[JPRT 112-2-11]
[From the U.S. Government Publishing Office]
JCS-2-11
[JOINT COMMITTEE PRINT]
GENERAL EXPLANATION OF
TAX LEGISLATION
ENACTED IN THE 111TH CONGRESS
----------
Prepared by the Staff
of the
JOINT COMMITTEE ON TAXATION
MARCH 2011
JCS-2-11
[JOINT COMMITTEE PRINT]
GENERAL EXPLANATION OF
TAX LEGISLATION
ENACTED IN THE 111TH CONGRESS
__________
Prepared by the Staff
of the
JOINT COMMITTEE ON TAXATION
MARCH 2011
_____
U.S. GOVERNMENT PRINTING OFFICE
64-669 WASHINGTON : 2011 JCS-2-11
SUMMARY CONTENTS
----------
Page
Part One: Children's Health Insurance Program Reauthorization Act
of 2009 (Public Law 111-3)..................................... 4
Part Two: American Recovery and Reinvestment Act of 2009 (Public
Law 111-5)..................................................... 16
Part Three: Airport and Airway Trust Fund Extensions (Public Laws
111-12, 111-69, 111-116, 111-153, 111-161, 111-197, 111-216,
111-249, and 111-329).......................................... 153
Part Four: Highway Trust Fund Extensions and Restoration (Public
Laws 111-46, 111-68, 111-118, 111-144, 111-147, and 111-322)... 155
Part Five: Worker, Homeownership, and Business Assistance Act of
2009 (Public Law 111-92)....................................... 158
Part Six: Haiti Tax Relief (Public Law 111-126).................. 174
Part Seven: Hiring Incentives to Restore Employment Act (Public
Law 111-147)................................................... 176
Part Eight: Health Care Provisions (Public Laws 111-148, 111-152,
111-173, and 111-309).......................................... 252
Part Nine: Preservation of Access to Care for Medicare
Beneficiaries and Pension Relief Act of 2010 (Public Law 111-
192)........................................................... 384
Part Ten: Homebuyer Assistance and Improvement Act of 2010
(Public Law 111-198)........................................... 416
Part Eleven: Dodd-Frank Wall Street Reform and Consumer
Protection Act (Public Law 111-203)............................ 424
Part Twelve: __ Act of __ (Public Law 111-226)................... 426
Part Thirteen: Firearms Excise Tax Improvement Act of 2010
(Public Law 111-237)........................................... 459
Part Fourteen: Small Business Jobs Act of 2010 (Public Law 111-
240)........................................................... 463
Part Fifteen: Claims Resolution Act of 2010 (Public Law 111-291). 508
Part Sixteen: Tax Relief, Unemployment Insurance Reauthorization,
and Job Creation Act of 2010 (Public Law 111-312).............. 512
Part Seventeen: Regulated Investment Company Modernization Act of
2010 (Public Law 111-325)...................................... 665
Part Eighteen: Omnibus Trade Act of 2010 (Public Law 111-344).... 689
Part Nineteen: James Zadroga 9/11 Health and Compensation Act of
2010 (Public Law 111-347)...................................... 693
Part Twenty: Authority of Tax Court to Appoint Employees (Public
Law 111-366)................................................... 696
Part Twenty-One: Customs User Fees, Corporate Estimated Taxes and
Extension of Assistance for COBRA Continuation Coverage........ 697
Appendix: Estimated Budget Effects of Tax Legislation Enacted in
the 111th Congress............................................. 705
C O N T E N T S
----------
Page
Summary Contents................................................. III
Introduction..................................................... 1
Part One: Revenue Provisions of the Children's Health Insurance
Program Reauthorization Act of 2009 (Public Law 111-3)......... 4
I. REQUIREMENTS FOR GROUP HEALTH PLANS..............................4
A. Special Enrollment Period Under Group Health Plans
(sec. 311 of the Act and sec. 9801 of the Code).... 4
II. OTHER REVENUE PROVISIONS.........................................5
A. Increase Excise Tax Rates on Tobacco Products and
Cigarette Papers and Tubes (sec. 701 of the Act and
sec. 5701 of the Code)............................. 5
B. Modify Definition of Roll-Your-Own Tobacco (sec.
702(d) of the Act and sec. 5702 of the Code)....... 8
C. Permit, Inventory, Reporting, Recordkeeping
Requirements for Manufacturers and Importers of
Processed Tobacco (sec. 702 of the Act and secs.
5702, 5712, 5713, 5721, 5722, 5723, and 5741 of the
Code).............................................. 9
D. Broaden Authority to Deny, Suspend, and Revoke
Tobacco Permits (sec. 702(b) of the Act and secs.
5712 and 5713 of the Code)......................... 10
E. Clarify Statute of Limitations Pertaining to Excise
Taxes Imposed on Imported Alcohol, Tobacco Products
and Cigarette Papers and Tubes (sec. 702(c) of the
Act and sec. 514 of the Tariff Act of 1930)........ 11
F. Impose Immediate Tax on Unlawfully Manufactured
Tobacco Products and Cigarette Papers and Tubes
(sec. 702(e) of the Act and sec. 5703 of the Code). 12
G. Use of Tax Information in Tobacco Assessments (sec.
702(f) of the Act and sec. 6103 of the Code)....... 12
H. Study Concerning Magnitude of Tobacco Smuggling in
the United States (sec. 703 of the Act)............ 14
I. Modifications to Corporate Estimated Tax Payments
(sec. 704 of the Act and sec. 6655 of the Code).... 14
Part Two: Revenue Provisions of the American Recovery and
Reinvestment Act of 2009 (Public Law 111-5).................... 16
TITLE I--TAX PROVISIONS.......................................... 16
A. Tax Relief for Individuals and Families............. 16
1. Making work pay credit (sec. 1001 of the Act
and new sec. 36A of the Code).................. 16
2. Increase in the earned income tax credit (sec.
1002 of the Act and sec. 32 of the Code)....... 20
3. Increase of refundable portion of the child
credit (sec. 1003 of the Act and sec. 24 of the
Code).......................................... 22
4. American Opportunity Tax Credit (sec. 1004 of
the Act and sec. 25A of the Code).............. 24
5. Temporarily allow computer technology and
equipment as a qualified higher education
expense for qualified tuition programs (sec.
1005 of the Act and sec. 529 of the Code)...... 27
6. Modifications to homebuyer credit (sec. 1006 of
the Act and sec. 36 of the Code)............... 29
7. Election to substitute grants to states for
low-income housing projects in lieu of low-
income housing credit allocation for 2009
(secs. 1404 and 1602 of the Act and sec. 42 of
the Code)...................................... 31
8. Exclusion from gross income for unemployment
compensation benefits (sec. 1007 of the Act and
sec. 85 of the Code)........................... 33
9. Deduction for State sales tax and excise tax on
the purchase of qualified motor vehicles (sec.
1008 of the Act and secs. 63 and 164 of the
Code).......................................... 34
10. Extend alternative minimum tax relief for
individuals (secs. 1011 and 1012 of the Act and
secs. 26 and 55 of the Code)................... 35
B. Tax Incentives for Business......................... 36
1. Special allowance for certain property acquired
during 2009 and extension of election to
accelerate AMT and research credits in lieu of
bonus depreciation (sec. 1201 of the Act and
sec. 168(k) of the Code)....................... 36
2. Temporary increase in limitations on expensing
of certain depreciable business assets (sec.
1202 of the Act and sec. 179 of the Code)...... 40
3. Five-year carryback of operating losses (sec.
1211 of the Act and sec. 172 of the Code)...... 42
4. Estimated tax payments (sec. 1212 of the Act
and sec. 6654 of the Code)..................... 43
5. Modification of work opportunity tax credit
(sec. 1221 of the Act and sec. 51 of the Code). 44
6. Clarification of regulations related to
limitations on certain built-in losses
following an ownership change (sec. 1261 of the
Act and sec. 382 of the Code).................. 50
7. Treatment of certain ownership changes for
purposes of limitations on net operating loss
carryforwards and certain built-in losses (sec.
1262 of the Act and sec. 382 of the Code)...... 55
8. Deferral of certain income from the discharge
of indebtedness (sec. 1231 of the Act and sec.
108 of the Code)............................... 57
9. Modifications of rules for original issue
discount on certain high yield obligations
(sec. 1232 of the Act and sec. 163 of the Code) 62
10. Special rules applicable to qualified small
business stock for 2009 and 2010 (sec. 1241 of
the Act and sec. 1202 of the Code)............. 64
11. Temporary reduction in recognition period for S
corporation built-in gains tax (sec. 1251 of
the Act and sec. 1374 of the Code)............. 65
C. Fiscal Relief for State and Local Governments....... 66
1. De minimis safe harbor exception for tax-exempt
interest expense of financial institutions and
modification of small issuer exception to tax-
exempt interest expense allocation rules for
financial institutions (secs. 1501 and 1502 of
the Act and sec. 265 of the Code).............. 66
2. Temporary modification of alternative minimum
tax limitations on tax-exempt bonds (sec. 1503
of the Act and secs. 56 and 57 of the Code).... 69
3. Temporary expansion of availability of
industrial development bonds to facilities
creating intangible property and other
modifications (sec. 1301 of the Act and sec.
144(a) of the Code)............................ 70
4. Qualified school construction bonds (sec. 1521
of the Act and new sec. 54F of the Code)....... 72
5. Extend and expand qualified zone academy bonds
(sec. 1522 of the Act and sec. 54E of the Code) 77
6. Build America bonds (sec. 1531 of the Act and
new secs. 54AA and 6431 of the Code)........... 80
7. Recovery zone bonds (sec. 1401 of the Act and
new secs. 1400U-1, 1400U-2, and 1400U-3 of the
Code).......................................... 85
8. Tribal economic development bonds (sec. 1402 of
the Act and new sec. 7871(f) of the Code)...... 91
9. Pass-through of credits on tax credit bonds
held by regulated investment companies (sec.
1541 of the Act and new sec. 853A of the Code). 93
10. Delay in implementation of withholding tax on
government contractors (sec. 1511 of the Act
and sec. 3402(t) of the Code).................. 94
11. Extend and modify the new markets tax credit
(sec. 1403 of the Act and sec. 45D of the Code) 95
D. Energy Incentives................................... 97
1. Extension of the renewable electricity
production credit (sec. 1101 of the Act and
sec. 45 of the Code)........................... 97
2. Election of investment credit in lieu of
production tax credits (sec. 1102 of the Act
and secs. 45 and 48 of the Code)............... 105
3. Modification of energy credit (sec. 1103 of the
Act and sec. 48 of the Code)................... 106
4. Grants for specified energy property in lieu of
tax credits (secs. 1104 and 1603 of the Act and
secs. 45 and 48 of the Code)................... 109
5. Expand new clean renewable energy bonds (sec.
1111 of the Act and sec. 54C of the Code)...... 111
6. Expand qualified energy conservation bonds
(sec. 1112 of the Act and sec. 54D of the Code) 113
7. Modification to high-speed intercity rail
facility bonds (sec. 1504 of the Act and sec.
142(i) of the Code)............................ 117
8. Extension and modification of credit for
nonbusiness energy property (sec. 1121 of the
Act and sec. 25C of the Code).................. 118
9. Credit for residential energy efficient
property (sec. 1122 of the Act and sec. 25D of
the Code)...................................... 120
10. Temporary increase in credit for alternative
fuel vehicle refueling property (sec. 1123 of
the Act and sec. 30C of the Code).............. 122
11. Modification of credit for carbon dioxide
sequestration (sec. 1131 of the Act and sec.
45Q of the Code)............................... 123
12. Modification of the plug-in electric drive
motor vehicle credit (secs. 1141-1144 of the
Act and secs. 30, 30B, and 30D of the Code).... 125
13. Parity for qualified transportation fringe
benefits (sec. 1151 of the Act and sec. 132 of
the Code)...................................... 127
14. Credit for investment in advanced energy
property (sec. 1302 of the Act and new sec. 48C
of the Code)................................... 128
E. Other Provision..................................... 129
1. Application of certain labor standards to
projects financed with certain tax-favored
bonds (sec. 1601 of the Act)................... 129
TITLE III--HEALTH INSURANCE ASSISTANCE........................... 130
A. Assistance for COBRA Continuation Coverage (sec.
3001 of the Act and new sec. 139C, sec. 4980B, and
new secs. 6432 and 6720C of the Code).............. 130
B. Modify the Health Coverage Tax Credit (secs. 1899-
1899L of the Act and secs. 35, 4980B, 7527, and
9801 of the Code).................................. 143
Part Three: Airport and Airway Trust Fund Extensions (Public Laws
111-12, 111-69, 111-116, 111-153, 111-161, 111-197, 111-216,
111-249, and 111-329).......................................... 153
Part Four: Highway Trust Fund (Public Laws 111-46, 111-68, 111-
118, 111-144, 111-147, and 111-322)............................ 155
A. Extension of Surface Transportation Act Expenditure
Authority.......................................... 155
B. Highway Trust Fund Restoration...................... 156
Part Five: Revenue Provisions of the Worker, Homeownership, and
Business Assistance Act of 2009 (Public Law 111-92)............ 158
A. Extension and Modification of First-Time Homebuyer
Credit (secs. 11 and 12 of the Act and sec. 36 of
the Code).......................................... 158
B. Five-Year Carryback of Operating Losses (sec. 13 of
the Act and sec. 172 of the Code).................. 162
C. Exclusion from Gross Income of Qualified Military
Base Realignment and Closure Fringe (sec. 14 of the
Act and sec. 132 of the Code)...................... 165
D. Delay in Application of Worldwide Allocation of
Interest (sec. 15 of the Act and sec. 864 of the
Code).............................................. 166
E. Modification of Penalty for Failure to File
Partnership or S Corporation Returns (sec. 16 of
the Act and secs. 6698 and 6699 of the Code)....... 170
F. Expansion of Electronic Filing by Return Preparers
(sec. 17 of the Act and sec. 6011(e) of the Code).. 171
G. Time for Payment of Corporate Estimated Taxes (sec.
18 of the Act and sec. 6655 of the Code)........... 172
Part Six: Haiti Tax Relief (Public Law 111-126).................. 174
A. Accelerate the Income Tax Benefits for Charitable
Cash Contributions for the Relief of Victims of the
Earthquake in Haiti (sec. 1 of the Act)............ 174
Part Seven: Revenue Provisions of the Hiring Incentives to
Restore Employment Act (Public Law 111-147).................... 176
TITLE I--INCENTIVES FOR HIRING AND RETAINING UNEMPLOYED WORKERS.. 176
A. Payroll Tax Forgiveness for Hiring Unemployed
Workers (sec. 101 of the Act and new sec. 3111 of
the Code).......................................... 176
B. Business Credit for Retention of Certain Newly Hired
Individuals in 2010 (sec. 102 of the Act and sec.
38(b) of the Code)................................. 179
TITLE II--EXPENSING.............................................. 180
A. Increase in Expensing of Certain Depreciable
Business Assets (sec. 201 of the Act and sec. 179
of the Code)....................................... 180
TITLE III--QUALIFED TAX CREDIT BONDS............................. 182
A. Refundable Credit for Certain Qualified Tax Credit
Bonds (sec. 301 of the Act and secs. 54F and 6431
of the Code)....................................... 182
TITLE IV--EXTENSION OF CURRENT SURFACE TRANSPORTATON PROGRAMS.... 191
A. Revenue Provisions Relating to the Highway Trust
Fund (secs. 441-445 of the Act and secs. 9503 and
9504 of the Code).................................. 191
TITLE V--OFFSET PROVISIONS....................................... 193
A. Foreign Account Tax Compliance...................... 193
1. Reporting on certain foreign accounts (sec. 501
of the Act and new secs. 1471-1474 and sec.
6611 of the Code).............................. 193
2. Repeal of certain foreign exceptions to
registered bond requirements (sec. 502 of the
Act and secs. 149, 163, 165, 871, 881, 1287,
and 4701 of the Code and 31 U.S.C. sec. 3121).. 219
3. Disclosure of information with respect to
foreign financial assets (sec. 511 of the Act
and new sec. 6038D of the Code)................ 223
4. Penalties for underpayments attributable to
undisclosed foreign financial assets (sec. 512
of the Act and sec. 6662 of the Code).......... 230
5. Modification of statute of limitations for
significant omission of income in connection
with foreign assets (sec. 513 of the Act and
secs. 6229 and 6501 of the Code)............... 232
6. Reporting of activities with respect to passive
foreign investment companies (sec. 521 of the
Act and sec. 1298 of the Code)................. 234
7. Secretary permitted to require financial
institutions to file certain returns related to
withholding on foreign transfers electronically
(sec. 522 of the Act and sec. 6011 of the
Code).......................................... 236
8. Clarifications with respect to foreign trusts
which are treated as having a United States
beneficiary (sec. 531 of the Act and sec. 679
of the Code)................................... 238
9. Presumption that foreign trust has United
States beneficiary (sec. 532 of the Act and
sec. 679 of the Code).......................... 240
10. Uncompensated use of trust property (sec. 533
of the Act and secs. 643 and 679 of the Code).. 241
11. Reporting requirement of United States owners
of foreign trusts (sec. 534 of the Act and sec.
6048 of the Code).............................. 242
12. Minimum penalty with respect to failure to
report on certain foreign trusts (sec. 535 of
the Act and sec. 6677 of the Code)............. 242
13. Substitute dividends and dividend equivalent
payments received by foreign persons treated as
dividends (sec. 541 of the Act and sec. 871 of
the Code)...................................... 244
B. Delay in Application of Worldwide Allocation of
Interest (sec. 551 of the Act and sec. 864 of the
Code).............................................. 247
C. Corporate Estimated Tax (sec. 561 of the Act and
sec. 6655 of the Code)............................. 251
Part Eight: Health Care Provisions............................... 252
PATIENT PROTECTION AND AFFORDABLE CARE ACT (PUBLIC LAW 111-148),
HEALTH CARE AND EDUCATION RECONCILIATION ACT OF 2010 (PUBLIC
LAW 111-152), AN ACT TO CLARIFY THE HEALTH CARE PROVIDED BY THE
SECRETARY OF VETERANS AFFAIRS THAT CONSTITUTES MINIMUM
ESSENTIAL COVERAGE (PUBLIC LAW 111-173), AND MEDICARE AND
MEDICAID EXTENDERS ACT OF 2010 (PUBLIC LAW 111-309)............ 252
PATIENT PROTECTION AND AFFORDABLE CARE ACT....................... 252
TITLE I--QUALITY, AFFORDABLE HEALTH CARE FOR ALL AMERICANS....... 252
A. Tax Exemption for Certain Member-Run Health
Insurance Issuers (sec. 1322 of the Act and new
sec. 501(c)(29) and sec. 6033 of the Code)......... 252
B. Tax Exemption for Entities Established Pursuant to
Transitional Reinsurance Program for Individual
Market in Each State (sec. 1341 of the Act)........ 259
C. Refundable Tax Credit Providing Premium Assistance
for Coverage Under a Qualified Health Plan (secs.
1401, 1411, and 1412 of the Act and sec. 208 of
Pub. L. No. 111-309 and new sec. 36B of the Code).. 260
D. Reduced Cost-Sharing for Individuals Enrolling in
Qualified Health Plans (secs. 1402, 1411, and 1412
of the Act)........................................ 268
E. Disclosures to Carry Out Eligibility Requirements
for Certain Programs (sec. 1414 of the Act and sec.
6103 of the Code).................................. 272
F. Premium Tax Credit and Cost-Sharing Reduction
Payments Disregarded for Federal and Federally
Assisted Programs (sec. 1415 of the Act)........... 274
G. Small Business Tax Credit (sec. 1421 of the Act and
new sec. 45R of the Code).......................... 274
H. Excise Tax on Individuals Without Essential Health
Benefits Coverage (sec. 1501 of the Act and sec. 1
of Pub. L. No. 111-173 and new sec. 5000A of the
Code).............................................. 278
I. Reporting of Health Insurance Coverage (sec. 1502 of
the Act and new sec. 6055 and sec. 6724(d) of the
Code).............................................. 282
J. Shared Responsibility for Employers (sec. 1513 of
the Act and new sec. 4980H of the Code)............ 283
K. Reporting of Employer Health Insurance Coverage
(sec. 1514 of the Act and new sec. 6056 and sec.
6724(d) of the Code)............................... 289
L. Offering of Qualified Health Plans Through Cafeteria
Plans (sec. 1515 of the Act and sec. 125 of the
Code).............................................. 291
M. Conforming Amendments (sec. 1563 of the Act and new
sec. 9815 of the Code)............................. 293
TITLE III--IMPROVING THE QUALITY AND EFFICIENCY OF HEALTHCARE.... 295
A. Disclosures to Carry Out the Reduction of Medicare
Part D Subsidies for High Income Beneficiaries
(sec. 3308(b)(2) of the Act and sec. 6103 of the
Code).............................................. 295
TITLE VI--TRANSPARENCY AND PROGRAM INTEGRITY..................... 297
A. Patient-Centered Outcomes Research Trust Fund;
Financing for Trust Fund (sec. 6301 of the Act and
new secs. 4375, 4376, 4377, and 9511 of the Code).. 297
TITLE IX--REVENUE PROVISIONS..................................... 300
A. Excise Tax on High Cost Employer-Sponsored Health
Coverage (sec. 9001 of the Act and new sec. 4980I
of the Code)....................................... 300
B. Inclusion of Cost of Employer-Sponsored Health
Coverage on W-2 (sec. 9002 of the Act and sec. 6051
of the Code)....................................... 310
C. Distributions for Medicine Qualified Only if for
Prescribed Drug or Insulin (sec. 9003 of the Act
and secs. 105, 106, 220, and 223 of the Code)...... 311
D. Increase in Additional Tax on Distributions from
HSAs Not Used for Medical Expenses (sec. 9004 of
the Act and secs. 220 and 223 of the Code)......... 313
E. Limitation on Health Flexible Spending Arrangements
under Cafeteria Plans (sec. 9005 of the Act and
sec. 125 of the Code).............................. 315
F. Expansion of Information Reporting Requirements
(sec. 9006 of the Act and sec. 6041 of the Code)... 318
G. Additional Requirements for Charitable Hospitals
(sec. 9007 of the Act and sec. 501(c), new sec.
4959, and sec. 6033 of the Code)................... 319
H. Imposition of Annual Fee on Branded Prescription
Pharmaceutical Manufacturers and Importers (sec.
9008 of the Act)................................... 325
I. Imposition of Annual Fee on Medical Device
Manufacturers and Importers (sec. 9009 of the Act). 327
J. Imposition of Annual Fee on Health Insurance
Providers (sec. 9010 of the Act)................... 327
K. Study and Report of Effect on Veterans Health Care
(sec. 9011 of the Act)............................. 332
L. Repeal Business Deduction for Federal Subsidies for
Certain Retiree Prescription Drug Plans (sec. 9012
of the Act and sec. 139A of the Code).............. 333
M. Modify the Itemized Deduction for Medical Expenses
(sec. 9013 of the Act and sec. 213 of the Code).... 334
N. Limitation on Deduction for Remuneration Paid by
Health Insurance Providers (sec. 9014 of the Act
and sec. 162 of the Code).......................... 335
O. Additional Hospital Insurance Tax on High Income
Taxpayers (sec. 9015 of the Act and new secs. 1401
and 3101 of the Code).............................. 340
P. Modification of Section 833 Treatment of Certain
Health Organizations (sec. 9016 of the Act and sec.
833 of the Code)................................... 343
Q. Excise Tax on Indoor Tanning Services (sec. 9017 of
the Act and new sec. 5000B of the Code)............ 345
R. Exclusion of Health Benefits Provided by Indian
Tribal Governments (sec. 9021 of the Act and new
sec. 139D of the Code)............................. 346
S. Establishment of SIMPLE Cafeteria Plans for Small
Businesses (sec. 9022 of the Act and sec. 125 of
the Code).......................................... 348
T. Investment Credit for Qualifying Therapeutic
Discovery Projects (sec. 9023 of the Act and new
sec. 48D of the Code).............................. 352
TITLE X--STRENGTHENING QUALITY, AFFORDABLE HEALTH CARE FOR ALL
AMERICANS...................................................... 355
A. Study of Geographic Variation in Application of FPL
(sec. 10105 of the Act)............................ 355
B. Free Choice Vouchers (sec. 10108 of the Act and sec.
139D of the Code).................................. 355
C. Exclusion for Assistance Provided to Participants in
State Student Loan Repayment Programs for Certain
Health Professionals (sec. 10908 of the Act and
sec. 108(f)(4) of the Code)........................ 357
D. Expansion of Adoption Credit and the Exclusion from
Gross Income for Employer-Provided Adoption
Assistance (sec. 10909 of the Act and secs. 23 and
137 of the Code)................................... 358
HEALTH CARE AND EDUCATION RECONCILIATION ACT OF 2010............. 360
A. Adult Dependents (sec. 1004 of the Act and secs.
105, 162, 401, and 501 of the Code)................ 360
B. Unearned Income Medicare Contribution (sec. 1402 of
the Act and new sec. 1411 of the Code)............. 363
C. Excise Tax on Medical Device Manufacturers (sec.
1405 of the Act and new sec. 4191 of the Code)..... 365
D. Elimination of Unintended Application of Cellulosic
Biofuel Producer Credit (sec. 1408 of the Act and
sec. 40 of the Code)............................... 367
E. Codification of Economic Substance Doctrine and
Imposition of Penalties (sec. 1409 of the Act and
secs. 6662, 6662A, 6664, 6676, and 7701 of the
Code).............................................. 369
F. Time for Payment of Corporate Estimated Taxes (sec.
1410 of the Act and sec. 6655 of the Code)......... 382
Part Nine: Revenue Provisions of the Preservation of Access to
Care for Medicare Beneficiaries and Pension Relief Act of 2010
(Public Law 111-192)........................................... 384
A. Authority to Disclose Return Information Concerning
Outstanding Tax Debts for Purposes of Enhancing
Medicare Program Integrity (sec. 103 of the Act and
sec. 6103 of the Code)............................. 384
B. Single Employer Plans............................... 385
1. Extended period for single-employer defined
benefit plans to amortize certain shortfall
amortization bases (sec. 201 of the Act and
sec. 430 of the Code).......................... 385
2. Application of extended amortization period to
plans subject to prior law funding rules (sec.
202 of the Act)................................ 395
3. Lookback for certain benefit restrictions (sec.
203 of the Act and sec. 436 of the Code)....... 403
4. Lookback for credit balance rule for plans
maintained by charities (sec. 204 of the Act
and sec. 430 of the Code)...................... 407
C. Multiemployer Plans................................. 410
1. Adjustments to funding standard account rules
(sec. 211 of the Act and sec. 431 of the Code). 410
Part Ten: Revenue Provisions of the Homebuyer Assistance and
Improvement Act of 2010 (Public Law 111-198)................... 416
A. Homebuyer Credit (sec. 2 of the Act and sec. 36 of
the Code).......................................... 416
B. Revenue Offsets..................................... 419
1. Application of bad check penalty to electronic
checks and other payment forms (sec. 3 of the
Act and sec. 6657 of the Code)................. 419
2. Disclosure of prisoner return information to
State prisons (sec. 4 of the Act and sec. 6103
of the Code)................................... 421
Part Eleven: Revenue Provisions of the Dodd-Frank Wall Street
Reform and Consumer Protection Act (Public Law 111-203)........ 424
A. Certain Swaps, etc., Not Treated as Section 1256
Contracts (sec. 1601 of the Act and sec. 1256 of
the Code).......................................... 424
Part Twelve: Revenue Provisions of the __ Act of __ (Public Law
111-226)....................................................... 426
A. Rules to Prevent Splitting Foreign Tax Credits from
the Income to Which They Relate (sec. 211 of the
Act and new sec. 909 of the Code).................. 426
B. Denial of Foreign Tax Credit with Respect to Foreign
Income Not Subject to U.S. Taxation by Reason of
Covered Asset Acquisitions (sec. 212 of the Act and
sec. 901(m) of the Code)........................... 431
C. Separate Application of Foreign Tax Credit
Limitation, etc., to Items Resourced Under Treaties
(sec. 213 of the Act and sec. 904(d) of the Code).. 439
D. Limitation on the Amount of Foreign Taxes Deemed
Paid with Respect to Section 956 Inclusions (sec.
214 of the Act and sec. 960 of the Code)........... 442
E. Special Rule with Respect to Certain Redemptions by
Foreign Subsidiaries (sec. 215 of the Act and sec.
304(b) of the Code)................................ 447
F. Modification of Affiliation Rules for Purposes of
Rules Allocating Interest Expense (sec. 216 of the
Act and sec. 864 of the Code)...................... 449
G. Termination of Special Rules for Interest and
Dividends Received from Persons Meeting the 80-
Percent Foreign Business Requirements (sec. 217 of
the Act and secs. 861(a)(1)(A) and 871(i) of the
Code).............................................. 451
H. Limitation on Extension of Statute of Limitations
for Failure to Notify Secretary of Certain Foreign
Transfers (sec. 218 of the Act and sec. 6501(c) of
the Code).......................................... 455
I. Elimination of Advance Refundability of Earned
Income Tax Credit (sec. 219 of the Act and secs.
32(g), 3507, and 6051(a) of the Code).............. 457
Part Thirteen: Firearms Excise Tax Improvement Act of 2010
(Public Law 111-237)........................................... 459
A. Time for Payment of Manufacturers' Excise Tax on
Recreational Equipment (sec. 2 of the Act and sec.
6302 of the Code).................................. 459
B. Allow Assessment of Criminal Restitution as Tax
(sec. 3 of the Act and sec. 6213 of the Code)...... 459
C. Time for Payment of Corporate Estimated Taxes (sec.
4 of the Act and sec. 6655 of the Code)............ 461
Part Fourteen: Revenue Provisions of the Small Business Jobs Act
of 2010 (Public Law 111-240)................................... 463
I. SMALL BUSINESS RELIEF..........................................463
A. Providing Access to Capital......................... 463
1. Temporary exclusion of 100 percent of gain on
certain small business stock (sec. 2011 of the
Act and sec. 1202 of the Code)................. 463
2. Five-year carryback of general business credit
of eligible small business (sec. 2012 of the
Act and sec. 39 of the Code)................... 464
3. General business credit of eligible small
business not subject to alternative minimum tax
(sec. 2013 of the Act and sec. 38 of the Code). 465
4. Temporary reduction in recognition period for S
corporation built-in gains tax (sec. 2014 of
the Act and sec. 1374 of the Code)............. 466
B. Encouraging Investment.............................. 467
1. Increase and expand expensing of certain
depreciable business assets (sec. 2021 of the
Act and sec. 179 of the Code).................. 467
2. Extend the additional first-year depreciation
allowance (sec. 2022 of the Act and sec. 168(k)
of the Code)................................... 469
3. Disregard bonus depreciation in computing
percentage completion (sec. 2023 of the Act and
new sec. 460(c)(6) of the Code)................ 472
C. Promoting Entrepreneurship.......................... 474
1. Increase amount allowed as deduction for start-
up expenditures (sec. 2031 of the Act and sec.
195 of the Code)............................... 474
D. Promoting Small Business Fairness................... 476
1. Limitation on penalty for failure to disclose
certain information (sec. 2041 of the Act and
sec. 6707A of the Code)........................ 476
2. Temporary deduction for health insurance costs
in computing self-employment income (sec. 2042
of the Act and sec. 162(l) of the Code)........ 480
3. Remove cellular phones and similar
telecommunications equipment from the
definition of listed property (sec. 2043 of the
Act and sec. 280F of the Code)................. 481
II. REVENUE PROVISIONS.............................................484
A. Reducing the Tax Gap................................ 484
1. Information reporting for rental property
expense payments (sec. 2101 of the Act and sec.
6041 of the Code).............................. 484
2. Increase in information return penalties (sec.
2102 of Act and secs. 6721 and 6722 of the
Code).......................................... 486
3. Annual reports on penalties and certain other
enforcement actions (sec. 2103 of the Act)..... 487
4. Application of continuous levy to employment
tax liability of certain Federal contractors
(sec. 2104 of the Act and sec. 6330 of the
Code).......................................... 491
B. Promoting Retirement Preparation.................... 494
1. Allow participants in government section 457
plans to treat elective deferrals as Roth
contributions (sec. 2111 of the Act and sec.
402A of the Code).............................. 494
2. Allow rollovers from elective deferral plans to
designated Roth accounts (sec. 2112 of the Act
and sec. 402A of the Code)..................... 495
3. Permit partial annuitization of a nonqualified
annuity contract (sec. 2113 of the Act and sec.
72 of the Code)................................ 500
C. Closing Unintended Loopholes........................ 502
1. Make crude tall oil ineligible for the
cellulosic biofuel producer credit (sec. 2121
of the Act and sec. 40 of the Code)............ 502
2. Source rules for income on guarantees (sec.
2122 of the Act and secs. 861, 862, and 864 of
the Code)...................................... 504
D. Time for Payment of Corporate Estimated Taxes (sec.
2131 of the Act and sec. 6655 of the Code)......... 507
Part Fifteen: The Claims Resolution Act of 2010 (Public Law 111-
291)........................................................... 508
A. The Individual Indian Money Account Litigation (sec.
101 of the Act).................................... 508
B. Collection of Past-Due, Legally Enforceable State
Debts (sec. 801 of the Act and sec. 6402(f) of the
Code).............................................. 509
Part Sixteen: Revenue Provisons of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010 (Public
Law 111-312)................................................... 512
TITLE I--TEMPORARY EXTENSION OF TAX RELIEF....................... 512
A. Marginal Individual Income Tax Rate Reductions (sec.
101 of the Act and sec. 1 of the Code)............. 512
B. The Overall Limitation on Itemized Deductions and
the Personal Exemption Phase-Out (sec. 101 of the
Act and secs. 68 and 151 of the Code).............. 514
C. Child Tax Credit (secs. 101 and 103 of the Act and
sec. 24 of the Code)............................... 516
D. Marriage Penalty Relief and Earned Income Tax Credit
Simplification (sec. 101 of the Act and secs. 1,
32, and 63 of the Code)............................ 517
E. Education Incentives (sec. 101 of the Act and secs.
117, 127, 142, 146-148, 221, and 530 of the Code).. 519
F. Other Incentives for Families and Children (includes
extension of the adoption tax credit, employer-
provided child care tax credit, and dependent care
tax credit) (sec. 101 of the Act and secs. 21, 23,
36C, 45D, and 137 of the Code)..................... 526
G. Alaska Native Settlement Trusts (sec. 101 of the Act
and sec. 646 of the Code).......................... 528
H. Reduced Rate on Dividends and Capital Gains (sec.
102 of the Act and sec. 1(h) of the Code).......... 530
I. Extend American Opportunity Tax Credit (sec. 103 of
the Act and sec. 25A of the Code).................. 533
J. Child Tax Credit (sec. 103 of the Act and sec. 24 of
the Code).......................................... 536
K. Increase in the Earned Income Tax Credit (sec. 103
of the Act and sec. 32 of the Code)................ 538
TITLE II--TEMPORARY EXTENSION OF INDIVIDUAL ALTERNATIVE MINIMUM
TAX RELIEF..................................................... 540
A. Extension of Alternative Minimum Tax Relief for
Nonrefundable Personal Credits and Increased
Alternative Minimum Tax Exemption Amount (secs. 201
and 202 of the Act and secs. 26 and 55 of the Code) 540
TITLE III--TEMPORARY ESTATE TAX RELIEF........................... 542
A. Modify and Extend the Estate, Gift, and Generation
Skipping Transfer Taxes After 2009 (sections 301-
304 of the Act and sections 2001, 2010, 2502, 2505,
2511, 2631, and 6018 of the Code).................. 542
TITLE IV--TEMPORARY EXTENSION OF INVESTMENT INCENTIVES........... 556
A. Extension of Bonus Depreciation; Temporary 100
Percent Expensing for Certain Business Assets (sec.
401 of the Act and sec. 168(k) of the Code)........ 556
B. Temporary Extension of Increased Small Business
Expensing (sec. 402 of the Act and sec. 179 of the
Code).............................................. 561
TITLE VI--TEMPORARY EMPLOYEE PAYROLL TAX CUT..................... 562
A. Payroll Tax Cut (sec. 610 of the Act)............... 562
TITLE VII--TEMPORARY EXTENSION OF CERTAIN EXPIRING PROVISIONS.... 565
A. Energy.............................................. 565
1. Incentives for biodiesel and renewable diesel
(sec. 701 of the Act and secs. 40A, 6426, and
6427 of the Code).............................. 565
2. Credit for refined coal facilities (sec. 702 of
the Act and sec. 45 of the Code)............... 568
3. New energy efficient home credit (sec. 703 of
the Act and sec. 45L of the Code).............. 569
4. Excise tax credits and outlay payments for
alternative fuel and alternative fuel mixtures
(sec. 704 of the Act and secs. 6426 and 6427(e)
of the Code)................................... 570
5. Special rule for sales or dispositions to
implement FERC or State electric restructuring
policy for qualified electric utilities (sec.
705 of the Act and sec. 451(i) of the Code).... 572
6. Suspension of limitation on percentage
depletion for oil and gas from marginal wells
(sec. 706 of the Act and sec. 613A of the Code) 573
7. Extension of grants for specified energy
property in lieu of tax credits (sec. 707 of
the Act)....................................... 574
8. Extension of provisions related to alcohol used
as fuel (sec. 708 of the Act and secs. 40,
6426, 6427(e) of the Code)..................... 576
9. Energy efficient appliance credit (sec. 709 of
the Act and sec. 45M of the Code).............. 579
10. Credit for nonbusiness energy property (sec.
710 of the Act and sec. 25C of the Code)....... 581
11. Alternative fuel vehicle refueling property
(sec. 711 of the Act and sec. 30C of the Code). 585
B. Individual Tax Relief............................... 586
1. Deduction for certain expenses of elementary
and secondary school teachers (sec. 721 of the
Act and sec. 62 of the Code)................... 586
2. Deduction of State and local sales taxes (sec.
722 of the Act and sec. 164 of the Code)....... 587
3. Contributions of capital gain real property
made for conservation purposes (sec. 723 of the
Act and sec. 170 of the Code).................. 589
4. Above-the-line deduction for qualified tuition
and related expenses (sec. 724 of the Act and
sec. 222 of the Code).......................... 592
5. Tax-free distributions from individual
retirement plans for charitable purposes (sec.
725 of the Act and sec. 408 of the Code)....... 593
6. Look-thru of certain regulated investment
company stock in determining gross estate of
nonresidents (sec. 726 of the Act and sec. 2105
of the Code)................................... 597
7. Parity for exclusion from income for employer-
provided mass transit and parking benefits
(sec. 727 of the Act and sec. 132 of the Code). 598
8. Refunds disregarded in the administration of
Federal programs and Federally assisted
programs (sec. 728 of the Act and sec. 6409 of
the Code)...................................... 599
C. Business Tax Relief................................. 600
1. Research credit (sec. 731 of the Act and sec.
41 of the Code)................................ 600
2. Indian employment tax credit (sec. 732 of the
Act and sec. 45A of the Code).................. 603
3. New markets tax credit (sec. 733 of the Act and
sec. 45D of the Code).......................... 604
4. Railroad track maintenance credit (sec. 734 of
the Act and sec. 45G of the Code).............. 606
5. Mine rescue team training credit (sec. 735 of
the Act and sec. 45N of the Code).............. 607
6. Employer wage credit for employees who are
active duty members of the uniformed services
(sec. 736 of the Act and sec. 45P of the Code). 608
7. 15-year straight-line cost recovery for
qualified leasehold improvements, qualified
restaurant buildings and improvements, and
qualified retail improvements (sec. 737 of the
Act and sec. 168 of the Code).................. 610
8. 7-year recovery period for motorsports
entertainment complexes (sec. 738 of the Act
and sec. 168 of the Code)...................... 612
9. Accelerated depreciation for business property
on an Indian reservation (sec. 739 of the Act
and sec. 168(j) of the Code)................... 613
10. Enhanced charitable deduction for contributions
of food inventory (sec. 740 of the Act and sec.
170 of the Code)............................... 614
11. Enhanced charitable deduction for contributions
of book inventories to public schools (sec. 741
of the Act and sec. 170 of the Code)........... 616
12. Enhanced charitable deduction for corporate
contributions of computer inventory for
educational purposes (sec. 742 of the Act and
sec. 170 of the Code).......................... 618
13. Election to expense mine safety equipment (sec.
743 of the Act and sec. 179E of the Code)...... 619
14. Special expensing rules for certain film and
television productions (sec. 744 of the Act and
sec. 181 of the Code).......................... 621
15. Expensing of environmental remediation costs
(sec. 745 of the Act and sec. 198 of the Code). 622
16. Deduction allowable with respect to income
attributable to domestic production activities
in Puerto Rico (sec. 746 of the Act and sec.
199 of the Code)............................... 624
17. Modification of tax treatment of certain
payments to controlling exempt organizations
(sec. 747 of the Act and sec. 512 of the Code). 625
18. Treatment of certain dividends of regulated
investment companies (sec. 748 of the Act and
sec. 871(k) of the Code)....................... 627
19. RIC qualified investment entity treatment under
FIRPTA (sec. 749 of the Act and secs. 897 and
1445 of the Code).............................. 628
20. Exceptions for active financing income (sec.
750 of the Act and secs. 953 and 954 of the
Code).......................................... 629
21. Look-thru treatment of payments between related
controlled foreign corporations under foreign
personal holding company rules (sec. 751 of the
Act and sec. 954(c)(6) of the Code)............ 631
22. Basis adjustment to stock of S corps making
charitable contributions of property (sec. 752
of the Act and sec. 1367 of the Code).......... 632
23. Empowerment zone tax incentives (sec. 753 of
the Act and secs. 1202 and 1391 of the Code)... 633
24. Tax incentives for investment in the District
of Columbia (sec. 754 of the Act and secs.
1400, 1400A, 1400B, and 1400C of the Code)..... 639
25. Temporary increase in limit on cover over of
rum excise taxes to Puerto Rico and the Virgin
Islands (sec. 755 of the Act and sec. 7652(f)
of the Code)................................... 643
26. American Samoa economic development credit
(sec. 756 of the Act and sec. 119 of Pub. L.
No. 109-432)................................... 644
27. Work opportunity credit (sec. 757 of the Act
and sec. 51 of the Code)....................... 646
28. Qualified zone academy bonds (sec. 758 of the
Act and sec. 54E of the Code).................. 651
29. Mortgage insurance premiums (sec. 759 of the
Act and sec. 163 of the Code).................. 654
30. Temporary exclusion of 100 percent of gain on
certain small business stock (sec. 760 of the
Act and sec. 1202 of the Code)................. 655
D. Temporary Disaster Relief Provisions................ 656
1. New York Liberty Zone tax-exempt bond financing
(sec. 761 of the Act and sec. 1400L of the
Code).......................................... 656
2. Increase in rehabilitation credit in the Gulf
Opportunity Zone (sec. 762 of the Act and sec.
1400N(h) of the Code).......................... 657
3. Low-income housing credit rules for buildings
in Gulf Opportunity Zones (sec. 763 and sec.
1400N(c)(5) of the Code)....................... 658
4. Tax-exempt bond financing for the Gulf
Opportunity Zones (sec. 764 of the Act and sec.
1400N(a) of the Code).......................... 659
5. Bonus depreciation deduction applicable to
specified Gulf Opportunity Zone extension
property (sec. 765 of the Act and sec.
1400N(d)(6) of the Code)....................... 662
Part Seventeen: Regulated Investment Company Modernization Act of
2010 (Public Law 111-325)...................................... 665
I. OVERVIEW OF REGULATED INVESTMENT COMPANIES.....................665
II. CAPITAL LOSS CARRYOVERS OF RICS................................666
A. Capital Loss Carryovers of RICs (sec. 101 of the Act
and sec. 1212(a) of the Code)...................... 666
III. MODIFICATION OF GROSS INCOME AND ASSET TESTS OF RICS...........668
A. Savings Provisions for Failures of RICs to Satisfy
Gross Income and Asset Tests (sec. 201 of the Act
and sec. 851(d) and (i) of the Code)............... 668
IV. MODIFICATION OF RULES RELATED TO DIVIDENDS AND OTHER DISTRIBUTI671
A. Modification of Dividend Designation Requirements
and Allocation Rules for RICs (sec. 301 of the Act
and sec. 852(b) of the Code)....................... 671
B. Earnings and Profits of RICs (sec. 302 of the Act
and sec. 852(c)(1) of the Code).................... 674
C. Pass-thru of Exempt-interest Dividends and Foreign
Tax Credits in Fund of Funds Structures (sec. 303
of the Act and sec. 852(g) of the Code)............ 675
D. Modification of Rules for Spillover Dividends of
RICs (sec. 304 of the Act and sec. 855 of the Code) 676
E. Return of Capital Distributions of RICs (sec. 305 of
the Act and sec. 316 of the Code).................. 676
F. Distributions in Redemption of Stock of RICs (sec.
306 of the Act and secs. 267 and 302 of the Code).. 677
G. Repeal of Preferential Dividend Rule for Publicly
Offered RICs (sec. 307 of the Act and sec. 562 of
the Code).......................................... 678
H. Elective Deferral of Certain Late-Year Losses of
RICs (sec. 308 of the Act and sec. 852(b)(8) of the
Code).............................................. 679
I. Exception to Holding Period Requirement for Exempt-
Interest Dividends Declared on Daily Basis (sec.
309 of the Act and sec. 852(b)(4) of the Code)..... 683
V. MODIFICATIONS RELATED TO EXCISE TAX APPLICABLE TO RICS.........684
A. Excise Tax Exemption for Certain RICs Owned by Tax
Exempt Entities (sec. 401 of the Act and sec.
4982(f) of the Code)............................... 684
B. Deferral of Certain Gains and Losses of RICs for
Excise Tax Purposes (sec. 402 of the Act and sec.
4982(e) of the Code)............................... 684
C. Distributed Amount for Excise Tax Purposes
Determined on Basis of Taxes Paid by RIC (sec. 403
of the Act and sec. 4982(c)(4) of the Code)........ 686
D. Increase in Required Distribution of Capital Gain
Net Income (sec. 404 of the Act and sec. 4982(b)(1)
of the Code)....................................... 686
VI. OTHER PROVISIONS...............................................687
A. Repeal of Assessable Penalty with Respect to
Liability for Tax of RICs (sec. 501 of the Act and
sec. 6697 of the Code)............................. 687
B. Modification of Sale Load Basis Deferral Rule for
RICs (sec. 502 of the Act and sec. 852(f)(1) of the
Code).............................................. 687
Part Eighteen: Revenue Provisions of the Omnibus Trade Act of
2010 (Public Law 111-344)...................................... 689
A. Extension of Health Coverage Tax Credit Improvements
(secs. 111-118 of the Act and secs. 35 and 7527 of
the Code).......................................... 689
B. Time for Payment of Corporate Estimated Taxes (sec.
10002 of the Act and sec. 6655 of the Code)........ 691
Part Nineteen: James Zadroga 9/11 Health and Compensation Act of
2010 (Pubic Law 111-347)....................................... 693
A. Excise Tax on Foreign Procurement (sec. 301 of the
Act and new sec. 5000C of the Code)................ 693
Part Twenty: Authority of Tax Court to Appoint Employees (Public
Law 111-366)................................................... 696
A. Authority of Tax Court to Appoint Employees (sec. 1
of the Act and sec. 7471 of the Code).............. 696
Part Twenty-One: Customs User Fees, Corporate Estimated Taxes,
and Assistance for COBRA Continuation Coverage................. 697
A. Extension of Customs User Fees...................... 697
B. Modifications to Corporate Estimated Tax Payments
Due in July, August, and September, 2010, 2011,
2013, 2014, 2015, and 2019......................... 698
C. Extension of Assistance for COBRA Continuation
Coverage........................................... 701
Appendix: Estimated Budget Effects of Tax Legislation Enacted in
the 111th Congress............................................. 705
INTRODUCTION
This document,\1\ prepared by the staff of the Joint
Committee on Taxation in consultation with the staffs of the
House Committee on Ways and Means and the Senate Committee on
Finance, provides an explanation of tax legislation enacted in
the 111th Congress. The explanation follows the chronological
order of the tax legislation as signed into law.
---------------------------------------------------------------------------
\1\ This document may be cited as follows: Joint Committee on
Taxation, General Explanation of Tax Legislation Enacted in the 111th
Congress (JCS-2-11), March 2011.
---------------------------------------------------------------------------
For each provision, the document includes a description of
present law, explanation of the provision, and effective date.
Present law describes the law in effect immediately prior to
enactment. It does not reflect changes to the law made by the
provision or subsequent to the enactment of the provision. For
many provisions, the reasons for change are also included. In
some instances, provisions included in legislation enacted in
the 111th Congress were not reported out of committee before
enactment. For example, in some cases, the provisions enacted
were included in bills that went directly to the House and
Senate floors. As a result, the legislative history of such
provisions does not include the reasons for change normally
included in a committee report. In the case of such provisions,
no reasons for change are included with the explanation of the
provision in this document.
In some cases, there is no legislative history for enacted
provisions. For such provisions, this document includes a
description of present law, explanation of the provision, and
effective date, as prepared by the staff of the Joint Committee
on Taxation. In some cases, contemporaneous technical
explanations of certain bills were prepared and published by
the staff of the Joint Committee. In those cases, this document
follows the technical explanations. Section references are to
the Internal Revenue Code of 1986, as amended, unless otherwise
indicated.
Part One of this document is an explanation of the
provisions of the Children's Health Insurance Program
Reauthorization Act of 2009 (Pub. L. No. 111-3) relating to
requirements for group health plans and revenue offsets.
Part Two is an explanation of the provisions of the
American Recovery and Reinvestment Act of 2009 (Pub. L. No.
111-5) relating to tax relief for individuals and families, tax
incentives for business, fiscal relief for state and local
governments, energy incentives, and health insurance
assistance.
Part Three is an explanation of the provisions relating to
the extension of the Airport and Airway Trust Fund excise taxes
and expenditure authority (Pub. L. Nos. 111-12, 111-69, 111-
116, 111-153, 111-161, 111-197, 111-216, 111-249, and 111-329).
Part Four is an explanation of the provisions relating to
the extension of the Highway Trust Fund expenditure authority
and restoration of the fund (Pub. L. Nos. 111-46, 111-68, 111-
118, 111-144, 111-147, and 111-322).
Part Five is an explanation of the provisions of the
Worker, Homeownership, and Business Assistance Act of 2009
(Pub. L. No. 111-92) relating to the first-time homebuyer
credit, carryback of operating losses, exclusion of payments
from the Homeowners Assistance Program, and revenue offsets.
Part Six is an explanation of the provision relating to the
acceleration of the income tax benefits for charitable cash
contributions for the relief of victims of the earthquake in
Haiti (Pub. L. No. 111-126).
Part Seven is an explanation of the provisions of the
Hiring Incentives to Restore Employment Act (Pub. L. No. 111-
147) relating to incentives for hiring and retaining unemployed
workers, increased expensing for certain business assets,
qualified tax credit bonds, and foreign account tax compliance
and other revenue offsets.
Part Eight is an explanation of the provisions of the
Patient Protection and Affordable Care Act (Pub. L. No. 111-
148), the Health Care and Education Reconciliation Act of 2010
(Pub. L. No. 111-152), an Act to clarify the health care
provided by the Secretary of Veterans Affairs that constitutes
minimum essential coverage (Pub. L. No. 111-173), and the
Medicare and Medicaid Extenders Act of 2010 (Pub. L. No. 111-
309) relating to incentives for quality, affordable health care
and revenue offsets.
Part Nine is an explanation of the provisions of the
Preservation of Access to Care for Medicare Beneficiaries and
Pension Relief Act of 2010 (Pub. L. No. 111-192) relating to
disclosure of return information to enhance Medicare program
integrity and temporary changes to funding requirements for
single and multiemployer pension plans.
Part Ten is an explanation of the provisions of the
Homebuyer Assistance and Improvement Act of 2010 (Pub. L. No.
111-198) relating to the homebuyer credit and revenue offsets.
Part Eleven is an explanation of the provision of the Dodd-
Frank Wall Street Reform and Consumer Protection Act (Pub. L.
No. 111-203) excluding certain swaps and similar agreements
from the definition of a section 1256 contract.
Part Twelve is an explanation of the provisions of the __
Act of __ (Pub. L. No. 111-226) relating to modifications to
the foreign tax credit, the treatment of certain redemptions by
foreign subsidiaries, and other revenue offsets.
Part Thirteen is an explanation of the provisions of the
Firearms Excise Tax Improvement Act of 2010 (Pub. L. No. 111-
237) relating to the time for payment of manufacturers' excise
tax on recreational equipment and allowing assessment of
criminal restitution as tax.
Part Fourteen is an explanation of the provisions of the
Small Business Jobs Act of 2010 (Pub. L. No. 111-240) relating
to providing access to capital, encouraging investment,
promoting entrepreneurship, promoting small business fairness,
promoting retirement preparation, and revenue offsets.
Part Fifteen is an explanation of the provisions of the
Claims Resolution Act of 2010 (Pub. L. No. 111-291) relating to
the settlement of litigation against the Federal government
alleging mismanagement of individual Indian trust accounts and
trust assets and the collection of past-due, legally
enforceable State debts.
Part Sixteen is an explanation of the provisions of the Tax
Relief, Unemployment Insurance Reauthorization, and Job
Creation Act of 2010 (Pub. L. No. 111-312) relating to the
temporary extension of 2001, 2003, and 2009 tax relief,
individual AMT relief, estate tax relief, investment
incentives, unemployment insurance and related matters, a
temporary employee payroll tax cut, and the temporary extension
of certain expiring provisions.
Part Seventeen is an explanation of the provision of the
Regulated Investment Company Modernization Act of 2010 (Pub. L.
No. 111-325) relating to the modification of certain rules
applicable to regulated investment companies.
Part Eighteen is an explanation of the provisions of
Omnibus Trade Act of 2010 (Pub. L. No. 111-344) relating to
extension of health coverage tax credit.
Part Nineteen is an explanation of the provision of the
James Zadroga 9/11 Health and Compensation Act of 2010 (Pub. L.
No. 111-347) relating to the imposition of an excise tax on
certain foreign procurement.
Part Twenty is an explanation of the provision authorizing
the Tax Court to appoint employees (Pub. L. No. 111-366).
Part Twenty-One is an explanation of the provisions
relating to the extension of custom user fees, the modification
of corporate estimated tax payments and extension of assistance
for COBRA continuation coverage (Pub. L. Nos. 111-3, 111-42,
111-92, 111-118, 111-124, 111-144, 111-147, 111-152, 111-157,
111-171, 111-210, 111-227, 111-237, 111-240, and 111-344).
The Appendix provides the estimated budget effects of tax
legislation enacted in the 111th Congress.
The first footnote in each Part gives the legislative
history of each of the Acts of the 111th Congress discussed.
PART ONE: REVENUE PROVISIONS OF THE CHILDREN'S HEALTH INSURANCE PROGRAM
REAUTHORIZATION ACT OF 2009 (PUBLIC LAW 111-3) \2\
---------------------------------------------------------------------------
\2\ H.R. 2. The bill passed the House on January 14, 2009. The
Senate passed the bill with an amendment on January 29, 2009. The House
agreed to the Senate amendment on February 4, 2009. The President
signed the bill on February 4, 2009. For a technical explanation of the
bill prepared by the staff of the Joint Committee on Taxation, see
Technical Explanation of the Code Provisions of H.R. 2, the
``Children's Health Insurance Program Reauthorization Act of 2009'' as
Passed by the House of Representatives on January 14, 2009 (JCX 3-09),
January 14, 2009).
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I. REQUIREMENTS FOR GROUP HEALTH PLANS
A. Special Enrollment Period Under Group Health Plans (sec. 311 of the
Act and sec. 9801 of the Code \3\)
---------------------------------------------------------------------------
\3\ Except where otherwise stated, all section references are to
the Internal Revenue Code of 1986, as amended (the ``Code'').
---------------------------------------------------------------------------
Present Law
A group health plan is required to permit an employee who
is eligible, but not enrolled, for coverage under the terms of
the plan to enroll for coverage under the plan if certain
conditions are satisfied.\4\ Included among the conditions are
(1) the employee was covered under a group health plan or had
health insurance coverage at the time coverage was previously
offered to the employee, and (2) such other coverage terminated
as a result of loss of eligibility for such coverage. This
special enrollment right must also be extended to a dependent
of an employee if the dependent is eligible, but not enrolled,
for coverage under the terms of the group health plan and the
dependent satisfies the conditions for special enrollment. The
special enrollment rights apply without regard to the dates on
which the employee (or dependent) would otherwise be able to
enroll under the plan. If a plan receives a request for special
enrollment, coverage under the plan must generally begin no
later than the first day of the first calendar month beginning
after the date that notice of the request is received by the
plan.
---------------------------------------------------------------------------
\4\ Sec. 9801(f).
---------------------------------------------------------------------------
An excise tax is imposed if a group health plan fails to
comply with the special enrollment rights requirement.\5\ The
rate of the tax on any failure is $100 for each day in the
noncompliance period with respect to each individual to whom
the failure relates. In the case of a single employer plan, the
tax is imposed on the employer that maintains the plan.
---------------------------------------------------------------------------
\5\ Sec. 4980D.
---------------------------------------------------------------------------
Special enrollment rights that are parallel to the Code's
rules are set forth in the Employee Retirement Income Security
Act of 1974 (``ERISA'') and the Public Health Service Act
(``PHSA'').
Explanation of Provision
Under the provision, a group health plan is required to
permit an employee who is eligible, but not enrolled, for
coverage under the plan to enroll for coverage if either (1)
the employee is covered under a Medicaid plan or a State child
health plan under titles XIX and XXI of the Social Security
Act, respectively (a ``Medicaid plan'' or a ``State child
health plan''), and coverage is terminated as a result of loss
of eligibility for the Medicaid plan or State child health plan
and the employee requests coverage under the group health plan
within 60 days of coverage loss; or (2) the employee becomes
eligible for assistance with respect to coverage under the
group health plan under a Medicaid plan or State child health
plan, and the employee requests coverage not later than 60 days
after the employee is determined to be eligible for such
assistance. The special enrollment rights of the provision also
apply to a dependent of an employee if the dependent is
eligible, but not enrolled, for coverage under the terms of the
group health plan and the dependent satisfies the conditions
for special enrollment. The provision requires an employer to
provide employees with written notice of the availability of
premium assistance programs under Medicaid or State child
health plans. In addition, the administrator of a group health
plan must provide information upon request of a State regarding
the benefits available under the plan with respect to a
participant or beneficiary who is covered under a Medicaid or
State child health plan. The provision makes parallel
amendments to ERISA and PHSA.
Effective Date
The provision is effective on April 1, 2009.
II. OTHER REVENUE PROVISIONS
A. Increase Excise Tax Rates on Tobacco Products and Cigarette Papers
and Tubes (sec. 701 of the Act and sec. 5701 of the Code)
Present Law
Rates of excise tax on tobacco products and cigarette papers and tubes
Tobacco products and cigarette papers and tubes
manufactured in the United States or imported into the United
States are subject to Federal excise tax at the following
rates: \6\
---------------------------------------------------------------------------
\6\ Sec. 5701.
---------------------------------------------------------------------------
Cigars weighing not more than three pounds
per thousand (``small cigars'') are taxed at the rate
of $1.828 per thousand;
Cigars weighing more than three pounds per
thousand (``large cigars'') are taxed at the rate equal
to 20.719 percent of the manufacturer's or importer's
sales price but not more than $48.75 per thousand;
Cigarettes weighing not more than three
pounds per thousand (``small cigarettes'') are taxed at
the rate of $19.50 per thousand ($0.39 per pack);
Cigarettes weighing more than three pounds
per thousand (``large cigarettes'') are taxed at the
rate of $40.95 per thousand, except that, if they
measure more than six and one-half inches in length,
they are taxed at the rate applicable to small
cigarettes, counting each two and three-quarter inches
(or fraction thereof) of the length of each as one
cigarette;
Cigarette papers are taxed at the rate of
$0.0122 for each 50 papers or fractional part thereof,
except that, if they measure more than six and one-half
inches in length, they are taxable by counting each two
and three-quarter inches (or fraction thereof) of the
length of each as one cigarette paper;
Cigarette tubes are taxed at the rate of
$0.0244 for each 50 tubes or fractional part thereof,
except that, if they measure more than six and one-half
inches in length, they are taxable by counting each two
and three-quarter inches (or fraction thereof) of the
length of each as one cigarette tube;
Snuff is taxed at the rate of $0.585 per
pound, and proportionately at that rate on all
fractional parts of a pound;
Chewing tobacco is taxed at the rate of
$0.195 per pound, and proportionately at that rate on
all fractional parts of a pound;
Pipe tobacco is taxed at the rate of $1.0969
per pound, and proportionately at that rate on all
fractional parts of a pound; and
Roll-your-own tobacco is taxed at the rate
of $1.0969 per pound, and proportionately at that rate
on all fractional parts of a pound.
In general, excise taxes on tobacco products and cigarette
papers and tubes manufactured in the United States are
determined at the time of removal.
Floor stocks tax and foreign trade zones
Special tax and duty rules apply with respect to foreign
trade zones. In general, merchandise may be brought into a
foreign trade zone without being subject to the general customs
laws of the United States. Such merchandise may be stored in a
foreign trade zone or may be subjected to manufacturing or
other processes there. The United States Customs and Border
Protection agency of the Department of Homeland Security
(``Customs'') may determine internal revenue taxes and
liquidate duties imposed on foreign merchandise in such foreign
trade zones. Articles on which such taxes and applicable duties
have already been paid, or which have been admitted into the
United States free of tax, that have been taken into a foreign
trade zone from inside the United States, may be held under the
supervision of a customs officer. Such articles may later be
released back into the United States free of further taxes and
duties.\7\
---------------------------------------------------------------------------
\7\ 19 U.S.C. sec. 81c(a).
---------------------------------------------------------------------------
Explanation of Provision
Rate increases
Under the provision, the rates of excise tax on tobacco
products and cigarette papers and tubes are increased,
generally in a proportionate manner. The special rules relating
to the application of the tax rates to large cigarettes and
cigarette papers and tubes longer than six and one-half inches
apply under the provision in the same manner as under present
law. The rates under the provision are as follows:
Small cigars are taxed at the rate of $50.33
per thousand;
Large cigars are taxed at the rate equal to
52.75 percent of the manufacturer's or importer's sales
price but not more than $0.4026 per cigar;
Small cigarettes are taxed at the rate of
$50.33 per thousand;
Large cigarettes are taxed at the rate of
$105.69 per thousand;
Cigarette papers are taxed at the rate of
$0.0315 for each 50 papers or fractional part thereof;
Cigarette tubes are taxed at the rate of
$0.0630 for each 50 tubes or fractional part thereof;
Snuff is taxed at the rate of $1.51 per
pound, and proportionately at that rate on all
fractional parts of a pound;
Chewing tobacco is taxed at the rate of
$0.5033 per pound, and proportionately at that rate on
all fractional parts of a pound;
Pipe tobacco is taxed at the rate of $2.8311
per pound, and proportionately at that rate on all
fractional parts of a pound; and
Roll-your-own tobacco is taxed at the rate
of $24.78 per pound, and proportionately at that rate
on all fractional parts of a pound. The rate for roll-
your-own tobacco is intended to approximate the rate
for small cigarettes.
Floor stocks tax and foreign trade zone treatment
The provision imposes a tax on floor stocks. Taxable
articles (i.e., those articles listed above), except for large
cigars, manufactured in the United States or imported into the
United States which are removed before April 1, 2009, and held
on that date for sale by any person are subject to a floor
stocks tax. The floor stocks tax is equal to the excess of the
applicable tax under the new rates over the applicable tax at
the prior rates. The person holding the article on any tax
increase date to which the floor stocks tax applies is liable
for the tax. Each such person is allowed a $500 credit against
the floor stocks tax.
Notwithstanding any other provision of law, the floor
stocks tax applies to an article located in a foreign trade
zone on any tax increase date, provided that internal revenue
taxes have been determined, or customs duties have been
liquidated, with respect to such article before such date, or
such article is held on a tax-and-duty-paid basis on such date
under the supervision of a customs officer.
For purposes of determining the floor stocks tax, component
members of a ``controlled group'' (as modified) are treated as
one taxpayer.\8\ ``Controlled group'' for these purposes means
a parent-subsidiary, brother-sister, or combined corporate
group with more than 50-percent ownership with respect to
either combined voting power or total value. Under regulations,
similar principles may apply to a group of persons under common
control where one or more persons are not a corporation.
---------------------------------------------------------------------------
\8\ Controlled group is defined in section 1563.
---------------------------------------------------------------------------
The floor stocks tax shall be paid on or before August 1,
2009, in the manner prescribed by Treasury regulations. In
general, all of the rules, including penalties, applicable with
respect to taxes on tobacco products and cigarette papers and
tubes apply to the floor stocks tax. The Secretary of the
Treasury or his delegate (``Secretary'') may treat any person
who bore the ultimate burden of the floor stocks tax as the
person entitled to a credit or refund of such tax.
Effective Date
The provision applies to articles removed after March 31,
2009.
B. Modify Definition of Roll-Your-Own Tobacco (sec. 702(d) of the Act
and sec. 5702 of the Code)
Present Law
Federal excise taxes are imposed upon tobacco products and
cigarette papers and tubes.\9\ Tobacco products are cigars,
cigarettes, snuff, chewing tobacco, pipe tobacco, and roll-
your-own tobacco. A ``cigar'' is any roll of tobacco wrapped in
leaf tobacco or in any substance containing tobacco, other than
any roll of tobacco which is a cigarette. A ``cigarette'' is
(i) any roll of tobacco wrapped in paper or in any substance
not containing tobacco; and (ii) any roll of tobacco wrapped in
any substance containing tobacco which, because of its
appearance, the type of tobacco used in the filler, or its
packaging and labeling, is likely to be offered to, or
purchased by, consumers as a cigarette. ``Roll-your-own
tobacco'' is any tobacco, which because of its appearance,
type, packaging, or labeling, is suitable for use and likely to
be offered to, or purchased by, consumers as tobacco for making
cigarettes. ``Cigarette paper'' is paper, or any other material
except tobacco, prepared for use as a cigarette wrapper. A
``cigarette tube'' is cigarette paper made into a hollow
cylinder for use in making cigarettes.\10\
---------------------------------------------------------------------------
\9\ Sec. 5701.
\10\ Sec. 5702.
---------------------------------------------------------------------------
Wrappers containing tobacco are not within the definition
of cigarette papers or tubes because they contain tobacco. They
are also not generally within the definition of roll-your-own
tobacco because they are usually used to make cigars, not
cigarettes. For the same reason, loose tobacco suitable for
making roll-your-own cigars is not considered to be roll-your-
own tobacco.
Explanation of Provision
Under the provision, the definition of roll-your-own
tobacco is expanded to also include any tobacco, which because
of its appearance, type, packaging, or labeling, is suitable
for use and likely to be offered to, or purchased by, consumers
as tobacco for making cigars, or for use as wrappers for making
cigars.
Effective Date
The provision applies to articles removed after March 31,
2009.
C. Permit, Inventory, Reporting, Recordkeeping Requirements for
Manufacturers and Importers of Processed Tobacco (sec. 702 of the Act
and secs. 5702, 5712, 5713, 5721, 5722, 5723, and 5741 of the Code)
Present Law
Tobacco products and cigarette papers and tubes are subject
to Federal excise tax.\11\ Tobacco products are cigars,
cigarettes, smokeless tobacco, pipe tobacco, and roll-your-own
tobacco.\12\ Manufacturers and importers of tobacco products
and export warehouse proprietors must obtain a permit from the
Secretary of the Treasury or his delegate (``Secretary'').\13\
Manufacturers and importers of tobacco products or cigarette
papers or tubes, and export warehouse proprietors, must also
periodically make an inventory and certain reports and keep
certain records, all as prescribed by the Secretary.\14\
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\11\ Sec. 5701.
\12\ Sec. 5702.
\13\ Sec. 5713.
\14\ Sec. 5721 (inventories); sec. 5722 (reports); sec. 5723
(packaging); sec. 5741 (records).
---------------------------------------------------------------------------
Explanation of Provision
The provision creates a new category of manufacturers and
importers who are subject to regulation but not to Federal
excise tax. Under the provision, manufacturers and importers of
``processed tobacco'' are subject to the present-law permit,
inventory, reporting, packaging, and recordkeeping
requirements. Processed tobacco is any tobacco other than
tobacco products.\15\ A manufacturer of processed tobacco is
any person who processes any tobacco other than tobacco
products, and an importer includes an importer of processed
tobacco. However, the processing of tobacco does not include
the farming or growing of tobacco or the handling of whole
tobacco leaf solely for sale, shipment, or delivery to a
manufacturer of tobacco products or processed tobacco. For
example, under the provision an importer of ``cut rag'' tobacco
or a leaf processor that manufactures such tobacco is subject
to the general permit, inventory, reporting, and recordkeeping
requirements of the Code but is not subject to Federal excise
tax (unless it also imports or manufactures tobacco products or
cigarette papers or tubes).
---------------------------------------------------------------------------
\15\ Sec. 5702(c) defines tobacco products as cigars, cigarettes,
smokeless tobacco, pipe tobacco, and roll-your-own tobacco.
---------------------------------------------------------------------------
Under the provision, any person who is engaged in business
as a manufacturer or importer of processed tobacco on April 1,
2009 and who submits a permit application within 90 days of the
effective date of this provision may continue to engage in such
business pending action on their permit application. Such
persons will be subject to the requirements of this provision
to the same extent as if the person was a permit holder while
final action on the permit application is pending.
Effective Date
The provision is effective on April 1, 2009.
D. Broaden Authority to Deny, Suspend, and Revoke Tobacco Permits (sec.
702(b) of the Act and secs. 5712 and 5713 of the Code)
Present Law
Manufacturers and importers of tobacco products and
proprietors of export warehouses must obtain a permit to engage
in such businesses.\16\ A permit is obtained by application to
the Secretary. The Secretary may deny the application if: (1)
the business premises are inadequate to protect the revenue;
(2) the activity to be carried out at the business premises
does not meet such minimum capacity or activity requirements as
prescribed by the Secretary; (3) the applicant is, by reason of
his business experience, financial standing, or trade
connections, not likely to maintain operations in compliance
with the applicable provisions of the Code; or (4) such
applicant has failed to disclose any material information
required or made any material false statement in the
application.\17\ In the case of a corporation, an applicant
includes any officer, director, or principal stockholder and,
in the case of a partnership, a partner.
---------------------------------------------------------------------------
\16\ Sec. 5713.
\17\ Sec. 5712.
---------------------------------------------------------------------------
A permit is conditioned upon compliance with the rules of
the Code and related regulations pertaining to taxes and
regulation of tobacco products and cigarette papers and tubes.
The Secretary may suspend or revoke a permit after a notice and
hearing if the holder: (1) has not in good faith complied with
those rules or with any other provision of the Code involving
intent to defraud; (2) has violated the conditions of the
permit; (3) has failed to disclose any material information
required or made any material false statement in the permit
application; or (4) has failed to maintain the business
premises in such a manner as to protect the revenue.\18\
---------------------------------------------------------------------------
\18\ Sec. 5713.
---------------------------------------------------------------------------
Explanation of Provision
The provision broadens the present-law authority of the
Secretary to deny, suspend, or revoke tobacco permits. Under
the provision, the Secretary may deny an application for a
permit if the applicant has been convicted of a felony
violation of a Federal or State criminal law relating to
tobacco products or cigarette papers or tubes, or if, by reason
of previous or current legal proceedings involving a violation
of Federal criminal felony laws relating to tobacco products or
cigarette papers or tubes, such applicant is not likely to
maintain operations in compliance with the applicable
provisions of the Code.
Similarly, a permit may be suspended or revoked if the
holder is convicted of a felony violation of a Federal or State
criminal law relating to tobacco products or cigarette papers
or tubes, or if, by reason of previous or current legal
proceedings involving a violation of Federal criminal felony
laws relating to tobacco products or cigarette papers or tubes,
such applicant is not likely to maintain operations in
compliance with the applicable provisions of the Code.
Effective Date
The provision is effective on the date of enactment
(February 4, 2009).
E. Clarify Statute of Limitations Pertaining to Excise Taxes Imposed on
Imported Alcohol, Tobacco Products and Cigarette Papers and Tubes (sec.
702(c) of the Act and sec. 514 of the Tariff Act of 1930)
Present Law
Under the Code, amounts of tax must generally be assessed
within three years after a tax return is filed, and no
proceeding in court without assessment for the collection of
such tax may begin after such period has expired.\19\ If no
return is filed (but is required), the tax may be assessed, or
a proceeding in court for the collection of such tax may be
initiated without assessment, at any time.\20\
---------------------------------------------------------------------------
\19\ Sec. 6501(a).
\20\ Sec. 6501(c)(3).
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Customs collects duties and excise taxes on imports.
Importers of taxable articles relating to tobacco and alcohol
must file a tax return with Customs.\21\ In general, the
limitations period for fixing and assessing duties and taxes
with respect to an import is one year from the date of entry or
removal.\22\ Under the applicable customs law, with some
limited exceptions, any duty or tax imposed on an import is
final and conclusive upon all persons, including the United
States, unless a protest is filed within 180 days or a court
action is timely commenced.\23\
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\21\ 24 C.F.R. sec. 41.81(b) (tobacco products and cigarette papers
and tubes); sec. 5061(a) (distilled spirits, wines, and beer).
\22\ 19 U.S.C. sec. 1504(a). The Secretary may extend this period
under certain circumstances and with notice to the importer.
\23\ 19 U.S.C. sec. 1514(a), (c)(3).
---------------------------------------------------------------------------
Explanation of Provision
The provision clarifies the tax and customs law in the area
of alcohol and tobacco products by providing that,
notwithstanding customs law, the general statute of limitations
for assessment under the Code (sec. 6501) applies with respect
to taxes imposed under chapters 51 (relating to distilled
spirits, wines, and beer) and 52 (relating to tobacco products
and cigarette papers and tubes) of the Code.
No inference is intended regarding the applicability of the
statute of limitations under the Code to pending cases or to
excise taxes imposed other than under chapters 51 and 52 of the
Code.
Effective Date
The provision is effective for articles imported into the
United States after the date of enactment (February 4, 2009).
F. Impose Immediate Tax on Unlawfully Manufactured Tobacco Products and
Cigarette Papers and Tubes (sec. 702(e) of the Act and sec. 5703 of the
Code)
Present Law
Manufacturers and importers of tobacco products and
proprietors of export warehouses must obtain a permit to engage
in such businesses.\24\ A permit is obtained by application to
the Secretary.\25\ A manufacturer of tobacco products or
cigarette papers or tubes, or an export warehouse proprietor,
must file a bond and obtain approval of such bond from the
Secretary.\26\ In general, excise taxes on tobacco products and
cigarette papers and tubes manufactured in the United States
are determined at the time of removal. In the case of taxes on
tobacco products and cigarette papers and tubes removed during
any semimonthly period under bond for deferred payment of tax,
payment is due no later than the 14th day after the last day of
such semimonthly period.\27\
---------------------------------------------------------------------------
\24\ Sec. 5713. A ``manufacturer of tobacco products'' does not
include (1) a person who produces tobacco products solely for the
person's own personal consumption or use, and (2) a proprietor of a
customs bonded manufacturing warehouse with respect to the operation of
such warehouse. Sec. 5702(d).
\25\ Sec. 5712.
\26\ Sec. 5711.
\27\ Sec. 5703.
---------------------------------------------------------------------------
Distilled spirits, wines, and beer produced at any place
other than a place required by the Code are subject to tax
immediately on production.\28\ There is no such rule imposing
immediate tax on tobacco products and cigarette papers and
tubes that are produced by an out-of-compliance manufacturer.
---------------------------------------------------------------------------
\28\ Sec. 5006(c)(2) (distilled spirits); sec. 5041(f) (wines);
sec. 5054(a)(3) (beer).
---------------------------------------------------------------------------
Explanation of Provision
Under the provision, in the case of any tobacco products or
cigarette papers or tubes produced in the United States at any
place other than the premises of a manufacturer that has
obtained a permit (if required) and approval of a bond, the
excise tax is due and payable immediately upon manufacture,
unless they are produced solely for the person's own personal
consumption or use.
Effective Date
The provision is effective on the date of enactment
(February 4, 2009).
G. Use of Tax Information in Tobacco Assessments (sec. 702(f) of the
Act and sec. 6103 of the Code)
Present Law
Section 6103 provides that returns and return information
are confidential and may not be disclosed by the IRS, other
Federal employees, State employees, and certain others having
access to the information except as provided in the Code.\29\ A
``return'' is any tax or information return, declaration of
estimated tax, or claim for refund required by, or permitted
under, the Code, that is filed with the Secretary by, on behalf
of, or with respect to any person.\30\ ``Return'' also includes
any amendment or supplement thereto, including supporting
schedules, attachments, or lists which are supplemental to, or
part of, the return so filed.
---------------------------------------------------------------------------
\29\ Sec. 6103(a).
\30\ Sec. 6103(b)(1).
---------------------------------------------------------------------------
The definition of ``return information'' is very broad and
includes any information gathered by the IRS with respect to a
person's liability or possible liability under the Code.\31\
---------------------------------------------------------------------------
\31\ Sec. 6103(b)(2). Return information is:
a taxpayer's identity, the nature, source, or amount of
his income, payments, receipts, deductions, exemptions, credits,
assets, liabilities, net worth, tax liability, tax withheld,
deficiencies, overassessments, or tax payments, whether the taxpayer's
return was, is being, or will be examined or subject to other
investigation or processing, or any other data, received by, recorded
by, prepared by, furnished to, or collected by the Secretary with
respect to a return or with respect to the determination of the
existence, or possible existence, of liability (or the amount thereof)
of any person under this title for any tax, penalty, interest, fine,
forfeiture, or other imposition, or offense,
any part of any written determination or any background
file document relating to such written determination (as such terms are
defined in section 6110(b)) which is not open to public inspection
under section 6110,
any advance pricing agreement entered into by a taxpayer
and the Secretary and any background information related to such
agreement or any application for an advance pricing agreement, and
any closing agreement under section 7121, and any
similar agreement, and any background information related to such an
agreement or request for such an agreement.
---------------------------------------------------------------------------
However, data in a form that cannot be associated with, or
otherwise identify, directly or indirectly a particular
taxpayer is not ``return information'' for section 6103
purposes.
Section 6103 contains a number of exceptions to the general
rule of confidentiality, which permit disclosure in
specifically identified circumstances when certain conditions
are satisfied.\32\
---------------------------------------------------------------------------
\32\ Sec. 6103(c)-(o). Such exceptions include disclosures by
consent of the taxpayer, disclosures to State tax officials,
disclosures to the taxpayer and persons having a material interest,
disclosures to Committees of Congress, disclosures to the President,
disclosures to Federal employees for tax administration purposes,
disclosures to Federal employees for nontax criminal law enforcement
purposes and to the Government Accountability Office, disclosures for
statistical purposes, disclosures for miscellaneous tax administration
purposes, disclosures for purposes other than tax administration,
disclosures of taxpayer identity information, disclosures to tax
administration contractors and disclosures with respect to wagering
excise taxes.
---------------------------------------------------------------------------
For example, under section 6103(o) of the Code, returns and
return information with respect to the taxes imposed on
alcohol, tobacco and firearms are open to inspection by or
disclosure to officers and employees of a Federal agency whose
official duties require such inspection or disclosure.
The Fair and Equitable Tobacco Reform Act of 2004 \33\
repealed the Federal tobacco support program and created a
Tobacco Trust Fund. Funds from the Tobacco Trust Fund are used
to provide transitional payments to tobacco quota holders and
eligible tobacco producers. The Tobacco Trust Fund is funded by
quarterly assessments paid by manufacturers and importers of
tobacco products. The Farm Service Agency receives tax
information from the Department of the Treasury's Alcohol and
Tobacco Tax and Trade Bureau as part of its administration of
the Tobacco Trust Fund assessments.
---------------------------------------------------------------------------
\33\ Title VI of the American Jobs Creation Act of 2004, Pub. L.
No. 108-357.
---------------------------------------------------------------------------
A September 2008 Department of Agriculture inspector
general report indicated that a number of companies were
delinquent in paying their assessments and have been referred
to the Department of Justice for debt collection.\34\ Section
6103(o) does not provide for the use of the tax information
received in civil actions against the delinquent companies. The
Department of Justice could proceed with the lawsuits based on
information provided by other entities, other than the tax
data.
---------------------------------------------------------------------------
\34\ U.S. Department of Agriculture, Office of Inspector General,
Southeast Region, Report No. 03601-15-At, Audit Report: Tobacco
Transition Payment Program Tobacco Assessments Against Tobacco
Manufacturers and Importers (September 2008).
---------------------------------------------------------------------------
Explanation of Provision
The provision provides that returns and return information
provided to a Federal agency under section 6103(o) may be used
in an action or proceeding, or in the preparation for an action
or proceeding, brought under section 625 the Fair and Equitable
Tobacco Reform Act of 2004 for any unpaid assessments or
penalties arising under such Act.
Effective Date
The provision is effective on and after the date of
enactment (February 4, 2009).
H. Study Concerning Magnitude of Tobacco Smuggling in the United States
(sec. 703 of the Act)
Present Law
Present law does not require the Secretary to submit a
tobacco smuggling study to Congress.
Explanation of Provision
The provision requires the Secretary to submit to Congress
a study concerning the magnitude of tobacco smuggling in the
United States and to recommend the most effective steps to
reduce it. The study would include a review of the loss of
Federal tax revenue due to illicit tobacco trade in the United
States, and the role of imported tobacco products in such
illicit trade.
Effective Date
The study will be completed no later than one year after
the date of enactment (February 4, 2009).
I. Modifications to Corporate Estimated Tax Payments (sec. 704 of the
Act and sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability. For a
corporation whose taxable year is a calendar year, these
estimated payments must be made by April 15, June 15, September
15, and December 15. For tax years beginning on any date other
than January 1, the payments are due in months of the fiscal
year that correspond to the calendar year payment months.
Under the Tax Increase Prevention Act of 2005
(``TIPRA''),\35\ as amended, in the case of a corporation with
assets of at least $1 billion, the payments due in July,
August, and September, 2013, shall be increased to 120.00
percent of the payment otherwise due and the next required
payment shall be reduced accordingly.
---------------------------------------------------------------------------
\35\ Pub. L. No. 109-222.
---------------------------------------------------------------------------
Explanation of Provision \36\
---------------------------------------------------------------------------
\36\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
---------------------------------------------------------------------------
The provision increases the otherwise applicable percentage
for 2013 by 0.50 percentage points.
Effective Date
The provision is effective on the date of enactment
(February 4, 2009).
PART TWO: REVENUE PROVISIONS OF THE AMERICAN RECOVERY AND REINVESTMENT
ACT OF 2009 (PUBLIC LAW 111-5) \37\
TITLE I--TAX PROVISIONS
A. Tax Relief for Individuals and Families
1. Making work pay credit (sec. 1001 of the Act and new sec. 36A of the
Code)
Present Law
Earned income tax credit
Low- and moderate-income workers may be eligible for the
refundable earned income tax credit (``EITC''). Eligibility for
the EITC is based on earned income, adjusted gross income,
investment income, filing status, and immigration and work
status in the United States. The amount of the EITC is based on
the presence and number of qualifying children in the worker's
family, as well as on adjusted gross income and earned income.
---------------------------------------------------------------------------
\37\ H.R. 1. The House Committee on Ways and Means reported H.R.
598 on January 27, 2009 (H.R. Rep. No. 111-8). The text of H.R. 598 was
added to H.R. 1 at Division B, Title I. H.R. 1 passed the House on
January 28, 2009. The Senate Committee on Finance reported S. 350
without a written report on January 29, 2009. The Senate passed H.R. 1
with an amendment incorporating the text of S. 350, as amended, at
Division B, Title I on February 10, 2009. The conference report was
filed on February 12, 2009 (H.R. Rep. No. 111-16) and was passed by the
House on February 13, 2009, and the Senate on February 13, 2009. The
President signed the bill on February 17, 2009.
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The EITC generally equals a specified percentage of earned
income \38\ up to a maximum dollar amount. The maximum amount
applies over a certain income range and then diminishes to zero
over a specified phaseout range. For taxpayers with earned
income (or adjusted gross income (``AGI''), if greater) in
excess of the beginning of the phaseout range, the maximum EITC
amount is reduced by the phaseout rate multiplied by the amount
of earned income (or AGI, if greater) in excess of the
beginning of the phaseout range. For taxpayers with earned
income (or AGI, if greater) in excess of the end of the
phaseout range, no credit is allowed.
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\38\ Earned income is defined as (1) wages, salaries, tips, and
other employee compensation, but only if such amounts are includible in
gross income, plus (2) the amount of the individual's net self-
employment earnings.
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The EITC is a refundable credit, meaning that if the amount
of the credit exceeds the taxpayer's Federal income tax
liability, the excess is payable to the taxpayer as a direct
transfer payment. Under an advance payment system, eligible
taxpayers may elect to receive the credit in their paychecks,
rather than waiting to claim a refund on their tax returns
filed by April 15 of the following year.
Child credit
An individual may claim a tax credit for each qualifying
child under the age of 17. The amount of the credit per child
is $1,000 through 2010 and $500 thereafter. A child who is not
a citizen, national, or resident of the United States cannot be
a qualifying child.
The credit is phased out for individuals with income over
certain threshold amounts. 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. For purposes of
this limitation, modified adjusted gross income includes
certain otherwise excludable income earned by U.S. citizens or
residents living abroad or in certain U.S. territories.
The credit is allowable against the regular tax and the
alternative minimum tax. To the extent the child credit exceeds
the taxpayer's tax liability, the taxpayer is eligible for a
refundable credit (the additional child tax credit) equal to 15
percent of earned income in excess of a threshold dollar amount
(the ``earned income formula''). The threshold dollar amount is
$12,550 (for 2009), and is indexed for inflation.
Families with three or more children may determine the
additional child tax credit using the ``alternative formula,''
if this results in a larger credit than determined under the
earned income formula. Under the alternative formula, the
additional child tax credit equals the amount by which the
taxpayer's social security taxes exceed the taxpayer's earned
income tax credit.
Earned income is defined as the sum of wages, salaries,
tips, and other taxable employee compensation plus net self-
employment earnings. Unlike the EITC, which also includes the
preceding items in its definition of earned income, the
additional child tax credit is based only on earned income to
the extent it is included in computing taxable income. For
example, some ministers' parsonage allowances are considered
self-employment income, and thus are considered earned income
for purposes of computing the EITC, but the allowances are
excluded from gross income for individual income tax purposes,
and thus are not considered earned income for purposes of the
additional child tax credit.
Reasons for Change
The Congress believes that tax relief for working families
is necessary to help the economy recover. By increasing after-
tax disposable income, this credit will permit taxpayers to
purchase additional goods and services, make additional
investments, or pay down debt more efficiently.
Explanation of Provision
In general
The provision provides eligible individuals a refundable
income tax credit for two years (taxable years beginning in
2009 and 2010).
The credit is the lesser of (1) 6.2 percent of an
individual's earned income or (2) $400 ($800 in the case of a
joint return). For these purposes, the earned income definition
is the same as for the earned income tax credit with two
modifications. First, earned income for these purposes does not
include net earnings from self-employment which are not taken
into account in computing taxable income. Second, earned income
for these purposes includes combat pay excluded from gross
income under section 112.
The credit is phased out at a rate of two percent of the
eligible individual's modified adjusted gross income above
$75,000 ($150,000 in the case of a joint return). For these
purposes an eligible individual's modified adjusted gross
income is the eligible individual's adjusted gross income
increased by any amount excluded from gross income under
sections 911, 931, or 933. An eligible individual means any
individual other than: (1) a nonresident alien; (2) an
individual with respect to whom another individual may claim a
dependency deduction for a taxable year beginning in a calendar
year in which the eligible individual's taxable year begins;
and (3) an estate or trust. Each eligible individual must
satisfy identical taxpayer identification number requirements
to those applicable to the earned income tax credit.
Also, the Act provides that the otherwise allowable making
work pay credit allowed under the provision is reduced by the
amount of any payment received by the taxpayer pursuant to the
provisions of the bill providing economic recovery payments
under the Veterans Administration, Railroad Retirement Board,
and the Social Security Administration and a temporary
refundable tax credit for certain government retirees.\39\ The
Act treats the failure to reduce the making work pay credit by
the amount of such payments or credit, and the omission of the
correct TIN, as clerical errors. This allows the IRS to assess
any tax resulting from such failure or omission without the
requirement to send the taxpayer a notice of deficiency
allowing the taxpayer the right to file a petition with the Tax
Court.
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\39\ The credit for certain government employees is available for
2009. The credit is $250 ($500 for a joint return where both spouses
are eligible individuals). An eligible individual for these purposes is
an individual: (1) who receives an amount as a pension or annuity for
service performed in the employ of the United States or any State or
any instrumentality thereof, which is not considered employment for
purposes of Social Security taxes; and (2) who does not receive an
economic recovery payment under the Veterans Administration, Railroad
Retirement Board, or the Social Security Administration.
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Treatment of the U.S. possessions
Mirror code possessions \40\
The U.S. Treasury will make payments to each mirror code
possession in an amount equal to the aggregate amount of the
credits allowable by reason of the provision to that
possession's residents against its income tax. This amount will
be determined by the Treasury Secretary based on information
provided by the government of the respective possession. For
purposes of these payments, a possession is a mirror code
possession if the income tax liability of residents of the
possession under that possession's income tax system is
determined by reference to the U.S. income tax laws as if the
possession were the United States.
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\40\ Possessions with mirror code tax systems are the United States
Virgin Islands, Guam, and the Commonwealth of the Northern Mariana
Islands.
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Non-mirror code possessions \41\
To each possession that does not have a mirror code tax
system, the U.S. Treasury will make two payments (for 2009 and
2010, respectively) in an amount estimated by the Secretary as
being equal to the aggregate credits that would have been
allowed to residents of that possession if a mirror code tax
system had been in effect in that possession. Accordingly, the
amount of each payment to a non-mirror Code possession will be
an estimate of the aggregate amount of the credits that would
be allowed to the possession's residents if the credit provided
by the provision to U.S. residents were provided by the
possession to its residents. This payment will not be made to
any U.S. possession unless that possession has a plan that has
been approved by the Secretary under which the possession will
promptly distribute the payment to its residents.
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\41\ Possessions that do not have mirror code tax systems are
Puerto Rico and American Samoa.
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General rules
No credit against U.S. income tax is permitted under the
provision for any person to whom a credit is allowed against
possession income taxes as a result of the provision (for
example, under that possession's mirror income tax). Similarly,
no credit against U.S. income tax is permitted for any person
who is eligible for a payment under a non-mirror code
possession's plan for distributing to its residents the payment
described above from the U.S. Treasury.
For purposes of the payments to the possessions, the
Commonwealth of Puerto Rico and the Commonwealth of the
Northern Mariana Islands are considered possessions of the
United States.
For purposes of the rule permitting the Treasury Secretary
to disburse appropriated amounts for refunds due from certain
credit provisions of the Internal Revenue Code of 1986, the
payments required to be made to possessions under the provision
are treated in the same manner as a refund due from the credit
allowed under the provision.
Federal programs or Federally-assisted programs
Any credit or refund allowed or made to an individual under
this provision (including to any resident of a U.S. possession)
is not taken into account as income and shall not be taken into
account as resources for the month of receipt and the following
two months for purposes of determining eligibility of such
individual or any other individual for benefits or assistance,
or the amount or extent of benefits or assistance, under any
Federal program or under any State or local program financed in
whole or in part with Federal funds.
Income tax withholding
The Act also provides for a more accelerated delivery of
the credit in 2009 through revised income tax withholding
schedules produced by the Department of the Treasury. Under the
Act, these revised income tax withholding schedules would be
designed to reduce taxpayers' income tax withheld for the
remainder of 2009 in such a manner that the full annual benefit
of the provision is reflected in income tax withheld during the
remainder of 2009.
Effective Date
The provision applies to taxable years beginning after
December 31, 2008.
2. Increase in the earned income tax credit (sec. 1002 of the Act and
sec. 32 of the Code)
Present Law
Overview
Low- and moderate-income workers may be eligible for the
refundable earned income tax credit (``EITC''). Eligibility for
the EITC is based on earned income, adjusted gross income,
investment income, filing status, and immigration and work
status in the United States. The amount of the EITC is based on
the presence and number of qualifying children in the worker's
family, as well as on adjusted gross income and earned income.
The EITC generally equals a specified percentage of earned
income \42\ up to a maximum dollar amount. The maximum amount
applies over a certain income range and then diminishes to zero
over a specified phaseout range. For taxpayers with earned
income (or adjusted gross income (``AGI''), if greater) in
excess of the beginning of the phaseout range, the maximum EITC
amount is reduced by the phaseout rate multiplied by the amount
of earned income (or AGI, if greater) in excess of the
beginning of the phaseout range. For taxpayers with earned
income (or AGI, if greater) in excess of the end of the
phaseout range, no credit is allowed.
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\42\ Earned income is defined as (1) wages, salaries, tips, and
other employee compensation, but only if such amounts are includible in
gross income, plus (2) the amount of the individual's net self-
employment earnings.
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An individual is not eligible for the EITC if the aggregate
amount of disqualified income of the taxpayer for the taxable
year exceeds $3,100 (for 2009). This threshold is indexed for
inflation. Disqualified income is the sum of: (1) interest
(taxable and tax exempt); (2) dividends; (3) net rent and
royalty income (if greater than zero); (4) capital gains net
income; and (5) net passive income (if greater than zero) that
is not self-employment income.
The EITC is a refundable credit, meaning that if the amount
of the credit exceeds the taxpayer's Federal income tax
liability, the excess is payable to the taxpayer as a direct
transfer payment. Under an advance payment system, eligible
taxpayers may elect to receive the credit in their paychecks,
rather than waiting to claim a refund on their tax returns
filed by April 15 of the following year.
Filing status
An unmarried individual may claim the EITC if he or she
files as a single filer or as a head of household. Married
individuals generally may not claim the EITC unless they file
jointly. An exception to the joint return filing requirement
applies to certain spouses who are separated. Under this
exception, a married taxpayer who is separated from his or her
spouse for the last six months of the taxable year shall not be
considered as married (and, accordingly, may file a return as
head of household and claim the EITC), provided that the
taxpayer maintains a household that constitutes the principal
place of abode for a dependent child (including a child,
stepchild, adopted child, or a foster child) for over half the
taxable year,\43\ and pays over half the cost of maintaining
the household in which he or she resides with the child during
the year.
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\43\ A foster child must reside with the taxpayer for the entire
taxable year.
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Presence of qualifying children and amount of the earned income credit
Three separate credit schedules apply: one schedule for
taxpayers with no qualifying children, one schedule for
taxpayers with one qualifying child, and one schedule for
taxpayers with more than one qualifying child.\44\
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\44\ All income thresholds are indexed for inflation annually.
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Taxpayers with no qualifying children may claim a credit if
they are over age 24 and below age 65. The credit is 7.65
percent of earnings up to $5,970, resulting in a maximum credit
of $457 for 2009. The maximum is available for those with
incomes between $5,970 and $7,470 ($10,590 if married filing
jointly). The credit begins to phase down at a rate of 7.65
percent of earnings above $7,470 ($10,590 if married filing
jointly) resulting in a $0 credit at $13,440 of earnings
($16,560 if married filing jointly).
Taxpayers with one qualifying child may claim a credit in
2009 of 34 percent of their earnings up to $8,950, resulting in
a maximum credit of $3,043. The maximum credit is available for
those with earnings between $8,950 and $16,420 ($19,540 if
married filing jointly). The credit begins to phase down at a
rate of 15.98 percent of earnings above $16,420 ($19,540 if
married filing jointly). The credit phases down to $0 at
$35,463 of earnings ($38,583 if married filing jointly).
Taxpayers with more than one qualifying child may claim a
credit in 2009 of 40 percent of earnings up to $12,570,
resulting in a maximum credit of $5,028. The maximum credit is
available for those with earnings between $12,570 and $16,420
($19,540 if married filing jointly). The credit begins to phase
down at a rate of 21.06 percent of earnings above $16,420
($19,540 if married filing jointly). The credit phases down to
$0 at $40,295 of earnings ($43,415 if married filing jointly).
If more than one taxpayer lives with a qualifying child,
only one of these taxpayers may claim the child for purposes of
the EITC. If multiple eligible taxpayers actually claim the
same qualifying child, then a tiebreaker rule determines which
taxpayer is entitled to the EITC with respect to the qualifying
child. Any eligible taxpayer with at least one qualifying child
who does not claim the EITC with respect to qualifying children
due to failure to meet certain identification requirements with
respect to such children (i.e., providing the name, age and
taxpayer identification number of each of such children) may
not claim the EITC for taxpayers without qualifying children.
Reasons for Change
The Congress recognizes the importance of the EITC as a
means of providing tax relief to low- and middle-income
families with children. The Congress also recognizes that
larger families need additional tax relief. The Congress
therefore believes that the EITC should be expanded to provide
additional tax relief to families with three or more qualifying
children.
Explanation of Provision \45\
Three or more qualifying children
The provision increases the EITC credit percentage for
families with three or more qualifying children to 45 percent
for 2009 and 2010. For example, in 2009 taxpayers with three or
more qualifying children may claim a credit of 45 percent of
earnings up to $12,570, resulting in a maximum credit of
$5,656.50.
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\45\ The provision was subsequently amended by section 103 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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Provide additional marriage penalty relief through higher threshold
phase-out amounts for married couples filing joint returns
The provision increases the threshold phase-out amounts for
married couples filing joint returns to $5,000 \46\ above the
threshold phase-out amounts for singles, surviving spouses, and
heads of households) for 2009 and 2010. For example, in 2009
the maximum credit of $3,043 for one qualifying child is
available for those with earnings between $8,950 and $16,420
($21,420 if married filing jointly). The credit begins to phase
down at a rate of 15.98 percent of earnings above $16,420
($21,420 if married filing jointly). The credit phases down to
$0 at $35,463 of earnings ($40,463 if married filing jointly).
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\46\ The $5,000 amount is indexed for inflation in the case of
taxable years beginning in 2010.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2008.
3. Increase of refundable portion of the child credit (sec. 1003 of the
Act and sec. 24 of the Code)
Present Law
An individual may claim a tax credit for each qualifying
child under the age of 17. The amount of the credit per child
is $1,000 through 2010, and $500 thereafter. A child who is not
a citizen, national, or resident of the United States cannot be
a qualifying child.
The credit is phased out for individuals with income over
certain threshold amounts. 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. For purposes of
this limitation, modified adjusted gross income includes
certain otherwise excludable income earned by U.S. citizens or
residents living abroad or in certain U.S. territories.
The credit is allowable against the regular tax and the
alternative minimum tax. To the extent the child credit exceeds
the taxpayer's tax liability, the taxpayer is eligible for a
refundable credit (the additional child tax credit) equal to 15
percent of earned income in excess of a threshold dollar amount
(the ``earned income'' formula). The threshold dollar amount is
$12,550 (for 2009), and is indexed for inflation.
Families with three or more children may determine the
additional child tax credit using the alternative formula, if
doing so results in a larger credit than determined under the
earned income formula. Under the alternative formula, the
additional child tax credit equals the amount by which the
taxpayer's social security taxes exceed the taxpayer's earned
income tax credit (``EITC'').
Earned income is defined as the sum of wages, salaries,
tips, and other taxable employee compensation plus net self-
employment earnings. Unlike the EITC, which also includes the
preceding items in its definition of earned income, the
additional child tax credit is based only on earned income to
the extent it is included in computing taxable income. For
example, some ministers' parsonage allowances are considered
self-employment income and thus are considered earned income
for purposes of computing the EITC, but the allowances are
excluded from gross income for individual income tax purposes
and thus are not considered earned income for purposes of the
additional child tax credit.
Any credit or refund allowed or made to an individual under
this provision (including to any resident of a U.S. possession)
is not taken into account as income and shall not be taken into
account as resources for the month of receipt and the following
two months for purposes of determining eligibility of such
individual or any other individual for benefits or assistance,
or the amount or extent of benefits or assistance, under any
Federal program or under any State or local program financed in
whole or in part with Federal funds.
Reasons for Change
The Congress believes that it is necessary to extend the
benefit of the child credit to families that currently do not
benefit by virtue of the earned income threshold in the formula
for determining the refundable child credit.
Explanation of Provision \47\
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\47\ The provision was subsequently amended by section 103 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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The provision modifies the earned income formula for the
determination of the refundable child credit to apply to 15
percent of earned income in excess of $3,000 for taxable years
beginning in 2009 and 2010.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2008.
4. American Opportunity Tax Credit (sec. 1004 of the Act and sec. 25A
of the Code)
Present Law
Individual taxpayers are allowed to claim a nonrefundable
credit, the Hope credit, against Federal income taxes of up to
$1,800 (for 2009) per eligible 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.\48\ The Hope credit rate is 100 percent on
the first $1,200 of qualified tuition and related expenses, and
50 percent on the next $1,200 of qualified tuition and related
expenses; these dollar amounts are indexed for inflation, with
the amount rounded down to the next lowest multiple of $100.
Thus, for example, a taxpayer who incurs $1,200 of qualified
tuition and related expenses for an eligible student is
eligible (subject to the adjusted gross income phaseout
described below) for a $1,200 Hope credit. If a taxpayer incurs
$2,400 of qualified tuition and related expenses for an
eligible student, then he or she is eligible for a $1,800 Hope
credit.
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\48\ Sec. 25A. The Hope credit generally may not be claimed against
a taxpayer's alternative minimum tax liability. However, the credit may
be claimed against a taxpayer's alternative minimum tax liability for
taxable years beginning prior to January 1, 2009.
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The Hope credit that a taxpayer may otherwise claim is
phased out ratably for taxpayers with modified adjusted gross
income between $50,000 and $60,000 ($100,000 and $120,000 for
married taxpayers filing a joint return) for 2009. The adjusted
gross income phaseout ranges are indexed for inflation, with
the amount rounded down to the next lowest multiple of $1,000.
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.
The Hope credit is available in the taxable year the
expenses are paid, subject to the requirement that the
education is furnished to the student during that year or
during an academic period beginning during the first three
months of the next taxable year. Qualified tuition and related
expenses paid with the proceeds of a loan generally are
eligible for the Hope credit. The repayment of a loan itself is
not a qualified tuition or related expense.
A taxpayer may claim the Hope credit with respect to an
eligible student who is not the taxpayer or the taxpayer's
spouse (e.g., in cases in which the student is the taxpayer's
child) only if the taxpayer claims the student as a dependent
for the taxable year for which the credit is claimed. If a
student is claimed as a dependent, the student is not entitled
to claim a Hope credit for that taxable year on the student's
own tax return. If a parent (or other taxpayer) claims a
student as a dependent, any qualified tuition and related
expenses paid by the student are treated as paid by the parent
(or other taxpayer) for purposes of determining the amount of
qualified tuition and related expenses paid by such parent (or
other taxpayer) under the provision. In addition, for each
taxable year, a taxpayer may elect either the Hope credit, the
Lifetime Learning credit, or an above-the-line deduction for
qualified tuition and related expenses with respect to an
eligible student.
The Hope credit is available for ``qualified tuition and
related expenses,'' which include tuition and fees (excluding
nonacademic 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. The
Hope credit is not allowed with respect to any education
expense for which a deduction is claimed under section 162 or
any other section of the Code.
An eligible student for purposes of the Hope credit is an
individual who is enrolled in a degree, certificate, or other
program (including a program of study abroad approved for
credit by the institution at which such student is enrolled)
leading to a recognized educational credential at an eligible
educational institution. The student must pursue a course of
study on at least a half-time basis. A student is considered to
pursue a course of study on at least a half-time basis if the
student carries at least one half the normal full-time work
load for the course of study the student is pursuing for at
least one academic period that begins during the taxable year.
To be eligible for the Hope credit, a student must not have
been convicted of a Federal or State felony consisting of the
possession or distribution of a controlled substance.
Eligible educational institutions generally are accredited
post-secondary educational institutions offering credit toward
a bachelor's degree, an associate's degree, or another
recognized post-secondary credential. Certain proprietary
institutions and post-secondary vocational institutions also
are eligible educational institutions. To qualify as an
eligible educational institution, an institution must be
eligible to participate in Department of Education student aid
programs.
Effective for taxable years beginning after December 31,
2010, the changes to the Hope credit made by the Economic
Growth and Tax Relief Reconciliation Act of 2001 (``EGTRRA'')
no longer apply. The principal EGTRRA change scheduled to
expire is the change that permitted a taxpayer to claim a Hope
credit in the same year that he or she claimed an exclusion
from a Coverdell education savings account. Thus, after 2010, a
taxpayer cannot claim a Hope credit in the same year he or she
claims an exclusion from a Coverdell education savings account.
Reasons for Change
The Congress observes that the cost of a college education
continues to rise, and thus believes that a modification of the
Hope credit is appropriate to mitigate the impact of rising
tuition costs on students and their families. The Congress
further believes that making a portion of the credit refundable
will deliver an incentive to attend college to those who do not
currently benefit from the present-law credit.
Explanation of Provision \49\
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\49\ The provision was subsequently amended by section 103 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen.
---------------------------------------------------------------------------
The provision modifies the Hope credit for taxable years
beginning in 2009 or 2010. The modified credit is referred to
as the American Opportunity Tax credit. The allowable modified
credit is up to $2,500 per eligible student per year for
qualified tuition and related expenses paid for each of the
first four years of the student's post-secondary education in a
degree or certificate program. The modified credit rate is 100
percent on the first $2,000 of qualified tuition and related
expenses, and 25 percent on the next $2,000 of qualified
tuition and related expenses. For purposes of the modified
credit, the definition of qualified tuition and related
expenses is expanded to include course materials.\50\
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\50\ A technical correction may be necessary so that the statute
reflects this intent. See section 2(a) of H.R. 4169, the ``Tax
Technical Corrections Act of 2009,'' introduced December 2, 2009.
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Under the provision, the modified credit is available with
respect to an individual student for four years, provided that
the student has not completed the first four years of post-
secondary education before the beginning of the fourth taxable
year. Thus, the modified credit, in addition to other
modifications, extends the application of the Hope credit to
two more years of post-secondary education.
The modified credit that a taxpayer may otherwise claim is
phased out ratably for taxpayers with modified adjusted gross
income between $80,000 and $90,000 ($160,000 and $180,000 for
married taxpayers filing a joint return). The modified credit
may be claimed against a taxpayer's alternative minimum tax
liability.
Forty percent of a taxpayer's otherwise allowable modified
credit is refundable. However, no portion of the modified
credit is refundable if the taxpayer claiming the credit is a
child to whom section 1(g) applies for such taxable year
(generally, any child under age 18 or any child under age 24
who is a student providing less than one-half of his or her own
support, who has at least one living parent and does not file a
joint return).
In addition, the provision requires the Secretary of the
Treasury to conduct two studies and submit a report to Congress
on the results of those studies within one year after the date
of enactment. The first study shall examine how to coordinate
the Hope and Lifetime Learning credits with the Pell grant
program. The second study shall examine requiring students to
perform community service as a condition of taking their
tuition and related expenses into account for purposes of the
Hope and Lifetime Learning credits.
Under the Act, bona fide residents of the U.S. possessions
(American Samoa, the Commonwealth of the Northern Mariana
Islands, the Commonwealth of Puerto Rico, Guam, and the U.S.
Virgin Islands) are not permitted to claim the refundable
portion of the American opportunity credit in the United
States. Rather, a bona fide resident of a mirror code
possession (the Commonwealth of the Northern Mariana Islands,
Guam, and the U.S. Virgin Islands) may claim the refundable
portion of the credit in the possession in which the individual
is a resident. Similarly, a bona fide resident of a non-mirror
code possession (the Commonwealth of Puerto Rico and American
Samoa) may claim the refundable portion of the credit in the
possession in which the individual is a resident, but only if
that possession establishes a plan for permitting the claim
under its internal law.
The Act provides that the U.S. Treasury will make payments
to the possessions in respect of credits allowable to their
residents under their internal laws. Specifically, the U.S.
Treasury will make payments to each mirror code possession in
an amount equal to the aggregate amount of the refundable
portion of the credits allowable by reason of the provision to
that possession's residents against its income tax. This amount
will be determined by the Treasury Secretary based on
information provided by the government of the respective
possession. To each possession that does not have a mirror code
tax system, the U.S. Treasury will make two payments (for 2009
and 2010, respectively) in an amount estimated by the Secretary
as being equal to the aggregate amount of the refundable
portion of the credits that would have been allowed to
residents of that possession if a mirror code tax system had
been in effect in that possession. Accordingly, the amount of
each payment to a non-mirror code possession will be an
estimate of the aggregate amount of the refundable portion of
the credits that would be allowed to the possession's residents
if the credit provided by the provision to U.S. residents were
provided by the possession to its residents. This payment will
not be made to any U.S. possession unless that possession has a
plan that has been approved by the Secretary under which the
possession will promptly distribute the payment to its
residents.
Effective Date
The provision is effective with respect to taxable years
beginning after December 31, 2008.
5. Temporarily allow computer technology and equipment as a qualified
higher education expense for qualified tuition programs (sec.
1005 of the Act and sec. 529 of the Code)
Present Law
Section 529 provides specified income tax and transfer tax
rules for the treatment of accounts and contracts established
under qualified tuition programs.\51\ A qualified tuition
program is a program established and maintained by a State or
agency or instrumentality thereof, or by one or more eligible
educational institutions, which satisfies certain requirements
and under which a person may purchase tuition credits or
certificates on behalf of a designated beneficiary that entitle
the beneficiary to the waiver or payment of qualified higher
education expenses of the beneficiary (a ``prepaid tuition
program''). In the case of a program established and maintained
by a State or agency or instrumentality thereof, a qualified
tuition program also includes a program under which a person
may make contributions to an account that is established for
the purpose of satisfying the qualified higher education
expenses of the designated beneficiary of the account, provided
it satisfies certain specified requirements (a ``savings
account program''). Under both types of qualified tuition
programs, a contributor establishes an account for the benefit
of a particular designated beneficiary to provide for that
beneficiary's higher education expenses.
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\51\ For purposes of this description, the term ``account'' is used
interchangeably to refer to a prepaid tuition benefit contract or a
tuition savings account established pursuant to a qualified tuition
program.
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For this purpose, qualified higher education expenses means
tuition, fees, books, supplies, and equipment required for the
enrollment or attendance of a designated beneficiary at an
eligible educational institution, and expenses for special
needs services in the case of a special needs beneficiary that
are incurred in connection with such enrollment or attendance.
Qualified higher education expenses generally also include room
and board for students who are enrolled at least half-time.
Contributions to a qualified tuition program must be made
in cash. Section 529 does not impose a specific dollar limit on
the amount of contributions, account balances, or prepaid
tuition benefits relating to a qualified tuition account;
however, the program is required to have adequate safeguards to
prevent contributions in excess of amounts necessary to provide
for the beneficiary's qualified higher education expenses.
Contributions generally are treated as a completed gift
eligible for the gift tax annual exclusion. Contributions are
not tax deductible for Federal income tax purposes, although
they may be deductible for State income tax purposes. Amounts
in the account accumulate on a tax-free basis (i.e., income on
accounts in the plan is not subject to current income tax).
Distributions from a qualified tuition program are
excludable from the distributee's gross income to the extent
that the total distribution does not exceed the qualified
higher education expenses incurred for the beneficiary. If a
distribution from a qualified tuition program exceeds the
qualified higher education expenses incurred for the
beneficiary, the portion of the excess that is treated as
earnings generally is subject to income tax and an additional
10-percent tax. Amounts in a qualified tuition program may be
rolled over to another qualified tuition program for the same
beneficiary or for a member of the family of that beneficiary
without income tax consequences.
In general, prepaid tuition contracts and tuition savings
accounts established under a qualified tuition program involve
prepayments or contributions made by one or more individuals
for the benefit of a designated beneficiary, with decisions
with respect to the contract or account to be made by an
individual who is not the designated beneficiary. Qualified
tuition accounts or contracts generally require the designation
of a person (generally referred to as an ``account owner'')
whom the program administrator (oftentimes a third party
administrator retained by the State or by the educational
institution that established the program) may look to for
decisions, recordkeeping, and reporting with respect to the
account established for a designated beneficiary. Generally,
the person or persons who make the contributions to the account
need not be the same person who is regarded as the account
owner for purposes of administering the account. Under many
qualified tuition programs, the account owner generally has
control over the account or contract, including the ability to
change designated beneficiaries and to withdraw funds at any
time and for any purpose. Thus, in practice, qualified tuition
accounts or contracts generally involve a contributor, a
designated beneficiary, an account owner (who oftentimes is not
the contributor or the designated beneficiary), and an
administrator of the account or contract.\52\
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\52\ Section 529 refers to contributors and designated
beneficiaries, but does not define or otherwise refer to the term
account owner, which is a commonly used term among qualified tuition
programs.
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Explanation of Provision \53\
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\53\ The provision was subsequently amended by section 742 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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The provision expands the definition of qualified higher
education expenses for expenses paid or incurred in 2009 and
2010 to include expenses for certain computer technology and
equipment to be used by the designated beneficiary and the
beneficiary's family while the beneficiary is enrolled at an
eligible educational institution.
Effective Date
The provision is effective for expenses paid or incurred
after December 31, 2008.
6. Modifications to homebuyer credit (sec. 1006 of the Act and sec. 36
of the Code)
Present Law
A taxpayer who is a first-time homebuyer is allowed a
refundable tax credit equal to the lesser of $7,500 ($3,750 for
a married individual filing separately) or 10 percent of the
purchase price of a principal residence. The credit is allowed
for the tax year in which the taxpayer purchases the home
unless the taxpayer makes an election as described below. The
credit is allowed for qualifying home purchases on or after
April 9, 2008 and before July 1, 2009 (without regard to
whether there was a binding contract to purchase prior to April
9, 2008).
The credit phases out for individual taxpayers with
modified adjusted gross income between $75,000 and $95,000
($150,000 and $170,000 for joint filers) for the year of
purchase.
A taxpayer is considered a first-time homebuyer if such
individual had no ownership interest in a principal residence
in the United States during the three-year period prior to the
purchase of the home to which the credit applies.
No credit is allowed if the D.C. homebuyer credit is
allowable for the taxable year the residence is purchased or a
prior taxable year. A taxpayer is not permitted to claim the
credit if the taxpayer's financing is from tax-exempt mortgage
revenue bonds, if the taxpayer is a nonresident alien, or if
the taxpayer disposes of the residence (or it ceases to be a
principal residence) before the close of a taxable year for
which a credit otherwise would be allowable.
The credit is recaptured ratably over fifteen years with no
interest charge beginning in the second taxable year after the
taxable year in which the home is purchased. For example, if
the taxpayer purchases a home in 2008, the credit is allowed on
the 2008 tax return, and repayments commence with the 2010 tax
return. If the taxpayer sells the home (or the home ceases to
be used as the principal residence of the taxpayer or the
taxpayer's spouse) prior to complete repayment of the credit,
any remaining credit repayment amount is due on the tax return
for the year in which the home is sold (or ceases to be used as
the principal residence). However, the credit repayment amount
may not exceed the amount of gain from the sale of the
residence to an unrelated person. For this purpose, gain is
determined by reducing the basis of the residence by the amount
of the credit to the extent not previously recaptured. No
amount is recaptured after the death of a taxpayer. In the case
of an involuntary conversion of the home, recapture is not
accelerated if a new principal residence is acquired within a
two year period. In the case of a transfer of the residence to
a spouse or to a former spouse incident to divorce, the
transferee spouse (and not the transferor spouse) will be
responsible for any future recapture.
An election is provided to treat a home purchased in the
eligible period in 2009 as if purchased on December 31, 2008
for purposes of claiming the credit on the 2008 tax return and
for establishing the beginning of the recapture period.
Taxpayers may amend their returns for this purpose.
Reasons for Change
The Congress believes that additional support for the
housing sector is warranted. To encourage purchases of homes,
the Committee wishes to increase the benefit of the existing
temporary provision to assist first-time homebuyers by waiving
the recapture of the credit. This change transforms the credit
from the equivalent of an interest-free loan (under present
law) into direct financial support for qualifying home
purchases. To prevent artificial sales for the purpose of
garnering the refundable credit, the waiver of the credit
recapture is available only if taxpayers retain the home and
use it as a principal residence for at least 36 months.
Explanation of Provision \54\
The Act extends the existing homebuyer credit for
qualifying home purchases before December 1, 2009. In addition,
it increases the maximum credit amount to $8,000 ($4,000 for a
married individual filing separately) and waives the recapture
of the credit for qualifying home purchases after December 31,
2008 and before December 1, 2009. This waiver of recapture
applies without regard to whether the taxpayer elects to treat
the purchase in 2009 as occurring on December 31, 2008. If the
taxpayer disposes of the home or the home otherwise ceases to
be the principal residence of the taxpayer within 36 months
from the date of purchase, the present law rules for recapture
of the credit will apply.
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\54\ This provision was subsequently amended by sections 11 and 12
of the Worker, Homeownership, and Business Assistance Act of 2009, Pub.
L. No. 111-92, described in Part Five, and by section 2 of the
Homebuyer Assistance and Improvement Act of 2010, Pub. L. No. 111-98,
described in Part Ten of this document.
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The Act modifies the coordination with the first-time
homebuyer credit for residents of the District of Columbia
under section 1400C. No credit under section 1400C shall be
allowed to any taxpayer with respect to the purchase of a
residence during 2009 if a credit under section 36 is allowable
to such taxpayer (or the taxpayer's spouse) with respect to
such purchase. Taxpayers thus qualify for the more generous
national first-time homebuyer credit rather than the D.C.
homebuyer credit for qualifying purchases in 2009. No credit
under section 36 is allowed for a taxpayer who claimed the D.C.
homebuyer credit in any prior taxable year.
The Act removes the prohibition on claiming the credit if
the residence is financed by the proceeds of a mortgage revenue
bond, a qualified mortgage issue the interest on which is
exempt from tax under section 103.
Effective Date
The provision applies to residences purchased after
December 31, 2008.
7. Election to substitute grants to states for low-income housing
projects in lieu of low-income housing credit allocation for
2009 (secs. 1404 and 1602 of the Act and sec. 42 of the Code)
Present Law
In general
The low-income housing credit may be claimed over a 10-year
period by owners of certain residential rental property for the
cost of rental housing occupied by tenants having incomes below
specified levels.\55\ The amount of the credit for any taxable
year in the credit period is the applicable percentage of the
qualified basis of each qualified low-income building. The
qualified basis of any qualified low-income building for any
taxable year equals the applicable fraction of the eligible
basis of the building.
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\55\ Sec. 42.
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Volume limits
A low-income housing credit is allowable only if the owner
of a qualified building receives a housing credit allocation
from the State or local housing credit agency. Generally, the
aggregate credit authority provided annually to each State for
calendar year 2009 is $2.30 per resident, with a minimum annual
cap of $2,665,000 for certain small population States.\56\
These amounts are indexed for inflation. Projects that also
receive financing with proceeds of tax-exempt bonds issued
subject to the private activity bond volume limit do not
require an allocation of the low-income housing credit.
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\56\ Rev. Proc. 2008-66.
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Basic rule for Federal grants
The basis of a qualified building must be reduced by the
amount of any Federal grant with respect to such building.
Reasons for Change
The current economic downturn has reduced the
attractiveness of low-income housing tax credits to potential
investors, in part because some potential investors have
reduced or no taxable income to offset with these tax credits.
The Congress believes that this provision gives State
allocating agencies added flexibility and will encourage the
building of more low-income housing in the short term, until
investors can again use these tax credits.
Explanation of Provision
Low-income housing grant election amount
The Secretary of the Treasury shall make a grant to the
State housing credit agency of each State in an amount equal to
the low-income housing grant election amount.
The low-income housing grant election amount for a State is
an amount elected by the State subject to certain limits. The
maximum low-income housing grant election amount for a State
may not exceed 85 percent of the product of ten and the sum of
the State's: (1) unused housing credit ceiling for 2008; (2)
any returns to the State during 2009 of credit allocations
previously made by the State; (3) 40 percent of the State's
2009 credit allocation; and (4) 40 percent of the State's share
of the national pool allocated in 2009, if any.
Grants under this provision are not taxable income to
recipients.
Subawards to low-income housing credit buildings
A State receiving a grant under this provision is to use
these monies to make subawards to finance the construction, or
acquisition and rehabilitation of qualified low-income
buildings as defined under the low-income housing credit. A
subaward may be made to finance a qualified low-income building
regardless of whether the building has an allocation of low-
income housing credit. However, in the case of qualified low-
income buildings without allocations of the low-income housing
credit, the State housing credit agency must make a
determination that the subaward with respect to such building
will increase the total funds available to the State to build
and rehabilitate affordable housing. In conjunction with this
determination the State housing credit agency must establish a
process in which applicants for the subawards must demonstrate
good faith efforts to obtain investment commitments before the
agency makes such subawards.
Any building receiving grant money from a subaward is
required to satisfy the low-income housing credit rules. The
State housing credit agency shall perform asset management
functions to ensure compliance with the low-income housing
credit rules and the long-term viability of buildings financed
with these subawards.\57\ Failure to satisfy the low-income
housing credit rules will result in recapture, enforced by
means of liens or other methods that the Secretary of the
Treasury (or delegate) deems appropriate. Any such recapture
will be payable to the Secretary of the Treasury for deposit in
the general fund of the Treasury.
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\57\ The State housing credit agency may collect reasonable fees
from subaward recipients to cover the expenses of the agency's asset
management duties. Alternatively, the State housing credit agency may
retain a third party to perform these asset management duties.
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Any grant funds not used to make subawards before January
1, 2011, and any grant monies from subawards returned on or
after January 1, 2011, must be returned to the Secretary of the
Treasury.
Basic rule for Federal grants
The grants received under this provision do not reduce the
tax basis of a qualified low-income building.
Reduction in low-income housing credit volume limit for 2009
The otherwise applicable low-income housing credit volume
limit for any State for 2009 is reduced by the amount taken
into account in determining the low-income housing grant
election amount.
Appropriations
The provision appropriates to the Secretary of the Treasury
such sums as may be necessary to carry out this provision.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
8. Exclusion from gross income for unemployment compensation benefits
(sec. 1007 of the Act and sec. 85 of the Code)
Present Law
An individual must include in gross income any unemployment
compensation benefits received under the laws of the United
States or any State.
Explanation of Provision
The Act provides that up to $2,400 of unemployment
compensation benefits received in taxable years beginning in
2009 are excluded from gross income by the recipient.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2008.
9. Deduction for State sales tax and excise tax on the purchase of
qualified motor vehicles (sec. 1008 of the Act and secs. 63 and
164 of the Code)
Present Law
In general, a deduction from gross income is allowed for
certain taxes for the taxable year within which the taxes are
paid or accrued. These include State, local, and foreign real
property taxes; State and local personal property taxes; State,
local, and foreign income, war profits, and excess profit
taxes; generation skipping transfer taxes; environmental taxes
imposed by section 59A; and taxes paid or accrued within the
taxable year in carrying on a trade or business or an activity
described in section 212 (relating to the expenses for
production of income). At the election of the taxpayer for the
taxable year, a taxpayer may deduct State and local sales taxes
in lieu of State and local income taxes. No deduction is
allowed for any general sales tax imposed with respect to an
item at a rate other than the general rate of tax, except in
the case of a lower rate of tax applicable to items of food,
clothing, medical supplies, and motor vehicles. In the case of
motor vehicles, if the rate of tax exceeds the general rate,
such excess shall be disregarded, and the general rate shall be
treated as the rate of tax.
Explanation of Provision
The Act provides a deduction for qualified motor vehicle
taxes. It expands the definition of taxes allowed as a
deduction to include qualified motor vehicle taxes paid or
accrued within the taxable year. A taxpayer who itemizes and
makes an election to deduct State and local sales taxes,
including for qualified motor vehicles, in lieu of State and
local income taxes for the taxable year shall not be allowed an
additional deduction for qualified motor vehicle taxes. A
taxpayer who does not itemize deductions is allowed an
increased standard deduction for qualified motor vehicle taxes.
Qualified motor vehicle taxes include any State or local
sales or excise tax imposed on the purchase of a qualified
motor vehicle. A qualified motor vehicle means a passenger
automobile, light truck, or motorcycle which has a gross
vehicle weight rating of not more than 8,500 pounds, or a motor
home acquired for use by the taxpayer after the date of
enactment and before January 1, 2010, the original use of which
commences with the taxpayer.
The deduction is limited to the tax on up to $49,500 of the
purchase price of a qualified motor vehicle. The deduction is
phased out for taxpayers with modified adjusted gross income
between $125,000 and $135,000 ($250,000 and $260,000 in the
case of a joint return).
Effective Date
The provision is effective for purchases on or after the
date of enactment (February 17, 2009) and before January 1,
2010.
10. Extend alternative minimum tax relief for individuals (secs. 1011
and 1012 of the Act and secs. 26 and 55 of the Code)
Present Law
Present law imposes an alternative minimum tax (``AMT'') on
individuals. The AMT is the amount by which the tentative
minimum tax exceeds the regular income tax. An individual's
tentative minimum tax is the sum of (1) 26 percent of so much
of the taxable excess as does not exceed $175,000 ($87,500 in
the case of a married individual filing a separate return) and
(2) 28 percent of the remaining taxable excess. The taxable
excess is so much of the alternative minimum taxable income
(``AMTI'') as exceeds the exemption amount. The maximum tax
rates on net capital gain and dividends used in computing the
regular tax are used in computing the tentative minimum tax.
AMTI is the individual's taxable income adjusted to take
account of specified preferences and adjustments.
The exemption amounts are: (1) $69,950 for taxable years
beginning in 2008 and $45,000 in taxable years beginning after
2008 in the case of married individuals filing a joint return
and surviving spouses; (2) $46,200 for taxable years beginning
in 2008 and $33,750 in taxable years beginning after 2008 in
the case of other unmarried individuals; (3) $34,975 for
taxable years beginning in 2008 and $22,500 in taxable years
beginning after 2008 in the case of married individuals filing
separate returns; and (4) $22,500 in the case of an estate or
trust. The exemption amount is 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.
These amounts are not indexed for inflation.
Present law provides for certain nonrefundable personal tax
credits (i.e., the dependent care credit, the credit for the
elderly and disabled, the adoption credit, the child credit,
the credit for interest on certain home mortgages, the Hope
Scholarship and Lifetime Learning credits, the credit for
savers, the credit for certain nonbusiness energy property, the
credit for residential energy efficient property, the credit
for plug-in electric drive motor vehicles, and the D.C. first-
time homebuyer credit).
For taxable years beginning before 2009, the nonrefundable
personal credits are allowed to the extent of the full amount
of the individual's regular tax and alternative minimum tax.
For taxable years beginning after 2008, the nonrefundable
personal credits (other than the adoption credit, the child
credit, the credit for savers, the credit for residential
energy efficient property, and the credit for plug-in electric
drive motor vehicles) are allowed only to the extent that the
individual's regular income tax liability exceeds the
individual's tentative minimum tax, determined without regard
to the minimum tax foreign tax credit. The adoption credit, the
child credit, the credit for savers, the credit for residential
energy efficient property, and the credit for plug-in electric
drive motor vehicles are allowed to the full extent of the
individual's regular tax and alternative minimum tax.\58\
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\58\ The rule applicable to the adoption credit and child credit is
subject to the EGTRRA sunset.
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Explanation of Provision \59\
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\59\ The provision was subsequently amended by sections 201 and 202
of the Tax Relief, Unemployment Insurance Reauthorization, and Job
Creation Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of
this document.
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The Act provides that the individual AMT exemption amount
for taxable years beginning in 2009 is $70,950, in the case of
married individuals filing a joint return and surviving
spouses; (2) $46,700 in the case of other unmarried
individuals; and (3) $35,475 in the case of married individuals
filing separate returns.
For taxable years beginning in 2009, the provision allows
an individual to offset the entire regular tax liability and
alternative minimum tax liability by the nonrefundable personal
credits.
Effective Date
The provision is effective for taxable years beginning in
2009.
B. Tax Incentives for Business
1. Special allowance for certain property acquired during 2009 and
extension of election to accelerate AMT and research credits in
lieu of bonus depreciation (sec. 1201 of the Act and sec.
168(k) of the Code)
Present Law
An additional first-year depreciation deduction is allowed
equal to 50 percent of the adjusted basis of qualified property
placed in service during 2008 (and 2009 for certain longer-
lived and transportation property).\60\ The additional first-
year depreciation deduction is allowed for both regular tax and
alternative minimum tax purposes for the taxable year in which
the property is placed in service.\61\ The basis of the
property and the depreciation allowances in the year of
purchase and later years are appropriately adjusted to reflect
the additional first-year depreciation deduction. In addition,
there are no adjustments to the allowable amount of
depreciation for purposes of computing a taxpayer's alternative
minimum taxable income with respect to property to which the
provision applies. The amount of the additional first-year
depreciation deduction is not affected by a short taxable year.
The taxpayer may elect out of additional first-year
depreciation for any class of property for any taxable year.
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\60\ Sec. 168(k). The additional first-year depreciation deduction
is subject to the general rules regarding whether an item is deductible
under section 162 or instead is subject to capitalization under section
263 or section 263A.
\61\ However, the additional first-year depreciation deduction is
not allowed for purposes of computing earnings and profits.
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The interaction of the additional first-year depreciation
allowance with the otherwise applicable depreciation allowance
may be illustrated as follows. Assume that in 2008, a taxpayer
purchases new depreciable property and places it in
service.\62\ The property's cost is $1,000, and it is five-year
property subject to the half-year convention. The amount of
additional first-year depreciation allowed is $500. The
remaining $500 of the cost of the property is deductible under
the rules applicable to 5-year property. Thus, 20 percent, or
$100, is also allowed as a depreciation deduction in 2008. The
total depreciation deduction with respect to the property for
2008 is $600. The remaining $400 cost of the property is
recovered under otherwise applicable rules for computing
depreciation.
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\62\ Assume that the cost of the property is not eligible for
expensing under section 179.
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In order for property to qualify for the additional first-
year depreciation deduction it must meet all of the following
requirements. First, the property must be (1) property to which
MACRS applies with an applicable recovery period of 20 years or
less, (2) water utility property (as defined in section
168(e)(5)), (3) computer software other than computer software
covered by section 197, or (4) qualified leasehold improvement
property (as defined in section 168(k)(3)).\63\ Second, the
original use \64\ of the property must commence with the
taxpayer after December 31, 2007.\65\ Third, the taxpayer must
acquire the property within the applicable time period.
Finally, the property must be placed in service after December
31, 2007, and before January 1, 2009. An extension of the
placed in service date of one year (i.e., to January 1, 2010)
is provided for certain property with a recovery period of ten
years or longer and certain transportation property.\66\
Transportation property is defined as tangible personal
property used in the trade or business of transporting persons
or property.
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\63\ A special rule precludes the additional first-year
depreciation deduction for any property that is required to be
depreciated under the alternative depreciation system of MACRS.
\64\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\65\ A special rule applies in the case of certain leased property.
In the case of any property that is originally placed in service by a
person and that is sold to the taxpayer and leased back to such person
by the taxpayer within three months after the date that the property
was placed in service, the property would be treated as originally
placed in service by the taxpayer not earlier than the date that the
property is used under the leaseback.
If property is originally placed in service by a lessor, such
property is sold within three months after the date that the property
was placed in service, and the user of such property does not change,
then the property is treated as originally placed in service by the
taxpayer not earlier than the date of such sale.
\66\ In order for property to qualify for the extended placed in
service date, the property is required to have an estimated production
period exceeding one year and a cost exceeding $1 million.
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The applicable time period for acquired property is (1)
after December 31, 2007, and before January 1, 2009, but only
if no binding written contract for the acquisition is in effect
before January 1, 2008, or (2) pursuant to a binding written
contract which was entered into after December 31, 2007, and
before January 1, 2009.\67\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after December 31,
2007, and before January 1, 2009. Property that is
manufactured, constructed, or produced for the taxpayer by
another person under a contract that is entered into prior to
the manufacture, construction, or production of the property is
considered to be manufactured, constructed, or produced by the
taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first-year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before January 1,
2009, (``progress expenditures'') is eligible for the
additional first-year depreciation.\68\
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\67\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to January 1, 2008.
\68\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to sec. 46(d)(3) as in
effect prior to the Tax Reform Act of 1986 shall apply.
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Property does not qualify for the additional first-year
depreciation deduction when the user of such property (or a
related party) would not have been eligible for the additional
first-year depreciation deduction if the user (or a related
party) were treated as the owner. For example, if a taxpayer
sells to a related party property that was under construction
prior to January 1, 2008, the property does not qualify for the
additional first-year depreciation deduction. Similarly, if a
taxpayer sells to a related party property that was subject to
a binding written contract prior to January 1, 2008, the
property does not qualify for the additional first-year
depreciation deduction. As a further example, if a taxpayer
(the lessee) sells property in a sale-leaseback arrangement,
and the property otherwise would not have qualified for the
additional first-year depreciation deduction if it were owned
by the taxpayer-lessee, then the lessor is not entitled to the
additional first-year depreciation deduction.
The limitation on the amount of depreciation deductions
allowed with respect to certain passenger automobiles (sec.
280F) is increased in the first year by $8,000 for automobiles
that qualify (and do not elect out of the increased first year
deduction). The $8,000 increase is not indexed for inflation.
Corporations otherwise eligible for additional first year
depreciation under section 168(k) may elect to claim additional
research or minimum tax credits in lieu of claiming
depreciation under section 168(k) for ``eligible qualified
property'' placed in service after March 31, 2008 and before
December 31, 2008.\69\ A corporation making the election
forgoes the depreciation deductions allowable under section
168(k) and instead increases the limitation under section 38(c)
on the use of research credits or section 53(c) on the use of
minimum tax credits.\70\ The increases in the allowable credits
are treated as refundable for purposes of this provision. The
depreciation for qualified property is calculated for both
regular tax and AMT purposes using the straight-line method in
place of the method that would otherwise be used absent the
election under this provision.
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\69\ Sec. 168(k)(4). In the case of an electing corporation that is
a partner in a partnership, the corporate partner's distributive share
of partnership items is determined as if section 168(k) does not apply
to any eligible qualified property and the straight line method is used
to calculate depreciation of such property.
\70\ Special rules apply to an applicable partnership.
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The research credit or minimum tax credit limitation is
increased by the bonus depreciation amount, which is equal to
20 percent of bonus depreciation \71\ for certain eligible
qualified property that could be claimed absent an election
under this provision. Generally, eligible qualified property
included in the calculation is bonus depreciation property that
meets the following requirements: (1) the original use of the
property must commence with the taxpayer after March 31, 2008;
(2) the taxpayer must purchase the property either (a) after
March 31, 2008, and before January 1, 2009, but only if no
binding written contract for the acquisition is in effect
before April 1, 2008,\72\ or (b) pursuant to a binding written
contract which was entered into after March 31, 2008, and
before January 1, 2009;\73\ and (3) the property must be placed
in service after March 31, 2008, and before January 1, 2009
(January 1, 2010 for certain longer-lived and transportation
property).
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\71\ For this purpose, bonus depreciation is the difference between
(i) the aggregate amount of depreciation for all eligible qualified
property determined if section 168(k)(1) applied using the most
accelerated depreciation method (determined without regard to this
provision), and shortest life allowable for each property, and (ii) the
amount of depreciation that would be determined if section 168(k)(1)
did not apply using the same method and life for each property.
\72\ In the case of passenger aircraft, the written binding
contract limitation does not apply.
\73\ Special rules apply to property manufactured, constructed, or
produced by the taxpayer for use by the taxpayer.
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The bonus depreciation amount is limited to the lesser of:
(1) $30 million, or (2) six percent of the sum of research
credit carryforwards from taxable years beginning before
January 1, 2006 and minimum tax credits allocable to the
adjusted minimum tax imposed for taxable years beginning before
January 1, 2006. All corporations treated as a single employer
under section 52(a) are treated as one taxpayer for purposes of
the limitation, as well as for electing the application of this
provision.
Reasons for Change
Congress believes that allowing additional first-year
depreciation will accelerate purchases of equipment and other
assets, and promote capital investment, modernization, and
growth.
Explanation of Provision\74\
The provision extends the additional first-year
depreciation deduction for one year, generally through 2009
(through 2010 for certain longer-lived and transportation
property).
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\74\ The additional first year depreciation deduction was
subsequently extended for one year generally through 2010 (through 2011
for certain longer-lived and transportation property) by section 2022
of the Small Business Jobs Act of 2010, Pub. L. No. 111-240, described
in Part Fourteen. The provision was temporarily expanded and extended
generally through 2012 (through 2013 for certain longer-lived and
transportation property) by section 401 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010, Pub. L. No.
111-312, described in Part Sixteen of this document.
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The provision generally permits corporations to increase
the research credit or minimum tax credit limitation by the
bonus depreciation amount with respect to certain property
placed in service in 2009 (2010 in the case of certain longer-
lived and transportation property).\75\ The provision applies
with respect to extension property, which is defined as
property that is eligible qualified property solely because it
meets the requirements under the extension of the special
allowance for certain property acquired during 2009.
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\75\ The provision allowing a taxpayer to claim certain credits in
lieu of bonus depreciation was subsequently modified and extended
generally through 2012 by section 401 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010, Pub. L. No.
111-312, described in Part Sixteen of this document.
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Under the provision, a taxpayer that has made an election
to increase the research credit or minimum tax credit
limitation for eligible qualified property for its first
taxable year ending after March 31, 2008, may choose not to
make this election for extension property. Further, the
provision allows a taxpayer that has not made an election for
eligible qualified property for its first taxable year ending
after March 31, 2008, to make the election for extension
property for its first taxable year ending after December 31,
2008, and for each subsequent year. In the case of a taxpayer
electing to increase the research or minimum tax credit for
both eligible qualified property and extension property, a
separate bonus depreciation amount, maximum amount, and maximum
increase amount is computed and applied to each group of
property.\76\
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\76\ In computing the maximum amount, the maximum increase amount
for extension property is reduced by bonus depreciation amounts for
preceding taxable years only with respect to extension property.
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Effective Date
The extension of the additional first-year depreciation
deduction is generally effective for property placed in service
after December 31, 2008.
The extension of the election to accelerate AMT and
research credits in lieu of bonus depreciation is effective for
taxable years ending after December 31, 2008.
2. Temporary increase in limitations on expensing of certain
depreciable business assets (sec. 1202 of the Act and sec. 179
of the Code)
Present Law
In lieu of depreciation, a taxpayer with a sufficiently
small amount of annual investment may elect to deduct (or
``expense'') such costs under section 179. Present law provides
that the maximum amount a taxpayer may expense for taxable
years beginning in 2008 is $250,000 of the cost of qualifying
property placed in service for the taxable year.\77\ For
taxable years beginning in 2009 and 2010, the limitation is
$125,000. In general, qualifying property is defined as
depreciable tangible personal property that is purchased for
use in the active conduct of a trade or business. Off-the-shelf
computer software placed in service in taxable years beginning
before 2011 is treated as qualifying property. For taxable
years beginning in 2008, the $250,000 amount is reduced (but
not below zero) by the amount by which the cost of qualifying
property placed in service during the taxable year exceeds
$800,000. For taxable years beginning in 2009 and 2010, the
$125,000 amount is reduced (but not below zero) by the amount
by which the cost of qualifying property placed in service
during the taxable year exceeds $500,000. The $125,000 and
$500,000 amounts are indexed for inflation in taxable years
beginning in 2009 and 2010.
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\77\ Additional section 179 incentives are provided with respect to
qualified property meeting applicable requirements that is used by a
business in an empowerment zone (sec. 1397A) or a renewal community
(sec. 1400J), qualified section 179 Gulf Opportunity Zone property
(sec. 1400N(e)), qualified Recovery Assistance property placed in
service in the Kansas disaster area, Pub. L. No. 110-234, sec. 15345
(2008), and qualified disaster assistance property (sec. 179(e)).
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The amount eligible to be expensed for a taxable year may
not exceed the taxable income for a taxable year that is
derived from the active conduct of a trade or business
(determined without regard to this provision). Any amount that
is not allowed as a deduction because of the taxable income
limitation may be carried forward to succeeding taxable years
(subject to similar limitations). No general business credit
under section 38 is allowed with respect to any amount for
which a deduction is allowed under section 179. An expensing
election is made under rules prescribed by the Secretary.\78\
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\78\ Sec. 179(c)(1). Under Treas. Reg. sec. 1.179-5, applicable to
property placed in service in taxable years beginning after 2002 and
before 2008, a taxpayer is permitted to make or revoke an election
under section 179 without the consent of the Commissioner on an amended
Federal tax return for that taxable year. This amended return must be
filed within the time prescribed by law for filing an amended return
for the taxable year. T.D. 9209, July 12, 2005.
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For taxable years beginning in 2011 and thereafter (or
before 2003), the following rules apply. A taxpayer with a
sufficiently small amount of annual investment may elect to
deduct up to $25,000 of the cost of qualifying property placed
in service for the taxable year. The $25,000 amount is reduced
(but not below zero) by the amount by which the cost of
qualifying property placed in service during the taxable year
exceeds $200,000. The $25,000 and $200,000 amounts are not
indexed for inflation. In general, qualifying property is
defined as depreciable tangible personal property that is
purchased for use in the active conduct of a trade or business
(not including off-the-shelf computer software). An expensing
election may be revoked only with consent of the
Commissioner.\79\
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\79\ Sec. 179(c)(2).
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Reasons for Change
Congress believes that section 179 expensing provides two
important benefits. First, it lowers the cost of capital for
property used in a trade or business. With a lower cost of
capital, Congress believes businesses will invest in more
equipment and employ more workers. Second, expensing eliminates
depreciation recordkeeping requirements with respect to
expensed property. Congress believes that the higher limitation
amounts available during 2008 will continue to provide
important benefits if extended, and the bill therefore extends
the higher limitation amounts for an additional year.
Furthermore, Congress believes that the higher dollar limits on
expensing further lower the cost of capital, and make this
benefit available for a greater number of taxpayers.
Explanation of Provision \80\
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\80\ The provision was subsequently amended by section 402 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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The provision extends the $250,000 and $800,000 amounts to
taxable years beginning in 2009.\81\
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\81\ The provision was extended to taxable years beginning after
2009 and before 2011 by section 201 of the Hiring Incentives to Restore
Employment Act of 2010, Pub. L. No. 111-147, described in Part Seven.
Additionally, the provision was temporarily expanded and extended for
taxable years beginning in 2010 and 2011 by section 2021 of the Small
Business Jobs Act of 2010, Pub. L. No. 111-240, described in Part
Fourteen, and modified and extended for taxable years beginning in 2012
by section 402 of the Tax Relief, Unemployment Insurance
Reauthorization, and Job Creation Act of 2010, Pub. L. No. 111-312,
described in Part Sixteen of this document.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2008.
3. Five-year carryback of operating losses (sec. 1211 of the Act and
sec. 172 of the Code)
Present Law
Under present law, a net operating loss (``NOL'') generally
means the amount by which a taxpayer's business deductions
exceed its gross income. In general, an NOL may be carried back
two years and carried over 20 years to offset taxable income in
such years.\82\ NOLs offset taxable income in the order of the
taxable years to which the NOL may be carried.\83\
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\82\ Sec. 172(b)(1)(A).
\83\ Sec. 172(b)(2).
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The alternative minimum tax rules provide that a taxpayer's
NOL deduction cannot reduce the taxpayer's alternative minimum
taxable income (``AMTI'') by more than 90 percent of the AMTI.
Different rules apply with respect to NOLs arising in
certain circumstances. A three-year carryback applies with
respect to NOLs (1) arising from casualty or theft losses of
individuals, or (2) attributable to Presidentially declared
disasters for taxpayers engaged in a farming business or a
small business. A five-year carryback applies to NOLs (1)
arising from a farming loss (regardless of whether the loss was
incurred in a Presidentially declared disaster area), (2)
certain amounts related to Hurricane Katrina, Gulf Opportunity
Zone, and Midwestern Disaster Area, or (3) qualified disaster
losses.\84\ Special rules also apply to real estate investment
trusts (no carryback), specified liability losses (10-year
carryback), and excess interest losses (no carryback to any
year preceding a corporate equity reduction transaction).
Additionally, a special rule applies to certain electric
utility companies.
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\84\ Sec. 172(b)(1)(J).
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In the case of a life insurance company, present law allows
a deduction for the operations loss carryovers and carrybacks
to the taxable year, in lieu of the deduction for net operation
losses allowed to other corporations.\85\ A life insurance
company is permitted to treat a loss from operations (as
defined under section 810(c)) for any taxable year as an
operations loss carryback to each of the three taxable years
preceding the loss year and an operations loss carryover to
each of the 15 taxable years following the loss year.\86\
Special rules apply to new life insurance companies.
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\85\ Secs. 810, 805(a)(5).
\86\ Sec. 810(b)(1).
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Reasons for Change
The NOL carryback and carryover rules are designed to allow
taxpayers to smooth out swings in business income (and Federal
income taxes thereon) that result from business cycle
fluctuations. The recent economic conditions have resulted in
many taxpayers incurring significant financial losses. Congress
is concerned about the severity of the current economic
downturn. A temporary extension of the NOL carryback period
provides taxpayers in all sectors of the economy that
experience such losses with the ability to obtain refunds of
income taxes paid in prior years. These refunds can be used to
fund capital investment or other expenses.
Explanation of Provision
The Act provides an eligible small business with an
election \87\ to increase the present-law carryback period for
an applicable 2008 NOL from two years to any whole number of
years elected by the taxpayer that is more than two and less
than six.\88\ An eligible small business is a taxpayer meeting
a $15,000,000 gross receipts test.\89\ An applicable NOL is the
taxpayer's NOL for any taxable year ending in 2008, or if
elected by the taxpayer, the NOL for any taxable year beginning
in 2008. However, any election under this provision may be made
only with respect to one taxable year.
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\87\ For all elections under this provision, the common parent of a
group of corporations filing a consolidated return makes the election,
which is binding on all such corporations.
\88\ The provision was modified and extended by section 13 of the
Worker, Homeownership, and Business Assistance Act of 2009, Pub. L. No.
111-92, described in Part Five of this document.
\89\ For this purpose, the gross receipt test of section 448(c) is
applied by substituting $15,000,000 for $5,000,000 each place it
appears.
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Effective Date
The provision is effective for NOLs arising in taxable
years ending after December 31, 2007.
For an NOL for a taxable year ending before the enactment
of the provision (i.e., before February 17, 2009), the
provision includes the following transition rules: (1) any
election to waive the carryback period under either section
172(b)(3) with respect to such loss may be revoked before the
applicable date; (2) any election to increase the carryback
period under this provision is treated as timely made if made
before the applicable date; and (3) any application for a
tentative carryback adjustment under section 6411(a) with
respect to such loss is treated as timely filed if filed before
the applicable date. For purposes of the transition rules, the
applicable date is the date which is 60 days after the date of
the enactment of the provision (i.e., 60 days after February
17, 2009).
4. Estimated tax payments (sec. 1212 of the Act and sec. 6654 of the
Code)
Present Law
Under present law, the income tax system is designed to
ensure that taxpayers pay taxes throughout the year based on
their income and deductions. To the extent that tax is not
collected through withholding, taxpayers are required to make
quarterly estimated payments of tax, the amount of which is
determined by reference to the required annual payment. The
required annual payment is the lesser of 90 percent of the tax
shown on the return or 100 percent of the tax shown on the
return for the prior taxable year (110 percent if the adjusted
gross income for the preceding year exceeded $150,000). An
underpayment results if the required payment exceeds the amount
(if any) of the installment paid on or before the due date of
the installment. The period of the underpayment runs from the
due date of the installment to the earlier of (1) the 15th day
of the fourth month following the close of the taxable year or
(2) the date on which each portion of the underpayment is made.
If a taxpayer fails to pay the required estimated tax payments
under the rules, a penalty is imposed in an amount determined
by applying the underpayment interest rate to the amount of the
underpayment for the period of the underpayment. The penalty
for failure to pay estimated tax is the equivalent of interest,
which is based on the time value of money.
Taxpayers are not liable for a penalty for the failure to
pay estimated tax in certain circumstances. The statute
provides exceptions for U.S. persons who did not have a tax
liability the preceding year, if the tax shown on the return
for the taxable year (or, if no return is filed, the tax),
reduced by withholding, is less than $1,000, or the taxpayer is
a recently retired or disabled person who satisfies the
reasonable cause exception.
Explanation of Provision
The Act provides that the required annual estimated tax
payments of a qualified individual for taxable years beginning
in 2009 is not greater than 90 percent of the tax liability
shown on the tax return for the preceding taxable year. A
qualified individual means any individual if the adjusted gross
income shown on the tax return for the preceding taxable year
is less than $500,000 ($250,000 if married filing separately)
and the individual certifies that at least 50 percent of the
gross income shown on the return for the preceding taxable year
was income from a small trade or business. For purposes of this
provision, a small trade or business means any trade or
business that employed no more than 500 persons, on average,
during the calendar year ending in or with the preceding
taxable year.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
5. Modification of work opportunity tax credit (sec. 1221 of the Act
and sec. 51 of the Code)
Present Law
In general
The work opportunity tax credit is available on an elective
basis for employers hiring individuals from one or more of nine
targeted groups. The amount of the credit available to an
employer is determined by the amount of qualified wages paid by
the employer. Generally, qualified wages consist of wages
attributable to service rendered by a member of a targeted
group during the one-year period beginning with the day the
individual begins work for the employer (two years in the case
of an individual in the long-term family assistance recipient
category).
Targeted groups eligible for the credit
Generally, an employer is eligible for the credit only for
qualified wages paid to members of a targeted group.
(1) Families receiving TANF
An eligible recipient is an individual certified by a
designated local employment agency (e.g., a State employment
agency) as being a member of a family eligible to receive
benefits under the Temporary Assistance for Needy Families
Program (``TANF'') for a period of at least nine months part of
which is during the 18-month period ending on the hiring date.
For these purposes, members of the family are defined to
include only those individuals taken into account for purposes
of determining eligibility for the TANF.
(2) Qualified veteran
There are two subcategories of qualified veterans related
to eligibility for food stamps and compensation for a service-
connected disability.
Food stamps
A qualified veteran is a veteran who is certified by the
designated local agency as a member of a family receiving
assistance under a food stamp program under the Food Stamp Act
of 1977 for a period of at least three months part of which is
during the 12-month period ending on the hiring date. For these
purposes, members of a family are defined to include only those
individuals taken into account for purposes of determining
eligibility for a food stamp program under the Food Stamp Act
of 1977.
Entitled to compensation for a service-connected
disability
A qualified veteran also includes an individual who is
certified as entitled to compensation for a service-connected
disability and: (1) having a hiring date which is not more than
one year after having been discharged or released from active
duty in the Armed Forces of the United States; or (2) having
been unemployed for six months or more (whether or not
consecutive) during the one-year period ending on the date of
hiring.
Definitions
For these purposes, being entitled to compensation for a
service-connected disability is defined with reference to
section 101 of Title 38, U.S. Code, which means having a
disability rating of 10 percent or higher for service connected
injuries.
For these purposes, a veteran is an individual who has
served on active duty (other than for training) in the Armed
Forces for more than 180 days or who has been discharged or
released from active duty in the Armed Forces for a service-
connected disability. However, any individual who has served
for a period of more than 90 days during which the individual
was on active duty (other than for training) is not a qualified
veteran if any of this active duty occurred during the 60-day
period ending on the date the individual was hired by the
employer. This latter rule is intended to prevent employers who
hire current members of the armed services (or those departed
from service within the last 60 days) from receiving the
credit.
(3) Qualified ex-felon
A qualified ex-felon is an individual certified as: (1)
having been convicted of a felony under any State or Federal
law; and (2) having a hiring date within one year of release
from prison or the date of conviction.
(4) Designated community residents
A designated community resident is an individual certified
as being at least age 18 but not yet age 40 on the hiring date
and as having a principal place of abode within an empowerment
zone, enterprise community, renewal community or a rural
renewal community. For these purposes, a rural renewal county
is a county outside a metropolitan statistical area (as defined
by the Office of Management and Budget) which had a net
population loss during the five-year periods 1990-1994 and
1995-1999. Qualified wages do not include wages paid or
incurred for services performed after the individual moves
outside an empowerment zone, enterprise community, renewal
community or a rural renewal community.
(5) Vocational rehabilitation referral
A vocational rehabilitation referral is an individual who
is certified by a designated local agency as an individual who
has a physical or mental disability that constitutes a
substantial handicap to employment and who has been referred to
the employer while receiving, or after completing: (a)
vocational rehabilitation services under an individualized,
written plan for employment under a State plan approved under
the Rehabilitation Act of 1973; (b) under a rehabilitation plan
for veterans carried out under Chapter 31 of Title 38, U.S.
Code; or (c) an individual work plan developed and implemented
by an employment network pursuant to subsection (g) of section
1148 of the Social Security Act. Certification will be provided
by the designated local employment agency upon assurances from
the vocational rehabilitation agency that the employee has met
the above conditions.
(6) Qualified summer youth employee
A qualified summer youth employee is an individual: (1) who
performs services during any 90-day period between May 1 and
September 15; (2) who is certified by the designated local
agency as being 16 or 17 years of age on the hiring date; (3)
who has not been an employee of that employer before; and (4)
who is certified by the designated local agency as having a
principal place of abode within an empowerment zone, enterprise
community, or renewal community. As with designated community
residents, no credit is available on wages paid or incurred for
service performed after the qualified summer youth moves
outside of an empowerment zone, enterprise community, or
renewal community. If, after the end of the 90-day period, the
employer continues to employ a youth who was certified during
the 90-day period as a member of another targeted group, the
limit on qualified first-year wages will take into account
wages paid to the youth while a qualified summer youth
employee.
(7) Qualified food stamp recipient
A qualified food stamp recipient is an individual at least
age 18 but not yet age 40 certified by a designated local
employment agency as being a member of a family receiving
assistance under a food stamp program under the Food Stamp Act
of 1977 for a period of at least six months ending on the
hiring date. In the case of families that cease to be eligible
for food stamps under section 6(o) of the Food Stamp Act of
1977, the six-month requirement is replaced with a requirement
that the family has been receiving food stamps for at least
three of the five months ending on the date of hire. For these
purposes, members of the family are defined to include only
those individuals taken into account for purposes of
determining eligibility for a food stamp program under the Food
Stamp Act of 1977.
(8) Qualified SSI recipient
A qualified SSI recipient is an individual designated by a
local agency as receiving supplemental security income
(``SSI'') benefits under Title XVI of the Social Security Act
for any month ending within the 60-day period ending on the
hiring date.
(9) Long-term family assistance recipients
A qualified long-term family assistance recipient is an
individual certified by a designated local agency as being: (1)
a member of a family that has received family assistance for at
least 18 consecutive months ending on the hiring date; (2) a
member of a family that has received such family assistance for
a total of at least 18 months (whether or not consecutive)
after August 5, 1997 (the date of enactment of the welfare-to-
work tax credit) \90\ if the individual is hired within two
years after the date that the 18-month total is reached; or (3)
a member of a family who is no longer eligible for family
assistance because of either Federal or State time limits, if
the individual is hired within two years after the Federal or
State time limits made the family ineligible for family
assistance.
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\90\ The welfare-to-work tax credit was consolidated into the work
opportunity tax credit in the Tax Relief and Health Care Act of 2006,
Pub. L. No. 109-432, for qualified individuals who begin to work for an
employer after December 31, 2006.
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Qualified wages
Generally, qualified wages are defined as cash wages paid
by the employer to a member of a targeted group. The employer's
deduction for wages is reduced by the amount of the credit.
For purposes of the credit, generally, wages are defined by
reference to the FUTA definition of wages contained in sec.
3306(b) (without regard to the dollar limitation therein
contained). Special rules apply in the case of certain
agricultural labor and certain railroad labor.
Calculation of the credit
The credit available to an employer for qualified wages
paid to members of all targeted groups except for long-term
family assistance recipients equals 40 percent (25 percent for
employment of 400 hours or less) of qualified first-year wages.
Generally, qualified first-year wages are qualified wages (not
in excess of $6,000) attributable to service rendered by a
member of a targeted group during the one-year period beginning
with the day the individual began work for the employer.
Therefore, the maximum credit per employee is $2,400 (40
percent of the first $6,000 of qualified first-year wages).
With respect to qualified summer youth employees, the maximum
credit is $1,200 (40 percent of the first $3,000 of qualified
first-year wages). Except for long-term family assistance
recipients, no credit is allowed for second-year wages.
In the case of long-term family assistance recipients, the
credit equals 40 percent (25 percent for employment of 400
hours or less) of $10,000 for qualified first-year wages and 50
percent of the first $10,000 of qualified second-year wages.
Generally, qualified second-year wages are qualified wages (not
in excess of $10,000) attributable to service rendered by a
member of the long-term family assistance category during the
one-year period beginning on the day after the one-year period
beginning with the day the individual began work for the
employer. Therefore, the maximum credit per employee is $9,000
(40 percent of the first $10,000 of qualified first-year wages
plus 50 percent of the first $10,000 of qualified second-year
wages).
In the case of a qualified veteran who is entitled to
compensation for a service-connected disability, the credit
equals 40 percent of $12,000 of qualified first-year wages.
This expanded definition of qualified first-year wages does not
apply to the veterans qualified with reference to a food stamp
program, as defined under present law.
Certification rules
An individual is not treated as a member of a targeted
group unless: (1) on or before the day on which an individual
begins work for an employer, the employer has received a
certification from a designated local agency that such
individual is a member of a targeted group; or (2) on or before
the day an individual is offered employment with the employer,
a pre-screening notice is completed by the employer with
respect to such individual, and not later than the 28th day
after the individual begins work for the employer, the employer
submits such notice, signed by the employer and the individual
under penalties of perjury, to the designated local agency as
part of a written request for certification. For these
purposes, a pre-screening notice is a document (in such form as
the Secretary may prescribe) which contains information
provided by the individual on the basis of which the employer
believes that the individual is a member of a targeted group.
Minimum employment period
No credit is allowed for qualified wages paid to employees
who work less than 120 hours in the first year of employment.
Other rules
The work opportunity tax credit is not allowed for wages
paid to a relative or dependent of the taxpayer. No credit is
allowed for wages paid to an individual who is a more than
fifty-percent owner of the entity. Similarly, wages paid to
replacement workers during a strike or lockout are not eligible
for the work opportunity tax credit. Wages paid to any employee
during any period for which the employer received on-the-job
training program payments with respect to that employee are not
eligible for the work opportunity tax credit. The work
opportunity tax credit generally is not allowed for wages paid
to individuals who had previously been employed by the
employer. In addition, many other technical rules apply.
Expiration
The work opportunity tax credit is not available for
individuals who begin work for an employer after August 31,
2011.
Reasons for Change
The Congress believes that the work opportunity tax credit
can be used to improve employment opportunities for broader
categories of qualified veterans and young people whose
employment opportunities may have been significantly eroded by
the present economic downturn.
Explanation of Provision \91\
The provision creates a new targeted group for the work
opportunity tax credit. That new category is unemployed
veterans and disconnected youth who begin work for the employer
in 2009 or 2010.
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\91\ For further discussion of the Work Opportunity Tax Credit see
section 757 of the Tax Relief, Unemployment Insurance Reauthorization,
and Job Creation Act of 2010, Pub. L. No. 111-312, described in Part
Sixteen of this document.
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An unemployed veteran is defined as an individual certified
by the designated local agency as someone who: (1) has served
on active duty (other than for training) in the Armed Forces
for more than 180 days or who has been discharged or released
from active duty in the Armed Forces for a service-connected
disability; (2) has been discharged or released from active
duty in the Armed Forces during the five-year period ending on
the hiring date; and (3) has received unemployment compensation
under State or Federal law for not less than four weeks during
the one-year period ending on the hiring date.
A disconnected youth is defined as an individual certified
by the designated local agency as someone: (1) at least age 16
but not yet age 25 on the hiring date; (2) not regularly
attending any secondary, technical, or post-secondary school
during the six-month period preceding the hiring date; (3) not
regularly employed during the six-month period preceding the
hiring date; and (4) not readily employable by reason of
lacking a sufficient number of skills.
For purposes of the disconnected youths, it is intended
that a low-level of formal education may satisfy the
requirement that an individual is not readily employable by
reason of lacking a sufficient number of skills. Further, it is
intended that the Internal Revenue Service, when providing
general guidance regarding the various new criteria, shall take
into account the administrability of the program by the State
agencies.
Effective Date
The provisions are effective for individuals who begin work
for an employer after December 31, 2008.
6. Clarification of regulations related to limitations on certain
built-in losses following an ownership change (sec. 1261 of the
Act and sec. 382 of the Code)
Present Law
Section 382 limits the extent to which a ``loss
corporation'' that experiences an ``ownership change'' may
offset taxable income in any post-change taxable year by pre-
change net operating losses, certain built-in losses, and
deductions attributable to the pre-change period.\92\ In
general, the amount of income in any post-change year that may
be offset by such net operating losses, built-in losses and
deductions is limited to an amount (referred to as the
``section 382 limitation'') determined by multiplying the value
of the loss corporation immediately before the ownership change
by the long-term tax-exempt interest rate.\93\
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\92\ Sec. 383 imposes similar limitations, under regulations, on
the use of carryforwards of general business credits, alternative
minimum tax credits, foreign tax credits, and net capital loss
carryforwards. Sec. 383 generally refers to section 382 for the
meanings of its terms, but requires appropriate adjustments to take
account of its application to credits and net capital losses.
\93\ If the loss corporation had a ``net unrealized built-in gain''
(or NUBIG) at the time of the ownership change, then the section 382
limitation for any taxable year may be increased by the amount of the
``recognized built-in gains'' (discussed further below) for that year.
A NUBIG is defined as the amount by which the fair market value of the
assets of the corporation immediately before an ownership change
exceeds the aggregate adjusted basis of such assets at such time.
However, if the amount of the NUBIG does not exceed the lesser of (i)
15 percent of the fair market value of the corporation's assets or (ii)
$10,000,000, then the amount of the NUBIG is treated as zero. Sec.
382(h)(1).
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A ``loss corporation'' is defined as a corporation entitled
to use a net operating loss carryover or having a net operating
loss carryover for the taxable year in which the ownership
change occurs. Except to the extent provided in regulations,
such term includes any corporation with a ``net unrealized
built-in loss'' (or NUBIL),\94\ defined as the amount by which
the fair market value of the assets of the corporation
immediately before an ownership change is less than the
aggregate adjusted basis of such assets at such time. However,
if the amount of the NUBIL does not exceed the lesser of (i) 15
percent of the fair market value of the corporation's assets or
(ii) $10,000,000, then the amount of the NUBIL is treated as
zero.\95\
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\94\ Sec. 382(k)(1).
\95\ Sec. 382(h)(3).
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An ownership change is defined generally as an increase by
more than 50-percentage points in the percentage of stock of a
loss corporation that is owned by any one or more five-percent
(or greater) shareholders (as defined) within a three-year
period.\96\ Treasury regulations provide generally that this
measurement is to be made as of any ``testing date,'' which is
any date on which the ownership of one or more persons who were
or who become five-percent shareholders increases.\97\
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\96\ Determinations of the percentage of stock of any corporation
held by any person are made on the basis of value. Sec. 382(k)(6)(C).
\97\ See Treas. Reg. sec. 1.382-2(a)(4) (providing that ``a loss
corporation is required to determine whether an ownership change has
occurred immediately after any owner shift, or issuance or transfer
(including an issuance or transfer described in Treas. Reg. sec. 1.382-
4(d)(8)(i) or (ii)) of an option with respect to stock of the loss
corporation that is treated as exercised under Treas. Reg. sec. 1.382-
4(d)(2)'' and defining a ``testing date'' as ``each date on which a
loss corporation is required to make a determination of whether an
ownership change has occurred'') and Temp. Treas. Reg. sec. 1.382-
2T(e)(1) (defining an ``owner shift'' as ``any change in the ownership
of the stock of a loss corporation that affects the percentage of such
stock owned by any 5-percent shareholder''). Treasury regulations under
section 382 provide that, in computing stock ownership on specified
testing dates, certain unexercised options must be treated as exercised
if certain ownership, control, or income tests are met. These tests are
met only if ``a principal purpose of the issuance, transfer, or
structuring of the option (alone or in combination with other
arrangements) is to avoid or ameliorate the impact of an ownership
change of the loss corporation.'' Treas. Reg. sec. 1.382-4(d). Compare
prior temporary regulations, Temp. Treas. Reg. sec. 1.382-2T(h)(4)
(``Solely for the purpose of determining whether there is an ownership
change on any testing date, stock of the loss corporation that is
subject to an option shall be treated as acquired on any such date,
pursuant to an exercise of the option by its owner on that date, if
such deemed exercise would result in an ownership change.''). Notice
2008-76, I.R.B. 2008-39 (September 29, 2008), released September 7,
2008, provides that the Treasury Department intends to issue
regulations modifying the term ``testing date'' under section 382 to
exclude any date on or after which the United States acquires stock or
options to acquire stock in certain corporations with respect to which
there is a ``Housing Act Acquisition'' pursuant to the Housing and
Economic Recovery Act of 2008, Pub. L. No. 110-289. The Notice states
that the regulations will apply on and after September 7, 2008, unless
and until there is additional guidance. Notice 2008-84, I.R.B. 2008-41
(October 14, 2008), provides that the Treasury Department intends to
issue regulations modifying the term ``testing date'' under section 382
to exclude any date as of the close of which the United States owns,
directly or indirectly, a more than 50-percent interest in a loss
corporation, which regulations will apply unless and until there is
additional guidance. Notice 2008-100, 2008-14 I.R.B. 1081 (released
October 15, 2008) provides that the Treasury Department intends to
issue regulations providing, among other things, that certain
instruments acquired by the Treasury Department under the Capital
Purchase Program (CPP) pursuant to the Emergency Economic Stabilization
Act of 2008, Pub. L. No. 100-343, (``EESA'') shall not be treated as
stock for certain purposes. The Notice also provides that certain
capital contributions made by Treasury pursuant to the CPP shall not be
considered to have been made as part of a plan the principal purpose of
which was to avoid or increase any section 382 limitation (for purposes
of section 382(l)(1)). The Notice states that taxpayers may rely on the
rules described unless and until there is further guidance; and that
any contrary guidance will not apply to instruments (i) held by
Treasury that were acquired pursuant to the CCP prior to publication of
that guidance, or (ii) issued to Treasury pursuant to the CCP under
written binding contracts entered into prior to the publication of that
guidance. Notice 2009-14, 2009-7 I.R.B. 516 (January 30, 2009)
amplifies and supersedes Notice 2008-100, and provides additional
guidance regarding the application of section 382 and other provisions
of law to corporations whose instruments are acquired by the Treasury
Department under certain programs pursuant to EESA.
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Section 382(h) governs the treatment of certain built-in
losses and built-in gains recognized with respect to assets
held by the loss corporation at the time of the ownership
change. In the case of a loss corporation that has a NUBIL
(measured immediately before an ownership change), section
382(h)(1) provides that any ``recognized built-in loss'' (or
RBIL) for any taxable year during a ``recognition period''
(consisting of the five years beginning on the ownership change
date) is subject to the section 382 limitation in the same
manner as if it were a pre-change net operating loss.\98\ An
RBIL is defined for this purpose as any loss recognized during
the recognition period on the disposition of any asset held by
the loss corporation immediately before the ownership change
date, to the extent that such loss is attributable to an excess
of the adjusted basis of the asset on the change date over its
fair market value on that date.\99\ An RBIL also includes any
amount allowable as depreciation, amortization or depletion
during the recognition period, to the extent that such amount
is attributable to the excess of the adjusted basis of the
asset over its fair market value on the ownership change
date.\100\ In addition, any amount that is allowable as a
deduction during the recognition period (determined without
regard to any carryover) but which is attributable to periods
before the ownership change date is treated as an RBIL for the
taxable year in which it is allowable as a deduction.\101\
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\98\ Sec. 382(h)(2). The total amount of the loss corporation's
RBILs that are subject to the section 382 limitation cannot exceed the
amount of the corporation's NUBIL.
\99\ Sec. 382(h)(2)(B).
\100\ Ibid.
\101\ Sec. 382(h)(6)(B).
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As indicated above, section 382(h)(1) provides in the case
of a loss corporation that has a NUBIG that the section 382
limitation may be increased for any taxable year during the
recognition period by the amount of recognized built-in gains
(or RBIGs) for such taxable year.\102\ An RBIG is defined for
this purpose as any gain recognized during the recognition
period on the disposition of any asset held by the loss
corporation immediately before the ownership change date, to
the extent that such gain is attributable to an excess of the
fair market value of the asset on the change date over its
adjusted basis on that date.\103\ In addition, any item of
income that is properly taken into account during the
recognition period but which is attributable to periods before
the ownership change date is treated as an RBIG for the taxable
year in which it is properly taken into account.\104\
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\102\ The total amount of such increases cannot exceed the amount
of the corporation's NUBIG.
\103\ Sec. 382(h)(2)(A).
\104\ Sec. 382(h)(6)(A).
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Notice 2003-65 \105\ provides two alternative safe harbor
approaches for the identification of built-in items for
purposes of section 382(h): the ``1374 approach'' and the ``338
approach.''
---------------------------------------------------------------------------
\105\ 2003-2 C.B. 747.
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Under the 1374 approach,\106\ NUBIG or NUBIL is the net
amount of gain or loss that would be recognized in a
hypothetical sale of the assets of the loss corporation
immediately before the ownership change.\107\ The amount of
gain or loss recognized during the recognition period on the
sale or exchange of an asset held at the time of the ownership
change is RBIG or RBIL, respectively, to the extent it is
attributable to a difference between the adjusted basis and the
fair market value of the asset on the change date, as described
above. However, the 1374 approach generally relies on the
accrual method of accounting to identify items of income or
deduction as RBIG or RBIL, respectively. Generally, items of
income or deduction properly included in income or allowed as a
deduction during the recognition period are considered
attributable to period before the change date (and thus are
treated as RBIG or RBIL, respectively), if a taxpayer using an
accrual method of accounting would have included the item in
income or been allowed a deduction for the item before the
change date. However, the 1374 approach includes a number of
exceptions to this general rule, including a special rule
dealing with bad debt deductions under section 166. Under this
special rule, any deduction item properly taken into account
during the first 12 months of the recognition period as a bad
debt deduction under section 166 is treated as RBIL if the item
arises from a debt owed to the loss corporation at the
beginning of the recognition period (and deductions for such
items properly taken into account after the first 12 months of
the recognition period are not RBILs).\108\
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\106\ The 1374 approach generally incorporates rules similar to
those of section 1374(d) and the Treasury regulations thereunder in
calculating NUBIG and NUBIL and identifying RBIG and RBIL.
\107\ More specifically, NUBIG or NUBIL is calculated by
determining the amount that would be realized if immediately before the
ownership change the loss corporation had sold all of its assets,
including goodwill, at fair market value to a third party that assumed
all of its liabilities, decreased by the sum of any deductible
liabilities of the loss corporation that would be included in the
amount realized on the hypothetical sale and the loss corporation's
aggregate adjusted basis in all of its assets, increased or decreased
by the corporation's section 481 adjustments that would be taken into
account on a hypothetical sale, and increased by any RBIL that would
not be allowed as a deduction under section 382, 383 or 384 on the
hypothetical sale.
\108\ Notice 2003-65, section III.B.2.b.
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The 338 approach identifies items of RBIG and RBIL
generally by comparing the loss corporation's actual items of
income, gain, deduction and loss with those that would have
resulted if a section 338 election had been made with respect
to a hypothetical purchase of all of the outstanding stock of
the loss corporation on the change date. Under the 338
approach, NUBIG or NUBIL is calculated in the same manner as it
is under the 1374 approach.\109\ The 338 approach identifies
RBIG or RBIL by comparing the loss corporation's actual items
of income, gain, deduction and loss with the items of income,
gain, deduction and loss that would result if a section 338
election had been made for the hypothetical purchase. The loss
corporation is treated for this purpose as using those
accounting methods that the loss corporation actually uses. The
338 approach does not include any special rule with regard to
bad debt deductions under section 166.
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\109\ Accordingly, unlike the case in which a section 338 election
is actually made, contingent consideration (including a contingent
liability) is taken into account in the initial calculation of NUBIG or
NUBIL, and no further adjustments are made to reflect subsequent
changes in deemed consideration.
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Section 166 generally allows a deduction in respect of any
debt that becomes worthless, in whole or in part, during the
taxable year.\110\ The determination of whether a debt is
worthless, in whole or in part, is a question of fact. However,
in the case of a bank or other corporation that is subject to
supervision by Federal authorities, or by State authorities
maintaining substantially equivalent standards, the Treasury
regulations under section 166 provide a presumption of
worthlessness to the extent that a debt is charged off during
the taxable year pursuant to a specific order of such an
authority or in accordance with established policies of such an
authority (and in the latter case, the authority confirms in
writing upon the first subsequent audit of the bank or other
corporation that the charge-off would have been required if the
audit had been made at the time of the charge-off). The
presumption does not apply if the taxpayer does not claim the
amount so charged off as a deduction for the taxable year in
which the charge-off takes place. In that case, the charge-off
is treated as having been involuntary; however, in order to
claim the section 166 deduction in a later taxable year, the
taxpayer must produce sufficient evidence to show that the debt
became partially worthless in the later year or became
recoverable only in part subsequent to the taxable year of the
charge-off, as the case may be, and to the extent that the
deduction claimed in the later year for a partially worthless
debt was not involuntarily charged off in prior taxable years,
it was charged off in the later taxable year.\111\
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\110\ Section 166 does not apply, however, to a debt which is
evidenced by a security, defined for this purpose (by cross-reference
to section 165(g)(2)(C)) as a bond, debenture, note or certificate or
other evidence of indebtedness issued by a corporation or by a
government or political subdivision thereof, with interest coupons or
in registered form. Sec. 166(e).
\111\ See Treas. Reg. sec. 1.166-2(d)(1) and (2).
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The Treasury regulations also permit a bank (generally as
defined for purposes of section 581, with certain
modifications) that is subject to supervision by Federal
authorities, or State authorities maintaining substantially
equivalent standards, to make a ``conformity election'' under
which debts charged off for regulatory purposes during a
taxable year are conclusively presumed to be worthless for tax
purposes to the same extent, provided that the charge-off
results from a specific order of the regulatory authority or
corresponds to the institution's classification of the debt as
a ``loss asset'' pursuant to loan loss classification standards
that are consistent with those of certain specified bank
regulatory authorities. The conformity election is treated as
the adoption of a method of accounting.\112\
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\112\ See Treas. Reg. sec. 1.166-2(d)(3); cf. Priv. Ltr. Rul.
9248048 (July 7, 1992); Tech. Adv. Mem. 9122001 (Feb. 8, 1991).
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Notice 2008-83,\113\ released on October 1, 2008, provides
that ``[f]or purposes of section 382(h), any deduction properly
allowed after an ownership change (as defined in section
382(g)) to a bank with respect to losses on loans or bad debts
(including any deduction for a reasonable addition to a reserve
for bad debts) shall not be treated as a built-in loss or a
deduction that is attributable to periods before the change
date.'' \114\ The Notice further states that the Internal
Revenue Service and the Treasury Department are studying the
proper treatment under section 382(h) of certain items of
deduction or loss allowed after an ownership change to a
corporation that is a bank (as defined in section 581) both
immediately before and after the change date, and that any such
corporation may rely on the treatment set forth in Notice 2008-
83 unless and until there is additional guidance.
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\113\ 2008-42 I.R.B. 2008-42 (Oct. 20, 2008).
\114\ Notice 2008-83, section 2.
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Reasons for Change
The Congress believes that: (1) the delegation of authority
to the Secretary of the Treasury, or his delegate, under
section 382(m) \115\ does not authorize the Secretary to
provide exemptions or special rules that are restricted to
particular industries or classes of taxpayers, (2) Notice 2008-
83 is inconsistent with the congressional intent in enacting
section 382(m), and (3) the legal authority to prescribe Notice
2008-83 is doubtful, but that (4) as taxpayers should generally
be able to rely on guidance issued by the Secretary of the
Treasury, legislation is necessary to clarify the force and
effect of Notice 2008-83 and restore the proper application
under the Internal Revenue Code of the limitation on built-in
losses following an ownership change of a bank.
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\115\ Section 382(m) authorizes the Secretary to prescribe such
regulations as may be necessary or appropriate to carry out the
purposes of sections 382 and 383.
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Explanation of Provision
The provision states that Congress finds as follows: (1)
The delegation of authority to the Secretary of the Treasury,
or his delegate, under section 382(m) does not authorize the
Secretary to provide exemptions or special rules that are
restricted to particular industries or classes of taxpayers;
(2) Notice 2008-83 is inconsistent with the congressional
intent in enacting such section 382(m); (3) the legal authority
to prescribe Notice 2008-83 is doubtful; (4) however, as
taxpayers should generally be able to rely on guidance issued
by the Secretary of the Treasury, legislation is necessary to
clarify the force and effect of Notice 2008-83 and restore the
proper application under the Internal Revenue Code of the
limitation on built-in losses following an ownership change of
a bank.
