on a 
per share basis and determined as of the day of each such 
contribution.
    The special loss disallowance rule is intended to prevent 
the allowance of noneconomic losses if the ANC stock owned by 
beneficiaries ever becomes transferable in any type of 
transaction that could cause the recognition of taxable gain or 
loss, (including a redemption by the ANC) where the basis of 
the stock in the hands of the beneficiary (or in the hands of 
any transferee of a beneficiary) fails to reflect the allocable 
reduction in corporate value attributable to amounts 
transferred by the ANC into the Trust.

                             Effective Date

    The provision is effective for taxable years of Settlement 
Trusts, their beneficiaries, and sponsoring Alaska Native 
Corporations ending after the date of enactment, and to 
contributions made to electing Settlement Trusts during such 
year and thereafter.

              C. Compliance with Congressional Budget Act


                      (Secs. 695-696 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to IRAs and pensions which are in effect on September 
30, 2011, shall cease to apply as of the close of September 30, 
2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to IRAs and pensions which were terminated under the 
sunset provision shall begin to apply again as of October 1, 
2011, as provided in each such provision or amendment.

                      VII. ALTERNATIVE MINIMUM TAX

              A. Individual Alternative Minimum Tax Relief

             (Sec. 701 of the bill and Sec. 55 of the Code)

                              present law

    Present law imposes an alternative minimum tax (``AMT'') on 
individuals to the extent that the tentative minimum tax 
exceeds the regular tax. An individual's tentative minimum tax 
generally is an amount equal to the sum of (1) 26 percent of 
the first $175,000 ($87,500 in the case of a married individual 
filing a separate return) of alternative minimum taxable income 
(``AMTI'') in excess of an exemption amount and (2) 28 percent 
of the remaining AMTI. AMTI is the individual's taxable income 
adjusted to take account of specified preferences and 
adjustments.
    The AMT exemption amounts are: (1) $45,000 in the case of 
married individuals filing a joint return and surviving 
spouses; (2) $33,750 in the case of other unmarried 
individuals; and (3) $22,500 in the case of married individuals 
filing a separate return, estates and trusts. The exemption 
amounts are phased out by an amount equal to 25 percent of the 
amount by which the individual's AMTI exceeds (1) $150,000 in 
the case of married individuals filing a joint return and 
surviving spouses, (2) $112,500 in the case of other unmarried 
individuals, and (3) $75,000 in the case of married individuals 
filing separate returns or an estate or a trust. The exemption 
amounts, the threshold phase-out amounts, and rate brackets are 
not indexed for inflation.

                           reasons for change

    The Committee is concerned about the projected increase in 
the number of individuals who will be affected by the 
individual alternative minimum tax in future years. The 
provision will reduce the number of individuals who would 
otherwise be affected by the minimum tax.

                        explanation of provision

    The provision increases the AMT exemption amount for 
married couples filing a joint return and surviving spouses by 
$4,000. The AMT exemption amounts for other individuals (i.e., 
unmarried individuals and married individuals filing a separate 
return) are increased by $2,000.

                             effective date

    The provision applies to taxable years beginning after 
December 31, 2000, and before January 1, 2007.

              B. Compliance With Congressional Budget Act

                    (Secs. 711 and 712 of the bill)

                              present law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           reasons for change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        explanation of provision

Sunset of provisions
    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to the alternative minimum tax which are in effect on 
September 30, 2011, shall cease to apply as of the close of 
September 30, 2011.
Restoration of provisions
    All provisions of, and amendments made by, the bill 
relating to the alternative minimum tax which were terminated 
under the sunset provision shall begin to apply again as of 
October 1, 2011, as provided in each such provision or 
amendment.

                         VIII. OTHER PROVISIONS

        A. Modification to Corporate Estimated Tax Requirements

                         (Sec. 801 of the bill)

                              present law

    In general, corporations are required to make quarterly 
estimated tax payments of their income tax liability (section 
6655). For a corporation whose taxable year is a calendar year, 
these estimated tax payments must be made by April 15, June 15, 
September 15, and December 15.

                           reasons for change

    The Committee believes that it is appropriate to modify 
these corporate estimated tax requirements.

                        explanation of provision

    With respect to corporate estimated tax payments due on 
September 17, 2001,\120\ 30 percent is required to be paid by 
September 17, 2001, and 70 percent is required to be paid by 
October 1, 2001. With respect to corporate estimated tax 
payments due on September 15, 2004, 80 percent is required to 
be paid by September 15, 2004, and 20 percent is required to be 
paid by October 1, 2004.
---------------------------------------------------------------------------
    \120\ September 15, 2001 will be a Saturday. Under present law, 
payments required to be made on a Saturday must be made no later than 
the next banking day.
---------------------------------------------------------------------------

                             effective date

    The provision is effective on the date of enactment.