Under the provision, Notice 2008-83 shall be deemed to have
the force and effect of law with respect to any ownership
change (as defined in section 382(g)) occurring on or before
January 16, 2009, and with respect to any ownership change (as
so defined) which occurs after January 16, 2009, if such change
(1) is pursuant to a written binding contract entered into on
or before such date or (2) is pursuant to a written agreement
entered into on or before such date and such agreement was
described on or before such date in a public announcement or in
a filing with the Securities and Exchange Commission required
by reason of such ownership change, but shall otherwise have no
force or effect with respect to any ownership change after such
date.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
7. Treatment of certain ownership changes for purposes of limitations
on net operating loss carryforwards and certain built-in losses
(sec. 1262 of the Act and sec. 382 of the Code)
Present Law
Section 382 limits the extent to which a ``loss
corporation'' that experiences an ``ownership change'' may
offset taxable income in any post-change taxable year by pre-
change net operating losses, certain built-in losses, and
deductions attributable to the pre-change period.\116\ In
general, the amount of income in any post-change year that may
be offset by such net operating losses, built-in losses and
deductions is limited to an amount (referred to as the
``section 382 limitation'') determined by multiplying the value
of the loss corporation immediately before the ownership change
by the long-term tax-exempt interest rate.\117\
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\116\ Section 383 imposes similar limitations, under regulations,
on the use of carryforwards of general business credits, alternative
minimum tax credits, foreign tax credits, and net capital loss
carryforwards. Section 383 generally refers to section 382 for the
meanings of its terms, but requires appropriate adjustments to take
account of its application to credits and net capital losses.
\117\ If the loss corporation had a ``net unrealized built in
gain'' (or NUBIG) at the time of the ownership change, then the section
382 limitation for any taxable year may be increased by the amount of
the ``recognized built-in gains'' (discussed further below) for that
year. A NUBIG is defined as the amount by which the fair market value
of the assets of the corporation immediately before an ownership change
exceeds the aggregate adjusted basis of such assets at such time.
However, if the amount of the NUBIG does not exceed the lesser of (i)
15 percent of the fair market value of the corporation's assets or (ii)
$10,000,000, then the amount of the NUBIG is treated as zero. Sec.
382(h)(1).
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A ``loss corporation'' is defined as a corporation entitled
to use a net operating loss carryover or having a net operating
loss carryover for the taxable year in which the ownership
change occurs. Except to the extent provided in regulations,
such term includes any corporation with a ``net unrealized
built-in loss'' (or NUBIL),\118\ defined as the amount by which
the fair market value of the assets of the corporation
immediately before an ownership change is less than the
aggregate adjusted basis of such assets at such time. However,
if the amount of the NUBIL does not exceed the lesser of (i) 15
percent of the fair market value of the corporation's assets or
(ii) $10,000,000, then the amount of the NUBIL is treated as
zero.\119\
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\118\ Sec. 382(k)(1).
\119\ Sec. 382(h)(3).
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An ownership change is defined generally as an increase by
more than 50-percentage points in the percentage of stock of a
loss corporation that is owned by any one or more five-percent
(or greater) shareholders (as defined) within a three year
period.\120\ Treasury regulations provide generally that this
measurement is to be made as of any ``testing date,'' which is
any date on which the ownership of one or more persons who were
or who become five-percent shareholders increases.\121\
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\120\ Determinations of the percentage of stock of any corporation
held by any person are made on the basis of value. Sec. 382(k)(6)(C).
\121\ See Treas. Reg. sec. 1.382-2(a)(4) (providing that ``a loss
corporation is required to determine whether an ownership change has
occurred immediately after any owner shift, or issuance or transfer
(including an issuance or transfer described in Treas. Reg. sec. 1.382-
4(d)(8)(i) or (ii)) of an option with respect to stock of the loss
corporation that is treated as exercised under Treas. Reg. sec. 1.382-
4(d)(2)'' and defining a ``testing date'' as ``each date on which a
loss corporation is required to make a determination of whether an
ownership change has occurred'') and Temp. Treas. Reg. sec. 1.382-
2T(e)(1) (defining an ``owner shift'' as ``any change in the ownership
of the stock of a loss corporation that affects the percentage of such
stock owned by any 5-percent shareholder''). Treasury regulations under
section 382 provide that, in computing stock ownership on specified
testing dates, certain unexercised options must be treated as exercised
if certain ownership, control, or income tests are met. These tests are
met only if ``a principal purpose of the issuance, transfer, or
structuring of the option (alone or in combination with other
arrangements) is to avoid or ameliorate the impact of an ownership
change of the loss corporation.'' Treas. Reg. sec. 1.382-4(d). Compare
prior temporary regulations, Temp. Treas. Reg. sec. 1.382-2T(h)(4)
(``Solely for the purpose of determining whether there is an ownership
change on any testing date, stock of the loss corporation that is
subject to an option shall be treated as acquired on any such date,
pursuant to an exercise of the option by its owner on that date, if
such deemed exercise would result in an ownership change.''). Notice
2008-76, I.R.B. 2008-39 (September 29, 2008), released September 7,
2008, provides that the Treasury Department intends to issue
regulations modifying the term ``testing date'' under section 382 to
exclude any date on or after which the United States acquires stock or
options to acquire stock in certain corporations with respect to which
there is a ``Housing Act Acquisition'' pursuant to the Housing and
Economic Recovery Act of 2008, Pub. L. No. 110-289. The Notice states
that the regulations will apply on and after September 7, 2008, unless
and until there is additional guidance. Notice 2008-84, I.R.B. 2008-41
(October 14, 2008), provides that the Treasury Department intends to
issue regulations modifying the term ``testing date'' under section 382
to exclude any date as of the close of which the United States owns,
directly or indirectly, a more than 50 percent interest in a loss
corporation, which regulations will apply unless and until there is
additional guidance. Notice 2008-100, 2008-14 I.R.B. 1081 (released
October 15, 2008) provides that the Treasury Department intends to
issue regulations providing, among other things, that certain
instruments acquired by the Treasury Department under the Capital
Purchase Program (CPP) pursuant to the Emergency Economic Stabilization
Act of 2008, Pub. L. No. 100-343, (``EESA'') shall not be treated as
stock for certain purposes. The Notice also provides that certain
capital contributions made by Treasury pursuant to the CPP shall not be
considered to have been made as part of a plan the principal purpose of
which was to avoid or increase any section 382 limitation (for purposes
of section 382(l)(1)). The Notice states that taxpayers may rely on the
rules described unless and until there is further guidance; and that
any contrary guidance will not apply to instruments (i) held by
Treasury that were acquired pursuant to the CCP prior to publication of
that guidance, or (ii) issued to Treasury pursuant to the CCP under
written binding contracts entered into prior to the publication of that
guidance. Notice 2009-14, 2009-7 I.R.B. 516 (January 30, 2009)
amplifies and supersedes Notice 2008-100, and provides additional
guidance regarding the application of section 382 and other provisions
of law to corporations whose instruments are acquired by the Treasury
Department under certain programs pursuant to EESA.
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Explanation of Provision
The Act amends section 382 of the Code to provide an
exception from the application of the section 382 limitation.
Under the provision, the section 382 limitation that would
otherwise arise as a result of an ownership change shall not
apply in the case of an ownership change that occurs pursuant
to a restructuring plan of a taxpayer which is required under a
loan agreement or commitment for a line of credit entered into
with the Department of the Treasury under the Emergency
Economic Stabilization Act of 2008, and is intended to result
in a rationalization of the costs, capitalization, and capacity
with respect to the manufacturing workforce of, and suppliers
to, the taxpayer and its subsidiaries.\122\
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\122\ This exception shall not apply in the case of any subsequent
ownership change unless such subsequent ownership change also meets the
requirements of the exception.
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However, an ownership change that would otherwise be
excepted from the section 382 limitation under the provision
will instead remain subject to the section 382 limitation if,
immediately after such ownership change, any person (other than
a voluntary employees' beneficiary association within the
meaning of section 501(c)(9)) owns stock of the new loss
corporation possessing 50 percent or more of the total combined
voting power of all classes of stock entitled to vote or of the
total value of the stock of such corporation. For purposes of
this rule, persons who bear a relationship to one another
described in section 267(b) or 707(b)(1), or who are members of
a group of persons acting in concert, are treated as a single
person.
The exception from the application of the section 382
limitation under the provision does not change the fact that an
ownership change has occurred for other purposes of section
382.\123\
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\123\ For example, an ownership change has occurred for purposes of
determining the testing period under section 382(i)(2).
---------------------------------------------------------------------------
Effective Date
The provision applies to ownership changes after the date
of enactment (February 17, 2009).
8. Deferral of certain income from the discharge of indebtedness (sec.
1231 of the Act and sec. 108 of the Code)
Present Law
In general, gross income includes income that is realized
by a debtor from the discharge of indebtedness, subject to
certain exceptions for debtors in title 11 bankruptcy cases,
insolvent debtors, certain student loans, certain farm
indebtedness, certain real property business indebtedness, and
certain qualified principal residence indebtedness.\124\ In
cases involving discharges of indebtedness that are excluded
from gross income under the exceptions to the general rule,
taxpayers generally are required to reduce certain tax
attributes, including net operating losses, general business
credits, minimum tax credits, capital loss carryovers, and
basis in property, by the amount of the discharge of
indebtedness.\125\
---------------------------------------------------------------------------
\124\ See sections 61(a)(12) and 108. But see section 102 (a debt
cancellation which constitutes a gift or bequest is not treated as
income to the donee debtor).
\125\ Sec. 108(b).
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The amount of discharge of indebtedness excluded from
income by an insolvent debtor not in a title 11 bankruptcy case
cannot exceed the amount by which the debtor is insolvent. In
the case of a discharge in bankruptcy or where the debtor is
insolvent, any reduction in basis may not exceed the excess of
the aggregate bases of properties held by the taxpayer
immediately after the discharge over the aggregate of the
liabilities of the taxpayer immediately after the
discharge.\126\
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\126\ Sec. 1017.
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For all taxpayers, the amount of discharge of indebtedness
generally is equal to the excess of the adjusted issue price of
the indebtedness being satisfied over the amount paid (or
deemed paid) to satisfy such indebtedness.\127\ This rule
generally applies to (1) the acquisition by the debtor of its
debt instrument in exchange for cash, (2) the issuance of a
debt instrument by the debtor in satisfaction of its
indebtedness, including a modification of indebtedness that is
treated as an exchange (a debt-for-debt exchange), (3) the
transfer by a debtor corporation of stock, or a debtor
partnership of a capital or profits interest in such
partnership, in satisfaction of its indebtedness (an equity-
for-debt exchange), and (4) the acquisition by a debtor
corporation of its indebtedness from a shareholder as a
contribution to capital.
---------------------------------------------------------------------------
\127\ Treas. Reg. sec. 1.61-12(c)(2)(ii). Treas. Reg. sec. 1.1275-
1(b) defines ``adjusted issue price.''
---------------------------------------------------------------------------
Debt-for-debt exchanges
If a debtor issues a debt instrument in satisfaction of its
indebtedness, the debtor is treated as having satisfied the
indebtedness with an amount of money equal to the issue price
of the newly issued debt instrument.\128\ The issue price of
such newly issued debt instrument generally is determined under
sections 1273 and 1274.\129\ Similarly, a ``significant
modification'' of a debt instrument, within the meaning of
Treas. Reg. sec. 1.1001-3, results in an exchange of the
original debt instrument for a modified instrument. In such
cases, where the issue price of the modified debt instrument is
less than the adjusted issue price of the original debt
instrument, the debtor will have income from the cancellation
of indebtedness.
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\128\ Sec. 108(e)(10)(A).
\129\ Sec. 108(e)(10)(B).
---------------------------------------------------------------------------
If any new debt instrument is issued (including as a result
of a significant modification to a debt instrument), such debt
instrument will have original issue discount equal to the
excess (if any) of such debt instrument's stated redemption
price at maturity over its issue price.\130\ In general, an
issuer of a debt instrument with original issue discount may
deduct for any taxable year, with respect to such debt
instrument, an amount of original issue discount equal to the
aggregate daily portions of the original issue discount for
days during such taxable year.\131\
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\130\ Sec. 1273.
\131\ Sec. 163(e).
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Equity-for-debt exchanges
If a corporation transfers stock, or a partnership
transfers a capital or profits interest in such partnership, to
a creditor in satisfaction of its indebtedness, then such
corporation or partnership is treated as having satisfied its
indebtedness with an amount of money equal to the fair market
value of the stock or interest.\132\
---------------------------------------------------------------------------
\132\ Sec. 108(e)(8).
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Related party acquisitions
Indebtedness directly or indirectly acquired by a person
who bears a relationship to the debtor described in section
267(b) or section 707(b) is treated as if it were acquired by
the debtor.\133\ Thus, where a debtor's indebtedness is
acquired for less than its adjusted issue price by a person
related to the debtor (within the meaning of section 267(b) or
707(b)), the debtor recognizes income from the cancellation of
indebtedness. Regulations under section 108 provide that the
indebtedness acquired by the related party is treated as new
indebtedness issued by the debtor to the related holder on the
acquisition date (the deemed issuance).\134\ The new
indebtedness is deemed issued with an issue price equal to the
amount used under regulations to compute the amount of
cancellation of indebtedness income realized by the debtor
(i.e., either the holder's adjusted basis or the fair market
value of the indebtedness, as the case may be).\135\ The
indebtedness deemed issued pursuant to the regulations has
original issue discount to the extent its stated redemption
price at maturity exceeds its issue price.
---------------------------------------------------------------------------
\133\ Sec. 108(e)(4).
\134\ Treas. Reg. sec. 1.108-2(g).
\135\ Ibid.
---------------------------------------------------------------------------
In the case of a deemed issuance under Treas. Reg. sec.
1.108-2(g), the related holder does not recognize any gain or
loss, and the related holder's adjusted basis in the
indebtedness remains the same as it was immediately before the
deemed issuance.\136\ The deemed issuance is treated as a
purchase of the indebtedness by the related holder for purposes
of section 1272(a)(7) (pertaining to reduction of original
issue discount where a subsequent holder pays acquisition
premium) and section 1276 (pertaining to acquisitions of debt
at a market discount).\137\
---------------------------------------------------------------------------
\136\ Treas. Reg. sec. 1.108-2(g)(2).
\137\ Ibid.
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Contribution of a debt instrument to capital of a
corporation
Where a debtor corporation acquires its indebtedness from a
shareholder as a contribution to capital, section 118 \138\
does not apply, but the corporation is treated as satisfying
such indebtedness with an amount of money equal to the
shareholder's adjusted basis in the indebtedness.
---------------------------------------------------------------------------
\138\ Section 118 provides, in general, that in the case of a
corporation, gross income does not include any contribution to the
capital of the taxpayer.
---------------------------------------------------------------------------
Explanation of Provision
The provision permits a taxpayer to elect to defer
cancellation of indebtedness income arising from a
``reacquisition'' of ``an applicable debt instrument'' after
December 31, 2008, and before January 1, 2011. Income deferred
pursuant to the election must be included in the gross income
of the taxpayer ratably in the five taxable years beginning
with (1) for repurchases in 2009, the fifth taxable year
following the taxable year in which the repurchase occurs or
(2) for repurchases in 2010, the fourth taxable year following
the taxable year in which the repurchase occurs.
An ``applicable debt instrument'' is any debt instrument
issued by (1) a C corporation or (2) any other person in
connection with the conduct of a trade or business by such
person. For purposes of the provision, a ``debt instrument'' is
broadly defined to include any bond, debenture, note,
certificate or any other instrument or contractual arrangement
constituting indebtedness (within the meaning of section
1275(a)(1)).
A ``reacquisition'' is any ``acquisition'' of an applicable
debt instrument by (1) the debtor that issued (or is otherwise
the obligor under) such debt instrument or (2) any person
related to the debtor within the meaning of section 108(e)(4).
For purposes of the provision, an ``acquisition'' includes,
without limitation, (1) an acquisition of a debt instrument for
cash, (2) the exchange of a debt instrument for another debt
instrument (including an exchange resulting from a modification
of a debt instrument), (3) the exchange of corporate stock or a
partnership interest for a debt instrument, (4) the
contribution of a debt instrument to the capital of the issuer,
and (5) the complete forgiveness of a debt instrument by a
holder of such instrument.
Special rules for debt-for-debt exchanges
If a taxpayer makes the election provided by the provision
for a debt-for-debt exchange in which the newly issued debt
instrument issued (or deemed issued, including by operation of
the rules in Treas. Reg. sec. 1.108-2(g)) in satisfaction of an
outstanding debt instrument of the debtor has original issue
discount, then any otherwise allowable deduction for original
issue discount with respect to such newly issued debt
instrument that (1) accrues before the first year of the five-
taxable-year period in which the related, deferred discharge of
indebtedness income is included in the gross income of the
taxpayer and (2) does not exceed such related, deferred
discharge of indebtedness income, is deferred and allowed as a
deduction ratably over the same five-taxable-year period in
which the deferred discharge of indebtedness income is included
in gross income.
This rule can apply also in certain cases when a debtor
reacquires its debt for cash. If the taxpayer issues a debt
instrument and the proceeds of such issuance are used directly
or indirectly to reacquire a debt instrument of the taxpayer,
the provision treats the newly issued debt instrument as if it
were issued in satisfaction of the retired debt instrument. If
the newly issued debt instrument has original issue discount,
the rule described above applies. Thus, all or a portion of the
interest deductions with respect to original issue discount on
the newly issued debt instrument are deferred into the five-
taxable-year period in which the discharge of indebtedness
income is recognized. Where only a portion of the proceeds of a
new issuance are used by a taxpayer to satisfy outstanding
debt, then the deferral rule applies to the portion of the
original issue discount on the newly issued debt instrument
that is equal to the portion of the proceeds of such newly
issued instrument used to retire outstanding debt of the
taxpayer.
Acceleration of deferred items
Cancellation of indebtedness income and any related
deduction for original issue discount that is deferred by an
electing taxpayer (and has not previously been taken into
account) generally is accelerated and taken into income in the
taxable year in which the taxpayer: (1) dies, (2) liquidates or
sells substantially all of its assets (including in a title 11
or similar case), (3) ceases to do business, or (4) or is in
similar circumstances. In a case under title 11 or a similar
case, any deferred items are taken into income as of the day
before the petition is filed. Deferred items are accelerated in
a case under Title 11 where the taxpayer liquidates, sells
substantially all of its assets, or ceases to do business, but
not where a taxpayer reorganizes and emerges from the Title 11
case. In the case of a pass-thru entity, this acceleration rule
also applies to the sale, exchange, or redemption of an
interest in the entity by a holder of such interest.
Special rule for partnerships
In the case of a partnership, any income deferred under the
provision is allocated to the partners in the partnership
immediately before the discharge of indebtedness in the manner
such amounts would have been included in the distributive
shares of such partners under section 704 if such income were
recognized at the time of the discharge. Any decrease in a
partner's share of liabilities as a result of such discharge is
not taken into account for purposes of section 752 at the time
of the discharge to the extent the deemed distribution under
section 752 would cause the partner to recognize gain under
section 731. Thus, the deemed distribution under section 752 is
deferred with respect to a partner to the extent it exceeds
such partner's basis. Amounts so deferred are taken into
account at the same time, and to the extent remaining in the
same amount, as income deferred under the provision is
recognized by the partner.
Coordination with section 108(a) and procedures for
election
Where a taxpayer makes the election provided by the
provision, the exclusions provided by section 108(a)(1)(A),
(B), (C), and (D) shall not apply to the income from the
discharge of indebtedness for the year in which the taxpayer
makes the election or any subsequent year. Thus, for example,
an insolvent taxpayer may elect under the provision to defer
income from the discharge of indebtedness rather than excluding
such income and reducing tax attributes by a corresponding
amount. The election is to be made on an instrument by
instrument basis; once made, the election is irrevocable. A
taxpayer makes an election with respect to a debt instrument by
including with its return for the taxable year in which the
reacquisition of the debt instrument occurs a statement that
(1) clearly identifies the debt instrument and (2) includes the
amount of deferred income to which the provision applies and
such other information as may be prescribed by the Secretary.
The Secretary is authorized to require reporting of the
election (and other information with respect to the
reacquisition) for years subsequent to the year of the
reacquisition.
Regulatory authority
The provision authorizes the Secretary of the Treasury to
prescribe such regulations as may be necessary or appropriate
for purposes of applying the provision, including rules
extending the acceleration provisions to other circumstances
where appropriate, rules requiring reporting of the election
and such other information as the Secretary may require on
returns of tax for subsequent taxable years, rules for the
application of the provision to partnerships, S corporations,
and other pass-thru entities, including for the allocation of
deferred deductions.
Effective Date
The provision is effective for discharges in taxable years
ending after December 31, 2008.
9. Modifications of rules for original issue discount on certain high
yield obligations (sec. 1232 of the Act and sec. 163 of the
Code)
Present Law
In general, the issuer of a debt instrument with original
issue discount may deduct the portion of such original issue
discount equal to the aggregate daily portions of the original
issue discount for days during the taxable year.\139\ However,
in the case of an applicable high-yield discount obligation (an
``AHYDO'') issued by a corporate issuer: (1) no deduction is
allowed for the ``disqualified portion'' of the original issue
discount on such obligation, and (2) the remainder of the
original issue discount on any such obligation is not allowable
as a deduction until paid by the issuer.\140\
---------------------------------------------------------------------------
\139\ Sec. 163(e)(1). For purposes of section 163(e)(1), the daily
portion of the original issue discount for any day is determined under
section 1272(a) (without regard to paragraph (7) thereof and without
regard to section 1273(a)(3)).
\140\ Sec. 163(e)(5).
---------------------------------------------------------------------------
An AHYDO is any debt instrument if (1) the maturity date on
such instrument is more than five years from the date of issue;
(2) the yield to maturity on such instrument exceeds the sum of
(a) the applicable Federal rate in effect under section 1274(d)
for the calendar month in which the obligation is issued and
(b) five percentage points, and (3) such instrument has
``significant original issue discount.'' \141\ An instrument is
treated as having ``significant original issue discount'' if
the aggregate amount of interest that would be includible in
the gross income of the holder with respect to such instrument
for periods before the close of any accrual period (as defined
in section 1272(a)(5)) ending after the date five years after
the date of issue, exceeds the sum of (1) the aggregate amount
of interest to be paid under the instrument before the close of
such accrual period, and (2) the product of the issue price of
such instrument (as defined in sections 1273(b) and 1274(a))
and its yield to maturity.\142\
---------------------------------------------------------------------------
\141\ Sec. 163(i)(1).
\142\ Sec. 163(i)(2).
---------------------------------------------------------------------------
The disqualified portion of the original issue discount on
an AHYDO is the lesser of (1) the amount of original issue
discount with respect to such obligation or (2) the portion of
the ``total return'' on such obligation which bears the same
ratio to such total return as the ``disqualified yield'' (i.e.,
the excess of the yield to maturity on the obligation over the
applicable Federal rate plus six percentage points) on such
obligation bears to the yield to maturity on such
obligation.\143\ The term ``total return'' means the amount
which would have been the original issue discount of the
obligation if interest described in section 1273(a)(2) were
included in the stated redemption to maturity.\144\ A corporate
holder treats the disqualified portion of original issue
discount as a stock distribution for purposes of the dividend
received deduction.\145\
---------------------------------------------------------------------------
\143\ Sec. 163(e)(5)(C).
\144\ Sec. 163(e)(5)(C)(ii).
\145\ Sec. 163(e)(5)(B).
---------------------------------------------------------------------------
Explanation of Provision
The Act adds a provision that suspends the rules in section
163(e)(5) for certain obligations issued in a debt-for-debt
exchange, including an exchange resulting from a significant
modification of a debt instrument, after August 31, 2008, and
before January 1, 2010.
In general, the suspension does not apply to any newly
issued debt instrument (including any debt instrument issued as
a result of a significant modification of a debt instrument)
that is issued for an AHYDO. However, any newly issued debt
instrument (including any debt instrument issued as a result of
a significant modification of a debt instrument) for which the
AHYDO rules are suspended under the provision is not treated as
an AHYDO for purposes of a subsequent application of the
suspension rule. Thus, for example, if a new debt instrument
that would be an AHYDO under present law is issued in exchange
for a debt instrument that is not an AHYDO, and the provision
suspends application of section 163(e)(5), another new debt
instrument, issued during the suspension period in exchange for
the instrument with respect to which the rule in section
163(e)(5) was suspended, would be eligible for the relief
provided by the provision despite the fact that it is issued
for an instrument that is an AHYDO under present law.
In addition, the suspension does not apply to any newly
issued debt instrument (including any debt instrument issued as
a result of a significant modification of a debt instrument)
that is (1) described in section 871(h)(4) (without regard to
subparagraph (D) thereof) (i.e., certain contingent debt) or
(2) issued to a person related to the issuer (within the
meaning of section 108(e)(4)).
The provision provides authority to the Secretary to apply
the suspension rule to periods after December 31, 2009, where
the Secretary determines that such application is appropriate
in light of distressed conditions in the debt capital markets.
In addition, the provision grants authority to the Secretary to
use a rate that is higher than the applicable Federal rate for
purposes of applying section 163(e)(5) for obligations issued
after December 31, 2009, in taxable years ending after such
date if the Secretary determines that such higher rate is
appropriate in light of distressed conditions in the debt
capital markets.
Effective Date
The temporary suspension of section 163(e)(5) applies to
obligations issued after August 31, 2008, in taxable years
ending after such date. The additional authority granted to the
Secretary to use a rate higher than the applicable Federal rate
for purposes of applying section 163(e)(5) applies to
obligations issued after December 31, 2009, in taxable years
ending after such date.
10. Special rules applicable to qualified small business stock for 2009
and 2010 (sec. 1241 of the Act and sec. 1202 of the Code)
Present Law
Under present law, individuals may exclude 50 percent (60
percent for certain empowerment zone businesses) of the gain
from the sale of certain small business stock acquired at
original issue and held for at least five years.\146\ The
portion of the gain includible in taxable income is taxed at a
maximum rate of 28 percent under the regular tax.\147\ A
percentage of the excluded gain is an alternative minimum tax
preference;\148\ the portion of the gain includible in
alternative minimum taxable income is taxed at a maximum rate
of 28 percent under the alternative minimum tax.
---------------------------------------------------------------------------
\146\ Sec. 1202.
\147\ Sec. 1(h).
\148\ Sec. 57(a)(7). In the case of qualified small business stock,
the percentage of gain excluded from gross income which is an
alternative minimum tax preference is (i) seven percent in the case of
stock disposed of in a taxable year beginning before 2011; (ii) 42
percent in the case of stock acquired before January 1, 2001, and
disposed of in a taxable year beginning after 2010; and (iii) 28
percent in the case of stock acquired after December 31, 2000, and
disposed of in a taxable year beginning after 2010.
---------------------------------------------------------------------------
Thus, under present law, gain from the sale of qualified
small business stock is taxed at effective rates of 14 percent
under the regular tax\149\ and (i) 14.98 percent under the
alternative minimum tax for dispositions before January 1,
2011; (ii) 19.88 percent under the alternative minimum tax for
dispositions after December 31, 2010, in the case of stock
acquired before January 1, 2001; and (iii) 17.92 percent under
the alternative minimum tax for dispositions after December 31,
2010, in the case of stock acquired after December 31,
2000.\150\
---------------------------------------------------------------------------
\149\ The 50 percent of gain included in taxable income is taxed at
a maximum rate of 28 percent.
\150\ The amount of gain included in alternative minimum tax is
taxed at a maximum rate of 28 percent. The amount so included is the
sum of (i) 50 percent (the percentage included in taxable income) of
the total gain and (ii) the applicable preference percentage of the
one-half gain that is excluded from taxable income.
---------------------------------------------------------------------------
The amount of gain eligible for the exclusion by an
individual with respect to any corporation is the greater of
(1) ten times the taxpayer's basis in the stock or (2) $10
million. In order to qualify as a small business, when the
stock is issued, the gross assets of the corporation may not
exceed $50 million. The corporation also must meet certain
active trade or business requirements.
Explanation of Provision\151\
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\151\ The provision was subsequently modified to provide a 100-
percent exclusion for stock issued after September 27, 2010, and before
January 1, 2011 by section 2011 of the Small Business Jobs Act of 2010,
Pub. L. No. 111-240, described in Part Fourteen. The provision was
subsequently extended to stock issued during 2011 by section 760 of Tax
Relief, Unemployment Insurance Reauthorization, and Job Creation Act of
2010, Pub. L. No. 111-312, described in Part Sixteen of this document.
---------------------------------------------------------------------------
Under the Act, the percentage exclusion for qualified small
business stock sold by an individual is increased from 50
percent (60 percent for certain empowerment zone businesses) to
75 percent.
As a result of the increased exclusion, gain from the sale
of qualified small business stock to which the provision
applies is taxed at effective rates of seven percent under the
regular tax \152\ and 12.88 percent under the alternative
minimum tax.\153\
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\152\ The 25 percent of gain included in taxable income is taxed at
a maximum rate of 28 percent.
\153\ The 46 percent of gain included in alternative minimum tax is
taxed at a maximum rate of 28 percent. Forty-six percent is the sum of
25 percent (the percentage of total gain included in taxable income)
plus 21 percent (the percentage of total gain which is an alternative
minimum tax preference).
---------------------------------------------------------------------------
Effective Date
The provision is effective for stock issued after the date
of enactment (February 17, 2009) and before January 1, 2011.
11. Temporary reduction in recognition period for S corporation built-
in gains tax (sec. 1251 of the Act and sec. 1374 of the Code)
Present Law
A ``small business corporation'' (as defined in section
1361(b)) may elect to be treated as an S corporation. Unlike C
corporations, S corporations generally pay no corporate-level
tax. Instead, items of income and loss of an S corporation pass
through to its shareholders. Each shareholder takes into
account separately its share of these items on its individual
income tax return.\154\
---------------------------------------------------------------------------
\154\ Sec. 1366.
---------------------------------------------------------------------------
A corporate level tax, at the highest marginal rate
applicable to corporations (currently 35 percent) is imposed on
an S corporation's gain that arose prior to the conversion of
the C corporation to an S corporation and is recognized by the
S corporation during the recognition period, i.e., the first 10
taxable years that the S election is in effect.\155\
---------------------------------------------------------------------------
\155\ Sec. 1374.
---------------------------------------------------------------------------
Gains recognized in the recognition period are not built-in
gains to the extent they are shown to have arisen while the S
election was in effect or are offset by recognized built-in
losses. The built-in gains tax also applies to gains with
respect to net recognized built-in gain attributable to
property received by an S corporation from a C corporation in a
carryover basis transaction.\156\ The amount of the built-in
gains tax is treated as a loss taken into account by the
shareholders in computing their individual income tax.\157\
---------------------------------------------------------------------------
\156\ Sec. 1374(d)(8). With respect to such assets, the recognition
period runs from the day on which such assets were acquired (in lieu of
the beginning of the first taxable year for which the corporation was
an S corporation). Sec. 1374(d)(8)(B).
\157\ Sec. 1366(f)(2).
---------------------------------------------------------------------------
Explanation of Provision \158\
---------------------------------------------------------------------------
\158\ The provision was subsequently modified and extended by
section 2011 of the Small Business Jobs Act of 2010, Pub. L. No. 111-
240, described in Part Fourteen of this document.
---------------------------------------------------------------------------
The Act provides that, for any taxable year beginning in
2009 and 2010, no tax is imposed on an S corporation under
section 1374 if the seventh year in the corporation's
recognition period preceded such taxable year. Thus, with
respect to gain that arose prior to the conversion of a C
corporation to an S corporation, no tax will be imposed under
section 1374 after the seventh taxable year the S corporation
election is in effect. In the case of built-in gain
attributable to an asset received by an S corporation from a C
corporation in a carryover basis transaction, no tax will be
imposed under section 1374 if such gain is recognized after the
date that is seven years following the date on which such asset
was acquired.\159\
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\159\ Shareholders will continue to take into account all items of
gain and loss under section 1366.
---------------------------------------------------------------------------
Effective Date
The provision applies to taxable years beginning after
December 31, 2008.
C. Fiscal Relief for State and Local Governments
1. De minimis safe harbor exception for tax-exempt interest expense of
financial institutions and modification of small issuer
exception to tax-exempt interest expense allocation rules for
financial institutions (secs. 1501 and 1502 of the Act and sec.
265 of the Code)
Present Law
Present law disallows a deduction for interest on
indebtedness incurred or continued to purchase or carry
obligations the interest on which is exempt from tax.\160\ In
general, an interest deduction is disallowed only if the
taxpayer has a purpose of using borrowed funds to purchase or
carry tax-exempt obligations; a determination of the taxpayer's
purpose in borrowing funds is made based on all of the facts
and circumstances.\161\
---------------------------------------------------------------------------
\160\ Sec. 265(a).
\161\ See Rev. Proc. 72-18, 1972-1 C.B. 740.
---------------------------------------------------------------------------
Two-percent rule for individuals and certain nonfinancial
corporations
In the absence of direct evidence linking an individual
taxpayer's indebtedness with the purchase or carrying of tax-
exempt obligations, the Internal Revenue Service takes the
position that it ordinarily will not infer that a taxpayer's
purpose in borrowing money was to purchase or carry tax-exempt
obligations if the taxpayer's investment in tax-exempt
obligations is ``insubstantial.''\162\ An individual's holdings
of tax-exempt obligations are presumed to be insubstantial if
during the taxable year the average adjusted basis of the
individual's tax-exempt obligations is two percent or less of
the average adjusted basis of the individual's portfolio
investments and assets held by the individual in the active
conduct of a trade or business.
---------------------------------------------------------------------------
\162\ Ibid.
---------------------------------------------------------------------------
Similarly, in the case of a corporation that is not a
financial institution or a dealer in tax-exempt obligations,
where there is no direct evidence of a purpose to purchase or
carry tax-exempt obligations, the corporation's holdings of
tax-exempt obligations are presumed to be insubstantial if the
average adjusted basis of the corporation's tax-exempt
obligations is two percent or less of the average adjusted
basis of all assets held by the corporation in the active
conduct of its trade or business.
Financial institutions
In the case of a financial institution, the Code generally
disallows that portion of the taxpayer's interest expense that
is allocable to tax-exempt interest.\163\ The amount of
interest that is disallowed is an amount which bears the same
ratio to such interest expense as the taxpayer's average
adjusted bases of tax-exempt obligations acquired after August
7, 1986, bears to the average adjusted bases for all assets of
the taxpayer.
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\163\ Sec. 265(b)(1). A ``financial institution'' is any person
that (1) accepts deposits from the public in the ordinary course of
such person's trade or business and is subject to Federal or State
supervision as a financial institution or (2) is a corporation
described by section 585(a)(2). Sec. 265(b)(5).
---------------------------------------------------------------------------
Exception for certain obligations of qualified small
issuers
The general rule in section 265(b), denying financial
institutions' interest expense deductions allocable to tax-
exempt obligations, does not apply to ``qualified tax-exempt
obligations.'' \164\ Instead, as discussed in the next section,
only 20 percent of the interest expense allocable to
``qualified tax-exempt obligations'' is disallowed.\165\ A
``qualified tax-exempt obligation'' is a tax-exempt obligation
that (1) is issued after August 7, 1986, by a qualified small
issuer, (2) is not a private activity bond, and (3) is
designated by the issuer as qualifying for the exception from
the general rule of section 265(b).
---------------------------------------------------------------------------
\164\ Sec. 265(b)(3).
\165\ Secs. 265(b)(3)(A), 291(a)(3) and 291(e)(1).
---------------------------------------------------------------------------
A ``qualified small issuer'' is an issuer that reasonably
anticipates that the amount of tax-exempt obligations that it
will issue during the calendar year will be $10 million or
less.\166\ The Code specifies the circumstances under which an
issuer and all subordinate entities are aggregated.\167\ For
purposes of the $10 million limitation, an issuer and all
entities that issue obligations on behalf of such issuer are
treated as one issuer. All obligations issued by a subordinate
entity are treated as being issued by the entity to which it is
subordinate. An entity formed (or availed of) to avoid the $10
million limitation and all entities benefiting from the device
are treated as one issuer.
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\166\ Sec. 265(b)(3)(C).
\167\ Sec. 265(b)(3)(E).
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Composite issues (i.e., combined issues of bonds for
different entities) qualify for the ``qualified tax-exempt
obligation'' exception only if the requirements of the
exception are met with respect to (1) the composite issue as a
whole (determined by treating the composite issue as a single
issue) and (2) each separate lot of obligations that is part of
the issue (determined by treating each separate lot of
obligations as a separate issue).\168\ Thus a composite issue
may qualify for the exception only if the composite issue
itself does not exceed $10 million, and if each issuer
benefitting from the composite issue reasonably anticipates
that it will not issue more than $10 million of tax-exempt
obligations during the calendar year, including through the
composite arrangement.
---------------------------------------------------------------------------
\168\ Sec. 265(b)(3)(F).
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Treatment of financial institution preference items
Section 291(a)(3) reduces by 20 percent the amount
allowable as a deduction with respect to any financial
institution preference item. Financial institution preference
items include interest on debt to carry tax-exempt obligations
acquired after December 31, 1982, and before August 8,
1986.\169\ Section 265(b)(3) treats qualified tax-exempt
obligations as if they were acquired on August 7, 1986. As a
result, the amount allowable as a deduction by a financial
institution with respect to interest incurred to carry a
qualified tax-exempt obligation is reduced by 20 percent.
---------------------------------------------------------------------------
\169\ Sec. 291(e)(1).
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Reasons for Change
The Congress believes that the creation of a de minimis
safe harbor to permit financial institutions to hold a limited
amount of tax-exempt obligations issued in 2009 and 2010
without full reduction of their attributable interest expense
deductions will stimulate demand for tax-exempt obligations
issued by State and local governments in 2009 and 2010. This
additional demand should increase the volume of tax-exempt bond
issuances by State and local governments in 2009 and 2010 while
reducing the interest costs with respect to such issuances. In
addition, the Congress believes that it is appropriate to
increase temporarily the volume limitation for qualified small
issuers, from $10 million to $30 million, and make other
modifications to allow additional issuers to qualify under the
provision.
Explanation of Provision
Two-percent safe harbor for financial institutions
The provision provides that tax-exempt obligations issued
during 2009 or 2010 and held by a financial institution, in an
amount not to exceed two percent of the adjusted basis of the
financial institution's assets, are not taken into account for
the purpose of determining the portion of the financial
institution's interest expense subject to the pro rata interest
disallowance rule of section 265(b). For purposes of this rule,
a refunding bond (whether a current or advance refunding) is
treated as issued on the date of the issuance of the refunded
bond (or in the case of a series of refundings, the original
bond).
The provision also amends section 291(e) to provide that
tax-exempt obligations issued during 2009 and 2010, and not
taken into account for purposes of the calculation of a
financial institution's interest expense subject to the pro
rata interest disallowance rule, are treated as having been
acquired on August 7, 1986. As a result, such obligations are
financial institution preference items, and the amount
allowable as a deduction by a financial institution with
respect to interest incurred to carry such obligations is
reduced by 20 percent.
Modifications to qualified small issuer exception
With respect to tax-exempt obligations issued during 2009
and 2010, the provision increases from $10 million to $30
million the annual limit for qualified small issuers.
In addition, in the case of a ``qualified financing issue''
issued in 2009 or 2010, the provision applies the $30 million
annual volume limitation at the borrower level (rather than at
the level of the pooled financing issuer). Thus, for the
purpose of applying the requirements of the section 265(b)(3)
qualified small issuer exception, the portion of the proceeds
of a qualified financing issue that are loaned to a ``qualified
borrower'' that participates in the issue are treated as a
separate issue with respect to which the qualified borrower is
deemed to be the issuer.
A ``qualified financing issue'' is any composite, pooled or
other conduit financing issue the proceeds of which are used
directly or indirectly to make or finance loans to one or more
ultimate borrowers all of whom are qualified borrowers. A
``qualified borrower'' means (1) a State or political
subdivision of a State or (2) an organization described in
section 501(c)(3) and exempt from tax under section 501(a).
Thus, for example, a $100 million pooled financing issue that
was issued in 2009 could qualify for the section 265(b)(3)
exception if the proceeds of such issue were used to make four
equal loans of $25 million to four qualified borrowers.
However, if (1) more than $30 million were loaned to any
qualified borrower, (2) any borrower were not a qualified
borrower, or (3) any borrower would, if it were the issuer of a
separate issue in an amount equal to the amount loaned to such
borrower, fail to meet any of the other requirements of section
265(b)(3), the entire $100 million pooled financing issue would
fail to qualify for the exception.
For purposes of determining whether an issuer meets the
requirements of the small issuer exception, qualified 501(c)(3)
bonds issued in 2009 or 2010 are treated as if they were issued
by the 501(c)(3) organization for whose benefit they were
issued (and not by the actual issuer of such bonds). In
addition, in the case of an organization described in section
501(c)(3) and exempt from taxation under section 501(a),
requirements for ``qualified financing issues'' shall be
applied as if the section 501(c)(3) organization were the
issuer. Thus, in any event, an organization described in
section 501(c)(3) and exempt from taxation under section 501(a)
shall be limited to the $30 million per issuer cap for
qualified tax exempt obligations described in section
265(b)(3).
Effective Date
The provisions are effective for obligations issued after
December 31, 2008.
2. Temporary modification of alternative minimum tax limitations on
tax-exempt bonds (sec. 1503 of the Act and secs. 56 and 57 of
the Code)
Present Law
Present law imposes an alternative minimum tax (``AMT'') on
individuals and corporations. AMT is the amount by which the
tentative minimum tax exceeds the regular income tax. The
tentative minimum tax is computed based upon a taxpayer's
alternative minimum taxable income (``AMTI''). AMTI is the
taxpayer's taxable income modified to take into account certain
preferences and adjustments. One of the preference items is
tax-exempt interest on certain tax-exempt bonds issued for
private activities (sec. 57(a)(5)). Also, in the case of a
corporation, an adjustment based on current earnings is
determined, in part, by taking into account 75 percent of
items, including tax-exempt interest, that are excluded from
taxable income but included in the corporation's earnings and
profits (sec. 56(g)(4)(B)).
Reasons for Change
The Congress believes that the AMT treatment of interest on
tax-exempt bonds restricts the number of persons willing to
hold tax-exempt bonds, resulting in higher financing costs.
This problem has become more acute as a result of the current
economic downturn. Accordingly, in light of current economic
circumstances, the Act eliminates the AMT adjustments for
interest on tax-exempt bonds issued in 2009 and 2010.
Explanation of Provision
The Act provides that tax-exempt interest on private
activity bonds issued in 2009 and 2010 is not an item of tax
preference for purposes of the alternative minimum tax and
interest on tax exempt bonds issued in 2009 and 2010 is not
included in the corporate adjustment based on current earnings.
For these purposes, a refunding bond is treated as issued on
the date of the issuance of the refunded bond (or in the case
of a series of refundings, the original bond).
The Act also provides that tax-exempt interest on private
activity bonds issued in 2009 and 2010 to currently refund a
private activity bond issued after December 31, 2003, and
before January 1, 2009, is not an item of tax preference for
purposes of the alternative minimum tax. Also tax-exempt
interest on bonds issued in 2009 and 2010 to currently refund a
bond issued after December 31, 2003, and before January 1,
2009, is not included in the corporate adjustment based on
current earnings.
Effective Date
The provision applies to interest on bonds issued after
December 31, 2008.
3. Temporary expansion of availability of industrial development bonds
to facilities creating intangible property and other
modifications (sec. 1301 of the Act and sec. 144(a) of the
Code)
Present Law
Qualified small issue bonds (commonly referred to as
``industrial development bonds'' or ``small issue IDBs'') are
tax-exempt bonds issued by State and local governments to
finance private business manufacturing facilities (including
certain directly related and ancillary facilities) or the
acquisition of land and equipment by certain farmers. In both
instances, these bonds are subject to limits on the amount of
financing that may be provided, both for a single borrowing and
in the aggregate. In general, no more than $1 million of small-
issue bond financing may be outstanding at any time for
property of a business (including related parties) located in
the same municipality or county. Generally, this $1 million
limit may be increased to $10 million if, in addition to
outstanding bonds, all other capital expenditures of the
business (including related parties) in the same municipality
or county are counted toward the limit over a six-year period
that begins three years before the issue date of the bonds and
ends three years after such date. Outstanding aggregate
borrowing is limited to $40 million per borrower (including
related parties) regardless of where the property is located.
The Code permits up to $10 million of capital expenditures
to be disregarded, in effect increasing from $10 million to $20
million the maximum allowable amount of total capital
expenditures by an eligible business in the same municipality
or county. However, no more than $10 million of bond financing
may be outstanding at any time for property of an eligible
business (including related parties) located in the same
municipality or county. Other limits (e.g., the $40 million per
borrower limit) also continue to apply.
A manufacturing facility is any facility which is used in
the manufacturing or production of tangible personal property
(including the processing resulting in a change in the
condition of such property). Manufacturing facilities include
facilities that are directly related and ancillary to a
manufacturing facility (as described in the previous sentence)
if (1) such facilities are located on the same site as the
manufacturing facility and (2) not more than 25 percent of the
net proceeds of the issue are used to provide such
facilities.\170\
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\170\ The 25 percent restriction was enacted by the Technical and
Miscellaneous Revenue Act of 1988, Pub. L. No. 100-647, because of
concern over the scope of the definition of manufacturing facility. See
H.R. Rpt. No. 100-795 (1988). The amendment was intended to clarify
that while the manufacturing facility definition does not preclude the
financing of ancillary activities, the 25 percent restriction was
intended to limit the use of bond proceeds to finance facilities other
than for ``core manufacturing.'' The conference agreement followed the
House bill, which the conference report described as follows: ``The
House bill clarifies that up to 25 percent of the proceeds of a
qualified small issue may be used to finance ancillary activities which
are carried out at the manufacturing site. All such ancillary
activities must be subordinate and integral to the manufacturing
process.''
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Explanation of Provision
In general
For bonds issued after the date of enactment and before
January 1, 2011, the provision expands the definition of
manufacturing facilities to mean any facility that is used in
the manufacturing, creation, or production of tangible property
or intangible property (within the meaning of section
197(d)(1)(C)(iii)). For this purpose, intangible property means
any patent, copyright, formula, process, design, knowhow,
format, or other similar item. It is intended to include among
other items, the creation of computer software, and
intellectual property associated bio-tech and pharmaceuticals.
In lieu of the directly related and ancillary test of
present law, the provision provides a special rule for bonds
issued after the date of enactment and before January 1, 2011.
For these bonds, the provision provides that facilities that
are functionally related and subordinate to the manufacturing
facility are treated as a manufacturing facility and the 25
percent of net proceeds restriction does not apply to such
facilities.\171\ Functionally related and subordinate
facilities must be located on the same site as the
manufacturing facility.
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\171\ The provision is based in part on a similar rule applicable
to exempt facility bonds. Treas. Reg. sec. 1.103-8(a)(3) provides:
``(3) Functionally related and subordinate. An exempt facility includes
any land, building, or other property functionally related and
subordinate to such facility. Property is not functionally related and
subordinate to a facility if it is not of a character and size
commensurate with the character and size of such facility.''
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Effective Date
The provision is effective for bonds issued after the date
of enactment and before January 1, 2011.
4. Qualified school construction bonds (sec. 1521 of the Act and new
sec. 54F of the Code)
Present Law
Tax-exempt bonds
Interest on State and local governmental bonds generally is
excluded from gross income for Federal income tax purposes if
the proceeds of the bonds are used to finance direct activities
of these governmental units or if the bonds are repaid with
revenues of the governmental units. These can include tax-
exempt bonds which finance public schools.\172\ An issuer must
file with the Internal Revenue Service certain information
about the bonds issued in order for that bond issue to be tax-
exempt.\173\ Generally, this information return is required to
be filed no later than the 15th day of the second month after
the close of the calendar quarter in which the bonds were
issued.
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\172\ Sec. 103.
\173\ Sec. 149(e).
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The tax exemption for State and local bonds does not apply
to any arbitrage bond.\174\ An arbitrage bond is defined as any
bond that is part of an issue if any proceeds of the issue are
reasonably expected to be used (or intentionally are used) to
acquire higher yielding investments or to replace funds that
are used to acquire higher yielding investments.\175\ 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, investment
profits that are earned during these periods or on such
investments must be rebated to the Federal government.
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\174\ Sec. 103(a) and (b)(2).
\175\ Sec. 148.
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Qualified zone academy bonds
As an alternative to traditional tax-exempt bonds, States
and local governments were given the authority to issue
``qualified zone academy bonds.'' \176\ A total of $400 million
of qualified zone academy bonds is authorized to be issued
annually in calendar years 1998 through 2009. The $400 million
aggregate bond cap 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
authority to qualified zone academies within such State.
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\176\ Sec. 1397E.
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A taxpayer holding a qualified zone academy bond on the
credit allowance date is entitled to a credit. The credit is
includible in gross income (as if it were a taxable interest
payment on the bond), and may be claimed against regular income
tax and alternative minimum tax liability.
The Treasury Department sets the credit rate at a rate
estimated to allow issuance of qualified zone academy bonds
without discount and without interest cost to the issuer.\177\
The Secretary determines credit rates for tax credit bonds
based on general assumptions about credit quality of the class
of potential eligible issuers and such other factors as the
Secretary deems appropriate. The Secretary may determine credit
rates based on general credit market yield indexes and credit
ratings. The maximum term of the bond is determined by the
Treasury Department, so that the present value of the
obligation to repay the principal on the bond is 50 percent of
the face value of the bond.
---------------------------------------------------------------------------
\177\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
---------------------------------------------------------------------------
``Qualified zone academy bonds'' are defined as any bond
issued by a State or local government, provided that (1) at
least 95 percent of the proceeds are used for the purpose of
renovating, providing equipment to, developing course materials
for use at, or training teachers and 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 an empowerment zone or
enterprise community designated under the Code, 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.
The arbitrage requirements which generally apply to
interest-bearing tax-exempt bonds also generally apply to
qualified zone academy bonds. In addition, an issuer of
qualified zone academy bonds must reasonably expect to and
actually spend 100 percent of the proceeds of such bonds on
qualified zone academy property within the three-year period
that begins on the date of issuance. To the extent less than
100 percent of the proceeds are used to finance qualified zone
academy property during the three-year spending period, bonds
will continue to qualify as qualified zone academy bonds if
unspent proceeds are used within 90 days from the end of such
three years period to redeem any nonqualified bonds. The three-
year spending period may be extended by the Secretary if the
issuer establishes that the failure to meet the spending
requirement is due to reasonable cause and the related purposes
for issuing the bonds will continue to proceed with due
diligence.
Two special arbitrage rules apply to qualified zone academy
bonds. First, available project proceeds invested during the
three-year period beginning on the date of issue are not
subject to the arbitrage restrictions (i.e., yield restriction
and rebate requirements). Available project proceeds are
proceeds from the sale of an issue of qualified zone academy
bonds, less issuance costs (not to exceed two percent) and any
investment earnings on such proceeds. Thus, available project
proceeds invested during the three-year spending period may be
invested at unrestricted yields, but the earnings on such
investments must be spent on qualified zone academy property.
Second, amounts invested in a reserve fund are not subject to
the arbitrage restrictions to the extent: (1) such fund is
funded at a rate not more rapid than equal annual installments;
(2) such fund is funded in a manner reasonably expected to
result in an amount not greater than an amount necessary to
repay the issue; and (3) the yield on such fund is not greater
than the average annual interest rate of tax-exempt obligations
having a term of 10 years or more that are issued during the
month the qualified zone academy bonds are issued.
Issuers of qualified zone academy bonds are required to
report issuance to the Internal Revenue Service in a manner
similar to the information returns required for tax-exempt
bonds.
Reasons for Change
The Congress believes that this new category of tax credit
bonds will provide an efficient mechanism to encourage the
construction, rehabilitation, or repair of public school
facilities and the acquisition of land on which such bond-
financed facilities are to be constructed.
Explanation of Provision \178\
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\178\ Section 301 of the Hiring Incentives to Restore Employment
Act, Pub. L. No. 111-147, added a provision to section 6431, allowing
the issuer of the bonds to elect to receive a direct payment from the
Treasury in lieu of providing a tax credit to the holders of the bonds.
For further discussion, see Part Seven of this document.
---------------------------------------------------------------------------
In general
The provision creates a new category of tax-credit bonds:
qualified school construction bonds. Qualified school
construction bonds must meet three requirements: (1) 100
percent of the available project proceeds of the bond issue is
used for the construction, rehabilitation, or repair of a
public school facility or for the acquisition of land on which
such a bond-financed facility is to be constructed; (2) the
bond is issued by a State or local government within which such
school is located; and (3) the issuer designates such bonds as
a qualified school construction bond.
National limitation
There is a national limitation on qualified school
construction bonds of $11 billion for calendar years 2009 and
2010, respectively.
Allocation to the States
The national limitation is tentatively allocated among the
States in proportion to respective amounts each such State is
eligible to receive under section 1124 of the Elementary and
Secondary Education Act of 1965 for the most recent fiscal year
ending before such calendar year. The amount each State is
allocated under the above formula is then reduced by the amount
received by any local large educational agency within the
State.
For allocation purposes, a State includes the District of
Columbia and any possession of the United States. The provision
provides a special allocation for possessions of the United
States other than Puerto Rico under the national limitation for
States. Under this special rule an allocation to a possession
other than Puerto Rico is made on the basis of the respective
populations of individuals below the poverty line (as defined
by the Office of Management and Budget) rather than respective
populations of children aged five through seventeen. This
special allocation reduces the State allocation share of the
national limitation otherwise available for allocation among
the States. Under another special rule, the Secretary of the
Interior may allocate $200 million of school construction bonds
for 2009 and 2010, respectively, to Indian schools. This
special allocation for Indian schools is to be used for
purposes of the construction, rehabilitation, and repair of
schools funded by the Bureau of Indian Affairs. For purposes of
such allocations Indian tribal governments are qualified
issuers. The special allocation for Indian schools does not
reduce the State allocation share of the national limitation
otherwise available for allocation among the States.
If an amount allocated under this allocation to the States
is unused for a calendar year it may be carried forward by the
State to the next calendar year.
Allocation to large school districts
Forty percent of the national limitation is allocated among
large local educational agencies in proportion to the
respective amounts each agency received under section 1124 of
the Elementary and Secondary Education Act of 1965 for the most
recent fiscal year ending before such calendar year. Any unused
allocation of any agency within a State may be allocated by the
agency to such State. With respect to a calendar year, the term
large local educational agency means any local educational
agency if such agency is: (1) among the 100 local educational
agencies with the largest numbers of children aged 5 through 17
from families living below the poverty level, or (2) one of not
more than 25 local educational agencies (other than in (1),
immediately above) that the Secretary of Education determines
are in particular need of assistance, based on a low level of
resources for school construction, a high level of enrollment
growth, or other such factors as the Secretary of Education
deems appropriate. If any amount allocated to large local
educational agency is unused for a calendar year the agency may
reallocate such amount to the State in which the agency is
located.
Application of qualified tax credit bond rules
The provision makes qualified school construction bonds a
type of qualified tax credit bond for purposes of section 54A.
In addition, qualified school construction bonds may be issued
by Indian tribal governments only to the extent such bonds are
issued for purposes that satisfy the present law requirements
for tax-exempt bonds issued by Indian tribal governments (i.e.,
essential governmental functions and certain manufacturing
purposes).
The provision requires 100 percent of the available project
proceeds of qualified school construction bonds to be used
within the three-year period that begins on the date of
issuance. Available project proceeds are proceeds from the sale
of the issue less issuance costs (not to exceed two percent)
and any investment earnings on such sale proceeds. To the
extent less than 100 percent of the available project proceeds
are used to finance qualified purposes during the three-year
spending period, bonds will continue to qualify as qualified
school construction bonds if unspent proceeds are used within
90 days from the end of such three-year period to redeem bonds.
The three-year spending period may be extended by the Secretary
upon the issuer's request demonstrating that the failure to
satisfy the three-year requirement is due to reasonable cause
and the projects will continue to proceed with due diligence.
Qualified school construction bonds generally are subject
to the arbitrage requirements of section 148. However,
available project proceeds invested during the three-year
spending period are not subject to the arbitrage restrictions
(i.e., yield restriction and rebate requirements). In addition,
amounts invested in a reserve fund are not subject to the
arbitrage restrictions to the extent: (1) such fund is funded
at a rate not more rapid than equal annual installments; (2)
such fund is funded in a manner reasonably expected to result
in an amount not greater than an amount necessary to repay the
issue; and (3) the yield on such fund is not greater than the
average annual interest rate of tax-exempt obligations having a
term of 10 years or more that are issued during the month the
qualified school construction bonds are issued.
The maturity of qualified school construction bonds is the
term that the Secretary estimates will result in the present
value of the obligation to repay the principal on such bonds
being equal to 50 percent of the face amount of such bonds,
using as a discount rate the average annual interest rate of
tax-exempt obligations having a term of 10 years or more that
are issued during the month the qualified school construction
bonds are issued.
As with present-law tax credit bonds, the taxpayer holding
qualified school construction bonds on a credit allowance date
is entitled to a tax credit. The credit rate on the bonds is
set by the Secretary at a rate that is 100 percent of the rate
that would permit issuance of such bonds without discount and
interest cost to the issuer. The amount of the tax credit is
determined by multiplying the bond's credit rate by the face
amount on the holder's bond. The credit accrues quarterly, is
includible in gross income (as if it were an interest payment
on the bond), and can be claimed against regular income tax
liability and alternative minimum tax liability. Unused credits
may be carried forward to succeeding taxable years. In
addition, credits may be separated from the ownership of the
underlying bond in a manner similar to the manner in which
interest coupons can be stripped from interest-bearing bonds.
Issuers of qualified school construction bonds are required
to certify that the financial disclosure requirements and
applicable State and local law requirements governing conflicts
of interest are satisfied with respect to such issue, as well
as any other additional conflict of interest rules prescribed
by the Secretary with respect to any Federal, State, or local
government official directly involved with the issuance of
qualified school construction bonds.
Effective Date
The provision is effective for obligations issued after the
date of enactment (February 17, 2009).
5. Extend and expand qualified zone academy bonds (sec. 1522 of the Act
and sec. 54E of the Code)
Present Law
Tax-exempt bonds
Interest on State and local governmental bonds generally is
excluded from gross income for Federal income tax purposes if
the proceeds of the bonds are used to finance direct activities
of these governmental units or if the bonds are repaid with
revenues of the governmental units. These can include tax-
exempt bonds which finance public schools.\179\ An issuer must
file with the Internal Revenue Service certain information
about the bonds issued in order for that bond issue to be tax-
exempt.\180\ Generally, this information return is required to
be filed no later the 15th day of the second month after the
close of the calendar quarter in which the bonds were issued.
---------------------------------------------------------------------------
\179\ Sec. 103.
\180\ Sec. 149(e).
---------------------------------------------------------------------------
The tax exemption for State and local bonds does not apply
to any arbitrage bond.\181\ An arbitrage bond is defined as any
bond that is part of an issue if any proceeds of the issue are
reasonably expected to be used (or intentionally are used) to
acquire higher yielding investments or to replace funds that
are used to acquire higher yielding investments.\182\ 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, investment
profits that are earned during these periods or on such
investments must be rebated to the Federal Government.
---------------------------------------------------------------------------
\181\ Sec. 103(a) and (b)(2).
\182\ Sec. 148.
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Qualified zone academy bonds
As an alternative to traditional tax-exempt bonds, States
and local governments were given the authority to issue
``qualified zone academy bonds.'' \183\ A total of $400 million
of qualified zone academy bonds is authorized to be issued
annually in calendar years 1998 through 2009. The $400 million
aggregate bond cap 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
authority to qualified zone academies within such State.
---------------------------------------------------------------------------
\183\ See secs. 54E and 1397E.
---------------------------------------------------------------------------
A taxpayer holding a qualified zone academy bond on the
credit allowance date is entitled to a credit. The credit is
includible in gross income (as if it were a taxable interest
payment on the bond), and may be claimed against regular income
tax and alternative minimum tax liability.
The Treasury Department sets the credit rate at a rate
estimated to allow issuance of qualified zone academy bonds
without discount and without interest cost to the issuer.\184\
The Secretary determines credit rates for tax credit bonds
based on general assumptions about credit quality of the class
of potential eligible issuers and such other factors as the
Secretary deems appropriate. The Secretary may determine credit
rates based on general credit market yield indexes and credit
ratings. The maximum term of the bond is determined by the
Treasury Department, so that the present value of the
obligation to repay the principal on the bond is 50 percent of
the face value of the bond.
---------------------------------------------------------------------------
\184\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
---------------------------------------------------------------------------
``Qualified zone academy bonds'' are defined as any bond
issued by a State or local government, provided that (1) at
least 95 percent of the proceeds are used for the purpose of
renovating, providing equipment to, developing course materials
for use at, or training teachers and 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 an empowerment zone or
enterprise community designated under the Code, 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.
The arbitrage requirements which generally apply to
interest-bearing tax-exempt bonds also generally apply to
qualified zone academy bonds. In addition, an issuer of
qualified zone academy bonds must reasonably expect to and
actually spend 100 percent or more of the proceeds of such
bonds on qualified zone academy property within the three-year
period that begins on the date of issuance. To the extent less
than 100 percent of the proceeds are used to finance qualified
zone academy property during the three-year spending period,
bonds will continue to qualify as qualified zone academy bonds
if unspent proceeds are used within 90 days from the end of
such three-year period to redeem any nonqualified bonds. The
three-year spending period may be extended by the Secretary if
the issuer establishes that the failure to meet the spending
requirement is due to reasonable cause and the related purposes
for issuing the bonds will continue to proceed with due
diligence.
Two special arbitrage rules apply to qualified zone academy
bonds. First, available project proceeds invested during the
three-year period beginning on the date of issue are not
subject to the arbitrage restrictions (i.e., yield restriction
and rebate requirements). Available project proceeds are
proceeds from the sale of an issue of qualified zone academy
bonds, less issuance costs (not to exceed two percent) and any
investment earnings on such proceeds. Thus, available project
proceeds invested during the three-year spending period may be
invested at unrestricted yields, but the earnings on such
investments must be spent on qualified zone academy property.
Second, amounts invested in a reserve fund are not subject to
the arbitrage restrictions to the extent: (1) such fund is
funded at a rate not more rapid than equal annual installments;
(2) such fund is funded in a manner reasonably expected to
result in an amount not greater than an amount necessary to
repay the issue; and (3) the yield on such fund is not greater
than the average annual interest rate of tax-exempt obligations
having a term of 10 years or more that are issued during the
month the qualified zone academy bonds are issued.
Issuers of qualified zone academy bonds are required to
report issuance to the Internal Revenue Service in a manner
similar to the information returns required for tax-exempt
bonds.
Reasons for Change
The Congress wishes to expand and extend the qualified zone
academy bond program. The Congress believes that this category
of tax credit bonds will continue to provide an efficient
mechanism for renovating, providing equipment to, developing
course materials for use at, or training teachers and other
school personnel in a ``qualified zone academy.''
Explanation of Provision \185\
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\185\ Section 301 of the Hiring Incentives to Restore Employment
Act, Pub. L. No. 111-147, added a provision to section 6431, allowing
the issuer of the bonds to elect to receive a direct payment from the
Treasury in lieu of providing a tax credit to the holders of the bonds.
For further discussion, see Part Seven of this document. Also qualified
zone academy bonds were further amended in section 758 of the Tax
Relief, Unemployment Insurance Reauthorization, and Job Creation Act of
2010, Pub. L. No. 111-312, described in Part Sixteen of this document.
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In general
The provision extends and expands the present-law qualified
zone academy bond program. The provision authorizes issuance of
up to $1.4 billion of qualified zone academy bonds annually for
2009 and 2010, respectively.
Effective Date
The provision applies to obligations issued after December
31, 2008.
6. Build America bonds (sec. 1531 of the Act and new secs. 54AA and
6431 of the Code)
Present Law
In general
Under present law, gross income does not include interest
on State or local bonds. State and local bonds are classified
generally as either governmental bonds or private activity
bonds. Governmental bonds are bonds the proceeds of which are
primarily used to finance governmental functions or which are
repaid with governmental funds. Private activity bonds are
bonds in which the State or local government serves as a
conduit providing financing to nongovernmental persons (e.g.,
private businesses or individuals). The exclusion from income
for State and local bonds does not apply to private activity
bonds, unless the bonds are issued for certain permitted
purposes (``qualified private activity bonds'') and other Code
requirements are met.
Private activity bonds
The Code defines a private activity bond as any bond that
satisfies (1) the private business use test and the private
security or payment test (``the private business test''); or
(2) ``the private loan financing test.'' \186\
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\186\ Sec. 141.
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Private business test
Under the private business test, a bond is a private
activity bond if it is part of an issue in which:
1. More than 10 percent of the proceeds of the issue
(including use of the bond-financed property) are to be
used in the trade or business of any person other than
a governmental unit (``private business use''); and
2. More than 10 percent of the payment of principal
or interest on the issue is, directly or indirectly,
secured by (a) property used or to be used for a
private business use or (b) to be derived from payments
in respect of property, or borrowed money, used or to
be used for a private business use (``private payment
test'').\187\
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\187\ The 10 percent private business test is reduced to five
percent in the case of private business uses (and payments with respect
to such uses) that are unrelated to any governmental use being financed
by the issue.
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A bond is not a private activity bond unless both parts of
the private business test (i.e., the private business use test
and the private payment test) are met. Thus, a facility that is
100 percent privately used does not cause the bonds financing
such facility to be private activity bonds if the bonds are not
secured by or paid with private payments. For example, land
improvements that benefit a privately-owned factory may be
financed with governmental bonds if the debt service on such
bonds is not paid by the factory owner or other private
parties.
Private loan financing test
A bond issue satisfies the private loan financing test if
proceeds exceeding the lesser of $5 million or five percent of
such proceeds are used directly or indirectly to finance loans
to one or more nongovernmental persons. Private loans include
both business and other (e.g., personal) uses and payments by
private persons; however, in the case of business uses and
payments, all private loans also constitute private business
uses and payments subject to the private business test.
Arbitrage restrictions
The exclusion from income for interest on State and local
bonds does not apply to any arbitrage bond.\188\ An arbitrage
bond is defined as any bond that is part of an issue if any
proceeds of the issue are reasonably expected to be used (or
intentionally are used) to acquire higher yielding investments
or to replace funds that are used to acquire higher yielding
investments.\189\ 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, investment profits that are earned
during these periods or on such investments must be rebated to
the Federal Government.
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\188\ Sec. 103(a) and (b)(2).
\189\ Sec. 148.
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Qualified tax credit bonds
In lieu of interest, holders of qualified tax credit bonds
receive a tax credit that accrues quarterly. The following
bonds are qualified tax credit bonds: qualified forestry
conservation bonds, new clean renewable energy bonds, qualified
energy conservation bonds, and qualified zone academy
bonds.\190\
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\190\ See sections 54B, 54C, 54D, and 54E.
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Section 54A of the Code sets forth general rules applicable
to qualified tax credit bonds. These rules include requirements
regarding credit allowance dates, the expenditure of available
project proceeds, reporting, arbitrage, maturity limitations,
and financial conflicts of interest, among other special rules.
A taxpayer who holds a qualified tax credit bond on one or
more credit allowance dates of the bond during the taxable year
shall be allowed a credit against the taxpayer's income tax for
the taxable year. In general, the credit amount for any credit
allowance date is 25 percent of the annual credit determined
with respect to the bond. The annual credit is determined by
multiplying the applicable credit rate by the outstanding face
amount of the bond. The applicable credit rate for the bond is
the rate that the Secretary estimates will permit the issuance
of the qualified tax credit bond with a specified maturity or
redemption date without discount and without interest cost to
the qualified issuer.\191\ The Secretary determines credit
rates for tax credit bonds based on general assumptions about
credit quality of the class of potential eligible issuers and
such other factors as the Secretary deems appropriate. The
Secretary may determine credit rates based on general credit
market yield indexes and credit ratings.
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\191\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
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The credit is included in gross income and, under
regulations prescribed by the Secretary, may be stripped (a
separation (including at issuance) of the ownership of a
qualified tax credit bond and the entitlement to the credit
with respect to such bond).
Section 54A of the Code requires that 100 percent of the
available project proceeds of qualified tax credit bonds must
be used within the three-year period that begins on the date of
issuance. Available project proceeds are proceeds from the sale
of the bond issue less issuance costs (not to exceed two
percent) and any investment earnings on such sale proceeds. To
the extent less than 100 percent of the available project
proceeds are used to finance qualified projects during the
three-year spending period, bonds will continue to qualify as
qualified tax credit bonds if unspent proceeds are used within
90 days from the end of such three-year period to redeem bonds.
The three-year spending period may be extended by the Secretary
upon the issuer's request demonstrating that the failure to
satisfy the three-year requirement is due to reasonable cause
and the projects will continue to proceed with due diligence.
Qualified tax credit bonds generally are subject to the
arbitrage requirements of section 148. However, available
project proceeds invested during the three-year spending period
are not subject to the arbitrage restrictions (i.e., yield
restriction and rebate requirements). In addition, amounts
invested in a reserve fund are not subject to the arbitrage
restrictions to the extent: (1) such fund is funded at a rate
not more rapid than equal annual installments; (2) such fund is
funded in a manner reasonably expected to result in an amount
not greater than an amount necessary to repay the issue; and
(3) the yield on such fund is not greater than the average
annual interest rate of tax-exempt obligations having a term of
10 years or more that are issued during the month the qualified
tax credit bonds are issued.
The maturity of qualified tax credit bonds is the term that
the Secretary estimates will result in the present value of the
obligation to repay the principal on such bonds being equal to
50 percent of the face amount of such bonds, using as a
discount rate the average annual interest rate of tax-exempt
obligations having a term of 10 years or more that are issued
during the month the qualified tax credit bonds are issued.
Reasons for Change
The Congress notes that borrowing by State and local
governments is critically important to financing the nation's
infrastructure. The Congress has observed that over the past
several years, yield spreads between tax-exempt debt issued by
State and local governments and approximately comparable
taxable debt issued by corporations has narrowed, so that tax-
exempt yields are now generally less than 25 percent below
taxable yields.\192\ The Congress further observes that not all
of the benefit of the tax-exemption of interest on State and
local bonds redounds to the issuing government because the
exclusion of qualifying interest income is more valuable to
bondholders in the highest tax brackets than to those
bondholders in the lower tax brackets. The Congress, therefore,
believes that the provision offers a more revenue efficient
financing tool and lower net interest costs to State and local
issuers.
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\192\ Joint Committee on Taxation, Present Law and Issues Related
to Infrastructure Finance (JCX 83-08), October 24, 2008. pp. 23-28.
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In addition, the Congress recognizes that many States are
suffering from declines in revenues and tight budgets while the
need for infrastructure is great. Therefore the Congress
believes it is appropriate to offer to issuers, on a temporary
basis, the ability to receive a refundable credit for bonds
used to fund capital expenditures in lieu of providing a tax
credit to bondholders.
Explanation of Provision
In general
The provision permits an issuer to elect to have an
otherwise tax-exempt bond treated as a ``Build America Bond.''
A ``Build America Bond'' is any obligation (other than a
private activity bond) if the interest on such obligation would
be (but for this provision) excludable from gross income under
section 103 and the issuer makes an irrevocable election to
have the provision apply. In determining if an obligation would
be tax-exempt under section 103, the credit (or the payment
discussed below for qualified bonds) is not treated as a
Federal guarantee. Further, the yield on a taxable governmental
bond is determined without regard to the credit. A taxable
governmental bond does not include any bond if the issue price
has more than a de minimis amount of premium over the stated
principal amount of the bond.
The holder of a taxable governmental bond will accrue a tax
credit in the amount of 35 percent of the interest paid on the
interest payment dates of the bond during the calendar
year.\193\ The interest payment date is any date on which the
holder of record of the taxable governmental bond is entitled
to a payment of interest under such bond. The sum of the
accrued credits is allowed against regular and alternative
minimum tax. Unused credit may be carried forward to succeeding
taxable years. The credit, as well as the interest paid by the
issuer, is included in gross income and the credit may be
stripped under rules similar to those provided in section 54A
regarding qualified tax credit bonds. Rules similar to those
that apply for S corporations, partnerships and regulated
investment companies with respect to qualified tax credit bonds
also apply to the credit.
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\193\ Original issue discount (OID) is not treated as a payment of
interest for purposes of determining the credit under the provision.
OID is the excess of an obligation's stated redemption price at
maturity over the obligation's issue price (section 1273(a)).
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Unlike the tax credit for bonds issued under section 54A,
the credit rate would not be calculated by the Secretary, but
rather would be set by law at 35 percent. The actual credit
that a taxpayer may claim is determined by multiplying the
interest payment that the taxpayer receives from the issuer
(i.e., the bond coupon payment) by 35 percent. Because the
credit that the taxpayer claims is also included in income, the
Congress anticipates that State and local issuers will issue
bonds paying interest at rates approximately equal to 74.1
percent of comparable taxable bonds. The Congress anticipates
that if an issuer issues a taxable governmental bond with
coupons at 74.1 percent of a comparable taxable bond's coupon
that the issuer's bond should sell at par. For example, if a
taxable bond of comparable risk pays a $1,000 coupon and sells
at par, then if a State or local issuer issues an equal-sized
bond with coupon of $741.00, such a bond should also sell at
par. The taxpayer who acquires the latter bond will receive an
interest payment of $741 and may claim a credit of $259 (35
percent of $741). The credit and the interest payment are both
included in the taxpayer's income. Thus, the taxpayer's taxable
income from this instrument would be $1,000. This is the same
taxable income that the taxpayer would recognize from holding
the comparable taxable bond. Consequently the issuer's bond
should sell at the same price as would the taxable bond.
Special rule for qualified bonds issued during 2009 and 2010
A ``qualified bond'' is any taxable governmental bond
issued as part of an issue if 100 percent of the available
project proceeds of such issue are to be used for capital
expenditures.\194\ The Act also allows a reasonably required
reserve fund to be funded from bond proceeds.\195\ The bond
must be issued after the date of enactment of the provision and
before January 1, 2011. The issuer must make an irrevocable
election to have the special rule for qualified bonds apply.
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\194\ Under Treas. Reg. sec. 150-1(b), capital expenditure means
any cost of a type that is properly chargeable to capital account (or
would be so chargeable with a proper election or with the application
of the definition of placed in service under Treas. Reg. sec. 1.150-
2(c)) under general Federal income tax principles. For purposes of
applying the ``general Federal income tax principles'' standard, an
issuer should generally be treated as if it were a corporation subject
to taxation under subchapter C of chapter 1 of the Code. An example of
a capital expenditure would include expenditures made for the purchase
of fiber-optic cable to provide municipal broadband service.
\195\ Under section 148(d)(2), a bond is an arbitrage bond if the
amount of the proceeds from the sale of such issue that is part or any
reserve or replacement fund exceeds 10 percent of the proceeds. As such
the interest on such bond would not be tax-exempt under section 103 and
thus would not be a qualified bond for purposes of the provision.
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Under the special rule for qualified bonds, in lieu of the
tax credit to the holder, the issuer is allowed a credit equal
to 35 percent of each interest payment made under such
bond.\196\ If in 2009 or 2010, the issuer elects to receive the
credit, in the example above, for the State or local issuer's
bond to sell at par, the issuer would have to issue the bond
with a $1,000 interest coupon. The taxpayer who holds such a
bond would include $1,000 on interest in his or her income.
From the taxpayer's perspective the bond is the same as the
taxable bond in the example above and the taxpayer would be
willing to pay par for the bond. However, under the provision
the State or local issuer would receive a payment of $350 for
each $1,000 coupon paid to bondholders. (The net interest cost
to the issuer would be $650.)
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\196\ Original issue discount (OID) is not treated as a payment of
interest for purposes of calculating the refundable credit under the
provision.
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The payment by the Secretary is to be made
contemporaneously with the interest payment made by the issuer,
and may be made either in advance or as reimbursement. In lieu
of payment to the issuer, the payment may be made to a person
making interest payments on behalf of the issuer. For purposes
of the arbitrage rules, the yield on a qualified bond is
reduced by the amount of the credit/payment.
Transitional coordination with State law
As noted above, interest on a taxable governmental bond and
the related credit are includible in gross income to the holder
for Federal tax purposes. The provision provides that until a
State provides otherwise, the interest on any taxable
governmental bond and the amount of any credit determined with
respect to such bond shall be treated as being exempt from
Federal income tax for purposes of State income tax laws.
Effective Date
The provision is effective for obligations issued after the
date of enactment (February 17, 2009).
7. Recovery zone bonds (sec. 1401 of the Act and new secs. 1400U-1,
1400U-2, and 1400U-3 of the Code)
Present Law
In general
Under present law, gross income does not include interest
on State or local bonds. State and local bonds are classified
generally as either governmental bonds or private activity
bonds. Governmental bonds are bonds the proceeds of which are
primarily used to finance governmental functions or which are
repaid with governmental funds. Private activity bonds are
bonds in which the State or local government serves as a
conduit providing financing to nongovernmental persons (e.g.,
private businesses or individuals). The exclusion from income
for State and local bonds does not apply to private activity
bonds unless the bonds are issued for certain permitted
purposes (``qualified private activity bonds'') and other Code
requirements are met.
Private activity bonds
The Code defines a private activity bond as any bond that
satisfies (1) the private business use test and the private
security or payment test (``the private business test''); or
(2) ``the private loan financing test.''\197\
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\197\ Sec. 141.
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Private business test
Under the private business test, a bond is a private
activity bond if it is part of an issue in which:
1. More than 10 percent of the proceeds of the issue
(including use of the bond-financed property) are to be
used in the trade or business of any person other than
a governmental unit (``private business use''); and
2. More than 10 percent of the payment of principal
or interest on the issue is, directly or indirectly,
secured by (a) property used or to be used for a
private business use or (b) to be derived from payments
in respect of property, or borrowed money, used or to
be used for a private business use (``private payment
test'').\198\
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\198\ The 10 percent private business test is reduced to five
percent in the case of private business uses (and payments with respect
to such uses) that are unrelated to any governmental use being financed
by the issue.
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A bond is not a private activity bond unless both parts of
the private business test (i.e., the private business use test
and the private payment test) are met. Thus, a facility that is
100 percent privately used does not cause the bonds financing
such facility to be private activity bonds if the bonds are not
secured by or paid with private payments. For example, land
improvements that benefit a privately-owned factory may be
financed with governmental bonds if the debt service on such
bonds is not paid by the factory owner or other private parties
and such bonds are not secured by the property.
Private loan financing test
A bond issue satisfies the private loan financing test if
proceeds exceeding the lesser of $5 million or five percent of
such proceeds are used directly or indirectly to finance loans
to one or more nongovernmental persons. Private loans include
both business and other (e.g., personal) uses and payments to
private persons; however, in the case of business uses and
payments, all private loans also constitute private business
uses and payments subject to the private business test.
Arbitrage restrictions
The exclusion from income for interest on State and local
bonds does not apply to any arbitrage bond.\199\ An arbitrage
bond is defined as any bond that is part of an issue if any
proceeds of the issue are reasonably expected to be used (or
intentionally are used) to acquire higher yielding investments
or to replace funds that are used to acquire higher yielding
investments.\200\ 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, investment profits that are earned
during these periods or on such investments must be rebated to
the Federal Government.
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\199\ Sec. 103(a) and (b)(2).
\200\ Sec. 148.
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Qualified private activity bonds
Qualified private activity bonds permit States or local
governments to act as conduits providing tax-exempt financing
for certain private activities. The definition of qualified
private activity bonds includes an exempt facility bond, or
qualified mortgage, veterans' mortgage, small issue,
redevelopment, 501(c)(3), or student loan bond (sec. 141(e)).
The definition of an exempt facility bond includes bonds
issued to finance certain transportation facilities (airports,
ports, mass commuting, and high-speed intercity rail
facilities); qualified residential rental projects; privately
owned and/or operated utility facilities (sewage, water, solid
waste disposal, and local district heating and cooling
facilities, certain private electric and gas facilities, and
hydroelectric dam enhancements); public/private educational
facilities; qualified green building and sustainable design
projects; and qualified highway or surface freight transfer
facilities (sec. 142(a)).
In most cases, the aggregate volume of qualified private
activity bonds is restricted by annual aggregate volume limits
imposed on bonds issued by issuers within each State (``State
volume cap''). For calendar year 2007, the State volume cap,
which is indexed for inflation, equals $85 per resident of the
State, or $256.24 million, if greater. Exceptions to the State
volume cap are provided for bonds for certain governmentally
owned facilities (e.g., airports, ports, high-speed intercity
rail, and solid waste disposal) and bonds which are subject to
separate local, State, or national volume limits (e.g., public/
private educational facility bonds, enterprise zone facility
bonds, qualified green building bonds, and qualified highway or
surface freight transfer facility bonds).
Qualified private activity bonds generally are subject to
restrictions on the use of proceeds for the acquisition of land
and existing property. In addition, qualified private activity
bonds generally are subject to restrictions on the use of
proceeds to finance certain specified facilities (e.g.,
airplanes, skyboxes, other luxury boxes, health club
facilities, gambling facilities, and liquor stores), and use of
proceeds to pay costs of issuance (e.g., bond counsel and
underwriter fees). Small issue and redevelopment bonds also are
subject to additional restrictions on the use of proceeds for
certain facilities (e.g., golf courses and massage parlors).
Moreover, the term of qualified private activity bonds
generally may not exceed 120 percent of the economic life of
the property being financed and certain public approval
requirements (similar to requirements that typically apply
under State law to issuance of governmental debt) apply under
Federal law to issuance of private activity bonds.
Qualified tax credit bonds
In lieu of interest, holders of qualified tax credit bonds
receive a tax credit that accrues quarterly. The following
bonds are qualified tax credit bonds: qualified forestry
conservation bonds, new clean renewable energy bonds, qualified
energy conservation bonds, and qualified zone academy
bonds.\201\
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\201\ See sections 54B, 54C, 54D, and 54E.
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Section 54A of the Code sets forth general rules applicable
to qualified tax credit bonds. These rules include requirements
regarding the expenditure of available project proceeds,
reporting, arbitrage, maturity limitations, and financial
conflicts of interest, among other special rules.
A taxpayer who holds a qualified tax credit bond on one or
more credit allowance dates of the bond during the taxable year
shall be allowed a credit against the taxpayer's income tax for
the taxable year. In general, the credit amount for any credit
allowance date is 25 percent of the annual credit determined
with respect to the bond. The annual credit is determined by
multiplying the applicable credit rate by the outstanding face
amount of the bond. The applicable credit rate for the bond is
the rate that the Secretary estimates will permit the issuance
of the qualified tax credit bond with a specified maturity or
redemption date without discount and without interest cost to
the qualified issuer.\202\ The Secretary determines credit
rates for tax credit bonds based on general assumptions about
credit quality of the class of potential eligible issuers and
such other factors as the Secretary deems appropriate. The
Secretary may determine credit rates based on general credit
market yield indexes and credit ratings. The credit is included
in gross income and, under regulations prescribed by the
Secretary, may be stripped.
---------------------------------------------------------------------------
\202\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
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Section 54A of the Code requires that 100 percent of the
available project proceeds of qualified tax credit bonds must
be used within the three-year period that begins on the date of
issuance. Available project proceeds are proceeds from the sale
of the bond issue less issuance costs (not to exceed two
percent) and any investment earnings on such sale proceeds. To
the extent less than 100 percent of the available project
proceeds are used to finance qualified projects during the
three-year spending period, bonds will continue to qualify as
qualified tax credit bonds if unspent proceeds are used within
90 days from the end of such three-year period to redeem bonds.
The three-year spending period may be extended by the Secretary
upon the issuer's request demonstrating that the failure to
satisfy the three-year requirement is due to reasonable cause
and the projects will continue to proceed with due diligence.
Qualified tax credit bonds generally are subject to the
arbitrage requirements of section 148. However, available
project proceeds invested during the three-year spending period
are not subject to the arbitrage restrictions (i.e., yield
restriction and rebate requirements). In addition, amounts
invested in a reserve fund are not subject to the arbitrage
restrictions to the extent: (1) such fund is funded at a rate
not more rapid than equal annual installments; (2) such fund is
funded in a manner reasonably expected to result in an amount
not greater than an amount necessary to repay the issue; and
(3) the yield on such fund is not greater than the average
annual interest rate of tax-exempt obligations having a term of
10 years or more that are issued during the month the qualified
tax credit bonds are issued.
The maturity of qualified tax credit bonds is the term that
the Secretary estimates will result in the present value of the
obligation to repay the principal on such bonds being equal to
50 percent of the face amount of such bonds, using as a
discount rate the average annual interest rate of tax-exempt
obligations having a term of 10 years or more that are issued
during the month the qualified tax credit bonds are issued.
Reasons for Change
Many communities have seen a significant decline in the
number of individuals employed and are struggling with high
concentrations of poverty and foreclosed homes. The Congress
believes that additional incentives are needed to assist those
communities most affected by the current economic crisis. The
Congress also believes that State and local governments often
are in the best position to assess economic development needs.
Thus, the Congress believes it is appropriate to provide State
and local governments with access to subsidized financing in
order to promote economic development in communities affected
by job losses and to provide needed infrastructure.
Explanation of Provision
In general
The provision permits an issuer to designate one or more
areas as recovery zones. The area must: (1) have significant
poverty, unemployment, general distress, or home foreclosures;
(2) be an area for which a designation as an empowerment zone
or renewal community is in effect or; (3) be an area designated
by the issuer as economically distressed by reason of the
closure or realignment of a military installation pursuant to
the Defense Base Closure and Realignment Act of 1990. Issuers
may issue recovery zone economic development bonds and recovery
zone facility bonds with respect to these zones.
There is a national recovery zone economic development bond
limitation of $10 billion. In addition, there is a separate
national recovery zone facility bond limitation of $15 billion.
Under the Act the national recovery zone economic development
bond limitation and national recovery zone facility bond
limitation are allocated among the States in the proportion
that each State's employment decline bears to the national
decline in employment (the aggregate 2008 State employment
declines for all States).\203\ The Secretary is to adjust each
State's allocation for a calendar year such that no State
receives less than 0.9 percent of the national recovery zone
economic development bond limitation and no less than 0.9
percent of the national recovery zone facility bond limitation.
The Act also permits a county or large municipality to waive
all or part of its allocation of the State bond limitations to
allow further allocation within that State. In calculating the
local employment decline with respect to a county, the portion
of such decline attributable to a large municipality is
disregarded for purposes of determining the county's portion of
the State employment decline and is attributable to the large
municipality only.
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\203\ The Bureau of Labor Statistics prepares data on regional and
State employment and unemployment. See, e.g., Bureau of Labor
Statistics, USDL 09-0093, Regional and State Employment and
Unemployment: December 2008 (January 27, 2009), .
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For purposes of the provision ``2008 State employment
decline'' means, with respect to any State, the excess (if any)
of (i) the number of individuals employed in such State as
determined for December 2007, over (ii) the number of
individuals employed in such State as determined for December
2008. The term ``large municipality'' means a municipality with
a population of more than 100,000.
Recovery Zone Economic Development Bonds
New section 54AA(h) of the Act creates a special rule for
qualified bonds (a type of taxable governmental bond) issued
before January 1, 2011, that entitles the issuer of such bonds
to receive an advance tax credit equal to 45 percent of the
interest payable on an interest payment date. For taxable
governmental bonds that are designated recovery zone economic
development bonds, the applicable percentage is 55 percent.
A recovery zone economic development bond is a taxable
governmental bond issued as part of an issue if 100 percent of
the available project proceeds of such issue are to be used for
one or more qualified economic development purposes and the
issuer designates such bond for purposes of this section.
However, the Act allows for a reasonably required reserve fund
to be funded from the proceeds of a recovery zone economic
development bond. A qualified economic development purpose
means expenditures for purposes of promoting development or
other economic activity in a recovery zone, including (1)
capital expenditures paid or incurred with respect to property
located in such zone, (2) expenditures for public
infrastructure and construction of public facilities located in
a recovery zone.
The aggregate face amount of bonds which may be designated
by any issuer cannot exceed the amount of the recovery zone
economic development bond limitation allocated to such issuer.
Recovery Zone Facility Bonds
The provision creates a new category of exempt facility
bonds, ``recovery zone facility bonds.'' A recovery zone
facility bond means any bond issued as part of an issue if: (1)
95 percent or more of the net proceeds of such issue are to be
used for recovery zone property and (2) such bond is issued
before January 1, 2011, and (3) the issuer designates such bond
as a recovery zone facility bond. The aggregate face amount of
bonds which may be designated by any issuer cannot exceed the
amount of the recovery zone facility bond limitation allocated
to such issuer.
Under the provision, the term ``recovery zone property''
means any property subject to depreciation to which section 168
applies (or would apply but for section 179) if (1) such
property was acquired, constructed, reconstructed, or renovated
by the taxpayer after the date on which the designation of the
recovery zone took effect; (2) the original use of such
property in the recovery zone commences with the taxpayer; and
(3) substantially all of the use of such property is in the
recovery zone and is in the active conduct of a qualified
business by the taxpayer in such zone. The term ``qualified
business'' means any trade or business except that the rental
to others of real property located in a recovery zone shall be
treated as a qualified business only if the property is not
residential rental property (as defined in section 168(e)(2))
and does not include any trade or business consisting of the
operation of any facility described in section 144(c)(6)(B)
(i.e., any private or commercial golf course, country club,
massage parlor, hot tub facility, suntan facility, racetrack or
other facility used for gambling, or any store the principal
purpose of which is the sale of alcoholic beverages for
consumption off premises).
Subject to the following exceptions and modifications,
issuance of recovery zone facility bonds is subject to the
general rules applicable to issuance of qualified private
activity bonds:
1. Issuance of the bonds is not subject to the
aggregate annual State private activity bond volume
limits (sec. 146);
2. The restriction on acquisition of existing
property does not apply (sec. 147(d));
Effective Date
The provision is effective for obligations issued after the
date of enactment (February 17, 2009).
8. Tribal economic development bonds (sec. 1402 of the Act and new sec.
7871(f) of the Code)
Present Law
Under present law, gross income does not include interest
on State or local bonds.\204\ State and local bonds are
classified generally as either governmental bonds or private
activity bonds. Governmental bonds are bonds the proceeds of
which are primarily used to finance governmental facilities or
the debt is repaid with governmental funds. Private activity
bonds are bonds in which the State or local government serves
as a conduit providing financing to nongovernmental persons.
For these purposes, the term ``nongovernmental person''
includes the Federal government and all other individuals and
entities other than States or local governments.\205\ Interest
on private activity bonds is taxable, unless the bonds are
issued for certain purposes permitted by the Code and other
requirements are met.\206\
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\204\ Sec. 103.
\205\ Sec. 141(b)(6); Treas. Reg. sec. 1.141-1(b).
\206\ Secs. 103(b)(1) and 141.
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Although not States or subdivisions of States, Indian
tribal governments are provided with a tax status similar to
State and local governments for specified purposes under the
Code.\207\ Among the purposes for which a tribal government is
treated as a State is the issuance of tax-exempt bonds. Under
section 7871(c), tribal governments are authorized to issue
tax-exempt bonds only if substantially all of the proceeds are
used for essential governmental functions.\208\ The term
essential governmental function does not include any function
that is not customarily performed by State and local
governments with general taxing powers. Section 7871(c) further
prohibits Indian tribal governments from issuing tax-exempt
private activity bonds (as defined in section 141(a) of the
Code) with the exception of certain bonds for manufacturing
facilities.
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\207\ Sec. 7871.
\208\ Sec. 7871(c).
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Reasons for Change
State and local governments use tax-exempt financing for
both public purposes and qualified private activities. Indian
tribes, however, are restricted to issuing tax-exempt bonds for
essential governmental functions. In general, Indian tribes
cannot issue tax-exempt private activity bonds, except for
certain manufacturing facilities. The Congress believes that in
the current economic crisis, tribes should be afforded
flexibility in using tax-exempt financing for economic
development. Therefore, the provision permits Indian tribes to
issue tax-exempt bonds for purposes not currently permitted by
present law, if the bonds would have been tax-exempt if issued
by a State.
Explanation of Provision
Tribal Economic Development Bonds
The provision allows Indian tribal governments to issue
``tribal economic development bonds.'' There is a national bond
limitation of $2 billion, to be allocated as the Secretary
determines appropriate, in consultation with the Secretary of
the Interior. Tribal economic development bonds issued by an
Indian tribal government are treated as if such bond were
issued by a State except that section 146 (relating to State
volume limitations) does not apply.
The Act defines a tribal economic development bond as any
bond issued by an Indian tribal government (1) the interest on
which would be tax-exempt if issued by a State or local
government, and (2) that is designated by the Indian tribal
government as a tribal economic development bond. The aggregate
face amount of bonds that may be designated by any Indian
tribal government cannot exceed the amount of national tribal
economic development bond limitation allocated to such
government.
Tribal economic development bonds cannot be used to finance
any portion of a building in which class II or class III gaming
(as defined in section 4 of the Indian Gaming Regulatory Act)
is conducted, or housed, or any other property used in the
conduct of such gaming. Nor can tribal economic development
bonds be used to finance any facility located outside of the
Indian reservation.
The Act also clarifies that for purposes of section 141 of
the Code, use of bond proceeds by an Indian tribe, or
instrumentality thereof, is treated as use by a State.
Treasury study
The provision requires that the Treasury Department study
the effects of tribal economic development bonds. One year
after the date of enactment, a report is to be submitted to
Congress providing the results of such study along with any
recommendations, including whether the restrictions of section
7871(c) should be eliminated or otherwise modified.
Effective Date
The provision applies to obligations issued after the date
of enactment (February 17, 2009).
9. Pass-through of credits on tax credit bonds held by regulated
investment companies (sec. 1541 of the Act and new sec. 853A of
the Code)
Present Law
In lieu of interest, holders of qualified tax credit bonds
receive a tax credit that accrues quarterly. The credit is
treated as interest that is includible in gross income. The
following bonds are qualified tax credit bonds: qualified
forestry conservation bonds, new clean renewable energy bonds,
qualified energy conservation bonds, and qualified zone academy
bonds.\209\ The Code provides that in the case of a qualified
tax credit bond held by a regulated investment company, the
credit is allowed to shareholders of such company (and any
gross income included with respect to such credit shall be
treated as distributed to such shareholders) under procedures
prescribed by the Secretary.\210\ The Secretary has not
prescribed procedures for the pass through of the credit to
regulated investment company shareholders.
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\209\ See sections 54B, 54C, 54D, and 54E.
\210\ See section 54A(h), which also covers real estate investment
trusts.
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Explanation of Provision
The Act provides procedures for passing though credits on
``tax credit bonds'' to the shareholders of an electing
regulated investment company. In general, an electing regulated
investment company is not allowed any credits with respect to
any tax credit bonds it holds during any year for which an
election is in effect. The company is treated as having an
amount of interest included in its gross income (and earnings
and profits) in an amount equal that which would have been
included if no election were in effect, and having made
distributions of money equal to the amount of the credits. Each
shareholder of the electing regulated investment company is (1)
required to include in gross income an amount equal to the
shareholder's proportional share of the interest attributable
to its credits and (2) allowed such proportional share as a
credit against such shareholder's Federal income tax.\211\
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\211\ A technical correction may be necessary so that the statute
reflects this intent.
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In order to pass through tax credits to a shareholder, a
regulated investment company is required to mail a written
notice to such shareholder not later than 60 days after the
close of the regulated investment company's taxable year,
designating the shareholder's proportionate share of passed-
through credits and the shareholder's gross income in respect
of such credits.\212\ The provision gives the Secretary
authority to prescribe the time and manner in which a regulated
investment company makes the election to pass through credits
on tax credit bonds. In addition, the provision requires the
Secretary to prescribe such guidance as may be necessary to
carry out the provision, including prescribing methods for
determining a shareholder's proportionate share of tax credits.
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\212\ The provision was subsequently amended by section 301(d) of
the Regulated Investment Company Modernization Act of 2010, Pub. L.
111-325, described in Part Seventeen of this document.
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A tax credit bond means a qualified tax credit bond as
defined in section 54A(d), a Build America Bond (as defined in
section 54AA(d)), and any other bond for which a credit is
allowable under subpart H of part IV of subchapter A of the
Code.
Effective Date
The provision is applicable to taxable years ending after
the date of enactment (February 17, 2009).
10. Delay in implementation of withholding tax on government
contractors (sec. 1511 of the Act and sec. 3402(t) of the Code)
Present Law
For payments made after December 31, 2010, the Code imposes
a withholding requirement at a three-percent rate on certain
payments to persons providing property or services made by the
Government of the United States, every State, every political
subdivision thereof, and every instrumentality of the foregoing
(including multi-State agencies). The withholding requirement
applies regardless of whether the government entity making such
payment is the recipient of the property or services. Political
subdivisions of States (or any instrumentality thereof) with
less than $100 million of annual expenditures for property or
services that would otherwise be subject to withholding are
exempt from the withholding requirement.
Payments subject to the three-percent withholding
requirement include any payment made in connection with a
government voucher or certificate program which functions as a
payment for property or services. For example, payments to a
commodity producer under a government commodity support program
are subject to the withholding requirement. Present law also
imposes information reporting requirements on the payments that
are subject to withholding requirement.
The three-percent withholding requirement does not apply to
any payments made through a Federal, State, or local government
public assistance or public welfare program for which
eligibility is determined by a needs or income test. The three-
percent withholding requirement also does not apply to payments
of wages or to any other payment with respect to which
mandatory (e.g., U.S.-source income of foreign taxpayers) or
voluntary (e.g., unemployment benefits) withholding applies
under present law. Although the withholding requirement applies
to payments that are potentially subject to backup withholding
under section 3406, it does not apply to those payments from
which amounts are actually being withheld under backup
withholding rules.
The three-percent withholding requirement also does not
apply to the following: payments of interest; payments for real
property; payments to tax-exempt entities or foreign
governments; intra-governmental payments; payments made
pursuant to a classified or confidential contract (as defined
in section 6050M(e)(3)), and payments to government employees
that are not otherwise excludable from the new withholding
proposal with respect to the employees' services as employees.
Reasons for Change
The Congress believes that the three-percent withholding
requirement was not appropriately targeted to the noncompliant
taxpayers for whom it was originally intended and may impose
significant and costly administrative burdens on State and
local governments.
Explanation of Provision
The provision delays the implementation of the three
percent withholding requirement by one year to apply to
payments after December 31, 2011.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
11. Extend and modify the new markets tax credit (sec. 1403 of the Act
and sec. 45D of the Code)
Present Law
Section 45D provides a new markets tax credit for qualified
equity investments made to acquire stock in a corporation, or a
capital interest in a partnership, that is a qualified
community development entity (``CDE'').\213\ The amount of the
credit allowable to the investor (either the original purchaser
or a subsequent holder) is (1) a five-percent credit for the
year in which the equity interest is purchased from the CDE and
for each of the following two years, and (2) a six-percent
credit for each of the following four years. The credit is
determined by applying the applicable percentage (five or six
percent) to the amount paid to the CDE for the investment at
its original issue, and is available for a taxable year to the
taxpayer who holds the qualified equity investment on the date
of the initial investment or on the respective anniversary date
that occurs during the taxable year. The credit is recaptured
if, at any time during the seven-year period that begins on the
date of the original issue of the qualified equity investment,
the issuing entity ceases to be a qualified CDE, the proceeds
of the investment cease to be used as required, or the equity
investment is redeemed.
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\213\ Section 45D was added by section 121(a) of the Community
Renewal Tax Relief Act of 2000, Pub. L. No. 106-554 (2000).
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A qualified CDE is any domestic corporation or partnership:
(1) whose primary mission is serving or providing investment
capital for low-income communities or low-income persons; (2)
that maintains accountability to residents of low-income
communities by providing them with representation on any
governing board of or any advisory board to the CDE; and (3)
that is certified by the Secretary as being a qualified CDE. A
qualified equity investment means stock (other than
nonqualified preferred stock) in a corporation or a capital
interest in a partnership that is acquired directly from a CDE
for cash, and includes an investment of a subsequent purchaser
if such investment was a qualified equity investment in the
hands of the prior holder. Substantially all of the investment
proceeds must be used by the CDE to make qualified low-income
community investments. For this purpose, qualified low-income
community investments include: (1) capital or equity
investments in, or loans to, qualified active low-income
community businesses; (2) certain financial counseling and
other services to businesses and residents in low-income
communities; (3) the purchase from another CDE of any loan made
by such entity that is a qualified low-income community
investment; or (4) an equity investment in, or loan to, another
CDE.
A ``low-income community'' is a population census tract
with either (1) a poverty rate of at least 20 percent or (2)
median family income which does not exceed 80 percent of the
greater of metropolitan area median family income or statewide
median family income (for a non-metropolitan census tract, does
not exceed 80 percent of statewide median family income). In
the case of a population census tract located within a high
migration rural county, low-income is defined by reference to
85 percent (rather than 80 percent) of statewide median family
income. For this purpose, a high migration rural county is any
county that, during the 20-year period ending with the year in
which the most recent census was conducted, has a net out-
migration of inhabitants from the county of at least 10 percent
of the population of the county at the beginning of such
period.
The Secretary has the authority to designate ``targeted
populations'' as low-income communities for purposes of the new
markets tax credit. For this purpose, a ``targeted population''
is defined by reference to section 103(20) of the Riegle
Community Development and Regulatory Improvement Act of 1994
(12 U.S.C. 4702(20)) to mean individuals, or an identifiable
group of individuals, including an Indian tribe, who (A) are
low-income persons; or (B) otherwise lack adequate access to
loans or equity investments. Under such Act, ``low-income''
means (1) for a targeted population within a metropolitan area,
less than 80 percent of the area median family income; and (2)
for a targeted population within a non-metropolitan area, less
than the greater of 80 percent of the area median family income
or 80 percent of the statewide non-metropolitan area median
family income.\214\ Under such Act, a targeted population is
not required to be within any census tract. In addition, a
population census tract with a population of less than 2,000 is
treated as a low-income community for purposes of the credit if
such tract is within an empowerment zone, the designation of
which is in effect under section 1391, and is contiguous to one
or more low-income communities.
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\214\ 12 U.S.C. sec. 4702(17) (defines ``low-income'' for purposes
of 12 U.S.C. sec. 4702(20)).
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A qualified active low-income community business is defined
as a business that satisfies, with respect to a taxable year,
the following requirements: (1) at least 50 percent of the
total gross income of the business is derived from the active
conduct of trade or business activities in any low-income
community; (2) a substantial portion of the tangible property
of such business is used in a low-income community; (3) a
substantial portion of the services performed for such business
by its employees is performed in a low-income community; and
(4) less than five percent of the average of the aggregate
unadjusted bases of the property of such business is
attributable to certain financial property or to certain
collectibles.
The maximum annual amount of qualified equity investments
is capped at $3.5 billion per year for calendar years 2006
through 2009. Lower caps applied for calendar years 2001
through 2005.
Explanation of Provision \215\
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\215\ The provision was subsequently amended by section 733 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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For calendar years 2008 and 2009, the Act increases the
maximum amount of qualified equity investments by $1.5 billion
(to $5 billion for each year). The Act requires that the
additional amount for 2008 be allocated to qualified CDEs that
submitted an allocation application with respect to calendar
year 2008 and either (1) did not receive an allocation for such
calendar year, or (2) received an allocation for such calendar
year in an amount less than the amount requested in the
allocation application.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
D. Energy Incentives
1. Extension of the renewable electricity production credit (sec. 1101
of the Act and sec. 45 of the Code)
Present Law
In general
An income tax credit is allowed for the production of
electricity from qualified energy resources at qualified
facilities (the ``renewable electricity production
credit'').\216\ Qualified energy resources comprise wind,
closed-loop biomass, open-loop biomass, geothermal energy,
solar energy, small irrigation power, municipal solid waste,
qualified hydropower production, and marine and hydrokinetic
renewable energy. Qualified facilities are, generally,
facilities that generate electricity using qualified energy
resources. To be eligible for the credit, electricity produced
from qualified energy resources at qualified facilities must be
sold by the taxpayer to an unrelated person.
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\216\ Sec. 45. In addition to the renewable electricity production
credit, section 45 also provides income tax credits for the production
of Indian coal and refined coal at qualified facilities.
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Credit amounts and credit period
In general
The base amount of the electricity production credit is 1.5
cents per kilowatt-hour (indexed annually for inflation) of
electricity produced. The amount of the credit was 2.1 cents
per kilowatt-hour for 2008. A taxpayer may generally claim a
credit during the 10-year period commencing with the date the
qualified facility is placed in service. The credit is reduced
for grants, tax-exempt bonds, subsidized energy financing, and
other credits.
Credit phaseout
The amount of credit a taxpayer may claim is phased out as
the market price of electricity exceeds certain threshold
levels. The electricity production credit is reduced over a 3-
cent phaseout range to the extent the annual average contract
price per kilowatt-hour of electricity sold in the prior year
from the same qualified energy resource exceeds 8 cents
(adjusted for inflation; 11.8 cents for 2008).
Reduced credit periods and credit amounts
Generally, in the case of open-loop biomass facilities
(including agricultural livestock waste nutrient facilities),
geothermal energy facilities, solar energy facilities, small
irrigation power facilities, landfill gas facilities, and trash
combustion facilities placed in service before August 8, 2005,
the 10-year credit period is reduced to five years, commencing
on the date the facility was originally placed in service.
However, for qualified open-loop biomass facilities (other than
a facility described in section 45(d)(3)(A)(i) that uses
agricultural livestock waste nutrients) placed in service
before October 22, 2004, the five-year period commences on
January 1, 2005. In the case of a closed-loop biomass facility
modified to co-fire with coal, to co-fire with other biomass,
or to co-fire with coal and other biomass, the credit period
begins no earlier than October 22, 2004.
In the case of open-loop biomass facilities (including
agricultural livestock waste nutrient facilities), small
irrigation power facilities, landfill gas facilities, trash
combustion facilities, and qualified hydropower facilities the
otherwise allowable credit amount is 0.75 cent per kilowatt-
hour, indexed for inflation measured after 1992 (1 cent per
kilowatt-hour for 2008).
Other limitations on credit claimants and credit amounts
In general, in order to claim the credit, a taxpayer must
own the qualified facility and sell the electricity produced by
the facility to an unrelated party. A lessee or operator may
claim the credit in lieu of the owner of the qualifying
facility in the case of qualifying open-loop biomass facilities
and in the case of closed-loop biomass facilities modified to
co-fire with coal, to co-fire with other biomass, or to co-fire
with coal and other biomass. In the case of a poultry waste
facility, the taxpayer may claim the credit as a lessee or
operator of a facility owned by a governmental unit.
For all qualifying facilities, other than closed-loop
biomass facilities modified to co-fire with coal, to co-fire
with other biomass, or to co-fire with coal and other biomass,
the amount of credit a taxpayer may claim is reduced by reason
of grants, tax-exempt bonds, subsidized energy financing, and
other credits, but the reduction cannot exceed 50 percent of
the otherwise allowable credit. In the case of closed-loop
biomass facilities modified to co-fire with coal, to co-fire
with other biomass, or to co-fire with coal and other biomass,
there is no reduction in credit by reason of grants, tax-exempt
bonds, subsidized energy financing, and other credits.
The credit for electricity produced from renewable
resources is a component of the general business credit.\217\
Generally, the general business credit for any taxable year may
not exceed the amount by which the taxpayer's net income tax
exceeds the greater of the tentative minimum tax or 25 percent
of so much of the net regular tax liability as exceeds $25,000.
However, this limitation does not apply to section 45 credits
for electricity or refined coal produced from a facility
(placed in service after October 22, 2004) during the first
four years of production beginning on the date the facility is
placed in service.\218\ Excess credits may be carried back one
year and forward up to 20 years.
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\217\ Sec. 38(b)(8).
\218\ Sec. 38(c)(4)(B)(iii).
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Qualified facilities
Wind energy facility
A wind energy facility is a facility that uses wind to
produce electricity. To be a qualified facility, a wind energy
facility must be placed in service after December 31, 1993, and
before January 1, 2010.
Closed-loop biomass facility
A closed-loop biomass facility is a facility that uses any
organic material from a plant which is planted exclusively for
the purpose of being used at a qualifying facility to produce
electricity. In addition, a facility can be a closed-loop
biomass facility if it is a facility that is modified to use
closed-loop biomass to co-fire with coal, with other biomass,
or with both coal and other biomass, but only if the
modification is approved under the Biomass Power for Rural
Development Programs or is part of a pilot project of the
Commodity Credit Corporation.
To be a qualified facility, a closed-loop biomass facility
must be placed in service after December 31, 1992, and before
January 1, 2011. In the case of a facility using closed-loop
biomass but also co-firing the closed-loop biomass with coal,
other biomass, or coal and other biomass, a qualified facility
must be originally placed in service and modified to co-fire
the closed-loop biomass at any time before January 1, 2011.
A qualified facility includes a new power generation unit
placed in service after October 3, 2008, at an existing closed-
loop biomass facility, but only to the extent of the increased
amount of electricity produced at the existing facility by
reason of such new unit.
Open-loop biomass (including agricultural livestock waste
nutrients) facility
An open-loop biomass facility is a facility that uses open-
loop biomass to produce electricity. For purposes of the
credit, open-loop biomass is defined as (1) any agricultural
livestock waste nutrients or (2) any solid, nonhazardous,
cellulosic waste material or any lignin material that is
segregated from other waste materials and which is derived
from:
forest-related resources, including mill and
harvesting residues, precommercial thinnings, slash,
and brush;
solid wood waste materials, including waste
pallets, crates, dunnage, manufacturing and
construction wood wastes, and landscape or right-of-way
tree trimmings; or
agricultural sources, including orchard tree
crops, vineyard, grain, legumes, sugar, and other crop
by-products or residues.
Agricultural livestock waste nutrients are defined as
agricultural livestock manure and litter, including bedding
material for the disposition of manure. Wood waste materials do
not qualify as open-loop biomass to the extent they are
pressure treated, chemically treated, or painted. In addition,
municipal solid waste, gas derived from the biodegradation of
solid waste, and paper which is commonly recycled do not
qualify as open-loop biomass. Open-loop biomass does not
include closed-loop biomass or any biomass burned in
conjunction with fossil fuel (co-firing) beyond such fossil
fuel required for start up and flame stabilization.
In the case of an open-loop biomass facility that uses
agricultural livestock waste nutrients, a qualified facility is
one that was originally placed in service after October 22,
2004, and before January 1, 2009, and has a nameplate capacity
rating which is not less than 150 kilowatts. In the case of any
other open-loop biomass facility, a qualified facility is one
that was originally placed in service before January 1, 2011. A
qualified facility includes a new power generation unit placed
in service after October 3, 2008, at an existing open-loop
biomass facility, but only to the extent of the increased
amount of electricity produced at the existing facility by
reason of such new unit.
Geothermal facility
A geothermal facility is a facility that uses geothermal
energy to produce electricity. Geothermal energy is energy
derived from a geothermal deposit that is a geothermal
reservoir consisting of natural heat that is stored in rocks or
in an aqueous liquid or vapor (whether or not under pressure).
To be a qualified facility, a geothermal facility must be
placed in service after October 22, 2004, and before January 1,
2011.
Solar facility
A solar facility is a facility that uses solar energy to
produce electricity. To be a qualified facility, a solar
facility must be placed in service after October 22, 2004, and
before January 1, 2006.
Small irrigation facility
A small irrigation power facility is a facility that
generates electric power through an irrigation system canal or
ditch without any dam or impoundment of water. The installed
capacity of a qualified facility must be at least 150 kilowatts
but less than five megawatts. To be a qualified facility, a
small irrigation facility must be originally placed in service
after October 22, 2004, and before October 3, 2008. Marine and
hydrokinetic renewable energy facilities, described below,
subsume small irrigation power facilities after October 2,
2008.
Landfill gas facility
A landfill gas facility is a facility that uses landfill
gas to produce electricity. Landfill gas is defined as methane
gas derived from the biodegradation of municipal solid waste.
To be a qualified facility, a landfill gas facility must be
placed in service after October 22, 2004, and before January 1,
2011.
Trash combustion facility
Trash combustion facilities are facilities that use
municipal solid waste (garbage) to produce steam to drive a
turbine for the production of electricity. To be a qualified
facility, a trash combustion facility must be placed in service
after October 22, 2004, and before January 1, 2011. A qualified
trash combustion facility includes a new unit, placed in
service after October 22, 2004, that increases electricity
production capacity at an existing trash combustion facility. A
new unit generally would include a new burner/boiler and
turbine. The new unit may share certain common equipment, such
as trash handling equipment, with other pre-existing units at
the same facility. Electricity produced at a new unit of an
existing facility qualifies for the production credit only to
the extent of the increased amount of electricity produced at
the entire facility.
Hydropower facility
A qualifying hydropower facility is (1) a facility that
produced hydroelectric power (a hydroelectric dam) prior to
August 8, 2005, at which efficiency improvements or additions
to capacity have been made after such date and before January
1, 2011, that enable the taxpayer to produce incremental
hydropower or (2) a facility placed in service before August 8,
2005, that did not produce hydroelectric power (a
nonhydroelectric dam) on such date, and to which turbines or
other electricity generating equipment have been added after
such date and before January 1, 2011.
At an existing hydroelectric facility, the taxpayer may
claim credit only for the production of incremental
hydroelectric power. Incremental hydroelectric power for any
taxable year is equal to the percentage of average annual
hydroelectric power produced at the facility attributable to
the efficiency improvement or additions of capacity determined
by using the same water flow information used to determine an
historic average annual hydroelectric power production baseline
for that facility. The Federal Energy Regulatory Commission
will certify the baseline power production of the facility and
the percentage increase due to the efficiency and capacity
improvements.
Nonhydroelectric dams converted to produce electricity must
be licensed by the Federal Energy Regulatory Commission and
meet all other applicable environmental, licensing, and
regulatory requirements.
For a nonhydroelectric dam converted to produce electric
power before January 1, 2009, there must not be any enlargement
of the diversion structure, construction or enlargement of a
bypass channel, or the impoundment or any withholding of
additional water from the natural stream channel.
For a nonhydroelectric dam converted to produce electric
power after December 31, 2008, the nonhydroelectric dam must
(1) have been placed in service before October 3, 2008, (2)
have been operated for flood control, navigation, or water
supply purposes and (3) not have produced hydroelectric power
on October 3, 2008. In addition, the hydroelectric project must
be operated so that the water surface elevation at any given
location and time that would have occurred in the absence of
the hydroelectric project is maintained, subject to any license
requirements imposed under applicable law that change the water
surface elevation for the purpose of improving environmental
quality of the affected waterway. The Secretary, in
consultation with the Federal Energy Regulatory Commission,
shall certify if a hydroelectric project licensed at a
nonhydroelectric dam meets these criteria.
Marine and hydrokinetic renewable energy facility
A qualified marine and hydrokinetic renewable energy
facility is any facility that produces electric power from
marine and hydrokinetic renewable energy, has a nameplate
capacity rating of at least 150 kilowatts, and is placed in
service after October 2, 2008, and before January 1, 2012.
Marine and hydrokinetic renewable energy is defined as energy
derived from (1) waves, tides, and currents in oceans,
estuaries, and tidal areas; (2) free flowing water in rivers,
lakes, and streams; (3) free flowing water in an irrigation
system, canal, or other man-made channel, including projects
that utilize nonmechanical structures to accelerate the flow of
water for electric power production purposes; or (4)
differentials in ocean temperature (ocean thermal energy
conversion). The term does not include energy derived from any
source that uses a dam, diversionary structure (except for
irrigation systems, canals, and other man-made channels), or
impoundment for electric power production.
TABLE 1.--SUMMARY OF SECTION 45 CREDIT FOR ELECTRICITY PRODUCED FROM CERTAIN RENEWABLE RESOURCES
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Credit period for facilities Credit period for facilities
Credit amount for 2008 (cents placed in service on or placed in service after
Eligible electricity production activity per kilowatt-hour) before August 8, 2005 (years August 8, 2005 (years from
from placed-in-service date) placed-in-service date)
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Wind....................................................... 2.1 10 10
Closed-loop biomass........................................ 2.1 10 \1\ 10
Open-loop biomass (including agricultural livestock waste 1.0 5 \2\ 10
nutrient facilities)......................................
Geothermal................................................. 2.1 5 10
Solar (pre-2006 facilities only)........................... 2.1 5 10
Small irrigation power..................................... 1.0 5 10
Municipal solid waste (including landfill gas facilities 1.0 5 10
and trash combustion facilities)..........................
Qualified hydropower....................................... 1.0 N/A 10
Marine and hydrokinetic.................................... 1.0 N/A 10
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\1\ In the case of certain co-firing closed-loop facilities, the credit period begins no earlier than October 22, 2004.
\2\ For certain facilities placed in service before October 22, 2004, the five-year credit period commences on January 1, 2005.
Taxation of cooperatives and their patrons
For Federal income tax purposes, a cooperative generally
computes its income as if it were a taxable corporation, with
one exception: the cooperative may exclude from its taxable
income distributions of patronage dividends. Generally, a
cooperative that is subject to the cooperative tax rules of
subchapter T of the Code \219\ is permitted a deduction for
patronage dividends paid only to the extent of net income that
is derived from transactions with patrons who are members of
the cooperative.\220\ The availability of such deductions from
taxable income has the effect of allowing the cooperative to be
treated like a conduit with respect to profits derived from
transactions with patrons who are members of the cooperative.
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\219\ Secs. 1381-1383.
\220\ Sec. 1382.
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Eligible cooperatives may elect to pass any portion of the
credit through to their patrons. An eligible cooperative is
defined as a cooperative organization that is owned more than
50 percent by agricultural producers or entities owned by
agricultural producers. The credit may be apportioned among
patrons eligible to share in patronage dividends on the basis
of the quantity or value of business done with or for such
patrons for the taxable year. The election must be made on a
timely filed return for the taxable year and, once made, is
irrevocable for such taxable year.
Reasons for Change
The Congress believes that additional incentives for the
production of electricity from renewable resources will help
limit the environmental consequences of continued reliance on
power generated using fossil fuels. The Congress also believes
that a multi-year extension of the present-law electricity
production credit will encourage the development of renewable
energy projects that will create new jobs for workers.
Explanation of Provision
The provision extends for three years (generally, through
2013; through 2012 for wind facilities) the period during which
qualified facilities producing electricity from wind, closed-
loop biomass, open-loop biomass, geothermal energy, municipal
solid waste, and qualified hydropower may be placed in service
for purposes of the electricity production credit. The
provision extends for two years (through 2013) the placed-in-
service period for marine and hydrokinetic renewable energy
resources.
The provision also makes a technical amendment to the
definition of small irrigation power facility to clarify its
integration into the definition of marine and hydrokinetic
renewable energy facility.
Effective Date
The extension of the electricity production credit is
effective for property placed in service after the date of
enactment (February 17, 2009). The technical amendment is
effective as if included in section 102 of the Energy
Improvement and Extension Act of 2008.
2. Election of investment credit in lieu of production tax credits
(sec. 1102 of the Act and secs. 45 and 48 of the Code)
Present Law
Renewable electricity credit
An income tax credit is allowed for the production of
electricity from qualified energy resources at qualified
facilities.\221\ Qualified energy resources comprise wind,
closed-loop biomass, open-loop biomass, geothermal energy,
solar energy, small irrigation power, municipal solid waste,
qualified hydropower production, and marine and hydrokinetic
renewable energy. Qualified facilities are, generally,
facilities that generate electricity using qualified energy
resources. To be eligible for the credit, electricity produced
from qualified energy resources at qualified facilities must be
sold by the taxpayer to an unrelated person. The credit
amounts, credit periods, definitions of qualified facilities,
and other rules governing this credit are described more fully
in section D.1 of this document.
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\221\ Sec. 45. In addition to the electricity production credit,
section 45 also provides income tax credits for the production of
Indian coal and refined coal at qualified facilities.
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Energy credit
An income tax credit is also allowed for certain energy
property placed in service. Qualifying property includes
certain fuel cell property, solar property, geothermal power
production property, small wind energy property, combined heat
and power system property, and geothermal heat pump
property.\222\ The amounts of credit, definitions of qualifying
property, and other rules governing this credit are described
more fully in section D.3 of this document.
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\222\ Sec. 48.
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Reasons for Change
The Congress believes that current economic circumstances
are constraining investments in facilities that ordinarily
would utilize the production tax credit, and wishes to give
maximum flexibility to taxpayers to choose the tax incentive
that will deliver the greatest benefit to them.
Explanation of Provision
The Act allows the taxpayer to make an irrevocable election
to have certain qualified facilities be treated as energy
property eligible for a 30 percent investment credit under
section 48. For this purpose, qualified facilities are
facilities otherwise eligible for the section 45 production tax
credit (other than refined coal, Indian coal, and solar
facilities) with respect to which no credit under section 45
has been allowed. A taxpayer electing to treat a facility as
energy property may not claim the production credit under
section 45. Under the Act, facilities are eligible if placed in
service during the extension period of section 45 as provided
(generally, through 2013; through 2012 for wind facilities),
Property eligible for the credit is tangible personal or
other tangible property (not including a building or its
structural components), and with respect to which depreciation
or amortization is allowable, but only if such property is used
as an integral part of the qualified facility. For example, in
the case of a wind facility, the conferees intend that only
property eligible for five-year depreciation under section
168(e)(3)(b)(vi) is treated as credit-eligible energy property
under the election.
Effective Date
The provision applies to facilities placed in service after
December 31, 2008.
3. Modification of energy credit \223\ (sec. 1103 of the Act and sec.
48 of the Code)
Present Law
In general
A nonrefundable, 10-percent business energy credit \224\ is
allowed for the cost of new property that is equipment that
either (1) uses solar energy to generate electricity, to heat
or cool a structure, or to provide solar process heat, or (2)
is used to produce, distribute, or use energy derived from a
geothermal deposit, but only, in the case of electricity
generated by geothermal power, up to the electric transmission
stage. Property used to generate energy for the purposes of
heating a swimming pool is not eligible solar energy property.
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\223\ Additional provisions that (1) allow section 45 facilities to
elect to be treated as section 48 energy property, and (2) allow
section 45 and 48 facilities to elect to receive a grant from the
Department of the Treasury rather than the section 45 production credit
or the section 48 energy credit, are described by sections D.2 and D.4
of Part Two of this document.
\224\ Sec. 48.
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The energy credit is a component of the general business
credit.\225\ An unused general business credit generally may be
carried back one year and carried forward 20 years.\226\ The
taxpayer's basis in the property is reduced by one-half of the
amount of the credit claimed. For projects whose construction
time is expected to equal or exceed two years, the credit may
be claimed as progress expenditures are made on the project,
rather than during the year the property is placed in service.
The credit is allowed against the alternative minimum tax for
credits determined in taxable years beginning after October 3,
2008.
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\225\ Sec. 38(b)(1).
\226\ Sec. 39.
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Property financed by subsidized energy financing or with
proceeds from private activity bonds is subject to a reduction
in basis for purposes of claiming the credit. The basis
reduction is proportional to the share of the basis of the
property that is financed by the subsidized financing or
proceeds. The term ``subsidized energy financing'' means
financing provided under a Federal, State, or local program a
principal purpose of which is to provide subsidized financing
for projects designed to conserve or produce energy.
Special rules for solar energy property
The credit for solar energy property is increased to 30
percent in the case of periods prior to January 1, 2017.
Additionally, equipment that uses fiber-optic distributed
sunlight to illuminate the inside of a structure is solar
energy property eligible for the 30-percent credit.
Fuel cells and microturbines
The energy credit applies to qualified fuel cell power
plants, but only for periods prior to January 1, 2017. The
credit rate is 30 percent.
A qualified fuel cell power plant is an integrated system
composed of a fuel cell stack assembly and associated balance
of plant components that (1) converts a fuel into electricity
using electrochemical means, and (2) has an electricity-only
generation efficiency of greater than 30 percent and a capacity
of at least one-half kilowatt. The credit may not exceed $1,500
for each 0.5 kilowatt of capacity.
The energy credit applies to qualifying stationary
microturbine power plants for periods prior to January 1, 2017.
The credit is limited to the lesser of 10 percent of the basis
of the property or $200 for each kilowatt of capacity.
A qualified stationary microturbine power plant is an
integrated system comprised of a gas turbine engine, a
combustor, a recuperator or regenerator, a generator or
alternator, and associated balance of plant components that
converts a fuel into electricity and thermal energy. Such
system also includes all secondary components located between
the existing infrastructure for fuel delivery and the existing
infrastructure for power distribution, including equipment and
controls for meeting relevant power standards, such as voltage,
frequency and power factors. Such system must have an
electricity-only generation efficiency of not less than 26
percent at International Standard Organization conditions and a
capacity of less than 2,000 kilowatts.
Geothermal heat pump property
The energy credit applies to qualified geothermal heat pump
property placed in service prior to January 1, 2017. The credit
rate is 10 percent. Qualified geothermal heat pump property is
equipment that uses the ground or ground water as a thermal
energy source to heat a structure or as a thermal energy sink
to cool a structure.
Small wind property
The energy credit applies to qualified small wind energy
property placed in service prior to January 1, 2017. The credit
rate is 30 percent. The credit is limited to $4,000 per year
with respect to all wind energy property of any taxpayer.
Qualified small wind energy property is property that uses a
qualified wind turbine to generate electricity. A qualifying
wind turbine means a wind turbine of 100 kilowatts of rated
capacity or less.
Combined heat and power property
The energy credit applies to combined heat and power
(``CHP'') property placed in service prior to January 1, 2017.
The credit rate is 10 percent.
CHP property is property: (1) that uses the same energy
source for the simultaneous or sequential generation of
electrical power, mechanical shaft power, or both, in
combination with the generation of steam or other forms of
useful thermal energy (including heating and cooling
applications); (2) that has an electrical capacity of not more
than 50 megawatts or a mechanical energy capacity of no more
than 67,000 horsepower or an equivalent combination of
electrical and mechanical energy capacities; (3) that produces
at least 20 percent of its total useful energy in the form of
thermal energy that is not used to produce electrical or
mechanical power, and produces at least 20 percent of its total
useful energy in the form of electrical or mechanical power (or
a combination thereof); and (4) the energy efficiency
percentage of which exceeds 60 percent. CHP property does not
include property used to transport the energy source to the
generating facility or to distribute energy produced by the
facility.
The otherwise allowable credit with respect to CHP property
is reduced to the extent the property has an electrical
capacity or mechanical capacity in excess of any applicable
limits. Property in excess of the applicable limit (15
megawatts or a mechanical energy capacity of more than 20,000
horsepower or an equivalent combination of electrical and
mechanical energy capacities) is permitted to claim a fraction
of the otherwise allowable credit. The fraction is equal to the
applicable limit divided by the capacity of the property. For
example, a 45 megawatt property would be eligible to claim 15/
45ths, or one third, of the otherwise allowable credit. Again,
no credit is allowed if the property exceeds the 50 megawatt or
67,000 horsepower limitations described above.
Additionally, systems whose fuel source is at least 90
percent open-loop biomass and that would qualify for the credit
but for the failure to meet the efficiency standard are
eligible for a credit that is reduced in proportion to the
degree to which the system fails to meet the efficiency
standard. For example, a system that would otherwise be
required to meet the 60-percent efficiency standard, but which
only achieves 30-percent efficiency, is permitted a credit
equal to one-half of the otherwise allowable credit (i.e., a 5-
percent credit).
Reasons for Change
The Congress believes the cap on the availability of the
investment credit with respect to wind energy property is
inconsistent with the objective of stimulating greater
investment in such property. Therefore, the Congress believes
it is appropriate to remove the cap on the amount of credit
that may be claimed for wind energy property.
In order to protect the efficacy of both the energy credit
and subsidized financing as means of stimulating investment in
renewable technologies, the Congress believes taxpayers
utilizing subsidized energy financing should not be required to
reduce their otherwise allowable credit.
Explanation of Provision
The Act eliminates the credit cap applicable to qualified
small wind energy property. The Act also removes the rule that
reduces the basis of the property for purposes of claiming the
credit if the property is financed in whole or in part by
subsidized energy financing or with proceeds from private
activity bonds.
Effective Date
The provision applies to periods after December 31, 2008,
under rules similar to the rules of section 48(m) of the Code
(as in effect on the day before the enactment of the Revenue
Reconciliation Act of 1990).
4. Grants for specified energy property in lieu of tax credits (secs.
1104 and 1603 of the Act and secs. 45 and 48 of the Code)
Present Law
Renewable electricity production credit
An income tax credit is allowed for the production of
electricity from qualified energy resources at qualified
facilities (the ``renewable electricity production
credit'').\227\ Qualified energy resources comprise wind,
closed-loop biomass, open-loop biomass, geothermal energy,
solar energy, small irrigation power, municipal solid waste,
qualified hydropower production, and marine and hydrokinetic
renewable energy. Qualified facilities are, generally,
facilities that generate electricity using qualified energy
resources. To be eligible for the credit, electricity produced
from qualified energy resources at qualified facilities must be
sold by the taxpayer to an unrelated person. The credit
amounts, credit periods, definitions of qualified facilities,
and other rules governing this credit are described more fully
in section D.1 of this document.
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\227\ Sec. 45. In addition to the renewable electricity production
credit, section 45 also provides income tax credits for the production
of Indian coal and refined coal at qualified facilities.
---------------------------------------------------------------------------
Energy credit
An income tax credit is also allowed for certain energy
property placed in service. Qualifying property includes
certain fuel cell property, solar property, geothermal power
production property, small wind energy property, combined heat
and power system property, and geothermal heat pump
property.\228\ The amounts of credit, definitions of qualifying
property, and other rules governing this credit are described
more fully in section D.3 of this document.
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\228\ Sec. 48.
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Reasons for Change
The Congress believes that incentives for the production of
electricity from renewable resources will help limit the
environmental consequences of continued reliance on power
generated using fossil fuels. The Congress understands that
some investors in renewable energy projects have suffered
economic losses that prevent them from benefitting from the
renewable electricity production credit and the energy credit.
The Congress further believes that this situation, combined
with current economic conditions, has the potential to
jeopardize investment in renewable energy facilities. The
Congress therefore believes that, in the short term, allowing
renewable energy developers to elect to receive direct grants
in lieu of the renewable electricity production credit and the
energy credit is necessary for continued growth in this
important industry.
Explanation of Provision \229\
The provision authorizes the Secretary of the Treasury to
provide a grant to each person who places in service energy
property that is either (1) part of an electricity production
facility otherwise eligible for the renewable electricity
production credit or (2) qualifying property otherwise eligible
for the energy credit. In general, the grant amount is 30
percent of the basis of the property that would (1) be eligible
for credit under section 48 or (2) be part of a section 45
credit-eligible facility. For qualified microturbine, combined
heat and power system, and geothermal heat pump property, the
amount is 10 percent of the basis of the property.
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\229\ The provision was subsequently amended by section 707 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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Qualifying property must be depreciable or amortizable to
be eligible for a grant. In addition, the property must be
originally placed in service in 2009 or 2010 or construction of
the property must begin in 2009 or 2010 and be completed prior
to 2013 (in the case of wind facility property), 2014 (in the
case of other renewable power facility property eligible for
credit under section 45), or 2017 (in the case of any specified
energy property described in section 48).
It is intended that the grant provision mimic the operation
of the credit under section 48. For example, the amount of the
grant is not includable in gross income. However, the basis of
the property is reduced by fifty percent of the amount of the
grant. In addition, some or all of each grant is subject to
recapture if the grant eligible property is disposed of by the
grant recipient within five years of being placed in service.
Nonbusiness property and property that would not otherwise
be eligible for credit under section 48 or part of a facility
that would be eligible for credit under section 45 is not
eligible for a grant under the provision. The grant may be paid
to whichever party would have been entitled to a credit under
section 48 or section 45, as the case may be.
Under the provision, if a grant is paid, no renewable
electricity credit or energy credit may be claimed with respect
to the grant eligible property. In addition, no grant may be
awarded to any Federal, State, or local government (or any
political subdivision, agency, or instrumentality thereof) or
any section 501(c) tax-exempt entity.
The provision appropriates to the Secretary of Energy the
funds necessary to make the grants. No grant may be made unless
the application for the grant has been received before October
1, 2011.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
5. Expand new clean renewable energy bonds (sec. 1111 of the Act and
sec. 54C of the Code)
Present Law
New Clean Renewable Energy Bonds
New clean renewable energy bonds (``New CREBs'') may be
issued by qualified issuers to finance qualified renewable
energy facilities.\230\ Qualified renewable energy facilities
are facilities that: (1) qualify for the tax credit under
section 45 (other than Indian coal and refined coal production
facilities), without regard to the placed-in-service date
requirements of that section; and (2) are owned by a public
power provider, governmental body, or cooperative electric
company.
---------------------------------------------------------------------------
\230\ Sec. 54C.
---------------------------------------------------------------------------
The term ``qualified issuers'' includes: (1) public power
providers; (2) a governmental body; (3) cooperative electric
companies; (4) a not-for-profit electric utility that has
received a loan or guarantee under the Rural Electrification
Act; and (5) clean renewable energy bond lenders. The term
``public power provider'' means a State utility with a service
obligation, as such terms are defined in section 217 of the
Federal Power Act (as in effect on the date of the enactment of
this paragraph). A ``governmental body'' means any State or
Indian tribal government, or any political subdivision thereof.
The term ``cooperative electric company'' means a mutual or
cooperative electric company (described in section 501(c)(12)
or section 1381(a)(2)(C)). A clean renewable energy bond lender
means a cooperative that is owned by, or has outstanding loans
to, 100 or more cooperative electric companies and is in
existence on February 1, 2002 (including any affiliated entity
which is controlled by such lender).
There is a national limitation for New CREBs of $800
million. No more than one third of the national limit may be
allocated to projects of public power providers, governmental
bodies, or cooperative electric companies. Allocations to
governmental bodies and cooperative electric companies may be
made in the manner the Secretary determines appropriate.
Allocations to projects of public power providers shall be
made, to the extent practicable, in such manner that the amount
allocated to each such project bears the same ratio to the cost
of such project as the maximum allocation limitation to
projects of public power providers bears to the cost of all
such projects.
New CREBs are a type of qualified tax credit bond for
purposes of section 54A of the Code. As such, 100 percent of
the available project proceeds of New CREBs must be used within
the three-year period that begins on the date of issuance.
Available project proceeds are proceeds from the sale of the
bond issue less issuance costs (not to exceed two percent) and
any investment earnings on such sale proceeds. To the extent
less than 100 percent of the available project proceeds are
used to finance qualified projects during the three-year
spending period, bonds will continue to qualify as New CREBs if
unspent proceeds are used within 90 days from the end of such
three-year period to redeem bonds. The three-year spending
period may be extended by the Secretary upon the qualified
issuer's request demonstrating that the failure to satisfy the
three-year requirement is due to reasonable cause and the
projects will continue to proceed with due diligence.
New CREBs generally are subject to the arbitrage
requirements of section 148. However, available project
proceeds invested during the three-year spending period are not
subject to the arbitrage restrictions (i.e., yield restriction
and rebate requirements). In addition, amounts invested in a
reserve fund are not subject to the arbitrage restrictions to
the extent: (1) such fund is funded at a rate not more rapid
than equal annual installments; (2) such fund is funded in a
manner reasonably expected to result in an amount not greater
than an amount necessary to repay the issue; and (3) the yield
on such fund is not greater than the average annual interest
rate of tax-exempt obligations having a term of 10 years or
more that are issued during the month the New CREBs are issued.
As with other tax credit bonds, a taxpayer holding New
CREBs on a credit allowance date is entitled to a tax credit.
However, the credit rate on New CREBs is set by the Secretary
at a rate that is 70 percent of the rate that would permit
issuance of such bonds without discount and interest cost to
the issuer.\231\ The Secretary determines credit rates for tax
credit bonds based on general assumptions about credit quality
of the class of potential eligible issuers and such other
factors as the Secretary deems appropriate. The Secretary may
determine credit rates based on general credit market yield
indexes and credit ratings.\232\
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\231\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
\232\ See Notice 2009-15, 2009-6 I.R.B. 449 (January 22, 2009).
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The amount of the tax credit is determined by multiplying
the bond's credit rate by the face amount of the holder's bond.
The credit accrues quarterly, is includible in gross income (as
if it were an interest payment on the bond), and can be claimed
against regular income tax liability and alternative minimum
tax liability. Unused credits may be carried forward to
succeeding taxable years. In addition, credits may be separated
from the ownership of the underlying bond similar to how
interest coupons can be stripped for interest-bearing bonds.
An issuer of New CREBs is treated as meeting the
``prohibition on financial conflicts of interest'' requirement
in section 54A(d)(6) if it certifies that it satisfies (i)
applicable State and local law requirements governing conflicts
of interest and (ii) any additional conflict of interest rules
prescribed by the Secretary with respect to any Federal, State,
or local government official directly involved with the
issuance of New CREBs.
Reasons for Change
The Congress believes that the New CREBs program provides
an efficient mechanism to finance qualified renewable energy
facilities. Therefore, the Congress wishes to expand the New
CREBs program by increasing the amount of the national bond
volume limitation.
Explanation of Provision \233\
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\233\ Section 301 of the Hiring Incentives to Restore Employment
Act, Pub. L. No. 111-147, added a provision to section 6431, allowing
the issuer of the bonds to elect to receive a direct payment from the
Treasury in lieu of providing a tax credit to the holders of the bonds.
For further discussion, see Part Seven of this document.
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In general
The provision expands the New CREBs program. The provision
authorizes issuance of up to an additional $1.6 billion of New
CREBs.
Effective Date
The provision applies to obligations issued after the date
of enactment (February 17, 2009).
6. Expand qualified energy conservation bonds (sec. 1112 of the Act and
sec. 54D of the Code)
Present Law
Qualified energy conservation bonds may be used to finance
qualified conservation purposes.
The term ``qualified conservation purpose'' means:
1. Capital expenditures incurred for purposes of
reducing energy consumption in publicly owned buildings
by at least 20 percent; implementing green community
programs; rural development involving the production of
electricity from renewable energy resources; or any
facility eligible for the production tax credit under
section 45 (other than Indian coal and refined coal
production facilities);
2. Expenditures with respect to facilities or grants
that support research in: (a) development of cellulosic
ethanol or other nonfossil fuels; (b) technologies for
the capture and sequestration of carbon dioxide
produced through the use of fossil fuels; (c)
increasing the efficiency of existing technologies for
producing nonfossil fuels; (d) automobile battery
technologies and other technologies to reduce fossil
fuel consumption in transportation; and (E)
technologies to reduce energy use in buildings;
3. Mass commuting facilities and related facilities
that reduce the consumption of energy, including
expenditures to reduce pollution from vehicles used for
mass commuting;
4. Demonstration projects designed to promote the
commercialization of: (a) green building technology;
(b) conversion of agricultural waste for use in the
production of fuel or otherwise; (c) advanced battery
manufacturing technologies; (D) technologies to reduce
peak-use of electricity; and (d) technologies for the
capture and sequestration of carbon dioxide emitted
from combusting fossil fuels in order to produce
electricity; and
5. Public education campaigns to promote energy
efficiency (other than movies, concerts, and other
events held primarily for entertainment purposes).
There is a national limitation on qualified energy
conservation bonds of $800 million. Allocations of qualified
energy conservation bonds are made to the States with sub-
allocations to large local governments. Allocations are made to
the States according to their respective populations, reduced
by any sub-allocations to large local governments (defined
below) within the States. Sub-allocations to large local
governments shall be an amount of the national qualified energy
conservation bond limitation that bears the same ratio to the
amount of such limitation that otherwise would be allocated to
the State in which such large local government is located as
the population of such large local government bears to the
population of such State. The term ``large local government''
means: any municipality or county if such municipality or
county has a population of 100,000 or more. Indian tribal
governments also are treated as large local governments for
these purposes (without regard to population).
Each State or large local government receiving an
allocation of qualified energy conservation bonds may further
allocate issuance authority to issuers within such State or
large local government. However, any allocations to issuers
within the State or large local government shall be made in a
manner that results in not less than 70 percent of the
allocation of qualified energy conservation bonds to such State
or large local government being used to designate bonds that
are not private activity bonds (i.e., the bond cannot meet the
private business tests or the private loan test of section
141).
Qualified energy conservations bonds are a type of
qualified tax credit bond for purposes of section 54A of the
Code. As a result, 100 percent of the available project
proceeds of qualified energy conservation bonds must be used
for qualified conservation purposes. In the case of qualified
conservation bonds issued as private activity bonds, 100
percent of the available project proceeds must be used for
capital expenditures. In addition, qualified energy
conservation bonds only may be issued by Indian tribal
governments to the extent such bonds are issued for purposes
that satisfy the present law requirements for tax-exempt bonds
issued by Indian tribal governments (i.e., essential
governmental functions and certain manufacturing purposes).
Under present law, 100 percent of the available project
proceeds of qualified energy conservation bonds to be used
within the three-year period that begins on the date of
issuance. Available project proceeds are proceeds from the sale
of the issue less issuance costs (not to exceed two percent)
and any investment earnings on such sale proceeds. To the
extent less than 100 percent of the available project proceeds
are used to finance qualified conservation purposes during the
three-year spending period, bonds will continue to qualify as
qualified energy conservation bonds if unspent proceeds are
used within 90 days from the end of such three-year period to
redeem bonds. The three-year spending period may be extended by
the Secretary upon the issuer's request demonstrating that the
failure to satisfy the three-year requirement is due to
reasonable cause and the projects will continue to proceed with
due diligence.
Qualified energy conservation bonds generally are subject
to the arbitrage requirements of section 148. However,
available project proceeds invested during the three-year
spending period are not subject to the arbitrage restrictions
(i.e., yield restriction and rebate requirements). In addition,
amounts invested in a reserve fund are not subject to the
arbitrage restrictions to the extent: (1) such fund is funded
at a rate not more rapid than equal annual installments; (2)
such fund is funded in a manner reasonably expected to result
in an amount not greater than an amount necessary to repay the
issue; and (3) the yield on such fund is not greater than the
average annual interest rate of tax-exempt obligations having a
term of 10 years or more that are issued during the month the
qualified energy conservation bonds are issued.
The maturity of qualified energy conservation bonds is the
term that the Secretary estimates will result in the present
value of the obligation to repay the principal on such bonds
being equal to 50 percent of the face amount of such bonds,
using as a discount rate the average annual interest rate of
tax-exempt obligations having a term of 10 years or more that
are issued during the month the qualified energy conservation
bonds are issued.
As with other tax credit bonds, the taxpayer holding
qualified energy conservation bonds on a credit allowance date
is entitled to a tax credit. The credit rate on the bonds is
set by the Secretary at a rate that is 70 percent of the rate
that would permit issuance of such bonds without discount and
interest cost to the issuer.\234\ The Secretary determines
credit rates for tax credit bonds based on general assumptions
about credit quality of the class of potential eligible issuers
and such other factors as the Secretary deems appropriate. The
Secretary may determine credit rates based on general credit
market yield indexes and credit ratings.\235\ The amount of the
tax credit is determined by multiplying the bond's credit rate
by the face amount on the holder's bond. The credit accrues
quarterly, is includible in gross income (as if it were an
interest payment on the bond), and can be claimed against
regular income tax liability and alternative minimum tax
liability. Unused credits may be carried forward to succeeding
taxable years. In addition, credits may be separated from the
ownership of the underlying bond similar to how interest
coupons can be stripped for interest-bearing bonds.
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\234\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
\235\ See Notice 2009-15, 2009-6 I.R.B. 449 (January 22, 2009).
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Issuers of qualified energy conservation bonds are required
to certify that the financial disclosure requirements that
applicable State and local law requirements governing conflicts
of interest are satisfied with respect to such issue, as well
as any other additional conflict of interest rules prescribed
by the Secretary with respect to any Federal, State, or local
government official directly involved with the issuance of
qualified energy conservation bonds.
Reasons for Change
The Congress believes that an increase in the volume
limitation for qualified energy conservation bonds is needed to
help move the nation toward more energy-efficient policies. The
Congress is aware that a number of communities have initiated
low-interest loan and grant programs to encourage the adoption
of energy conserving products as part of their green community
programs. The Congress believes that incentives for the
purchase and installation of energy-efficient property and
energy-efficient improvements to residences are desirable to
help reduce energy consumption in the household sector.
Therefore, the Congress believes it is appropriate to allow the
proceeds of qualified energy conservation bonds to be used for
loans and grants to implement green community programs.
Explanation of Provision \236\
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\236\ Section 301 of the Hiring Incentives to Restore Employment
Act, Pub. L. No. 111-147, added a provision to section 6431, allowing
the issuer of the bonds to elect to receive a direct payment from the
Treasury in lieu of providing a tax credit to the holders of the bonds.
For further discussion, see Part Seven of this document.
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The provision expands the present-law qualified energy
conservation bond program. The provision authorizes issuance of
an additional $2.4 billion of qualified energy conservation
bonds. Also, the provision clarifies that capital expenditures
to implement green community programs include grants, loans and
other repayment mechanisms to implement such programs. For
example, this expansion will enable States to issue these tax
credit bonds to finance retrofits of existing private buildings
through loans and/or grants to individual homeowners or
businesses, or through other repayment mechanisms. Other
repayment mechanisms can include periodic fees assessed on a
government bill or utility bill that approximates the energy
savings of energy efficiency or conservation retrofits.
Retrofits can include heating, cooling, lighting, water-saving,
storm water-reducing, or other efficiency measures.
Finally, the provision clarifies that any bond used for the
purpose of providing grants, loans or other repayment
mechanisms for capital expenditures to implement green
community programs is not treated as a private activity bond
for purposes of determining whether the requirement that not
less than 70 percent of allocations within a State or large
local government be used to designate bonds that are not
private activity bonds (sec. 54D(e)(3)) has been satisfied.
Effective Date
The provision is effective for bonds issued after the date
of enactment (February 17, 2009).
7. Modification to high-speed intercity rail facility bonds (sec. 1504
of the Act and sec. 142(i) of the Code)
Present Law
In general
Under present law, gross income does not include interest
on State or local bonds. State and local bonds are classified
generally as either governmental bonds or private activity
bonds. Governmental bonds are bonds the proceeds of which are
primarily used to finance governmental functions or which are
repaid with governmental funds. Private activity bonds are
bonds in which the State or local government serves as a
conduit providing financing to nongovernmental persons (e.g.,
private businesses or individuals). The exclusion from income
for State and local bonds does not apply to private activity
bonds unless the bonds are issued for certain permitted
purposes (``qualified private activity bonds'') and other Code
requirements are met.
High-speed rail
An exempt facility bond is a type of qualified private
activity bond. Exempt facility bonds can be issued for high-
speed intercity rail facilities. A facility qualifies as a
high-speed intercity rail facility if it is a facility (other
than rolling stock) for fixed guideway rail transportation of
passengers and their baggage between metropolitan statistical
areas. The facilities must use vehicles that are reasonably
expected to operate at speeds in excess of 150 miles per hour
between scheduled stops and the facilities must be made
available to members of the general public as passengers. If
the bonds are to be issued for a nongovernmental owner of the
facility, such owner must irrevocably elect not to claim
depreciation or credits with respect to the property financed
by the net proceeds of the issue.
The Code imposes a special redemption requirement for these
types of bonds. Any proceeds not used within three years of the
date of issuance of the bonds must be used within the following
six months to redeem such bonds.
Seventy-five percent of the principal amount of the bonds
issued for high-speed rail facilities is exempt from the volume
limit. If all the property to be financed by the net proceeds
of the issue is to be owned by a governmental unit, then such
bonds are completely exempt from the volume limit.
Explanation of Provision
In general
The provision modifies the requirement that high-speed
intercity rail transportation facilities use vehicles that are
reasonably expected to operate at speeds in excess of 150 miles
per hour. Instead, under the provision such facilities must use
vehicles capable of attaining a maximum speed in excess of 150
miles per hour.
Effective Date
The provision is effective for obligations issued after the
date of enactment (February 17, 2009).
8. Extension and modification of credit for nonbusiness energy property
(sec. 1121 of the Act and sec. 25C of the Code)
Present Law
Section 25C provides a 10-percent credit for the purchase
of qualified energy efficiency improvements to existing homes.
A qualified energy efficiency improvement is any energy
efficiency building envelope component (1) that meets or
exceeds the prescriptive criteria for such a component
established by the 2000 International Energy Conservation Code
as supplemented and as in effect on August 8, 2005 (or, in the
case of metal roofs with appropriate pigmented coatings, meets
the Energy Star program requirements); (2) that is installed in
or on a dwelling located in the United States and owned and
used by the taxpayer as the taxpayer's principal residence; (3)
the original use of which commences with the taxpayer; and (4)
that reasonably can be expected to remain in use for at least
five years. The credit is nonrefundable.
Building envelope components are: (1) insulation materials
or systems which are specifically and primarily designed to
reduce the heat loss or gain for a dwelling; (2) exterior
windows (including skylights) and doors; and (3) metal or
asphalt roofs with appropriate pigmented coatings or cooling
granules that are specifically and primarily designed to reduce
the heat gain for a dwelling.
Additionally, section 25C provides specified credits for
the purchase of specific energy efficient property. The
allowable credit for the purchase of certain property is (1)
$50 for each advanced main air circulating fan, (2) $150 for
each qualified natural gas, propane, or oil furnace or hot
water boiler, and (3) $300 for each item of energy-efficient
building property.
An advanced main air circulating fan is a fan used in a
natural gas, propane, or oil furnace originally placed in
service by the taxpayer during the taxable year, and which has
an annual electricity use of no more than two percent of the
total annual energy use of the furnace (as determined in the
standard Department of Energy test procedures).
A qualified natural gas, propane, or oil furnace or hot
water boiler is a natural gas, propane, or oil furnace or hot
water boiler with an annual fuel utilization efficiency rate of
at least 95.
Energy-efficient building property is: (1) an electric heat
pump water heater which yields an energy factor of at least 2.0
in the standard Department of Energy test procedure, (2) an
electric heat pump which has a heating seasonal performance
factor (HSPF) of at least 9, a seasonal energy efficiency ratio
(SEER) of at least 15, and an energy efficiency ratio (EER) of
at least 13, (3) a central air conditioner with energy
efficiency of at least the highest efficiency tier established
by the Consortium for Energy Efficiency as in effect on Jan. 1,
2006 \237\, (4) a natural gas, propane, or oil water heater
which has an energy factor of at least 0.80 or thermal
efficiency of at least 90 percent, and (5) biomass fuel
property.
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\237\ The highest tier in effect at this time was tier 2, requiring
SEER of at least 15 and EER of at least 12.5 for split central air
conditioning systems and SEER of at least 14 and EER of at least 12 for
packaged central air conditioning systems.
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Biomass fuel property is a stove that burns biomass fuel to
heat a dwelling unit located in the United States and used as a
principal residence by the taxpayer, or to heat water for such
dwelling unit, and that has a thermal efficiency rating of at
least 75 percent. Biomass fuel is any plant-derived fuel
available on a renewable or recurring basis, including
agricultural crops and trees, wood and wood waste and residues
(including wood pellets), plants (including aquatic plants),
grasses, residues, and fibers.
Under section 25C, the maximum credit for a taxpayer with
respect to the same dwelling for all taxable years is $500, and
no more than $200 of such credit may be attributable to
expenditures on windows.
The taxpayer's basis in the property is reduced by the
amount of the credit. Special proration rules apply in the case
of jointly owned property, condominiums, and tenant-
stockholders in cooperative housing corporations. If less than
80 percent of the property is used for nonbusiness purposes,
only that portion of expenditures that is used for nonbusiness
purposes is taken into account.
For purposes of determining the amount of expenditures made
by any individual with respect to any dwelling unit,
expenditures which are made from subsidized energy financing
are not taken into account. The term ``subsidized energy
financing'' means financing provided under a Federal, State, or
local program a principal purpose of which is to provide
subsidized financing for projects designed to conserve or
produce energy.
The credit applies to expenditures made after December 31,
2008, for property placed in service after December 31, 2008,
and prior to January 1, 2010.
Reasons for Change
The Congress believes that an immediate increase in the
credit rate and the amount of the maximum credit that may be
claimed is warranted to encourage additional investments that
will help reduce reliance on fossil fuels.
Explanation of Provision \238\
The Act raises the 10 percent credit rate to 30 percent.
Additionally, all energy property otherwise eligible for the
$50, $100, or $150 credit is instead eligible for a 30 percent
credit on expenditures for such property.
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\238\ The provision was subsequently amended by section 710 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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The credit is extended for one year, through December 31,
2010. The $500 lifetime cap (and the $200 lifetime cap with
respect to windows) is eliminated and replaced with an
aggregate cap of $1,500 in the case of property placed in
service after December 31, 2008 and prior to January 1, 2011.
The present law rule related to subsidized energy financing is
eliminated.
The Act modifies the efficiency standards for qualifying
property as follows.
Building insulation must follow the prescriptive criteria
of the 2009 International Energy Conservation Code.
Additionally, qualifying exterior windows, doors, and skylights
must have a U-factor at or below 0.30 and a seasonal heat gain
coefficient (``SHGC'') at or below 0.30.
Electric heat pumps must achieve the highest efficiency
tier of Consortium for Energy Efficiency, as in effect on
January 1, 2009. These standards are a SEER greater than or
equal to 15, EER greater than or equal to 12.5, and HSPF
greater than or equal to 8.5 for split heat pumps, and SEER
greater than or equal to 14, EER greater than or equal to 12,
and HSPF greater than or equal to 8.0 for packaged heat pumps.
Central air conditioners must achieve the highest
efficiency tier of Consortium for Energy Efficiency, as in
effect on January 1, 2009. These standards are a SEER greater
than or equal to 16 and EER greater than or equal to 13 for
split systems, and SEER greater than or equal to 14 and EER
greater than or equal to 12 for packaged systems.
Natural gas, propane, or oil water heaters must have an
energy factor greater than or equal to 0.82 or a thermal
efficiency of greater than or equal to 90 percent. Natural gas,
propane, or oil water boilers must achieve an annual fuel
utilization efficiency rate of at least 90. Qualified oil
furnaces must achieve an annual fuel utilization efficiency
rate of at least 90.
Lastly, the requirement that biomass fuel property have a
thermal efficiency rating of at least 75 percent is modified to
be a thermal efficiency rating of at least 75 percent as
measured using a lower heating value.
Effective Date
The provision is generally effective for taxable years
beginning after December 31, 2008. The provisions that alter
the efficiency standards of qualifying property, other than
biomass fuel property, apply to property placed in service
after the date of enactment, February 17, 2009. The
modification with respect to biomass fuel property is effective
for taxable years beginning after December 31, 2008.
9. Credit for residential energy efficient property (sec. 1122 of the
Act and sec. 25D of the Code)
Present Law
Section 25D provides a personal tax credit for the purchase
of qualified solar electric property and qualified solar water
heating property that is used exclusively for purposes other
than heating swimming pools and hot tubs. The credit is equal
to 30 percent of qualifying expenditures, with a maximum credit
of $2,000 with respect to qualified solar water heating
property. There is no cap with respect to qualified solar
electric property.
Section 25D also provides a 30 percent credit for the
purchase of qualified geothermal heat pump property, qualified
small wind energy property, and qualified fuel cell power
plants. The credit for geothermal heat pump property is capped
at $2,000, the credit for qualified small wind energy property
is limited to $500 with respect to each half kilowatt of
capacity, not to exceed $4,000, and the credit for any fuel
cell may not exceed $500 for each 0.5 kilowatt of capacity.
The credit with respect to all qualifying property may be
claimed against the alternative minimum tax.
Qualified solar electric property is property that uses
solar energy to generate electricity for use in a dwelling
unit. Qualifying solar water heating property is property used
to heat water for use in a dwelling unit located in the United
States and used as a residence if at least half of the energy
used by such property for such purpose is derived from the sun.
A qualified fuel cell power plant is an integrated system
comprised of a fuel cell stack assembly and associated balance
of plant components that (1) converts a fuel into electricity
using electrochemical means, (2) has an electricity-only
generation efficiency of greater than 30 percent and has a
nameplate capacity of at least 0.5 kilowatt. The qualified fuel
cell power plant must be installed on or in connection with a
dwelling unit located in the United States and used by the
taxpayer as a principal residence.
Qualified small wind energy property is property that uses
a wind turbine to generate electricity for use in a dwelling
unit located in the U.S. and used as a residence by the
taxpayer.
Qualified geothermal heat pump property means any equipment
which (1) uses the ground or ground water as a thermal energy
source to heat the dwelling unit or as a thermal energy sink to
cool such dwelling unit, (2) meets the requirements of the
Energy Star program which are in effect at the time that the
expenditure for such equipment is made, and (3) is installed on
or in connection with a dwelling unit located in the United
States and used as a residence by the taxpayer.
The credit is nonrefundable, and the depreciable basis of
the property is reduced by the amount of the credit.
Expenditures for labor costs allocable to onsite preparation,
assembly, or original installation of property eligible for the
credit are eligible expenditures.
Special proration rules apply in the case of jointly owned
property, condominiums, and tenant-stockholders in cooperative
housing corporations. If less than 80 percent of the property
is used for nonbusiness purposes, only that portion of
expenditures that is used for nonbusiness purposes is taken
into account.
For purposes of determining the amount of expenditures made
by any individual with respect to any dwelling unit, there
shall not be taken into account expenditures which are made
from subsidized energy financing. The term ``subsidized energy
financing'' means financing provided under a Federal, State, or
local program a principal purpose of which is to provide
subsidized financing for projects designed to conserve or
produce energy.
The credit applies to property placed in service prior to
January 1, 2017.
Reasons for Change
The Congress believes that an increase in the maximum
credit that may be claimed for solar hot water, geothermal, and
wind property is warranted to encourage additional investments
that will help reduce reliance on fossil fuels. For the same
reasons, the Congress believes it is appropriate to eliminate
the rules that reduce available credits for property using
subsidized energy financing.
Explanation of Provision
The Act eliminates the credit caps for solar hot water,
geothermal, and wind property and eliminates the reduction in
credits for property using subsidized energy financing.
Effective Date
The provision applies to taxable years beginning after
December 31, 2008.
10. Temporary increase in credit for alternative fuel vehicle refueling
property (sec. 1123 of the Act and sec. 30C of the Code)
Present Law
Taxpayers may claim a 30-percent credit for the cost of
installing qualified clean-fuel vehicle refueling property to
be used in a trade or business of the taxpayer or installed at
the principal residence of the taxpayer.\239\ The credit may
not exceed $30,000 per taxable year per location, in the case
of qualified refueling property used in a trade or business and
$1,000 per taxable year per location, in the case of qualified
refueling property installed on property which is used as a
principal residence.
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\239\ Sec. 30C.
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Qualified refueling property is property (not including a
building or its structural components) for the storage or
dispensing of a clean-burning fuel or electricity into the fuel
tank or battery of a motor vehicle propelled by such fuel or
electricity, but only if the storage or dispensing of the fuel
or electricity is at the point of delivery into the fuel tank
or battery of the motor vehicle. The use of such property must
begin with the taxpayer.
Clean-burning fuels are any fuel at least 85 percent of the
volume of which consists of ethanol, natural gas, compressed
natural gas, liquefied natural gas, liquefied petroleum gas, or
hydrogen. In addition, any mixture of biodiesel and diesel
fuel, determined without regard to any use of kerosene and
containing at least 20 percent biodiesel, qualifies as a clean
fuel.
Credits for qualified refueling property used in a trade or
business are part of the general business credit and may be
carried back for one year and forward for 20 years. Credits for
residential qualified refueling property cannot exceed for any
taxable year the difference between the taxpayer's regular tax
(reduced by certain other credits) and the taxpayer's tentative
minimum tax. Generally, in the case of qualified refueling
property sold to a tax-exempt entity, the taxpayer selling the
property may claim the credit.
A taxpayer's basis in qualified refueling property is
reduced by the amount of the credit. In addition, no credit is
available for property used outside the United States or for
which an election to expense has been made under section 179.
The credit is available for property placed in service
after December 31, 2005, and (except in the case of hydrogen
refueling property) before January 1, 2011. In the case of
hydrogen refueling property, the property must be placed in
service before January 1, 2015.
Reasons for Change
The Congress believes that widespread adoption of advanced
technology and alternative-fuel vehicles is necessary to
transform automotive transportation in the United States to be
cleaner, more fuel efficient, and less reliant on petroleum
fuels. The Congress further believes that one important method
to encourage this trend is to provide additional tax incentives
for the development and installation of the infrastructure
necessary to deliver clean fuels to drivers of clean-fuel
vehicles.
Explanation of Provision \240\
For property placed in service in 2009 or 2010, the
provision increases the maximum credit available for business
property to $200,000 for qualified hydrogen refueling property
and to $50,000 for other qualified refueling property. For
nonbusiness property, the maximum credit is increased to
$2,000. In addition, the credit rate is increased from 30
percent to 50 percent, except in the case of hydrogen refueling
property.
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\240\ The provision was subsequently amended by section 711 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2008.
11. Modification of credit for carbon dioxide sequestration (sec. 1131
of the Act and sec. 45Q of the Code)
Present Law
A credit of $20 per metric ton is available for qualified
carbon dioxide captured by a taxpayer at a qualified facility
and disposed of by such taxpayer in secure geological storage
(including storage at deep saline formations and unminable coal
seams under such conditions as the Secretary may
determine).\241\ In addition, a credit of $10 per metric ton is
available for qualified carbon dioxide that is captured by the
taxpayer at a qualified facility and used by such taxpayer as a
tertiary injectant (including carbon dioxide augmented
waterflooding and immiscible carbon dioxide displacement) in a
qualified enhanced oil or natural gas recovery project. Both
credit amounts are adjusted for inflation after 2009.
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\241\ Sec. 45Q.
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Qualified carbon dioxide is defined as carbon dioxide
captured from an industrial source that (1) would otherwise be
released into the atmosphere as an industrial emission of
greenhouse gas, and (2) is measured at the source of capture
and verified at the point or points of injection. Qualified
carbon dioxide includes the initial deposit of captured carbon
dioxide used as a tertiary injectant but does not include
carbon dioxide that is recaptured, recycled, and re-injected as
part of an enhanced oil or natural gas recovery project
process. A qualified enhanced oil or natural gas recovery
project is a project that would otherwise meet the definition
of an enhanced oil recovery project under section 43, if
natural gas projects were included within that definition.
A qualified facility means any industrial facility (1)
which is owned by the taxpayer, (2) at which carbon capture
equipment is placed in service, and (3) which captures not less
than 500,000 metric tons of carbon dioxide during the taxable
year. The credit applies only with respect to qualified carbon
dioxide captured and sequestered or injected in the United
States \242\ or one of its possessions.\243\
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\242\ Sec. 638(1).
\243\ Sec. 638(2).
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Except as provided in regulations, credits are attributable
to the person that captures and physically or contractually
ensures the disposal, or use as a tertiary injectant, of the
qualified carbon dioxide. Credits are subject to recapture, as
provided by regulation, with respect to any qualified carbon
dioxide that ceases to be recaptured, disposed of, or used as a
tertiary injectant in a manner consistent with the rules of the
provision.
The credit is part of the general business credit. The
credit sunsets at the end of the calendar year in which the
Secretary, in consultation with the Administrator of the
Environmental Protection Agency, certifies that 75 million
metric tons of qualified carbon dioxide have been captured and
disposed of or used as a tertiary injectant.
Explanation of Provision
The provision requires that carbon dioxide used as a
tertiary injectant and otherwise eligible for a $10 per metric
ton credit must be sequestered by the taxpayer in permanent
geological storage in order to qualify for such credit. The
provision also clarifies that the term permanent geological
storage includes oil and gas reservoirs in addition to
unminable coal seams and deep saline formations. In addition,
the provision requires that the Secretary of the Treasury
consult with the Secretary of Energy and the Secretary of the
Interior, in addition to the Administrator of the Environmental
Protection Agency, in promulgating regulations relating to the
permanent geological storage of carbon dioxide.
Effective Date
The provision is effective for carbon dioxide captured
after the date of enactment (February 17, 2009).
12. Modification of the plug-in electric drive motor vehicle credit
(secs. 1141-1144 of the Act and secs. 30, 30B, and 30D of the
Code)
Present Law
Alternative motor vehicle credit
A credit is available for each new qualified fuel cell
vehicle, hybrid vehicle, advanced lean burn technology vehicle,
and alternative fuel vehicle placed in service by the taxpayer
during the taxable year.\244\ In general, the credit amount
varies depending upon the type of technology used, the weight
class of the vehicle, the amount by which the vehicle exceeds
certain fuel economy standards, and, for some vehicles, the
estimated lifetime fuel savings. The credit generally is
available for vehicles purchased after 2005. The credit
terminates after 2009, 2010, or 2014, depending on the type of
vehicle. The alternative motor vehicle credit is not allowed
against the alternative minimum tax.
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\244\ Sec. 30B.
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Plug-in electric drive motor vehicle credit
A credit is available for each qualified plug-in electric
drive motor vehicle placed in service. A qualified plug-in
electric drive motor vehicle is a motor vehicle that has at
least four wheels, is manufactured for use on public roads,
meets certain emissions standards (except for certain heavy
vehicles), draws propulsion using a traction battery with at
least four kilowatt-hours of capacity, and is capable of being
recharged from an external source of electricity.
The base amount of the plug-in electric drive motor vehicle
credit is $2,500, plus another $417 for each kilowatt-hour of
battery capacity in excess of four kilowatt-hours. The maximum
credit for qualified vehicles weighing 10,000 pounds or less is
$7,500. This maximum amount increases to $10,000 for vehicles
weighing more than 10,000 pounds but not more than 14,000
pounds, to $12,500 for vehicles weighing more than 14,000
pounds but not more than 26,000 pounds, and to $15,000 for
vehicle weighing more than 26,000 pounds.
In general, the credit is available to the vehicle owner,
including the lessor of a vehicle subject to lease. If the
qualified vehicle is used by certain tax-exempt organizations,
governments, or foreign persons and is not subject to a lease,
the seller of the vehicle may claim the credit so long as the
seller clearly discloses to the user in a document the amount
that is allowable as a credit. A vehicle must be used
predominantly in the United States to qualify for the credit.
Once a total of 250,000 credit-eligible vehicles have been
sold for use in the United States, the credit phases out over
four calendar quarters. The phaseout period begins in the
second calendar quarter following the quarter during which the
vehicle cap has been reached. Taxpayers may claim one-half of
the otherwise allowable credit during the first two calendar
quarters of the phaseout period and twenty-five percent of the
otherwise allowable credit during the next two quarters. After
this, no credit is available. Regardless of the phase-out
limitation, no credit is available for vehicles purchased after
2014.
The basis of any qualified vehicle is reduced by the amount
of the credit. To the extent a vehicle is eligible for credit
as a qualified plug-in electric drive motor vehicle, it is not
eligible for credit as a qualified hybrid vehicle under section
30B. The portion of the credit attributable to vehicles of a
character subject to an allowance for depreciation is treated
as part of the general business credit; the nonbusiness portion
of the credit is allowable to the extent of the excess of the
regular tax over the alternative minimum tax (reduced by
certain other credits) for the taxable year.
Explanation of Provision
Credit for electric drive low-speed vehicles, motorcycles, and three-
wheeled vehicles
The provision creates a new 10-percent credit for low-speed
vehicles, motorcycles, and three-wheeled vehicles that would
otherwise meet the criteria of a qualified plug-in electric
drive motor vehicle but for the fact that they are low-speed
vehicles or do not have at least four wheels. The maximum
credit for such vehicles is $2,500. Basis reduction and other
rules similar to those found in section 30 apply under the
provision. In the case of vehicles of a character subject to an
allowance for depreciation, the new credit is part of the
general business credit. The new credit is not available for
vehicles sold after December 31, 2011.
Credit for converting a vehicle into a plug-in electric drive motor
vehicle
The provision also creates a new 10-percent credit, up to
$4,000, for the cost of converting any motor vehicle into a
qualified plug-in electric drive motor vehicle. To be eligible
for the credit, a qualified plug-in traction battery module
must have a capacity of at least four kilowatt-hours. The
credit is not available for conversions made after December 31,
2011.
Modification of the plug-in electric drive motor vehicle credit
The provision modifies the plug-in electric drive motor
vehicle credit by limiting the maximum credit to $7,500
regardless of vehicle weight. The provision also eliminates the
credit for low speed plug-in vehicles and for plug-in vehicles
weighing 14,000 pounds or more.
The provision replaces the 250,000 total plug-in vehicle
limitation with a 200,000 plug-in vehicles per manufacturer
limitation. The credit phases out over four calendar quarters
beginning in the second calendar quarter following the quarter
in which the manufacturer limit is reached.
Treatment of alternative motor vehicle credit as a personal credit
allowed against the alternative minimum tax
The provision provides that the alternative motor vehicle
credit for nondepreciable property is a personal credit allowed
against the alternative minimum tax.
Effective Date
The new 10-percent credit for low-speed vehicles,
motorcycles, and three-wheeled vehicles is effective for
vehicles acquired after February 17, 2009. The credit for
converting a vehicle into a plug-in electric drive motor
vehicle is effective for property placed in service after
February 17, 2009. The modification of the plug-in electric
drive motor vehicle credit is effective for vehicles acquired
after December 31, 2009. The allowance of the treatment of the
alternative motor vehicle credit against the alternative
minimum tax is effective for taxable years beginning after
December 31, 2008.
13. Parity for qualified transportation fringe benefits (sec. 1151 of
the Act and sec. 132 of the Code)
Present Law
Qualified transportation fringe benefits provided by an
employer are excluded from an employee's gross income for
income tax purposes and from an employee's wages for payroll
tax purposes.\245\ Qualified transportation fringe benefits
include parking, transit passes, vanpool benefits, and
qualified bicycle commuting reimbursements. Up to $230 (for
2009) per month of employer-provided parking is excludable from
income. Up to $120 (for 2009) per month of employer-provided
transit and vanpool benefits are excludable from gross income.
These amounts are indexed annually for inflation, rounded to
the nearest multiple of $5. No amount is includible in the
income of an employee merely because the employer offers the
employee a choice between cash and qualified transportation
fringe benefits. Qualified transportation fringe benefits also
include a cash reimbursement by an employer to an employee.
However, in the case of transit passes, a cash reimbursement is
considered a qualified transportation fringe benefit only if a
voucher or similar item which may be exchanged only for a
transit pass is not readily available for direct distribution
by the employer to the employee.
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\245\ Secs. 132(f), 3121(b)(2), 3306(b)(16), and 3401(a)(19).
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Explanation of Provision \246\
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\246\ The provision was subsequently amended by section 727 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen of this
document.
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The provision increases the monthly exclusion for employer-
provided transit and vanpool benefits to the same level as the
exclusion for employer-provided parking.
Effective Date
The provision is effective for months beginning on or after
date of enactment (February 17, 2009). The provision does not
apply to tax years beginning after December 31, 2010.
14. Credit for investment in advanced energy property (sec. 1302 of the
Act and new sec. 48C of the Code)
Present Law
An income tax credit is allowed for the production of
electricity from qualified energy resources at qualified
facilities.\247\ Qualified energy resources comprise wind,
closed-loop biomass, open-loop biomass, geothermal energy,
solar energy, small irrigation power, municipal solid waste,
qualified hydropower production, and marine and hydrokinetic
renewable energy. Qualified facilities are, generally,
facilities that generate electricity using qualified energy
resources.
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\247\ Sec. 45. In addition to the electricity production credit,
section 45 also provides income tax credits for the production of
Indian coal and refined coal at qualified facilities.
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An income tax credit is also allowed for certain energy
property placed in service. Qualifying property includes
certain fuel cell property, solar property, geothermal power
production property, small wind energy property, combined heat
and power system property, and geothermal heat pump
property.\248\
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\248\ Sec. 48.
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In addition to these, numerous other credits are available
to taxpayers to encourage renewable energy production and
energy conservation, including, among others, credits for
certain biofuels, plug-in electric vehicles, and energy
efficient appliances, and for improvements to heating, air
conditioning, and insulation.
No credit is specifically designed under present law to
encourage the development of a domestic manufacturing base to
support the industries described above.
Explanation of Provision
The provision establishes a 30-percent allocated credit for
investment in qualified property used in a qualified advanced
energy manufacturing project. The provision authorizes the
Secretary of the Treasury to allocate up to $2.3 billion of
credits.
A qualified advanced energy project is a project that re-
equips, expands, or establishes a manufacturing facility for
the production of: (1) property designed to be used to produce
energy from the sun, wind, or geothermal deposits (within the
meaning of section 613(e)(2)), or other renewable resources;
(2) fuel cells, microturbines, or an energy storage system for
use with electric or hybrid-electric motor vehicles; (3)
electric grids to support the transmission of intermittent
sources of renewable energy, including storage of such energy;
(4) property designed to capture and sequester carbon dioxide;
(5) property designed to refine or blend renewable fuels (but
not fossil fuels) or to produce energy conservation
technologies (including energy-conserving lighting technologies
and smart grid technologies); (6) property designed to
manufacture any new qualified plug-in electric drive motor
vehicle (as defined by section 30D(c)), any qualified plug-in
electric vehicle (as defined by section 30(d)), or any
component which is designed specifically for use with such
vehicles, including any electric motor, generator, or power
control unit; or (7) other advanced energy property designed to
reduce greenhouse gas emissions as may be determined by the
Secretary.
Qualified property must be depreciable (or amortizable)
property used in a qualified advanced energy project and must
consist of tangible personal property or other tangible
property (not including building or its structural components).
Qualified property does not include property designed to
manufacture equipment for use in the refining or blending of
any transportation fuel other than renewable fuels. The basis
of qualified property must be reduced by the amount of credit
received.
Credits are available only for projects certified by the
Secretary of the Treasury, in consultation with the Secretary
of Energy. The Secretary of the Treasury must establish a
certification program no later than 180 days after date of
enactment, and may allocate up to $2.3 billion in credits.
In selecting projects, the Secretary may consider only
those projects where there is a reasonable expectation of
commercial viability. In addition, the Secretary must consider
other selection criteria, including which projects (1) will
provide the greatest domestic job creation; (2) will provide
the greatest net impact in avoiding or reducing air pollutants
or anthropogenic emissions of greenhouse gases; (3) have the
greatest potential for technological innovation or commercial
deployment; (4) have the lowest levelized cost of generated or
stored energy, or of measured reduction in energy consumption
or greenhouse gas emission; and (5) have the shortest project
time from certification to completion.
Each project application must be submitted during the two-
year period beginning on the date such certification program is
established. An applicant for certification has one year from
the date the Secretary accepts the application to provide the
Secretary with evidence that the requirements for certification
have been met. Upon certification, the applicant has three
years from the date of issuance of the certification to place
the project in service. Not later than four years after the
date of enactment of the credit, the Secretary is required to
review the credit allocations and redistribute any credits that
were not used either because of a revoked certification or
because of an insufficient quantity of credit applications.
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
E. Other Provision
1. Application of certain labor standards to projects financed with
certain tax-favored bonds (sec. 1601 of the Act)
Present Law
The United States Code (Subchapter IV of Chapter 31 of
Title 40) applies a prevailing wage requirement to certain
contracts to which the Federal Government is a party.
Reasons for Change
The Congress believes that it is appropriate to apply the
prevailing wage requirement to a broader class of contracts
including those financed with tax-favored bonds.
Explanation of Provision
The provision provides that Subchapter IV of Chapter 31 of
Title 40 of the U.S. Code shall apply to projects financed with
the proceeds of:
1. any new clean renewable energy bond (as defined in
sec. 54C of the Code) issued after the date of
enactment;
2. any qualified energy conservation bond (as defined
in sec. 54D of the Code) issued after the date of
enactment;
3. any qualified zone academy bond (as defined in
sec. 54E of the Code) issued after the date of
enactment;
4. any qualified school construction bond (as defined
in sec. 54F of the Code); and
5. any recovery zone economic development bond (as
defined in sec. 1400U-2 of the Code).
Effective Date
The provision is effective on the date of enactment
(February 17, 2009).
TITLE III--HEALTH INSURANCE ASSISTANCE
A. Assistance for COBRA Continuation Coverage (sec. 3001 of the Act and
new sec. 139C, sec. 4980B, and new secs. 6432 and 6720C of the Code)
Present Law
In general
The Code contains rules that require certain group health
plans to offer certain individuals (``qualified
beneficiaries'') the opportunity to continue to participate for
a specified period of time in the group health plan
(``continuation coverage'') after the occurrence of certain
events that otherwise would have terminated such participation
(``qualifying events'').\249\ These continuation coverage rules
are often referred to as ``COBRA continuation coverage'' or
``COBRA,'' which is a reference to the acronym for the law that
added the continuation coverage rules to the Code.\250\
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\249\ Sec. 4980B.
\250\ The COBRA rules were added to the Code by the Consolidated
Omnibus Budget Reconciliation Act of 1985, Pub. L. No. 99-272. The
rules were originally added as Code sections 162(i) and (k). The rules
were later restated as Code section 4980B, pursuant to the Technical
and Miscellaneous Revenue Act of 1988, Pub. L. No. 100-647.
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The Code imposes an excise tax on a group health plan if it
fails to comply with the COBRA continuation coverage rules with
respect to a qualified beneficiary. The excise tax with respect
to a qualified beneficiary generally is equal to $100 for each
day in the noncompliance period with respect to the failure. A
plan's noncompliance period generally begins on the date the
failure first occurs and ends when the failure is corrected.