  B. Authority To Postpone Certain Tax-Related Deadlines by Reason of 
                    Presidentially Declared Disaster

           (Sec. 802 of the bill and Sec. 7508A of the Code)

                              present law

    The Secretary of the Treasury may specify that certain 
deadlines are postponed for a period of up to 90 days in the 
case of a taxpayer determined to be affected by a 
Presidentially declared disaster.\121\ The deadlines that may 
be postponed are the same as are postponed by reason of service 
in a combat zone. If the Secretary extends the period of time 
for filing income tax returns and for paying income tax, the 
Secretary must abate related interest for that same period of 
time.\122\
---------------------------------------------------------------------------
    \121\ Section 7508A.
    \122\ Section 6404(h).
---------------------------------------------------------------------------

                           reasons for change

    Disasters can cause a variety of tax-related problems, such 
as the loss of records and the inability to meet filing 
deadlines. Although the IRS attempts to address such issues 
under present law, the Committee believes that the ability of 
the IRS to deal with disaster-related tax issues would be 
enhanced by the creation of a Disaster Response Team to provide 
guidance to taxpayers affected by disasters. In addition, the 
Committee believes increasing the maximum time period for which 
the Secretary may postpone certain deadlines in the case of a 
taxpayer determined to be affected by a Presidentially declared 
disaster will help taxpayers in dealing with disasters.

                        explanation of provision

    The bill directs the Secretary to create in the IRS a 
Disaster Response Team, which, in coordination with the Federal 
Emergency Management Agency, is to assist taxpayers in 
clarifying and resolving tax matters associated with a 
Presidentially declared disaster. One of the duties of the 
Disaster Response Team is to postpone certain tax-related 
deadlines for up to 120 days in appropriate cases for taxpayers 
determined to be affected by a Presidentially declared 
disaster.
    It is anticipated that the Disaster Response Team would be 
staffed by IRS employees with relevant knowledge and 
experience. The Committee anticipates that the Disaster 
Response Team would staff a toll-free number dedicated to 
responding to taxpayers affected by a Presidentially declared 
disaster and provide relevant information via the IRS website.

                             effective date

    The provision is effective on the date of enactment.

              C. Compliance With Congressional Budget Act


                      (Secs. 811-812 of the bill)


                              Present Law

    Reconciliation is a procedure under the Congressional 
Budget Act of 1974 (the ``Budget Act'') by which Congress 
implements spending and tax policies contained in a budget 
resolution. The Budget Act contains numerous rules enforcing 
the scope of items permitted to be considered under the budget 
reconciliation process. One such rule, the so-called ``Byrd 
rule,'' was incorporated into the Budget Act in 1990. The Byrd 
rule, named after its principal sponsor, Senator Robert C. 
Byrd, is contained in section 313 of the Budget Act. The Byrd 
rule generally permits members to raise a point of order 
against extraneous provisions (those which are unrelated to the 
goals of the reconciliation process) from either a 
reconciliation bill or a conference report on such bill.
    Under the Byrd rule, a provision is considered to be 
extraneous if it falls under one or more of the following six 
definitions:
          (1) It does not produce a change in outlays or 
        revenues;
          (2) It produces an outlay increase or revenue 
        decrease when the instructed committee is not in 
        compliance with its instructions;
          (3) It is outside of the jurisdiction of the 
        committee that submitted the title or provision for 
        inclusion in the reconciliation measure;
          (4) It produces a change in outlays or revenues which 
        is merely incidental to the nonbudgetary components of 
        the provision;
          (5) It would increase net outlays or decrease 
        revenues for a fiscal year beyond those covered by the 
        reconciliation measure; and
          (6) It recommends changes in Social Security.

                           Reasons for Change

    This title of the bill contains language sunsetting each 
provision in the title in order to preclude each such provision 
from violating the fifth definition of extraneity of the Byrd 
rule. Inclusion of the language restoring each such provision 
would undo the sunset language; therefore, the ``restoration'' 
language is itself subject to the Byrd rule.

                        Explanation of Provision

Sunset of provisions

    To ensure compliance with the Budget Act, the bill provides 
that all provisions of, and amendments made by, the bill 
relating to corporate estimated taxes and authority to postpone 
tax deadlines because of disasters which are in effect on 
September 30, 2011, shall cease to apply as of the close of 
September 30, 2011.

Restoration of provisions

    All provisions of, and amendments made by, the bill 
relating to corporate estimated taxes and authority to postpone 
tax deadlines because of disasters which were terminated under 
the sunset provision shall begin to apply again as of October 
1, 2011, as provided in each such provision or amendment.

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