Special rules apply that limit the amount of the excise tax if
the failure would not have been discovered despite the exercise
of reasonable diligence or if the failure is due to reasonable
cause and not willful neglect.
In the case of a multiemployer plan, the excise tax
generally is imposed on the group health plan. A multiemployer
plan is a plan to which more than one employer is required to
contribute, that is maintained pursuant to one or more
collective bargaining agreements between one or more employee
organizations and more than one employer, and that satisfies
such other requirements as the Secretary of Labor may prescribe
by regulation. In the case of a plan other than a multiemployer
plan (a ``single employer plan''), the excise tax generally is
imposed on the employer.
Plans subject to COBRA
A group health plan is defined as a plan of, or contributed
to by, an employer (including a self-employed person) or
employee organization to provide health care (directly or
otherwise) to the employees, former employees, the employer,
and others associated or formerly associated with the employer
in a business relationship, or their families. A group health
plan includes a self-insured plan. The term group health plan
does not, however, include a plan under which substantially all
of the coverage is for qualified long-term care services.
The following types of group health plans are not subject
to the Code's COBRA rules: (1) a plan established and
maintained for its employees by a church or by a convention or
association of churches which is exempt from tax under section
501 (a ``church plan''); (2) a plan established and maintained
for its employees by the Federal government, the government of
any State or political subdivision thereof, or by any
instrumentality of the foregoing (a ``governmental plan'');
\251\ and (3) a plan maintained by an employer that normally
employed fewer than 20 employees on a typical business day
during the preceding calendar year \252\ (a ``small employer
plan'').
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\251\ A governmental plan also includes certain plans established
by an Indian tribal government.
\252\ If the plan is a multiemployer plan, then each of the
employers contributing to the plan for a calendar year must normally
employ fewer than 20 employees during the preceding calendar year.
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Qualifying events and qualified beneficiaries
A qualifying event that gives rise to COBRA continuation
coverage includes, with respect to any covered employee, the
following events which would result in a loss of coverage of a
qualified beneficiary under a group health plan (but for COBRA
continuation coverage): (1) death of the covered employee; (2)
the termination (other than by reason of such employee's gross
misconduct), or a reduction in hours, of the covered employee's
employment; (3) divorce or legal separation of the covered
employee; (4) the covered employee becoming entitled to
Medicare benefits under title XVIII of the Social Security Act;
(5) a dependent child ceasing to be a dependent child under the
generally applicable requirements of the plan; and (6) a
proceeding in a case under the U.S. Bankruptcy Code commencing
on or after July 1, 1986, with respect to the employer from
whose employment the covered employee retired at any time.
A ``covered employee'' is an individual who is (or was)
provided coverage under the group health plan on account of the
performance of services by the individual for one or more
persons maintaining the plan and includes a self-employed
individual. A ``qualified beneficiary'' means, with respect to
a covered employee, any individual who on the day before the
qualifying event for the employee is a beneficiary under the
group health plan as the spouse or dependent child of the
employee. The term qualified beneficiary also includes the
covered employee in the case of a qualifying event that is a
termination of employment or reduction in hours.
Continuation coverage requirements
Continuation coverage that must be offered to qualified
beneficiaries pursuant to COBRA must consist of coverage which,
as of the time coverage is being provided, is identical to the
coverage provided under the plan to similarly situated non-
COBRA beneficiaries under the plan with respect to whom a
qualifying event has not occurred. If coverage under a plan is
modified for any group of similarly situated non-COBRA
beneficiaries, the coverage must also be modified in the same
manner for qualified beneficiaries. Similarly situated non-
COBRA beneficiaries means the group of covered employees,
spouses of covered employees, or dependent children of covered
employees who (i) are receiving coverage under the group health
plan for a reason other than pursuant to COBRA, and (ii) are
the most similarly situated to the situation of the qualified
beneficiary immediately before the qualifying event, based on
all of the facts and circumstances.
The maximum required period of continuation coverage for a
qualified beneficiary (i.e., the minimum period for which
continuation coverage must be offered) depends upon a number of
factors, including the specific qualifying event that gives
rise to a qualified beneficiary's right to elect continuation
coverage. In the case of a qualifying event that is the
termination, or reduction of hours, of a covered employee's
employment, the minimum period of coverage that must be offered
to the qualified beneficiary is coverage for the period
beginning with the loss of coverage on account of the
qualifying event and ending on the date that is 18 months \253\
after the date of the qualifying event. If coverage under a
plan is lost on account of a qualifying event but the loss of
coverage actually occurs at a later date, the minimum coverage
period may be extended by the plan so that it is measured from
the date when coverage is actually lost.
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\253\ In the case of a qualified beneficiary who is determined,
under Title II or XVI of the Social Security Act, to have been disabled
during the first 60 days of continuation coverage, the 18 month minimum
coverage period is extended to 29 months with respect to all qualified
beneficiaries if notice is given before the end of the initial 18 month
continuation coverage period.
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The minimum coverage period for a qualified beneficiary
generally ends upon the earliest to occur of the following
events: (1) the date on which the employer ceases to provide
any group health plan to any employee, (2) the date on which
coverage ceases under the plan by reason of a failure to make
timely payment of any premium required with respect to the
qualified beneficiary, and (3) the date on which the qualified
beneficiary first becomes (after the date of election of
continuation coverage) either (i) covered under any other group
health plan (as an employee or otherwise) which does not
include any exclusion or limitation with respect to any
preexisting condition of such beneficiary or (ii) entitled to
Medicare benefits under title XVIII of the Social Security Act.
Mere eligibility for another group health plan or Medicare
benefits is not sufficient to terminate the minimum coverage
period. Instead, the qualified beneficiary must be actually
covered by the other group health plan or enrolled in Medicare.
Coverage under another group health plan or enrollment in
Medicare does not terminate the minimum coverage period if such
other coverage or Medicare enrollment begins on or before the
date that continuation coverage is elected.
Election of continuation coverage
The COBRA rules specify a minimum election period under
which a qualified beneficiary is entitled to elect continuation
coverage. The election period begins not later than the date on
which coverage under the plan terminates on account of the
qualifying event, and ends not earlier than the later of 60
days or 60 days after notice is given to the qualified
beneficiary of the qualifying event and the beneficiary's
election rights.
Notice requirements
A group health plan is required to give a general notice of
COBRA continuation coverage rights to employees and their
spouses at the time of enrollment in the group health plan.
An employer is required to give notice to the plan
administrator of certain qualifying events (including a loss of
coverage on account of a termination of employment or reduction
in hours) generally within 30 days of the qualifying event. A
covered employee or qualified beneficiary is required to give
notice to the plan administrator of certain qualifying events
within 60 days after the event. The qualifying events giving
rise to an employee or beneficiary notification requirement are
the divorce or legal separation of the covered employee or a
dependent child ceasing to be a dependent child under the terms
of the plan. Upon receiving notice of a qualifying event from
the employer, covered employee, or qualified beneficiary, the
plan administrator is then required to give notice of COBRA
continuation coverage rights within 14 days to all qualified
beneficiaries with respect to the event.
Premiums
A plan may require payment of a premium for any period of
continuation coverage. The amount of such premium generally may
not exceed 102 percent \254\ of the ``applicable premium'' for
such period and the premium must be payable, at the election of
the payor, in monthly installments.
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\254\ In the case of a qualified beneficiary whose minimum coverage
period is extended to 29 months on account of a disability
determination, the premium for the period of the disability extension
may not exceed 150 percent of the applicable premium for the period.
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The applicable premium for any period of continuation
coverage means the cost to the plan for such period of coverage
for similarly situated non-COBRA beneficiaries with respect to
whom a qualifying event has not occurred, and is determined
without regard to whether the cost is paid by the employer or
employee. The determination of any applicable premium is made
for a period of 12 months (the ``determination period'') and is
required to be made before the beginning of such 12 month
period.
In the case of a self-insured plan, the applicable premium
for any period of continuation coverage of qualified
beneficiaries is equal to a reasonable estimate of the cost of
providing coverage during such period for similarly situated
non-COBRA beneficiaries which is determined on an actuarial
basis and takes into account such factors as the Secretary of
the Treasury prescribes in regulations. A self-insured plan may
elect to determine the applicable premium on the basis of an
adjusted cost to the plan for similarly situated non-COBRA
beneficiaries during the preceding determination period.
A plan may not require payment of any premium before the
day which is 45 days after the date on which the qualified
beneficiary made the initial election for continuation
coverage. A plan is required to treat any required premium
payment as timely if it is made within 30 days after the date
the premium is due or within such longer period as applies to,
or under, the plan.
Other continuation coverage rules
Continuation coverage rules which are parallel to the
Code's continuation coverage rules apply to group health plans
under the Employee Retirement Income Security Act of 1974
(ERISA).\255\ ERISA generally permits the Secretary of Labor
and plan participants to bring a civil action to obtain
appropriate equitable relief to enforce the continuation
coverage rules of ERISA, and in the case of a plan
administrator who fails to give timely notice to a participant
or beneficiary with respect to COBRA continuation coverage, a
court may hold the plan administrator liable to the participant
or beneficiary in the amount of up to $110 a day from the date
of such failure.
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\255\ Secs. 601 to 608 of ERISA.
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Although the Federal government and State and local
governments are not subject to the Code and ERISA's
continuation coverage rules, other laws impose similar
continuation coverage requirements with respect to plans
maintained by such governmental employers.\256\ In addition,
many States have enacted laws or promulgated regulations that
provide continuation coverage rights that are similar to COBRA
continuation coverage rights in the case of a loss of group
health coverage. Such State laws, for example, may apply in the
case of a loss of coverage under a group health plan maintained
by a small employer.
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\256\ Continuation coverage rights similar to COBRA continuation
coverage rights are provided to individuals covered by health plans
maintained by the Federal government. 5 U.S.C. sec. 8905a. Group health
plans maintained by a State that receives funds under Chapter 6A of
Title 42 of the United States Code (the Public Health Service Act) are
required to provide continuation coverage rights similar to COBRA
continuation coverage rights for individuals covered by plans
maintained by such State (and plans maintained by political
subdivisions of such State and agencies and instrumentalities of such
State or political subdivision of such State). 42 U.S.C. sec. 300bb-1.
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Reasons for Change
The Congress is aware that the majority of Americans with
health insurance coverage obtain such coverage heavily
subsidized through their employers. As a result of the current
economic crisis, a significant number of Americans have been,
and are expected to be, involuntarily terminated from their
employment and thus will lose their income and their subsidy
toward health insurance coverage. While present law permits a
terminated employee to continue to participate in his or her
former employer's group health coverage at a rate of 102% of
the premium for current employees, the Congress is concerned
that such coverage is particularly unaffordable in the case of
an individual who has been involuntarily terminated from
employment. The Congress believes that a temporary subsidy
should be made available to make COBRA continuation coverage
more affordable for employees who involuntarily lose their jobs
on account of the current economic crisis. The subsidy provided
under the provision is estimated to benefit approximately 7
million people for some portion of 2009.\257\
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\257\ Joint Committee on Taxation, Estimated Budget Effects of the
Revenue Provisions contained in Title I and Title III of H.R. 598, the
``American Recovery and Reinvestment Tax Act of 2009, Scheduled for
Markup by the Committee on Ways and Means on January 22, 2009 (JCX-7-
09), January 21, 2009, footnote 9.
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Explanation of Provision
Reduced COBRA premium
The provision provides that, for a period not exceeding 9
months,\258\ an assistance eligible individual is treated as
having paid any premium required for COBRA continuation
coverage under a group health plan if the individual pays 35
percent of the premium.\259\ Thus, if the assistance eligible
individual pays 35 percent of the premium, the group health
plan must treat the individual as having paid the full premium
required for COBRA continuation coverage, and the individual is
entitled to a subsidy for 65 percent of the premium. An
assistance eligible individual is any qualified beneficiary who
elects COBRA continuation coverage and satisfies three
additional requirements. First, the qualifying event with
respect to the covered employee for that qualified beneficiary
must be a loss of group health plan coverage on account of an
involuntary termination of the covered employee's
employment.\260\ However, a termination of employment for gross
misconduct does not qualify (since such a termination under
present law does not qualify for COBRA continuation coverage).
Second, the qualifying event must occur during the period
beginning September 1, 2008 and ending with December 31, 2009,
and the qualified beneficiary must be eligible for COBRA
continuation coverage during that period and elect such
coverage.\261\ Third, the assistance eligible individual must
meet certain income threshold requirements.
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\258\ This provision was subsequently extended in sec. 1010(b) of
the Department of Defense Appropriations Act, Pub. L. No. 111-118,
described in Part Twenty-One of this document.
\259\ For this purpose, payment by an assistance eligible
individual includes payment by another individual paying on behalf of
the individual, such as a parent or guardian, or an entity paying on
behalf of the individual, such as a State agency or charity. Further,
the amount of the premium used to calculate the reduced premium is the
premium amount that the employee would be required to pay for COBRA
continuation coverage absent this premium reduction (e.g. 102 percent
of the ``applicable premium'' for such period).
\260\ The provision was subsequently clarified in sec. 3(b) of the
Temporary Extension Act of 2010, Pub. L. No. 111-144, described in Part
Twenty-One of this document.
\261\ The provision was subsequently extended in sec. 1010(a) of
the Department of Defense Appropriations Act, Pub. L. No. 111-118, sec.
3(a) of the Temporary Extension Act of 2010, Pub. L. No. 111-144, and
sec. 2(a) of the Continuing Extension Act of 2010, Pub. L. No. 111-157,
described in Part Twenty-One of this document.
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The income threshold applies based on the modified adjusted
gross income for an individual income tax return for the
taxable year in which the subsidy is received with respect to
which the assistance eligible individual is the taxpayer, the
taxpayer's spouse or a dependent of the taxpayer (within the
meaning of section 152 of the Code, determined without regard
to sections 152(b)(1), (b)(2) and (d)(1)(B)). Modified adjusted
gross income for this purpose means adjusted gross income as
defined in section 62 of the Code increased by any amount
excluded from gross income under section 911, 931, or 933 of
the Code. Under this income threshold, if the premium subsidy
is provided with respect to any COBRA continuation coverage
which covers the taxpayer, the taxpayer's spouse, or any
dependent of the taxpayer during a taxable year and the
taxpayer's modified adjusted gross income exceeds $145,000 (or
$290,000 for joint filers), then the amount of the premium
subsidy for all months during the taxable year must be repaid.
The mechanism for repayment is an increase in the taxpayer's
income tax liability for the year equal to such amount. For
taxpayers with adjusted gross income between $125,000 and
$145,000 (or $250,000 and $290,000 for joint filers), the
amount of the premium subsidy for the taxable year that must be
repaid is reduced proportionately.
Under this income threshold, for example, an assistance
eligible individual who is eligible for Federal COBRA
continuation coverage based on the involuntary termination of a
covered employee in August 2009 but who is not entitled to the
premium subsidy for the periods of coverage during 2009 due to
having income above the threshold, may nevertheless be entitled
to the premium subsidy for any periods of coverage in the
remaining period during 2010 to which the subsidy applies if
the modified adjusted gross income for 2010 of the relevant
taxpayer is not above the income threshold.
Under the provision an individual is allowed to make a
permanent election (at such time and in such form as the
Secretary of the Treasury may prescribe) to waive the right to
the premium subsidy for all periods of coverage. For the
election to take effect, the individual must notify the entity
(to which premiums are reimbursed under section 6432(a) of the
Code) of the election. This waiver provision allows an
assistance eligible individual who is certain that the modified
adjusted gross income limit prevents the individual from being
entitled to any premium subsidy for any coverage period to
decline the subsidy for all coverage periods and avoid being
subject to the recapture tax. However, this waiver applies to
all periods of coverage (regardless of the tax year of the
coverage) for which the individual might be entitled to the
subsidy. The premium subsidy for any period of coverage cannot
later be claimed as a tax credit or otherwise be recovered,
even if the individual later determines that the income
threshold was not exceeded for a relevant tax year. This waiver
is made separately by each qualified beneficiary (who could be
an assistance eligible individual) with respect to a covered
employee.
An assistance eligible individual can be any qualified
beneficiary associated with the relevant covered employee
(e.g., a dependent of an employee who is covered immediately
prior to a qualifying event), and such qualified beneficiary
can independently elect COBRA (as provided under present law
COBRA rules) and independently receive a subsidy. Thus, the
subsidy for an assistance eligible individual continues after
an intervening death of the covered employee.
Under the provision, any subsidy provided is excludible
from the gross income of the covered employee and any
assistance eligible individuals. However, for purposes of
determining the gross income of the employer and any welfare
benefit plan of which the group health plan is a part, the
amount of the premium reduction is intended to be treated as an
employee contribution to the group health plan. Finally, under
the provision, notwithstanding any other provision of law, the
subsidy is not permitted to be considered as income or
resources in determining eligibility for, or the amount of
assistance or benefits under, any public benefit provided under
Federal or State law (including the law of any political
subdivision).
Eligible COBRA continuation coverage
Under the provision, continuation coverage that qualifies
for the subsidy is not limited to coverage required to be
offered under the Code's COBRA rules but also includes
continuation coverage required under State law that requires
continuation coverage comparable to the continuation coverage
required under the Code's COBRA rules for group health plans
not subject to those rules (e.g., a small employer plan) and
includes continuation coverage requirements that apply to
health plans maintained by the Federal government or a State
government. Comparable continuation coverage under State law
does not include every State law right to continue health
coverage, such as a right to continue coverage with no rules
that limit the maximum premium that can be charged with respect
to such coverage. To be comparable, the right generally must be
to continue substantially similar coverage as was provided
under the group health plan (or substantially similar coverage
as is provided to similarly situated beneficiaries) at a
monthly cost that is based on a specified percentage of the
group health plan's cost of providing such coverage.
The cost of coverage under any group health plan that is
subject to the Code's COBRA rules (or comparable State
requirements or continuation coverage requirement under health
plans maintained by the Federal government or any State
government) is eligible for the subsidy, except contributions
to a health flexible spending account offered under a cafeteria
plan within the meaning of section 125 of the Code.
A group health plan is permitted to provide a special
enrollment right to assistance-eligible individuals to allow
them to change coverage options under the plan in conjunction
with electing COBRA continuation coverage. Under this special
enrollment right, the assistance eligible individual must only
be offered the option to change to any coverage option offered
to employed workers that provides the same or lower health
insurance premiums than the individual's group health plan
coverage as of the date of the covered employee's qualifying
event. If the individual elects a different coverage option
under this special enrollment right in conjunction with
electing COBRA continuation coverage, this is the coverage that
must be provided for purposes of satisfying the COBRA
continuation coverage requirement. However the coverage plan
option into which the individual must be given the opportunity
to enroll under this special enrollment right does not include
the following: a coverage option providing only dental, vision,
counseling, or referral services (or a combination of the
foregoing); a health flexible spending account or health
reimbursement arrangement; or coverage for treatment that is
furnished in an on-site medical facility maintained by the
employer and that consists primarily of first-aid services,
prevention and wellness care, or similar care (or a combination
of such care).
This special enrollment right only allows a group health
plan to offer additional coverage options to assistance
eligible individuals and does not change the basic requirement
under Federal COBRA continuation coverage requirements that a
group health plan must allow an assistance eligible individual
to choose to continue with the coverage in which the individual
is enrolled as of the qualifying event.\262\ However, once the
election of the other coverage is made, it becomes COBRA
continuation coverage under the applicable COBRA continuation
provisions. Thus, for example, under the Federal COBRA
continuation coverage provisions, if a covered employee chooses
different coverage pursuant to being provided this option, the
different coverage elected must generally be permitted to be
continued for the applicable required period (generally 18
months or 36 months, absent an event that permits coverage to
be terminated under the Federal COBRA continuation provisions)
even though the premium subsidy is only for nine months.
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\262\ All references to ``Federal COBRA continuation coverage''
mean the COBRA continuation coverage provisions of the Code, ERISA, and
PHSA.
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Termination of eligibility for reduced premiums
The assistance eligible individual's eligibility for the
subsidy terminates with the first month beginning on or after
the earlier of (1) the date which is 9 months after the first
day of the first month for which the subsidy applies,\263\ (2)
the end of the maximum required period of continuation coverage
for the qualified beneficiary under the Code's COBRA rules or
the relevant State or Federal law (or regulation), or (3) the
date that the assistance eligible individual becomes eligible
for Medicare benefits under title XVIII of the Social Security
Act or health coverage under another group health plan
(including, for example, a group health plan maintained by the
new employer of the individual or a plan maintained by the
employer of the individual's spouse). However, eligibility for
coverage under another group health plan does not terminate
eligibility for the subsidy if the other group health plan
provides only dental, vision, counseling, or referral services
(or a combination of the foregoing), is a health flexible
spending account or health reimbursement arrangement, or is
coverage for treatment that is furnished in an on-site medical
facility maintained by the employer and that consists primarily
of first-aid services, prevention and wellness care, or similar
care (or a combination of such care).
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\263\ The provision was subsequently extended in sec. 101(b) of the
Department of Defense Appropriations Act, Pub. L. No. 111-118,
described in Part Twenty-One of this document.
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If a qualified beneficiary paying a reduced premium for
COBRA continuation coverage under this provision becomes
eligible for coverage under another group health plan or
Medicare, the provision requires the qualified beneficiary to
notify, in writing, the group health plan providing the COBRA
continuation coverage with the reduced premium of such
eligibility under the other plan or Medicare. The notification
by the assistance eligible individual must be provided to the
group health plan in the time and manner as is specified by the
Secretary of Labor. If an assistance eligible individual fails
to provide this notification at the required time and in the
required manner, and as a result the individual's COBRA
continuation coverage continues to be subsidized after the
termination of the individual's eligibility for such subsidy, a
penalty is imposed on the individual equal to 110 percent of
the subsidy provided after termination of eligibility.
This penalty only applies if the subsidy in the form of the
premium reduction is actually provided to a qualified
beneficiary for a month that the beneficiary is not eligible
for the reduction. Thus, for example, if a qualified
beneficiary becomes eligible for coverage under another group
health plan and stops paying the reduced COBRA continuation
premium, the penalty generally will not apply. As discussed
below, under the provision, the group health plan is reimbursed
for the subsidy for a month (65 percent of the amount of the
premium for the month) only after receipt of the qualified
beneficiary's portion (35 percent of the premium amount). Thus,
the penalty generally will only arise when the qualified
beneficiary continues to pay the reduced premium and does not
notify the group health plan providing COBRA continuation
coverage of the beneficiary's eligibility under another group
health plan or Medicare.
Special COBRA election opportunity
The provision provides a special 60 day election period for
a qualified beneficiary who is eligible for a reduced premium
and who has not elected COBRA continuation coverage as of the
date of enactment. The 60 day election period begins on the
date that notice is provided to the qualified beneficiary of
the special election period. However, this special election
period does not extend the period of COBRA continuation
coverage beyond the original maximum required period (generally
18 months after the qualifying event) and any COBRA
continuation coverage elected pursuant to this special election
period begins on the date of enactment and does not include any
period prior to that date. Thus, for example, if a covered
employee involuntarily terminated employment on September 10,
2008, but did not elect COBRA continuation coverage and was not
eligible for coverage under another group health plan, the
employee would have 60 days after date of notification of this
new election right to elect the coverage and receive the
subsidy. If the employee made the election, the coverage would
begin with the date of enactment and would not include any
period prior to that date. However, the coverage would not be
required to last for 18 months. Instead the maximum required
COBRA continuation coverage period would end not later than 18
months after September 10, 2008. This special COBRA election
opportunity includes a qualified beneficiary who elected COBRA
coverage but who is no longer enrolled on the date of
enactment, for example, because the beneficiary was unable to
continue paying the premium.
The special enrollment provision applies to a group health
plan that is subject to the COBRA continuation coverage
requirements of the Code, ERISA, Title 5 of the United States
Code (relating to plans maintained by the Federal government),
or the Public Health Service Act (``PHSA'').
With respect to an assistance eligible individual who
elects coverage pursuant to the special election period, the
period beginning on the date of the qualifying event and ending
with the day before the date of enactment is disregarded for
purposes of the rules that limit the group health plan from
imposing pre-existing condition limitations with respect to the
individual's coverage.\264\
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\264\ Section 9801 provides that a group health plan may impose a
pre-existing condition exclusion for no more than 12 months after a
participant or beneficiary's enrollment date. Such 12-month period must
be reduced by the aggregate period of creditable coverage (which
includes periods of coverage under another group health plan). A period
of creditable coverage can be disregarded if, after the coverage period
and before the enrollment date, there was a 63-day period during which
the individual was not covered under any creditable coverage. Similar
rules are provided under ERISA and PHSA.
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Reimbursement of group health plans
The provision provides that the entity to which premiums
are payable (determined under the applicable COBRA continuation
coverage requirement) \265\ shall be reimbursed by the amount
of the premium for COBRA continuation coverage that is not paid
by an assistance eligible individual on account of the premium
reduction. An entity is not eligible for subsidy reimbursement,
however, until the entity has received the reduced premium
payment from the assistance eligible individual. To the extent
that such entity has liability for income tax withholding from
wages \266\ or FICA taxes \267\ with respect to its employees,
the entity is reimbursed by treating the amount that is
reimbursable to the entity as a credit against its liability
for these payroll taxes.\268\ To the extent that such amount
exceeds the amount of the entity's liability for these payroll
taxes, the Secretary shall reimburse the entity for the excess
directly (i.e., a tax refund). The provision requires any
entity entitled to such reimbursement to submit such reports as
the Secretary of the Treasury may require, including an
attestation of the involuntary termination of employment of
each covered employee on the basis of whose termination
entitlement to reimbursement of premiums is claimed, and a
report of the amount of payroll taxes offset for a reporting
period and the estimated offsets of such taxes for the next
reporting period. This report is required to be provided at the
same time as the deposits of the payroll taxes would have been
required, absent the offset, or such times as the Secretary
specifies.
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\265\ Applicable continuation coverage that qualifies for the
subsidy and thus for reimbursement is not limited to coverage required
to be offered under the Code's COBRA rules but also includes
continuation coverage required under State law that requires
continuation coverage comparable to the continuation coverage required
under the Code's COBRA rules for group health plans not subject to
those rules (e.g., a small employer plan) and includes continuation
coverage requirements that apply to health plans maintained by the
Federal government or a State government. The person to whom the
reimbursement is payable is either (1) the multiemployer group health
plan, (2) the employer maintaining the group health plan subject to
Federal COBRA continuation coverage requirements, and (3) the insurer
providing coverage under an insured plan.
\266\ Sec. 3401.
\267\ Sec. 3102 (relating to FICA taxes applicable to employees)
and sec. 3111 (relating to FICA taxes applicable to employers).
\268\ In determining any amount transferred or appropriated to any
fund under the Social Security Act, amounts credited against an
employer's payroll tax obligations pursuant to the provision shall not
be taken into account.
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Overstatement of reimbursement is a payroll tax violation.
For example, IRS can assert appropriate penalties for failing
to truthfully account for the reimbursement. However, it is not
intended that any portion of the reimbursement is taken into
account when determining the amount of any penalty to be
imposed against any person, required to collect, truthfully
account for, and pay over any tax under section 6672 of the
Code.
It is intended that reimbursement not be mirrored in the
U.S. possessions that have mirror income tax codes (the
Commonwealth of the Northern Mariana Islands, Guam, and the
Virgin Islands). Rather, the intent of Congress is that
reimbursement will have direct application to persons in those
possessions. Moreover, it is intended that income tax
withholding payable to the government of any possession
(American Samoa, the Commonwealth of the Northern Mariana
Islands, the Commonwealth of Puerto Rico, Guam, or the Virgin
Islands) (in contrast with FICA withholding payable to the U.S.
Treasury) will not be reduced as a result of the application of
this provision. A person liable for both FICA withholding
payable to the U.S. Treasury and income tax withholding payable
to a possession government will be credited or refunded any
excess of (1) the amount of FICA taxes treated as paid under
the reimbursement rule of the provision over (2) the amount of
the person's liability for those FICA taxes.
Notice requirements
The notice of COBRA continuation coverage that a plan
administrator is required to provide to qualified beneficiaries
with respect to a qualifying event under present law must
contain, under the provision, additional information including,
for example, information about the qualified beneficiary's
right to the premium reduction (and subsidy) and the conditions
on the subsidy, and a description of the obligation of the
qualified beneficiary to notify the group health plan of
eligibility under another group health plan or eligibility for
Medicare benefits under title XVIII of the Social Security Act,
and the penalty for failure to provide this notification. The
provision also requires a new notice to be given to qualified
beneficiaries entitled to a special election period after
enactment. A violation of the new notice requirements is also a
violation of the notice requirements of the underlying COBRA
provision. The new notice must be provided to all individuals
who terminated employment during the applicable time period,
and not just to individuals who were involuntarily terminated.
In the case of group health plans that are not subject to
the COBRA continuation coverage requirements of the Code,
ERISA, Title 5 of the United States Code (relating to plans
maintained by the Federal government), or PHSA, the provision
requires that notice be given to the relevant employees and
beneficiaries as well, as specified by the Secretary of Labor.
Within 30 days after enactment, the Secretary of Labor is
directed to provide model language for the additional
notification required under the provision.
The provision also provides an expedited 15-day review
process by the Secretary of Labor or Health or the Secretary of
Health and Human Services (both in consultation with the
Secretary of the Treasury), under which an individual may
request review of a denial of treatment as an assistance
eligible individual by a group health plan. It is the intent of
Congress to give the Secretaries the flexibility necessary to
make determinations within 15 business days based upon evidence
they believe, in their discretion, to be appropriate.
Additionally, if an individual is denied treatment as an
assistance eligible individual and also submits a claim for
benefits to the plan that would be denied by reason of not
being eligible for Federal COBRA continuation coverage (or
failure to pay full premiums), the individual is eligible to
proceed with expedited review irrespective of any claims for
benefits that may be pending or subject to review under the
provisions of ERISA 503. Either Secretary's determination upon
review is de novo and is the final determination of such
Secretary.
Regulatory authority
The provision provides authority to the Secretary of the
Treasury to issue regulations or other guidance as may be
necessary or appropriate to carry out the provision, including
any reporting requirements or the establishment of other
methods for verifying the correct amounts of payments and
credits under the provision. For example, the Secretary of the
Treasury might require verification on the return of an
assistance eligible individual who is the covered employee that
the individual's termination of employment was involuntary. The
provision directs the Secretary of the Treasury to issue
guidance or regulations addressing the reimbursement of the
subsidy in the case of a multiemployer group health plan. The
provision also provides authority to the Secretary of the
Treasury to promulgate rules, procedures, regulations, and
other guidance as is necessary and appropriate to prevent fraud
and abuse in the subsidy program, including the employment tax
offset mechanism.
Reports
The provision requires the Secretary of the Treasury to
submit an interim and a final report regarding the
implementation of the premium reduction provision. The interim
report is to include information about the number of
individuals receiving assistance, and the total amount of
expenditures incurred, as of the date of the report. The final
report, to be issued as soon as practicable after the last
period of COBRA continuation coverage for which premiums are
provided, is to include similar information as provided in the
interim report, with the addition of information about the
average dollar amount (monthly and annually) of premium
reductions provided to such individuals. The reports are to be
given to the Committee on Ways and Means, the Committee on
Energy and Commerce, the Committee on Health Education, Labor
and Pensions and the Committee on Finance.
Effective Date
The provision is effective for periods of coverage
beginning after the date of enactment (February 17, 2009). In
addition, specific rules are provided in the case of an
assistance eligible individual who pays 100 percent of the
premium required for COBRA continuation coverage for any
coverage period during the 60-day period beginning on the first
day of the first coverage period after the date of enactment.
B. Modify the Health Coverage Tax Credit (secs. 1899-1899L of the Act
and secs. 35, 4980B, 7527, and 9801 of the Code)
Present Law
In general
Under the Trade Act of 2002,\269\ in the case of taxpayers
who are eligible individuals, a refundable tax credit is
provided for 65 percent of the taxpayer's premiums for
qualified health insurance of the taxpayer and qualifying
family members for each eligible coverage month beginning in
the taxable year. The credit is commonly referred to as the
health coverage tax credit (``HCTC''). The credit is available
only with respect to amounts paid by the taxpayer. The credit
is available on an advance basis.\270\
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\269\ Pub. L. No. 107-210 (2002).
\270\ An individual is eligible for the advance payment of the
credit once a qualified health insurance costs credit eligibility
certificate is in effect. Sec. 7527.
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Qualifying family members are the taxpayer's spouse and any
dependent of the taxpayer with respect to whom the taxpayer is
entitled to claim a dependency exemption. Any individual who
has other specified coverage is not a qualifying family member.
Persons eligible for the credit
Eligibility for the credit is determined on a monthly
basis. In general, an eligible coverage month is any month if,
as of the first day of the month, the taxpayer (1) is an
eligible individual, (2) is covered by qualified health
insurance, (3) does not have other specified coverage, and (4)
is not imprisoned under Federal, State, or local
authority.\271\ In the case of a joint return, the eligibility
requirements are met if at least one spouse satisfies the
requirements.
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\271\ An eligible month must begin after November 4, 2002. This
date is 90 days after the date of enactment of the Trade Act of 2002,
Pub. L. No. 107-210, which was August 6, 2002.
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An eligible individual is an individual who is (1) an
eligible Trade Adjustment Assistance (``TAA'') recipient, (2)
an eligible alternative TAA recipient, or (3) an eligible
Pension Benefit Guaranty Corporation (``PBGC'') pension
recipient.
An individual is an eligible TAA recipient during any month
if the individual (1) is receiving for any day of such month a
trade readjustment allowance \272\ or who would be eligible to
receive such an allowance but for the requirement that the
individual exhaust unemployment benefits before being eligible
to receive an allowance and (2) with respect to such allowance,
is covered under a certification issued under subchapter A or D
of chapter 2 of title II of the Trade Act of 1974. An
individual is treated as an eligible TAA recipient during the
first month that such individual would otherwise cease to be an
eligible TAA recipient.
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\272\ The eligibility rules and conditions for such an allowance
are specified in chapter 2 of title II of the Trade Act of 1974. Among
other requirements, payment of a trade readjustment allowance is
conditioned upon the individual enrolling in certain training programs
or receiving a waiver of training requirements.
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An individual is an eligible alternative TAA recipient
during any month if the individual (1) is a worker described in
section 246(a)(3)(B) of the Trade Act of 1974 who is
participating in the program established under section
246(a)(1) of such Act, and (2) is receiving a benefit for such
month under section 246(a)(2) of such Act. An individual is
treated as an eligible alternative TAA recipient during the
first month that such individual would otherwise cease to be an
eligible TAA recipient.
An individual is a PBGC pension recipient for any month if
he or she (1) is age 55 or over as of the first day of the
month, and (2) is receiving a benefit any portion of which is
paid by the PBGC. The IRS has interpreted the definition of
PBGC pension recipient to also include certain alternative
recipients and recipients who have received certain lump-sum
payments on or after August 6, 2002. A person is not an
eligible individual if he or she may be claimed as a dependent
on another person's tax return.
An otherwise eligible taxpayer is not eligible for the
credit for a month if, as of the first day of the month, the
individual has other specified coverage. Other specified
coverage is (1) coverage under any insurance which constitutes
medical care (except for insurance substantially all of the
coverage of which is for excepted benefits) \273\ maintained by
an employer (or former employer) if at least 50 percent of the
cost of the coverage is paid by an employer \274\ (or former
employer) of the individual or his or her spouse or (2)
coverage under certain governmental health programs.
Specifically, an individual is not eligible for the credit if,
as of the first day of the month, the individual is (1)
entitled to benefits under Medicare Part A, enrolled in
Medicare Part B, or enrolled in Medicaid or SCHIP, (2) enrolled
in a health benefits plan under the Federal Employees Health
Benefit Plan, or (3) entitled to receive benefits under chapter
55 of title 10 of the United States Code (relating to military
personnel). An individual is not considered to be enrolled in
Medicaid solely by reason of receiving immunizations.
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\273\ Excepted benefits are: (1) coverage only for accident or
disability income or any combination thereof; (2) coverage issued as a
supplement to liability insurance; (3) liability insurance, including
general liability insurance and automobile liability insurance; (4)
worker's compensation or similar insurance; (5) automobile medical
payment insurance; (6) credit-only insurance; (7) coverage for on-site
medical clinics; (8) other insurance coverage similar to the coverages
in (1)-(7) specified in regulations under which benefits for medical
care are secondary or incidental to other insurance benefits; (9)
limited scope dental or vision benefits; (10) benefits for long-term
care, nursing home care, home health care, community-based care, or any
combination thereof; and (11) other benefits similar to those in (9)
and (10) as specified in regulations; (12) coverage only for a
specified disease or illness; (13) hospital indemnity or other fixed
indemnity insurance; and (14) Medicare supplemental insurance.
\274\ An amount is considered paid by the employer if it is
excludable from income. Thus, for example, amounts paid for health
coverage on a salary reduction basis under an employer plan are
considered paid by the employer. A rule aggregating plans of the same
employer applies in determining whether the employer pays at least 50
percent of the cost of coverage.
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A special rule applies with respect to alternative TAA
recipients. For eligible alternative TAA recipients, an
individual has other specified coverage if the individual is
(1) eligible for coverage under any qualified health insurance
(other than coverage under a COBRA continuation provision,
State-based continuation coverage, or coverage through certain
State arrangements) under which at least 50 percent of the cost
of coverage is paid or incurred by an employer of the taxpayer
or the taxpayer's spouse or (2) covered under any such
qualified health insurance under which any portion of the cost
of coverage is paid or incurred by an employer of the taxpayer
or the taxpayer's spouse.
Qualified health insurance
Qualified health insurance eligible for the credit is: (1)
COBRA continuation \275\ coverage; (2) State-based continuation
coverage provided by the State under a State law that requires
such coverage; (3) coverage offered through a qualified State
high risk pool; (4) coverage under a health insurance program
offered to State employees or a comparable program; (5)
coverage through an arrangement entered into by a State and a
group health plan, an issuer of health insurance coverage, an
administrator, or an employer; (6) coverage offered through a
State arrangement with a private sector health care coverage
purchasing pool; (7) coverage under a State-operated health
plan that does not receive any Federal financial participation;
(8) coverage under a group health plan that is available
through the employment of the eligible individual's spouse; and
(9) coverage under individual health insurance if the eligible
individual was covered under individual health insurance during
the entire 30-day period that ends on the date the individual
became separated from the employment which qualified the
individual for the TAA allowance, the benefit for an eligible
alternative TAA recipient, or a pension benefit from the PBGC,
whichever applies.\276\
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\275\ COBRA continuation is defined by section 9832(d)(1).
\276\ For this purpose, ``individual health insurance'' means any
insurance which constitutes medical care offered to individuals other
than in connection with a group health plan. Such term does not include
Federal- or State-based health insurance coverage.
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Qualified health insurance does not include any State-based
coverage (i.e., coverage described in (2)-(7) in the preceding
paragraph), unless the State has elected to have such coverage
treated as qualified health insurance and such coverage meets
certain requirements.\277\ Such State coverage must provide
that each qualifying individual is guaranteed enrollment if the
individual pays the premium for enrollment or provides a
qualified health insurance costs eligibility certificate and
pays the remainder of the premium. In addition, the State-based
coverage cannot impose any pre-existing condition limitation
with respect to qualifying individuals. State-based coverage
cannot require a qualifying individual to pay a premium or
contribution that is greater than the premium or contribution
for a similarly situated individual who is not a qualified
individual. Finally, benefits under the State-based coverage
must be the same as (or substantially similar to) benefits
provided to similarly situated individuals who are not
qualifying individuals.
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\277\ For guidance on how a State elects a health program to be
qualified health insurance for purposes of the credit, see Rev. Proc.
2004-12, 2004-1 C.B. 528.
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A qualifying individual is an eligible individual who seeks
to enroll in the State-based coverage and who has aggregate
periods of creditable coverage \278\ of three months or longer,
does not have other specified coverage, and who is not
imprisoned. In general terms, creditable coverage includes
health care coverage without a gap of more than 63 days.
Therefore, if an individual's qualifying coverage were
terminated more than 63 days before the individual enrolled in
the State-based coverage, the individual would not be a
qualifying individual and would not be entitled to the State-
based protections. A qualifying individual also includes
qualified family members of such an eligible individual.
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\278\ Creditable coverage is determined under section 9801(c) of
the Health Insurance Portability and Accountability Act, Pub. L. No.
104-191.
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Qualified health insurance does not include coverage under
a flexible spending or similar arrangement or any insurance if
substantially all of the coverage is for excepted benefits.
Other rules
Amounts taken into account in determining the credit may
not be taken into account in determining the amount allowable
under the itemized deduction for medical expenses or the
deduction for health insurance expenses of self-employed
individuals. Amounts distributed from a medical savings account
or health savings accounts are not eligible for the credit. The
amount of the credit available through filing a tax return is
reduced by any credit received on an advance basis. Married
taxpayers filing separate returns are eligible for the credit;
however, if both spouses are eligible individuals and the
spouses file separate returns, then the spouse of the taxpayer
is not a qualifying family member.
The Secretary of the Treasury is authorized to prescribe
such regulations and other guidance as may be necessary or
appropriate to carry out the credit provision.
COBRA
The Consolidated Omnibus Reconciliation Act of 1985
(``COBRA'') requires that a group health plan must offer
continuation coverage to qualified beneficiaries in the case of
a qualifying event. An excise tax under the Code applies on the
failure of a group health plan to meet the requirement.\279\
Qualifying events include the death of the covered employee,
termination of the covered employee's employment, divorce or
legal separation of the covered employee, and certain
bankruptcy proceedings of the employer. In the case of
termination from employment, the coverage must be extended for
a period of not less than 18 months. In certain other cases,
coverage must be extended for a period of not less than 36
months. Under such period of continuation coverage, the plan
may require payment of a premium by the beneficiary of up to
102 percent of the applicable premium for the period.
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\279\ Sec. 4980B.
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Explanation of Provision \280\
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\280\ The provision was subsequently amended by sections 111-118 of
the Omnibus Trade Act of 2010, Pub. L. No. 111-344, described in Part
Eighteen of this document.
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Increase in credit percentage amount
The provision increases the amount of the HCTC to 80
percent of the taxpayer's premiums for qualified health
insurance of the taxpayer and qualifying family members.
Effective date.--The provision is effective for coverage
months beginning on or after the first day of the first month
beginning 60 days after date of enactment. The increased credit
rate does not apply to months beginning after December 31,
2010.
Payment for monthly premiums paid prior to commencement of advance
payment of credit
The provision provides that the Secretary of the Treasury
shall make one or more retroactive payments on behalf of
certified individuals equal to 80 percent of the premiums for
coverage of the taxpayer and qualifying family members for
qualified health insurance for eligible coverage months
occurring prior to the first month for which an advance payment
is made on behalf of such individual. The amount of the payment
must be reduced by the amount of any payment made to the
taxpayer under a national emergency grant pursuant to section
173(f) of the Workforce Investment Act of 1998 for a taxable
year including such eligible coverage months.
Effective date.--The provision is effective for eligible
coverage months beginning after December 31, 2008. The
Secretary of the Treasury, however, is not required to make any
payments under the provision until after the date that is six
months after the date of enactment. The provision does not
apply to months beginning after December 31, 2010.
TAA recipients not enrolled in training programs eligible for credit
The provision modifies the definition of an eligible TAA
recipient to eliminate the requirement that an individual be
enrolled in training in the case of an individual receiving
unemployment compensation. In addition, the provision clarifies
that the definition of an eligible TAA recipient includes an
individual who would be eligible to receive a trade
readjustment allowance except that the individual is in a break
in training that exceeds the period specified in section 233(e)
of the Trade Act of 1974, but is within the period for
receiving the allowance.
Effective date.--The provision is effective for months
beginning after the date of enactment in taxable years ending
after such date. The provision does not apply to months
beginning after December 31, 2010.
TAA pre-certification period rule for purposes of determining whether
there is a 63-day lapse in creditable coverage
Under the provision, in determining if there has been a 63-
day lapse in coverage (which determines, in part, if the State-
based consumer protections apply), in the case of a TAA-
eligible individual, the period beginning on the date the
individual has a TAA-related loss of coverage and ending on the
date which is seven days after the date of issuance by the
Secretary (or by any person or entity designated by the
Secretary) of a qualified health insurance costs credit
eligibility certificate (under section 7527) for such
individual is not taken into account.
Effective date.--The provision is effective for plan years
beginning after the date of enactment. The provision does not
apply to plan years beginning after December 31, 2010.
Continued qualification of family members after certain events
The provision provides continued eligibility for the credit
for family members after certain events. The rule applies in
the case of (1) the eligible individual becoming entitled to
Medicare, (2) divorce, and (3) death.
In the case of a month which would be an eligible coverage
month with respect to an eligible individual except that the
individual is entitled to benefits under Medicare Part A or
enrolled in Medicare Part B, the month is treated as an
eligible coverage month with respect to the individual solely
for purposes of determining the amount of the credit with
respect to qualifying family members (i.e., the credit is
allowed for expenses paid for qualifying family members after
the eligible individual is eligible for Medicare). Such
treatment applies only with respect to the first 24 months
after the eligible individual is first entitled to benefits
under Medicare Part A or enrolled in Medicare Part B.
In the case of the finalization of a divorce between an
eligible individual and the individual's spouse, the spouse is
treated as an eligible individual for a period of 24 months
beginning with the date of the finalization of the divorce.
Under such rule, the only family members that may be taken into
account with respect to the spouse as qualifying family members
are those individuals who were qualifying family members
immediately before such divorce finalization.
In the case of the death of an eligible individual, the
spouse of such individual (determined at the time of death) is
treated as an eligible individual for a period of 24 months
beginning with the date of death. Under such rule, the only
qualifying family members that may be taken into account with
respect to the spouse are those individuals who were qualifying
family members immediately before such death. In addition, any
individual who was a qualifying family member of the decedent
immediately before such death \281\ is treated as an eligible
individual for a period of 24 months beginning with the date of
death, except that in determining the amount of the HCTC only
such qualifying family member may be taken into account.
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\281\ In the case of a dependent, the rule applies to the taxpayer
to whom the personal exemption deduction under section 151 is
allowable.
---------------------------------------------------------------------------
Effective date.--The provision is effective for months
beginning after December 31, 2009. The provision does not apply
to months that begin after December 31, 2010.
Alignment of COBRA coverage
The maximum required COBRA continuation coverage period is
modified by the provision with respect to certain individuals
whose qualifying event is a termination of employment or a
reduction in hours. First, in the case of such a qualifying
event with respect to a covered employee who has a
nonforfeitable right to a benefit any portion of which is paid
by the PBGC, the maximum coverage period must end not earlier
than the date of death of the covered employee (or in the case
of the surviving spouse or dependent children of the covered
employee, not earlier than 24 months after the date of death of
the covered employee). Second, in the case of such a qualifying
event where the covered employee is a TAA eligible individual
as of the date that the maximum coverage period would otherwise
terminate, the maximum coverage period must extend during the
period that the individual is a TAA eligible individual.
Effective date.--The provision is effective for periods of
coverage that would, without regard to the provision, end on or
after the date of enactment, provided that the provision does
not extend any periods of coverage beyond December 31, 2010.
Addition of coverage through voluntary employees' beneficiary
associations
The provision expands the definition of qualified health
insurance by including coverage under an employee benefit plan
funded by a voluntary employees' beneficiary association
(``VEBA,'' as defined in section 501(c)(9)) established
pursuant to an order of a bankruptcy court, or by agreement
with an authorized representative, as provided in section 1114
of title 11, United States Code.
Effective date.--The provision is effective on the date of
enactment. The provision does not apply with respect to
certificates of eligibility issued after December 31, 2010.
Notice requirements
The provision requires that the qualified health insurance
costs credit eligibility certificate provided in connection
with the advance payment of the HCTC must include (1) the name,
address, and telephone number of the State office or offices
responsible for providing the individual with assistance with
enrollment in qualified health insurance, (2) a list of
coverage options that are treated as qualified health insurance
by the State in which the individual resides, (3) in the case
of a TAA-eligible individual, a statement informing the
individual that the individual has 63 days from the date that
is seven days after the issuance of such certificate to enroll
in such insurance without a lapse in creditable coverage, and
(4) such other information as the Secretary may provide.
Effective date.--The provision is effective for
certificates issued after the date that is six months after the
date of enactment. The provision does not apply to months
beginning after December 31, 2010.
Survey and report on enhanced health coverage tax credit program
Survey
The provision requires that the Secretary of the Treasury
must conduct a biennial survey of eligible individuals
containing the following information:
1. In the case of eligible individuals receiving the
HCTC (including those participating in the advance
payment program (the ``HCTC program'')) (A) demographic
information of such individuals, including income and
education levels, (B) satisfaction of such individuals
with the enrollment process in the HCTC program, (C)
satisfaction of such individuals with available health
coverage options under the credit, including level of
premiums, benefits, deductibles, cost-sharing
requirements, and the adequacy of provider networks,
and (D) any other information that the Secretary
determines is appropriate.
2. In the case of eligible individuals not receiving
the HCTC (A) demographic information on each
individual, including income and education levels, (B)
whether the individual was aware of the HCTC or the
HCTC program, (C) the reasons the individual has not
enrolled in the HCTC program, including whether such
reasons include the burden of process of enrollment and
the affordability of coverage, (D) whether the
individual has health insurance coverage, and, if so,
the source of such coverage, and (E) any other
information that the Secretary determines is
appropriate.
Not later than December 31 of each year in which a survey
described above is conducted (beginning in 2010), the Secretary
of the Treasury must report to the Committee on Finance and the
Committee on Health, Education, Labor, and Pensions of the
Senate and the Committee on Ways and Means and the Committee on
Education and Labor of the House of Representatives the
findings of the most recent survey.
Report
Not later than October 1 of each year (beginning in 2010),
the Secretary of the Treasury must report to the Committee on
Finance and the Committee on Health, Education, Labor, and
Pensions of the Senate and the Committee on Ways and Means and
the Committee on Education and Labor of the House of
Representatives the following information with respect to the
most recent taxable year ending before such date:
1. In each State and nationally (A) the total number
of eligible individuals and the number of eligible
individuals receiving the HCTC, (B) the total number of
such eligible individuals who receive an advance
payment of the HCTC through the HCTC program, (C) the
average length of the time period of participation of
eligible individuals in the HCTC program, and (D) the
total number of participating eligible individuals in
the HCTC program who are enrolled in each category of
qualified health insurance with respect to each
category of eligible individuals.
2. In each State and nationality, an analysis of (A)
the range of monthly health insurance premiums, for
self-only coverage and for family coverage, for
individuals receiving the benefit of the HCTC and (B)
the average and median monthly health insurance
premiums, for self-only coverage and for family
coverage, for individuals receiving the HCTC with
respect to each category of qualified health insurance.
3. In each State and nationally, an analysis of the
following information with respect to the health
insurance coverage of individuals receiving the HCTC
who are enrolled in State-based coverage: (A)
deductible amounts, (B) other out-of-pocket cost-
sharing amounts, and (C) a description of any annual or
lifetime limits on coverage or any other significant
limits on coverage services or benefits. The
information must be reported with respect to each
category of coverage.
4. In each State and nationally, the gender and
average age of eligible individuals who receive the
HCTC in each category of qualified health insurance
with respect to each category of eligible individuals.
5. The steps taken by the Secretary of the Treasury
to increase the participation rates in the HCTC program
among eligible individuals, including outreach and
enrollment activities.
6. The cost of administering the HCTC program by
function, including the cost of subcontractors, and
recommendations on ways to reduce the administrative
costs, including recommended statutory changes.
7. After consultation with the Secretary of Labor,
the number of States applying for and receiving
national emergency grants under section 173(f) of the
Workforce Investment Act of 1998, the activities funded
by such grants on a State-by-State basis, and the time
necessary for application approval of such grants.
Other non-revenue provisions
The provision also authorizes appropriations for
implementation of the revenue provisions of the provision and
provides grants under the Workforce Investment Act of 1998 for
purposes related to the HCTC.
GAO study
The provision requires the Comptroller General of the
United States to conduct a study regarding the HCTC to be
submitted to Congress no later than March 31, 2010. The study
is to include an analysis of (1) the administrative costs of
the Federal government with respect to the credit and the
advance payment of the credit and of providers of qualified
health insurance with respect to providing such insurance to
eligible individuals and their families, (2) the health status
and relative risk status of eligible individuals and qualified
family members covered under such insurance, (3) participation
in the credit and the advance payment of the credit by eligible
individuals and their qualifying family members, including the
reasons why such individuals did or did not participate and the
effects of the provision on participation, and (4) the extent
to which eligible individuals and their qualifying family
members obtained health insurance other than qualifying
insurance or went without insurance coverage. The provision
provides the Comptroller General access to the records within
the possession or control of providers of qualified health
insurance if determined relevant to the study. The Comptroller
General may not disclose the identity of any provider of
qualified health insurance or eligible individual in making
information available to the public.
Effective Date
The provision is generally effective upon the date of
enactment (February 17, 2009), except as otherwise noted above.
PART THREE: AIRPORT AND AIRWAY TRUST FUND EXTENSIONS (PUBLIC LAWS 111-
12,\282\ 111-69,\283\ 111-116,\284\ 111-153,\285\ 111-161,\286\ 111-
197,\287\ 111-216,\288\ 111-249,\289\ AND 111-329 \290\)
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\282\ H.R. 1512. The House passed H.R. 1512 on March 18, 2009. The
bill passed the Senate without amendment on March 18, 2009. The
President signed the bill on March 30, 2009.
\283\ H.R. 3607. The House passed H.R. 3607 on September 23, 2009.
The bill passed the Senate without amendment on September 24, 2009. the
President signed the bill on October 1, 2009.
\284\ H.R. 4217. The House passed H.R. 4217 on December 8, 2009.
The bill passed the Senate without amendment on December 10, 2009. The
President signed the bill on December 16, 2009.
\285\ H.R. 4957. The House passed H.R. 4957 on March 25, 2010. The
bill passed the Senate without amendment on March 26, 2010. The
President signed the bill on March 31, 2010.
\286\ H.R. 5147. The House passed H.R. 5147 on April 28, 2010. The
bill passed the Senate without amendment on April 28, 2010. The
President signed the bill on April 30, 2010.
\287\ H.R. 5611. The House passed H.R. 5611 on June 29, 2010. The
bill passed the Senate without amendment on June 30, 2010. The
President signed the bill on July 2, 2010.
\288\ H.R. 5900. The House passed H.R. 5900 on July 29, 2010. The
bill passed the Senate without amendment on July 30, 2010. The
President signed the bill on August 1, 2010.
\289\ H.R. 6190. The House passed H.R. 6190 on September 23, 2010.
The bill passed the Senate without amendment on September 24, 2010. The
President signed the bill on September 30, 2010.
\290\ H.R. 6473. The House passed H.R. 6473 on December 2, 2010.
The bill passed the Senate without amendment on December 18, 2010. The
President signed the bill on December 22, 2010.
---------------------------------------------------------------------------
Present Law
The Airport and Airway Trust Fund provides funding for
capital improvements to the U.S. airport and airway system and
funding for the Federal Aviation Administration (``FAA''),
among other purposes. The excise taxes imposed to finance the
Airport and Airway Trust Fund are:
ticket taxes imposed on commercial, domestic
passenger transportation by air;
a use of international air facilities tax;
a cargo tax imposed on freight
transportation by air;
fuels taxes imposed on gasoline used in
commercial aviation and noncommercial aviation; and
fuels taxes imposed on jet fuel (kerosene)
and other aviation fuels used in commercial aviation
and noncommercial aviation.
In general, except for 4.3 cents of the fuel tax rates, the
excise taxes dedicated to the Airport and Airway Trust Fund did
not apply after March 31, 2009. Expenditure authority for the
Airport and Airway Trust Fund was scheduled to terminate after
March 31, 2009.
Explanation of Provisions
Pub. L. No. 111-12 (the ``Federal Aviation Administration Extension Act
of 2009'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through September 30,
2009.
Pub. L. No. 111-69 (``Fiscal Year 2010 Federal Aviation Administration
Extension Act'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through December 31,
2009.
Pub. L. No. 111-116 (``Fiscal Year 2010 Federal Aviation Administration
Extension Act, Part II'')
The provisions extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through March 31, 2010.
Pub. L. No. 111-153 (the ``Federal Aviation Administration Extension
Act of 2010'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through April 30, 2010.
Pub. L. No. 111-161 (the ``Airport and Airway Extension Act of 2010'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through July 3, 2010.
Pub. L. No. 111-197 (the ``Airport and Airway Extension Act of 2010,
Part II'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through August 1, 2010.
Pub. L. No. 111-216 (the ``Airline Safety and Federal Aviation
Administration Extension Act of 2010'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through September 30,
2010.
Pub. L. No. 111-249 (the ``Airport and Airway Extension Act of 2010,
Part III'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through December 31,
2010.
Pub. L. No. 111-329 (the ``Airport and Airway Extension Act of 2010,
Part IV'')
The provision extended the Airport and Airway Trust Fund
excise taxes and expenditure authority through March 31, 2011.
PART FOUR: HIGHWAY TRUST FUND (PUBLIC LAWS 111-46,\291\ 111-68,\292\
111-118,\293\ 111-144,\294\ 111-147,\295\ AND 111-322 \296\)
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\291\ H.R. 3357. The bill passed the House on July 29, 2009. The
Senate passed the bill on July 30, 2009, without amendment. The
President signed the bill on August 7, 2009.
\292\ H.R. 2918. The bill passed the House on June 19, 2009. The
Senate passed the bill with an amendment on July 6, 2009. A conference
report was filed on September 24, 2009 (H.R. Rep. No. 111-265) and
passed the House on September 25, 2009, and the Senate on September 30,
2009. The President signed the bill on October 1, 2009.
\293\ H.R. 3326. The bill passed the House on July 30, 2009. The
Senate passed the bill with an amendment on October 6, 2009. The House
agreed to the Senate amendment with an amendment on December 16, 2009.
The Senate concurred in the House amendment to the Senate amendment on
December 19, 2009. The President signed the bill on December 19, 2009.
\294\ H.R. 4691. The bill passed the House on February 25, 2010.
The Senate passed the bill without amendment on March 2, 2010. The
President signed the bill on March 2, 2010.
\295\ H.R. 2847. The bill passed the House on June 18, 2009. The
Senate passed the bill with an amendment on November 5, 2009. The House
agreed to the Senate amendment with an amendment on December 16, 2009.
The Senate concurred in the House amendment to the Senate amendment
with an amendment on February 24, 2010. The House agreed to the Senate
amendment with an amendment to the House amendment to the Senate
amendment on March 4, 2010. The Senate concurred in the House amendment
to the Senate amendment to the House amendment to the Senate amendment
on March 17, 2010. The President signed the bill on March 18, 2010.
\296\ H.R. 3082. The bill passed the House on July 10, 2009. The
Senate passed the bill with an amendment on November 17, 2009. The
House agreed to the Senate Amendment with an amendment on December 8,
2010. The Senate concurred in the House amendment to the Senate
amendment with an amendment on December 21, 2010. The House agreed to
the Senate amendment to the House amendment to the Senate amendment on
December 21, 2010. The President signed the bill on December 22, 2010.
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A. Extension of Surface Transportation Act Expenditure Authority
Present Law
Under present law, the Internal Revenue Code (sec. 9503)
authorized expenditures (subject to appropriations) to be made
from the Highway Trust Fund generally through September 30,
2009, for purposes provided in specified authorizing
legislation as in effect on the date of enactment of the most
recent authorizing Act (the Safe, Accountable, Flexible,
Efficient Transportation Equity Act: A Legacy for Users
(``SAFETEA-LU'')).
Explanation of Provisions
Pub. L. No. 111-68 (the ``Continuing Appropriations Resolution of
2010'')
This provision extends the authority to make expenditures
(subject to appropriations) from the Highway Trust Fund through
October 31, 2009. The Act also updates the cross-references to
authorizing legislation to include expenditure purposes in this
Act as in effect on the date of enactment. It also extends the
expenditure authority for the Sport Fish Restoration and
Boating Trust Fund through October 31, 2009.
Effective Date
The provision is effective October 1, 2009.
Pub. L. No. 111-118 (the ``Department of Defense Appropriations Act of
2010'')
This provision extends the authority to make expenditures
(subject to appropriations) from the Highway Trust Fund (and
Sport Fish Restoration and Boating Trust Fund) through February
28, 2010.
Effective Date
The provision is effective October 1, 2009.
Pub. L. No. 111-144 (the ``Temporary Extension Act of 2010'')
This provision extends the authority to make expenditures
(subject to appropriations) from the Highway Trust Fund (and
Sport Fish Restoration and Boating Trust Fund) through March
28, 2010.
Effective Date
The provision is effective October 1, 2009.
Pub. L. No. 111-147 (the ``Hiring Incentives to Restore Employment
Act'') (sec. 445)
This provision extends the authority to make expenditures
(subject to appropriations) from the Highway Trust Fund (and
Sport Fish Restoration and Boating Trust Fund) through December
31, 2010. The Act also updates the cross-references to
authorizing legislation to include expenditure purposes in this
Act as in effect on the date of enactment.
Effective Date
The provision is effective September 30, 2009.
Pub. L. No. 111-322 (the ``Continuing Appropriations and Surface
Transportation Extensions Act, 2011'') (sec. 2401)
This provision extends the authority to make expenditures
(subject to appropriations) from the Highway Trust Fund (and
Sport Fish Restoration and Boating Trust Fund) through March 4,
2011. The Act also updates the cross-references to authorizing
legislation to include expenditure purposes in this Act as in
effect on the date of enactment.
Effective Date
The provision is effective December 31, 2010.
B. Highway Trust Fund Restoration
Present Law
Section 9004 of the Surface Transportation Revenue Act of
1998 (Title IX of the Transportation Equity Act for the 21st
Century) provided that the Highway Trust Fund will not earn
interest on unspent balances after September 30, 1998. Further,
the balance in excess of $8 billion in the Highway Account of
the Highway Trust Fund was cancelled on October 1, 1998 and
transferred to the General Fund.
Explanation of Provision
Pub. L. No. 111-46
The Act to restore funds to the Highway Trust Fund provided
that out of the money in the Treasury not otherwise
appropriated, $7,000,000,000 is appropriated to the Highway
Trust Fund.
Effective Date
The provision is effective on the date of enactment (August
7, 2009).
Pub. L. No. 111-147 (the ``Hiring Incentives to Restore Employment
Act'') (sec. 441, 442, 443, and 444)
The provision repeals the requirement that obligations held
by the Highway Trust Fund not be interest-bearing. The
provision permits amounts in the Trust Fund to be invested in
interest-bearing obligations of the United States and have the
interest be credited to, and form a part of, the Highway Trust
Fund. Thus, the Highway Trust Fund will accrue interest under
the provision. The Act also provides that out of money in the
Treasury not otherwise appropriated, $14,700,000,000 is
appropriated to the Highway Account in the Highway Trust Fund
and $4,800,000,000 is appropriated to the Mass Transit Account
in the Highway Trust Fund, and makes those amounts available
without fiscal year limitation. The Act terminated required
transfers from the Highway Trust Fund into the general fund for
certain repayments and credits, relating to amounts paid in
respect of gasoline used on farms, amounts paid in respect of
gasoline used for certain non-highway purposes or by local
transit systems, amounts relating to fuels not used for taxable
purposes, and income tax credits for certain uses of fuels.
Effective Date
The provision is generally effective on the date of
enactment (March 18, 2010). The provision terminating transfers
from the Highway Trust Fund is effective for transfers relating
to amounts paid and credits allowed after the date of
enactment.
PART FIVE: REVENUE PROVISIONS OF THE WORKER, HOMEOWNERSHIP, AND
BUSINESS ASSISTANCE ACT OF 2009 (PUBLIC LAW 111-92) \297\
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\297\ H.R. 3548. The bill passed the House on the suspension
calendar on September 22, 2009. The Senate passed the bill with an
amendment on November 4, 2009. The House agreed to the Senate amendment
on the suspension calendar on November 5, 2009. The President signed
the bill on November 6, 2009. For a technical explanation of the bill
prepared by the staff of the Joint Committee on Taxation, see Technical
Explanation of Certain Revenue Provisions of the ``Worker,
Homeownership, and Business Assistance Act of 2009'' (JCX 44-09),
November 3, 2009.
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A. Extension and Modification of First-Time Homebuyer Credit (secs. 11
and 12 of the Act and sec. 36 of the Code)
Present Law
In general
An individual who is a first-time homebuyer is allowed a
refundable tax credit equal to the lesser of $8,000 ($4,000 for
a married individual filing separately) or 10 percent of the
purchase price of a principal residence. The credit is allowed
for qualifying home purchases on or after April 9, 2008, and
before December 1, 2009.\298\
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\298\ For purchases before January 1, 2009, the dollar limits are
$7,500 ($3,750 for a married individual filing separately).
---------------------------------------------------------------------------
The credit phases out for individual taxpayers with
modified adjusted gross income between $75,000 and $95,000
($150,000 and $170,000 for joint filers) for the year of
purchase.
An individual is considered a first-time homebuyer if the
individual had no ownership interest in a principal residence
in the United States during the 3-year period prior to the
purchase of the home.
An election is provided to treat a residence purchased
after December 31, 2008, and before December 1, 2009, as
purchased on December 31, 2008, so that the credit may be
claimed on the 2008 income tax return.
No District of Columbia first-time homebuyer credit \299\
is allowed to any taxpayer with respect to the purchase of a
residence after December 31, 2008, and before December 1, 2009,
if the national first-time homebuyer credit is allowable to
such taxpayer (or the taxpayer's spouse) with respect to such
purchase.
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\299\ Sec. 1400C.
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Recapture
For homes purchased on or before December 31, 2008, the
credit is recaptured ratably over fifteen years with no
interest charge beginning in the second taxable year after the
taxable year in which the home is purchased. For example, if an
individual purchases a home in 2008, recapture commences with
the 2010 tax return. If the individual sells the home (or the
home ceases to be used as the principal residence of the
individual or the individual's spouse) prior to complete
recapture of the credit, the amount of any credit not
previously recaptured is due on the tax return for the year in
which the home is sold (or ceases to be used as the principal
residence).\300\ However, in the case of a sale to an unrelated
person, the amount recaptured may not exceed the amount of gain
from the sale of the residence. For this purpose, gain is
determined by reducing the basis of the residence by the amount
of the credit to the extent not previously recaptured. No
amount is recaptured after the death of an individual. In the
case of an involuntary conversion of the home, recapture is not
accelerated if a new principal residence is acquired within a
two-year period. In the case of a transfer of the residence to
a spouse or to a former spouse incident to divorce, the
transferee spouse (and not the transferor spouse) will be
responsible for any future recapture. Recapture does not apply
to a home purchased after December 31, 2008 that is treated (at
the election of the taxpayer) as purchased on December 31,
2008.
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\300\ If the individual sells the home (or the home ceases to be
used as the principal residence of the individual and the individual's
spouse) in the same taxable year the home is purchased, no credit is
allowed.
---------------------------------------------------------------------------
For homes purchased after December 31, 2008, and before
December 1, 2009, the credit is recaptured only if the taxpayer
disposes of the home (or the home otherwise ceases to be the
principal residence of the taxpayer) within 36 months from the
date of purchase.
Explanation of Provision \301\
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\301\ This provision was subsequently amended by section 2 of the
Homebuyer Assistance and Improvement Act of 2010, Pub. L. No. 111-98,
described in Part Ten of this document.
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Extension of application period
In general, the credit is extended to apply to a principal
residence purchased by the taxpayer before May 1, 2010. The
credit applies to the purchase of a principal residence before
July 1, 2010 by any taxpayer who enters into a written binding
contract before May 1, 2010, to close on the purchase of a
principal residence before July 1, 2010.
The waiver of recapture, except in the case of disposition
of the home (or the home otherwise ceases to be the principal
residence of the taxpayer) within 36 months from the date of
purchase, is extended to any purchase of a principal residence
after December 31, 2008.
The election to treat a purchase as occurring in a prior
year is modified. In the case of a purchase of a principal
residence after December 31, 2008, a taxpayer may elect to
treat the purchase as made on December 31 of the calendar year
preceding the purchase for purposes of claiming the credit on
the prior year's tax return.
No District of Columbia first-time homebuyer credit \302\
is allowed to any taxpayer with respect to the purchase of a
residence after December 31, 2008, if the national first-time
homebuyer credit is allowable to such taxpayer (or the
taxpayer's spouse) with respect to such purchase.
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\302\ Sec. 1400C.
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Long-time residents of the same principal residence
An individual (and, if married, the individual's spouse)
who has maintained the same principal residence for any five-
consecutive year period during the eight-year period ending on
the date of the purchase of a subsequent principal residence is
treated as a first-time homebuyer. The maximum allowable credit
for such taxpayers is $6,500 ($3,250 for a married individual
filing separately).
Limitations
The Act raises the income limitations to qualify for the
credit. The credit phases out for individual taxpayers with
modified adjusted gross income between $125,000 and $145,000
($225,000 and $245,000 for joint filers) for the year of
purchase.
No credit is allowed for the purchase of any residence if
the purchase price exceeds $800,000.
No credit is allowed unless the taxpayer is 18 years of age
as of the date of purchase. A taxpayer who is married is
treated as meeting the age requirement if the taxpayer or the
taxpayer's spouse meets the age requirement.
The definition of purchase excludes property acquired from
a person related to the person acquiring such property or the
spouse of the person acquiring the property, if married.
No credit is allowed to any taxpayer if the taxpayer is a
dependent of another taxpayer.
No credit is allowed unless the taxpayer attaches to the
relevant tax return a properly executed copy of the settlement
statement used to complete the purchase.
Waiver of recapture for individuals on qualified official extended duty
In the case of a disposition of principal residence by an
individual (or a cessation of use of the residence that
otherwise would cause recapture) after December 31, 2008, in
connection with Government orders received by the individual
(or the individual's spouse) for qualified official extended
duty service, no recapture applies by reason of the disposition
of the residence,\303\ and any 15-year recapture with respect
to a home acquired before January 1, 2009, ceases to apply in
the taxable year the disposition occurs.
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\303\ If the individual sells the home (or the home ceases to be
used as the principal residence of the individual and the individual's
spouse) in connection with such orders in the same taxable year the
home is purchased, the credit is allowable.
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Qualified official extended duty service means service on
official extended duty as a member of the uniformed services, a
member of the Foreign Service of the United States, or an
employee of the intelligence community.\304\
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\304\ These terms have the same meaning as under the provision for
exclusion of gain on the sale of certain principal residences (Sec.
121).
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Qualified official extended duty is any period of extended
duty while serving at a place of duty at least 50 miles away
from the taxpayer's principal residence or under orders
compelling residence in government furnished quarters. Extended
duty is defined as any period of duty pursuant to a call or
order to such duty for a period in excess of 90 days or for an
indefinite period.
The uniformed services include: (1) the Armed Forces (the
Army, Navy, Air Force, Marine Corps, and Coast Guard); (2) the
commissioned corps of the National Oceanic and Atmospheric
Administration; and (3) the commissioned corps of the Public
Health Service.
The term ``member of the Foreign Service of the United
States'' includes: (1) chiefs of mission; (2) ambassadors at
large; (3) members of the Senior Foreign Service; (4) Foreign
Service officers; and (5) Foreign Service personnel.
The term ``employee of the intelligence community'' means
an employee of the Office of the Director of National
Intelligence, the Central Intelligence Agency, the National
Security Agency, the Defense Intelligence Agency, the National
Geospatial-Intelligence Agency, or the National Reconnaissance
Office. The term also includes employment with: (1) any other
office within the Department of Defense for the collection of
specialized national intelligence through reconnaissance
programs; (2) any of the intelligence elements of the Army, the
Navy, the Air Force, the Marine Corps, the Federal Bureau of
Investigation, the Department of the Treasury, the Department
of Energy, and the Coast Guard; (3) the Bureau of Intelligence
and Research of the Department of State; and (4) the elements
of the Department of Homeland Security concerned with the
analyses of foreign intelligence information.
Extension of the first-time homebuyer credit for individuals on
qualified official extended duty outside of the United States
In the case of any individual (and, if married, the
individual's spouse) who serves on qualified official extended
duty service outside of the United States for at least 90 days
during the period beginning after December 31, 2008, and ending
before May 1, 2010, the expiration date of the first-time
homebuyer credit is extended for one year, through May 1, 2011
(July 1, 2011, in the case of an individual who enters into a
written binding contract before May 1, 2011, to close on the
purchase of a principal residence before July 1, 2011).
Mathematical error authority
The Act makes a number of changes to expand the definition
of mathematical or clerical error for purposes of
administration of the credit by the Internal Revenue Service
(``IRS''). The IRS may assess additional tax without issuance
of a notice of deficiency as otherwise required \305\ in the
case of: an omission of any increase in tax required by the
recapture provisions of the credit; information from the person
issuing the taxpayer identification number of the taxpayer that
indicates that the taxpayer does not meet the age requirement
of the credit; information provided to the Secretary by the
taxpayer on an income tax return for at least one of the two
preceding taxable years that is inconsistent with eligibility
for such credit; or, failure to attach to the return a properly
executed copy of the settlement statement used to complete the
purchase.
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\305\ Sec. 6213.
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Effective Date
The extension of the first-time homebuyer credit and
coordination with the first-time homebuyer credit for the
District of Columbia apply to residences purchased after
November 30, 2009.
Provisions relating to long-time residents of the same
principal residence, and income, purchase price, age, related
party, dependent, and documentation limitations apply for
purchases after the date of enactment.
The waiver of recapture provision applies to dispositions
and cessations after December 31, 2008.
The expansion of mathematical and clerical error authority
applies to returns for taxable years ending on or after April
9, 2008.
B. Five-Year Carryback of Operating Losses (sec. 13 of the Act and sec.
172 of the Code)
Present Law
In general
Under present law, a net operating loss (``NOL'') generally
means the amount by which a taxpayer's business deductions
exceed its gross income. In general, an NOL may be carried back
two years and carried over 20 years to offset taxable income in
such years.\306\ NOLs offset taxable income in the order of the
taxable years to which the NOL may be carried.\307\
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\306\ Sec. 172(b)(1)(A). Different carryback periods apply with
respect to NOLs arising in certain special circumstances.
\307\ Sec. 172(b)(2).
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For purposes of computing the alternative minimum tax
(``AMT''), a taxpayer's NOL deduction cannot reduce the
taxpayer's alternative minimum taxable income (``AMTI'') by
more than 90 percent of the AMTI.\308\
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\308\ Sec. 56(d).
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In the case of a life insurance company, present law allows
a deduction for the operations loss carryovers and carrybacks
to the taxable year, in lieu of the deduction for net operation
losses allowed to other corporations.\309\ A life insurance
company is permitted to treat a loss from operations (as
defined under section 810(c)) for any taxable year as an
operations loss carryback to each of the three taxable years
preceding the loss year and an operations loss carryover to
each of the 15 taxable years following the loss year.\310\
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\309\ Secs. 810, 805(a)(5).
\310\ Sec. 810(b)(1).
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Temporary rule for small business
Present law provides an eligible small business with an
election \311\ to increase the present-law carryback period for
an ``applicable 2008 NOL'' from two years to any whole number
of years elected by the taxpayer that is more than two and less
than six. An eligible small business is a taxpayer meeting a
$15,000,000 gross receipts test. An applicable 2008 NOL is the
taxpayer's NOL for any taxable year ending in 2008, or if
elected by the taxpayer, the NOL for any taxable year beginning
in 2008. However, any election under this provision may be made
only with respect to one taxable year.
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\311\ Sec. 172(b)(1)(H).
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Explanation of Provision
The provision provides an election \312\ to increase the
present-law carryback period for an applicable NOL from two
years to any whole number of years elected by the taxpayer
which is more than two and less than six. An applicable NOL is
the taxpayer's NOL for a taxable year beginning or ending in
either 2008 or 2009. Generally, a taxpayer may elect an
extended carryback period for only one taxable year.
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\312\ For all elections under this provision, the common parent of
a group of corporations filing a consolidated return makes the
election, which is binding on all such corporations.
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The amount of an NOL that may be carried back to the fifth
taxable year preceding the loss year is limited to 50 percent
of taxable income for such taxable year (computed without
regard to the NOL for the loss year or any taxable year
thereafter).\313\ The limitation does not apply to the
applicable 2008 NOL of an eligible small business with respect
to which an election is made (either before or after the date
of enactment of the Act (November 6, 2009)) under the provision
as presently in effect. The amount of the NOL otherwise carried
to taxable years subsequent to such fifth taxable year is to be
adjusted to take into account that the NOL could offset only 50
percent of the taxable income in such year. Thus, in
determining the excess of the applicable NOL over the sum of
the taxpayer's taxable income for each of the prior taxable
years to which the loss may be carried, only 50 percent of the
taxable income for the taxable year for which the limitation
applies is to be taken into account.
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\313\ The taxable income limitation only applies to that portion of
an applicable NOL that is carried back to the fifth preceding taxable
year under subparagraph (H) of section 172(b)(1). The limitation does
not apply to the portion of the loss carried back under another
subparagraph of section 172(b)(1), such as a specified liability loss,
farming loss, or qualified disaster loss.
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The provision also suspends the 90-percent limitation on
the use of any alternative tax NOL deduction attributable to
carrybacks of the applicable NOL for which an extended
carryback period is elected.\314\
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\314\ It is intended that in applying the 50-percent taxable income
limitation with respect to the carryback of an alternative tax NOL
deduction to the fifth preceding taxable year, the limitation is
applied separately based on alternative minimum taxable income.
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For life insurance companies, the provision provides an
election to increase the present-law carryback period for an
applicable loss from operations from three years to four or
five years. An applicable loss from operations is the
taxpayer's loss from operations for any taxable year beginning
or ending in either 2008 or 2009. A 50-percent of taxable
income limitation applies to the fifth taxable year preceding
the loss year.
A taxpayer must make the election by the extended due date
for filing the return for the taxpayer's last taxable year
beginning in 2009, and in such manner as may be prescribed by
the Secretary.\315\ An election, once made, is irrevocable.
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\315\ It is anticipated that the procedures for making the election
will be substantially similar to those prescribed for eligible small
businesses under present law. See Rev. Proc. 2009-26, 2009-19 I.R.B.
935.
---------------------------------------------------------------------------
An eligible small business that timely made (or timely
makes) an election under the provision as in effect on the day
before the enactment of the Act to carry back its applicable
2008 NOL may also elect to carry back a 2009 NOL under the
amended provision.\316\ It is intended that an eligible small
business may continue to make the present-law election under
procedures prescribed in Rev. Proc. 2009-26 following the
enactment of the Act.
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\316\ Present law section 172(b)(1)(H)(iii) provides that an
eligible small business must make the election by the extended due date
for filing its return for the taxable year of the NOL. An eligible
small business that did not (or does not) timely elect to carryback its
applicable 2008 NOL under present law is subject to the general
provision (i.e., election available for either 2008 or 2009 NOL and 50
percent of taxable income limitation applies for the fifth taxable year
preceding the loss year).
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The provision generally does not apply to: (1) any taxpayer
if (a) the Federal government acquired or acquires, at any
time,\317\ an equity interest in the taxpayer pursuant to the
Emergency Economic Stabilization Act of 2008,\318\ or (b) the
Federal government acquired or acquires, at any time, any
warrant (or other right) to acquire any equity interest with
respect to the taxpayer pursuant to such Act; (2) the Federal
National Mortgage Association and the Federal Home Loan
Mortgage Corporation; and (3) any taxpayer that in 2008 or 2009
\319\ is a member of the same affiliated group (as defined in
section 1504 without regard to subsection (b) thereof) as a
taxpayer to which the provision does not otherwise apply. An
equity interest (or right to acquire an equity interest) is
disregarded for this purpose if acquired by the Federal
government after the date of enactment from a financial
institution \320\ pursuant to a program established by the
Secretary for the stated purpose of increasing the availability
of credit to small businesses using funding made available
under the Emergency Economic Stabilization Act of 2008.
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\317\ For example, if the Federal government acquires an equity
interest in the taxpayer during 2010, or in later years, the taxpayer
is not entitled to the extended carryback rules under this provision.
If the carryback has previously been claimed, amended filings may be
necessary to reflect this disallowance. Additionally, if the Federal
government acquired an equity interest in the taxpayer pursuant to the
Emergency Economic Stabilization Act of 2008 and the taxpayer has
repaid that investment, it is not entitled to the extended carryback
rules under this provision.
\318\ Pub. L. No. 110-343.
\319\ For example, a taxpayer with an NOL in 2008 that in 2009
joins an affiliated group with a member in which the Federal government
has acquired an equity interest pursuant to the Emergency Economic
Stabilization Act of 2008 may not utilize the extended carryback rules
under this provision with regard to the 2008 NOL. The taxpayer is
required to amend prior filings to reflect the permitted carryback
period.
\320\ As defined in section 3 of the Emergency Economic
Stabilization Act of 2008.
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Effective Date
The provision is generally effective for net operating
losses arising in taxable years ending after December 31, 2007.
The modification to the alternative tax NOL deduction applies
to taxable years ending after December 31, 2002. The
modification with respect to operating loss deductions of life
insurance companies applies to losses from operations arising
in taxable years ending after December 31, 2007.
Under transition rules, a taxpayer may revoke any election
to waive the carryback period under either section 172(b)(3) or
section 810(b)(3) with respect to an applicable NOL or an
applicable loss from operations for a taxable year ending
before the date of enactment (November 6, 2009) by the extended
due date for filing the tax return for the taxpayer's last
taxable year beginning in 2009. Similarly, any application for
a tentative carryback adjustment under section 6411(a) with
respect to such loss is treated as timely filed if filed by the
extended due date for filing the tax return for the taxpayer's
last taxable year beginning in 2009.
C. Exclusion from Gross Income of Qualified Military Base Realignment
and Closure Fringe (sec. 14 of the Act and sec. 132 of the Code)
Present Law
Homeowners Assistance Program payment
The Department of Defense Homeowners Assistance Program
(``HAP'') provides payments to certain employees and members of
the Armed Forces to offset the adverse effects on housing
values that result from a military base realignment or closure.
In general, under the HAP, eligible individuals receive
either: (1) a cash payment as compensation for losses that may
be or have been sustained in a private sale, in an amount not
to exceed the difference between (a) 95 percent of the fair
market value of their property prior to public announcement of
intention to close all or part of the military base or
installation and (b) the fair market value of such property at
the time of the sale; or (2) as the purchase price for their
property, an amount not to exceed 90 percent of the prior fair
market value as determined by the Secretary of Defense, or the
amount of the outstanding mortgages.
The American Recovery and Reinvestment Act of 2009 \321\
expands the HAP in various ways. It amends the Demonstration
Cities and Metropolitan Development Act of 1966 \322\ to allow,
under the HAP under such Act, the Secretary of Defense to
provide assistance or reimbursement for certain losses in the
sale of family dwellings by members of the Armed Forces living
on or near a military installation in situations where: (1)
there was a base closure or realignment; (2) the property was
purchased before July 1, 2006, and sold between that date and
September 30, 2012; (3) the property is the owner's primary
residence; and (4) the owner has not previously received
benefits under the HAP. Further, it authorizes similar HAP
assistance or reimbursement with respect to: (1) wounded
members and wounded civilian Department of Defense and Coast
Guard employees (and their spouses); and (2) members
permanently reassigned from an area at or near a military
installation to a new duty station more than 50 miles away
(with similar purchase and sale date, residence, and no-
previous-benefit requirements as above). It allows the
Secretary to provide compensation for losses from home sales by
such individuals to ensure the realization of at least 90
percent (in some cases, 95 percent) of the pre-mortgage-crisis
assessed value of such property.
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\321\ Pub. L. No. 111-5.
\322\ Pub. L. No. 89-754, 42 U.S.C. 3374.
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Tax treatment
Present law generally excludes from gross income amounts
received under the HAP (as in effect on November 11,
2003).\323\ Amounts received under the program also are not
considered wages for FICA tax purposes (including Medicare).
The excludable amount is limited to the reduction in the fair
market value of property.
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\323\ Sec. 132(n).
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Explanation of Provision
The Act expands the exclusion to HAP payments authorized
under the American Recovery and Reinvestment Tax Act of 2009.
Effective Date
The provision is effective for payments made after February
17, 2009 (the date of enactment of the American Recovery and
Reinvestment Tax Act of 2009).
D. Delay in Application of Worldwide Allocation of Interest (sec. 15 of
the Act and sec. 864 of the Code)
Present Law
In general
To compute the foreign tax credit limitation, a taxpayer
must determine the amount of its taxable income from foreign
sources. Thus, the taxpayer must allocate and apportion
deductions between items of U.S.-source gross income, on the
one hand, and items of foreign-source gross income, on the
other.
In the case of interest expense, the rules generally are
based on the approach that money is fungible and that interest
expense is properly attributable to all business activities and
property of a taxpayer, regardless of any specific purpose for
incurring an obligation on which interest is paid.\324\ For
interest allocation purposes, all members of an affiliated
group of corporations generally are treated as a single
corporation (the so-called ``one-taxpayer rule'') and
allocation must be made on the basis of assets rather than
gross income. The term ``affiliated group'' in this context
generally is defined by reference to the rules for determining
whether corporations are eligible to file consolidated returns.
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\324\ However, exceptions to the fungibility principle are provided
in particular cases, some of which are described below.
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For consolidation purposes, the term ``affiliated group''
means one or more chains of includible corporations connected
through stock ownership with a common parent corporation that
is an includible corporation, but only if: (1) the common
parent owns directly stock possessing at least 80 percent of
the total voting power and at least 80 percent of the total
value of at least one other includible corporation; and (2)
stock meeting the same voting power and value standards with
respect to each includible corporation (excluding the common
parent) is directly owned by one or more other includible
corporations.
Generally, the term ``includible corporation'' means any
domestic corporation except certain corporations exempt from
tax under section 501 (for example, corporations organized and
operated exclusively for charitable or educational purposes),
certain life insurance companies, corporations electing
application of the possession tax credit, regulated investment
companies, real estate investment trusts, and domestic
international sales corporations. A foreign corporation
generally is not an includible corporation.
Subject to exceptions, the consolidated return and interest
allocation definitions of affiliation generally are consistent
with each other.\325\ For example, both definitions generally
exclude all foreign corporations from the affiliated group.
Thus, while debt generally is considered fungible among the
assets of a group of domestic affiliated corporations, the same
rules do not apply as between the domestic and foreign members
of a group with the same degree of common control as the
domestic affiliated group.
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\325\ One such exception is that the affiliated group for interest
allocation purposes includes section 936 corporations (certain electing
domestic corporations that have income from the active conduct of a
trade or business in Puerto Rico or another U.S. possession) that are
excluded from the consolidated group.
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Banks, savings institutions, and other financial affiliates
The affiliated group for interest allocation purposes
generally excludes what are referred to in the Treasury
regulations as ``financial corporations.'' \326\ A financial
corporation includes any corporation, otherwise a member of the
affiliated group for consolidation purposes, that is a
financial institution (described in section 581 or section
591), the business of which is predominantly with persons other
than related persons or their customers, and which is required
by State or Federal law to be operated separately from any
other entity that is not a financial institution.\327\ The
category of financial corporations also includes, to the extent
provided in regulations, bank holding companies (including
financial holding companies), subsidiaries of banks and bank
holding companies (including financial holding companies), and
savings institutions predominantly engaged in the active
conduct of a banking, financing, or similar business.\328\
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\326\ Temp. Treas. Reg. sec. 1.861-11T(d)(4).
\327\ Sec. 864(e)(5)(C).
\328\ Sec. 864(e)(5)(D).
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A financial corporation is not treated as a member of the
regular affiliated group for purposes of applying the one-
taxpayer rule to other nonfinancial members of that group.
Instead, all such financial corporations that would be so
affiliated are treated as a separate single corporation for
interest allocation purposes.
Worldwide interest allocation
In general
The American Jobs Creation Act of 2004 (``AJCA'') \329\
modified the interest expense allocation rules described above
(which generally apply for purposes of computing the foreign
tax credit limitation) by providing a one-time election (the
``worldwide affiliated group election'') under which the
taxable income of the domestic members of an affiliated group
from sources outside the United States generally is determined
by allocating and apportioning interest expense of the domestic
members of a worldwide affiliated group on a worldwide-group
basis (i.e., as if all members of the worldwide group were a
single corporation). If a group makes this election, the
taxable income of the domestic members of a worldwide
affiliated group from sources outside the United States is
determined by allocating and apportioning the third-party
interest expense of those domestic members to foreign-source
income in an amount equal to the excess (if any) of (1) the
worldwide affiliated group's worldwide third-party interest
expense multiplied by the ratio that the foreign assets of the
worldwide affiliated group bears to the total assets of the
worldwide affiliated group,\330\ over (2) the third-party
interest expense incurred by foreign members of the group to
the extent such interest would be allocated to foreign sources
if the principles of worldwide interest allocation were applied
separately to the foreign members of the group.\331\
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\329\ Pub. L. No. 108-357, sec. 401.
\330\ For purposes of determining the assets of the worldwide
affiliated group, neither stock in corporations within the group nor
indebtedness (including receivables) between members of the group is
taken into account.
\331\ Although the interest expense of a foreign subsidiary is
taken into account for purposes of allocating the interest expense of
the domestic members of the electing worldwide affiliated group for
foreign tax credit limitation purposes, the interest expense incurred
by a foreign subsidiary is not deductible on a U.S. return.
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For purposes of the new elective rules based on worldwide
fungibility, the worldwide affiliated group means all
corporations in an affiliated group as well as all controlled
foreign corporations that, in the aggregate, either directly or
indirectly,\332\ would be members of such an affiliated group
if section 1504(b)(3) did not apply (i.e., in which at least 80
percent of the vote and value of the stock of such corporations
is owned by one or more other corporations included in the
affiliated group). Thus, if an affiliated group makes this
election, the taxable income from sources outside the United
States of domestic group members generally is determined by
allocating and apportioning interest expense of the domestic
members of the worldwide affiliated group as if all of the
interest expense and assets of 80-percent or greater owned
domestic corporations (i.e., corporations that are part of the
affiliated group, as modified to include insurance companies)
and certain controlled foreign corporations were attributable
to a single corporation.
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\332\ Indirect ownership is determined under the rules of section
958(a)(2) or through applying rules similar to those of section
958(a)(2) to stock owned directly or indirectly by domestic
partnerships, trusts, or estates.
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Financial institution group election
Taxpayers are allowed to apply the bank group rules to
exclude certain financial institutions from the affiliated
group for interest allocation purposes under the worldwide
fungibility approach. The rules also provide a one-time
``financial institution group'' election that expands the bank
group. At the election of the common parent of the pre-election
worldwide affiliated group, the interest expense allocation
rules are applied separately to a subgroup of the worldwide
affiliated group that consists of (1) all corporations that are
part of the bank group, and (2) all ``financial corporations.''
For this purpose, a corporation is a financial corporation if
at least 80 percent of its gross income is financial services
income (as described in section 904(d)(2)(C)(i) and the
regulations thereunder) that is derived from transactions with
unrelated persons.\333\ For these purposes, items of income or
gain from a transaction or series of transactions are
disregarded if a principal purpose for the transaction or
transactions is to qualify any corporation as a financial
corporation.
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\333\ See Treas. Reg. sec. 1.904-4(e)(2).
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In addition, anti-abuse rules are provided under which
certain transfers from one member of a financial institution
group to a member of the worldwide affiliated group outside of
the financial institution group are treated as reducing the
amount of indebtedness of the separate financial institution
group. Regulatory authority is provided with respect to the
election to provide for the direct allocation of interest
expense in circumstances in which such allocation is
appropriate to carry out the purposes of these rules, to
prevent assets or interest expense from being taken into
account more than once, or to address changes in members of any
group (through acquisitions or otherwise) treated as affiliated
under these rules.
Effective date of worldwide interest allocation
The common parent of the domestic affiliated group must
make the worldwide affiliated group election. It must be made
for the first taxable year beginning after December 31, 2010,
in which a worldwide affiliated group exists that includes at
least one foreign corporation that meets the requirements for
inclusion in a worldwide affiliated group.\334\ The common
parent of the pre-election worldwide affiliated group must make
the election for the first taxable year beginning after
December 31, 2010, in which a worldwide affiliated group
includes a financial corporation. Once either election is made,
it applies to the common parent and all other members of the
worldwide affiliated group or to all members of the financial
institution group, as applicable, for the taxable year for
which the election is made and all subsequent taxable years,
unless revoked with the consent of the Secretary of the
Treasury.
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\334\ As originally enacted under AJCA, the worldwide interest
allocation rules were effective for taxable years beginning after
December 31, 2008. However, section 3093 of the Housing and Economic
Recovery Act of 2008, Pub. L. No. 110-289, delayed the implementation
of the worldwide interest allocation rules for two years, until taxable
years beginning after December 31, 2010.
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Phase-in rule
HERA also provided a special phase-in rule in the case of
the first taxable year to which the worldwide interest
allocation rules apply. For that year, the amount of the
taxpayer's taxable income from foreign sources is reduced by 70
percent of the excess of (i) the amount of its taxable income
from foreign sources as calculated using the worldwide interest
allocation rules over (ii) the amount of its taxable income
from foreign sources as calculated using the present-law
interest allocation rules. For that year, the amount of the
taxpayer's taxable income from domestic sources is increased by
a corresponding amount. Any foreign tax credits disallowed by
virtue of this reduction in foreign-source taxable income may
be carried back or forward under the normal rules for
carrybacks and carryforwards of excess foreign tax credits.
Explanation of Provision \335\
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\335\ The effective date of the worldwide interest allocation rules
was subsequently further delayed by section 551 of the Hiring
Incentives to Restore Employment Act of 2010, Pub. L. No. 111-147,
described in Part Seven of this document.
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The provision delays the effective date of the worldwide
interest allocation rules for seven years, until taxable years
beginning after December 31, 2017. The required dates for
making the worldwide affiliated group election and the
financial institution group election are changed accordingly.
The provision also eliminates the special phase-in rule
that applies in the case of the first taxable year to which the
worldwide interest allocation rules apply.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
E. Modification of Penalty for Failure to File Partnership or S
Corporation Returns (sec. 16 of the Act and secs. 6698 and 6699 of the
Code)
Present Law
Both partnerships and S corporations are generally treated
as pass-through entities that do not incur an income tax at the
entity level. Income earned by a partnership, whether
distributed or not, is taxed to the partners. Distributions
from the partnership generally are tax-free. The items of
income, gain, loss, deduction or credit of a partnership
generally are taken into account by a partner as allocated
under the terms of the partnership agreement. If the agreement
does not provide for an allocation, or the agreed allocation
does not have substantial economic effect, then the items are
to be allocated in accordance with the partners' interests in
the partnership. To prevent double taxation of these items, a
partner's basis in its interest is increased by its share of
partnership income (including tax-exempt income), and is
decreased by its share of any losses (including nondeductible
losses). An S corporation generally is not subject to
corporate-level income tax on its items of income and loss.
Instead, the S corporation passes through its items of income
and loss to its shareholders. The shareholders take into
account separately their shares of these items on their
individual income tax returns.
Under present law, both partnerships and S corporations are
required to file tax returns for each taxable year.\336\ The
partnership's tax return is required to include the names and
addresses of the individuals who would be entitled to share in
the taxable income if distributed and the amount of the
distributive share of each individual. The S corporation's tax
return is required to include the following: the names and
addresses of all persons owning stock in the corporation at any
time during the taxable year; the number of shares of stock
owned by each shareholder at all times during the taxable year;
the amount of money and other property distributed by the
corporation during the taxable year to each shareholder and the
date of such distribution; each shareholder's pro rata share of
each item of the corporation for the taxable year; and such
other information as the Secretary may require.
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\336\ Secs. 6031 and 6037, respectively.
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In addition to applicable criminal penalties, present law
imposes assessable civil penalties for both the failure to file
a partnership return and the failure to file an S corporation
return.\337\ Each of these penalties is currently $89 times the
number of shareholders or partners for each month (or fraction
of a month) that the failure continues, up to a maximum of 12
months for returns required to be filed after December 31,
2008.
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\337\ Secs. 6698 and 6699, respectively.
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Explanation of Provision
Under the provision, the base amount on which a penalty is
computed for a failure with respect to filing either a
partnership or S corporation return is increased to $195 per
partner or shareholder.
Effective Date
The provision applies to returns for taxable years
beginning after December 31, 2009.
F. Expansion of Electronic Filing by Return Preparers (sec. 17 of the
Act and sec. 6011(e) of the Code)
Present Law
The Internal Revenue Service Restructuring and Reform Act
of 1998 \338\ (``RRA 1998'') states a Congressional policy to
promote the paperless filing of Federal tax returns. Section
2001(a) of RRA 1998 sets a goal for the IRS to have at least 80
percent of all Federal tax and information returns filed
electronically by 2007. Section 2001(b) of RRA 1998 requires
the IRS to establish a 10-year strategic plan to eliminate
barriers to electronic filing.
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\338\ Pub. L. No. 105-206.
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The Secretary has limited authority to issue regulations
specifying which returns must be filed electronically.\339\
First, it can apply only to persons required to file at least
250 returns during the calendar year.\340\ Second, the
Secretary is prohibited from requiring that income tax returns
of individuals, estates, and trusts be submitted in any format
other than paper (although these returns may be filed
electronically by choice). Third, the Secretary, in determining
which returns must be filed on magnetic media, must take into
account relevant factors, including the ability of a taxpayer
to comply with magnetic media filing at reasonable cost.\341\
Finally, a failure to comply with the regulations mandating
electronic filing cannot in itself establish the basis for
assertion of a penalty for failure to file an information
return, with certain exceptions for corporations and
partnerships.\342\
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\339\ Sec. 6011(e).
\340\ Partnerships with more than 100 partners are required to file
electronically. Sec. 6011(e)(2).
\341\ Sec. 6011(e).
\342\ Sec. 6724(c). If a corporation fails to comply with the
electronic filing requirements for more than 250 returns that it is
required to file, it may be subject to the penalty for failure to file
information returns under section 6721. For partnerships, the penalty
may be imposed only if the failure extends to more than 100 returns.
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Accordingly, the Secretary requires corporations and tax-
exempt organizations that have assets of $10 million or more
and file at least 250 returns during a calendar year, including
income tax, information, excise tax, and employment tax
returns, to file electronically their Form 1120/1120S income
tax returns and Form 990 information returns for tax years
ending on or after December 31, 2006.\343\ Private foundations
and charitable trusts that file at least 250 returns during a
calendar year are required to file electronically their Form
990-PF information returns for tax years ending on or after
December 31, 2006, regardless of their asset size. Taxpayers
can request waivers of the electronic filing requirement if
they cannot meet that requirement due to technological
constraints, or if compliance with the requirement would result
in undue financial burden on the taxpayer.
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\343\ Treas. Reg. secs. 301.6011-5, 301.6033-4, 301.6037-2.
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Explanation of Provision
The provision generally maintains the current rule that
regulations may not require any person to file electronically
unless the person files at least 250 tax returns during the
calendar year. However, the proposal provides an exception to
this rule and mandates that the Secretary require electronic
filing by specified tax return preparers. ``Specified tax
return preparers'' are all return preparers except those who
neither file nor reasonably expect to file more than ten
individual income tax returns on behalf of clients in a
calendar year. The term ``individual income tax return'' is
defined to include returns for estates and trusts as well as
individuals.
Effective Date
The provision is effective for tax returns filed after
December 31, 2010.
G. Time for Payment of Corporate Estimated Taxes (sec. 18 of the Act
and sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\344\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding tax year), payments due in July, August, or
September, 2014, are increased to 100.25 percent of the payment
otherwise due and the next required payment is reduced
accordingly.\345\
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\344\ Sec. 6655.
\345\ Joint resolution approving the renewal of import restrictions
contained in the Burmese Freedom and Democracy Act of 2003, and for
other purposes, Pub. L. No. 111-42, sec. 202(b)(1).
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Explanation of Provision \346\
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\346\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
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The provision increases the required payment of estimated
tax otherwise due in July, August, or September, 2014, by 33.00
percentage points.
Effective Date
The provision is effective on the date of the enactment
(November 6, 2009).
PART SIX: HAITI TAX RELIEF (PUBLIC LAW 111-126) \347\
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\347\ H.R. 4462. The bill passed the House on the suspension
calendar on January 20, 2010. The Senate passed the bill by unanimous
consent on January 21, 2010. The President signed the bill on January
22, 2010. For a technical explanation of the bill prepared by the staff
of the Joint Committee on Taxation, see Technical Explanation of H.R.
4462: A Bill to Accelerate the Income Tax Benefits for Charitable Cash
Contributions for the Relief of Victims of the Earthquake in Haiti
(JCX-2-10), January 20, 2010.
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A. Accelerate the Income Tax Benefits for Charitable Cash Contributions
for the Relief of Victims of the Earthquake in Haiti (sec. 1 of the
Act)
Present Law
In general, under present law, taxpayers may claim an
income tax deduction for charitable contributions. The
charitable deduction generally is available for the taxable
year in which the contribution is made. For taxpayers whose
taxable year is the calendar year, the tax benefit of a
charitable contribution made in January or February often is
not realized until the following calendar year when the tax
return is filed.
A donor who claims a charitable deduction for a charitable
contribution of money, regardless of amount, must maintain as a
record of the contribution a bank record or a written
communication from the donee showing the name of the donee
organization, the date of the contribution, and the amount of
the contribution.\348\ In addition to the foregoing
recordkeeping requirements, substantiation requirements apply
in the case of charitable contributions with a value of $250 or
more. No charitable deduction is allowed for any contribution
of $250 or more unless the taxpayer substantiates the
contribution by a contemporaneous written acknowledgment of the
contribution by the donee organization.
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\348\ Sec. 170(f)(17).
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Explanation of Provision
The provision permits taxpayers to treat charitable
contributions of cash made after January 11, 2010, and before
March 1, 2010, as contributions made on December 31, 2009, if
such contributions were for the purpose of providing relief to
victims in areas affected by the earthquake in Haiti that
occurred on January 12, 2010. Thus, the effect of the provision
is to give calendar-year taxpayers who make Haitian earthquake-
related charitable contributions of cash after January 11,
2010, and before March 1, 2010, the opportunity to accelerate
their tax benefit. Under the provision, such taxpayers may
realize the tax benefit of such contributions by taking a
deduction on their 2009 tax return.
The provision also clarifies the recordkeeping requirement
for monetary contributions eligible for the accelerated income
tax benefits described above. With respect to such
contributions, a telephone bill will also satisfy the
recordkeeping requirement if it shows the name of the donee
organization, the date of the contribution, and the amount of
the contribution. Thus, for example, in the case of a
charitable contribution made by text message and chargeable to
a telephone or wireless account, a bill from the
telecommunications company containing the relevant information
will satisfy the recordkeeping requirement.
Effective Date
The provision is effective on the date of enactment
(January 22, 2010).
PART SEVEN: REVENUE PROVISIONS OF THE HIRING INCENTIVES TO RESTORE
EMPLOYMENT ACT (PUBLIC LAW 111-147) \349\
TITLE I--INCENTIVES FOR HIRING AND RETAINING UNEMPLOYED WORKERS
A. Payroll Tax Forgiveness for Hiring Unemployed Workers (sec. 101 of
the Act and new sec. 3111 of the Code)
Present Law
In general
Social security benefits and certain Medicare benefits are
financed primarily by payroll taxes on wages.
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\349\ H.R. 2847. The bill originated as an appropriations bill and
passed the House on June 18, 2009. The bill passed the Senate with an
amendment on November 5, 2009. On December 16, 2009, the House agreed
to the Senate amendment with an amendment containing revenue
provisions. On February 24, 2010, the Senate concurred in the House
amendment to the Senate amendment with an amendment substituting the
text of the Hiring Incentives to Restore Employment Act. On March 4,
2010, the House agreed to the Senate amendment with an amendment. On
March 17, 2010, the Senate concurred in the House amendment. The
President signed the bill on March 18, 2010.
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Federal Insurance Contributions Act (``FICA'') tax
The FICA tax applies to employers based on the amount of
covered wages paid to an employee during the year. Generally,
covered wages means all remuneration for employment, including
the cash value of all remuneration (including benefits) paid in
any medium other than cash. Certain exceptions from covered
wages are also provided. The tax imposed is composed of two
parts: (1) the old age, survivors, and disability insurance
(``OASDI'') tax equal to 6.2 percent of covered wages up to the
taxable wage base ($106,800 in 2010); and (2) the Medicare
hospital insurance (``HI'') tax amount equal to 1.45 percent of
covered wages. In addition to the tax on employers, each
employee is subject to FICA taxes equal to the amount of tax
imposed on the employer (the ``employee portion''). The
employee portion generally must be withheld and remitted to the
Federal government by the employer.
Self-Employment Contributions Act (``SECA'') tax
As a parallel to FICA taxes, the SECA tax applies to the
net income from self-employment of self-employed individuals.
The rate of the OASDI portion of SECA taxes is equal to the
combined employee and employer OASDI FICA tax rates and applies
to self-employment income up to the FICA taxable wage base.
Similarly, the rate of the HI portion is the same as the
combined employer and employee HI rates and there is no cap on
the amount of self-employment income to which the rate
applies.\350\
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\350\ For purposes of computing net earnings from self employment,
taxpayers are permitted a deduction equal to the product of the
taxpayer's earnings (determined without regard to this deduction) and
one-half of the sum of the rates for OASDI tax (12.4 percent) and HI
tax (2.9 percent), i.e., 7.65 percent of net earnings. This deduction
reflects the fact that the FICA rates apply to an employee's wages,
which do not include FICA taxes paid by the employer, whereas the self-
employed individual's net earnings are economically equivalent to an
employee's wages plus the employer share of FICA taxes.
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Railroad retirement tax
The Railroad Retirement System has two main components.
Tier I of the system is financed by taxes on employers and
employees equal to the Social Security payroll tax and provides
qualified railroad retirees (and their qualified spouses,
dependents, widows, or widowers) with benefits that are roughly
equal to Social Security. Covered railroad workers and their
employers pay the Tier I tax instead of the Social Security
payroll tax, and most railroad retirees collect Tier I benefits
instead of Social Security. Tier II of the system replicates a
private pension plan, with employers and employees contributing
a certain percentage of pay toward the system to finance
defined benefits to eligible railroad retirees (and qualified
spouses, dependents, widows, or widowers) upon retirement;
however, the Federal Government collects the Tier II payroll
contribution and pays out the benefits.
Explanation of Provision
In general
The provision provides relief from the employer share of
OASDI taxes (or railroad retirement taxes, if applicable) on
wages paid by a qualified employer with respect to certain
employment. The provision applies to wages paid beginning on
the day after enactment (March 18, 2010) and ending on December
31, 2010. Under a special rule for the first calendar quarter
of 2010, the exemption does not apply, but the amount by which
the tax would have been reduced but for the special rule is
credited to the employer in the second calendar quarter of
2010. The special rule was included in order to ease
implementation of the payroll tax exemption.
Covered employment is limited to service performed by a
qualified individual: (1) in a trade or business of a qualified
employer; or (2) in furtherance of the activities related to
the purpose or function constituting the basis of the
employer's exemption under sec. 501 (in the case of a qualified
employer that is exempt from tax under sec. 501(a)).
Qualified employer
A qualified employer is any employer other than the United
States, any State, any local government, or any instrumentality
of the foregoing. Notwithstanding the forgoing, a qualified
employer includes any employer that is a public higher
education institution (as defined in sec. 101(b) of the Higher
Education Act of 1965).
Qualified individual
A qualified individual is any individual who: (1) begins
work for a qualified employer after February 3, 2010 and before
January 1, 2011; (2) certifies by signed affidavit (under
penalties of perjury) that he or she was employed for a total
of 40 hours or less during the 60-day period ending on the date
such employment begins; (3) is not employed to replace another
employee of the employer unless such employee separated from
employment voluntarily or for cause; \351\ and (4) is not a
related party (as defined under rules similar to sec. 51(i)) of
the employer).
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\351\ It is intended that an employer may qualify for the credit
when it hires an otherwise qualified individual to replace an
individual whose employment was terminated, for cause or due to other
facts and circumstances. For example, an employer may qualify for the
credit with respect to wages paid pursuant to the reopening of a
factory which had been previously closed due to lack of demand for the
product being produced (i.e., the employer may qualify by rehiring
qualified individuals who had in the past worked for the employer but
were terminated when the factory was closed or by hiring qualified
individuals who had not previously worked for the employer). In
contrast, an employer who terminates the employment of an individual
not for cause, but rather to claim the credit with respect to the
hiring of the same or another individual is not eligible for the credit
under this rule.
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Employer election
A qualified employer may elect to not have payroll tax
forgiveness apply. The election is made in the manner required
by the Secretary of the Treasury.
Coordination with work opportunity tax credit
Under the provision, a qualified employer may not receive
the work opportunity tax credit on any wages paid to a
qualified individual during the one-year period beginning on
the hiring date of such individual, if those wages qualify the
employer for payroll tax forgiveness under this provision
unless the employer makes an election not to have payroll tax
forgiveness apply with respect to that individual.
Social Security trust funds
The Federal Old-Age and Survivors Trust Fund and the
Federal Disability Insurance Trust Fund will receive transfers
from the General Fund of the United States Treasury equal to
any reduction in payroll taxes attributable to the payroll tax
forgiveness provided under the provision. The amounts will be
transferred from the General Fund at such times and in such a
manner as to replicate to the extent possible the transfers
which would have occurred to the Trust Funds had the provision
not been enacted.
Effective Date
The provision applies to wages paid after the date of
enactment (March 18, 2010).
B. Business Credit for Retention of Certain Newly Hired Individuals in
2010 (sec. 102 of the Act and sec. 38(b) of the Code)
Present Law
Present law does not provide a tax credit specifically for
the retention of new employees.
However, present law provides for a general business credit
consisting of various business tax credits.\352\ The general
business credit, to the extent it exceeds the relevant tax
liability for the taxable year, may be carried back one year
(but, in the case of a new credit, not to a taxable year before
that credit is first allowable) and carried forward 20
years.\353\
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\352\ Sec. 38.
\353\ Sec. 39.
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Explanation of Provision
In general
Under the provision, an employer's general business credit
is increased by the lesser of $1,000 or 6.2 percent of wages
for each retained worker that satisfies a minimum employment
period. Generally, a retained worker is an individual who is a
qualified individual as defined under the payroll tax
forgiveness provision, above (new Code sec. 3111(d)). However,
the credit is available only with respect to such an
individual, if the individual: (1) is employed by the employer
on any date during the taxable year; (2) continues to be
employed by the employer for a period of not less than 52
consecutive weeks; and (3) receives wages for such employment
during the last 26 weeks of such period that are least 80-
percent of such wages during the first 26 weeks of such period.
The portion of the general business credit attributable to
the retention credit may not be carried back to a taxable year
that begins prior to the date of enactment of this provision
(March 18, 2010).
Treatment of the U.S. possessions
Mirror code possessions \354\
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\354\ Possessions with mirror code tax systems are the United
States Virgin Islands, Guam, and the Commonwealth of the Northern
Mariana Islands.
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The U.S. Treasury will make a payment to each mirror code
possession in an amount equal to the aggregate amount of the
credits allowable by reason of the provision to that
possession's residents against its income tax. This amount will
be determined by the Treasury Secretary based on information
provided by the government of the respective possession. For
purposes of this payment, a possession is a mirror code
possession if the income tax liability of residents of the
possession under that possession's income tax system is
determined by reference to the U.S. income tax laws as if the
possession were the United States.
Non-mirror code possessions \355\
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\355\ Possessions that do not have mirror code tax systems are
Puerto Rico and American Samoa.
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To each possession that does not have a mirror code tax
system, the U.S. Treasury will make a payment in an amount
estimated by the Secretary as being equal to the aggregate
credits that would have been allowed to residents of that
possession if a mirror code tax system had been in effect in
that possession. Accordingly, the amount of each payment to a
non-mirror code possession will be an estimate of the aggregate
amount of the credits that would be allowed to the possession's
residents if the credit provided by the provision to U.S.
residents were provided by the possession to its residents.
This payment will not be made to any U.S. possession unless
that possession has a plan that has been approved by the
Secretary under which the possession will promptly distribute
the payment to its residents.
General rules
No credit against U.S. income taxes is permitted under the
provision for any person to whom a credit is allowed against
possession income taxes as a result of the provision (for
example, under that possession's mirror income tax). Similarly,
no credit against U.S. income taxes is permitted for any person
who is eligible for a payment under a non-mirror code
possession's plan for distributing to its residents the payment
described above from the U.S. Treasury.
For purposes of the rebate credit payment, the Commonwealth
of Puerto Rico and the Commonwealth of the Northern Mariana
Islands are considered possessions of the United States.
For purposes of the rule permitting the Treasury Secretary
to disburse appropriated amounts for refunds due from certain
credit provisions of the Internal Revenue Code of 1986, the
payments required to be made to possessions under the provision
are treated in the same manner as a refund due from the
recovery rebate credit.
Effective Date
The provision is effective for taxable years ending after
the date of enactment (March 18, 2010).
TITLE II--EXPENSING
A. Increase in Expensing of Certain Depreciable Business Assets (sec.
201 of the Act and sec. 179 of the Code)
Present Law
A taxpayer that satisfies limitations on annual investment
may elect under section 179 to deduct (or ``expense'') the cost
of qualifying property, rather than to recover such costs
through depreciation deductions.\356\ For taxable years
beginning in 2009, the maximum amount that a taxpayer may
expense is $250,000 of the cost of qualifying property placed
in service for the taxable year. The $250,000 amount is reduced
(but not below zero) by the amount by which the cost of
qualifying property placed in service during the taxable year
exceeds $800,000.\357\ For taxable years beginning in 2010, the
maximum amount that a taxpayer may expense is $125,000 of the
cost of qualifying property placed in service for the taxable
year. The $125,000 amount is reduced (but not below zero) by
the amount by which the cost of qualifying property placed in
service during the taxable year exceeds $500,000. The $125,000
and $500,000 amounts are indexed for inflation. In general,
qualifying property is defined as depreciable tangible personal
property that is purchased for use in the active conduct of a
trade or business. Off-the-shelf computer software placed in
service in taxable years beginning before 2011 is treated as
qualifying property.
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\356\ Additional section 179 incentives are provided with respect
to qualified property meeting applicable requirements that is used by a
business in an empowerment zone (sec. 1397A), a renewal community (sec.
1400J), or the Gulf Opportunity Zone (sec. 1400N(e)).
\357\ The temporary $250,000 and $800,000 amounts were enacted in
the Economic Stimulus Act of 2008, Pub. L. No. 110-185, and extended
for taxable years beginning in 2009 by the American Recovery and
Reinvestment Act of 2009, Pub. L. No. 111-5.
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The amount eligible to be expensed for a taxable year may
not exceed the taxable income for a taxable year that is
derived from the active conduct of a trade or business
(determined without regard to this provision). Any amount that
is not allowed as a deduction because of the taxable income
limitation may be carried forward to succeeding taxable years
(subject to similar limitations). No general business credit
under section 38 is allowed with respect to any amount for
which a deduction is allowed under section 179. An expensing
election is made under rules prescribed by the Secretary.\358\
An election under section 179 generally is revocable only with
prior consent of the Secretary.\359\
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\358\ Sec. 179(c)(1). Under Treas. Reg. sec. 1.179-5, applicable to
property placed in service in taxable years beginning after 2002 and
before 2008, a taxpayer is permitted to make or revoke an election
under section 179 without the consent of the Commissioner on an amended
Federal tax return for that taxable year. This amended return must be
filed within the time prescribed by law for filing an amended return
for the taxable year. T.D. 9209, July 12, 2005.
\359\ Section 179(c)(2) provides that with respect to any taxable
year beginning after 2002 and before 2011, a taxpayer may revoke its
section 179 election with respect to any property, and such revocation,
once made is irrevocable.
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For taxable years beginning in 2011 and thereafter, a
taxpayer with a sufficiently small amount of annual investment
may elect to deduct up to $25,000 of the cost of qualifying
property placed in service for the taxable year. The $25,000
amount is reduced (but not below zero) by the amount by which
the cost of qualifying property placed in service during the
taxable year exceeds $200,000. The $25,000 and $200,000 amounts
are not indexed. In general, qualifying property is defined as
depreciable tangible personal property that is purchased for
use in the active conduct of a trade or business (not including
off-the-shelf computer software).
Explanation of Provision \360\
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\360\ The provision was temporarily expanded and extended for
taxable years beginning in 2010 and 2011 by section 2021 of the Small
Business Jobs Act of 2010, Pub. L. No. 111-240, described in Part
Fourteen. The provision was further modified and extended through 2012
by section 402 of the Tax Relief, Unemployment Insurance
Reauthorization, and Job Creation Act of 2010, Pub. L. No. 111-312,
described in Part Sixteen of this document.
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The Act increases for one year the amount a taxpayer may
deduct under section 179. The Act provides that the maximum
amount a taxpayer may expense, for taxable years beginning
after 2009 and before 2011, is $250,000 of the cost of
qualifying property placed in service for the taxable year. The
$250,000 amount is reduced (but not below zero) by the amount
by which the cost of qualifying property placed in service
during the taxable year exceeds $800,000.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
TITLE III--QUALIFED TAX CREDIT BONDS
A. Refundable Credit for Certain Qualified Tax Credit Bonds (sec. 301
of the Act and secs. 54F and 6431 of the Code)
Present Law
Build America Bonds
Section 54AA, added to the Code by the American Recovery
and Reinvestment Act of 2009 (``ARRA''),\361\ permits an issuer
to elect to have an otherwise tax-exempt bond, issued prior to
January 1, 2011, treated as a ``build America bond.'' \362\ In
general, build America bonds are taxable governmental bonds,
the interest on which is subsidized by the Federal government
by means of a tax credit to the holder (``tax-credit build
America bonds'') or, in the case of certain qualified bonds, a
direct payment to the issuer (``direct-pay build America
bonds'').
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\361\ Pub. L. No. 111-5.
\362\ Sec. 54AA.
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Definition and general requirements
A build America bond is any obligation (other than a
private activity bond) if the interest on such obligation would
be (but for section 54AA) excludable from gross income under
section 103, and the issuer makes an irrevocable election to
have the rules in section 54AA apply.\363\ In determining if an
obligation would be tax-exempt under section 103, the credit
(or the payment discussed below for direct-pay build America
bonds) is not treated as a Federal guarantee.\364\ Further, for
purposes of the restrictions on arbitrage in section 148, the
yield on a tax-credit build America bond is determined without
regard to the credit; \365\ the yield on a direct-pay build
America bond is reduced by the payment made pursuant to section
6431.\366\ A build America bond does not include any bond if
the issue price has more than a de minimis amount of premium
over the stated principal amount of the bond.\367\
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\363\ Sec. 54AA(d). Subject to updated IRS reporting forms or
procedures, an issuer of build America bonds makes the election
required by 54AA on its books and records on or before the issue date
of such bonds. Notice 2009-26, 2009-16 I.R.B. 833.
\364\ Sec. 54AA(d)(2)(A). Section 149(b) provides that section
103(a) shall not apply to any State or local bond if such bond is
federally guaranteed.
\365\ Sec. 54AA(d)(2)(B).
\366\ Sec. 6431(c).
\367\ Sec. 54AA(d)(2)(C).
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Treatment of holders of tax-credit build America bonds
The holder of a tax-credit build America bond accrues a tax
credit in the amount of 35 percent of the interest paid on the
interest payment dates of the bond during the calendar
year.\368\ The interest payment date is any date on which the
holder of record of the build America bond is entitled to a
payment of interest under such bond.\369\ The sum of the
accrued credits is allowed against regular and alternative
minimum tax; unused credit may be carried forward to succeeding
taxable years.\370\ The credit, as well as the interest paid by
the issuer, is included in gross income, and the credit may be
stripped under rules similar to those provided in section 54A
regarding qualified tax credit bonds.\371\ Rules similar to
those that apply for S corporations, partnerships and regulated
investment companies with respect to qualified tax credit bonds
also apply to the credit.\372\
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\368\ Sec. 54AA(a) and (b). Original issue discount (``OID'') is
not treated as a payment of interest for purposes of determining the
credit under the provision. OID is the excess of an obligation's stated
redemption price at maturity over the obligation's issue price (section
1273(a)).
\369\ Sec. 54AA(e).
\370\ Sec. 54AA(c).
\371\ Sec. 54AA(f).
\372\ Ibid.
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Special rules for direct-pay build America bonds
Under the special rule for qualified bonds, in lieu of the
tax credit to the holder, the issuer is allowed a credit equal
to 35 percent of each interest payment made under such
bond.\373\ A ``qualified bond,'' that is, a direct-pay build
America bond, is any build America bond issued as part of an
issue if 100 percent of the excess of available project
proceeds of such issue over the amounts in a reasonably
required reserve with respect to such issue are to be used for
capital expenditures.\374\ Direct-pay build America bonds also
must be issued before January 1, 2011. The issuer must make an
irrevocable election to have the special rule for qualified
bonds apply.\375\
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\373\ Sec. 54AA(g)(1). OID is not treated as a payment of interest
for purposes of calculating the refundable credit under the provision.
\374\ Sec. 54AA(g). Under Treas. Reg. sec. 150-1(b), capital
expenditure means any cost of a type that is properly chargeable to
capital account (or would be so chargeable with a proper election or
with the application of the definition of placed in service under
Treas. Reg. sec. 1.150-2(c)) under general Federal income tax
principles. For purposes of applying the ``general Federal income tax
principles'' standard, an issuer should generally be treated as if it
were a corporation subject to taxation under subchapter C of chapter 1
of the Code. An example of a capital expenditure would include
expenditures made for the purchase of fiber-optic cable to provide
municipal broadband service.
\375\ Sec. 54AA(g)(2)(B). Subject to updated IRS reporting forms or
procedures, an issuer of direct-pay build America bonds makes the
election required by section 54AA(g)(2)(B) on its books and records on
or before the issue date of such bonds. Notice 2009-26, 2009-16 I.R.B.
833.
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The payment by the Secretary is to be made
contemporaneously with the interest payment made by the issuer,
and may be made either in advance or as reimbursement.\376\ In
lieu of payment to the issuer, the payment may be made to a
person making interest payments on behalf of the issuer.\377\
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\376\ Sec. 6431.
\377\ Sec. 6431(b)
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Qualified Tax Credit Bonds
Qualified tax credit bonds include qualified forestry
conservation bonds, new clean renewable energy bonds (``New
CREBs''), qualified energy conservation bonds (``QECs''),
qualified zone academy bonds issued after the date of enactment
of the Tax Extenders and Alternative Minimum Tax Relief Act of
2008 (``QZABs''), and qualified school construction bonds
(``QSCBs'').\378\ Qualified tax credit bonds generally are not
interest-bearing obligations. Rather, the taxpayer holding a
qualified tax credit bond on a credit allowance date is
entitled to a tax credit.\379\ The annual amount of the credit
is determined by multiplying the bond's applicable credit rate
by the outstanding face amount of the bond.\380\ The credit
rate for an issue of qualified tax credit bonds is determined
by the Secretary and is estimated to be a rate that permits
issuance of the qualified tax credit bonds without discount and
interest cost to the qualified issuer.\381\ The Secretary
determines credit rates for tax credit bonds based on general
assumptions about credit quality of the class of potential
eligible issuers and such other factors as the Secretary deems
appropriate. The Secretary may determine credit rates based on
general credit market yield indices and credit ratings.\382\
The credit accrues quarterly,\383\ is includible in gross
income (as if it were an interest payment on the bond),\384\
and can be claimed against regular income tax liability and
alternative minimum tax liability.\385\ Unused credits may be
carried forward to succeeding taxable years.\386\ In addition,
under regulations prescribed by the Secretary, credits may be
stripped.\387\
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\378\ Sec. 54A(d).
\379\ Sec. 54A(a).
\380\ Sec. 54A(b)(2).
\381\ Sec. 54A(b)(3). However, for New CREBs and QECs, the
applicable credit rate is 70 percent of the otherwise applicable rate.
\382\ See Notice 2009-15, 2009-6 I.R.B. 449 (January 22, 2009).
Given the differences in credit quality and other characteristics of
individual issuers, the Secretary cannot set credit rates in a manner
that will allow each issuer to issue tax credit bonds at par.
\383\ Sec. 54(A)(b)(1).
\384\ Sec. 54A(f).
\385\ Sec. 54A(c).
\386\ Ibid.
\387\ Sec. 54A(i).
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Qualified tax credit bonds are subject to a maximum
maturity limitation. The maximum maturity is the term which the
Secretary estimates will result in the present value of the
obligation to repay the principal on a qualified tax credit
bond being equal to 50 percent of the face amount of such
bond.\388\ The discount rate used to determine the present
value amount is the average annual interest rate of tax-exempt
obligations having a term of 10 years or more which are issued
during the month the qualified tax credit bonds are issued.
---------------------------------------------------------------------------
\388\ Sec. 54A(d)(5).
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For qualified tax credit bonds, 100 percent of the
available project proceeds must be used within the three-year
period that begins on the date of issuance.\389\ Available
project proceeds are the sum of (1) the excess of the proceeds
from the sale of the bond issue over issuance costs (not to
exceed two percent) and (2) any investment earnings on such
sale proceeds.\390\ To the extent less than 100 percent of the
available project proceeds are used to finance qualified
projects during the three-year spending period, bonds will
continue to qualify as qualified tax credit bonds if unspent
proceeds are used within 90 days from the end of such three-
year period to redeem bonds. The three-year spending period may
be extended by the Secretary upon the qualified issuer's
request demonstrating that the failure to satisfy the three-
year requirement is due to reasonable cause and the projects
will continue to proceed with due diligence.
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\389\ Sec. 54A(d)(2).
\390\ Sec. 54A(e)(4).
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Qualified tax credit bonds also are subject to the
arbitrage requirements of section 148 that apply to traditional
tax-exempt bonds.\391\ Principles under section 148 and the
regulations thereunder apply for purposes of determining the
yield restriction and arbitrage rebate requirements applicable
to qualified tax credit bonds. However, available project
proceeds invested during the three-year spending period are not
subject to the arbitrage restrictions (i.e., yield restriction
and rebate requirements). In addition, amounts invested in a
reserve fund are not subject to the arbitrage restrictions to
the extent: (1) such fund is funded at a rate not more rapid
than equal annual installments; (2) such fund is funded in a
manner reasonably expected to result in an amount not greater
than an amount necessary to repay the issue; and (3) the yield
on such fund is not greater than the average annual interest
rate of tax-exempt obligations having a term of 10 years or
more that are issued during the month the qualified tax credit
bonds are issued.
---------------------------------------------------------------------------
\391\ Sec. 54A(d)(4).
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Issuers of qualified tax credit bonds are required to
report issuance to the IRS in a manner similar to the
information returns required for tax-exempt bonds.\392\ In
addition, issuers of qualified tax credit bonds are required to
certify that applicable State and local law requirements
governing conflicts of interest are satisfied with respect to
an issue, and if the Secretary prescribes additional conflicts
of interest rules governing the appropriate Members of
Congress, Federal, State, and local officials, and their
spouses, the issuer must certify compliance with such
additional rules with respect to an issue.\393\
---------------------------------------------------------------------------
\392\ Sec. 54A(d)(3).
\393\ Sec. 54A(d)(6).
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New CREBs
A New CREB is any bond issued as part of an issue if: (1)
100 percent of the available project proceeds of such issue are
to be used for capital expenditures incurred by governmental
bodies, public power providers, or cooperative electric
companies for one or more qualified renewable energy
facilities; (2) the bond is issued by a qualified issuer; and
(3) the issuer designates such bond as a New CREB.\394\
Qualified renewable energy facilities are facilities that: (1)
qualify for the tax credit under section 45 (other than Indian
coal and refined coal production facilities), without regard to
the placed-in-service date requirements of that section; and
(2) are owned by a public power provider, governmental body, or
cooperative electric company.\395\
---------------------------------------------------------------------------
\394\ Sec. 54C(a).
\395\ Sec. 54C(d)(1).
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The term ``qualified issuers'' includes: (1) public power
providers; (2) a governmental body; (3) cooperative electric
companies; (4) a not-for-profit electric utility that has
received a loan or guarantee under the Rural Electrification
Act; \396\ and (5) clean renewable energy bond lenders.\397\
The term ``public power provider'' means a State utility with a
service obligation, as such terms are defined in section 217 of
the Federal Power Act \398\ (as in effect on the date of the
enactment of this paragraph (March 18, 2010)).\399\ A
``governmental body'' means any State or Indian tribal
government, or any political subdivision thereof.\400\ The term
``cooperative electric company'' means a mutual or cooperative
electric company (described in section 501(c)(12) or section
1381(a)(2)(C)).\401\ A clean renewable energy bond lender means
a cooperative that is owned by, or has outstanding loans to,
100 or more cooperative electric companies and is in existence
on February 1, 2002 (including any affiliated entity which is
controlled by such lender).\402\
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\396\ Pub. L. No. 74-605.
\397\ Sec. 54C(d)(6).
\398\ 16 U.S.C. 791a et seq.
\399\ Sec. 54C(d)(2).
\400\ Sec. 54C(d)(3).
\401\ Sec. 54C(d)(4). A mutual or cooperative electric company can
be tax exempt under section 501(c)(12) only if 85 percent or more of
its income consists of amounts collected from members for the sole
purpose of meeting losses and expenses (the ``85-percent income
test''). Certain types of income, e.g., income from qualified pole
rentals, are not taken into account for purposes of the 85-percent
income test. Sec. 501(c)(12)(C).
\402\ Sec. 54C(d)(5).
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There is a national limitation for New CREBs of $2.4
billion.\403\ No more than one third of the national limit may
be allocated to projects of public power providers,
governmental bodies, or cooperative electric companies.\404\
Allocations to governmental bodies and cooperative electric
companies may be made in the manner the Secretary determines
appropriate. Allocations to projects of public power providers
shall be made, to the extent practicable, in such manner that
the amount allocated to each such project bears the same ratio
to the cost of such project as the maximum allocation
limitation to projects of public power providers bears to the
cost of all such projects.\405\
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\403\ Section 54C(c)(4) increases the original $800 million
allocation by $1.6 billion for a total of $2.4 billion.
\404\ Secs. 54C(c)(2) and (c)(4).
\405\ Sec. 54C(c)(3).
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As with other qualified tax credit bonds, a taxpayer
holding New CREBs on a credit allowance date is entitled to a
tax credit. However, the credit rate on New CREBs is set by the
Secretary at a rate that is 70 percent of the rate that would
permit issuance of such bonds without discount and interest
cost to the issuer.\406\
---------------------------------------------------------------------------
\406\ Sec. 54C(b).
---------------------------------------------------------------------------
QECs
A QEC is any bond issued as part of an issue if: (1) 100
percent of the available project proceeds of such issue are to
be used for one or more qualified conservation purposes; (2)
the bond is issued by a State or local government; and (3) the
issuer designates such bond as a QEC.\407\
---------------------------------------------------------------------------
\407\ Sec. 54D(a).
---------------------------------------------------------------------------
The term ``qualified conservation purpose'' means:
1. Capital expenditures incurred for purposes of
reducing energy consumption in publicly owned buildings
by at least 20 percent; implementing green community
programs (including the use of loans, grants, or other
repayment mechanisms to implement such programs); \408\
rural development involving the production of
electricity from renewable energy resources; or any
facility eligible for the production tax credit under
section 45 (other than Indian coal and refined coal
production facilities); \409\
---------------------------------------------------------------------------
\408\ For example, States may issue QECs to finance retrofits of
existing private buildings through loans and/or grants to individual
homeowners or businesses, or through other repayment mechanisms. Other
repayment mechanisms can include periodic fees assessed on a government
bill or utility bill that approximates the energy savings of energy
efficiency or conservation retrofits. Retrofits can include heating,
cooling, lighting, water-saving, storm water-reducing, or other
efficiency measures.
\409\ Sec. 54D(f)(1)(A).
---------------------------------------------------------------------------
2. Expenditures with respect to facilities or grants
that support research in: (a) development of cellulosic
ethanol or other nonfossil fuels; (b) technologies for
the capture and sequestration of carbon dioxide
produced through the use of fossil fuels; (c)
increasing the efficiency of existing technologies for
producing nonfossil fuels; (d) automobile battery
technologies and other technologies to reduce fossil
fuel consumption in transportation; or (e) technologies
to reduce energy use in buildings; \410\
---------------------------------------------------------------------------
\410\ Sec. 54D(f)(1)(B).
---------------------------------------------------------------------------
3. Mass commuting facilities and related facilities
that reduce the consumption of energy, including
expenditures to reduce pollution from vehicles used for
mass commuting; \411\
---------------------------------------------------------------------------
\411\ Sec. 54D(f)(1)(C).
---------------------------------------------------------------------------
4. Demonstration projects designed to promote the
commercialization of: (a) green building technology;
(b) conversion of agricultural waste for use in the
production of fuel or otherwise; (c) advanced battery
manufacturing technologies; (d) technologies to reduce
peak use of electricity; or (e) technologies for the
capture and sequestration of carbon dioxide emitted
from combusting fossil fuels in order to produce
electricity; \412\ and
5. Public education campaigns to promote energy
efficiency (other than movies, concerts, and other
events held primarily for entertainment purposes).\413\
---------------------------------------------------------------------------
\412\ Sec. 54D(f)(1)(D).
\413\ Sec. 54D(f)(1)(E).
---------------------------------------------------------------------------
There is a national limitation on QECs of $3.2
billion.\414\ Allocations of QECs are made to the States with
sub-allocations to large local governments.\415\ Allocations
are made to the States according to their respective
populations, reduced by any sub-allocations to large local
governments (defined below) within the States. Sub-allocations
to large local governments shall be an amount of the national
QEC limitation that bears the same ratio to the amount of such
limitation that otherwise would be allocated to the State in
which such large local government is located as the population
of such large local government bears to the population of such
State. The term ``large local government'' means any
municipality or county if such municipality or county has a
population of 100,000 or more. Indian tribal governments also
are treated as large local governments for these purposes
(without regard to population).
---------------------------------------------------------------------------
\414\ Sec. 54D(d).
\415\ Sec. 54D(e).
---------------------------------------------------------------------------
Each State or large local government receiving an
allocation of QECs may further allocate issuance authority to
issuers within such State or large local government. However,
any allocations to issuers within the State or large local
government shall be made in a manner that results in not less
than 70 percent of the allocation of QECs to such State or
large local government being used to designate bonds that are
not private activity bonds (i.e., the bond cannot meet the
private business tests or the private loan test of section
141).\416\
---------------------------------------------------------------------------
\416\ Sec. 54D(e)(3). In the case of any bond used for the purpose
of providing grants, loans or other repayment mechanisms for capital
expenditures to implement green community programs, such bond shall not
be treated as a private activity bond for purposes of determining
whether this requirement is met. Sec. 54D(e)(4).
---------------------------------------------------------------------------
As with other qualified tax credit bonds, the taxpayer
holding QECs on a credit allowance date is entitled to a tax
credit. However, the credit rate on the bonds is set by the
Secretary at a rate that is 70 percent of the rate that would
permit issuance of such bonds without discount and interest
cost to the issuer.\417\
---------------------------------------------------------------------------
\417\ Sec. 54D(b).
---------------------------------------------------------------------------
QZABs
A QZAB is any bond issued as part of an issue if: (1) 100
percent of the available project proceeds of such issue are to
be used for a qualified purpose with respect to a qualified
zone academy established by an eligible local education agency;
(2) the bond is issued by a State or local government within
the jurisdiction of which such academy is located; (3) the
issuer designates such bond as a QZAB and certifies that (a)
the private business contribution requirement will be met and
(b) it has the written approval of the eligible local education
agency for such bond issuance.\418\
---------------------------------------------------------------------------
\418\ Sec. 54E(a).
---------------------------------------------------------------------------
A ``qualified purpose'' is: (1) rehabilitating or repairing
the public school facility in which the qualified zone academy
is established; (2) providing equipment for use at such
academy; (3) developing course materials for education to be
provided at such academy; and (4) training teachers and other
school personnel in such academy.\419\
---------------------------------------------------------------------------
\419\ Sec. 54E(d)(3).
---------------------------------------------------------------------------
A public school (or academic program within a public
school) is a ``qualified zone academy'' if: (1) the public
school or program provides education and training below the
college level; (2) the public school or program is designed in
cooperation with business to enhance the academic curriculum,
increase graduation and employment rates, and better prepare
students for the rigors of college and the workforce; (3)
students in such public school or program will be subject to
the same academic standards and assessments as other students
educated by the eligible local education agency; (4) the
comprehensive education plan of such public school or program
is approved by the eligible local education agency; and (5)
either (a) the public school is located in an empowerment zone
or enterprise community designated under the Code, 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.\420\
---------------------------------------------------------------------------
\420\ Sec. 54E(d)(1); Pub. L. No. 79-396.
---------------------------------------------------------------------------
In general, the private business contribution requirement
is met where 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 present value (as of the date of the issue)
equal to at least 10 percent of the bond proceeds.\421\
---------------------------------------------------------------------------
\421\ Sec. 54E(b).
---------------------------------------------------------------------------
There is a national QZAB limitation for each calendar year.
For 2009 and 2010, the limitation is $1.4 billion.\422\ The
limitation is allocated by the Secretary among the States on
the basis of their respective populations of individuals below
the poverty line; each State education agency then make an
allocation of its shares of the national limitation to
qualified zone academies in the State.\423\ Unused limitation
may be carried only to the first two years following the unused
limitation year.\424\ For this purpose, a limitation amount
shall be treated as used on a first-in first-out basis.
---------------------------------------------------------------------------
\422\ Sec. 54E(c)(1).
\423\ Sec. 54E(c)(2).
\424\ Sec. 54E(c)(4).
---------------------------------------------------------------------------
QSCBs
In general
QSCBs must meet three requirements: (1) 100 percent of the
available project proceeds of the bond issue must be used for
the construction, rehabilitation, or repair of a public school
facility or for the acquisition of land on which such a bond-
financed facility is to be constructed; (2) the bond must be
issued by a State or local government within the jurisdiction
of which such school is located; and (3) the issuer must
designate such bonds as a QSCB.\425\
---------------------------------------------------------------------------
\425\ Sec. 54F(a).
---------------------------------------------------------------------------
National limitation
There is a national limitation on qualified school
construction bonds of $11 billion for calendar years 2009 and
2010, respectively.\426\
---------------------------------------------------------------------------
\426\ Sec. 54F(c).
---------------------------------------------------------------------------
Allocation to the States
The national limitation is tentatively allocated among the
States in proportion to respective amounts each such State is
eligible to receive under section 1124 of the Elementary and
Secondary Education Act of 1965 \427\ for the most recent
fiscal year ending before such calendar year. Forty percent of
the limitation is then allocated among the largest school
districts, and the amount each State is allocated under the
tentative allocation formula is then reduced by the amount
received by any local large educational agency within the
State.\428\ The limitation amount allocated to a State is
allocated by the State to issuers within such State.
---------------------------------------------------------------------------
\427\ Pub. L. No. 89-10.
\428\ Sec. 54F(d).
---------------------------------------------------------------------------
For allocation purposes, a ``State'' includes the District
of Columbia and any possession of the United States. The
provision provides a special rule for allocation for
possessions of the United States other than Puerto Rico under
the national limitation for States.\429\ Under this special
rule, an allocation to a possession other than Puerto Rico is
made on the basis of the respective populations of individuals
below the poverty line (as defined by the Office of Management
and Budget) rather than respective populations of children aged
five through seventeen. This special allocation reduces the
State allocation share of the national limitation otherwise
available for allocation among the States. Under another
special rule, the Secretary of the Interior may allocate $200
million of school construction bonds for 2009 and 2010,
respectively, to Indian schools.\430\ This special allocation
for Indian schools is to be used for purposes of the
construction, rehabilitation, and repair of schools funded by
the Bureau of Indian Affairs. For purposes of such allocations
Indian tribal governments are qualified issuers. The special
allocation for Indian schools does not reduce the State
allocation share of the national limitation otherwise available
for allocation among the States.
---------------------------------------------------------------------------
\429\ Sec. 54F(d)(3).
\430\ Sec. 54F(d)(4).
---------------------------------------------------------------------------
If an amount allocated under this allocation to the States
is unused for a calendar year it may be carried forward by the
State to the next calendar year.\431\
---------------------------------------------------------------------------
\431\ Sec. 54F(e).
---------------------------------------------------------------------------
Allocation to large school districts
Forty percent of the national limitation is allocated among
large local educational agencies in proportion to the
respective amounts each agency received under section 1124 of
the Elementary and Secondary Education Act of 1965 for the most
recent fiscal year ending before such calendar year.\432\ With
respect to a calendar year, the term large local educational
agency means any local educational agency if such agency is:
(1) among the 100 local educational agencies with the largest
numbers of children aged five through 17 from families living
below the poverty level, or (2) one of not more than 25 local
educational agencies (other than in (1), immediately above)
that the Secretary of Education determines are in particular
need of assistance, based on a low level of resources for
school construction, a high level of enrollment growth, or
other such factors as the Secretary of Education deems
appropriate. If any amount allocated to large local educational
agency is unused for a calendar year the agency may reallocate
such amount to the State in which the agency is located.
---------------------------------------------------------------------------
\432\ Sec. 54F(d)(2).
---------------------------------------------------------------------------
Explanation of Provision
For bonds originally issued after the date of enactment,
the provision allows an issuer of New CREBS, QECs, QZABs, or
QSCBs to make an irrevocable election on or before the issue
date of such bonds to receive a payment under section 6431 in
lieu of providing a tax credit to the holder of the bonds.\433\
The payment to the issuer on each payment date is equal to the
lesser of (1) the amount of interest payable under such bond on
such date, or (2) the amount of interest which would have been
payable under such bond on such date if such interest were
determined by the Secretary at the applicable credit rate under
section 54A(b)(3) with respect to such bond. In the case of a
New CREB or QEC, the amount determined pursuant to (2),
immediately above, is 70 percent of such amount, without regard
to sections 54C(b) and 54D(b). Bonds for which the election is
made count against the national limitation in the same way that
they would if no election were made.
---------------------------------------------------------------------------
\433\ It is anticipated that the election procedure will be similar
to the procedure for making the election required under Sec. 54AA(g)
for a direct-pay build America bond. See Notice 2009-26, 2009-16 I.R.B.
833.
---------------------------------------------------------------------------
The provision also adds a technical correction relating to
QSCBs. The technical correction provides first that the
limitation amount allocated to a State is to be allocated to
issuers within such State by the State education agency (or
such other agency as is authorized under State law to make such
allocation). In addition, the technical correction provides
that the rule in section 54F(e), permitting the carryover of
unused QSCB limitation by a State or Indian tribal government,
shall also apply to the 40 percent of QSCB limitation that is
allocated among the largest school districts.
Effective Date
The provision is effective for bonds issued after the date
of enactment (March 18, 2010). The technical correction is
effective as if it were included in section 1521 of ARRA.
TITLE IV--EXTENSION OF CURRENT SURFACE TRANSPORTATON PROGRAMS
A. Revenue Provisions Relating to the Highway Trust Fund (secs. 441-445
of the Act and secs. 9503 and 9504 of the Code)
Present Law
Extension of expenditure authority
The Highway Trust Fund was established in 1956. It is
divided into two accounts, a Highway Account and a Mass Transit
Account, each of which is the funding source for specific
transportation programs. The Highway Trust Fund is funded by
taxes on motor fuels (gasoline, kerosene, diesel fuel, and
certain alternative fuels), a tax on heavy vehicle tires, a
retail sales tax on certain trucks, trailers and tractors, and
an annual use tax for heavy highway vehicles. The current
expenditure authority for the Highway Trust Fund generally
expires on March 1, 2010.\434\
---------------------------------------------------------------------------
\434\ The Department of Defense Appropriations Act of 2010, Pub. L.
No. 111-118, Division B, sec. 1008 (2009).
---------------------------------------------------------------------------
The Sport Fish Restoration and Boating Trust Fund is the
funding source for certain coastal wetlands preservation,
recreational boating safety, sport fish restoration and other
programs. The current expenditure authority for the Sport Fish
Restoration and Boating Trust Fund generally expires on March
1, 2010.
Crediting of interest
With respect to trust funds established by the Code, the
Code requires that the Secretary invest the balances not needed
to meet current withdrawals in interest-bearing obligations of
the United States. The interest is credited to the respective
Trust Fund.\435\ However, as of September 30, 1998, the ability
of the Highway Trust Fund to earn interest on its unexpended
balances was terminated.\436\
---------------------------------------------------------------------------
\435\ Sec. 9602(b).
\436\ Sec. 9503(f)(2).
---------------------------------------------------------------------------
Transfers from the Highway Trust Fund to the General Fund for certain
payments and credits
Under present law, revenues from the highway excise taxes
generally are dedicated to the Highway Trust Fund. However,
under section 9503(c)(2) of the Code, certain transfers are
made from the Highway Trust Fund into the General Fund,
relating to amounts paid in respect of gasoline used on farms,
amounts paid in respect of gasoline used for certain nonhighway
purposes or by local transit systems, amounts relating to fuels
not used for taxable purposes, and income tax credits for
certain uses of fuels.
Explanation of Provision
Extension of expenditure authority
The provision extends expenditure authority for the Highway
Trust Fund through December 31, 2010. It also extends the
expenditure authority for the Sport Fish Restoration and
Boating Trust Fund through December 31, 2010.
Crediting of interest
Restoration of forgone interest
The provision transfers $19.5 billion to the Highway Trust
Fund, of that amount $14.7 billion is appropriated to the
Highway Account of the Highway Trust Fund and $4.8 billion is
appropriated to the Mass Transit Account. The amounts
appropriated pursuant to this provision remain available
without fiscal year limitation.
Repeal of provision prohibiting the crediting of interest
The provision repeals the requirement that obligations held
by the Highway Trust Fund not be interest-bearing. The
provision permits amounts in the Trust Fund to be invested in
interest-bearing obligations of the United States and have the
interest be credited to, and form a part of, the Highway Trust
Fund. Thus, the Highway Trust Fund will accrue interest under
the provision.
Termination of transfers from the Highway Trust Fund for certain
repayments and credits
The provision repeals section 9503(c)(2), eliminating the
requirement that the Highway Trust Fund reimburse the General
Fund for credits and payments related to nontaxable uses.
Effective Date
The provisions are generally effective on the date of
enactment (March 18, 2010). The expenditure authority
provisions are effective September 30, 2009. The provision
terminating transfers from the Highway Trust Fund is effective
for transfers relating to amounts paid and credits allowed
after the date of enactment (March 18, 2010).
TITLE V--OFFSET PROVISIONS
A. Foreign Account Tax Compliance
1. Reporting on certain foreign accounts (sec. 501 of the Act and new
secs. 1471-1474 and sec. 6611 of the Code)
Present Law
Withholding on payments to foreign persons
Payments of U.S.-source fixed or determinable annual or
periodical (``FDAP'') income, including interest, dividends,
and similar types of investment income, that are made to
foreign persons are subject to U.S. withholding tax at a 30-
percent rate, unless the withholding agent can establish that
the beneficial owner of the amount is eligible for an exemption
from withholding or a reduced rate of withholding under an
income tax treaty.\437\ The term ``FDAP income'' includes all
items of gross income,\438\ except gains on sales of property
(including market discount on bonds and option premiums).\439\
---------------------------------------------------------------------------
\437\ Secs. 871, 881, 1441, 1442; Treas. Reg. sec. 1.1441-1(b). For
purposes of the withholding tax rules applicable to payments to
nonresident alien individuals and foreign corporations, a withholding
agent is defined broadly to include any U.S. or foreign person that has
the control, receipt, custody, disposal, or payment of an item of
income of a foreign person subject to withholding. Treas. Reg. sec.
1.1441-7(a).
\438\ Although technically insurance premiums paid to a foreign
insurer or reinsurer are FDAP income, they are exempt from withholding
under Treas. Reg. sec. 1.1441-2(a)(7) if the insurance contract is
subject to the excise tax under section 4371.
\439\ Treas. Reg. sec. 1.1441-2(b)(1)(i), -2(b)(2). However, gain
on a sale or exchange of section 306 stock of a domestic corporation is
FDAP income to the extent section 306(a) treats the gain as ordinary
income. Treas. Reg. sec. 1.306-3(h).
---------------------------------------------------------------------------
Interest is derived from U.S. sources if it is paid by the
United States or any agency or instrumentality thereof, a State
or any political subdivision thereof, or the District of
Columbia. Interest is also from U.S. sources if it is paid by a
resident or a domestic corporation on a bond, note, or other
interest-bearing obligation.\440\ Dividend income is sourced by
reference to the payor's place of incorporation.\441\ Thus,
dividends paid by a domestic corporation are generally treated
as entirely U.S.-source income. Similarly, dividends paid by a
foreign corporation are generally treated as entirely foreign-
source income. Rental income is sourced by reference to the
location or place of use of the leased property.\442\ The
nationality or the country of residence of the lessor or lessee
does not affect the source of rental income. Rental income from
property located or used in the United States (or from any
interest in such property) is U.S.-source income, regardless of
whether the property is real or personal, intangible or
tangible. Royalties are sourced in the place of use (or the
privilege of use) of the property for which the royalties are
paid.\443\ This source rule applies to royalties for the use of
either tangible or intangible property, including patents,
copyrights, secret processes, formulas, goodwill, trademarks,
trade names, and franchises.
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\440\ Sec. 861(a)(1); Treas. Reg. sec. 1.861-2(a)(1). Interest paid
by the U.S. branch of a foreign corporation is also treated as U.S.-
source interest under section 884(f)(1).
\441\ Secs. 861(a)(2), 862(a)(2).
\442\ Sec. 861(a)(4).
\443\ Ibid.
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The principal statutory exemptions from the 30-percent
withholding tax apply to interest on bank deposits, portfolio
interest, and gains derived from the sale of property. Since
1984, the United States has not imposed withholding tax on
portfolio interest received by a nonresident individual or
foreign corporation from sources within the United States.\444\
Portfolio interest includes, generally, any interest (including
original issue discount) other than interest received by a 10-
percent shareholder,\445\ certain contingent interest,\446\
interest received by a controlled foreign corporation from a
related person,\447\ and interest received by a bank on an
extension of credit made pursuant to a loan agreement entered
into in the ordinary course of its trade or business.\448\
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\444\ Secs. 871(h), 881(c). Congress believed that the imposition
of a withholding tax on portfolio interest paid on debt obligations
issued by U.S. persons might impair the ability of domestic
corporations to raise capital in the Eurobond market (i.e., the global
market for U.S. dollar-denominated debt obligations). Congress also
anticipated that repeal of the withholding tax on portfolio interest
would allow the Treasury Department direct access to the Eurobond
market. See Joint Committee on Taxation, General Explanation of the
Revenue Provisions of the Deficit Reduction Act of 1984 (JCS-41-84),
December 31, 1984, pp. 391-92.
\445\ Sec. 871(h)(3). A 10-percent shareholder includes any person
who owns 10 percent or more of the total combined voting power of all
classes of stock of the corporation (in the case of a corporate
obligor), or 10 percent or more of the capital or profits interest of
the partnership (in the case of a partnership obligor). The attribution
rules of section 318 apply for this purpose, with certain
modifications.
\446\ Sec. 871(h)(4). Contingent interest generally includes any
interest if the amount of such interest is determined by reference to
any receipts, sales, or other cash flow of the debtor or a related
person; any income or profits of the debtor or a related person; any
change in value of any property of the debtor or a related person; any
dividend, partnership distributions, or similar payments made by the
debtor or a related person; and any other type of contingent interest
identified by Treasury regulation. Certain exceptions also apply.
\447\ Sec. 881(c)(3)(C). A related person includes, among other
things, an individual owning more than 50 percent of the stock of the
corporation by value, a corporation that is a member of the same
controlled group (defined using a 50-percent common ownership test), a
partnership if the same persons own more than 50 percent in value of
the stock of the corporation and more than 50 percent of the capital
interests in the partnership, any U.S. shareholder (as defined in
section 951(b) and generally including any U.S. person who owns 10
percent or more of the voting stock of the corporation), and certain
persons related to such a U.S. shareholder.
\448\ Sec. 881(c)(3)(A).
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In the case of interest paid on a debt obligation that is
in registered form,\449\ the portfolio interest exemption is
available only to the extent that the U.S. person otherwise
required to withhold tax (the ``withholding agent'') has
received a statement made by the beneficial owner of the
obligation (or a securities clearing organization, bank, or
other financial institution that holds customers' securities in
the ordinary course of its trade or business) that the
beneficial owner is not a U.S. person.\450\
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\449\ An obligation is treated as in registered form if: (1) it is
registered as to both principal and interest with the issuer (or its
agent) and transfer of the obligation may be effected only by surrender
of the old instrument and either the reissuance by the issuer of the
old instrument to the new holder or the issuance by the issuer of a new
instrument to the new holder; (2) the right to principal and stated
interest on the obligation may be transferred only through a book entry
system maintained by the issuer or its agent; or (3) the obligation is
registered as to both principal and interest with the issuer or its
agent and may be transferred through both of the foregoing methods.
Treas. Reg. sec. 5f.103-1(c).
\450\ Sec. 871(h)(2)(B), (5); Treas. Reg. sec. 1.871-14(e). This
certification of non-U.S. ownership most commonly is made on an IRS
Form W-8. This certification is not valid if the Secretary determines
that statements from the person making the certification do not meet
certain requirements.
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Interest on deposits with foreign branches of domestic
banks and domestic savings and loan associations is not treated
as U.S.-source income and is thus exempt from U.S. withholding
tax (regardless of whether the recipient is a U.S. or foreign
person).\451\ In addition, interest on bank deposits, deposits
with domestic savings and loan associations, and certain
amounts held by insurance companies are not subject to the U.S.
withholding tax when paid to a foreign person, unless the
interest is effectively connected with a U.S. trade or business
of the recipient.\452\ Similarly, interest and original issue
discount on certain short-term obligations is also exempt from
U.S. withholding tax when paid to a foreign person.\453\
Additionally, there is no information reporting with respect to
payments of such amounts.\454\
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\451\ Sec. 861(a)(1)(B); Treas. Reg. sec. 1.1441-1(b)(4)(iii).
\452\ Secs. 871(i)(2)(A), 881(d); Treas. Reg. sec. 1.1441-
1(b)(4)(ii). If the bank deposit interest is effectively connected with
a U.S. trade or business, it is subject to regular U.S. income tax
rather than withholding tax.
\453\ Secs. 871(g)(1)(B), 881(a)(3); Treas. Reg. sec. 1.1441-
1(b)(4)(iv).
\454\ Treas. Reg. sec. 1.1461-1(c)(2)(ii)(A), (B). However,
Treasury regulations require a bank to report interest if the recipient
is a resident of Canada and the deposit is maintained at an office in
the United States. Treas. Reg. secs. 1.6049-4(b)(5), 1.6049-8. This
reporting is required to comply with the obligations of the United
States under the U.S.-Canada income tax treaty. T.D. 8664, 1996-1 C.B.
292. In 2001, the IRS and the Treasury Department issued proposed
regulations that would require annual reporting to the IRS of U.S. bank
deposit interest paid to any foreign individual. 66 Fed. Reg. 3925
(Jan. 17, 2001). The 2001 proposed regulations were withdrawn in 2002
and replaced with proposed regulations that would require reporting
with respect to payments made only to residents of certain specified
countries (Australia, Denmark, Finland, France, Germany, Greece,
Ireland, Italy, the Netherlands, New Zealand, Norway, Portugal, Spain,
Sweden, and the United Kingdom). 67 Fed. Reg. 50,386 (Aug. 2, 2002).
The proposed regulations have not been finalized.
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Gains derived from the sale of property by a nonresident
alien individual or foreign corporation generally are exempt
from U.S. tax, unless they are or are treated as effectively
connected with the conduct of a U.S. trade or business. Gains
derived by a nonresident alien individual generally are subject
to U.S. taxation only if the individual is present in the
United States for 183 days or more during the taxable
year.\455\ Foreign corporations are subject to tax with respect
to certain gains on disposal of timber, coal, or domestic iron
ore and certain gains from contingent payments made in
connection with sales or exchanges of patents, copyrights,
goodwill, trademarks, and similar intangible property.\456\
Gain from the disposition of certain U.S. real property
interests (which include interests in U.S. real property
holding corporations) are treated as effectively connected with
a U.S. trade or business.\457\ Special rules apply in the case
of interests in real estate investment trusts or interests in
regulated investment companies that are or which would be, if
not for certain exceptions, U.S. real property holding
corporations.\458\ Most gains realized by foreign investors on
the sale of portfolio investment securities thus are exempt
from U.S. taxation.
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\455\ Sec. 871(a)(2). In most cases, however, an individual
satisfying this presence test will be treated as a U.S. resident under
section 7701(b)(3), and thus will be subject to full residence-based
U.S. income taxation.
\456\ Secs. 881(a), 631(b), (c).
\457\ Sec. 897. Section 1445 imposes withholding requirements with
respect to such dispositions.
\458\ See sec. 897(h).
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The 30-percent withholding tax may be reduced or eliminated
by a tax treaty between the United States and the country in
which the recipient of income otherwise subject to withholding
is resident. Most U.S. income tax treaties provide a zero rate
of withholding tax on interest payments (other than certain
interest the amount of which is determined by reference to
certain income items or other amounts of the debtor or a
related person). Most U.S. income tax treaties also reduce the
rate of withholding on dividends to 15 percent (in the case of
portfolio dividends) and to five percent (in the case of
``direct investment'' dividends paid to a 10 percent-or-greater
shareholder).\459\ For royalties, the U.S. withholding rate is
typically reduced to five percent or to zero. In each case, the
reduced withholding rate is available only to a beneficial
owner who is treated as a resident of the treaty country within
the meaning of the treaty and satisfies all other treaty
requirements including any applicable limitation on benefits
provisions of the treaty.
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\459\ A number of recent U.S. income tax treaties eliminate
withholding tax on dividends paid to a majority (typically 80-percent
or greater) shareholder, including the present treaties with Australia,
Belgium, Denmark, Finland, Germany, Japan, Mexico, the Netherlands,
Sweden, and the United Kingdom.
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Refund or credits of taxes withheld from foreign persons
A withholding agent that makes payments of U.S.-source
amounts to a foreign person is required to report those
payments, including any amounts of U.S. tax withheld, to the
IRS on IRS Forms 1042 and 1042-S by March 15 of the calendar
year following the year in which the payment is made.\460\ To
the extent that the withholding agent deducts and withholds an
amount, the withheld tax is credited to the recipient of the
income.\461\ If the agent withholds more than is required, and
results in an overpayment of tax, the excess may be refunded to
the recipient of the income upon filing of a timely claim for
refund.
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\460\ Treas. Reg. sec. 1.1461-1(b), (c). IRS Form 1042, ``Annual
Withholding Tax Return for U.S. Source Income of Foreign Persons,'' is
the IRS form on which a withholding agent reports a summary of the
total U.S.-source income paid and withholding tax withheld on foreign
persons for the year. IRS Form 1042-S, ``Foreign Person's U.S. Source
Income Subject to Withholding,'' is the IRS form on which a withholding
agent reports, to the foreign person and the IRS, a foreign person's
U.S.-source income that is subject to reporting.
\461\ Sec. 1462.
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Payment of tax
The date an amount is paid is relevant for determining the
limitations period in which to claim a refund, the amount of
refund available,\462\ and the period for which interest may
accrue on any overpayment.\463\ An amount that is withheld,
paid or credited as an estimate or deposit of tax generally
does not count as the payment of tax until applied to a
specific tax liability. To the extent that amounts previously
withheld, paid or credited as an estimate or deposit of tax are
applied to the tax liability for a year, they are deemed to
have been paid as of the last day prescribed for payment of the
tax, for both the recipient of the income \464\ and the
withholding agent.\465\ Amounts that are refunded, credited to
other periods, or offset against other liabilities are not
considered as paid for this purpose.\466\ Any amount that was
previously paid but has been credited to a later year is
considered credited on the last day prescribed for the payment
of tax.\467\
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\462\ See secs. 6511(a) (prescribing the period within which a
claim must be filed) and 6511(b)(2) (limiting the amount that can be
recovered if a claim is not filed within three years of filing a
return). If a return is not filed, a claim for refund of any tax paid
must be filed within two years of payment.
\463\ Ses. 6611(b)(2), (d).
\464\ Sec. 6513(b)(3).
\465\ Sec. 6513(c)(2).
\466\ Sec. 6513(d).
\467\ Sec. 6513(d).
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Interest on overpayments
The IRS is generally required to pay interest to a taxpayer
whenever there is an overpayment of tax.\468\ An overpayment of
tax exists whenever more than the correct amount of tax is paid
as of the last date prescribed for the payment of the tax. The
last date prescribed for the payment of the income tax is the
original due date of the return.\469\ However, no interest is
required to be paid by the IRS if it refunds or credits the
amount due within 45 days of the filing of the return.\470\
Notwithstanding these general rules, if a required return on
which the payment should have been reported is either not
filed, or is filed late, no interest on the overpayment accrues
for any period prior to the filing of the return.\471\
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\468\ Sec. 6611.
\469\ Sec. 6601(b).
\470\ Sec. 6611(e).
\471\ Sec. 6611(b)(3).
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Different interest rates are provided for the payment of
interest depending upon the type of taxpayer, whether the
interest relates to an underpayment or overpayment, and the
size of the underpayment or overpayment. Interest on both
underpayments and overpayments is compounded daily.\472\ A
special net interest rate of zero applies in situations where
interest is both payable and allowable on offsetting amounts of
overpayment and underpayment.\473\ For individuals, interest on
both underpayments and overpayments accrues at a rate equal to
the short term applicable Federal rate (``AFR'') plus three
percentage points.\474\ Interest on corporate overpayments
generally accrues at a rate equal to the short term AFR plus
two percentage points, unless the overpayment exceeds $10,000
in which case interest accrues at a rate equal to the short
term AFR plus one-half percentage point.
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\472\ Sec. 6622.
\473\ Sec. 6621(d).
\474\ Sec. 6621.
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Period of overpayment
If the overpayment is to be refunded to the taxpayer,
interest accrues on the overpayment from the later of the due
date of the return or the date the payment is made until a date
that is not more than 30 days before the date of the refund
check.\475\ If the overpayment is to be credited or offset
against some other liability, interest will accrue until the
date it is so credited or offset.
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\475\ Sec. 6611(b)(2).
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A payment is not considered made by the taxpayer earlier
than the time the taxpayer files a return showing the
liability. However, in MNOPF Trustees, Ltd. v. United
States,\476\ the Federal Circuit held that overpayment interest
accrued on the taxes unnecessarily withheld from the date that
the withholdings were paid to the Service, because MNOPF was a
tax-exempt organization, and, therefore, was not required to
file tax returns. As a result, the court rejected arguments by
the government that interest commenced no earlier than the
filing of the refund claims. The court reasoned that sections
6611(d) and 6513(b)(3) did not apply because those sections
only relate to taxable income and the taxpayer was exempt from
Federal taxation. Instead, the court held that the
organization's overpayment was deemed paid, pursuant to section
6611(b)(2), on the date the withholding agent filed the returns
reporting the withheld taxes.
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\476\ 123 F.3d 1460, 1465 (Fed. Cir. 1997).
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No interest accrues on an overpayment if the IRS makes the
refund within 45 days of the later of the filing or the due
date of the return showing the refund. If the IRS fails to make
the refund within such 45-day period, interest is required to
be paid for the entire period of the overpayment. For example,
an individual taxpayer files his return on April 15, properly
showing a refund due of $10,000. If the IRS pays the refund
within 45 days, no interest on the overpayment will be
required. However, if the IRS does not pay the refund until the
46th day, interest will be required from April 15.
Certification of foreign status and reporting by U.S. withholding
agents
The U.S. withholding tax rules are administered through a
system of self-certification. Thus, a nonresident investor
seeking to obtain withholding tax relief for U.S.-source
investment income typically must provide a certification, on
IRS Form W-8 to the withholding agent to establish foreign
status and eligibility for an exemption or reduced rate.
Provision of the IRS Form W-8 also establishes an exemption
from the rules that apply to many U.S. persons governing
information reporting on IRS Form 1099 and backup withholding
(discussed below).\477\
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\477\ See Treas. Reg. sec. 1.1441-1(b)(5).
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There are four relevant types of IRS Forms W-8.\478\ Three
of these forms are designed to be provided to the withholding
agent by the beneficial owner of a payment of U.S.-source
income: \479\ (1) the IRS Form W-8BEN, which is provided by a
beneficial owner of U.S.-source non-effectively-connected
income; (2) the IRS Form W-8ECI, which is provided by a
beneficial owner of U.S.-source effectively-connected income;
\480\ and (3) the IRS Form W-8EXP, which is provided by a
beneficial owner of U.S.-source income that is an exempt
organization or foreign government.\481\ Each of these forms
requires that the beneficial owner provide its name and address
and certify that the beneficial owner is not a U.S. person. The
IRS Form W-8BEN also includes a certification of eligibility
for treaty benefits (for completion where applicable). All
certifications on IRS Forms W-8 are made under penalties of
perjury.
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\478\ A fifth type of IRS Form W-8, the W-8CE, is filed to provide
the payor with notice of a taxpayer's expatriation.
\479\ The United States imposes tax on the beneficial owner of
income, not its formal recipient. For example, if a U.S. citizen owns
securities that are held in ``street'' name at a brokerage firm, that
U.S. citizen (and not the brokerage firm nominee) is treated as the
beneficial owner of the securities. A corporation (and not its
shareholders) ordinarily is treated as the beneficial owner of the
corporation's income. Similarly, a foreign complex trust ordinarily is
treated as the beneficial owner of income that it receives, and a U.S.
beneficiary or grantor is not subject to tax on that income unless and
until he receives a distribution.
\480\ The IRS Form W-8ECI requires that the beneficial owner
specify the items of income to which the form is intended to apply and
certify that those amounts are effectively connected with the conduct
of a trade or business in the United States and includible in the
beneficial owner's gross income for the taxable year.
\481\ The IRS Form W-8EXP requires that the beneficial owner
certify as to its qualification as a foreign government, an
international organization, a foreign central bank of issue or a
foreign tax-exempt organization, in each case meeting certain
requirements.
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The fourth type of IRS Form W-8 is the IRS Form W-8IMY,
which is provided by a payee that receives a payment of U.S.-
source income as an intermediary for the beneficial owner of
that income. The intermediary's IRS Form W-8IMY must be
accompanied by an IRS Form W-8BEN, W-8EXP, or W-8ECI, as
applicable,\482\ furnished by the beneficial owner, unless the
intermediary is a qualified intermediary (``QI''), a
withholding foreign partnership, or a withholding foreign
trust. The rules applicable to qualified intermediaries are
discussed below. A withholding foreign partnership or trust is
a foreign partnership or trust that has entered into an
agreement with the IRS to collect appropriate IRS Forms W-8
from its partners or beneficiaries and act as a U.S.
withholding agent with respect to those persons.\483\
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\482\ In limited cases, the intermediary may furnish documentary
evidence, other than the IRS Form W-8, of the status of the beneficial
owner.
\483\ Rev. Proc. 2003-64, 2003-32 I.R.B. 306 (July 10, 2003),
provides procedures for qualification as a withholding foreign
partnership or withholding foreign trust in addition to providing model
withholding agreements.
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Information reporting and backup withholding with respect to U.S.
persons
Every person engaged in a trade or business must file with
the IRS an information return on IRS Form 1099 (or, for wages
or other compensation, on IRS Form W-2) for payments of certain
amounts totaling at least $600 that it makes to another person
in the course of its trade or business.\484\ Detailed rules are
provided for the reporting of various types of investment
income, including interest, dividends, and gross proceeds from
brokered transactions (such as a sale of stock).\485\ In
general, the requirement to file IRS Form 1099 applies with
respect to amounts paid to U.S. persons and is linked to the
backup withholding rules of section 3406. Thus, to avoid backup
withholding, a U.S. payee (other than exempt recipients,
including corporations and financial institutions) of interest,
dividends, or gross proceeds generally must furnish to the
payor an IRS Form W-9 providing that person's name and taxpayer
identification number.\486\ That information is then used to
complete the IRS Form 1099.
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\484\ Sec. 6041; Treas. Reg. secs. 1.6041-1, 1.6041-2.
\485\ See secs. 6042 (dividends), 6045 (broker reporting), 6049
(interest), and the corresponding Treasury regulations.
\486\ See Treas. Reg. secs. 31.3406(d)-1, 31.3406(h)-3.
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If an IRS Form W-9 is not provided by a U.S. payee (other
than payees exempt from reporting), the payor is required to
impose a backup withholding tax of 28 percent of the gross
amount of the payment.\487\ The backup withholding tax may be
credited by the payee against regular income tax
liability.\488\ This combination of reporting and backup
withholding is designed to ensure that U.S. persons not exempt
from reporting pay tax with respect to investment income,
either by providing the IRS with the information that it needs
to audit payment of the tax or, in the absence of such
information, requiring collection of the tax on payment.
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\487\ Sec. 3406(a)(1).
\488\ Sec. 3406(h)(10).
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As described above, amounts paid to foreign persons are
generally exempt from information reporting on IRS Form 1099.
Foreign persons are subject to a separate information reporting
requirement linked to the nonresident withholding provisions of
chapter 3 of the Code.
In the case of U.S. source investment income, the
information reporting, backup withholding and nonresident
withholding rules apply broadly to any financial institution or
other payor, including foreign financial institutions.\489\ As
a practical matter, however, these reporting and withholding
requirements are difficult to enforce with respect to foreign
financial institutions, unless these institutions have some
connection to the United States, e.g., the institution is a
foreign subsidiary of a U.S. financial institution, or the
foreign financial institution is doing business in the United
States. Moreover, to the extent that these rules apply to
foreign financial institutions, the rules may also be modified
by QI agreements between the institutions and the IRS, as
described below.
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\489\ See Treas. Reg. secs. 1.1441-7(a) (definition of withholding
agent includes foreign persons), 31.3406(a)-2 (payor for backup
withholding purposes means the person (the payor) required to file
information returns for payments of interest, dividends, and gross
proceeds (and other amounts)), 1.6049-4(a)(2) (definition of payor for
interest reporting purposes does not exclude foreign persons), 1.6042-
3(b)(2) (payor for dividend reporting purposes has the same meaning as
for interest reporting purposes), 1.6045-1(a)(1) (brokers required to
report include foreign persons). But see Treas. Reg. secs. 1.6049-5(b)
(exception for interest from sources outside the U.S. paid outside the
U.S. by a non-U.S. payor or a non-U.S. middleman), 1.6045-1(g)(1)(i)
(exception for sales effected at an office outside the U.S. by a non-
U.S. payor or a non-U.S. middleman), 1.6042-3(b)(1)(iv) (exceptions for
distributions from sources outside the U.S. by a non-U.S. payor or a
non-U.S. middleman).
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The qualified intermediary program
A QI is defined as a foreign financial institution or a
foreign clearing organization, other than a U.S. branch or U.S.
office of such institution or organization, or a foreign branch
of a U.S. financial institution that has entered into a
withholding and reporting agreement (a ``QI agreement'') with
the IRS.\490\
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\490\ The definition also includes: a foreign branch or office of a
U.S. financial institution or U.S. clearing organization; a foreign
corporation for purposes of presenting income tax treaty claims on
behalf of its shareholders; and any other person acceptable to the IRS,
in each case that such person has entered into a withholding agreement
with the IRS. Treas. Reg. sec. 1.1441-1(e)(5)(ii).
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A foreign financial institution that becomes a QI is not
required to forward beneficial ownership information with
respect to its customers to a U.S. financial institution or
other withholding agent of U.S.-source investment-type income
to establish the customer's eligibility for an exemption from,
or reduced rate of, U.S. withholding tax.\491\ Instead, the QI
is permitted to establish for itself the eligibility of its
customers for an exemption or reduced rate, based on an IRS
Form W-8 or W-9, or other specified documentary evidence, and
information as to residence obtained under the know-your-
customer rules to which the QI is subject in its home
jurisdiction as approved by the IRS or as specified in the QI
agreement.\492\ The QI certifies as to eligibility on behalf of
its customers, and provides withholding rate pool information
to the U.S. withholding agent as to the portion of each payment
that qualifies for an exemption or reduced rate of withholding.
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\491\ U.S. withholding agents are allowed to rely on a QI's IRS
Form W-8IMY without any underlying beneficial owner documentation. By
contrast, nonqualified intermediaries are required both to provide an
IRS Form W-8IMY to a U.S. withholding agent and to forward with that
document IRS Forms W-8 or W-9 or other specified documentation for each
beneficial owner.
\492\ See Rev. Proc. 2000-12, 2000-1 C.B. 387, QI agreement secs.
2.12, 5.03, 6.01.
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The IRS has published a model QI agreement for foreign
financial institutions.\493\ A prospective QI must submit an
application to the IRS providing specified information, and any
additional information and documentation requested by the IRS.
The application must establish to the IRS's satisfaction that
the applicant has adequate resources and procedures to comply
with the terms of the QI agreement.
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\493\ Rev. Proc. 2000-12, 2000-1 C.B. 387, supplemented by
Announcement 2000-50, 2000-1 C.B. 998, and modified by Rev. Proc. 2003-
64, 2003-2 C.B. 306, and Rev. Proc. 2005-77, 2005-2 C.B. 1176. The QI
agreement applies only to foreign financial institutions, foreign
clearing organizations, and foreign branches or offices of U.S.
financial institutions or U.S. clearing organizations. However, the
principles of the QI agreement may be used to conclude agreements with
other persons defined as QIs.
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Before entering into a QI agreement that provides for the
use of documentary evidence obtained under a country's know-
your-customer rules, the IRS must receive (1) that country's
know-your-customer practices and procedures for opening
accounts and (2) responses to 18 related items.\494\ If the IRS
has already received this information, a particular prospective
QI need not submit it again. The IRS has received such
information and has approved know-your-customer rules in 59
countries.
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\494\ See Rev. Proc. 2000-12, 2000-1 C.B. 387, sec. 3.02.
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A foreign financial institution or other eligible person
becomes a QI by entering into an agreement with the IRS. Under
the agreement, the financial institution acts as a QI only for
accounts that the financial institution has designated as QI
accounts. A QI is not required to act as a QI for all of its
accounts; however, if a QI designates an account as one for
which it will act as a QI, it must act as a QI for all payments
made to that account.
The model QI agreement describes in detail the QI's
withholding and reporting obligations. Certain key aspects of
the model agreement are described below.\495\
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\495\ Additional detail can be found in Joint Committee on
Taxation, Selected Issues Relating to Tax Compliance with Respect to
Offshore Accounts and Entities (JCX-65-08), July 23, 2008.
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Withholding and reporting responsibilities
As a technical matter, all QIs are withholding agents for
purposes of the nonresident withholding and reporting rules,
and payors (who are required to withhold and report) for
purposes of the backup withholding and IRS Form 1099
information reporting rules. However, under the QI agreement, a
QI may choose not to assume primary responsibility for
nonresident withholding. In that case, the QI is not required
to withhold on payments made to non-U.S. customers, or to
report those payments on IRS Form 1042-S. Instead, the QI must
provide a U.S. withholding agent with an IRS Form W-8IMY that
certifies as to the status of its (unnamed) non-U.S. account
holders and withholding rate pool information.
Similarly, a QI may choose not to assume primary
responsibility for IRS Form 1099 reporting and backup
withholding. In that case, the QI is not required to backup
withhold on payments made to U.S. customers or to file IRS
Forms 1099. Instead, the QI must provide a U.S. payor with an
IRS Form W-9 for each of its U.S. non-exempt recipient account
holders (i.e., account holders that are U.S. persons not
generally exempt from IRS Form 1099 reporting and backup
withholding).\496\
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\496\ Regardless of whether a QI assumes primary Form 1099
reporting and backup withholding responsibility, the QI is responsible
for IRS Form 1099 reporting and backup withholding on certain
reportable payments that are not reportable amounts. See Rev. Proc.
2000-12, 2001-1 C.B. 387, QI agreement secs. 2.43 (defining reportable
amount), 2.44 (defining reportable payment), 3.05, 8.04. The reporting
responsibility differs depending on whether the QI is a U.S. payor or a
non-U.S. payor. Examples of payments for which the QI assumes primary
IRS Form 1099 reporting and backup withholding responsibility include
certain broker proceeds from the sale of certain assets owned by a U.S.
non-exempt recipient and payments of certain foreign-source income to a
U.S. non-exempt recipient if such income is paid in the United States
or to an account maintained in the United States.
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A QI may elect to assume primary nonresident withholding
and reporting responsibility, primary backup withholding and
IRS Form 1099 reporting responsibility, or both.\497\ A QI that
assumes such responsibility is subject to all of the related
obligations imposed by the Code on U.S. withholding agents or
payors. The QI must also provide the U.S. withholding agent (or
U.S. payor) additional information about the withholding rates
to enable the withholding agent to appropriately withhold and
report on payments made through the QI. These rates can be
supplied with respect to withholding rate pools that aggregate
payments of a single type of income (e.g., interest or
dividends) that is subject to a single rate of withholding.
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\497\ To the extent that a QI assumes primary responsibility for an
account, it must do so for all payments made by the withholding agent
to that account. See Rev. Proc. 2000-12, QI agreement sec. 3.
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If a U.S. non-exempt recipient has not provided an IRS Form
W-9, the QI must disclose the name, address, and taxpayer
identification number (``TIN'') (if available) to the
withholding agent (and the withholding agent must apply backup
withholding). However, no such disclosure is necessary if the
QI is, under local law, prohibited from making the disclosure
and the QI has followed certain procedural requirements
(including providing for backup withholding, as described
further below).
Documentation of account holders
A QI agrees to use its best efforts to obtain documentation
regarding the status of their account holders in accordance
with the terms of its QI agreement.\498\ A QI must apply
presumption rules \499\ unless a payment can be reliably
associated with valid documentation from the account holder.
The QI agrees to adhere to the know-your-customer rules set
forth in the QI agreement with respect to the account holder
from whom the evidence is obtained.
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\498\ See Rev. Proc. 2000-12, QI agreement sec. 5.
\499\ The QI agreement contains its own presumption rules. See Rev.
Proc. 2000-12, QI agreement sec. 5.13(C). An amount subject to
withholding that is paid outside the United States to an account
maintained outside the United States is presumed made to an
undocumented foreign account holder (i.e., subject to 30-percent
withholding). Payments of U.S. source deposit interest and certain
other U.S. source interest and original issue discount paid outside of
the United States to an offshore account is presumed made to an
undocumented U.S. non-exempt account holder (i.e., subject to backup
withholding). For payments of foreign source income, broker proceeds
and certain other amounts, the QI can assume such payments are made to
an exempt recipient if the amounts are paid outside the United States
to an account maintained outside the United States.
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A QI may treat an account holder as a foreign beneficial
owner of an amount if the account holder provides a valid IRS
Form W-8 (other than an IRS Form W-8IMY) or valid documentary
evidence that supports the account holder's status as a foreign
person.\500\ With such documentation, a QI generally may treat
an account holder as entitled to a reduced rate of withholding
if all the requirements for the reduced rate are met and the
documentation supports entitlement to a reduced rate. A QI may
not reduce the rate of withholding if the QI knows that the
account holder is not the beneficial owner of a payment to the
account.
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\500\ Documentary evidence is any documentation obtained under
know-your-customer rules per the QI agreement, evidence sufficient to
establish a reduced rate of withholding under Treas. Reg. sec. 1.1441-
6, and evidence sufficient to establish status for purposes of chapter
61 under Treas. Reg. sec. 1.6049-5(c). See Rev. Proc. 2000-12, 2000-1
C.B. 387, QI agreement sec. 2.12.
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If a foreign account holder is the beneficial owner of a
payment, then a QI may shield the account holder's identity
from U.S. custodians and the IRS. If a foreign account holder
is not the beneficial owner of a payment (for example, because
the account holder is a nominee), the account holder must
provide the QI with an IRS Form W-8IMY for itself along with
specific information about each beneficial owner to which the
payment relates. A QI that receives this information may shield
the account holder's identity from a U.S. custodian, but not
from the IRS.\501\
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\501\ This rule restricts one of the principal benefits of the QI
regime, nondisclosure of account holders, to financial institutions
that have assumed the documentation and other obligations associated
with QI status.
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In general, if an account holder is a U.S. person, the
account holder must provide the QI with an IRS Form W-9 or
appropriate documentary evidence that supports the account
holder's status as a U.S. person. However, if a QI does not
have sufficient documentation to determine whether an account
holder is a U.S. or foreign person, the QI must apply certain
presumption rules detailed in the QI agreement. These
presumption rules may not be used to grant a reduced rate of
nonresident withholding; instead they merely determine whether
a payment should be subject to full nonresident withholding (at
a 30-percent rate), subject to backup withholding (at a 28-
percent rate), or treated as exempt from backup withholding.
In general, under the QI agreement presumptions, U.S.-
source investment income that is paid outside the United States
to an offshore account is presumed to be paid to an
undocumented foreign account holder. A QI must treat such a
payment as subject to withholding at a 30-percent rate and
report the payment to an unknown account holder on IRS Form
1042-S. However, most U.S.-source deposit interest and interest
or original issue discount on short-term obligations that is
paid outside the United States to an offshore account is
presumed made to an undocumented U.S. non-exempt recipient
account holder and thus is subject to backup withholding at a
28-percent rate.\502\ Importantly, both foreign-source income
and broker proceeds are presumed to be paid to a U.S. exempt
recipient (and thus are exempt from both nonresident and backup
withholding) when such amounts are paid outside the United
States to an offshore account.
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\502\ These amounts are statutorily exempt from nonresident
withholding when paid to non-U.S. persons.
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QI information return requirements
A QI must file IRS Form 1042 by March 15 of the year
following any calendar year in which the QI acts as a QI. A QI
is not required to file IRS Forms 1042-S for amounts paid to
each separate account holder, but instead files a separate IRS
Form 1042-S for each type of reporting pool.\503\ A QI must
file separate IRS Forms 1042-S for amounts paid to certain
types of account holders, including: (1) other QIs which
receive amounts subject to foreign withholding; (2) each
foreign account holder of a nonqualified intermediary or other
flow-through entity to the extent that the QI can reliably
associate such amounts with valid documentation; and (3)
unknown recipients of amounts subject to withholding paid
through a nonqualified intermediary or other flow-through
entity to the extent the QI cannot reliably associate such
amounts with valid documentation. The IRS Form 1042 must also
include an attachment setting forth the aggregate amounts of
reportable payments paid to U.S. non-exempt recipient account
holders, and the number of such account holders, whose identity
is prohibited by foreign law (including by contract) from
disclosure.\504\
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\503\ A reporting pool consists of income that falls within a
particular withholding rate and within a particular income code,
exemption code, and recipient code as determined on IRS Form 1042-S.
\504\ For undisclosed accounts, QIs must separately report each
type of reportable payment (determined by reference to the types of
income reported on IRS Forms 1099) and the number of undisclosed
account holders receiving such payments.
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A QI has specified IRS Form 1099 \505\ filing requirements
including: (1) filing an aggregate IRS Form 1099 for each type
of reportable amount paid to U.S. non-exempt recipient account
holders whose identities are prohibited by law from being
disclosed; (2) filing an aggregate IRS Form 1099 for reportable
payments other than reportable amounts \506\ paid to U.S. non-
exempt recipient account holders whose identities are
prohibited by law from being disclosed; (3) filing separate IRS
Forms 1099 for reportable amounts paid to U.S. non-exempt
recipient account holders for whom the QI has not provided an
IRS Form W-9 or identifying information to a withholding agent;
(4) filing separate IRS Forms 1099 for reportable payments
other than reportable amounts paid to U.S. non-exempt recipient
account holders; (5) filing separate IRS Forms 1099 for
reportable amounts paid to U.S. non-exempt recipient account
holders for which the QI has assumed primary IRS Form 1099
reporting and backup withholding responsibility; and (6) filing
separate IRS Forms 1099 for reportable payments to an account
holder that is a U.S. person if the QI has applied backup
withholding and the amount was not otherwise reported on an IRS
Form 1099.
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\505\ If the QI is required to file IRS Forms 1099, it must file
the appropriate form for the type of income paid (e.g., IRS Form 1099-
DIV for dividends, IRS Form 1099-INT for interest, and IRS Form 1099-B
for broker proceeds).
\506\ The term reportable amount generally includes those amounts
that would be reported on IRS Form 1042-S if the amount were paid to a
foreign account holder. The term reportable payment generally refers to
amounts subject to backup withholding, but it has a different meaning
depending upon the status of the QI as a U.S. or non-U.S. payor.
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Foreign law prohibition of disclosure
The QI agreement includes procedures to address situations
in which foreign law (including by contract) prohibits the QI
from disclosing the identities of U.S. non-exempt recipients
(such as individuals). Separate procedures are provided for
accounts established with a QI prior to January 1, 2001, and
for accounts established on or after January 1, 2001.
Accounts established prior to January 1, 2001.--For
accounts established prior to January 1, 2001, if the QI knows
that the account holder is a U.S. non-exempt recipient, the QI
must (1) request from the account holder the authority to
disclose its name, address, TIN (if available), and reportable
payments; (2) request from the account holder the authority to
sell any assets that generate, or could generate, reportable
payments; or (3) request that the account holder disclose
itself by mandating the QI to provide an IRS Form W-9 completed
by the account holder. The QI must make these requests at least
two times during each calendar year and in a manner consistent
with the QI's normal communications with the account holder (or
at the time and in the manner that the QI is authorized to
communicate with the account holder). Until the QI receives a
waiver on all prohibitions against disclosure, authorization to
sell all assets that generate, or could generate, reportable
payments, or a mandate from the account holder to provide an
IRS Form W-9, the QI must backup withhold on all reportable
payments paid to the account holder and report those payments
on IRS Form 1099 or, in certain cases, provide another
withholding agent with all of the information required for that
withholding agent to backup withhold and report the payments on
IRS Form 1099.
Accounts established on or after January 1, 2001.--For any
account established by a U.S. non-exempt recipient on or after
January 1, 2001, the QI must (1) request from the account
holder the authority to disclose its name, address, TIN (if
available), and reportable payments; (2) request from the
account holder, prior to opening the account, the authority to
exclude from the account holder's account any assets that
generate, or could generate, reportable payments; or (3)
request that the account holder disclose itself by mandating
the QI to transfer an IRS Form W-9 completed by the account
holder.
If a QI is authorized to disclose the account holder's
name, address, TIN, and reportable amounts, it must obtain a
valid IRS Form W-9 from the account holder, and, to the extent
the QI does not have primary IRS Form 1099 and backup
withholding responsibility, provide the IRS Form W-9 to the
appropriate withholding agent promptly after obtaining the
form. If an IRS Form W-9 is not obtained, the QI must provide
the account holder's name, address, and TIN (if available) to
the withholding agents from whom the QI receives reportable
amounts on behalf of the account holder, together with the
withholding rate applicable to the account holder. If a QI is
not authorized to disclose an account holder's name, address,
TIN (if available), and reportable amounts, but is authorized
to exclude from the account holder's account any assets that
generate, or could generate, reportable payments, the QI must
follow procedures designed to ensure that it will not hold any
assets that generate, or could generate, reportable payments in
the account holder's account.\507\
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\507\ Under both of these procedures, if the QI is a non-U.S.
payor, a U.S. non-exempt recipient may effectively avoid disclosure and
backup withholding by investing in assets that generate solely non-
reportable payments such as foreign source income (such as bonds issued
by a foreign government) paid outside of the United States.
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External audit procedures
The IRS generally does not audit a QI with respect to
withholding and reporting obligations covered by a QI agreement
if an approved external auditor conducts an audit of the QI. An
external audit must be performed in the second and fifth full
calendar years in which the QI agreement is in effect. In
general, the IRS must receive the external auditor's report by
June 30 of the year following the year being audited.
Requirements for the external audit are provided in the QI
agreement. In general, the QI must permit the external auditor
to have access to all relevant records of the QI, including
information regarding specific account holders. In addition,
the QI must permit the IRS to communicate directly with the
external auditor, review the audit procedures followed by the
external auditor, and examine the external auditor's work
papers and reports.
In addition to the external audit requirements set forth in
the QI agreement, the IRS has issued further guidance (the ``QI
audit guidance'') for an external auditor engaged by a QI to
verify the QI's compliance with the QI agreement.\508\ An
external auditor must conduct its audit in accordance with the
procedures described in the QI agreement. However, the QI audit
guidance is intended to assist the external auditor in
understanding and applying those procedures. The QI audit
guidance does not amend, modify, or interpret the QI agreement.
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\508\ Rev. Proc. 2002-55, 2002-2 C.B. 435.
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Term of a QI agreement
A QI agreement expires on December 31 of the fifth full
calendar year after the year in which the QI agreement first
takes effect, although it may be renewed. Either the IRS or the
QI may terminate the QI agreement prior to its expiration by
delivering a notice of termination to the other party. However,
the IRS generally does not terminate a QI agreement unless
there is a significant change in circumstances or an event of
default occurs, and the IRS determines that the change in
circumstance or event of default warrants termination. In the
event that an event of default occurs, a QI is given an
opportunity to cure it within a specified time.
Know-your-customer due diligence requirements
United States
The U.S. know-your-customer rules \509\ require financial
institutions \510\ to develop and maintain a written customer
identification program and anti-money laundering policies and
procedures. Additionally, financial institutions must perform
customer due diligence. The due diligence requirements are
enhanced where the account or the financial institution has a
higher risk profile.\511\
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\509\ The U.S. know-your-customer rules are primarily found in the
Bank Secrecy Act of 1970 and in Title III, The International Money
Laundering Abatement and Anti-Terrorist Financing Act of 2001 of the
USA PATRIOT Act.
\510\ The term financial institution is broadly defined under 31
U.S.C. sec. 5312(a)(2) or (c)(1) and includes U.S. banks and agencies
or branches of foreign banks doing business in the United States,
insurance companies, credit unions, brokers and dealers in securities
or commodities, money services businesses, and certain casinos.
\511\ Relevant risks include the types of accounts held at the
financial institution, the methods available for opening accounts, the
types of customer identification information available, and the size,
location, and customer base of the financial institution. 31 C.F.R.
sec. 103.121(b)(2).
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A customer identification program at a minimum requires the
financial institution to collect the name, date of birth (for
individuals), address,\512\ and identification number \513\ for
new customers. In fulfilling their customer due diligence
requirements, financial institutions are required to verify
enough customer information to enable the financial institution
to form a ``reasonable belief that it knows the true identity
of each customer.'' \514\
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\512\ For a person other than an individual the address is the
principal place of business, local office, or other physical location.
31 C.F.R. sec. 103.121(b)(2)(i)(3)(iii).
\513\ For a U.S. person the identification number is the TIN. For a
non-U.S. person the identification number could be a TIN, passport
number, alien identification number, or number and country of issuance
of any other government-issued document evidencing nationality or
residence and bearing a photograph or similar safeguard. 31 C.F.R. sec.
103.121(b)(2)(i)(4).
\514\ See 31 C.F.R. sec. 103.121(b)(2).
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In many cases the know-your-customer rules do not require
financial institutions to look through an entity to determine
its ultimate ownership.\515\ However, based on the financial
institution's risk assessment, the financial institution may
need to obtain information about individuals with authority or
control over such an account in order to verify the identity of
the customer.\516\ A financial institution's customer due
diligence must include gathering sufficient information on a
business entity and its owners for the financial institution to
understand and assess the risks of the account
relationship.\517\
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\515\ For example, a financial institution is not ``required to
look through trust, escrow, or similar accounts to verify the
identities of beneficiaries and instead will only be required to verify
the identity of the named accountholder.'' See 68 Fed. Reg. 25,090,
25,094 (May 9, 2003).
\516\ See 31 sec. 103.121(b)(2)(ii)(C).
\517\ In order to assess the risk of the account relationship, a
financial institution may need to ascertain the type of business, the
purpose of the account, the source of the account funds, and the source
of the wealth of the owner or beneficial owner of the entity.
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Enhanced due diligence is required if customers are deemed
to be of higher risk, and is mandated for certain types of
accounts including foreign correspondent accounts, private
banking accounts, and accounts for politically exposed persons.
Private banking accounts are considered to be of significant
risk and enhanced due diligence requires identification of
nominal and beneficial owners for these accounts.\518\
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\518\ 31 C.F.R. sec. 103.178. A private banking account is an
account that (1) requires a minimum deposit of not less than 1 million
dollars; (2) is established for the benefit of one or more non-U.S.
persons who are direct or beneficial owners of the account; and (3) is
administered or managed by an officer, employee or agent of the
financial institution. Beneficial owner for these purposes is defined
as an individual who has a level of control over, or entitlement to the
funds or assets in the account. 31 C.F.R. secs. 103.175(b), 103.175(o).
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Financial institutions must maintain records for a minimum
of five years after the account is closed or becomes dormant.
They are required to monitor accounts including the frequency,
size and ultimate destinations of transfers and must update
customer due diligence and enhanced due diligence when there
are significant changes to the customer's profile (for example,
volume of transaction activity, risk level, or account type).
European Union Third Money Laundering Directive
The European Union (``EU'') Third Money Laundering
Directive \519\ is also applicable to a broad range of persons
including credit institutions and financial institutions as
well as to persons acting in the exercise of certain
professional activities.\520\ It requires systems, adequate
policies and procedures for customer due diligence, reporting,
record keeping, internal controls, risk assessment, risk
management, compliance management, and communication. Required
customer due diligence measures go further than the know-your-
customer rules in the United States in requiring identification
and verification of the beneficial owner and an understanding
of the ownership and control structure of the customer in
addition to the basic customer identification program and
customer due diligence requirements.
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\519\ Directive 2005/60/EC of the European Parliament and of the
Council, October 26, 2005 (``EU Third Money Laundering Directive'').
\520\ The directive applies to auditors, accountants, tax advisors,
notaries, legal professionals, real estate agents, certain persons
trading in goods (cash transactions in excess of EUR 15,000), and
casinos.
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A beneficial owner is defined as the natural person who
ultimately owns or controls the customer and/or the natural
person on whose behalf a transaction or activity is being
conducted. For corporations, beneficial owner includes: (1) the
natural person or persons who ultimately owns or controls a
legal entity through direct or indirect ownership or control
over a sufficient percentage (25 percent plus one share) of the
shares or voting rights in that legal entity; and 2) the
natural person or persons who otherwise exercises control over
the management of the legal entity.\521\ For foundations,
trusts, and like entities that administer and distribute funds,
beneficial owner includes: (1) in cases in which future
beneficiaries are determined, a natural person who is the
beneficiary of 25 percent or more of the property; (2) in cases
in which future beneficiaries have yet to be determined, the
class of person in whose main interest the legal arrangement is
set up or operates; and (3) natural person who exercises
control over 25 percent or more of the property.\522\ Under the
EU Third Money Laundering Directive, EU member states generally
must require identification of the customer and any beneficial
owners before the establishment of a business
relationship.\523\
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\521\ EU Third Money Laundering Directive Art. 3(6)(a). Inquiries
into beneficial ownership generally may stop at the level of any owner
that is a company listed on a regulated market.
\522\ EU Third Money Laundering Directive Art. 3(6)(b).
\523\ EU Third Money Laundering Directive Art. 9.
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The EU Third Money Laundering Directive requires ongoing
account monitoring including scrutiny of transactions
throughout the course of relationship to ensure that the
transactions conducted are consistent with the customer and the
business risk profile. It requires documents and other
information to be updated and requires performance of customer
due diligence procedures at appropriate times (such as a change
in account signatories or change in the use of an account) for
existing customers on a risk sensitive basis. Records must be
maintained for up to five years after the customer relationship
has ended.
Explanation of Provision
The provision adds a new chapter 4 to the Code that
provides for withholding taxes to enforce new reporting
requirements on specified foreign accounts owned by specified
United States persons or by United States owned foreign
entities. The provision establishes rules for withholdable
payments to foreign financial institutions and for withholdable
payments to other foreign entities.
Withholdable payments to foreign financial institutions
The provision requires a withholding agent to deduct and
withhold a tax equal to 30 percent on any withholdable payment
made to a foreign financial institution if the foreign
financial institution does not meet certain requirements.
Specifically, withholding is generally not required if an
agreement is in effect between the foreign financial
institution and the Secretary of the Treasury (the
``Secretary'') under which the institution agrees to:
1. Obtain information regarding each holder of each
account maintained by the institution as is necessary
to determine which accounts are United States accounts;
2. Comply with verification and due diligence
procedures as the Secretary requires with respect to
the identification of United States accounts;
3. Report annually certain information with respect
to any United States account maintained by such
institution;
4. Deduct and withhold 30 percent from any pass-thru
payment that is made to a (1) recalcitrant account
holder or another financial institution that does not
enter into an agreement with the Secretary, or (2)
foreign financial institution that has elected to be
withheld upon rather than to withhold with respect to
the portion of the payment that is allocable to
recalcitrant account holders or to foreign financial
institutions that do not have an agreement with the
Secretary.
5. Comply with requests by the Secretary for
additional information with respect to any United
States account maintained by such institution; and
6. Attempt to obtain a waiver in any case in which
any foreign law would (but for a waiver) prevent the
reporting of information required by the provision with
respect to any United States account maintained by such
institution, and if a waiver is not obtained from each
account holder within a reasonable period of time, to
close the account.
If the Secretary determines that the foreign financial
institution is out of compliance with the agreement, the
agreement may be terminated by the Secretary. The provision
applies with respect to United States accounts maintained by
the foreign financial institution and, except as provided by
the Secretary, to United States accounts maintained by each
other financial institution that is a member of the same
expanded affiliated group (other than any foreign financial
institution that also enters into an agreement with the
Secretary).
It is expected that in complying with the requirements of
this provision, the foreign financial institution and the other
members of the same expanded affiliated group comply with know-
your-customer, anti-money laundering, anti-corruption, or other
similar rules to which they are subject, as well as with such
procedures and rules as the Secretary may prescribe, both with
respect to due diligence by the foreign financial institution
and verification by or on behalf of the IRS to ensure the
accuracy of the information, documentation, or certification
obtained to determine if the account is a United States
account. The Secretary may use existing know-your-customer,
anti-money laundering, anti-corruption, and other regulatory
requirements as a basis in crafting due diligence and
verification procedures in jurisdictions where those
requirements provide reasonable assurance that the foreign
financial institution is in compliance with the requirements of
this provision.
The provision allowing for withholding on payments made to
an account holder that fails to provide the information
required under this provision is not intended to create an
alternative to information reporting. It is anticipated that
the Secretary may require, under the terms of the agreement,
that the foreign financial institution achieve certain levels
of reporting and make reasonable attempts to acquire the
information necessary to comply with the requirements of this
section or to close accounts where necessary to meet the
purposes of this provision. It is anticipated that the
Secretary may also require, under the terms of the agreement
that, in the case of new accounts, the foreign financial
institution may not withhold as an alternative to collecting
the required information.
A foreign financial institution may be deemed, by the
Secretary, to meet the requirements of this provision if: (1)
the institution complies with procedures prescribed by the
Secretary to ensure that the institution does not maintain
United States accounts, and meets other requirements as the
Secretary may prescribe with respect to accounts of other
foreign financial institutions, or (2) the institution is a
member of a class of institutions for which the Secretary has
determined that the requirements are not necessary to carry out
the purposes of this provision. For instance, it is anticipated
that the Secretary may provide rules that would permit certain
classes of widely held collective investment vehicles, and to
the limited extent necessary to implement these rules, the
entities providing administration, distribution and payment
services on behalf of those vehicles, to be deemed to meet the
requirements of this provision. It is anticipated that a
foreign financial institution that has an agreement with the
Secretary may meet the requirements under this provision with
respect to certain members of its expanded affiliated group if
the affiliated foreign financial institution complies with
procedures prescribed by the Secretary and does not maintain
United States accounts. Additionally, the Secretary may
identify classes of institutions that are deemed to meet the
requirements of this provision if such institutions are subject
to similar due diligence and reporting requirements under other
provisions in the Code. Such institutions may include certain
controlled foreign corporations owned by U.S. financial
institutions and certain U.S. branches of foreign financial
institutions that are treated as U.S. payors under present law.
Under the provision, a foreign financial institution may
elect to have a U.S. withholding agent or a foreign financial
institution that has entered into an agreement with the
Secretary withhold on payments made to the electing foreign
financial institution rather than acting as a withholding agent
for the payments it makes to other foreign financial
institutions that either do not enter into agreements with the
Secretary or that themselves have elected not to act as a
withholding agent, or for payments it makes to account holders
that fail to provide required information. If the election
under this provision is made, the withholding tax will apply
with respect to any payment made to the electing foreign
financial institution to the extent the payment is allocable to
accounts held by foreign financial institutions that do not
enter into an agreement with the Secretary or to payments made
to recalcitrant account holders.
A payment may be allocable to accounts held by a
recalcitrant account holder or a foreign financial institution
that does not meet the requirements of this section either as a
result of such person holding an account directly with the
electing foreign financial institution, or in relation to an
indirect account held through other foreign financial
institutions that either do not enter into an agreement with
the Secretary or are themselves electing foreign financial
institutions.
The electing foreign financial institution must notify the
withholding agent of its election and must provide information
necessary for the withholding agent to determine the
appropriate amount of withholding. The information may include
information regarding the amount of any payment that is
attributable to a withholdable payment and information
regarding the amount of any payment that is allocable to
recalcitrant account holders or to foreign financial
institutions that have not entered into agreements with the
Secretary. Additionally, the electing foreign financial
institution must waive any right under a treaty with respect to
an amount deducted and withheld pursuant to the election. To
the extent provided by the Secretary, the election may be made
with respect to certain classes or types of accounts.
A foreign financial institution meets the annual
information reporting requirements under the provision by
reporting the following information:
1. The name, address, and TIN of each account holder
that is a specified United States person;
2. The name, address, and TIN of each substantial
United States owner of any account holder that is a
United States owned foreign entity;
3. The account number;
4. The account balance or value (determined at such
time and in such manner as the Secretary provides); and
5. Except to the extent provided by the Secretary,
the gross receipts and gross withdrawals or payments
from the account (determined for such period and in
such manner as the Secretary may provide).
This information is required with respect to each United
States account maintained by the foreign financial institution
and, except as provided by the Secretary, each United States
account maintained by each other foreign financial institution
that is a member of the same expanded affiliated group (other
than any foreign financial institution that also enters into an
agreement with the Secretary).
Alternatively, a foreign financial institution may make an
election and report under sections 6041 (information at
source), 6042 (returns regarding payments of dividends and
corporate earnings and profits), 6045 (returns of brokers), and
6049 (returns regarding payments of interest), as if such
foreign financial institution were a U.S. person (i.e., elect
to provide full IRS Form 1099 reporting under these sections).
Under this election, the foreign financial institution reports
on each account holder that is a specified United States person
or United States owned foreign entity as if the holder of the
account were a natural person and citizen of the United States.
As a result, both U.S.- and foreign-source amounts (including
gross proceeds) are subject to reporting under this election
regardless of whether the amounts are paid inside or outside
the United States. If a foreign financial institution makes
this election, the institution is also required to report the
following information with respect to each United States
account maintained by the institution: (1) the name, address,
and TIN of each account holder that is a specified United
States person; (2) the name, address, and TIN of each
substantial United States owner of any account holder that is a
United States owned foreign entity; and (3) the account number.
This election can be made by a foreign financial institution
even if other members of its expanded affiliated group do not
make the election. The Secretary has authority to specify the
time and manner of the election and to provide other conditions
for meeting the reporting requirements of the election.
Foreign financial institutions that have entered into QI or
similar agreements with the Secretary, under section 1441 and
the regulations thereunder, are required to meet the
requirements of this provision in addition to any other
requirements imposed under the QI or similar agreement.
Under the provision, a United States account is any
financial account held by one or more specified United States
persons or United States owned foreign entities. Depository
accounts are not treated as United States accounts for these
purposes if (1) each holder of the account is a natural person
and (2) the aggregate value of all depository accounts held (in
whole or in part) by each holder of the account maintained by
the financial institution does not exceed $50,000. A foreign
financial institution may, however, elect to include all
depository accounts held by U.S. individuals as United States
accounts. To the extent provided by the Secretary, financial
institutions that are members of the same expanded affiliated
group may be treated as a single financial institution for
purposes of determining the aggregate value of depository
accounts maintained at the financial institution.
In addition, a financial account is not a United States
account if the account is held by a foreign financial
institution that has entered into an agreement with the
Secretary or is otherwise subject to information reporting
requirements that the Secretary determines would make the
reporting duplicative. It is anticipated that the Secretary may
exclude certain financial accounts held by bona fide residents
of any possession of the United States maintained by a
financial institution organized under the laws of the
possession if the Secretary determines that such reporting is
not necessary to carry out the purposes of this provision.
Except as otherwise provided by the Secretary, a financial
account is any depository or custodial account maintained by a
foreign financial institution and, any equity or debt interest
in a foreign financial institution (other than interests that
are regularly traded on an established securities market). Any
equity or debt interest that is treated as a financial account
with respect to any financial institution is treated for
purposes of this provision as maintained by the financial
institution. It is anticipated that the Secretary may determine
that certain short-term obligations, or short-term deposits,
pose a low risk of U.S. tax evasion and thus, may not treat
such obligations or deposits as financial accounts for purposes
of this provision.
A United States owned foreign entity is any foreign entity
that has one or more substantial United States owners. A
foreign entity is any entity that is not a U.S. person.
A foreign financial institution is any financial
institution that is a foreign entity, and except as provided by
the Secretary, does not include a financial institution
organized under the laws of any possession of the United
States. The Secretary may exercise its authority to issue
guidance that it deems necessary to prevent financial
institutions organized under the laws of U.S. possessions from
being used as intermediaries in arrangements under which U.S.
tax avoidance or evasion is facilitated.
Except as otherwise provided by the Secretary, a financial
institution for purposes of this provision is any entity that
(1) accepts deposits in the ordinary course of a banking or
similar business; (2) as a substantial portion of its business,
holds financial assets for the account of others; or (3) is
engaged (or holding itself out as being engaged) primarily in
the business of investing, reinvesting, or trading in
securities,\524\ interests in partnerships, commodities,\525\
or any interest (including a futures or forward contract or
option) in such securities, partnership interests, or
commodities. Accordingly, the term financial institution may
include among other entities, investment vehicles such as hedge
funds and private equity funds. Additionally, the Secretary may
provide exceptions for certain classes of institutions. Such
exceptions may include entities such as certain holding
companies, research and development subsidiaries, or financing
subsidiaries within an affiliated group of non-financial
operating companies. It is anticipated that the Secretary may
prescribe special rules addressing the circumstances in which
certain categories of companies, such as certain insurance
companies, are financial institutions, or the circumstances in
which certain contracts or policies, for example annuity
contracts or cash value life insurance contracts, are financial
accounts or United States accounts for these purposes.
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\524\ As defined in section 475(c)(2), without regard to the last
sentence thereof.
\525\ As defined in section 475(e)(2).
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For purposes of this provision, a recalcitrant account
holder is any account holder that (1) fails to comply with
reasonable requests for information necessary to determine if
the account is a United States account; (2) fails to provide
the name, address, and TIN of each specified United States
person and each substantial United States owner of a United
States owned foreign entity; or (3) fails to provide a waiver
of any foreign law that would prevent the foreign financial
institution from reporting any information required under this
provision.
A passthru payment is any withholdable payment or other
payment to the extent it is attributable to a withholdable
payment.
The reporting requirements apply with respect to United
States accounts maintained by a foreign financial institution
and, except as otherwise provided by the Secretary, with
respect to United States accounts maintained by each other
foreign financial institution that is a member of the same
expanded affiliated group as such foreign financial
institution. An expanded affiliated group for these purposes is
an affiliated group as defined in section 1504(a) except that
``more than 50 percent'' is substituted for ``at least 80
percent'' each place it appears in that section, and is
determined without regard to paragraphs (2) and (3) of section
1504(b). A partnership or any other entity that is not a
corporation is treated as a member of an expanded affiliated
group if such entity is controlled by members of such
group.\526\
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\526\ Control for these purposes has the same meaning as control
for purposes of section 954(d)(3).
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This provision does not apply with respect to a payment to
the extent that the beneficial owner of such payment is (1) a
foreign government, a political subdivision of a foreign
government, or a wholly owned agency of any foreign government
or political subdivision; (2) an international organization or
any wholly owned agency or instrumentality thereof; (3) a
foreign central bank of issue; or (4) any other class of
persons identified by the Secretary as posing a low risk of
U.S. tax evasion.
Under the provision, a withholding agent includes any
person, in whatever capacity, having the control, receipt,
custody, disposal, or payment of any withholdable payment.
Except as provided by the Secretary, a withholdable payment
is any payment of interest (including any original issue
discount), dividends, rents, salaries, wages, premiums,
annuities, compensations, remunerations, emoluments, and other
fixed or determinable annual or periodical gains, profits, and
income from sources within the United States. The term also
includes any gross proceeds from the sale or other disposition
of any property that could produce interest or dividends from
sources within the United States, including dividend equivalent
payments treated as dividends from sources in the United States
pursuant to section 541 of the Act. Any item of income
effectively connected with the conduct of a trade or business
within the United States that is taken into account under
sections 871(b)(1) or 882(a)(2) is not treated as a
withholdable payment for purposes of the provision. In
determining the source of a payment, section 861(a)(1)(B) (the
rule for sourcing interest paid by foreign branches of domestic
financial institutions) does not apply. The Secretary may
determine that certain payments made with respect to short-term
debt or short-term deposits, including gross proceeds paid pose
little risk of United States tax evasion and may be excluded
from withholdable payments for purposes of this provision.
A substantial United States owner is: (1) with respect to
any corporation, any specified U.S. person that directly or
indirectly owns more than 10 percent of the stock (by vote or
value) of such corporation; (2) with respect to any
partnership, a specified United States person that directly or
indirectly owns more than 10 percent of the profits or capital
interests of such partnership; and (3) with respect to any
trust, any specified United States person treated as an owner
of any portion of such trust under the grantor trust
rules,\527\ or to the extent provided by the Secretary, any
specified United States person that holds, directly or
indirectly, more than 10 percent of the beneficial interests of
the trust. To the extent the foreign entity is a corporation or
partnership engaged (or holding itself out as being engaged)
primarily in the business of investing, reinvesting, or trading
in securities, interests in partnerships, commodities, or any
interest (including a futures or forward contract or option) in
such securities, interests or commodities, the 10-percent
threshold is reduced to zero percent. In determining whether an
entity is a United States owned foreign entity (and whether any
person is a substantial United States owner of such entity),
only specified United States persons are considered.
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\527\ Subpart E of Part I of subchapter J of chapter 1.
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Except as otherwise provided by the Secretary, a specified
United States person is any U.S. person other than (1) a
publicly traded corporation or a member of the same expanded
affiliated group as a publicly traded corporation, (2) any tax-
exempt organization or individual retirement plan, (3) the
United States or a wholly owned agency or instrumentality of
the United States, (4) a State, the District of Columbia, any
possession of the United States, or a political subdivision or
wholly owned agency of a State, the District of Columbia, or a
possession of the United States, (5) a bank,\528\ (6) a real
estate investment trust,\529\ (7) a regulated investment
company,\530\ (8) a common trust fund,\531\ and (9) a trust
that is exempt from tax under section 664(c) \532\ or is
described in section 4947(a)(1).\533\
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\528\ As defined in section 581.
\529\ As defined in section 856.
\530\ As defined in section 851.
\531\ As defined in section 584(a).
\532\ This includes charitable remainder annuity trusts and
charitable remainder unitrusts.
\533\ This includes certain charitable trusts not exempt under
section 501(a).
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Withholdable payments to other foreign entities
The provision requires a withholding agent to deduct and
withhold a tax equal to 30 percent of any withholdable payment
made to a non-financial foreign entity if the beneficial owner
of such payment is a non-financial foreign entity that does not
meet specified requirements.
A non-financial foreign entity is any foreign entity that
is not a financial institution under the provision. A non-
financial foreign entity meets the requirements of the
provision (i.e., payments made to such entity will not be
subject to the imposition of 30-percent withholding tax) if the
payee or the beneficial owner of the payment provides the
withholding agent with either a certification that the foreign
entity does not have a substantial United States owner, or
provides the withholding agent with the name, address, and TIN
of each substantial United States owner. Additionally, the
withholding agent must not know or have reason to know that the
certification or information provided regarding substantial
United States owners is incorrect, and the withholding agent
must report the name, address, and TIN of each substantial
United States owner to the Secretary.
The provision does not apply to any payment beneficially
owned by a publicly traded corporation or a member of an
expanded affiliated group of a publicly traded corporation
(defined as above but without the inclusion of partnerships or
other non-corporate entities). Publicly traded corporations
(and their affiliates) receiving payments directly from U.S.
withholding agents may present a lower risk of U.S. tax evasion
than other non-financial foreign entities. The provision also
does not apply to any payment beneficially owned by any: (1)
entity that is organized under the laws of a possession of the
United States and that is wholly owned by one or more bona fide
residents of the possession; (2) foreign government, political
subdivision of a foreign government, or wholly owned agency or
instrumentality of any foreign government or political
subdivision of a foreign government; (3) international
organization or any wholly owned agency or instrumentality of
an international organization; (4) foreign central bank of
issue; (5) any other class of persons identified by the
Secretary for purposes of the provision; or (6) class of
payments identified by the Secretary as posing a low risk of
U.S. tax evasion. It is anticipated that the Secretary may
exclude certain payments made for goods, services, or the use
of property if the payment is made pursuant to an arm's length
transaction in the ordinary course of the payor's trade or
business.
It is expected that the Secretary will provide coordinating
rules for application of the withholding provisions applicable
to foreign financial institutions and to foreign entities that
are non-financial foreign entities under this provision.
Credits and refunds
In general, the determination of whether an overpayment of
tax deducted and withheld under the provision results in an
overpayment by the beneficial owner of the payment is made in
the same manner as if the tax had been deducted and withheld
under subchapter A of chapter 3 (withholding tax on nonresident
aliens and foreign corporations). An amount of tax required to
be withheld by a foreign financial institution under its
agreement with the Secretary is treated the same as if it were
required to be withheld on a withholdable payment made to a
foreign financial institution that does not enter into an
agreement with the Secretary. Under the provision, if a
beneficial owner of a payment is entitled under an income tax
treaty to a reduced rate of withholding tax on the payment,
that beneficial owner may be eligible for a credit or refund of
the excess of the amount withheld under the provision over the
amount permitted to be withheld under the treaty. Similarly, if
a payment is of an amount not otherwise subject to U.S. tax
(because, for instance, the payment represents gross proceeds
from the sale of stock or is interest eligible for the
portfolio interest exemption), the beneficial owner of the
payment generally is eligible for a credit or refund of the
full amount of the tax withheld.
The Secretary has the authority to administer credit and
refund procedures which may include requirements for taxpayers
claiming credits or refunds of amounts withheld from payments
to which the provision applies to supply appropriate
documentation establishing that they are the beneficial owners
of the payments from which tax was withheld, and that, in
circumstances in which treaty benefits are being claimed, they
are eligible for treaty benefits. No credit or refund is
allowed with respect to tax properly deducted and withheld
unless the beneficial owner of the payment provides the
Secretary with such information as the Secretary may require to
determine whether the beneficial owner of the payment is a
United States owned foreign entity and the identity of any
substantial United States owners of such entity. It is intended
that any such guidance provided by the Secretary under this
provision, including documentation and requirements to provide
information, be consistent with existing income tax treaties.
If tax is withheld under the provision, this credit and
refund mechanism ensures that the provisions are consistent
with U.S. obligations under existing income tax treaties. U.S.
income tax treaties do not require the United States and its
treaty partners to follow a specific procedure for providing
treaty benefits.\534\ For example, in cases in which proof of
entitlement to treaty benefits is demonstrated in advance of
payment, the United States may permit reduced withholding or
exemption at the time of payment. Alternatively, the United
States may require withholding at the relevant statutory rate
at the time of payment and allow treaty country residents to
obtain treaty benefits through a refund process. The credit and
refund mechanism ensures that residents of treaty partners
continue to obtain treaty benefits in the event tax is withheld
under the provision.
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\534\ See, for example, the Commentaries on the OECD Model Tax
Convention on Income and on Capital, which make clear that individual
countries are free to establish procedures for providing any reduced
tax rates agreed to by treaty partners. These procedures can include
both relief at source and/or full withholding at domestic rates,
followed by a refund. See, e.g., Commentary 26.2 to Article 1.
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A number of Articles of the Convention limit the right of a
State to tax income derived from its territory. As noted in
paragraph 19 of the Commentary on Article 10 as concerns
the taxation of dividends, the Convention does not settle
procedural questions and each State is free to use the
procedure provided in its domestic law in order to apply
the limits provided by the Convention. A State can
therefore automatically limit the tax that it levies in
accordance with the relevant provisions of the Convention,
subject to possible prior verification of treaty
entitlement, or it can impose the tax provided for under
its domestic law and subsequently refund the part of that
tax that exceeds the amount that it can levy under the
provisions of the Convention.
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Ibid. While Commentary 26.2 notes that a refund mechanism is not
the preferred approach, the Act establishes such a mechanism for
beneficial owners in certain circumstances. This approach serves to
address, in part, observed difficulties in identifying U.S. persons who
inappropriately seek treaty benefits to which they are not entitled.
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A special rule applies with respect to any tax properly
deducted and withheld from a specified financial institution
payment, which is defined as any payment with respect to which
a foreign financial institution is the beneficial owner.
Credits and refunds with respect to specified financial
institution payments generally are not allowed. However,
refunds and credits are allowed if, with respect to the
payment, the foreign financial institution is entitled to an
exemption or a reduced rate of tax by reason of any treaty
obligation of the United States. In such a case, the foreign
financial institution is entitled to an exemption or a reduced
rate of tax only to the extent provided under the treaty. In no
event will interest be allowed or paid with respect to any
credit or refund of tax properly withheld on a specified
financial institution payment.
Under the provision, the grace period for which the
government is not required to pay interest on an overpayment is
increased from 45 days to 180 days for overpayments resulting
from excess amounts deducted and withheld under chapters 3 or 4
of the Code. The increased grace period applies to refunds of
withheld taxes with respect to (1) returns due after the date
of enactment (March 18, 2010), (2) claims for refund filed
after date of enactment (March 18, 2010) and (3) IRS-initiated
adjustments if the refunds are paid after the date of enactment
(March 18, 2010) . It is anticipated that the Secretary may
specify the proper form and information required for a claim
for refund under section 6611(e)(2) and may provide that a
purported claim that does not include such information is not
considered filed.
General provisions
Every person required to deduct and withhold any tax under
the provision is liable for such tax and is indemnified against
claims and demands of any person for the amount of payments
made in accordance with the provision.
No person may use information under the provision except
for the purpose of meeting any requirements under the provision
or for purposes permitted under section 6103. However, the
identity of foreign financial institutions that have entered
into an agreement with the Secretary is not treated as return
information for purposes of section 6103.
The Secretary is expected to provide for the coordination
of withholding under this provision with other withholding
provisions of the Code, including providing for the proper
crediting of amounts deducted and withheld under this provision
against amounts required to be deducted and withheld under
other provisions of the Code. The Secretary may provide further
coordinating rules to prevent double withholding, including in
situations involving tiered U.S. withholding agents.
The provision makes several conforming amendments to other
provisions in the Code. The provision grants authority to the
Secretary to prescribe regulations necessary and appropriate to
carry out the purposes of the provision, and to prevent the
avoidance of this provision.
Effective Date
The provision generally applies to payments made after
December 31, 2012. The provision, however, does not require any
amount to be deducted or withheld from any payment under any
obligation outstanding on the date that is two years after the
date of enactment (March 18, 2010), or from the gross proceeds
from any disposition of such an obligation. It is anticipated
that the Secretary may provide guidance as to the application
of the material modification rules under section 1001 in
determining whether an obligation is considered to be
outstanding on the date that is two years after the date of
enactment (March 18, 2010).
The interest provisions increasing the grace period for
which the government is not required to pay interest on an
overpayment from 45 to 180 days apply to: (1) returns with due
dates after the date of enactment (March 18, 2010); (2) claims
for credit or refund of overpayment filed after the date of
enactment (March 18, 2010); and (3) refunds paid on adjustments
initiated by the Secretary paid after the date of enactment
(March 18, 2010).
2. Repeal of certain foreign exceptions to registered bond requirements
(sec. 502 of the Act and secs. 149, 163, 165, 871, 881, 1287,
and 4701 of the Code and 31 U.S.C. sec. 3121)
Present Law
Registration-required obligations and treatment of bonds not issued in
registered form
In general, a taxpayer may deduct all interest paid or
accrued within the taxable year on indebtedness.\535\ For
registration-required obligations, a deduction for interest is
allowed only if the obligation is in registered form.
Generally, an obligation is treated as issued in registered
form if the issuer or its agent maintains a registration of the
identity of the owner of the obligation and the obligation can
be transferred only through this registration system.\536\ A
registration-required obligation is any obligation other than
one that: (1) is made by a natural person; (2) matures in one
year or less; (3) is not of a type offered to the public; or
(4) is a foreign targeted obligation.\537\
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\535\ Sec. 163(a).
\536\ An obligation is treated as in registered form if (1) it is
registered as to both principal and interest with the issuer (or its
agent) and transfer of the obligation may be effected only by surrender
of the old instrument and either the reissuance by the issuer of the
old instrument to the new holder or the issuance by the issuer of a new
instrument to the new holder, (2) the right to principal and stated
interest on the obligation may be transferred only through a book entry
system maintained by the issuer or its agent, or (3) the obligation is
registered as to both principal and interest with the issuer or its
agent and may be transferred through both of the foregoing methods.
Treas. Reg. sec. 5f.103-1(c).
\537\ Sec. 163(f)(2)(A). The registration requirement is intended
to preserve liquidity while reducing opportunities for noncompliant
taxpayers to conceal income and property from the reach of the income,
estate and gift taxes. See Joint Committee on Taxation, General
Explanation of the Revenue Provisions of the Tax Equity and Fiscal
Responsibility Act of 1982 (JCS-38-82), December 31, 1982, p. 190.
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In applying this requirement, the IRS has adopted a
flexible approach that recognizes that a debt obligation that
is formally in bearer (i.e., not in registered) form is
nonetheless ``in registered form'' for these purposes where
there are arrangements that preclude individual investors from
obtaining definitive bearer securities or that permit such
securities to be issued only upon the occurrence of an
extraordinary event.\538\
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\538\ Priv. Ltr. Rul. 1993-43-018 (1993); Priv. Ltr. Rul. 1993-43-
019 (1993); Priv. Ltr. Rul. 1996-13-002 (1996). The IRS held that the
registration requirement may be satisfied by ``dematerialized book-
entry systems'' developed in some foreign countries, even if, under
such a system, a holder is entitled to receive a physical certificate,
tradable as a bearer instrument, in the event the clearing organization
maintaining the system goes out of existence, because ``cessation of
operation of the book-entry system would be an extraordinary event.''
Notice 2006-99, 2006-2 C.B. 907.
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A foreign targeted obligation (to which the registration
requirement does not apply) is any obligation satisfying the
following requirements: (1) there are arrangements reasonably
designed to ensure that such obligation will be sold (or resold
in connection with the original issue) only to a person who is
not a United States person; (2) interest is payable only
outside the United States and its possessions; and (3) the face
of the obligation contains a statement that any United States
person who holds this obligation will be subject to limitations
under the U.S. income tax laws.\539\
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\539\ Sec. 163(f)(2)(B).
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In addition to the denial of an interest deduction,
interest on a State or local bond that is a registration-
required obligation will not qualify for the applicable tax
exemption if the bond is not in registered form.\540\ Also, an
excise tax is imposed on the issuer of any registration-
required obligation that is not in registered form.\541\ The
excise tax is equal to one percent of the principal amount of
the obligation multiplied by the number of calendar years (or
portions thereof) during the period beginning on the date of
issuance of the obligation and ending on the date of maturity.
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\540\ Sec. 103(b)(3). For the purposes of this section,
registration-required obligation is any obligation other than one that:
(1) is not of a type offered to the public; (2) matures in one year or
less; or (3) is a foreign targeted obligation.
\541\ Sec. 4701.
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Moreover, any gain realized by the beneficial owner of a
registration-required obligation that is not in registered form
on the sale or other disposition of the obligation is treated
as ordinary income (rather than capital gain), unless the
issuer of the obligation was subject to the excise tax
described above.\542\ Finally, deductions for losses realized
by beneficial owners of registration-required obligations that
are not in a registered form are disallowed.\543\ For the
purposes of ordinary income treatment and denial of deduction
for losses, a registration-required obligation is any
obligation other than one that: (1) is made by a natural
person; (2) matures in one year or less; or (3) is not of a
type offered to the public.
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\542\ Sec. 1287.
\543\ Sec. 165(j).
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Treatment as portfolio interest
Payments of U.S.-source ``fixed or determinable annual or
periodical'' income, including interest, dividends, and similar
types of investment income, that are made to foreign persons
are subject to U.S. withholding tax at a 30-percent rate,
unless the withholding agent can establish that the beneficial
owner of the amount is eligible for an exemption from
withholding or a reduced rate of withholding under an income
tax treaty.\544\ In 1984, the Congress repealed the 30-percent
tax on portfolio interest received by a nonresident individual
or foreign corporation from sources within the United
States.\545\
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\544\ Secs. 871, 881; Treas. Reg. sec. 1.1441-1(b). Generally, the
determination by a withholding agent of the U.S. or foreign status of a
payee and of its other relevant characteristics (e.g., as a beneficial
owner or intermediary, or as an individual, corporation, or flow-
through entity) is made on the basis of a withholding certificate that
is a Form W-8 or a Form 8233 (indicating foreign status of the payee or
beneficial owner) or a Form W-9 (indicating U.S. status of the payee).
\545\ Secs. 871(h) and 881(c). Congress believed that the
imposition of a withholding tax on portfolio interest paid on debt
obligations issued by U.S. persons might impair the ability of U.S.
corporations to raise capital in the Eurobond market (i.e., the global
market for U.S. dollar-denominated debt obligations). Congress also
anticipated that repeal of the withholding tax on portfolio interest
would allow the U.S. Treasury Department direct access to the Eurobond
market. See Joint Committee on Taxation, General Explanation of the
Revenue Provisions of the Deficit Reduction Act of 1984 (JCS-41-84),
December 31, 1984, pp. 391-92.
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The term ``portfolio interest'' means any interest
(including original issue discount) that is (1) paid on an
obligation that is in registered form and for which the
beneficial owner has provided to the U.S. withholding agent a
statement certifying that the beneficial owner is not a U.S.
person, or (2) paid on an obligation that is not in registered
form and that meets the foreign targeting requirements of
section 163(f)(2)(B).\546\ Portfolio interest, however, does
not include interest received by a 10-percent shareholder,\547\
certain contingent interest,\548\ interest received by a
controlled foreign corporation from a related person,\549\ or
interest received by a bank on an extension of credit made
pursuant to a loan agreement entered into in the ordinary
course of its trade or business.\550\
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\546\ In repealing the 30-percent tax on portfolio interest, under
the Deficit Reduction Act of 1984, Congress expressed concern about
potential compliance problems in connection with obligations issued in
bearer form. Given the foreign targeted exception to the registration
requirement under section 163(f)(2)(A), U.S. persons intent on evading
U.S. tax on interest income might attempt to buy U.S. bearer
obligations overseas, claiming to be foreign persons. These persons
might then claim the statutory exemption from withholding tax for the
interest paid on the obligations and fail to declare the interest
income on their U.S. tax returns, without concern that their ownership
of the obligations would come to the attention of the IRS. Because of
these concerns, Congress expanded the Treasury's authority to require
registration of obligations deigned to be sold to foreign persons. See
Joint Committee on Taxation, General Explanation of the Revenue
Provisions of the Deficit Reduction Act of 1984 (JCS-41-84), December
31, 1984, p. 393.
\547\ Sec. 871(h)(3).
\548\ Sec. 871(h)(4).
\549\ Sec. 881(c)(3)(C).
\550\ Sec. 881(c)(3)(A).
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Requirement that U.S. Treasury obligations be in registered form
Under title 31 of the United States Code, every
``registration-required obligation'' of the U.S. Treasury must
be in registered form.\551\ For this purpose, a foreign
targeted obligation is excluded from the definition of a
registration-required obligation.\552\ Thus, a foreign targeted
obligation of the Treasury can be in bearer (rather than
registered) form.
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\551\ 31 U.S.C. sec. 3121(g)(3). For purposes of title 31 of the
United States Code, registration-required obligation is defined as any
obligation except: (1) an obligation not of a type offered to the
public; (2) an obligation having a maturity (at issue) of not more than
one year; or (3) a foreign targeted obligation.
\552\ 31 U.S.C. sec. 3121(g)(2).
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Explanation of Provision
Repeal of the foreign targeted obligation exception to the registration
requirement
The provision repeals the foreign targeted obligation
exception to the denial of a deduction for interest on bonds
not issued in registered form. Thus, under the provision, a
deduction for interest is disallowed with respect to any
obligation not issued in registered form, unless that
obligation (1) is issued by a natural person, (2) matures in
one year or less, or (3) is not of a type offered to the
public.
Also, the provision repeals the foreign targeted obligation
exception to the denial of the tax exemption on interest on
State and local bonds not issued in registered form. Therefore,
under the provision, interest paid on State and local bonds not
issued in registered form will not qualify for tax exemption
unless that obligation (1) is not of a type offered to the
public, or (2) matures in one year or less.
The Act preserves the ordinary income treatment under
present law of any gain realized by the beneficial owner from
the sale or other disposition of a registration-required
obligation that is not in registered form. Similarly, the Act
does not change the present law rule disallowing deductions for
losses realized by a beneficial owner of a registration-
required obligation that is not in a registered form.
Preservation of exception to the registration requirement for excise
tax purposes
Under the provision, the foreign targeted obligation
exception is available with respect to the excise tax
applicable to issuers of registration-required obligations that
are not in registered form. Thus, the excise tax applies with
respect to any obligation that is not in registered form unless
the obligation (1) is issued by a natural person, (2) matures
in one year or less, (3) is not of a type offered to the
public, or (4) is a foreign targeted obligation.
Repeal of treatment as portfolio interest
The provision repeals the treatment as portfolio interest
of interest paid on bonds that are not issued in registered
form but meet the foreign targeting requirements of section
163(f)(2)(B). Under the provision, interest qualifies as
portfolio interest only if it is paid on an obligation that is
issued in registered form and either (1) the beneficial owner
has provided the withholding agent with a statement certifying
that the beneficial owner is not a United States person (on IRS
Form W-8), or (2) the Secretary has determined that such
statement is not required in order to carry out the purposes of
the subsection. It is anticipated that the Secretary may
exercise its authority under this rule to waive the requirement
of collecting Forms W-8 in circumstances in which the Secretary
has determined there is a low risk of tax evasion and there are
adequate documentation standards within the country of tax
residency of the beneficial owner of the obligations in
question or in the country where the book-entry system exists.
Generally, however, as a result of the provision, interest paid
to a foreign person on an obligation that is not issued in
registered form is subject to U.S. withholding tax at a 30-
percent rate, unless the withholding agent can establish that
the beneficial owner of the amount is eligible for an exemption
from withholding other than the portfolio interest exemption or
for a reduced rate of withholding under an income tax treaty.
Dematerialized book-entry systems treated as registered form
The provision provides that a debt obligation held through
a dematerialized book entry system, or other book entry system
specified by the Secretary, is treated, for purposes of section
163(f), as held through a book entry system for the purpose of
treating the obligation as in registered form.\553\ A debt
obligation that is formally in bearer form is treated, for the
purposes of section 163(f), as held in a book-entry system as
long as the debt obligation may be transferred only through a
dematerialized book entry system or other book entry system
specified by the Secretary.
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\553\ By reason of cross references, this rule will also apply to
sections 165(j), 312(m), 871(h), 881(c), 1287 and 4701.
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Repeal of exception to requirement that Treasury obligations be in
registered form
The provision includes a conforming change to title 31 of
the United States Code that repeals the foreign targeted
exception to the definition of a registration-required
obligation. Thus, a foreign targeted obligation of the Treasury
must be in registered form.
Effective Date
The provision applies to debt obligations issued after the
date which is two years after the date of enactment (March 18,
2010).
3. Disclosure of information with respect to foreign financial assets
(sec. 511 of the Act and new sec. 6038D of the Code)
Present Law
U.S. persons who transfer assets to, and hold interests in,
foreign bank accounts or foreign entities may be subject to
self-reporting requirements under both Title 26 (the Internal
Revenue Code) and Title 31 (the Bank Secrecy Act) of the United
States Code.
Since its enactment, the Bank Secrecy Act has been expanded
beyond its original focus on large currency transactions, while
retaining its broad purpose of obtaining self-reporting of
information with ``a high degree of usefulness in criminal,
tax, or regulatory investigations or proceedings.'' \554\ As
the reporting regime has expanded,\555\ reporting obligations
have been imposed on both financial institutions and account
holders. With respect to account holders, a U.S. citizen,
resident, or person doing business in the United States is
required to keep records and file reports, as specified by the
Secretary, when that person enters into a transaction or
maintains an account with a foreign financial agency.\556\
Regulations promulgated pursuant to broad regulatory authority
granted to the Secretary in the Bank Secrecy Act \557\ provide
additional guidance regarding the disclosure obligation with
respect to foreign accounts. The Bank Secrecy Act specifies
only that such disclosure contain the following information
``in the way and to the extent the Secretary prescribes'': (1)
the identity and address of participants in a transaction or
relationship; (2) the legal capacity in which a participant is
acting; (3) the identity of real parties in interest; and (4) a
description of the transaction.
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\554\ 31 U.S.C. sec. 5311.
\555\ See, e.g., Title III of the USA PATRIOT Act, Pub. L. No. 107-
56 (October 26, 2001) (sections 351 through 366 amended the Bank
Secrecy Act as part of a series of reforms directed at international
financing of terrorism).
\556\ 31 U.S.C. sec. 5314. The term ``agency'' in the Bank Secrecy
Act includes financial institutions.
\557\ 31 U.S.C. sec. 5314(a) provides: ``Considering the need to
avoid impeding or controlling the export or import of monetary
instruments and the need to avoid burdening unreasonably a person
making a transaction with a foreign financial agency, the Secretary of
the Treasury shall require a resident or citizen of the United States
or a person in, and doing business in, the United States, to keep
records, file reports, or keep records and file reports, when the
resident, citizen, or person makes a transaction or maintains a
relation for any person with a foreign financial agency.''
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Treasury Department Form TD F 90-22.1, ``Report of Foreign
Bank and Financial Accounts,'' (the ``FBAR'') must be filed by
June 30 of the year following the year in which the $10,000
filing threshold is met.\558\ The FBAR is filed with the
Treasury Department at the IRS Detroit Computing Center.
Failure to file the FBAR is subject to both criminal \559\ and
civil penalties.\560\ Since 2004, the civil sanctions have
included penalties not to exceed (1) $10,000 for failures that
are not willful and (2) the greater of $100,000 or 50 percent
of the balance in the account for willful failures. Although
the FBAR is received and processed by the IRS, it is neither
part of the income tax return filed with the IRS nor filed in
the same office as that return. As a result, for purposes of
Title 26, the FBAR is not considered ``return information,''
and its distribution to other law enforcement agencies is not
limited by the nondisclosure rules of Title 26.\561\
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\558\ 31 C.F.R. sec. 103.27(c). The $10,000 threshold is the
aggregate value of all foreign financial accounts in which a U.S.
person has a financial interest or over which the U.S. person has
signature or other authority.
\559\ 31 U.S.C. sec. 5322 (failure to file is punishable by a fine
up to $250,000 and imprisonment for five years, which may double if the
violation occurs in conjunction with certain other violations).
\560\ 31 U.S.C. sec. 5321(a)(5).
\561\ Section 6103 bars disclosure of return information, unless
permitted by an exception.
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Although the obligation to file an FBAR arises under Title
31, individual taxpayers subject to the FBAR reporting
requirements are alerted to this requirement in the preparation
of annual Federal income tax returns. Part III (``Foreign
Accounts and Trusts'') of Schedule B of the 2008 IRS Form 1040
includes the question, ``At any time during 2008, did you have
an interest in or signatory or any other authority over a
financial account in a foreign country, such as a bank account,
securities account, or other financial account?'' and directs
taxpayers to ``See page B-2 for exceptions and filing
requirements for Form TD F 90-22.1.'' The Form 1040
instructions advise individuals who answer ``yes'' to this
question to identify the foreign country or countries in which
such accounts are located.\562\ Responding to this question
does not discharge one's obligations under Title 31 and
constitutes ``return information'' protected from routine
disclosure to those charged with enforcing Title 31. In
addition, the Form 1040 instructions identify certain types of
accounts that are not subject to disclosure, including those
instances in which the combined value of all accounts held by
the taxpayer did not exceed $10,000 at any point during the
relevant tax year.
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\562\ 31 C.F.R. sec. 103.24.
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The FBAR requires disclosure of any account in which the
filer has a financial interest or as to which the filer has
signature or other authority (in which case the filer must
identify the owner of the account). The Treasury Department and
the IRS revised the FBAR and its accompanying instructions in
October, 2008, to clarify the filing requirements for U.S.
persons holding interests in foreign bank accounts.\563\ The
terminology has been updated to reflect new types of financial
transactions. For example, ``financial account'' now specifies
that debit or prepaid credit cards are financial accounts,\564\
and the definition of ``signature or other authority'' now
encompasses the ability to indirectly exercise this authority,
even in the absence of written instructions.\565\ The revised
instructions also provide that foreign individuals doing
business in the United States may be required to file an
FBAR.\566\ In August, 2009, the IRS requested public comments
to help determine the scope and nature of future additional
guidance.\567\
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\563\ Treasury Department Form TD F 90-22.1, Report of Foreign Bank
and Financial Accounts, and its instructions states:
A financial interest in a bank, securities, or other financial
account in a foreign country means an interest described in one of the
following three paragraphs: 1. A United States person has a financial
interest in each account for which such person is the owner of record
or has legal title, whether the account is maintained for his or her
own benefit or for the benefit of others including non-United States
persons. 2. A United States person has a financial interest in each
bank, securities, or other financial account in a foreign country for
which the owner of record or holder of legal title is: (a) a person
acting as an agent, nominee, attorney, or in some other capacity on
behalf of the U.S. person; (b) a corporation in which the United States
person owns directly or indirectly more than 50 percent of the total
value of shares of stock or more than 50 percent of the voting power
for all shares of stock; (c) a partnership in which the United States
person owns an interest in more than 50 percent of the profits
(distributive share of income, taking into account any special
allocation agreement) or more than 50 percent of the capital of the
partnership; or (d) a trust in which the United States person either
has a present beneficial interest, either directly or indirectly, in
more than 50 percent of the assets or from which such person receives
more than 50 percent of the current income. 3. A United States person
has a financial interest in each bank, securities, or other financial
account in a foreign country for which the owner of record or holder of
legal title is a trust, or a person acting on behalf of a trust, that
was established by such United States person and for which a trust
protector has been appointed. A trust protector is a person who is
responsible for monitoring the activities of a trustee, with the
authority to influence the decisions of the trustee or to replace, or
recommend the replacement of, the trustee. Correspondent or ``nostro''
accounts (international interbank transfer accounts) maintained by
banks that are used solely for the purpose of bank-to-bank settlement
need not be reported on this form, but are subject to other Bank
Secrecy Act filing requirements. This exception is intended to
encompass those accounts utilized for bank-to-bank settlement purposes
only.
\564\ See Chief Couns. Adv. 200603026 (January 20, 2006) for a
discussion of whether payment card accounts constitute financial
accounts.
\565\ According to the instructions to the FBAR, a person has
``signature authority'' over an account ``if such person can control
the disposition of money or other property in it by delivery of a
document containing his or her signature (or his or her signature and
that of one or more other persons) to the bank or other person with
whom the account is maintained.'' ``Other authority'' exists in a
person ``who can exercise comparable power over an account by
communication to the bank or other person with whom the account is
maintained, either directly or through an agent, nominee, attorney, or
in some other capacity on behalf of the U.S. person, either orally or
by some other means.''
\566\ Although the revised instructions currently track the
language of the statute in stating that a person in or doing business
in the United States is within its purview, and thus merely clarify
what has long been required, the IRS announced that pending publication
of guidance on the scope of the statute, people could rely on the
earlier, unrevised instructions to determine whether they are required
to file a FBAR. Announcement 2009-51, 2009-25 I.R.B. 1105.
Subsequently, the IRS announced that persons with only signature
authority over a foreign financial account as well as for signatories
or owners of financial interest in a foreign commingled fund have until
June 30, 2010 to file an FBAR for the 2008 and earlier calendar years
with respect to those accounts. Notice 2009-62, 2009-35 I.R.B. 260.
\567\ Notice 2009-62, 2009-35 I.R.B. 260, specifically requested
comments concerning: (1) when a person having only signature authority
or having an interest in a commingled fund should be relieved of filing
an FBAR; (2) the circumstances under which the FBAR filing exceptions
for officers and employees of banks and some publicly traded domestic
corporations should be expanded; (3) when an interest in a foreign
entity should be subject to FBAR reporting; and (4) whether the passive
asset and passive income thresholds are appropriate and should apply
conjunctively.
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The revised instructions explain the basis for reporting
other information in more detail, and provide that (1) all
foreign persons with an interest in the account must be
identified (including foreign identification numbers for each),
(2) the highest value held in the account at any point in the
year must be disclosed, (3) corporate employees with signature
authority but no financial interest are generally required to
disclose the signature authority, unless the corporate Chief
Financial Officer (``CFO'') (or in the case of an employee of a
subsidiary, the parent company's CFO) certifies that the
account will be reported on the corporate filing and (4) any
amended or delinquent filing should be identified as such, and
accompanied by an explanatory statement.
In addition to the FBAR requirements under Title 31, there
are additional reports required by the Code to be filed with
the IRS by U.S. persons engaged in foreign activities, directly
or indirectly, through a foreign business entity. Upon the
formation, acquisition or ongoing ownership of certain foreign
corporations, U.S. persons that are officers, directors, or
shareholders must file a Form 5471, ``Information Return of
U.S. Persons with Respect to Certain Foreign Corporations.''
\568\ Similarly, an IRS Form 8865, ``Return of U.S. Persons
with Respect to Certain Foreign Partnerships,'' must be filed
with respect to certain interests in a controlled foreign
partnership; an IRS Form 3520, ``Annual Return to Report
Transactions with Foreign Trusts and Receipt of Certain Foreign
Gifts,'' must be filed with respect to certain foreign trusts;
and an IRS Form 8858, ``Information Return of U.S. Persons With
Respect To Foreign Disregarded Entities'' must be filed with
respect to a foreign disregarded entity.\569\ To the extent
that the U.S. person engages in such foreign activities
indirectly through a foreign business entity, other self-
reporting requirements may apply. In addition, a U.S. person
that capitalizes a foreign entity generally is required to file
an IRS Form 926, ``Return by a U.S. Transferor of Property to a
Foreign Corporation.'' \570\
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\568\ Secs. 6038, 6046.
\569\ Form 8858 is used to satisfy reporting requirements of
sections 6011, 6012, 6031, 6038, and related regulations.
\570\ Sec. 6038B. The filing of this form may also be required upon
future contributions to the foreign corporation.
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With the exception of the questions included on Form 1040,
Schedule B, there is no requirement to disclose the information
includible on FBAR on an individual tax return.
FBAR enforcement responsibility
Until 2003, the Financial Crimes and Enforcement Network
(``FinCEN''), an agency of the Department of the Treasury, had
responsibility for civil penalty enforcement of FBAR.\571\ As a
result, persons who were more than 180 days delinquent in
paying any FBAR penalties were referred for collection action
to the Financial Management Service of the Treasury Department,
which is responsible for such non-tax collections.\572\
Continued nonpayment resulted in a referral to the Department
of Justice for institution of court proceedings against the
delinquent person. In 2003, the Secretary delegated civil
enforcement to the IRS.\573\ This change reflected the fact
that a major purpose of the FBAR was to identify potential tax
evasion, and therefore was not closely aligned with FinCEN's
core mission.\574\ The authority delegated to the IRS in 2003
included the authority to determine and enforce civil
penalties,\575\ as well as to revise the form and instructions.
However, the collection and enforcement powers available to
enforce the Internal Revenue Code under Title 26 are not
available to the IRS in the enforcement of FBAR civil
penalties, which remain collectible only in accord with the
procedures for non-tax collections described above.
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\571\ Treas. Directive 15-14 (December 1, 1992), in which the
Secretary delegated to the IRS authority to investigate violations of
the Bank Secrecy Act. If the IRS Criminal Investigation Division
declines to pursue a possible criminal case, it is to refer the matter
to FinCEN for civil enforcement.
\572\ 31 U.S.C. sec. 3711(g).
\573\ 31 C.F.R. sec. 103.56(g). Memorandum of Agreement and
Delegation of Authority for Enforcement of FBAR Requirements (April 2,
2003); News Release, IR-2003-48 (April 10, 2003).
\574\ Secretary of the Treasury, ``A Report to Congress in
Accordance with sec. 361(b) of the Uniting and Strengthening America by
Providing Appropriate Tools Required to Intercept and Obstruct
Terrorism Act of 2001 (USA Patriot Act)'' (April 24, 2003).
\575\ A penalty may be assessed before the end of the six-year
period beginning on the date of the transaction with respect to which
the penalty is assessed. 31 U.S.C. sec. 5321(b)(1). A civil action for
collection may be commenced within two years of the later of the date
of assessment and the date a judgment becomes final in any a related
criminal action. 31 U.S.C. sec. 5321(b)(2).
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In general, information reported on an FBAR is available to
the IRS and other law enforcement agencies. In contrast,
information on income tax returns--including the Schedule B
information regarding foreign bank accounts--is not readily
available to those within the IRS who are charged with
administering FBAR compliance, despite the fact that Federal
returns and return information may be the best source of
information for this purpose.
The nondisclosure constraints on IRS personnel who examine
income tax liability (i.e., Form 1040 reporting) generally
preclude the sharing of tax return information with any other
IRS personnel or Treasury officials, except for tax
administration purposes.\576\ Tax administration is defined as
``the administration, management, conduct, direction, and
supervision of the execution and application of the internal
revenue laws or related statutes'' and does not necessarily
include administration of Title 31.\577\ Because Title 31
includes enforcement of non-tax provisions of the Bank Secrecy
Act, Title 31 is not, per se, a ``related statute,'' for
purposes of finding that a disclosure of such information would
be for tax administration purposes. As a result, IRS personnel
charged with investigating and enforcing the civil penalties
under Title 31 are not routinely permitted access to Form 1040
information that would support or shed light on the existence
of an FBAR violation. Instead, there must be a determination,
in writing, that the FBAR violation was in furtherance of a
Title 26 violation in order to support a finding that the
statutes are ``related statutes'' for purposes of authorizing
the disclosure. The effect of this prerequisite is to subsume
the bank account information reported on Form 1040 under the
scope of ``return information'' and therefore, the protection
from disclosure provided under Title 26.\578\
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\576\ Sec. 6103(h)(1). In essence, section 6103(h)(1) authorizes
officers and employees of both the Treasury Department and IRS to have
access to return information on the basis of a ``need to know'' in
order to perform a tax administration function.
\577\ Sec. 6103(b)(4).
\578\ Internal Revenue Manual, paragraphs 4.26.14.2 and
4.26.14.2.1.
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Penalties
Failure to comply with the FBAR filing requirements is
subject to penalties imposed under Title 31 of the United
States Code, and may be both civil and criminal. Since the
initial enactment of the Bank Secrecy Act, a willful failure to
comply with the FBAR reporting requirement has been subject to
a civil penalty. In 2004, the available penalties were expanded
to include a reduced penalty for a non-willful failure to
file.\579\ Willful failure to file an FBAR may be subject to
penalties in amounts not to exceed the greater of $100,000 or
50 percent of the amount in the account at the time of the
violation.\580\ A non-willful, but negligent, failure to file
is subject to a penalty of $10,000 for each negligent
violation.\581\ The penalty may be waived if (1) there is
reasonable cause for the failure to report and (2) the amount
of the transaction or balance in the account was properly
reported. In addition, serious violations are subject to
criminal prosecution, potentially resulting in both monetary
penalties and imprisonment. Civil and criminal sanctions are
not mutually exclusive.
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\579\ American Jobs Creation Act of 2004, Pub. L. No. 108-357, sec.
821(b). This provision is codified in 31 U.S.C. sec. 5321(a)(5).
\580\ 31 U.S.C. sec. 5321(a)(5)(C).
\581\ 31 U.S.C. sec. 5321(a)(5)(B)(i), (ii).
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Failure to comply with information returns required by the
Internal Revenue Code is subject to a variety of sanctions,
including (1) suspension of the applicable statute of
limitations,\582\ (2) disallowance of otherwise permitted tax
attributes, deductions or credits,\583\ and (3) imposition of
penalties. For most information returns, the failure to file
penalty is $50 per return, up to a maximum of $250,000 per
taxpayer.\584\ Failures to disclose control of any foreign
business entity,\585\ foreign parties with 25-percent ownership
interest in a domestic company,\586\ domestic officers and 10-
percent owners of a foreign corporation,\587\ or change in
ownership of a foreign partnership \588\ are subject to
penalties of $10,000, plus $10,000 for every 30 days the
failure to file persists longer than 90 days after the taxpayer
is informed of the failure. A failure to report a transfer to a
foreign corporation is subject to a penalty equal to 10 percent
of the value of the transfer, but is capped at $10,000 if the
failure is not willful.\589\ Failure to report the creation of
a foreign trust is subject to a 35 percent penalty on the
reportable amount (or five percent for a Form 3520-A report),
plus $10,000 for every 30 days the failure to file persists
after 90 days from the date on which the taxpayer is informed
of the failure to file. The penalty is capped at the gross
reportable amount.\590\
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\582\ Sec. 6501(c)(8).
\583\ Secs. 1295, 6038.
\584\ Sec. 6721.
\585\ Sec. 6038.
\586\ Sec. 6038A.
\587\ Sec. 6046.
\588\ Sec. 6046A.
\589\ Sec. 6038B.
\590\ Sec. 6048.
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Explanation of Provision
The provision requires individual taxpayers with an
interest in a ``specified foreign financial asset'' during the
taxable year to attach a disclosure statement to their income
tax return for any year in which the aggregate value of all
such assets is greater than $50,000. Although the nature of the
information required is similar to the information disclosed on
an FBAR, it is not identical. For example, a beneficiary of a
foreign trust who is not within the scope of the FBAR reporting
requirements because his interest in the trust is less than 50
percent may nonetheless be required to disclose the interest in
the trust with his tax return under this provision if the value
of his interest in the trust together with the value of other
specified foreign financial assets exceeds the aggregate value
threshold. Nothing in this provision is intended as a
substitute for compliance with the FBAR reporting requirements,
which are unchanged by this provision.
``Specified foreign financial assets'' are depository or
custodial accounts at foreign financial institutions and, to
the extent not held in an account at a financial institution,
(1) stocks or securities issued by foreign persons, (2) any
other financial instrument or contract held for investment that
is issued by or has a counterparty that is not a U.S. person,
and (3) any interest in a foreign entity. The information to be
included on the statement includes identifying information for
each asset and its maximum value during the taxable year. For
an account, the name and address of the institution at which
the account is maintained and the account number are required.
For a stock or security, the name and address of the issuer,
and any other information necessary to identify the stock or
security and terms of its issuance must be provided. For all
other instruments or contracts, or interests in foreign
entities, the information necessary to identify the nature of
the instrument, contract or interest must be provided, along
with the names and addresses of all foreign issuers and
counterparties. An individual is not required under this
provision to disclose interests that are held in a custodial
account with a U.S. financial institution nor is an individual
required to identify separately any stock, security instrument,
contract, or interest in a foreign financial account disclosed
under the provision. In addition, the provision permits the
Secretary to issue regulations that would apply the reporting
obligations to a domestic entity in the same manner as if such
entity were an individual if that domestic entity is formed or
availed of to hold such interests, directly or indirectly.
Individuals who fail to make the required disclosures are
subject to a penalty of $10,000 for the taxable year. An
additional penalty may apply if the Secretary notifies an
individual by mail of the failure to disclose and the failure
to disclose continues. If the failure continues beyond 90 days
following the mailing, the penalty increases by $10,000 for
each 30 day period (or a fraction thereof), up to a maximum
penalty of $50,000 for one taxable period. The computation of
the penalty is similar to that applicable to failures to file
reports with respect to certain foreign corporations under
section 6038. Thus, an individual who is notified of his
failure to disclose with respect to a single taxable year under
this provision and who takes remedial action on the 95th day
after such notice is mailed incurs a penalty of $20,000
comprising the base amount of $10,000, plus $10,000 for the
fraction (i.e., the five days) of a 30-day period following the
lapse of 90 days after the notice of noncompliance was mailed.
An individual who postpones remedial action until the 181st day
is subject to the maximum penalty of $50,000: the base amount
of $10,000, plus $30,000 for the three 30-day periods, plus
$10,000 for the one fraction (i.e., the single day) of a 30-day
period following the lapse of 90 days after the notice of
noncompliance was mailed.
No penalty is imposed under the provision against an
individual who can establish that the failure was due to
reasonable cause and not willful neglect. Foreign law
prohibitions against disclosure of the required information
cannot be relied upon to establish reasonable cause.
To the extent the Secretary determines that the individual
has an interest in one or more foreign financial assets but the
individual does not provide enough information to enable the
Secretary to determine the aggregate value thereof, the
aggregate value of such identified foreign financial assets
will be presumed to have exceeded $50,000 for purposes of
assessing the penalty.
The provision also grants authority to promulgate
regulations necessary to carry out the intent. Such regulations
may include exceptions for nonresident aliens and classes of
assets identified by the Secretary, including those assets
which the Secretary determines are subject to reporting
requirements under other provisions of the Code. In particular,
regulatory exceptions to avoid duplicative reporting
requirements are anticipated.
Effective Date
The provision is effective for taxable years beginning
after the date of enactment (March 18, 2010).
4. Penalties for underpayments attributable to undisclosed foreign
financial assets (sec. 512 of the Act and sec. 6662 of the
Code)
Present Law
The Code imposes penalties equal to 20 percent of the
portion of any underpayments that are attributable to any of
the following five grounds: (1) negligence or disregard of
rules or regulations; (2) any substantial understatement \591\
of income tax; (3) any substantial valuation misstatement; (4)
any substantial overstatement of pension liabilities; and (5)
any substantial estate or gift tax valuation understatement.
With the exception of a penalty based on negligence or
disregard of rules or regulations, these penalties are commonly
referred to as accuracy-related penalties, because the
imposition of the penalty does not require an inquiry into the
culpability of the taxpayer. If the penalty is asserted, a
taxpayer may defend against the penalty by demonstrating that
(1) there was ``reasonable cause'' for the underpayment and (2)
the taxpayer acted in good faith.\592\ Regulations provide that
reasonable cause exists in cases in which the taxpayer
``reasonably relies in good faith on the opinion of a
professional tax advisor, if the opinion is based on the tax
advisor's analysis of the pertinent facts and authorities . . .
and unambiguously states that the tax advisor concludes that
there is a greater than 50-percent likelihood that the tax
treatment of the item will be upheld if challenged'' by the
IRS.\593\
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\591\ If the correct income tax liability exceeds that reported by
the taxpayer by the greater of 10 percent of the correct tax or $5,000
(or, in the case of corporations, by the lesser of (1) 10 percent of
the correct tax (or, if greater, $10,000) or (2) $10 million), then a
substantial understatement exists.
\592\ Sec. 6664(c).
\593\ Treas. Reg. secs. 1.6662-4(g)(4)(i)(B), 1.6664-4(c).
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A penalty for a substantial understatement may be reduced
to the extent of the portion of the understatement attributable
to an item on the return for which the challenged tax treatment
(1) is supported by substantial authority or (2) is adequately
disclosed on the return and there was a reasonable basis for
such treatment. The tax treatment is considered to have been
adequately disclosed only if all relevant facts are disclosed
with the return. Regardless of whether an item would otherwise
meet either of these tests, this defense is not available with
respect to penalties imposed on understatements arising from
tax shelters.\594\ The Secretary may prescribe a list of
positions which the Secretary believes do not meet the
requirements for substantial authority under this provision.
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\594\ A tax shelter is defined for this purpose as a partnership or
other entity, an investment plan or arrangement, or any other plan or
arrangement if a significant purpose of such partnership, other entity,
plan, or arrangement is the avoidance or evasion of Federal income tax.
Sec. 6662(d)(2)(C).
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Under present law, failure to comply with the various
information reporting requirements generally does not, in
itself, determine the amount of the penalty imposed on an
underpayment of tax. However, such failure to comply may be
relevant to (1) establishing negligence under section 6662 or
fraudulent intent,\595\ (2) determining whether penalties based
on culpability are applicable or (3) determining whether
certain defenses are available.
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\595\ Section 6663 imposes a penalty of 75 percent on that portion
of the understatement attributable to fraud. If the government proves
that such understatement was attributable to fraud, there is a
rebuttable presumption that any other understatement is attributable to
fraud.
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In the context of transactions that are subject to the
``reportable transaction'' disclosure regime,\596\ a separate
accuracy-related penalty may apply.\597\ That penalty applies
to ``listed transactions'' and other ``reportable
transactions'' that have a significant tax avoidance purpose (a
``reportable avoidance transaction''). The penalty rate and
defenses available to avoid the section 6662A penalty vary,
based on the adequacy of disclosure. In general, a 20-percent
accuracy-related penalty is imposed on any understatement
attributable to an adequately disclosed listed transaction or
reportable avoidance transaction.\598\ An exception is
available if the taxpayer satisfies a higher standard under the
reasonable cause and good faith exception. This higher standard
requires the taxpayer to demonstrate that there was (1)
adequate disclosure of the relevant facts affecting the
treatment on the taxpayer's return, (2) substantial authority
for the treatment on the taxpayer's return, and (3) a
reasonable belief that the treatment on the taxpayer's return
was more likely than not the proper treatment.\599\ If the
transaction is not adequately disclosed, the reasonable cause
exception is not available and the taxpayer is subject to a
penalty equal to 30 percent of the understatement.\600\
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\596\ Secs. 6011 through 6112 require taxpayers and their advisers
to disclose certain transactions determined to have the potential for
tax avoidance. All such transactions are referred to as ``reportable
transactions,'' and include within that class of transactions, those
that are ``listed,'' that is, the subject of published guidance in
which the Secretary announces his intent to challenge such
transactions.
\597\ Sec. 6662A.
\598\ Sec. 6662A(a).
\599\ Sec. 6664(d).
\600\ Sec. 6662A(c).
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Explanation of Provision
The provision adds a new accuracy related penalty to
section 6662. The new provision, which is subject to the same
defenses as are otherwise available under section 6662, imposes
a 40-percent penalty on any understatement attributable to an
undisclosed foreign financial asset. The term ``undisclosed
foreign financial asset'' includes all assets subject to
certain information reporting requirements \601\ for which the
required information was not provided by the taxpayer as
required under the applicable reporting provisions. An
understatement is attributable to an undisclosed foreign
financial asset if it is attributable to any transaction
involving such asset. Thus, a U.S. person who fails to comply
with the various self-reporting requirements for a foreign
financial asset and engages in a transaction with respect to
that asset incurs a penalty on any resulting underpayment that
is double the otherwise applicable penalty for substantial
understatements or negligence. For example, if a taxpayer fails
to disclose amounts held in a foreign financial account, any
underpayment of tax related to the transaction that gave rise
to the income would be subject to the penalty provision, as
would any underpayment related to interest, dividends or other
returns accrued on such undisclosed amounts.
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\601\ The information reporting requirements identified include
sections 6038, 6038A, new 6038D, 6046A, and 6048.
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Effective Date
The provision is effective for taxable years beginning
after the date of enactment (March 18, 2010).
5. Modification of statute of limitations for significant omission of
income in connection with foreign assets (sec. 513 of the Act
and secs. 6229 and 6501 of the Code)
Present Law
Taxes are generally required to be assessed within three
years after a taxpayer's return was filed, whether or not it
was timely filed.\602\ Of the exceptions to this general rule,
only section 6501(c)(8) is specifically targeted at the
identification of, and collection of information about, cross-
border transactions. Under this exception, the limitation
period for assessment of any tax imposed under the Code with
respect to any event or period to which information about
certain cross-border transactions required to be reported
relates does not expire any earlier than three years after the
required information is actually provided to the Secretary by
the person required to file the return.\603\ In general, such
information reporting is due with the taxpayer's return; thus,
the three-year limitation period commences when a timely and
complete (including all information reporting) return is filed.
Without the inclusion of the information reporting with the
return, the limitation period does not commence until such time
as the information reports are subsequently provided to the
Secretary, even though the return has been filed.
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\602\ Sec. 6501(a). Returns that are filed before the date they are
due are deemed filed on the due date. See sec. 6501(b)(1) and (2).
\603\ Required information reporting subject to this three-year
rule is reporting under sections 6038 (certain foreign corporations and
partnerships), 6038A (certain foreign-owned corporations), 6038B
(certain transfers to foreign persons), 6046 (organizations,
reorganizations, and acquisitions of stock of foreign corporations),
6046A (interests in foreign partnerships), and 6048 (certain foreign
trusts).
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In the case of a false or fraudulent return filed with the
intent to evade tax, or if the taxpayer fails to file a
required return, the tax may be assessed, or a proceeding in
court for collection of such tax may be begun without
assessment, at any time.\604\ The limitation period also may be
extended by taxpayer consent.\605\ If a taxpayer engages in a
listed transaction but fails to include any of the information
required under section 6011 on any return or statement for a
taxable year, the limitation period with respect to such
transaction will not expire before the date which is one year
after the earlier of (1) the date on which the Secretary is
provided the information so required, or (2) the date that a
``material advisor'' (as defined in section 6111) makes its
section 6112(a) list available for inspection pursuant to a
request by the Secretary under section 6112(b)(1)(A).\606\
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\604\ Sec. 6501(c).
\605\ Sec. 6501(c)(4).
\606\ Sec. 6501(c)(10).
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A special rule is provided where there is a substantial
omission of income. If a taxpayer omits substantial income on a
return, any tax with respect to that return may be assessed and
collected within six years of the date on which the return was
filed. In the case of income taxes, ``substantial'' means at
least 25 percent of the amount that was properly includible in
gross income; for estate and gift taxes, it means 25 percent of
a gross estate or total gifts. For this purpose, the gross
income of a trade or business means gross receipts, without
reduction for the cost of sales or services.\607\ An amount is
not considered to have been omitted if the item properly
includible in income is disclosed on the return.\608\
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\607\ Sec. 6501(e)(1)(A)(i).
\608\ Sec. 6501(e)(1)(A)(ii) provides that, in determining whether
an amount was omitted, any amounts that are disclosed in the return or
in a statement attached to the return in a manner adequate to apprise
the Secretary of the nature and amount of such item are not taken into
account.
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In addition to the exceptions described, there are also
circumstances under which the three-year limitation period is
suspended. For example, service of an administrative summons
triggers the suspension either (1) beginning six months after
service (in the case of John Doe summonses) \609\ or (2) when a
proceeding to quash a summons is initiated by a taxpayer named
in a summons to a third-party record-keeper. Judicial
proceedings initiated by the government to enforce a summons
generally do not suspend the limitation period.
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\609\ Sec. 7609(e)(2).
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Explanation of Provision \610\
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\610\ This provision was subsequently amended by section 218 of the
__ Act of __, Pub. L. No. 111-226, to provide a reasonable cause
exception under which the suspension of a limitations period under
section 6501(c)(8) may not apply to the entire return. See Part Twelve
for a description of the provision.
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The provision authorizes a new six-year limitations period
for assessment of tax on understatements of income attributable
to foreign financial assets. The present exception that
provides a six-year period for substantial omission of an
amount equal to 25 percent of the gross income reported on the
return is not changed.
The new exception applies if there is an omission of gross
income in excess of $5,000 and the omitted gross income is
attributable to an asset with respect to which information
reports are required under section 6038D, as applied without
regard to the dollar threshold, the statutory exception for
nonresident aliens and any exceptions provided by regulation.
If a domestic entity is formed or availed of to hold foreign
financial assets and is subject to the reporting requirements
of section 6038D in the same manner as an individual, the six-
year limitations period may also apply to that entity. The
Secretary is permitted to assess the resulting deficiency at
any time within six years of the filing of the income tax
return.
In providing that the applicability of section 6038D
information reporting requirements is to be determined without
regard to the statutory or regulatory exceptions, the statute
ensures that the longer limitation period applies to omissions
of income with respect to transactions involving foreign assets
owned by individuals. Thus, a regulatory provision that
alleviates duplicative reporting obligations by providing that
a report that complies with another provision of the Code may
satisfy one's obligations under new section 6038D does not
change the nature of the asset subject to reporting. The asset
remains one that is subject to the requirements of section
6038D for purposes of determining whether the exception to the
three-year statute of limitations applies.
The provision also suspends the limitations period for
assessment if a taxpayer fails to provide timely information
returns required with respect to passive foreign investment
corporations \611\ and the new self-reporting of foreign
financial assets. The limitations period will not begin to run
until the information required by those provisions has been
furnished to the Secretary. The provision also clarifies that
the extension is not limited to adjustments to income related
to the information required to be reported by one of the
enumerated sections.
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\611\ Sec. 1295(b), (f).
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Effective Date
The provision applies to returns filed after the date of
enactment (March 18, 2010) as well as for any other return for
which the assessment period specified in section 6501 has not
yet expired as of the date of enactment (March 18, 2010).
6. Reporting of activities with respect to passive foreign investment
companies (sec. 521 of the Act and sec. 1298 of the Code)
Present Law
In general, active foreign business income derived by a
foreign corporation with U.S. owners is not subject to current
U.S. taxation until the corporation makes a dividend
distribution to those owners. Certain rules, however, restrict
the benefit of deferral of U.S. tax on income derived through
foreign corporations. One such regime applies to U.S. persons
who own stock of passive foreign investment companies
(``PFICs''). A PFIC generally is defined as any foreign
corporation if 75 percent or more of its gross income for the
taxable year consists of passive income, or 50 percent or more
of its assets consist of assets that produce, or are held for
the production of, passive income.\612\ Various sets of income
inclusion rules apply to U.S. persons that are shareholders in
a PFIC, regardless of their percentage ownership in the
company. One set of rules applies to PFICs under which U.S.
shareholders pay tax on certain income or gain realized through
the companies, plus an interest charge intended to eliminate
the benefit of deferral.\613\ A second set of rules applies to
PFICs that are ``qualified electing funds'' (``QEF''), under
which electing U.S. shareholders currently include in gross
income their respective shares of the company's earnings, with
a separate election to defer payment of tax, subject to an
interest charge, on income not currently received.\614\ A third
set of rules applies to marketable PFIC stock, under which
electing U.S. shareholders currently take into account as
income (or loss) the difference between the fair market value
of the stock as of the close of the taxable year and their
adjusted basis in such stock (subject to certain limitations),
often referred to as ``marking to market.'' \615\
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\612\ Sec. 1297.
\613\ Sec. 1291.
\614\ Secs. 1293-1295.
\615\ Sec. 1296.
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In general, a U.S. person that is a direct or indirect
shareholder of a PFIC must file IRS Form 8621, ``Return by a
Shareholder of a Passive Foreign Investment Company or
Qualifying Electing Fund'' for each tax year in which that U.S.
person (1) recognizes gain on a direct or indirect disposition
of PFIC stock, (2) receives certain direct or indirect
distributions from a PFIC, or (3) is making a reportable
election.\616\ The Code includes a general reporting
requirement for certain PFIC shareholders which is contingent
upon the issuance of regulations.\617\ Although Treasury issued
proposed regulations in 1992 requiring U.S. persons to file
annually Form 8621 for each PFIC of which the person is a
shareholder during the taxable year, such regulations have not
been finalized and current IRS Form 8621 requires reporting
only based on one of the triggering events described
above.\618\
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\616\ See Instructions to IRS Form 8621. According to the form,
reportable elections include the following: (i) an election to treat
the PFIC as a QEF; (ii) an election to recognize gain on the deemed
sale of a PFIC interest on the first day of the PFIC's tax year as a
QEF; (iii) an election to treat an amount equal to the shareholder's
post-1986 earnings and profits of a CFC as an excess distribution on
the first day of a PFIC's tax year as a QEF that is also a controlled
foreign corporation under section 957(a); (iv) an election to extend
the time for payment of the shareholder's tax on the undistributed
earnings and profits of a QEF; (v) an election to treat as an excess
distribution the gain recognized on the deemed sale of the
shareholder's interest in the PFIC, or to treat such shareholder's
share of the PFIC's post-1986 earnings and profits as an excess
distribution, on the last day of its last tax year as a PFIC under
section 1297(a) if eligible; or (vi) an election to mark-to-market the
PFIC stock that is marketable within the meaning of section 1296(e).
\617\ Sec. 1291(e) by reference to sec. 1246(f).
\618\ Prop. Treas. Reg. sec. 1.1291-1(i).
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Explanation of Provision
The provision requires that, unless otherwise provided by
the Secretary, each U.S. person who is a shareholder of a PFIC
must file an annual information return containing such
information as the Secretary may require. A person that meets
the reporting requirements of this provision may, however, also
meet the reporting requirements of section 511 of the Act and
new section 6038D of the Code requiring disclosure of
information with respect to foreign financial assets. It is
anticipated that the Secretary will exercise regulatory
authority under this provision or new section 6038D to avoid
duplicative reporting.
Effective Date
The provision is effective on the date of enactment (March
18, 2010).
7. Secretary permitted to require financial institutions to file
certain returns related to withholding on foreign transfers
electronically (sec. 522 of the Act and sec. 6011 of the Code).
Present Law
Withholding responsibility
A withholding agent is any person required to withhold U.S.
income tax under sections 1441, 1442, 1443, or 1461. For
purposes of these sections, a withholding agent is any person,
whether a U.S. or a foreign person, that has the control,
receipt, custody, disposal, or payment of an item of income of
a foreign person subject to withholding.\619\ A withholding
agent is personally liable for the tax required to be
withheld.\620\
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\619\ Treas. Reg. sec. 1.1441-7(a)(1).
\620\ Sec. 1461.
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Reporting liability of a withholding agent
Every withholding agent must file an annual return with the
IRS on Form 1042, ``Annual Withholding Tax Return for U.S.
Source Income of Foreign Persons,'' reporting all taxes
withheld during the preceding year and remitting any taxes
still owing for such preceding year.\621\ IRS Form 1042 must be
filed on or before March 15 of the year following the year of
the payment. The form must be filled even though no tax has
been withheld from income paid during the year.\622\ A
withholding agent must also file an information return, IRS
Form 1042-S, which is entitled ``Foreign Person's U.S. Source
Income Subject to Withholding,'' on or before March 15 of the
year succeeding the year of payment. IRS Form 1042-S requires
the withholding agent to provide all items of income specified
in section 1441(b) paid during the previous year to foreign
persons.\623\ IRS Form 1042-S must be filed for each foreign
recipient to whom payments were made during the preceding
year,\624\ even if no tax was required to have been withheld. A
copy of IRS Form 1042-S must be sent to the payee.
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\621\ Treas. Reg. sec. 1.1461-1(b)(1).
\622\ Ibid.
\623\ Treas. Reg. sec. 1.1461-1(c)(1). IRS Form 1042-S filings
provide information important for the Secretary's purposes in properly
effecting refund claims and in meeting IRS's obligations under exchange
of information agreements with various treaty partners. Also, the IRS
has the ability to validate electronically filed Form 1042-S upon such
filing, thereby serving to better ensure the reliability of information
included in such filings.
\624\ Ibid. If payments are made to a nominee or representative of
a foreign payee, Form 1042-S must also be sent to the beneficial owner
of such payments, if known to the withholding agent.
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IRS's authority to require electronic filing
The Internal Revenue Service Restructuring and Reform Act
of 1998 (``RRA 1998'') \625\ states that it is a congressional
policy to promote the paperless filing of Federal tax returns.
Section 2001(a) of RRA 1998 set a goal for the IRS to have at
least 80 percent of all Federal tax and information returns
filed electronically by 2007. Section 2001(b) of RRA 1998
requires the IRS to establish a 10-year strategic plan to
eliminate barriers to electronic filing.
---------------------------------------------------------------------------
\625\ Pub. L. No. 105-206 (1998).
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The Secretary has limited authority to issue regulations
specifying which returns must be filed electronically. First,
in general, such regulations can only apply to persons required
to file at least 250 returns during the year.\626\ Second, the
Secretary is generally prohibited from requiring that income
tax returns of individuals, estates, and trusts be submitted in
any format other than paper (although these returns may be
filed electronically by choice).\627\ Third, the Secretary, in
determining which returns must be filed on magnetic media, must
take into account relevant factors, including the ability of a
taxpayer to comply with magnetic media filing at reasonable
cost.\628\ Finally, a failure to comply with the regulations
mandating electronic filing cannot in itself support a penalty
for failure to file an information return, with certain
exceptions for corporations and partnerships.\629\
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\626\ Partnerships with more than 100 partners are required to file
electronically. Sec. 6011(e)(2).
\627\ For returns filed after 12/31/2010, under the recently
enacted Worker, Homeownership, and Business Act of 2009, Pub. L. No.
111-92, any individual tax return, including any return of the tax
imposed by subtitle A on individuals, estates, or trusts, prepared by a
tax return preparer, is required to be filed electronically unless the
tax return preparer reasonably expects to file ten or fewer tax returns
during such calendar year. Sec. 6011(e)(3).
\628\ Sec. 6011(e).
\629\ Sec. 6724(c). If a corporation fails to comply with the
electronic filing requirements for more than 250 returns that it is
required to file, it may be subject to the penalty for failure to file
information returns under section 6721. For partnerships, the penalty
may only be imposed if the failure extends to more than 100 returns.
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Accordingly, the Secretary requires corporations and tax-
exempt organizations that have assets of $10 million or more
and file at least 250 returns during a calendar year, including
income tax, information, excise tax, and employment tax
returns, to file electronically their Form IRS 1120/1120-S
income tax returns and IRS Form 990 information returns for tax
years ending on or after December 31, 2006. Private foundations
and charitable trusts that file at least 250 returns during a
calendar year are required to file electronically their IRS
Form 990-PF information returns for tax years ending on or
after December 31, 2006, regardless of their asset size.
Taxpayers can request waivers of the electronic filing
requirement if they cannot meet that requirement due to
technological constraints, or if compliance with the
requirement would result in undue financial burden.
Explanation of Provision
The provision provides an exception to the general annual
250 returns threshold and permits the Secretary to issue
regulations to require filing on magnetic media for any return
filed by a ``financial institution'' \630\ with respect to any
taxes withheld by the ``financial institution'' for which it is
personally liable.\631\ Under the provision, the Secretary is
authorized to require a financial institution to electronically
file returns with respect to any taxes withheld by the
financial institution even though such financial institution
would be required to file less than 250 returns during the
year.
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\630\ See section 1471(d)(5) in section 101 of the Act.
\631\ The ``financial institution'' is personally liable for any
tax withheld in accordance with section 1461 and section 1474(a) under
section 101 of the Act.
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The provision also makes a conforming amendment to section
6724, permitting assertion of a failure to file penalty under
section 6721 against a financial institution that fails to
comply with the electronic filing requirements.
Effective Date
The provision applies to returns the due date for which
(determined without regard to extensions) is after the date of
enactment (March 18, 2010).
8. Clarifications with respect to foreign trusts which are treated as
having a United States beneficiary (sec. 531 of the Act and
sec. 679 of the Code)
Present Law
Under the grantor trust rules, a U.S. person that directly
or indirectly transfers property to a foreign trust \632\ is
generally treated as the owner of the portion of the trust
comprising the transferred property for any taxable year in
which there is a U.S. beneficiary of any portion of the
trust.\633\ This treatment generally does not apply to
transfers by reason of death, or to transfers of property to
the trust in exchange for at least the fair market value of the
transferred property.\634\ A trust is treated as having a U.S.
beneficiary for the taxable year unless (1) under the terms of
the trust, no part of the income or corpus of the trust may be
paid or accumulated during the taxable year to or for the
benefit of a U.S. person, and (2) if the trust were terminated
at any time during the taxable year, no part of the income or
corpus of the trust could be paid to or for the benefit of a
U.S. person.\635\
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\632\ A trust is a foreign trust if it is not a U.S. person. Sec.
7701(a)(31)(B). A trust is a U.S. person if (1) a U.S. court is able to
exercise primary supervision over the administration of the trust, and
(2) one or more U.S. persons have the authority to control all
substantial decisions of the trust. Sec. 7701(a)(30)(E).
\633\ Sec. 679(a)(1). This rule does not apply to transfers to
trusts established to fund certain deferred compensation plan trusts or
to trusts exempt from tax under section 501(c)(3).
\634\ Sec. 679(a)(2).
\635\ Sec. 679(c)(1).
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Regulations under section 679 employ a broad approach in
determining whether a foreign trust is treated as having a U.S.
beneficiary. The determination of whether the trust has a U.S.
beneficiary is made for each taxable year of the transferor.
The default rule under the statute and regulations is that a
trust has a U.S. beneficiary unless during the U.S.
transferor's taxable year the trust meets the two requirements
as stated above. Income or corpus may be paid or accumulated to
or for the benefit of a U.S. person if, directly or indirectly,
income may be distributed to or accumulated for the benefit of
a U.S. person, or corpus of the trust may be distributed to or
held for the future benefit of a U.S. person.\636\ The
determination is made without regard to whether income or
corpus is actually distributed, and without regard to whether a
U.S. person's interest in the trust income or corpus is
contingent on a future event. A person who is not a named
beneficiary and is not a member of a class of beneficiaries
will not be taken into account if the transferor can show that
the person's contingent interest in the trust is so remote as
to be negligible.\637\ In considering whether a foreign trust
has a U.S. beneficiary under the terms of the trust, the trust
instrument must be read together with other relevant factors
including (1) all written and oral agreements and
understandings related to the trust, (2) memoranda or letters
of wishes, (3) all records that relate to the actual
distribution of income and corpus, and (4) all other documents
that relate to the trust, whether or not of any purported legal
effect.\638\ Other factors taken into account in determining
whether a foreign trust is deemed to have a U.S. beneficiary
include whether (1) the terms of the trust allow the trust to
be amended to benefit a U.S. person, (2) the trust instrument
does not allow such an amendment, but the law applicable to the
foreign trust may require payments or accumulations of income
or corpus to a U.S. person, or (3) the parties to the trust
ignore the terms of the trust, or it reasonably expected that
they will do so to benefit a U.S. person.\639\
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\636\ Treas. Reg. sec. 1.679-2(a)(2)(i).
\637\ Treas. Reg. sec. 1.679-2(a)(2)(ii).
\638\ Treas. Reg. sec. 1.679-2(a)(4)(i).
\639\ Treas. Reg. sec. 1.679-2(a)(4)(ii).
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If a foreign trust that was not treated as a grantor trust
acquires a U.S. beneficiary and is treated as a grantor trust
under section 679 for the taxable year, the transferor is
taxable on the trust's undistributed net income \640\ computed
at the end of the preceding taxable year.\641\ Any additional
amount included in the transferor's gross income as a result of
this provision is subject to the interest charge rules of
section 668.\642\
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\640\ Undistributed net income is defined in section 665(a).
\641\ Sec. 679(b).
\642\ Treas. Reg. sec. 1.679-2(c)(1).
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Explanation of Provision
In determining whether, under section 679, a foreign trust
has a U.S. beneficiary, the provision clarifies that an amount
is treated as accumulated for the benefit of a U.S. person even
if the U.S. person's interest in the trust is contingent on a
future event. Under the provision, if any person has the
discretion (by authority given in the trust agreement, by power
of appointment, or otherwise) to make a distribution from the
trust to, or for the benefit of, any person, the trust is
treated as having a U.S. beneficiary unless (1) the terms of
the trust specifically identify the class of persons to whom
such distributions may be made, and (2) none of those persons
is a U.S. person during the taxable year. The provision is
meant to be consistent with existing regulations under section
679.
The provision clarifies that if any U.S. person who
directly or indirectly transfers property to the trust is
directly or indirectly involved in any agreement or
understanding (whether written, oral, or otherwise) that may
result in the income or corpus of the trust being paid or
accumulated to or for the benefit of a U.S. person, such
agreement or understanding is treated as a term of the trust.
It is assumed for these purposes that a transferor of property
to the trust is generally directly or indirectly involved with
agreements regarding the accumulation or disposition of the
income and corpus of the trust.
Effective Date
The provision is effective on the date of enactment (March
18, 2010).
9. Presumption that foreign trust has United States beneficiary (sec.
532 of the Act and sec. 679 of the Code)
Present Law
Under the grantor trust rules, a U.S. person that directly
or indirectly transfers property to a foreign trust \643\ is
generally treated as the owner of the portion of the trust
comprising that property for any taxable year in which there is
a U.S. beneficiary of any portion of the trust.\644\ This
treatment generally does not apply to transfers by reason of
death, or to transfers of property to the trust in exchange for
at least the fair market value of the transferred
property.\645\ A trust is treated as having a U.S. beneficiary
for the taxable year unless (1) under the terms of the trust,
no part of the income or corpus of the trust may be paid or
accumulated during the taxable year to or for the benefit of a
U.S. person, and (2) if the trust were terminated at any time
during the taxable year, no part of the income or corpus of the
trust could be paid to or for the benefit of a U.S.
person.\646\
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\643\ A trust is a foreign trust if it is not a U.S. person. Sec.
7701(a)(31)(B). A trust is a U.S. person if (1) a U.S. court is able to
exercise primary supervision over the administration of the trust and
(2) one or more U.S. persons have the authority to control all
substantial decisions of the trust. Sec. 7701(a)(30)(E).
\644\ Sec. 679(a)(1). This rule does not apply to transfers to
trusts established to fund certain deferred compensation plan trusts or
to trusts exempt from tax under section 501(c)(3).
\645\ Sec. 679(a)(2).
\646\ Sec. 679(c)(1).
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Section 6048 imposes various reporting obligations on
foreign trusts and persons creating, making transfers to, or
receiving distributions from such trusts. Within 90 days after
a U.S. person transfers property to a foreign trust, the
transferor must provide written notice of the transfer to the
Secretary.\647\
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\647\ Sec. 6048(a).
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Explanation of Provision
Under the provision, if a U.S. person directly or
indirectly transfers property to a foreign trust,\648\ the
Secretary may treat the trust as having a U.S. beneficiary for
purposes of section 679 unless such U.S. person submits
information as required by the Secretary and demonstrates to
the satisfaction of the Secretary that (1) under the terms of
the trust, no part of the income or corpus of the trust may be
paid or accumulated during the taxable year to or for the
benefit of a U.S. person, and (2) if the trust were terminated
during the taxable year, no part of the income or corpus of the
trust could be paid to or for the benefit of a U.S. person.
---------------------------------------------------------------------------
\648\ A foreign trust for this purpose does not include deferred
compensation and charitable trusts described in section
6048(a)(3)(B)(ii).
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Effective Date
The provision applies to transfers of property after the
date of enactment (March 18, 2010).
10. Uncompensated use of trust property (sec. 533 of the Act and secs.
643 and 679 of the Code)
Present Law
Under section 643(i), a loan of cash or marketable
securities made by a foreign trust to any U.S. grantor, U.S.
beneficiary, or any other U.S. person who is related to a U.S.
grantor or U.S. beneficiary generally is treated as a
distribution by the foreign trust to such grantor or
beneficiary. This rule applies for purposes of determining if
the foreign trust is a simple or complex trust, computing the
distribution deduction for the trust, determining the amount of
gross income of the beneficiaries, and computing any
accumulation distribution. Loans to tax-exempt entities are
excluded from this rule.\649\ A trust treated under this rule
as making a distribution is not treated as a simple trust for
the year of the distribution.\650\ This rule does not apply for
purposes of determining if a trust has a U.S. beneficiary under
section 679.
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\649\ Sec. 643(i)(2)(C).
\650\ Sec. 643(i)(2)(D).
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A subsequent repayment, satisfaction, or cancellation of a
loan treated as a distribution under section 643(i) is
disregarded for tax purposes.\651\ This section applies a broad
set of related party rules that treat a loan of cash or
marketable securities to a spouse, sibling, ancestor,
descendant of the grantor or beneficiary, spouse of such family
members, other trusts in which the grantor or beneficiary has
an interest, and corporations or partnerships controlled by the
beneficiary or grantor or by family members of the beneficiary
or grantor, as a distribution to the related grantor or
beneficiary.\652\
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\651\ Sec. 643(i)(3).
\652\ Section 643(i)(2)(B) treats a person as a related person if
the relationship between such person would result in a disallowance of
losses under sections 267 or 707(b), broadened to include the spouses
of members of the family described in such sections.
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Explanation of Provision
The provision expands section 643(i) to provide that any
use of trust property by the U.S. grantor, U.S. beneficiary or
any U.S. person related to a U.S. grantor or U.S. beneficiary
is treated as a distribution of the fair market value of the
use of the property to the U.S. grantor or U.S. beneficiary.
The use of property is not treated as a distribution to the
extent that the trust is paid the fair market value for the use
of the property within a reasonable period of time. A
subsequent return of property treated as a distribution under
section 643(i) is disregarded for tax purposes.
For purposes of determining whether a foreign trust has a
U.S. beneficiary under section 679, a loan of cash or
marketable securities or the use of any other trust property by
a U.S. person is treated as a payment from the trust to the
U.S. person in the amount of the loan or the fair market value
of the use of the property. A loan or use of property is not
treated as a payment to the extent that the U.S. person repays
the loan at a market rate of interest or pays the fair market
value for the use of the trust property within a reasonable
period of time.
Effective Date
The provision applies to loans made and uses of property
after the date of enactment (March 18, 2010).
11. Reporting requirement of United States owners of foreign trusts
(sec. 534 of the Act and sec. 6048 of the Code)
Present Law
Section 6048 imposes various reporting obligations on
foreign trusts and persons creating, making transfers to, or
receiving distributions from such trusts. If a U.S. person is
treated as the owner of any portion of a foreign trust under
the rules of subpart E of part I of subchapter J of chapter 1
(grantor trust provisions), the U.S. person is responsible for
ensuring that the trust files an information return for the
year and that the trust provides other information as the
Secretary may require to each U.S. person who (1) is treated as
the owner of any portion of the trust, or (2) receives
(directly or indirectly) any distribution from the trust.\653\
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\653\ Sec. 6048(b)(1).
---------------------------------------------------------------------------
Explanation of Provision
The provision requires a U.S. person that is treated as an
owner of any portion of a foreign trust under the rules of
subpart E of part I of subchapter J of chapter 1 (grantor trust
provisions) to provide information as the Secretary may require
with respect to the trust, in addition to ensuring that the
trust complies with its reporting obligations.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (March 18, 2010).
12. Minimum penalty with respect to failure to report on certain
foreign trusts (sec. 535 of the Act and sec. 6677 of the Code)
Present Law
Minimum penalty with respect to failure to report on certain foreign
trusts
Section 6048 imposes various reporting obligations on
foreign trusts and persons creating, making transfers to, or
receiving distributions from such trusts. Generally, a trust is
a foreign trust unless a U.S. court is able to exercise primary
supervision over the trust's administration and a U.S. trustee
has authority to control all substantial decisions of the
trust.\654\ If a U.S. person creates or transfers property to a
foreign trust, the U.S. person generally must report this event
and certain other information by the due date for the U.S.
person's tax return, including extensions, for the tax year in
which the creation of the trust or the transfer occurs.\655\
Similar rules apply in the case of the death of a U.S. citizen
or resident if the decedent was treated as the owner of any
portion of a foreign trust under the grantor trust rules or if
any portion of a foreign trust was included in the decedent's
gross estate. If a U.S. person directly or indirectly receives
a distribution from a foreign trust, the U.S. person generally
must report the distribution by the due date for the U.S.
person's tax return, including extensions, for the tax year
during which the distribution is received.\656\ If a U.S.
person is the owner of any portion of a foreign grantor trust
at any time during the year, the person is responsible for
causing an information return to be filed for the trust, which
must, among other things, give the name of a U.S. agent for the
trust.\657\
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\654\ Sec. 7701(a)(30)(E), (31)(B). In addition, for purposes of
section 6048, the IRS can classify a trust as foreign if it ``has
substantial activities, or holds substantial property, outside the
United States.'' Sec. 6048(d)(2).
\655\ Sec. 6048(a).
\656\ Sec. 6048(c).
\657\ Sec. 6048(b).
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If a notice or return required under the rules just
described is not filed when due or is filed without all
required information, the person required to file is generally
subject to a penalty based on the ``gross reportable amount.''
\658\ The gross reportable amount is (1) the value of the
property transferred to the foreign trust if the delinquency is
failure to file notice of the creation of or a transfer to a
foreign trust; (2) the value (on the last day of the year) of
the portion of a grantor trust owned by a U.S. person who fails
to cause an annual return to be filed for the trust; and (3)
the amount distributed to a distributee who fails to report
distributions.\659\ The initial penalty is 35 percent of the
gross reportable amount in cases (1) and (3) and five percent
in case (2).\660\ If the return is more than 90 days late,
additional penalties are imposed of $10,000 for every 30 days
the delinquency continues, except that the aggregate of the
penalties may not exceed the gross reportable amount.\661\
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\658\ Sec. 6677(a).
\659\ Sec. 6677(c).
\660\ Sec. 6677(b).
\661\ Sec. 6677(a).
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Maximum penalty with respect to failure to report on certain foreign
trusts
In no event may the penalties imposed with respect to any
failure to report under section 6048 exceed the gross
reportable amount.\662\
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\662\ Ibid.
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Explanation of Provision
Increase of the minimum penalty with respect to failure to report on
certain foreign trusts
Under the provision, the initial penalty for failing to
report under section 6048 is the greater of $10,000 or 35
percent of the gross reportable amount in cases (1) and (3) and
the greater of $10,000 or five percent of the gross reportable
amount in case (2). Thus, an initial penalty of $10,000 may be
imposed even where the Secretary has insufficient information
to determine the gross reportable amount. The additional
$10,000 penalty for every additional 30 days of delinquency
continues to apply.
Amendment to the maximum penalty with respect to failure to report on
certain foreign trusts
The provision provides that the penalties with respect to
failure to report on certain foreign trusts may exceed the
gross reportable amount. However, to the extent that a taxpayer
provides sufficient information for the Secretary to determine
that the aggregate amount of the penalties exceeds the gross
reportable amount, the Secretary is required to refund such
excess to the taxpayer.
Effective Date
The provision applies to notices and returns required to be
filed after December 31, 2009.
13. Substitute dividends and dividend equivalent payments received by
foreign persons treated as dividends (sec. 541 of the Act and
sec. 871 of the Code)
Present Law
Payments of U.S.-source ``fixed or determinable annual or
periodical'' income, including interest, dividends, and similar
types of investment income, made to foreign persons are
generally subject to U.S. tax, collected by withholding, at a
30-percent rate, unless the withholding agent can establish
that the beneficial owner of the amount is eligible for an
exemption from withholding or a reduced rate of withholding
under an income tax treaty.\663\ Dividends paid by a domestic
corporation are generally U.S.-source \664\ and therefore
potentially subject to withholding tax when paid to foreign
persons.
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\663\ Secs. 871, 881, 1441, 1442; Treas. Reg. sec. 1.1441-1(b). For
purposes of the withholding tax rules applicable to payments to
nonresident alien individuals and foreign corporations, a withholding
agent is defined broadly to include any U.S. or foreign person that has
the control, receipt, custody, disposal, or payment of an item of
income of a foreign person subject to withholding. Treas. Reg. sec.
1.1441-7(a).
\664\ Sec. 861(a)(2).
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The source of notional principal contract income generally
is determined by reference to the residence of the recipient of
the income.\665\ Consequently, a foreign person's income
related to a notional principal contract that references stock
of a domestic corporation, including any amount attributable
to, or calculated by reference to, dividends paid on the stock,
generally is foreign source and is therefore not subject to
U.S. withholding tax.
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\665\ Treas. Reg. sec. 1.863-7(b)(1). A notional principal contract
is a financial instrument that provides for the payment of amounts by
one party to another at specified intervals calculated by reference to
a specified index upon a notional principal amount in exchange for
specified consideration or a promise to pay similar amounts. Treas.
Reg. sec. 1.446-3(c)(1).
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In contrast, a substitute dividend payment made to the
transferor of stock in a securities lending transaction or a
sale-repurchase transaction is sourced in the same manner as
actual dividends paid on the transferred stock.\666\
Accordingly, because dividends paid with respect to the stock
of a U.S. company are generally U.S. source, if a foreign
person lends stock of a U.S. company to another person (or
sells the stock to the other person and later repurchases the
stock in a transaction treated as a loan for U.S. Federal
income tax purposes) and receives substitute dividend payments
from that other person, the substitute dividend payments are
U.S. source and are generally subject to U.S. withholding
tax.\667\ In 1997, the Treasury and IRS issued Notice 97-66 to
address concerns that the sourcing rule just described (and the
accompanying character rule) could cause the total U.S.
withholding tax imposed in a series of securities lending or
sale-repurchase transactions to be excessive.\668\ In that
Notice, the Treasury and IRS also stated that they intended to
propose new regulations to provide detailed guidance on how
substitute dividend payments made by one foreign person to
another foreign person were to be treated. To date, no
regulations have been proposed.\669\
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\666\ Treas. Reg. sec. 1.861-3(a)(6). This regulation defines a
substitute dividend payment as a payment, made to the transferor of a
security in a securities lending transaction or a sale-repurchase
transaction, of an amount equivalent to a dividend distribution which
the owner of the transferred security is entitled to receive during the
term of the transaction.
\667\ For purposes of the imposition of the 30-percent withholding
tax, substitute dividend payments (and substitute interest payments)
received by a foreign person under a securities lending or sale-
repurchase transaction have the same character as dividend (and
interest) income received in respect of the transferred security.
Treas. Reg. secs. 1.871-7(b)(2), 1.881-2(b)(2).
\668\ Notice 97-66, 1997-2 C.B. 328 (December 1, 1997).
\669\ There is evidence that some taxpayers have taken the position
that Notice 97-66 sanctions the elimination of withholding tax in
certain situations. See United States Senate, Permanent Subcommittee on
Investigations, Committee on Homeland Security and Governmental
Affairs, Dividend Tax Abuse: How Offshore Entities Dodge Taxes on U.S.
Stock Dividends, Staff Report, September 11, 2008, pp. 18-20, 22-23,
40, 47, 52. In the Obama administration's fiscal year 2010 budget, the
Treasury Department has announced that, to address the avoidance of
U.S. withholding tax through the use of securities lending
transactions, it plans to revoke Notice 97-66 and issue guidance that
eliminates the benefits of those transactions but minimizes over-
withholding. Department of the Treasury, General Explanations of the
Administration's Fiscal Year 2010 Revenue Proposals, May 2009, p. 37.
---------------------------------------------------------------------------
Explanation of Provision
The provision treats a dividend equivalent as a dividend
from U.S. sources for certain purposes, including the U.S.
withholding tax rules applicable to foreign persons.
A dividend equivalent is any substitute dividend made
pursuant to a securities lending or a sale-repurchase
transaction that (directly or indirectly) is contingent upon,
or determined by reference to, the payment of a dividend from
sources within the United States or any payment made under a
specified notional principal contract that directly or
indirectly is contingent upon, or determined by reference to,
the payment of a dividend from sources within the United
States. A dividend equivalent also includes any other payment
that the Secretary determines is substantially similar to a
payment described in the immediately preceding sentence. Under
this rule, for example, the Secretary may conclude that
payments under certain forward contracts or other financial
contracts that reference stock of U.S. corporations are
dividend equivalents.
A specified notional principal contract is any notional
principal contract that has any one of the following five
characteristics: (1) in connection with entering into the
contract, any long party to the contract transfers the
underlying security to any short party to the contract; (2) in
connection with the termination of the contract, any short
party to the contract transfers the underlying security to any
long party to the contract; (3) the underlying security is not
readily tradable on an established securities market; (4) in
connection with entering into the contract, any short party to
the contract posts the underlying security as collateral with
any long party to the contract; or (5) the Secretary identifies
the contract as a specified notional principal contract.\670\
For purposes of these characteristics, for any underlying
security of any notional principal contract (1) a long party is
any party to the contract that is entitled to receive any
payment under the contract that is contingent upon or
determined by reference to the payment of a U.S.-source
dividend on the underlying security, and (2) a short party is
any party to the contract that is not a long party in respect
of the underlying security. An underlying security in a
notional principal contract is the security with respect to
which the dividend equivalent is paid. For these purposes, any
index or fixed basket of securities is treated as a single
security. In applying this rule, it is intended that such a
security will be deemed to be regularly traded on an
established securities market if every component of such index
or fixed basket is a security that is readily tradable on an
established securities market.
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\670\ Any notional principal contract identified by the Secretary
as a specified notional principal contract will be subject to the
provision's general effective date described below.
---------------------------------------------------------------------------
For payments made more than two years after the provision's
date of enactment (March 18, 2010), a specified notional
principal contract also includes any notional principal
contract unless the Secretary determines that the contract is
of a type that does not have the potential for tax avoidance.
No inference is intended as to whether the definition of
specified notional principal contract, or any determination
under this provision that a transaction does not have the
potential for the avoidance of taxes on U.S.-source dividends
(or, in the case of a debt instrument, U.S.-source interest),
is relevant in determining whether an agency relationship
exists under general tax principles or whether a foreign party
to a contract should be treated as having beneficial tax
ownership of the stock giving rise to U.S.-source dividends.
The payments that are treated as U.S.-source dividends
under the provision are the gross amounts that are used in
computing any net amounts transferred to or from the taxpayer.
The example of a ``total return swap'' referencing stock of a
domestic corporation (an example of a notional principal
contract to which the provision generally applies), illustrates
the consequences of this rule. Under a typical total return
swap, a foreign investor enters into an agreement with a
counterparty under which amounts due to each party are based on
the returns generated by a notional investment in a specified
dollar amount of the stock underlying the swap. The investor
agrees for a specified period to pay to the counterparty (1) an
amount calculated by reference to a market interest rate (such
as the London Interbank Offered Rate (``LIBOR'')) on the
notional amount of the underlying stock and (2) any
depreciation in the value of the stock. In return, the
counterparty agrees for the specified period to pay the
investor (1) any dividends paid on the stock and (2) any
appreciation in the value of the stock. Amounts owed by each
party under this swap typically are netted so that only one
party makes an actual payment. The provision treats any
dividend-based amount under the swap as a payment even though
any actual payment under the swap is a net amount determined in
part by other amounts (for example, the interest amount and the
amount of any appreciation or depreciation in value of the
referenced stock). Accordingly, a counterparty to a total
return swap may be obligated to withhold and remit tax on the
gross amount of a dividend equivalent even though, as a result
of a netting of payments due under the swap, the counterparty
is not required to make an actual payment to the foreign
investor.
If there is a chain of dividend equivalents (under, for
example, transactions similar to those described in Notice 97-
66), and one or more of the dividend equivalents is subject to
tax under the provision or under section 881, the Secretary may
reduce that tax, but only to the extent that the taxpayer
either establishes that the tax has been paid on another
dividend equivalent in the chain, or that such tax is not
otherwise due, or as the Secretary determines is appropriate to
address the role of financial intermediaries in such chain. An
actual dividend is treated as a dividend equivalent for
purposes of this rule.
For purposes of chapter 3 (withholding of tax on
nonresident aliens and foreign corporations) and chapter 4
(taxes to enforce reporting on certain foreign accounts), each
person that is a party to a contract or other arrangement that
provides for the payment of a dividend equivalent is treated as
having control of the payment. Accordingly, Treasury may
provide guidance requiring either party to withhold tax on
dividend equivalents.
The rule treating dividend equivalents as U.S.-source
dividends is not intended to limit the authority of the
Secretary (1) to determine the appropriate source of income
from financial arrangements (including notional principal
contracts) under present law section 863 or 865 or (2) to
provide additional guidance addressing the source and
characterization of substitute payments made in securities
lending and similar transactions.
Effective Date
The provision applies to payments made on or after the date
that is 180 days after the date of enactment (March 18, 2010).
B. Delay in Application of Worldwide Allocation of Interest (sec. 551
of the Act and sec. 864 of the Code)
Present Law
In general
To compute the foreign tax credit limitation, a taxpayer
must determine the amount of its taxable income from foreign
sources. Thus, the taxpayer must allocate and apportion
deductions between items of U.S.-source gross income, on the
one hand, and items of foreign-source gross income, on the
other.
In the case of interest expense, the rules generally are
based on the approach that money is fungible and that interest
expense is properly attributable to all business activities and
property of a taxpayer, regardless of any specific purpose for
incurring an obligation on which interest is paid.\671\ For
interest allocation purposes, all members of an affiliated
group of corporations generally are treated as a single
corporation (the so-called ``one-taxpayer rule'') and
allocation must be made on the basis of assets rather than
gross income. The term ``affiliated group'' in this context
generally is defined by reference to the rules for determining
whether corporations are eligible to file consolidated returns.
---------------------------------------------------------------------------
\671\ However, exceptions to the fungibility principle are provided
in particular cases, some of which are described below.
---------------------------------------------------------------------------
For consolidation purposes, the term ``affiliated group''
means one or more chains of includible corporations connected
through stock ownership with a common parent corporation that
is an includible corporation, but only if: (1) the common
parent owns directly stock possessing at least 80 percent of
the total voting power and at least 80 percent of the total
value of at least one other includible corporation; and (2)
stock meeting the same voting power and value standards with
respect to each includible corporation (excluding the common
parent) is directly owned by one or more other includible
corporations.
Generally, the term ``includible corporation'' means any
domestic corporation except certain corporations exempt from
tax under section 501 (for example, corporations organized and
operated exclusively for charitable or educational purposes),
certain life insurance companies, corporations electing
application of the possession tax credit, regulated investment
companies, real estate investment trusts, and domestic
international sales corporations. A foreign corporation
generally is not an includible corporation.
Subject to exceptions, the consolidated return and interest
allocation definitions of affiliation generally are consistent
with each other.\672\ For example, both definitions generally
exclude all foreign corporations from the affiliated group.
Thus, while debt generally is considered fungible among the
assets of a group of domestic affiliated corporations, the same
rules do not apply as between the domestic and foreign members
of a group with the same degree of common control as the
domestic affiliated group.
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\672\ One such exception is that the affiliated group for interest
allocation purposes includes section 936 corporations (certain electing
domestic corporations that have income from the active conduct of a
trade or business in Puerto Rico or another U.S. possession) that are
excluded from the consolidated group.
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Banks, savings institutions, and other financial affiliates
The affiliated group for interest allocation purposes
generally excludes what are referred to in the Treasury
regulations as ``financial corporations.'' \673\ A financial
corporation includes any corporation, otherwise a member of the
affiliated group for consolidation purposes, that is a
financial institution (described in section 581 or section
591), the business of which is predominantly with persons other
than related persons or their customers, and which is required
by State or Federal law to be operated separately from any
other entity that is not a financial institution.\674\ The
category of financial corporations also includes, to the extent
provided in regulations, bank holding companies (including
financial holding companies), subsidiaries of banks and bank
holding companies (including financial holding companies), and
savings institutions predominantly engaged in the active
conduct of a banking, financing, or similar business.\675\
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\673\ Temp. Treas. Reg. sec. 1.861-11T(d)(4).
\674\ Sec. 864(e)(5)(C).
\675\ Sec. 864(e)(5)(D).
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A financial corporation is not treated as a member of the
regular affiliated group for purposes of applying the one-
taxpayer rule to other nonfinancial members of that group.
Instead, all such financial corporations that would be so
affiliated are treated as a separate single corporation for
interest allocation purposes.
Worldwide interest allocation
In general
The American Jobs Creation Act of 2004 (``AJCA'') \676\
modified the interest expense allocation rules described above
(which generally apply for purposes of computing the foreign
tax credit limitation) by providing a one-time election (the
``worldwide affiliated group election'') under which the
taxable income of the domestic members of an affiliated group
from sources outside the United States generally is determined
by allocating and apportioning interest expense of the domestic
members of a worldwide affiliated group on a worldwide-group
basis (i.e., as if all members of the worldwide group were a
single corporation). If a group makes this election, the
taxable income of the domestic members of a worldwide
affiliated group from sources outside the United States is
determined by allocating and apportioning the third-party
interest expense of those domestic members to foreign-source
income in an amount equal to the excess (if any) of (1) the
worldwide affiliated group's worldwide third-party interest
expense multiplied by the ratio that the foreign assets of the
worldwide affiliated group bears to the total assets of the
worldwide affiliated group,\677\ over (2) the third-party
interest expense incurred by foreign members of the group to
the extent such interest would be allocated to foreign sources
if the principles of worldwide interest allocation were applied
separately to the foreign members of the group.\678\
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\676\ Pub. L. No. 108-357, sec. 401.
\677\ For purposes of determining the assets of the worldwide
affiliated group, neither stock in corporations within the group nor
indebtedness (including receivables) between members of the group is
taken into account.
\678\ Although the interest expense of a foreign subsidiary is
taken into account for purposes of allocating the interest expense of
the domestic members of the electing worldwide affiliated group for
foreign tax credit limitation purposes, the interest expense incurred
by a foreign subsidiary is not deductible on a U.S. return.
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For purposes of the new elective rules based on worldwide
fungibility, the worldwide affiliated group means all
corporations in an affiliated group as well as all controlled
foreign corporations that, in the aggregate, either directly or
indirectly,\679\ would be members of such an affiliated group
if section 1504(b)(3) did not apply (i.e., in which at least 80
percent of the vote and value of the stock of such corporations
is owned by one or more other corporations included in the
affiliated group). Thus, if an affiliated group makes this
election, the taxable income from sources outside the United
States of domestic group members generally is determined by
allocating and apportioning interest expense of the domestic
members of the worldwide affiliated group as if all of the
interest expense and assets of 80-percent or greater owned
domestic corporations (i.e., corporations that are part of the
affiliated group, as modified to include insurance companies)
and certain controlled foreign corporations were attributable
to a single corporation.
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\679\ Indirect ownership is determined under the rules of section
958(a)(2) or through applying rules similar to those of section
958(a)(2) to stock owned directly or indirectly by domestic
partnerships, trusts, or estates.
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Financial institution group election
Taxpayers are allowed to apply the bank group rules to
exclude certain financial institutions from the affiliated
group for interest allocation purposes under the worldwide
fungibility approach. The rules also provide a one-time
``financial institution group'' election that expands the bank
group. At the election of the common parent of the pre-election
worldwide affiliated group, the interest expense allocation
rules are applied separately to a subgroup of the worldwide
affiliated group that consists of (1) all corporations that are
part of the bank group, and (2) all ``financial corporations.''
For this purpose, a corporation is a financial corporation if
at least 80 percent of its gross income is financial services
income (as described in section 904(d)(2)(C)(i) and the
regulations thereunder) that is derived from transactions with
unrelated persons.\680\ For these purposes, items of income or
gain from a transaction or series of transactions are
disregarded if a principal purpose for the transaction or
transactions is to qualify any corporation as a financial
corporation.
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\680\ See Treas. Reg. sec. 1.904-4(e)(2). a
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In addition, anti-abuse rules are provided under which
certain transfers from one member of a financial institution
group to a member of the worldwide affiliated group outside of
the financial institution group are treated as reducing the
amount of indebtedness of the separate financial institution
group. Regulatory authority is provided with respect to the
election to provide for the direct allocation of interest
expense in circumstances in which such allocation is
appropriate to carry out the purposes of these rules, to
prevent assets or interest expense from being taken into
account more than once, or to address changes in members of any
group (through acquisitions or otherwise) treated as affiliated
under these rules.
Effective date of worldwide interest allocation
The common parent of the domestic affiliated group must
make the worldwide affiliated group election. It must be made
for the first taxable year beginning after December 31, 2017,
in which a worldwide affiliated group exists that includes at
least one foreign corporation that meets the requirements for
inclusion in a worldwide affiliated group.\681\ The common
parent of the pre-election worldwide affiliated group must make
the election for the first taxable year beginning after
December 31, 2017, in which a worldwide affiliated group
includes a financial corporation. Once either election is made,
it applies to the common parent and all other members of the
worldwide affiliated group or to all members of the financial
institution group, as applicable, for the taxable year for
which the election is made and all subsequent taxable years,
unless revoked with the consent of the Secretary of the
Treasury.
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\681\ As originally enacted under AJCA, the worldwide interest
allocation rules were effective for taxable years beginning after
December 31, 2008. However, section 3093 of the Housing and Economic
Recovery Act of 2008, Pub. L. No. 110-289, delayed the implementation
of the worldwide interest allocation rules for two years, until taxable
years beginning after December 31, 2010. The implementation of the
worldwide interest allocation rules was further delayed by seven years,
until taxable years beginning after December 31, 2017, in section 15 of
the Worker, Homeownership, and Business Assistance Act of 2009, Pub. L.
No. 111-92.
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Explanation of Provision
The provision delays the effective date of the worldwide
interest allocation rules for three year, until taxable years
beginning after December 31, 2020. The required dates for
making the worldwide affiliated group election and the
financial institution group election are changed accordingly.
Effective Date
The provision is effective on the date of enactment (March
18, 2010).
C. Corporate Estimated Tax (sec. 561 of the Act and sec. 6655 of the
Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\682\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding tax year), payments due in July, August, or
September, 2014, are increased to 134.75 percent of the payment
otherwise due and the next required payment is reduced
accordingly.\683\
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\682\ Sec. 6655.
\683\ Act to extend the Generalized System of Preferences and the
Andean Trade Preference Act, and for other purposes, Pub. L. No. 111-
124, sec. 4; Worker, Homeownership, and Business Assistance Act of
2009, Pub. L. No. 111-92, sec. 18; Joint resolution approving the
renewal of import restrictions contained in the Burmese Freedom and
Democracy Act of 2003, and for other purposes, Pub. L. No. 111-42, sec.
202(b)(1).
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Explanation of Provision \684\
The provision increases the applicable percentage in 2014
by 23.00 percentage points, the applicable percentage in 2015
by 21.50 percentage points, and the applicable percentage in
2019 by 6.50 percentage points. For each of the periods
impacted, the next required payment is reduced accordingly.
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\684\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
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Effective Date
The provision is effective on the date of enactment (March
18, 2010).
PART EIGHT: HEALTH CARE PROVISIONS
PATIENT PROTECTION AND AFFORDABLE CARE ACT (PUBLIC LAW 111-148),\685\
HEALTH CARE AND EDUCATION RECONCILIATION ACT OF 2010 (PUBLIC LAW 111-
152),\686\ AN ACT TO CLARIFY THE HEALTH CARE PROVIDED BY THE SECRETARY
OF VETERANS AFFAIRS THAT CONSTITUTES MINIMUM ESSENTIAL COVERAGE (PUBLIC
LAW 111-173),\687\ AND MEDICARE AND MEDICAID EXTENDERS ACT OF 2010
(PUBLIC LAW 111-309) \688\
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\685\ H.R. 3590. The bill originated as the Service Members Home
Ownership Tax Act of 2009 and passed the House on the suspension
calendar on October 8, 2009. The House Ways and Means Committee
reported H.R. 3200 on October 14, 2009 (H.R. Rep. No. 111-299 (part
II)). The Senate Finance Committee reported S. 1796 on October 19, 2009
(S. Rep. No. 111-89). The House passed H.R. 3962 on November 7, 2009.
The Senate passed H.R. 3590 with an amendment substituting the text of
the Patient Protection and Affordable Care Act on December 24, 2009.
The House agreed to the Senate amendment on March 21, 2010. The
President signed the bill on March 23, 2010.
\686\ H.R. 4872. The bill passed the House on March 21, 2010. The
Senate passed the bill with amendments on March 25, 2010. The House
agreed to the Senate amendments on March 25, 2010. The President signed
the bill on March 30, 2010.
For a technical explanation of the bills prepared by the staff of
the Joint Committee on Taxation, see Technical Explanation of the
Revenue Provisions of the ``Reconciliation Act of 2010,'' as Amended,
in Combination with the ``Patient Protection and Affordable Care Act''
(JCX-18-10), March 21, 2010.
\687\ H.R. 5014. The bill passed the House on the suspension
calendar on May 12, 2010. The Senate passed the bill by unanimous
consent on May 18, 2010. The President signed the bill on May 27, 2010.
Pub. L. No. 111-173, which amends section 5000A(f)(1)(A) of the
Code, as added by section 1501(b) of the Patient Protection and
Affordable Care Act, is described infra in a footnote in section H of
title I of the Patient Protection and Affordable Care Act of Part
Eight.
\688\ H.R. 4994. The bill passed the House on the suspension
calendar on April 14, 2010. The Senate passed the bill with amendments
by unanimous consent on December 8, 2010. The House agreed to the
Senate amendments on the suspension calendar on December 9, 2010. The
President signed the bill on December 15, 2010.
Pub. L. No. 111-309, which amends section 36B(f)(2)(B) of the Code,
is described infra in section C of title I of the Patient Protection
and Affordable Care Act of Part Eight.
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PATIENT PROTECTION AND AFFORDABLE CARE ACT
TITLE I--QUALITY, AFFORDABLE HEALTH CARE FOR ALL AMERICANS
A. Tax Exemption for Certain Member-Run Health Insurance Issuers (sec.
1322 \689\ of the Act and new sec. 501(c)(29) and sec. 6033 of the
Code)
---------------------------------------------------------------------------
\689\ Section 1322 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10104.
---------------------------------------------------------------------------
Present Law
In general
Although present law provides that certain limited
categories of organizations that offer insurance may qualify
for exemption from Federal income tax, present law generally
does not provide tax-exempt status for newly established,
member-run nonprofit health insurers that are established and
funded pursuant to the Consumer Oriented, Not-for-Profit Health
Plan program created under the Act and described below.
Taxation of insurance companies
Taxation of stock and mutual companies providing health
insurance
Present law provides special rules for determining the
taxable income of insurance companies (subchapter L of the
Code). Both mutual insurance companies and stock insurance
companies are subject to Federal income tax under these rules.
Separate sets of rules apply to life insurance companies and to
property and casualty insurance companies. Insurance companies
are subject to Federal income tax at regular corporate income
tax rates.
An insurance company that provides health insurance is
subject to Federal income tax as either a life insurance
company or as a property and casualty insurance company,
depending on its mix of lines of business and on the resulting
portion of its reserves that are treated as life insurance
reserves. For Federal income tax purposes, an insurance company
is treated as a life insurance company if the sum of its (1)
life insurance reserves and (2) unearned premiums and unpaid
losses on noncancellable life, accident or health contracts not
included in life insurance reserves, comprise more than 50
percent of its total reserves.\690\
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\690\ Sec. 816(a).
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Life insurance companies
A life insurance company, whether stock or mutual, is taxed
at regular corporate rates on its life insurance company
taxable income (LICTI). LICTI is life insurance gross income
reduced by life insurance deductions.\691\ An alternative tax
applies if a company has a net capital gain for the taxable
year, if such tax is less than the tax that would otherwise
apply. Life insurance gross income is the sum of (1) premiums,
(2) decreases in reserves, and (3) other amounts generally
includible by a taxpayer in gross income. Methods for
determining reserves for Federal income tax purposes generally
are based on reserves prescribed by the National Association of
Insurance Commissioners for purposes of financial reporting
under State regulatory rules.
---------------------------------------------------------------------------
\691\ Sec. 801.
---------------------------------------------------------------------------
Because deductible reserves might be viewed as being funded
proportionately out of taxable and tax-exempt income, the net
increase and net decrease in reserves are computed by reducing
the ending balance of the reserve items by a portion of tax-
exempt interest (known as a proration rule).\692\ Similarly, a
life insurance company is allowed a dividends-received
deduction for intercorporate dividends from nonaffiliates only
in proportion to the company's share of such dividends.\693\
---------------------------------------------------------------------------
\692\ Secs. 807(b)(2)(B) and (b)(1)(B).
\693\ Secs. 805(a)(4), 812. Fully deductible dividends from
affiliates are excluded from the application of this proration formula
(so long as such dividends are not themselves distributions from tax-
exempt interest or from dividend income that would not be fully
deductible if received directly by the taxpayer). In addition, the
proration rule includes in prorated amounts the increase for the
taxable year in policy cash values of life insurance policies and
annuity and endowment contracts owned by the company (the inside
buildup on which is not taxed).
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Property and casualty insurance companies
The taxable income of a property and casualty insurance
company is determined as the sum of the amount earned from
underwriting income and from investment income (as well as
gains and other income items), reduced by allowable
deductions.\694\ For this purpose, underwriting income and
investment income are computed on the basis of the underwriting
and investment exhibit of the annual statement approved by the
National Association of Insurance Commissioners.\695\
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\694\ Sec. 832.
\695\ Sec. 832(b)(1)(A).
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Underwriting income means premiums earned during the
taxable year less losses incurred and expenses incurred.\696\
Losses incurred include certain unpaid losses (reported losses
that have not been paid, estimates of losses incurred but not
reported, resisted claims, and unpaid loss adjustment
expenses). Present law limits the deduction for unpaid losses
to the amount of discounted unpaid losses, which are discounted
using prescribed discount periods and a prescribed interest
rate, to take account partially of the time value of
money.\697\ Any net decrease in the amount of unpaid losses
results in income inclusion, and the amount included is
computed on a discounted basis.
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\696\ Sec. 832(b)(3). In determining premiums earned, the company
deducts from gross premiums the increase in unearned premiums for the
year (sec. 832(b)(4)(B)). The company is required to reduce the
deduction for increases in unearned premiums by 20 percent, reflecting
the matching of deferred expenses to deferred income.
\697\ Sec. 846.
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In calculating its reserve for losses incurred, a proration
rule requires that a property and casualty insurance company
must reduce the amount of losses incurred by 15 percent of (1)
the insurer's tax-exempt interest, (2) the deductible portion
of dividends received (with special rules for dividends from
affiliates), and (3) the increase for the taxable year in the
cash value of life insurance, endowment, or annuity contracts
the company owns (sec. 832(b)(5)). This rule reflects the fact
that reserves are generally funded in part from tax-exempt
interest, from wholly or partially deductible dividends, or
from other untaxed amounts.
Tax exemption for certain organizations
In general
Section 501(a) generally provides for exemption from
Federal income tax for certain organizations. These
organizations include: (1) qualified pension, profit sharing,
and stock bonus plans described in section 401(a); (2)
religious and apostolic organizations described in section
501(d); and (3) organizations described in section 501(c).
Sections 501(c) describes 28 different categories of exempt
organizations, including: charitable organizations (section
501(c)(3)); social welfare organizations (section 501(c)(4));
labor, agricultural, and horticultural organizations (section
501(c)(5)); professional associations (section 501(c)(6)); and
social clubs (section 501(c)(7)).\698\
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\698\ Certain organizations that operate on a cooperative basis are
taxed under special rules set forth in Subchapter T of the Code. The
two principal criteria for determining whether an entity is operating
on a cooperative basis are: (1) ownership of the cooperative by persons
who patronize the cooperative (e.g., the farmer members of a
cooperative formed to market the farmers' produce); and (2) return of
earnings to patrons in proportion to their patronage. In general,
cooperative members are those who participate in the management of the
cooperative and who share in patronage capital. For Federal income tax
purposes, a cooperative that is taxed under the Subchapter T rules
generally computes its income as if it were a taxable corporation, with
one exception--the cooperative may deduct from its taxable income
distributions of patronage dividends. In general, patronage dividends
are the profits of the cooperative that are rebated to its patrons
pursuant to a preexisting obligation of the cooperative to do so.
Certain farmers' cooperatives described in section 521 are authorized
to deduct not only patronage dividends from patronage sources, but also
dividends on capital stock and certain distributions to patrons from
nonpatronage sources.
Separate from the Subchapter T rules, the Code provides tax
exemption for certain cooperatives. Section 501(c)(12), for example,
provides that certain rural electric and telephone cooperative are
exempt from tax under section 501(a), provided that 85 percent or more
of the cooperative's income consists of amounts collected from members
for the sole purpose of meeting losses or expenses, and certain other
requirements are met.
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Insurance organizations described in section 501(c)
Although most organizations that engage principally in
insurance activities are not exempt from Federal income tax,
certain organizations that engage in insurance activities are
described in section 501(c) and exempt from tax under section
501(a). Section 501(c)(8), for example, describes certain
fraternal beneficiary societies, orders, or associations
operating under the lodge system or for the exclusive benefit
of their members that provide for the payment of life, sick,
accident, or other benefits to the members or their dependents.
Section 501(c)(9) describes certain voluntary employees'
beneficiary associations that provide for the payment of life,
sick, accident, or other benefits to the members of the
association or their dependents or designated beneficiaries.
Section 501(c)(12)(A) describes certain benevolent life
insurance associations of a purely local character. Section
501(c)(15) describes certain small non-life insurance companies
with annual gross receipts of no more than $600,000 ($150,000
in the case of a mutual insurance company). Section 501(c)(26)
describes certain membership organizations established to
provide health insurance to certain high-risk individuals.\699\
Section 501(c)(27) describes certain organizations established
to provide workmen's compensation insurance.
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\699\ When section 501(c)(26) was enacted in 1996, the House Ways
and Means Committee, in reporting out the bill, stated as its reasons
for change: ``The Committee believes that eliminating the uncertainty
concerning the eligibility of certain State health insurance risk pools
for tax-exempt status will assist States in providing medical care
coverage for their uninsured high-risk residents.'' H.R. Rep. No. 104-
496, Part I, ``Health Coverage Availability and Affordability Act of
1996,'' 104th Cong., 2d Sess., March 25, 1996, 124. See also Joint
Committee on Taxation, General Explanation of Tax Legislation Enacted
in the 104th Congress (JCS-12-96), December 18, 1996, p. 351.
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Certain section 501(c)(3) organizations
Certain health maintenance organizations (HMOs) have been
held to qualify for tax exemption as charitable organizations
described in section 501(c)(3). In Sound Health Association v.
Commissioner,\700\ the Tax Court held that a staff model HMO
qualified as a charitable organization. A staff model HMO
generally employs its own physicians and staff and serves its
subscribers at its own facilities. The court concluded that the
HMO satisfied the section 501(c)(3) community benefit standard,
as its membership was open to almost all members of the
community. Although membership was limited to persons who had
the money to pay the fixed premiums, the court held that this
was not disqualifying, because the HMO had a subsidized premium
program for persons of lesser means to be funded through
donations and Medicare and Medicaid payments. The HMO also
operated an emergency room open to all persons regardless of
income. The court rejected the government's contention that the
HMO conferred primarily a private benefit to its subscribers,
stating that when the potential membership is such a broad
segment of the community, benefit to the membership is benefit
to the community.
---------------------------------------------------------------------------
\700\ 71 T.C. 158 (1978), acq. 1981-2 C.B. 2.
---------------------------------------------------------------------------
In Geisinger Health Plan v. Commissioner,\701\ the court
applied the section 501(c)(3) community benefit standard to an
individual practice association (IPA) model HMO. In the IPA
model, health care generally is provided by physicians
practicing independently in their own offices, with the IPA
usually contracting on behalf of the physicians with the HMO.
Reversing a Tax Court decision, the court held that the HMO did
not qualify as charitable, because the community benefit
standard requires that an HMO be an actual provider of health
care rather than merely an arranger or deliverer of health
care, which is how the court viewed the IPA model in that case.
---------------------------------------------------------------------------
\701\ 985 F.2d 1210 (3rd Cir. 1993), rev'g T.C. Memo. 1991-649.
---------------------------------------------------------------------------
More recently, in IHC Health Plans, Inc. v.
Commissioner,\702\ the court ruled that three affiliated HMOs
did not operate primarily for the benefit of the community they
served. The organizations in the case did not provide health
care directly, but provided group insurance that could be used
at both affiliated and non-affiliated providers. The court
found that the organizations primarily performed a risk-bearing
function and provided virtually no free or below-cost health
care services. In denying charitable status, the court held
that a health-care provider must make its services available to
all in the community plus provide additional community or
public benefits.\703\ The benefit must either further the
function of government-funded institutions or provide a service
that would not likely be provided within the community but for
the subsidy. Further, the additional public benefit conferred
must be sufficient to give rise to a strong inference that the
public benefit is the primary purpose for which the
organization operates.\704\
---------------------------------------------------------------------------
\702\ 325 F.3d 1188 (10th Cir. 2003).
\703\ Ibid. at 1198.
\704\ Ibid.
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Certain organizations providing commercial-type insurance
Section 501(m) provides that an organization may not be
exempt from tax under section 501(c)(3) (generally, charitable
organizations) or section 501(c)(4) (social welfare
organizations) unless no substantial part of its activities
consists of providing commercial-type insurance. For this
purpose, commercial-type insurance excludes, among other
things: (1) insurance provided at substantially below cost to a
class of charitable recipients; and (2) incidental health
insurance provided by an HMO of a kind customarily provided by
such organizations.
When section 501(m) was enacted in 1986, the following
reasons for the provision were stated: ``The committee is
concerned that exempt charitable and social welfare
organizations that engaged in insurance activities are engaged
in an activity whose nature and scope is so inherently
commercial that tax exempt status is inappropriate. The
committee believes that the tax-exempt status of organizations
engaged in insurance activities provides an unfair competitive
advantage to these organizations. The committee further
believes that the provision of insurance to the general public
at a price sufficient to cover the costs of insurance generally
constitutes an activity that is commercial. In addition, the
availability of tax-exempt status . . . has allowed some large
insurance entities to compete directly with commercial
insurance companies. For example, the Blue Cross/Blue Shield
organizations historically have been treated as tax-exempt
organizations described in sections 501(c)(3) or (4). This
group of organizations is now among the largest health care
insurers in the United States. Other tax-exempt charitable and
social welfare organizations engaged in insurance activities
also have a competitive advantage over commercial insurers who
do not have tax-exempt status. . . .'' \705\
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\705\ H.R. Rep. No. 99-426, ``Tax Reform Act of 1985,'' Report of
the Committee on Ways and Means, 99th Cong., 1st Sess., December 7,
1985, 664. See also Joint Committee on Taxation, General Explanation of
the Tax Reform Act of 1986 (JCS-10-87), May 4, 1987, p. 584.
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Unrelated business income tax
Most organizations that are exempt from tax under section
501(a) are subject to the unrelated business income tax rules
of sections 511 through 515. The unrelated business income tax
generally applies to income derived from a trade or business
regularly carried on by the organization that is not
substantially related to the performance of the organization's
tax-exempt functions. Certain types of income are specifically
exempt from the unrelated business income tax, such as
dividends, interest, royalties, and certain rents, unless
derived from debt-financed property or from certain 50-percent
controlled subsidiaries.
Explanation of Provision
In general
The provision authorizes $6 billion in funding for, and
instructs the Secretary of Health and Human Services (``HHS'')
to establish, the Consumer Operated and Oriented Plan (the
``program'') to foster the creation of qualified nonprofit
health insurance issuers to offer qualified health plans in the
individual and small group markets in the States in which the
issuers are licensed to offer such plans. Federal funds are to
be distributed as loans to assist with start-up costs and
grants to assist in meeting State solvency requirements.
Under the provision, the Secretary of HHS must require any
person receiving a loan or grant under the program to enter
into an agreement with the Secretary of HHS requiring the
recipient of funds to meet and continue to meet any requirement
under the provision for being treated as a qualified nonprofit
health insurance issuer, and any requirements to receive the
loan or grant. The provision also requires that the agreement
prohibit the use of loan or grant funds for carrying on
propaganda or otherwise attempting to influence legislation or
for marketing.
If the Secretary of HHS determines that a grant or loan
recipient failed to meet the requirements described in the
preceding paragraph, and failed to correct such failure within
a reasonable period from when the person first knew (or
reasonably should have known) of such failure, then such person
must repay the Secretary of HHS an amount equal to 110 percent
of the aggregate amount of the loans and grants received under
the program, plus interest on such amount for the period during
which the loans or grants were outstanding. The Secretary of
HHS must notify the Secretary of the Treasury of any
determination of a failure that results in the termination of
the grantee's Federal tax-exempt status.
Qualified nonprofit health insurance issuers
The provision defines a qualified nonprofit health
insurance issuer as an organization that meets the following
requirements:
1. The organization is organized as a nonprofit,
member corporation under State law;
2. Substantially all of its activities consist of the
issuance of qualified health plans in the individual
and small group markets in each State in which it is
licensed to issue such plans;
3. None of the organization, a related entity, or a
predecessor of either was a health insurance issuer as
of July 16, 2009;
4. The organization is not sponsored by a State or
local government, any political subdivision thereof, or
any instrumentality of such government or political
subdivision;
5. Governance of the organization is subject to a
majority vote of its members;
6. The organization's governing documents incorporate
ethics and conflict of interest standards protecting
against insurance industry involvement and
interference;
7. The organization must operate with a strong
consumer focus, including timeliness, responsiveness,
and accountability to its members, in accordance with
regulations to be promulgated by the Secretary of HHS;
8. Any profits made must be used to lower premiums,
improve benefits, or for other programs intended to
improve the quality of health care delivered to its
members;
9. The organization meets all other requirements that
other issuers of qualified health plans are required to
meet in any State in which it offers a qualified health
plan, including solvency and licensure requirements,
rules on payments to providers, rules on network
adequacy, rate and form filing rules, and any
applicable State premium assessments. Additionally, the
organization must coordinate with certain other State
insurance reforms under the Act; and
10. The organization does not offer a health plan in
a State until that State has in effect (or the
Secretary of HHS has implemented for the State), the
market reforms required by part A of title XXVII of the
Public Health Service Act (``PHSA''), as amended by the
Act.
Tax exemption for qualified nonprofit health insurance issuers
An organization receiving a grant or loan under the program
qualifies for exemption from Federal income tax under section
501(a) of the Code with respect to periods during which the
organization is in compliance with the above-described
requirements of the program and with the terms of any program
grant or loan agreement to which such organization is a party.
Such organizations also are subject to organizational and
operational requirements applicable to certain section 501(c)
organizations, including the prohibitions on private inurement
and political activities, the limitation on lobbying
activities, taxation of excess benefit transactions (section
4958), and taxation of unrelated business taxable income under
section 511.
Program participants are required to file an application
for exempt status with the IRS in such manner as the Secretary
of the Treasury may require, and are subject to annual
information reporting requirements. In addition, such an
organization is required to disclose on its annual information
return the amount of reserves required by each State in which
it operates and the amount of reserves on hand.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
B. Tax Exemption for Entities Established Pursuant to Transitional
Reinsurance Program for Individual Market in Each State (sec. 1341
\706\ of the Act)
Present Law
Although present law provides that certain limited
categories of organizations that offer insurance may qualify
for exemption from Federal income tax, present law does not
provide tax-exempt status for transitional nonprofit
reinsurance entities created under the Senate bill and
described below.
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\706\ Section 1341 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10104.
---------------------------------------------------------------------------
Explanation of Provision
In general, issuers of health benefit plans that are
offered in the individual market would be required to
contribute to a temporary reinsurance program for individual
policies that is administered by a nonprofit reinsurance
entity. Such contributions would begin January 1, 2014, and
continue for a 36-month period. The provision requires each
State, no later than January 1, 2014, to adopt a reinsurance
program based on a model regulation and to establish (or enter
into a contract with) one or more applicable reinsurance
entities to carry out the reinsurance program under the
provision. For purposes of the provision, an applicable
reinsurance entity is a not-for-profit organization (1) the
purpose of which is to help stabilize premiums for coverage in
the individual market in a State during the first three years
of operation of an exchange for such markets within the State,
and (2) the duties of which are to carry out the reinsurance
program under the provision by coordinating the funding and
operation of the risk-spreading mechanisms designed to
implement the reinsurance program. A State may have more than
one applicable reinsurance entity to carry out the reinsurance
program in the State, and two or more States may enter into
agreements to allow a reinsurer to operate the reinsurance
program in those States.
An applicable reinsurance entity established under the
provision is exempt from Federal income tax. Notwithstanding an
applicable reinsurance entity's tax-exempt status, it is
subject to tax on unrelated business taxable income under
section 511 as if such entity were described in section
511(a)(2).
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
C. Refundable Tax Credit Providing Premium Assistance for Coverage
Under a Qualified Health Plan (secs. 1401, 1411, and 1412 \707\ of the
Act and sec. 208 of Pub. L. No. 111-309 and new sec. 36B of the Code)
Present Law
Currently there is no tax credit that is generally
available to low or middle income individuals or families for
the purchase of health insurance. Some individuals may be
eligible for health coverage through State Medicaid programs
which consider income, assets, and family circumstances.
However, these Medicaid programs are not in the Code.
---------------------------------------------------------------------------
\707\ Sections 1401, 1411, and 1412 of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148, as amended by sections 10104,
10105, and 10107, are further amended by section 1001 of the Health
Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Health coverage tax credit
Certain individuals are eligible for the health coverage
tax credit (``HCTC''). The HCTC is a refundable tax credit
equal to 80 percent of the cost of qualified health coverage
paid by an eligible individual. In general, eligible
individuals are individuals who receive a trade adjustment
allowance (and individuals who would be eligible to receive
such an allowance but for the fact that they have not exhausted
their regular unemployment benefits), individuals eligible for
the alternative trade adjustment assistance program, and
individuals over age 55 who receive pension benefits from the
Pension Benefit Guaranty Corporation. The HCTC is available for
``qualified health insurance,'' which includes certain
employer-based insurance, certain State-based insurance, and in
some cases, insurance purchased in the individual market.
The credit is available on an advance basis through a
program established and administered by the Treasury
Department. The credit generally is delivered as follows: the
eligible individual sends his or her portion of the premium to
the Treasury, and the Treasury then pays the full premium (the
individual's portion and the amount of the refundable tax
credit) to the insurer. Alternatively, an eligible individual
is also permitted to pay the entire premium during the year and
claim the credit on his or her income tax return.
Individuals entitled to Medicare and certain other
governmental health programs, covered under certain employer-
subsidized health plans, or with certain other specified health
coverage are not eligible for the credit.
COBRA continuation coverage premium reduction
The Consolidated Omnibus Reconciliation Act of 1985
(``COBRA'') \708\ requires that a group health plan must offer
continuation coverage to qualified beneficiaries in the case of
a qualifying event (such as a loss of employment). A plan may
require payment of a premium for any period of continuation
coverage. The amount of such premium generally may not exceed
102 percent of the ``applicable premium'' for such period and
the premium must be payable, at the election of the payor, in
monthly installments.
---------------------------------------------------------------------------
\708\ Pub. L. No. 99-272.
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Section 3001 of the American Recovery and Reinvestment Act
of 2009,\709\ as amended by the Department of Defense
Appropriations Act, 2010,\710\ and the Temporary Extension Act
of 2010 \711\ provides that, for a period not exceeding 15
months, an assistance eligible individual is treated as having
paid any premium required for COBRA continuation coverage under
a group health plan if the individual pays 35 percent of the
premium. Thus, if the assistance eligible individual pays 35
percent of the premium, the group health plan must treat the
individual as having paid the full premium required for COBRA
continuation coverage, and the individual is entitled to a
subsidy for 65 percent of the premium. An assistance eligible
individual generally is any qualified beneficiary who elects
COBRA continuation coverage and the qualifying event with
respect to the covered employee for that qualified beneficiary
is a loss of group health plan coverage on account of an
involuntary termination of the covered employee's employment
(for other than gross misconduct).\712\ In addition, the
qualifying event must occur during the period beginning
September 1, 2008, and ending March 31, 2010.
---------------------------------------------------------------------------
\709\ Pub. L. No. 111-5.
\710\ Pub. L. No. 111-118.
\711\ Pub. L. No. 111-144.
\712\ TEA expanded eligibility for the COBRA subsidy to include
individuals who experience a loss of coverage on account of a reduction
in hours of employment followed by the involuntary termination of
employment of the covered employee. For an individual entitled to COBRA
because of a reduction in hours and who is then subsequently
involuntarily terminated from employment, the termination is considered
a qualifying event for purposes of the COBRA subsidy, as long as the
termination occurs during the period beginning on the date following
TEA's date of enactment and ending on date of enactment (March 31,
2010).
---------------------------------------------------------------------------
The COBRA continuation coverage subsidy also applies to
temporary continuation coverage elected under the Federal
Employees Health Benefits Program and to continuation health
coverage under State programs that provide coverage comparable
to continuation coverage. The subsidy is generally delivered by
requiring employers to pay the subsidized portion of the
premium for assistance eligible individuals. The employer then
treats the payment of the subsidized portion as a payment of
employment taxes and offsets its employment tax liability by
the amount of the subsidy. To the extent that the aggregate
amount of the subsidy for all assistance eligible individuals
for which the employer is entitled to a credit for a quarter
exceeds the employer's employment tax liability for the
quarter, the employer can request a tax refund or can claim the
credit against future employment tax liability.
There is an income limit on the entitlement to the COBRA
continuation coverage subsidy. Taxpayers with modified adjusted
gross income exceeding $145,000 (or $290,000 for joint filers),
must repay any subsidy received by them, their spouse, or their
dependant, during the taxable year. For taxpayers with modified
adjusted gross incomes between $125,000 and $145,000 (or
$250,000 and $290,000 for joint filers), the amount of the
subsidy that must be repaid is reduced proportionately. The
subsidy is also conditioned on the individual not being
eligible for certain other health coverage. To the extent that
an eligible individual receives a subsidy during a taxable year
to which the individual was not entitled due to income or being
eligible for other health coverage, the subsidy overpayment is
repaid on the individual's income tax return as additional tax.
However, in contrast to the HCTC, the subsidy for COBRA
continuation coverage may only be claimed through the employer
and cannot be claimed at the end of the year on an individual
tax return.
Explanation of Provision
Premium assistance credit
The provision creates a refundable tax credit (the
``premium assistance credit'') for eligible individuals and
families who purchase health insurance through an
exchange.\713\ The premium assistance credit, which is
refundable and payable in advance directly to the insurer,
subsidizes the purchase of certain health insurance plans
through an exchange.
---------------------------------------------------------------------------
\713\ Individuals enrolled in multi-state plans, pursuant to
section 1334 of the Patient Protection and Affordable Care Act, Pub. L.
No. 111-148, are also eligible for the credit.
---------------------------------------------------------------------------
Under the provision, to receive advance payment of the
premium assistance credit, an eligible individual enrolls in a
plan offered through an exchange and reports his or her income
to the exchange. Based on the information provided to the
exchange, the individual receives a premium assistance credit
based on income and the Treasury pays the premium assistance
credit amount directly to the insurance plan in which the
individual is enrolled. The individual then pays to the plan in
which he or she is enrolled the dollar difference between the
premium tax credit amount and the total premium charged for the
plan.\714\ Individuals who fail to pay all or part of the
remaining premium amount are given a mandatory three-month
grace period prior to an involuntary termination of their
participation in the plan. Initial eligibility for the premium
assistance credit is based on the individual's income for the
tax year ending two years prior to the enrollment period.
Individuals (or couples) who experience a change in marital
status or other household circumstance, experience a decrease
in income of more than 20 percent, or receive unemployment
insurance, may update eligibility information or request a
redetermination of their tax credit eligibility.
---------------------------------------------------------------------------
\714\ Although the credit is generally payable in advance directly
to the insurer, individuals may choose to purchase health insurance
out-of-pocket and claim the credit at the end of the taxable year. The
amount of the reduction in premium is required to be included with each
bill sent to the individual.
---------------------------------------------------------------------------
The premium assistance credit is generally available for
individuals (single or joint filers) with household incomes
between 100 and 400 percent of the Federal poverty level
(``FPL'') for the family size involved.\715\ Individuals who
are not eligible for certain other health insurance, including
certain health insurance through an employer or a spouse's
employer, may not be eligible for the credit. Household income
is defined as the sum of: (1) the taxpayer's modified adjusted
gross income, plus (2) the aggregate modified adjusted gross
incomes of all other individuals taken into account in
determining that taxpayer's family size (but only if such
individuals are required to file a tax return for the taxable
year). Modified adjusted gross income is defined as adjusted
gross income increased by: (1) the amount (if any) normally
excluded by section 911 (the exclusion from gross income for
citizens or residents living abroad), plus (2) any tax-exempt
interest received or accrued during the tax year. To be
eligible for the premium assistance credit, taxpayers who are
married (within the meaning of section 7703) must file a joint
return. Individuals who are listed as dependents on a return
are ineligible for the premium assistance credit.
---------------------------------------------------------------------------
\715\ Individuals who are lawfully present in the United States but
are not eligible for Medicaid because of their immigration status are
treated as having a household income equal to 100 percent of FPL (and
thus eligible for the premium assistance credit) as long as their
household income does not actually exceed 100 percent of FPL.
---------------------------------------------------------------------------
As described in Table 1 below, premium assistance credits
are available on a sliding scale basis for individuals and
families with household incomes between 100 and 400 percent of
FPL to help offset the cost of private health insurance
premiums. The premium assistance credit amount is determined
based on the percentage of income the cost of premiums
represents, rising from two percent of income for those at 100
percent of FPL for the family size involved to 9.5 percent of
income for those at 400 percent of FPL for the family size
involved. Beginning in 2014, the percentages of income are
indexed to the excess of premium growth over income growth for
the preceding calendar year. Beginning in 2018, if the
aggregate amount of premium assistance credits and cost-sharing
reductions \716\ exceeds 0.504 percent of the gross domestic
product for that year, the percentage of income is also
adjusted to reflect the excess (if any) of premium growth over
the rate of growth in the consumer price index for the
preceding calendar year. For purposes of calculating family
size, individuals who are in the country illegally are not
included.
---------------------------------------------------------------------------
\716\ As described in section 1402 of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148.
---------------------------------------------------------------------------
Premium assistance credits, or any amounts that are
attributable to them, cannot be used to pay for abortions for
which federal funding is prohibited. Premium assistance credits
are not available for months in which an individual has a free
choice voucher (as defined in section 10108 of the Act).
The low income premium credit phase-out
The premium assistance credit increases, on a sliding scale
in a linear manner, as shown in the table below.
------------------------------------------------------------------------
Initial Final
Household Income (expressed as a percent of Premium Premium
poverty line) (percentage) (percentage)
------------------------------------------------------------------------
100% through 133%........................... 2.0 2.0
133% through 150%........................... 3.0 4.0
150% through 200%........................... 4.0 6.3
200% through 250%........................... 6.3 8.05
250% through 300%........................... 8.05 9.5
300% through 400%........................... 9.5 9.5
------------------------------------------------------------------------
The premium assistance credit amount is tied to the cost of
the second lowest-cost silver plan (adjusted for age) which:
(1) is in the rating area where the individual resides, (2) is
offered through an exchange in the area in which the individual
resides, and (3) provides self-only coverage in the case of an
individual who purchases self-only coverage, or family coverage
in the case of any other individual. If the plan in which the
individual enrolls offers benefits in addition to essential
health benefits,\717\ even if the State in which the individual
resides requires such additional benefits, the portion of the
premium that is allocable to those additional benefits is
disregarded in determining the premium assistance credit
amount.\718\ Premium assistance credits may be used for any
plan purchased through an exchange, including bronze, silver,
gold and platinum level plans and, for those eligible,\719\
catastrophic plans.
---------------------------------------------------------------------------
\717\ As defined in section 1302(b) of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148.
\718\ A similar rule applies to additional benefits that are
offered in multi-State plans, under section 1334 of the Patient
Protection and Affordable Care Act, Pub. L. No. 111-148.
\719\ Those eligible to purchase catastrophic plans either must
have not reached the age of 30 before the beginning of the plan year,
or have certification of an affordability or hardship exemption from
the individual responsibility payment, as described in new sections
5000A(e)(1) and 5000A(e)(5), respectively.
---------------------------------------------------------------------------
Minimum essential coverage and employer offer of health insurance
coverage
Generally, if an employee is offered minimum essential
coverage \720\ in the group market, including employer-provided
health insurance coverage, the individual is ineligible for the
premium tax credit for health insurance purchased through a
State exchange.
---------------------------------------------------------------------------
\720\ As defined in section 5000A(f) of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148.
---------------------------------------------------------------------------
If an employee is offered unaffordable coverage by his or
her employer or the plan's share of the total allowed cost of
benefits is less than 60 percent of such costs, the employee
can be eligible for the premium tax credit, but only if the
employee declines to enroll in the coverage and satisfies the
conditions for receiving a tax credit through an exchange.
Unaffordable is defined as coverage with a premium required to
be paid by the employee that is more than 9.5 percent of the
employee's household income, based on the self-only
coverage.\721\ The percentage of income that is considered
unaffordable is indexed in the same manner as the percentage of
income is indexed for purposes of determining eligibility for
the credit (as discussed above). The Secretary of the Treasury
is informed of the name and employer identification number of
every employer that has one or more employees receiving a
premium tax credit.
---------------------------------------------------------------------------
\721\ The 9.5 percent amount is indexed for calendar years
beginning after 2014.
---------------------------------------------------------------------------
No later than five years after the date of the enactment of
the provision the Comptroller General must conduct a study of
whether the percentage of household income used for purposes of
determining whether coverage is affordable is the appropriate
level, and whether such level can be lowered without
significantly increasing the costs to the Federal Government
and reducing employer-provided health coverage. The Secretary
reports the results of such study to the appropriate committees
of Congress, including any recommendations for legislative
changes.
Procedures for determining eligibility
In order to receive an advance payment of the premium
assistance credit, exchange participants must provide to the
exchange certain information from their tax return from two
years prior during the open enrollment period for coverage
during the next calendar year. For example, if an individual
applies for a premium assistance credit for 2014, the
individual must provide a tax return from 2012 during the 2103
open enrollment period. The Internal Revenue Service (``IRS'')
is authorized to disclose to HHS limited tax return information
to verify a taxpayer's income based on the most recent return
information available to establish eligibility for advance
payment of the premium tax credit. Existing privacy and
safeguard requirements apply. Individuals who do not qualify
for advance payment of the premium tax credit on the basis of
their prior year income may apply for the premium tax credit
based on specified changes in circumstances. For individuals
and families who did not file a tax return in the prior tax
year, the Secretary of HHS will establish alternative income
documentation that may be provided to determine income
eligibility for advance payment of the premium tax credit.
The Secretary of HHS must establish a program for
determining whether or not individuals are eligible to: (1)
enroll in an exchange-offered health plan; (2) receive advance
payment of a premium assistance credit; and (3) establish that
their coverage under an employer-sponsored plan is
unaffordable. The program must provide for the following: (1)
the details of an individual's application process; (2) the
details of how public entities are to make determinations of
individuals' eligibility; (3) procedures for deeming
individuals to be eligible; and, (4) procedures for allowing
individuals with limited English proficiency to have proper
access to exchanges.
In applying for enrollment in an exchange-offered health
plan, an individual applicant is required to provide
individually identifiable information, including name, address,
date of birth, and citizenship or immigration status. In the
case of an individual applying to receive advance payment of a
premium assistance credit, the individual is required to submit
to the exchange income and family size information and
information regarding changes in marital or family status or
income. Personal information provided to the exchange is
submitted to the Secretary of HHS. In turn, the Secretary of
HHS submits the applicable information to the Social Security
Commissioner, Homeland Security Secretary, and Treasury
Secretary for verification purposes. The Secretary of HHS is
notified of the results following verification, and notifies
the exchange of such results. The provision specifies actions
to be undertaken if inconsistencies are found. The Secretary of
HHS, in consultation with the Social Security Commissioner, the
Secretary of Homeland Security, and the Treasury Secretary must
establish procedures for appealing determinations resulting
from the verification process, and redetermining eligibility on
a periodic basis.
An employer must be notified if one of its employees is
determined to be eligible for a premium assistance credit
because the employer does not provide minimal essential
coverage through an employer-sponsored plan, or the employer
does offer such coverage but it is not affordable or does not
provide minimum value. The notice must include information
about the employer's potential liability for payments under
section 4980H and that terminating or discriminating against an
employee because he or she received a credit or subsidy is in
violation of the Fair Labor Standards Act.\722\ An employer is
generally not entitled to information about its employees who
qualify for the premium assistance credit. Employers may,
however, be notified of the name of the employee and whether
his or her income is above or below the threshold used to
measure the affordability of the employer's health insurance
coverage.
---------------------------------------------------------------------------
\722\ Pub. L. No. 75-718.
---------------------------------------------------------------------------
Personal information submitted for verification may be used
only to the extent necessary for verification purposes and may
not be disclosed to anyone not identified in this provision.
Any person, who submits false information due to negligence or
disregard of any rule, and without reasonable cause, is subject
to a civil penalty of not more than $25,000. Any person who
intentionally provides false information will be fined not more
than $250,000. Any person who knowingly and willfully uses or
discloses confidential applicant information will be fined not
more than $25,000. Any fines imposed by this provision may not
be collected through a lien or levy against property, and the
section does not impose any criminal liability.
The provision requires the Secretary of HHS, in
consultation with the Secretaries of the Treasury and Labor, to
conduct a study to ensure that the procedures necessary to
administer the determination of individuals' eligibility to
participate in an exchange, to receive advance payment of
premium assistance credits, and to obtain an individual
responsibility exemption, adequately protect employees' rights
of privacy and employers' rights to due process. The results of
the study must be reported by January 1, 2013, to the
appropriate committees of Congress.
Reconciliation
If the premium assistance received through an advance
payment exceeds the amount of credit to which the taxpayer is
entitled, the excess advance payment is treated as an increase
in tax. For persons with household income below 500% of the
FPL, the amount of the increase in tax is limited as shown in
the table below (one half of the applicable dollar amount shown
below for unmarried individuals who are not surviving spouses
or filing as heads of households).\723\
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\723\ Medicare and Medicaid Extenders Act of 2010, Pub. L. No. 111-
309, sec. 208. Prior to the Medicare and Medicaid Extenders Act of
2010, for persons whose household income was below 400% of the FPL, the
amount of the increase in tax was limited to $400 ($250 for unmarried
individuals who are not surviving spouses or filing as heads of
households).
------------------------------------------------------------------------
Household income (expressed as a percent of poverty Applicable dollar
line) amount
------------------------------------------------------------------------
Less than 200%....................................... $600
At least 200% but less than 250%..................... 1,000
At least 250% but less than 300%..................... 1,500
At least 300% but less than 350%..................... 2,000
At least 350% but less than 400%..................... 2,500
At least 400% but less than 450%..................... 3,000
At least 450% but less than 500%..................... 3,500
------------------------------------------------------------------------
If the premium assistance received through an advance payment
is less than the amount of the credit to which the taxpayer is
entitled, the shortfall is treated as a reduction in tax.
The eligibility for and amount of advance payment of
premium assistance is determined in advance of the coverage
year, on the basis of household income and family size from two
years prior, and the monthly premiums for qualified health
plans in the individual market in which the taxpayer, spouse
and any dependent enroll in an exchange. Any advance premium
assistance is paid during the year for which coverage is
provided by the exchange. In the subsequent year, the amount of
advance premium assistance is required to be reconciled with
the allowable refundable credit for the year of coverage.
Generally, this would be accomplished on the tax return filed
for the year of coverage, based on that year's actual household
income, family size, and premiums. Any adjustment to tax
resulting from the difference between the advance premium
assistance and the allowable refundable tax credit would be
assessed as additional tax or a reduction in tax on the tax
return.
Separately, the provision requires that the exchange, or
any person with whom it contracts to administer the insurance
program, must report to the Secretary with respect to any
taxpayer's participation in the health plan offered by the
Exchange. The information to be reported is information
necessary to determine whether a person has received excess
advance payments, identifying information about the taxpayer
(such as name, taxpayer identification number, months of
coverage) and any other person covered by that policy; the
level of coverage purchased by the taxpayer; the total premium
charged for the coverage, as well as the aggregate advance
payments credited to that taxpayer; and information provided to
the Exchange for the purpose of establishing eligibility for
the program, including changes of circumstances of the taxpayer
since first purchasing the coverage. Finally, the party
submitting the report must provide a copy to the taxpayer whose
information is the subject of the report.
Effective Date
The provision is effective for taxable years ending after
December 31, 2013.
D. Reduced Cost-Sharing for Individuals Enrolling in Qualified Health
Plans (secs. 1402, 1411, and 1412 of the Act \724\)
Present Law
Currently there is no tax credit that is generally
available to low or middle income individuals or families for
the purchase of health insurance. Some individuals may be
eligible for health coverage through State Medicaid programs
which consider income, assets, and family circumstances.
However, these Medicaid programs are not in the Code.
---------------------------------------------------------------------------
\724\ Sections 1401, 1411 and 1412 of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148, as amended by section 10104,
is further amended by section 1001 of the Health Care and Education
Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Health coverage tax credit
Certain individuals are eligible for the HCTC. The HCTC is
a refundable tax credit equal to 80 percent of the cost of
qualified health coverage paid by an eligible individual. In
general, eligible individuals are individuals who receive a
trade adjustment allowance (and individuals who would be
eligible to receive such an allowance but for the fact that
they have not exhausted their regular unemployment benefits),
individuals eligible for the alternative trade adjustment
assistance program, and individuals over age 55 who receive
pension benefits from the Pension Benefit Guaranty Corporation.
The HCTC is available for ``qualified health insurance,'' which
includes certain employer-based insurance, certain State-based
insurance, and in some cases, insurance purchased in the
individual market.
The credit is available on an advance basis through a
program established and administered by the Treasury
Department. The credit generally is delivered as follows: the
eligible individual sends his or her portion of the premium to
the Treasury, and the Treasury then pays the full premium (the
individual's portion and the amount of the refundable tax
credit) to the insurer. Alternatively, an eligible individual
is also permitted to pay the entire premium during the year and
claim the credit on his or her income tax return.
Individuals entitled to Medicare and certain other
governmental health programs, covered under certain employer-
subsidized health plans, or with certain other specified health
coverage are not eligible for the credit.
COBRA continuation coverage premium reduction
COBRA \725\ requires that a group health plan must offer
continuation coverage to qualified beneficiaries in the case of
a qualifying event (such as a loss of employment). A plan may
require payment of a premium for any period of continuation
coverage. The amount of such premium generally may not exceed
102 percent of the ``applicable premium'' for such period and
the premium must be payable, at the election of the payor, in
monthly installments.
---------------------------------------------------------------------------
\725\ Pub. L. No. 99-272.
---------------------------------------------------------------------------
Section 3001 of the American Recovery and Reinvestment Act
of 2009,\726\ as amended by the Department of Defense
Appropriations Act, 2010,\727\ and the Temporary Extension Act
of 2010 \728\ provides that, for a period not exceeding 15
months, an assistance eligible individual is treated as having
paid any premium required for COBRA continuation coverage under
a group health plan if the individual pays 35 percent of the
premium. Thus, if the assistance eligible individual pays 35
percent of the premium, the group health plan must treat the
individual as having paid the full premium required for COBRA
continuation coverage, and the individual is entitled to a
subsidy for 65 percent of the premium. An assistance eligible
individual generally is any qualified beneficiary who elects
COBRA continuation coverage and the qualifying event with
respect to the covered employee for that qualified beneficiary
is a loss of group health plan coverage on account of an
involuntary termination of the covered employee's employment
(for other than gross misconduct).\729\ In addition, the
qualifying event must occur during the period beginning
September 1, 2008, and ending March 31, 2010.
---------------------------------------------------------------------------
\726\ Pub. L. No. 111-5.
\727\ Pub. L. No. 111-118.
\728\ Pub. L. No. 111-144.
\729\ TEA expanded eligibility for the COBRA subsidy to include
individuals who experience a loss of coverage on account of a reduction
in hours of employment followed by the involuntary termination of
employment of the covered employee. For an individual entitled to COBRA
because of a reduction in hours and who is then subsequently
involuntarily terminated from employment, the termination is considered
a qualifying event for purposes of the COBRA subsidy, as long as the
termination occurs during the period beginning on the date following
TEA's date of enactment and ending on March 31, 2010.
---------------------------------------------------------------------------
The COBRA continuation coverage subsidy also applies to
temporary continuation coverage elected under the Federal
Employees Health Benefits Program and to continuation health
coverage under State programs that provide coverage comparable
to continuation coverage. The subsidy is generally delivered by
requiring employers to pay the subsidized portion of the
premium for assistance eligible individuals. The employer then
treats the payment of the subsidized portion as a payment of
employment taxes and offsets its employment tax liability by
the amount of the subsidy. To the extent that the aggregate
amount of the subsidy for all assistance eligible individuals
for which the employer is entitled to a credit for a quarter
exceeds the employer's employment tax liability for the
quarter, the employer can request a tax refund or can claim the
credit against future employment tax liability.
There is an income limit on the entitlement to the COBRA
continuation coverage subsidy. Taxpayers with modified adjusted
gross income exceeding $145,000 (or $290,000 for joint filers),
must repay any subsidy received by them, their spouse, or their
dependant, during the taxable year. For taxpayers with modified
adjusted gross incomes between $125,000 and $145,000 (or
$250,000 and $290,000 for joint filers), the amount of the
subsidy that must be repaid is reduced proportionately. The
subsidy is also conditioned on the individual not being
eligible for certain other health coverage. To the extent that
an eligible individual receives a subsidy during a taxable year
to which the individual was not entitled due to income or being
eligible for other health coverage, the subsidy overpayment is
repaid on the individual's income tax return as additional tax.
However, in contrast to the HCTC, the subsidy for COBRA
continuation coverage may only be claimed through the employer
and cannot be claimed at the end of the year on an individual
tax return.
Explanation of Provision
Cost-sharing subsidy
A cost-sharing subsidy is provided to reduce annual out-of-
pocket cost-sharing for individuals and households between 100
and 400 of percent FPL (for the family size involved). The
reductions are made in reference to the dollar cap on annual
deductibles for high deductable health plans in section
223(c)(2)(A)(ii) (currently $5,000 for self-only coverage and
$10,000 for family coverage). For individuals with household
income of more than 100 but not more than 200 percent of FPL,
the out-of-pocket limit is reduced by two-thirds. For those
between 201 and 300 percent of FPL by one-half, and for those
between 301 and 400 percent of FPL by one-third.
The cost-sharing subsidy that is provided must buy out any
difference in cost-sharing between the qualified health
insurance purchased and the actuarial values specified below.
For individuals between 100 and 150 percent of FPL (for the
family size involved), the subsidy must bring the value of the
plan to not more than 94 percent actuarial value. For those
between 150 and 200 percent of FPL, the subsidy must bring the
value of the plan to not more than 87 percent actuarial value.
For those between 201 and 250 percent of FPL, the subsidy must
bring the value of the plan to not more than 73 percent
actuarial value. For those between 251 and 400 percent of FPL,
the subsidy must bring the value of the plan to not more than
70 percent actuarial value. The determination of cost-sharing
subsidies will be made based on data from the same taxable year
as is used for determining advance credits under section 1412
of the Act (and not the taxable year used for determining
premium assistance credits under section 36B). The amount
received by an insurer as a cost-sharing subsidy on behalf of
an individual, as well as any out-of-pocket spending by the
individual, counts towards the out-of-pocket limit. Individuals
enrolled in multi-state plans, pursuant to section 1334 of the
Act, are eligible for the subsidy.
In addition to adjusting actuarial values, plans must
further reduce cost-sharing for low-income individuals as
specified below. For individuals between 100 and 150 percent of
FPL (for the family size involved) the plan's share of the
total allowed cost of benefits provided under the plan must be
94 percent. For those between 151 and 200 percent of FPL, the
plan's share must be 87 percent, and for those between 201 and
250 percent of FPL the plan's share must be 73 percent.
The cost-sharing subsidy is available only for those months
in which an individual receives an affordability credit under
new section 36B.\730\
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\730\ Section 1401 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148.
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As with the premium assistance credit, if the plan in which
the individual enrolls offers benefits in addition to essential
health benefits,\731\ even if the State in which the individual
resides requires such additional benefits, the reduction in
cost-sharing does not apply to the additional benefits. In
addition, individuals enrolled in both a qualified health plan
and a pediatric dental plan may not receive a cost-sharing
subsidy for the pediatric dental benefits that are included in
the essential health benefits required to be provided by the
qualified health plan. Cost-sharing subsidies, and any amounts
that are attributable to them, cannot be used to pay for
abortions for which federal funding is prohibited.
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\731\ As defined in section 1302(b) of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148.
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The Secretary of HHS must establish a program for
determining whether individuals are eligible to claim a cost-
sharing credit. The program must provide for the following: (1)
the details of an individual's application process; (2) the
details of how public entities are to make determinations of
individuals' eligibility; (3) procedures for deeming
individuals to be eligible; and, (4) procedures for allowing
individuals with limited English proficiency proper access to
exchanges.
In applying for enrollment, an individual claiming a cost-
sharing subsidy is required to submit to the exchange income
and family size information and information regarding changes
in marital or family status or income. Personal information
provided to the exchange is submitted to the Secretary of HHS.
In turn, the Secretary of HHS submits the applicable
information to the Social Security Commissioner, Homeland
Security Secretary, and Treasury Secretary for verification
purposes. The Secretary of HHS is notified of the results
following verification, and notifies the exchange of such
results. The provision specifies actions to be undertaken if
inconsistencies are found. The Secretary of HHS, in
consultation with the Treasury Secretary, Homeland Security
Secretary, and Social Security Commissioner, must establish
procedures for appealing determinations resulting from the
verification process, and redetermining eligibility on a
periodic basis.
The Secretary of HHS notifies the plan that the individual
is eligible and the plan reduces the cost-sharing by reducing
the out-of-pocket limit under the provision. The plan notifies
the Secretary of HHS of cost-sharing reductions and the
Secretary of HHS makes periodic and timely payments to the plan
equal to the value of the reductions in cost-sharing. The
provision authorizes the Secretary of HHS to establish a
capitated payment system with appropriate risk adjustments.
An employer must be notified if one of its employees is
determined to be eligible for a cost-sharing subsidy. The
notice must include information about the employer's potential
liability for payments under section 4980H and explicit notice
that hiring, terminating, or otherwise discriminating against
an employee because he or she received a credit or subsidy is
in violation of the Fair Labor Standards Act.\732\ An employer
is generally not entitled to information about its employees
who qualify for the premium assistance credit or the cost-
sharing subsidy. Employers may, however, be notified of the
name of an employee and whether his or her income is above or
below the threshold used to measure the affordability of the
employer's health insurance coverage.
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\732\ Pub. L. No. 75-718.
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The Secretary of the Treasury is informed of the name and
employer identification number of every employer that has one
or more employees receiving a cost-sharing subsidy.
The provision implements special rules for Indians (as
defined by the Indian Health Care Improvement Act) and
undocumented aliens. The provision prohibits cost-sharing
reductions for individuals who are not lawfully present in the
United States, and such individuals are not taken into account
in determining the family size involved.
The provision defines any term used in this section that is
also used by section 36B as having the same meaning as defined
by the latter. The provision also denies subsidies to
dependents, with respect to whom a deduction under section 151
is allowable to another taxpayer for a taxable year beginning
in the calendar year in which the individual's taxable year
begins. Further, the provision does not permit a subsidy for
any month that is not treated as a coverage month.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
E. Disclosures to Carry Out Eligibility Requirements for Certain
Programs (Sec. 1414 \733\ of the Act and sec. 6103 of the Code)
---------------------------------------------------------------------------
\733\ Section 1414 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 1004 of the Health Care
and Education Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
Section 6103 provides that returns and return information
are confidential and may not be disclosed by the IRS, other
Federal employees, State employees, and certain others having
access to such information except as provided in the Internal
Revenue Code. Section 6103 contains a number of exceptions to
the general rule of nondisclosure that authorize disclosure in
specifically identified circumstances. For example, section
6103 provides for the disclosure of certain return information
for purposes of establishing the appropriate amount of any
Medicare Part B premium subsidy adjustment.
Section 6103(p)(4) requires, as a condition of receiving
returns and return information, that Federal and State agencies
(and certain other recipients) provide safeguards as prescribed
by the Secretary of the Treasury by regulation to be necessary
or appropriate to protect the confidentiality of returns or
return information. Unauthorized disclosure of a return or
return information is a felony punishable by a fine not
exceeding $5,000 or imprisonment of not more than five years,
or both, together with the costs of prosecution.\734\ The
unauthorized inspection of a return or return information is
punishable by a fine not exceeding $1,000 or imprisonment of
not more than one year, or both, together with the costs of
prosecution.\735\ An action for civil damages also may be
brought for unauthorized disclosure or inspection.\736\
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\734\ Sec. 7213.
\735\ Sec. 7213A.
\736\ Sec. 7431.
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Explanation of Provision
Individuals will submit income information to an exchange
as part of an application process in order to claim the cost-
sharing reduction and the tax credit on an advance basis. The
Department of HHS serves as the centralized verification agency
for information submitted by individuals to the exchanges with
respect to the reduction and the tax credit to the extent
provided on an advance basis. The IRS is permitted to
substantiate the accuracy of income information that has been
provided to HHS for eligibility determination.
Specifically, upon written request of the Secretary of HHS,
the IRS is permitted to disclose the following return
information of any taxpayer whose income is relevant in
determining the amount of the tax credit or cost-sharing
reduction, or eligibility for participation in the specified
State health subsidy programs (i.e., a State Medicaid program
under title XIX of the Social Security Act, a State's
children's health insurance program under title XXI of such
Act, or a basic health program under section 2228 of such Act):
(1) taxpayer identity; (2) the filing status of such taxpayer;
(3) the modified adjusted gross income (as defined in new sec.
36B of the Code) of such taxpayer, the taxpayer's spouse and of
any dependants who are required to file a tax return; (4) such
other information as is prescribed by Treasury regulation as
might indicate whether such taxpayer is eligible for the credit
or subsidy (and the amount thereof); and (5) the taxable year
with respect to which the preceding information relates, or if
applicable, the fact that such information is not available.
HHS is permitted to disclose to an exchange or its contractors,
or to the State agency administering the health subsidy
programs referenced above (and their contractors) any
inconsistency between the information submitted and IRS
records.
The disclosed return information may be used only for the
purposes of, and only to the extent necessary in, establishing
eligibility for participation in the exchange, verifying the
appropriate amount of the tax credit, and cost-sharing subsidy,
or eligibility for the specified State health subsidy programs.
Recipients of the confidential return information are
subject to the safeguard protections and civil and criminal
penalties for unauthorized disclosure and inspection. The IRS
is required to make an accounting for all disclosures.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
F. Premium Tax Credit and Cost-Sharing Reduction Payments Disregarded
for Federal and Federally Assisted Programs (sec. 1415 of the Act)
Present Law
There is no tax credit that is generally available to low
or middle income individuals or families for the purchase of
health insurance.
Explanation of Provision
Any premium assistance tax credits and cost-sharing
subsidies provided to an individual under the Act are
disregarded for purposes of determining that individual's
eligibility for benefits or assistance, or the amount or extent
of benefits and assistance, under any Federal program or under
any State or local program financed in whole or in part with
Federal funds. Specifically, any amount of premium tax credit
provided to an individual is not counted as income, and cannot
be taken into account as resources for the month of receipt and
the following two months. Any cost sharing subsidy provided on
the individual's behalf is treated as made to the health plan
in which the individual is enrolled and not to the individual.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
G. Small Business Tax Credit (sec. 1421 \737\ of the Act and new sec.
45R of the Code)
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\737\ Section 1421 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 10105 of the Patient
Protection and Affordable Care Act, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
The Code does not provide a tax credit for employers that
provide health coverage for their employees. The cost to an
employer of providing health coverage for its employees is
generally deductible as an ordinary and necessary business
expense for employee compensation.\738\ In addition, the value
of employer-provided health insurance is not subject to
employer-paid Federal Insurance Contributions Act (``FICA'')
tax.
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\738\ Sec. 162. However, see special rules in sections 419 and 419A
for the deductibility of contributions to welfare benefit plans with
respect to medical benefits for employees and their dependents.
---------------------------------------------------------------------------
The Code generally provides that employees are not taxed on
the value of employer-provided health coverage under an
accident or health plan.\739\ That is, these benefits are
excluded from gross income. In addition, medical care provided
under an accident or health plan for employees, their spouses,
and their dependents generally is excluded from gross
income.\740\ Active employees participating in a cafeteria plan
may be able to pay their share of premiums on a pre-tax basis
through salary reduction.\741\ Such salary reduction
contributions are treated as employer contributions and thus
also are excluded from gross income.
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\739\ Sec 106.
\740\ Sec. 105(b).
\741\ Sec. 125.
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Reasons for Change
The Congress supports additional incentives and assistance
to encourage small business employers with low-wage employees
to provide health insurance coverage to their employees.
Providing health insurance coverage is particularly challenging
for these small business employers. In particular, the cost of
health insurance may be disproportionately large as a portion
of payroll expenses. The tax credit for qualified employee
health coverage expenses is designed to make the provision of
health insurance coverage by small business employers of low-
wage employees more affordable.
Explanation of Provisions
Small business employers eligible for the credit
Under the provision, a tax credit is provided for a
qualified small employer for nonelective contributions to
purchase health insurance for its employees. A qualified small
employer for this purpose generally is an employer with no more
than 25 full-time equivalent employees (``FTEs'') employed
during the employer's taxable year, and whose employees have
annual full-time equivalent wages that average no more than
$50,000. However, the full amount of the credit is available
only to an employer with 10 or fewer FTEs and whose employees
have average annual full-time equivalent wages from the
employer of not more than $25,000. These wage limits are
indexed to the Consumer Price Index for Urban Consumers (``CPI-
U'') for years beginning in 2014.
Under the provision, an employer's FTEs are calculated by
dividing the total hours worked by all employees during the
employer's tax year by 2080. For this purpose, the maximum
number of hours that are counted for any single employee is
2080 (rounded down to the nearest whole number). Wages are
defined in the same manner as under section 3121(a) (as
determined for purposes of FICA taxes but without regard to the
dollar limit for covered wages) and the average wage is
determined by dividing the total wages paid by the small
employer by the number of FTEs (rounded down to the nearest
$1,000).
The number of hours of service worked by, and wages paid
to, a seasonal worker of an employer is not taken into account
in determining the full-time equivalent employees and average
annual wages of the employer unless the worker works for the
employer on more than 120 days during the taxable year. For
purposes of the credit the term `seasonal worker' means a
worker who performs labor or services on a seasonal basis as
defined by the Secretary of Labor, including workers covered by
29 CFR sec. 500.20(s)(1) and retail workers employed
exclusively during holiday seasons.
The contributions must be provided under an arrangement
that requires the eligible small employer to make a nonelective
contribution on behalf of each employee who enrolls in certain
defined qualifying health insurance offered to employees by the
employer equal to a uniform percentage (not less than 50
percent) of the premium cost of the qualifying health plan.
The credit is only available to offset actual tax liability
and is claimed on the employer's tax return. The credit is not
payable in advance to the taxpayer or refundable. Thus, the
employer must pay the employees' premiums during the year and
claim the credit at the end of the year on its income tax
return. The credit is a general business credit, and can be
carried back for one year and carried forward for 20 years. The
credit is available for tax liability under the alternative
minimum tax.
Years the credit is available
Under the provision, the credit is initially available for
any taxable year beginning in 2010, 2011, 2012, or 2013.
Qualifying health insurance for claiming the credit for this
first phase of the credit is health insurance coverage within
the meaning of section 9832, which is generally health
insurance coverage purchased from an insurance company licensed
under State law.
For taxable years beginning in years after 2013, the credit
is only available to a qualified small employer that purchases
health insurance coverage for its employees through a State
exchange and is only available for a maximum coverage period of
two consecutive taxable years beginning with the first year in
which the employer or any predecessor first offers one or more
qualified plans to its employees through an exchange.\742\
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\742\ Sec. 1301 of the Patient Protection and Affordable Care Act,
Pub. L. No. 111-148, provides the requirements for a qualified health
plan purchased through the exchange.
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The maximum two-year coverage period does not take into
account any taxable years beginning in years before 2014. Thus
a qualified small employer could potentially qualify for this
credit for six taxable years, four years under the first phase
and two years under the second phase.
Calculation of credit amount
Only nonelective contributions by the employer are taken
into account in calculating the credit. Therefore, any amount
contributed pursuant to a salary reduction arrangement under a
cafeteria plan within the meaning of section 125 is not treated
as an employer contribution for purposes of this credit. The
credit is equal to the lesser of the following two amounts
multiplied by an applicable tax credit percentage: (1) the
amount of contributions the employer made on behalf of the
employees during the taxable year for the qualifying health
coverage and (2) the amount of contributions that the employer
would have made during the taxable year if each employee had
enrolled in coverage with a small business benchmark premium.
As discussed above, this tax credit is only available if this
uniform percentage is at least 50 percent.
For the first phase of the credit (any taxable years
beginning in 2010, 2011, 2012, or 2013), the applicable tax
credit percentage is 35 percent. The benchmark premium is the
average total premium cost in the small group market for
employer-sponsored coverage in the employer's State. The
premium and the benchmark premium vary based on the type of
coverage provided to the employee (e.g., single or family).
For taxable years beginning in years after 2013, the
applicable tax credit percentage is 50 percent. The benchmark
premium is the average premium cost in the small group market
in the rating area in which the employee enrolls in coverage.
The premium and the benchmark premium vary based on the type of
coverage being provided to the employee (e.g., single or
family).
The credit is reduced for an employer with between 10 and
25 FTEs. The amount of this reduction is equal to the amount of
the credit (determined before any reduction) multiplied by a
fraction, the numerator is the number of FTEs of the employer
in excess of 10 and the denominator of which is 15. The credit
is also reduced for an employer for whom the average wages per
employee is between $25,000 and $50,000. The amount of this
reduction is equal to the amount of the credit (determined
before any reduction) multiplied by a fraction, the numerator
of which is the average annual wages of the employer in excess
of $25,000 and the denominator is $25,000. For an employer with
both more than 10 FTEs and average annual wages in excess of
$25,000, the reduction is the sum of the amount of the two
reductions.
Tax exempt organizations as qualified small employers
Any organization described in section 501(c) which is
exempt under section 501(a) that otherwise qualifies for the
small business tax credit is eligible to receive the credit.
However, for tax-exempt organizations, the applicable
percentage for the credit during the first phase of the credit
(any taxable year beginning in 2010, 2011, 2012, or 2013) is
limited to 25 percent and the applicable percentage for the
credit during the second phase (taxable years beginning in
years after 2013) is limited to 35 percent. The small business
tax credit is otherwise calculated in the same manner for tax-
exempt organizations that are qualified small employers as the
tax credit is calculated for all other qualified small
employers. However, for tax-exempt organizations, instead of
being a general business credit, the small business tax credit
is a refundable tax credit limited to the amount of the payroll
taxes of the employer during the calendar year in which the
taxable year begins. For this purpose, payroll taxes of an
employer means: (1) the amount of income tax required to be
withheld from its employees' wages; (2) the amount of hospital
insurance tax under section 3101(b) required to be withheld
from its employees' wages; and (3) the amount of the hospital
insurance tax under section 3111(b) imposed on the employer.
Special rules
The employer is entitled to a deduction under section 162
equal to the amount of the employer contribution minus the
dollar amount of the credit. For example, if a qualified small
employer pays 100 percent of the cost of its employees' health
insurance coverage and the tax credit under this provision is
50 percent of that cost, the employer is able to claim a
section 162 deduction for the other 50 percent of the premium
cost.
The employer is determined by applying the employer
aggregations rules in section 414(b), (c), and (m). In
addition, the definition of employee includes a leased employee
within the meaning of section 414(n).\743\
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\743\ Section 414(b) provides that, for specified employee benefit
purposes, all employees of all corporations which are members of a
controlled group of corporations are treated as employed by a single
employer. There is a similar rule in section 414(c) under which all
employees of trades or businesses (whether or not incorporated) which
are under common are treated under regulations as employed by a single
employer, and, in section 414(m), under which employees of an
affiliated service group (as defined in that section) are treated as
employed by a single employer. Section 414(n) provides that leased
employees, as defined in that section, are treated as employees of the
service recipient for specified purposes. Section 414(o) authorizes the
Treasury to issue regulations to prevent avoidance of the certain
requirement under sections 414(m) and (n).
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Self-employed individuals, including partners and sole
proprietors, two percent share-holders of an S Corporation, and
five percent owners of the employer (within the meaning of
section 416(i)(1)(B)(i)) are not treated as employees for
purposes of this credit. There is also a special rule to
prevent sole proprietorships from receiving the credit for the
owner and their family members. Thus, no credit is available
for any contribution to the purchase of health insurance for
these individuals and these individuals are not taken into
account in determining the number of FTEs or average full-time
equivalent wages.
The Secretary of is directed to prescribe such regulations
as may be necessary to carry out the provisions of new section
45R, including regulations to prevent the avoidance of the two-
year limit on the credit period for the second phase of the
credit through the use of successor entities and the use of the
limit on the number of employees and the amount of average
wages through the use of multiple entities. The Secretary of
the Treasury, in consultation with the Secretary of Labor, is
directed to prescribe such regulations, rules, and guidance as
may be necessary to determine the hours of service of an
employee for purposes of determining FTEs, including rules for
the employees who are not compensated on an hourly basis.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
H. Excise Tax on Individuals Without Essential Health Benefits Coverage
(sec. 1501 \744\ of the Act and sec. 1 of Pub. L. No. 111-173 and new
sec. 5000A of the Code)
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\744\ Section 1501 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10106, is further
amended by section 1002 of the Health Care and Education Reconciliation
Act of 2010, Pub. L. No. 111-152.
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Present Law
Federal law does not require individuals to have health
insurance. Only the Commonwealth of Massachusetts, through its
statewide program, requires that individuals have health
insurance (although this policy has been considered in other
states, such as California, Maryland, Maine, and Washington).
All adult residents of Massachusetts are required to have
health insurance that meets ``minimum creditable coverage''
standards if it is deemed ``affordable'' at their income level
under a schedule set by the board of the Commonwealth Health
Insurance Connector Authority (``Connector''). Individuals
report their insurance status on State income tax forms.
Individuals can file hardship exemptions from the mandate;
persons for whom there are no affordable insurance options
available are not subject to the requirement for insurance
coverage.
For taxable year 2007, an individual without insurance and
who was not exempt from the requirement did not qualify under
Massachusetts law for a State income tax personal exemption.
For taxable years beginning on or after January 1, 2008, a
penalty is levied for each month an individual is without
insurance. The penalty consists of an amount up to 50 percent
of the lowest premium available to the individual through the
Connector. The penalty is reported and paid by the individual
with the individual's Massachusetts State income tax return at
the same time and in the same manner as State income taxes.
Failure to pay the penalty results in the same interest and
penalties as apply to unpaid income tax.
Explanation of Provision
Personal responsibility requirement
Beginning January, 2014, non-exempt U.S. citizens and legal
residents are required to maintain minimum essential coverage.
Minimum essential coverage includes government sponsored
programs, eligible employer-sponsored plans, plans in the
individual market, grandfathered group health plans and
grandfathered health insurance coverage, and other coverage as
recognized by the Secretary of HHS in coordination with the
Secretary of the Treasury. Government sponsored programs
include Medicare, Medicaid, Children's Health Insurance
Program, coverage for members of the U.S. military,\745\
veterans health care,\746\ and health care for Peace Corps
volunteers.\747\ Eligible employer-sponsored plans include:
governmental plans,\748\ church plans,\749\ grandfathered plans
and other group health plans offered in the small or large
group market within a State. Minimum essential coverage does
not include coverage that consists of certain HIPAA excepted
benefits.\750\ Other HIPAA excepted benefits that do not
constitute minimum essential coverage if offered under a
separate policy, certificate or contract of insurance include
long term care, limited scope dental and vision benefits,
coverage for a disease or specified illness, hospital indemnity
or other fixed indemnity insurance or Medicare supplemental
health insurance.\751\
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\745\ 10 U.S.C. sec. 55 and 38 U.S.C. sec. 1781.
\746\ Section 5000A is amended by Pub. L. No. 111-173 to clarify
that minimum essential coverage includes any health care program under
section 17 or 18 of Title 38 of the United States Code, as determined
by the Secretary of Veterans Affairs, in coordination with the
Secretary of HHS and the Secretary of Treasury.
\747\ 22 U.S.C. sec. 2504(e).
\748\ ERISA sec. 3(32).
\749\ ERISA sec. 3(33).
\750\ 42 U.S.C. sec. 300gg-91(c)(1). HIPAA excepted benefits
include: (1) coverage only for accident, or disability income
insurance; (2) coverage issued as a supplement to liability insurance;
(3) liability insurance, including general liability insurance and
automobile liability insurance; (4) workers' compensation or similar
insurance; (5) automobile medical payment insurance; (6) credit-only
insurance; (7) coverage for on-site medical clinics; and (8) other
similar insurance coverage, specified in regulations, under which
benefits for medical care are secondary or incidental to other
insurance benefits.
\751\ 42 U.S.C. sec. 300gg-91(c)(2-4).
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Individuals are exempt from the requirement for months they
are incarcerated, not legally present in the United States or
maintain religious exemptions. Those who are exempt from the
requirement due to religious reasons must be members of a
recognized religious sect exempting them from self-employment
taxes \752\ and adhere to tenets of the sect. Individuals
residing \753\ outside of the United States are deemed to
maintain minimum essential coverage. If an individual is a
dependent \754\ of another taxpayer, the other taxpayer is
liable for any penalty payment with respect to the individual.
---------------------------------------------------------------------------
\752\ Sec. 1402(g)(1).
\753\ Sec. 911(d)(1).
\754\ Sec. 152.
---------------------------------------------------------------------------
Penalty
Individuals who fail to maintain minimum essential coverage
in 2016 are subject to a penalty equal to the greater of: (1)
2.5 percent of the excess of the taxpayer's household income
for the taxable year over the threshold amount of income
required for income tax return filing for that taxpayer under
section 6012(a)(1); \755\ or (2) $695 per uninsured adult in
the household. The fee for an uninsured individual under age 18
is one-half of the adult fee for an adult. The total household
penalty may not exceed 300 percent of the per adult penalty
($2,085). The total annual household payment may not exceed the
national average annual premium for bronze level health plan
offered through the Exchange that year for the household size.
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\755\ Generally, in 2010, the filing threshold is $9,350 for a
single person or a married person filing separately and is $18,700 for
married filing jointly. IR-2009-93, Oct. 15, 2009.
---------------------------------------------------------------------------
This per adult annual penalty is phased in as follows: $95
for 2014; $325 for 2015; and $695 in 2016. For years after
2016, the $695 amount is indexed to CPI-U, rounded to the next
lowest $50. The percentage of income is phased in as follows:
one percent for 2014; two percent in 2015; and 2.5 percent
beginning after 2015. If a taxpayer files a joint return, the
individual and spouse are jointly liable for any penalty
payment.
The penalty applies to any period the individual does not
maintain minimum essential coverage and is determined monthly.
The penalty is an excise tax that is assessed in the same
manner as an assessable penalty under the enforcement
provisions of subtitle F of the Code.\756\ As a result, it is
assessable without regard to the restrictions of section
6213(b). Although assessable and collectible under the Code,
the IRS authority to use certain collection methods is limited.
Specifically, the filing of notices of liens and levies
otherwise authorized for collection of taxes does not apply to
the collection of this penalty. In addition, the statute waives
criminal penalties for non-compliance with the requirement to
maintain minimum essential coverage. However, the authority to
offset refunds or credits is not limited by the provision.
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\756\ IRS authority to assess and collect taxes is generally
provided in subtitle F, ``Procedure and Administration'' in the Code.
That subtitle establishes the rules governing both how taxpayers are
required to report information to the IRS and pay their taxes as well
as their rights. It also establishes the duties and authority of the
IRS to enforce the Code, including civil and criminal penalties.
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Individuals who cannot afford coverage because their
required contribution for employer-sponsored coverage or, with
respect to whom, the lowest cost bronze plan in the local
Exchange exceeds eight percent of household income for the year
are exempt from the penalty.\757\ In years after 2014, the
eight percent exemption is increased by the amount by which
premium growth exceeds income growth. For employees, and
individuals who are eligible for minimum essential coverage
through an employer by reason of a relationship to an employee,
the determination of whether coverage is affordable to the
employee and any such individual is made by reference to the
required contribution of the employees for self-only coverage.
Individuals are liable for penalties imposed with respect to
their dependents (as defined in section 152). An individual
filing a joint return with a spouse is jointly liable for any
penalty imposed with respect to the spouse. Taxpayers with
income below the income tax filing threshold \758\ are also
exempt from the penalty for failure to maintain minimum
essential coverage. All members of Indian tribes \759\ are
exempt from the penalty.
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\757\ In the case of an individual participating in a salary
reduction arrangement, the taxpayer's household income is increased by
any exclusion from gross income for any portion of the required
contribution to the premium. The required contribution to the premium
is the individual contribution to coverage through an employer or in
the purchase of a bronze plan through the Exchange.
\758\ Generally, in 2010, the filing threshold is $9,350 for a
single person or a married person filing separately and is $18,700 for
married filing jointly. IR-2009-93, Oct. 15, 2009.
\759\ Tribal membership is defined in section 45A(c)(6).
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No penalty is assessed for individuals who do not maintain
health insurance for a period of three months or less during
the taxable year. If an individual exceeds the three month
maximum during the taxable year, the penalty for the full
duration of the gap during the year is applied. If there are
multiple gaps in coverage during a calendar year, the exemption
from penalty applies only to the first such gap in coverage.
The Secretary of the Treasury shall provide rules when a
coverage gap includes months in multiple calendar years.
Individuals may also apply to the Secretary of HHS for a
hardship exemption due to hardship in obtaining coverage.\760\
Residents of the possessions \761\ of the United States are
treated as being covered by acceptable coverage.
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\760\ Sec. 1311(d)(4)(H).
\761\ Sec. 937(a).
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Family size is the number of individuals for whom the
taxpayer is allowed a personal exemption. Household income is
the sum of the modified adjusted gross incomes of the taxpayer
and all individuals accounted for in the family size required
to file a tax return for that year. Modified adjusted gross
income means adjusted gross income increased by all tax-exempt
interest and foreign earned income.\762\
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\762\ Sec. 911.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2013.
I. Reporting of Health Insurance Coverage (sec. 1502 of the Act and new
sec. 6055 and sec. 6724(d) of the Code)
Present Law
Insurer reporting of health insurance coverage
No provision.
Penalties for failure to comply with information reporting requirements
Present law imposes a variety of information reporting
requirements on participants in certain transactions.\763\
These requirements are intended to assist taxpayers in
preparing their income tax returns and help the IRS determine
whether such returns are correct and complete. Failure to
comply with the information reporting requirements may result
in penalties, including: a penalty for failure to file the
information return,\764\ a penalty for failure to furnish payee
statements,\765\ and a penalty for failure to comply with
various other reporting requirements.\766\
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\763\ Secs. 6031 through 6060.
\764\ Sec. 6721.
\765\ Sec. 6722.
\766\ Sec. 6723. The penalty for failure to comply timely with a
specified information reporting requirement is $50 per failure, not to
exceed $100,000 for a calendar year.
---------------------------------------------------------------------------
The penalty for failure to file an information return
generally is $50 for each return for which such failure occurs.
The total penalty imposed on a person for all failures during a
calendar year cannot exceed $250,000. Additionally, special
rules apply to reduce the per-failure and maximum penalty where
the failure is corrected within a specified period.
The penalty for failure to provide a correct payee
statement is $50 for each statement with respect to which such
failure occurs, with the total penalty for a calendar year not
to exceed $100,000. Special rules apply that increase the per-
statement and total penalties where there is intentional
disregard of the requirement to furnish a payee statement.
Explanation of Provision
Under the provision, insurers (including employers who
self-insure) that provide minimum essential coverage \767\ to
any individual during a calendar year must report certain
health insurance coverage information to both the covered
individual and to the IRS. In the case of coverage provided by
a governmental unit, or any agency or instrumentality thereof,
the reporting requirement applies to the person or employee who
enters into the agreement to provide the health insurance
coverage (or their designee).
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\767\ As defined in section 5000A of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148, as amended by section 10106,
as further amended by section 1002 of the Health Care and Education
Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
The information required to be reported includes: (1) the
name, address, and taxpayer identification number of the
primary insured, and the name and taxpayer identification
number of each other individual obtaining coverage under the
policy; (2) the dates during which the individual was covered
under the policy during the calendar year; (3) whether the
coverage is a qualified health plan offered through an
exchange; (4) the amount of any premium tax credit or cost-
sharing reduction received by the individual with respect to
such coverage; and (5) such other information as the Secretary
may require.
To the extent health insurance coverage is provided through
an employer-sponsored group health plan, the insurer is also
required to report the name, address and employer
identification number of the employer, the portion of the
premium, if any, required to be paid by the employer, and any
other information the Secretary may require to administer the
new tax credit for eligible small employers.
The insurer is required to report the above information,
along with the name, address and contact information of the
reporting insurer, to the covered individual on or before
January 31 of the year following the calendar year for which
the information is required to be reported to the IRS.
The provision amends the information reporting provisions
of the Code to provide that an insurer who fails to comply with
these new reporting requirements is subject to the penalties
for failure to file an information return and failure to
furnish payee statements, respectively.
The IRS is required, not later than June 30 of each year,
in consultation with the Secretary of HHS, to provide annual
notice to each individual who files an income tax return and
who fails to enroll in minimum essential coverage. The notice
is required to include information on the services available
through the exchange operating in the individual's State of
residence.
Effective Date
The provision is effective for calendar years beginning
after 2013.
J. Shared Responsibility for Employers (sec. 1513 \768\ of the Act and
new sec. 4980H of the Code)
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\768\ Section 1513 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10106, is further
amended by section 1003 of the Health Care and Education Reconciliation
Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
Currently, there is no Federal requirement that employers
offer health insurance coverage to employees or their families.
However, as with other compensation, the cost of employer-
provided health coverage is a deductible business expense under
section 162 of the Code.\769\ In addition, employer-provided
health insurance coverage is generally not included in an
employee's gross income.\770\
---------------------------------------------------------------------------
\769\ Sec. 162. However see special rules in sections 419 and 419A
for the deductibility of contributions to welfare benefit plans with
respect to medical benefits for employees and their dependents.
\770\ Sec. 106.
---------------------------------------------------------------------------
Employees participating in a cafeteria plan may be able to
pay the portion of premiums for health insurance coverage not
otherwise paid for by their employers on a pre-tax basis
through salary reduction.\771\ Such salary reduction
contributions are treated as employer contributions for
purposes of the Code, and are thus excluded from gross income.
---------------------------------------------------------------------------
\771\ Sec. 125.
---------------------------------------------------------------------------
One way that employers can offer employer-provided health
insurance coverage for purposes of the tax exclusion is to
offer to reimburse employees for the premiums for health
insurance purchased by employees in the individual health
insurance market. The payment or reimbursement of employees'
substantiated individual health insurance premiums is
excludible from employees' gross income.\772\ This
reimbursement for individual health insurance premiums can also
be paid through salary reduction under a cafeteria plan.\773\
However, this offer to reimburse individual health insurance
premiums constitutes a group health plan.
---------------------------------------------------------------------------
\772\ Rev. Rul. 61-146 (1961-2 CB 25).
\773\ Prop. Treas. Reg. sec. 1.125-1(m).
---------------------------------------------------------------------------
The Employee Retirement Income Security Act of 1974
(``ERISA'') \774\ preempts State law relating to certain
employee benefit plans, including employer-sponsored health
plans. While ERISA specifically provides that its preemption
rule does not exempt or relieve any person from any State law
which regulates insurance, ERISA also provides that an employee
benefit plan is not deemed to be engaged in the business of
insurance for purposes of any State law regulating insurance
companies or insurance contracts. As a result of this ERISA
preemption, self-insured employer-sponsored health plans need
not provide benefits that are mandated under State insurance
law.
---------------------------------------------------------------------------
\774\ Pub. L. No. 93-406.
---------------------------------------------------------------------------
While ERISA does not require an employer to offer health
benefits, it does require compliance if an employer chooses to
offer health benefits, such as compliance with plan fiduciary
standards, reporting and disclosure requirements, and
procedures for appealing denied benefit claims. There are other
Federal requirements for health plans which include, for
example, rules for health care continuation coverage.\775\ The
Code imposes an excise tax on group health plans that fail to
meet these other requirements.\776\ The excise tax generally is
equal to $100 per day per failure during the period of
noncompliance and is imposed on the employer sponsoring the
plan.
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\775\ These rules were added to ERISA and the Code by the
Consolidated Omnibus Budget Reconciliation Act of 1985, Pub. L. No. 99-
272.
\776\ Sec. 4980B.
---------------------------------------------------------------------------
Under Medicaid, States may establish ``premium assistance''
programs, which pay a Medicaid beneficiary's share of premiums
for employer-sponsored health coverage. Besides being available
to the beneficiary through his or her employer, the coverage
must be comprehensive and cost-effective for the State. An
individual's enrollment in an employer plan is considered cost-
effective if paying the premiums, deductibles, coinsurance and
other cost-sharing obligations of the employer plan is less
expensive than the State's expected cost of directly providing
Medicaid-covered services. States are also required to provide
coverage for those Medicaid-covered services that are not
included in the private plans. A 2007 analysis showed that 12
States had Medicaid premium assistance programs as authorized
under current law.
Explanation of Provision
An applicable large employer that does not offer coverage
for all its full-time employees, offers minimum essential
coverage that is unaffordable, or offers minimum essential
coverage that consists of a plan under which the plan's share
of the total allowed cost of benefits is less than 60 percent,
is required to pay a penalty if any full-time employee is
certified to the employer as having purchased health insurance
through a state exchange with respect to which a tax credit or
cost-sharing reduction is allowed or paid to the employee.
Applicable large employer
An employer is an applicable large employer with respect to
any calendar year if it employed an average of at least 50
full-time employees during the preceding calendar year. For
purposes of the provision, ``employer'' includes any
predecessor employer. An employer is not treated as employing
more than 50 full-time employees if the employer's workforce
exceeds 50 full-time employees for 120 days or fewer during the
calendar year and the employees that cause the employer's
workforce to exceed 50 full-time employees are seasonal
workers. A seasonal worker is a worker who performs labor or
services on a seasonal basis (as defined by the Secretary of
Labor), including retail workers employed exclusively during
the holiday season and workers whose employment is, ordinarily,
the kind exclusively performed at certain seasons or periods of
the year and which, from its nature, may not be continuous or
carried on throughout the year.\777\
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\777\ 29 C.F.R. section 500.20(s)(1). Under section 5000.20(s)(1),
a worker who moves from one seasonal activity to another, while
employed in agriculture or performing agricultural labor, is employed
on a seasonal basis even though he may continue to be employed during a
major portion of the year.
---------------------------------------------------------------------------
In counting the number of employees for purposes of
determining whether an employer is an applicable large
employer, a full-time employee (meaning, for any month, an
employee working an average of at least 30 hours or more each
week) is counted as one employee and all other employees are
counted on a pro-rated basis in accordance with regulations
prescribed by the Secretary. The number of full-time equivalent
employees that must be taken into account for purposes of
determining whether the employer exceeds the threshold is equal
to the aggregate number of hours worked by non-full-time
employees for the month, divided by 120 (or such other number
based on an average of 30 hours of service each week as the
Secretary may prescribe in regulations).
The Secretary, in consultation with the Secretary of Labor,
is directed to issue, as necessary, rules, regulations and
guidance to determine an employee's hours of service, including
rules that apply to employees who are not compensated on an
hourly basis.
The aggregation rules of section 414(b), (c), (m), and (o)
apply in determining whether an employer is an applicable large
employer. The determination of whether an employer that was not
in existence during the preceding calendar year is an
applicable large employer is made based on the average number
of employees that it is reasonably expected to employ on
business days in the current calendar year.
Penalty for employers not offering coverage
An applicable large employer who fails to offer its full-
time employees and their dependents the opportunity to enroll
in minimum essential coverage under an employer-sponsored plan
for any month is subject to a penalty if at least one of its
full-time employees is certified to the employer as having
enrolled in health insurance coverage purchased through a State
exchange with respect to which a premium tax credit or cost-
sharing reduction is allowed or paid to such employee or
employees. The penalty for any month is an excise tax equal to
the number of full-time employees over a 30-employee threshold
during the applicable month (regardless of how many employees
are receiving a premium tax credit or cost-sharing reduction)
multiplied by one-twelfth of $2,000. In the case of persons
treated as a single employer under the provision, the 30-
employee reduction in full-time employees is made from the
total number of full-time employees employed by such persons
(i.e., only one 30-person reduction is permitted per controlled
group of employers) and is allocated among such persons in
relation to the number of full-time employees employed by each
such person.
For example, in 2014, Employer A fails to offer minimum
essential coverage and has 100 full-time employees, ten of whom
receive a tax credit for the year for enrolling in a State
exchange-offered plan. For each employee over the 30-employee
threshold, the employer owes $2,000, for a total penalty of
$140,000 ($2,000 multiplied by 70 ((100-30)). This penalty is
assessed on an annual, monthly, or periodic basis as the
Secretary may prescribe.
For calendar years after 2014, the $2,000 amount is
increased by the percentage (if any) by which the average per
capita premium for health insurance coverage in the United
States for the preceding calendar year (as estimated by the
Secretary of HHS no later than October 1 of the preceding
calendar year) exceeds the average per capita premium for 2013
(as determined by the Secretary of HHS), rounded down to the
nearest $10.
Penalty for employees receiving premium credits
An applicable large employer who offers, for any month, its
full-time employees and their dependents the opportunity to
enroll in minimum essential coverage under an employer-
sponsored plan is subject to a penalty if any full-time
employee is certified to the employer as having enrolled in
health insurance coverage purchased through a State exchange
with respect to which a premium tax credit or cost-sharing
reduction is allowed or paid to such employee or employees.
The penalty is an excise tax that is imposed for each
employee who receives a premium tax credit or cost-sharing
reduction for health insurance purchased through a State
exchange. For each full-time employee receiving a premium tax
credit or cost-sharing subsidy through a State exchange for any
month, the employer is required to pay an amount equal to one-
twelfth of $3,000. The penalty for each employer for any month
is capped at an amount equal to the number of full-time
employees during the month (regardless of how many employees
are receiving a premium tax credit or cost-sharing reduction)
in excess of 30, multiplied by one-twelfth of $2,000. In the
case of persons treated as a single employer under the
provision, the 30-employee reduction in full-time employees for
purposes of calculating the maximum penalty is made from the
total number of full-time employees employed by such persons
(i.e., only one 30-person reduction is permitted per controlled
group of employers) and is allocated among such persons in
relation to the number of full-time employees employed by each
such person.
For example, in 2014, Employer A offers health coverage and
has 100 full-time employees, 20 of whom receive a tax credit
for the year for enrolling in a State exchange offered plan.
For each employee receiving a tax credit, the employer owes
$3,000, for a total penalty of $60,000. The maximum penalty for
this employer is capped at the amount of the penalty that it
would have been assessed for a failure to provide coverage, or
$140,000 ($2,000 multiplied by 70 ((100-30)). Since the
calculated penalty of $60,000 is less than the maximum amount,
Employer A pays the $60,000 calculated penalty. This penalty is
assessed on an annual, monthly, or periodic basis as the
Secretary may prescribe.
For calendar years after 2014, the $3,000 and $2,000
amounts are increased by the percentage (if any) by which the
average per capita premium for health insurance coverage in the
United States for the preceding calendar year (as estimated by
the Secretary of HHS no later than October 1 of the preceding
calendar year) exceeds the average per capita premium for 2013
(as determined by the Secretary of HHS), rounded down to the
nearest $10.
Time for payment, deductibility of excise taxes, restrictions on
assessment
The excise taxes imposed under this provision are payable
on an annual, monthly or other periodic basis as the Secretary
of the Treasury may prescribe. The excise taxes imposed under
this provision for employees receiving premium tax credits are
not deductible under section 162 as a business expense. The
restrictions on assessment under section 6213 are not
applicable to the excise taxes imposed under the provision.
Employer offer of health insurance coverage
Under the provision, as under current law, an employer is
not required to offer health insurance coverage. If an employee
is offered health insurance coverage by his or her employer and
chooses to enroll in the coverage, the employer-provided
portion of the coverage is excluded from gross income. The tax
treatment is the same whether the employer offers coverage
outside of a State exchange or the employer offers a coverage
option through a State exchange.
Definition of coverage
As a general matter, if an employee is offered affordable
minimum essential coverage under an employer-sponsored plan,
the individual is ineligible for a premium tax credit and cost
sharing reductions for health insurance purchased through a
State exchange.
Unaffordable coverage
If an employee is offered minimum essential coverage by
their employer that is either unaffordable or that consists of
a plan under which the plan's share of the total allowed cost
of benefits is less than 60 percent, however, the employee is
eligible for a premium tax credit and cost sharing reductions,
but only if the employee declines to enroll in the coverage and
purchases coverage through the exchange instead. Unaffordable
is defined as coverage with a premium required to be paid by
the employee that is more than 9.5 percent of the employee's
household income (as defined for purposes of the premium tax
credits), based on the self-only coverage. This percentage of
the employee's income is indexed to the per capita growth in
premiums for the insured market as determined by the Secretary
of HHS. The employee must seek an affordability waiver from the
State exchange and provide information as to family income and
the lowest cost employer option offered to them. The State
exchange then provides the waiver to the employee. The employer
penalty applies for any employee(s) receiving an affordability
waiver.
For purposes of determining if coverage is unaffordable,
required salary reduction contributions are treated as payments
required to be made by the employee. However, if an employee is
reimbursed by the employer for any portion of the premium for
health insurance coverage purchased through the exchange,
including any reimbursement through salary reduction
contributions under a cafeteria plan, the coverage is employer-
provided and the employee is not eligible for premium tax
credits or cost-sharing reductions. Thus, an individual is not
permitted to purchase coverage through the exchange, apply for
the premium tax credit, and pay for the individual's portion of
the premium using salary reduction contributions under the
cafeteria plan of the individual's employer.
An employer must be notified if one of its employees is
determined to be eligible for a premium assistance credit or a
cost-sharing reduction because the employer does not provide
minimal essential coverage through an employer-sponsored plan,
or the employer does offer such coverage but it is not
affordable or the plan's share of the total allowed cost of
benefits is less than 60 percent. The notice must include
information about the employer's potential liability for
payments under section 4980H. The employer must also receive
notification of the appeals process established for employers
notified of potential liability for payments under section
4980H. An employer is generally not entitled to information
about its employees who qualify for the premium assistance
credit or cost-sharing reductions; however, the appeals process
must provide an employer the opportunity to access the data
used to make the determination of an employee's eligibility for
a premium assistance credit or cost-sharing reduction, to the
extent allowable by law.
The Secretary is required to prescribe rules, regulations
or guidance for the repayment of any assessable payment
(including interest) if the payment is based on the allowance
or payment of a premium tax credit or cost-sharing reduction
with respect to an employee that is subsequently disallowed and
with respect to which the assessable payment would not have
been required to have been made in the absence of the allowance
or payment.
Effect of medicaid enrollment
A Medicaid-eligible individual can always choose to leave
the employer's coverage and enroll in Medicaid, and an employer
is not required to pay a penalty for any employees enrolled in
Medicaid.
Study and reporting on employer responsibility requirements
The Secretary of Labor is required to study whether
employee wages are reduced by reason of the application of the
employer responsibility requirements, using the National
Compensation Survey published by the Bureau of Labor
Statistics. The Secretary of Labor is to report the results of
this study to the Committee on Ways and Means of the House of
Representatives and the Committee on Finance of the Senate.
Effective Date
The provision is effective for months beginning after
December 31, 2013.
K. Reporting of Employer Health Insurance Coverage (sec. 1514 of the
Act and new sec. 6056 and sec. 6724(d) of the Code)
Present Law
Employer reporting of health insurance coverage
No provision.
Penalties for failure to comply with information reporting requirements
Present law imposes a variety of information reporting
requirements on participants in certain transactions.\778\
These requirements are intended to assist taxpayers in
preparing their income tax returns and help the IRS determine
whether such returns are correct and complete. Failure to
comply with the information reporting requirements may result
in penalties, including: a penalty for failure to file the
information return,\779\ a penalty for failure to furnish payee
statements,\780\ and a penalty for failure to comply with
various other reporting requirements.\781\
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\778\ Secs. 6031 through 6060.
\779\ Sec. 6721.
\780\ Sec. 6722.
\781\ Sec. 6723. The penalty for failure to comply timely with a
specified information reporting requirement is $50 per failure, not to
exceed $100,000 for a calendar year.
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The penalty for failure to file an information return
generally is $50 for each return for which such failure occurs.
The total penalty imposed on a person for all failures during a
calendar year cannot exceed $250,000. Additionally, special
rules apply to reduce the per-failure and maximum penalty where
the failure is corrected within a specified period.
The penalty for failure to provide a correct payee
statement is $50 for each statement with respect to which such
failure occurs, with the total penalty for a calendar year not
to exceed $100,000. Special rules apply that increase the per-
statement and total penalties where there is intentional
disregard of the requirement to furnish a payee statement.
Explanation of Provision
Under the provision, each applicable large employer subject
to the employer responsibility provisions of new section 4980H
and each ``offering employer'' must report certain health
insurance coverage information to both its full-time employees
and to the IRS. An offering employer is any employer who offers
minimum essential coverage \782\ to its employees under an
eligible employer-sponsored plan and who pays any portion of
the costs of such plan, but only if the required employer
contribution of any employee exceeds eight percent of the wages
paid by the employer to the employee. In the case of years
after 2014, the eight percent is indexed to reflect the rate of
premium growth over income growth between 2013 and the
preceding calendar year. In the case of coverage provided by a
governmental unit, or any agency or instrumentality thereof,
the reporting requirement applies to the person or employee
appropriately designated for purposes of making the returns and
statements required by the provision.
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\782\ As defined in section 5000A of the Patient Protection and
Affordable Care Act, Pub. L. No. 111-148, as amended by section 10106,
as further amended by section 1002 of the Health Care and Education
Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
The information required to be reported includes: (1) the
name, address and employer identification number of the
employer; (2) a certification as to whether the employer offers
its full-time employees and their dependents the opportunity to
enroll in minimum essential coverage under an eligible
employer-sponsored plan; (3) the number of full-time employees
of the employer for each month during the calendar year; (4)
the name, address and taxpayer identification number of each
full-time employee employed by the employer during the calendar
year and the number of months, if any, during which the
employee (and any dependents) was covered under a plan
sponsored by the employer during the calendar year; and (5)
such other information as the Secretary may require.
Employers who offer the opportunity to enroll in minimum
essential coverage must also report: (1) in the case of an
applicable large employer, the length of any waiting period
with respect to such coverage; (2) the months during the
calendar year during which the coverage was available; (3) the
monthly premium for the lowest cost option in each of the
enrollment categories under the plan; (4) the employer's share
of the total allowed costs of benefits under the plan; and (5),
in the case of an offering employer, the option for which the
employer pays the largest position of the cost of the plan and
the portion of the cost paid by the employer in each of the
enrollment categories under each option.
The employer is required to report to each full-time
employee the above information required to be reported with
respect to that employee, along with the name, address and
contact information of the reporting employer, on or before
January 31 of the year following the calendar year for which
the information is required to be reported to the IRS.
The provision amends the information reporting provisions
of the Code to provide that an employer who fails to comply
with these new reporting requirements is subject to the
penalties for failure to file an information return and failure
to furnish payee statements, respectively.
To the maximum extent feasible, the Secretary may provide
that any information return or payee statement required to be
provided under the provision may be provided as part of any
return or statement required under new sections 6051 \783\ or
6055 \784\ and, in the case of an applicable large employer or
offering employer offering health insurance coverage of a
health insurance issuer, the employer may enter into an
agreement with the issuer to include the information required
by the provision with the information return and payee
statement required under new section 6055.
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\783\ For additional information on new section 6051, see the
explanation of section 9002 of the Patient Protection and Affordable
Care Act, Pub. L. No. 111-148, ``Inclusion of Employer-Sponsored Health
Coverage on W-2.''
\784\ For additional information on new section 6055, see the
explanation of section 1502 of the Patient Protection and Affordable
Care Act, Pub. L. No. 111-148, ``Reporting of Health Insurance
Coverage.''
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The Secretary has the authority, in coordination with the
Secretary of Labor, to review the accuracy of the information
reported by the employer, including the employer's share of the
total allowed costs of benefits under the plan.
Effective Date
The provision is effective for periods beginning after
December 31, 2013.
L. Offering of Qualified Health Plans Through Cafeteria Plans (sec.
1515 of the Act and sec. 125 of the Code)
Present Law
Currently, there is no Federal requirement that employers
offer health insurance coverage to employees or their families.
However, as with other compensation, the cost of employer-
provided health coverage is a deductible business expense under
section 162 of the Code.\785\ In addition, employer-provided
health insurance coverage is generally not included in an
employee's gross income.\786\
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\785\ Sec. 162. However see special rules in sections 419 and 419A
for the deductibility of contributions to welfare benefit plans with
respect to medical benefits for employees and their dependents.
\786\ Sec. 106.
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Definition of a cafeteria plan
If an employee receives a qualified benefit (as defined
below) based on the employee's election between the qualified
benefit and a taxable benefit under a cafeteria plan, the
qualified benefit generally is not includable in gross
income.\787\ However, if a plan offering an employee an
election between taxable benefits (including cash) and
nontaxable qualified benefits does not meet the requirements
for being a cafeteria plan, the election between taxable and
nontaxable benefits results in gross income to the employee,
regardless of what benefit is elected and when the election is
made.\788\ A cafeteria plan is a separate written plan under
which all participants are employees, and participants are
permitted to choose among at least one permitted taxable
benefit (for example, current cash compensation) and at least
one qualified benefit. Finally, a cafeteria plan must not
provide for deferral of compensation, except as specifically
permitted in sections 125(d)(2)(B), (C), or (D).
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\787\ Sec. 125(a).
\788\ Prop. Treas. Reg. sec. 1.125-1(b).
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Qualified benefits
Qualified benefits under a cafeteria plan are generally
employer-provided benefits that are not includable in gross
income under an express provision of the Code. Examples of
qualified benefits include employer-provided health insurance
coverage, group term life insurance coverage not in excess of
$50,000, and benefits under a dependent care assistance
program. In order to be excludable, any qualified benefit
elected under a cafeteria plan must independently satisfy any
requirements under the Code section that provides the
exclusion. However, some employer-provided benefits that are
not includable in gross income under an express provision of
the Code are explicitly not allowed in a cafeteria plan. These
benefits are generally referred to as nonqualified benefits.
Examples of nonqualified benefits include scholarships; \789\
employer-provided meals and lodging; \790\ educational
assistance; \791\ and fringe benefits.\792\ A plan offering any
nonqualified benefit is not a cafeteria plan.\793\
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\789\ Sec. 117.
\790\ Sec. 119.
\791\ Sec. 127.
\792\ Sec. 132.
\793\ Prop. Treas. Reg. sec. 1.125-1(q). Long-term care services,
contributions to Archer Medical Savings Accounts, group term life
insurance for an employee's spouse, child or dependent, and elective
deferrals to section 403(b) plans are also nonqualified benefits.
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Payment of health insurance premiums through a cafeteria plan
Employees participating in a cafeteria plan may be able to
pay the portion of premiums for health insurance coverage not
otherwise paid for by their employers on a pre-tax basis
through salary reduction.\794\ Such salary reduction
contributions are treated as employer contributions for
purposes of the Code, and are thus excluded from gross income.
---------------------------------------------------------------------------
\794\ Sec. 125.
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One way that employers can offer employer-provided health
insurance coverage for purposes of the tax exclusion is to
offer to reimburse employees for the premiums for health
insurance purchased by employees in the individual health
insurance market. The payment or reimbursement of employees'
substantiated individual health insurance premiums is
excludible from employees' gross income.\795\ This
reimbursement for individual health insurance premiums can also
be paid for through salary reduction under a cafeteria
plan.\796\ This offer to reimburse individual health insurance
premiums constitutes a group health plan.
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\795\ Rev. Rul. 61-146, 1961-2 CB 25.
\796\ Prop. Treas. Reg. sec. 1.125-1(m).
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Explanation of Provision
Under the provision, reimbursement (or direct payment) for
the premiums for coverage under any qualified health plan (as
defined in section 1301(a) of the Act) offered through an
Exchange established under section 1311 of the Act is a
qualified benefit under a cafeteria plan if the employer is a
qualified employer. Under section 1312(f)(2) of the Act, a
qualified employer is generally a small employer that elects to
make all its full-time employees eligible for one or more
qualified plans offered in the small group market through an
Exchange.\797\ Otherwise, reimbursement (or direct payment) for
the premiums for coverage under any qualified health plan
offered through an Exchange is not a qualified benefit under a
cafeteria plan. Thus, an employer that is not a qualified
employer cannot offer to reimburse an employee for the premium
for a qualified plan that the employee purchases through the
individual market in an Exchange as a health insurance coverage
option under its cafeteria plan.
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\797\ Beginning in 2017, each State may allow issuers of health
insurance coverage in the large group market in a state to offer
qualified plans in the large group market. In that event, a qualified
employer includes a small employer that elects to make all its full-
time employees eligible for one or more qualified plans offered in the
large group market through an Exchange.
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Effective Date
This provision applies to taxable years beginning after
December 31, 2013.
M. Conforming Amendments (sec. 1563 of the Act and new sec. 9815 of the
Code)
Present Law
The Health Insurance Portability and Accountability Act of
1996 (``HIPAA'') \798\ imposes a number of requirements with
respect to group health coverage that are designed to provide
protections to health plan participants. These protections
include limitations on exclusions from coverage based on pre-
existing conditions; the prohibition of discrimination on the
basis of health status; guaranteed renewability in
multiemployer plans and certain employer welfare arrangements;
standards relating to benefits for mother and newborns; parity
in the application of certain limits to mental health benefits;
and coverage of dependent students on medically necessary leave
of absence. The requirements are enforced through the Code,
ERISA,\799\ and the PHSA.\800\ The HIPAA requirements in the
Code are in chapter 100 of Subtitle K, Group Health Plan
Requirements.
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\798\ Pub. L. No. 104-191.
\799\ Pub. L. No. 93-406.
\800\ 42 U.S.C. 6A.
---------------------------------------------------------------------------
A group health plan is defined as a plan (including a self-
insured plan) of, or contributed to by, an employer (including
a self-employed person) or employee organization to provide
health care (directly or otherwise) to the employees, former
employees, the employer, others associated or formerly
associated with the employer in a business relationship, or
their families.\801\
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\801\ The requirements do not apply to any governmental plan or any
group health plan that has fewer than two participants who are current
employees.
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The Code imposes an excise tax on group health plans which
fail to meet the HIPAA requirements.\802\ The excise tax is
equal to $100 per day during the period of noncompliance and is
generally imposed on the employer sponsoring the plan if the
plan fails to meet the requirements. The maximum tax that can
be imposed during a taxable year cannot exceed the lesser of:
(1) 10 percent of the employer's group health plan expenses for
the prior year; or (2) $500,000. No tax is imposed if the
Secretary determines that the employer did not know, and in
exercising reasonable diligence would not have known, that the
failure existed.
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\802\ Sec. 4980D.
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Explanation of Provision
The provision adds new Code section 9815 which provides
that the provisions of part A of title XXVII of the PHSA (as
amended by the Act) apply to group health plans, and health
insurance issuers providing health insurance coverage in
connection with group health plans, as if included in
Subchapter B of Chapter 100 of the Code. To the extent that any
HIPAA provision of the Code conflicts with a provision of part
A of title XXVII of the PHSA with respect to group health
plans, or health insurance issuers providing health insurance
coverage in connection with group health plans, the provisions
of such part A generally apply.
The provisions of part A of title XXVII of the PHSA added
by section 1001 of the Act that are incorporated by reference
in new section 9815 include the following: section 2711 (No
lifetime or annual limits); section 2712 (Prohibition on
rescissions); section 2713 (Coverage of preventive health
services); section 2714 (Extension of dependent coverage);
section 2715 (Development and utilization of uniform
explanation of coverage documents and standardized
definitions); section 2716 (Prohibition of discrimination in
favor of highly compensated individuals); section 2717
(Ensuring the quality of care); section 2718 (Bringing down the
cost of health care coverage); and section 2719 (Appeals
process). These new sections of the PHSA, which relate to
individual and group market reforms, are effective six months
after the date of enactment (March 23, 2010).
The provisions of part A of title XXVII of the PHSA added
by section 1201 of the Act that are incorporated by reference
in new section 9815 include the following: section 2704
(Prohibition of preexisting condition exclusions or other
discrimination based on health status); section 2701 (Fair
health insurance premiums); section 2702 (Guaranteed
availability of coverage) section 2703 (Guaranteed renewability
of coverage); section 2705 (Prohibiting discrimination against
individual participants and beneficiaries based on health
status); section 2706 (Non-discrimination in health care);
section 2707 (Comprehensive health insurance coverage); and
section 2708 (Prohibition on excessive waiting periods). These
new sections of the PHSA, which relate to general health
insurance reforms, are effective for plan years beginning on or
after January 1, 2014.
New section 9815 specifies that section 2716 (Prohibition
of discrimination based on salary) and 2718 (Bringing down the
cost of health coverage) of title XXVII of the PHSA (as amended
by the Act) do not apply under the Code provisions of HIPAA
with respect to self-insured group health plans.
As a result of incorporating these PHSA provisions by
reference, the excise tax that applies in the event of a
violation of present law HIPAA requirements also applies in the
event of a violation of these new requirements.
Effective Date
This provision is effective on the date of enactment (March
23, 2010).
TITLE III--IMPROVING THE QUALITY AND EFFICIENCY OF HEALTHCARE
A. Disclosures to Carry Out the Reduction of Medicare Part D Subsidies
for High Income Beneficiaries (sec. 3308(b)(2) of the Act and sec. 6103
of the Code)
Present Law
Section 6103 provides that returns and return information
are confidential and may not be disclosed by the IRS, other
Federal employees, State employees, and certain others having
access to such information except as provided in the Code.
Section 6103 contains a number of exceptions to the general
rule of nondisclosure that authorize disclosure in specifically
identified circumstances. For example, section 6103 provides
for the disclosure of certain return information for purposes
of establishing the appropriate amount of any Medicare Part B
premium subsidy adjustment.
Specifically, upon written request from the Commissioner of
Social Security, the IRS may disclose the following limited
return information of a taxpayer whose premium, according to
the records of the Secretary, may be subject to adjustment
under section 1839(i) of the Social Security Act (relating to
Medicare Part B):
Taxpayer identity information with respect
to such taxpayer;
The filing status of the taxpayer;
The adjusted gross income of such taxpayer;
The amounts excluded from such taxpayer's
gross income under sections 135 and 911 to the extent
such information is available;
The interest received or accrued during the
taxable year which is exempt from the tax imposed by
chapter 1 to the extent such information is available;
The amounts excluded from such taxpayer's
gross income by sections 931 and 933 to the extent such
information is available;
Such other information relating to the
liability of the taxpayer as is prescribed by the
Secretary by regulation as might indicate that the
amount of the premium of the taxpayer may be subject to
an adjustment and the amount of such adjustment; and
The taxable year with respect to which the
preceding information relates.
This return information may be used by officers, employees,
and contractors of the Social Security Administration only for
the purposes of, and to the extent necessary in, establishing
the appropriate amount of any Medicare Part B premium subsidy
adjustment.
Section 6103(p)(4) requires, as a condition of receiving
returns and return information, that Federal and State agencies
(and certain other recipients) provide safeguards as prescribed
by the Secretary by regulation to be necessary or appropriate
to protect the confidentiality of returns or return
information. Unauthorized disclosure of a return or return
information is a felony punishable by a fine not exceeding
$5,000 or imprisonment of not more than five years, or both,
together with the costs of prosecution.\803\ The unauthorized
inspection of a return or return information is punishable by a
fine not exceeding $1,000 or imprisonment of not more than one
year, or both, together with the costs of prosecution.\804\ An
action for civil damages also may be brought for unauthorized
disclosure or inspection.\805\
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\803\ Sec. 7213.
\804\ Sec. 7213A.
\805\ Sec. 7431.
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Explanation of Provision
Upon written request from the Commissioner of Social
Security, the IRS may disclose the following limited return
information of a taxpayer whose Medicare Part D premium
subsidy, according to the records of the Secretary, may be
subject to adjustment:
Taxpayer identity information with respect
to such taxpayer;
The filing status of the taxpayer;
The adjusted gross income of such taxpayer;
The amounts excluded from such taxpayer's
gross income under sections 135 and 911 to the extent
such information is available;
The interest received or accrued during the
taxable year which is exempt from the tax imposed by
chapter 1 to the extent such information is available;
The amounts excluded from such taxpayer's
gross income by sections 931 and 933 to the extent such
information is available;
Such other information relating to the
liability of the taxpayer as is prescribed by the
Secretary by regulation as might indicate that the
amount of the Part D premium of the taxpayer may be
subject to an adjustment and the amount of such
adjustment; and
The taxable year with respect to which the
preceding information relates.
This return information may be used by officers, employees,
and contractors of the Social Security Administration only for
the purposes of, and to the extent necessary in, establishing
the appropriate amount of any Medicare Part D premium subsidy
adjustment.
For purposes of both the Medicare Part B premium subsidy
adjustment and the Medicare Part D premium subsidy adjustment,
the provision provides that the Social Security Administration
may redisclose only taxpayer identity and the amount of premium
subsidy adjustment to officers and employees and contractors of
the Centers for Medicare and Medicaid Services, and officers
and employees of the Office of Personnel Management and the
Railroad Retirement Board. This redisclosure is permitted only
to the extent necessary for the collection of the premium
subsidy amount from the taxpayers under the jurisdiction of the
respective agencies.
Further, the Social Security Administration may redisclose
the return information received under this provision to
officers and employees of the Department of HHS to the extent
necessary to resolve administrative appeals of the Part B and
Part D subsidy adjustments and to officers and employees of the
Department of Justice to the extent necessary for use in
judicial proceedings related to establishing and collecting the
appropriate amount of any Medicare Part B or Medicare Part D
premium subsidy adjustments.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
TITLE VI--TRANSPARENCY AND PROGRAM INTEGRITY
A. Patient-Centered Outcomes Research Trust Fund; Financing for Trust
Fund (sec. 6301 of the Act and new secs. 4375, 4376, 4377, and 9511 of
the Code)
Present Law
No provision.
Reasons for Change
The Congress believes that comparative effectiveness
research is a public good and that a sustained investment in
such research is needed to improve the quality of information
about the relative strengths and weaknesses of various health
care items, services and systems to allow physicians and
patients to make more informed health care decisions. To insure
that there are sufficient amounts of public and private funds
dedicated to this purpose, and to insulate such funding from
inappropriate outside influence, the Congress believes that it
is appropriate to establish a trust fund, impose fees on health
insurance plans and receive transfer payments from Medicare,
and have such amounts in the fund dedicated to finance
comparative effectiveness research.
Explanation of Provision
Patient-Centered Outcomes Research Trust Fund
Under new section 9511, there is established in the
Treasury of the United States a trust fund, the Patient
Centered Outcomes Research Trust Fund (``PCORTF''), to carry
out the provisions in the Act relating to comparative
effectiveness research. The PCORTF is funded in part from fees
imposed on health plans under new sections 4375 through 4377.
Fee on insured and self-insured health plans
Insured plans
Under new section 4375, a fee is imposed on each specified
health insurance policy. The fee is equal to two dollars (one
dollar in the case of policy years ending during fiscal year
2013) multiplied by the average number of lives covered under
the policy. For any policy year beginning after September 30,
2014, the dollar amount is equal to the sum of: (1) the dollar
amount for policy years ending in the preceding fiscal year,
plus (2) an amount equal to the product of (A) the dollar
amount for policy years ending in the preceding fiscal year,
multiplied by (B) the percentage increase in the projected per
capita amount of National Health Expenditures, as most recently
published by the Secretary before the beginning of the fiscal
year. The issuer of the policy is liable for payment of the
fee. A specified health insurance policy includes any accident
or health insurance policy \806\ issued with respect to
individuals residing in the United States.\807\ An arrangement
under which fixed payments of premiums are received as
consideration for a person's agreement to provide, or arrange
for the provision of, accident or health coverage to residents
of the United States, regardless of how such coverage is
provided or arranged to be provided, is treated as a specified
health insurance policy. The person agreeing to provide or
arrange for the provision of coverage is treated as the issuer.
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\806\ A specified health insurance policy does not include
insurance if substantially all of the coverage provided under such
policy consists of excepted benefits described in section 9832(c).
Examples of excepted benefits described in section 9832(c) are coverage
for only accident, or disability insurance, or any combination thereof;
liability insurance, including general liability insurance and
automobile liability insurance; workers' compensation or similar
insurance; automobile medical payment insurance; coverage for on-site
medical clinics; limited scope dental or vision benefits; benefits for
long term care, nursing home care, community based care, or any
combination thereof; coverage only for a specified disease or illness;
hospital indemnity or other fixed indemnity insurance; and Medicare
supplemental coverage.
\807\ Under the provision, the United States includes any
possession of the United States.
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Self-insured plans
In the case of an applicable self-insured health plan, new
Code section 4376 imposes a fee equal to two dollars (one
dollar in the case of policy years ending during fiscal year
2013) multiplied by the average number of lives covered under
the plan. For any policy year beginning after September 30,
2014, the dollar amount is equal to the sum of: (1) the dollar
amount for policy years ending in the preceding fiscal year,
plus (2) an amount equal to the product of (A) the dollar
amount for policy years ending in the preceding fiscal year,
multiplied by (B) the percentage increase in the projected per
capita amount of National Health Expenditures, as most recently
published by the Secretary before the beginning of the fiscal
year. The plan sponsor is liable for payment of the fee. For
purposes of the provision, the plan sponsor is: the employer in
the case of a plan established or maintained by a single
employer or the employee organization in the case of a plan
established or maintained by an employee organization. In the
case of: (1) a plan established or maintained by two or more
employers or jointly by one of more employers and one or more
employee organizations, (2) a multiple employer welfare
arrangement, or (3) a voluntary employees' beneficiary
association described in Code section 501(c)(9) (``VEBA''), the
plan sponsor is the association, committee, joint board of
trustees, or other similar group of representatives of the
parties who establish or maintain the plan. In the case of a
rural electric cooperative or a rural telephone cooperative,
the plan sponsor is the cooperative or association.
Under the provision, an applicable self-insured health plan
is any plan providing accident or health coverage if any
portion of such coverage is provided other than through an
insurance policy and such plan is established or maintained:
(1) by one or more employers for the benefit of their employees
or former employees, (2) by one or more employee organizations
for the benefit of their members or former members, (3) jointly
by one or more employers and one or more employee organizations
for the benefit of employees or former employees, (4) by a
VEBA, (5) by any organization described in section 501(c)(6) of
the Code, or (6) in the case of a plan not previously
described, by a multiple employer welfare arrangement (as
defined in section 3(40) of ERISA, a rural electric cooperative
(as defined in section 3(40)(B)(iv) of ERISA), or a rural
telephone cooperative association (as defined in section
3(40)(B)(v) of ERISA).
Other special rules
Governmental entities are generally not exempt from the
fees imposed under the provision. There is an exception for
exempt governmental programs including, Medicare, Medicaid,
SCHIP, and any program established by Federal law for proving
medical care (other than through insurance policies) to members
of the Armed Forces, veterans, or members of Indian tribes.
No amount collected from the fee on health insurance and
self-insured plans is covered over to any possession of the
United States. For purposes of the Code's procedure and
administration rules, the fee imposed under the provision is
treated as a tax. The fees imposed under new sections 4375 and
4376 do not apply to plan years ending after September 31,
2019.
Effective Date
The fee on health insurance and self-insured plans is
effective with respect to policies and plans for portions of
policy or plan years ending after September 30, 2012.
TITLE IX--REVENUE PROVISIONS
A. Excise Tax on High Cost Employer-Sponsored Health Coverage (sec.
9001 \808\ of the Act and new sec. 4980I of the Code)
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\808\ Section 9001 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10901, is further
amended by section 1401 of the Health Care and Education Reconciliation
Act of 2010, Pub. L. No. 111-152.
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Present Law
Taxation of insurance companies
Current law provides special rules for determining the
taxable income of insurance companies (subchapter L of the
Code). Separate sets of rules apply to life insurance companies
and to property and casualty insurance companies. Insurance
companies generally are subject to Federal income tax at
regular corporate income tax rates.
An insurance company that provides health insurance is
subject to Federal income tax as either a life insurance
company or as a property insurance company, depending on its
mix of lines of business and on the resulting portion of its
reserves that are treated as life insurance reserves. For
Federal income tax purposes, an insurance company is treated as
a life insurance company if the sum of its (1) life insurance
reserves and (2) unearned premiums and unpaid losses on
noncancellable life, accident or health contracts not included
in life insurance reserves, comprise more than 50 percent of
its total reserves.\809\
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\809\ Sec. 816(a).
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Some insurance providers may be exempt from Federal income
tax under section 501(a) if specific requirements are
satisfied. Section 501(c)(8), for example, describes certain
fraternal beneficiary societies, orders, or associations
operating under the lodge system or for the exclusive benefit
of their members that provide for the payment of life, sick,
accident, or other benefits to the members or their dependents.
Section 501(c)(9) describes certain voluntary employees'
beneficiary associations that provide for the payment of life,
sick, accident, or other benefits to the members of the
association or their dependents or designated beneficiaries.
Section 501(c)(12)(A) describes certain benevolent life
insurance associations of a purely local character. Section
501(c)(15) describes certain small non-life insurance companies
with annual gross receipts of no more than $600,000 ($150,000
in the case of a mutual insurance company). Section 501(c)(26)
describes certain membership organizations established to
provide health insurance to certain high-risk individuals.
Section 501(c)(27) describes certain organizations established
to provide workmen's compensation insurance. A health
maintenance organization that is tax-exempt under section
501(c)(3) or (4) is not treated as providing prohibited \810\
commercial-type insurance, in the case of incidental health
insurance provided by the health maintenance organization that
is of a kind customarily provided by such organizations.
---------------------------------------------------------------------------
\810\ Sec. 501(m).
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Treatment of employer-sponsored health coverage
As with other compensation, the cost of employer-provided
health coverage is a deductible business expense under section
162.\811\ Employer-provided health insurance coverage is
generally not included in an employee's gross income.
---------------------------------------------------------------------------
\811\ Sec. 162. However see special rules in section 419 and 419A
for the deductibility of contributions to welfare benefit plans with
respect to medical benefits for employees and their dependents.
---------------------------------------------------------------------------
In addition, employees participating in a cafeteria plan
may be able to pay the portion of premiums for health insurance
coverage not otherwise paid for by their employers on a pre-tax
basis through salary reduction.\812\ Such salary reduction
contributions are treated as employer contributions for Federal
income purposes, and are thus excluded from gross income.
---------------------------------------------------------------------------
\812\ Sec. 125.
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Employers may agree to reimburse medical expenses of their
employees (and their spouses and dependents), not covered by a
health insurance plan, through flexible spending arrangements
which allow reimbursement not in excess of a specified dollar
amount (either elected by an employee under a cafeteria plan or
otherwise specified by the employer). Reimbursements under
these arrangements are also excludible from gross income as
employer-provided health coverage.
A flexible spending arrangement for medical expenses under
a cafeteria plan (``Health FSA'') is an unfunded arrangement
under which employees are given the option to reduce their
current cash compensation and instead have the amount made
available for use in reimbursing the employee for his or her
medical expenses.\813\ Health FSAs that are funded on a salary
reduction basis are subject to the requirements for cafeteria
plans, including a requirement that amounts remaining under a
Health FSA at the end of a plan year must be forfeited by the
employee (referred to as the ``use-it-or-lose-it rule'').\814\
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\813\ Sec. 125. Prop. Treas. Reg. sec. 1.125-5 provides rules for
Health FSAs. There is a similar type of flexible spending arrangement
for dependent care expenses.
\814\ Sec. 125(d)(2). A cafeteria plan is permitted to allow a
grace period not to exceed two and one-half months immediately
following the end of the plan year during which unused amounts may be
used. Notice 2005-42, 2005-1 C.B. 1204.
---------------------------------------------------------------------------
Alternatively, the employer may specify a dollar amount
that is available for medical expense reimbursement. These
arrangements are commonly called Health Reimbursement
Arrangements (``HRAs''). Some of the rules applicable to HRAs
and Health FSAs are similar (e.g., the amounts in the
arrangements can only be used to reimburse medical expenses and
not for other purposes), but the rules are not identical. In
particular, HRAs cannot be funded on a salary reduction basis
and the use-it-or-lose-it rule does not apply. Thus, amounts
remaining at the end of the year may be carried forward to be
used to reimburse medical expenses in following years.\815\
---------------------------------------------------------------------------
\815\ Guidance with respect to HRAs, including the interaction of
FSAs and HRAs in the case of an individual covered under both, is
provided in Notice 2002-45, 2002-2 C.B. 93.
---------------------------------------------------------------------------
Current law provides that individuals with a high
deductible health plan (and generally no other health plan) may
establish and make tax-deductible contributions to a health
savings account (``HSA''). An HSA is subject to a condition
that the individual is covered under a high deductible health
plan (purchased either through the individual market or through
an employer). Subject to certain limitations,\816\
contributions made to an HSA by an employer, including
contributions made through a cafeteria plan through salary
reduction, are excluded from income (and from wages for payroll
tax purposes). Contributions made by individuals are deductible
for income tax purposes, regardless of whether the individuals
itemize. Like an HSA, an Archer MSA is a tax-exempt trust or
custodial account to which tax-deductible contributions may be
made by individuals with a high deductible health plan;
however, only self-employed individuals and employees of small
employers are eligible to have an Archer MSA. Archer MSAs
provide tax benefits similar to, but generally not as favorable
as, those provided by HSAs for individuals covered by high
deductible health plans.\817\
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\816\ For 2010, the maximum aggregate annual contribution that can
be made to an HSA is $3,050 in the case of self-only coverage and
$6,150 in the case of family coverage. The annual contribution limits
are increased for individuals who have attained age 55 by the end of
the taxable year (referred to as ``catch-up contributions''). In the
case of policyholders and covered spouses who are age 55 or older, the
HSA annual contribution limit is greater than the otherwise applicable
limit by $1,000 in 2009 and thereafter. Contributions, including catch-
up contributions, cannot be made once an individual is enrolled in
Medicare.
\817\ In addition to being limited to self-employed individuals and
employees of small employers, the definition of a high deductible
health plan for an Archer MSA differs from that for an HSA. After 2007,
no new contributions can be made to Archer MSAs except by or on behalf
of individuals who previously had made Archer MSA contributions and
employees who are employed by a participating employer.
---------------------------------------------------------------------------
ERISA \818\ preempts State law relating to certain employee
benefit plans, including employer-sponsored health plans. While
ERISA specifically provides that its preemption rule does not
exempt or relieve any person from any State law which regulates
insurance, ERISA also provides that an employee benefit plan is
not deemed to be engaged in the business of insurance for
purposes of any State law regulating insurance companies or
insurance contracts. As a result of this ERISA preemption,
self-insured employer-sponsored health plans need not provide
benefits that are mandated under State insurance law.
---------------------------------------------------------------------------
\818\ Pub. L. No. 93-406.
---------------------------------------------------------------------------
While ERISA does not require an employer to offer health
benefits, it does require compliance if an employer chooses to
offer health benefits, such as compliance with plan fiduciary
standards, reporting and disclosure requirements, and
procedures for appealing denied benefit claims. ERISA was
amended (as well as the PHSA and the Code) by COBRA \819\ and
HIPAA,\820\ which added other Federal requirements for health
plans, including rules for health care continuation coverage,
limitations on exclusions from coverage based on preexisting
conditions, and a few benefit requirements such as minimum
hospital stay requirements for mothers following the birth of a
child.
---------------------------------------------------------------------------
\819\ Pub. L. No. 99-272.
\820\ Pub. L. No. 104-191.
---------------------------------------------------------------------------
COBRA requires that a group health plan offer continuation
coverage to qualified beneficiaries in the case of a qualifying
event (such as a loss of employment).\821\ A plan may require
payment of a premium for any period of continuation coverage.
The amount of such premium generally may not exceed 102 percent
of the ``applicable premium'' for such period and the premium
must be payable, at the election of the payor, in monthly
installments. The applicable premium for any period of
continuation coverage means the cost to the plan for such
period of coverage for similarly situated non-COBRA
beneficiaries with respect to whom a qualifying event has not
occurred, and is determined without regard to whether the cost
is paid by the employer or employee. There are special rules
for determining the applicable premium in the case of self-
insured plans. Under the special rules for self-insured plans,
the applicable premium generally is equal to a reasonable
estimate of the cost of providing coverage for similarly
situated beneficiaries which is determined on an actuarial
basis and takes into account such other factors as the
Secretary of the Treasury may prescribe in regulations.
---------------------------------------------------------------------------
\821\ A group health plan is defined as a plan (including a self-
insured plan) of, or contributed to by, an employer (including a self-
employed person) or employee organization to provide health care
(directly or otherwise) to the employees, former employees, the
employer, others associated or formerly associated with the employer in
a business relationship, or their families. The COBRA requirements are
enforced through the Code, ERISA, and the PHSA.
---------------------------------------------------------------------------
Current law imposes an excise tax on group health plans
that fail to meet HIPAA and COBRA requirements.\822\ The excise
tax generally is equal to $100 per day per failure during the
period of noncompliance and is imposed on the employer
sponsoring the plan.
---------------------------------------------------------------------------
\822\ Secs. 4980B and 4980D.
---------------------------------------------------------------------------
Deduction for health insurance costs of self-employed individuals
Under current law, self-employed individuals may deduct the
cost of health insurance for themselves and their spouses and
dependents.\823\ The deduction is not available for any month
in which the self-employed individual is eligible to
participate in an employer-subsidized health plan. Moreover,
the deduction may not exceed the individual's earned income
from self-employment. The deduction applies only to the cost of
insurance (i.e., it does not apply to out-of-pocket expenses
that are not reimbursed by insurance). The deduction does not
apply for self-employment tax purposes. For purposes of the
deduction, a more-than-two-percent-shareholder-employee of an S
corporation is treated the same as a self-employed individual.
Thus, the exclusion for employer provided health care coverage
does not apply to such individuals, but they are entitled to
the deduction for health insurance costs as if they were self-
employed.
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\823\ Sec. 162(l).
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Deductibility of excise taxes
In general, excise taxes may be deductible under section
162 of the Code if such taxes are paid or incurred in carrying
on a trade or business, and are not within the scope of the
disallowance of deductions for certain taxes enumerated in
section 275 of the Code.
Explanation of Provision
The provision imposes an excise tax on insurers if the
aggregate value of employer-sponsored health insurance coverage
for an employee (including, for purposes of the provision, any
former employee, surviving spouse and any other primary insured
individual) exceeds a threshold amount. The tax is equal to 40
percent of the aggregate value that exceeds the threshold
amount. For 2018, the threshold amount is $10,200 for
individual coverage and $27,500 for family coverage, multiplied
by the health cost adjustment percentage (as defined below) and
increased by the age and gender adjusted excess premium amount
(as defined below).
The health cost adjustment percentage is designed to
increase the thresholds in the event that the actual growth in
the cost of U.S. health care between 2010 and 2018 exceeds the
projected growth for that period. The health cost adjustment
percentage is equal to 100 percent plus the excess, if any, of
(1) the percentage by which the per employee cost of coverage
under the Blue Cross/Blue Shield standard benefit option under
the Federal Employees Health Benefits Plan (``standard FEHBP
coverage'') \824\ for plan year 2018 (as determined using the
benefit package for standard FEHBP coverage for plan year 2010)
exceeds the per employee cost of standard FEHBP coverage for
plan year 2010; over (2) 55 percent. In 2019, the threshold
amounts, after application of the health cost adjustment
percentage in 2018, if any, are indexed to the CPI-U, as
determined by the Department of Labor, plus one percentage
point, rounded to the nearest $50. In 2020 and thereafter, the
threshold amounts are indexed to the CPI-U as determined by the
Department of Labor, rounded to the nearest $50.
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\824\ For purposes of determining the health cost adjustment
percentage in 2018 and the age and gender adjusted excess premium
amount in any year, in the event the standard Blue Cross/Blue Shield
option is not available under the Federal Employees Health Benefit Plan
for such year, the Secretary will determine the health cost adjustment
percentage by reference to a substantially similar option available
under the Federal Employees Health Benefit Plan for that year.
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For each employee (other than for certain retirees and
employees in high risk professions, whose thresholds are
adjusted under rules described below), the age and gender
adjusted excess premium amount is equal to the excess, if any,
of (1) the premium cost of standard FEHBP coverage for the type
of coverage provided to the individual if priced for the age
and gender characteristics of all employees of the individual's
employer over (2) the premium cost, determined under procedures
proscribed by the Secretary, for that coverage if priced for
the age and gender characteristics of the national workforce.
For example, if the growth in the cost of health care
during the period between 2010 and 2018, calculated by
reference to the growth in the per employee cost of standard
FEHBP coverage during that period (holding benefits under the
standard FEBHP plan constant during the period) is 57 percent,
the threshold amounts for 2018 will be $10,200 for individual
coverage and $27,500 for family coverage, multiplied by 102
percent (100 percent plus the excess of 57 percent over 55
percent), or $10,404 for individual coverage and $28,050 for
family coverage. In 2019, the new threshold amounts of $10,404
for individual coverage and $28,050 for family coverage are
indexed for CPI-U, plus one percentage point, rounded to the
nearest $50. Beginning in 2020, the threshold amounts are
indexed to the CPI-U, rounded to the nearest $50.
The new threshold amounts (as indexed) are then increased
for any employee by the age and gender adjusted excess premium
amount, if any. For an employee with individual coverage in
2019, if standard FEHBP coverage priced for the age and gender
characteristics of the workforce of the employee's employer is
$11,400 and the Secretary estimates that the premium cost for
individual standard FEHBP coverage priced for the age and
gender characteristics of the national workforce is $10,500,
the threshold for that employee is increased by $900 ($11,400
less $10,500) to $11,304 ($10,404 plus $900).
The excise tax is imposed pro rata on the issuers of the
insurance. In the case of a self-insured group health plan, a
Health FSA or an HRA, the excise tax is paid by the entity that
administers benefits under the plan or arrangement (``plan
administrator''). Where the employer acts as plan administrator
to a self-insured group health plan, a Health FSA or an HRA,
the excise tax is paid by the employer. Where an employer
contributes to an HSA or an Archer MSA, the employer is
responsible for payment of the excise tax, as the insurer.
Employer-sponsored health insurance coverage is health
coverage under any group health plan offered by an employer to
an employee without regard to whether the employer provides the
coverage (and thus the coverage is excludable from the
employee's gross income) or the employee pays for the coverage
with after-tax dollars. Employer-sponsored health insurance
coverage includes coverage under any group health plan
established and maintained primarily for the civilian employees
of the Federal government or any of its agencies or
instrumentalities and, except as provided below, of any State
government or political subdivision thereof or by any of
agencies or instrumentalities of such government or
subdivision.
Employer-sponsored health insurance coverage includes both
fully-insured and self-insured health coverage excludable from
the employee's gross income, including, in the self-insured
context, on-site medical clinics that offer more than a de
minimis amount of medical care to employees and executive
physical programs. In the case of a self-employed individual,
employer-sponsored health insurance coverage is coverage for
any portion of which a deduction is allowable to the self-
employed individual under section 162(l).
In determining the amount by which the value of employer-
sponsored health insurance coverage exceeds the threshold
amount, the aggregate value of all employer-sponsored health
insurance coverage is taken into account, including coverage in
the form of reimbursements under a Health FSA or an HRA,
contributions to an HSA or Archer MSA, and, except as provided
below, other supplementary health insurance coverage. The value
of employer-sponsored coverage for long term care and the
following benefits described in section 9832(c)(1) that are
excepted from the portability, access and renewability
requirements of HIPAA are not taken into account in the
determination of whether the value of health coverage exceeds
the threshold amount: (1) coverage only for accident or
disability income insurance, or any combination of these
coverages; (2) coverage issued as a supplement to liability
insurance; (3) liability insurance, including general liability
insurance and automobile liability insurance; (4) workers'
compensation or similar insurance; (5) automobile medical
payment insurance; (5) credit-only insurance; and (6) other
similar insurance coverage, specified in regulations, under
which benefits for medical care are secondary or incidental to
other insurance benefits.
The value of employer-sponsored health insurance coverage
does not include the value of independent, noncoordinated
coverage described in section 9832(c)(3) as excepted from the
portability, access and renewability requirements of HIPAA if
that coverage is purchased exclusively by the employee with
after-tax dollars (or, in the case of a self-employed
individual, for which a deduction under section 162(l) is not
allowable). The value of employer-sponsored health insurance
coverage does include the value of such coverage if any portion
of the coverage is employer-provided (or, in the case of a
self-employed individual, if a deduction is allowable for any
portion of the payment for the coverage). Coverage described in
section 9832(c)(3) is coverage only for a specified disease or
illness or for hospital or other fixed indemnity health
coverage. Fixed indemnity health coverage pays fixed dollar
amounts based on the occurrence of qualifying events, including
but not limited to the diagnosis of a specific disease, an
accidental injury or a hospitalization, provided that the
coverage is not coordinated with other health coverage.
Finally, the value of employer-sponsored health insurance
coverage does not include any coverage under a separate policy,
certificate, or contract of insurance which provides benefits
substantially all of which are for treatment of the mouth
(including any organ or structure within the mouth) or for
treatment of the eye.
Calculation and proration of excise tax and reporting requirements
Applicable threshold
In general, the individual threshold applies to any
employee covered by employer-sponsored health insurance
coverage. The family threshold applies to an employee only if
such individual and at least one other beneficiary are enrolled
in coverage other than self-only coverage under an employer-
sponsored health insurance plan that provides minimum essential
coverage (as determined for purposes of the individual
responsibility requirements) and under which the benefits
provided do not vary based on whether the covered individual is
the employee or other beneficiary.
For all employees covered by a multiemployer plan, the
family threshold applies regardless of whether the individual
maintains individual or family coverage under the plan. For
purposes of the provision, a multiemployer plan is an employee
health benefit plan to which more than one employer is required
to contribute, which is maintained pursuant to one or more
collective bargaining agreements between one or more employee
organizations and more than one employer.
Amount of applicable premium
Under the provision, the aggregate value of all employer-
sponsored health insurance coverage, including any
supplementary health insurance coverage not excluded from the
value of employer-sponsored health insurance, is generally
calculated in the same manner as the applicable premiums for
the taxable year for the employee determined under the rules
for COBRA continuation coverage, but without regard to the
excise tax. If the plan provides for the same COBRA
continuation coverage premium for both individual coverage and
family coverage, the plan is required to calculate separate
individual and family premiums for this purpose. In determining
the coverage value for retirees, employers may elect to treat
pre-65 retirees together with post-65 retirees.
Value of coverage in the form of Health FSA reimbursements
In the case of a Health FSA from which reimbursements are
limited to the amount of the salary reduction, the value of
employer-sponsored health insurance coverage is equal to the
dollar amount of the aggregate salary reduction contributions
for the year. To the extent that the Health FSA provides for
employer contributions in excess of the amount of the
employee's salary reduction, the value of the coverage
generally is determined in the same manner as the applicable
premium for COBRA continuation coverage. If the plan provides
for the same COBRA continuation coverage premium for both
individual coverage and family coverage, the plan is required
to calculate separate individual and family premiums for this
purpose.
Amount subject to the excise tax and reporting requirement
The amount subject to the excise tax on high cost employer-
sponsored health insurance coverage for each employee is the
sum of the aggregate premiums for health insurance coverage,
the amount of any salary reduction contributions to a Health
FSA for the taxable year, and the dollar amount of employer
contributions to an HSA or an Archer MSA, minus the dollar
amount of the threshold. The aggregate premiums for health
insurance coverage include all employer-sponsored health
insurance coverage including coverage for any supplementary
health insurance coverage. The applicable premium for health
coverage provided through an HRA is also included in this
aggregate amount.
Under a separate rule,\825\ an employer is required to
disclose the aggregate premiums for health insurance coverage
for each employee on his or her annual Form W-2.
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\825\ See the explanation of section 9002 of the Patient Protection
and Affordable Care Act, Pub. L. No. 111-148, ``Inclusion of Cost of
Employer Sponsored Health Coverage on W-2.''
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Under the provision, the excise tax is allocated pro rata
among the insurers, with each insurer responsible for payment
of the excise tax on an amount equal to the amount subject to
the total excise tax multiplied by a fraction, the numerator of
which is the amount of employer-sponsored health insurance
coverage provided by that insurer to the employee and the
denominator of which is the aggregate value of all employer-
sponsored health insurance coverage provided to the employee.
In the case of a self-insured group health plan, a Health FSA
or an HRA, the excise tax is allocated to the plan
administrator. If an employer contributes to an HSA or an
Archer MSA, the employer is responsible for payment of the
excise tax, as the insurer. The employer is responsible for
calculating the amount subject to the excise tax allocable to
each insurer and plan administrator and for reporting these
amounts to each insurer, plan administrator and the Secretary,
in such form and at such time as the Secretary may prescribe.
Each insurer and plan administrator is then responsible for
calculating, reporting and paying the excise tax to the IRS on
such forms and at such time as the Secretary may prescribe.
For example, if in 2018 an employee elects family coverage
under a fully-insured health care policy covering major medical
and dental with a value of $31,000, the health cost adjustment
percentage for that year is 100 percent, and the age and gender
adjusted excess premium amount for the employee is $600, the
amount subject to the excise tax is $2,900 ($31,000 less the
threshold of $28,100 ($27,500 multiplied by 100 percent and
increased by $600)). The employer reports $2,900 as taxable to
the insurer, which calculates and remits the excise tax to the
IRS.
Alternatively, if in 2018 an employee elects family
coverage under a fully-insured major medical policy with a
value of $28,500 and contributes $2,500 to a Health FSA, the
employee has an aggregate health insurance coverage value of
$31,000. If the health cost adjustment percentage for that year
is 100 percent and the age and gender adjusted excess premium
amount for the employee is $600, the amount subject to the
excise tax is $2,900 ($31,000 less the threshold of $28,100
($27,500 multiplied by 100 percent and increased by $600)). The
employer reports $2,666 ($2,900 $28,500/$31,000) as
taxable to the major medical insurer which then calculates and
remits the excise tax to the IRS. If the employer uses a third-
party administrator for the Health FSA, the employer reports
$234 ($2,900 $2,500/$31,000) to the administrator and
the administrator calculates and remits the excise tax to the
IRS. If the employer is acting as the plan administrator of the
Health FSA, the employer is responsible for calculating and
remitting the excise tax on the $234 to the IRS.
Penalty for underreporting liability for tax to insurers
If the employer reports to insurers, plan administrators
and the IRS a lower amount of insurance cost subject to the
excise tax than required, the employer is subject to a penalty
equal to the sum of any additional excise tax that each such
insurer and administrator would have owed if the employer had
reported correctly and interest attributable to that additional
excise tax as determined under Code section 6621 from the date
that the tax was otherwise due to the date paid by the
employer. This may occur, for example, if the employer
undervalues the aggregate premium and thereby lowers the amount
subject to the excise tax for all insurers and plan
administrators (including the employer, when acting as plan
administrator of a self-insured plan).
The penalty will not apply if it is established to the
satisfaction of the Secretary that the employer neither knew,
nor exercising reasonable diligence would have known, that the
failure existed. In addition, no penalty will be imposed on any
failure corrected within the 30-day period beginning on the
first date that the employer knew, or exercising reasonable
diligence, would have known, that the failure existed, so long
as the failure is due to reasonable cause and not to willful
neglect. All or part of the penalty may be waived by the
Secretary in the case of any failure due to reasonable cause
and not to willful neglect, to the extent that the payment of
the penalty would be excessive or otherwise inequitable
relative to the failure involved.
The penalty is in addition to the amount of excise tax
owed, which may not be waived.
Increased thresholds for certain retirees and individuals in high-risk
professions
The threshold amounts are increased for an individual who
has attained age of 55 who is non-Medicare eligible and
receiving employer-sponsored retiree health coverage or who is
covered by a plan sponsored by an employer the majority of
whose employees covered by the plan are engaged in a high risk
profession or employed to repair or install electrical and
telecommunications lines. For these individuals, the threshold
amount in 2018 is increased by (1) $1,650 for individual
coverage or $3,450 for family coverage and (2) the age and
gender adjusted excess premium amount (as defined above). In
2019, the additional $1,650 and $3,450 amounts are indexed to
the CPI-U, plus one percentage point, rounded to the nearest
$50. In 2020 and thereafter, the additional threshold amounts
are indexed to the CPI-U, rounded to the nearest $50.
For purposes of this rule, employees considered to be
engaged in a high risk profession are law enforcement officers,
employees who engage in fire protection activities, individuals
who provide out-of-hospital emergency medical care (including
emergency medical technicians, paramedics, and first-
responders), individuals whose primary work is longshore work,
and individuals engaged in the construction, mining,
agriculture (not including food processing), forestry, and
fishing industries. A retiree with at least 20 years of
employment in a high risk profession is also eligible for the
increased threshold.
Under this provision, an individual's threshold cannot be
increased by more than $1,650 for individual coverage or $3,450
for family coverage (indexed as described above) and the age
and gender adjusted excess premium amount, even if the
individual would qualify for an increased threshold both on
account of his or her status as a retiree over age 55 and as a
participant in a plan that covers employees in a high risk
profession.
Deductibility of excise tax
Under the provision, the amount of the excise tax imposed
is not deductible for Federal income tax purposes.
Regulatory authority
The Secretary is directed to prescribe such regulations as
may be necessary to carry out the provision.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2017.
B. Inclusion of Cost of Employer-Sponsored Health Coverage on W-2 (sec.
9002 of the Act and sec. 6051 of the Code)
Present Law
In many cases, an employer pays for all or a portion of its
employees' health insurance coverage as an employee benefit.
This benefit often includes premiums for major medical, dental,
and other supplementary health insurance coverage. Under
present law, the value of employer-provided health coverage is
not required to be reported to the IRS or any other Federal
agency. The value of the employer contribution to health
coverage is excludible from an employee's income.\826\
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\826\ Sec. 106.
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Under current law, every employer is required to furnish
each employee and the Federal government with a statement of
compensation information, including wages, paid by the employer
to the employee, and the taxes withheld from such wages during
the calendar year. The statement, made on the Form W-2, must be
provided to each employee by January 31 of the succeeding year.
There is no requirement that the employer report the total
value of employer-sponsored health insurance coverage on the
Form W-2,\827\ although some employers voluntarily report the
amount of salary reduction under a cafeteria plan resulting in
tax-free employee benefits in box 14.
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\827\ Any portion of employer sponsored coverage that is paid for
by the employee with after-tax contributions is included as wages on
the W-2 Form.
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Explanation of Provision
Under the provision, an employer is required to disclose on
each employee's annual Form W-2 the value of the employee's
health insurance coverage sponsored by the employer. If an
employee enrolls in employer-sponsored health insurance
coverage under multiple plans, the employer must disclose the
aggregate value of all such health coverage (excluding the
value of any salary reduction contribution to a health flexible
spending arrangement). For example, if an employee enrolls in
employer-sponsored health insurance coverage under a major
medical plan and a health reimbursement arrangement, the
employer is required to report the total value of the
combination of both of these health plans. For this purpose,
employers generally use the same value for all similarly
situated employees receiving the same category of coverage
(such as single or family health insurance coverage).
To determine the value of employer-sponsored health
insurance coverage, the employer calculates the applicable
premiums for the taxable year for the employee under the rules
for COBRA continuation coverage under section 4980B(f)(4) (and
accompanying Treasury regulations), including the special rule
for self-insured plans. The value that the employer is required
to report is the portion of the aggregate premium. If the plan
provides for the same COBRA continuation coverage premium for
both individual coverage and family coverage, the plan would be
required to calculate separate individual and family premiums
for this purpose.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
C. Distributions for Medicine Qualified Only if for Prescribed Drug or
Insulin (sec. 9003 of the Act and secs. 105, 106, 220, and 223 of the
Code)
Present Law
Individual deduction for medical expenses
Expenses for medical care, not compensated for by insurance
or otherwise, are deductible by an individual under the rules
relating to itemized deductions to the extent the expenses
exceed 7.5 percent of adjusted gross income (``AGI'').\828\
Medical care generally is defined broadly as amounts paid for
diagnoses, cure, mitigation, treatment or prevention of
disease, or for the purpose of affecting any structure of the
body.\829\ However, any amount paid during a taxable year for
medicine or drugs is explicitly deductible as a medical expense
only if the medicine or drug is a prescribed drug or is
insulin.\830\ Thus, any amount paid for medicine available
without a prescription (``over-the-counter medicine'') is not
deductible as a medical expense, including any medicine
recommended by a physician.\831\
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\828\ Sec. 213(a).
\829\ Sec. 213(d). There are certain limitations on the general
definition including a rule that cosmetic surgery or similar procedures
are generally not medical care.
\830\ Sec. 213(b).
\831\ Rev. Rul. 2003-58, 2003-1 CB 959.
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Exclusion for employer-provided health care
The Code generally provides that employees are not taxed on
(that is, may exclude from gross income) the value of employer-
provided health coverage under an accident or health plan.\832\
In addition, any reimbursements under an accident or health
plan for medical care expenses for employees, their spouses,
and their dependents generally are excluded from gross
income.\833\ An employer may agree to reimburse expenses for
medical care of its employees (and their spouses and
dependents), not covered by a health insurance plan, through a
flexible spending arrangement (``FSA'') which allows
reimbursement not in excess of a specified dollar amount. Such
dollar amount is either elected by an employee under a
cafeteria plan (``Health FSA'') or otherwise specified by the
employer under an HRA. Reimbursements under these arrangements
are also excludible from gross income as employer-provided
health coverage. The general definition of medical care without
the explicit limitation on medicine applies for purposes of the
exclusion for employer-provided health coverage and medical
care.\834\ Thus, under an HRA or under a Health FSA, amounts
paid for prescription and over-the-counter medicine are treated
as medical expenses, and reimbursements for such amounts are
excludible from gross income.
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\832\ Sec 106.
\833\ Sec. 105(b).
\834\ Sec. 105(b) provides that reimbursements for medical care
within the meaning of section 213(d) pursuant to employer-provided
health coverage are excludible from gross income. The definition of
medical care in section 213(d) does not include the prescription drug
limitation in section 213(b).
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Medical savings arrangements
Present law provides that individuals with a high
deductible health plan (and generally no other health plan)
purchased either through the individual market or through an
employer may establish and make tax-deductible contributions to
a health savings account (``HSA'').\835\ Subject to certain
limitations,\836\ contributions made to an HSA by an employer,
including contributions made through a cafeteria plan through
salary reduction, are excluded from income (and from wages for
payroll tax purposes). Contributions made by individuals are
deductible for income tax purposes, regardless of whether the
individuals itemize. Distributions from an HSA that are used
for qualified medical expenses are excludible from gross
income.\837\ The general definition of medical care without the
explicit limitation on medicine also applies for purposes of
this exclusion.\838\ Similar rules apply for another type of
medical savings arrangement called an Archer MSA.\839\ Thus, a
distribution from a HSA or an Archer MSA used to purchase over-
the-counter medicine also is excludible as an amount used for
qualified medical expenses.
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\835\ Sec. 223.
\836\ For 2009, the maximum aggregate annual contribution that can
be made to an HSA is $3,000 in the case of self-only coverage and
$5,950 in the case of family coverage ($3,050 and $6,150 for 2010). The
annual contribution limits are increased for individuals who have
attained age 55 by the end of the taxable year (referred to as ``catch-
up contributions''). In the case of policyholders and covered spouses
who are age 55 or older, the HSA annual contribution limit is greater
than the otherwise applicable limit by $1,000 in 2009 and thereafter.
Contributions, including catch-up contributions, cannot be made once an
individual is enrolled in Medicare.
\837\ Sec. 223(f).
\838\ Sec. 223(d)(2).
\839\ Sec. 220.
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Explanation of Provision
Under the provision, with respect to medicines, the
definition of medical expense for purposes of employer-provided
health coverage (including HRAs and Health FSAs), HSAs, and
Archer MSAs, is conformed to the definition for purposes of the
itemized deduction for medical expenses, except that prescribed
drug is determined without regard to whether the drug is
available without a prescription. Thus, under the provision,
the cost of over-the-counter medicines may not be reimbursed
with excludible income through a Health FSA, HRA, HSA, or
Archer MSA, unless the medicine is prescribed by a physician.
Effective Date
The provision is effective for expenses incurred after
December 31, 2010.
D. Increase in Additional Tax on Distributions from HSAs Not Used for
Medical Expenses (sec. 9004 of the Act and secs. 220 and 223 of the
Code)
Present Law
Health savings account
Present law provides that individuals with a high
deductible health plan (and generally no other health plan) may
establish and make tax-deductible contributions to a health
savings account (``HSA'').\840\ An HSA is a tax-exempt account
held by a trustee or custodian for the benefit of the
individual. An HSA is subject to a condition that the
individual is covered under a high deductible health plan
(purchased either through the individual market or through an
employer). The decision to create and fund an HSA is made on an
individual-by-individual basis and does not require any action
on the part of the employer.
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\840\ An individual with other coverage in addition to a high
deductible health plan is still eligible for an HSA if such other
coverage is ``permitted insurance'' or ``permitted coverage.''
Permitted insurance is: (1) insurance if substantially all of the
coverage provided under such insurance relates to (a) liabilities
incurred under worker's compensation law, (b) tort liabilities, (c)
liabilities relating to ownership or use of property (e.g., auto
insurance), or (d) such other similar liabilities as the Secretary may
prescribe by regulations; (2) insurance for a specified disease or
illness; and (3) insurance that provides a fixed payment for
hospitalization. Permitted coverage is coverage (whether provided
through insurance or otherwise) for accidents, disability, dental care,
vision care, or long-term care. With respect to coverage for years
beginning after December 31, 2006, certain coverage under a Health FSA
is disregarded in determining eligibility for an HSA.
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Subject to certain limitations, contributions made to an
HSA by an employer, including contributions made through a
cafeteria plan through salary reduction, are excluded from
income (and from wages for payroll tax purposes). Contributions
made by individuals are deductible for income tax purposes,
regardless of whether the individuals itemize their deductions
on their tax return (rather than claiming the standard
deduction). Income from investments made in HSAs is not taxable
and the overall income is not taxable upon disbursement for
medical expenses.
For 2010, the maximum aggregate annual contribution that
can be made to an HSA is $3,050 in the case of self-only
coverage and $6,150 in the case of family coverage. The annual
contribution limits are increased for individuals who have
attained age 55 by the end of the taxable year (referred to as
``catch-up contributions''). In the case of policyholders and
covered spouses who are age 55 or older, the HSA annual
contribution limit is greater than the otherwise applicable
limit by $1,000 in 2010 and thereafter. Contributions,
including catch-up contributions, cannot be made once an
individual is enrolled in Medicare.
A high deductible health plan is a health plan that has an
annual deductible that is at least $1,200 for self-only
coverage or $2,400 for family coverage for 2010 and that limits
the sum of the annual deductible and other payments that the
individual must make with respect to covered benefits to no
more than $5,950 in the case of self-only coverage and $11,900
in the case of family coverage for 2010.
Distributions from an HSA that are used for qualified
medical expenses are excludible from gross income.
Distributions from an HSA that are not used for qualified
medical expenses are includible in gross income. An additional
10 percent tax is added for all HSA disbursements not made for
qualified medical expenses. The additional 10-percent tax does
not apply, however, if the distribution is made after death,
disability, or attainment of age of Medicare eligibility
(currently, age 65). Unlike reimbursements from a flexible
spending arrangement or health reimbursement arrangement,
distributions from an HSA are not required to be substantiated
by the employer or a third party for the distributions to be
excludible from income.
As in the case of individual retirement arrangements,\841\
the individual is the beneficial owner of his or her HSA, and
thus the individual is required to maintain books and records
with respect to the expense and claim the exclusion for a
distribution from the HSA on their tax return. The
determination of whether the distribution is for a qualified
medical expense is subject to individual self-reporting and IRS
enforcement.
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\841\ Sec. 408.
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Archer medical savings account
An Archer MSA is also a tax-exempt trust or custodial
account to which tax-deductible contributions may be made by
individuals with a high deductible health plan.\842\ Archer
MSAs provide tax benefits similar to, but generally not as
favorable as, those provided by HSAs for individuals covered by
high deductible health plans. The main differences include: (1)
only self-employed individuals and employees of small employers
are eligible to have an Archer MSA; (2) for Archer MSA
purposes, a high deductible health plan is a health plan with
(a) an annual deductible for 2010 of at least $2,000 and no
more than $3,000 in the case of self-only coverage and at least
$4,050 and no more than $6,050 in the case of family coverage
and (b) maximum out-of pocket expenses for 2010 of no more than
$4,050 in the case of self-only coverage and no more than
$7,400 in the case of family coverage; and (3) the additional
tax on distributions not used for medical expenses is 15
percent rather than 10 percent. After 2007, no new
contributions can be made to Archer MSAs except by or on behalf
of individuals who previously had made Archer MSA contributions
and employees who are employed by a participating employer.
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\842\ Sec. 220.
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Explanation of Provision
The additional tax on distributions from an HSA or an
Archer MSA that are not used for qualified medical expenses is
increased to 20 percent of the disbursed amount.
Effective Date
The change is effective for disbursements made during tax
years starting after December 31, 2010.
E. Limitation on Health Flexible Spending Arrangements under Cafeteria
Plans (sec. 9005 \843\ of the Act and sec. 125 of the Code)
Present law
Exclusion from income for employer-provided health coverage
The Code generally provides that the value of employer-
provided health coverage under an accident or health plan is
excludible from gross income.\844\ In addition, any
reimbursements under an accident or health plan for medical
care expenses for employees, their spouses, and their
dependents generally are excluded from gross income.\845\ The
exclusion applies both to health coverage in the case in which
an employer absorbs the cost of employees' medical expenses not
covered by insurance (i.e., a self-insured plan) as well as in
the case in which the employer purchases health insurance
coverage for its employees. There is no limit on the amount of
employer-provided health coverage that is excludible. A similar
rule excludes employer-provided health insurance coverage from
the employees' wages for payroll tax purposes.\846\
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\843\ Section 9005 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10902, is further
amended by section 1403 of the Health Care and Education Reconciliation
Act of 2010, Pub. L. No. 111-152.
\844\ Sec. 106. Health coverage provided to active members of the
uniformed services, military retirees, and their dependents are
excludable under section 134. That section provides an exclusion for
``qualified military benefits,'' defined as benefits received by reason
of status or service as a member of the uniformed services and which
were excludable from gross income on September 9, 1986, under any
provision of law, regulation, or administrative practice then in
effect.
\845\ Sec. 105(b).
\846\ Secs. 3121(a)(2), and 3306(a)(2). See also section 3231(e)(1)
for a similar rule with respect to compensation for purposes of
Railroad Retirement Tax.
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Employers may also provide health coverage in the form of
an agreement to reimburse medical expenses of their employees
(and their spouses and dependents), not reimbursed by a health
insurance plan, through flexible spending arrangements which
allow reimbursement for medical care not in excess of a
specified dollar amount (either elected by an employee under a
cafeteria plan or otherwise specified by the employer). Health
coverage provided in the form of one of these arrangements is
also excludible from gross income as employer-provided health
coverage under an accident or health plan.\847\
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\847\ Sec. 106.
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Qualified benefits
Qualified benefits under a cafeteria plan are generally
employer-provided benefits that are not includable in gross
income under an express provision of the Code. Examples of
qualified benefits include employer-provided health coverage,
group term life insurance coverage not in excess of $50,000,
and benefits under a dependent care assistance program. In
order to be excludable, any qualified benefit elected under a
cafeteria plan must independently satisfy any requirements
under the Code section that provides the exclusion. However,
some employer-provided benefits that are not includable in
gross income under an express provision of the Code are
explicitly not allowed in a cafeteria plan. These benefits are
generally referred to as nonqualified benefits. Examples of
nonqualified benefits include scholarships; \848\ employer-
provided meals and lodging; \849\ educational assistance; \850\
and fringe benefits.\851\ A plan offering any nonqualified
benefit is not a cafeteria plan.\852\
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\848\ Sec. 117.
\849\ Sec. 119.
\850\ Sec. 127.
\851\ Sec. 132.
\852\ Prop. Treas. Reg. sec. 1.125-1(q). Long-term care services,
contributions to Archer Medical Savings Accounts, group term life
insurance for an employee's spouse, child or dependent, and elective
deferrals to section 403(b) plans are also nonqualified benefits.
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Flexible spending arrangement under a cafeteria plan
A flexible spending arrangement for medical expenses under
a cafeteria plan (``Health FSA'') is health coverage in the
form of an unfunded arrangement under which employees are given
the option to reduce their current cash compensation and
instead have the amount of the salary reduction contributions
made available for use in reimbursing the employee for his or
her medical expenses.\853\ Health FSAs are subject to the
general requirements for cafeteria plans, including a
requirement that amounts remaining under a Health FSA at the
end of a plan year must be forfeited by the employee (referred
to as the ``use-it-or-lose-it rule'').\854\ A Health FSA is
permitted to allow a grace period not to exceed two and one-
half months immediately following the end of the plan year
during which unused amounts may be used.\855\ A Health FSA can
also include employer flex-credits which are non-elective
employer contributions that the employer makes for every
employee eligible to participate in the employer's cafeteria
plan, to be used only for one or more tax excludible qualified
benefits (but not as cash or a taxable benefit).\856\
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\853\ Sec. 125 and Prop. Treas. Reg. sec. 1.125-5.
\854\ Sec. 125(d)(2) and Prop. Treas. Reg. sec. 1.125-5(c).
\855\ Notice 2005-42, 2005-1 C.B. 1204 and Prop. Treas. Reg. sec.
1.125-1(e).
\856\ Prop. Treas. Reg. sec. 1-125-5(b).
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A flexible spending arrangement including a Health FSA
(under a cafeteria plan) is generally distinguishable from
other employer-provided health coverage by the relationship
between the value of the coverage for a year and the maximum
amount of reimbursement reasonably available during the same
period. A flexible spending arrangement for health coverage
generally is defined as a benefit program which provides
employees with coverage under which specific incurred medical
care expenses may be reimbursed (subject to reimbursement
maximums and other conditions) and the maximum amount of
reimbursement reasonably available is less than 500 percent of
the value of such coverage.\857\
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\857\ Sec. 106(c)(2) and Prop. Treas. Reg. sec. 1.125-5(a).
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Health reimbursement arrangement
Rather than offering a Health FSA through a cafeteria plan,
an employer may specify a dollar amount that is available for
medical expense reimbursement. These arrangements are commonly
called HRAs. Some of the rules applicable to HRAs and Health
FSAs are similar (e.g., the amounts in the arrangements can
only be used to reimburse medical expenses and not for other
purposes), but the rules are not identical. In particular, HRAs
cannot be funded on a salary reduction basis and the use-it-or-
lose-it rule does not apply. Thus, amounts remaining at the end
of the year may be carried forward to be used to reimburse
medical expenses in following years.\858\
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\858\ Guidance with respect to HRAs, including the interaction of
FSAs and HRAs in the case of an individual covered under both, is
provided in Notice 2002-45, 2002-2 C.B. 93.
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Explanation of Provision
Under the provision, in order for a Health FSA to be a
qualified benefit under a cafeteria plan, the maximum amount
available for reimbursement of incurred medical expenses of an
employee, the employee's dependents, and any other eligible
beneficiaries with respect to the employee, under the Health
FSA for a plan year (or other 12-month coverage period) must
not exceed $2,500.\859\ The $2,500 limitation is indexed to
CPI-U, with any increase that is not a multiple of $50 rounded
to the next lowest multiple of $50 for years beginning after
December 31, 2013.
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\859\ The provision does not change the present law treatment as
described in Prop. Treas. Reg. section 1.125-5 for dependent care
flexible spending arrangements or adoption assistance flexible spending
arrangements.
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A cafeteria plan that does not include this limitation on
the maximum amount available for reimbursement under any FSA is
not a cafeteria plan within the meaning of section 125. Thus,
when an employee is given the option under a cafeteria plan
maintained by an employer to reduce his or her current cash
compensation and instead have the amount of the salary
reduction be made available for use in reimbursing the employee
for his or her medical expenses under a Health FSA, the amount
of the reduction in cash compensation pursuant to a salary
reduction election must be limited to $2,500 for a plan year.
It is intended that regulations would require all cafeteria
plans of an employer to be aggregated for purposes of applying
this limit. The employer for this purpose is determined after
applying the employer aggregation rules in section 414(b), (c),
(m), and (o).\860\ In the event of a plan year or coverage
period that is less than 12 months, it is intended that the
limit be required to be prorated.
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\860\ Section 414(b) provides that, for specified employee benefit
purposes, all employees of all corporations which are members of a
controlled group of corporations are treated as employed by a single
employer. There is a similar rule in section 414(c) under which all
employees of trades or businesses (whether or not incorporated) which
are under common control are treated under regulations as employed by a
single employer, and, in section 414(m), under which employees of an
affiliated service group (as defined in that section) are treated as
employed by a single employer. Section 414(o) authorizes the Treasury
to issue regulations to prevent avoidance of the requirements under
section 414(m). Section 125(g)(4) applies this rule to cafeteria plans.
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The provision does not limit the amount permitted to be
available for reimbursement under employer-provided health
coverage offered through an HRA, including a flexible spending
arrangement within the meaning of section 106(c)(2), that is
not part of a cafeteria plan.
Effective Date
The provision is effective for taxable year beginning after
December 31, 2012.
F. Expansion of Information Reporting Requirements (sec. 9006 of the
Act and sec. 6041 of the Code) \861\
Present Law
Present law imposes a variety of information reporting
requirements on participants in certain transactions.\862\
These requirements are intended to assist taxpayers in
preparing their income tax returns and to help the IRS
determine whether such returns are correct and complete.
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\861\ This description is based upon the discussion at page 334 in
S. Rep. No. 111-89, Final Committee Report of the Senate Finance
Committee on ``America's Healthy Future Act of 2009,'' published
October 21, 2009.
\862\ Secs. 6031 through 6060.
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The primary provision governing information reporting by
payors requires an information return by every person engaged
in a trade or business who makes payments aggregating $600 or
more in any taxable year to a single payee in the course of
that payor's trade or business.\863\ Payments subject to
reporting include fixed or determinable income or compensation,
but do not include payments for goods or certain enumerated
types of payments that are subject to other specific reporting
requirements.\864\ The payor is required to provide the
recipient of the payment with an annual statement showing the
aggregate payments made and contact information for the
payor.\865\ The regulations generally except from reporting,
payments to corporations, exempt organizations, governmental
entities, international organizations, or retirement
plans.\866\ However, the following types of payments to
corporations must be reported: Medical and healthcare payments;
\867\ fish purchases for cash; \868\ attorney's fees; \869\
gross proceeds paid to an attorney; \870\ substitute payments
in lieu of dividends or tax-exempt interest; \871\ and payments
by a Federal executive agency for services.\872\
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\863\ Sec. 6041(a). The information return is generally submitted
electronically as a Form-1099 or Form-1096, although certain payments
to beneficiaries or employees may require use of Forms W-3 or W-2,
respectively. Treas. Reg. sec. 1.6041-1(a)(2).
\864\ Sec. 6041(a) requires reporting as to ``other fixed or
determinable gains, profits, and income (other than payments to which
section 6042(a)(1), 6044(a)(1), 6047(c), 6049(a) or 6050N(a) applies
and other than payments with respect to which a statement is required
under authority of section 6042(a), 6044(a)(2) or 6045)[.]'' These
excepted payments include most interest, royalties, and dividends.
\865\ Sec. 6041(d).
\866\ Treas. Reg. sec. 1.6041-3(p). Certain for-profit health
provider corporations are not covered by this general exception,
including those organizations providing billing services for such
companies.
\867\ Sec. 6050T.
\868\ Sec. 6050R.
\869\ Sec. 6045(f)(1) and (2); Treas. Reg. secs. 1.6041-1(d)(2) and
1.6045-5(d)(5).
\870\ Ibid.
\871\ Sec. 6045(d).
\872\ Sec. 6041(d)(3).
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Failure to comply with the information reporting
requirements results in penalties, which may include a penalty
for failure to file the information return,\873\ and a penalty
for failure to furnish payee statements \874\ or failure to
comply with other various reporting requirements.\875\
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\873\ Sec. 6721. The penalty for the failure to file an information
return generally is $50 for each return for which such failure occurs.
The total penalty imposed on a person for all failures during a
calendar year cannot exceed $250,000. Additionally, special rules apply
to reduce the per-failure and maximum penalty where the failure is
corrected within a specified period.
\874\ Sec. 6722. The penalty for failure to provide a correct payee
statement is $50 for each statement with respect to which such failure
occurs, with the total penalty for a calendar year not to exceed
$100,000. Special rules apply that increase the per-statement and total
penalties where there is intentional disregard of the requirement to
furnish a payee statement.
\875\ Sec. 6723. The penalty for failure to timely comply with a
specified information reporting requirement is $50 per failure, not to
exceed $100,000 for a calendar year.
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Detailed rules are provided for the reporting of various
types of investment income, including interest, dividends, and
gross proceeds from brokered transactions (such as a sale of
stock).\876\ In general, the requirement to file Form 1099
applies with respect to amounts paid to U.S. persons and is
linked to the backup withholding rules of section 3406. Thus, a
payor of interest, dividends or gross proceeds generally must
request that a U.S. payee (other than certain exempt
recipients) furnish a Form W-9 providing that person's name and
taxpayer identification number.\877\ That information is then
used to complete the Form 1099.
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\876\ Secs. 6042 (dividends), 6045 (broker reporting) and 6049
(interest) and the Treasury regulations thereunder.
\877\ See Treas. Reg. sec. 31.3406(h)-3.
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Explanation of Provision
Under the provision, a business is required to file an
information return for all payments aggregating $600 or more in
a calendar year to a single payee (other than a payee that is a
tax-exempt corporation), notwithstanding any regulation
promulgated under section 6041 prior to the date of enactment
(March 23, 2010). The payments to be reported include gross
proceeds paid in consideration for property or services.
However, the provision does not override specific provisions
elsewhere in the Code that except certain payments from
reporting, such as securities or broker transactions as defined
under section 6045(a) and the regulations thereunder.
Effective Date
The provision is effective for payments made after December
31, 2011.
G. Additional Requirements for Charitable Hospitals (sec. 9007 \878\ of
the Act and sec. 501(c), new sec. 4959, and sec. 6033 of the Code)
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\878\ Section 9007 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 10903 of the Patient
Protection and Affordable Care Act, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
Tax exemption
Charitable organizations, i.e., organizations described in
section 501(c)(3), generally are exempt from Federal income
tax, are eligible to receive tax deductible contributions,\879\
have access to tax-exempt financing through State and local
governments (described in more detail below),\880\ and
generally are exempt from State and local taxes. A charitable
organization must operate primarily in pursuit of one or more
tax-exempt purposes constituting the basis of its tax
exemption.\881\ The Code specifies such purposes as religious,
charitable, scientific, educational, literary, testing for
public safety, to foster international amateur sports
competition, or for the prevention of cruelty to children or
animals. In general, an organization is organized and operated
for charitable purposes if it provides relief for the poor and
distressed or the underprivileged.\882\
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\879\ Sec. 170.
\880\ Sec. 145.
\881\ Treas. Reg. sec. 1.501(c)(3)-1(c)(1).
\882\ Treas. Reg. sec. 1.501(c)(3)-1(d)(2).
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The Code does not provide a per se exemption for hospitals.
Rather, a hospital qualifies for exemption if it is organized
and operated for a charitable purpose and otherwise meets the
requirements of section 501(c)(3).\883\ The promotion of health
has been recognized by the IRS as a charitable purpose that is
beneficial to the community as a whole.\884\ It includes not
only the establishment or maintenance of charitable hospitals,
but clinics, homes for the aged, and other providers of health
care.
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\883\ Although nonprofit hospitals generally are recognized as tax-
exempt by virtue of being ``charitable'' organizations, some might
qualify for exemption as educational or scientific organizations
because they are organized and operated primarily for medical education
and research purposes.
\884\ Rev. Rul. 69-545, 1969-2 C.B. 117; see also Restatement
(Second) of Trusts secs. 368, 372 (1959); see Bruce R. Hopkins, The Law
of Tax-Exempt Organizations, sec. 6.3 (8th ed. 2003) (discussing
various forms of health-care providers that may qualify for exemption
under section 501(c)(3)).
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Since 1969, the IRS has applied a ``community benefit''
standard for determining whether a hospital is charitable.\885\
According to Revenue Ruling 69-545, community benefit can
include, for example: maintaining an emergency room open to all
persons regardless of ability to pay; having an independent
board of trustees composed of representatives of the community;
operating with an open medical staff policy, with privileges
available to all qualifying physicians; providing charity care;
and utilizing surplus funds to improve the quality of patient
care, expand facilities, and advance medical training,
education and research. Beginning in 2009, hospitals generally
are required to submit information on community benefit on
their annual information returns filed with the IRS.\886\
Present law does not include sanctions short of revocation of
tax-exempt status for hospitals that fail to satisfy the
community benefit standard.
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\885\ Rev. Rul. 69-545, 1969-2 C.B. 117. From 1956 until 1969, the
IRS applied a ``financial ability'' standard, requiring that a
charitable hospital be ``operated to the extent of its financial
ability for those not able to pay for the services rendered and not
exclusively for those who are able and expected to pay.'' Rev. Rul. 56-
185, 1956-1 C.B. 202.
\886\ IRS Form 990, Schedule H.
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Although section 501(c)(3) hospitals generally are exempt
from Federal tax on their net income, such organizations are
subject to the unrelated business income tax on income derived
from a trade or business regularly carried on by the
organization that is not substantially related to the
performance of the organization's tax-exempt functions.\887\ In
general, interest, rents, royalties, and annuities are excluded
from the unrelated business income of tax-exempt
organizations.\888\
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\887\ Secs. 511-514.
\888\ Sec. 512(b).
---------------------------------------------------------------------------
Charitable contributions
In general, a deduction is permitted for charitable
contributions, including charitable contributions to tax-exempt
hospitals, subject to certain limitations that depend on the
type of taxpayer, the property contributed, and the donee
organization. The amount of deduction generally equals the fair
market value of the contributed property on the date of the
contribution. Charitable deductions are provided for income,
estate, and gift tax purposes.\889\
---------------------------------------------------------------------------
\889\ Secs. 170, 2055, and 2522, respectively.
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Tax-exempt financing
In addition to issuing tax-exempt bonds for government
operations and services, State and local governments may issue
tax-exempt bonds to finance the activities of charitable
organizations described in section 501(c)(3). Because interest
income on tax-exempt bonds is excluded from gross income,
investors generally are willing to accept a lower pre-tax rate
of return on such bonds than they might otherwise accept on a
taxable investment. This, in turn, lowers the cost of capital
for the users of such financing. Both capital expenditures and
limited working capital expenditures of charitable
organizations described in section 501(c)(3) generally may be
financed with tax-exempt bonds. Private, nonprofit hospitals
frequently are the beneficiaries of this type of financing.
Bonds issued by State and local governments may be
classified as either governmental bonds or private activity
bonds. Governmental bonds are bonds the proceeds of which are
primarily used to finance governmental functions or which are
repaid with governmental funds. Private activity bonds are
bonds in which the State or local government serves as a
conduit providing financing to nongovernmental persons (e.g.,
private businesses or individuals). For these purposes, the
term ``nongovernmental person'' generally includes the Federal
government and all other individuals and entities other than
States or local governments, including section 501(c)(3)
organizations. The exclusion from income for interest on State
and local bonds does not apply to private activity bonds,
unless the bonds are issued for certain permitted purposes
(``qualified private activity bonds'') and other Code
requirements are met.
Reporting and disclosure requirements
Exempt organizations are required to file an annual
information return, stating specifically the items of gross
income, receipts, disbursements, and such other information as
the Secretary may prescribe.\890\ Section 501(c)(3)
organizations that are classified as public charities must file
Form 990 (Return of Organization Exempt From Income Tax),\891\
including Schedule A, which requests information specific to
section 501(c)(3) organizations. Additionally, an organization
that operates at least one facility that is, or is required to
be, licensed, registered, or similarly recognized by a state as
a hospital must complete Schedule H (Form 990), which requests
information regarding charity care, community benefits, bad
debt expense, and certain management company and joint venture
arrangements of a hospital.
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\890\ Sec. 6033(a). An organization that has not received a
determination of its tax-exempt status, but that claims tax-exempt
status under section 501(a), is subject to the same annual reporting
requirements and exceptions as organizations that have received a tax-
exemption determination.
\891\ Social welfare organizations, labor organizations,
agricultural organizations, horticultural organizations, and business
leagues are subject to the generally applicable Form 990, Form 990-EZ,
and Form 990-T annual filing requirements.
---------------------------------------------------------------------------
An organization described in section 501(c) or (d)
generally is also required to make available for public
inspection for a period of three years a copy of its annual
information return (Form 990) and exemption application
materials.\892\ This requirement is satisfied if the
organization has made the annual return and exemption
application widely available (e.g., by posting such information
on its website).\893\
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\892\ Sec. 6104(d).
\893\ Sec. 6104(d)(4); Treas. Reg. sec. 301.6104(d)-2(b).
---------------------------------------------------------------------------
Explanation of Provision
Additional requirements for section 501(c)(3) hospitals \894\
---------------------------------------------------------------------------
\894\ No inference is intended regarding whether an organization
satisfies the present law community benefit standard.
---------------------------------------------------------------------------
In general
The provision establishes new requirements applicable to
section 501(c)(3) hospitals. The new requirements are in
addition to, and not in lieu of, the requirements otherwise
applicable to an organization described in section 501(c)(3).
The requirements generally apply to any section 501(c)(3)
organization that operates at least one hospital facility. For
purposes of the provision, a hospital facility generally
includes: (1) any facility that is, or is required to be,
licensed, registered, or similarly recognized by a State as a
hospital; and (2) any other facility or organization the
Secretary of the Treasury (the ``Secretary''), in consultation
with the Secretary of HHS and after public comment, determines
has the provision of hospital care as its principal purpose. To
qualify for tax exemption under section 501(c)(3), an
organization subject to the provision is required to comply
with the following requirements with respect to each hospital
facility operated by such organization.
Community health needs assessment
Each hospital facility is required to conduct a community
health needs assessment at least once every three taxable years
and adopt an implementation strategy to meet the community
needs identified through such assessment. The assessment may be
based on current information collected by a public health
agency or non-profit organizations and may be conducted
together with one or more other organizations, including
related organizations. The assessment process must take into
account input from persons who represent the broad interests of
the community served by the hospital facility, including those
with special knowledge or expertise of public health issues.
The hospital must disclose in its annual information report to
the IRS (i.e., Form 990 and related schedules) how it is
addressing the needs identified in the assessment and, if all
identified needs are not addressed, the reasons why (e.g., lack
of financial or human resources). Each hospital facility is
required to make the assessment widely available. Failure to
complete a community health needs assessment in any applicable
three-year period results in a penalty on the organization
equal to $50,000. For example, if a facility does not complete
a community health needs assessment in taxable years one, two
or three, it is subject to the penalty in year three. If it
then fails to complete a community health needs assessment in
year four, it is subject to another penalty in year four (for
failing to satisfy the requirement during the three-year period
beginning with taxable year two and ending with taxable year
four). An organization that fails to disclose how it is meeting
needs identified in the assessment is subject to existing
incomplete return penalties.\895\
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\895\ Sec. 6652.
---------------------------------------------------------------------------
Financial assistance policy
Each hospital facility is required to adopt, implement, and
widely publicize a written financial assistance policy. The
financial assistance policy must indicate the eligibility
criteria for financial assistance and whether such assistance
includes free or discounted care. For those eligible for
discounted care, the policy must indicate the basis for
calculating the amounts that will be billed to such patients.
The policy must also indicate how to apply for such assistance.
If a hospital does not have a separate billing and collections
policy, the financial assistance policy must also indicate what
actions the hospital may take in the event of non-response or
non-payment, including collections action and reporting to
credit rating agencies. Each hospital facility also is required
to adopt and implement a policy to provide emergency medical
treatment to individuals. The policy must prevent
discrimination in the provision of emergency medical treatment,
including denial of service, against those eligible for
financial assistance under the facility's financial assistance
policy or those eligible for government assistance.
Limitation on charges
Each hospital facility is permitted to bill for emergency
or other medically necessary care provided to individuals who
qualify for financial assistance under the facility's financial
assistance policy no more than the amounts generally billed to
individuals who have insurance covering such care. A hospital
facility may not use gross charges (i.e., ``chargemaster''
rates) when billing individuals who qualify for financial
assistance. It is intended that amounts billed to those who
qualify for financial assistance may be based on either the
best, or an average of the three best, negotiated commercial
rates, or Medicare rates.
Collection processes
Under the provision, a hospital facility (or its
affiliates) may not undertake extraordinary collection actions
(even if otherwise permitted by law) against an individual
without first making reasonable efforts to determine whether
the individual is eligible for assistance under the hospital's
financial assistance policy. Such extraordinary collection
actions include lawsuits, liens on residences, arrests, body
attachments, or other similar collection processes. The
Secretary is directed to issue guidance concerning what
constitutes reasonable efforts to determine eligibility. It is
intended that for this purpose, ``reasonable efforts'' includes
notification by the hospital of its financial assistance policy
upon admission and in written and oral communications with the
patient regarding the patient's bill, including invoices and
telephone calls, before collection action or reporting to
credit rating agencies is initiated.
Reporting and disclosure requirements
The provision includes new reporting and disclosure
requirements. Under the provision, the Secretary or the
Secretary's delegate is required to review information about a
hospital's community benefit activities (currently reported on
Form 990, Schedule H) at least once every three years. The
provision also requires each organization to which the
provision applies to file with its annual information return
(i.e., Form 990) a copy of its audited financial statements
(or, in the case of an organization the financial statements of
which are included in a consolidated financial statement with
other organizations, such consolidated financial statements).
The provision requires the Secretary, in consultation with
the Secretary of HHS, to submit annually a report to Congress
with information regarding the levels of charity care, bad debt
expenses, unreimbursed costs of means-tested government
programs, and unreimbursed costs of non-means tested government
programs incurred by private tax-exempt, taxable, and
governmental hospitals, as well as the costs incurred by
private tax-exempt hospitals for community benefit activities.
In addition, the Secretary, in consultation with the Secretary
of HHS, must conduct a study of the trends in these amounts,
and submit a report on such study to Congress not later than
five years from date of enactment (March 23, 2010).
Effective Date
Except as provided below, the provision is effective for
taxable years beginning after the date of enactment (March 23,
2010). The community health needs assessment requirement is
effective for taxable years beginning after the date which is
two years after the date of enactment (March 23, 2010).\896\
The excise tax on failures to satisfy the community health
needs assessment requirement is effective for failures
occurring after the date of enactment (March 23, 2010).
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\896\ For example, assume the date of enactment is April 1, 2010. A
calendar year taxpayer would test whether it meets the community health
needs assessment requirement in the taxable year ending December 31,
2013. To avoid the penalty, the taxpayer must have satisfied the
community health needs assessment requirements in 2011, 2012, or 2013.
---------------------------------------------------------------------------
H. Imposition of Annual Fee on Branded Prescription Pharmaceutical
Manufacturers and Importers (sec. 9008 \897\ of the Act)
Present Law
There are two Medicare trust funds under present law, the
Hospital Insurance (``HI'') fund and the Supplementary Medical
Insurance (``SMI'') fund.\898\ The HI trust fund is primarily
funded through payroll tax on covered earnings. Employers and
employees each pay 1.45 percent of wages, while self-employed
workers pay 2.9 percent of a portion of their net earnings from
self-employment. Other HI trust fund revenue sources include a
portion of the Federal income taxes paid on Social Security
benefits, and interest paid on the U.S. Treasury securities
held in the HI trust fund. For the SMI trust fund, transfers
from the general fund of the Treasury represent the largest
source of revenue, but additional revenues include monthly
premiums paid by beneficiaries, and interest paid on the U.S.
Treasury securities held in the SMI trust fund.
---------------------------------------------------------------------------
\897\ Section 9008 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 1404 of the Health Care
and Education Reconciliation Act of 2010, Pub. L. No. 111-152.
\898\ See 2009 Annual Report of the Boards of Trustees of the
Federal Hospital Insurance and Federal Supplementary Medical Insurance
Trust Funds, available at http://www.cms.hhs.gov/ReportsTrustFunds/
downloads/tr2009.pdf.
---------------------------------------------------------------------------
Present law does not impose a fee creditable to the
Medicare trust funds on companies that manufacture or import
prescription drugs for sale in the United States.
Explanation of Provision
The provision imposes a fee on each covered entity engaged
in the business of manufacturing or importing branded
prescription drugs for sale to any specified government program
or pursuant to coverage under any such program for each
calendar year beginning after 2010. Fees collected under the
provision are credited to the Medicare Part B trust fund.
The aggregate annual fee for all covered entities is the
applicable amount. The applicable amount is $2.5 billion for
calendar year 2011, $2.8 billion for calendar years 2012 and
2013, $3 billion for calendar years 2014 through 2016, $4
billion for calendar year 2017, $4.1 billion for calendar year
2018, and $2.8 billion for calendar year 2019 and thereafter.
The aggregate fee is apportioned among the covered entities
each year based on such entity's relative share of branded
prescription drug sales taken into account during the previous
calendar year. The Secretary of the Treasury will establish an
annual payment date that will be no later than September 30 of
each calendar year.
The Secretary of the Treasury will calculate the amount of
each covered entity's fee for each calendar year by determining
the relative market share for each covered entity. A covered
entity's relative market share for a calendar year is the
covered entity's branded prescription drug sales taken into
account during the preceding calendar year as a percentage of
the aggregate branded prescription drug sales of all covered
entities taken into account during the preceding calendar year.
The percentage of branded prescription drug sales that are
taken into account during any calendar year with respect to any
covered entity is: (1) zero percent of sales not more than $5
million, (2) 10 percent of sales over $5 million but not more
than $125 million, (3) 40 percent of sales over $125 million
but not more than $225 million, (4) 75 percent of sales over
$225 million but not more than $400 million, and (5) 100
percent of sales over $400 million.
For purposes of the provision, a covered entity is any
manufacturer or importer with gross receipts from branded
prescription drug sales. All persons treated as a single
employer under section 52(a) or (b) or under section 414(m) or
414(o) will be treated as a single covered entity for purposes
of the provision. In applying the single employer rules under
52(a) and (b), foreign corporations will not be excluded. If
more than one person is liable for payment of the fee imposed
by this provision, all such persons are jointly and severally
liable for payment of such fee. It is anticipated that the
Secretary may require each covered entity to identify each
member of the group that is treated as a single covered entity
under the provision.
Under the provision, branded prescription drug sales are
sales of branded prescription drugs made to any specified
government program or pursuant to coverage under any such
program. The term branded prescription drugs includes any drug
which is subject to section 503(b) of the Federal Food, Drug,
and Cosmetic Act and for which an application was submitted
under section 505(b) of such Act, and any biological product
the license for which was submitted under section 351(a) of the
Public Health Service Act. Branded prescription drug sales, as
defined under the provision, does not include sales of any drug
or biological product with respect to which an orphan drug tax
credit was allowed for any taxable year under section 45C. The
exception for orphan drug sales does not apply to any drug or
biological product after such drug or biological product is
approved by the Food and Drug Administration for marketing for
any indication other than the rare disease or condition with
respect to which the section 45C credit was allowed.
Specified government programs under the provision are: (1)
the Medicare Part D program under part D of title XVIII of the
Social Security Act; (2) the Medicare Part B program under part
B of title XVIII of the Social Security Act; (3) the Medicaid
program under title XIX of the Social Security Act; (4) any
program under which branded prescription drugs are procured by
the Department of Veterans Affairs; (5) any program under which
branded prescription drugs are procured by the Department of
Defense; and (6) the TRICARE retail pharmacy program under
section 1074g of title 10, United States Code.
The Secretary of HHS, the Secretary of Veterans Affairs,
and the Secretary of Defense will report to the Secretary of
the Treasury, at a time and in such a manner as the Secretary
of the Treasury prescribes, the total branded prescription drug
sales for each covered entity with respect to each specified
government program under such Secretary's jurisdiction. The
provision includes specific information to be included in the
reports by the respective Secretaries for each specified
government program.
The fees imposed under the provision are treated as excise
taxes with respect to which only civil actions for refunds
under the provisions of subtitle F will apply. Thus, the fees
may be assessed and collected using the procedures in subtitle
F without regard to the restrictions on assessment in section
6213.
The Secretary of the Treasury has authority to publish
guidance as necessary to carry out the purposes of this
provision.\899\ It is anticipated that the Secretary of the
Treasury will publish guidance related to the determination of
the fee under this section. For example, the Secretary may
publish initial determinations, allow a notice and comment
period, and then provide notice and demand for payment of the
fee. It is also anticipated that the Secretary of the Treasury
will provide guidance as to the determination of the fee in
situations involving mergers, acquisitions, business divisions,
bankruptcy, or any other situations where guidance is necessary
to account for sales taken into account for determining the fee
for any calendar year.
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\899\ Notice 2010-71 provided initial guidance on the annual fee
imposed under this provision, including procedures for filing Form
8947, Report of Branded Prescription Drug Information. Notice 2011-9
supersedes Notice 2010-71 and provides guidance on the methodology that
will be used for calculating the allocation of the branded prescription
drug fee and requests public comments.
---------------------------------------------------------------------------
The fees imposed under the provision are not deductible for
U.S. income tax purposes.
Effective Date
The provision is effective for calendar years beginning
after December 31, 2010.
I. Imposition of Annual Fee on Medical Device Manufacturers and
Importers (sec. 9009 \900\ of the Act)
---------------------------------------------------------------------------
\900\ Section 9009 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is repealed by section 1405(d) of the Health
Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Repeal
The provision of the Patient Protection and Affordable Care
Act imposing an annual fee on manufacturers and importers of
medical devices is repealed by the Health Care and Education
Reconciliation Act of 2010.
Effective Date
The repeal is effective as of the date of enactment (March
23, 2010) of the Patient Protection and Affordable Care Act.
J. Imposition of Annual Fee on Health Insurance Providers (sec. 9010
\901\ of the Act)
---------------------------------------------------------------------------
\901\ Section 9010 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10905, is further
amended by section 1406 of the Health Care and Education Reconciliation
Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
Present law provides special rules for determining the
taxable income of insurance companies (subchapter L of the
Code). Separate sets of rules apply to life insurance companies
and to property and casualty insurance companies. Insurance
companies are subject to Federal income tax at regular
corporate income tax rates.
An insurance company that provides health insurance is
subject to Federal income tax as either a life insurance
company or as a property insurance company, depending on its
mix of lines of business and on the resulting portion of its
reserves that are treated as life insurance reserves. For
Federal income tax purposes, an insurance company is treated as
a life insurance company if the sum of its (1) life insurance
reserves and (2) unearned premiums and unpaid losses on
noncancellable life, accident or health contracts not included
in life insurance reserves, comprise more than 50 percent of
its total reserves.\902\
---------------------------------------------------------------------------
\902\ Sec. 816(a).
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Some insurance providers may be exempt from Federal income
tax under section 501(a) if specific requirements are
satisfied. Section 501(c)(8), for example, describes certain
fraternal beneficiary societies, orders, or associations
operating under the lodge system or for the exclusive benefit
of their members that provide for the payment of life, sick,
accident, or other benefits to the members or their dependents.
Section 501(c)(9) describes certain voluntary employees'
beneficiary associations that provide for the payment of life,
sick, accident, or other benefits to the members of the
association or their dependents or designated beneficiaries.
Section 501(c)(12)(A) describes certain benevolent life
insurance associations of a purely local character. Section
501(c)(15) describes certain small non-life insurance companies
with annual gross receipts of no more than $600,000 ($150,000
in the case of a mutual insurance company). Section 501(c)(26)
describes certain membership organizations established to
provide health insurance to certain high-risk individuals.
Section 501(c)(27) describes certain organizations established
to provide workmen's compensation insurance.
An excise tax applies to premiums paid to foreign insurers
and reinsurers covering U.S. risks.\903\ The excise tax is
imposed on a gross basis at the rate of one percent on
reinsurance and life insurance premiums, and at the rate of
four percent on property and casualty insurance premiums. The
excise tax does not apply to premiums that are effectively
connected with the conduct of a U.S. trade or business or that
are exempted from the excise tax under an applicable income tax
treaty. The excise tax paid by one party cannot be credited if,
for example, the risk is reinsured with a second party in a
transaction that is also subject to the excise tax.
---------------------------------------------------------------------------
\903\ Secs. 4371-4374.
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IRS authority to assess and collect taxes is generally
provided in subtitle F of the Code (secs. 6001-7874), relating
to procedure and administration. That subtitle establishes the
rules governing both how taxpayers are required to report
information to the IRS and to pay their taxes, as well as their
rights. It also establishes the duties and authority of the IRS
to enforce the Federal tax law, and sets forth rules relating
to judicial proceedings involving Federal tax.
Explanation of Provision
Under the provision, an annual fee applies to any covered
entity engaged in the business of providing health insurance
with respect to United States health risks. The fee applies for
calendar years beginning after 2013. The aggregate annual fee
for all covered entities is the applicable amount. The
applicable amount is $8 billion for calendar year 2014, $11.3
billion for calendar years 2015 and 2016, $13.9 billion for
calendar year 2017, and $14.3 billion for calendar year 2018.
For calendar years after 2018, the applicable amount is indexed
to the rate of premium growth.
The annual payment date for a calendar year is determined
by the Secretary of the Treasury, but in no event may be later
than September 30 of that year.
Under the provision, the aggregate annual fee is
apportioned among the providers based on a ratio designed to
reflect relative market share of U.S. health insurance
business. For each covered entity, the fee for a calendar year
is an amount that bears the same ratio to the applicable amount
as (1) the covered entity's net premiums written during the
preceding calendar year with respect to health insurance for
any United States health risk, bears to (2) the aggregate net
written premiums of all covered entities during such preceding
calendar year with respect to such health insurance.
The provision requires the Secretary of the Treasury to
calculate the amount of each covered entity's fee for the
calendar year, determining the covered entity's net written
premiums for the preceding calendar year with respect to health
insurance for any United States health risk on the basis of
reports submitted by the covered entity and through the use of
any other source of information available to the Treasury
Department. It is intended that the Treasury Department be able
to rely on published aggregate annual statement data to the
extent necessary, and may use annual statement data and filed
annual statements that are publicly available to verify or
supplement the reports submitted by covered entities.
Net written premiums is intended to mean premiums written,
including reinsurance premiums written, reduced by reinsurance
ceded, and reduced by ceding commissions. Net written premiums
do not include amounts arising under arrangements that are not
treated as insurance (i.e., in the absence of sufficient risk
shifting and risk distribution for the arrangement to
constitute insurance).\904\
---------------------------------------------------------------------------
\904\ See Helvering v. Le Gierse, 312 U.S. 531 (1941).
---------------------------------------------------------------------------
The amount of net premiums written that are taken into
account for purposes of determining a covered entity's market
share is subject to dollar thresholds. A covered entity's net
premiums written during the calendar year that are not more
than $25 million are not taken into account for this purpose.
With respect to a covered entity's net premiums written during
the calendar year that are more than $25 million but not more
than $50 million, 50 percent are taken into account, and 100
percent of net premiums written in excess of $50 million are
taken into account.
After application of the above dollar thresholds, a special
rule provides an exclusion, for purposes of determining an
otherwise covered entity's market share, of 50 percent of net
premiums written that are attributable to the exempt activities
\905\ of a health insurance organization that is exempt from
Federal income tax \906\ by reason of being described in
section 501(c)(3) (generally, a public charity), section
501(c)(4) (generally, a social welfare organization), section
501(c)(26) (generally, a high-risk health insurance pool), or
section 501(c)(29) (a consumer operated and oriented plan
(``CO-OP'') health insurance issuer).
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\905\ The exempt activities for this purpose are activities other
than activities of an unrelated trade or business defined in section
513.
\906\ Section 501(m) of the Code provides that an organization
described in section 501(c)(3) or (4) is exempt from Federal income tax
only if no substantial part of its activities consists of providing
commercial-type insurance. Thus, an organization otherwise described in
section 501(c)(3) or (4) that is taxable (under the Federal income tax
rules) by reason of section 501(m) is not eligible for the 50-percent
exclusion under the insurance fee.
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A covered entity generally is an entity that provides
health insurance with respect to United States health risks
during the calendar year in which the fee under this section is
due. Thus for example, an insurance company subject to tax
under part I or II of subchapter L, an organization exempt from
tax under section 501(a), a foreign insurer that provides
health insurance with respect to United States health risks, or
an insurer that provides health insurance with respect to
United States health risks under Medicare Advantage, Medicare
Part D, or Medicaid, is a covered entity under the provision
except as provided in specific exceptions.
Specific exceptions are provided to the definition of a
covered entity. A covered entity does not include an employer
to the extent that the employer self-insures the health risks
of its employees. For example, a manufacturer that enters into
a self-insurance arrangement with respect to the health risks
of its employees is not treated as a covered entity. As a
further example, an insurer that sells health insurance and
that also enters into a self-insurance arrangement with respect
to the health risks of its own employees is treated as a
covered entity with respect to its health insurance business,
but is not treated as a covered entity to the extent of the
self-insurance of its own employees' health risks.
A covered entity does not include any governmental entity.
For this purpose, it is intended that a governmental entity
includes a county organized health system entity that is an
independent public agency organized as a nonprofit under State
law and that contracts with a State to administer State
Medicaid benefits through local care providers or HMOs.
A covered entity does not include an entity that (1)
qualifies as nonprofit under applicable State law, (2) meets
the private inurement and limitation on lobbying provisions
described in section 501(c)(3), and (3) receives more than 80
percent of its gross revenue from government programs that
target low-income, elderly, or disabled populations (including
Medicare, Medicaid, the State Children's Health Insurance Plan
(``SCHIP''), and dual-eligible plans).
A covered entity does not include an organization that
qualifies as a VEBA under section 501(c)(9) that is established
by an entity other than the employer (i.e., a union) for the
purpose of providing health care benefits. This exclusion does
not apply to multi-employer welfare arrangements (``MEWAs'').
For purposes of the provision, all persons treated as a
single employer under section 52(a) or (b) or section 414(m) or
(o) are treated as a single covered entity (or as a single
employer, for purposes of the rule relating to employers that
self-insure the health risks of employees), and otherwise
applicable exclusion of foreign corporations under those rules
is disregarded. However, the exceptions to the definition of a
covered entity are applied on a separate entity basis, not
taking into account this rule. If more than one person is
liable for payment of the fee by reason of being treated as a
single covered entity, all such persons are jointly and
severally liable for payment of the fee.
A United States heath risk means the health risk of an
individual who is a U.S. citizen, is a U.S. resident within the
meaning of section 7701(b)(1)(A) (whether or not located in the
United States), or is located in the United States, with
respect to the period that the individual is located there. In
general, it is intended that risks in the following lines of
business reported on the annual statement as prescribed by the
National Association of Insurance Commissioners and as filed
with the insurance commissioners of the States in which
insurers are licensed to do business constitute health risks
for this purpose: comprehensive (hospital and medical), vision,
dental, Federal Employees Health Benefit plan, title XVIII
Medicare, title XIX Medicaid, and other health.
For purposes of the provision, health insurance does not
include coverage only for accident, or disability income
insurance, or a combination thereof. Health insurance does not
include coverage only for a specified disease or illness, nor
does health insurance include hospital indemnity or other fixed
indemnity insurance. Health insurance does not include any
insurance for long-term care or any Medicare supplemental
health insurance (as defined in section 1882(g)(1) of the
Social Security Act).
For purposes of procedure and administration under the
rules of Subtitle F of the Code, the fee under this provision
is treated as an excise tax with respect to which only civil
actions for refund under Subtitle F apply. The Secretary of the
Treasury may redetermine the amount of a covered entity's fee
under the provision for any calendar year for which the statute
of limitations remains open.
For purposes of section 275, relating to the
nondeductibility of specified taxes, the fee is considered to
be a nondeductible tax described in section 275(a)(6).
A reporting rule applies under the provision. A covered
entity is required to report to the Secretary of the Treasury
the amount of its net premiums written during any calendar year
with respect to health insurance for any United States health
risk.
A penalty applies for failure to report, unless it is shown
that the failure is due to reasonable cause. The amount of the
penalty is $10,000 plus the lesser of (1) $1,000 per day while
the failure continues, or (2) the amount of the fee imposed for
which the report was required. The penalty is treated as a
penalty for purposes of subtitle F of the Code, must be paid on
notice and demand by the Treasury Department and in the same
manner as tax, and with respect to which only civil actions for
refund under procedures of subtitle F apply. The reported
information is not treated as taxpayer information under
section 6103.
An accuracy-related penalty applies in the case of any
understatement of a covered entity's net premiums written. For
this purpose, an understatement is the difference between the
amount of net premiums written as reported on the return filed
by the covered entity and the amount of net premiums written
that should have been reported on the return. The penalty is
equal to the amount of the fee that should have been paid in
the absence of an understatement over the amount of the fee
determined based on the understatement. The accuracy-related
penalty is subject to the provisions of subtitle F of the Code
that apply to assessable penalties imposed under Chapter 68.
The provision provides authority for the Secretary of the
Treasury to publish guidance necessary to carry out the
purposes of the provision and to prescribe regulations
necessary or appropriate to prevent avoidance of the purposes
of the provision, including inappropriate actions taken to
qualify as an exempt entity under the provision.
Effective Date
The annual fee is required to be paid in each calendar year
beginning after December 31, 2013. The fee under the provision
is determined with respect to net premiums written after
December 31, 2012, with respect to health insurance for any
United States health risk.
K. Study and Report of Effect on Veterans Health Care (sec. 9011 of the
Act)
Present Law
No provision.
Explanation of Provision
The provision requires the Secretary of Veterans Affairs to
conduct a study on the effect (if any) of the fees assessed on
manufacturers and importers of branded prescription drugs,
manufacturers and importers of medical devices, and health
insurance providers on (1) the cost of medical care provided to
veterans and (2) veterans' access to branded prescription drugs
and medical devices.
The Secretary of Veterans Affairs will report the results
of the study to the Committee on Ways and Means of the House of
Representatives and to the Committee on Finance of the Senate
no later than December 31, 2012.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
L. Repeal Business Deduction for Federal Subsidies for Certain Retiree
Prescription Drug Plans (sec. 9012 \907\ of the Act and sec. 139A of
the Code)
---------------------------------------------------------------------------
\907\ Section 9012 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 1407 of the Health Care
and Education Reconciliation Act of 2010, Pub. L. No. 111-152.
---------------------------------------------------------------------------
Present Law
In general
Sponsors \908\ of qualified retiree prescription drug plans
are eligible for subsidy payments from the Secretary of HHS
with respect to a portion of each qualified covered retiree's
gross covered prescription drug costs (``qualified retiree
prescription drug plan subsidy'').\909\ A qualified retiree
prescription drug plan is employment-based retiree health
coverage \910\ that has an actuarial value at least as great as
the Medicare Part D standard plan for the risk pool and that
meets certain other disclosure and recordkeeping
requirements.\911\ These qualified retiree prescription drug
plan subsidies are excludable from the plan sponsor's gross
income for the purposes of regular income tax and alternative
minimum tax (including the adjustment for adjusted current
earnings).\912\
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\908\ The identity of the plan sponsor is determined in accordance
with section 16(B) of ERISA, except that for cases where a plan is
maintained jointly by one employer and an employee organization, and
the employer is the primary source of financing, the employer is the
plan sponsor.
\909\ Sec. 1860D-22 of the Social Security Act (SSA), 42 U.S.C.
sec. 1395w-132.
\910\ Employment-based retiree health coverage is health insurance
coverage or other coverage of health care costs (whether provided by
voluntary insurance coverage or pursuant to statutory or contractual
obligation) for Medicare Part D eligible individuals (their spouses and
dependents) under group health plans based on their status as retired
participants in such plans. For purposes of the subsidy, group health
plans generally include employee welfare benefit plans (as defined in
section 607(1) of ERISA) that provide medical care (as defined in
section 213(d)), Federal and State governmental plans, collectively
bargained plans, and church plans.
\911\ In addition to meeting the actuarial value standard, the plan
sponsor must also maintain and provide the Secretary of HHS access to
records that meet the Secretary of HHS's requirements for purposes of
audits and other oversight activities necessary to ensure the adequacy
of prescription drug coverage and the accuracy of payments made to
eligible individuals under the plan. In addition, the plan sponsor must
disclose to the Secretary of HHS whether the plan meets the actuarial
equivalence requirement and if it does not, must disclose to retirees
the limitations of their ability to enroll in Medicare Part D and that
non-creditable coverage enrollment is subject to penalties such as fees
for late enrollment. 42 U.S.C. sec. 1395w-132(a)(2).
\912\ Sec. 139A.
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Subsidy amounts
For each qualifying covered retiree enrolled for a coverage
year in a qualified retiree prescription drug plan, the
qualified retiree prescription drug plan subsidy is equal to 28
percent of the portion of the allowable retiree costs paid by
the plan sponsor on behalf of the retiree that exceed the cost
threshold but do not exceed the cost limit. A ``qualifying
covered retiree'' is an individual who is eligible for Medicare
but not enrolled in either a Medicare Part D prescription drug
plan or a Medicare Advantage-Prescription Drug plan, but who is
covered under a qualified retiree prescription drug plan. In
general, allowable retiree costs are, with respect to
prescription drug costs under a qualified retiree prescription
drug plan, the part of the actual costs paid by the plan
sponsor on behalf of a qualifying covered retiree under the
plan.\913\ Both the threshold and limit are indexed to the
percentage increase in Medicare per capita prescription drug
costs; the cost threshold was $250 in 2006 ($310 in 2010) and
the cost limit was $5,000 in 2006 ($6,300 in 2010).\914\
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\913\ For purposes of calculating allowable retiree costs, actual
costs paid are net of discounts, chargebacks, and average percentage
rebates, and exclude administrative costs.
\914\ http://www.cms.hhs.gov/MedicareAdvtgSpecRateStats/Downloads/
Announcement2010.pdf. Retrieved on March 19, 2010.
---------------------------------------------------------------------------
Expenses relating to tax-exempt income
In general, no deduction is allowed under any provision of
the Code for any expense or amount which would otherwise be
allowable as a deduction if such expense or amount is allocable
to a class or classes of exempt income.\915\ Thus, expenses or
amount paid or incurred with respect to the subsidies excluded
from income under section 139A would generally not be
deductible. However, a provision under section 139A specifies
that the exclusion of the qualified retiree prescription drug
plan subsidy from income is not taken into account in
determining whether any deduction is allowable with respect to
covered retiree prescription drug expenses that are taken into
account in determining the subsidy payment. Therefore, under
present law, a taxpayer may claim a business deduction for
covered retiree prescription drug expenses incurred
notwithstanding that the taxpayer excludes from income
qualified retiree prescription drug plan subsidies allocable to
such expenses.
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\915\ Sec. 265(a) and Treas. Reg. sec. 1.265-1(a).
---------------------------------------------------------------------------
Explanation of Provision
The provision eliminates the rule that the exclusion for
subsidy payments is not taken into account for purposes of
determining whether a deduction is allowable with respect to
retiree prescription drug expenses. Thus, under the provision,
the amount otherwise allowable as a deduction for retiree
prescription drug expenses is reduced by the amount of the
excludable subsidy payments received.
For example, assume a company receives a subsidy of $28
with respect to eligible drug expenses of $100. The $28 is
excludable from income under section 139A, and the amount
otherwise allowable as a deduction is reduced by the $28. Thus,
if the company otherwise meets the requirements of section 162
with respect to its eligible drug expenses, it would be
entitled to an ordinary business expense deduction of $72.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2012.
M. Modify the Itemized Deduction for Medical Expenses (sec. 9013 of the
Act and sec. 213 of the Code)
Present Law
Regular income tax
For regular income tax purposes, individuals are allowed an
itemized deduction for unreimbursed medical expenses, but only
to the extent that such expenses exceed 7.5 percent of
AGI.\916\
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\916\ Sec. 213.
---------------------------------------------------------------------------
This deduction is available both to insured and uninsured
individuals; thus, for example, an individual with employer-
provided health insurance (or certain other forms of tax-
subsidized health benefits) may also claim the itemized
deduction for the individual's medical expenses not covered by
that insurance if the 7.5 percent AGI threshold is met. The
medical deduction encompasses health insurance premiums to the
extent they have not been excluded from taxable income through
the employer exclusion or self-insured deduction.
Alternative minimum tax
For purposes of the alternative minimum tax (``AMT''),
medical expenses are deductible only to the extent that they
exceed 10 percent of AGI.
Explanation of Provision
This provision increases the threshold for the itemized
deduction for unreimbursed medical expenses from 7.5 percent of
AGI to 10 percent of AGI for regular income tax purposes.
However, for the years 2013, 2014, 2015 and 2016, if either the
taxpayer or the taxpayer's spouse turns 65 before the end of
the taxable year, the increased threshold does not apply and
the threshold remains at 7.5 percent of AGI. The provision does
not change the AMT treatment of the itemized deduction for
medical expenses.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2012.
N. Limitation on Deduction for Remuneration Paid by Health Insurance
Providers (sec. 9014 of the Act and sec. 162 of the Code)
Present Law
An employer generally may deduct reasonable compensation
for personal services as an ordinary and necessary business
expense. Section 162(m) provides explicit limitations on the
deductibility of compensation expenses in the case of corporate
employers.
Section 162(m)
In general
The otherwise allowable deduction for compensation paid or
accrued with respect to a covered employee of a publicly held
corporation \917\ is limited to no more than $1 million per
year.\918\ The deduction limitation applies when the deduction
would otherwise be taken. Thus, for example, in the case of
compensation resulting from a transfer of property in
connection with the performance of services, such compensation
is taken into account in applying the deduction limitation for
the year for which the compensation is deductible under section
83 (i.e., generally the year in which the employee's right to
the property is no longer subject to a substantial risk of
forfeiture).
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\917\ A corporation is treated as publicly held if it has a class
of common equity securities that is required to be registered under
section 12 of the Securities Exchange Act of 1934.
\918\ Sec. 162(m). This deduction limitation applies for purposes
of the regular income tax and the alternative minimum tax.
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Covered employees
Section 162(m) defines a covered employee as (1) the chief
executive officer of the corporation (or an individual acting
in such capacity) as of the close of the taxable year and (2)
the four most highly compensated officers for the taxable year
(other than the chief executive officer). Treasury regulations
under section 162(m) provide that whether an employee is the
chief executive officer or among the four most highly
compensated officers should be determined pursuant to the
executive compensation disclosure rules promulgated under the
Securities Exchange Act of 1934 (``Exchange Act'').
In 2006, the Securities and Exchange Commission amended
certain rules relating to executive compensation, including
which executive officers' compensation must be disclosed under
the Exchange Act. Under the new rules, such officers consist of
(1) the principal executive officer (or an individual acting in
such capacity), (2) the principal financial officer (or an
individual acting in such capacity), and (3) the three most
highly compensated executive officers, other than the principal
executive officer or financial officer. In response to the
Securities and Exchange Commission's new disclosure rules, the
IRS issued updated guidance on identifying which employees are
covered by section 162(m).\919\
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\919\ Notice 2007-49, 2007-25 I.R.B. 1429.
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Remuneration subject to the limit
Unless specifically excluded, the deduction limitation
applies to all remuneration for services, including cash and
the cash value of all remuneration (including benefits) paid in
a medium other than cash. If an individual is a covered
employee for a taxable year, the deduction limitation applies
to all compensation not explicitly excluded from the deduction
limitation, regardless of whether the compensation is for
services as a covered employee and regardless of when the
compensation was earned. The $1 million cap is reduced by
excess parachute payments (as defined in sec. 280G, discussed
below) that are not deductible by the corporation.
Certain types of compensation are not subject to the
deduction limit and are not taken into account in determining
whether other compensation exceeds $1 million. The following
types of compensation are not taken into account: (1)
remuneration payable on a commission basis; (2) remuneration
payable solely on account of the attainment of one or more
performance goals if certain outside director and shareholder
approval requirements are met (``performance-based
compensation''); (3) payments to a tax-qualified retirement
plan (including salary reduction contributions); (4) amounts
that are excludable from the executive's gross income (such as
employer-provided health benefits and miscellaneous fringe
benefits \920\); and (5) any remuneration payable under a
written binding contract which was in effect on February 17,
1993.
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\920\ Sec. 132.
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Remuneration does not include compensation for which a
deduction is allowable after a covered employee ceases to be a
covered employee. Thus, the deduction limitation often does not
apply to deferred compensation that is otherwise subject to the
deduction limitation (e.g., is not performance-based
compensation) because the payment of compensation is deferred
until after termination of employment.
Executive compensation of employers participating in the Troubled
Assets Relief Program
In general
Under section 162(m)(5), the deduction limit is reduced to
$500,000 in the case of otherwise deductible compensation of a
covered executive for any applicable taxable year of an
applicable employer.
An applicable employer means any employer from which one or
more troubled assets are acquired under the ``troubled assets
relief program'' (``TARP'') established by the Emergency
Stabilization Act of 2008 \921\ (``EESA'') if the aggregate
amount of the assets so acquired for all taxable years
(including assets acquired through a direct purchase by the
Treasury Department, within the meaning of section 113(c) of
Title I of EESA) exceeds $300,000,000. However, such term does
not include any employer from which troubled assets are
acquired by the Treasury Department solely through direct
purchases (within the meaning of section 113(c) of Title I of
EESA). For example, if a firm sells $250,000,000 in assets
through an auction system managed by the Treasury Department,
and $100,000,000 to the Treasury Department in direct
purchases, then the firm is an applicable employer. Conversely,
if all $350,000,000 in sales take the form of direct purchases,
then the firm would not be an applicable employer.
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\921\ Pub. L. No. 110-343.
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Unlike section 162(m), an applicable employer under this
provision is not limited to publicly held corporations (or even
limited to corporations). For example, an applicable employer
could be a partnership if the partnership is an employer from
which a troubled asset is acquired. The aggregation rules of
section 414(b) and (c) apply in determining whether an employer
is an applicable employer. However, these rules are applied
disregarding the rules for brother-sister controlled groups and
combined groups in sections 1563(a)(2) and (3). Thus, this
aggregation rule only applies to parent-subsidiary controlled
groups. A similar controlled group rule applies for trades and
businesses under common control.
The result of this aggregation rule is that all
corporations in the same controlled group are treated as a
single employer for purposes of identifying the covered
executives of that employer and all compensation from all
members of the controlled group are taken into account for
purposes of applying the $500,000 deduction limit. Further, all
sales of assets under the TARP from all members of the
controlled group are considered in determining whether such
sales exceed $300,000,000.
An applicable taxable year with respect to an applicable
employer means the first taxable year which includes any
portion of the period during which the authorities for the TARP
established under EESA are in effect (the ``authorities
period'') if the aggregate amount of troubled assets acquired
from the employer under that authority during the taxable year
(when added to the aggregate amount so acquired for all
preceding taxable years) exceeds $300,000,000, and includes any
subsequent taxable year which includes any portion of the
authorities period.
A special rule applies in the case of compensation that
relates to services that a covered executive performs during an
applicable taxable year but that is not deductible until a
later year (``deferred deduction executive remuneration''),
such as nonqualified deferred compensation. Under the special
rule, the unused portion (if any) of the $500,000 limit for the
applicable tax year is carried forward until the year in which
the compensation is otherwise deductible, and the remaining
unused limit is then applied to the compensation.
For example, assume a covered executive is paid $400,000 in
cash salary by an applicable employer in 2008 (assuming 2008 is
an applicable taxable year) and the covered executive earns
$100,000 in nonqualified deferred compensation (along with the
right to future earnings credits) payable in 2020. Assume
further that the $100,000 has grown to $300,000 in 2020. The
full $400,000 in cash salary is deductible under the $500,000
limit in 2008. In 2020, the applicable employer's deduction
with respect to the $300,000 will be limited to $100,000 (the
lesser of the $300,000 in deductible compensation before
considering the special limitation, and $500,000 less $400,000,
which represents the unused portion of the $500,000 limit from
2008).
Deferred deduction executive remuneration that is properly
deductible in an applicable taxable year (before application of
the limitation under the provision) but is attributable to
services performed in a prior applicable taxable year is
subject to the special rule described above and is not double-
counted. For example, assume the same facts as above, except
that the nonqualified deferred compensation is deferred until
2009 and that 2009 is an applicable taxable year. The
employer's deduction for the nonqualified deferred compensation
for 2009 would be limited to $100,000 (as in the example
above). The limit that would apply under the provision for
executive remuneration that is in a form other than deferred
deduction executive remuneration and that is otherwise
deductible for 2009 is $500,000. For example, if the covered
executive is paid $500,000 in cash compensation for 2009, all
$500,000 of that cash compensation would be deductible in 2009
under the provision.
Covered executive
The term covered executive means any individual who is the
chief executive officer or the chief financial officer of an
applicable employer, or an individual acting in that capacity,
at any time during a portion of the taxable year that includes
the authorities period. It also includes any employee who is
one of the three highest compensated officers of the applicable
employer for the applicable taxable year (other than the chief
executive officer or the chief financial officer and only
taking into account employees employed during any portion of
the taxable year that includes the authorities period).\922\
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\922\ The determination of the three highest compensated officers
is made on the basis of the shareholder disclosure rules for
compensation under the Exchange Act, except to the extent that the
shareholder disclosure rules are inconsistent with the provision. Such
shareholder disclosure rules are applied without regard to whether
those rules actually apply to the employer under the Exchange Act. If
an employee is a covered executive with respect to an applicable
employer for any applicable taxable year, the employee will be treated
as a covered executive for all subsequent applicable taxable years (and
will be treated as a covered executive for purposes of any subsequent
taxable year for purposes of the special rule for deferred deduction
executive remuneration).
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Executive remuneration
The provision generally incorporates the present law
definition of applicable employee remuneration. However, the
present law exceptions for remuneration payable on commission
and performance-based compensation do not apply for purposes of
the $500,000 limit. In addition, the $500,000 limit only
applies to executive remuneration which is attributable to
services performed by a covered executive during an applicable
taxable year. For example, assume the same facts as in the
example above, except that the covered executive also receives
in 2008 a payment of $300,000 in nonqualified deferred
compensation that was attributable to services performed in
2006. Such payment is not treated as executive remuneration for
purposes of the $500,000 limit.
Taxation of insurance companies
Present law provides special rules for determining the
taxable income of insurance companies (subchapter L of the
Code). Separate sets of rules apply to life insurance companies
and to property and casualty insurance companies. Insurance
companies are subject to Federal income tax at regular
corporate income tax rates. An insurance company generally may
deduct compensation paid in the course of its trade or
business.
Explanation of Provision
Under the provision, no deduction is allowed for
remuneration which is attributable to services performed by an
applicable individual for a covered health insurance provider
during an applicable taxable year to the extent that such
remuneration exceeds $500,000. As under section 162(m)(5) for
remuneration from TARP participants, the exceptions for
performance based remuneration, commissions, or remuneration
under existing binding contracts do not apply. This $500,000
deduction limitation applies without regard to whether such
remuneration is paid during the taxable year or a subsequent
taxable year. In applying this rule, rules similar to those in
section 162(m)(5)(A)(ii) apply. Thus in the case of
remuneration that relates to services that an applicable
individual performs during a taxable year but that is not
deductible until a later year, such as nonqualified deferred
compensation, the unused portion (if any) of the $500,000 limit
for the year is carried forward until the year in which the
compensation is otherwise deductible, and the remaining unused
limit is then applied to the compensation.
In determining whether the remuneration of an applicable
individual for a year exceeds $500,000, all remuneration from
all members of any controlled group of corporations (within the
meaning of section 414(b)), other businesses under common
control (within the meaning of section 414(c)), or affiliated
service group (within the meaning of sections 414(m) and (o))
are aggregated.
Covered health insurance provider and applicable taxable year
An insurance provider is a covered health insurance
provider if at least 25 percent of the insurance provider's
gross premium income from health business is derived from
health insurance plans that meet the minimum creditable
coverage requirements in the bill (``covered health insurance
provider''). A taxable year is an applicable taxable year for
an insurance provider if an insurance provider is a covered
insurance provider for any portion of the taxable year.
Employers with self-insured plans are excluded from the
definition of covered health insurance provider.
Applicable individual
Applicable individuals include all officers, employees,
directors, and other workers or service providers (such as
consultants) performing services for or on behalf of a covered
health insurance provider. Thus, in contrast to the general
rules under section 162(m) and the special rules executive
compensation of employers participating in the TARP program,
the limitation on the deductibility of remuneration from a
covered health insurance provided is not limited to a small
group of officers and covered executives but generally applies
to remuneration of all employees and service providers. If an
individual is an applicable individual with respect to a
covered health insurance provider for any taxable year, the
individual is treated as an applicable individual for all
subsequent taxable years (and is treated as an applicable
individual for purposes of any subsequent taxable year for
purposes of the special rule for deferred remuneration).
Effective Date
The provision is effective for remuneration paid in taxable
years beginning after 2012 with respect to services performed
after 2009.
O. Additional Hospital Insurance Tax on High Income Taxpayers (sec.
9015 \923\ of the Act and new secs. 1401 and 3101 of the Code)
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\923\ Section 9015 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, is amended by section 10906.
---------------------------------------------------------------------------
Present Law
Federal Insurance Contributions Act tax
The Federal Insurance Contributions Act imposes tax on
employers based on the amount of wages paid to an employee
during the year. The tax imposed is composed of two parts: (1)
the old age, survivors, and disability insurance (``OASDI'')
tax equal to 6.2 percent of covered wages up to the taxable
wage base ($106,800 in 2010); and (2) the HI tax amount equal
to 1.45 percent of covered wages. Generally, covered wages
means all remuneration for employment, including the cash value
of all remuneration (including benefits) paid in any medium
other than cash. Certain exceptions from covered wages are also
provided. In addition to the tax on employers, each employee is
subject to FICA taxes equal to the amount of tax imposed on the
employer.
The employee portion of the FICA tax generally must be
withheld and remitted to the Federal government by the
employer.\924\ The employer generally is liable for the amount
of this tax whether or not the employer withholds the amount
from the employee's wages.\925\ In the event that the employer
fails to withhold from an employee, the employee generally is
not liable to the IRS for the amount of the tax. However, if
the employer pays its liability for the amount of the tax not
withheld, the employer generally has a right to collect that
amount from the employee. Further, if the employer deducts and
pays the tax the employer is indemnified against the claims and
demands of any person for the amount of any payment of the tax
made by the employer.\926\
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\924\ Sec. 3102(a).
\925\ Sec. 3102(b).
\926\ Ibid.
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Self-Employment Contributions Act tax
As a parallel to FICA taxes, the Self-Employment
Contributions Act (``SECA'') imposes taxes on the net income
from self employment of self employed individuals. The rate of
the OASDI portion of SECA taxes is equal to the combined
employee and employer OASDI FICA tax rates and applies to self
employment income up to the FICA taxable wage base. Similarly,
the rate of the HI portion is the same as the combined employer
and employee HI rates and there is no cap on the amount of self
employment income to which the rate applies.\927\
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\927\ For purposes of computing net earnings from self employment,
taxpayers are permitted a deduction equal to the product of the
taxpayer's earnings (determined without regard to this deduction) and
one-half of the sum of the rates for OASDI (12.4 percent) and HI (2.9
percent), i.e., 7.65 percent of net earnings. This deduction reflects
the fact that the FICA rates apply to an employee's wages, which do not
include FICA taxes paid by the employer, whereas the self-employed
individual's net earnings are economically equivalent to an employee's
wages plus the employer share of FICA taxes.
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For purposes of computing net earnings from self
employment, taxpayers are permitted a deduction equal to the
product of the taxpayer's earnings (determined without regard
to this deduction) and one-half of the sum of the rates for
OASDI (12.4 percent) and HI (2.9 percent), i.e., 7.65 percent
of net earnings. This deduction reflects the fact that the FICA
rates apply to an employee's wages, which do not include FICA
taxes paid by the employer, whereas the self-employed
individual's net earnings are economically equivalent to an
employee's wages plus the employer share of FICA taxes.
Explanation of Provision
Additional HI tax on employee portion of HI tax
Calculation of additional tax
The employee portion of the HI tax is increased by an
additional tax of 0.9 percent on wages \928\ received in excess
of the threshold amount. However, unlike the general 1.45
percent HI tax on wages, this additional tax is on the combined
wages of the employee and the employee's spouse, in the case of
a joint return. The threshold amount is $250,000 in the case of
a joint return or surviving spouse, $125,000 in the case of a
married individual filing a separate return, and $200,000 in
any other case.
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\928\ Sec. 3121(a).
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Liability for the additional HI tax on wages
As under present law, the employer is required to withhold
the additional HI tax on wages but is liable for the tax if the
employer fails to withhold the amount of the tax from wages, or
collect the tax from the employee if the employer fails to
withhold. However, in determining the employer's requirement to
withhold and liability for the tax, only wages that the
employee receives from the employer in excess of $200,000 for a
year are taken into account and the employer must disregard the
amount of wages received by the employee's spouse. Thus, the
employer is only required to withhold on wages in excess of
$200,000 for the year, even though the tax may apply to a
portion of the employee's wages at or below $200,000, if the
employee's spouse also has wages for the year, they are filing
a joint return, and their total combined wages for the year
exceed $250,000.
For example, if a taxpayer's spouse has wages in excess of
$250,000 and the taxpayer has wages of $100,000, the employer
of the taxpayer is not required to withhold any portion of the
additional tax, even though the combined wages of the taxpayer
and the taxpayer's spouse are over the $250,000 threshold. In
this instance, the employer of the taxpayer's spouse is
obligated to withhold the additional 0.9-percent HI tax with
respect to the $50,000 above the threshold with respect to the
wages of $250,000 for the taxpayer's spouse.
In contrast to the employee portion of the general HI tax
of 1.45 percent of wages for which the employee generally has
no direct liability to the IRS to pay the tax, the employee is
also liable for this additional 0.9-percent HI tax to the
extent the tax is not withheld by the employer. The amount of
this tax not withheld by an employer must also be taken into
account in determining a taxpayer's liability for estimated
tax.
Additional HI for self-employed individuals
This same additional HI tax applies to the HI portion of
SECA tax on self-employment income in excess of the threshold
amount. Thus, an additional tax of 0.9 percent is imposed on
every self-employed individual on self-employment income \929\
in excess of the threshold amount.
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\929\ Sec. 1402(b).
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As in the case of the additional HI tax on wages, the
threshold amount for the additional SECA HI tax is $250,000 in
the case of a joint return or surviving spouse, $125,000 in the
case of a married individual filing a separate return, and
$200,000 in any other case. The threshold amount is reduced
(but not below zero) by the amount of wages taken into account
in determining the FICA tax with respect to the taxpayer. No
deduction is allowed under section 164(f) for the additional
SECA tax, and the deduction under 1402(a)(12) is determined
without regard to the additional SECA tax rate.
Effective Date
The provision applies to remuneration received and taxable
years beginning after December 31, 2012.
P. Modification of Section 833 Treatment of Certain Health
Organizations (sec. 9016 of the Act and sec. 833 of the Code)
Present Law
A property and casualty insurance company is subject to tax
on its taxable income, generally defined as its gross income
less allowable deductions (sec. 832). For this purpose, gross
income includes underwriting income and investment income, as
well as other items. Underwriting income is the premiums earned
on insurance contracts during the year, less losses incurred
and expenses incurred. The amount of losses incurred is
determined by taking into account the discounted unpaid losses.
Premiums earned during the year is determined taking into
account a 20-percent reduction in the otherwise allowable
deduction, intended to represent the allocable portion of
expenses incurred in generating the unearned premiums (sec.
832(b)(4)(B)).
Present law provides that an organization described in
sections 501(c)(3) or (4) of the Code is exempt from tax only
if no substantial part of its activities consists of providing
commercial-type insurance (sec. 501(m)). When this rule was
enacted in 1986,\930\ special rules were provided under section
833 for Blue Cross and Blue Shield organizations providing
health insurance that (1) were in existence on August 16, 1986;
(2) were determined at any time to be tax-exempt under a
determination that had not been revoked; and (3) were tax-
exempt for the last taxable year beginning before January 1,
1987 (when the present-law rule became effective), provided
that no material change occurred in the structure or operations
of the organizations after August 16, 1986, and before the
close of 1986 or any subsequent taxable year. Any other
organization is eligible for section 833 treatment if it meets
six requirements set forth in section 833(c): (1) substantially
all of its activities involve providing health insurance; (2)
at least 10 percent of its health insurance is provided to
individuals and small groups (not taking into account Medicare
supplemental coverage); (3) it provides continuous full-year
open enrollment for individuals and small groups; (4) for
individuals, it provides full coverage of pre-existing
conditions of high-risk individuals and coverage without regard
to age, income, or employment of individuals under age 65; (5)
at least 35 percent of its premiums are community rated; and
(6) no part of its net earnings inures to the benefit of any
private shareholder or individual.
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\930\ See H. Rep. 99-426, Tax Reform Act of 1985, (December 7,
1985), p. 664. The Committee stated, ``[T]he availability of tax-exempt
status under [then-]present law has allowed some large insurance
entities to compete directly with commercial insurance companies. For
example, the Blue Cross/Blue Shield organizations historically have
been treated as tax-exempt organizations described in sections
501(c)(3) or (4). This group of organizations is now among the largest
health care insurers in the United States.'' See also Joint Committee
on Taxation, General Explanation of the Tax Reform Act of 1986, JCS-10-
87 (May 4, 1987), pp. 583-592.
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Section 833 provides a deduction with respect to health
business of such organizations. The deduction is equal to 25
percent of the sum of (1) claims incurred, and liabilities
incurred under cost-plus contracts, for the taxable year, and
(2) expenses incurred in connection with administration,
adjustment, or settlement of claims or in connection with
administration of cost-plus contracts during the taxable year,
to the extent this sum exceeds the adjusted surplus at the
beginning of the taxable year. Only health-related items are
taken into account.
Section 833 provides an exception for such an organization
from the application of the 20-percent reduction in the
deduction for increases in unearned premiums that applies
generally to property and casualty companies.
Section 833 provides that such an organization is taxable
as a stock property and casualty insurer under the Federal
income tax rules applicable to property and casualty insurers.
Explanation of Provision
The provision limits eligibility for the rules of section
833 to those organizations meeting a medical loss ratio
standard of 85 percent for the taxable year. Thus, under the
provision, an organization that does not meet the 85-percent
standard is not allowed the 25-percent deduction and the
exception from the 20-percent reduction in the unearned premium
reserve deduction under section 833.
For this purpose, an organization's medical loss ratio is
determined as the percentage of total premium revenue expended
on reimbursement for clinical services that are provided to
enrollees under the organization's policies during the taxable
year, as reported under section 2718 of the PHSA.\931\
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\931\ See Wednesday, March 24, 2010, Senate Floor statement of
Senator Baucus relating to this provision, 156 Cong. Rec. S1989,
stating in part, ``First, it was our intention that, in calculating the
medical loss ratios, these entities could include both the cost of
reimbursement for clinical services provided to the individuals they
insure and the cost of activities that improve health care quality.
Determining the medical loss ratio under this provision using those two
types of costs is consistent with the calculation of medical loss
ratios elsewhere in the legislation. This determination would be made
on an annual basis and would only affect the application of the special
deductions for that year. Second, it was our intention that the only
consequence for not meeting the medical loss ratio threshold would be
that the 25 percent deduction for claims and expenses and the exception
from the 20 percent reduction in the deduction for unearned premium
reserves would not be allowed. The entity would still be treated as a
stock property and casualty insurance company.'' A technical correction
may be necessary so that the statute reflects this intent.
---------------------------------------------------------------------------
It is intended that the medical loss ratio under this
provision be determined on an organization-by-organization
basis, not on an affiliated or other group basis, and that
Treasury Department guidance be promulgated promptly to carry
out the purposes of the provision.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
Q. Excise Tax on Indoor Tanning Services (sec. 9017 \932\ of the Act
and new sec. 5000B of the Code)
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\932\ Section 9017 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, as amended by section 10907.
---------------------------------------------------------------------------
Present Law
There is no tax on indoor tanning services under present
law.
Explanation of Provision
In general
The provision imposes a tax on each individual on whom
indoor tanning services are performed. The tax is equal to 10
percent of the amount paid for indoor tanning services.
For purposes of the provision, indoor tanning services are
services employing any electronic product designed to induce
skin tanning and which incorporate one or more ultraviolet
lamps and intended for the irradiation of an individual by
ultraviolet radiation, with wavelengths in air between 200 and
400 nanometers. Indoor tanning services do not include any
phototherapy service performed by a licensed medical
professional.
Payment of tax
The tax is paid by the individual on whom the indoor
tanning services are performed. The tax is collected by each
person receiving a payment for tanning services on which a tax
is imposed. If the tax is not paid by the person receiving the
indoor tanning services at the time the payment for the service
is received, the person performing the procedure pays the tax.
Payment of the tax is remitted quarterly to the Secretary
by the person collecting the tax. The Secretary is given
discretion over the manner of the payment.
Effective Date
The provision applies to tanning services performed on or
after July 1, 2010.
R. Exclusion of Health Benefits Provided by Indian Tribal Governments
(sec. 9021 of the Act and new sec. 139D of the Code)
Present Law
Present law generally provides that gross income includes
all income from whatever source derived.\933\ Exclusions from
income are provided, however, for certain health care benefits.
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\933\ Sec. 61.
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Exclusion from income for employer-provided health coverage
Employees generally are not taxed on (that is, may
``exclude'' from gross income) the value of employer-provided
health coverage under an accident or health plan.\934\ In
addition, any reimbursements under an accident or health plan
for medical care expenses for employees, their spouses, and
their dependents generally are excluded from gross income.\935\
As with cash or other compensation, the amount paid by
employers for employer-provided health coverage is a deductible
business expense. Unlike other forms of compensation, however,
if an employer contributes to a plan providing health coverage
for employees (and the employees' spouses and dependents), the
value of the coverage and all benefits (including
reimbursements) in the form of medical care under the plan are
excludable from the employees' income for income tax
purposes.\936\ The exclusion applies both to health coverage in
the case in which an employer absorbs the cost of employees'
medical expenses not covered by insurance (i.e., a self-insured
plan) as well as in the case in which the employer purchases
health insurance coverage for its employees. There is no limit
on the amount of employer-provided health coverage that is
excludable.
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\934\ Sec 106.
\935\ Sec. 105(b).
\936\ Secs. 104, 105, 106, 125. A similar rule excludes employer
provided health insurance coverage and reimbursements for medical
expenses from the employees' wages for payroll tax purposes under
sections 3121(a)(2), and 3306(a)(2). Health coverage provided to active
members of the uniformed services, military retirees, and their
dependents are excludable under section 134. That section provides an
exclusion for ``qualified military benefits,'' defined as benefits
received by reason of status or service as a member of the uniformed
services and which were excludable from gross income on September 9,
1986, under any provision of law, regulation, or administrative
practice then in effect.
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In addition, employees participating in a cafeteria plan
may be able to pay the portion of premiums for health insurance
coverage not otherwise paid for by their employers on a pre-tax
basis through salary reduction.\937\ Such salary reduction
contributions are treated as employer contributions and thus
also are excluded from gross income.
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\937\ Sec. 125.
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Employers may agree to reimburse medical expenses of their
employees (and their spouses and dependents), not covered by a
health insurance plan, through flexible spending arrangements
which allow reimbursement not in excess of a specified dollar
amount (either elected by an employee under a cafeteria plan or
otherwise specified by the employer). Reimbursements under
these arrangements are also excludible from gross income as
employer-provided health coverage.
The general welfare exclusion
Under the general welfare exclusion doctrine, certain
payments made to individuals are excluded from gross income.
The exclusion has been interpreted to cover payments by
governmental units under legislatively provided social benefit
programs for the promotion of the general welfare.\938\
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\938\ See, e.g., Rev. Rul. 78-170, 1978-1 C.B. 24 (government
payments to assist low-income persons with utility costs are not
income); Rev. Rul. 76-395, 1976-2 C.B. 16, 17 (government grants to
assist low-income city inhabitants to refurbish homes are not income);
Rev. Rul. 76-144, 1976-1 C.B. 17 (government grants to persons eligible
for relief under the Disaster Relief Act of 1974 are not income); Rev.
Rul. 74-153, 1974-1 C.B. 20 (government payments to assist adoptive
parents with support and maintenance of adoptive children are not
income); Rev. Rul. 74-205, 1974-1 C.B. 20 (replacement housing payments
received by individuals under the Housing and Urban Development Act of
1968 are not includible in gross income); Gen. Couns. Mem. 34506 (May
26, 1971) (federal mortgage assistance payments excluded from income
under general welfare exception); Rev. Rul. 57-102, 1957-1 C.B. 26
(government benefits paid to blind persons are not income). The courts
have also acknowledged the existence of this doctrine. See, e.g.,
Bailey v. Commissioner, 88 T.C. 1293, 1299-1301 (1987) (new building
facade paid for by urban renewal agency on taxpayer's property under
facade grant program not considered payments under general welfare
doctrine because awarded without regard to any need of the recipients);
Graff v. Commissioner, 74 TC 743, 753-754 (1980) (court acknowledged
that rental subsidies under Housing Act were excludable under general
welfare doctrine but found that payments at issue made by HUD on
taxpayer landlord's behalf were taxable income to him), affd. per
curiam 673 F.2d 784 (5th Cir. 1982).
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The general welfare exclusion generally applies if the
payments: (1) are made from a governmental fund, (2) are for
the promotion of general welfare (on the basis of the need of
the recipient), and (3) do not represent compensation for
services.\939\ A representative of the IRS recently expressed
the view that the general welfare exclusion does not apply to
persons with significant income or assets, and that any such
extension would represent a departure from well-established
administrative practice.\940\ The representative further
expressed the view that application of the general welfare
exclusion to an Indian tribal government providing coverage or
benefits to tribal members is dependent upon the structure and
administration of the particular program.\941\
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\939\ See Rev. Rul. 98-19, 1998-1 C.B. 840 (excluding relocation
payments made by local governments to those whose homes were damaged by
floods). Recent guidance as to whether the need of the recipient (taken
into account under the second requirement of the general welfare
exclusion) must be based solely on financial means or whether the need
can be based on a variety of other considerations including health,
educational background, or employment status, has been mixed. Chief
Couns. Adv. 200021036 (May 25, 2000) (excluding state adoption
assistant payments made to individuals adopting special needs children
without regard to financial means of parents; the children were
considered to be the recipients); Priv. Ltr. Rul. 200632005 (April 13,
2006) (excluding payments made by Tribe to members based on multiple
factors of need pursuant to housing assistance program); Chief Couns.
Adv. 200648027 (Jul 25, 2006) (excluding subsidy payments based on
financial need of recipient made by state to certain participants in
state health insurance program to reduce cost of health insurance
premiums).
\940\ Testimony of Sarah H. Ingram, Commissioner, Tax Exempt and
Government Entities, Internal Revenue Service, before the Senate
Committee on Indian Affairs, Oversight Hearing to Examine the Federal
Tax Treatment of Health Care Benefits Provided by Tribal Governments to
Their Citizens, September 17, 2009.
\941\ Ibid.
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Explanation of Provision
The provision allows an exclusion from gross income for the
value of specified Indian tribe health care benefits. The
exclusion applies to the value of: (1) health services or
benefits provided or purchased by the Indian Health Service
(``IHS''), either directly or indirectly, through a grant to or
a contract or compact with an Indian tribe or tribal
organization or through programs of third parties funded by the
IHS; \942\ (2) medical care (in the form of provided or
purchased medical care services, accident or health insurance
or an arrangement having the same effect, or amounts paid
directly or indirectly, to reimburse the member for expenses
incurred for medical care) provided by an Indian tribe or
tribal organization to a member of an Indian tribe, including
the member's spouse or dependents; \943\ (3) accident or health
plan coverage (or an arrangement having the same effect)
provided by an Indian tribe or tribal organization for medical
care to a member of an Indian tribe, including the member's
spouse or dependents; and (4) any other medical care provided
by an Indian tribe or tribal organization that supplements,
replaces, or substitutes for the programs and services provided
by the Federal government to Indian tribes or Indians.
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\942\ The term ``Indian tribe'' means any Indian tribe, band,
nation, pueblo, or other organized group or community, including any
Alaska Native village, or regional or village corporation, as defined
by, or established pursuant to, the Alaska Native Claims Settlement Act
(43 U.S.C. 1601 et seq.), which is recognized as eligible for the
special programs and services provided by the United States to Indians
because of their status as Indians. The term ``tribal organization''
has the same meaning as such term in section 4(l) of the Indian Self-
Determination and Education Assistance Act (25 U.S.C. 450b(1)).
\943\ The terms ``accident or health insurance'' and ``accident or
health plan'' have the same meaning as when used in section 105. The
term ``medical care'' is the same as the definition under section 213.
For purposes of the provision, dependents are determined under section
152, but without regard to subsections (b)(1), (b)(2), and (d)(1)(B).
Section 152(b)(1) generally provides that if an individual is a
dependent of another taxpayer during a taxable year such individual is
treated as having no dependents for such taxable year. Section
152(b)(2) provides that a married individual filing a joint return with
his or her spouse is not treated as a dependent of a taxpayer. Section
152(d)(1)(B) provides that a ``qualifying relative'' (i.e., a relative
that qualifies as a dependent) does not include a person whose gross
income for the calendar year in which the taxable year begins equals or
exceeds the exempt amount (as defined under section 151).
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This provision does not apply to any amount which is
deducted or excluded from gross income under another provision
of the Code.
No change made by the provision is intended to create an
inference with respect to the exclusion from gross income of
benefits provided prior to the date of enactment (March 23,
2010). Additionally, no inference is intended with respect to
the tax treatment of other benefits provided by an Indian tribe
or tribal organization not covered by this provision.
Effective Date
The provision applies to benefits and coverage provided
after the date of enactment (March 23, 2010).
S. Establishment of SIMPLE Cafeteria Plans for Small Businesses (sec.
9022 of the Act and sec. 125 of the Code)
Present Law
Definition of a cafeteria plan
If an employee receives a qualified benefit (as defined
below) based on the employee's election between the qualified
benefit and a taxable benefit under a cafeteria plan, the
qualified benefit generally is not includable in gross
income.\944\ However, if a plan offering an employee an
election between taxable benefits (including cash) and
nontaxable qualified benefits does not meet the requirements
for being a cafeteria plan, the election between taxable and
nontaxable benefits results in gross income to the employee,
regardless of what benefit is elected and when the election is
made.\945\ A cafeteria plan is a separate written plan under
which all participants are employees, and participants are
permitted to choose among at least one permitted taxable
benefit (for example, current cash compensation) and at least
one qualified benefit. Finally, a cafeteria plan must not
provide for deferral of compensation, except as specifically
permitted in sections 125(d)(2)(B), (C), or (D).
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\944\ Sec. 125(a).
\945\ Prop. Treas. Reg. sec. 1.125-1(b).
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Qualified benefits
Qualified benefits under a cafeteria plan are generally
employer-provided benefits that are not includable in gross
income under an express provision of the Code. Examples of
qualified benefits include employer-provided health insurance
coverage, group term life insurance coverage not in excess of
$50,000, and benefits under a dependent care assistance
program. In order to be excludable, any qualified benefit
elected under a cafeteria plan must independently satisfy any
requirements under the Code section that provides the
exclusion. However, some employer-provided benefits that are
not includable in gross income under an express provision of
the Code are explicitly not allowed in a cafeteria plan. These
benefits are generally referred to as nonqualified benefits.
Examples of nonqualified benefits include scholarships; \946\
employer-provided meals and lodging; \947\ educational
assistance; \948\ and fringe benefits.\949\ A plan offering any
nonqualified benefit is not a cafeteria plan.\950\
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\946\ Sec. 117.
\947\ Sec. 119.
\948\ Sec. 127.
\949\ Sec. 132.
\950\ Prop. Treas. Reg. sec. 1.125-1(q). Long-term care services,
contributions to Archer Medical Savings Accounts, group term life
insurance for an employee's spouse, child or dependent, and elective
deferrals to section 403(b) plans are also nonqualified benefits.
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Employer contributions through salary reduction
Employees electing a qualified benefit through salary
reduction are electing to forego salary and instead to receive
a benefit that is excludible from gross income because it is
provided by employer contributions. Section 125 provides that
the employee is treated as receiving the qualified benefit from
the employer in lieu of the taxable benefit. For example,
active employees participating in a cafeteria plan may be able
to pay their share of premiums for employer-provided health
insurance on a pre-tax basis through salary reduction.\951\
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\951\ Sec. 125.
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Nondiscrimination requirements
Cafeteria plans and certain qualified benefits (including
group term life insurance, self-insured medical reimbursement
plans, and dependent care assistance programs) are subject to
nondiscrimination requirements to prevent discrimination in
favor of highly compensated individuals generally as to
eligibility for benefits and as to actual contributions and
benefits provided. There are also rules to prevent the
provision of disproportionate benefits to key employees (within
the meaning of section 416(i)) through a cafeteria plan.\952\
Although the basic purpose of each of the nondiscrimination
rules is the same, the specific rules for satisfying the
relevant nondiscrimination requirements, including the
definition of highly compensated individual,\953\ vary for
cafeteria plans generally and for each qualified benefit. An
employer maintaining a cafeteria plan in which any highly
compensated individual participates must make sure that both
the cafeteria plan and each qualified benefit satisfies the
relevant nondiscrimination requirements, as a failure to
satisfy the nondiscrimination rules generally results in a loss
of the tax exclusion by the highly compensated individuals.
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\952\ A key employee generally is an employee who, at any time
during the year is (1) a five-percent owner of the employer, or (2) a
one-percent owner with compensation of more than $150,000 (not indexed
for inflation), or (3) an officer with compensation more than $160,000
(for 2010). A special rule limits the number of officers treated as key
employees. If the employer is a corporation, a five-percent owner is a
person who owns more than five percent of the outstanding stock or
stock possessing more than five percent of the total combined voting
power of all stock. If the employer is not a corporation, a five-
percent owner is a person who owns more than five percent of the
capital or profits interest. A one-percent owner is determined by
substituting one percent for five percent in the preceding definitions.
For purposes of determining employee ownership in the employer, certain
attribution rules apply.
\953\ For cafeteria plan purposes, a ``highly compensated
individual'' is (1) an officer, (2) a five-percent shareholder, (3) an
individual who is highly compensated, or (4) the spouse or dependent of
any of the preceding categories. A ``highly compensated participant''
is a participant who falls in any of those categories. ``Highly
compensated'' is not defined for this purpose. Under section 105(h), a
self-insured medical expense reimbursement plan must not discriminate
in favor of a ``highly compensated individual,'' defined as (1) one of
the five highest paid officers, (2) a 10-percent shareholder, or (3) an
individual among the highest paid 25 percent of all employees. Under
section 129 for a dependent care assistance program, eligibility for
benefits, and the benefits and contributions provided, generally must
not discriminate in favor of highly compensated employees within the
meaning of section 414(q).
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Explanation of Provision
Under the provision, an eligible small employer is provided
with a safe harbor from the nondiscrimination requirements for
cafeteria plans as well as from the nondiscrimination
requirements for specified qualified benefits offered under a
cafeteria plan, including group term life insurance, benefits
under a self insured medical expense reimbursement plan, and
benefits under a dependent care assistance program. Under the
safe harbor, a cafeteria plan and the specified qualified
benefits are treated as meeting the specified nondiscrimination
rules if the cafeteria plan satisfies minimum eligibility and
participation requirements and minimum contribution
requirements.
Eligibility requirement
The eligibility requirement is met only if all employees
(other than excludable employees) are eligible to participate,
and each employee eligible to participate is able to elect any
benefit available under the plan (subject to the terms and
conditions applicable to all participants). However, a
cafeteria plan will not fail to satisfy this eligibility
requirement merely because the plan excludes employees who (1)
have not attained the age of 21 (or a younger age provided in
the plan) before the close of a plan year, (2) have fewer than
1,000 hours of service for the preceding plan year, (3) have
not completed one year of service with the employer as of any
day during the plan year, (4) are covered under an agreement
that the Secretary of Labor finds to be a collective bargaining
agreement if there is evidence that the benefits covered under
the cafeteria plan were the subject of good faith bargaining
between employee representatives and the employer, or (5) are
described in section 410(b)(3)(C) (relating to nonresident
aliens working outside the United States). An employer may have
a shorter age and service requirement but only if such shorter
service or younger age applies to all employees.
Minimum contribution requirement
The minimum contribution requirement is met if the employer
provides a minimum contribution for each nonhighly compensated
employee (employee who is not a highly compensated employee
\954\ or a key employee (within the meaning of section 416(i)))
in addition to any salary reduction contributions made by the
employee. The minimum must be available for application toward
the cost of any qualified benefit (other than a taxable
benefit) offered under the plan. The minimum contribution is
permitted to be calculated under either the nonelective
contribution method or the matching contribution method, but
the same method must be used for calculating the minimum
contribution for all nonhighly compensated employees. The
minimum contribution under the nonelective contribution method
is an amount equal to a uniform percentage (not less than two
percent) of each eligible employee's compensation for the plan
year, determined without regard to whether the employees makes
any salary reduction contribution under the cafeteria plan. The
minimum matching contribution is the lesser of 100 percent of
the amount of the salary reduction contribution elected to be
made by the employee for the plan year or six percent of the
employee's compensation for the plan year. Compensation for
purposes of this minimum contribution requirement is
compensation with the meaning of section 414(s).
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\954\ Section 414(q) generally defines a highly compensated
employee as an employee (1) who was a five-percent owner during the
year or the preceding year, or (2) who had compensation of $110,000
(for 2010) or more for the preceding year. An employer may elect to
limit the employees treated as highly compensated employees based upon
their compensation in the preceding year to the highest paid 20 percent
of employees in the preceding year. Five-percent owner is defined by
cross-reference to the definition of key employee in section 416(i).
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A simple cafeteria plan is permitted to provide for the
matching contributions in addition to the minimum required but
only if matching contributions with respect to salary reduction
contributions for any highly compensated employee or key
employee are not made at a greater rate than the matching
contributions for any nonhighly compensated employee. Nothing
in this provision prohibits an employer from making
contributions to provide qualified benefits under the plan in
addition to the required contributions.
Eligible employer
An eligible small employer under the provision is, with
respect to any year, an employer who employed an average of 100
or fewer employees on business days during either of the two
preceding years. For purposes of the provision, a year may only
be taken into account if the employer was in existence
throughout the year. If an employer was not in existence
throughout the preceding year, the determination is based on
the average number of employees that it is reasonably expected
such employer will employ on business days in the current year.
If an employer was an eligible employer for any year and
maintained a simple cafeteria plan for its employees for such
year, then, for each subsequent year during which the employer
continues, without interruption, to maintain the cafeteria
plan, the employer is deemed to be an eligible small employer
until the employer employs an average of 200 or more employees
on business days during any year preceding any such subsequent
year.
The determination of whether an employer is an eligible
small employer is determined by applying the controlled group
rules of sections 52(a) and (b) under which all members of the
controlled group are treated as a single employer. In addition,
the definition of employee includes leased employees within the
meaning of sections 414(n) and (o).\955\
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\955\ Section 52(b) provides that, for specified purposes, all
employees of all corporations which are members of a controlled group
of corporations are treated as employed by a single employer. However,
section 52(b) provides certain modifications to the control group rules
including substituting 50 percent ownership for 80 percent ownership as
the measure of control. There is a similar rule in section 52(c) under
which all employees of trades or businesses (whether or not
incorporated) which are under common control are treated under
regulations as employed by a single employer. Section 414(n) provides
rules for specified purposes when leased employees are treated as
employed by the service recipient and section 414(o) authorizes the
Treasury to issue regulations to prevent avoidance of the requirements
of section 414(n).
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
T. Investment Credit for Qualifying Therapeutic Discovery Projects
(sec. 9023 of the Act and new sec. 48D of the Code)
Present Law
Present law provides for a research credit equal to 20
percent (14 percent in the case of the alternative simplified
credit) of the amount by which the taxpayer's qualified
research expenses for a taxable year exceed its base amount for
that year.\956\ Thus, the research credit is generally
available with respect to incremental increases in qualified
research.
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\956\ Sec. 41.
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A 20-percent research tax credit is also available with
respect to the excess of (1) 100 percent of corporate cash
expenses (including grants or contributions) paid for basic
research conducted by universities (and certain nonprofit
scientific research organizations) over (2) the sum of (a) the
greater of two minimum basic research floors plus (b) an amount
reflecting any decrease in nonresearch giving to universities
by the corporation as compared to such giving during a fixed-
base period, as adjusted for inflation. This separate credit
computation is commonly referred to as the ``university basic
research credit.'' \957\
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\957\ Sec. 41(e).
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Finally, a research credit is available for a taxpayer's
expenditures on research undertaken by an energy research
consortium. This separate credit computation is commonly
referred to as the ``energy research credit.'' Unlike the other
research credits, the energy research credit applies to all
qualified expenditures, not just those in excess of a base
amount.
The research credit, including the university basic
research credit and the energy research credit, expired for
amounts paid or incurred after December 31, 2009.\958\
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\958\ Sec. 41(h). The research credit, including the university
basic research credit and the energy research credit, was extended for
two years through 2011, in section 731 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010, Pub. L. No.
111-312, described in Part Sixteen of this document.
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Qualified research expenses eligible for the research tax
credit consist of: (1) in-house expenses of the taxpayer for
wages and supplies attributable to qualified research; (2)
certain time-sharing costs for computer use in qualified
research; and (3) 65 percent of amounts paid or incurred by the
taxpayer to certain other persons for qualified research
conducted on the taxpayer's behalf (so-called contract research
expenses).\959\ Notwithstanding the limitation for contract
research expenses, qualified research expenses include 100
percent of amounts paid or incurred by the taxpayer to an
eligible small business, university, or Federal laboratory for
qualified energy research.
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\959\ Under a special rule, 75 percent of amounts paid to a
research consortium for qualified research are treated as qualified
research expenses eligible for the research credit (rather than 65
percent under the general rule of section 41(b)(3) governing contract
research expenses) if (1) such research consortium is a tax-exempt
organization that is described in section 501(c)(3) (other than a
private foundation) or section 501(c)(6) and is organized and operated
primarily to conduct scientific research, and (2) such qualified
research is conducted by the consortium on behalf of the taxpayer and
one or more persons not related to the taxpayer. Sec. 41(b)(3)(C).
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Present law also provides a 50-percent credit \960\ for
expenses related to human clinical testing of drugs for the
treatment of certain rare diseases and conditions, generally
those that afflict less than 200,000 persons in the United
States. Qualifying expenses are those paid or incurred by the
taxpayer after the date on which the drug is designated as a
potential treatment for a rare disease or disorder by the Food
and Drug Administration (``FDA'') in accordance with section
526 of the Federal Food, Drug, and Cosmetic Act.
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\960\ Sec. 45C.
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Present law does not provide a credit specifically designed
to encourage investment in new therapies relating to diseases.
Explanation of Provision
In general
The provision establishes a 50-percent nonrefundable
investment tax credit for qualified investments in qualifying
therapeutic discovery projects. The provision allocates $1
billion during the two-year period 2009 through 2010 for the
program. The Secretary, in consultation with the Secretary of
HHS, will award certifications for qualified investments. The
credit is available only to companies having 250 or fewer
employees.\961\
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\961\ The number of employees is determined taking into account all
businesses of the taxpayer at the time it submits an application, and
is determined taking into account the rules for determining a single
employer under section 52(a) or (b) or section 414(m) or (o).
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A ``qualifying therapeutic discovery project'' is a project
which is designed to develop a product, process, or therapy to
diagnose, treat, or prevent diseases and afflictions by: (1)
conducting pre-clinical activities, clinical trials, clinical
studies, and research protocols, or (2) by developing
technology or products designed to diagnose diseases and
conditions, including molecular and companion drugs and
diagnostics, or to further the delivery or administration of
therapeutics.
The qualified investment for any taxable year is the
aggregate amount of the costs paid or incurred in such year for
expenses necessary for and directly related to the conduct of a
qualifying therapeutic discovery project. The qualified
investment for any taxable year with respect to any qualifying
therapeutic discovery project does not include any cost for:
(1) remuneration for an employee described in section
162(m)(3), (2) interest expense, (3) facility maintenance
expenses, (4) a service cost identified under Treas. Reg. Sec.
1.263A-1(e)(4), or (5) any other expenditure as determined by
the Secretary as appropriate to carry out the purposes of the
provision.
Companies must apply to the Secretary to obtain
certification for qualifying investments.\962\ The Secretary,
in determining qualifying projects, will consider only those
projects that show reasonable potential to: (1) result in new
therapies to treat areas of unmet medical need or to prevent,
detect, or treat chronic or acute disease and conditions, (2)
reduce long-term health care costs in the United States, or (3)
significantly advance the goal of curing cancer within a 30-
year period. Additionally, the Secretary will take into
consideration which projects have the greatest potential to:
(1) create and sustain (directly or indirectly) high quality,
high paying jobs in the United States, and (2) advance the
United States' competitiveness in the fields of life,
biological, and medical sciences.
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\962\ The Secretary must take action to approve or deny an
application within 30 days of the submission of such application.
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Qualified therapeutic discovery project expenditures do not
qualify for the research credit, orphan drug credit, or bonus
depreciation.\963\ If a credit is allowed for an expenditure
related to property subject to depreciation, the basis of the
property is reduced by the amount of the credit. Additionally,
expenditures taken into account in determining the credit are
nondeductible to the extent of the credit claimed that is
attributable to such expenditures.
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\963\ Any expenses for the taxable year that are qualified research
expenses under section 41(b) are taken into account in determining base
period research expenses for purposes of computing the research credit
under section 41 for subsequent taxable years.
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Election to receive grant in lieu of tax credit
Taxpayers may elect to receive credits that have been
allocated to them in the form of Treasury grants equal to 50
percent of the qualifying investment. Any such grant is not
includible in the taxpayer's gross income.
In making grants under this section, the Secretary of the
Treasury is to apply rules similar to the rules of section 50.
In applying such rules, if an investment ceases to be a
qualified investment, the Secretary of the Treasury shall
provide for the recapture of the appropriate percentage of the
grant amount in such manner as the Secretary of the Treasury
determines appropriate. The Secretary of the Treasury shall not
make any grant under this section to: (1) any Federal, State,
or local government (or any political subdivision, agency, or
instrumentality thereof), (2) any organization described in
section 501(c) and exempt from tax under section 501(a), (3)
any entity referred to in paragraph (4) of section 54(j), or
(4) any partnership or other pass-thru entity any partner (or
other holder of an equity or profits interest) of which is
described in paragraph (1), (2), or (3).
Effective Date
The provision applies to expenditures paid or incurred
after December 31, 2008, in taxable years beginning after
December 31, 2008.
TITLE X--STRENGTHENING QUALITY, AFFORDABLE HEALTH CARE FOR ALL
AMERICANS
A. Study of Geographic Variation in Application of FPL (sec. 10105 of
the Act)
Present Law
No provision.
Explanation of Provision
The Secretary of HHS is instructed to conduct a study on
the feasibility and implication of adjusting the application of
the FPL under the provisions enacted in the Act for different
geographical areas so as to reflect disparities in the cost of
living among different areas in the United States, including
the territories. If the Secretary deems such an adjustment
feasible, then the study should include a methodology for
implementing the adjustment. The Secretary is required to
report the results of the study to Congress no later than
January 1, 2013. The provision requires that special attention
be paid to the impact of disparities between the poverty levels
and the cost of living in the territories and the impact of
this disparity on the expansion of health coverage in the
territories. The territories are the Commonwealth of Puerto
Rico, the U.S. Virgin Islands, Guam, the Commonwealth of the
Northern Mariana Islands, American Samoa, and any other
territory or possession of the United States.
Effective Date
The provision is effective on the date of enactment (March
23, 2010).
B. Free Choice Vouchers (sec. 10108 of the Act and sec. 139D of the
Code)
Present Law
No provision.
Explanation of Provision
Provision of vouchers
Employers offering minimum essential coverage through an
eligible employer-sponsored plan and paying a portion of that
coverage must provide qualified employees with a voucher whose
value can be applied to purchase of a health plan through the
Exchange. Qualified employees are employees whose required
contribution for employer sponsored minimum essential coverage
exceeds eight percent, but does not exceed 9.8 percent of the
employee's household income for the taxable year and the
employee's total household income does not exceed 400 percent
of the poverty line for the family. In addition, the employee
must not participate in the employer's health plan.
The value of the voucher is equal to the dollar value of
the employer contribution to the employer offered health plan.
If multiple plans are offered by the employer, the value of the
voucher is the dollar amount that would be paid if the employee
chose the plan for which the employer would pay the largest
percentage of the premium cost.\964\ The value of the voucher
is for self-only coverage unless the individual purchases
family coverage in the Exchange. Under the provision, for
purposes of calculating the dollar value of the employer
contribution, the premium for any health plan is determined
under rules similar to the rules of section 2204 of PHSA,
except that the amount is adjusted for age and category of
enrollment in accordance with regulations established by the
Secretary.
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\964\ For example, if an employer offering the same plans for $200
and $300 offers a flat $180 contribution for all plans, a contribution
of 90 percent for the $200 plan and a contribution of 60 percent for
the $300 plan, and the value of the voucher would equal the value of
the contribution to the $200 since it received a 90 percent
contribution, a value of $180. However, if the firm offers a $150
contribution to the $200 plan (75 percent) and a $200 contribution to
the $300 plan (67 percent), the value of the voucher is based on the
plan receiving the greater percentage paid by the employer and would be
$150. If a firm offers health plans with monthly premiums of $200 and
$300 and provides a payment of 60 percent of any plan purchased, the
value of the voucher will be 60 percent the higher premium plan, in
this case, 60 percent of $300 or $180.
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In the case of years after 2014, the eight percent and the
9.8 percent are indexed to the excess of premium growth over
income growth for the preceding calendar year.
Use of vouchers
Vouchers can be used in the Exchange towards the monthly
premium of any qualified health plan in the Exchange. The value
of the voucher to the extent it is used for the purchase of a
health plan is not includable in gross income. If the value of
the voucher exceeds the premium of the health plan chosen by
the employee, the employee is paid the excess value of the
voucher. The excess amount received by the employee is
includible in the employee's gross income.
If an individual receives a voucher, the individual is
disqualified from receiving any tax credit or cost sharing
credit for the purchase of a plan in the Exchange. Similarly,
if any employee receives a free choice voucher, the employer is
not be assessed a shared responsibility payment on behalf of
that employee.\965\
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\965\ Section 1513 of the Patient Protection and Affordable Care
Act, Pub. L. No. 111-148, and new Code section 4980H.
---------------------------------------------------------------------------
Definition of terms
The terms used for this provision have the same meaning as
any term used in the provision for the requirement to maintain
minimum essential coverage (section 1501 of the Act and new
section 5000A). Thus for example, the terms ``household
income,'' ``poverty line,'' ``required contribution,'' and
``eligible employer-sponsored plan'' have the same meaning for
both provisions. Thus, the required contribution includes the
amount of any salary reduction contribution.
Effective Date
The provision is effective after December 31, 2013.
C. Exclusion for Assistance Provided to Participants in State Student
Loan Repayment Programs for Certain Health Professionals (sec. 10908 of
the Act and sec. 108(f)(4) of the Code)
Present Law
Gross income generally includes the discharge of
indebtedness of the taxpayer. Under an exception to this
general rule, gross income does not include any amount from the
forgiveness (in whole or in part) of certain student loans,
provided that the forgiveness is contingent on the student's
working for a certain period of time in certain professions for
any of a broad class of employers.
Student loans eligible for this special rule must be made
to an individual to assist the individual in attending an
educational institution that normally maintains a regular
faculty and curriculum and normally has a regularly enrolled
body of students in attendance at the place where its education
activities are regularly carried on. Loan proceeds may be used
not only for tuition and required fees, but also to cover room
and board expenses. The loan must be made by (1) the United
States (or an instrumentality or agency thereof), (2) a State
(or any political subdivision thereof), (3) certain tax-exempt
public benefit corporations that control a State, county, or
municipal hospital and whose employees have been deemed to be
public employees under State law, or (4) an educational
organization that originally received the funds from which the
loan was made from the United States, a State, or a tax-exempt
public benefit corporation.
In addition, an individual's gross income does not include
amounts from the forgiveness of loans made by educational
organizations (and certain tax-exempt organizations in the case
of refinancing loans) out of private, nongovernmental funds if
the proceeds of such loans are used to pay costs of attendance
at an educational institution or to refinance any outstanding
student loans (not just loans made by educational
organizations) and the student is not employed by the lender
organization. In the case of such loans made or refinanced by
educational organizations (or refinancing loans made by certain
tax-exempt organizations), cancellation of the student loan
must be contingent upon the student working in an occupation or
area with unmet needs, and such work must be performed for, or
under the direction of, a tax-exempt charitable organization or
a governmental entity.
Finally, an individual's gross income does not include any
loan repayment amount received under the National Health
Service Corps loan repayment program or certain State loan
repayment programs.
Explanation of Provision
The provision modifies the gross income exclusion for
amounts received under the National Health Service Corps loan
repayment program or certain State loan repayment programs to
include any amount received by an individual under any State
loan repayment or loan forgiveness program that is intended to
provide for the increased availability of health care services
in underserved or health professional shortage areas (as
determined by the State).
Effective Date
The provision is effective for amounts received by an
individual in taxable years beginning after December 31, 2008.
D. Expansion of Adoption Credit and the Exclusion from Gross Income for
Employer-Provided Adoption Assistance (sec. 10909 of the Act and secs.
23 and 137 of the Code)
Present Law
Tax credit
Non-special needs adoptions
Generally a nonrefundable tax credit is allowed for
qualified adoption expenses paid or incurred by a taxpayer
subject to the maximum credit. The maximum credit is $12,170
per eligible child for taxable years beginning in 2010. An
eligible child is an individual who: (1) has not attained age
18; or (2) is physically or mentally incapable of caring for
himself or herself. The maximum credit is applied per child
rather than per year. Therefore, while qualified adoption
expenses may be incurred in one or more taxable years, the tax
credit per adoption of an eligible child may not exceed the
maximum credit.
Special needs adoptions
In the case of a special needs adoption finalized during a
taxable year, the taxpayer may claim as an adoption credit the
amount of the maximum credit minus the aggregate qualified
adoption expenses with respect to that adoption for all prior
taxable years. A special needs child is an eligible child who
is a citizen or resident of the United States whom a State has
determined: (1) cannot or should not be returned to the home of
the birth parents; and (2) has a specific factor or condition
(such as the child's ethnic background, age, or membership in a
minority or sibling group, or the presence of factors such as
medical conditions, or physical, mental, or emotional
handicaps) because of which the child cannot be placed with
adoptive parents without adoption assistance.
Qualified adoption expenses
Qualified adoption expenses are reasonable and necessary
adoption fees, court costs, attorneys fees, and other expenses
that are: (1) directly related to, and the principal purpose of
which is for, the legal adoption of an eligible child by the
taxpayer; (2) not incurred in violation of State or Federal
law, or in carrying out any surrogate parenting arrangement;
(3) not for the adoption of the child of the taxpayer's spouse;
and (4) not reimbursed (e.g., by an employer).
Phase-out for higher-income individuals
The adoption credit is phased out ratably for taxpayers
with modified adjusted gross income between $182,520 and
$222,520 for taxable years beginning in 2010. Under present
law, modified adjusted gross income is the sum of the
taxpayer's adjusted gross income plus amounts excluded from
income under sections 911, 931, and 933 (relating to the
exclusion of income of U.S. citizens or residents living
abroad; residents of Guam, American Samoa, and the Northern
Mariana Islands; and residents of Puerto Rico, respectively).
EGTRRA sunset \966\
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\966\ ``EGTRRA'' refers to the Economic Growth and Tax Relief
Reconciliation Act of 2001, Pub. L. No. 107-16.
---------------------------------------------------------------------------
For taxable years after 2010, the adoption credit will be
reduced to a maximum credit of $6,000 for special needs
adoptions and no tax credit for non-special needs adoptions.
Also, the credit phase-out range will revert to the pre-EGTRRA
levels (i.e., a ratable phase-out between modified adjusted
gross income between $75,000 and $115,000). Finally, the
adoption credit will be allowed only to the extent the
individual's regular income tax liability exceeds the
individual's tentative minimum tax, determined without regard
to the minimum foreign tax credit.
Exclusion for employer-provided adoption assistance
An exclusion from the gross income of an employee is
allowed for qualified adoption expenses paid or reimbursed by
an employer under an adoption assistance program. For 2010, the
maximum exclusion is $12,170. Also for 2010, the exclusion is
phased out ratably for taxpayers with modified adjusted gross
income between $182,520 and $222,520. Modified adjusted gross
income is the sum of the taxpayer's adjusted gross income plus
amounts excluded from income under Code sections 911, 931, and
933 (relating to the exclusion of income of U.S. citizens or
residents living abroad; residents of Guam, American Samoa, and
the Northern Mariana Islands; and residents of Puerto Rico,
respectively). For purposes of this exclusion, modified
adjusted gross income also includes all employer payments and
reimbursements for adoption expenses whether or not they are
taxable to the employee.
Adoption expenses paid or reimbursed by the employer under
an adoption assistance program are not eligible for the
adoption credit. A taxpayer may be eligible for the adoption
credit (with respect to qualified adoption expenses he or she
incurs) and also for the exclusion (with respect to different
qualified adoption expenses paid or reimbursed by his or her
employer).
Because of the EGTRRA sunset, the exclusion for employer-
provided adoption assistance does not apply to amounts paid or
incurred after December 31, 2010.
Explanation of Provision
Tax credit
For 2010, the maximum credit is increased to $13,170 per
eligible child (a $1,000 increase). This increase applies to
both non-special needs adoptions and special needs adoptions.
Also, the adoption credit is made refundable.
The new dollar limit and phase-out of the adoption credit
are adjusted for inflation in taxable years beginning after
December 31, 2010.
The EGTRRA sunset is delayed for one year (i.e., the sunset
becomes effective for taxable years beginning after December
31, 2011).
Adoption assistance program
The maximum exclusion is increased to $13,170 per eligible
child (a $1,000 increase).
The new dollar limit and income limitations of the
employer-provided adoption assistance exclusion are adjusted
for inflation in taxable years beginning after December 31,
2010.
The EGTRRA sunset is delayed for one year (i.e., the sunset
becomes effective for taxable years beginning after December
31, 2011).\967\
---------------------------------------------------------------------------
\967\ Section 101(b) of the Tax Relief, Unemployment Insurance
Reauthorization, and Job Creation Act of 2010 terminated the amendments
made by this provision for taxable years beginning after December 31,
2011, without regard to the EGTRRA sunset.
---------------------------------------------------------------------------
Effective Date
The provisions generally are effective for taxable years
beginning after December 31, 2009.
HEALTH CARE AND EDUCATION RECONCILIATION ACT OF 2010
A. Adult Dependents (sec. 1004 of the Act and secs. 105, 162, 401, and
501 of the Code)
Present Law
Definition of dependent for exclusion for employer-provided health
coverage
The Code generally provides that employees are not taxed on
(that is, may ``exclude'' from gross income) the value of
employer-provided health coverage under an accident or health
plan.\968\ This exclusion applies to coverage for personal
injuries or sickness for employees (including retirees), their
spouses and their dependents.\969\ In addition, any
reimbursements under an accident or health plan for medical
care expenses for employees (including retirees), their
spouses, and their dependents (as defined in section 152)
generally are excluded from gross income.\970\ Section 152
defines a dependent as a qualifying child or qualifying
relative.
---------------------------------------------------------------------------
\968\ Sec 106.
\969\ Treas. Reg. sec. 1.106-1.
\970\ Sec. 105(b).
---------------------------------------------------------------------------
Under section 152(c), a child generally is a qualifying
child of a taxpayer if the child satisfies each of five tests
for the taxable year: (1) the child has the same principal
place of abode as the taxpayer for more than one-half of the
taxable year; (2) the child has a specified relationship to the
taxpayer; (3) the child has not yet attained a specified age;
(4) the child has not provided over one-half of their own
support for the calendar year in which the taxable year of the
taxpayer begins; and (5) the qualifying child has not filed a
joint return (other than for a claim of refund) with their
spouse for the taxable year beginning in the calendar year in
which the taxable year of the taxpayer begins. A tie-breaking
rule applies if more than one taxpayer claims a child as a
qualifying child. The specified relationship is that the child
is the taxpayer's son, daughter, stepson, stepdaughter,
brother, sister, stepbrother, stepsister, or a descendant of
any such individual. With respect to the specified age, a child
must be under age 19 (or under age 24 in the case of a full-
time student). However, no age limit applies with respect to
individuals who are totally and permanently disabled within the
meaning of section 22(e)(3) at any time during the calendar
year. Other rules may apply.
Under section 152(d), a qualifying relative means an
individual that satisfies four tests for the taxable year: (1)
the individual bears a specified relationship to the taxpayer;
(2) the individual's gross income for the calendar year in
which such taxable year begins is less than the exemption
amount under section 151(d); (3) the taxpayer provides more
than one-half the individual's support for the calendar year in
which the taxable year begins; and (4) the individual is not a
qualifying child of the taxpayer or any other taxpayer for any
taxable year beginning in the calendar year in which such
taxable year begins. The specified relationship test for
qualifying relative is satisfied if that individual is the
taxpayer's: (1) child or descendant of a child; (2) brother,
sister, stepbrother or stepsister; (3) father, mother or
ancestor of either; (4) stepfather or stepmother; (5) niece or
nephew; (6) aunt or uncle; (7) in-law; or (8) certain other
individuals, who for the taxable year of the taxpayer, have the
same principal place of abode as the taxpayer and are members
of the taxpayer's household.\971\
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\971\ Generally, same-sex partners do not qualify as dependents
under section 152. In addition, same-sex partners are not recognized as
spouses for purposes of the Code. The Defense of Marriage Act, Pub. L.
No. 104-199.
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Employers may agree to reimburse medical expenses of their
employees (and their spouses and dependents), not covered by a
health insurance plan, through flexible spending arrangements
which allow reimbursement not in excess of a specified dollar
amount (either elected by an employee under a cafeteria plan or
otherwise specified by the employer). Reimbursements under
these arrangements are also excludible from gross income as
employer-provided health coverage. The same definition of
dependents applies for purposes of flexible spending
arrangements.
Deduction for health insurance premiums of self-employed individuals
Under present law, self-employed individuals may deduct the
cost of health insurance for themselves and their spouses and
dependents. The deduction is not available for any month in
which the self-employed individual is eligible to participate
in an employer-subsidized health plan. Moreover, the deduction
may not exceed the individual's self-employment income. The
deduction applies only to the cost of insurance (i.e., it does
not apply to out-of-pocket expenses that are not reimbursed by
insurance). The deduction does not apply for self-employment
tax purposes. For purposes of the deduction, a more than two
percent shareholder-employee of an S corporation is treated the
same as a self-employed individual. Thus, the exclusion for
employer-provided health care coverage does not apply to such
individuals, but they are entitled to the deduction for health
insurance costs as if they were self-employed.
Voluntary Employees' Beneficiary Associations
A VEBA is a tax-exempt entity that is a part of a plan for
providing life, sick or accident benefits to its members or
their dependents or designated beneficiaries.\972\ No part of
the net earnings of the association inures (other than through
the payment of life, sick, accident or other benefits) to the
benefit of any private shareholder or individual. A VEBA may be
funded with employer contributions or employee contributions or
a combination of employer contributions and employee
contributions. The same definition of dependent applies for
purposes of receipt of medical benefits through a VEBA.
---------------------------------------------------------------------------
\972\ Secs. 419(e) and 501(c)(9).
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Qualified plans providing retiree health benefits
A qualified pension or annuity plan can establish and
maintain a separate account to provide for the payment of
sickness, accident, hospitalization, and medical expenses for
retired employees, their spouses and their dependents (``401(h)
account''). An employer's contributions to a 401(h) account
must be reasonable and ascertainable, and retiree health
benefits must be subordinate to the retirement benefits
provided by the plan. In addition, it must be impossible, at
any time prior to the satisfaction of all retiree health
liabilities under the plan, for any part of the corpus or
income of the 401(h) account to be (within the taxable year or
thereafter) used for, or diverted to, any purpose other than
providing retiree health benefits and, upon satisfaction of all
retiree health liabilities, the plan must provide that any
amount remaining in the 401(h) account be returned to the
employer.
Explanation of Provision
The provision amends section 105(b) to extend the general
exclusion for reimbursements for medical care expenses under an
employer-provided accident or health plan to any child of an
employee who has not attained age 27 as of the end of the
taxable year. This change is also intended to apply to the
exclusion for employer- proved coverage under an accident or
health plan for injuries or sickness for such a child. A
parallel change is made for VEBAs and 401(h) accounts.
The provision similarly amends section 162(l) to permit
self-employed individuals to take a deduction for the cost of
health insurance for any child of the taxpayer who has not
attained age 27 as of the end of the taxable year.
For purposes of the provision, ``child'' means an
individual who is a son, daughter, stepson, stepdaughter or
eligible foster child of the taxpayer.\973\ An eligible foster
child means an individual who is placed with the taxpayer by an
authorized placement agency or by judgment, decree, or other
order of any court of competent jurisdiction.
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\973\ Sec. 152(f)(1). Under section 152(f)(1), a legally adopted
child of the taxpayer or an individual who is lawfully placed with the
taxpayer for legal adoption by the taxpayer is treated as a child of
the taxpayer by blood.
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Effective Date
The provision is effective as of the date of enactment
(March 30, 2010).
B. Unearned Income Medicare Contribution (sec. 1402 of the Act and new
sec. 1411 of the Code)
Present Law
Social Security benefits and certain Medicare benefits are
financed primarily by payroll taxes on covered wages. FICA
imposes tax on employers based on the amount of wages paid to
an employee during the year. The tax imposed is composed of two
parts: (1) the OASDI tax equal to 6.2 percent of covered wages
up to the taxable wage base ($106,800 in 2010); and (2) the
Medicare hospital insurance (``HI'') tax amount equal to 1.45
percent of covered wages. In addition to the tax on employers,
each employee is subject to FICA taxes equal to the amount of
tax imposed on the employer. The employee level tax generally
must be withheld and remitted to the Federal government by the
employer.
As a parallel to FICA taxes, SECA imposes taxes on the net
income from self-employment of self-employed individuals. The
rate of the OASDI portion of SECA taxes is equal to the
combined employee and employer OASDI FICA tax rates and applies
to self- employment income up to the FICA taxable wage base.
Similarly, the rate of the HI portion is the same as the
combined employer and employee HI rates and there is no cap on
the amount of self-employment income to which the rate
applies.\974\
---------------------------------------------------------------------------
\974\ For purposes of computing net earnings from self employment,
taxpayers are permitted a deduction equal to the product of the
taxpayer's earnings (determined without regard to this deduction) and
one-half of the sum of the rates for OASDI tax (12.4 percent) and HI
tax (2.9 percent), i.e., 7.65 percent of net earnings. This deduction
reflects the fact that the FICA rates apply to an employee's wages,
which do not include FICA taxes paid by the employer, whereas the self-
employed individual's net earnings are economically equivalent to an
employee's wages plus the employer share of FICA taxes.
---------------------------------------------------------------------------
Explanation of Provision
In general
In the case of an individual, estate, or trust an unearned
income Medicare contribution tax is imposed. No provision is
made for the transfer of the tax imposed by this provision from
the General Fund of the United States Treasury to any Trust
Fund.
In the case of an individual, the tax is 3.8 percent of the
lesser of net investment income or the excess of modified
adjusted gross income over the threshold amount.
The threshold amount is $250,000 in the case of a joint
return or surviving spouse, $125,000 in the case of a married
individual filing a separate return, and $200,000 in any other
case.
Modified adjusted gross income is adjusted gross income
increased by the amount excluded from income as foreign earned
income under section 911(a)(1) (net of the deductions and
exclusions disallowed with respect to the foreign earned
income).
In the case of an estate or trust, the tax is 3.8 percent
of the lesser of undistributed net investment income or the
excess of adjusted gross income (as defined in section 67(e))
over the dollar amount at which the highest income tax bracket
applicable to an estate or trust begins.
The tax does not apply to a non-resident alien or to a
trust all the unexpired interests in which are devoted to
charitable purposes. The tax also does not apply to a trust
that is exempt from tax under section 501 or a charitable
remainder trust exempt from tax under section 664.
The tax is subject to the individual estimated tax
provisions. The tax is not deductible in computing any tax
imposed by subtitle A of the Internal Revenue Code (relating to
income taxes).
Net investment income
Net investment income is investment income reduced by the
deductions properly allocable to such income.
Investment income is the sum of (i) gross income from
interest, dividends, annuities, royalties, and rents (other
than income derived in the ordinary course of any trade or
business to which the tax does not apply), (ii) other gross
income derived from any trade or business to which the tax
applies, and (iii) net gain (to the extent taken into account
in computing taxable income) attributable to the disposition of
property other than property held in a trade or business to
which the tax does not apply.\975\
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\975\ Gross income does not include items, such as interest on tax-
exempt bonds, veterans' benefits, and excluded gain from the sale of a
principal residence, which are excluded from gross income under the
income tax.
---------------------------------------------------------------------------
In the case of a trade or business, the tax applies if the
trade or business is a passive activity with respect to the
taxpayer or the trade or business consists of trading financial
instruments or commodities (as defined in section 475(e)(2)).
The tax does not apply to other trades or businesses.
In the case of the disposition of a partnership interest or
stock in an S corporation, gain or loss is taken into account
only to the extent gain or loss would be taken into account by
the partner or shareholder if the entity had sold all its
properties for fair market value immediately before the
disposition. Thus, only net gain or loss attributable to
property held by the entity which is not property attributable
to an active trade or business is taken into account.\976\
---------------------------------------------------------------------------
\976\ For this purpose, a business of trading financial instruments
or commodities is not treated as an active trade or business.
---------------------------------------------------------------------------
Income, gain, or loss on working capital is not treated as
derived from a trade or business. Investment income does not
include distributions from a qualified retirement plan or
amounts subject to SECA tax.
Effective Date
The provision applies to taxable years beginning after
December 31, 2012.
C. Excise Tax on Medical Device Manufacturers \977\ (sec. 1405 of the
Act and new sec. 4191 of the Code)
---------------------------------------------------------------------------
\977\ The excise tax on medical devices as imposed by this
provision replaces the annual fee on medical device manufacturers and
importers under section 9009 of the Patient Protection and Affordable
Care Act.
---------------------------------------------------------------------------
Present Law
Chapter 32 imposes excise taxes on sales by manufacturers
of certain products. Terms and procedures related to the
imposition, payment, and reporting of these excise taxes are
included in various provisions within the Code.
Certain sales are exempt from the excise tax imposed on
manufacturers. Exempt sales include sales (1) for use by the
purchaser for further manufacture, or for resale to a second
purchaser in further manufacture, (2) for export or for resale
to a second purchaser for export, (3) for use by the purchaser
as supplies for vessels or aircraft, (4) to a State or local
government for the exclusive use of a State or local
government, (5) to a nonprofit educational organization for its
exclusive use, or (6) to a qualified blood collector
organization for such organization's exclusive use in the
collection, storage, or transportation of blood.\978\ If an
article is sold free of tax for resale to a second purchaser
for further manufacture or for export, the exemption will not
apply unless, within the six-month period beginning on the date
of sale by the manufacturer, the manufacturer receives proof
that the article has been exported or resold for the use in
further manufacturing.\979\ In general, the exemptions will not
apply unless the manufacturer, the first purchaser, and the
second purchaser are registered with the Secretary of the
Treasury.
---------------------------------------------------------------------------
\978\ Sec. 4221(a).
\979\ Sec. 4221(b).
---------------------------------------------------------------------------
The lease of an article is generally considered to be a
sale of such article.\980\ Special rules apply for the
imposition of tax to each lease payment. Rules are also imposed
that treat the use of articles subject to tax by manufacturers,
producers, or importers of such articles, as sales for the
purpose of imposition of certain excise taxes.\981\
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\980\ Sec. 4217(a).
\981\ Sec. 4218.
---------------------------------------------------------------------------
There are also rules for determining the price of an
article on which excise tax is imposed.\982\ These rules
provide for: (1) the inclusion of containers, packaging, and
certain transportation charges in the price, (2) determining a
constructive sales price if an article is sold for less than
the fair market price, and (3) determining the tax due in the
case of partial payments or installment sales.
---------------------------------------------------------------------------
\982\ Sec. 4216.
---------------------------------------------------------------------------
A credit or refund is generally allowed for overpayments of
manufacturers excise taxes.\983\ Overpayments may occur when
tax-paid articles are sold for export and for certain specified
uses and resales, when there are price adjustments, and where
tax paid articles are subject to further manufacture.
Generally, no credit or refund of any overpayment of tax is
allowed or made unless the person who paid the tax establishes
one of four prerequisites: (1) the tax was not included in the
price of the article or otherwise collected from the person who
purchased the article; (2) the tax was repaid to the ultimate
purchaser of the article; (3) for overpayments due to specified
uses and resales, the tax has been repaid to the ultimate
vendor or the person has obtained the written consent of such
ultimate vendor; or (4) the person has filed with the Secretary
of the Treasury the written consent of the ultimate purchaser
of the article to the allowance of the credit or making of the
refund.\984\
---------------------------------------------------------------------------
\983\ Sec. 6416.
\984\ Sec. 6416(a).
---------------------------------------------------------------------------
Explanation of Provision
Under the provision, a tax equal to 2.3 percent of the sale
price is imposed on the sale of any taxable medical device by
the manufacturer, producer, or importer of such device. A
taxable medical device is any device, defined in section 201(h)
of the Federal Food, Drug, and Cosmetic Act,\985\ intended for
humans. The excise tax does not apply to eyeglasses, contact
lenses, hearing aids, and any other medical device determined
by the Secretary to be of a type that is generally purchased by
the general public at retail for individual use. The Secretary
may determine that a specific medical device is exempt under
the provision if the device is generally sold at retail
establishments (including over the internet) to individuals for
their personal use. The exemption for such items is not limited
by device class as defined in section 513 of the Federal Food,
Drug, and Cosmetic Act. For example, items purchased by the
general public at retail for individual use could include Class
I items such as certain bandages and tipped applicators, Class
II items such as certain pregnancy test kits and diabetes
testing supplies, and Class III items such as certain denture
adhesives and snake bite kits. Such items would only be exempt
if they are generally designed and sold for individual use. It
is anticipated that the Secretary will publish a list of
medical device classifications \986\ that are of a type
generally purchased by the general public at retail for
individual use.
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\985\ 21 U.S.C. 321. Section 201(h) defines device as an
instrument, apparatus, implement, machine, contrivance, implant, in
vitro reagent, or other similar or related article, including any
component, part, or accessory, which is (1) recognized in the official
National Formulary, or the United States Pharmacopeia, or any
supplement to them, (2) intended for use in the diagnosis of disease or
other conditions, or in the cure, mitigation, treatment, or prevention
of disease, in man or other animals, or (3) intended to affect the
structure or any function of the body of man or other animals, and
which does not achieve its primary intended purposes through chemical
action within or on the body of man or other animals and which is not
dependent upon being metabolized for the achievement of its primary
intended purposes.
\986\ Medical device classifications are found in Title 21 of the
Code of Federal Regulations, Parts 862-892.
---------------------------------------------------------------------------
The present law manufacturers excise tax exemptions for
further manufacture and for export apply to tax imposed under
this provision; however exemptions for use as supplies for
vessels or aircraft, and for sales to State or local
governments, nonprofit educational organizations, and qualified
blood collector organizations are not applicable.
The provision repeals section 9009 of the Patient
Protection and Affordable Care Act (relating to an annual fee
on medical device manufacturers and importers).
Effective Date
The provision applies to sales after December 31, 2012.
The repeal of section 9009 of Patient Protection and
Affordable Care Act is effective on the date of enactment of
the Patient Protection and Affordable Care Act (March 30,
2010).
D. Elimination of Unintended Application of Cellulosic Biofuel Producer
Credit (sec. 1408 of the Act and sec. 40 of the Code)
Present Law
The ``cellulosic biofuel producer credit'' is a
nonrefundable income tax credit for each gallon of qualified
cellulosic fuel production of the producer for the taxable
year. The amount of the credit is generally $1.01 per
gallon.\987\
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\987\ In the case of cellulosic biofuel that is alcohol, the $1.01
credit amount is reduced by the credit amount of the alcohol mixture
credit, and for ethanol, the credit amount for small ethanol producers,
as in effect at the time the cellulosic biofuel fuel is produced.
---------------------------------------------------------------------------
``Qualified cellulosic biofuel production'' is any
cellulosic biofuel which is produced by the taxpayer and which
is: (1) sold by the taxpayer to another person (a) for use by
such other person in the production of a qualified cellulosic
biofuel mixture in such person's trade or business (other than
casual off-farm production), (b) for use by such other person
as a fuel in a trade or business, or (c) who sells such
cellulosic biofuel at retail to another person and places such
cellulosic biofuel in the fuel tank of such other person; or
(2) used by the producer for any purpose described in (1)(a),
(b), or (c).
``Cellulosic biofuel'' means any liquid fuel that (1) is
produced in the United States and used as fuel in the United
States, (2) is derived from any lignocellulosic or
hemicellulosic matter that is available on a renewable or
recurring basis, and (3) meets the registration requirements
for fuels and fuel additives established by the Environmental
Protection Agency (``EPA'') under section 211 of the Clean Air
Act. The cellulosic biofuel producer credit cannot be claimed
unless the taxpayer is registered by the IRS as a producer of
cellulosic biofuel.
Cellulosic biofuel eligible for the section 40 credit is
precluded from qualifying as biodiesel, renewable diesel, or
alternative fuel for purposes of the applicable income tax
credit, excise tax credit, or payment provisions relating to
those fuels.\988\
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\988\ See secs. 40A(d)(1), 40A(f)(3), and 6426(h).
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Because it is a credit under section 40(a), the cellulosic
biofuel producer credit is part of the general business credits
in section 38. However, the credit can only be carried forward
three taxable years after the termination of the credit. The
credit is also allowable against the alternative minimum tax.
Under section 87, the credit is included in gross income. The
cellulosic biofuel producer credit terminates on December 31,
2012.
The kraft process for making paper produces a byproduct
called black liquor, which has been used for decades by paper
manufacturers as a fuel in the papermaking process. Black
liquor is composed of water, lignin and the spent chemicals
used to break down the wood. The amount of the biomass in black
liquor varies. The portion of the black liquor that is not
consumed as a fuel source for the paper mills is recycled back
into the papermaking process. Black liquor has ash content
(mineral and other inorganic matter) significantly above that
of other fuels.
In an informal Chief Counsel Advice (``CCA''), the IRS has
concluded that black liquor is a liquid fuel from biomass and
may qualify for the cellulosic biofuel producer credit, as well
as the refundable alternative fuel mixture credit.\989\ A
taxpayer cannot claim both the alternative fuel mixture credit
and the cellulosic biofuel producer credit. The alternative
fuel credits and payment provisions expired December 31, 2009.
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\989\ Chief Couns. Adv. 200941011 (June 30, 2009). The Code
provides for a tax credit of 50 cents for each gallon of alternative
fuel used to produce an alternative fuel mixture that is used or sold
for use as a fuel. (sec. 6426(e)). Under Notice 2006-92, an alternative
fuel mixture is a mixture of alternative fuel and a taxable fuel (such
as diesel) that contains at least 0.1 percent taxable fuel. Liquid fuel
derived from biomass is an alternative fuel (sec. 6426(d)(2)(G)).
Diesel fuel has been added to black liquor to qualify for the
alternative mixture credit and the mixture is burned in a recovery
boiler as fuel. Persons that have an alternative fuel mixture credit
amount in excess of their taxable fuel excise tax liability may make a
claim for payment from the Treasury in the amount of the excess.
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Explanation of Provision
The provision modifies the cellulosic biofuel producer
credit to exclude fuels with significant water, sediment, or
ash content, such as black liquor. Consequently, credits will
cease to be available for these fuels. Specifically, the
provision excludes from the definition of cellulosic biofuel
any fuels that (1) are more than four percent (determined by
weight) water and sediment in any combination, or (2) have an
ash content of more than one percent (determined by weight).
Water content (including both free water and water in solution
with dissolved solids) is determined by distillation, using for
example ASTM method D95 or a similar method suitable to the
specific fuel being tested. Sediment consists of solid
particles that are dispersed in the liquid fuel and is
determined by centrifuge or extraction using, for example, ASTM
method D1796 or D473 or similar method that reports sediment
content in weight percent. Ash is the residue remaining after
combustion of the sample using a specified method, such as ASTM
D3174 or a similar method suitable for the fuel being tested.
Effective Date
The provision is effective for fuels sold or used on or
after January 1, 2010.
E. Codification of Economic Substance Doctrine and Imposition of
Penalties (sec. 1409 of the Act and secs. 6662, 6662A, 6664, 6676, and
7701 of the Code)
Present Law
In general
The Code provides detailed rules specifying the computation
of taxable income, including the amount, timing, source, and
character of items of income, gain, loss, and deduction. These
rules permit both taxpayers and the government to compute
taxable income with reasonable accuracy and predictability.
Taxpayers generally may plan their transactions in reliance on
these rules to determine the Federal income tax consequences
arising from the transactions.
In addition to the statutory provisions, courts have
developed several doctrines that can be applied to deny the tax
benefits of a tax-motivated transaction, notwithstanding that
the transaction may satisfy the literal requirements of a
specific tax provision. These common-law doctrines are not
entirely distinguishable, and their application to a given set
of facts is often blurred by the courts, the IRS, and
litigants. Although these doctrines serve an important role in
the administration of the tax system, they can be seen as at
odds with an objective, ``rule-based'' system of taxation.
One common-law doctrine applied over the years is the
``economic substance'' doctrine. In general, this doctrine
denies tax benefits arising from transactions that do not
result in a meaningful change to the taxpayer's economic
position other than a purported reduction in Federal income
tax.\990\
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\990\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d 231 (3d
Cir. 1998), aff'g 73 T.C.M. (CCH) 2189 (1997), cert. denied 526 U.S.
1017 (1999); Klamath Strategic Investment Fund, LLC v. United States,
472 F. Supp. 2d 885 (E.D. Texas 2007), aff'd 568 F.3d 537 (5th Cir.
2009); Coltec Industries, Inc. v. United States, 454 F.3d 1340 (Fed.
Cir. 2006), vacating and remanding 62 Fed. Cl. 716 (2004) (slip opinion
pp. 123-124, 128); cert. denied, 127 S. Ct. 1261 (Mem.) (2007).
Closely related doctrines also applied by the courts (sometimes
interchangeable with the economic substance doctrine) include the
``sham transaction doctrine'' and the ``business purpose doctrine.''
See, e.g., Knetsch v. United States, 364 U.S. 361 (1960) (denying
interest deductions on a ``sham transaction'' that lacked ``commercial
economic substance''). Certain ``substance over form'' cases involving
tax-indifferent parties, in which courts have found that the substance
of the transaction did not comport with the form asserted by the
taxpayer, have also involved examination of whether the change in
economic position that occurred, if any, was consistent with the form
asserted, and whether the claimed business purpose supported the
particular tax benefits that were claimed. See, e.g., TIFD III-E, Inc.
v. United States, 459 F.3d 220 (2d Cir. 2006); BB&T Corporation v.
United States, 2007-1 USTC P 50,130 (M.D.N.C. 2007), aff'd 523 F.3d 461
(4th Cir. 2008). Although the Second Circuit found for the government
in TIFD III-E, Inc., on remand to consider issues under section 704(e),
the District Court found for the taxpayer. See, TIFD III-E Inc. v.
United States, No. 3:01-cv-01839, 2009 WL 3208650 (D. Conn. Oct. 23,
2009).
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Economic substance doctrine
Courts generally deny claimed tax benefits if the
transaction that gives rise to those benefits lacks economic
substance independent of U.S. Federal income tax
considerations--notwithstanding that the purported activity
actually occurred. The Tax Court has described the doctrine as
follows:
The tax law . . . requires that the intended
transactions have economic substance separate and
distinct from economic benefit achieved solely by tax
reduction. The doctrine of economic substance becomes
applicable, and a judicial remedy is warranted, where a
taxpayer seeks to claim tax benefits, unintended by
Congress, by means of transactions that serve no
economic purpose other than tax savings.\991\
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\991\ ACM Partnership v. Commissioner, 73 T.C.M. at 2215.
---------------------------------------------------------------------------
Business purpose doctrine
A common law doctrine that often is considered together
with the economic substance doctrine is the business purpose
doctrine. The business purpose doctrine involves an inquiry
into the subjective motives of the taxpayer--that is, whether
the taxpayer intended the transaction to serve some useful non-
tax purpose. In making this determination, some courts have
bifurcated a transaction in which activities with non-tax
objectives have been combined with unrelated activities having
only tax-avoidance objectives, in order to disallow the tax
benefits of the overall transaction.\992\
---------------------------------------------------------------------------
\992\ See, ACM Partnership v. Commissioner, 157 F.3d at 256 n.48.
---------------------------------------------------------------------------
Application by the courts
Elements of the doctrine
There is a lack of uniformity regarding the proper
application of the economic substance doctrine.\993\ Some
courts apply a conjunctive test that requires a taxpayer to
establish the presence of both economic substance (i.e., the
objective component) and business purpose (i.e., the subjective
component) in order for the transaction to survive judicial
scrutiny.\994\ A narrower approach used by some courts is to
conclude that either a business purpose or economic substance
is sufficient to respect the transaction.\995\ A third approach
regards economic substance and business purpose as ``simply
more precise factors to consider'' in determining whether a
transaction has any practical economic effects other than the
creation of tax benefits.\996\
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\993\ ``The casebooks are glutted with [economic substance] tests.
Many such tests proliferate because they give the comforting illusion
of consistency and precision. They often obscure rather than clarify.''
Collins v. Commissioner, 857 F.2d 1383, 1386 (9th Cir. 1988).
\994\ See, e.g., Pasternak v. Commissioner, 990 F.2d 893, 898 (6th
Cir. 1993) (``The threshold question is whether the transaction has
economic substance. If the answer is yes, the question becomes whether
the taxpayer was motivated by profit to participate in the
transaction.''). See also, Klamath Strategic Investment Fund v. United
States, 568 F. 3d 537, (5th Cir. 2009) (even if taxpayers may have had
a profit motive, a transaction was disregarded where it did not in fact
have any realistic possibility of profit and funding was never at
risk).
\995\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d 89,
91-92 (4th Cir. 1985) (``To treat a transaction as a sham, the court
must find that the taxpayer was motivated by no business purposes other
than obtaining tax benefits in entering the transaction, and, second,
that the transaction has no economic substance because no reasonable
possibility of a profit exists.''); IES Industries v. United States,
253 F.3d 350, 358 (8th Cir. 2001) (``In determining whether a
transaction is a sham for tax purposes [under the Eighth Circuit test],
a transaction will be characterized as a sham if it is not motivated by
any economic purpose outside of tax considerations (the business
purpose test), and if it is without economic substance because no real
potential for profit exists (the economic substance test).''). As noted
earlier, the economic substance doctrine and the sham transaction
doctrine are similar and sometimes are applied interchangeably. For a
more detailed discussion of the sham transaction doctrine, see, e.g.,
Joint Committee on Taxation, Study of Present-Law Penalty and Interest
Provisions as Required by Section 3801 of the Internal Revenue Service
Restructuring and Reform Act of 1998 (including Provisions Relating to
Corporate Tax Shelters (JCS-3-99), p. 182.
\996\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d at 247;
James v. Commissioner, 899 F.2d 905, 908 (10th Cir. 1995); Sacks v.
Commissioner, 69 F.3d 982, 985 (9th Cir. 1995) (``Instead, the
consideration of business purpose and economic substance are simply
more precise factors to consider . . . We have repeatedly and carefully
noted that this formulation cannot be used as a `rigid two-step
analysis'.'')
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One decision by the Court of Federal Claims questioned the
continuing viability of the doctrine. That court also stated
that ``the use of the `economic substance' doctrine to trump
`mere compliance with the Code' would violate the separation of
powers'' though that court also found that the particular
transaction at issue in the case did not lack economic
substance. The Court of Appeals for the Federal Circuit
(``Federal Circuit Court'') overruled the Court of Federal
Claims decision, reiterating the viability of the economic
substance doctrine and concluding that the transaction in
question violated that doctrine.\997\ The Federal Circuit Court
stated that ``[w]hile the doctrine may well also apply if the
taxpayer's sole subjective motivation is tax avoidance even if
the transaction has economic substance, [footnote omitted], a
lack of economic substance is sufficient to disqualify the
transaction without proof that the taxpayer's sole motive is
tax avoidance.'' \998\
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\997\ Coltec Industries, Inc. v. United States, 62 Fed. Cl. 716
(2004) (slip opinion at 123-124, 128); vacated and remanded, 454 F.3d
1340 (Fed. Cir. 2006), cert. denied, 127 S. Ct. 1261 (Mem.) (2007).
\998\ The Federal Circuit Court stated that ``when the taxpayer
claims a deduction, it is the taxpayer who bears the burden of proving
that the transaction has economic substance.'' The Federal Circuit
Court quoted a decision of its predecessor court, stating that
``Gregory v. Helvering requires that a taxpayer carry an unusually
heavy burden when he attempts to demonstrate that Congress intended to
give favorable tax treatment to the kind of transaction that would
never occur absent the motive of tax avoidance.'' The Court also stated
that ``while the taxpayer's subjective motivation may be pertinent to
the existence of a tax avoidance purpose, all courts have looked to the
objective reality of a transaction in assessing its economic
substance.'' Coltec Industries, Inc. v. United States, 454 F.3d at
1355, 1356.
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Nontax economic benefits
There also is a lack of uniformity regarding the type of
non-tax economic benefit a taxpayer must establish in order to
demonstrate that a transaction has economic substance. Some
courts have denied tax benefits on the grounds that a stated
business benefit of a particular structure was not in fact
obtained by that structure.\999\ Several courts have denied tax
benefits on the grounds that the subject transactions lacked
profit potential.\1000\ In addition, some courts have applied
the economic substance doctrine to disallow tax benefits in
transactions in which a taxpayer was exposed to risk and the
transaction had a profit potential, but the court concluded
that the economic risks and profit potential were insignificant
when compared to the tax benefits.\1001\ Under this analysis,
the taxpayer's profit potential must be more than nominal.
Conversely, other courts view the application of the economic
substance doctrine as requiring an objective determination of
whether a ``reasonable possibility of profit'' from the
transaction existed apart from the tax benefits.\1002\ In these
cases, in assessing whether a reasonable possibility of profit
exists, it may be sufficient if there is a nominal amount of
pre-tax profit as measured against expected tax benefits.
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\999\ See, e.g., Coltec Industries v. United States, 454 F.3d 1340
(Fed. Cir. 2006). The court analyzed the transfer to a subsidiary of a
note purporting to provide high stock basis in exchange for a purported
assumption of liabilities, and held these transactions unnecessary to
accomplish any business purpose of using a subsidiary to manage
asbestos liabilities. The court also held that the purported business
purpose of adding a barrier to veil-piercing claims by third parties
was not accomplished by the transaction. 454 F.3d at 1358-1360 (Fed.
Cir. 2006).
\1000\ See, e.g., Knetsch, 364 U.S. at 361; Goldstein v.
Commissioner, 364 F.2d 734 (2d Cir. 1966) (holding that an
unprofitable, leveraged acquisition of Treasury bills, and accompanying
prepaid interest deduction, lacked economic substance).
\1001\ See, e.g., Goldstein v. Commissioner, 364 F.2d at 739-40
(disallowing deduction even though taxpayer had a possibility of small
gain or loss by owning Treasury bills); Sheldon v. Commissioner, 94
T.C. 738, 768 (1990) (stating that ``potential for gain . . . is
infinitesimally nominal and vastly insignificant when considered in
comparison with the claimed deductions'').
\1002\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d 89,
94 (4th Cir. 1985) (the economic substance inquiry requires an
objective determination of whether a reasonable possibility of profit
from the transaction existed apart from tax benefits); Compaq Computer
Corp. v. Commissioner, 277 F.3d 778, 781 (5th Cir. 2001) (applied the
same test, citing Rice's Toyota World); IES Industries v. United
States, 253 F.3d 350, 354 (8th Cir. 2001); Wells Fargo & Company v.
United States, No. 06-628T, 2010 WL 94544, at *57-58 (Fed. Cl. Jan. 8,
2010).
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Financial accounting benefits
In determining whether a taxpayer had a valid business
purpose for entering into a transaction, at least two courts
have concluded that financial accounting benefits arising from
tax savings do not qualify as a non-tax business purpose.\1003\
However, based on court decisions that recognize the importance
of financial accounting treatment, taxpayers have asserted that
financial accounting benefits arising from tax savings can
satisfy the business purpose test.\1004\
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\1003\ See American Electric Power, Inc. v. United States, 136 F.
Supp. 2d 762, 791-92 (S.D. Ohio 2001), aff'd, 326 F.3d.737 (6th Cir.
2003) and Wells Fargo & Company v. United States, No. 06-628T, 2010 WL
94544, at *59 (Fed. Cl. Jan. 8, 2010).
\1004\ See, e.g., Joint Committee on Taxation, Report of
Investigation of Enron Corporation and Related Entities Regarding
Federal Tax and Compensation Issues, and Policy Recommendations (JSC-3-
03), February, 2003 (``Enron Report''), Volume III at C-93, 289. Enron
Corporation relied on Frank Lyon Co. v. United States, 435 U.S. 561,
577-78 (1978), and Newman v. Commissioner, 902 F.2d 159, 163 (2d Cir.
1990), to argue that financial accounting benefits arising from tax
savings constitute a good business purpose.
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Tax-indifferent parties
A number of cases have involved transactions structured to
allocate income for Federal tax purposes to a tax-indifferent
party, with a corresponding deduction, or favorable basis
result, to a taxable person. The income allocated to the tax-
indifferent party for tax purposes was structured to exceed any
actual economic income to be received by the tax indifferent
party from the transaction. Courts have sometimes concluded
that this particular type of transaction did not satisfy the
economic substance doctrine.\1005\ In other cases, courts have
indicated that the substance of a transaction did not support
the form of income allocations asserted by the taxpayer and
have questioned whether asserted business purpose or other
standards were met.\1006\
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\1005\ See, e.g., ACM Partnership v. Commissioner, 157 F.3d 231 (3d
Cir. 1998), aff'g 73 T.C.M. (CCH) 2189 (1997), cert. denied 526 U.S.
1017 (1999).
\1006\ See, e.g., TIFD III-E, Inc. v. United States, 459 F.3d 220
(2d Cir. 2006). Although the Second Circuit found for the government in
TIFD III-E, Inc., on remand to consider issues under section 704(e),
the District Court found for the taxpayer. See, TIFD III-E Inc. v.
United States, No. 3:01-cv-01839, 2009 WL 3208650 (Oct. 23, 2009).
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Penalty regime
General accuracy-related penalty
An accuracy-related penalty under section 6662 applies to
the portion of any underpayment that is attributable to (1)
negligence, (2) any substantial understatement of income tax,
(3) any substantial valuation misstatement, (4) any substantial
overstatement of pension liabilities, or (5) any substantial
estate or gift tax valuation understatement. If the correct
income tax liability exceeds that reported by the taxpayer by
the greater of 10 percent of the correct tax or $5,000 (or, in
the case of corporations, by the lesser of (a) 10 percent of
the correct tax (or $10,000 if greater) or (b) $10 million),
then a substantial understatement exists and a penalty may be
imposed equal to 20 percent of the underpayment of tax
attributable to the understatement.\1007\ The section 6662
penalty is increased to 40 percent in the case of gross
valuation misstatements as defined in section 6662(h). Except
in the case of tax shelters,\1008\ the amount of any
understatement is reduced by any portion attributable to an
item if (1) the treatment of the item is supported by
substantial authority, or (2) facts relevant to the tax
treatment of the item were adequately disclosed and there was a
reasonable basis for its tax treatment. The Treasury Secretary
may prescribe a list of positions which the Secretary believes
do not meet the requirements for substantial authority under
this provision.
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\1007\ Sec. 6662.
\1008\ A tax shelter is defined for this purpose as a partnership
or other entity, an investment plan or arrangement, or any other plan
or arrangement if a significant purpose of such partnership, other
entity, plan, or arrangement is the avoidance or evasion of Federal
income tax. Sec. 6662(d)(2)(C).
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The section 6662 penalty generally is abated (even with
respect to tax shelters) in cases in which the taxpayer can
demonstrate that there was ``reasonable cause'' for the
underpayment and that the taxpayer acted in good faith.\1009\
The relevant regulations for a tax shelter provide that
reasonable cause exists where the taxpayer ``reasonably relies
in good faith on an opinion based on a professional tax
advisor's analysis of the pertinent facts and authorities
[that] . . . unambiguously concludes that there is a greater
than 50-percent likelihood that the tax treatment of the item
will be upheld if challenged'' by the IRS.\1010\ For
transactions other than tax shelters, the relevant regulations
provide a facts and circumstances test, the most important
factor generally being the extent of the taxpayer's effort to
assess the proper tax liability. If a taxpayer relies on an
opinion, reliance is not reasonable if the taxpayer knows or
should have known that the advisor lacked knowledge in the
relevant aspects of Federal tax law, or if the taxpayer fails
to disclose a fact that it knows or should have known is
relevant. Certain additional requirements apply with respect to
the advice.\1011\
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\1009\ Sec. 6664(c).
\1010\ Treas. Reg. sec. 1.6662-4(g)(4)(i)(B); Treas. Reg. sec.
1.6664-4(c).
\1011\ See Treas. Reg. Sec. 1.6664-4(c). In addition to the
requirements applicable to taxpayers under the regulations, advisors
may be subject to potential penalties under section 6694 (applicable to
return preparers), and to monetary penalties and other sanctions under
Circular 230 (which provides rules governing persons practicing before
the IRS). Under Circular 230, if a transaction is a ``covered
transaction'' (a term that includes listed transactions and certain
non-listed reportable transactions) a ``more likely than not''
confidence level is required for written tax advice that may be relied
upon by a taxpayer for the purpose of avoiding penalties, and certain
other standards must also be met. Treasury Dept. Circular 230 (Rev. 4-
2008) Sec. 10.35. For other tax advice, Circular 230 generally requires
a lower ``realistic possibility'' confidence level or a ``non-
frivolous'' confidence level coupled with advising the client of any
opportunity to avoid the accuracy related penalty under section 6662 by
adequate disclosure. Treasury Dept. Circular 230 (Rev. 4-2008) Sec.
10.34.
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Listed transactions and reportable avoidance
transactions
In general
A separate accuracy-related penalty under section 6662A
applies to any ``listed transaction'' and to any other
``reportable transaction'' that is not a listed transaction, if
a significant purpose of such transaction is the avoidance or
evasion of Federal income tax \1012\ (hereinafter referred to
as a ``reportable avoidance transaction''). The penalty rate
and defenses available to avoid the penalty vary depending on
whether the transaction was adequately disclosed.
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\1012\ Sec. 6662A(b)(2).
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Both listed transactions and other reportable transactions
are allowed to be described by the Treasury Department under
section 6011 as transactions that must be reported, and section
6707A(c) imposes a penalty for failure to adequately report
such transactions under section 6011. A reportable transaction
is defined as one that the Treasury Secretary determines is
required to be disclosed because it is determined to have a
potential for tax avoidance or evasion.\1013\ A listed
transaction is defined as a reportable transaction which is the
same as, or substantially similar to, a transaction
specifically identified by the Secretary as a tax avoidance
transaction for purposes of the reporting disclosure
requirements.\1014\
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\1013\ Sec. 6707A(c)(1).
\1014\ Sec. 6707A(c)(2).
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Disclosed transactions
In general, a 20-percent accuracy-related penalty is
imposed on any understatement attributable to an adequately
disclosed listed transaction or reportable avoidance
transaction.\1015\ The only exception to the penalty is if the
taxpayer satisfies a more stringent reasonable cause and good
faith exception (hereinafter referred to as the ``strengthened
reasonable cause exception''), which is described below. The
strengthened reasonable cause exception is available only if
the relevant facts affecting the tax treatment were adequately
disclosed, there is or was substantial authority for the
claimed tax treatment, and the taxpayer reasonably believed
that the claimed tax treatment was more likely than not the
proper treatment. A ``reasonable belief'' must be based on the
facts and law as they exist at the time that the return in
question is filed, and not take into account the possibility
that a return would not be audited. Moreover, reliance on
professional advice may support a ``reasonable belief'' only in
certain circumstances.\1016\
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\1015\ Sec. 6662A(a).
\1016\ Section 6664(d)(3)(B) does not allow a reasonable belief to
be based on a ``disqualified opinion'' or on an opinion from a
``disqualified tax advisor.''
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Undisclosed transactions
If the taxpayer does not adequately disclose the
transaction, the strengthened reasonable cause exception is not
available (i.e., a strict liability penalty generally applies),
and the taxpayer is subject to an increased penalty equal to 30
percent of the understatement.\1017\ However, a taxpayer will
be treated as having adequately disclosed a transaction for
this purpose if the IRS Commissioner has separately rescinded
the separate penalty under section 6707A for failure to
disclose a reportable transaction.\1018\ The IRS Commissioner
is authorized to do this only if the failure does not relate to
a listed transaction and only if rescinding the penalty would
promote compliance and effective tax administration.\1019\
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\1017\ Sec. 6662A(c).
\1018\ Sec. 6664(d).
\1019\ Sec. 6707A(d).
---------------------------------------------------------------------------
A public entity that is required to pay a penalty for an
undisclosed listed or reportable transaction must disclose the
imposition of the penalty in reports to the SEC for such
periods as the Secretary specifies. The disclosure to the SEC
applies without regard to whether the taxpayer determines the
amount of the penalty to be material to the reports in which
the penalty must appear, and any failure to disclose such
penalty in the reports is treated as a failure to disclose a
listed transaction. A taxpayer must disclose a penalty in
reports to the SEC once the taxpayer has exhausted its
administrative and judicial remedies with respect to the
penalty (or if earlier, when paid).\1020\
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\1020\ Sec. 6707A(e).
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Determination of the understatement amount
The penalty is applied to the amount of any understatement
attributable to the listed or reportable avoidance transaction
without regard to other items on the tax return. For purposes
of this provision, the amount of the understatement is
determined as the sum of: (1) the product of the highest
corporate or individual tax rate (as appropriate) and the
increase in taxable income resulting from the difference
between the taxpayer's treatment of the item and the proper
treatment of the item (without regard to other items on the tax
return);\1021\ and (2) the amount of any decrease in the
aggregate amount of credits which results from a difference
between the taxpayer's treatment of an item and the proper tax
treatment of such item.
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\1021\ For this purpose, any reduction in the excess of deductions
allowed for the taxable year over gross income for such year, and any
reduction in the amount of capital losses which would (without regard
to section 1211) be allowed for such year, will be treated as an
increase in taxable income. Sec. 6662A(b).
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Except as provided in regulations, a taxpayer's treatment
of an item will not take into account any amendment or
supplement to a return if the amendment or supplement is filed
after the earlier of when the taxpayer is first contacted
regarding an examination of the return or such other date as
specified by the Secretary.\1022\
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\1022\ Sec. 6662A(e)(3).
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Strengthened reasonable cause exception
A penalty is not imposed under section 6662A with respect
to any portion of an understatement if it is shown that there
was reasonable cause for such portion and the taxpayer acted in
good faith. Such a showing requires: (1) adequate disclosure of
the facts affecting the transaction in accordance with the
regulations under section 6011;\1023\ (2) that there is or was
substantial authority for such treatment; and (3) that the
taxpayer reasonably believed that such treatment was more
likely than not the proper treatment. For this purpose, a
taxpayer will be treated as having a reasonable belief with
respect to the tax treatment of an item only if such belief:
(1) is based on the facts and law that exist at the time the
tax return (that includes the item) is filed; and (2) relates
solely to the taxpayer's chances of success on the merits and
does not take into account the possibility that (a) a return
will not be audited, (b) the treatment will not be raised on
audit, or (c) the treatment will be resolved through settlement
if raised.\1024\
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\1023\ See the previous discussion regarding the penalty for
failing to disclose a reportable transaction.
\1024\ Sec. 6664(d).
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A taxpayer may (but is not required to) rely on an opinion
of a tax advisor in establishing its reasonable belief with
respect to the tax treatment of the item. However, a taxpayer
may not rely on an opinion of a tax advisor for this purpose if
the opinion (1) is provided by a ``disqualified tax advisor''
or (2) is a ``disqualified opinion.''
Disqualified tax advisor
A disqualified tax advisor is any advisor who: (1) is a
material advisor \1025\ and who participates in the
organization, management, promotion, or sale of the transaction
or is related (within the meaning of section 267(b) or
707(b)(1)) to any person who so participates; (2) is
compensated directly or indirectly \1026\ by a material advisor
with respect to the transaction; (3) has a fee arrangement with
respect to the transaction that is contingent on all or part of
the intended tax benefits from the transaction being sustained;
or (4) as determined under regulations prescribed by the
Secretary, has a disqualifying financial interest with respect
to the transaction.
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\1025\ The term ``material advisor'' means any person who provides
any material aid, assistance, or advice with respect to organizing,
managing, promoting, selling, implementing, or carrying out any
reportable transaction, and who derives gross income in excess of
$50,000 in the case of a reportable transaction substantially all of
the tax benefits from which are provided to natural persons ($250,000
in any other case). Sec. 6111(b)(1).
\1026\ This situation could arise, for example, when an advisor has
an arrangement or understanding (oral or written) with an organizer,
manager, or promoter of a reportable transaction that such party will
recommend or refer potential participants to the advisor for an opinion
regarding the tax treatment of the transaction.
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A material advisor is considered as participating in the
``organization'' of a transaction if the advisor performs acts
relating to the development of the transaction. This may
include, for example, preparing documents: (1) establishing a
structure used in connection with the transaction (such as a
partnership agreement); (2) describing the transaction (such as
an offering memorandum or other statement describing the
transaction); or (3) relating to the registration of the
transaction with any Federal, state, or local government
body.\1027\ Participation in the ``management'' of a
transaction means involvement in the decision-making process
regarding any business activity with respect to the
transaction. Participation in the ``promotion or sale'' of a
transaction means involvement in the marketing or solicitation
of the transaction to others. Thus, an advisor who provides
information about the transaction to a potential participant is
involved in the promotion or sale of a transaction, as is any
advisor who recommends the transaction to a potential
participant.
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\1027\ An advisor should not be treated as participating in the
organization of a transaction if the advisor's only involvement with
respect to the organization of the transaction is the rendering of an
opinion regarding the tax consequences of such transaction. However,
such an advisor may be a ``disqualified tax advisor'' with respect to
the transaction if the advisor participates in the management,
promotion, or sale of the transaction (or if the advisor is compensated
by a material advisor, has a fee arrangement that is contingent on the
tax benefits of the transaction, or as determined by the Secretary, has
a continuing financial interest with respect to the transaction). See
Notice 2005-12, 2005-1 C.B. 494, regarding disqualified compensation
arrangements.
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Disqualified opinion
An opinion may not be relied upon if the opinion: (1) is
based on unreasonable factual or legal assumptions (including
assumptions as to future events); (2) unreasonably relies upon
representations, statements, findings or agreements of the
taxpayer or any other person; (3) does not identify and
consider all relevant facts; or (4) fails to meet any other
requirement prescribed by the Secretary.
Coordination with other penalties
Any understatement upon which a penalty is imposed under
section 6662A is not subject to the accuracy related penalty
for underpayments under section 6662.\1028\ However, that
understatement is included for purposes of determining whether
any understatement (as defined in sec. 6662(d)(2)) is a
substantial understatement under section 6662(d)(1).\1029\
Thus, in the case of an understatement (as defined in sec.
6662(d)(2)), the amount of the understatement (determined
without regard to section 6662A(e)(1)(A)) is increased by the
aggregate amount of reportable transaction understatements for
purposes of determining whether the understatement is a
substantial understatement. The section 6662(a) penalty applies
only to the excess of the amount of the substantial
understatement (if any) after section 6662A(e)(1)(A) is applied
over the aggregate amount of reportable transaction
understatements.\1030\ Accordingly, every understatement is
penalized, but only under one penalty provision.
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\1028\ Sec. 6662(b) (flush language). In addition, section 6662(b)
provides that section 6662 does not apply to any portion of an
underpayment on which a fraud penalty is imposed under section 6663.
\1029\ Sec. 6662A(e)(1).
\1030\ Sec. 6662(d)(2)(A) (flush language).
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The penalty imposed under section 6662A does not apply to
any portion of an understatement to which a fraud penalty
applies under section 6663 or to which the 40-percent penalty
for gross valuation misstatements under section 6662(h)
applies.\1031\
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\1031\ Sec. 6662A(e)(2).
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Erroneous claim for refund or credit
If a claim for refund or credit with respect to income tax
(other than a claim relating to the earned income tax credit)
is made for an excessive amount, unless it is shown that the
claim for such excessive amount has a reasonable basis, the
person making such claim is subject to a penalty in an amount
equal to 20 percent of the excessive amount.\1032\
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\1032\ Sec. 6676.
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The term ``excessive amount'' means the amount by which the
amount of the claim for refund for any taxable year exceeds the
amount of such claim allowable for the taxable year.
This penalty does not apply to any portion of the excessive
amount of a claim for refund or credit which is subject to a
penalty imposed under the accuracy related or fraud penalty
provisions (including the general accuracy related penalty, or
the penalty with respect to listed and reportable transactions,
described above).
Reasons for Change
Tax avoidance transactions have relied upon the interaction
of highly technical tax law provisions to produce tax
consequences not contemplated by Congress. When successful,
taxpayers who engage in these transactions enlarge the tax gap
by gaining unintended tax relief and by undermining the overall
integrity of the tax system.
A strictly rule-based tax system cannot efficiently
prescribe the appropriate outcome of every conceivable
transaction that might be devised and is, as a result,
incapable of preventing all unintended consequences. Thus, many
courts have long recognized the need to supplement tax rules
with anti-tax-avoidance standards, such as the economic
substance doctrine, in order to assure the Congressional
purpose is achieved. The Congress recognizes that the IRS has
achieved a number of recent successes in litigation. The
Congress believes it is still desirable to provide greater
clarity and uniformity in the application of the economic
substance doctrine in order to improve its effectiveness at
deterring unintended consequences.
The Congress believes that a stronger penalty under section
6662 should be imposed on understatements attributable to non-
economic substance and similar transactions, to improve
compliance by deterring taxpayers from entering such
transactions. The Congress is concerned that under present law
there is a potential to avoid penalties in such cases (based
for example on certain levels of tax advice), and that the
potential that a taxpayer in such cases may pay only the tax
due plus interest is not a sufficient deterrent. The Congress
therefore believes it is appropriate to impose a new strict
liability penalty in such cases.
Explanation of Provision
The provision clarifies and enhances the application of the
economic substance doctrine. Under the provision, new section
7701(o) provides that in the case of any transaction \1033\ to
which the economic substance doctrine is relevant, such
transaction is treated as having economic substance only if (1)
the transaction changes in a meaningful way (apart from Federal
income tax effects) the taxpayer's economic position, and (2)
the taxpayer has a substantial purpose (apart from Federal
income tax effects) for entering into such transaction. The
provision provides a uniform definition of economic substance,
but does not alter the flexibility of the courts in other
respects.
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\1033\ The term ``transaction'' includes a series of transactions.
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The determination of whether the economic substance
doctrine is relevant to a transaction is made in the same
manner as if the provision had never been enacted. Thus, the
provision does not change present law standards in determining
when to utilize an economic substance analysis.\1034\
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\1034\ If the realization of the tax benefits of a transaction is
consistent with the Congressional purpose or plan that the tax benefits
were designed by Congress to effectuate, it is not intended that such
tax benefits be disallowed. See, e.g., Treas. Reg. sec. 1.269-2,
stating that characteristic of circumstances in which an amount
otherwise constituting a deduction, credit, or other allowance is not
available are those in which the effect of the deduction, credit, or
other allowance would be to distort the liability of the particular
taxpayer when the essential nature of the transaction or situation is
examined in the light of the basic purpose or plan which the deduction,
credit, or other allowance was designed by the Congress to effectuate.
Thus, for example, it is not intended that a tax credit (e.g., section
42 (low-income housing credit), section 45 (production tax credit),
section 45D (new markets tax credit), section 47 (rehabilitation
credit), section 48 (energy credit), etc.) be disallowed in a
transaction pursuant to which, in form and substance, a taxpayer makes
the type of investment or undertakes the type of activity that the
credit was intended to encourage.
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The provision is not intended to alter the tax treatment of
certain basic business transactions that, under longstanding
judicial and administrative practice are respected, merely
because the choice between meaningful economic alternatives is
largely or entirely based on comparative tax advantages. Among
\1035\ these basic transactions are (1) the choice between
capitalizing a business enterprise with debt or equity; \1036\
(2) a U.S. person's choice between utilizing a foreign
corporation or a domestic corporation to make a foreign
investment; \1037\ (3) the choice to enter a transaction or
series of transactions that constitute a corporate organization
or reorganization under subchapter C; \1038\ and (4) the choice
to utilize a related-party entity in a transaction, provided
that the arm's length standard of section 482 and other
applicable concepts are satisfied.\1039\ Leasing transactions,
like all other types of transactions, will continue to be
analyzed in light of all the facts and circumstances.\1040\ As
under present law, whether a particular transaction meets the
requirements for specific treatment under any of these
provisions is a question of facts and circumstances. Also, the
fact that a transaction meets the requirements for specific
treatment under any provision of the Code is not determinative
of whether a transaction or series of transactions of which it
is a part has economic substance.\1041\
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\1035\ The examples are illustrative and not exclusive.
\1036\ See, e.g., John Kelley Co. v. Commissioner, 326 U.S. 521
(1946) (respecting debt characterization in one case and not in the
other, based on all the facts and circumstances).
\1037\ See, e.g., Sam Siegel v. Commissioner, 45. T.C. 566 (1966),
acq. 1966-2 C.B. 3. But see Commissioner v. Bollinger, 485 U.S. 340
(1988) (agency principles applied to title-holding corporation under
the facts and circumstances).
\1038\ See, e.g., Rev. Proc. 2010-3 2010-1 I.R.B. 110, Secs.
3.01(38), (39), (40), and (42) (IRS will not rule on certain matters
relating to incorporations or reorganizations unless there is a
``significant issue''); compare Gregory v. Helvering. 293 U.S. 465
(1935).
\1039\ See, e.g., National Carbide v. Commissioner, 336 U.S. 422
(1949), Moline Properties v. Commissioner, 319 U.S. 435 (1943);
compare, e.g. Aiken Industries, Inc. v. Commissioner, 56 T.C. 925
(1971), acq., 1972-2 C.B. 1; Commissioner v. Bollinger, 485 U.S. 340
(1988); see also sec. 7701(l).
\1040\ See, e.g., Frank Lyon Co. v. Commissioner, 435 U.S. 561
(1978); Hilton v. Commissioner, 74 T.C. 305, aff'd, 671 F. 2d 316 (9th
Cir. 1982), cert. denied, 459 U.S. 907 (1982); Coltec Industries v.
United States, 454 F.3d 1340 (Fed. Cir. 2006), cert. denied, 127 S. Ct.
1261 (Mem) (2007); BB&T Corporation v. United States, 2007-1 USTC P
50,130 (M.D.N.C. 2007), aff'd, 523 F.3d 461 (4th Cir. 2008); Wells
Fargo & Company v. United States, No. 06-628T, 2010 WL 94544, at *60
(Fed. Cl. Jan. 8, 2010) (distinguishing leasing case Consolidated
Edison Company of New York, No. 06-305T, 2009 WL 3418533 (Fed. Cl. Oct.
21, 2009) by observing that ``considerations of economic substance are
factually specific to the transaction involved'').
\1041\ As examples of cases in which courts have found that a
transaction does not meet the requirements for the treatment claimed by
the taxpayer under the Code, or does not have economic substance, See,
e.g., BB&T Corporation v. United States, 2007-1 USTC P 50,130 (M.D.N.C.
2007) aff'd, 523 F.3d 461 (4th Cir. 2008); Tribune Company and
Subsidiaries v. Commissioner, 125 T.C. 110 (2005); H.J. Heinz Company
and Subsidiaries v. United States, 76 Fed. Cl. 570 (2007); Coltec
Industries, Inc. v. United States, 454 F.3d 1340 (Fed. Cir. 2006),
cert. denied 127 S. Ct. 1261 (Mem.) (2007); Long Term Capital Holdings
LP v. United States, 330 F. Supp. 2d 122 (D. Conn. 2004), aff'd, 150
Fed. Appx. 40 (2d Cir. 2005); Klamath Strategic Investment Fund, LLC v.
United States, 472 F. Supp. 2d 885 (E.D. Texas 2007); aff'd, 568 F. 3d
537 (5th Cir. 2009); Santa Monica Pictures LLC v. Commissioner, 89
T.C.M. 1157 (2005).
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The provision does not alter the court's ability to
aggregate, disaggregate, or otherwise recharacterize a
transaction when applying the doctrine. For example, the
provision reiterates the present-law ability of the courts to
bifurcate a transaction in which independent activities with
non-tax objectives are combined with an unrelated item having
only tax-avoidance objectives in order to disallow those tax-
motivated benefits.\1042\
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\1042\ See, e.g., Coltec Industries, Inc. v. United States, 454
F.3d 1340 (Fed. Cir. 2006), cert. denied 127 S. Ct. 1261 (Mem.) (2007)
(``the first asserted business purpose focuses on the wrong
transaction--the creation of Garrison as a separate subsidiary to
manage asbestos liabilities. . . . [W]e must focus on the transaction
that gave the taxpayer a high basis in the stock and thus gave rise to
the alleged benefit upon sale'') 454 F.3d 1340, 1358 (Fed. Cir. 2006).
See also ACM Partnership v. Commissioner, 157 F.3d at 256 n.48;
Minnesota Tea Co. v. Helvering, 302 U.S. 609, 613 (1938) (``A given
result at the end of a straight path is not made a different result
because reached by following a devious path.'').
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Conjunctive analysis
The provision clarifies that the economic substance
doctrine involves a conjunctive analysis--there must be an
inquiry regarding the objective effects of the transaction on
the taxpayer's economic position as well as an inquiry
regarding the taxpayer's subjective motives for engaging in the
transaction. Under the provision, a transaction must satisfy
both tests, i.e., the transaction must change in a meaningful
way (apart from Federal income tax effects) the taxpayer's
economic position and the taxpayer must have a substantial non-
Federal-income-tax purpose for entering into such transaction,
in order for a transaction to be treated as having economic
substance. This clarification eliminates the disparity that
exists among the Federal circuit courts regarding the
application of the doctrine, and modifies its application in
those circuits in which either a change in economic position or
a non-tax business purpose (without having both) is sufficient
to satisfy the economic substance doctrine.\1043\
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\1043\ The provision defines ``economic substance doctrine'' as the
common law doctrine under which tax benefits under subtitle A with
respect to a transaction are not allowable if the transaction does not
have economic substance or lacks a business purpose. Thus, the
definition includes any doctrine that denies tax benefits for lack of
economic substance, for lack of business purpose, or for lack of both.
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Non-Federal-income-tax business purpose
Under the provision, a taxpayer's non-Federal-income-tax
purpose \1044\ for entering into a transaction (the second
prong in the analysis) must be ``substantial.'' For purposes of
this analysis, any State or local income tax effect which is
related to a Federal income tax effect is treated in the same
manner as a Federal income tax effect. Also, a purpose of
achieving a favorable accounting treatment for financial
reporting purposes is not taken into account as a non-Federal-
income-tax purpose if the origin of the financial accounting
benefit is a reduction of Federal income tax.\1045\
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\1044\ See, e.g., Treas. Reg. sec. 1.269-2(b) (stating that a
distortion of tax liability indicating the principal purpose of tax
evasion or avoidance might be evidenced by the fact that ``the
transaction was not undertaken for reasons germane to the conduct of
the business of the taxpayer''). Similarly, in ACM Partnership v.
Commissioner, 73 T.C.M. (CCH) 2189 (1997), the court stated:
Key to [the determination of whether a transaction has economic
substance] is that the transaction must be rationally related to a
useful nontax purpose that is plausible in light of the taxpayer's
conduct and useful in light of the taxpayer's economic situation and
intentions. Both the utility of the stated purpose and the rationality
of the means chosen to effectuate it must be evaluated in accordance
with commercial practices in the relevant industry. A rational
relationship between purpose and means ordinarily will not be found
unless there was a reasonable expectation that the nontax benefits
would be at least commensurate with the transaction costs. [citations
omitted]
\1045\ Claiming that a financial accounting benefit constitutes a
substantial non-tax purpose fails to consider the origin of the
accounting benefit (i.e., reduction of taxes) and significantly
diminishes the purpose for having a substantial non-tax purpose
requirement. See, e.g., American Electric Power, Inc. v. United States,
136 F. Supp. 2d 762, 791-92 (S.D. Ohio 2001) (``AEP's intended use of
the cash flows generated by the [corporate-owned life insurance] plan
is irrelevant to the subjective prong of the economic substance
analysis. If a legitimate business purpose for the use of the tax
savings 'were sufficient to breathe substance into a transaction whose
only purpose was to reduce taxes, [then] every sham tax-shelter device
might succeed,''') (citing Winn-Dixie v. Commissioner, 113 T.C. 254,
287 (1999)); aff'd, 326 F3d 737 (6th Cir. 2003).
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Profit potential
Under the provision, a taxpayer may rely on factors other
than profit potential to demonstrate that a transaction results
in a meaningful change in the taxpayer's economic position or
that the taxpayer has a substantial non-Federal-income-tax
purpose for entering into such transaction. The provision does
not require or establish a minimum return that will satisfy the
profit potential test. However, if a taxpayer relies on a
profit potential, the present value of the reasonably expected
pre-tax profit must be substantial in relation to the present
value of the expected net tax benefits that would be allowed if
the transaction were respected.\1046\ Fees and other
transaction expenses are taken into account as expenses in
determining pre-tax profit. In addition, the Secretary is to
issue regulations requiring foreign taxes to be treated as
expenses in determining pre-tax profit in appropriate
cases.\1047\
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\1046\ See, e.g., Rice's Toyota World v. Commissioner, 752 F.2d at
94 (the economic substance inquiry requires an objective determination
of whether a reasonable possibility of profit from the transaction
existed apart from tax benefits); Compaq Computer Corp. v.
Commissioner, 277 F.3d at 781 (applied the same test, citing Rice's
Toyota World); IES Industries v. United States, 253 F.3d at 354 (the
application of the objective economic substance test involves
determining whether there was a ``reasonable possibility of profit . .
. apart from tax benefits.'').
\1047\ There is no intention to restrict the ability of the courts
to consider the appropriate treatment of foreign taxes in particular
cases, as under present law.
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Personal transactions of individuals
In the case of an individual, the provision applies only to
transactions entered into in connection with a trade or
business or an activity engaged in for the production of
income.
Other rules
No inference is intended as to the proper application of
the economic substance doctrine under present law. The
provision is not intended to alter or supplant any other rule
of law, including any common-law doctrine or provision of the
Code or regulations or other guidance thereunder; and it is
intended the provision be construed as being additive to any
such other rule of law.
As with other provisions in the Code, the Secretary has
general authority to prescribe rules and regulations necessary
for the enforcement of the provision.\1048\
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\1048\ Sec. 7805(a).
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Penalty for underpayments and understatements attributable to
transactions lacking economic substance
The provision imposes a new strict liability penalty under
section 6662 for an underpayment attributable to any
disallowance of claimed tax benefits by reason of a transaction
lacking economic substance, as defined in new section 7701(o),
or failing to meet the requirements of any similar rule of
law.\1049\ The penalty rate is 20 percent (increased to 40
percent if the taxpayer does not adequately disclose the
relevant facts affecting the tax treatment in the return or a
statement attached to the return). An amended return or
supplement to a return is not taken into account if filed after
the taxpayer has been contacted for audit or such other date as
is specified by the Secretary. No exceptions (including the
reasonable cause rules) to the penalty are available. Thus,
under the provision, outside opinions or in-house analysis
would not protect a taxpayer from imposition of a penalty if it
is determined that the transaction lacks economic substance or
fails to meet the requirements of any similar rule of law.
Similarly, a claim for refund or credit that is excessive under
section 6676 due to a claim that is lacking in economic
substance or failing to meet the requirements of any similar
rule of law is subject to the 20 percent penalty under that
section, and the reasonable basis exception is not available.
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\1049\ It is intended that the penalty would apply to a transaction
the tax benefits of which are disallowed as a result of the application
of the similar factors and analysis that is required under the
provision for an economic substance analysis, even if a different term
is used to describe the doctrine.
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The penalty does not apply to any portion of an
underpayment on which a fraud penalty is imposed.\1050\ The new
40-percent penalty for nondisclosed transactions is added to
the penalties to which section 6662A will not also apply.\1051\
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\1050\ As under present law, the penalties under section 6662
(including the new penalty) do not apply to any portion of an
underpayment on which a fraud penalty is imposed.
\1051\ As revised by the provision, new section 6662A(e)(2)(b)
provides that section 6662A will not apply to any portion of an
understatement due to gross valuation misstatement under section
6662(h) or nondisclosed noneconomic substance transactions under new
section 6662(i).
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As described above, under the provision, the reasonable
cause and good faith exception of present law section
6664(c)(1) does not apply to any portion of an underpayment
which is attributable to a transaction lacking economic
substance, as defined in section 7701(o), or failing to meet
the requirements of any similar rule of law. Likewise, the
reasonable cause and good faith exception of present law
section 6664(d)(1) does not apply to any portion of a
reportable transaction understatement which is attributable to
a transaction lacking economic substance, as defined in section
7701(o), or failing to meet the requirements of any similar
rule of law.
Effective Date
The provision applies to transactions entered into after
the date of enactment and to underpayments, understatements,
and refunds and credits attributable to transactions entered
into after the date of enactment of the Act (March 30, 2010).
F. Time for Payment of Corporate Estimated Taxes (sec. 1410 of the Act
and sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\1052\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding taxable year), payments due in July, August, or
September, 2014, are increased to 157.75 percent of the payment
otherwise due and the next required payment is reduced
accordingly.\1053\
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\1052\ Sec. 6655.
\1053\ Hiring Incentives to Restore Employment Act, Pub. L. No.
111-147, sec. 561, par. (1); Act to extend the Generalized System of
Preferences and the Andean Trade Preference Act, and for other
purposes, Pub. L. No. 111-124, sec. 4; Worker, Homeownership, and
Business Assistance Act of 2009, Pub. L. No. 111-92, sec. 18; Joint
resolution approving the renewal of import restrictions contained in
the Burmese Freedom and Democracy Act of 2003, and for other purposes,
Pub. L. No. 111-42, sec. 202(b)(1).
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Explanation of Provision \1054\
The provision increases the required payment of estimated
tax otherwise due in July, August, or September, 2014, by 15.75
percentage points.
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\1054\ All of the public laws enacted in the 111th Congress
affecting this provision are described in Part Twenty-One of this
document.
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Effective Date
The provision is effective on the date of enactment (March
30, 2010).
PART NINE: REVENUE PROVISIONS OF THE PRESERVATION OF ACCESS TO CARE FOR
MEDICARE BENEFICIARIES AND PENSION RELIEF ACT OF 2010 (PUBLIC LAW 111-
192)\1055\
A. Authority to Disclose Return Information Concerning Outstanding Tax
Debts for Purposes of Enhancing Medicare Program Integrity (sec. 103 of
the Act and sec. 6103 of the Code)
Present Law
Section 6103 provides that returns and return information
are confidential and may not be disclosed by the IRS, other
Federal employees, State employees, and certain others having
access to such information except as provided in the Internal
Revenue Code. Section 6103 contains a number of exceptions to
the general rule of nondisclosure that authorize disclosure in
specifically identified circumstances. For example, section
6103 provides for the disclosure of certain return information
for purposes of establishing the appropriate amount of any
Medicare Part B premium subsidy adjustment.
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\1055\ H.R. 3962. The bill originated as the Affordable Health Care
for America Act and passed the House on November 7, 2009. The Senate
passed the bill with an amendment substituting the text of the
Preservation of Access to Care for Medicare Beneficiaries and Pension
Relief Act of 2010 by unanimous consent on June 18, 2010. The House
agreed to the Senate amendment on June 24, 2010. The President signed
the Act on June 25, 2010.
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Section 6103(p)(4) requires, as a condition of receiving
returns and return information, that Federal and State agencies
(and certain other recipients) provide safeguards as prescribed
by the Secretary of the Treasury by regulation to be necessary
or appropriate to protect the confidentiality of returns or
return information. Unauthorized disclosure of a return or
return information is a felony punishable by a fine not
exceeding $5,000 or imprisonment of not more than five years,
or both, together with the costs of prosecution.\1056\ The
unauthorized inspection of a return or return information is
punishable by a fine not exceeding $1,000 or imprisonment of
not more than one year, or both, together with the costs of
prosecution.\1057\ An action for civil damages also may be
brought for unauthorized disclosure or inspection.\1058\
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\1056\ Sec. 7213.
\1057\ Sec. 7213A.
\1058\ Sec. 7431.
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Explanation of Provision
Upon written request from the Secretary of Health and Human
Services, the IRS is permitted to disclose to officers and
employees of the Department of Health and Human Services the
following information with respect to a taxpayer who has
applied to enroll, or reenroll, as a provider of services or
supplier under the Medicare program under title XVIII of the
Social Security Act:
Taxpayer identity information with respect
to such person (i.e. the name of the person with
respect to whom a return is filed, that person's
mailing addresss, and taxpayer identifying number),
The amount of the seriously delinquent tax
debt owed by that taxpayer, and
The taxable year to which the seriously
delinquent debt relates.
For purposes of the provision, the term ``seriously
delinquent tax debt'' means an outstanding debt under Title 26
for which a notice of lien has been filed. Such term does not
include a debt that is being paid in a timely manner pursuant
to an installment agreement (under section 6159) or offer in
compromise (under section 7122). Nor does it include a debt for
which a collection due process hearing (under section 6330) or
innocent spouse relief (under subsections (a), (b) or (f) of
section 6015) is requested or pending.
The information disclosed under the provision may be used
by officers and employees of the Department of Health and Human
Services only for the purposes of, and to the extent necessary
in, establishing the taxpayer's eligibility for enrollment or
reenrollment in the Medicare program, or in any administrative
or judicial proceeding relating to, or arising from, a denial
of such enrollment, or in determining the level of enhanced
oversight to be applied with respect to such taxpayer pursuant
to section 1866(j)(3) of the Social Security Act.
Effective Date
The provision is effective on the date of enactment.
B. Single Employer Plans
1. Extended period for single-employer defined benefit plans to
amortize certain shortfall amortization bases (sec. 201 of the
Act and sec. 430 of the Code)
Present Law
Minimum funding rules
In general
Defined benefit pension plans generally are subject to
minimum funding rules that require the sponsoring employer to
periodically make contributions to fund plan benefits.\1059\
The minimum funding rules for single-employer defined benefit
pension plans were substantially revised by the Pension
Protection Act of 2006 (``PPA'').\1060\ The PPA also revised
the funding rules that apply to multiemployer defined benefit
pension plans. The Worker, Retiree, and Employer Recovery Act
of 2008 (``WRERA'') \1061\ made a number of technical
corrections to the PPA. In addition, WRERA made certain
amendments to the PPA minimum funding rules to provide funding
relief to defined benefit plans affected by the decline in
global financial markets during 2008.
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\1059\ Sec. 412. Similar rules apply to defined benefit pension
plans under the Labor Code provisions of the Employee Retirement Income
Security Act of 1974 (``ERISA''). A number of exceptions to the minimum
funding rules apply. For example, governmental and church plans are not
subject to the minimum funding rules. Under section 414(d), a
governmental plan is generally a plan established and maintained for
its employees by the Federal government, a State government or
political subdivision, or an agency or instrumentality of the
foregoing. A governmental plan also includes any plan to which the
Railroad Retirement Act of 1935 or 1937 applies and which is financed
by contributions required under that Act and any plan of an
international organization that is exempt from taxation by reason of
the International Organizations Immunities Act. A governmental plan
includes a plan established and maintained by an Indian tribal
government (as defined in section 7701(a)(40)), a subdivision of an
Indian tribal government (determined in accordance with section
7871(d)), or an agency or instrumentality of either, so long as all
participants are employees of such entity, substantially all of whose
services as employees are in the performance of essential governmental
functions but not in the performance of commercial activities (whether
or not an essential government function). Under section 414(e), a
church plan is a plan established and maintained for its employee by a
church or by a convention or association of churches which is exempt
from tax under section 501. A church plan may elect to be subject to
the minimum funding rules.
\1060\ Pub. L. No. 109-280.
\1061\ Pub. L. No. 110-458.
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The PPA minimum funding rules are generally effective for
plan years beginning after December 31, 2007. Delayed effective
dates apply to single-employer plans sponsored by certain large
defense contractors, multiple employer plans of some rural
cooperatives, and single-employer plans affected by settlement
agreements with the Pension Benefit Guaranty Corporation
(``PBGC'').\1062\
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\1062\ The PPA funding rules do not apply to eligible government
contractor plans for plan years beginning before the earliest of: (1)
the first plan year for which the plan ceases to be an eligible
government contractor plan, (2) the effective date of the Cost
Accounting Standards Pension Harmonization Rule, and (3) January 1,
2011. The new funding rules do not apply to eligible rural cooperative
plans for plan years beginning before the earlier of: (1) the first
plan year for which the plan ceases to be an eligible cooperative plan,
or (2) January 1, 2017. The new funding rules do not apply to eligible
PBGC settlement plans for plan years beginning before January 1, 2014.
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The minimum funding rules for single-employer and
multiemployer plans are different. A single-employer plan is a
plan that is not a multiemployer plan. A multiemployer plan is
generally a plan to which more than one employer is required to
contribute and which is maintained pursuant to a collective
bargaining agreement. There are also multiple employer plans,
which are plans maintained by more than one employer and to
which more than one employer is required to contribute, but
that are not maintained pursuant to a collective bargaining
agreement. The single-employer plan funding rules generally
apply to multiple employer plans.
The purpose of the minimum funding rules is to ensure that
the sponsoring employer of a defined benefit pension plan makes
periodic minimum contributions that will adequately fund
benefits promised under the plan. The rules permit an employer
to fund the plan over a period of time. Thus, it is possible
that a plan may be terminated at a time when plan assets are
not sufficient to provide all benefits accrued by employees
under the plan.
The due date for the payment of a minimum required
contribution for a plan year is generally eight and one-half
months after the end of the plan year.\1063\ If unpaid minimum
funding contributions for a single-employer plan exceed
$1,000,000, a lien arises in favor of the plan upon all
property and rights to property (real or personal) belonging to
the sponsoring employer (or member of the sponsoring employer's
controlled group) in an amount equal to the unpaid minimum
contributions.\1064\ Notice must be given to the PBGC \1065\ of
a funding failure that gives rise to a lien, and generally the
lien is enforceable by the PBGC.
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\1063\ Sec. 430(j).
\1064\ Sec. 430(k).
\1065\ The PBGC was established for the purpose of ensuring that
benefits promised under a defined benefit pension plan are paid (up to
specified annual limits) if the sponsoring employer is not able to
fulfill its obligation to adequately fund the plan and the plan is
terminated when it is underfunded. ERISA sec. 4002(a). The benefit
protection function of the PBGC is carried out through an insurance
program that applies to defined benefit pension plans. Sponsors of
plans that are subject to the insurance program are liable to the PBGC
for premium payments. PBGC termination insurance serves as a backstop
to the minimum funding rules.
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In the event of a failure to comply with the minimum
funding rules, the Code imposes a two-level excise tax on the
plan sponsor.\1066\ The initial tax is 10 percent of aggregate
unpaid contributions for single-employer plans and five percent
of the plan's accumulated funding deficiency (as defined below)
for multiemployer plans. An additional tax is imposed if the
failure is not corrected before the date that a notice of
deficiency with respect to the initial tax is mailed to the
employer by the Internal Revenue Service (``IRS'') or the date
of assessment of the initial tax. The additional tax is equal
to 100 percent of the unpaid contribution or the accumulated
funding deficiency, whichever is applicable. Before issuing a
notice of deficiency with respect to the excise tax, the
Secretary must notify the Secretary of Labor and provide the
Secretary of Labor with a reasonable opportunity to require the
employer responsible for contributing to, or under, the plan to
correct the deficiency or comment on the imposition of the tax.
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\1066\ Sec. 4971.
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Funding target and shortfall amortization charges
The minimum required contribution for a plan year for
single-employer defined benefit plans generally depends on a
comparison of the value of the plan's assets with the plan's
funding target and target normal cost.\1067\ The plan's funding
target for a plan year is the present value of all benefits
accrued or earned as of the beginning of the plan year. A
plan's target normal cost for a plan year is the present value
of benefits expected to accrue or to be earned during the plan
year. WRERA clarified that a plan's target normal cost is
increased by the amount of plan-related expenses expected to be
paid from plan assets during the plan year, and is decreased by
the amount of mandatory employee contributions expected to be
made to the plan during the plan year.\1068\
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\1067\ Sec. 430.
\1068\ This clarification is effective for plan years beginning
after December 31, 2008, and is elective for the preceding plan year.
Final regulations issued under section 430 reserve the issue of the
definition of ``plan-related expenses''. The definition of the term is
expected to be the subject of future proposed regulations. Treas. Reg.
sec. 1.430(d)-1(b)(2)(iii)(B).
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A shortfall amortization base is determined for a plan year
based on the plan's funding shortfall for the plan year.\1069\
In general, a plan has a funding shortfall for a plan year if
the plan's funding target for the year exceeds the value of the
plan's assets. The shortfall amortization base for a plan year
is: (1) the plan's funding shortfall, minus (2) the present
value, determined using the segment interest rates (discussed
below), of the aggregate total of the shortfall amortization
installments that have been determined for the plan year and
any succeeding plan year with respect to any shortfall
amortization bases for preceding plan years. As a result, in
any given plan year, a plan may have a number of shortfall
amortization installments that relate to the current or prior
years. The aggregate of these installments is referred to as
the shortfall amortization charge. In the case of a plan with a
funding shortfall for a plan year, the minimum required
contribution is generally equal to the sum of the plan's target
normal cost and the shortfall amortization charge for that
year.
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\1069\ Under a special rule, a shortfall amortization base does not
have to be established for a plan year if the value of a plan's assets
is at least equal to the plan's funding target for the plan year. For
purposes of the special rule, a transition rule applies for plan years
beginning after 2007 and before 2011. The transition rule does not
apply to a plan that (1) was not in effect for 2007, or (2) was subject
to certain deficit reduction contribution rules for 2007 (i.e., a plan
covering more than 100 participants and with a funded current liability
below a specified threshold). Under the transition rule, a shortfall
amortization base does not have to be established for a plan year
during the transition period if the value of plan assets for the plan
year is at least equal to the applicable percentage of the plan's
funding target for the year. The applicable percentage is 92 percent
for 2008, 94 percent for 2009, and 96 percent for 2010. While the PPA
provided that the transition rule did not apply to a plan for any plan
year after 2008 unless, for each preceding plan year after 2007, the
plan's shortfall amortization base was zero (i.e., the plan was
eligible for the special rule each preceding year), WRERA amended the
PPA rules to extend the transition rule to plan years beginning after
2008 even if, for each preceding plan year after 2007, the plan's
shortfall amortization base was not zero.
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A shortfall amortization base may be positive or negative,
depending on whether the present value of remaining
installments with respect to prior year amortization bases is
more or less than the plan's funding shortfall. In either case,
the shortfall amortization base is amortized over a seven-year
period beginning with the current plan year. Shortfall
amortization installments for a particular plan year with
respect to positive and negative shortfall amortization bases
are netted in determining the shortfall amortization charge for
the plan year, but the resulting shortfall amortization charge
cannot be less than zero (i.e., negative amortization
installments may not offset normal cost).
If the value of the plan's assets exceeds the plan's
funding target for a plan year, then the minimum required
contribution is generally equal to the plan's target normal
cost for the year. Target normal cost for this purpose is
reduced (but not below zero) by the amount by which the value
of the plan's assets exceed the plan's funding target.
Actuarial assumptions
The minimum funding rules for single-employer defined
benefit pension plans specify the interest rates and other
actuarial assumptions that must be used in determining a plan's
target normal cost and funding target. Under the rules, present
value is determined using three interest rates (``segment''
rates), each of which applies to benefit payments expected to
be made from the plan during a certain period. The first
segment rate applies to benefits reasonably determined to be
payable during the five-year period beginning on the first day
of the plan year; the second segment rate applies to benefits
reasonably determined to be payable during the 15-year period
following the initial five-year period; and the third segment
rate applies to benefits reasonably determined to be payable at
the end of the 15-year period. Each segment rate is a single
interest rate determined monthly by the Secretary on the basis
of a corporate bond yield curve, taking into account only the
portion of the yield curve based on corporate bonds maturing
during the particular segment rate period. The corporate bond
yield curve used for this purpose reflects the average, for the
24-month period ending with the preceding month, of yields on
investment grade corporate bonds with varying maturities and
that are in the top three quality levels available.
The present value of liabilities under a plan is determined
using the segment rates for the ``applicable month'' for the
plan year. The applicable month is the month that includes the
plan's valuation date for the plan year, or, at the election of
the plan sponsor, any of the four months preceding the month
that includes the valuation date. An election of a preceding
month applies to the plan year for which it is made and all
succeeding plan years unless revoked with the consent of the
Secretary.
Solely for purposes of determining minimum required
contributions, in lieu of the segment rates described above, a
plan sponsor may elect to use interest rates on a yield curve
based on the yields on investment grade corporate bonds for the
month preceding the month in which the plan year begins (i.e.,
without regard to the 24-month averaging described above)
(``spot'' rates). In general, such an election may be revoked
only with approval of the Secretary. However, Treasury
regulations provide automatic approval for plan sponsors to
make a new choice of interest rates for 2009 and 2010
(regardless of what choices were made for earlier years).\1070\
In addition, for 2009, the IRS has indicated that it will allow
plan sponsors to use the spot rate for the month that includes
the plan's valuation date for the 2009 plan year, or, at the
election of the plan sponsor, any of the four months preceding
the month that includes the valuation date (rather than only
for the month preceding the valuation date).\1071\
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\1070\ Treas. Reg. sec. 1.430(h)(2)-1(h)(3). Final regulations
under sections 430(d), 430(f), 430(g), 430(h)(2), 430(i), and 436 were
issued on October 7, 2009 and published in the Federal Register on
October 15, 2009. 74 Fed. Reg. 53004. The regulations are effective for
plan years beginning on or after January 1, 2010, except for plans to
which a delayed effective date applies. For plan years beginning before
January 1, 2010, plans are permitted to rely on the final regulations
or the proposed regulations (72 Fed. Reg. 74215) (December 31, 2007)
for purposes of satisfying the requirements of sections 430 and 436.
\1071\ Internal Revenue Service, Employee Plans News, March 2009
Special Edition.
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Explanation of Provision
Election of extended amortization period
The provision permits the plan sponsor of a single-employer
defined benefit pension plan to elect to determine the
shortfall amortization installments with respect to the
shortfall amortization base for not more than two eligible plan
years under two alternative extended amortization schedules.
Under the provision, the sponsor of a single-employer
defined benefit plan may elect to amortize the shortfall
amortization base for an eligible plan year over a nine-year
period beginning with the election year (``two plus seven
amortization schedule''). The shortfall amortization
installments for the first two plan years in the nine-year
period are equal to the interest on the shortfall amortization
base for the election year, determined by using the effective
interest rate for the election year.\1072\ The shortfall
amortization installments for the last seven plan years in the
nine-year period are equal to the amounts necessary to amortize
the remaining balance of the shortfall amortization base for
the election year in level annual installments over the seven-
year period, determined by using the segment rates for the
election year.
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\1072\ The effective interest rate with respect to a plan for a
plan year is the single rate of interest which, if used to determine
the present value of the benefits taken into account in determining the
plan's funding target for the year, would result in an amount equal to
the plan's funding target (as determined using the first, second, and
third segment rates). Sec. 430(h)(2)(A).
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Alternatively, the sponsor of a single-employer defined
benefit plan may elect to amortize the shortfall amortization
base for an election year in level annual installments over a
fifteen-year period beginning with the election year
(``fifteen-year amortization schedule'').
For purposes of the provision, an eligible plan year is a
plan year beginning in 2008, 2009, 2010, or 2011, but only if
the due date for the payment of the minimum required
contribution for the plan year occurs on or after the date of
enactment of the provision. A plan sponsor is not required to
elect to use an extended amortization schedule for more than
one eligible plan year or to make such election for consecutive
eligible plan years; however, a plan sponsor who does make an
election for two eligible plan years is required to elect the
same extended amortization schedule for each year. For example,
a plan sponsor who elects to use the fifteen-year amortization
schedule for the plan year beginning in 2009 can make an
election to use that same extended amortization schedule for
the plan year beginning in 2010 or 2011; however, the plan
sponsor is not permitted to elect the two plus seven
amortization schedule for either of those subsequent eligible
plan years.
Plans sponsored by certain government contractors that are
not subject to the PPA minimum funding rules until the plan
year beginning in 2011 may only elect an extended amortization
schedule for the plan year beginning in 2011.
An election to use an extended amortization schedule may be
revoked only with the consent of the Secretary. Prior to
granting a revocation request the Secretary must provide the
PBGC an opportunity to comment on the conditions applicable to
the treatment of any portion of the election year shortfall
amortization base that remains unamortized as of the revocation
date.
Increase in required installments for certain plans
In general
Under the provision, any plan year in a restriction period
is a year in which the shortfall amortization installment
otherwise determined and payable for that year pursuant to an
election to use an extended amortization period may be
increased, subject to certain limits described below, by an
``installment acceleration amount''. The length of the
restriction period following an election to use an extended
amortization schedule depends on the extended amortization
schedule elected by the plan sponsor for the eligible plan
year. For a plan sponsor who elects to use the two plus seven
amortization schedule for an eligible plan year, the
restriction period is the three year period beginning with the
election year or, if later, the first plan year beginning after
December 31, 2009. For a plan sponsor who elects to use the
fifteen-year amortization schedule for an eligible plan year,
the restriction period is the five year period beginning with
the election year or, if later, the first plan year beginning
after December 31, 2009.
For example, for a plan sponsor who elects to use the two
plus seven amortization schedule for the plan year beginning in
2009, the restriction period with respect to that election is
the three year period during the 2010, 2011 and 2012 plan
years. If the same plan sponsor then elects to use the two plus
seven amortization schedule for the plan year beginning in
2011, the separate restriction period with respect to that
election is the three year period during the 2011, 2012 and
2013 plan years.
Installment acceleration amount
The ``installment acceleration amount'' with respect to any
plan year in a restriction period is the aggregate amount of
excess employee compensation with respect to all employees for
the plan year and the aggregate amount of extraordinary
dividends and redemptions for the plan year. For purposes of
the provision, ``plan sponsor'' includes any member of the plan
sponsor's controlled group (as determined for purposes of the
minimum funding rules).
Excess employee compensation
Excess employee compensation is compensation (as defined
below) with respect to any employee (including a self-employed
individual treated as an employee under section 401(c)) for any
plan year in excess of $1,000,000. Beginning in 2011, the
$1,000,000 threshold is indexed to the Consumer Price Index for
Urban Consumers, rounded to the next lowest $1,000.
For purposes of determining excess employee compensation,
``compensation'' includes all amounts attributable to services
performed by an employee for a plan sponsor after February 28,
2010 that are includable in the employee's income as
remuneration during the calendar year in which the plan year
begins, regardless of whether the services were performed
during such calendar year. Compensation for any employee during
a calendar year also includes any amount that the plan sponsor
directly or indirectly sets aside or reserves in, or transfers
to, a trust (or other arrangement specified by the Secretary)
during the calendar year for purposes of paying deferred
compensation to the employee under a nonqualified deferred
compensation plan (as defined in section 409A) of the plan
sponsor, unless such amount is otherwise includable in income
as remuneration by the employee in that calendar year. To the
extent that an amount is taken into account when set aside,
reserved or transferred to a trust or other arrangement, that
amount is not taken into account in calculating the excess
employee compensation with respect to the employee in any
subsequent calendar year. The rule for amounts set aside,
reserved or transferred to a trust or other arrangement applies
without regard to whether the related compensation is
attributable to services performed by an employee for a plan
sponsor before or after February 28, 2010.
Compensation does not include any amount otherwise
includable in the employee's income with respect to the
granting of service recipient stock (as defined for purposes of
section 409A) after February 28, 2010 that is, at the time of
grant, subject to a substantial risk of forfeiture (within the
meaning of section 83(c)(1)) for at least five years following
the date of grant. A grant would not fail to satisfy this
requirement if the grant were vested upon death, disability, or
involuntary termination of employment before the end of the
five-year period. Under the provision, the Secretary may
provide for the application of this exception for restricted
service recipient stock to persons other than corporations. In
addition, compensation does not include any remuneration
payable to an employee on a commission basis solely on account
of income directly generated by that employee's individual
performance. Finally, compensation does not include any
remuneration consisting of nonqualified deferred compensation,
restricted stock, restricted stock units, stock options, or
stock appreciation rights payable or granted under a binding
written contract in effect on March 1, 2010 and not modified in
any material respect before the remuneration is paid.
Extraordinary dividends and redemptions
The aggregate amount of extraordinary dividends and
redemptions for a plan year is equal to the amount by which the
sum of the dividends declared during the plan year by the plan
sponsor and the aggregate amount paid for the redemption of
stock of the plan sponsor redeemed during the plan year exceeds
the greater of (1) the plan sponsor's adjusted net income
(within the meaning of section 4043 of ERISA) for the preceding
plan year, determined without regard for any reduction by
reason of interest, taxes, depreciation or amortization or (2)
for a plan sponsor who determined and declared dividends in the
same manner for at least five consecutive years immediately
preceding the plan year, the aggregate amount of dividends
determined and declared for the plan year in that manner. It is
intended that dividends would be deemed to be determined in the
same manner for the prior five years if they are at the same
level or rate as dividends in the previous five consecutive
years. For purposes of the provision, only dividends declared
and redemptions occurring after February 28, 2010 are taken
into account in determining the amount of dividends and
redemptions for a plan year.
In calculating the dividends declared and amounts paid for
the redemption of stock during the plan year, the following
amounts are disregarded: (1) dividends paid by one member of
the plan sponsor's controlled group to another member of the
controlled group; (2) redemptions made pursuant to an employee
benefit plan or that are made on account of the death,
disability or termination of employment of an employee or
shareholder; and (3) dividends and redemptions with respect to
applicable preferred stock on which dividends accrue at a
specified rate in all events and without regard to the plan
sponsor's income and with respect to which interest accrues on
any unpaid dividends. Applicable preferred stock is preferred
stock originally issued before March 1, 2010 (including any
preferred stock originally issued prior to that date that is
subsequently reissued with otherwise identical terms) and
preferred stock issued after March 1, 2010 that is held by an
employee benefit plan subject to Title I of ERISA.
Limitations on installment acceleration amounts
Annual limitation
Under the provision, the installment acceleration amount
for a plan year is limited to the aggregate amount of funding
relief received by the plan sponsor in prior years as a result
of an election to use an extended amortization period for an
eligible plan year. To the extent that an installment
acceleration amount is limited by application of this rule, the
excess installment acceleration amount is generally carried
over to the succeeding plan year.
Thus, under the provision, the installment acceleration
amount for any plan year may not exceed the excess (if any) of
(1) the sum of the shortfall amortization installments for that
plan year and all prior plan years in the nine or fifteen year
amortization period, as elected, with respect to the shortfall
amortization base for the election year, that would have been
determined and payable by the plan sponsor with respect to that
shortfall amortization base in the absence of an election to
use an extended amortization period over (2) the sum of the
shortfall amortization installments for such plan years,
determined under the two and seven or fifteen year amortization
schedule, as elected by the plan sponsor, including any
installment acceleration amount from a preceding plan year
(``annual limit'').
To the extent that a carryover of excess installment
acceleration amounts from a preceding plan year, when added to
other installment acceleration amounts for a plan year (as
determined prior to application of the annual limit on
installment acceleration amounts) would cause the shortfall
amortization installment for the plan year to exceed the annual
limit, the excess is similarly carried over to the next
succeeding plan year. Under the provision, the following
ordering rule applies in applying the annual limit for a plan
year: the installment acceleration amounts for the plan year,
determined prior to the addition of any carryover installment
acceleration amount from a preceding year, is applied first
against the annual limit and then any installment acceleration
amounts carried over to the plan year are applied against the
annual limit on a first-in, first-out basis.
The carryover rules apply during the restriction period
with respect to an election year and for a limited number of
years following the expiration of the restriction period with
respect to an election year. Under the provision, no amount is
carried over to a plan year that begins after the first plan
year following the last plan year in the restriction period
applicable to a two plus seven amortization schedule and no
amount is carried over to a plan year that begins after the
second plan year following the last plan year in the
restriction period applicable to a fifteen year amortization
schedule.
Total installments limited to the present value of the
shortfall amortization base
Two additional rules (subject to rules prescribed by the
Secretary) apply under the provision to insure that the
addition of an installment acceleration amount to a shortfall
amortization installment for a plan year results only in an
acceleration of the payment of amounts that would otherwise be
included in subsequent shortfall amortization installments with
respect to the shortfall amortization base for the election
year and not in the amortization of an amount in excess of that
shortfall amortization base.
Under the first rule, if the shortfall amortization
installment with respect to the shortfall amortization base for
an election year is required to be increased by any installment
acceleration amount, the remaining shortfall amortization
installments with respect that shortfall amortization base are
reduced, in reverse order of the otherwise required
installments, to the extent necessary to limit the present
value of the remaining installments to the present value of the
remaining unamortized shortfall amortization base. Under the
second rule, the increase for any plan year is limited to the
amount that does not cause the amount of the installment to
exceed the present value of the installment and all succeeding
installments with respect to the shortfall amortization base
for the election year (determined without regard to the
installment acceleration amount, but after application of the
first rule reducing the remaining shortfall amortization
installments to reflect any installment acceleration amount).
Under the provision, any installment acceleration amount is
disregarded for purposes of determining a plan's quarterly
contributions.
Reporting requirement
The provision requires a plan sponsor who elects to use an
extended amortization schedule to give notice of the election
to participants and beneficiaries of the plan and to inform the
PBGC of the election in such form and manner as the Director of
the PBGC may require.
Regulations and guidance
The Secretary is directed to provide rules for the
application of the provisions governing installment
acceleration amounts to plan sponsors who elect an extended
amortization schedule for two or more plans, including rules
for the ratable allocation of any installment acceleration
amount among electing plans on the basis of each plan's
relative reduction in its shortfall amortization installment
for the first plan year in the extended amortization period.
The Secretary is also directed to provide rules for the
application of those provisions and the provisions governing
the election of an extended amortization schedule in any case
where there is a merger or acquisition involving an electing
plan sponsor.
Effective Date
The provision is effective for plan years beginning after
December 31, 2007.
2. Application of extended amortization period to plans subject to
prior law funding rules (sec. 202 of the Act)
Present Law
In general
Defined benefit pension plans generally are subject to
minimum funding requirements under ERISA and the Code.\1073\
PPA made significant changes to the minimum funding
requirements for single-employer plans. Generally, those
modifications became effective for plan years beginning after
December 31, 2007. As discussed below, however, there are
delayed effective dates for certain plans including multiple
employer plans of certain cooperatives, certain PBGC settlement
plans, and plans of certain government contractors.
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\1073\ Secs. 302 and 412 of ERISA. Multiemployer defined benefit
pension plans are also subject to the minimum funding requirements, but
the rules for multiemployer plans differ in various respects from the
rules applicable to single-employer plans. Governmental plans and
church plans are generally exempt from the minimum funding
requirements.
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Multiple employer plans of certain cooperatives
Section 104 of PPA provides a delayed effective date for
the PPA's single-employer plan funding rules for any plan that
was in existence on July 26, 2005, and was an eligible
cooperative plan for the plan year including that date. A plan
is treated as an eligible cooperative plan for a plan year if
it is maintained by more than one employer and at least 85
percent of the employers are: (1) certain rural cooperatives;
\1074\ or (2) certain cooperative organizations that are more
than 50-percent owned by agricultural producers or by
cooperatives owned by agricultural producers, or organizations
that are more than 50-percent owned, or controlled by, one or
more such cooperative organizations. A plan is also treated as
an eligible cooperative plan for any plan year for which it is
maintained by more than one employer and is maintained by a
rural telephone cooperative association.
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\1074\ This is as defined in Code section 401(k)(7)(B) without
regard to (iv) thereof and includes (1) organizations engaged primarily
in providing electric service on a mutual or cooperative basis, or
engaged primarily in providing electric service to the public in its
service area and which is exempt from tax or which is a State or local
government, other than a municipality; (2) certain civic leagues and
business leagues exempt from tax 80 percent of the members of which are
described in (1); (3) certain cooperative telephone companies; and (4)
any organization that is a national association of organizations
described above.
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The PPA's funding rules do not apply with respect to an
eligible cooperative plan for plan years beginning before the
earlier of: (1) the first plan year for which the plan ceases
to be an eligible cooperative plan; or (2) January 1, 2017. In
addition, in applying the pre-PPA funding rules to an eligible
cooperative plan to such a plan for plan years beginning after
December 31, 2007, and before the first plan year for which the
PPA funding rules apply, the interest rate used is the interest
rate applicable under the PPA funding rules with respect to
payments expected to be made from the plan after the 20-year
period beginning on the first day of the plan year (i.e., the
third segment rate under the PPA funding rules).\1075\
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\1075\ PPA specifies the interest rates that must be used in
determining a plan's target normal cost and funding target. Present
value is determined using three interest rates (``segment'' rates),
each of which applies to benefit payments expected to be made from the
plan during a certain period. The first segment rate applies to
benefits reasonably determined to be payable during the five-year
period beginning on the first day of the plan year; the second segment
rate applies to benefits reasonably determined to be payable during the
15-year period following the initial five-year period; and the third
segment rate applies to benefits reasonably determined to be payable
the end of the 15-year period. Each segment rate is a single interest
rate determined monthly by the Secretary of the Treasury on the basis
of a corporate bond yield curve, taking into account only the portion
of the yield curve based on corporate bonds maturing during the
particular segment rate period.
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Certain PBGC settlement plans
The PPA provides a delayed effective date for its single-
employer plan funding rules for any plan that was in existence
on July 26, 2005, and was a ``PBGC settlement plan'' as of that
date. The term ``PBGC settlement plan'' means a single-employer
defined benefit plan: (1) that was sponsored by an employer in
bankruptcy proceedings giving rise to a claim by the PBGC of
not greater than $150 million, and the sponsorship of which was
assumed by another employer (not a member of the same
controlled group as the bankrupt sponsor) and the PBGC's claim
was settled or withdrawn in connection with the assumption of
the sponsorship; or (2) that, by agreement with the PBGC, was
spun off from a plan subsequently terminated by the PBGC in an
involuntary termination.
The PPA's funding rules do not apply with respect to a PBGC
settlement plan for plan years beginning before January 1,
2014. In addition, in applying the pre-PPA funding rules to
such a plan for plan years beginning after December 31, 2007,
and before January 1, 2014, the interest rate used is the third
segment rate under the PPA funding rules.
Plans of certain government contractors
The PPA provides a delayed effective date for its single-
employer plan funding rules for any eligible government
contractor plan. A plan is treated as an eligible government
contractor plan if it is maintained by a corporation (or member
of the same affiliated group): (1) whose primary source of
revenue is derived from business performed under contracts with
the United States that are subject to the Federal Acquisition
Regulations \1076\ and also to the Defense Federal Acquisition
Regulation Supplement; \1077\ (2) whose revenue derived from
such business in the previous fiscal year exceeded $5 billion;
and (3) whose pension plan costs that are assignable under
those contracts are subject to certain provisions of the Cost
Accounting Standards.\1078\
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\1076\ 48 C.F.R. 1.
\1077\ 48 C.F.R. 2.
\1078\ 48 C.F.R. 9904.412 and 9904.413.
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The PPA funding rules do not apply with respect to such a
plan for plan years beginning before the earliest of: (1) the
first plan year for which the plan ceases to be an eligible
government contractor plan; (2) the effective date of the Cost
Accounting Standards Pension Harmonization Rule; \1079\ and (3)
the first plan year beginning after December 31, 2010. In
addition, in applying the pre-PPA funding rules to such a plan
for plan years beginning after December 31, 2007, and before
the first plan year for which the PPA funding rules apply, the
interest rate used is the third segment rate under the PPA
funding rules.
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\1079\ Section 106(d) of PPA requires the Cost Accounting Standards
Board to review and revise sections 412 and 413 of the Cost Accounting
Standards (48 C.F.R. 9904.412 and 9904.413) to harmonize the minimum
required contributions under ERISA of eligible government contractor
plans and government reimbursable pension plan costs, not later than
Jan. 1, 2010. Any final rule adopted by the Cost Accounting Standards
Board will be considered the Cost Accounting Standards Pension
Harmonization Rule.
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General minimum funding rules for plans with delayed PPA effective
dates
Funding standard account
As an administrative aid in the application of the pre-PPA
funding requirements, a defined benefit pension plan is
required to maintain a special account called a ``funding
standard account'' to which specified charges and credits are
made for each plan year, including a charge for normal cost and
credits for contributions to the plan. Other charges or credits
may apply as a result of decreases or increases in past service
liability as a result of plan amendments, experience gains or
losses, gains or losses resulting from a change in actuarial
assumptions, or a waiver of minimum required contributions.
In determining plan funding under an actuarial cost method,
a plan's actuary generally makes certain assumptions regarding
the future experience of a plan. These assumptions typically
involve rates of interest, mortality, disability, salary
increases, and other factors affecting the value of assets and
liabilities. If the plan's actual unfunded liabilities are less
than those anticipated by the actuary on the basis of these
assumptions, then the excess is an experience gain. If the
actual unfunded liabilities are greater than those anticipated,
then the difference is an experience loss. Experience gains and
losses for a year are generally amortized as credits or charges
to the funding standard account over five years.
If the actuarial assumptions used for funding a plan are
revised and, under the new assumptions, the accrued liability
of a plan is less than the accrued liability computed under the
previous assumptions, the decrease is a gain from changes in
actuarial assumptions. If the new assumptions result in an
increase in the plan's accrued liability, the plan has a loss
from changes in actuarial assumptions. The accrued liability of
a plan is the actuarial present value of projected pension
benefits under the plan that will not be funded by future
contributions to meet normal cost or future employee
contributions. The gain or loss for a year from changes in
actuarial assumptions is amortized as credits or charges to the
funding standard account over ten years.
If minimum required contributions are waived, the waived
amount (referred to as a ``waived funding deficiency'') is
credited to the funding standard account. The waived funding
deficiency is then amortized over a period of five years,
beginning with the year following the year in which the waiver
is granted. Each year, the funding standard account is charged
with the amortization amount for that year unless the plan
becomes fully funded.
If, as of the close of a plan year, the funding standard
account reflects credits at least equal to charges, the plan is
generally treated as meeting the minimum funding standard for
the year. If, as of the close of the plan year, charges to the
funding standard account exceed credits to the account, then
the excess is referred to as an ``accumulated funding
deficiency.'' Thus, as a general rule, the minimum contribution
for a plan year is determined as the amount by which the
charges to the funding standard account would exceed credits to
the account if no contribution were made to the plan. For
example, if the balance of charges to the funding standard
account of a plan for a year would be $200,000 without any
contributions, then a minimum contribution equal to that amount
would be required to meet the minimum funding standard for the
year to prevent an accumulated funding deficiency.
Funding methods and general concepts
A defined benefit pension plan is required to use an
acceptable actuarial cost method to determine the elements
included in its funding standard account for a year. Generally,
an actuarial cost method breaks up the cost of benefits under
the plan into annual charges consisting of two elements for
each plan year. These elements are referred to as: (1) normal
cost; and (2) supplemental cost.
The plan's normal cost for a plan year generally represents
the cost of future benefits allocated to the year by the
funding method used by the plan for current employees and,
under some funding methods, for separated employees.
Specifically, it is the amount actuarially determined that
would be required as a contribution by the employer for the
plan year in order to maintain the plan if the plan had been in
effect from the beginning of service of the included employees
and if the costs for prior years had been paid, and all
assumptions as to interest, mortality, time of payment, etc.,
had been fulfilled. The normal cost will be funded by future
contributions to the plan: (1) in level dollar amounts; (2) as
a uniform percentage of payroll; (3) as a uniform amount per
unit of service (e.g., $1 per hour); or (4) on the basis of the
actuarial present values of benefits considered accruing in
particular plan years.
The supplemental cost for a plan year is the cost of future
benefits that would not be met by future normal costs, future
employee contributions, or plan assets. The most common
supplemental cost is that attributable to past service
liability, which represents the cost of future benefits under
the plan: (1) on the date the plan is first effective; or (2)
on the date a plan amendment increasing plan benefits is first
effective. Other supplemental costs may be attributable to net
experience losses, changes in actuarial assumptions, and
amounts necessary to make up funding deficiencies for which a
waiver was obtained. Supplemental costs must be amortized
(i.e., recognized for funding purposes) over a specified number
of years, depending on the source. For example, the cost
attributable to a past service liability is generally amortized
over 30 years.
Normal costs and supplemental costs under a plan are
computed on the basis of an actuarial valuation of the assets
and liabilities of a plan. An actuarial valuation is generally
required annually and is made as of a date within the plan year
or within one month before the beginning of the plan year.
However, a valuation date within the preceding plan year may be
used if, as of that date, the value of the plan's assets is at
least 100 percent of the plan's current liability (i.e., the
present value of benefits under the plan, as described below).
For funding purposes, the actuarial value of plan assets
may be used, rather than fair market value. The actuarial value
of plan assets is the value determined on the basis of a
reasonable actuarial valuation method that takes into account
fair market value and is permitted under Treasury regulations.
Any actuarial valuation method used must result in a value of
plan assets that is not less than 80 percent of the fair market
value of the assets and not more than 120 percent of the fair
market value. In addition, if the valuation method uses average
value of the plan assets, values may be used for a stated
period not to exceed the five most recent plan years, including
the current year.
In applying the funding rules, all costs, liabilities,
interest rates, and other factors are required to be determined
on the basis of actuarial assumptions and methods, each of
which is reasonable (taking into account the experience of the
plan and reasonable expectations), or which, in the aggregate,
result in a total plan contribution equivalent to a
contribution that would be determined if each assumption and
method were reasonable. In addition, the assumptions are
required to offer the actuary's best estimate of anticipated
experience under the plan.\1080\
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\1080\ Under present law, certain changes in actuarial assumptions
that decrease the liabilities of an underfunded single-employer plan
must be approved by the IRS.
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Additional contributions for underfunded plans with delayed PPA
effective dates
In general
Under special funding rules (referred to as the ``deficit
reduction contribution'' rules),\1081\ an additional charge to
a plan's funding standard account is generally required for a
plan year if the plan's funded current liability percentage for
the plan year is less than 90 percent.\1082\ A plan's ``funded
current liability percentage'' is generally the actuarial value
of plan assets as a percentage of the plan's current
liability.\1083\ In general, a plan's current liability means
all liabilities to employees and their beneficiaries under the
plan, determined on a present-value basis.
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\1081\ The deficit reduction contribution rules apply to single-
employer plans, other than single-employer plans with no more than 100
participants on any day in the preceding plan year. Single-employer
plans with more than 100 but not more than 150 participants are
generally subject to lower contribution requirements under these rules.
\1082\ Under an alternative test, a plan is not subject to the
deficit reduction contribution rules for a plan year if (1) the plan's
funded current liability percentage for the plan year is at least 80
percent, and (2) the plan's funded current liability percentage was at
least 90 percent for each of the two immediately preceding plan years
or each of the second and third immediately preceding plan years.
\1083\ In determining a plan's funded current liability percentage
for a plan year, the value of the plan's assets is generally reduced by
the amount of any credit balance under the plan's funding standard
account. However, this reduction does not apply in determining the
plan's funded current liability percentage for purposes of whether an
additional charge is required under the deficit reduction contribution
rules.
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The amount of the additional charge required under the
deficit reduction contribution rules is the sum of two amounts:
(1) the excess, if any, of (a) the deficit reduction
contribution (as described below), over (b) the contribution
required under the normal funding rules; and (2) the amount (if
any) required with respect to unpredictable contingent event
benefits. The amount of the additional charge cannot exceed the
amount needed to increase the plan's funded current liability
percentage to 100 percent (taking into account the expected
increase in current liability due to benefits accruing during
the plan year).
The deficit reduction contribution is generally the sum of:
(1) the ``unfunded old liability amount,'' (2) the ``unfunded
new liability amount,'' and (3) the expected increase in
current liability due to benefits accruing during the plan
year.\1084\ The ``unfunded old liability amount'' is the amount
needed to amortize certain unfunded liabilities under 1987 and
1994 transition rules. The ``unfunded new liability amount'' is
the applicable percentage of the plan's unfunded new liability.
Unfunded new liability generally means the unfunded current
liability of the plan (i.e., the amount by which the plan's
current liability exceeds the actuarial value of plan assets),
but determined without regard to certain liabilities (such as
the plan's unfunded old liability and unpredictable contingent
event benefits). The applicable percentage is generally 30
percent, but decreases by .40 of one percentage point for each
percentage point by which the plan's funded current liability
percentage exceeds 60 percent. For example, if a plan's funded
current liability percentage is 85 percent (i.e., it exceeds 60
percent by 25 percentage points), the applicable percentage is
20 percent (30 percent minus 10 percentage points (25
multiplied by .4)).\1085\
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\1084\ The deficit reduction contribution may also include an
additional amount as a result of the use of a new mortality table
prescribed by the Secretary of the Treasury in determining current
liability for plan years beginning after 2006.
\1085\ In making these computations, the value of the plan's assets
is reduced by the amount of any credit balance under the plan's funding
standard account.
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A plan may provide for unpredictable contingent event
benefits, which are benefits that depend on contingencies that
are not reliably and reasonably predictable, such as facility
shutdowns or reductions in workforce. The value of any
unpredictable contingent event benefit is not considered in
determining additional contributions until the event has
occurred. The event on which an unpredictable contingent event
benefit is contingent is generally not considered to have
occurred until all events on which the benefit is contingent
have occurred.
Explanation of Provision
In general
The provision offers two types of funding relief to
underfunded plans with delayed PPA effective dates.\1086\ Under
the provision a plan sponsor may elect either: (1) a two year
look-back rule for purposes of calculating the plan's deficit
reduction contribution; or (2) a 15-year amortization period
for purposes of determining the plan's unfunded new liability.
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\1086\ That is, multiple employer plans of certain cooperatives (as
defined in section 104 of PPA), certain PBGC settlement plans (as
defined in section 105 of PPA), and plans of certain government
contractors (as defined in section 106 of PPA).
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Plan sponsors of eligible plans may elect relief for not
more than two applicable years (one year for plans of certain
government contractors). Plan sponsors electing two years of
relief must elect the same type of relief for each year.
Generally, relief may be elected for any two plan years
beginning in 2008, 2009, 2010, or 2011. A plan year beginning
in 2008 may be an applicable year, however, only if the due
date for payment of the plan's minimum required contribution
occurs on or after the provision's date of enactment. A plan
sponsor is not required to make an election for more than one
applicable plan year or to make such election for consecutive
applicable plan years; however, a plan sponsor that does make
an election for two plan years is required to elect the same
relief provision for each year. For example, a plan sponsor
that elects to use the two year look-back rule for the plan
year beginning in 2009 can make an election to use that same
rule for the plan year beginning in 2010 or 2011; however, the
plan sponsor is not permitted to elect to use the 15-year
amortization period for purposes of determining the plan's
unfunded new liability for either of those subsequent eligible
plan years. A ``pre-effective date plan year'' is any plan year
prior to the first year to which the PPA funding rules apply to
the plan.
The provision requires the Secretary of the Treasury to
prescribe rules for making, and in appropriate circumstances
revoking, elections. An election may be revoked only with the
consent of the Secretary.
Look-back rule
The provision permits plan sponsors of underfunded plans
with delayed PPA effective dates to elect to use a two year
look-back for purposes of determining their deficit reduction
contribution. That is, an eligible underfunded plan may elect
to use a plan's funded current liability percentage from the
second plan year preceding the plan's first election year under
the provision.
In determining its deficit reduction contribution, a plan
that elects to use the two-year look-back rule is permitted to
use the third segment rate under the P P A funding rules \1087\
in calculating a portion of its unfunded new liability amount.
Under the pre-PPA rules, the unfunded new liability amount is
the applicable percentage of the plan's unfunded new liability.
Under the provision, in calculating its unfunded new liability
amount, an electing plan may use the PPA third segment rate as
the applicable percentage rather than the pre-PPA applicable
percentage (i.e., 30 percent decreased by .40 of one percentage
point for each percentage point by which the plan's funded
current liability exceeds 60 percent), but only with respect to
the portion of the plan's unfunded new liability that is its
``increased unfunded new liability.'' The electing plan
continues to use the pre-PPA applicable percentage in
calculating its unfunded new liability amount with respect to
the excess of the unfunded new liability over the increased
unfunded new liability. The increased unfunded new liability is
the excess (if any) of the plan's unfunded new liability over
the amount of unfunded new liability determined as if the value
of the plan's assets equaled the product of the current
liability of the plan for the year multiplied by the funded
current liability percentage of the plan for the second plan
year preceding the first election year of such plan.
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\1087\ PPA secs. 104(b), 105(b), and 106(b). The third segment rate
is derived from a corporate bond yield curve prescribed by the
Secretary of the Treasury which reflects the yields on investment grade
corporate bonds with varying maturities.
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15-year amortization
The provision permits plan sponsors of underfunded plans
with delayed PPA effective dates to elect to use a special
applicable percentage for purposes of calculating a portion of
their unfunded new liability amount for any pre-effective date
plan year beginning with or after the first election year. The
special applicable percentage is the ratio of: (1) the annual
installments payable in each year if the increased unfunded new
liability for that plan year was amortized over 15 years, using
an interest rate equal to the third segment rate under the PPA
funding rules; to (2) the increased unfunded new liability for
the plan year. This special applicable percentage applies with
respect to the portion of the plan's unfunded new liability
that is its increased unfunded new liability. The electing plan
continues to use the pre-PPA applicable percentage in
calculating its unfunded new liability amount with respect to
the excess of the unfunded new liability over the increased
unfunded new liability.
Eligible charity plans
The provision amends section 104 of PPA by making the
section applicable to eligible charity plans. Under the
provision, therefore, the delayed PPA effective date and
special interest rates rules that apply to eligible cooperative
plans apply to eligible charity plans. This provision was
intended to allow plans of large national charities and their
separately organized local chapters to have access to the
relief whether or not they are treated as a single controlled
group. An eligible charity plan that makes the election will
not have violated the anti-cutback or other qualification
requirements merely as a result of operating in accordance with
the benefit limitation rules of section 436 for periods before
the date of enactment.
A plan is an eligible charity plan for a plan year if it is
maintained by more than one employer, 100 percent of whom are
tax exempt organizations under section 501(c)(3).\1088\ For
purposes of the provision, the determination of whether a plan
is maintained by more than one employer is determined without
regard to the controlled group rules of section 414(c).
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\1088\ Generally, an organization is exempt under section 501(c)(3)
if it is a corporation, community chest, fund, or foundation, organized
and operated exclusively for religious, charitable, scientific, testing
for public safety, literary, or educational purposes, or to foster
national or international amateur sports competition, or for the
prevention of cruelty to children or animals, no part of the net
earnings of which inures to the benefit of any private shareholder or
individual, no substantial part of the activities of which is carrying
on propaganda, or otherwise attempting, to influence legislation, and
which does not participate in, or intervene in, any political campaign
of any candidate for public office.
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Effective Date
In general, the provision is effective as if included in
PPA. The provisions relating to eligible charity plans are
effective for plan years beginning after December 31, 2007,
except that a plan sponsor may elect to apply the provision to
plan years beginning after December 31, 2008, pursuant to
elections made at the time and in the manner prescribed by the
Secretary. An election may be revoked only with the consent of
the Secretary.
3. Lookback for certain benefit restrictions (sec. 203 of the Act and
sec. 436 of the Code)
Present Law
Benefit restrictions
A single-employer defined benefit pension plan is required
to comply with certain funding-based limits described in
section 436 on benefits and benefit accruals if a plan's
adjusted funding target attainment percentage is below a
certain level.\1089\ These limits were added by the PPA and are
generally applicable to plan years beginning after December 31,
2007. The term ``funding target attainment percentage'' is
defined in the same way as under the minimum funding rules
applicable to single-employer defined benefit pension plans,
and is the ratio, expressed as a percentage, that the value of
the plan's assets (generally reduced by any funding standard
carryover balance and prefunding balance) bears to the plan's
funding target for the year (determined without regard to
whether a plan is in at-risk status under the minimum funding
rules). A plan's adjusted funding target attainment percentage
is determined in the same way, except that the value of the
plan's assets and the plan's funding target are both increased
by the aggregate amount of purchases of annuities for employees
other than highly compensated employees made by the plan during
the two preceding plan years. Special rules apply for
determining a plan's adjusted funding target attainment
percentage in the case of a fully funded plan and for plan
years beginning in 2007 and before 2011.
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\1089\ Secs. 401(a)(29) and 436. Parallel rules apply under ERISA.
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Prohibited payments
General rule
A plan must provide that, if the plan's adjusted funding
target attainment percentage for a plan year is less than 60
percent, the plan will not make any ``prohibited payments''
after the valuation date for the plan year.\1090\ For purposes
of these limitations, a prohibited payment is (1) any payment
in excess of the monthly amount paid under a single life
annuity (plus any social security supplement provided under the
plan) to a participant or beneficiary whose annuity starting
date occurs during the period, (2) any payment for the purchase
of an irrevocable commitment from an insurer to pay benefits
(e.g., an annuity contract), (3) any transfer of assets and
liabilities to another plan maintained by the same employer (or
by any member of the employer's controlled group) that is made
in order to avoid or terminate the application of the PPA
benefit limitations; or (4) any other payment specified by the
Secretary by regulations.
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\1090\ Sec. 436(d).
---------------------------------------------------------------------------
A plan must also provide that, if the plan's adjusted
funding target attainment percentage for a plan year is 60
percent or greater, but less than 80 percent, the plan may not
pay any prohibited payments exceeding the lesser of: (1) 50
percent of the amount otherwise payable under the plan; and (2)
the present value of the maximum PBGC guarantee with respect to
the participant (determined under guidance prescribed by the
PBGC, using the interest rates and mortality table applicable
in determining minimum lump-sum benefits). The plan must
provide that only one payment under this exception may be made
with respect to any participant \1091\ during any period of
consecutive plan years to which the limitation applies.
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\1091\ For purposes of the prohibited payment rules, the benefits
provided with respect to a participant and any beneficiary of the
participant (including an alternate payee) are aggregated. If the
participant's accrued benefit is allocated to an alternate payee and
one or more other persons, the amount that may be distributed is
allocated in the same manner unless the applicable qualified domestic
relations order provides otherwise.
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In addition, a plan must provide that, during any period in
which the plan sponsor is in bankruptcy proceedings, the plan
may not make any prohibited payment. This limitation does not
apply on or after the date the plan's enrolled actuary
certifies that the adjusted funding target attainment
percentage of the plan is not less than 100 percent.
With respect to the prohibited payment rule, certain frozen
plans, meaning plans that do not provide for any future benefit
accruals, are grandfathered. The prohibited payment limitation
does not apply to a plan for any plan year if the terms of the
plan (as in effect for the period beginning on September 1,
2005, and ending with the plan year) provide for no benefit
accruals with respect to any participant during the period. In
addition, in the case of a terminated plan, while any benefit
restriction in effect immediately before the termination of the
plan continues to apply, the limitation on prohibited payments
does not apply to payments made to carry out the termination of
the plan in accordance with applicable law.\1092\
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\1092\ Treas. Reg. sec. 1.436-1(a)(3)(ii).
---------------------------------------------------------------------------
Definition of social security supplement
A social security supplement is an ancillary benefit that
is permitted to be offered under a defined benefit plan. An
ancillary benefit is benefit provided under the plan that is
not a retirement-type subsidy or an optional form of payment of
a participant's accrued benefit. It is benefit that is paid in
addition to a participant's accrued benefit or any benefit
treated as an accrued benefit. Specifically a social security
supplement is a benefit for plan participants that commences
before the age and terminates before the age when participants
are entitled to old-age insurance benefits, unreduced on
account of age, under title II of the Social Security Act, as
amended (see section 202(a) and (g) of such Act), and does not
exceed such old-age insurance benefit.\1093\
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\1093\ Treas. Reg. sec. 1.411(a)-7(c)(4)
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Treatment of payments under Social Security leveling
feature
A Social Security leveling feature is a feature with
respect to an optional form of payment of a participant's
accrued benefit commencing prior to a participant's expected
commencement of Social Security benefits that provides for a
temporary period of higher payments which is designed to result
in an approximately level amount of income when the
participant's estimated old age benefits from Social Security
are taken into account.\1094\ Even though an optional form of
benefit with this feature may provide the same stream of
payments as a single life annuity plus a social security
supplement, the amount in excess of a single life annuity paid
before Social Security retirement age is a prohibited payment.
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\1094\ Treas. Reg. sec. 1.411(d)-3(g)(16)
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Limitation on future benefit accruals
Among the benefit limitations is a requirement that if the
plan's adjusted funding target attainment percentage is less
than 60 percent for a plan year, all future benefit accruals
under the plan must cease as of the valuation date for the plan
year (``future benefit accrual limitation''). This future
benefit accrual limitation applies only for purposes of the
accrual of benefits; service during the freeze period is
counted for other purposes. For example, if accruals are frozen
pursuant to the limitation, service performed during the freeze
period still counts for vesting purposes. Written notice must
be provided to plan participants and beneficiaries if a future
benefit accrual limitation or any other section 436 limitation
provision applies to a plan.
A future benefit accrual limitation ceases to apply with
respect to any plan year, effective as of the first day of the
plan year, if the plan sponsor makes a contribution (in
addition to any minimum required contribution for the plan
year) equal to the amount sufficient to result in an adjusted
funding target attainment percentage of 60 percent. The future
benefit accrual limitation also does not apply for the first
five years a plan (or a predecessor plan) is in effect.
If a future benefit accrual limitation ceases to apply to a
plan, all such benefit accruals resume, effective as of the day
following the close of the period for which the limitation
applies. In addition, section 436 provides that nothing in the
rules is to be construed as affecting a plan's treatment of
benefits which would have been paid or accrued but for the
limitation.
Temporary modification of application of limitation on benefit accruals
under WRERA
Under section 203 of WRERA, in the case of the first plan
year beginning during the period of October 1, 2008, through
September 30, 2009 (``WRERA relief plan year''), the future
benefit accrual limitation rules under section 436 are applied
by substituting the plan's adjusted funding target attainment
percentage for the preceding plan year for the adjusted funding
target attainment percentage for the WRERA relief plan year.
Thus, the future benefit accrual limitation of section 436 is
avoided if the plan's adjusted funding target attainment
percentage for the preceding plan year is 60 percent or
greater. This substitution of the plan's adjusted funding
target attainment percentage is not intended to place a plan in
a worse position with respect to the future benefit accrual
limitation of section 436 than would apply absent the WRERA
relief. Thus, the substitution does not apply if the adjusted
funding target attainment percentage for the WRERA relief plan
year is greater than the preceding year.
Explanation of Provision
Limitation on future benefit accruals
The provision extends the temporary modification of the
limitation on benefit accruals under section 203 of WRERA to
the plan year beginning during the period of October 1, 2009
through September 30, 2010 and provides a special rule for any
plan for which the valuation date is not the first day of the
plan year. Under the provision, in the case of any plan year
beginning during the period of October 1, 2008, through
September 30, 2010, the future benefit accrual limitation rules
under section 436 are applied by substituting the plan's
adjusted funding target attainment percentage for any such plan
year with the plan's adjusted funding target attainment
percentage for the plan year beginning on or after October 1,
2007,\1095\ and before October 1, 2008, as determined under
rules prescribed by the Secretary. In the case of a plan for
which the valuation date is not the first day of the plan year,
for any plan years beginning after December 31, 2007, and
before January 1, 2010, the future benefit accrual limitation
rules under section 436 are applied by substituting the plan's
adjusted funding target attainment percentage for any such plan
year with the plan's adjusted funding target attainment
percentage for the last plan year beginning before November 1,
2007, as determined under rules prescribed by the Secretary.
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\1095\ A technical correction may be needed to make clear that the
plan's adjusted funding target attainment percentage that is
substituted is the percentage for the plan year beginning on or after
(rather than after) October 1, 2007.
---------------------------------------------------------------------------
This substitution only applies if it results in a greater
adjusted funding target attainment percentage for a plan for
the relevant plan year. Thus, the future benefit accrual
limitation of section 436 is avoided if the plan's adjusted
funding target attainment percentage for the plan year
beginning on or after October 1, 2007,\1096\ and before October
1, 2008, is 60 percent or greater (or, in the case of a plan
for which the valuation date is not the first day of the plan
year, if the adjusted funding target attainment percentage for
the plan year beginning before November 1, 2007 is 60 percent
or greater). Because the provision applies to the same period
as section 203 of WRERA, it explicitly provides that section
203 of WRERA applies to a plan for any plan year in lieu of the
provision only to the extent that such section produces a
higher adjusted funding target attainment percentage for such
plan for such year.
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\1096\ A technical correction may be needed to make clear that the
plan's adjusted funding target attainment percentage that is
substituted is the percentage for the plan year beginning on or after
(rather than after) October 1, 2007.
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Prohibited payments
Under the provision, in the case of any plan year beginning
during the period of October 1, 2008, through September 30,
2010 (or, in the case of plan where the plan's valuation date
is not the first day of the plan year, for any plan years
beginning after December 31, 2007, and before January 1, 2010),
the same substitution of the plan's adjusted funding target
attainment percentage as applies for purposes of the limitation
on benefit accruals also applies for purposes of determining
whether a plan can pay a prohibited payment in the form of a
social security leveling option. For this purpose, a social
security leveling option is a payment option which accelerates
payments under the plan before, and reduces payments after, a
participant starts receiving social security payments in order
to provide substantially similar payments before and after such
benefits are received.
Effective Date
The provision generally is effective for plan years
beginning on or after October 1, 2008. In the case of a plan
for which the valuation date is not the first day of the plan
year, the provision applies to plan years beginning after
December 31, 2007.
4. Lookback for credit balance rule for plans maintained by charities
(sec. 204 of the Act and sec. 430 of the Code)
Present Law
In general
Under the PPA funding rules, credit balances that
accumulated under pre-PPA law (``funding standard carryover
balances'') are preserved and, for plan years beginning after
2007, new credit balances (referred to as ``prefunding
balances'') result if a plan sponsor makes contributions
greater than those required under the PPA funding rules. In
general, plan sponsors may choose whether to count funding
standard carryover balances and prefunding balances in
determining the value of plan assets or to use the balances to
reduce required contributions, but not both.
Funding standard carryover balance
The funding standard carryover balance consists of a
beginning balance in the amount of the positive balance in the
funding standard account as of the end of the 2007 plan year,
decreased (as described below) and adjusted to reflect the rate
of net gain or loss on plan assets.
For each plan year beginning after 2008, the funding
standard carryover balance is decreased (but not below zero) by
the sum of: (1) any amount credited to reduce the minimum
required contribution for the preceding plan year, plus (2) any
amount elected by the plan sponsor as a reduction in the
funding standard carryover balance (thus reducing the amount by
which the value of plan assets must be reduced in determining
minimum required contributions).
Prefunding balance
The prefunding balance consists of a beginning balance of
zero for the 2008 plan year, increased and decreased (as
described below) and adjusted to reflect the rate of net gain
or loss on plan assets.
For subsequent years, i.e., as of the first day of plan
year beginning after 2008 (the ``current'' plan year), the plan
sponsor may increase the prefunding balance by an amount, not
to exceed: (1) the excess (if any) of the aggregate total
employer contributions for the preceding plan year, over (2)
the minimum required contribution for the preceding plan year.
For this purpose, any excess contribution for the preceding
plan year is adjusted for interest accruing for the periods
between the first day of the current plan year and the dates on
which the excess contributions were made, determined using the
effective interest rate of the plan for the preceding plan year
and treating contributions as being first used to satisfy the
minimum required contribution.
In determining the amount of the increase in a plan's
prefunding balance, the amount by which the aggregate total
employer contributions for the preceding plan year exceeds the
minimum required contribution for the preceding plan year is
reduced (but not below zero) by the amount of contributions an
employer would need to make to avoid a benefit limitation that
would otherwise be imposed for the preceding plan year under
the rules relating to benefit limitations for single-employer
plans (as discussed below).\1097\
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\1097\ Any contribution that may be taken into account in
satisfying the requirement to make additional contributions with
respect to more than one type of benefit limitation is taken into
account only once for purposes of this reduction.
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For each plan year beginning after 2008, the prefunding
balance of a plan is decreased (but not below zero) by the sum
of: (1) any amount credited to reduce the minimum required
contribution for the preceding plan year, plus (2) any amount
elected by the plan sponsor as a reduction in the prefunding
balance (thus reducing the amount by which the value of plan
assets must be reduced in determining minimum required
contributions).
Application of balances to the value of plan assets or to
reduce minimum required contributions
If a plan sponsor elects to maintain a funding standard
carryover balance or prefunding balance, the amount of those
balances is generally subtracted from the value of plan assets
for purposes of determining a plan's minimum required
contributions, including a plan's funding shortfall, and a
plan's funding target attainment percentage (defined as the
ratio, expressed as a percentage, that the value of the plan's
assets bears to the plan's funding target for the year). The
value of a plan's assets is not reduced by these balances if a
binding written agreement with the PBGC providing that all or a
portion of the plan's funding standard carryover balance or
prefunding balance is not available to offset the minimum
required contribution for a plan year is in effect. In
addition, for purposes of determining whether a plan is
required to establish a shortfall amortization base for a plan
year, the funding standard carryover balance is not subtracted
from the value of plan assets and the prefunding balance is
required to be subtracted from the value of plan assets only if
an election has been made to use the balance to offset the
plan's minimum required contribution for the plan year.
However, the plan sponsor may elect to permanently reduce a
funding standard carryover balance or prefunding balance, so
that the value of plan assets is not required to be reduced by
that amount in determining the minimum required contribution
for the plan year.
If the value of the plan's assets (reduced by any
prefunding balance but not by any funding standard carryover
balance) is at least 80 percent of the plan's funding target
for the preceding plan year, a plan sponsor is generally
permitted to credit all or a portion of the funding standard
carryover balance or prefunding balance against the minimum
required contribution for the current plan year, thus reducing
the amount that must be contributed for the current plan
year.\1098\ If a plan sponsor has elected to permanently reduce
a funding standard carryover balance or prefunding balance, any
reduction of such balances applies before determining the
amount that is available for crediting against minimum required
contributions for the plan year.
---------------------------------------------------------------------------
\1098\ In the case of plan years beginning in 2008, the percentage
for the preceding plan year may be determined using such methods of
estimation as the Secretary of the Treasury may provide.
---------------------------------------------------------------------------
Other rules
In determining the prefunding balance or funding standard
carryover balance as of the first day of a plan year, the plan
sponsor must adjust the balance in accordance with regulations
prescribed by the Secretary to reflect the rate of return on
plan assets for the preceding year.\1099\ The rate of return is
determined on the basis of the fair market value of the plan
assets and must properly take into account, in accordance with
regulations, all contributions, distributions, and other plan
payments made during the period.
---------------------------------------------------------------------------
\1099\ Treas. Reg. sec. 1.430(f)-1(b)(3).
---------------------------------------------------------------------------
To the extent that a plan has a funding standard carryover
balance of more than zero for a plan year, none of the plan's
prefunding balance may be credited to reduce a minimum required
contribution, nor may an election be made to reduce the
prefunding balance for purposes of determining the value of
plan assets. Thus, the funding standard carryover balance must
be used for these purposes before the prefunding balance may be
used.
Any election relating to the prefunding balance and funding
standard carryover balance is to be made in such form and
manner as the Secretary prescribes.\1100\
---------------------------------------------------------------------------
\1100\ See Treas. Reg. sec. 1.430(f)-1(f) for the rules governing
elections relating to prefunding balances and funding standard
carryover balances.
---------------------------------------------------------------------------
Explanation of Provision
Under the provision, for any plan year beginning on or
after August 31, 2009, and before September 1, 2011, for
purposes of determining whether the plan is sufficiently funded
so as to be permitted to credit all or a portion of its funding
standard carryover balance or prefunding balance against the
minimum required contribution for the plan year, the plan may
use the greater of: (1) its funding target attainment
percentage (determined without regard to the provision) for the
prior plan year, or (2) the funding target attainment
percentage for the plan year beginning after August 31, 2007
and before September 1, 2008, as determined under rules
prescribed by the Secretary. Thus, the provision temporarily
permits plans whose funded status for the lookback year was at
least equal to 80 percent to offset their minimum required
contributions by a credit balance, even if the plan would not
otherwise be permitted to do so.
For plans with valuation dates other than the first day of
the plan year, the provision applies for any plan year
beginning after December 31, 2007, and before January 1, 2010,
and the plan may use the funding target attainment percentage
for the last plan year beginning before September 1, 2007, as
determined under rules prescribed by the Secretary.
The provision applies only to plans maintained exclusively
by one or more charitable organizations exempt from tax under
section 501(c)(3).
Effective Date
The provision is generally effective for plan years
beginning after August 31, 2009. For plans with valuation dates
other than the first day of the plan year, the provision is
effective for plan years beginning after December 31, 2008.
C. Multiemployer Plans
1. Adjustments to funding standard account rules (sec. 211 of the Act
and sec. 431 of the Code)
Present Law
Defined benefit pension plans generally are subject to
minimum funding rules under the Code that require the
sponsoring employer to periodically make contributions to fund
plan benefits. Similar rules apply to defined benefit pension
plans under the Labor Code provisions of ERISA.
The minimum funding rules for single-employer and
multiemployer plans are different.\1101\ A single-employer plan
is a plan that is not a multiemployer plan. A multiemployer
plan is generally a plan to which more than one employer is
required to contribute and which is maintained pursuant to a
collective bargaining agreement.\1102\
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\1101\ The PPA modified the minimum funding rules for multiemployer
defined benefit pension plans. These modifications are generally
effective for plan years beginning after 2007.
\1102\ Sec. 414(f).
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Funding standard account
A multiemployer defined benefit pension plan is required to
maintain a special account called a ``funding standard
account'' to which charges and credits (such as credits for
plan contributions) are made for each plan year. If, as of the
close of the plan year, charges to the funding standard account
exceed credits to the account, the plan has an ``accumulated
funding deficiency'' equal to the amount of such excess
charges. For example, if the balance of charges to the funding
standard account of a plan for a year would be $200,000 without
any contributions, then a minimum contribution equal to that
amount is required to meet the minimum funding standard for the
year to prevent an accumulated funding deficiency. If credits
to the funding standard account exceed charges, a ``credit
balance'' results. The amount of the credit balance, increased
with interest, can be used to reduce future required
contributions.
Amortization periods
A plan is required to use an acceptable actuarial cost
method to determine the elements included in its funding
standard account for a year. Generally, an acceptable actuarial
cost method breaks up the cost of benefits under the plan into
annual charges consisting of two elements for each plan year.
These elements are referred to as the: (1) normal cost and (2)
amortization of supplemental cost. The normal cost for a plan
for a plan year generally represents the cost of future
benefits allocated to the plan year under the funding method
used by the plan for current employees. The supplemental cost
for a plan year is the cost of future benefits that would not
be met by future normal costs, future employee contributions,
or plan assets, such as a net experience loss. Supplemental
costs are amortized (i.e., recognized for funding purposes)
over a specified number of years, depending on the source. The
amortization period applicable to a multiemployer plan for most
credits and charges is 15 years.\1103\ Past service liability
under the plan is amortized over 15 years; \1104\ past service
liability due to plan amendments is amortized over 15 years;
and experience gains and losses resulting from a change in
actuarial assumptions are amortized over 15 years. Experience
gains and losses and waived funding deficiencies are also
amortized over 15 years.
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\1103\ Sec. 431(b)(2). Prior to the effective date of PPA, the
amortization period was 30 years for past service liability, past
service liability due to plan amendments, and losses and gains
resulting from a change in actuarial assumptions.
\1104\ In the case of a plan in existence on January 1, 1974, past
service liability under the plan on the first day on which the plan was
first subject to ERISA was amortized over 40 years. In the case of a
plan which was not in existence on January 1, 1974, past service
liability under the plan on the first day on which the plan was first
subject to ERISA was amortized over 30 years. Past service liability
due to plan amendments was amortized over 30 years.
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The Secretary, upon receipt of an application, is required
to grant an extension of the amortization period for up to five
years with respect to any unfunded past service liability,
investment loss, or experience loss.\1105\ There must be
included with the application a certification by the plan's
actuary that: (1) absent the extension, the plan would have an
accumulated funding deficiency in the current plan year and any
of the nine succeeding plan years; (2) the plan sponsor has
adopted a plan to improve the plan's funding status; (3) taking
into account the extension, the plan is projected to have
sufficient assets to timely pay its expected benefit
liabilities and other anticipated expenditures; and (4)
required notice has been provided. The automatic extension
provision does not apply with respect to any application
submitted after December 31, 2014. The Secretary may also grant
an additional extension of such amortization periods for an
additional five years, using the same standards for determining
whether such an extension may be granted as under the pre-PPA
minimum funding rules.\1106\
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\1105\ Sec. 431(d)(1).
\1106\ Sec. 431(d)(2).
---------------------------------------------------------------------------
Actuarial assumptions
In applying the funding rules, all costs, liabilities,
interest rates, and other factors are required to be determined
on the basis of actuarial assumptions and methods, each of
which must be reasonable (taking into account the experience of
the plan and reasonable expectations), or which, in the
aggregate, result in a total plan contribution equivalent to a
contribution that would be obtained if each assumption and
method were reasonable. In addition, the assumptions are
required to offer the actuary's best estimate of anticipated
experience under the plan.
Valuation of plan assets
In determining the charges and credits to be made to the
plan's funding standard account for a multiemployer plan, the
value of plan assets may be determined on the basis of any
reasonable actuarial method of valuation which takes into
account fair market value and which is permitted under
regulations prescribed by the Secretary.\1107\ Thus, the
actuarial value of a plan's assets under a reasonable actuarial
valuation method can be used instead of fair market value. A
reasonable actuarial valuation method generally can include a
smoothing methodology that takes into account reasonable
expected investment returns and average values of the plan
assets, so long as the smoothing or averaging period does not
exceed the five most recent plan years, including the current
plan year. In addition, in order to be reasonable, any
actuarial valuation method used by the plan is required to
result in a value of plan assets that is not less than 80
percent of the current fair market value of the assets and not
more than 120 percent of the current fair market value.\1108\
In determining plan funding under an acceptable actuarial cost
method, a plan's actuary generally makes certain assumptions
regarding the future experience of a plan.
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\1107\ Sec. 431(c)(2).
\1108\ Treas. Reg. sec. 1.412(c)(2)-1(b). Rev. Proc. 2000-40, 2000-
2 CB 357, generally indicates that only an averaging period that does
not exceed five years will be approved by the IRS. The revenue
procedure also indicates that for a funding valuation method to be
approved, the asset value determined under the method must be adjusted
to be no greater than 120 percent and no less than 80 percent of the
fair market value.
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The actuarial valuation method is considered to be part of
the plan's funding method. The same method must be used each
plan year. If the valuation method is changed, the change is
only permitted to take effect if approved by the Secretary of
the Treasury.\1109\
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\1109\ Sec. 412(d)(1).
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Additional funding rules for plans in endangered or critical status
Under section 432,\1110\ additional funding rules apply to
a multiemployer defined benefit pension plan that is in
endangered or critical status. These rules require the adoption
of and compliance with: (1) a funding improvement plan in the
case of a multiemployer plan in endangered status; and (2) a
rehabilitation plan in the case of a multiemployer plan in
critical status. In the case of a plan in critical status,
additional required contributions and benefit reductions apply
and employers are relieved of liability for minimum required
contributions under the otherwise applicable funding rules,
provided that a rehabilitation plan is adopted and followed.
---------------------------------------------------------------------------
\1110\ Parallel rules apply under ERISA.
---------------------------------------------------------------------------
Section 432 is effective for plan years beginning after
2007. The additional funding rules for plans in endangered or
critical status do not apply to plan years beginning after
December 31, 2014, except that a plan operating under a funding
improvement or rehabilitation plan for its last year beginning
before January 1, 2015 must continue to operate under such plan
until the funding improvement or rehabilitation period (as
explained below) expires or the plan emerges from endangered or
critical status.
Failure to comply with minimum funding rules
In the event of a failure to comply with the minimum
funding rules, the Code imposes a two-level excise tax on the
plan sponsor.\1111\ The initial tax is five percent of the
plan's accumulated funding deficiency for multiemployer plans.
An additional tax is imposed if the failure is not corrected
before the date that a notice of deficiency with respect to the
initial tax is mailed to the employer by the IRS or the date of
assessment of the initial tax. The additional tax is equal to
100 percent of the unpaid contribution or the accumulated
funding deficiency, whichever is applicable. Before issuing a
notice of deficiency with respect to the excise tax, the
Secretary must notify the Secretary of Labor and provide the
Secretary of Labor with a reasonable opportunity to require the
employer responsible for contributing to, or under, the plan to
correct the deficiency or comment on the imposition of the tax.
---------------------------------------------------------------------------
\1111\ Sec. 4971. Special rules apply under section 4971 for
multiemployer plans in endangered or critical status.
---------------------------------------------------------------------------
Explanation of Provision
Special funding relief rules
A plan sponsor of a multiemployer plan that meets a
solvency test is permitted to use either one or both of two
special funding relief rules for either or both of two plan
years.
Amortization of net investment losses
The first special funding relief rule allows the plan
sponsor to treat the portion of its experience loss
attributable to the net investment losses (if any) incurred in
either or both of the first two plan years ending after August
31, 2008, as an item separate from other experience losses, to
be amortized in equal annual installments (until fully
amortized) over the period beginning with the plan year in
which such portion is first recognized in the actuarial value
of assets and ending in the 30-plan-year period beginning with
the plan year in which the net investment loss was incurred. If
this treatment is used for a plan year, the plan sponsor will
not be eligible for an extension of this amortization period
for this separate item, and if an extension was granted before
electing this treatment of net investment losses, such
extension must not result in such amortization period exceeding
30 years.
A plan sponsor is required to determine its net investment
losses in the manner described by the Secretary, on the basis
of the difference between actual and expected returns
(including any difference attributable to any criminally
fraudulent investment). The determination as to whether an
arrangement is a criminally fraudulent investment arrangement
shall be made under rules substantially similar to the rules
prescribed by the Secretary for purposes of section 165.
Expanded smoothing period and asset valuation corridor
Under the other special funding relief rule, a
multiemployer plan may change its asset valuation method in a
manner which spreads the difference between the expected
returns and actual returns for either or both of the first two
plan years ending after August 31, 2008 over a period of not
more than 10 years. However, as under present law, spreading
the difference between expected and actual returns under a
plan's asset valuation method is only permitted if it does not
result in a value of plan assets, when compared to the current
fair market value of the plan assets, to be at any time outside
an asset valuation corridor.
Under this special funding relief rule, the asset valuation
corridor is expanded so that, for either or both of the first
two plan years beginning after August 31, 2008, the plan's
asset value must be adjusted under the valuation method being
used so the value of plan assets is not less than 80 percent of
the current fair market value of the assets and not more than
130 percent of the current fair market value (rather than 120
percent). This expanded valuation corridor is available whether
or not the plan sponsor increases the period for spreading the
difference between expected and actual returns under its asset
valuation method.
If a plan sponsor uses either or both of the options
(extending the spreading period and the expanded asset
valuation corridor) under this special relief rule for one or
both of these plan years, the Secretary will not treat the
asset valuation method of the plan as unreasonable solely
because of such change and the change will be deemed to be
approved by the Secretary.
Amortization of reduction in unfunded accrued liability
To the extent a plan sponsor uses both of the two special
funding relief rules for any plan year, the plan is required to
treat any resulting reduction in the plan's unfunded accrued
liability as a separate experience amortization base. This
separate experience amortization base is amortized in annual
installments (until fully amortized) over a period of 30 plan
years (rather than the otherwise applicable amortization
period).
Solvency test
The solvency test is satisfied only if the plan actuary
certifies that the plan is projected to have sufficient assets
to timely pay expected benefits and anticipated expenditures
over the amortization period taking into account the changes in
the funding standard account under the special funding relief
rule elected.
Benefit restriction
If a plan sponsor of a multiemployer plan uses one, or
both, of the special funding relief rules under this provision,
then, in addition to any other applicable restrictions on
benefit increases, the following limit also applies. A plan
amendment increasing benefits may not go into effect during
either of the two plan years immediately following any plan
year to which such election first applies unless one of the
following conditions is satisfied. Either (1) the plan actuary
certifies that such increase is paid for out of additional
contributions not allocated to the plan at the time the
election was made, and the plan's funded percentage and
projected credit balances for such two plan years are
reasonably expected to be generally at the same levels as such
percentage and balances would have been if the benefit increase
had not been adopted, or (2) the amendment is required to
maintain the plan's status as a qualified retirement plan under
the applicable provisions of the Code or to comply with other
applicable law.
Reporting
A plan sponsor of a multiemployer plan that uses one or
both of these special funding relief rules must give notice to
participants and beneficiary of its use of the relief and must
inform the PBGC of its use of the relief in such form and
manner as the Director of the PBGC may prescribe.
Effective Date
The provision takes effect as of the first day of the first
plan year ending after August 31, 2008. However, if a plan
sponsor uses either (or both) of the special funding relief
provisions and such use affects the plan's funding standard
account for the first plan year beginning after August 31,
2008, the use of the rule is disregarded for purposes of
applying the provisions for additional funding for
multiemployer plans in endangered or critical status under
section 432 to such plan year. The restriction on plan
amendments increasing benefits is effective on the date of
enactment of this provision.
PART TEN: REVENUE PROVISIONS OF THE HOMEBUYER ASSISTANCE AND
IMPROVEMENT ACT OF 2010 (PUBLIC LAW 111-198) \1112\
A. Homebuyer Credit (sec. 2 of the Act and sec. 36 of the Code)
Present Law
In general
An individual who is a first-time homebuyer is allowed a
refundable tax credit equal to the lesser of $8,000 ($4,000 for
a married individual filing separately) or 10 percent of the
purchase price of a principal residence. The credit is allowed
for qualifying home purchases on or after April 9, 2008, and
before May 1, 2010.\1113\ The credit applies to the purchase of
a principal residence before July 1, 2010 by any taxpayer who
enters into a written binding contract before May 1, 2010, to
close on the purchase of a principal residence before July 1,
2010.
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\1112\ H.R. 5623. The bill passed the House on the suspension
calendar on June 29, 2010. The Senate passed the bill by unanimous
consent on June 30, 2010. The President signed the bill on July 2,
2010.
\1113\ For purchases before January 1, 2009, the dollar limits are
$7,500 ($3,750 for a married individual filing separately).
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An individual (and, if married, the individual's spouse)
who has maintained the same principal residence for any five-
consecutive year period during the eight-year period ending on
the date of the purchase of a subsequent principal residence is
treated as a first-time homebuyer. The maximum allowable credit
for such taxpayers is $6,500 ($3,250 for a married individual
filing separately).
The credit phases out for individual taxpayers with
modified adjusted gross income between $125,000 and $145,000
($225,000 and $245,000 for joint filers) for the year of
purchase.
An individual is considered a first-time homebuyer if the
individual had no ownership interest in a principal residence
in the United States during the 3-year period prior to the
purchase of the home.
In the case of a purchase of a principal residence after
December 31, 2008, a taxpayer may elect to treat the purchase
as made on December 31 of the calendar year preceding the
purchase for purposes of claiming the credit on the prior
year's tax return.
No District of Columbia first-time homebuyer credit \1114\
is allowed to any taxpayer with respect to the purchase of a
residence after December 31, 2008, if the national first-time
homebuyer credit is allowable to such taxpayer (or the
taxpayer's spouse) with respect to such purchase.
---------------------------------------------------------------------------
\1114\ Sec. 1400C.
---------------------------------------------------------------------------
Limitations
No credit is allowed for the purchase of any residence if
the purchase price exceeds $800,000.
No credit is allowed unless the taxpayer is 18 years of age
as of the date of purchase. A taxpayer who is married is
treated as meeting the age requirement if the taxpayer or the
taxpayer's spouse meets the age requirement.
The definition of purchase excludes property acquired from
a person related to the person acquiring such property or the
spouse of the person acquiring the property, if married.
No credit is allowed to any taxpayer if the taxpayer is a
dependent of another taxpayer.
No credit is allowed unless the taxpayer attaches to the
relevant tax return a properly executed copy of the settlement
statement used to complete the purchase.
Recapture
For homes purchased on or before December 31, 2008, the
credit is recaptured ratably over fifteen years with no
interest charge beginning in the second taxable year after the
taxable year in which the home is purchased. For example, if an
individual purchases a home in 2008, recapture commences with
the 2010 tax return. If the individual sells the home (or the
home ceases to be used as the principal residence of the
individual or the individual's spouse) prior to complete
recapture of the credit, the amount of any credit not
previously recaptured is due on the tax return for the year in
which the home is sold (or ceases to be used as the principal
residence).\1115\ However, in the case of a sale to an
unrelated person, the amount recaptured may not exceed the
amount of gain from the sale of the residence. For this
purpose, gain is determined by reducing the basis of the
residence by the amount of the credit to the extent not
previously recaptured. No amount is recaptured after the death
of an individual. In the case of an involuntary conversion of
the home, recapture is not accelerated if a new principal
residence is acquired within a two-year period. In the case of
a transfer of the residence to a spouse or to a former spouse
incident to divorce, the transferee spouse (and not the
transferor spouse) will be responsible for any future
recapture. Recapture does not apply to a home purchased after
December 31, 2008 that is treated (at the election of the
taxpayer) as purchased on December 31, 2008.
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\1115\ If the individual sells the home (or the home ceases to be
used as the principal residence of the individual and the individual's
spouse) in the same taxable year the home is purchased, no credit is
allowed.
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For homes purchased after December 31, 2008, the credit is
recaptured only if the taxpayer disposes of the home (or the
home otherwise ceases to be the principal residence of the
taxpayer) within 36 months from the date of purchase.
Waiver of recapture for individuals on qualified official extended duty
In the case of a disposition of principal residence by an
individual (or a cessation of use of the residence that
otherwise would cause recapture) after December 31, 2008, in
connection with Government orders received by the individual
(or the individual's spouse) for qualified official extended
duty service, no recapture applies by reason of the disposition
of the residence,\1116\ and any 15-year recapture with respect
to a home acquired before January 1, 2009, ceases to apply in
the taxable year the disposition occurs.
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\1116\ If the individual sells the home (or the home ceases to be
used as the principal residence of the individual and the individual's
spouse) in connection with such orders in the same taxable year the
home is purchased, the credit is allowable.
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Qualified official extended duty service means service on
official extended duty as a member of the uniformed services, a
member of the Foreign Service of the United States, or an
employee of the intelligence community.\1117\
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\1117\ These terms have the same meaning as under the provision for
exclusion of gain on the sale of certain principal residences. Sec.
121.
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Qualified official extended duty is any period of extended
duty while serving at a place of duty at least 50 miles away
from the taxpayer's principal residence or under orders
compelling residence in government furnished quarters. Extended
duty is defined as any period of duty pursuant to a call or
order to such duty for a period in excess of 90 days or for an
indefinite period.
The uniformed services include: (1) the Armed Forces (the
Army, Navy, Air Force, Marine Corps, and Coast Guard); (2) the
commissioned corps of the National Oceanic and Atmospheric
Administration; and (3) the commissioned corps of the Public
Health Service.
The term ``member of the Foreign Service of the United
States'' includes: (1) chiefs of mission; (2) ambassadors at
large; (3) members of the Senior Foreign Service; (4) Foreign
Service officers; and (5) Foreign Service personnel.
The term ``employee of the intelligence community'' means
an employee of the Office of the Director of National
Intelligence, the Central Intelligence Agency, the National
Security Agency, the Defense Intelligence Agency, the National
Geospatial-Intelligence Agency, or the National Reconnaissance
Office. The term also includes employment with: (1) any other
office within the Department of Defense for the collection of
specialized national intelligence through reconnaissance
programs; (2) any of the intelligence elements of the Army, the
Navy, the Air Force, the Marine Corps, the Federal Bureau of
Investigation, the Department of the Treasury, the Department
of Energy, and the Coast Guard; (3) the Bureau of Intelligence
and Research of the Department of State; and (4) the elements
of the Department of Homeland Security concerned with the
analyses of foreign intelligence information.
Extension of the first-time homebuyer credit for individuals on
qualified official extended duty outside of the United States
In the case of any individual (and, if married, the
individual's spouse) who serves on qualified official extended
duty service outside of the United States for at least 90 days
during the period beginning after December 31, 2008, and ending
before May 1, 2010, the expiration date of the first-time
homebuyer credit is extended for one year, through May 1, 2011
(July 1, 2011, in the case of an individual who enters into a
written binding contract before May 1, 2011, to close on the
purchase of a principal residence before July 1, 2011).
Mathematical error authority
The Act makes a number of changes to expand the definition
of mathematical or clerical error for purposes of
administration of the credit by the Internal Revenue Service
(``IRS''). The IRS may assess additional tax without issuance
of a notice of deficiency as otherwise required \1118\ in the
case of: an omission of any increase in tax required by the
recapture provisions of the credit; information from the person
issuing the taxpayer identification number of the taxpayer that
indicates that the taxpayer does not meet the age requirement
of the credit; information provided to the Secretary by the
taxpayer on an income tax return for at least one of the two
preceding taxable years that is inconsistent with eligibility
for such credit; or, failure to attach to the return a properly
executed copy of the settlement statement used to complete the
purchase.
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\1118\ Sec. 6213.
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Explanation of Provision
The Act extends the time for closing on a principal
residence eligible for the first-time homebuyer credit through
September 30, 2010 for any individual who entered into a
written binding contract before May 1, 2010, to close on the
purchase of a principal residence before July 1, 2010. The
eligibility period for an individual who serves on qualified
official extended duty outside of the United States who enters
into a written binding contract before May 1, 2011, to close on
the purchase of a principal residence before July 1, 2011, and
who purchases such residence before July 1, 2011, is unchanged.
Effective Date
The provision is effective for residences purchased after
June 30, 2010.
B. Revenue Offsets
1. Application of bad check penalty to electronic checks and other
payment forms (sec. 3 of the Act and sec. 6657 of the Code)
Present Law
In general
Taxpayers may pay their tax liability by ``any commercially
acceptable means'' that the Secretary deems appropriate.\1119\
The Code authorizes the Secretary, with certain limitations, to
specify when and how new media may be used to pay tax
obligations.\1120\ The Secretary has long authorized the IRS to
accept payments by check or money order, although personal
checks may be refused if there is good reason to believe that
the check will not be honored when presented to the financial
institution on which it is drawn. Regulations authorize the
acceptance of payments by debit or credit card, as well as
electronic funds transfers, and also prescribe procedures for
resolution of errors in processing payments by such
means.\1121\ Although the Secretary may permit and encourage
tax payments by electronic funds transfers, credit card or
debit card, the taxpayer's use of such means must be
voluntary.\1122\
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\1119\ Sec. 6311(a).
\1120\ Sec. 6311(d) requires that the Secretary identify such
methods by regulations, and in doing so, specify when such payments are
considered received, and provide means to ensure that tax matters may
be resolved without involvement of financial institutions. The
Secretary is also authorized to enter into contracts to obtain services
related to receiving payment if it is cost-beneficial to the
government, but may not pay ``any fee or other consideration under such
contracts for the use of credit, debit or charge cards for the payment
of taxes,'' such as the convenience fees charged for electronic tax
payments. Sec. 6311(d)(2); Treas. Reg. sec. 301.6311-2(f).
\1121\ Treas. Reg. sec. 1.6311-2.
\1122\ Treas. Reg. sec. 301.6311-2(a)(1); Treas. Reg. sec. 31.3602-
1(j).
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Taxpayers may pay their taxes by electronic funds
transfers,\1123\ either by initiating instructions to financial
institutions at which they hold accounts (i.e., electronic
funds withdrawal), or by enrolling in the Electronic Federal
Tax Payment System (``EFTPS''),\1124\ which is a tax payment
system provided free by the Treasury, under which the taxpayer
authorizes Treasury to initiate instructions for electronic
transfers of funds from accounts held by the taxpayer to the
IRS. Once enrolled, a taxpayer may pay all of its Federal taxes
using EFTPS. Individuals can pay quarterly estimated taxes
electronically using EFTPS, and can make payments weekly,
monthly, or quarterly. Both business and individual payments
can be scheduled in advance. Certain excise taxes are required
to be paid by EFTPS.\1125\
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\1123\ Treas. Reg. sec. 301.6311-2(a)(2) provides that guidance on
electronic funds transfers other than credit or debit cards is provided
in regulations under section 6302, which defines electronic funds
transfers generally to include any transfer of funds other than by
check, draft or similar paper instrument, if initiated through an
electronic media to instruct a financial institution or intermediary to
debit or credit an account.
\1124\ Treas. Reg. secs. 301.6311-1(b)(1) and 301.6311-2(b) provide
that the underlying tax obligation is not considered satisfied until
the check or money order is paid or the electronic payment has been
authorized by the relevant financial institution and the payment
actually received.
\1125\ Secs. 5061(e) and 5703(b).
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Payments by checks or money orders are generally considered
made on the date the financial instrument is received by the
IRS, not the date that the financial institution on which
payment is drawn remits the funds to the IRS. Thus, a check
received by mail in an IRS office on April 15, 2010, is
credited as of that date. Payments by debit or credit card are
deemed received when the issuer of the card authorizes the
transaction, provided that the payment is actually received by
the United States in the ordinary course of business.\1126\ The
procedures under which the IRS accepts credit or debit card
payment precludes the IRS from access to the card numbers, and
instead require that such payments be provided through
remittance with an electronically filed return, payment by
phone or payment by internet. As a result, the card issuer
authorization is contemporaneous with the IRS receiving notice
of the payment. Payments by electronic funds transfer are
considered paid on the date that funds are actually withdrawn
from the taxpayer's account, i.e., the settlement date.\1127\
The settlement date may be subsequent to the date on which the
payment transaction is initiated.
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\1126\ Treas. Reg. sec. 301.6311-2(b).
\1127\ Treas. Reg. sec. 301.6311-2(a)(2) and Treas. Reg. sec.
31.6302-1(h)(8).
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Bad check penalty
Any taxpayer who attempts to satisfy a tax liability with a
check or money order that is not duly paid is subject to a
penalty. If the dishonored check or money order is equal to or
greater than $1,250, the penalty is two percent of the face
amount of the check or money order. If the dishonored check or
money order is less than $1,250, the penalty is the lesser of
$25 or the amount of the check or money order.\1128\ The
penalty is not applicable if the taxpayer establishes that
payment was tendered in good faith and with reasonable cause to
believe it would be paid.
---------------------------------------------------------------------------
\1128\ Sec. 6657.
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The Code provides that this penalty applies to ``any check
or money order,'' without mention of payment by magnetic media,
such as electronic funds transfers from a bank account, debit
cards, and credit cards.
Explanation of Provision
The provision expands the bad check penalty to cover all
commercially acceptable instruments of payment that are not
duly paid.
Effective Date
The provision is effective for instruments tendered after
the date of enactment (July 2, 2010).
2. Disclosure of prisoner return information to State prisons (sec. 4
of the Act and sec. 6103 of the Code)
Present Law
Section 6103 provides that returns and return information
are confidential and may not be disclosed by the IRS, other
Federal employees, State employees, and certain others having
access to the information except as provided in the Code.\1129\
A ``return'' is any tax or information return, declaration of
estimated tax, or claim for refund required by, or permitted
under, the Code, that is filed with the Secretary by, on behalf
of, or with respect to any person.\1130\ ``Return'' also
includes any amendment or supplement thereto, including
supporting schedules, attachments, or lists which are
supplemental to, or part of, the return so filed.
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\1129\ Sec. 6103(a).
\1130\ Sec. 6103(b)(1).
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The definition of ``return information'' is very broad and
includes any information gathered by the IRS with respect to a
person's liability or possible liability under the Code.\1131\
However, data in a form that cannot be associated with, or
otherwise identify, directly or indirectly a particular
taxpayer is not ``return information'' for section 6103
purposes.
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\1131\ Sec. 6103(b)(2). Return information is:
a taxpayer's identity, the nature, source, or amount of
his income, payments, receipts, deductions, exemptions, credits,
assets, liabilities, net worth, tax liability, tax withheld,
deficiencies, overassessments, or tax payments, whether the taxpayer's
return was, is being, or will be examined or subject to other
investigation or processing, or any other data, received by, recorded
by, prepared by, furnished to, or collected by the Secretary with
respect to a return or with respect to the determination of the
existence, or possible existence, of liability (or the amount thereof)
of any person under this title for any tax, penalty, interest, fine,
forfeiture, or other imposition, or offense,
any part of any written determination or any background
file document relating to such written determination (as such terms are
defined in section 6110(b)) which is not open to public inspection
under section 6110,
any advance pricing agreement entered into by a taxpayer
and the Secretary and any background information related to such
agreement or any application for an advance pricing agreement, and
any closing agreement under section 7121, and any similar
agreement, and any background information related to such an agreement
or request for such an agreement.
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Section 6103 contains a number of exceptions to the general
rule of confidentiality, which permit disclosure in
specifically identified circumstances when certain conditions
are satisfied.\1132\ For example, the IRS is permitted to make
investigative disclosures to the third parties to the extent
such disclosure is necessary in obtaining information which is
not otherwise reasonably available, with respect to the correct
determination of tax, liability for tax, the amount to be
collected or with respect to the enforcement of any other
provision of the Code.
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\1132\ Sec. 6103(c)-(o). Such exceptions include disclosures by
consent of the taxpayer, disclosures to State tax officials,
disclosures to the taxpayer and persons having a material interest,
disclosures to Committees of Congress, disclosures to the President,
disclosures to Federal employees for tax administration purposes,
disclosures to Federal employees for nontax criminal law enforcement
purposes and to the Government Accountability Office, disclosures for
statistical purposes, disclosures for miscellaneous tax administration
purposes, disclosures for purposes other than tax administration,
disclosures of taxpayer identity information, disclosures to tax
administration contractors and disclosures with respect to wagering
excise taxes.
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None of the exceptions permit the IRS to refer the tax-
related misconduct of specific inmates to prison officials for
imposition of administrative sanctions against such
individuals. The IRS does publicize information from
prosecutions which has been made part of the public record of
such proceedings.
The Code permits disclosure of return information with
respect to prisoners whom the Secretary has determined may have
filed or facilitated the filing of false or fraudulent tax
returns. The disclosures may be made to the head of the Federal
Bureau of Prisons and redisclosed to officers and employees of
the Federal Bureau of Prisons. The Secretary may only disclose
such information as is necessary to permit effective tax
administration. The authority terminates December 31, 2011. The
Code requires the Treasury Inspector General for Tax
Administration to report to Congress on the implementation of
this provision no later than December 31, 2010.\1133\
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\1133\ Sec. 7803(d)(3)(C). See Treasury Inspector General for Tax
Administration, Significant Problems Still Exist With Internal Revenue
Service Efforts to Identify Prisoner Tax Refund Fraud (Audit No. 2011-
40-009) (December 29, 2010).
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The IRS is required to publish an annual report containing
statistics relating to the number of false and fraudulent
returns associated with each Federal and State prisons and such
other information as the Secretary deems appropriate.
Explanation of Provision
The provision extends the disclosure authority applicable
to the Federal Bureau of Prisons to State prisons. The
disclosure authority terminates December 31, 2011.
Effective Date
The provision is effective on the date of enactment.
PART ELEVEN: REVENUE PROVISIONS OF THE DODD-FRANK WALL STREET REFORM
AND CONSUMER PROTECTION ACT (PUBLIC LAW 111-203) \1134\
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\1134\ H.R. 4173. The bill passed the House on December 11, 2009.
The Senate passed the bill with an amendment on May 20, 2010. The
conference report was filed on June 29, 2010 (H.R. Rep. No. 111-517)
and was passed by the House on June 30, 2010, and the Senate on July
15, 2010. The President signed the bill on July 21, 2010.
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A. Certain Swaps, etc., Not Treated as Section 1256 Contracts (sec.
1601 of the Act and sec. 1256 of the Code)
Present Law
In general, section 1256 requires taxpayers to treat each
section 1256 contract as if it were sold (and repurchased) for
its fair market value on the last business day of the year
(i.e., ``marked to market''). Any gain or loss with respect to
a section 1256 contract which is subject to the mark-to-market
rule is treated as if 40 percent of the gain or loss were
short-term capital gain or loss and 60 percent were long-term
capital gain or loss.\1135\ Gains and losses upon the
termination (or transfer) of a section 1256 contract, by
offsetting, taking or making delivery, by exercise or by being
exercised, by assignment or being assigned, by lapse, or
otherwise, also generally are treated as 40 percent short-term
and 60 percent long-term capital gains or losses.\1136\ Section
1256(b) provides that a ``section 1256 contract'' means (1) any
regulated futures contract, (2) any foreign currency contract,
(3) any nonequity option, (4) any dealer equity option, and (5)
any dealer securities futures contract.
---------------------------------------------------------------------------
\1135\ Sec. 1256(a)(3).
\1136\ Sec. 1256(c)(1).
---------------------------------------------------------------------------
The rule in section 1256(a) treating gains and losses as 60
percent long-term capital gains and losses and 40 percent
short-term capital gains and losses does not apply to (i)
hedging transactions,\1137\ (ii) section 1256 contracts that
but for section 1256(a)(3) would be ordinary income
property,\1138\ (iii) a section 1256 contract that is part of a
mixed straddle if the taxpayer elects to have section 1256 not
apply to the section 1256 contract,\1139\ or (iv) any section
1256 contract held by a dealer in commodities or by a trader in
commodities that makes the mark-to-market election in section
475.\1140\
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\1137\ Sec. 1256(e)(1).
\1138\ Sec. 1256(f)(2). Gain or loss from trading of section 1256
contracts is treated as gain or loss from the sale of a capital asset
except to the extent the contract is held for purposes of hedging
ordinary loss property. (Sec. 1256(f)(3)).
\1139\ Sec. 1256(d).
\1140\ See sec. 475(d)(1).
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Explanation of Provision
The provision excludes from the definition of ``section
1256 contract'' any interest rate swap, interest rate cap,
interest rate floor, commodity swap, equity swap, equity index
swap, credit default swap, or similar agreement.
Effective Date
The provision is effective upon the date of enactment (July
21, 2010).
PART TWELVE: REVENUE PROVISIONS OF THE __ ACT OF __ (PUBLIC LAW 111-
226) \1141\
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\1141\ H.R. 1586. The bill originated as a bill imposing additional
tax on bonuses received from certain TARP recipients and passed the
House on the suspension calendar on March 19, 2009. The bill passed the
Senate with an amendment substituting text relating to the FAA on March
22, 2010. The House agreed to the Senate amendment with an amendment on
March 25, 2010. On August 5, 2010, the Senate concurred in the House
amendment to the Senate amendment with an amendment substituting the
text relating to education, jobs, and Medicaid for the previous
language. On August 10, 2010, the House agreed to the Senate amendment
to the House amendment to the Senate amendment. The President signed
the bill on August 10, 2010. For a technical explanation of the bill
prepared by the staff of the Joint Committee on Taxation, see Technical
Explanation of the Revenue Provisions of the Senate Amendment to the
House Amendment to the Senate Amendment to H.R. 1586, Scheduled for
Consideration by the House of Representatives on August 10, 2010 (JCX-
46-10), August 10, 2010.
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A. Rules to Prevent Splitting Foreign Tax Credits from the Income to
Which They Relate (sec. 211 of the Act and new sec. 909 of the Code)
Present Law
The United States employs a worldwide tax system under
which U.S. resident individuals and domestic corporations
generally are taxed on all income, whether derived in the
United States or abroad; the foreign tax credit provides relief
from double taxation. Subject to the limitations discussed
below, a U.S. taxpayer is allowed to claim a credit against its
U.S. income tax liability for the foreign income taxes that it
pays or accrues. A domestic corporation that owns at least 10
percent of the voting stock of a foreign corporation is allowed
a deemed-paid credit for foreign income taxes paid by the
foreign corporation that the domestic corporation is deemed to
have paid when the foreign corporation's earnings are
distributed or included in the domestic corporation's income
under the provisions of subpart F.\1142\
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\1141\ H.R. 1586. The bill originated as a bill imposing additional
tax on bonuses received from certain TARP recipients and passed the
House on the suspension calendar on March 19, 2009. The bill passed the
Senate with an amendment substituting text relating to the FAA on March
22, 2010. The House agreed to the Senate amendment with an amendment on
March 25, 2010. On August 5, 2010, the Senate concurred in the House
amendment to the Senate amendment with an amendment substituting the
text relating to education, jobs, and Medicaid for the previous
language. On August 10, 2010, the House agreed to the Senate amendment
to the House amendment to the Senate amendment. The President signed
the bill on August 10, 2010. For a technical explanation of the bill
prepared by the staff of the Joint Committee on Taxation, see Technical
Explanation of the Revenue Provisions of the Senate Amendment to the
House Amendment to the Senate Amendment to H.R. 1586, Scheduled for
Consideration by the House of Representatives on August 10, 2010 (JCX-
46-10), August 10, 2010.
\1142\ Secs. 901, 902, 960. Similar rules apply under sections
1291(g) and 1293(f) with respect to income that is includible under the
passive foreign investment company (``PFIC'') rules.
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A foreign tax credit is available only for foreign income,
war profits, and excess profits taxes, and for certain taxes
imposed in lieu of such taxes.\1143\ Other foreign levies
generally are treated as deductible expenses. Treasury
regulations under section 901 provide detailed rules for
determining whether a foreign levy is a creditable income tax.
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\1143\ Secs. 901(b), 903.
---------------------------------------------------------------------------
The foreign tax credit is elective on a year-by-year basis.
In lieu of electing the foreign tax credit, U.S. persons
generally are permitted to deduct foreign taxes.\1144\
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\1144\ Sec. 164(a)(3).
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Deemed-paid foreign tax credit
Domestic corporations owning at least 10 percent of the
voting stock of a foreign corporation are treated as if they
had paid a share of the foreign income taxes paid by the
foreign corporation in the year in which that corporation's
earnings and profits become subject to U.S. tax as dividend
income of the U.S. shareholder.\1145\ This credit is the
deemed-paid or indirect foreign tax credit. A domestic
corporation may also be deemed to have paid taxes paid by a
second-, third-, fourth-, fifth-, or sixth-tier foreign
corporation, if certain requirements are satisfied.\1146\
Foreign taxes paid below the third tier are eligible for the
deemed-paid credit only with respect to taxes paid in taxable
years during which the payor is a controlled foreign
corporation (``CFC''). Foreign taxes paid below the sixth tier
are not eligible for the deemed-paid credit. In addition, a
deemed-paid credit generally is available with respect to
subpart F inclusions and inclusions under the PFIC
provisions.\1147\
---------------------------------------------------------------------------
\1145\ Sec. 902(a).
\1146\ Sec. 902(b).
\1147\ Secs. 960(a), 1291(g), 1293(f).
---------------------------------------------------------------------------
The amount of foreign tax eligible for the indirect credit
is added to the actual dividend or inclusion (the dividend or
inclusion is said to be ``grossed-up'') and is included in the
domestic corporate shareholder's income; accordingly, the
shareholder is treated as if it had received its proportionate
share of pre-tax profits of the foreign corporation and paid
its proportionate share of the foreign tax paid by the foreign
corporation.\1148\
---------------------------------------------------------------------------
\1148\ Sec. 78.
---------------------------------------------------------------------------
For purposes of computing the deemed-paid foreign tax
credit, dividends (or other inclusions) are considered made
first from the post-1986 pool of all the distributing foreign
corporation's accumulated earnings and profits.\1149\
Accumulated earnings and profits for this purpose include the
earnings and profits of the current year undiminished by the
current distribution (or other inclusion).\1150\ Dividends in
excess of the pool of post-1986 undistributed earnings and
profits are treated as paid out of pre-1987 accumulated profits
and are subject to the ordering principles of pre-1986 Act
law.\1151\
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\1149\ Sec. 902(c)(6)(B). Earnings and profits computations for
these purposes are to be made under U.S. concepts. Secs. 902(c)(1),
964(a).
\1150\ Sec. 902(c)(1).
\1151\ Sec. 902(c)(6).
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Foreign tax credit limitation
The foreign tax credit generally is limited to a taxpayer's
U.S. tax liability on its foreign-source taxable income (as
determined under U.S. tax accounting principles).\1152\ This
limit is intended to ensure that the credit serves its purpose
of mitigating double taxation of foreign-source income without
offsetting U.S. tax on U.S.-source income. The limit is
computed by multiplying a taxpayer's total U.S. tax liability
for the year by the ratio of the taxpayer's foreign-source
taxable income for the year to the taxpayer's total taxable
income for the year. If the total amount of foreign income
taxes paid and deemed paid for the year exceeds the taxpayer's
foreign tax credit limitation for the year, the taxpayer may
carry back the excess foreign taxes to the previous taxable
year or carry forward the excess taxes to one of the succeeding
10 taxable years.\1153\
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\1152\ Secs. 901, 904.
\1153\ Sec. 904(c).
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The foreign tax credit limitation is generally applied
separately for income in two different categories (referred to
as ``baskets''), passive basket income and general basket
income.\1154\ Passive basket income generally includes
investment income such as dividends, interest, rents, and
royalties.\1155\ General basket income is all income that is
not in the passive basket. Because the foreign tax credit
limitation must be applied separately to income in these two
baskets, credits for foreign tax imposed on income in one
basket cannot be used to offset U.S. tax on income in the other
basket.
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\1154\ Sec. 904(d). Separate foreign tax credit limitations also
apply to certain categories of income described in other sections. See,
e.g., secs. 901(j), 904(h)(10), 865(h).
\1155\ Sec. 904(d)(2)(B). Passive income is defined by reference to
the definition of foreign personal holding company income in section
954(c), and thus generally includes dividends, interest, rents,
royalties, annuities, net gains from certain property or commodities
transactions, foreign currency gains, income equivalent to interest,
income from notional principal contracts, and income from certain
personal service contracts. Exceptions apply for certain rents and
royalties derived in an active business and for certain income earned
by dealers in securities or other financial instruments. Passive
category income also includes amounts that are includible in gross
income under section 1293 (relating to PFICs) and dividends received
from certain DISCs and FSCs.
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Income that would otherwise constitute passive basket
income is treated as general basket income if it is earned by a
qualifying financial services entity (and certain other
requirements are met).\1156\ Passive income is also treated as
general basket income if it is high-taxed income (i.e., if the
foreign tax rate is determined to exceed the highest rate of
tax specified in section 1 or 11, as applicable).\1157\
Dividends (and subpart F inclusions), interest, rents, and
royalties received from a CFC by a U.S. person that owns at
least 10 percent of the CFC are assigned to a separate
limitation basket by reference to the basket of income out of
which the dividend or other payment is made.\1158\ Dividends
received by a 10-percent corporate shareholder from a foreign
corporation that is not a CFC are also categorized on a look-
through basis.\1159\
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\1156\ Sec. 904(d)(2)(C), (D).
\1157\ Sec. 904(d)(2)(F).
\1158\ Sec. 904(d)(3).
\1159\ Sec. 904(d)(4).
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Explanation of Provision
The provision adopts a matching rule to prevent the
separation of creditable foreign taxes from the associated
foreign income. In general, the provision states that when
there is a foreign tax credit splitting event with respect to a
foreign income tax paid or accrued by the taxpayer, the foreign
income tax is not taken into account for Federal tax purposes
before the taxable year in which the related income is taken
into account by the taxpayer. In addition, if there is a
foreign tax credit splitting event with respect to a foreign
income tax paid or accrued by a section 902 corporation, that
tax is not taken into account for purposes of section 902 or
960, or for purposes of determining earnings and profits under
section 964(a), before the taxable year in which the related
income is taken into account for Federal income tax purposes by
the section 902 corporation, or a domestic corporation that
meets the ownership requirements of section 902(a) or (b) with
respect to the section 902 corporation. Thus, such tax is not
added to the section 902 corporation's foreign tax pool, and
its earnings and profits are not reduced by such tax.
In the case of a partnership, the provision's matching rule
is applied at the partner level, and, except as otherwise
provided by the Secretary, a similar rule applies in the case
of any S corporation or trust. The Secretary may also issue
regulations to establish the applicability of this matching
rule to a regulated investment company that elects under
section 853 for the foreign income taxes it pays to be treated
as creditable to its shareholders under section 901.
For purposes of the provision, there is a ``foreign tax
credit splitting event'' with respect to a foreign income tax
if the related income is (or will be) taken into account for
Federal income tax purposes by a covered person.\1160\ A
``foreign income tax'' is any income, war profits, or excess
profits tax paid or accrued to any foreign country or to any
possession of the United States. This term includes any tax
paid in lieu of such a tax within the meaning of section 903.
``Related income'' means, with respect to any portion of any
foreign income tax, the income (or, as appropriate, earnings
and profits), calculated under U.S. tax principles, to which
such portion of foreign income tax relates. For purposes of
determining related income, the Secretary may provide rules on
the treatment of losses, deficits in earnings and profits, and
certain timing differences between U.S. and foreign tax law.
Moreover, it is not intended that differences in the timing of
when income is taken into account for U.S. and foreign tax
purposes (e.g., as a result of differences in the U.S. and
foreign tax accounting rules) should create a foreign tax
credit splitting event in cases in which the same person pays
the foreign tax and takes into account the related income, but
in different taxable periods.
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\1160\ It is not intended that there be a foreign tax credit
splitting event when, for example, a CFC pays or accrues a foreign
income tax and takes into account the related income in the same year,
even though the earnings and profits to which the foreign income tax
relates may be distributed to a covered person as a dividend or
included in such covered person's income under subpart F.
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With respect to any person who pays or accrues a foreign
income tax (hereafter referred to in this paragraph as the
``payor''), a ``covered person'' is: (1) any entity in which
the payor holds, directly or indirectly, at least a 10-percent
ownership interest (determined by vote or value); (2) any
person that holds, directly or indirectly, at least a 10-
percent ownership interest (determined by vote or value) in the
payor; (3) any person that bears a relationship to the payor
described in section 267(b) or 707(b) (including by application
of the constructive ownership rules of section 267(c)); and (4)
any other person specified by the Secretary. Accordingly, the
Secretary may issue regulations that treat an unrelated
counterparty as a covered person in certain sale-repurchase
transactions and certain other transactions deemed abusive.
A ``section 902 corporation'' is any foreign corporation
with respect to which one or more domestic corporations meets
the ownership requirements of section 902(a) or (b).
Except as otherwise provided by the Secretary, in the case
of any foreign income tax not currently taken into account by
reason of the provision's matching rule, that tax is taken into
account as a foreign income tax paid or accrued in the taxable
year in which, and to the extent that, the taxpayer, the
section 902 corporation, or a domestic corporation that meets
the ownership requirements of section 902(a) or (b) with
respect to the section 902 corporation (as the case may be)
takes the related income into account under chapter 1 of the
Code. Accordingly, for purposes of determining the carryback
and carryover of excess foreign tax credits under section
904(c), the deduction for foreign taxes paid or accrued under
section 164(a), and the extended period for claim of a credit
or refund under section 6511(d)(3)(A), foreign income taxes to
which the provision applies are first taken into account, and
treated as paid or accrued, in the year in which the related
foreign income is taken into account. Notwithstanding the
preceding rule, foreign taxes are translated into U.S. dollars
in the year in which the taxes are paid or accrued under the
general rules of section 986 rather than the year in which the
related income is taken into account. The Secretary may issue
regulations or other guidance providing additional exceptions.
The Secretary is also granted authority to issue
regulations or other guidance as is necessary or appropriate to
carry out the purposes of the provision. Such guidance may
include providing successor rules addressing circumstances such
as where, with respect to a foreign tax credit splitting event,
the person who pays or accrues the foreign income tax or any
covered person is liquidated. This grant of authority also
allows the Secretary to provide appropriate exceptions from the
application of the provision as well as to provide guidance as
to how the provision applies in the case of any foreign tax
credit splitting event involving a hybrid instrument. It is
anticipated that the Secretary may also provide guidance as to
the proper application of the provision in cases involving
disregarded payments, group relief, or other arrangements
having a similar effect.
An example of a foreign tax credit splitting event
involving a hybrid instrument subject to the provision is as
follows: U.S. Corp., a domestic corporation, wholly owns CFC1,
a country A corporation. CFC1, in turn, wholly owns CFC2, a
country A corporation. CFC2 is engaged in an active business
that generates $100 of income. CFC2 issues a hybrid instrument
to CFC1. This instrument is treated as equity for U.S. tax
purposes but as debt for foreign tax purposes. Under the terms
of the hybrid instrument, CFC2 accrues (but does not pay
currently) interest to CFC1 equal to $100. As a result, CFC2
has no income for country A tax purposes, while CFC1 has $100
of income, which is subject to country A tax at a 30 percent
rate. For U.S. tax purposes, CFC2 still has $100 of earnings
and profits (the accrued interest is ignored since the United
States views the hybrid instrument as equity), while CFC1 has
paid $30 of foreign taxes. Under the provision, the related
income with respect to the $30 of foreign taxes paid by CFC1 is
the $100 of earnings and profits of CFC2.
Effective Date
In general, the provision is effective with respect to
foreign income taxes paid or accrued by U.S. taxpayers and
section 902 corporations in taxable years beginning after
December 31, 2010.
The provision also applies to foreign income taxes paid or
accrued by a section 902 corporation in taxable years beginning
on or before December 31, 2010 (and not deemed paid under
section 902(a) or section 960 on or before such date), but only
for purposes of applying sections 902 and 960 with respect to
periods after such date (the ``deemed-paid transition rule'').
Accordingly, the deemed-paid transition rule applies for
purposes of applying sections 902 and 960 to dividends paid,
and inclusions under section 951(a) that occur, in taxable
years beginning after December 31, 2010. However, no adjustment
is made to a section 902 corporation's earnings and profits for
the amount of any foreign income taxes suspended under the
deemed-paid transition rule, either at the time of suspension
or when such taxes are subsequently taken into account under
the provision.
B. Denial of Foreign Tax Credit with Respect to Foreign Income Not
Subject to U.S. Taxation by Reason of Covered Asset Acquisitions (sec.
212 of the Act and sec. 901(m) of the Code)
Present Law
Foreign tax credit
The United States employs a worldwide tax system under
which U.S. resident individuals and domestic corporations
generally are taxed on all income, whether derived in the
United States or abroad; the foreign tax credit provides relief
from double taxation. Subject to the limitations discussed
below, a U.S. taxpayer is allowed to claim a credit against its
U.S. income tax liability for the foreign income taxes that it
pays. A domestic corporation that owns at least 10 percent of
the voting stock of a foreign corporation is allowed a
``deemed-paid'' credit for foreign income taxes paid by the
foreign corporation that the domestic corporation is deemed to
have paid when the related income is distributed or is included
in the domestic corporation's income under the provisions of
subpart F.\1161\
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\1161\ Secs. 901, 902, 960. Similar rules apply under sections
1291(g) and 1293(f) with respect to income that is includible under the
passive foreign investment company (``PFIC'') rules.
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The foreign tax credit is elective on a year-by-year basis.
In lieu of electing the foreign tax credit, U.S. persons
generally are permitted to deduct foreign taxes.\1162\
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\1162\ Sec. 164(a)(3).
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Deemed-paid foreign tax credit
U.S. corporations owning at least 10 percent of the voting
stock of a foreign corporation are treated as if they had paid
a share of the foreign income taxes paid by the foreign
corporation in the year in which that corporation's earnings
and profits (``E&P'') become subject to U.S. tax as dividend
income of the U.S. shareholder.\1163\ This credit is the
``deemed-paid'' or ``indirect'' foreign tax credit. A U.S.
corporation may also be deemed to have paid foreign income
taxes paid by a second-, third-, fourth-, fifth-, or sixth-tier
foreign corporation, if certain requirements are
satisfied.\1164\ Foreign income taxes paid below the third tier
are eligible for the deemed-paid credit only with respect to
foreign income taxes paid in taxable years during which the
payor is a controlled foreign corporation (``CFC''). Foreign
income taxes paid below the sixth tier are not eligible for the
deemed-paid credit. In addition, a deemed-paid credit generally
is available with respect to subpart F inclusions.\1165\
Moreover, a deemed-paid credit generally is available with
respect to inclusions under the PFIC provisions by U.S.
corporations meeting the requisite ownership threshold.\1166\
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\1163\ Sec. 902(a).
\1164\ Sec. 902(b).
\1165\ Sec. 960(a).
\1166\ Secs. 1291(g), 1293(f).
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The amount of foreign income tax eligible for the indirect
credit is added to the actual dividend or inclusion (the
dividend or inclusion is said to be ``grossed-up'') and is
included in the U.S. corporate shareholder's income;
accordingly, the shareholder is treated as if it had received
its proportionate share of pre-tax profits of the foreign
corporation and paid its proportionate share of the foreign
income tax paid by the foreign corporation.\1167\
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\1167\ Sec. 78.
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For purposes of computing the deemed-paid foreign tax
credit, dividends (or other inclusions) are considered made
first from the post-1986 pool of all the distributing foreign
corporation's accumulated E&P.\1168\ Accumulated E&P for this
purpose include the E&P of the current year undiminished by the
current distribution (or other inclusion).\1169\ Dividends in
excess of the accumulated pool of post-1986 undistributed E&P
are treated as paid out of pre-1987 accumulated profits and are
subject to the ordering principles of pre-1986 Act law.\1170\
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\1168\ Sec. 902(c)(6)(B). Earnings and profits computations for
these purposes are to be made under U.S. concepts. Secs. 902(c)(1),
964(a).
\1169\ Sec. 902(c)(1).
\1170\ Sec. 902(c)(6).
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Foreign tax credit limitation
The foreign tax credit generally is limited to a taxpayer's
U.S. tax liability on its foreign-source taxable income (as
determined under U.S. tax accounting principles).\1171\ This
limit is intended to ensure that the credit serves its purpose
of mitigating double taxation of foreign-source income without
offsetting U.S. tax on U.S.-source income. The limit is
computed by multiplying a taxpayer's total U.S. tax liability
for the year by the ratio of the taxpayer's foreign-source
taxable income for the year to the taxpayer's total taxable
income for the year. If the total amount of foreign income
taxes paid and deemed paid for the year exceeds the taxpayer's
foreign tax credit limitation for the year, the taxpayer may
carry the excess back to the previous taxable year or forward
to one of the succeeding 10 taxable years.\1172\
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\1171\ Secs. 901, 904.
\1172\ Sec. 904(c).
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The foreign tax credit limitation is generally applied
separately to two different categories of income (referred to
as ``baskets''), passive basket income and general basket
income.\1173\ Passive basket income generally includes
investment income such as dividends, interest, rents, and
royalties.\1174\ General basket income is all income that is
not in the passive category. Because the foreign tax credit
limitation must be applied separately to income in these two
baskets, foreign tax imposed on income in one basket cannot be
claimed as a credit against U.S. tax on income in the other
basket.
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\1173\ Sec. 904(d). Separate foreign tax credit limitations also
apply to certain categories of income described in other sections. See,
e.g., secs. 901(j), 904(h)(10), 865(h).
\1174\ Sec. 904(d)(2)(B). Passive income is defined by reference to
the definition of foreign personal holding company income in section
954(c), and thus generally includes dividends, interest, rents,
royalties, annuities, net gains from certain property or commodities
transactions, foreign currency gains, income equivalent to interest,
income from notional principal contracts, and income from certain
personal service contracts. Exceptions apply for certain rents and
royalties derived in an active business and for certain income earned
by dealers in securities or other financial instruments. Passive
category income also includes amounts that are includible in gross
income under section 1293 (relating to PFICs) and dividends received
from certain DISCs and FSCs.
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Income that would otherwise constitute passive basket
income is treated as general basket income if it is earned by a
qualifying financial services entity (and certain other
requirements are met).\1175\ Passive income is also treated as
general basket income if it is high-taxed income (i.e., if the
foreign tax rate is determined to exceed the highest rate of
tax specified in section 1 or 11, as applicable).\1176\
Dividends (and subpart F inclusions), interest, rents, and
royalties received from a CFC by a U.S. person that owns at
least 10 percent of the CFC are assigned to a separate
limitation basket by reference to the basket of income out of
which the dividend or other payment is made.\1177\ Dividends
received by a 10-percent corporate shareholder from a foreign
corporation that is not a CFC are also categorized on a look-
through basis.\1178\
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\1175\ Sec. 904(d)(2)(C), (D).
\1176\ Sec. 904(d)(2)(F).
\1177\ Sec. 904(d)(3).
\1178\ Sec. 904(d)(4).
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Items giving rise to permanent basis differences
In general, certain elections or transactions can result in
the creation of additional asset basis eligible for cost
recovery for U.S. tax purposes without a corresponding increase
in the basis of such assets for foreign tax purposes. These
include: (1) a qualifying stock purchase of a foreign
corporation or domestic corporation with foreign assets for
which a section 338 election is made; (2) an acquisition of an
interest in a partnership holding foreign assets for which a
section 754 election is in effect; and (3) certain other
transactions involving an entity classification (``check-the-
box'') election in which a foreign entity is treated as a
corporation for foreign tax purposes and as a partnership or
disregarded entity for U.S. tax purposes.\1179\
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\1179\ Treas. Reg. sec. 301.7701-1, et seq.
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Section 338 elections
In general, the basis of stock acquired by a U.S. taxpayer
or a foreign subsidiary of a U.S. taxpayer is its cost,\1180\
and there is no adjustment to the basis of the assets held by
the acquired corporation.\1181\ In certain circumstances,
however, taxpayers may elect to treat a qualifying purchase of
80 percent of the stock of a target corporation (a ``qualified
stock purchase'') as a purchase of the underlying assets of the
target corporation.\1182\ For this purpose, a ``qualified stock
purchase'' is any transaction or series of transactions in
which stock (meeting the requirements of section 1504(a)(2)) of
one corporation is acquired by another corporation by purchase
during the 12-month acquisition period.\1183\
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\1180\ Secs. 1011, 1012.
\1181\ See sec. 1016.
\1182\ Sec. 338(a).
\1183\ Sec. 338(d)(3). Under section 1504(a)(2), the ownership of
stock of any corporation meets the requirements of an affiliated group
if it (A) possesses at least 80 percent of the total voting power of
the stock of such corporation, and (B) has a value equal to at least 80
percent of the total value of the stock of such corporation. Further,
section 1504(a)(4) states that for purposes of meeting the 80-percent
requirement, the term stock does not include any stock which (A) is not
entitled to vote, (B) is limited and preferred as to dividends and does
not participate in corporate growth to any significant extent, (C) has
redemption and liquidation rights which do not exceed the issue price
of such stock, and (D) is not convertible into another class of stock.
---------------------------------------------------------------------------
Two alternatives exist for making a section 338 election
when there is a qualifying stock purchase--one bilateral and
one unilateral. A bilateral election, which is made pursuant to
section 338(h)(10), requires a corporation to make a qualifying
purchase of 80 percent of the stock of a domestic target
corporation \1184\ that is a member of a selling consolidated
group (or affiliated group if no election to file a
consolidated return has been made), or a qualifying purchase of
80 percent of the stock of an S corporation by a corporation
from S corporation shareholders. The election is made jointly
by the buyer and seller of the stock and must be made by the
15th day of the ninth month beginning after the month in which
the acquisition date occurs. Pursuant to this election, the
assets (rather than the stock) of the target corporation are
deemed to have been sold in a single transaction at the close
of the acquisition date, and the target corporation is deemed
to have liquidated. The asset sale is taken into account by the
target prior to its acquisition by the purchasing
corporation.\1185\
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\1184\ A foreign corporation cannot be the target corporation in
the case of a section 338(h)(10) election. See Treas. Reg. sec.
1.338(h)(10)-1(b)(1), (2), (3).
\1185\ Sec. 338(h)(10); Treas. Regs. sec. 1.338(h)(10)-1(d)(3).
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With a unilateral election, which is made pursuant to
section 338(g), the purchasing corporation treats a qualified
stock purchase of a corporation (including a foreign
corporation) as a deemed asset acquisition, whether or not the
seller of the stock is a corporation. Pursuant to this
election, the seller or sellers recognize gain or loss on the
stock sale, and the target corporation also recognizes gain or
loss on the deemed asset sale. The deemed asset acquisition
also eliminates the historic E&P of the target corporation. In
general, in cases in which the target corporation is foreign
and the seller is a U.S. person or a CFC, the deemed asset sale
has U.S. tax consequences.\1186\ However, when the seller is
neither a U.S. person nor a CFC, generally no U.S. tax
consequences result from the deemed asset sale.\1187\ The
election is made by the purchasing corporation and must be made
by the 15th day of the ninth month beginning after the month in
which the acquisition date occurs.
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\1186\ Section 338(h)(16) addresses the impact of the deemed asset
sale on the E&P of the foreign target corporation for purposes of
determining the source and character of any amount includible in gross
income as a dividend under section 1248 to the seller.
\1187\ When a domestic corporation or a CFC is the purchaser with
respect to which a section 338(g) election is made for a foreign target
corporation, the deemed asset sale may have U.S. tax consequences. For
example, if the foreign target becomes a CFC for an uninterrupted
period of 30 days or more during a taxable year pursuant to Section
951(a) prior to the purchasing corporation completing the qualified
stock purchase, the deemed asset sale may generate subpart F income for
any U.S. shareholder of the foreign target corporation. Treas. Reg.
sec. 1.338-9(b).
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Pursuant to a section 338 election, the target corporation
is treated as (1) having sold all of its assets at the close of
the acquisition date at fair market value in a single
transaction, and (2) a new corporation that purchased all of
the assets as of the beginning of the day after the acquisition
date.\1188\ Accordingly, the aggregate basis of the assets of
the target equals the sum of (1) the grossed-up basis of the
purchasing corporation's recently purchased stock, and (2) the
basis of the purchasing corporation's nonrecently purchased
stock, with appropriate adjustments for liabilities and other
relevant items under the regulations.\1189\
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\1188\ Sec. 338(a).
\1189\ Sec. 338(b).
---------------------------------------------------------------------------
Since a section 338 election is relevant solely for U.S.
tax purposes, the adjustment to the basis of the assets of a
foreign target corporation (or a foreign branch of a domestic
corporation) that increases the amount of depreciation,
amortization, depletion, or gain for purposes of calculating
U.S. taxable income or E&P results in no corresponding
adjustment for foreign income tax purposes. As a result, cost
recovery deductions attributable to such additional basis
generally result in a permanent difference between (1) the
foreign taxable income upon which foreign income tax is levied,
and (2) the U.S. taxable income (or E&P) upon which U.S. tax is
levied (whether currently or upon repatriation) and with
respect to which a foreign tax credit may be allowed for any
foreign income taxes paid.
Section 754 election
A partnership does not generally adjust the basis of
partnership property following the transfer of a partnership
interest unless the partnership has made a one-time election
under section 754 for such purposes.\1190\ If an election is in
effect, adjustments to the basis of partnership property are
made with respect to the transferee partner to account for the
difference between the transferee partner's proportionate share
of the adjusted basis of the partnership property and the
transferee's basis in its partnership interest.\1191\ These
adjustments are intended to adjust the basis of partnership
property to approximate the result of a direct purchase of the
property by the transferee partner. Because a section 754
election has relevance only for U.S. tax purposes, to the
extent that the underlying assets of the partnership include
assets generating income subject to foreign tax, the basis
adjustments made to these assets may also result in permanent
differences between (1) the foreign taxable income upon which
foreign income tax is levied, and (2) the U.S. taxable income
(or E&P) upon which U.S. tax is levied (whether currently or
upon repatriation) and with respect to which a foreign tax
credit may be allowed for any foreign income taxes paid.
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\1190\ Sec. 743(a). But see section 743(d) requiring a reduction to
the basis of partnership property in certain cases where there is a
substantial built-in loss.
\1191\ Sec. 743(b).
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Check-the-box election
Comparable permanent differences between foreign taxable
income and U.S. taxable income (or E&P) may also be achieved as
a result of making a check-the-box election. Since a check-the-
box election generally has no effect for foreign tax purposes,
a sale of a wholly-owned foreign corporation for which an
election to be disregarded is in effect will be respected as
the sale of the corporation for foreign tax purposes but
treated as the sale of branch assets for U.S. tax purposes. If
the purchaser is a U.S. taxpayer or a foreign entity owned by a
U.S. taxpayer, the U.S. taxpayer may have additional asset
basis eligible for cost recovery for U.S. tax purposes without
a corresponding increase in the tax basis of such assets for
foreign tax purposes. In this case, there would be a permanent
difference between (1) the foreign taxable income upon which
foreign income tax is levied, and (2) the U.S. taxable income
(or E&P) upon which U.S. tax is levied (whether currently or
upon repatriation) and with respect to which a foreign tax
credit may be allowed. Similar results may be achieved through
other transactions in which a check-the-box election has been
made.
Explanation of Provision
The provision denies a foreign tax credit for the
disqualified portion of any foreign income tax paid or accrued
in connection with a covered asset acquisition.
A ``covered asset acquisition'' means: (1) a qualified
stock purchase (as defined in section 338(d)(3)) to which
section 338(a) applies; \1192\ (2) any transaction that is
treated as the acquisition of assets for U.S. tax purposes and
as the acquisition of stock (or is disregarded) \1193\ for
purposes of the foreign income taxes of the relevant
jurisdiction; \1194\ (3) any acquisition of an interest in a
partnership that has an election in effect under section 754;
and (4) to the extent provided by the Secretary, any other
similar transaction. It is anticipated that the Secretary will
issue regulations identifying other similar transactions that
result in an increase to the basis of assets for U.S. tax
purposes without a corresponding increase for foreign tax
purposes.
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\1192\ This includes transaction under section 338(g) and section
338(h)(10).
\1193\ For example, the deemed liquidation of a CFC as the result
of the making of an entity classification election pursuant to Treas.
Reg. sec. 301.7701-3 may result in a section 331 liquidation for U.S.
tax purposes that is disregarded for foreign income tax purposes.
\1194\ Section 336(e) provides that, to the extent provided by the
Secretary, in cases in which (1) a corporation owns at least 80 percent
of the vote and value of stock of another corporation (as defined in
section 1504(a)(2)), and (2) such corporation sells, exchanges, or
distributes all of stock of such corporation, an election may be made
to treat this sale, exchange, or distribution as a disposition of all
of the assets of the other corporation, and no gain or loss is
recognized on the sale, exchange, or distribution of the stock. To
date, the Secretary has not promulgated regulations under section
336(e) so no election may be made. Nonetheless, to the extent
regulations are promulgated under section 336(e) in the future
permitting such an election to be made, a transaction to which the
section 336(e) election relates would be a covered asset acquisition.
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The disqualified portion of any foreign income taxes paid
or accrued with respect to any covered asset acquisition, for
any taxable year, is the ratio (expressed as a percentage) of
(1) the aggregate basis differences allocable to such taxable
year with respect to all relevant foreign assets, divided by
(2) the income on which the foreign income tax is determined.
For this purpose, the income on which the foreign income tax is
determined is the income as determined under the law of the
relevant jurisdiction. If the taxpayer fails to substantiate
such income to the satisfaction of the Secretary, then such
income is determined by dividing the amount of such foreign
income tax by the highest marginal tax rate applicable to such
income in the relevant jurisdiction.
For purposes of determining the aggregate basis difference
allocable to a taxable year, the term ``basis difference''
means, with respect to any relevant foreign asset, the excess
of (1) the adjusted basis of such asset immediately after the
covered asset acquisition, over (2) the adjusted basis of such
asset immediately before the covered asset acquisition. Thus,
it is the tax basis for U.S. tax purposes that is relevant, and
not the basis as determined under the law of the relevant
foreign jurisdiction. Because CFCs are generally limited to
straight-line cost recovery, it is anticipated that the basis
difference applying U.S. tax principles generally is less than
if the taxpayer were required to use the basis as determined
under foreign law immediately before the covered asset
acquisition. However, it is anticipated that the Secretary will
issue regulations identifying those circumstances in which, for
purposes of determining the adjusted basis of such assets
immediately before the covered asset acquisition, it may be
acceptable to utilize the basis of such asset under the law of
the relevant jurisdiction or another reasonable method.
A built-in loss in a relevant foreign asset (i.e., in cases
in which the fair market value of the asset is less than its
adjusted basis immediately before the asset acquisition) is
taken into account in determining the aggregate basis
difference; however, a built-in loss cannot reduce the
aggregate basis difference allocable to a taxable year below
zero.
In the case of a qualified stock purchase to which section
338(a) applies, the covered asset acquisition is treated as
occurring at the close of the acquisition date (as defined in
section 338(h)(2)).
In general, the amount of the basis difference allocable to
a taxable year with respect to any relevant foreign asset is
determined using the applicable cost recovery method under U.S.
tax rules. If there is a disposition of any relevant foreign
asset before its cost has been entirely recovered or of any
relevant foreign asset that is not eligible for cost recovery
(e.g., land), the basis difference allocated to the taxable
year of the disposition is the excess of the basis difference
with respect to such asset over the aggregate basis difference
with respect to such asset that has been allocated under this
provision to all prior taxable years. Thus, any remaining basis
difference is captured in the year of the sale, and there is no
remaining basis difference to be allocated to any subsequent
tax years. However, it is intended that this provision
generally apply in circumstances in which there is a
disposition of a relevant foreign asset and the associated
income or gain is taken into account for purposes of
determining foreign income tax in the relevant jurisdiction.
To illustrate, assume USP, a domestic corporation, acquires
100 percent of the stock of FT, a foreign target organized in
Country F with a ``u'' functional currency, in a qualified
stock purchase for which a section 338(g) election is made. The
tax rate in Country F is 25 percent. Assume further that the
aggregate basis difference in connection with the qualified
stock purchase is 200u, including: (1) 150u that is
attributable to Asset A, with a 15-year recovery period for
U.S. tax purposes (10u of annual amortization); and (2) 50u
that is attributable to Asset B, with a 5-year recovery period
(10u of annual depreciation). In each of years 1 and 2, FT's
taxable income is 100u for foreign tax purposes and FT pays
foreign income tax of 25u (equal to $25 when translated at the
average exchange rate for the year). As a result, the
disqualified portion of foreign income tax in each of years 1
and 2 is $5 ((10u + 10u of allocable basis difference / 100u of
foreign taxable income) $25 foreign tax paid).
In year 3, FT's taxable income is 140u, 40u of which is
attributable to gain on the sale of Asset B. FT's Country F tax
is 35u (equal to $35 translated at the average exchange rate
for the year). Accordingly, the disqualified portion of its
foreign income taxes paid is $10 ((40u (including 10u of annual
amortization on Asset A and 30u attributable to disposition of
Asset B) of allocable basis difference / 140u of foreign
taxable income) $35 foreign tax paid).
An asset is a ``relevant foreign asset'' with respect to
any covered asset acquisition, whether the entity acquired is
domestic or foreign, only if any income, deduction, gain, or
loss attributable to the asset (including goodwill, going
concern value, and any other intangible asset) is taken into
account in determining foreign income tax in the relevant
jurisdiction. For this purpose, the term ``foreign income tax''
means any income, war profits, or excess profits tax paid or
accrued to any foreign country or to any possession of the
United States, including any tax paid in lieu of such a tax
within the meaning of section 903. In cases in which there has
been a covered asset acquisition that involves either (1) both
U.S. assets and relevant foreign assets, or (2) assets in
multiple relevant jurisdictions, it is anticipated that the
Secretary may issue regulations clarifying the manner in which
any relevant foreign asset (such as intangible assets that may
relate to more than one jurisdiction) are to be allocated
between those jurisdictions. It is also anticipated that the
Secretary may issue regulations to clarify the extent to which
income is considered attributable to a relevant foreign asset,
as well as the treatment of an asset that ceases to be taken
into account in determining the foreign income tax in the
relevant jurisdiction by some mechanism other than a
disposition.
To the extent that a foreign tax credit is disallowed, the
disqualified portion is allowed as a deduction to the extent
otherwise deductible.\1195\
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\1195\ Sec. 164(a)(3).
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The Secretary may issue regulations or other guidance as is
necessary or appropriate to carry out the purposes of this
provision, including to provide (1) an exemption for certain
covered asset acquisitions, and (2) an exemption for relevant
foreign assets with respect to which the basis difference is de
minimis. For example, it is anticipated that the Secretary will
exclude covered asset acquisitions that are not taxable for
U.S. purposes, or in which the basis of the relevant foreign
assets is also increased for purposes of the tax laws of the
relevant jurisdiction.
Effective Date
In general, the provision is effective for covered asset
acquisitions after December 31, 2010. However, the provision
does not apply to any covered asset acquisition with respect to
which the transferor and transferee are not related if the
acquisition is (1) made pursuant to a written agreement that
was binding on January 1, 2011, and at all times thereafter,
(2) described in a ruling request \1196\ submitted to the IRS
on or before July 29, 2010, or (3) described in a public
announcement or filing with the SEC on or before January 1,
2011.
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\1196\ A private letter ruling may be relied upon only by the
taxpayer requesting the ruling. Transition relief is available only
with respect to the transaction for which the ruling is requested.
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For this purpose, a person is treated as related to another
person if the relationship between such persons is described in
section 267 or 707(b).
C. Separate Application of Foreign Tax Credit Limitation, etc., to
Items Resourced Under Treaties (sec. 213 of the Act and sec. 904(d) of
the Code)
Present Law
The United States taxes its citizens and residents
(including domestic corporations) on worldwide income. Because
the countries in which income is earned also may assert their
jurisdiction to tax the same income on the basis of source,
foreign-source income earned by U.S. persons may be subject to
double taxation. Subject to limitations discussed below, a U.S.
taxpayer is allowed to claim a credit against its U.S. income
tax liability for foreign income taxes paid or accrued.\1197\ A
domestic corporation that owns at least 10 percent of the
voting stock of a foreign corporation is allowed a ``deemed-
paid'' credit for foreign income taxes paid by the foreign
corporation that the domestic corporation is deemed to have
paid when the foreign corporation's earnings are distributed or
included in the domestic corporation's income under the
provisions of subpart F.\1198\
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\1197\ Sec. 901.
\1198\ Secs. 901, 902, 960. Similar rules apply under sections
1291(g) and 1293(f) with respect to income that is includible under the
passive foreign investment company (``PFIC'') rules.
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A foreign tax credit is available only for foreign income,
war profits, and excess profits taxes, and for certain taxes
imposed in lieu of such taxes.\1199\ Other foreign levies
generally are treated as deductible expenses. The foreign tax
credit is elective on a year-by-year basis. In lieu of electing
the foreign tax credit, U.S. persons generally are permitted to
deduct foreign taxes.\1200\
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\1199\ Secs. 901(b), 903.
\1200\ Sec. 164(a)(3).
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The foreign tax credit generally is limited to a taxpayer's
U.S. tax liability on its foreign-source taxable income (as
determined under U.S. tax accounting principles).\1201\ This
limit is intended to ensure that the credit serves its purpose
of mitigating double taxation of foreign-source income without
offsetting U.S. tax on U.S.-source income. The limit is
computed by multiplying a taxpayer's total U.S. tax liability
for the year by the ratio of the taxpayer's foreign-source
taxable income for the year to the taxpayer's total taxable
income for the year. If the total amount of foreign income
taxes paid and deemed paid for the year exceeds the taxpayer's
foreign tax credit limitation for the year, the taxpayer may
carry back the excess foreign taxes to the previous taxable
year or carry forward the excess taxes to one of the succeeding
10 taxable years.\1202\
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\1201\ Secs. 901, 904.
\1202\ Sec. 904(c).
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The foreign tax credit limitation is generally applied
separately for income in two different categories (referred to
as ``baskets''), passive category income and general category
income.\1203\ Passive category income generally includes
investment income such as dividends, interest, rents, and
royalties.\1204\ General category income is all income that is
not in the passive category. Because the foreign tax credit
limitation must be applied separately to income in these two
baskets, credits for foreign tax imposed on income in one
basket cannot be used to offset U.S. tax on income in the other
basket.
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\1203\ Sec. 904(d). Separate foreign tax credit limitations also
apply to certain categories of income described in other sections. See,
e.g., secs. 901(j), 904(h)(10), 865(h).
\1204\ Sec. 904(d)(2)(B). Passive income is defined by reference to
the definition of foreign personal holding company income in section
954(c), and thus generally includes dividends, interest, rents,
royalties, annuities, net gains from certain property or commodities
transactions, foreign currency gains, income equivalent to interest,
income from notional principal contracts, and income from certain
personal service contracts. Exceptions apply for certain rents and
royalties derived in an active business and for certain income earned
by dealers in securities or other financial instruments. Passive
category income also includes amounts that are includible in gross
income under section 1293 (relating to PFICs) and dividends received
from certain DISCs and FSCs.
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Income that would otherwise constitute passive basket
income is treated as general basket income if it is earned by a
qualifying financial services entity (and certain other
requirements are met).\1205\ Passive income is also treated as
general basket income if it is high-taxed income (i.e., if the
foreign tax rate is determined to exceed the highest rate of
tax specified in section 1 or 11, as applicable).\1206\
Dividends (and subpart F inclusions), interest, rents, and
royalties received from a CFC by a U.S. person that owns at
least 10 percent of the CFC are assigned to a separate basket
by reference to the basket of income out of which the dividend
or other payment is made.\1207\ Dividends received by a 10-
percent corporate shareholder from a foreign corporation that
is not a CFC are also categorized on a look-through
basis.\1208\
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\1205\ Sec. 904(d)(2)(C), (D).
\1206\ Sec. 904(d)(2)(F).
\1207\ Sec. 904(d)(3).
\1208\ Sec. 904(d)(4).
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In general, amounts derived from a foreign corporation
(such as interest and dividends) are treated as foreign-source
income for U.S. foreign tax credit limitation purposes. A
special sourcing rule applies to amounts (such as interest and
dividends) derived from a U.S.-owned foreign corporation that
are attributable to U.S.-source income of the foreign
corporation. This special sourcing rule treats such amounts,
which would otherwise be treated as foreign source, as U.S.
source.\1209\ For these purposes, a U.S.-owned foreign
corporation is a foreign corporation that is at least 50-
percent owned (directly or in certain cases indirectly) by vote
or value by U.S. persons. The effect of sourcing what under the
general rules would be foreign-source income as U.S.-source
income under these special rules is to prevent taxpayers from
routing U.S.-source income through a foreign affiliate to
increase the taxpayer's foreign-source income and, therefore,
the taxpayer's foreign tax credit limitation.
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\1209\ Sec. 904(h). The special sourcing rule applies in the case
of subpart F and passive foreign investment company inclusions to the
extent that such amount is attributable to income of the U.S.-owned
foreign corporation from U.S. sources; in the case of dividends, to the
portion of the U.S.-owned foreign corporation's earnings and profits
for the taxable year that are from U.S. sources; and in the case of
interest paid to a U.S. shareholder or related person, to amounts
properly allocable to the U.S.-owned foreign corporation's U.S.-source
income. De minimis exceptions apply if the U.S.-owned foreign
corporation has a small amount of U.S.-source income.
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A coordination rule applies in the case of an amount that
would be treated as U.S.-source income under the special
sourcing rule but which is treated as foreign source under a
treaty. If (1) any amount derived from a U.S.-owned foreign
corporation would be treated as U.S.-source income under the
special sourcing rule described above, (2) a U.S. treaty
obligation would treat such income as arising from sources
outside the United States, and (3) the taxpayer chooses the
benefits of this coordination rule, then the amount will be
treated as foreign source. However, for foreign tax credit
limitation purposes, a separate limitation applies to such
amount and the associated foreign taxes. This coordination rule
applies only to amounts derived from a U.S.-owned foreign
corporation, and not to amounts derived from a foreign branch
or disregarded entity.
For gains from the sale of certain stock or intangibles, a
similar special sourcing rule applies to treat any such gain as
foreign source, while requiring the taxpayer to assign any such
gain and associated taxes to a separate limitation category for
purposes of computing the foreign tax credit.\1210\ This rule
applies to the gain from sale of stock in a foreign corporation
or an intangible that would be U.S. source but which under a
U.S.-treaty obligation is treated as foreign source with
respect to which the taxpayer chooses the benefits of this
rule. This rule also applies to certain gains derived from a
liquidating distribution from certain U.S.-possession
corporations.
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\1210\ Sec. 865(h).
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Explanation of Provision
The provision applies a separate foreign tax credit
limitation for each item (1) that is treated as derived from
sources within the United States under U.S. tax law without
regard to a treaty obligation, (2) that is treated as arising
from sources outside the United States under a treaty
obligation of the United States, and (3) for which the taxpayer
chooses the benefits of the treaty.
The provision does not apply to items of income to which
the coordination rule applicable to U.S.-owned foreign
corporations or the rule for gains from the sale of certain
stock or intangibles (discussed above) apply. The provision
gives the Secretary authority to issue guidance as necessary or
appropriate to carry out the purposes of the provision,
including guidance providing that related items of income may
be aggregated for purposes of the provision or grouping
together items of income from the same trade or business.
Effective Date
The provision is effective for taxable years beginning
after the date of enactment (August 10, 2010).
D. Limitation on the Amount of Foreign Taxes Deemed Paid with Respect
to Section 956 Inclusions (sec. 214 of the Act and sec. 960 of the
Code)
Present Law
The United States employs a worldwide tax system under
which U.S. resident individuals and domestic corporations
generally are taxed on all income, whether derived in the
United States or abroad; the foreign tax credit provides relief
from double taxation. Income earned directly or through a pass-
through entity (such as a partnership) is taxed on a current
basis. By contrast, active foreign business earnings that a
U.S. person derives indirectly through a foreign corporation
generally are not subject to U.S. tax until such earnings are
repatriated to the United States through a distribution of
those earnings to the U.S. person. This ability of U.S. persons
to defer income is circumscribed by various regimes intended to
restrict or eliminate tax deferral with respect to certain
categories of passive or highly mobile income. The main anti-
deferral regimes are the controlled foreign corporation
(``CFC'') rules of subpart F \1211\ and the passive foreign
investment company rules.\1212\
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\1211\ See secs. 951-965.
\1212\ See secs. 1291-1298.
---------------------------------------------------------------------------
The subpart F CFC rules
Under the subpart F CFC rules, a 10 percent-or-greater U.S.
shareholder (a ``U.S. Shareholder'') of a CFC is subject to
U.S. tax currently on (1) its pro rata share of certain income
earned by the CFC \1213\ and (2) certain untaxed earnings
invested in United States property with respect to such
shareholder.\1214\ In each case, the U.S. Shareholder is
subject to tax currently, whether or not such income is
distributed. A CFC is defined generally as a foreign
corporation with respect to which U.S. Shareholders own more
than 50 percent of the combined voting power or total value of
the stock of the corporation.\1215\
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\1213\ Sec. 951(a)(1)(A).
\1214\ Sec. 951(a)(1)(B).
\1215\ Sec. 957(a).
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United States property held by CFCs
A U.S. Shareholder that owns stock in a CFC on the last day
of the taxable year must include in its gross income the amount
determined under section 956 with respect to such shareholder
for such year (but only to the extent not previously taxed
\1216\) (a ``section 956 inclusion'').\1217\ The section 956
inclusion for any taxable year is generally the lesser of (1)
the excess of such shareholder's pro rata share of the average
of the amounts of United States property held (directly or
indirectly) by the CFC as of the close of each quarter of such
taxable year over the amount of previously taxed income from
prior section 956 inclusions \1218\ with respect to such
shareholder, or (2) such shareholder's pro rata share of the
applicable earnings of such CFC.\1219\
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\1216\ Sec. 959(a)(2).
\1217\ Sec. 951(a)(1)(B).
\1218\ See sec. 959(c)(1)(A).
\1219\ Sec. 956(a).
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Foreign tax credits
Subject to the limitations discussed below, a U.S. person
is allowed to claim a credit against its U.S. income tax
liability for the foreign income taxes that it pays. As
discussed below, a domestic corporation may \1220\ also be
allowed a ``deemed-paid'' credit for foreign income taxes paid
by a foreign corporation that the domestic corporation is
deemed to have paid when the related income is distributed or
is included in the domestic corporation's income under the
provisions of subpart F, including section 956
inclusions.\1221\
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\1220\ A U.S. Shareholder includes individuals and entities. Sec.
951(b). In contrast, only those U.S. Shareholders that are corporations
are entitled to the deemed-paid credit.
\1221\ Secs. 901, 902, 960. Similar rules apply under sections
1291(g) and 1293(f) with respect to income that is includible under the
passive foreign investment company (``PFIC'') rules.
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A foreign tax credit is available only for foreign income,
war profits, and excess profits taxes, and for certain taxes
imposed in lieu of such taxes. Other foreign levies generally
are treated as deductible expenses. The foreign tax credit is
elective on a year-by-year basis. In lieu of electing the
foreign tax credit, U.S. persons generally are permitted to
deduct foreign taxes.\1222\
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\1222\ Sec. 164(a)(3).
---------------------------------------------------------------------------
Deemed-paid foreign tax credit
Domestic corporations owning at least 10 percent of the
voting stock of a foreign corporation are treated as if they
had paid a share of the foreign income taxes paid by the
foreign corporation in the year in which that corporation's
earnings and profits (``E&P'') become subject to U.S. tax as
dividend income of the domestic corporation.\1223\ This credit
is the deemed-paid, or indirect, foreign tax credit. A domestic
corporation may also be deemed to have paid taxes paid by a
second-, third-, fourth-, fifth-, or sixth-tier foreign
corporation, if certain requirements are satisfied.\1224\
Foreign taxes paid below the third tier are eligible for the
deemed-paid credit only with respect to taxes paid in taxable
years during which the payor is a CFC and the corporation
claiming the credit is a U.S. Shareholder of the CFC.\1225\
Foreign taxes paid below the sixth tier are not eligible for
the deemed-paid credit. In addition, a deemed-paid credit
generally is available with respect to any inclusion of subpart
F income or investments of earnings in United States property
for the taxable year.\1226\ The amount of the credit is
determined by the same formula as under section 902, except
that the numerator of the ratio is the amount of the inclusion,
rather than the amount of dividends received during the taxable
year.\1227\
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\1223\ Sec. 902(a).
\1224\ Sec. 902(b).
\1225\ Sec. 902(b)(2).
\1226\ Sec. 960(a).
\1227\ Sec. 960(a)(1); Treas. Reg. sec. 1.960-1(i)(1).
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E&P is determined under the same rules for purposes of the
deemed-paid credit fraction with respect to subpart F and
section 956 inclusions as for dividends.\1228\ These rules
generally \1229\ provide that the E&P of any foreign
corporation is determined according to rules substantially
similar to those applicable to domestic corporations, under
regulations prescribed by the Secretary. The amount of foreign
tax eligible for the indirect credit is added to the actual
dividend or inclusion (the dividend or inclusion is said to be
``grossed-up'') and is included in the domestic corporation's
income; accordingly, the domestic corporation is treated as if
it had received its proportionate share of pre-tax profits of
the foreign corporation and paid its proportionate share of the
foreign tax paid by the foreign corporation.\1230\
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\1228\ See secs. 902(c)(1), 964; Treas. Reg. sec. 1.964-1(a)(1).
\1229\ For an exception, see sec. 312(k)(4).
\1230\ Sec. 78.
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For purposes of computing the deemed-paid foreign tax
credit, distributions (or other inclusions) are considered made
first from the post-1986 pool of all the distributing foreign
corporation's accumulated E&P.\1231\ Accumulated E&P for this
purpose includes the E&P of the current year undiminished by
the current distribution (or other inclusion).\1232\
Distributions in excess of the accumulated pool of post-1986
undistributed E&P are treated as paid out of pre-1987
accumulated profits and are subject to the ordering principles
of pre-1986 Act law.\1233\
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\1231\ Sec. 902(c)(6)(B). E&P computations for these purposes are
to be made under U.S. tax principles. Secs. 902(c)(1), 964(a).
\1232\ Sec. 902(c)(1).
\1233\ Sec. 902(c)(6).
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Foreign tax credit limitation
The foreign tax credit generally is limited to a taxpayer's
U.S. tax liability on its foreign-source taxable income (as
determined under U.S. tax accounting principles).\1234\ This
limit is intended to ensure that the credit serves its purpose
of mitigating double taxation of foreign-source income without
offsetting U.S. tax on U.S.-source income. The limit is
computed by multiplying a taxpayer's total U.S. tax liability
for the year by the ratio of the taxpayer's foreign-source
taxable income for the year to the taxpayer's total taxable
income for the year. If the total amount of foreign income
taxes paid and deemed paid for the year exceeds the taxpayer's
foreign tax credit limitation for the year, the taxpayer may
carry back the excess foreign taxes to the previous taxable
year or carry forward the excess taxes to one of the succeeding
10 taxable years.\1235\
---------------------------------------------------------------------------
\1234\ Secs. 901, 904.
\1235\ Sec. 904(c).
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The foreign tax credit limitation is generally applied
separately to two different categories of income, passive
category income and general category income.\1236\ Passive
category income generally includes investment income such as
dividends, interest, rents, and royalties.\1237\ General
category income is generally all income that is not in the
passive category. Because the foreign tax credit limitation
must be applied separately to income in these two categories,
credits for foreign tax imposed on income in one category
cannot be used to offset U.S. tax on income in the other
category.
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\1236\ Sec. 904(d). Separate foreign tax credit limitations also
apply to certain categories of income described in other sections. See,
e.g., secs. 901(j), 904(h)(10), 865(h).
\1237\ Sec. 904(d)(2)(B). Passive income is defined by reference to
the definition of foreign personal holding company income in section
954(c), and thus generally includes dividends, interest, rents,
royalties, annuities, net gains from certain property or commodities
transactions, foreign currency gains, income equivalent to interest,
income from notional principal contracts, and income from certain
personal service contracts. Exceptions apply for certain rents and
royalties derived in an active business and for certain income earned
by dealers in securities or other financial instruments. Passive
category income also includes amounts that are includible in gross
income under section 1293 (relating to PFICs) and dividends received
from certain DISCs and FSCs.
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Income that would otherwise constitute passive category
income is treated as general category income if it is earned by
a qualifying financial services entity (and certain other
requirements are met).\1238\ Passive income is also treated as
general category income if it is high-taxed income (i.e., if
the foreign tax rate is determined to exceed the highest rate
of tax specified in section 1 or 11, as applicable).\1239\
Dividends (and subpart F inclusions), interest, rents, and
royalties received from a CFC by a U.S. person are assigned to
a separate limitation category by reference to the category of
income out of which the dividend or other payment is
made.\1240\ Dividends received by a U.S. person from a foreign
corporation that is not a CFC are also categorized on a look-
through basis.\1241\ For purposes of determining the foreign
tax credit limitation, section 956 inclusions are treated as
dividends.\1242\
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\1238\ Sec. 904(d)(2)(C),(D).
\1239\ Sec. 904(d)(2)(F).
\1240\ Sec. 904(d)(3).
\1241\ Sec. 904(d)(4).
\1242\ Sec. 904(d)(3)(G).
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Under the foreign tax credit limitation rules, the total
amount of the credit taken into account cannot exceed the same
proportion of the tax against which such credit is taken which
the taxpayer's taxable income from sources without the United
States (but not in excess of the taxpayer's taxable income)
bears to his entire taxable income for the same taxable year.
Explanation of Provision
The provision imposes a limit on the amount of foreign
taxes that a U.S. Shareholder is deemed to pay with respect to
any section 956 inclusion.
For section 956 inclusions attributable to United States
property acquired by a CFC after the effective date, the amount
of foreign taxes deemed paid in each separate category is
determined by comparing the foreign taxes deemed paid with
respect to the U.S. Shareholder's section 956 inclusion
(determined without regard to the provision) (the ``tentative
credit'') to its hypothetical amount of foreign taxes deemed
paid as computed under the provision (the ``hypothetical
credit''). The U.S. Shareholder's hypothetical credit is the
amount of foreign taxes it would have been deemed to have paid
if cash in an amount equal to the section 956 inclusion had
been distributed through the chain of ownership that begins
with the foreign corporation that holds the investment in
United States property and ends with the U.S. Shareholder. If
the hypothetical credit is less than the tentative credit, then
the amount of foreign taxes deemed paid with respect to the
section 956 inclusion is limited to the hypothetical credit.
However, the amount of the tentative credit is not increased if
the hypothetical credit would have been greater than the
tentative credit. This limitation applies whether the U.S.
Shareholder chooses to claim a credit \1243\ for foreign taxes
paid or accrued, or to deduct such taxes.\1244\
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\1243\ Sec. 901.
\1244\ Sec. 164(a)(3).
---------------------------------------------------------------------------
In general, present-law foreign tax credit rules apply in
determining the hypothetical credit. The only exception is
that, to the extent an actual distribution would be subject to
any income or withholding tax, such taxes are not taken into
account in determining the hypothetical credit.\1245\ Thus, the
generally applicable rules and definitions \1246\ apply to each
hypothetical distribution.
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\1245\ Similarly, if this hypothetical distribution would be
subject to a withholding tax upon distribution to USP, if it had been
actually made, any such tax would not be taken into account in
determining the hypothetical credit. However, this conclusion results
because such taxes are described in section 901(b), thus they are
outside the scope of the provision.
\1246\ See, e.g., secs. 902(b), (c), and 904(d)(3)(B), (D).
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For example, assume that, for the relevant tax year, and
before taking into account the hypothetical distribution under
the provision, a U.S. parent (``USP'') owns all of the vote and
value of CFC1, a CFC organized in Country A with post-1986
undistributed earnings of 200u, and post-1986 foreign income
taxes of $10.\1247\ CFC1 owns all of the vote and value of
CFC2, a CFC organized in Country B with post-1986 undistributed
earnings of 100u, and post-1986 foreign income taxes of $50. If
CFC2 makes a loan to USP that results in a section 956
inclusion of 100u, the tentative credit is $50 (equal to 100u/
100u $50).
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\1247\ For purposes of this example, assume that each CFC has: (1)
a ``u'' functional currency; (2) E&P comprising solely post-1986
undistributed earnings or deficits in post-1986 undistributed earnings,
such that there are no pre-1987 accumulated profits; (3) only post-1986
foreign income taxes; (4) no previously-taxed income; (5) only E&P and
foreign income taxes in the section 904(d) general category; and (6) no
other attributes than those listed. Except as provided in the example,
there are no other distributions or inclusions during the taxable year.
In addition, Country B imposes a 10-percent withholding tax on dividend
payments to foreign shareholders.
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The hypothetical distribution of 100u from CFC2 to CFC1
would increase CFC1's current E&P by 100u, from 200u to300u,
and increase CFC1's foreign income taxes from $10 to $60. The
100u hypothetical distribution results in a dividend of 100u
that is non-subpart F income of CFC1 under the subpart F look-
through rules.\1248\ Although Country B would impose a 10
percent withholding tax on an actual distribution of 100u to
CFC1, for a total withholding tax of 10u, this amount is not
taken into account in determining the hypothetical credit.
Next, the 100u hypothetical distribution from CFC1 to USP would
result in a dividend of 100u, on which USP would be deemed to
have paid $20 in taxes.\1249\ Because the hypothetical credit
of $20 is less than the tentative credit of $50, USP's foreign
taxes deemed paid with respect to its section 956 inclusion are
limited to $20. USP's section 78 gross-up with respect to the
section 956 inclusion is also $20.\1250\
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\1248\ Sec. 954(c)(6). This assumes that the subpart F look-through
rules of section 954(c)(6) are extended, and are therefore applicable
to the hypothetical distribution. In the event the look-through rule of
section 954(c)(6) expires, the 100u hypothetical distribution would
result in a dividend of 100u that would be currently included in USP's
income as a subpart F item at the level of CFC1.
\1249\ The hypothetical amount of foreign taxes deemed paid equals
(100u/300u) $60. The post-1986 undistributed earnings that is
the denominator of the section 902(a) fraction for purposes of the
provision equals CFC1's post-1986 undistributed earnings of 200u
(determined without regard to the provision) plus the amount of the
hypothetical dividend from CFC2, 100u.
\1250\ If, in the same taxable year, CFC1 were also to make an
actual distribution of all its accumulated E&P of 200u, the 100u
hypothetical distribution from CFC1 to USP would have no impact on the
calculation of USP's actual deemed paid credit from CFC1's actual
dividend. The deemed-paid credit on the 200u dividend would be $10,
which equals (200u/200u $10). In addition, the calculation of
the hypothetical credit with respect to the hypothetical distribution
of 100u from CFC2 would be the same (100u/300u $60 = $20)
whether or not CFC1 paid an actual dividend.
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The provision is applied with regard to earnings and taxes
in each separate category. In addition, treatment of any
foreign taxes over the limit imposed under the provision (the
``excess taxes'') is the same as the treatment of any other
foreign taxes paid or accrued, but not yet deemed paid for
purposes of the foreign tax credit rules. Thus, if a foreign
corporation's excess taxes are in its general category post-
1986 foreign income taxes pool, the foreign corporation's
excess taxes are still considered general category post-1986
foreign income taxes.\1251\ Accordingly, such taxes are
included in the computation of foreign taxes deemed paid with
respect to a subsequent distribution from, or income inclusion
with respect to, that foreign corporation, subject to
applicable limitations including the limitation of the
provision. In the example above, excess taxes that remain at
CFC2 equal $30.\1252\
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\1251\ Sec. 902(c)(2).
\1252\ The excess taxes equal the deemed paid foreign tax credit
(determined without regard to the provision) of $50 minus the
hypothetical credit of $20. Alternatively, if CFC2's E&P also included
125u in previously taxed income (which is taken into account in
determining that the section 956 inclusion is 100u), then the excess
taxes remaining at CFC2 would be $50, because the applicable ordering
rules would prioritize the hypothetical distribution as coming first
from the 125u in previously taxed income over the 100u in untaxed
earnings. See sec. 959(c).
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The provision applies to United States property acquired by
a CFC after December 31, 2010. Thus, for example, any section
956 inclusions from a CFC loan that was made to its U.S. parent
on or before December 31, 2010, would not be subject to the
limitation imposed by the provision. However, the limitation
imposed by the provision would apply if, after December 31,
2010, there is a significant modification of the debt
instrument such that the original debt instrument is considered
as exchanged for a modified instrument that differs materially
from the original.\1253\
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\1253\ See Treas. Reg. sec. 1.1001-3.
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The provision requires the Secretary to issue regulations
or guidance to carry out the purposes of the provision,
including regulations that prevent the inappropriate use of the
foreign corporation's foreign income taxes not deemed paid by
reason of the provision. It is anticipated that guidance will
prohibit the inappropriate use of excess taxes, and will
address attempted avoidance of the provision through a series
of transactions.
Effective Date
The provision is effective for acquisitions of United
States property after December 31, 2010.
E. Special Rule with Respect to Certain Redemptions by Foreign
Subsidiaries (sec. 215 of the Act and sec. 304(b) of the Code)
Present Law
Under section 304, if one corporation (the ``acquiring
corporation'') purchases stock of a related corporation (the
``target corporation'') in exchange for property, the
transaction generally is recharacterized as a redemption. To
the extent a section 304(a)(1) transaction is treated as a
distribution under section 301, the transferor and the
acquiring corporation are treated as if (1) the transferor had
transferred the stock of the target corporation to the
acquiring corporation in exchange for stock of the acquiring
corporation in a transaction to which section 351(a) applies,
and (2) the acquiring corporation had then transferred the
property to the transferor in redemption of the stock it is
deemed as having issued.\1254\ In the case of a section 304
transaction, the amount and the source of a dividend are
determined as if the property were distributed by the acquiring
corporation to the extent of its earnings and profits
(``E&P''), and then by the target corporation to the extent of
its E&P.\1255\ To the extent the dividend is sourced from the
E&P of the acquiring corporation, the transferor is considered
to receive the dividend directly from the acquiring
corporation; \1256\ this is commonly referred to as
``hopscotching'' because the dividend bypasses any intermediary
shareholders.
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\1254\ Sec. 304(a)(1).
\1255\ Sec. 304(b)(2).
\1256\ See H.R. Rep. No. 98-861 (1984) (Conf. Rep.), 1222-1224;
Rev. Rul. 80-189, 1980-2 C.B. 106.
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Special rules apply if the acquiring corporation is
foreign.\1257\ For purposes of determining the amount of the
dividend to the transferor, the foreign acquiring corporation's
E&P that is taken into account is limited to the portion of
such E&P that (1) is attributable to stock of the foreign
acquiring corporation held by a corporation or individual who
is the transferor (or a person related thereto) of the target
corporation and who is a U.S. shareholder \1258\ of the foreign
acquiring corporation, and (2) was accumulated while such stock
was owned by the transferor (or a person related thereto) and
while the foreign acquiring corporation was a controlled
foreign corporation (``CFC'').\1259\
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\1257\ Sec. 304(b)(5).
\1258\ As that term is defined by section 951(b).
\1259\ See sec. 304(b)(5).
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Section 1442 generally requires a 30-percent gross basis
tax to be withheld on dividend payments to foreign persons
unless reduced or eliminated pursuant to an applicable income
tax treaty.
Explanation of Provision
The provision generally imposes an additional limitation on
the E&P of a foreign acquiring corporation that is taken into
account in determining the amount (and source) of the
distribution that is treated as a dividend.
Under the provision, if more than 50 percent of the
dividends arising from acquisition would (without taking into
account the provision) not be (1) subject to U.S. tax in the
year in which the dividend arises, or (2) includible in the E&P
of a CFC,\1260\ then the E&P of the foreign acquiring
corporation is not taken into account for this purpose.\1261\
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\1260\ For purposes of this rule, ``CFC'' is defined by reference
to section 957, but without regard to section 953(c).
\1261\ It is not intended that the provision apply if an amount is
not subject to tax under this chapter for the taxable year in which the
dividend arises solely as a result of the application of section 959.
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If it is determined that the special rule applies, none of
the foreign acquiring corporation's E&P is taken into account.
In such case, the only E&P that is taken into account to
determine the amount constituting a dividend is the target
corporation's E&P. The provision prevents the foreign acquiring
corporation's E&P from permanently escaping U.S. taxation by
being deemed to be distributed directly to a foreign person
(i.e., the transferor) without an intermediate distribution to
a domestic corporation in the chain of ownership between the
acquiring corporation and the transferor corporation.
Generally, if the transferor is a foreign corporation (and not
a CFC) and the acquiring corporation is a CFC, it is not
relevant whether the target corporation is a domestic or a
foreign corporation. However, if the target is a U.S.
corporation, the 30-percent gross basis withholding tax applies
to the amount constituting a dividend from the target, unless
reduced or eliminated by treaty.\1262\
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\1262\ Sec. 1442; Rev. Rul. 92-85; 1992-2 C.B. 69.
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It is anticipated that regulations will provide rules to
prevent the avoidance of the provision, including through the
use of partnerships, options, or other arrangements to cause a
foreign corporation to be treated as a CFC.
Effective Date
The provision is effective for acquisitions after the date
of enactment (August 10, 2010).
F. Modification of Affiliation Rules for Purposes of Rules Allocating
Interest Expense (sec. 216 of the Act and sec. 864 of the Code)
Present Law
In general
The United States employs a worldwide tax system under
which U.S. resident individuals and domestic corporations
generally are taxed on all income, whether derived in the
United States or abroad; the foreign tax credit provides relief
from double taxation. The foreign tax credit generally is
limited to the U.S. tax liability on a taxpayer's foreign-
source income, in order to ensure that the credit serves its
purpose of mitigating double taxation of foreign-source income
without offsetting the U.S. tax on U.S.-source income.\1263\
---------------------------------------------------------------------------
\1263\ Secs. 901, 904.
---------------------------------------------------------------------------
To compute the foreign tax credit limitation, a taxpayer
must determine the amount of its taxable income from foreign
sources by allocating and apportioning deductions between items
of U.S.-source gross income, on the one hand, and items of
foreign-source gross income, on the other. There are no
specific rules for most types of deductions.\1264\ Specific
provisions govern the allocation and apportionment of
interest.\1265\
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\1264\ See, e.g., secs. 861(b), 862(b), and 863(a), which require
that a taxpayer properly allocate and apportion expenses, losses, or
other deductions, without containing any specific rules for allocating
and apportioning particular types of deductions.
\1265\ Sec. 864(e). In the case of interest expense, the rules
generally are based on the premise that money is fungible and that
interest expense is properly attributable to all business activities
and property of a taxpayer, regardless of any specific purpose for
incurring an obligation on which interest is paid. Temp. Treas. Reg.
sec. 1.861-9T(a).
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For interest allocation purposes, all members of an
affiliated group of corporations generally are treated as a
single corporation (the so-called ``one-taxpayer rule'') and
allocation must be made on the basis of assets rather than
gross income.\1266\
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\1266\ Secs. 864(e)(1), 864(e)(2).
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Foreign corporations owned by an affiliated group of
corporations
The term ``affiliated group'' in this context generally is
defined by reference to the rules for determining whether
corporations are eligible to file consolidated returns.\1267\
These rules exclude all foreign corporations from an affiliated
group.\1268\ Thus, while debt generally is considered fungible
among the assets of a group of domestic affiliated
corporations, the same rules do not apply as between the
domestic and foreign members of a group with the same degree of
common control as the domestic affiliated group.
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\1267\ Secs. 864(e)(5)(A), sec. 1504. The affiliated group for
interest allocation purposes generally excludes certain corporations
that are financial institutions. These corporate financial institutions
are not treated as members of the regular affiliated group for purposes
of applying the one-taxpayer rule to other non-financial members of
that group. Instead, all such corporate financial institutions that
would be so affiliated are treated as a separate single corporation for
interest allocation purposes. Sec. 864(e)(5)(B).
\1268\ Sec. 1504(b)(3).
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Under Treasury regulations, however, certain foreign
corporations are treated as affiliated corporations, in certain
respects, if (1) at least 80 percent of either the vote or
value of the corporation's outstanding stock is owned directly
or indirectly by members of an affiliated group, and (2) more
than 50 percent of the corporation's gross income for the
taxable year is effectively connected with the conduct of a
U.S. trade or business (also known as effectively connected
income).\1269\
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\1269\ Temp. Treas. Reg. sec. 1.861-11T(d)(6)(ii). The question as
to whether a foreign person is engaged in a U.S. trade or business has
generated a significant body of case law. Basic issues involved in the
determination include whether the activity constitutes business rather
than investing, whether sufficient activities in connection with the
business are conducted in the United States, and whether the
relationship between the foreign person and persons performing
functions in the United States with respect to the business is
sufficient to attribute those functions to the foreign person.
Generally, only U.S.-source income is treated as effectively connected
with the conduct of a U.S. trade or business. However, certain limited
categories of foreign-source income are treated as effectively
connected if the income is attributable to an office or other fixed
place of business maintained by the foreign person in the United
States. Sec. 864(c).
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In the case of a foreign corporation that is treated as an
affiliated corporation for interest allocation and
apportionment purposes, the percentage of its assets and income
that is taken into account varies depending on the percentage
of the corporation's gross income that is effectively connected
income. If 80 percent or more of the foreign corporation's
gross income is effectively connected income, then all the
corporation's assets and interest expense are taken into
account. If, instead, between 50 percent and 80 percent of the
foreign corporation's gross income is effectively connected
income, then only the corporation's assets that generate
effectively connected income and a percentage of its interest
expense equal to the percentage of its assets that generate
effectively connected income are taken into account.\1270\
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\1270\ Temp. Treas. Reg. sec. 1.861-11T(d)(6)(ii).
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Explanation of Provision
The provision treats a foreign corporation as a member of
an affiliated group, for interest allocation and apportionment
purposes, if (1) more than 50 percent of the gross income of
such foreign corporation for the taxable year is effectively
connected income, and (2) at least 80 percent of either the
vote or value of all outstanding stock of such foreign
corporation is owned directly or indirectly by members of the
affiliated group (determined with regard to this sentence).
Thus, under the provision, if more than 50 percent of a foreign
corporation's gross income is effectively connected income and
at least 80 percent of either the vote or value of all
outstanding stock of such foreign corporation is owned directly
or indirectly by members of the affiliated group, then all of
the foreign corporation's assets and interest expense are taken
into account for the purposes of allocating and apportioning
the interest expense of the affiliated group.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (August 10, 2010).
G. Termination of Special Rules for Interest and Dividends Received
from Persons Meeting the 80-Percent Foreign Business Requirements (sec.
217 of the Act and secs. 861(a)(1)(A) and 871(i) of the Code)
Present Law
The source of interest and dividend income generally is
determined by reference to the country of residence of the
payor.\1271\ Thus, an interest or dividend payment from a U.S.
payor to a foreign person generally is treated as U.S.-source
income and is subject to the 30-percent gross-basis U.S.
withholding tax.\1272\ However, if a resident alien individual
or domestic corporation satisfies an 80-percent active foreign
business income requirement (the ``80/20 test''), all or a
portion of any interest paid by the resident alien individual
or the domestic corporation (a so-called ``80/20 company'') is
exempt from U.S. withholding tax. Interest paid by a resident
alien individual that satisfies the 80/20 test or by an 80/20
company is treated as foreign-source income and is therefore
exempt from the 30-percent withholding tax if it is paid to
unrelated parties.\1273\ When a resident alien individual or
80/20 company pays interest to a related party, the resourcing
rule applies only to the percentage of the interest that is
equal to the percentage of the resident alien individual's or
80/20 company's foreign-source income (described below) as a
portion of the resident alien individual's or 80/20 company's
total gross income during the three-year testing period (a so-
called ``look-through'' approach).\1274\
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\1271\ Secs. 861(a)(1), (2), 862(a)(1), (2).
\1272\ Secs. 871(a)(1)(A), 881(a)(1), 1441(b), and 1442(a).
\1273\ Sec. 861(a)(1)(A).
\1274\ Sec. 861(c)(2).
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In addition to interest, all or part of a dividend paid by
an 80/20 company may also be exempt from U.S. withholding tax.
The percentage of the dividend paid by an 80/20 company that
equals the percentage of the 80/20 company's total gross income
during the testing period that is foreign source is exempt from
U.S. withholding tax.\1275\ Unlike interest, a dividend paid by
an 80/20 company remains U.S. source (for example, for foreign
tax credit limitation purposes).
---------------------------------------------------------------------------
\1275\ Sec. 871(i).
---------------------------------------------------------------------------
In general, a resident alien individual or domestic
corporation meets the 80/20 test if at least 80 percent of the
gross income of the resident alien individual or corporation
during the testing period is derived from foreign sources and
is attributable to the active conduct of a trade or business in
a foreign country (or a U.S. possession) by the resident alien
individual or corporation or, in the case of a corporation, a
50-percent owned subsidiary of that corporation. The testing
period generally is the three-year period preceding the year in
which the interest or dividend is paid.\1276\
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\1276\ Sec. 861(c)(1). The income of a subsidiary is attributed to
the tested company only to the extent that the tested company actually
receives income from the subsidiary in the form of dividends.
Conference Report to the 1986 Tax Reform Act, Pub. L. No. 99-514, Vol.
II, 602; see also Rev. Rul. 73-63, 1973-1 C.B. 336; P.L.R. 6905161160A
(May 16, 1969).
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Explanation of Provision
The provision repeals the present-law rule that treats as
foreign-source all or a portion of any interest paid by a
resident alien individual or domestic corporation that meets
the 80/20 test. The provision also repeals the present-law rule
that exempts from U.S. withholding tax all or a portion of any
dividends paid by a domestic corporation that meets the 80/20
test.
The provision provides a grandfather rule for any domestic
corporation that (1) meets the 80/20 test (as in effect before
the enactment of this provision) (hereinafter ``the present law
80/20 test'') for its last taxable year beginning before
January 1, 2011 (``an existing 80/20 company''), (2) meets a
new 80/20 test with respect to each taxable year beginning
after December 31, 2010, and (3) has not added a substantial
line of business with respect to such corporation after the
date of enactment of this provision. Any payment of dividend or
interest after December 31, 2010 by an existing 80/20 company
that meets the grandfather rule is exempt from withholding tax
to the extent of the existing 80/20 company's active foreign
business percentage. Nonetheless, any payment of interest will
be treated as U.S.-source income.
As with the present law 80/20 test, a corporation meets the
80-percent foreign business requirements of the 80/20 test
under the grandfather rule if it is shown to the satisfaction
of the Secretary that at least 80-percent of the gross income
from all sources of such corporation for the testing period is
active foreign business income. This percentage--active foreign
business income of the company for the testing period as a
percentage of total gross income of the company for the testing
period--is also the company's active foreign business
percentage for purposes of determining the portion of any
dividend or interest paid by an existing 80/20 company that is
exempt from withholding tax. However, except as modified by the
transition rule below, the existing 80/20 company and all of
its subsidiaries are aggregated and treated as one corporation.
For this purpose, a subsidiary means any corporation in which
the existing 80/20 company owns (directly or indirectly) stock
meeting the requirements of section 1504(a)(2), determined by
substituting 50 percent for 80 percent and without regard to
section 1504(b)(3). As a result, an existing 80/20 company must
take into account the gross income of any domestic or foreign
subsidiary. The Secretary may issue guidance as is necessary or
appropriate to carry out the purpose of this provision,
including guidance providing for the proper application of the
aggregation rules.
Under the 80/20 test provided by the grandfather rule, the
testing period is the three-year period ending with the close
of the taxable year of the corporation preceding the payment
(or such part of such period as may be applicable). If the
corporation has no gross income for such three-year period (or
part thereof), the testing period is the taxable year in which
the payment is made.
The grandfather rule includes a transition rule that
applies in the case of any taxable year for which the testing
period includes one or more taxable years beginning before
January 1, 2011. Under this transition rule, a corporation
meets the 80-percent foreign business requirements if, and only
if, the weighted average of (1) the percentage of the
corporation's gross income from all sources that is active
foreign business income (as defined in subparagraph (B) of
section 861(c)(1) (as in effect before the date of enactment of
this provision)) for the portion of the testing period that
includes taxable years beginning before January 1, 2011,\1277\
and (2) the percentage of the corporation's gross income from
all sources that is active foreign business income for the
portion of the testing period, if any, that includes taxable
years beginning on or after January 1, 2011, is at least 80
percent. Accordingly, this transition rule applies instead of
the new 80/20 test for the relevant tax years. This weighted
average percentage is also treated as the active foreign
business percentage for purposes of determining the amount of
withholding for such taxable years.
---------------------------------------------------------------------------
\1277\ Hence, this percentage is determined without application of
the new aggregation rule.
---------------------------------------------------------------------------
The following example illustrates the operation of this
transition rule. Assume a domestic corporation has $100 of
active foreign business income and no other income on a
separate company basis (i.e., without regard to the income of
any affiliate) for each of the 2008, 2009, and 2010 tax years.
For the 2011, 2012, and 2013 tax years, the domestic company
has $700 of active foreign business income and $300 of other
income on an aggregate basis (including the income of its 50-
percent owned domestic and foreign subsidiaries). Under the
provision, the domestic company's weighted average percentage
for the 2011 tax year is 100 percent, determined by considering
the 2008, 2009, and 2010 tax years on a separate company basis
(($100 + $100 + $100)/($100 + $100 + $100)). Therefore, for the
2011 tax year, the domestic company meets the 80-percent active
foreign business requirements, and its active foreign business
percentage is 100 percent for the 2011 tax year.
For the 2012 tax year, the weighted average percentage is
90 percent, determined by considering the 2009 and 2010 tax
years on a separate company basis ((($100 + $100)/($100 + $100)
\2/3\)) or 66.7 percent) and the 2011 tax year on an
aggregate basis ((($700/$1,000) \1/3\) or 23.3
percent). As a result, the domestic company meets the 80-
percent active foreign business requirements, and its active
foreign business percentage is 90 percent for the 2012 tax
year.
For the 2013 tax year, the weighted average percentage is
80 percent, determined by considering the 2010 tax year on a
separate company basis ((($100/$100) \1/3\) or 33.3
percent) and the 2011 and 2012 tax years on an aggregate basis
((($700 + $700)/($1,000 + $1,000) \2/3\) or 46.7
percent). Therefore, for the 2013 tax year, the domestic
company meets the 80-percent active foreign business
requirements, and its active foreign business percentage is 80
percent.
For the 2014 tax year, the transition rule does not apply
since none of the years within the three-year testing period
begin before January 1, 2011. As a result, the domestic company
does not meet the 80-percent foreign business requirements for
the 2014 tax year since only 70 percent (($700 + $700 + $700)/
($1,000 + $1,000 + $1,000)) of its gross income from all
sources for the testing period is active foreign business
income.
An existing 80/20 company does not meet the grandfather
rule if there has been an addition of a substantial line of
business with respect to such corporation after the date of
enactment of this provision. For purposes of determining
whether a substantial line of business has been added, rules
similar to those of section 7704(g) and the Treasury
regulations thereunder (relating to certain publicly-traded
partnerships treated as corporations and including specifically
Treas. Reg. section 1.7704-2(c) to (e)) apply. It is
anticipated that the Secretary will issue guidance providing
that the acquisition of foreign operating assets or stock of a
foreign corporation by the existing 80/20 company for the
purpose of increasing its active foreign business percentage
will be treated as the addition of a substantial line of
business.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
The repeal of the 80/20 company provisions relating to the
payment of interest does not apply to payments of interest to
persons not related to the 80/20 company (applying rules
similar to those of section 954(d)(3)) on obligations issued
before the date of enactment.\1278\ For this purpose, a
significant modification of the terms of any obligation
(including any extension of the term of such obligation) is
treated as the issuance of a new obligation.
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\1278\ A person will be treated as a related person with respect to
a controlled foreigh corporation if (A) such person is an individual,
corporation, partnership, trust, or estate which controls, or is
controlled by, the controlled foreign corporation, or (B) such person
is a corporation, partnership, trust or estate which is controlled by
the same person or persons which control the resident controlled
foreign corporation. For purposes of the preceding sentence, control
means, with respect to a corporation, the ownership, directly or
indirectly, of stock possessing more than 50 percent of the total
voting power of all classes of stock entitled to vote or of the total
value of stock of such corporation. In the case of a partnership,
trust, or estate, control means the ownership, directly or indirectly,
of more than 50 percent (by value) of the beneficial interests in such
partnership, trust, or estate. For purposes of this paragraph, rules
similar to the rules of section 958 shall apply. Sec. 954(d)(3).
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H. Limitation on Extension of Statute of Limitations for Failure to
Notify Secretary of Certain Foreign Transfers (sec. 218 of the Act and
sec. 6501(c) of the Code)
Present Law
Taxes are generally required to be assessed within three
years after a taxpayer's return is filed, whether or not it was
timely filed.\1279\ In the case of a false or fraudulent return
filed with the intent to evade tax, or if the taxpayer fails to
file a required return, the tax may be assessed, or a
proceeding in court for collection of such tax may be begun
without assessment, at any time.\1280\ The limitation period
also may be extended by taxpayer consent.\1281\ If a taxpayer
engages in a listed transaction but fails to include any of the
information required under section 6011 on any return or
statement for a taxable year, the limitation period with
respect to such transaction will not expire before the date
which is one year after the earlier of (1) the date on which
the Secretary is provided the information so required, or (2)
the date that a ``material advisor'' (as defined in section
6111) makes its section 6112(a) list available for inspection
pursuant to a request by the Secretary under section
6112(b)(1)(A).\1282\ In addition to the exceptions described
above, there are also circumstances under which the three-year
limitation period is suspended.\1283\
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\1279\ Sec. 6501(a). Returns that are filed before the date they
are due are deemed filed on the due date. See sec. 6501(b)(1) and (2).
\1280\ Sec. 6501(c).
\1281\ Sec. 6501(c)(4).
\1282\ Sec. 6501(c)(10).
\1283\ For example, service of an administrative summons triggers
the suspension either (1) beginning six months after service (in the
case of John Doe summonses) or (2) when a proceeding to quash a summons
is initiated by a taxpayer named in a summons to a third-party record-
keeper. Judicial proceedings initiated by the government to enforce a
summons generally do not suspend the limitation period.
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Section 6501(c)(8) provides an exception to the three-year
period of limitations due to failures to provide information
about cross-border transactions or foreign assets. Under this
exception, as amended by the Hiring Incentives to Restore
Employment Act,\1284\ the limitation period for assessment of
tax does not expire any earlier than three years after the
required information about certain cross-border transactions or
foreign assets is actually provided to the Secretary by the
person required to file the return.\1285\ In general, such
information reporting is due with the taxpayer's return; thus,
the three-year limitation period commences when a timely and
complete return (including all information reporting) is filed.
Without the inclusion of the information reporting with the
return, the limitation period does not commence until such time
as the information reports are subsequently provided to the
Secretary, even though the return has been filed. The taxes
that may be assessed during this suspended or extended period
are not limited to those attributable to adjustments to items
related to the information required to be reported by one of
the enumerated sections.
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\1284\ Sec. 513, Pub. L. No. 111-147.
\1285\ Required information reporting subject to this three-year
rule is reporting under sections 6038 (certain foreign corporations and
partnerships), 6038A (certain foreign-owned corporations), 6038B
(certain transfers to foreign persons), 6038D (individuals with foreign
financial assets), 6046 (organizations, reorganizations, and
acquisitions of stock of foreign corporations), 6046A (interests in
foreign partnerships), and 6048 (certain foreign trusts), as well as
information required with respect to elections under sections 1295(b)
passive foreign investment corporations.
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Explanation of Provision
The provision modifies the scope of the exception to the
limitations period if a failure to provide information on
cross-border transactions or foreign assets is shown to be due
to reasonable cause and not willful neglect. In the absence of
reasonable cause or the presence of willful neglect, the
suspension of the limitations period and the subsequent three-
year period that begins after information is ultimately
supplied apply to all issues with respect to the income tax
return. In cases in which a taxpayer establishes reasonable
cause, the limitations period is suspended only for the item or
items related to the failure to disclose. To prove reasonable
cause, it is anticipated that a taxpayer must establish that
the failure was objectively reasonable (i.e., the existence of
adequate measures to ensure compliance with rules and
regulations), and in good faith.
For example, the limitations period for assessing taxes
with respect to a tax return filed on March 31, 2011 ordinarily
expires on March 31, 2014. In order to assess tax with respect
to any issue on the return after March 31, 2014, the IRS must
be able to establish that one of the exceptions applies. If the
taxpayer fails to attach to that return one of multiple
information returns required, the limitations period does not
begin to run unless and until that missing information return
is supplied. Assuming that the missing report is supplied to
the IRS on January 1, 2013, the limitations period for the
entire return begins, and elapses no earlier than three years
later, on January 1, 2016. All items are subject to adjustment
during that time, unless the taxpayer can prove that reasonable
cause for the failure to file existed. If the taxpayer
establishes reasonable cause, the only adjustments to tax
permitted after March 31, 2014 are those related to the failure
to file the information return. For this purpose, related items
include (1) adjustments made to the tax consequences claimed on
the return with respect to the transaction that was the subject
of the information return, (2) adjustments to any item to the
extent the item is affected by the transaction even if it is
otherwise unrelated to the transaction, and (3) interest and
penalties that are related to the transaction or the
adjustments made to the tax consequences.
Effective Date
The provision is effective as if included in section 513 of
the Hiring Incentives to Restore Employment Act.\1286\ Thus,
the provision applies for returns filed after March 18, 2010,
the date of enactment of that Act, as well as for any other
return for which the assessment period specified in section
6501 had not yet expired as of that date.
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\1286\ Pub. L. No. 111-147.
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I. Elimination of Advance Refundability of Earned Income Tax Credit
(sec. 219 of the Act and secs. 32(g), 3507, and 6051(a) of the Code)
Present Law
Overview
Low- and moderate-income workers may be eligible for the
refundable earned income tax credit (``EITC''). Eligibility for
the EITC is based on earned income, adjusted gross income,
investment income, filing status, number of qualifying children
and immigration and work status in the United States. The
amount of the EITC is based on the presence and number of
qualifying children in the worker's family, as well as on
adjusted gross income and earned income.
The EITC generally equals a specified percentage of earned
income \1287\ up to a maximum dollar amount. The maximum amount
applies over a certain income range and then diminishes to zero
over a specified phaseout range. For taxpayers with earned
income (or AGI, if greater) in excess of the beginning of the
phaseout range, the maximum EITC amount is reduced by the
phaseout rate multiplied by the amount of earned income (or
AGI, if greater) in excess of the beginning of the phaseout
range. For taxpayers with earned income (or AGI, if greater) in
excess of the end of the phaseout range, no credit is allowed.
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\1287\ Earned income is defined as (1) wages, salaries, tips, and
other employee compensation, but only if such amounts are includible in
gross income, plus (2) the amount of the individual's net self-
employment earnings.
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The EITC is a refundable credit, meaning that if the amount
of the credit exceeds the taxpayer's Federal income tax
liability, the excess is payable to the taxpayer as a direct
transfer payment. Under an advance payment system, eligible
taxpayers may elect to receive the credit in their paychecks,
rather than waiting to claim a refund on their tax returns
filed by April 15 of the following year.
Advance payment system
Under the advance payment system, available since 1979,
eligible taxpayers may elect to receive the credit in their
paychecks, rather than waiting to claim a refund on their tax
return filed by April 15 of the following year. This means that
the taxpayer's paycheck is adjusted to include not only the
nonrefundable portion of the EITC (i.e., by reducing otherwise
applicable tax liability) but also a portion of the refundable
EITC (i.e., an outlay rather than a reduction in otherwise
applicable tax liability). The portion of the EITC eligible for
advance payment is limited to 60 percent of the maximum EITC
for one qualifying child. A taxpayer electing the advance
payment option is required to file a tax return for the taxable
year (regardless of the otherwise applicable filing thresholds)
in order to reconcile any advance payment with the actual
allowable EITC.
Beginning in 1993, Congress required the IRS to notify
eligible taxpayers of the advance payment option, but
participation in the advance payment option has remained
limited to a small percentage of eligible taxpayers.
Explanation of Provision
The provision repeals the advance payment option for the
EITC. The taxpayer may still receive the nonrefundable portion
of the EITC through the taxpayer's paycheck, by adjusting
withholding, to the extent the taxpayer otherwise has positive
tax liability.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
PART THIRTEEN: FIREARMS EXCISE TAX IMPROVEMENT ACT OF 2010 (PUBLIC LAW
111-237) \1288\
A. Time for Payment of Manufacturers' Excise Tax on Recreational
Equipment (sec. 2 of the Act and sec. 6302 of the Code)
Present Law
Excise tax is imposed on the sale by the manufacturer,
producer or importer of firearms.\1289\ The amount of the tax
is 10 percent of the sales price of pistols and revolvers and
11 percent of the sales price of firearms (other than pistols
and revolvers), shells, and cartridges. Sales made by small
firearms manufacturers or importers (less than 50 firearms
annually) and sales made to the Department of Defense are
exempt from tax.
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\1288\ H.R. 5552. The bill passed the House on the suspension
calendar on June 29, 2010. The Senate passed the bill by unanimous
consent on August 5, 2010. The President signed the bill on August 16,
2010.
\1289\ Sec. 4181.
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Firearms and ammunition manufacturers, importers, or
producers are generally required to file quarterly excise tax
returns if they have excise tax liability of more than $2,000
in a quarter and are generally required to make semimonthly
deposits of excise tax.\1290\
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\1290\ 27 CFR 53.159(b).
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Explanation of Provision
The provision amends the due date for the payment of excise
tax on firearms and ammunition to correspond with the due date
for filing excise tax returns, generally requiring payments to
be made by the last day of the first calendar month following
the end of each calendar quarter.
Effective Date
The provision applies to articles sold by the manufacturer,
producer, or importer after the date of enactment (August 16,
2010).
B. Allow Assessment of Criminal Restitution as Tax (sec. 3 of the Act
and sec. 6213 of the Code)
Present Law
The IRS has responsibility for investigation of criminal
offenses under the Code \1291\ as well as tax-related offenses
under Title 18 of the United States Code.\1292\ Criminal
investigations may involve income from legal sources or from
illegal sources. When an investigation results in a
recommendation to prosecute, after appropriate internal review,
the case is referred to the Tax Division of the U.S. Department
of Justice, where it is reviewed by prosecutors in one of the
Criminal Enforcement Sections. If that office agrees with the
recommendation and authorizes prosecution, the case may be
handled by a prosecutor from that office or referred to a U.S.
Attorney Office for prosecution.\1293\
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\1291\ Secs. 7201 through 7275.
\1292\ For example, aiding and abetting (18 U.S.C. sec 2);
conspiracy to defraud the United States (18 U.S.C. sec. 286); false,
fictitious or fraudulent claims (18 U.S.C. sec. 287); or conspiracy to
commit an offense or to defraud the United States (18 U.S.C. sec. 371).
\1293\ Internal Revenue Manual (``IRM'') par. 9.5.12.4.1, July 25,
2007. Note that IRS investigators also support the development of
financial crime investigations by Department of Justice related to
organized crime, drug enforcement and counterterrorism programs.
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Upon conviction after trial or as a result of a plea
agreement, the taxpayer may be ordered to pay restitution, in
addition to a fine, a term of incarceration, or as a condition
of probation.\1294\ Although the statutes do not specify that
restitution is available for Code offenses, it is mandated in
tax-related offenses arising under Title 18,\1295\ and is
permitted in any case concluded by plea agreement if the
agreement so provides.\1296\ In addition, the sentencing
guidelines include restitution as a possible variable
warranting a departure from the otherwise recommended
sentence.\1297\
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\1294\ 18 U.S.C. sec. 3556, which authorizes restitution orders
both for cases in which restitution is mandatory as described in
section 3663A and for those cases in which restitution is at the
discretion of the court as described in section 3663. In either case,
any order must comply with the procedures of section 3664.
\1295\ 18 U.S.C. sec. 3663A(c)(A)(ii) requires restitution for all
crimes against property arising under Title 18. Tax-related charges may
arise under 18 U.S.C. secs. 286, 287, 371 and 1001.
\1296\ 18 U.S.C. sec. 3663(a)(3).
\1297\ 18 U.S.C. Appendix, Chapter 5E1.1, United States Sentencing
Guidelines.
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In criminal tax cases, the IRS is the victim to whom
restitution is due.\1298\ The amount of restitution is intended
to compensate the IRS for the tax losses that arose from the
charges, including interest. Because restitution is limited to
the actual loss that the victim suffered,\1299\ it does not
include civil penalties. The amount to be paid is determined by
the court, after a presentencing report is prepared by the
probation office. The process by which restitution for a tax
crime is collected is shared by the court that ordered
restitution, the Financial Litigation Unit of the local U. S.
Attorney's Office, and the IRS, working through Criminal
Investigation and the Small-Business/Self-Employed Operating
Division. The order of restitution gives rise to a lien, which
may be filed and is entitled to the same priority as a Federal
tax lien.\1300\ Payments are made to the Financial Litigation
Unit, which reports them to the Court and transfers the funds
to the IRS. Return information from taxpayer delinquent account
files of the defendant may be provided to a U.S. Probation
Officer for the purpose of informing the court of noncompliance
with the terms of the taxpayer's sentence or restitution
order.\1301\
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\1298\ United States v. Leahy, 464 F.3d 773 (7th Cir. 2006); United
States v. Ekanem, 383 F.3d 40 (2d Cir. 2004).
\1299\ Dept. of Justice Criminal Tax Manual, par. 44.03 explains
that in determining the principle amount to be paid as restitution, the
court may include an amount representing pre-judgment interest to
compensate for the failure to pay the tax when due under the Code,
citing United States v. Gordon, 393 F. 3d 1044, 1057 (9th Cir. 2004);
United States v. Helmsley, 941 F.2d 71 (2d Cir. 1991).
\1300\ 18 U.S.C. secs. 3613(c) and 3613(d).
\1301\ Sec. 6103(h)(4).
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Although the amount of restitution ordered is computed by
reference to the taxes that would have been owed but for the
criminal offenses charged, restitution is not itself a
determination of tax within the meaning of the Code and does
not provide a basis on which tax may be assessed. The IRS must
comply with the provisions of the Code to assess the proper
tax, which may exceed the amounts on which a prosecution
proceeded.\1302\ Because work on the civil aspects of
determining the tax liability is generally deferred until after
the conclusion of criminal proceedings, unless the Department
of Justice has agreed otherwise,\1303\ the IRS often has not
yet assessed the relevant civil tax liability at the time the
restitution is ordered. Thus, the IRS has no account receivable
against which the restitution payments can be credited. After
the tax and any penalties are properly determined and assessed,
either by agreement or at the conclusion of civil proceedings,
payments that were received in satisfaction of a restitution
order are applied to reduce the civil tax liability.\1304\
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\1302\ Morse v. United States, 419 F.3d 829 (8th Cir. 2005), held
that the criminal prosecution did not require proof of a specific tax
liability as an element of the crime, and therefore the government was
not estopped from pursuing civil proceedings to collect an amount
greater than any tax loss identified as part of the criminal sentence.
\1303\ IRS Policy Statement 4-26 (formerly P-4-84), in IRM par.
5.1.5.2, explains the extent to which civil and criminal investigations
may proceed in parallel. Once the IRS has referred a case and asked the
Department of Justice to prosecute, authority to resolve the
liabilities for the years that are the subject of the referral rests
exclusively with the Department of Justice. Sec. 7122(a).
\1304\ United States v. Helmsley, 941 F.2d 71 (2d Cir. 1991).
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Explanation of Provision
The provision allows the IRS and Treasury Department to
immediately assess, without issuing a statutory notice of
deficiency, and collect as a tax debt court-ordered
restitution. The taxpayer may not collaterally attack the
amount of restitution ordered by the court, but retains the
ability to challenge the method of collection.
Effective Date
The provision is effective for orders entered after date of
enactment (August 16, 2010).
C. Time for Payment of Corporate Estimated Taxes (sec. 4 of the Act and
sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\1305\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding taxable year):
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\1305\ Sec. 6655.
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(i) payments due in July, August, or September, 2014,
are increased to 174.25 percent of the payment
otherwise due; \1306\
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\1306\ Haiti Economic Lift Program of 2010, Pub. L. No. 111-171,
sec. 12(a); Health Care and Education Reconciliation Act of 2010, Pub
L. No. 111-152, sec. 1410; Hiring Incentives to Restore Employment Act,
Pub. L. No. 111-147, sec.561(1); Act to extend the Generalized System
of Preferences and the Andean Trade Preference Act, and for other
purposes, Pub. L. No. 111-124, sec. 4; Worker, Homeownership, and
Business Assistance Act of 2009, Pub. L. No. 111-92, sec. 18; Joint
resolution approving the renewal of import restrictions contained in
the Burmese Freedom and Democracy Act of 2003, and for other purposes,
Pub. L. No. 111-42, sec. 202(b)(1).
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(ii) payments due in July, August or September, 2015,
are increased to 123.00 percent of the payment
otherwise due; \1307\ and
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\1307\ United States Manufacturing Enhancement Act of 2010, Pub. L.
No. 111-227, sec. 4002; Joint resolution approving the renewal of
import restrictions contained in the Burmese Freedom and Democracy Act
of 2003, and for other purposes, Pub. L. No. 111-210; sec. 3; Haiti
Economic Lift Program of 2010, Pub. L. No. 111-171, sec. 12(b); Hiring
Incentives to Restore Employment Act, Pub. L. No. 111-147, sec. 561(2).
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(iii) payments due in July, August or September,
2019, are increased to 106.50 percent of the payment
otherwise due.\1308\
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\1308\ Hiring Incentives to Restore Employment Act, Pub. L. No.
111-147, sec. 561(3).
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For each of the periods impacted, the next required payment is
reduced accordingly.
Explanation of Provision \1309\
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\1309\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
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The provision increases the required payment of estimated
tax otherwise due in July, August, or September, 2015, by 0.25
percentage points.
Effective Date
The provision is effective on the date of enactment (August
16, 2010).
PART FOURTEEN: REVENUE PROVISIONS OF THE SMALL BUSINESS JOBS ACT OF
2010 (PUBLIC LAW 111-240) \1310\
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\1310\ H.R. 5297. The House Committee on Ways and Means reported
H.R. 4849 on March 19, 2010 (H.R. Rep. 111-447). The House passed H.R.
4849 on March 24, 2010. The House passed H.R. 5297 on June 17, 2010.
The Senate passed H.R. 5297 with an amendment on September 16, 2010. On
September 23, 2010, the House agreed to the Senate amendment. The
President signed the bill on September 27, 2010. For a technical
explanation of the bill prepared by the staff of the Joint Committee on
Taxation, see Technical Explanation of the Tax Provisions in Senate
Amendment 4594 to H.R. 5297, the ``Small Business Jobs Act of 2010,''
Scheduled for Consideration by the United States Senate on September
16, 2010 (JCX-47-10), September 16, 2010.
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I. SMALL BUSINESS RELIEF
A. Providing Access to Capital
1. Temporary exclusion of 100 percent of gain on certain small business
stock (sec. 2011 of the Act and sec. 1202 of the Code)
Present Law
In general
Individuals generally may exclude 50 percent (60 percent
for certain empowerment zone businesses) of the gain from the
sale of certain small business stock acquired at original issue
and held for at least five years.\1311\ The amount of gain
eligible for the exclusion by an individual with respect to any
corporation is the greater of (1) ten times the taxpayer's
basis in the stock or (2) $10 million. To qualify as a small
business, when the stock is issued, the gross assets of the
corporation may not exceed $50 million. The corporation also
must meet certain active trade or business requirements.
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\1311\ Sec. 1202.
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The portion of the gain includible in taxable income is
taxed at a maximum rate of 28 percent under the regular
tax.\1312\ A percentage of the excluded gain is an alternative
minimum tax preference; \1313\ the portion of the gain
includible in alternative minimum taxable income is taxed at a
maximum rate of 28 percent under the alternative minimum tax.
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\1312\ Sec. 1(h).
\1313\ Sec. 57(a)(7). In the case of qualified small business
stock, the percentage of gain excluded from gross income which is an
alternative minimum tax preference is (i) seven percent in the case of
stock disposed of in a taxable year beginning before 2011; (ii) 42
percent in the case of stock acquired before January 1, 2001, and
disposed of in a taxable year beginning after 2010; and (iii) 28
percent in the case of stock acquired after December 31, 2000, and
disposed of in a taxable year beginning after 2010.
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Gain from the sale of qualified small business stock
generally is taxed at effective rates of 14 percent under the
regular tax \1314\ and (i) 14.98 percent under the alternative
minimum tax for dispositions before January 1, 2011; (ii) 19.88
percent under the alternative minimum tax for dispositions
after December 31, 2010, in the case of stock acquired before
January 1, 2001; and (iii) 17.92 percent under the alternative
minimum tax for dispositions after December 31, 2010, in the
case of stock acquired after December 31, 2000.\1315\
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\1314\ The 50 percent of gain included in taxable income is taxed
at a maximum rate of 28 percent.
\1315\ The amount of gain included in alternative minimum tax is
taxed at a maximum rate of 28 percent. The amount so included is the
sum of (i) 50 percent (the percentage included in taxable income) of
the total gain and (ii) the applicable preference percentage of the
one-half gain that is excluded from taxable income.
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Temporary increase in exclusion
The percentage exclusion for qualified small business stock
acquired after February 17, 2009, and before January 1, 2011,
is increased to 75 percent. As a result of the increased
exclusion, gain from the sale of this qualified small business
stock held at least five years is taxed at effective rates of
seven percent under the regular tax \1316\ and 12.88 percent
under the alternative minimum tax.\1317\
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\1316\ The 25 percent of gain included in taxable income is taxed
at a maximum rate of 28 percent.
\1317\ The 46 percent of gain included in alternative minimum tax
is taxed at a maximum rate of 28 percent. Forty-six percent is the sum
of 25 percent (the percentage of total gain included in taxable income)
plus 21 percent (the percentage of total gain which is an alternative
minimum tax preference).
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Reasons for Change
The Congress believes that increasing the exclusion of gain
for small business stock will encourage new and additional
investment in small businesses. Access to additional capital
will help these small businesses expand and create jobs.
Explanation of Provision \1318\
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\1318\ The provision was subsequently amended by section 760 of the
Tax Relief, Unemployment Insurance Reauthorization, and Job Creation
Act of 2010, Pub. L. No. 111-312, described in Part Sixteen.
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Under the provision, the percentage exclusion for qualified
small business stock acquired during 2010 is increased to 100
percent and the minimum tax preference does not apply. Thus, no
regular tax or alternative minimum tax is imposed on the sale
of this stock held at least five years.
Effective Date
The provision is effective for stock issued after the date
of enactment (September 27, 2010) and before January 1, 2011.
2. Five-year carryback of general business credit of eligible small
business (sec. 2012 of the Act and sec. 39 of the Code)
Present Law
The general business credit generally may not exceed the
excess of the taxpayer's net income tax over the greater of the
taxpayer's tentative minimum tax or 25 percent of so much of
the taxpayer's net regular tax liability as exceeds
$25,000.\1319\ General business credits in excess of this
limitation may be carried back one year and forward up to 20
years.\1320\
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\1319\ Sec. 38(c). The general business credit is the sum of the
credits allowed under sec. 38(b).
\1320\ Sec. 39.
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Explanation of Provision
The provision extends the carryback period for eligible
small business credits from one to five years. Under the
provision, eligible small business credits are defined as the
sum of the general business credits determined for the taxable
year with respect to an eligible small business. An eligible
small business is, with respect to any taxable year, a
corporation, the stock of which is not publicly traded, or a
partnership which meets the gross receipts test of section
448(c), substituting $50 million for $5 million each place it
appears.\1321\ In the case of a sole proprietorship, the gross
receipts test is applied as if it were a corporation. Credits
determined with respect to a partnership or S corporation are
not treated as eligible small business credits by a partner or
shareholder unless the partner or shareholder meets the gross
receipts test for the taxable year in which the credits are
treated as current year business credits.
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\1321\ For example, a calendar year corporation meets the $50
million gross receipts test for the 2010 taxable year, if as of January
1, 2010, its average annual gross receipts for the 3-taxable-year
period ending December 31, 2009, does not exceed $50 million. The
aggregation and special rules under sections 448(c)(2) and (3) apply in
applying the test.
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Effective Date
The provision is effective for credits determined in the
taxpayer's first taxable year beginning after December 31,
2009.
3. General business credit of eligible small business not subject to
alternative minimum tax (sec. 2013 of the Act and sec. 38 of
the Code)
Present Law
For any taxable year, the general business credit, which is
the sum of the various business credits, generally may not
exceed the excess of the taxpayer's net income tax over the
greater of the taxpayer's tentative minimum tax or 25 percent
of so much of the taxpayer's net regular tax liability as
exceeds $25,000. Any general business credit in excess of this
limitation may be carried back one year and forward up to 20
years. The tentative minimum tax is an amount equal to
specified rates of tax imposed on the excess of the alternative
minimum taxable income over an exemption amount. However, in
applying the tax liability limitation to certain specified
credits that are part of the general business credit, the
tentative minimum tax is treated as being zero.\1322\ Thus, the
specified credits may offset both regular and alternative
minimum tax liability.
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\1322\ See section 38(c)(4)(B) for a list of the specified credits.
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Explanation of Provision
The Act provides that the tentative minimum tax is treated
as being zero for eligible small business credits. Thus, an
eligible small business credit may offset both regular and
alternative minimum tax liability. Under the provision,
eligible small business credits are defined as the sum of the
general business credits determined for the taxable year with
respect to an eligible small business. An eligible small
business is, with respect to any taxable year, a corporation,
the stock of which is not publicly traded, or a partnership,
which meets the gross receipts test of section 448(c),
substituting $50 million for $5 million each place it
appears.\1323\ In the case of a sole proprietorship, the gross
receipts test is applied as if it were a corporation. Credits
determined with respect to a partnership or S corporation are
not treated as eligible small business credits by a partner or
shareholder unless the partner or shareholder meets the gross
receipts test for the taxable year in which the credits are
treated as current year business credits.
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\1323\ For example, a calendar year corporation meets the $50
million gross receipts test for the 2010 taxable year, if as of January
1, 2010, if its average annual gross receipts for the 3-taxable-year
period ending December 31, 2009, does not exceed $50 million. The
aggregation and special rules under sections 448(c)(2) and (3) apply
for purposes of the test.
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Effective Date
The proposal is effective for credits determined in a
taxpayer's first taxable year beginning after December 31,
2009.
4. Temporary reduction in recognition period for S corporation built-in
gains tax (sec. 2014 of the Act and sec. 1374 of the Code)
Present Law
A ``small business corporation'' (as defined in section
1361(b)) may elect to be treated as an S corporation. Unlike C
corporations, S corporations generally pay no corporate-level
tax. Instead, items of income and loss of an S corporation pass
though to its shareholders. Each shareholder takes into account
separately its share of these items on its individual income
tax return.\1324\
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\1324\ Sec. 1366.
---------------------------------------------------------------------------
A corporate level tax, at the highest marginal rate
applicable to corporations (currently 35 percent) is imposed on
an S corporation's gain that arose prior to the conversion of
the C corporation to an S corporation and is recognized by the
S corporation during the recognition period, i.e., the 10-year
period beginning with the first day of the first taxable year
for which the S election is in effect.\1325\ For any taxable
year beginning in 2009 and 2010, no tax is imposed on an S
corporation under section 1374 if the seventh taxable year in
the corporation's recognition period preceded such taxable
year.\1326\ Thus, with respect to gain that arose prior to the
conversion of a C corporation to an S corporation, for taxable
years beginning in 2009 and 2010, no tax is imposed under
section 1374 after the seventh taxable year the S corporation
election is in effect.
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\1325\ Sec. 1374(d)(7)(A). The 10-year period refers to ten
calendar years from the first day of the first taxable year for which
the corporation was an S corporation.
\1326\ Sec. 1374(d)(7)(B).
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The built-in gains tax also applies to gains with respect
to net recognized built-in gain attributable to property
received by an S corporation from a C corporation in a
carryover basis transaction.\1327\ In the case of built-in gain
attributable to an asset received by an S corporation from a C
corporation in a carryover basis transaction, the recognition
period rules are applied by substituting the date such asset
was acquired by the S corporation in lieu of the beginning of
the first taxable year for which the corporation was an S
corporation.\1328\
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\1327\ Sec. 1374(d)(8). With respect to such assets, the
recognition period runs from the day on which such assets were acquired
(in lieu of the beginning of the first taxable year for which the
corporation was an S corporation). Sec. 1374(d)(8)(B).
\1328\ Shareholders continue to take into account all items of gain
and loss under section 1366.
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Gains recognized in the recognition period are not built-in
gains to the extent they are shown to have arisen while the S
election was in effect or are offset by recognized built-in
losses. The amount of the built-in gains tax is treated as a
loss taken into account by the shareholders in computing their
individual income tax.\1329\
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\1329\ Sec. 1366(f)(2).
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Explanation of Provision
For taxable years beginning in 2011, the provision provides
that for purposes of computing the built-in gains tax, the
``recognition period'' is the five-year period \1330\ beginning
with the first day of the first taxable year for which the
corporation was an S corporation.
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\1330\ The five-year period refers to five calendar years from the
first day of the first taxable year for which the corporation was an S
corporation.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
B. Encouraging Investment
1. Increase and expand expensing of certain depreciable business assets
(sec. 2021 of the Act and sec. 179 of the Code)
Present Law
A taxpayer that satisfies limitations on annual investment
may elect under section 179 to deduct (or ``expense'') the cost
of qualifying property, rather than to recover such costs
through depreciation deductions.\1331\ For taxable years
beginning in 2010, the maximum amount that a taxpayer may
expense is $250,000 of the cost of qualifying property placed
in service for the taxable year. The $250,000 amount is reduced
(but not below zero) by the amount by which the cost of
qualifying property placed in service during the taxable year
exceeds $800,000.\1332\ In general, qualifying property is
defined as depreciable tangible personal property that is
purchased for use in the active conduct of a trade or business.
Off-the-shelf computer software placed in service in taxable
years beginning before 2011 is treated as qualifying property.
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\1331\ Additional section 179 incentives are provided with respect
to qualified property meeting applicable requirements that is used by a
business in an enterprise zone (sec. 1397A), a renewal community (sec.
1400J), or the Gulf Opportunity Zone (sec. 1400N(e)).
\1332\ The temporary $250,000 and $800,000 amounts were enacted in
the Economic Stimulus Act of 2008, Pub. L. No. 110-185, extended for
taxable years beginning in 2009 by the American Recovery and
Reinvestment Act of 2009, Pub. L. No. 111-5, and extended for taxable
years beginning in 2010 by the Hiring Incentives to Restore Employment
Act of 2010, Pub. L. No. 111-147.
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For taxable years beginning in 2011 and thereafter, a
taxpayer with a sufficiently small amount of annual investment
may elect to deduct up to $25,000 of the cost of qualifying
property placed in service for the taxable year. The $25,000
amount is reduced (but not below zero) by the amount by which
the cost of qualifying property placed in service during the
taxable year exceeds $200,000. The $25,000 and $200,000 amounts
are not indexed. In general, qualifying property is defined as
depreciable tangible personal property that is purchased for
use in the active conduct of a trade or business (not including
off-the-shelf computer software).
The amount eligible to be expensed for a taxable year may
not exceed the taxable income for a taxable year that is
derived from the active conduct of a trade or business
(determined without regard to this provision). Any amount that
is not allowed as a deduction because of the taxable income
limitation may be carried forward to succeeding taxable years
(subject to similar limitations). No general business credit
under section 38 is allowed with respect to any amount for
which a deduction is allowed under section 179. An expensing
election is made under rules prescribed by the Secretary.\1333\
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\1333\ Sec. 179(c)(1).
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Explanation of Provision
The provision increases the maximum amount a taxpayer may
expense under section 179 to $500,000 and increases the phase-
out threshold amount to $2 million for taxable years beginning
in 2010 and 2011.\1334\ Thus, the provision provides that the
maximum amount a taxpayer may expense, for taxable years
beginning after 2009 and before 2012, is $500,000 of the cost
of qualifying property placed in service for the taxable year.
The $500,000 amount is reduced (but not below zero) by the
amount by which the cost of qualifying property placed in
service during the taxable year exceeds $2 million.
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\1334\ The provision was modified and extended for taxable years
beginning in 2012 by section 402 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010, Pub. L. No.
111-312, described in Part Sixteen.
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The provision permits a taxpayer to elect to temporarily
expand the definition of property qualifying for section 179 to
include certain real property--specifically, qualified
leasehold improvement property, qualified restaurant property,
and qualified retail improvement property--purchased by the
taxpayer.\1335\ The maximum amount with respect to real
property that may be expensed under the proposal is
$250,000.\1336\ In addition, section 179 deductions
attributable to qualified real property that are disallowed
under the trade or business income limitation may only be
carried over to taxable years in which the definition of
eligible section 179 property includes qualified real property.
Thus under the provision, if a taxpayer's section 179 deduction
for 2010 with respect to qualified real property is limited by
the taxpayer's active trade or business income, such disallowed
amount may be carried over to 2011 in the manner under present
law. Any such amounts that are not used in 2011, plus any 2011
disallowed section 179 deductions attributable to qualified
real property, are treated as property placed in service in
2011 for purposes of computing depreciation. The carryover
amount from 2010 is considered placed in service on the first
day of the 2011 taxable year.\1337\
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\1335\ For purposes of the provision, qualified leasehold
improvement property has the meaning given such term under section
168(e)(6), qualified restaurant property has the meaning given such
term under section 168(e)(7) (and includes a building described in
section 168(e)(7)(A)(i) that is placed in service after December 31,
2009 and before January 1, 2012), and qualified retail improvement
property has the meaning given such term under section 168(e)(8)
(without regard to section 168(e)(8)(E)).
\1336\ For example, assume that during 2010, a company's only asset
purchases are section 179-eligible equipment costing $100,000 and
qualifying leasehold improvements costing $350,000. Assuming the
company has no other asset purchases during 2010, and is not subject to
the taxable income limitation, the maximum section 179 deduction the
company can claim for 2010 is $350,000 ($100,000 with respect to the
equipment and $250,000 with respect to the qualifying leasehold
improvements).
\1337\ For example, assume that during 2010, a company's only asset
purchases are section 179-eligible equipment costing $100,000 and
qualifying leasehold improvements costing $200,000. Assume the company
has no other asset purchases during 2010, and has a taxable income
limitation of $150,000. The maximum section 179 deduction the company
can claim for 2010 is $150,000, which is allocated pro rata between the
properties, such that the carryover to 2011 is allocated $100,000 to
the qualified leasehold improvements and $50,000 to the equipment.
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Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
2. Extend the additional first-year depreciation allowance (sec. 2022
of the Act and sec. 168(k) of the Code)
Present Law
In general
An additional first-year depreciation deduction is allowed
equal to 50 percent of the adjusted basis of qualified property
placed in service during 2008 and 2009 (2009 and 2010 for
certain longer-lived and transportation property).\1338\ The
additional first-year depreciation deduction is allowed for
both regular tax and alternative minimum tax purposes, but is
not allowed for purposes of computing earnings and profits. The
basis of the property and the depreciation allowances in the
year of purchase and later years are appropriately adjusted to
reflect the additional first-year depreciation deduction. In
addition, there are no adjustments to the allowable amount of
depreciation for purposes of computing a taxpayer's alternative
minimum taxable income with respect to property to which the
provision applies. The amount of the additional first-year
depreciation deduction is not affected by a short taxable year.
The taxpayer may elect out of additional first-year
depreciation for any class of property for any taxable year.
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\1338\ Sec. 168(k). The additional first-year depreciation
deduction is subject to the general rules regarding whether an item
must be capitalized under section 263 or section 263A.
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The interaction of the additional first-year depreciation
allowance with the otherwise applicable depreciation allowance
may be illustrated as follows. Assume that in 2009, a taxpayer
purchased new depreciable property and places it in
service.\1339\ The property's cost is $1,000, and it is five-
year property subject to the half-year convention. The amount
of additional first-year depreciation allowed is $500. The
remaining $500 of the cost of the property is depreciable under
the rules applicable to five-year property. Thus, 20 percent,
or $100, is also allowed as a depreciation deduction in 2009.
The total depreciation deduction with respect to the property
for 2009 is $600. The remaining $400 adjusted basis of the
property generally is recovered through otherwise applicable
depreciation rules.
---------------------------------------------------------------------------
\1339\ Assume that the cost of the property is not eligible for
expensing under section 179.
---------------------------------------------------------------------------
Property qualifying for the additional first-year
depreciation deduction must meet all of the following
requirements. First, the property must be (1) property to which
MACRS applies with an applicable recovery period of 20 years or
less; (2) water utility property (as defined in section
168(e)(5)); (3) computer software other than computer software
covered by section 197; or (4) qualified leasehold improvement
property (as defined in section 168(k)(3)).\1340\ Second, the
original use \1341\ of the property must commence with the
taxpayer after December 31, 2007.\1342\ Third, the taxpayer
must acquire the property within the applicable time period.
Finally, the property must be placed in service after December
31, 2007, and before January 1, 2010. An extension of the
placed in service date of one year (i.e., to January 1, 2011)
is provided for certain property with a recovery period of ten
years or longer and certain transportation property.\1343\
Transportation property is defined as tangible personal
property used in the trade or business of transporting persons
or property.
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\1340\ The additional first-year depreciation deduction is not
available for any property that is required to be depreciated under the
alternative depreciation system of MACRS. The additional first-year
depreciation deduction is also not available for qualified New York
Liberty Zone leasehold improvement property as defined in section
1400L(c)(2).
\1341\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\1342\ A special rule applies in the case of certain leased
property. In the case of any property that is originally placed in
service by a person and that is sold to the taxpayer and leased back to
such person by the taxpayer within three months after the date that the
property was placed in service, the property would be treated as
originally placed in service by the taxpayer not earlier than the date
that the property is used under the leaseback.
If property is originally placed in service by a lessor, such
property is sold within three months after the date that the property
was placed in service, and the user of such property does not change,
then the property is treated as originally placed in service by the
taxpayer not earlier than the date of such sale.
\1343\ Property qualifying for the extended placed in service date
must have an estimated production period exceeding one year and a cost
exceeding $1 million.
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The applicable time period for acquired property is (1)
after December 31, 2007, and before January 1, 2010, but only
if no binding written contract for the acquisition is in effect
before January 1, 2008, or (2) pursuant to a binding written
contract which was entered into after December 31, 2007, and
before January 1, 2010.\1344\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after December 31,
2007, and before January 1, 2010. Property that is
manufactured, constructed, or produced for the taxpayer by
another person under a contract that is entered into prior to
the manufacture, construction, or production of the property is
considered to be manufactured, constructed, or produced by the
taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first-year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before January 1,
2010, (``progress expenditures'') is eligible for the
additional first-year depreciation.\1345\
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\1344\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to January 1, 2008.
\1345\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to section 46(d)(3) as
in effect prior to the Tax Reform Act of 1986 apply.
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Property does not qualify for the additional first-year
depreciation deduction when the user of such property (or a
related party) would not have been eligible for the additional
first-year depreciation deduction if the user (or a related
party) were treated as the owner. For example, if a taxpayer
sells to a related party property that was under construction
prior to January 1, 2008, the property does not qualify for the
additional first-year depreciation deduction. Similarly, if a
taxpayer sells to a related party property that was subject to
a binding written contract prior to January 1, 2008, the
property does not qualify for the additional first-year
depreciation deduction. As a further example, if a taxpayer
(the lessee) sells property in a sale-leaseback arrangement,
and the property otherwise would not have qualified for the
additional first-year depreciation deduction if it were owned
by the taxpayer-lessee, then the lessor is not entitled to the
additional first-year depreciation deduction.
The limitation under section 280F on the amount of
depreciation deductions allowed with respect to certain
passenger automobiles is increased in the first year by $8,000
for automobiles that qualify (and for which the taxpayer does
not elect out of the additional first-year deduction). The
$8,000 increase is not indexed for inflation.
Explanation of Provision
The provision extends the additional first-year
depreciation deduction for one year to apply to qualified
property acquired and placed in service during 2010 (or placed
in service during 2011 for certain long-lived property and
transportation property).\1346\
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\1346\ The provision was temporarily expanded and extended for two
years generally through 2012 (through 2013 for certain longer-lived and
transportation property) by section 401 of the Tax Relief, Unemployment
Insurance Reauthorization, and Job Creation Act of 2010, Pub. L. No.
111-312, described in Part Sixteen of this document.
---------------------------------------------------------------------------
Effective Date
The provision applies to property placed in service in
taxable years ending after December 31, 2009.
3. Disregard bonus depreciation in computing percentage completion
(sec. 2023 of the Act and new sec. 460(c)(6) of the Code)
Present Law
Percentage-of-completion method
In general, in the case of a long-term contract, the
taxable income from the contract is determined under the
percentage-of-completion method.\1347\ Under such method, the
percentage of completion is determined by comparing costs
allocated to the contract and incurred before the end of the
taxable year with the estimated total contract costs. Costs
allocated to the contract typically include all costs
(including depreciation) that directly benefit or are incurred
by reason of the taxpayer's long-term contract activities. The
allocation of the costs to a contract is made in accordance
with regulations.\1348\
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\1347\ Sec. 460(a).
\1348\ Treas. Reg. sec. 1.460-5.
---------------------------------------------------------------------------
Additional first-year depreciation deduction (``bonus depreciation'')
A taxpayer is allowed to recover, through annual
depreciation deductions, the cost of certain property used in a
trade or business or for the production of income. The amount
of the depreciation deduction allowed with respect to tangible
property for a taxable year generally is determined under
MACRS. Under MACRS, different types of property generally are
assigned applicable recovery periods and depreciation methods.
The recovery periods applicable to most tangible personal
property (tangible property other than residential rental
property and nonresidential real property) range from three to
25 years. The depreciation methods generally applicable to
tangible personal property are the 200-percent and 150-percent
declining balance methods, switching to the straight-line
method for the taxable year in which the depreciation deduction
would be maximized.\1349\ In general, the recovery periods for
real property are 39 years for non-residential real property
and 27.5 years for residential rental property. The
depreciation method for real property is the straight-line
method.
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\1349\ For certain property, including tangible property used
predominantly outside of the United States, tax-exempt use property,
tax-exempt bond-financed property, and certain other property, the
MACRS ``alternative depreciation system'' of section 168(g) applies,
generally increasing recovery periods and requiring straight-line
depreciation.
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An additional first-year depreciation deduction is allowed
equal to 50 percent of the adjusted basis of qualified property
placed in service during 2008 and 2009 (2009 and 2010 for
certain longer-lived and transportation property),\1350\ and
for property placed in service in 2010 (2011 for certain
longer-lived and transportation property) under section 2022 of
the Act. The additional first-year depreciation deduction is
allowed for both regular tax and alternative minimum tax
purposes, but is not allowed for purposes of computing earnings
and profits. The basis of the property and the depreciation
allowances in the year of purchase and later years are
appropriately adjusted to reflect the additional first-year
depreciation deduction. In addition, there are no adjustments
to the allowable amount of depreciation for purposes of
computing a taxpayer's alternative minimum taxable income with
respect to property to which the provision applies. The amount
of the additional first-year depreciation deduction is not
affected by a short taxable year. The taxpayer may elect out of
additional first-year depreciation for any class of property
for any taxable year.
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\1350\ Sec. 168(k). The additional first-year depreciation
deduction is subject to the general rules regarding whether an item
must be capitalized under section 263 or section 263A.
---------------------------------------------------------------------------
Property qualifying for the additional first-year
depreciation deduction must meet all of the following
requirements. First, the property must be (1) property to which
MACRS applies with an applicable recovery period of 20 years or
less, (2) water utility property (as defined in section
168(e)(5)), (3) computer software other than computer software
covered by section 197, or (4) qualified leasehold improvement
property (as defined in section 168(k)(3)).\1351\ Second, the
original use \1352\ of the property must commence with the
taxpayer after December 31, 2007.\1353\ Third, the taxpayer
must purchase the property within the applicable time period.
Finally, the property must be placed in service after December
31, 2007, and before January 1, 2011. An extension of the
placed in service date of one year (i.e., to January 1, 2012)
is provided for certain property with a recovery period of ten
years or longer, and certain transportation property.\1354\
Transportation property is defined as tangible personal
property used in the trade or business of transporting persons
or property.
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\1351\ The additional first-year depreciation deduction is not
available for any property that is required to be depreciated under the
alternative depreciation system of MACRS. The additional first-year
depreciation deduction is also not available for qualified New York
Liberty Zone leasehold improvement property as defined in section
1400L(c)(2).
\1352\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\1353\ A special rule applies in the case of certain leased
property. In the case of any property that is originally placed in
service by a person and that is sold to the taxpayer and leased back to
such person by the taxpayer within three months after the date that the
property was placed in service, the property would be treated as
originally placed in service by the taxpayer not earlier than the date
that the property is used under the leaseback.
If property is originally placed in service by a lessor (including
by operation of section 168(k)(2)(D)(i)), such property is sold within
three months after the date that the property was placed in service,
and the user of such property does not change, then the property is
treated as originally placed in service by the taxpayer not earlier
than the date of such sale.
\1354\ Property qualifying for the extended placed in service date
must have an estimated production period exceeding one year and a cost
exceeding $1 million.
---------------------------------------------------------------------------
The applicable time period for acquired property is (1)
after December 31, 2008, and before January 1, 2011, but only
if no binding written contract for the acquisition is in effect
before January 1, 2010, or (2) pursuant to a binding written
contract which was entered into after December 31, 2008, and
before January 1, 2011.\1355\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after December 31,
2008, and before January 1, 2010. Property that is
manufactured, constructed, or produced for the taxpayer by
another person under a contract that is entered into prior to
the manufacture, construction, or production of the property is
considered to be manufactured, constructed, or produced by the
taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first-year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before January 1,
2011 (``progress expenditures'') is eligible for the additional
first-year depreciation.\1356\
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\1355\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to January 1, 2008.
\1356\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to section 46(d)(3) as
in effect prior to the Tax Reform Act of 1986 apply.
---------------------------------------------------------------------------
Property does not qualify for the additional first-year
depreciation deduction when the user of such property (or a
related party) would not have been eligible for the additional
first-year depreciation deduction if the user (or a related
party) were treated as the owner. In addition, the limitation
under section 280F on the amount of depreciation deductions
allowed with respect to certain passenger automobiles is
increased in the first year by $8,000 for automobiles that
qualify (and for which the taxpayer does not elect out of the
additional first-year deduction). The $8,000 increase is not
indexed for inflation.
Explanation of Provision
The Act provides that solely for purposes of determining
the percentage of completion under section 460(b)(1)(A), the
cost of qualified property is taken into account as a cost
allocated to the contract as if bonus depreciation had not been
enacted.\1357\ Qualified property is property otherwise
eligible for bonus depreciation that has a MACRS recovery
period of 7 years or less and that is placed in service after
December 31, 2009, and before January 1, 2011 (January 1, 2012,
in the case of property described in section 168(k)(2)(B)
\1358\ ).
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\1357\ For example, assume a calendar year taxpayer is required to
use the percentage-of-completion method to account for a long-term
contract during 2010. Assume further that during 2010 the taxpayer
purchases and places into service equipment with a cost basis of
$500,000 and MACRS recovery period of 5 years. The taxpayer uses the
equipment exclusively in performing its obligation under the contract.
In computing the percentage of completion under section 460(b)(1)(A),
the depreciation on the equipment (assuming a half-year convention)
taken into account as a cost allocated to the contract for 2010 is
$100,000 [$500,000/5*200%*.5]. The amount of the depreciation deduction
that may be claimed by the taxpayer in 2010 with respect to the
equipment is $300,000 [($500,000 * 50%) + (($500,000-(500,000*50%))/
5*200%*.5)].
\1358\ Sec. 168(k)(2)(B) generally applies to property having
longer production periods.
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Effective Date
The provision is effective for property placed in service
after December 31, 2009.
C. Promoting Entrepreneurship
1. Increase amount allowed as deduction for start-up expenditures (sec.
2031 of the Act and sec. 195 of the Code)
Present Law
Start-up expenditures
A taxpayer can elect to deduct up to $5,000 of start-up
expenditures in the taxable year in which the active trade or
business begins.\1359\ However, the $5,000 amount is reduced
(but not below zero) by the amount by which the cumulative cost
of start-up expenditures exceeds $50,000.\1360\ Start-up
expenditures that are not deductible in the year in which the
active trade or business begins are, at the taxpayer's
election, amortized over a 15-year period beginning with the
month the active trade or business begins.\1361\ Start-up
expenditures are amounts that would have been deductible as
trade or business expenses, had they not been paid or incurred
before business began, including amounts paid or incurred in
connection with (1) investigating the creation or acquisition
of an active trade or business, (2) creating an active trade or
business, or (3) any activity engaged in for profit and for the
production of income before the day on which the active trade
or business begins, in anticipation of such activity becoming
an active trade or business.\1362\
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\1359\ Sec. 195(b)(1)(A).
\1360\ Ibid.
\1361\ Sec. 195(b)(1)(B).
\1362\ Sec. 195(c).
---------------------------------------------------------------------------
Treasury regulations \1363\ provide that a taxpayer is
deemed to have made an election under section 195(b) to
amortize its start-up expenditures for the taxable year in
which the active trade or business to which the expenditures
relate begins. A taxpayer that chooses to forgo the deemed
election must clearly elect to capitalize its start-up
expenditures on its timely filed Federal income tax return for
the taxable year the active trade or business commences. The
election either to amortize or capitalize start-up expenditures
is irrevocable and applies to all start-up expenditures related
to the active trade or business.
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\1363\ Temp. Treas. Reg. sec. 1.195-1T(b).
---------------------------------------------------------------------------
Explanation of Provision
For taxable years beginning in 2010, the provision
increases the amount of start-up expenditures a taxpayer can
elect to deduct from $5,000 to $10,000 and increases the
deduction phase-out threshold such that the $10,000 is reduced
(but not below zero) by the amount by which the cumulative cost
of start-up expenditures exceeds $60,000.
Reasons for Change
Congress believes that increasing the amount of start-up
expenditures that a taxpayer can elect to deduct, rather than
requiring their amortization, may help encourage the formation
of new businesses.\1364\
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\1364\ H.R. Rep. No. 111-447.
---------------------------------------------------------------------------
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
D. Promoting Small Business Fairness
1. Limitation on penalty for failure to disclose certain information
(sec. 2041 of the Act and sec. 6707A of the Code)
Present Law
The reporting requirements of sections 6011 through 6112
create interlocking disclosure obligations for both taxpayers
and advisors. Each of these disclosure statutes has a parallel
penalty provision that enforces it. Prior to enactment of the
American Jobs Creation Act of 2004 (``AJCA''),\1365\ no penalty
was imposed on taxpayers who failed to disclose participation
in transactions subject to section 6011. For disclosures that
were due after enactment of that legislation, a strict
liability penalty under section 6707A applies to any failure to
disclose a reportable transaction.
---------------------------------------------------------------------------
\1365\ Pub. L. No. 108-357.
---------------------------------------------------------------------------
Regulations under section 6011 require a taxpayer to
disclose with its tax return certain information with respect
to each ``reportable transaction'' in which the taxpayer
participates.\1366\ A reportable transaction is defined as one
that the Secretary determines is required to be disclosed
because it is determined to have a potential for tax avoidance
or evasion.\1367\ There are five categories of reportable
transactions: listed transactions, confidential transactions,
transactions with contractual protection, certain loss
transactions and transactions of interest.\1368\
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\1366\ Treas. Reg. sec. 1.6011-4.
\1367\ Sec. 6707A(c)(1).
\1368\ Treas. Reg. sec. 1.6011-4(b)(2)-(6).
---------------------------------------------------------------------------
Transactions falling under the first and last categories of
reportable transactions are transactions that are described in
publications issued by the Treasury Department and identified
as one of these types of transaction. A listed transaction is
defined as a reportable transaction which is the same as, or
substantially similar \1369\ to, a transaction specifically
identified by the Secretary as a tax avoidance transaction for
purposes of the reporting disclosure requirements.\1370\ A
``transaction of interest'' is one that is the same as or
substantially similar to a transaction identified by the
Secretary as one about which the Secretary is concerned but
does not yet have sufficient knowledge to determine that the
transaction is abusive.\1371\
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\1369\ The regulations clarify that the term ``substantially
similar'' includes any transaction that is expected to obtain the same
or similar types of tax consequences and that is either factually
similar or based on the same or similar tax strategy. Further, the term
must be broadly construed in favor of disclosure. Treas. Reg. sec.
1.6011-4(c)(4).
\1370\ Sec. 6707A(c)(2).
\1371\ Treas. Reg. sec. 1.6011-4(b)(6).
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The other categories of reportable transactions are not
specifically identified in published guidance, but are defined
as classes of transactions sharing certain characteristics. In
general, a transaction is considered to be offered to a
taxpayer under conditions of confidentiality if an advisor who
is paid a minimum fee places a limitation on disclosure by the
taxpayer of the tax treatment or tax structure of the
transaction and the limitation on disclosure protects the
confidentiality of that advisor's tax strategies (irrespective
if such terms are legally binding).\1372\ A transaction
involves contractual protection if (1) the taxpayer has the
right to a full or partial refund of fees if the intended tax
consequences from the transaction are not sustained, or (2) the
fees are contingent on the intended tax consequences from the
transaction being sustained.\1373\ A reportable loss
transaction generally includes any transaction that results in
a taxpayer claiming a loss (under section 165) of at least (1)
$10 million in any single year or $20 million in any
combination of years by a corporate taxpayer or a partnership
with only corporate partners; (2) $2 million in any single year
or $4 million in any combination of years by all other
partnerships, S corporations, trusts, and individuals; or (3)
$50,000 in any single year for individuals or trusts if the
loss arises with respect to foreign currency translation
losses.\1374\ Treasury has announced its intention to add a
sixth category of reportable transactions, patented
transactions, but has not yet done so.\1375\
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\1372\ Treas. Reg. sec. 1.6011-4(b)(3).
\1373\ Treas. Reg. sec. 1.6011-4(b)(4).
\1374\ Treas. Reg. sec. 1.6011-4(b)(5).
\1375\ Prop. Treas. Reg. sec. 1.6011-4(b)(7), published September
26, 2007 (REG-129916-07).
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Section 6707A imposes a penalty for failure to comply with
the reporting requirements of 6011. A single reportable
transaction may have to be reported by multiple taxpayers in
connection with multiple tax returns. For example, a reportable
transaction entered into by a partnership may have to be
reported under section 6011 by both the partnership and its
partners.\1376\ The amount of the penalty due for each
taxpayer's failure to comply varies depending upon whether or
not the transaction is a listed transaction and whether the
relevant taxpayer is an individual. For listed transactions,
the maximum penalty is $100,000 for natural persons and
$200,000 for all other persons. For reportable transactions
other than listed transactions, the maximum penalty is $10,000
for natural persons and $50,000 for all other persons.
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\1376\ See, e.g., Treas. Reg. sec. 1.6011-4(c)(3)(ii), Example 2.
---------------------------------------------------------------------------
A public entity that is required to pay a penalty for an
undisclosed listed or reportable transaction must disclose the
imposition of the penalty in reports to the Securities and
Exchange Commission (``SEC'') for such periods specified by the
Secretary. Disclosure to the SEC applies without regard to
whether the taxpayer determines the amount of the penalty to be
material to the reports in which the penalty must appear, and
any failure to disclose such penalty in the reports is treated
as a failure to disclose a listed transaction. A taxpayer must
disclose a penalty in reports to the SEC once the taxpayer has
exhausted its administrative and judicial remedies with respect
to the penalty (or if earlier, when paid).\1377\ However, the
taxpayer is only required to report the penalty one time. A
public entity that is subject to a gross valuation misstatement
penalty under section 6662(h) attributable to a non-disclosed
listed transaction or non-disclosed reportable avoidance
transaction may also be required to make disclosures in its SEC
filings.\1378\
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\1377\ Sec. 6707A(e).
\1378\ Sec. 6707A(e)(2)(C); Rev. Proc. 2005-51, 2005-2 CB 296.
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For reportable transactions other than listed transactions,
the Commissioner of the Internal Revenue (``Commissioner'') or
his delegate can rescind (or abate) the penalty only if
rescinding the penalty would promote compliance with the tax
laws and effective tax administration.\1379\ The decision to
rescind a penalty must be accompanied by a record describing
the facts and reasons for the action and the amount rescinded.
Determinations by the Commissioner regarding rescission are not
subject to judicial review.\1380\ The Internal Revenue Service
(``IRS'') also is required to submit an annual report to
Congress summarizing the application of the disclosure
penalties and providing a description of each penalty rescinded
under this provision and the reasons for the rescission. The
section 6707A penalty cannot be waived with respect to a listed
transaction.
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\1379\ In determining whether to rescind (or abate) the penalty for
failing to disclose a reportable transaction on the grounds that doing
so would promote compliance with the tax laws and effective tax
administration, it is intended that the Commissioner take into account
whether: (1) the person on whom the penalty is imposed has a history of
complying with the tax laws; (2) the violation is due to an
unintentional mistake of fact; and (3) imposing the penalty would be
against equity and good conscience.
\1380\ This does not limit the ability of a taxpayer to challenge
whether a penalty is appropriate (e.g., a taxpayer may litigate the
issue of whether a transaction is a reportable transaction (and thus
subject to the penalty if not disclosed) or not a reportable
transaction (and thus not subject to the penalty)).
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The section 6707A penalty is assessed in addition to any
accuracy-related penalties. If the taxpayer does not adequately
disclose a reportable transaction, the strengthened reasonable
cause exception to the accuracy-related penalty is not
available, and the taxpayer is subject to an increased penalty
equal to 30 percent of the understatement.\1381\ However, a
taxpayer will be treated as having adequately disclosed a
transaction for this purpose if the Commissioner has separately
rescinded the separate penalty under section 6707A for failure
to disclose a reportable transaction.\1382\ The Commissioner is
authorized to do this only if the failure does not relate to a
listed transaction and only if rescinding the penalty would
promote compliance and effective tax administration.\1383\
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\1381\ Sec. 6662A(c).
\1382\ Sec. 6664(d).
\1383\ Sec. 6707A(d).
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Reasons for Change
At the time that this penalty was enacted in 2004, Congress
believed that a penalty for failing to make the required
disclosures, when the imposition of such penalty is not
dependent on the tax treatment of the underlying transaction
ultimately being sustained, would provide an additional
incentive for taxpayers to satisfy their reporting obligations
under the new disclosure provisions.\1384\ In the years since
enactment, the Congress has learned that this penalty is very
often applicable to small businesses and individuals in amounts
that exceed the tax savings claimed on these returns, if any.
These taxpayers often were not advised that the transactions
are reportable to the IRS. In her annual report,\1385\ the
National Taxpayer Advocate informed Congress that the penalties
cause unconscionable hardship on taxpayers as there are
individuals facing bankruptcy and loss of a business as a
result of the magnitude of the penalty for failure to disclose
a reportable transaction. The statute allows penalties of up to
$300,000 per year on taxpayers with no underpayment of tax and
no knowledge that they entered into a transaction required to
be reported. Such individuals generally invested in
transactions (often a pension plan) that were required to be
disclosed through their small businesses often organized as
pass-through entities and claimed benefits for several years.
Thus, once the IRS determined that the transaction should have
been reported, the penalties applied to both the small business
and the owner over several years, which resulted in some
penalties exceeding over $1 million. The Congress believes that
it is appropriate to provide a mechanism for establishing a
penalty amount that will be proportionate to the misconduct to
be penalized, without discouraging compliance with the
requirement to disclose reportable transactions.
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\1384\ See, ``Reasons for Change'' in discussion of section 811 of
the American Jobs Creation Act of 2004 (``AJCA''), Pub. L. No. 108-357,
p. 361 of the Joint Committee on Taxation, General Explanation of Tax
Legislation Enacted in the 108th Congress (JCS-5-05), May 2005.
\1385\ See, discussion of ``Legislative Recommendations with
Legislative Action: Modify Internal Revenue Code Section 6707A to
Ameliorate Unconscionable Impact,'' Vol. 1 National Taxpayer Advocate
2008 Annual Report to Congress, p. 419.
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Explanation of Provision
The provision changes the general rule for determining the
amount of the applicable penalty to achieve proportionality
between the penalty and the tax savings that were the object of
the transaction, retains the current penalty amounts as the
maximum penalty that may be imposed, and establishes a minimum
penalty.
First, it provides a general rule that a participant in a
reportable transaction who fails to disclose the reportable
transaction as required under section 6011 is subject to a
penalty equal to 75 percent of the reduction in tax reported on
the participant's income tax return as a result of
participation in the transaction, or that would result if the
transaction were respected for federal tax purposes. Regardless
of the amount determined under the general rule, the penalty
for each such failure may not exceed certain maximum amounts.
The maximum annual penalty that a taxpayer may incur for
failing to disclose a particular reportable transaction other
than a listed transaction is $10,000 in the case of a natural
person and $50,000 for all other persons. The maximum annual
penalty that a taxpayer may incur for failing to disclose a
listed transaction is $100,000 in the case of a natural person
and $200,000 for all other persons.
The provision also establishes a minimum penalty with
respect to failure to disclose a reportable or listed
transaction. That minimum penalty is $5,000 for natural persons
and $10,000 for all other persons.
The following examples illustrate the operation of the
maximum and minimum penalties with respect to a partnership or
a corporation. First, assume that two individuals participate
in a listed transaction through a partnership formed for that
purpose. Both partners, as well as the partnership, are
required to disclose the transaction. All fail to do so. The
failure by the partnership to disclose its participation in a
listed or otherwise reportable transaction is subject to the
minimum penalty of $10,000, because income tax liability is not
incurred at the partnership level nor reported on a partnership
return. The individual partners in such partnership who also
failed to comply with the reporting requirements of section
6011 are each subject to a penalty of no less than $5,000 and
no more than $100,000, based on the reduction in tax reported
on their respective returns.
In the second example, assume that a corporation
participates in a single listed transaction over the course of
three taxable years. The decrease in tax shown on the corporate
returns is $1 million in the first year, $100,000 in the second
year, and $10,000 in the third year. If the corporation fails
to disclose the listed transaction in all three years, the
corporation is subject to three separate penalties: a penalty
of $200,000 in the first year (as a result of the cap on
penalties), a $75,000 penalty in the second year (computed
under the general rule) and a $10,000 penalty in the third year
(as a result of the minimum penalty) for total penalties of
$285,000.
Effective Date
The provision applies to all penalties assessed under
section 6707A after December 31, 2006.
2. Temporary deduction for health insurance costs in computing self-
employment income (sec. 2042 of the Act and sec. 162(l) of the Code)
Present Law
Deduction for health insurance premiums of self-employed individuals
In calculating adjusted gross income for income tax
purposes, self-employed individuals may deduct the cost of
health insurance for themselves and their spouses, dependents,
and any children who have not attained age 27 as of the end of
the taxable year.\1386\ The deduction is not available for any
month in which the self-employed individual is eligible to
participate in an employer-subsidized health plan (maintained
by the employer of the taxpayer or the taxpayer's spouse).
Moreover, the deduction may not exceed the earned income
(within the meaning of section 401(c)(2)) derived by the self-
employed individual from the trade or business with respect to
which the plan providing the health insurance coverage is
established.\1387\ The deduction applies only to the cost of
insurance (i.e., it does not apply to out-of-pocket expenses
that are not reimbursed by insurance).
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\1386\ Sec. 162(l)(1). See Notice 2010-38 for a discussion of the
deduction for children who have not attained age 27 as of the end of
the taxable year.
\1387\ Sec. 162(l)(2).
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Self-Employment Contributions Act tax
The Self-Employment Contributions Act (``SECA'') imposes
taxes on the net earnings from self-employment of self-employed
individuals (``self-employment income''). The tax is composed
of two parts: (1) the old age, survivors, and disability
insurance (``OASDI'') tax; and (2) the hospital insurance
(``HI'') tax. The rate of the OASDI portion of SECA taxes is
equal to 12.4 percent of self-employment income and generally
applies to self-employment income up to the Federal Insurance
Contributions Act (``FICA'') taxable wage base ($106,800 in
2010). The rate of the HI portion is equal to 2.9 percent
\1388\ of self-employment income and there is no cap on the
amount of self-employment income to which the rate
applies.\1389\ The deduction allowable for the cost of health
insurance for the self-employed individual and the individual's
spouse, dependents, and children who have not attained age 27
as of the end of the taxable year for income taxes is not taken
into account in determining an individual's net earnings from
self-employment for purposes of SECA taxes.\1390\
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\1388\ Sec. 1401. However, under section 9015 of the Patient
Protection and Affordable Care Act, Pub. L. No. 111-148, for
remuneration and self-employment income received for taxable years
beginning after December 31, 2012, the HI tax under SECA is increased
by an additional tax of 0.9 percent on self-employment income received
in excess of a threshold amount. However, unlike the general 1.45
percent HI tax on self-employment income, this additional tax is on the
combined wages and self-employment income of the self-employed
individual and spouse, in the case of a joint return. The threshold
amount is $250,000 in the case of a joint return or surviving spouse,
$125,000 in the case of a married individual filing a separate return,
and $200,000 in any other case.
\1389\ For purposes of computing net earnings from self-employment,
taxpayers are permitted a deduction equal to the product of the
taxpayer's earnings (determined without regard to this deduction) and
one-half of the sum of the rates for OASDI (12.4 percent) and HI (2.9
percent), i.e., 7.65 percent of net earnings. This deduction reflects
the fact that the FICA rates apply to an employee's wages, which do not
include FICA taxes paid by the employer, whereas the self-employed
individual's net earnings are economically equivalent to an employee's
wages plus the employer share of FICA taxes.
\1390\ Sec. 162(l)(4).
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Explanation of Provision
Under the provision, the deduction for income tax purposes
allowed to self-employed individuals for the cost of health
insurance for themselves, their spouses, dependents, and
children who have not attained age 27 as of the end of the
taxable year is taken into account, and thus also allowed, in
calculating net earnings from self-employment for purposes of
SECA taxes.
It is intended that earned income within the meaning of
section 401(c)(2) be computed without regard to this deduction
for the cost of health insurance.\1391\ Thus, earned income for
purposes of the limitation applicable to the health insurance
deduction is computed without regard to this deduction.
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\1391\ A technical correction may be necessary so that the statute
reflects this intent.
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The provision only applies for the taxpayer's first taxable
year beginning after December 31, 2009.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
3. Remove cellular phones and similar telecommunications equipment from
the definition of listed property (sec. 2043 of the Act and sec. 280F
of the Code)
Present Law
Employer deduction
Property, including cellular telephones and similar
telecommunications equipment (hereinafter collectively ``cell
phones''), used in carrying on a trade or business is subject
to the general rules for deducting ordinary and necessary
expenses under section 162. Under these rules, a taxpayer may
properly claim depreciation deductions under the applicable
cost recovery rules for only the portion of the cost of the
property that is attributable to use in a trade or
business.\1392\ Similarly, the business portion of monthly
telecommunication service is generally deductible, subject to
capitalization rules, as an ordinary and necessary expense of
carrying on a trade or business.
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\1392\ Sec. 212 allows deductions for ordinary and necessary
expenses paid or incurred for the production or collection of income.
---------------------------------------------------------------------------
In the case of certain listed property, special rules
apply. Listed property generally is defined as (1) any
passenger automobile; (2) any other property used as a means of
transportation; (3) any property of a type generally used for
purposes of entertainment, recreation, or amusement; (4) any
computer or peripheral equipment; (5) any cellular telephone
(or other similar telecommunications equipment); \1393\ and (6)
any other property of a type specified in Treasury
regulations.\1394\
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\1393\ Cellular telephones (or other similar telecommunications
equipment) were added as listed property as in section 7643 of the
Omnibus Budget Reconciliation Act of 1989, Pub. L. No. 101-239.
\1394\ Sec. 280F(d)(4)(A).
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For listed property, no deduction is allowed unless the
taxpayer adequately substantiates the expense and business
usage of the property.\1395\ A taxpayer must substantiate the
elements of each expenditure or use of listed property,
including (1) the amount (e.g., cost) of each separate
expenditure and the amount of business or investment use, based
on the appropriate measure (e.g., mileage for automobiles), and
the total use of the property for the taxable period, (2) the
date of the expenditure or use, and (3) the business purposes
for the expenditure or use.\1396\ The level of substantiation
for business or investment use of listed property varies
depending on the facts and circumstances. In general, the
substantiation must contain sufficient information as to each
element of every business or investment use.\1397\
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\1395\ Sec. 274(d)(4).
\1396\ Temp. Treas. Reg. sec. 1.274-5T(b)(6).
\1397\ Temp. Treas. Reg. sec. 1.274-5T(c)(2)(ii)(C).
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With respect to the business use of listed property made
available by an employer for use by an employee, the employer
must substantiate that all or a portion of the use of the
listed property is by employees in the employer's trade or
business.\1398\ If any employee used the listed property for
personal use, the employer must substantiate that it included
an appropriate amount in the employee's income.\1399\ An
employer generally may rely on adequate records maintained and
retained by the employee or on the employee's own statement if
it is corroborated by other sufficient evidence, unless the
employer knows or has reason to know that the statement,
records, or other evidence are not accurate.\1400\
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\1398\ Temp. Treas. Reg. sec. 1.274-5T(e)(2)(i)(A).
\1399\ Ibid.
\1400\ Temp. Treas. Reg. sec. 1.274-5T(e)(2)(ii). In Notice 2009-
46, 2009-23 I.R.B. 1068, the Service requested comments regarding
several proposals to simplify the procedures for employers to
substantiate an employee's business use of certain employer-provided
telecommunications equipment (including cellular telephones).
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Cost recovery
A taxpayer is allowed to recover through annual
depreciation deductions the cost of certain property used in a
trade or business or for the production of income. The amount
of the depreciation deduction allowed with respect to tangible
property for a taxable year is determined under the modified
accelerated cost recovery system (``MACRS''). Under MACRS,
different types of property generally are assigned applicable
recovery periods and depreciation methods. The recovery periods
applicable to most tangible personal property range from three
to 25 years. The depreciation methods generally applicable to
tangible personal property are the 200-percent and 150-percent
declining balance methods, switching to the straight-line
method for the taxable year in which the taxpayer's
depreciation deduction would be maximized.
In the case of certain listed property, special
depreciation rules apply. First, if for the taxable year that
the property is placed in service the use of the property for
trade or business purposes does not exceed 50 percent of the
total use of the property, then the depreciation deduction with
respect to such property is determined under the alternative
depreciation system.\1401\ The alternative depreciation system
generally requires the use of the straight-line method and a
recovery period equal to the class life of the property.\1402\
Second, if an individual owns or leases listed property that is
used by the individual in connection with the performance of
services as an employee, no depreciation deduction, expensing
allowance, or deduction for lease payments is available with
respect to such use unless the use of the property is for the
convenience of the employer and required as a condition of
employment.\1403\
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\1401\ Sec. 280F(b)(1). If for any taxable year after the year in
which the property is placed in service the use of the property for
trade or business purposes decreases to 50 percent or less of the total
use of the property, then the amount of depreciation allowed in prior
years in excess of the amount of depreciation that would have been
allowed for such prior years under the alternative depreciation system
is recaptured (i.e., included in gross income) for such taxable year.
\1402\ Sec. 168(g).
\1403\ Sec. 280F(d)(3).
---------------------------------------------------------------------------
Explanation of Provision
The provision removes cell phones from the definition of
listed property. Thus, under the provision, the heightened
substantiation requirements and special depreciation rules that
apply to listed property do not apply to cell phones.\1404\
---------------------------------------------------------------------------
\1404\ The provision does not affect Treasury's authority to
determine the appropriate characterization of cell phones as a working
condition fringe benefit under section 132(d) or that the personal use
of such devices that are provided primarily for business purposes may
constitute a de minimis fringe benefit, the value of which is so small
as to make accounting for it administratively impracticable, under
section 132(e).
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Effective Date
The provision is effective for taxable years ending after
December 31, 2009.
II. REVENUE PROVISIONS
A. Reducing the Tax Gap
1. Information reporting for rental property expense payments (sec.
2101 of the Act and sec. 6041 of the Code)
Present Law
A variety of information reporting requirements apply under
present law.\1405\ The primary provision governing information
reporting by payors requires an information return by every
person engaged in a trade or business who makes payments to any
one payee aggregating $600 or more in any taxable year in the
course of that payor's trade or business.\1406\ Reportable
payments include compensation for both goods and services, and
may include gross proceeds. Certain enumerated types of
payments that are subject to other specific reporting
requirements are carved out of reporting under this general
rule.\1407\
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\1405\ Secs. 6031 through 6060.
\1406\ Sec. 6041(a). The information return is generally submitted
electronically as a Form 1096 and Form 1099, although certain payments
to beneficiaries or employees may require use of Forms W-3 and W-2,
respectively. Treas. Reg. sec. 1.6041-1(a)(2).
\1407\ Sec. 6041(a) requires reporting ``other than payments to
which section 6042(a)(1), 6044(a)(1), 6047(c), 6049(a) or 6050N(a)
applies and other than payments with respect to which a statement is
required under authority of section 6042(a), 6044(a)(2) or 6045[.]''
The payments thus excepted include most interest, royalties, and
dividends.
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One such regulatory exception carved out payments to
corporations,\1408\ but was expressly overridden by the
addition of new section 6041(h) by section 9006 of the Patient
Protection and Affordable Health Care Act (``PPACA'').\1409\
New section 6041(h) expanded information reporting requirements
to include gross proceeds paid in consideration for property
and to subject payments to corporations to all of the reporting
requirements under section 6041. The payor is required to
provide the recipient of the payment with an annual statement
showing the aggregate payments made and contact information for
the payor.\1410\ The regulations generally except from
reporting payments to exempt organizations, governmental
entities, international organizations, or retirement
plans.\1411\ Additionally, the requirement that businesses
report certain payments is not applicable to persons engaged in
a passive investment activity. Thus, a taxpayer whose rental
real estate activity is a trade or business is subject to this
reporting requirement, but a taxpayer whose rental real estate
activity is not considered a trade or business is not subject
to such requirement.
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\1408\ Treas. Reg. sec. 1.6041-3(p).
\1409\ Pub. L. No. 111-148, sec. 9006 (effective for payments made
after December 31, 2011).
\1410\ Sec. 6041(d). Specifically, the recipient of the payment is
required to provide a Form W-9 to the payor, which enables the payee to
provide the recipient of the payment with an annual statement showing
the aggregate payments made and contact information for the payor. If a
Form W-9 is not provided, the payor is required to ``backup withhold''
tax at a rate of 28 percent of the gross amount of the payment unless
the payee has otherwise established that the income is exempt from
backup withholding. The backup withholding tax may be credited by the
payee against regular income tax liability, i.e., it is effectively an
advance payment of tax, similar to the withholding of tax from wages.
This combination of reporting and backup withholding is designed to
ensure that U.S. persons pay an appropriate amount of tax with respect
to investment income, either by providing the IRS with the information
that it needs to audit payment of the tax or, in the absence of such
information, requiring collection of the tax on payment.
\1411\ Treas. Reg. sec. 1.6041-3(p).
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In addition, financial institutions are required to report
to both taxpayers and the IRS the amount of interest taxpayers
paid during the year on mortgages they held on their rental
properties.\1412\
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\1412\ Sec. 6050H. This information is provided on Form 1098.
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A person that fails to comply with the information
reporting requirements is subject to penalties, which may
include a penalty for failure to file the information
return,\1413\ for failure to furnish payee statements,\1414\ or
for failure to comply with other various reporting
requirements.\1415\
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\1413\ Sec. 6721.
\1414\ Sec. 6722.
\1415\ Sec. 6723. The penalty for failure to timely comply with a
specified information reporting requirement is $50 per failure, not to
exceed $100,000 for a calendar year.
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Reasons for Change
One of the principal methods of improving tax compliance is
to require information reporting by the third-party payor. The
Congress believes that requiring information reporting by
taxpayers receiving rental income and deducting expenses on
rental activities would improve tax compliance of both the
payor and the recipient by reducing opportunities for error and
fraud. If the payors are required to provide the IRS
information with respect to taxable payments, the recipients
are more likely to include the payment in income.\1416\ The
increased third-party reporting of payments to those who
provide services with respect to rental property will assist
such contractors in properly reporting their income.
---------------------------------------------------------------------------
\1416\ See http://www.irs.gov/pub/irs-news/tax_gap_figures.pdf.
---------------------------------------------------------------------------
Explanation of Provision
Under the provision, recipients of rental income from real
estate generally are subject to the same information reporting
requirements as taxpayers engaged in a trade or business. In
particular, rental income recipients making payments of $600 or
more to a service provider (such as a plumber, painter, or
accountant) in the course of earning rental income are required
to provide an information return (typically Form 1099-MISC) to
the IRS and to the service provider. Exceptions to this
reporting requirement are made for (i) individuals who rent
their principal residence on a temporary basis, including
members of the military or employees of the intelligence
community (as defined in section 121(d)(9)), (ii) individuals
who receive only minimal amounts of rental income, as
determined by the Secretary in accordance with regulations, and
(iii) individuals for whom the requirements would cause
hardship, as determined by the Secretary in accordance with
regulations.
Effective Date
The provision applies to payments made after December 31,
2010.
2. Increase in information return penalties (sec. 2102 of Act and secs.
6721 and 6722 of the Code)
Present Law
Present law imposes information reporting requirements on
participants in certain transactions. Under section 6721, any
person who is required to file a correct information return who
fails to do so on or before the prescribed filing date is
subject to a penalty that varies based on when, if at all, the
correct information return is filed. If a person files a
correct information return after the prescribed filing date but
on or before the date that is 30 days after the prescribed
filing date, the amount of the penalty is $15 per return (the
``first-tier penalty''), with a maximum penalty of $75,000 per
calendar year. If a person files a correct information return
after the date that is 30 days after the prescribed filing date
but on or before August 1, the amount of the penalty is $30 per
return (the ``second-tier penalty''), with a maximum penalty of
$150,000 per calendar year. If a correct information return is
not filed on or before August 1 of any year, the amount of the
penalty is $50 per return (the ``third-tier penalty''), with a
maximum penalty of $250,000 per calendar year. If a failure is
due to intentional disregard of a filing requirement, the
minimum penalty for each failure is $100, with no calendar year
limit.
Special lower maximum levels for this penalty apply to
small businesses. Small businesses are defined as firms having
average annual gross receipts for the most recent three taxable
years that do not exceed $5 million. The maximum penalties for
small businesses are: $25,000 (instead of $75,000) if the
failures are corrected on or before 30 days after the
prescribed filing date; $50,000 (instead of $150,000) if the
failures are corrected on or before August 1; and $100,000
(instead of $250,000) if the failures are not corrected on or
before August 1.
Section 6722 imposes penalties for failing to furnish
correct payee statements to taxpayers. The penalty amount is
$50 for each failure to furnish a payee statement, up to a
maximum of $100,000. If the failure is due to intentional
disregard, the amount of the penalty per failure is increased
\1417\ and the cap on the penalty is not applicable. In
addition, section 6723 imposes a penalty of $50 for failing to
comply with other information reporting requirements, up to a
maximum of $100,000.
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\1417\ Section 6722(c)(1) provides that the penalty per failure is
the greater of $100 or a fixed percentage of the aggregate items to be
shown on the payee statements. The fixed amount is 10 percent for
statements other than those required under sections 6045(b), 6041A(e),
6050H(d), 6050J(e), 6050K(b), or 6050L(c). The penalty is the greater
of $100 or five percent of the amount required to be shown on
statements required under sections 6045(b), 6050K(b) or 6050L(c).
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Reasons for Change
The amount of the penalties imposed for failure to file
information returns was last amended in 1989.\1418\ Since then,
the importance of reliable third-party information reporting to
the administration of the Code has greatly increased. The
Congress believes that it is important to increase the
penalties to ensure that they encourage compliance with the
reporting obligations.
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\1418\ The penalty was originally $50 for each failure, up to a
maximum of $100,000 per year, as enacted by section 150 of the Tax
Reform Act of 1986, Pub. L. No. 99-514. In 1989, the present penalty
amounts in three tiers were enacted. Section 7711 of the Omnibus Budget
Reconciliation Act of 1989, Pub. L. No. 101-239.
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Explanation of Provision
The provision amends section 6721 to increase the first-
tier penalty from $15 to $30, and increase the calendar year
maximum from $75,000 to $250,000. The second-tier penalty is
increased from $30 to $60, and the calendar year maximum is
increased from $150,000 to $500,000. The third-tier penalty is
increased from $50 to $100, and the calendar year maximum is
increased from $250,000 to $1,500,000. For small business
filers, the calendar year maximum is increased from $25,000 to
$75,000 for the first-tier penalty, from $50,000 to $200,000
for the second-tier penalty, and from $100,000 to $500,000 for
the third-tier penalty. The minimum penalty for each failure
due to intentional disregard is increased from $100 to $250.
The penalty for failure to furnish a payee statement is
revised to provide tiers and caps similar to those applicable
to the penalty for failure to file the information return. A
first-tier penalty is $30, subject to a maximum of $250,000; a
second-tier penalty is $60 per statement, up to $500,000, and
the third-tier penalty is $100, up to a maximum of $1,500,000.
The penalty is also amended to provide limitations on penalties
for small businesses and increased penalties for intentional
disregard that parallel the penalty for failure to furnish
information returns.
Both the failure to file and failure to furnish penalties
will be adjusted to account for inflation every five years with
the first adjustment to take place after 2012, effective for
each year thereafter.
Effective Date
The provision applies with respect to information returns
required to be filed on or after January 1, 2011.
3. Annual reports on penalties and certain other enforcement actions
(sec. 2103 of the Act)
Present Law
Transactions that have the potential for tax avoidance are
required to be disclosed by both the taxpayers who engage in
the transaction and the various professionals who provide
advice with respect to such transactions. Failure to comply
with the reporting and disclosure requirements may result in
assessment of penalties against both the taxpayer and material
advisor and the use of special enforcement measures.
Reporting obligations
These disclosure requirements \1419\ create interlocking
disclosure obligations for both taxpayers and advisors. A
taxpayer is required to disclose with its tax return certain
information with respect to each ``reportable transaction,'' as
defined in regulations.\1420\ Each advisor who provides
material advice with respect to any reportable transaction
(including any listed transaction) is required to file an
information return with the Secretary (in such form and manner
as the Secretary may prescribe).\1421\ Finally, the advisor is
required to maintain a list of those persons he has advised
with respect to a reportable transaction and to provide the
list to the IRS upon request.\1422\
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\1419\ Secs. 6011, 6111 and 6112.
\1420\ Treas. Reg. sec. 1.6011-4.
\1421\ Sec. 6111.
\1422\ Sec. 6112.
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A reportable transaction is defined as one that the
Secretary requires to be disclosed based on its potential for
tax avoidance or evasion.\1423\ There are five categories of
reportable transactions: listed transactions, confidential
transactions, transactions with contractual protection, certain
loss transactions and transactions of interest.\1424\
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\1423\ Sec. 6707A(c)(1) states that the term means ``any
transaction with respect to which information is required to be
included with a return or statement because, as determined under
regulations prescribed under section 6011, such transaction is of a
type which the Secretary determines as having a potential for tax
avoidance or evasion.'' Sections 6111(b)(2) and 6112 both define
``reportable transaction'' by reference to the definition in section
6707A(c). The definition of ``listed transaction'' similarly depends
upon identification of transactions by the Secretary as tax avoidance
transactions for purposes of section 6011.
\1424\ Treas. Reg. sec. 1.6011-4(b)(2)-(6).
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Penalties and other enforcement tools related to reportable
transactions
Each of the disclosure statutes has a parallel penalty
provision to aid enforcement. The taxpayer who participates in
a reportable transaction and fails to disclose it is subject to
a strict liability penalty.\1425\ The penalty is assessed in
addition to any accuracy-related penalties. It may be rescinded
with respect to reportable transactions other than listed
transactions. Rescission is discretionary and conditioned upon
a determination by the Commissioner that rescinding the penalty
would promote compliance and effective tax
administration.\1426\ The Code also imposes a penalty on any
material advisor who fails to file an information return, or
who files a false or incomplete information return, with
respect to a reportable transaction (including a listed
transaction). It may be rescinded, subject to limitations
similar to those applicable to rescission of the penalty
imposed on investors.\1427\ The IRS may also submit a written
request that a material advisor make available the list
required to be maintained under section 6112(a). A failure to
make the list available upon written request is subject to a
penalty of $10,000 per day for as long as the failure
continues, unless the advisor can establish reasonable cause
for the failure.\1428\
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\1425\ Section 6707A imposes a penalty for failure to comply with
the reporting requirements of section 6011. A single reportable
transaction may have to be reported by multiple taxpayers in connection
with multiple tax returns. For example, a reportable transaction
entered into by a partnership may have to be reported under section
6011 by both the partnership and its partners. The amount of the
penalty due for each taxpayer's failure to comply varies depending upon
whether or not the transaction is a listed transaction and whether the
relevant taxpayer is an individual. For listed transactions, the
maximum penalty is $100,000 for natural persons and $200,000 for all
other persons. For reportable transactions other than listed
transactions, the maximum penalty is $10,000 for natural persons and
$50,000 for all other persons. A public entity that is required to pay
a penalty for an undisclosed listed or reportable transaction must
disclose the imposition of the penalty in reports to the SEC for such
periods specified by the Secretary. Failure to comply with this
reporting requirement may result in assessment of a second tier
penalty.
\1426\ Sec. 6707A(d). In determining whether to rescind (or abate)
the penalty for failing to disclose a reportable transaction on the
grounds that doing so would promote compliance with the tax laws and
effective tax administration, it is intended that the Commissioner take
into account whether: (1) the person on whom the penalty is imposed has
a history of complying with the tax laws; (2) the violation is due to
an unintentional mistake of fact; and (3) imposing the penalty would be
against equity and good conscience.
\1427\ Section 6707 provides a penalty in the amount of $50,000. If
the penalty is with respect to a listed transaction, the amount of the
penalty is increased to the greater of (1) $200,000, or (2) 50 percent
of the gross income of such person with respect to aid, assistance, or
advice which is provided with respect to the transaction before the
date the information return that includes the transaction is filed.
Intentional disregard by a material advisor of the requirement to
disclose a listed transaction increases the penalty to 75 percent of
the gross income.
\1428\ Sec. 6708.
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In addition to the penalties that specifically address the
failure to comply with the disclosure and reporting
obligations, other special enforcement provisions are
applicable to reportable transactions. An understatement
arising from any listed transactions or from a reportable
transaction for which a significant purpose is avoidance or
evasion of Federal income tax will be subject to an accuracy-
related penalty,\1429\ unless the taxpayer can establish that
the failure was due to reasonable cause as determined under a
standard that is more stringent than that applicable to other
accuracy-related penalties.\1430\
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\1429\ Sec. 6662A.
\1430\ Sec. 6664(d).
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If the taxpayer does not adequately disclose a reportable
transaction, the strengthened reasonable cause exception is not
available and the taxpayer is subject to an increased penalty
equal to 30 percent of the understatement.\1431\ However, a
taxpayer will be treated as having adequately disclosed a
transaction for this purpose if the Commissioner has separately
rescinded the separate penalty under section 6707A for failure
to disclose a reportable transaction.\1432\ Finally, a new
exception to the statute of limitations provides that the
period is suspended if a listed transaction is not properly
disclosed.\1433\ If the transaction is disclosed either because
the taxpayer files the proper disclosure form or a material
advisor identifies the transaction to the IRS in a list
maintained under section 6112, the period will remain open for
at least one year from the earlier of date of the disclosure by
the investor or the disclosure by the material advisor with
respect to that transaction.
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\1431\ Sec. 6662A(c).
\1432\ Sec. 6664(d).
\1433\ Sec. 6501(c)(10).
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The Code authorizes civil actions to enjoin any person from
specified conduct relating to tax shelters or reportable
transactions.\1434\ The specified conduct includes failure to
comply with respect to the requirements relating to the
reporting of reportable transactions \1435\ and the keeping of
lists of investors by material advisors.\1436\ Thus, an
injunction may be sought against a material advisor to enjoin
the advisor from (1) failing to file an information return with
respect to a reportable transaction, or (2) failing to
maintain, or to timely furnish upon written request by the
Secretary, a list of investors with respect to each reportable
transaction. In addition, injunctions, monetary penalties and
suspension or disbarment are authorized with respect to
violations of any of the rules under Circular 230, which
regulates the practice of representatives of persons before the
Department of the Treasury.
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\1434\ Sec. 7408.
\1435\ Sec. 6707.
\1436\ Sec. 6708.
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Reports to Congress by the Secretary
The Secretary is required to maintain records and report on
the administration of the penalties for failure to disclose a
reportable transaction in two ways. First, each decision to
rescind a penalty imposed under section 6707 or section 6707A
must be memorialized in a record maintained in the Officer of
the Commissioner.\1437\ That record must include a description
of the facts and circumstances of the violation, the reasons
for the decision to rescind, and the amount rescinded. Second,
the IRS is required to submit an annual report to Congress on
the administration of the rescission authority under both
sections 6707 and 6707A. The information with respect to the
latter is to be in summary form, while the information on
rescission of penalties imposed against material advisors is to
be more detailed.\1438\ The report is not required to address
administration of the other enforcement tools described above.
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\1437\ Section 6707(c) incorporates by reference the provisions of
section 6707A(d), which details the extent of the Commissioner's
authority to rescind the penalty.
\1438\ AJCA provides:
``The Commissioner of Internal Revenue shall annually report to the
Committee on Ways and Means of the House of Representatives and the
Committee on Finance of the Senate--
``(1) a summary of the total number and aggregate amount of
penalties imposed, and rescinded, under section 6707A of the Internal
Revenue Code of 1986, and
``(2) a description of each penalty rescinded under section 6707(c)
of such Code and the reasons therefor.'' Pub. L. No. 108-357, Title
VIII, Subtitle B, Part I, 811(d), 118 Stat. 1577, Oct. 22, 2004.
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Reasons for Change
Since the enactment of a number of enforcement measures
intended to support IRS efforts to combat abusive tax avoidance
transactions, there has been little data available to determine
whether the measures have the desired effect. Congress believes
that an annual report on administrative experience with all of
the enforcement measures modified or added by AJCA will better
enable it to assess the efficacy of those measures.
Explanation of Provision
The provision requires that the IRS, in consultation with
the Secretary, submit an annual report on administration of
certain penalty provisions of the Code to the Committee on Ways
and Means of the House of Representatives and the Committee on
Finance of the Senate. A summary of penalties assessed the
preceding year is required. In addition, the Secretary must
report actions taken against practitioners appearing before the
Treasury or IRS with respect to a reportable transaction \1439\
and instances in which the IRS attempted to rely on the
exception to the limitations period for assessment based on
failure to disclose a listed transaction.\1440\ The penalties
that are subject to this reporting requirement are those
assessed in the preceding year with respect to (1) a
participant's failure to disclose a reportable
transaction,\1441\ (2) reportable transaction
understatements,\1442\ (3) promotion of abusive shelters,\1443\
(4) failure of a material advisor to furnish information on a
reportable transaction,\1444\ and (5) material advisors'
failure to maintain or produce a list of reportable
transactions.\1445\
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\1439\ 31 U.S.C. sec. 330(b) authorizes the Secretary to impose
sanctions on those who appear before the Department, including monetary
penalties and suspension or disbarment from practice before the
Department.
\1440\ Sec. 6501(c)(10) provides that the limitations period with
respect to tax attributable to a listed transaction shall not expire
less than one year after the required disclosure of that transaction is
furnished by the taxpayer or by the material advisor, whichever is
earlier.
\1441\ Sec. 6707A.
\1442\ Sec. 6662A.
\1443\ Sec. 6700.
\1444\ Sec. 6707.
\1445\ Sec. 6708.
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Effective Date
The first annual report is required to be submitted not
later than December 31, 2010.
4. Application of continuous levy to employment tax liability of
certain Federal contractors (sec. 2104 of the Act and sec. 6330
of the Code)
Present Law
In general
Levy is the IRS' administrative authority to seize a
taxpayer's property or rights to property to pay the taxpayer's
tax liability.\1446\ Generally, the IRS is entitled to seize a
taxpayer's property by levy if a Federal tax lien has attached
to such property,\1447\ and the IRS has provided both notice of
intention to levy \1448\ and notice of the right to an
administrative hearing (referred to as a collections due
process notice or ``CDP'' notice) \1449\ at least thirty days
before the levy is made. A Federal tax lien arises
automatically when: (1) a tax assessment has been made; (2) the
taxpayer has been given notice of the assessment stating the
amount and demanding payment; and (3) the taxpayer has failed
to pay the amount assessed within 10 days after the notice and
demand.\1450\
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\1446\ Sec. 6331(a). Levy specifically refers to the legal process
by which the IRS orders a third party to turn over property in its
possession that belongs to the delinquent taxpayer named in a notice of
levy.
\1447\ Sec. 6331(a).
\1448\ Sec. 6331(d).
\1449\ Sec. 6330. The administrative hearing is referred to as the
CDP hearing.
\1450\ Secs. 6321 and 6331(a).
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The 30-day pre-levy notice requirements, the taxpayer's
rights before, during, and following the CDP hearing, and the
Federal payment levy program are discussed below.
Pre-levy notice requirements
The notice of intent to levy and the CDP notice must
include a brief statement describing the following: (1) the
statutory provisions and procedures for levy; (2) the
administrative appeals available to the taxpayer; (3) the
alternatives available to avoid levy; and (4) the provisions
and procedures regarding redemption of levied property.\1451\
In addition, the collection due process notice must include the
following: (1) the amount of the unpaid tax; and (2) the right
to request a hearing during the 30-day period before the IRS
serves the levy.
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\1451\ Secs. 6330(a)(3) and 6331(d)(4). In practice, the notice of
intent to levy and the collections due process notice is provided
together in one document, Letter 1058, Final Notice, Notice of Intent
to Levy and Notice of Your Right to a Hearing. Chief Couns. Adv.
2009041 (November 28, 2008).
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Upon receipt of this information, the taxpayer may stay the
levy action by requesting in writing a hearing before the IRS
Appeals Office.\1452\ Otherwise, the IRS will levy to collect
the amount owed after expiration of 30 days from the notice.
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\1452\ Sec. 6330(b).
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The notice of intent to levy is not required if the
Secretary finds that collection would be jeopardized by delay.
The standard for determining whether jeopardy exists is similar
to the standard applicable in permitting the IRS to assess a
tax without following the normal deficiency procedures.\1453\
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\1453\ Secs. 6331(d)(3) and 6861.
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The CDP notice (and pre-levy CDP hearing) is not required
if the Secretary finds that collection would be jeopardized by
delay or the Secretary has served a levy on a State to collect
a Federal tax liability from a State tax refund. In addition, a
levy issued to collect Federal employment taxes is excepted
from the CDP notice and the pre-levy CDP hearing requirement if
the taxpayer subject to the levy requested a CDP hearing with
respect to unpaid employment taxes arising in the two-year
period before the beginning of the taxable period with respect
to which the employment tax levy is served. The taxpayer,
however, in each of these three cases, is provided an
opportunity for a hearing within a reasonable period of time
after the levy.\1454\
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\1454\ Sec. 6330(f).
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CDP hearing
At the CDP hearing, the taxpayer may present defenses to
collection as well as arguments disputing the merits of the
underlying tax debt if the taxpayer had no prior opportunity to
present such arguments.\1455\ In addition, the taxpayer is
required to be provided the opportunity to negotiate an
alternative form of payment, such as an offer-in-compromise,
under which the IRS would accept less than the full amount, or
an installment agreement under which payments in satisfaction
of the debt may be made over time rather than in one lump sum,
or some combination of such measures.\1456\ If a taxpayer
exercises any of these rights in response to the notice of
intent to levy, the IRS may not proceed with its levy.
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\1455\ Sec. 6330(c).
\1456\ Sec. 6330(c)(2).
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After the CDP hearing, a taxpayer also has a right to seek,
within 30 days, judicial review in the U.S. Tax Court of the
determination of the CDP hearing to ascertain whether the IRS
abused its discretion in reaching its determination.\1457\
During this time period, the IRS may not proceed with its levy.
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\1457\ Sec. 6330(d).
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Federal payment levy program
To help the IRS collect taxes more effectively, the
Taxpayer Relief Act of 1997 \1458\ authorized the establishment
of the Federal Payment Levy Program (``FPLP''), which allows
the IRS to continuously levy up to 15 percent of certain
``specified payments,'' such as government payments to Federal
contractors that are delinquent on their tax obligations. The
levy generally continues in effect until the liability is paid
or the IRS releases the levy.\1459\
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\1458\ Pub. L. No. 105-34.
\1459\ Sec. 6331(h). With respect to Federal payments to vendors of
goods or services (not defined), the continuous levy may be up to 100
percent of each payment. Sec. 6331(h)(3).
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Under FPLP, the IRS matches its accounts receivable records
with Federal payment records maintained by the Department of
the Treasury's Financial Management Service (``FMS''), such as
certain Social Security benefit and Federal wage records. When
the records match, the delinquent taxpayer is provided both
notice of intention to levy and notice of the right to the CDP
hearing 30 days before the levy is made. If the taxpayer does
not respond after 30 days, the IRS can instruct FMS to levy its
Federal payments. Subsequent payments are continuously levied
until the tax debt is paid or IRS releases the levy.
Upon receipt of this information, however, the taxpayer may
stay the levy action by requesting in writing a hearing before
the IRS Appeals Office. Following the CDP hearing, a taxpayer
has a right to seek, within 30 days, judicial review in the
U.S. Tax Court of the determination of the CDP hearing to
ascertain whether the IRS abused its discretion in reaching its
determination. During this time period, the IRS may not proceed
with its levy.
Reasons for Change
The Congress believes that permitting Federal contractors
to delay collection until completion of CDP procedures may
deprive the Federal government of the opportunity to levy
payments because Treasury likely will have paid the Federal
contractor before the CDP requirements are met. This lost
opportunity is especially true in cases where taxpayers abuse
CDP procedures and raise frivolous arguments simply for the
purpose of delaying or evading collection of tax. By changing
current law to allow the IRS to proceed with its levy for any
Federal tax liabilities earlier in the debt collection process,
the Congress believes that the IRS will collect more unpaid
taxes.\1460\
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\1460\ Government Accountability Office, Tax Compliance: Thousands
of Federal Contractors Abuse the Federal Tax System (GAO-07-742T),
April 19, 2007 (approximately 60,000 Federal contractors were
delinquent on over $7 billion in Federal taxes).
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To the extent that the delinquent taxes are employment tax
liabilities, delay presents a greater risk to the government
than delay may present in other contexts because employment tax
liabilities continue to increase as ongoing wage payments are
made to employees. In addition, much of an employer's
employment tax liability consists of the employees' share of
FICA tax withheld from employees' wages paid to the government
on behalf of the employees. The risk for the government is that
the employees are entitled to credits for amounts actually
withheld, even if the employer ultimately fails to remit these
amounts to the government.
Explanation of Provision
The provision allows the IRS to issue levies prior to a CDP
hearing with respect to Federal tax liabilities of Federal
contractors identified under the Federal Payment Levy Program.
When a levy is issued prior to a CDP hearing under this
proposal, the taxpayer has an opportunity for a CDP hearing
within a reasonable time after the levy.
Effective Date
The provision applies to levies issued after the date of
enactment (September 27, 2010).
B. Promoting Retirement Preparation
1. Allow participants in government section 457 plans to treat elective
deferrals as Roth contributions (sec. 2111 of the Act and sec.
402A of the Code)
Present Law
Section 401(k) plans and section 403(b) plans are permitted
to have qualified Roth contribution programs under which
participants may elect to make non-excludable contributions to
``designated Roth accounts'' and, if certain conditions are
met, to exclude from gross income distributions from these
accounts.
A qualified Roth contribution program is a program under
which a participant may elect to make designated Roth
contributions in lieu of all or a portion of the elective
deferrals that he or she otherwise would be eligible to make
under the applicable retirement plan. To qualify as a qualified
Roth contribution program a plan must: (1) establish a separate
designated Roth account for the designated Roth contributions
of each participant (and for the earnings allocable to these
contributions); (2) maintain separate records for each account;
and (3) refrain from allocating to the designated Roth account
amounts from non-designated Roth accounts.
Generally, if an ``applicable retirement plan'' includes a
qualified Roth contribution program then any contribution that
a participant makes under the program is treated as an
``elective deferral,'' but is not excludable from gross
income.\1461\ For purposes of the qualified Roth contribution
program rules, the term ``applicable retirement plan'' means:
(1) an employee trust described in section 401(a) which is tax-
exempt under section 501(a); \1462\ and (2) a plan under which
amounts are contributed by an individual's employer for a
section 403(b) annuity contract.\1463\ An ``elective deferral''
is any deferral described in: (1) section 402(g)(3)(A)
(employer contributions to section 401(k) plans not includible
in employee's gross income); or (2) section 402(g)(3)(C)
(employer contributions to purchase an annuity contract under a
section 403(b) salary reduction agreement).
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\1461\ Sec. 402A(a)(1).
\1462\ That is, a trust created or organized in the United States
and forming part of a stock bonus, pension, or profit-sharing plan of
an employer for the exclusive benefit of its employees or their
beneficiaries.
\1463\ That is, an annuity purchased by a section 501(c)(3)
organization or a public school.
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Explanation of Provision
The provision amends the definition of ``applicable
retirement plan'' to include eligible deferred compensation
plans (as defined under section 457(b)) maintained by a State,
a political subdivision of a State, an agency or
instrumentality of a State, or an agency or instrumentality of
a political subdivision of a State (collectively,
``governmental 457(b) plans''). The provision also amends the
definition of ``elective deferral'' in section 402A to include
amounts deferred under governmental 457(b) plan.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
2. Allow rollovers from elective deferral plans to designated Roth
accounts (sec. 2112 of the Act and sec. 402A of the Code)
Present law
Individual retirement arrangements
General rules
There are two basic types of individual retirement
arrangements (``IRAs'') under present law: traditional
IRAs,\1464\ to which both deductible and nondeductible
contributions may be made,\1465\ and Roth IRAs, to which only
nondeductible contributions may be made.\1466\ The principal
difference between these two types of IRAs is the timing of
income tax inclusion. For a traditional IRA, an eligible
contributor may deduct the contributions made for the year, but
distributions are includible in gross income. For a Roth IRA,
all contributions are after-tax (no deduction is allowed) but,
if certain requirements are satisfied, distributions are not
includable in gross income.
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\1464\ Sec. 408.
\1465\ Sec. 219.
\1466\ Sec. 408A.
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An annual limit applies to contributions to IRAs. The
contribution limit is coordinated so that the aggregate maximum
amount that can be contributed to all of an individual's IRAs
(both traditional and Roth IRAs) for a taxable year is the
lesser of a certain dollar amount ($5,000 for 2010) \1467\ or
the individual's compensation. In the case of a married couple,
contributions can be made up to the dollar limit for each
spouse if the combined compensation of the spouses is at least
equal to the contributed amount.
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\1467\ The dollar limit is indexed for inflation.
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An individual who has attained age 50 before the end of the
taxable year may also make catch-up contributions to an IRA.
For this purpose, the aggregate dollar limit is increased by
$1,000. Thus for example, if an individual over age 50
contributes $6,000 to a Roth IRA for 2010 ($5,000 plus $1,000
catch-up), the individual will not be permitted to make any
contributions to a traditional IRA for the year. In addition,
deductible contributions to traditional IRAs and after tax
contributions to Roth IRAs generally are subject to AGI limits.
IRA contributions generally must be made in cash.
Roth IRAs
Individuals with adjusted gross income below certain levels
may make nondeductible contributions to a Roth IRA. The maximum
annual contribution that can be made to a Roth IRA is phased
out for taxpayers with adjusted gross income for the taxable
year over certain indexed levels. The adjusted gross income
phase-out ranges for 2010 are: (1) for single taxpayers,
$109,000 to $124,000; (2) for married taxpayers filing joint
returns, $167,000 to $177,000; and (3) for married taxpayers
filing separate returns, $0 to $10,000. Contributions to a Roth
IRA may be made even after the account owner has attained age
70\1/2\.
Taxpayers generally may convert a traditional IRA into a
Roth IRA.\1468\ A conversion may be accomplished by means of a
rollover, trustee-to-trustee transfer, or account
redesignation. Regardless of the means used to convert, any
amount converted from a traditional IRA to a Roth IRA is
treated as distributed from the traditional IRA and rolled over
to the 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.
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\1468\ For taxable years beginning before January 1, 2010, such a
conversion is not permitted to be made by a taxpayer whose modified
adjusted gross income for the year of the distribution exceeds $100,000
(or who, if married, does not file jointly). For taxable years
beginning before January 1, 2010, a rollover from an eligible employer
plan not made from a designated Roth account is available only to a
taxpayer whose modified adjusted gross income for the year of the
distribution does not exceed $100,000 (and who, if married, files
jointly).
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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) 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. Under special ordering rules, after-
tax contributions are recovered before income.\1469\ The amount
includible in income is also subject to the 10-percent early
withdrawal tax unless an exception applies. The same exceptions
to the early withdrawal tax that apply to traditional IRAs
apply to Roth IRAs.
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\1469\ Sec. 408A(d)(4).
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Cash or deferred arrangements
Section 401(k) plans and section 403(b) plans
A qualified retirement plan \1470\ that is a profit-sharing
plan may allow an employee to make an election between cash and
an employer contribution to the plan pursuant to a qualified
cash or deferred arrangement. A plan with this feature is
generally referred to as a section 401(k) plan. A section
403(b) plan may allow a similar salary reduction agreement
under which an employee may make an election between cash and
an employer contribution to the plan.\1471\ Amounts contributed
pursuant to these qualified cash or deferred arrangements and
salary reduction agreements generally are referred to as
elective contributions and generally are excludable from gross
income. There is a dollar limit on the aggregate amount of
elective contributions that an employee is permitted to
contribute to either of these plans for a taxable year which is
$16,500 for 2010. There is an additional catch up amount that
employees over age 50 are allowed to contribute which is $5,500
for 2010.
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\1470\ Qualified retirement plans include plans qualified under
section 401(a) and section 403(a) annuity plans.
\1471\ Section 403(b) plans may be maintained only by (1) tax-
exempt charitable organizations, and (2) educational institutions of
State or local governments (including public schools). Many of the
rules that apply to section 403(b) plans are similar to the rules
applicable to qualified retirement plans, including section 401(k)
plans.
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Elective contributions under a section 401(k) plan are
subject to distribution restrictions under the plan. Such
contributions generally may only be distributed after
attainment of age 59\1/2\, death of the employee, termination
of the plan, or severance from employment with the employer
maintaining the plan. These contributions are also permitted to
be distributed on account of hardship. These limitations also
apply to certain other contributions to the plan except that
such distributions cannot be distributed on account of
hardship. Similar distribution restrictions apply to salary
reduction contributions under section 403(b) plans.
Amounts under a profit sharing plan that are not subject to
these specific distribution restrictions are distributable only
as permitted under the plan terms. In order to meet the
definition of profit-sharing plan, the plan may allow
distribution of an amount contributed to a profit sharing plan
after a fixed number of years (but not less than two).\1472\
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\1472\ Rev. Rul. 71-295, 1971-2, C.B. 184 and Treas. Reg. sec.
1.401(b)(1)(ii).
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Designated Roth accounts
A qualified retirement plan or a section 403(b) plan with a
cash or deferred arrangement can include a Designated Roth
program under which an employee is permitted to designate any
elective contribution as a designated Roth contribution in lieu
of making a pre-tax elective contribution. Although such a plan
is permitted to offer only the opportunity to make pre-tax
elective contributions, a plan that allows designated Roth
contributions must offer a choice of both pre-tax elective
contributions and designated Roth contributions.\1473\ The
designated contributions are generally treated the same under
the plan as pre-tax elective contributions (e.g. the
nondiscrimination requirements and contribution limits) except
a designated Roth contribution is not excluded from gross
income.
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\1473\ Treas. Reg. sec. 1.401(k)-1(f)(1)(i).
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All designated Roth contributions made under the plan must
be maintained in a separate account (a designated Roth
account). Any distribution from a designated Roth account
(other than a qualified distribution) is taxable under section
402 by treating the designated Roth account as a separate
contract for purpose of section 72. The distribution is
included in the distributee's gross income to the extent
allocable to income under the contract and excluded from gross
income to the extent allocable to investment in the contract
(commonly referred to as basis), taking into account only the
designated Roth contributions as basis. The special basis-first
recovery rule for Roth IRAs does not apply to distributions
from designated Roth accounts.
A qualified distribution from a designated Roth account is
excludable from gross income. A qualified distribution is a
distribution that is made after completion of a specified 5-
year period and the satisfaction of one of three other
requirements. The three other requirements are the same as the
other requirements for a qualified distribution from a Roth
account except that the first-time home buyer provision does
not apply.
Eligible rollover distributions from designated Roth
accounts may only be rolled over tax free to another designated
Roth account or a Roth IRA.
Rollovers from eligible retirement plans
An eligible rollover distribution from an eligible employer
plan that is not from a designated Roth account may be rolled
over to an eligible retirement plan that is not a Roth IRA or a
designated Roth account. An eligible employer plan is a
qualified retirement plan, a section 403(b) plan, and a
``governmental section 457(b) plan.'' \1474\ In such a case,
the distribution generally is not currently includible in the
distributee's gross income. An eligible retirement plan means
an individual retirement plan or an eligible employer plan. An
eligible rollover distribution is any distribution from an
eligible employer plan with certain exceptions. Distributions
that are not eligible rollover distributions generally are
certain periodic payments, any distribution to the extent the
distribution is a minimum required distribution, and any
distribution made on account of hardship of the employee.\1475\
Only an employee or a surviving spouse of an employee is
allowed to roll over an eligible rollover distribution from an
eligible employer plan to another eligible employer plan.\1476\
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\1474\ A governmental section 457(b) plan is an eligible section
457(b) plan maintained by a governmental employer described in section
457(e)(1)(A).
\1475\ Sec. 402(c)(4).
\1476\ Section 402(c)(10) allows nonspouse beneficiaries to make a
direct rollover to an IRA but not another eligible employer plan.
---------------------------------------------------------------------------
Distributions from an eligible employer plan are also
permitted to be rolled over into a Roth IRA, subject to the
present law rules that apply to conversions from a traditional
IRA into a Roth IRA.\1477\ Thus, a rollover from an eligible
employer plan into a Roth IRA is includible in gross income
(except to the extent it represents a return of after-tax
contributions), and the 10-percent early distribution tax does
not apply.\1478\ In the case of a distribution and rollover of
property, the amount of the distribution for purposes of
determining the amount includable in gross income is generally
the fair market value of the property on the date of the
distribution.\1479\ The special rules relating to net
unrealized appreciation and certain optional methods for
calculating tax available to participants born on or before
January 1, 1936 are not applicable.\1480\ A special recapture
rule relating to the 10-percent additional tax on early
distributions applies for distributions made from a Roth IRA
within a specified five-year period after a rollover.\1481\
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\1477\ For taxable years beginning before January 1, 2010, a
rollover from an eligible employer plan not made from a designated Roth
account is available only to a taxpayer whose modified adjusted gross
income for the year of the distribution does not exceed $100,000 (and
who, if married, files jointly).
\1478\ Prior to enactment of section 824 of the Pension Protection
Act of 2006, P.L. No. 109-280, an eligible rollover distribution from
an eligible employer plan not made from a designated Roth account could
be rolled over to a non-Roth IRA and then converted to a Roth IRA, but
could not be rolled over to a Roth IRA without an intervening rollover
to a non-Roth IRA followed by a conversion to a Roth IRA. See Notice
2008-30, 2008-12 I.R.B. 638.
\1479\ Treas. Reg. sec. 1.402(a)-1(a)(iii).
\1480\ Notice 2009-75, 2009-39 I.R.B. 436.
\1481\ Sec. 408A(d)(3)(F), Treas. Reg. sec. 1.408A-6 A-5, and
Notice 2008-30, Q&A-3.
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Special rule for 2010 conversions or rollovers
In the case of a rollover from a tax-qualified retirement
plan (other than a designated Roth account) into a Roth IRA,
unless the taxpayer elects to include the distribution in
income in 2010, any amount otherwise required to be included in
gross income for the 2010 taxable year is not included in that
taxable year but is instead included in gross income in equal
amounts for the 2011 and 2012 taxable years. The same rule
applies to a conversion of a traditional IRA into a Roth IRA in
2010. However, in both cases, the special recapture rule
relating to the 10-percent additional tax on early
distributions applies for distributions made from a Roth IRA
within a specified five-year period after a rollover.
Explanation of Provision
Under the provision, if a section 401(k) plan, section
403(b) plan, or governmental section 457(b) plan \1482\ has a
qualified designated Roth contribution program, a distribution
to an employee (or a surviving spouse) from an account under
the plan that is not a designated Roth account is permitted to
be rolled over into a designated Roth account under the plan
for the individual. However, a plan that does not otherwise
have a designated Roth program is not permitted to establish
designated Roth accounts solely to accept these rollover
contributions. Thus, for example, a qualified employer plan
that does not include a qualified cash or deferred arrangement
with a designated Roth program cannot allow rollover
contributions from accounts that are not designated Roth
accounts to designated Roth accounts established solely for
purposes of accepting these rollover contributions. Further,
the distribution to be rolled over must be otherwise allowed
under the plan. For example, an amount under a section 401(k)
plan subject to distribution restrictions cannot be rolled over
to a designated Roth account under this provision. However, if
an employer decides to expand its distribution options beyond
those currently allowed under its plan, such as by adding in-
service distributions or distributions prior to normal
retirement age, in order to allow employees to make the
rollover contributions permitted under this provision, the plan
may condition eligibility for such a new distribution option on
an employee's election to have the distribution directly rolled
over to the designated Roth program within that plan.
---------------------------------------------------------------------------
\1482\ The bill includes a provision which adds governmental
section 457(b) plans to the plans that are permitted to include a
designated Roth program. See explanation of section 211 of the bill.
---------------------------------------------------------------------------
In the case of a permitted rollover contribution to a
designated Roth account under this provision, the individual
must include the distribution in gross income (subject to basis
recovery) in the same manner as if the distribution were rolled
over into a Roth IRA. Thus the special rule for distributions
from eligible retirement plans (other than from designated Roth
accounts) that are contributed to a Roth IRA in 2010 applies
for these rollover contributions to a designated Roth account.
Under this special rule, the taxpayer is allowed to include the
amount in income in equal parts in 2011 and 2012. The special
recapture rule for the 10-percent early distribution tax also
applies if distributions are made from the designated Roth
account in the relevant five year period.
This rollover contribution may be accomplished at the
election of the employee (or surviving spouse) through a direct
rollover (operationally through a transfer of assets from the
account that is not a designated Roth account to the designated
Roth account). However, such a direct rollover is only
permitted if the employee (or surviving spouse) is eligible for
a distribution in that amount and in that form (if property is
transferred) and the distribution is an eligible rollover
distribution. If the direct rollover is accomplished by a
transfer of property to the designated Roth account (rather
than cash), the amount of the distribution is the fair market
value of the property on the date of the transfer.
A plan that includes a designated Roth program is permitted
but not required to allow employees (and surviving spouses) to
make the rollover contribution described in this provision to a
designated Roth account. If a plan allows these rollover
contributions to a designated Roth account, the plan must be
amended to reflect this plan feature. It is intended that the
IRS will provide employers with a remedial amendment period
that allows the employers to offer this option to employees
(and surviving spouses) for distributions during 2010 and then
have sufficient time to amend the plan to reflect this
feature.\1483\
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\1483\ See section 401(b), Treas. Reg. sec 1.401(b)-1, and Rev.
Proc. 2007-44, 2007-2 CB 54, regarding remedial amendment periods for
plan amendments.
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Effective Date
The provision is effective for distributions made after the
date of enactment.
3. Permit partial annuitization of a nonqualified annuity contract
(sec. 2113 of the Act and sec. 72 of the Code)
Present Law
Treatment of annuity contracts
In general, earnings and gains on a deferred annuity
contract are not subject to tax during the deferral period in
the hands of the holder of the contract.\1484\ When payout
commences under a deferred annuity contract, the tax treatment
of amounts distributed depends on whether the amount is
received as an annuity (generally, as periodic payments under
contract terms) or not.\1485\
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\1484\ If an annuity contract is held by a corporation or by any
other person that is not a natural person, the income on the contract
is treated as ordinary income accrued by the contract owner and is
subject to current taxation. The contract is not treated as an annuity
contract. Sec. 72(u).
\1485\ Sec. 72.
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For amounts received as an annuity by an individual, an
exclusion ratio is provided for determining the taxable portion
of each payment.\1486\ The portion of each payment that is
attributable to recovery of the taxpayer's investment in the
contract is not taxed. The taxable portion of each payment is
ordinary income. The exclusion ratio is the ratio of the
taxpayer's investment in the contract to the expected return
under the contract, that is, the total of the payments expected
to be received under the contract. The ratio is determined as
of the taxpayer's annuity starting date. Once the taxpayer has
recovered his or her investment in the contract, all further
payments are included in income. If the taxpayer dies before
the full investment in the contract is recovered, a deduction
is allowed on the final return for the remaining investment in
the contract. Section 72 uses the term ``investment in the
contract'' in lieu of the more generally applicable term
``basis.''
---------------------------------------------------------------------------
\1486\ Sec. 72(b).
---------------------------------------------------------------------------
Amounts not received as an annuity generally are included
as ordinary income if received on or after the annuity starting
date, and are included in income to the extent allocable to
income on the contract if received before the annuity starting
date (i.e., as income first).\1487\
---------------------------------------------------------------------------
\1487\ Sec. 72(e). By contrast to distributions under an annuity
contract, distributions from a life insurance contract (other than a
modified endowment contract) that are made prior to the death of the
insured generally are includible in income, to the extent that the
amounts distributed exceed the taxpayer's basis in the contract; such
distributions generally are treated first as a tax-free recovery of
basis, and then as income (sec. 72(e)). In the case of a modified
endowment contract, however, in general, distributions are treated as
income first, loans are treated as distributions (i.e., income rather
than basis recovery first), and an additional 10 percent tax is imposed
on the income portion of distributions made before age 59\1/2\ and in
certain other circumstances (secs. 72(e) and (v)). A modified endowment
contract is a life insurance contract that does not meet a statutory
``7-pay'' test, i.e., generally is funded more rapidly than seven
annual level premiums. Sec. 7702A.
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Specific rules for recovering the investment in the
contract for amounts received as an annuity are provided for
plans qualified under section 401(a), plans described in
section 403(a), and section 403(b) tax-deferred
annuities.\1488\ In addition, specific rules apply to amounts
not received as an annuity under these plans and individual
retirement plans.\1489\
---------------------------------------------------------------------------
\1488\ Sec. 72(d).
\1489\ Sec. 72(e)(8).
---------------------------------------------------------------------------
Tax-free exchanges of annuity contracts
Present law provides for the exchange of certain insurance
contracts without recognition of gain or loss.\1490\ No gain or
loss is recognized on the exchange of: (1) a life insurance
contract for another life insurance contract or for an
endowment or annuity contract or for a qualified long-term care
insurance contract; or (2) an endowment contract for another
endowment contract (that provides for regular payments
beginning no later than under the exchanged contract) or for an
annuity contract or for a qualified long-term care insurance
contract; (3) an annuity contract for an annuity contract or
for a qualified long-term care insurance contract; or (4) a
qualified long-term care insurance contract for a qualified
long-term care insurance contract. The basis of the contract
received in the exchange generally is the same as the basis of
the contract exchanged.\1491\
---------------------------------------------------------------------------
\1490\ Sec. 1035.
\1491\ Sec. 1031(d).
---------------------------------------------------------------------------
In interpreting section 1035, case law holds that an
exchange of a portion of an annuity contract for another
annuity contract qualifies as a tax-free exchange.\1492\
Treasury guidance provides rules for determining whether a
direct transfer of a portion of the cash surrender value of an
annuity contract for a second annuity contract qualifies as a
section 1035 tax-free exchange. Under the Treasury guidance,
either the annuity contract received, or the contract partially
exchanged, in the tax-free exchange may be annuitized without
jeopardizing the tax-free exchange (or amounts withdrawn from
it or received in surrender of it) after the period ending 12
months from the receipt of the premium in the exchange.\1493\
---------------------------------------------------------------------------
\1492\ Conway v. Comm'r, 111 T.C. 350 (1998), acq., 1999-2 C.B.
xvi.
\1493\ Rev. Proc. 2008-24, 2008-13 I.R.B. 684. The Rev. Proc.
further provides that a transfer does not, however, qualify as a tax-
free exchange if the payment is a distribution that is part of a series
of substantially equal periodic payments, or if the payment is a
distribution under an immediate annuity. The Treasury guidance further
provides that if a direct transfer of a portion of an annuity contract
for a second annuity contract does not qualify as a tax-free exchange
under section 1035, it is treated as a taxable distribution followed by
a payment for the second contract. The 2011 Priority Guidance Plan for
the Treasury Department and IRS anticipates further guidance on this
issue.
---------------------------------------------------------------------------
Explanation of Provision
The provision permits a portion of an annuity, endowment,
or life insurance contract to be annuitized while the balance
is not annuitized, provided that the annuitization period is
for 10 years or more, or is for the lives of one or more
individuals.
The provision provides that if any amount is received as an
annuity for a period of 10 years or more, or for the lives of
one or more individuals, under any portion of an annuity,
endowment, or life insurance contract, then that portion of the
contract is treated as a separate contract for purposes of
section 72.
The investment in the contract is allocated on a pro rata
basis between each portion of the contract from which amounts
are received as an annuity and the portion of the contract from
which amounts are not received as an annuity. This allocation
is made for purposes of applying the rules relating to the
exclusion ratio, the determination of the investment in the
contract, the expected return, the annuity starting date, and
amounts not received as an annuity.\1494\ A separate annuity
starting date is determined with respect to each portion of the
contract from which amounts are received as an annuity.
---------------------------------------------------------------------------
\1494\ Secs. 72(b), (c), and (e).
---------------------------------------------------------------------------
The provision is not intended to change the present-law
rules with respect either to amounts received as an annuity, or
to amounts not received as an annuity, in the case of plans
qualified under section 401(a), plans described in section
403(a), section 403(b) tax-deferred annuities, or individual
retirement plans.
Effective Date
The provision is effective for amounts received in taxable
years beginning after December 31, 2010.
C. Closing Unintended Loopholes
1. Make crude tall oil ineligible for the cellulosic biofuel producer
credit (sec. 2121 of the Act and sec. 40 of the Code)
Present Law
The ``cellulosic biofuel producer credit'' is a
nonrefundable income tax credit for each gallon of qualified
cellulosic biofuel production of the producer for the taxable
year. The amount of the credit is generally $1.01 per
gallon.\1495\
---------------------------------------------------------------------------
\1495\ In the case of cellulosic biofuel that is alcohol, the $1.01
credit amount is reduced by the credit amount of the alcohol mixture
credit, and for ethanol, the credit amount for small ethanol producers,
as in effect at the time the cellulosic biofuel fuel is produced.
---------------------------------------------------------------------------
``Qualified cellulosic biofuel production'' is any
cellulosic biofuel which is produced by the taxpayer and which
is: (1) sold by the taxpayer to another person (a) for use by
such other person in the production of a qualified cellulosic
biofuel mixture in such person's trade or business (other than
casual off-farm production), (b) for use by such other person
as a fuel in a trade or business, or (c) who sells such
cellulosic biofuel at retail to another person and places such
cellulosic biofuel in the fuel tank of such other person; or
(2) used by the producer for any purpose described in (1)(a),
(b), or (c).
``Cellulosic biofuel'' means any liquid fuel that (1) is
produced in the United States and used as fuel in the United
States, (2) is derived from any lignocellulosic or
hemicellulosic matter that is available on a renewable or
recurring basis, and (3) meets the registration requirements
for fuels and fuel additives established by the Environmental
Protection Agency (``EPA'') under section 211 of the Clean Air
Act. The cellulosic biofuel producer credit cannot be claimed
unless the taxpayer is registered by the IRS as a producer of
cellulosic biofuel.
Cellulosic biofuel does not include certain unprocessed
fuel. Unprocessed fuels are fuels which (1) are more than four
percent (determined by weight) water and sediment in any
combination, or (2) have an ash content of more than one
percent (determined by weight).\1496\ Cellulosic biofuel
eligible for the section 40 credit is precluded from qualifying
as biodiesel, renewable diesel, or alternative fuel for
purposes of the applicable income tax credit, excise tax
credit, or payment provisions relating to those fuels.\1497\
---------------------------------------------------------------------------
\1496\ Water content (including both free water and water in
solution with dissolved solids) is determined by distillation, using
for example ASTM method D95 or a similar method suitable to the
specific fuel being tested. Sediment consists of solid particles that
are dispersed in the liquid fuel and is determined by centrifuge or
extraction using, for example, ASTM method D1796 or D473 or similar
method that reports sediment content in weight percent. Ash is the
residue remaining after combustion of the sample using a specified
method, such as ASTM D3174 or a similar method suitable for the fuel
being tested.
\1497\ See sections 40A(d)(1), 40A(f)(3), and 6426(h).
---------------------------------------------------------------------------
Because it is a credit under section 40(a), the cellulosic
biofuel producer credit is part of the general business credits
in section 38. However, unlike other general business credits,
the cellulosic biofuel producer credit can only be carried
forward three taxable years after the termination of the
credit. The credit is also allowable against the alternative
minimum tax. Under section 87, the credit is included in gross
income. The cellulosic biofuel producer credit terminates on
December 31, 2012.
The kraft process for making paper produces a byproduct
called black liquor, which has been used for decades by paper
manufacturers as a fuel in the papermaking process. Black
liquor is composed of water, lignin and the spent chemicals
used to break down the wood. The amount of the biomass in black
liquor varies. The portion of the black liquor that is not
consumed as a fuel source for the paper mills is recycled back
into the papermaking process. Black liquor has ash content
(mineral and other inorganic matter) significantly above that
of other fuels.
Crude tall oil is generated by reacting acid with black
liquor soap. Crude tall oil is used in various applications,
such as adhesives, resins and inks. It also can be burned and
used as a fuel.
Explanation of Provision
The provision modifies the cellulosic biofuel producer
credit to exclude from the definition of cellulosic biofuel
fuels with an acid number of greater than 25. The acid number
is the amount of base required to neutralize the acid in the
sample. The acid number is reported as weight of the base
(typically potassium hydroxide) per weight of sample, or
milligram (``mg'') potassium hydroxide per gram. The normal
acid number for crude tall oil is between 100 and 175. As a
comparison, ASTM D6751 for biodiesel specifies that the acid
number be less than 0.5 mg potassium hydroxide. ASTM D4806 for
ethanol does not have acid value but instead limits ``acidity''
to 0.007 mg of acetic acid per liter, which is significantly
below an acid number of 25.
Effective Date
The provision is effective for fuels sold or used on or
after January 1, 2010.
2. Source rules for income on guarantees (sec. 2122 of the Act and
secs. 861, 862, and 864 of the Code)
Present Law
The United States taxes U.S. citizens and residents
(including domestic corporations) on their worldwide income,
whether derived in the United States or abroad. The United
States generally taxes nonresident alien individuals and
foreign corporations engaged in a trade or business in the
United States on income that is effectively connected with the
conduct of such trade or business (sometimes referred to as
``effectively connected income''). The United States also taxes
nonresident alien individuals and foreign corporations on
certain U.S.-source income that is not effectively connected
with the conduct of a U.S. trade or business.
Income of a nonresident alien individual or foreign
corporation that is effectively connected with the conduct of a
trade or business in the United States generally is subject to
U.S. tax in the same manner and at the same rates as income of
a U.S. person. Deductions are allowed to the extent that they
are connected with effectively connected income.\1498\ A
foreign corporation also is subject to a flat 30-percent branch
profits tax on its ``dividend equivalent amount,'' which is a
measure of the effectively connected earnings and profits of
the corporation that are removed in any year from the conduct
of its U.S. trade or business.\1499\ In addition, a foreign
corporation is subject to a flat 30-percent branch-level excess
interest tax on the excess of the amount of interest that is
deducted by the foreign corporation in computing its
effectively connected income over the amount of interest that
is paid by its U.S. trade or business.\1500\
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\1498\ Secs. 864(c), 871(b), 873, 882(a) and 882(c).
\1499\ Sec. 884.
\1500\ Sec. 884(f).
---------------------------------------------------------------------------
Subject to a number of exceptions, U.S.-source fixed or
determinable, annual or periodical income (``FDAP'') of a
nonresident alien individual or foreign corporation that is not
effectively connected with the conduct of a U.S. trade or
business is subject to U.S. tax at a rate of 30 percent of the
gross amount paid.\1501\ Items of income within the scope of
FDAP include, for example, interest, dividends, rents,
royalties, salaries, and annuities. The tax generally is
collected by means of withholding.\1502\
---------------------------------------------------------------------------
\1501\ Secs. 871(a), 881(a).
\1502\ Secs. 1441 and 1442 provide for collection from nonresident
aliens and foreign corporations, respectively.
---------------------------------------------------------------------------
Present law provides detailed rules for the determination
of whether income is from U.S. sources or foreign sources. For
example, the source of compensation for services is generally
determined by the location in which the services were
performed, regardless of the country of residence of the
payor.\1503\ In contrast, the source of interest income is
generally determined by reference to the country of residence
of the obligor.\1504\ As a result, interest paid by a U.S.
obligor typically is considered U.S.-source income, while
interest paid by a foreign obligor is treated as foreign-source
income. Rents and royalties paid for the use of property
located in the United States are considered to be U.S.-source
income.\1505\
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\1503\ Under section 861(a)(3), compensation for personal services
performed in the United States is U.S. source, unless the individual
performing the services is a nonresident alien who is temporarily
present in the United States, receives no more than $3,000 of
compensation and is performing the services for a foreign person not
engaged in a U.S. trade or business. Conversely, section 862(a)(3)
provides that compensation for labor or services performed outside the
United States is foreign source.
\1504\ Secs. 861(a)(1), 862(a)(1).
\1505\ Sec. 861(a)(4).
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To the extent that the source of income is not specified in
the statute, the Secretary may promulgate regulations that
explain the appropriate treatment. Many items of income are not
explicitly addressed by either the statute or the regulations.
On several occasions, courts have determined the source of such
items by applying the rule for the type of income to which the
disputed income is most closely analogous, based on all facts
and circumstances.\1506\ Items as dissimilar as alimony and
letters of credit commissions were sourced by analogy to
interest.\1507\ The U.S. Tax Court, in Container Corp. v.
Commissioner, recently rejected IRS arguments that fees paid by
a domestic corporation to its foreign parent with respect to
guarantees issued by the parent for the debts of the domestic
corporation were analogous to interest. The Tax Court held that
the payments were more closely analogous to compensation for
services, and determined that the source of the fees should be
determined by reference to the residence of the foreign parent-
guarantor. As a result, the income was treated as income from
foreign sources.\1508\
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\1506\ Hunt v. Commissioner, 90 T.C. 1289 (1988).
\1507\ Manning v. Commissioner, 614 F.2d 815 (1st Cir. 1980); Bank
of America v. United States, 230 Ct. Cl. 679, 680 F.2d 142 (1982),
aff'g in part, rev'g in part, 47 AFTR 2d 81-652 (Ct. Cl. 1981).
\1508\ Container Corp. v. Commissioner, 134 T.C. No. 5 (February
17, 2010), gov't notice of appeal filed (5th Cir. June 1, 2010).
---------------------------------------------------------------------------
Explanation of Provision
This provision effects a legislative override of the
opinion in Container Corp. v. Commissioner, supra, by amending
the source rules of section 861 and 862 to address income from
guarantees issued after the date of enactment. Under new
section 861(a)(9), income from sources within the United States
includes amounts received, whether directly or indirectly, from
a noncorporate resident or a domestic corporation for the
provision of a guarantee of indebtedness of such person. The
scope of the provision includes payments that are made
indirectly for the provision of a guarantee. For example, the
provision would treat as income from U.S. sources a guarantee
fee paid by a foreign bank to a foreign corporation for the
foreign corporation's guarantee of indebtedness owed to the
bank by the foreign corporation's domestic subsidiary, where
the cost of the guarantee fee is passed on to the domestic
subsidiary through, for example, additional interest charged on
the indebtedness.
Such U.S.-source income also includes amounts received from
a foreign person, whether directly or indirectly, for the
provision of a guarantee of indebtedness of that foreign person
if the payments received are connected with income of such
person which is effectively connected with conduct of a U.S.
trade or business. A conforming amendment to section 862
provides that amounts received from a foreign person, whether
directly or indirectly, for the provision of a guarantee of
that person's debt, are treated as foreign source income if
they are not from sources within the United States as
determined under new section 861(a)(9).
For purposes of this provision, the phrase ``noncorporate
residents'' has the same meaning as for purposes of section
861(a)(1), except that foreign partnerships are not included.
Payments received from a foreign partnership for the provision
of a guarantee of indebtedness of that foreign partnership are
U.S. source if the amounts received are connected with income
which is effectively connected with the conduct of a U.S. trade
or business. A conforming amendment to section 864 provides
that amounts received, whether directly or indirectly, for the
provision of a guarantee are deemed to be effectively connected
with the conduct of a U.S. trade or business if derived in the
active conduct of a banking, financing or similar business.
Although this provision overturns the opinion in Container
Corp. v. Commissioner, supra, no inference is intended with
respect to the source of income received for the provision of a
guarantee issued before the date of enactment. The Secretary
may provide rules for determining the source of other types of
payments that are not within the scope of this provision.
Effective Date
The provision applies to guarantees issued after the date
of enactment. No inference is intended with respect to the
source of income received with respect to guarantees issued
before the date of enactment.
D. Time for Payment of Corporate Estimated Taxes (sec. 2131 of the Act
and sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\1509\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding taxable year):
\1509\ Sec. 6655.
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(iv) payments due in July, August, or September,
2014, are increased to 174.25 percent of the payment
otherwise due; \1510\
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\1510\ Haiti Economic Lift Program of 2010, Pub. L. No. 111-171,
sec. 12(a); Health Care and Education Reconciliation Act of 2010, Pub
L. No. 111-152, sec. 1410; Hiring Incentives to Restore Employment Act,
Pub. L. No. 111-147, sec.561(1); Act to extend the Generalized System
of Preferences and the Andean Trade Preference Act, and for other
purposes, Pub. L. No. 111-124, sec. 4; Worker, Homeownership, and
Business Assistance Act of 2009, Pub. L. No. 111-92, sec. 18; Joint
resolution approving the renewal of import restrictions contained in
the Burmese Freedom and Democracy Act of 2003, and for other purposes,
Pub. L. No. 111-42, sec. 202(b)(1).
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(ii) payments due in July, August or September, 2015,
are increased to 123.25 percent of the payment
otherwise due; \1511\ and
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\1511\ Firearms Excise Tax Improvement Act of 2010, Pub. L. No.
111-237, sec. 4(a); United States Manufacturing Enhancement Act of
2010, Pub. L. No. 111-227, sec. 4002; Joint resolution approving the
renewal of import restrictions contained in the Burmese Freedom and
Democracy Act of 2003, and for other purposes, Pub. L. No. 111-210;
sec. 3; Haiti Economic Lift Program of 2010, Pub. L. No. 111-171, sec.
12(b); Hiring Incentives to Restore Employment Act, Pub. L. No. 111-
147, sec. 561(2).
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(v) payments due in July, August or September, 2019,
are increased to 106.50 percent of the payment
otherwise due.\1512\
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\1512\ Hiring Incentives to Restore Employment Act, Pub. L. No.
111-147, sec. 561(3).
For each of the periods impacted, the next required payment is
reduced accordingly.
Explanation of Provision\1513\
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\1513\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
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The provision increases the required payment of estimated
tax otherwise due in July, August, or September, 2015, by 36.00
percentage points.
Effective Date
The provision is effective on the date of enactment
(September 26, 2010).
PART FIFTEEN: THE CLAIMS RESOLUTION ACT OF 2010 (PUBLIC LAW 111-
291)\1514\
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\1514\ H.R. 4783. The bill passed the House on March 10, 2010. The
Senate passed the bill with amendments on November 19, 2010. The House
agreed to the Senate amendments on November 30, 2010. The President
signed the bill on December 8, 2010.
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A. The Individual Indian Money Account Litigation (sec. 101 of the Act)
Present Law
Under section 61 of the Code, gross income includes all
income from whatever source derived. The Code includes a number
of exceptions from this rule, including exceptions for amounts
of any damages received on account of personal physical
injuries under section 104(a)(2). There is no specific
exclusion from gross income for amounts received by individual
Indians pursuant to the proposed settlement reached on December
7, 2009 between Elouise Cobell, et al. and the Secretary of
Interior, et al. (the ``Settlement'').
In general, individual Indians, regardless of tribal
affiliation, are subject to Federal income taxes and section 61
of the Code, even if the income is distributed to individual
Indians out of income otherwise immune from taxation when first
received by the tribe.\1515\ However, certain types of income
earned by individual Indians are not subject to Federal tax
such as income derived from certain fishing activities.\1516\
As another example, income derived directly from individually
allotted land held in trust by the Federal government for the
benefit of an individual Indian is excluded.\1517\ Income is
derived directly from trust land if it is generated principally
from the use of allotted land and resources rather than from
capital improvements upon the land, and includes income from
logging, mining, farming, or ranching activities.\1518\
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\1515\ Squire v. Capoeman, 351 U.S. 1, 6 (1956). Per capita
payments of net revenues from gaming activities conducted or licensed
by any Indian tribe are specifically made subject to Federal taxes by
the Indian Gaming Regulatory Act, 25 U.S.C. sec. 2710(b)(3)(D), Pub. L.
No. 100-497 (Oct. 17, 1988).
\1516\ Sec. 7873 (exemption of income from treaty fishing rights).
\1517\ Section 5 of the General Allotment Act of 1887, as amended,
provided for tribal lands to be allotted to individual Indians in trust
for a period of years, after which the lands were to be conveyed to the
allottees in fee ``free of all charge or incumbrance whatsoever.'' 25
U.S.C. sec. 348. This provision has been interpreted to prevent
taxation of income or capital gains ``derived directly'' from allotted
land while it remains in trust. Squire v. Capoeman, 351 U.S. 1 (1956);
Rev. Rul. 57-407, 1957-2 C.B. 45 (any gain from the sale or exchange of
the land while it is still held in trust is not subject to tax); Rev.
Rul. 67-284, 1967-2 C.B. 55 (lists several types of income that will be
treated as ``derived directly'' from allotted land, including rentals
(including crop rentals), royalties, and proceeds from the sale of
natural resources from the land. A number of courts have held that the
exclusion is only available for income derived from land allotted to
the individual earning the income and is not available for income
derived from land leased from the tribe or another individual to whom
the land is allotted. See Kieffer v. Comm'r, T.C. 1998-202; Anderson v.
United States, 845 F.2d 206 (9th Cir. 1988); Holt v. Comm'r, 364 F.2d
38 (8th Cir. 1966); but see Campbell v. Comm'r, T.C. Memo 1997-502 at
19. The exclusion does not extend to income derived from the
reinvestment of income derived from allotted land. Capoeman, 351 U.S.
at 9.
\1518\ Capoeman applies to allotments issued pursuant to tribe-
specific allotment statues, regardless of whether the General Allotment
Act applies to those allotments. See United States v. Hallam, 304 F.2d
629 (10th Cir. 1962) (income from Quapaw allotments in form of rents,
royalties, and proceeds from restricted allotted lands exempt); Stevens
v. Commissioner, 452 F.2d 741 (9th Cir. 1971) (construing Ft. Belknap
Allotment Act to find farming and ranching income exempt); Big Eagle v.
United States, 300 F.2d 765 (Ct. Cl. 1962) (receiving royalties from
tribal mineral deposits exempt by virtue of Osage Allotment Act); Rev.
Rul. 74-13, 1974-1 C.B. 14 (exemption described as applying to
restricted lands generally rather than specifically to General
Allotment Act lands).
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A proposed Settlement has been reached in a class action
lawsuit filed in 1996 against the Federal government for
mismanagement of individual Indian trust accounts and trust
assets. The lawsuit seeks a complete historical accounting as
well as the correction of all individual Indian trust account
balances due to this mismanagement. The Settlement is with the
Secretary of the Interior, the Assistant Secretary of the
Interior--Indian Affairs, and the Secretary of the Treasury.
The individual Indian trust accounts relate to land, oil,
natural gas, mineral, timber, grazing, water and other
resources and rights on or under individual Indian lands.
Under the terms of the Settlement, the government will
create a $1.412 billion Accounting/Trust Administration Fund
and a $2 billion Trust Land Consolidation Fund. The Settlement
also creates a federal Indian Education Scholarship Fund of up
to $60 million to improve access to higher education for Indian
youth.
Explanation of Provision
The provision approves the Settlement, including the
appropriation and payment of Federal funds. As required under
the Settlement, the provision confirms that the amounts
received by an individual Indian as a lump sum or a periodic
payment pursuant to the Settlement will not be included in
gross income and will not be taken into consideration for
purposes of applying any provision of the Code that takes into
account excludible income in computing adjusted gross income or
modified adjusted gross income. The provision also provides
that for purposes of determining eligibility under any Federal
assisted program, the amounts received will not be treated as
income for the month during which the amounts were received or
as a resource during the 1-year period beginning on the date of
receipt.
Effective Date
The provision is effective upon date of enactment (December
8, 2010).
B. Collection of Past-Due, Legally Enforceable State Debts (sec. 801 of
the Act and sec. 6402(f) of the Code)
Present Law
Under present law, the IRS has the authority to credit
Federal tax overpayments payable on or before September 30,
2018 against any other Federal tax liability owed by the person
who made the overpayment. The balance of the overpayment is
generally refunded, unless a claim has been made for payment of
certain non-tax debts of that person, including certain
unemployment compensation debts.\1519\ Unemployment
compensation debts subject to offset include those arising from
uncollected contributions due to the State's Federal
Unemployment Insurance Trust Fund that remain unpaid due to
fraud and erroneous payments of unemployment compensation that
were obtained by fraud on the part of the taxpayer who made the
overpayment of tax, as well as the penalty and interest
attributable to these debts. If the debt is for an erroneous
payment, the State must establish that the debt has become
final and certified by the Secretary of Labor.\1520\ In
addition, a State may only seek an offset for unemployment
compensation debts owed by residents of the requesting
State.\1521\
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\1519\ Sec. 6402(f) authorizes offsets of unemployment compensation
debts against refunds payable for the ten year period beginning after
September 30, 2008. Other non-Federal tax debts that may be claimed
against overpayments of Federal tax liability include past-due support
within the meaning of the Social Security Act, debts owed to Federal
agencies and State income tax obligations. Sec. 6402(c)-(e).
\1520\ Sec. 6402(f)(5)(A).
\1521\ Sec. 6402(f)(3).
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Offsets for unemployment compensation and/or State income
tax debts occur only after a taxpayer's overpayment has been
reduced for any of the following debts, in the following order
and before any amount is credited to estimated tax for a future
Federal tax liability: (1) Federal tax debts, (2) past-due
support within the meaning of the Social Security Act, and (3)
debts owed to Federal agencies.\1522\ If more than one
unemployment compensation or State income tax debt is owed by
the same resident to his State, the debts are satisfied by the
overpayment in the order in which the debts accrued, without
regard to whether they arise from State income tax or
unemployment compensation. The actions of the IRS in reducing
the overpayment to satisfy the foregoing debts are not subject
to judicial review.\1523\ In the event that a payment to a
State is determined to have been made erroneously by the IRS in
the exercise of its authority to offset for unemployment
compensation debt, the State is required to promptly repay upon
notice from the IRS.\1524\
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\1522\ Sec. 6402(f)(2).
\1523\ Sec. 6402(g).
\1524\ Sec. 6402(f)(7).
---------------------------------------------------------------------------
Certain safeguards apply to the offset of unemployment
compensation debt. Before submitting its claim to the IRS, the
State must provide notice by certified mail with return receipt
of its intent to the person owing the debt and provide at least
60 days for the person to submit a response, with any
supporting evidence, which the State will then consider.\1525\
Other conditions may be prescribed by the Secretary to ensure
that the State has made reasonable efforts to obtain payment of
the covered debt and that the State determination with respect
to fraud is valid. If such a debt is claimed by the creditor
agency to which the debt is owed, the IRS notifies the person
who overpaid that the overpayment has been reduced by the
amount of the debt and that such amount will be paid to the
creditor agency.
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\1525\ Sec. 6402(f)(4).
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Explanation of Provision
The provision expands the ability of a State to collect
benefit overpayments from a benefit recipient's Federal income
tax overpayment in two ways. It removes the requirement that
the excessive or erroneous payment of State benefits have been
attributable to fraud. It also no longer requires that the
State provide notice to the taxpayer by certified mail of the
State's intent to submit a request for offset to the IRS.
In addition, the authority for such offsets is now
permanent. The provision does not change the present-law
provision under which a State's ability to request offset of
unemployment compensation debts against Federal income tax
refunds is limited to requests with respect to residents of the
requesting State.
Effective Date
The provision is effective with respect to refunds under
section 6402 payable on or after the date of enactment
(December 8, 2010).
PART SIXTEEN: REVENUE PROVISONS OF THE TAX RELIEF, UNEMPLOYMENT
INSURANCE REAUTHORIZATION, AND JOB CREATION ACT OF 2010 (PUBLIC LAW
111-312) \1526\
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\1526\ H.R. 4853. The Act originated as a bill relating to the
Airport and Airway Trust Fund and passed the House on the suspension
calendar on March 17, 2010. The Senate passed the bill with an
amendment on September 23, 2010. The House agreed to the Senate
amendment with an amendment substituting the text of the ``Middle Class
Tax Relief Act of 2010'' on December 2, 2010. The Senate agreed to the
House amendment to the Senate amendment with an amendment substituting
the text of the ``Tax Relief, Unemployment Insurance Reauthorization,
and Jobs Creation Act of 2010'' on December 15, 2010. The House agreed
to the Senate amendment to the House amendment to the Senate amendment
on December 16, 2010. The President signed the bill on December 17,
2010. For a technical explanation of the Act prepared by the staff of
the Joint Committee on Taxation, see Technical Explanation of the
Revenue Provisions Contained in the ``Tax Relief, Unemployment
Insurance Reauthorization, and Jobs Creation Act of 2010'' Scheduled
for Consideration by the United States Senate (JCX 55-10), December 10,
2010.
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TITLE I--TEMPORARY EXTENSION OF TAX RELIEF
A. Marginal Individual Income Tax Rate Reductions (sec. 101 of the Act
and sec. 1 of the Code)
Present Law
In general
The Economic Growth and Tax Relief Reconciliation Act of
2001 \1527\ (``EGTRRA'') created a new 10-percent regular
income tax bracket for a portion of taxable income that was
previously taxed at 15 percent. EGTRRA also reduced the other
regular income tax rates. The otherwise applicable regular
income tax rates of 28 percent, 31 percent, 36 percent and 39.6
percent were reduced to 25 percent, 28 percent, 33 percent, and
35 percent, respectively. These provisions of EGTRRA shall
cease to apply for taxable years beginning after December 31,
2010.
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\1527\ Pub. L. No. 107-16.
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Tax rate schedules
To determine regular tax liability, a taxpayer generally
must apply the tax rate schedules (or the tax tables) to his or
her regular taxable income. The rate schedules are broken into
several ranges of income, known as income brackets, and the
marginal tax rate increases as a taxpayer's income increases.
Separate rate schedules apply based on an individual's filing
status. For 2010, the regular individual income tax rate
schedules are as follows:
TABLE 1--FEDERAL INDIVIDUAL INCOME TAX RATES FOR 2010
------------------------------------------------------------------------
If taxable income is: Then income tax equals:
------------------------------------------------------------------------
Single Individuals
Not over $8,375........................ 10% of the taxable income.
Over $8,375 but not over $34,000....... $837.50 plus 15% of the excess
over $8,375.
Over $34,000 but not over $82,400...... $4,681.25 plus 25% of the
excess over $34,000.
Over $82,400 but not over $171,850..... $16,781.25 plus 28% of the
excess over $82,400.
Over $171,850 but not over $373,650.... $41,827.25 plus 33% of the
excess over $171,850.
Over $373,650.......................... $108,421.25 plus 35% of the
excess over $373,650.
Heads of Households
Not over $11,950....................... 10% of the taxable income.
Over $11,950 but not over $45,550...... $1,195 plus 15% of the excess
over $11,950.
Over $45,550 but not over $117,650..... $6,235 plus 25% of the excess
over $45,550.
Over $117,650 but not over $190,550.... $24,260 plus 28% of the excess
over $117,650.
Over $190,550 but not over $373,650.... $44,672 plus 33% of the excess
over $190,550.
Over $373,650.......................... $105,095 plus 35% of the excess
over $373,650.
Married Individuals Filing Joint Returns and Surviving Spouses
Not over $16,750....................... 10% of the taxable income.
Over $16,750 but not over $68,000...... $1,675 plus 15% of the excess
over $16,750.
Over $68,000 but not over $137,300..... $9,362.50 plus 25% of the
excess over $68,000.
Over $137,300 but not over $209,250.... $26,687.50 plus 28% of the
excess over $137,300.
Over $209,250 but not over $373,650.... $46,833.50 plus 33% of the
excess over $209,250.
Over $373,650.......................... $101,085.50 plus 35% of the
excess over $373,650.
Married Individuals Filing Separate Returns
Not over $8,375........................ 10% of the taxable income.
Over $8,375 but not over $34,000....... $837.50 plus 15% of the excess
over $8,375.
Over $34,000 but not over $68,650...... $4,681.25 plus 25% of the
excess over $34,000.
Over $68,650 but not over $104,625..... $13,343.75 plus 28% of the
excess over $68,650.
Over $104,625 but not over $186,825.... $23,416.75 plus 33% of the
excess over $104,625.
Over $186,825.......................... $50,542.75 plus 35% of the
excess over $186,825.
------------------------------------------------------------------------
Explanation of Provision
The provision extends the 10-percent, 15-percent, 25-
percent, 28-percent, 33-percent and 35-percent individual
income tax rates for two years (through 2012).
The rate structure is indexed for inflation.
A comparison of Table 2, below, with Table 1, above,
illustrates the tax rate changes. Note that Table 2 also
incorporates the provision to retain the marriage penalty
relief with respect to the size of the 15 percent rate bracket,
as discussed below.
TABLE 2.--FEDERAL INDIVIDUAL INCOME TAX RATES FOR 2011
------------------------------------------------------------------------
If taxable income is: Then income tax equals:
------------------------------------------------------------------------
Single Individuals
Not over $8,500........................ 10% of the taxable income.
Over $8,500 but not over $34,500....... $850 plus 15% of the excess
over $8,500.
Over $34,500 but not over $83,600...... $4,750 plus 25% of the excess
over $34,500.
Over $83,600 but not over $174,400..... $17,025 plus 28% of the excess
over $83,600.
Over $174,400 but not over $379,150.... $42,449 plus 33% of the excess
over $174,400.
Over $379,150.......................... $110,016.50 plus 35% of the
excess over $379,150.
Heads of Households
Not over $12,150....................... 10% of the taxable income.
Over $12,150 but not over $46,250...... $1,215 plus 15% of the excess
over $12,150.
Over $46,250 but not over $119,400..... $6,330 plus 25% of the excess
over $46,250.
Over $119,400 but not over $193,350.... $24,617.50 plus 28% of the
excess over $119,400.
Over $193,350 but not over $379,150.... $45,323.50 plus 33% of the
excess over $193,350.
Over $379,150.......................... $106,637.50 plus 35% of the
excess over $379,150.
Married Individuals Filing Joint Returns and Surviving Spouses
Not over $17,000....................... 10% of the taxable income.
Over $17,000 but not over $69,000...... $1,700 plus 15% of the excess
over $17,000.
Over $69,000 but not over $139,350..... $9,500 plus 25% of the excess
over $69,000.
Over $139,350 but not over $212,300.... $27,087.50 plus 28% of the
excess over $139,350.
Over $212,300 but not over $379,150.... $47,513.50 plus 33% of the
excess over $212,300.
Over $379,150.......................... $102,574 plus 35% of the excess
over $379,150.
Married Individuals Filing Separate Returns
Not over $8,500........................ 10% of the taxable income.
Over $8,500 but not over $34,500....... $850 plus 15% of the excess
over $8,500.
Over $34,500 but not over $69,675...... $4,750 plus 25% of the excess
over $34,500.
Over $69,675 but not over $106,150..... $13,543.75 plus 28% of the
excess over $69,675.
Over $106,150 but not over $189,575.... $23,756.75 plus 33% of the
excess over $106,150.
Over $189,575.......................... $51,287 plus 35% of the excess
over $189,575.
------------------------------------------------------------------------
Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
B. The Overall Limitation on Itemized Deductions and the Personal
Exemption Phase-Out (sec. 101 of the Act and secs. 68 and 151 of the
Code)
Present Law
Overall limitation on itemized deductions (``Pease'' limitation)
Unless an individual elects to claim the standard deduction
for a taxable year, the taxpayer is allowed to deduct his or
her itemized deductions. Itemized deductions generally are
those deductions which are not allowed in computing adjusted
gross income (``AGI''). Itemized deductions include
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.
Prior to 2010, the total amount of otherwise allowable
itemized deductions (other than medical expenses, investment
interest, and casualty, theft, or wagering losses) was limited
for upper-income taxpayers. In computing this reduction of
total itemized deductions, all limitations applicable to such
deductions (such as the separate floors) were first applied
and, then, the otherwise allowable total amount of itemized
deductions was reduced by three percent of the amount by which
the taxpayer's AGI exceeded a threshold amount which was
indexed annually for inflation. The otherwise allowable
itemized deductions could not be reduced by more than 80
percent.
EGTRRA repealed this overall limitation on itemized
deductions with the repeal phased-in over five years. EGTRRA
provided: (1) a one-third reduction of the otherwise applicable
limitation in 2006 and 2007; (2) a two-thirds reduction in
2008, and 2009; and (3) no overall limitation on itemized
deductions in 2010. Thus in 2009, for example, the total amount
of otherwise allowable itemized deductions (other than medical
expenses, investment interest, and casualty, theft, or wagering
losses) was reduced by three percent of the amount of the
taxpayer's AGI in excess of $166,800 ($83,400 for married
couples filing separate returns). Then the overall reduction in
itemized deductions was phased-down to 1/3 of the full
reduction amount (that is, the limitation was reduced by two-
thirds).
Pursuant to the general EGTRRA sunset, the phased-in repeal
of the Pease limitation sunsets and the limitation becomes
fully effective again in 2011. Adjusting for inflation, the AGI
threshold is $169,550 for 2011.
Personal exemption phase-out for certain taxpayers (``PEP'')
Personal exemptions generally are allowed for the taxpayer,
his or her spouse, and any dependents. For 2010, the amount
deductible for each personal exemption is $3,650. This amount
is indexed annually for inflation.
Prior to 2010, the deduction for personal exemptions was
reduced or eliminated for taxpayers with incomes over certain
thresholds, which were indexed annually for inflation.
Specifically, the total amount of exemptions that could be
claimed by a taxpayer was reduced by two percent for each
$2,500 (or portion thereof) by which the taxpayer's AGI
exceeded the applicable threshold. (The phase-out rate was two
percent for each $1,250 for married taxpayers filing separate
returns.) Thus, the deduction for personal exemptions was
phased out over a $122,500 range (which was not indexed for
inflation), beginning at the applicable threshold.
In 2009, for example, the applicable thresholds were
$166,800 for single individuals, $250,200 for married
individuals filing a joint return and surviving spouses,
$208,500 for heads of households, and $125,100 for married
individuals filing separate returns.
EGTRRA repealed PEP with the repeal phased-in over five
years. EGTRRA provided: (1) a one-third reduction of the
otherwise applicable limitation in 2006 and 2007: (2) a two-
thirds reduction in 2008, and 2009; and (3) no PEP in 2010.
However, under the EGTRRA sunset, the PEP becomes fully
effective again in 2011. Adjusted for inflation, the PEP
thresholds for 2011 are: (1) $169,550 for unmarried
individuals; (2) $254,350 for married couples filing joint
returns; and (3) $211,950 for heads of households.
Explanation of Provision
Overall limitation on itemized deductions (``Pease'' limitation)
Under the provision the overall limitation on itemized
deductions does not apply for two additional years (through
2012).
Personal exemption phase-out for certain taxpayers (``PEP'')
Under the provision the personal exemption phase-out does
not apply for two additional years (through 2012).
Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
C. Child Tax Credit (secs. 101 and 103 of the Act and sec. 24 of the
Code)
Present Law
An individual may claim a tax credit for each qualifying
child under the age of 17. The maximum amount of the credit per
child is $1,000 through 2010 and $500 thereafter. A child who
is not a citizen, national, or resident of the United States
cannot be a qualifying child.
The aggregate amount of child credits that may be claimed
is phased out for individuals with income over certain
threshold amounts. Specifically, the otherwise allowable
aggregate child tax credit amount is reduced by $50 for each
$1,000 (or fraction thereof) of modified adjusted gross income
(``modified AGI'') 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. For purposes of this limitation, modified AGI includes
certain otherwise excludable income earned by U.S. citizens or
residents living abroad or in certain U.S. territories.
The credit is allowable against the regular tax and, for
taxable years beginning before January 1, 2011, is allowed
against the alternative minimum tax (``AMT''). To the extent
the child tax credit exceeds the taxpayer's tax liability, the
taxpayer is eligible for a refundable credit (the additional
child tax credit) equal to 15 percent of earned income in
excess of a threshold dollar amount (the ``earned income''
formula). EGTRRA provided, in general, that this threshold
dollar amount is $10,000 indexed for inflation from 2001. The
American Recovery and Reinvestment Act of 2009 (``ARRA'')
\1528\ set the threshold at $3,000 for both 2009 and 2010.
After 2010, the ability to determine the refundable child
credit based on earned income in excess of the threshold dollar
amount expires.
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\1528\ Pub. L. No. 111-5.
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Families with three or more qualifying children may
determine the additional child tax credit using the
``alternative formula'' if this results in a larger credit than
determined under the earned income formula. Under the
alternative formula, the additional child tax credit equals the
amount by which the taxpayer's social security taxes exceed the
taxpayer's earned income tax credit (``EITC''). After 2010, due
to the expiration of the earned income formula, this is the
only manner of obtaining a refundable child credit.
Earned income is defined as the sum of wages, salaries,
tips, and other taxable employee compensation plus net self-
employment earnings. Unlike the EITC, which also includes the
preceding items in its definition of earned income, the
additional child tax credit is based only on earned income to
the extent it is included in computing taxable income. For
example, some ministers' parsonage allowances are considered
self-employment income, and thus are considered earned income
for purposes of computing the EITC, but are excluded from gross
income for individual income tax purposes. Therefore, these
allowances are not considered earned income for purposes of the
additional child tax credit.
Explanation of Provision
The provision extends the $1,000 child tax credit and
allows the child tax credit against the individual's regular
income tax and AMT for two years (through 2012). The provision
also extends the EGTRRA repeal of a prior-law provision that
reduced the refundable child credit by the amount of the AMT
for two years (through 2012). The provision extends the earned
income formula for determining the refundable child credit,
with the earned income threshold of $3,000 (also, the provision
stops indexation for inflation of the $3,000 earnings
threshold) for two years (through 2012).\1529\ Finally, the
provision extends the rule that the refundable portion of the
child tax credit does not constitute income and shall not be
treated as resources for purposes of determining eligibility or
the amount or nature of benefits or assistance under any
Federal program or any State or local program financed with
Federal funds for two years (through 2012).
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\1529\ Section 101 of the Act extends the EGTRRA modifications to
the provision. Section 103 of the Act extends the modifications to the
provision (including reduction in the earnings threshold for the
refundable portion of the child tax credit to $3,000). See Title I,
section J for additional discussion of the child tax credit, below.
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Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
D. Marriage Penalty Relief and Earned Income Tax Credit Simplification
(sec. 101 of the Act and secs. 1, 32, and 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
EGTRRA increased 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 continued 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 are the same.
Fifteen percent rate bracket
EGTRRA increased 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.
Earned income tax credit
The earned income tax credit (``EITC'') is a refundable
credit available to certain low-income taxpayers. Generally,
the amount of an individual's allowable earned income credit is
dependent on the individual's earned income, adjusted gross
income, the number of qualifying children and (through 2010)
filing status.
Explanation of Provision
Basic standard deduction
The provision 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 for two years (through 2012).
Fifteen percent rate bracket
The provision increases the size of the 15-percent regular
income tax rate bracket for a married couple filing a joint
return to twice the 15-percent regular income tax rate bracket
for an unmarried individual filing a single return for two
years (through 2012).
Earned income tax credit
The provision extends certain EITC provisions adopted by
EGTRRA for two years (through 2012). These include: (1) a
simplified definition of earned income; (2) a simplified
relationship test; (3) use of AGI instead of modified AGI; (4)
a simplified tie-breaking rule; (5) additional math error
authority for the Internal Revenue Service; (6) a repeal of the
prior-law provision that reduced an individual's EITC by the
amount of his alternative minimum tax liability; and (7)
increases in the beginning and ending points of the credit
phase-out for married taxpayers by $5,000.\1530\
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\1530\ The $5,000 amount, which is indexed for inflation annually,
also reflects the increase from $3,000 to $5,000 described more fully
in Title I, section K of this document, below.
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Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
E. Education Incentives (sec. 101 of the Act and secs. 117, 127, 142,
146-148, 221, and 530 of the Code)
Present Law
Income and wage exclusion for awards under the National Health Service
Corps Scholarship Program and the F. Edward Hebert Armed Forces
Health Professions Scholarship and Financial Assistance Program
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. Amounts excludable from
gross income under section 117 are also excludable from wages
for payroll tax purposes.\1531\
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\1531\ Sec. 3121(a)(20).
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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. An exception to
this rule applies in the case of 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'').
The NHSC Scholarship Program and 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 Scholarship 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.
Under the sunset provisions of EGTRRA, the exclusion from
gross income and wages for the NHSC Scholarship Program and the
Armed Forces Scholarship Program will no longer apply for
taxable years beginning after December 31, 2010.
Income and wage exclusion for employer-provided educational assistance
If certain requirements are satisfied, up to $5,250
annually of educational assistance provided by an employer to
an employee is excludable from gross income for income tax
purposes and from wages for employment tax purposes.\1532\ This
exclusion applies to both graduate and undergraduate
courses.\1533\ 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
employer's educational assistance program must not discriminate
in favor of highly compensated employees. In addition, no more
than five percent of the amounts paid or incurred by the
employer during the year for educational assistance under a
qualified educational assistance program can be provided for
the class of individuals consisting of more than five-percent
owners of the employer and the spouses or dependents of such
more than five-percent owners.
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\1532\ Secs. 127, 3121(a)(18).
\1533\ The exclusion has not always applied to graduate courses.
The exclusion was first made inapplicable to graduate-level courses by
the Technical and Miscellaneous Revenue Act of 1988. The exclusion was
reinstated with respect to graduate-level courses by the Omnibus Budget
Reconciliation Act of 1990, effective for taxable years beginning after
December 31, 1990. The exclusion was again made inapplicable to
graduate-level courses by the Small Business Job Protection Act of
1996, effective for courses beginning after June 30, 1996. The
exclusion for graduate-level courses was reinstated by EGTRRA, although
that change does not apply to taxable years beginning after December
31, 2010 (under EGTRRA's sunset provision).
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For purposes of the exclusion, educational assistance means
the payment by an employer of expenses incurred by or on behalf
of the employee for education of the employee including, but
not limited to, tuition, fees, and similar payments, books,
supplies, and equipment. Educational assistance also includes
the provision by the employer of courses of instruction for the
employee (including books, supplies, and equipment).
Educational assistance does not include (1) tools or supplies
that may be retained by the employee after completion of a
course, (2) meals, lodging, or transportation, or (3) any
education involving sports, games, or hobbies. The exclusion
for employer-provided educational assistance applies only with
respect to education provided to the employee (e.g., it does
not apply to education provided to the spouse or a child of the
employee).
In the absence of the specific exclusion for employer-
provided educational assistance under section 127, employer-
provided educational assistance is excludable from gross income
and wages only if the education expenses qualify as a working
condition fringe benefit.\1534\ 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. In
determining the amount deductible for this purpose, the two-
percent floor on miscellaneous itemized deductions is
disregarded.
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\1534\ Sec. 132(d).
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The specific exclusion for employer-provided educational
assistance was originally enacted on a temporary basis and was
subsequently extended 10 times.\1535\ EGTRRA deleted the
exclusion's explicit expiration date and extended the exclusion
to graduate courses. However, those changes are subject to
EGTRRA's sunset provision so that the exclusion will not be
available for taxable years beginning after December 31, 2010.
Thus, at that time, educational assistance will be excludable
from gross income only if it qualifies as a working condition
fringe benefit (i.e., the expenses would have been deductible
as business expenses if paid by the employee). As previously
discussed, to meet such requirement, the expenses must be
related to the employee's current job.\1536\
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\1535\ The exclusion was first enacted as part of the Revenue Act
of 1978 (with a 1983 expiration date).
\1536\ Treas. Reg. sec. 1.162-5.
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Deduction for student loan interest
Certain individuals who have paid interest on qualified
education loans may claim an above-the-line deduction for such
interest expenses, subject to a maximum annual deduction
limit.\1537\ Required payments of interest generally do not
include voluntary payments, such as interest payments made
during a period of loan forbearance. No deduction is allowed to
an individual if that individual is claimed as a dependent on
another taxpayer's return for the taxable year.
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\1537\ Sec. 221.
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A qualified education loan generally is defined as any
indebtedness incurred solely to pay for the costs of attendance
(including room and board) of the taxpayer, the taxpayer's
spouse, or any dependent of the taxpayer as of the time the
indebtedness was incurred in attending an eligible educational
institution on at least a half-time basis. Eligible educational
institutions are (1) post-secondary educational institutions
and certain vocational schools defined by reference to section
481 of the Higher Education Act of 1965, or (2) institutions
conducting internship or residency programs leading to a degree
or certificate from an institution of higher education, a
hospital, or a health care facility conducting postgraduate
training. Additionally, to qualify as an eligible educational
institution, an institution must be eligible to participate in
Department of Education student aid programs.
The maximum allowable deduction per year is $2,500. For
2010, the deduction is phased out ratably for single taxpayers
with AGI between $60,000 and $75,000 and between $120,000 and
$150,000 for married taxpayers filing a joint return. The
income phaseout ranges are indexed for inflation and rounded to
the next lowest multiple of $5,000.
Effective for taxable years beginning after December 31,
2010, the changes made by EGTRRA to the student loan provisions
no longer apply. The EGTRRA changes scheduled to expire are:
(1) increases that were made in the AGI phaseout ranges for the
deduction and (2) rules that extended deductibility of interest
beyond the first 60 months that interest payments are required.
With the expiration of EGTRRA, the phaseout ranges will revert
to a base level of $40,000 to $55,000 ($60,000 to $75,000 in
the case of a married couple filing jointly), but with an
adjustment for inflation occurring since 2002.
Coverdell education savings accounts
A Coverdell education savings account is a trust or
custodial account created exclusively for the purpose of paying
qualified education expenses of a named beneficiary.\1538\
Annual contributions to Coverdell education savings accounts
may not exceed $2,000 per designated beneficiary and may not be
made after the designated beneficiary reaches age 18 (except in
the case of a special needs beneficiary). The contribution
limit is phased out for taxpayers with modified AGI between
$95,000 and $110,000 ($190,000 and $220,000 for married
taxpayers filing a joint return); the AGI of the contributor,
and not that of the beneficiary, controls whether a
contribution is permitted by the taxpayer.
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\1538\ Sec. 530.
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Earnings on contributions to a Coverdell education savings
account generally are subject to tax when withdrawn.\1539\
However, distributions from a Coverdell education savings
account are excludable from the gross income of the distributee
(i.e., the student) to the extent that the distribution does
not exceed the qualified education expenses incurred by the
beneficiary during the year the distribution is made. The
earnings portion of a Coverdell education savings account
distribution not used to pay qualified education expenses is
includible in the gross income of the distributee and generally
is subject to an additional 10-percent tax.\1540\
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\1539\ In addition, Coverdell education savings accounts are
subject to the unrelated business income tax imposed by section 511.
\1540\ This 10-percent additional tax does not apply if a
distribution from an education savings account is made on account of
the death or disability of the designated beneficiary, or if made on
account of a scholarship received by the designated beneficiary.
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Tax-free (including free of additional 10-percent tax)
transfers or rollovers of account balances from one Coverdell
education savings account benefiting one beneficiary to another
Coverdell education savings account benefiting another
beneficiary (as well as redesignations of the named
beneficiary) are permitted, provided that the new beneficiary
is a member of the family of the prior beneficiary and is under
age 30 (except in the case of a special needs beneficiary). In
general, any balance remaining in a Coverdell education savings
account is deemed to be distributed within 30 days after the
date that the beneficiary reaches age 30 (or, if the
beneficiary dies before attaining age 30, within 30 days of the
date that the beneficiary dies).
Qualified education expenses include ``qualified higher
education expenses'' and ``qualified elementary and secondary
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.\1541\
Moreover, qualified higher education expenses include certain
room and board expenses for any period during which the
beneficiary is at least a half-time student. 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 tuition program for the benefit of
the beneficiary of the Coverdell education savings
account.\1542\
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\1541\ Qualified higher education expenses are defined in the same
manner as for qualified tuition programs.
\1542\ Sec. 530(b)(2)(B).
---------------------------------------------------------------------------
The term ``qualified elementary and secondary education
expenses,'' means expenses for: (1) tuition, fees, academic
tutoring, special needs services, books, supplies, 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;
(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; and (3) the purchase of any
computer technology or equipment (as defined in section
170(e)(6)(F)(i)) or Internet access and related services, if
such technology, equipment, or services are to be used by the
beneficiary and the beneficiary's family during any of the
years the beneficiary is in elementary or secondary school.
Computer software primarily involving sports, games, or hobbies
is not considered a qualified elementary and secondary
education expense unless the software is predominantly
educational in nature.
Qualified education expenses generally include only out-of-
pocket expenses. Such qualified education expenses do not
include expenses covered by employer-provided educational
assistance or scholarships for the benefit of the beneficiary
that are excludable from gross income. Thus, total qualified
education expenses are reduced by scholarship or fellowship
grants excludable from gross income under section 117, as well
as any other tax-free educational benefits, such as employer-
provided educational assistance, that are excludable from the
employee's gross income under section 127.
Effective for taxable years beginning after December 31,
2010, the changes made by EGTRRA to Coverdell education savings
accounts no longer apply. The EGTRRA changes scheduled to
expire are: (1) the increase in the contribution limit to
$2,000 from $500; (2) the increase in the phaseout range for
married taxpayers filing jointly to $190,000-$220,000 from
$150,000-$160,000; (3) the expansion of qualified expenses to
include elementary and secondary education expenses; (4)
special age rules for special needs beneficiaries; (5)
clarification that corporations and other entities are
permitted to make contributions, regardless of the income of
the corporation or entity during the year of the contribution;
(6) certain rules regarding when contributions are deemed made
and extending the time during which excess contributions may be
returned without additional tax; (7) certain rules regarding
coordination with the Hope and Lifetime Learning credits; and
(8) certain rules regarding coordination with qualified tuition
programs.
Amount of governmental bonds that may be issued by governments
qualifying for the ``small governmental unit'' arbitrage rebate
exception
To prevent State and local governments 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.\1543\ The Code also
provides certain exceptions to the arbitrage restrictions.
Under one such exception, small issuers of governmental bonds
issued for local governmental activities are not subject to the
rebate requirement.\1544\ To qualify for this exception the
governmental bonds must be issued by a governmental unit with
general taxing powers that reasonably expects to issue no more
than $5 million of tax-exempt governmental bonds in a calendar
year.\1545\ Prior to EGTRRA, the $5 million limit was increased
to $10 million if at least $5 million of the bonds are used to
finance public schools. EGTRRA provided 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.\1546\ 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. This increase
is subject to the EGTRRA sunset.
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\1543\ The exclusion from gross income for interest on State and
local bonds does not apply to any arbitrage bond (sec. 103(a), (b)(2)).
A bond is an arbitrage bond if it is part of an issue that violates the
restrictions against investing in higher-yielding investments under
section 148(a) or that fails to satisfy the requirement to rebate
arbitrage earnings under section 148(f).
\1544\ Ninety-five percent or more of the net proceeds of
governmental bond issue are to be used for local governmental
activities of the issuer. Sec. 148(f)(4)(D).
\1545\ Under the Treasury regulations, an issuer may apply a fact-
based rather than an expectations-based test. Treas. Reg. sec. 1.148-
8(c)(1).
\1546\ Sec. 148(f)(4)(D)(vii).
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Issuance of tax-exempt private activity bonds for public school
facilities
Interest on bonds that nominally are issued by State 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.'' \1547\ The term
``private person'' includes the Federal government and all
other individuals and entities other than State or local
governments.
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\1547\ The Code provides that the exclusion from gross income does
not apply to interest on private activity bonds that are not qualified
bonds within the meaning of section 141. See secs. 103(b)(1), 141.
---------------------------------------------------------------------------
Only specified private activity bonds are tax-exempt.
EGTRRA added a new type of private activity bond that is
subject to the EGTRRA sunset. This category is bonds for
elementary and secondary public school facilities that are
owned by private, for-profit corporations pursuant to public-
private partnership agreements with a State or local
educational agency.\1548\ The term school facility includes
school buildings and functionally related and subordinate land
(including stadiums or other athletic facilities primarily used
for school events) 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.
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\1548\ Sec. 142(a)(13), (k).
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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.
Explanation of Provision
The provision delays the EGTRRA sunset as it applies to the
NHSC Scholarship Program and the Armed Forces Scholarship
Program, the section 127 exclusion from income and wages for
employer-provided educational assistance, the student loan
interest deduction, and Coverdell education savings accounts
for two years. The provision also delays the EGTRRA sunset as
it applies to the expansion of the small government unit
exception to arbitrage rebate and allowing issuance of tax-
exempt private activity bonds for public school facilities.
Thus, all of these tax benefits for education continue to be
available through 2012.
Effective Date
The provision is effective on the date of enactment.
F. Other Incentives for Families and Children (includes extension of
the adoption tax credit, employer-provided child care tax credit, and
dependent care tax credit) (sec. 101 of the Act and secs. 21, 23, 36C,
45D, and 137 of the Code)
Present Law
Adoption credit and exclusion from income for employer-provided
adoption assistance
Present law for 2010 provides: (1) a maximum adoption
credit of $13,170 per eligible child (both special needs and
non-special needs adoptions); and (2) a maximum exclusion of
$13,170 per eligible child (both special needs and non-special
needs adoptions).\1549\ These dollar amounts are adjusted
annually for inflation. These benefits are phased-out over a
$40,000 range for taxpayers with modified adjusted gross income
(``modified AGI'') in excess of certain dollar levels. For
2010, the phase-out range is between $182,520 and $222,520. The
phase-out threshold is adjusted for inflation annually, but the
phase-out range remains a $40,000 range.
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\1549\ EGTRRA increased the maximum credit and exclusion to $10,000
(indexed for inflation after 2002) for both non-special needs and
special needs adoptions, increased the phase-out starting point to
$150,000 (indexed for inflation after 2002), and allowed the credit
against the AMT. Section 10909 of the Patient Protection and Affordable
Care Act, Pub. L. No. 111-148: (1) extended the EGTRRA expansion of the
adoption credit and exclusion from income for employer-provided
adoption assistance for one year (for 2011); (2) increased by $1,000
(to $13,170, indexed for inflation) the maximum adoption credit and
exclusion from income for employer-provided adoption assistance for two
years (2010 and 2011); and (3) made the credit refundable for two years
(2010 and 2011).
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For taxable years beginning after December 31, 2011, the
adoption credit and employer-provided adoption assistance
exclusion are available only to special needs adoptions and the
maximum credit and exclusion are reduced to $6,000,
respectively. The phase-out range is reduced to lower income
levels (i.e., between $75,000 and $115,000). The maximum
credit, exclusion, and phase-out range are not indexed for
inflation.
Employer-provided child care tax credit
Taxpayers receive a tax credit equal to 25 percent of
qualified expenses for employee child care and 10 percent of
qualified expenses for child care resource and referral
services. The maximum total credit that may be claimed by a
taxpayer cannot exceed $150,000 per taxable year.
Qualified child care expenses include costs paid or
incurred: (1) to acquire, construct, rehabilitate or expand
property that is to be used as part of the taxpayer's qualified
child care facility; (2) for the operation of the taxpayer's
qualified child care facility, including the costs of training
and certain compensation for employees of the child care
facility, and scholarship programs; or (3) under a contract
with a qualified child care facility to provide child care
services to employees of the taxpayer. To be a qualified child
care facility, the principal use of the facility must be for
child care (unless it is the principal residence of the
taxpayer), and the facility must meet all applicable State and
local laws and regulations, including any licensing laws. A
facility is not treated as a qualified child care facility with
respect to a taxpayer unless: (1) it has open enrollment to the
employees of the taxpayer; (2) use of the facility (or
eligibility to use such facility) does not discriminate in
favor of highly compensated employees of the taxpayer (within
the meaning of section 414(q) of the Code); and (3) at least 30
percent of the children enrolled in the center are dependents
of the taxpayer's employees, if the facility is the principal
trade or business of the taxpayer. Qualified child care
resource and referral expenses are amounts paid or incurred
under a contract to provide child care resource and referral
services to the employees of the taxpayer. Qualified child care
services and qualified child care resource and referral
expenditures must be provided (or be eligible for use) in a way
that does not discriminate in favor of highly compensated
employees of the taxpayer (within the meaning of section 414(q)
of the Code).
Any amounts for which the taxpayer may otherwise claim a
tax deduction are reduced by the amount of these credits.
Similarly, if the credits are taken for expenses of acquiring,
constructing, rehabilitating, or expanding a facility, the
taxpayer's basis in the facility is reduced by the amount of
the credits.
Credits taken for the expenses of acquiring, constructing,
rehabilitating, or expanding a qualified facility are subject
to recapture for the first ten years after the qualified child
care facility is placed in service. The amount of recapture is
reduced as a percentage of the applicable credit over the 10-
year recapture period. Recapture takes effect if the taxpayer
either ceases operation of the qualified child care facility or
transfers its interest in the qualified child care facility
without securing an agreement to assume recapture liability for
the transferee. The recapture tax is not treated as a tax for
purposes of determining the amount of other credits or
determining the amount of the alternative minimum tax. Other
rules apply.
This tax credit expires for taxable years beginning after
December 31, 2010.
Dependent care tax credit
The maximum dependent care tax credit is $1,050 (35 percent
of up to $3,000 of eligible expenses) if there is one
qualifying individual, and $2,100 (35 percent of up to $6,000
of eligible expenses) if there are two or more qualifying
individuals. The 35-percent credit rate is reduced, but not
below 20 percent, by one percentage point for each $2,000 (or
fraction thereof) of adjusted gross income (``AGI'') above
$15,000. Therefore, the credit percentage is reduced to 20
percent for taxpayers with AGI over $43,000.
The level of this credit is reduced for taxable years
beginning after December 31, 2010, under the EGTRRA sunset.
Explanation of Provision
Adoption credit and exclusion from income for employer-provided
adoption assistance
The provision extends the EGTRRA expansion of these two
benefits for one year (2012). Therefore, for 2012, the maximum
benefit is $12,170 (indexed for inflation after 2010). The
adoption credit and exclusion are phased out ratably for
taxpayers with modified adjusted gross income between $182,520
and $222,520 (indexed for inflation after 2010).\1550\
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\1550\ The changes to the adoption credit and exclusion from
employer-provided adoption assistance for 2010 and 2011 (relating to
the $1,000 increase in the maximum credit and exclusion and the
refundability of the credit) enacted as part of the Patient Protection
and Affordable Care Act, Pub. L. No. 111-148, are not extended by the
provision.
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Employer-provided child care tax credit
The provision extends this tax benefit for two years
(through 2012).
Expansion of dependent care tax credit
The provision extends the dependent care tax credit EGTRRA
expansion for two years (through 2012).
Effective Date
The provisions apply to taxable years beginning after
December 31, 2010.
G. Alaska Native Settlement Trusts (sec. 101 of the Act and sec. 646 of
the Code)
Present Law
The Alaska Native Claims Settlement Act (``ANCSA'') \1551\
established Alaska Native Corporations to hold property for
Alaska Natives. Alaska Natives are generally the only permitted
common shareholders of those corporations under section 7(h) of
ANCSA, unless an Alaska Native Corporation specifically allows
other shareholders under specified procedures.
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\1551\ 43 U.S.C. 1601 et. seq.
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ANCSA permits an Alaska Native Corporation to transfer
money or other property to an Alaska Native Settlement Trust
(``Settlement Trust'') for the benefit of beneficiaries who
constitute all or a class of the shareholders of the Alaska
Native Corporation, to promote the health, education and
welfare of beneficiaries and to preserve the heritage and
culture of Alaska Natives.\1552\
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\1552\ With certain exceptions, once an Alaska Native Corporation
has made a conveyance to a Settlement 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 Settlement Trust.
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Alaska Native Corporations and Settlement Trusts, as well
as their shareholders and beneficiaries, are generally subject
to tax under the same rules and in the same manner as other
taxpayers that are corporations, trusts, shareholders, or
beneficiaries.
Special tax rules enacted in 2001 allow an election to use
a more favorable tax regime for transfers of property by an
Alaska Native Corporation to a Settlement Trust and for income
taxation of the Settlement Trust. There is also simplified
reporting to beneficiaries.
Under the special tax rules, a Settlement Trust may make an
irrevocable election to pay tax on taxable income at the lowest
rate specified for individuals (rather than the highest rate
that is generally applicable to trusts) and to pay tax on
capital gains at a rate consistent with being subject to such
lowest rate of tax. As described further below, beneficiaries
may generally thereafter exclude from gross income
distributions from a trust that has made this election. Also,
contributions from an Alaska Native Corporation to an electing
Settlement Trust generally will not result in the recognition
of gross income by beneficiaries on account of the
contribution. An electing Settlement Trust remains subject to
generally applicable requirements for classification and
taxation as a trust.
A Settlement Trust distribution is excludable from the
gross income of beneficiaries to the extent of the taxable
income of the Settlement Trust for the taxable year and all
prior taxable years for which an election was in effect,
decreased by income tax paid by the Trust, plus tax-exempt
interest from State and local bonds for the same period.
Amounts distributed in excess of the amount excludable is taxed
to the beneficiaries as if distributed by the sponsoring Alaska
Native Corporation in the year of distribution by the Trust,
which means that the beneficiaries must include in gross income
as dividends the amount of the distribution, up to the current
and accumulated earnings and profits of the Alaska Native
Corporation. Amounts distributed in excess of the current and
accumulated earnings and profits are not included in gross
income by the beneficiaries.
A special loss disallowance rule reduces (but not below
zero) any loss that would otherwise be recognized upon
disposition of stock of a sponsoring Alaska Native Corporation
by a proportion, determined on a per share basis, of all
contributions to all electing Settlement Trusts by the
sponsoring Alaska Native Corporation. This rule prevents a
stockholder from being able to take advantage of a decrease in
value of an Alaska Native Corporation that is caused by a
transfer of assets from the Alaska Native Corporation to a
Settlement Trust.
The fiduciary of an electing Settlement Trust is obligated
to provide certain information relating to distributions from
the trust in lieu of reporting requirements under Section
6034A.
The earnings and profits of an Alaska Native Corporation
are not reduced by the amount of its contributions to an
electing Trust at the time of the contributions. However, the
Alaska Native Corporation earnings and profits are reduced as
and when distributions are thereafter made by the electing
Trust that are taxed to the beneficiaries as dividends from the
Alaska Native Corporation to the beneficiaries.
The election to pay tax at the lowest rate is not available
in certain disqualifying cases: (a) where transfer restrictions
have been modified either to allow a transfer of a beneficial
interest that would not be permitted by section 7(h) of the
Alaska Native Claims Settlement Act if the interest were
Settlement Common stock, or (b) where transfer restrictions
have been modified to allow a transfer of any Stock in an
Alaska Native Corporation that would not be permitted by
section 7(h) if it were Settlement Common Stock and the Alaska
Native Corporation thereafter makes a transfer to the Trust.
Where an election is already in effect at the time of such
disqualifying situations, the special rules applicable to an
electing trust cease to apply and rules generally applicable to
trusts apply. In addition, the distributable net income of the
trust is increased by undistributed current and accumulated
earnings and profits of the trust, limited by the fair market
value of trust assets at the date the trust becomes so
disposable. The effect is to cause the trust to be taxed at
regular trust rates on the amount of recomputed distributable
net income not distributed to beneficiaries, and to cause the
beneficiaries to be taxed on the amount of any distributions
received consistent with the applicable tax rate bracket.\1553\
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\1553\ These provisions were enacted by section 671 of the Economic
Growth and Tax Relief Reconciliation Act of 2001, Pub. L. No. 107-16,
scheduled to sunset in taxable years beginning after December 31, 2010.
See H.R. Rep. No. 107-84 (2001).
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Explanation of Provision
The provision delays for two years the EGTRRA sunset as it
applies to electing Settlement Trusts.
Effective Date
The provision is effective for taxable years of electing
Settlement Trusts, their beneficiaries, and sponsoring Alaska
Native Corporations beginning after December 31, 2010.
H. Reduced Rate on Dividends and Capital Gains (sec. 102 of the Act and
sec. 1(h) of the Code)
Present Law
Dividends
In general
A dividend is the distribution of property made by a
corporation to its shareholders out of its after-tax earnings
and profits.
Tax rates before 2011
An individual's qualified dividend income is taxed at the
same rates that apply to net capital gain. This treatment
applies for purposes of both the regular tax and the
alternative minimum tax. Thus, for taxable years beginning
before 2011, an individual's qualified dividend income is taxed
at rates of zero and 15 percent. The zero-percent rate applies
to qualified dividend income which otherwise would be taxed at
a 10- or 15-percent rate if the special rates did not apply.
Qualified dividend income generally includes dividends
received from domestic corporations and qualified foreign
corporations. The term ``qualified foreign corporation''
includes a foreign corporation that is eligible for the
benefits of a comprehensive income tax treaty with the United
States which the Treasury Department determines to be
satisfactory and which includes an exchange of information
program. In addition, a foreign corporation is treated as a
qualified foreign corporation for any dividend paid by the
corporation with respect to stock that is readily tradable on
an established securities market in the United States.
If a shareholder does not hold a share of stock for more
than 60 days during the 121-day period beginning 60 days before
the ex-dividend date (as measured under section 246(c)),
dividends received on the stock are not eligible for the
reduced rates. Also, the reduced rates are not available for
dividends to the extent that the taxpayer is obligated to make
related payments with respect to positions in substantially
similar or related property.
Dividends received from a corporation that is a passive
foreign investment company (as defined in section 1297) in
either the taxable year of the distribution, or the preceding
taxable year, are not qualified dividends.
Special rules apply in determining a taxpayer's foreign tax
credit limitation under section 904 in the case of qualified
dividend income. For these purposes, rules similar to the rules
of section 904(b)(2)(B) concerning adjustments to the foreign
tax credit limitation to reflect any capital gain rate
differential will apply to any qualified dividend income.
If a taxpayer receives an extraordinary dividend (within
the meaning of section 1059(c)) eligible for the reduced rates
with respect to any share of stock, any loss on the sale of the
stock is treated as a long-term capital loss to the extent of
the dividend.
A dividend is treated as investment income for purposes of
determining the amount of deductible investment interest only
if the taxpayer elects to treat the dividend as not eligible
for the reduced rates.
The amount of dividends qualifying for reduced rates that
may be paid by a regulated investment company (``RIC'') for any
taxable year in which the qualified dividend income received by
the RIC is less than 95 percent of its gross income (as
specially computed) may not exceed the sum of (1) the qualified
dividend income of the RIC for the taxable year and (2) the
amount of earnings and profits accumulated in a non-RIC taxable
year that were distributed by the RIC during the taxable year.
The amount of dividends qualifying for reduced rates that
may be paid by a real estate investment trust (``REIT'') for
any taxable year may not exceed the sum of (1) the qualified
dividend income of the REIT for the taxable year, (2) an amount
equal to the excess of the income subject to the taxes imposed
by section 857(b)(1) and the regulations prescribed under
section 337(d) for the preceding taxable year over the amount
of these taxes for the preceding taxable year, and (3) the
amount of earnings and profits accumulated in a non-REIT
taxable year that were distributed by the REIT during the
taxable year.
The reduced rates do not apply to dividends received from
an organization that was exempt from tax under section 501 or
was a tax-exempt farmers' cooperative in either the taxable
year of the distribution or the preceding taxable year;
dividends received from a mutual savings bank that received a
deduction under section 591; or deductible dividends paid on
employer securities.\1554\
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\1554\ In addition, for taxable years beginning before 2011,
amounts treated as ordinary income on the disposition of certain
preferred stock (sec. 306) are treated as dividends for purposes of
applying the reduced rates; the tax rate for the accumulated earnings
tax (sec. 531) and the personal holding company tax (sec. 541) is
reduced to 15 percent; and the collapsible corporation rules (sec. 341)
are repealed.
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Tax rates after 2010
For taxable years beginning after 2010, dividends received
by an individual are taxed at ordinary income tax rates.
Capital gains
In general
In general, gain or loss reflected in the value of an asset
is not recognized for income tax purposes until a taxpayer
disposes of the asset. On the sale or exchange of a capital
asset, any gain generally is included in income. Any net
capital gain of an individual generally is taxed at rates lower
than rates applicable to ordinary income. Net capital gain is
the excess of the net long-term capital gain for the taxable
year over the net short-term capital loss for the year. Gain or
loss is treated as long-term if the asset is held for more than
one year.
Capital losses generally are deductible in full against
capital gains. In addition, individual taxpayers may deduct
capital losses against up to $3,000 of ordinary income in each
year. Any remaining unused capital losses may be carried
forward indefinitely to another taxable year.
A capital asset generally means any property except (1)
inventory, stock in trade, or property held primarily for sale
to customers in the ordinary course of the taxpayer's trade or
business, (2) depreciable or real property used in the
taxpayer's trade or business, (3) specified literary or
artistic property, (4) business accounts or notes receivable,
(5) certain U.S. publications, (6) certain commodity derivative
financial instruments, (7) hedging transactions, and (8)
business supplies. In addition, the net gain from the
disposition of certain property used in the taxpayer's trade or
business is treated as long-term capital gain. Gain from the
disposition of depreciable personal property is not treated as
capital gain to the extent of all previous depreciation
allowances. Gain from the disposition of depreciable real
property is generally not treated as capital gain to the extent
of the depreciation allowances in excess of the allowances
available under the straight-line method of depreciation.
Tax rates before 2011
Under present law, for taxable years beginning before
January 1, 2011, the maximum rate of tax on the adjusted net
capital gain of an individual is 15 percent. Any adjusted net
capital gain which otherwise would be taxed at a 10- or 15-
percent rate is taxed at a zero rate. These rates apply for
purposes of both the regular tax and the AMT.
Under present law, the ``adjusted net capital gain'' of an
individual is the net capital gain reduced (but not below zero)
by the sum of the 28-percent rate gain and the unrecaptured
section 1250 gain. The net capital gain is reduced by the
amount of gain that the individual treats as investment income
for purposes of determining the investment interest limitation
under section 163(d).
The term ``28-percent rate gain'' means the excess of the
sum of the amount of net gain attributable to long-term capital
gains and losses from the sale or exchange of collectibles (as
defined in section 408(m) without regard to paragraph (3)
thereof) and the amount of gain equal to the additional amount
of gain that would be excluded from gross income under section
1202 (relating to certain small business stock) if the
percentage limitations of section 1202(a) did not apply, over
the sum of the net short-term capital loss for the taxable year
and any long-term capital loss carryover to the taxable year.
``Unrecaptured section 1250 gain'' means any long-term
capital gain from the sale or exchange of section 1250 property
(i.e., depreciable real estate) held more than one year to the
extent of the gain that would have been treated as ordinary
income if section 1250 applied to all depreciation, reduced by
the net loss (if any) attributable to the items taken into
account in computing 28-percent rate gain. The amount of
unrecaptured section 1250 gain (before the reduction for the
net loss) attributable to the disposition of property to which
section 1231 (relating to certain property used in a trade or
business) applies may not exceed the net section 1231 gain for
the year.
An individual's unrecaptured section 1250 gain is taxed at
a maximum rate of 25 percent, and the 28-percent rate gain is
taxed at a maximum rate of 28 percent. Any amount of
unrecaptured section 1250 gain or 28-percent rate gain
otherwise taxed at a 10- or 15-percent rate is taxed at the
otherwise applicable rate.
Tax rates after 2010
For taxable years beginning after December 31, 2010, the
maximum rate of tax on the adjusted net capital gain of an
individual is 20 percent. Any adjusted net capital gain which
otherwise would be taxed at the 15-percent rate is taxed at a
10-percent rate.
In addition, any gain from the sale or exchange of property
held more than five years that would otherwise have been taxed
at the 10-percent capital gain rate is taxed at an 8-percent
rate. Any gain from the sale or exchange of property held more
than five years and the holding period for which began after
December 31, 2000, that would otherwise have been taxed at a
20-percent rate is taxed at an 18-percent rate.
The tax rates on 28-percent gain and unrecaptured section
1250 gain are the same as for taxable years beginning before
2011.
Explanation of Provision
Under the provision, the regular and minimum tax rates for
qualified dividend income and capital gain in effect before
2011 are extended for two additional years (through 2012).
Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
I. Extend American Opportunity Tax Credit (sec. 103 of the Act and sec.
25A of the Code)
Present Law
Hope credit
For taxable years beginning before 2009 and after 2010,
individual taxpayers are allowed to claim a nonrefundable
credit, the Hope credit, against Federal income taxes of up to
$1,800 (for 2008) per eligible 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 $1,200 of qualified tuition and related expenses, and 50
percent on the next $1,200 of qualified tuition and related
expenses; these dollar amounts are indexed for inflation, with
the amount rounded down to the next lowest multiple of $100.
Thus, for example, a taxpayer who incurs $1,200 of qualified
tuition and related expenses for an eligible student is
eligible (subject to the adjusted gross income phaseout
described below) for a $1,200 Hope credit. If a taxpayer incurs
$2,400 of qualified tuition and related expenses for an
eligible student, then he or she is eligible for a $1,800 Hope
credit.
The Hope credit that a taxpayer may otherwise claim is
phased out ratably for taxpayers with modified AGI between
$48,000 and $58,000 ($96,000 and $116,000 for married taxpayers
filing a joint return) for 2008. The beginning points of the
AGI phaseout ranges are indexed for inflation, with the amount
rounded down to the next lowest multiple of $1,000. The size of
the phaseout ranges are always $10,000 and $20,000
respectively.
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.
The Hope credit is available in the taxable year the
expenses are paid, subject to the requirement that the
education is furnished to the student during that year or
during an academic period beginning during the first three
months of the next taxable year. Qualified tuition and related
expenses paid with the proceeds of a loan generally are
eligible for the Hope credit. The repayment of a loan itself is
not a qualified tuition or related expense.
A taxpayer may claim the Hope credit with respect to an
eligible student who is not the taxpayer or the taxpayer's
spouse (e.g., in cases in which the student is the taxpayer's
child) only if the taxpayer claims the student as a dependent
for the taxable year for which the credit is claimed. If a
student is claimed as a dependent, the student is not entitled
to claim a Hope credit for that taxable year on the student's
own tax return. If a parent (or other taxpayer) claims a
student as a dependent, any qualified tuition and related
expenses paid by the student are treated as paid by the parent
(or other taxpayer) for purposes of determining the amount of
qualified tuition and related expenses paid by such parent (or
other taxpayer) under the provision. In addition, for each
taxable year, a taxpayer may elect either the Hope credit, the
Lifetime Learning credit, or an above-the-line deduction for
qualified tuition and related expenses with respect to an
eligible student.
The Hope credit is available for ``qualified tuition and
related expenses,'' which include tuition and fees (excluding
nonacademic 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. The
Hope credit is not allowed with respect to any education
expense for which a deduction is claimed under section 162 or
any other section of the Code.
An eligible student for purposes of the Hope credit is an
individual who is enrolled in a degree, certificate, or other
program (including a program of study abroad approved for
credit by the institution at which such student is enrolled)
leading to a recognized educational credential at an eligible
educational institution. The student must pursue a course of
study on at least a half-time basis. A student is considered to
pursue a course of study on at least a half-time basis if the
student carries at least one half the normal full-time work
load for the course of study the student is pursuing for at
least one academic period that begins during the taxable year.
To be eligible for the Hope credit, a student must not have
been convicted of a Federal or State felony consisting of the
possession or distribution of a controlled substance.
Eligible educational institutions generally are accredited
post-secondary educational institutions offering credit toward
a bachelor's degree, an associate's degree, or another
recognized post-secondary credential. Certain proprietary
institutions and post-secondary vocational institutions also
are eligible educational institutions. To qualify as an
eligible educational institution, an institution must be
eligible to participate in Department of Education student aid
programs.
Effective for taxable years beginning after December 31,
2010, the changes to the Hope credit made by EGTRRA no longer
apply. The principal EGTRRA change scheduled to expire is the
change that permits a taxpayer to claim a Hope credit in the
same year that he or she claims an exclusion from a Coverdell
education savings account. Thus, after 2010, a taxpayer cannot
claim a Hope credit in the same year he or she claims an
exclusion from a Coverdell education savings account.
American opportunity tax credit
The American Opportunity Tax Credit refers to modifications
to the Hope credit that apply for taxable years beginning in
2009 or 2010. The maximum allowable modified credit is $2,500
per eligible student per year for qualified tuition and related
expenses paid for each of the first four years of the student's
post-secondary education in a degree or certificate program.
The modified credit rate is 100 percent on the first $2,000 of
qualified tuition and related expenses, and 25 percent on the
next $2,000 of qualified tuition and related expenses. For
purposes of the modified credit, the definition of qualified
tuition and related expenses is expanded to include course
materials.
Under the provision, the modified credit is available with
respect to an individual student for four years, provided that
the student has not completed the first four years of post-
secondary education before the beginning of the fourth taxable
year. Thus, the modified credit, in addition to other
modifications, extends the application of the Hope credit to
two more years of post-secondary education.
The modified credit that a taxpayer may otherwise claim is
phased out ratably for taxpayers with modified AGI between
$80,000 and $90,000 ($160,000 and $180,000 for married
taxpayers filing a joint return). The modified credit may be
claimed against a taxpayer's AMT liability.
Forty percent of a taxpayer's otherwise allowable modified
credit is refundable. However, no portion of the modified
credit is refundable if the taxpayer claiming the credit is a
child to whom section 1(g) applies for such taxable year
(generally, any child who has at least one living parent, does
not file a joint return, and is either under age 18 or under
age 24 and a student providing less than one-half of his or her
own support).
Bona fide residents of the U.S. possessions are not
permitted to claim the refundable portion of the modified
credit in the United States. Rather, a bona fide resident of a
mirror code possession (Commonwealth of the Northern Mariana
Islands, Guam, and the Virgin Islands) may claim the refundable
portion of the credit in the possession in which the individual
is a resident. Similarly, a bona fide resident of a non-mirror
code possession (Commonwealth of Puerto Rico and American
Samoa) may claim the refundable portion of the credit in the
possession in which the individual is resident, but only if the
possession establishes a plan for permitting the claim under
its internal law. The U.S. Treasury will make payments to the
possession in respect of credits allowable to their residents
under their internal laws.
Explanation of Provision
The provision extends for two years (through 2012) the
temporary modifications to the Hope credit for taxable years
beginning in 2009 and 2010 that are known as the American
Opportunity Tax Credit, including the rules governing the
treatment of the U.S. possessions.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2010.
J. Child Tax Credit (sec. 103 of the Act and sec. 24 of the Code)
Present Law
An individual may claim a tax credit for each qualifying
child under the age of 17. The maximum amount of the credit per
child is $1,000 through 2010 and $500 thereafter. A child who
is not a citizen, national, or resident of the United States
cannot be a qualifying child.
The aggregate amount of child credits that may be claimed
is phased out for individuals with income over certain
threshold amounts. Specifically, the otherwise allowable
aggregate child tax credit amount is reduced by $50 for each
$1,000 (or fraction thereof) of modified adjusted gross income
(``modified AGI'') 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. For purposes of this limitation, modified AGI includes
certain otherwise excludable income earned by U.S. citizens or
residents living abroad or in certain U.S. territories.
The credit is allowable against the regular tax and, for
taxable years beginning before January 1, 2011, is allowed
against the alternative minimum tax (``AMT''). To the extent
the child tax credit exceeds the taxpayer's tax liability, the
taxpayer is eligible for a refundable credit (the additional
child tax credit) equal to 15 percent of earned income in
excess of a threshold dollar amount (the ``earned income''
formula). EGTRRA provided, in general, that this threshold
dollar amount is $10,000 indexed for inflation from 2001. The
American Recovery and Reinvestment Act of 2009 set the
threshold at $3,000 for both 2009 and 2010. After 2010, the
ability to determine the refundable child credit based on
earned income in excess of the threshold dollar amount expires.
Families with three or more qualifying children may
determine the additional child tax credit using the
``alternative formula'' if this results in a larger credit than
determined under the earned income formula. Under the
alternative formula, the additional child tax credit equals the
amount by which the taxpayer's social security taxes exceed the
taxpayer's earned income tax credit (``EITC''). After 2010, due
to the expiration of the earned income formula, this is the
only manner of obtaining a refundable child credit.
Earned income is defined as the sum of wages, salaries,
tips, and other taxable employee compensation plus net self-
employment earnings. Unlike the EITC, which also includes the
preceding items in its definition of earned income, the
additional child tax credit is based only on earned income to
the extent it is included in computing taxable income. For
example, some ministers' parsonage allowances are considered
self-employment income, and thus are considered earned income
for purposes of computing the EITC, but the allowances are
excluded from gross income for individual income tax purposes,
and thus are not considered earned income for purposes of the
additional child tax credit since the income is not included in
taxable income.
Explanation of Provision
The provision extends for two years the earned income
threshold of $3,000. Also, the provision stops indexation for
inflation of the $3,000 earnings threshold for that period.
Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
K. Increase in the Earned Income Tax Credit (sec. 103 of the Act and
sec. 32 of the Code)
Present Law
Overview
Low- and moderate-income workers may be eligible for the
refundable earned income tax credit (``EITC''). Eligibility for
the EITC is based on earned income, adjusted gross income,
investment income, filing status, number of children, and
immigration and work status in the United States. The amount of
the EITC is based on the presence and number of qualifying
children in the worker's family, as well as on adjusted gross
income and earned income.
The EITC generally equals a specified percentage of earned
income up to a maximum dollar amount. The maximum amount
applies over a certain income range and then diminishes to zero
over a specified phaseout range. For taxpayers with earned
income (or adjusted gross income (``AGI''), if greater) in
excess of the beginning of the phaseout range, the maximum EITC
amount is reduced by the phaseout rate multiplied by the amount
of earned income (or AGI, if greater) in excess of the
beginning of the phaseout range. For taxpayers with earned
income (or AGI, if greater) in excess of the end of the
phaseout range, no credit is allowed.
An individual is not eligible for the EITC if the aggregate
amount of disqualified income of the taxpayer for the taxable
year exceeds $3,100 (for 2010). This threshold is indexed for
inflation. Disqualified income is the sum of: (1) interest
(both taxable and tax exempt); (2) dividends; (3) net rent and
royalty income (if greater than zero); (4) capital gains net
income; and (5) net passive income that is not self-employment
income (if greater than zero).
The EITC is a refundable credit, meaning that if the amount
of the credit exceeds the taxpayer's Federal income tax
liability, the excess is payable to the taxpayer as a direct
transfer payment.
Filing status
An unmarried individual may claim the EITC if he or she
files as a single filer or as a head of household. Married
individuals generally may not claim the EITC unless they file
jointly. An exception to the joint return filing requirement
applies to certain spouses who are separated. Under this
exception, a married taxpayer who is separated from his or her
spouse for the last six months of the taxable year is not
considered to be married (and, accordingly, may file a return
as head of household and claim the EITC), provided that the
taxpayer maintains a household that constitutes the principal
place of abode for a dependent child (including a son, stepson,
daughter, stepdaughter, adopted child, or a foster child) for
over half the taxable year, and pays over half the cost of
maintaining the household in which he or she resides with the
child during the year.
Presence of qualifying children and amount of the earned income credit
Four separate credit schedules apply: one schedule for
taxpayers with no qualifying children, one schedule for
taxpayers with one qualifying child, one schedule for taxpayers
with two qualifying children, and one schedule for taxpayers
with three or more qualifying children.
Taxpayers with no qualifying children may claim a credit if
they are over age 24 and below age 65. The credit is 7.65
percent of earnings up to $5,980, resulting in a maximum credit
of $457 for 2010. The maximum is available for those with
incomes between $5,980 and $7,480 ($12,490 if married filing
jointly). The credit begins to phase out at a rate of 7.65
percent of earnings above $7,480 ($12,480 if married filing
jointly) resulting in a $0 credit at $13,460 of earnings
($18,470 if married filing jointly).
Taxpayers with one qualifying child may claim a credit in
2010 of 34 percent of their earnings up to $8,970, resulting in
a maximum credit of $3,050. The maximum credit is available for
those with earnings between $8,970 and $16,450 ($21,460 if
married filing jointly). The credit begins to phase out at a
rate of 15.98 percent of earnings above $16,450 ($21,460 if
married filing jointly). The credit is completely phased out at
$35,535 of earnings ($40,545 if married filing jointly).
Taxpayers with two qualifying children may claim a credit
in 2010 of 40 percent of earnings up to $12,590, resulting in a
maximum credit of $5,036. The maximum credit is available for
those with earnings between $12,590 and $16,450 ($21,460 if
married filing jointly). The credit begins to phase out at a
rate of 21.06 percent of earnings above $16,450 ($21,460 if
married filing jointly). The credit is completely phased out at
$40,363 of earnings ($45,373 if married filing jointly).
A temporary provision enacted by ARRA allows taxpayers with
three or more qualifying children to claim a credit of 45
percent for 2009 and 2010. For example, in 2010 taxpayers with
three or more qualifying children may claim a credit of 45
percent of earnings up to $12,590, resulting in a maximum
credit of $5,666. The maximum credit is available for those
with earnings between $12,590 and $16,450 ($21,460 if married
filing jointly). The credit begins to phase out at a rate of
21.06 percent of earnings above $16,450 ($21,460 if married
filing jointly). The credit is completely phased out at $43,352
of earnings ($48,362 if married filing jointly).
Under another provision of ARRA, the phase-out thresholds
for married couples were raised to an amount $5,000 above that
for other filers for 2009 (and indexed for inflation). The
increase is $5,010 for 2010. Formerly, the phase-out thresholds
for married couples were $3,000 (indexed for inflation from
2008) greater than those for other filers as provided for in
EGTRRA.
If more than one taxpayer lives with a qualifying child,
only one of these taxpayers may claim the child for purposes of
the EITC. If multiple eligible taxpayers actually claim the
same qualifying child, then a tiebreaker rule determines which
taxpayer is entitled to the EITC with respect to the qualifying
child. Any eligible taxpayer with at least one qualifying child
who does not claim the EITC with respect to qualifying children
due to failure to meet certain identification requirements with
respect to such children (i.e., providing the name, age and
taxpayer identification number of each of such children) may
not claim the EITC for taxpayers without qualifying children.
Explanation of Provision
The provision extends the EITC at a rate of 45 percent for
three or more qualifying children for two years (through 2012).
The provision extends the higher phase-out thresholds for
married couples filing joint returns enacted as part of ARRA
for two years (through 2012).
Effective Date
The provision applies to taxable years beginning after
December 31, 2010.
TITLE II--TEMPORARY EXTENSION OF INDIVIDUAL ALTERNATIVE MINIMUM TAX
RELIEF
A. Extension of Alternative Minimum Tax Relief for Nonrefundable
Personal Credits and Increased Alternative Minimum Tax Exemption Amount
(secs. 201 and 202 of the Act and secs. 26 and 55 of the Code)
Present Law
Present law imposes an alternative minimum tax (``AMT'') on
individuals. The AMT is the amount by which the tentative
minimum tax exceeds the regular income tax. An individual's
tentative minimum tax is the sum of (1) 26 percent of so much
of the taxable excess as does not exceed $175,000 ($87,500 in
the case of a married individual filing a separate return) and
(2) 28 percent of the remaining taxable excess. The taxable
excess is so much of the alternative minimum taxable income
(``AMTI'') as exceeds the exemption amount. The maximum tax
rates on net capital gain and dividends used in computing the
regular tax are used in computing the tentative minimum tax.
AMTI is the individual's taxable income adjusted to take
account of specified preferences and adjustments.
The exemption amounts are: (1) $70,950 for taxable years
beginning in 2009 and $45,000 in taxable years beginning after
2009 in the case of married individuals filing a joint return
and surviving spouses; (2) $46,700 for taxable years beginning
in 2009 and $33,750 in taxable years beginning after 2009 in
the case of other unmarried individuals; (3) $35,475 for
taxable years beginning in 2009 and $22,500 in taxable years
beginning after 2009 in the case of married individuals filing
separate returns; and (4) $22,500 in the case of an estate or
trust. The exemption amount is 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.
These amounts are not indexed for inflation.
Present law provides for certain nonrefundable personal tax
credits (i.e., the dependent care credit, the credit for the
elderly and disabled, the child credit, the credit for interest
on certain home mortgages, the Hope Scholarship and Lifetime
Learning credits, the credit for savers, the credit for certain
nonbusiness energy property, the credit for residential energy
efficient property, the credit for certain plug-in electric
vehicles, the credit for alternative motor vehicles, the credit
for new qualified plug-in electric drive motor vehicles, and
the D.C. first-time homebuyer credit).
For taxable years beginning before 2010, the nonrefundable
personal credits are allowed to the extent of the full amount
of the individual's regular tax and alternative minimum tax.
For taxable years beginning after 2009, the nonrefundable
personal credits (other than the child credit, the credit for
savers, the credit for residential energy efficient property,
the credit for certain plug-in electric drive motor vehicles,
the credit for alternative motor vehicles, and credit for new
qualified plug-in electric drive motor vehicles) are allowed
only to the extent that the individual's regular income tax
liability exceeds the individual's tentative minimum tax,
determined without regard to the minimum tax foreign tax
credit. The remaining nonrefundable personal credits are
allowed to the full extent of the individual's regular tax and
alternative minimum tax.\1555\
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\1555\ The rule applicable to the child credit after 2010 is
subject to the EGTRRA sunset. The adoption credit is refundable in 2010
and 2011 and beginning in 2012 is nonrefundable and treated for
purposes of the AMT in the same manner as the child credit.
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Explanation of Provisions
The provision allows an individual to offset the entire
regular tax liability and alternative minimum tax liability by
the nonrefundable personal credits for 2010 and 2011.
The provision provides that the individual AMT exemption
amount for taxable years beginning in 2010 is (1) $72,450, in
the case of married individuals filing a joint return and
surviving spouses; (2) $47,450 in the case of other unmarried
individuals; and (3) $36,225 in the case of married individuals
filing separate returns.
The provision provides that the individual AMT exemption
amount for taxable years beginning in 2011 is (1) $74,450, in
the case of married individuals filing a joint return and
surviving spouses; (2) $48,450 in the case of other unmarried
individuals; and (3) $37,225 in the case of married individuals
filing separate returns.
Effective Date
The provision is effective for taxable years beginning
after 2009.
TITLE III--TEMPORARY ESTATE TAX RELIEF
A. Modify and Extend the Estate, Gift, and Generation Skipping Transfer
Taxes After 2009 (sections 301-304 of the Act and sections 2001, 2010,
2502, 2505, 2511, 2631, and 6018 of the Code)
Present and Prior Law
In general
In general, a gift tax is imposed on certain lifetime
transfers and an estate tax is imposed on certain transfers at
death. A generation skipping transfer tax generally is imposed
on certain transfers, either directly or in trust or similar
arrangement, to a ``skip person'' (i.e., a beneficiary in a
generation more than one generation younger than that of the
transferor). Transfers subject to the generation skipping
transfer tax include direct skips, taxable terminations, and
taxable distributions.
The estate and generation skipping transfers taxes are
repealed for decedents dying and gifts made during 2010, but
are reinstated for decedents dying and gifts made after 2010.
Exemption equivalent amounts and applicable tax rates
In general
Under present law in effect through 2009 and after 2010, a
unified credit is available with respect to taxable transfers
by gift and at death.\1556\ The unified credit offsets tax
computed at the lowest estate and gift tax rates.
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\1556\ Sec. 2010.
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Before 2004, the estate and gift taxes were fully unified,
such that a single graduated rate schedule and a single
effective exemption amount of the unified credit applied for
purposes of determining the tax on cumulative taxable transfers
made by a taxpayer during his or her lifetime and at death. For
years 2004 through 2009, the gift tax and the estate tax
continued to be determined using a single graduated rate
schedule, but the effective exemption amount allowed for estate
tax purposes was higher than the effective exemption amount
allowed for gift tax purposes. In 2009, the highest estate and
gift tax rate was 45 percent. The unified credit effective
exemption amount was $3.5 million for estate tax purposes and
$1 million for gift tax purposes.
For 2009 and after 2010, the generation skipping transfer
tax is imposed using a flat rate equal to the highest estate
tax rate on cumulative generation skipping transfers in excess
of the exemption amount in effect at the time of the transfer.
The generation skipping transfer tax exemption for a given year
(prior to and after repeal, discussed below) is equal to the
unified credit effective exemption amount for estate tax
purposes.
Repeal of estate and generation skipping transfer taxes in
2010; modifications to gift tax
Under EGTRRA, the estate and generation skipping transfer
taxes are repealed for decedents dying and generation skipping
transfers made during 2010. The gift tax remains in effect
during 2010, with a $1 million exemption amount and a gift tax
rate of 35 percent. Also in 2010, except as provided in
regulations, certain transfers in trust are treated as
transfers of property by 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.
Reinstatement of the estate and generation skipping
transfer taxes for decedents dying and generation
skipping transfers made after December 31, 2010
The estate, gift, and generation skipping transfer tax
provisions of EGTRRA sunset at the end of 2010, such that those
provisions (including repeal of the estate and generation
skipping transfer taxes) do not apply to estates of decedents
dying, gifts made, or generation skipping transfers made after
December 31, 2010. As a result, in general, the estate, gift,
and generation skipping transfer tax rates and exemption
amounts that would have been in effect had EGTRRA not been
enacted apply for estates of decedents dying, gifts made, or
generation skipping transfers made in 2011 or later years. A
single graduated rate schedule with a top rate of 55 percent
and a single effective exemption amount of $1 million applies
for purposes of determining the tax on cumulative taxable
transfers by lifetime gift or bequest.
Basis in property received
In general
Gain or loss, if any, on the disposition of property is
measured by the taxpayer's amount realized (i.e., gross
proceeds received) on the disposition, less the taxpayer's
basis in such property.\1557\ 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.
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\1557\ Sec. 1001.
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Basis in property received by lifetime gift
Property received from a donor of a lifetime gift generally
takes a carryover basis.\1558\ ``Carryover basis'' means that
the basis in the hands of the donee is the same as it was in
the hands of the donor. The basis of property transferred by
lifetime gift also is increased, but not above fair market
value, by any gift tax paid by the donor. 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
property is greater than the fair market value of the property
on the date of the gift, then, for purposes of determining
loss, the basis is the property's fair market value on the date
of the gift.
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\1558\ Sec. 1015.
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Basis in property received from a decedent who died in 2009
Property passing from a decedent who died during 2009
generally takes a ``stepped-up'' basis.\1559\ In other words,
the basis of property passing from such 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).\1560\ This step up in basis generally eliminates the
recognition of income on any appreciation of the property that
occurred prior to the decedent's death. If the value of
property on the date of the decedent's death was less than its
adjusted basis, the property takes a stepped-down basis when it
passes from a decedent's estate. This stepped-down basis
eliminates the tax benefit from any unrealized loss.
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\1559\ Sec. 1014.
\1560\ There is an exception to the rule that assets subject to the
Federal estate tax receive stepped-up basis in the case of ``income in
respect of a decedent.'' Sec. 1014(c). The basis of assets that are
``income in respect of a decedent'' is a carryover basis (i.e., the
basis of such assets to the estate or heir is the same as it was in the
hands of the decedent) increased by estate tax paid on that asset.
Income in respect of a decedent includes rights to income that has been
earned, but not recognized, by the date of death (e.g., wages that were
earned, but not paid, before death), individual retirement accounts
(IRAs), and assets held in accounts governed by section 401(k).
In community property states, a surviving spouse's one-half share
of community property held by the decedent and the surviving spouse
generally is treated as having passed from the decedent and, thus, is
eligible for stepped-up basis. Under 2009 law, this rule applies if at
least one-half of the whole of the community interest is includible in
the decedent's gross estate.
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Basis in property received from a decedent who dies during
2010
The rules providing for stepped-up basis in property
acquired from a decedent are repealed for assets acquired from
decedents dying in 2010, and a modified carryover basis regime
applies.\1561\ Under this regime, recipients of property
acquired from a decedent at the decedent's death receive a
basis equal to the lesser of the decedent's adjusted basis or
the fair market value of the property on the date of the
decedent's death. The modified carryover basis rules apply to
property acquired by bequest, devise, or inheritance, or
property acquired by the decedent's estate from the decedent,
property passing from the decedent to the extent such property
passed without consideration, and certain other property to
which the prior law rules apply, other than property that is
income in respect of a decedent. 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.
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\1561\ Sec. 1022.
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An executor generally may increase the basis in assets
owned by the decedent and acquired by the beneficiaries at
death, subject to certain special rules and exceptions. Under
these rules, each decedent's estate generally is permitted to
increase 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. Nonresidents who are not
U.S. citizens may be allowed to increase the basis of property
by up to $60,000. In addition, the basis of property
transferred to a surviving spouse may be increased by an
additional $3 million.
Repeal of modified carryover basis regime for determining
basis in property received from a decedent who dies
after December 31, 2010
As a result of the EGTRRA sunset at the end of 2010, the
modified carryover basis regime in effect for determining basis
in property acquired from a decedent who dies during 2010 does
not apply for purposes of determining basis in property
received from a decedent who dies after December 31, 2010.
Instead, the law in effect prior to 2010, which generally
provides for stepped-up basis in property passing from a
decedent, applies.
State death tax credit; deduction for State death taxes paid
State death tax credit under prior law
Before 2005, a credit was allowed against the Federal
estate tax for any estate, inheritance, legacy, or succession
taxes (``death taxes'') actually paid to any State or the
District of Columbia with respect to any property included in
the decedent's gross estate.\1562\ The maximum amount of credit
allowable for State death taxes was determined under a
graduated rate table, the top rate of which was 16 percent,
based on the size of the decedent's adjusted taxable estate.
Most States imposed a ``pick-up'' or ``soak-up'' estate tax,
which served to impose a State tax equal to the maximum Federal
credit allowed.
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\1562\ Sec. 2011.
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Phase-out of State death tax credit; deduction for State
death taxes paid
Under EGTRRA, the amount of allowable State death tax
credit was reduced from 2002 through 2004. For decedents dying
after 2004, the State death tax credit was repealed and
replaced with a deduction for death taxes actually paid to any
State or the District of Columbia, in respect of property
included in the gross estate of the decedent.\1563\ 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 generally 60 days after a
decision of a court in which such refund suit has become final.
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\1563\ Sec. 2058.
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Reinstatement of State death tax credit for decedents dying
after December 31, 2010
As described above, the estate, gift, and generation
skipping transfer tax provisions of EGTRRA sunset at the end of
2010, such that those provisions will not apply to estates of
decedents dying, gifts made, or generation skipping transfers
made after December 31, 2010. As a result, neither the EGTRRA
modifications to the State death tax credit nor the replacement
of the credit with a deduction applies for decedents dying
after December 31, 2010. Instead, the State death tax credit as
in effect for decedents who died prior to 2002 applies.
Exclusions and deductions
Gift tax annual exclusion
Donors of lifetime gifts are provided an annual exclusion
of $13,000 (for 2010 and 2011) on transfers of present
interests in property to each donee during the taxable
year.\1564\ If the non-donor spouse consents to split the gift
with the donor spouse, then the annual exclusion is $26,000 for
2010 and 2011. The dollar amounts are indexed for inflation.
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\1564\ Sec. 2503(b).
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Transfers to a surviving spouse
In general.--A 100-percent marital deduction generally is
permitted for estate and gift tax purposes for the value of
property transferred between spouses.\1565\ Transfers of
``qualified terminable interest property'' are eligible for the
marital deduction. ``Qualified terminable interest property''
is property: (1) that passes from the decedent; (2) in which
the surviving spouse has a ``qualifying income interest for
life''; and (3) to which an election 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 has the right to use
the 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.
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\1565\ Secs. 2056 & 2523.
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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.\1566\ 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.
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\1566\ Secs. 2056(d)(1) & 2523(i)(1).
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For years when the estate tax is in effect, the estate tax
is 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.
Conservation easements
For years when an estate tax is in effect, an executor
generally may 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
$500,000.\1567\ The exclusion percentage is reduced by two
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).
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\1567\ Sec. 2031(c).
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Before 2001, a qualified conservation easement generally
was one that met the following requirements: (1) the land was
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 had 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. Preservation of a
historically important land area or a certified historic
structure does not qualify as a conservation purpose.
Effective for estates of decedents dying after December 31,
2000, EGTRRA expanded the availability of qualified
conservation easements by eliminating the requirement that the
land be located within a certain distance of a metropolitan
area, national park, wilderness area, or Urban National Forest.
A qualified conservation easement may be claimed with respect
to any land that is located in the United States or its
possessions. EGTRRA also clarifies that the date for
determining easement compliance is the date on which the
donation is made.
As a result of the EGTRRA sunset at the end of 2010, the
EGTRRA modifications to expand the availability of qualified
conservation contributions do not apply for decedents dying
after December 31, 2010.
Provisions affecting small and family-owned businesses and farms
Special-use valuation
For years when an estate tax is in effect, an executor may
elect to value for estate tax purposes 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.\1568\ The maximum reduction in value for
such real property was $1 million for 2009. 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 (including both real and personal property)
and at least 25 percent of the adjusted value of the gross
estate consists of farm or closely-held business real 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 immediately preceding the
decedent's death.
---------------------------------------------------------------------------
\1568\ Sec. 2032A.
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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
Prior to 2004, an estate was permitted to deduct the
adjusted value of a qualified family-owned business interest of
the decedent, up to $675,000.\1569\ A qualified family-owned
business interest generally 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, in the case of
the 70-percent and 90-percent rules, at least 30 percent of the
trade or business.
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\1569\ Sec. 2057. 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. Because of the coordination between the qualified family-owned
business deduction and the unified credit effective exemption amount,
the qualified family-owned business deduction would not provide a
benefit in any year in which the applicable exclusion amount exceeds
$1.3 million.
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To qualify for the deduction, 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 within which a disqualifying event
occurred.
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.
EGTRRA repealed the qualified family-owned business
deduction for estates of decedents dying after December 31,
2003. As a result of the EGTRRA sunset at the end of 2010, the
qualified family-owned business deduction applies to estates of
decedents dying after December 31, 2010.
Installment payment of estate tax for closely held
businesses
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 two or more installments (but no more than
10).\1570\ 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. A special two-percent interest rate applies to the
amount of deferred estate tax attributable to the first $1.34
million \1571\ (as adjusted annually for inflation occurring
after 1998; the original amount for 1998 was $1 million) 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 $1.34
million is equal to 45 percent of the rate applicable to
underpayments of tax under section 6621 of the Code (i.e., 45
percent of the Federal short-term rate plus two percentage
points). Interest paid on deferred estate taxes is not
deductible for estate or income tax purposes.
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\1570\ Sec. 6166.
\1571\ Rev. Proc. 2009-50, I.R.B. 2009-45 (Nov. 9, 2009).
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Under pre-EGTRRA law, for purposes of these rules an
interest in a closely held business was: (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 was 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 was
included in the decedent's gross estate or such corporation had
15 or fewer shareholders.
Under present and pre-EGTRRA law, the decedent may own the
interest directly or, in certain cases, indirectly 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 five-year deferral for
principal and the two-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.
Effective for estates of decedents dying after December 31,
2001, EGTRRA expands the definition of a closely held business
for purposes of installment payment of estate tax. EGTRRA
increases from 15 to 45 the maximum number of partners in a
partnership and shareholders in a corporation that may be
treated as a closely held business in which a decedent held an
interest, and thus will qualify the estate for installment
payment of estate tax.
EGTRRA also 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. EGTRRA
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.
EGTRRA clarifies that the installment payment provisions
require that only the stock of holding companies, not the stock
of operating subsidiaries, must be non-readily tradable to
qualify for installment payment of the estate tax. EGTRRA
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.
As a result of the EGTRRA sunset at the end of 2010, the
EGTRRA modifications to the estate tax installment payment
rules described above do not apply for estates of decedents
dying after December 31, 2010.
Generation-skipping transfer tax rules
In general
For years before and after 2010, a generation skipping
transfer tax generally is imposed on transfers, either directly
or in trust or similar arrangement, to a ``skip person'' (as
defined above).\1572\ Transfers subject to the generation
skipping transfer tax include direct skips, taxable
terminations, and taxable distributions.\1573\ An exemption
generally equal to the estate tax effective exemption amount is
provided for each person making generation skipping transfers.
The exemption may be allocated by a transferor (or his or her
executor) to transferred property.
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\1572\ Sec. 2601.
\1573\ Sec. 2611.
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A direct skip is any transfer subject to estate or gift tax
of an interest in property to a skip person.\1574\ Natural
persons or certain trusts may be skip persons. 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.\1575\ A taxable
distribution is a distribution from a trust to a skip person
(other than a taxable termination or direct skip).\1576\ If a
transferor allocates generation skipping transfer tax exemption
to a trust prior to the taxable distribution, generation
skipping transfer tax may be avoided.
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\1574\ Sec. 2612(c).
\1575\ Sec. 2612(a).
\1576\ Sec. 2612(b).
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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 multiplied by the
``inclusion ratio.'' The inclusion ratio with respect to any
property transferred in a generation skipping transfer is a
function of the amount of ``generation skipping transfer tax
exemption'' allocated to a trust. The allocation of generation
skipping transfer tax exemption effectively reduces the 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.
Under pre-EGTRRA law, for lifetime transfers made to a
trust that were not direct skips, the transferor had to make an
affirmative allocation of generation skipping transfer tax
exemption; the allocation was not automatic. If generation
skipping transfer tax exemption was allocated on a timely filed
gift tax return, then the portion of the trust that was exempt
from generation skipping transfer tax was based on the value of
the property at the time of the transfer. If, however, the
allocation was not made on a timely filed gift tax return, then
the portion of the trust that was exempt from generation
skipping transfer tax was based on the value of the property at
the time the allocation of generation skipping transfer tax
exemption was made.
An election to allocate generation skipping transfer tax to
a specific transfer generally may be made at any time up to the
time for filing the transferor's estate tax return.
Modifications to the generation skipping transfer tax rules
under EGTRRA
Generally effective after 2000, EGTRRA modifies and adds
certain mechanical rules related to the generation skipping
transfer tax. First, EGTRRA generally provides that generation
skipping transfer tax exemption will be allocated automatically
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, as defined in the Code. 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 out of the automatic allocation or may
elect to treat a trust as a generation skipping transfer trust
attracting the automatic allocation.
Second, EGTRRA provides that, under certain circumstances,
generation skipping transfer tax exemption can be allocated
retroactively when there is an unnatural order of death. In
general, 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.
Third, EGTRRA provides that a trust that is only partially
subject to generation skipping transfer tax because its
inclusion ratio is less than one can be severed in a
``qualified severance.'' A qualified severance generally is
defined as the division of a single trust and the creation of
two or more trusts, one of which would be exempt from
generation skipping transfer tax and another of which would be
fully subject to generation skipping transfer tax, 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.
Fourth, EGTRRA provides that 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.
Fifth, under EGTRRA, the Secretary of the Treasury
generally 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.
Sixth, EGTRRA 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 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 as produces the lowest possible inclusion
ratio.
Sunset of EGTRRA modifications to the generation skipping
transfer tax rules
The estate and generation skipping transfer taxes are
repealed for decedents dying and gifts made in 2010. As a
result of the EGTRRA sunset at the end of 2010, the generation
skipping transfer tax again will apply after December 31, 2010.
However, the EGTRRA modifications to the generation skipping
transfer tax rules described above do not apply to generation
skipping transfers made after December 31, 2010. Instead, in
general, the rules as in effect prior to 2001 apply.
Explanation of Provision
In general
The provision reinstates the estate and generation skipping
transfer taxes effective for decedents dying and transfers made
after December 31, 2009. The estate tax applicable exclusion
amount is $5 million under the provision and is indexed for
inflation for decedents dying in calendar years after 2011, and
the maximum estate tax rate is 35 percent. For gifts made in
2010, the applicable exclusion amount for gift tax purposes is
$1 million, and the gift tax rate is 35 percent. For gifts made
after December 31, 2010, the gift tax is reunified with the
estate tax, with an applicable exclusion amount of $5 million
and a top estate and gift tax rate of 35 percent.\1577\
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\1577\ The provision clarifies current law regarding the
computation of estate and gift taxes. Under present law, the gift tax
on taxable transfers for a year is determined by computing a tentative
tax on the cumulative value of current year transfers and all gifts
made by a decedent after December 31, 1976, and subtracting from the
tentative tax the amount of gift tax that would have been paid by the
decedent on taxable gifts after December 31, 1976, if the tax rate
schedule in effect in the current year had been in effect on the date
of the prior-year gifts. Under the provision, for purposes of
determining the amount of gift tax that would have been paid on one or
more prior year gifts, the estate tax rates in effect under section
2001(c) at the time of the decedent's death are used to compute both
(1) the gift tax imposed by chapter 12 with respect to such gifts, and
(2) the unified credit allowed against such gifts under section 2505
(including in computing the applicable credit amount under section
2505(a)(1) and the sum of amounts allowed as a credit for all preceding
periods under section 2505(a)(2)).
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The generation skipping transfer tax exemption for
decedents dying or gifts made after December 31, 2009, is equal
to the applicable exclusion amount for estate tax purposes
(e.g., $5 million for 2010).\1578\ Therefore, up to $5 million
in generation skipping transfer tax exemption may be allocated
to a trust created or funded during 2010, depending upon the
amount of such exemption used by the taxpayer before 2010.
Although the generation skipping transfer tax is applicable in
2010, the generation skipping transfer tax rate for transfers
made during 2010 is zero percent. The generation skipping
transfer tax rate for transfers made after 2010 is equal to the
highest estate and gift tax rate in effect for such year (35
percent for 2011 and 2012).
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\1578\ The $5 million generation skipping transfer tax exemption is
available in 2010 regardless of whether the executor of an estate of a
decedent who dies in 2010 makes the election described below to apply
the EGTRRA 2010 estate tax rules and section 1022 basis rules.
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The provision allows a deduction for certain death taxes
paid to any State or the District of Columbia for decedents
dying after December 31, 2009.
The provision generally repeals the modified carryover
basis rules that, under EGTRRA, would apply for purposes of
determining basis in property acquired from a decedent who dies
in 2010. Under the provision, a recipient of property acquired
from a decedent who dies after December 31, 2009, generally
will receive fair market value basis (i.e., ``stepped up''
basis) under the basis rules applicable to assets acquired from
decedents who died in 2009.\1579\
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\1579\ See generally sec. 1014.
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The provision extends the EGTRRA modifications to the rules
regarding (1) qualified conservation easements, (2) installment
payment of estate taxes, and (3) various technical aspects of
the generation skipping transfer tax, described in the present-
law section, above.
Election for decedents who die during 2010
In the case of a decedent who dies during 2010, the
provision generally allows the executor of such decedent's
estate to elect to apply the Internal Revenue Code as if the
new estate tax and basis step-up rules described in the
preceding section had not been enacted. In other words, instead
of applying the above-described new estate tax and basis step-
up rules of the provision, the executor may elect to have
present law (as enacted under EGTRRA) apply. In general, if
such an election is made, the estate would not be subject to
estate tax, and the basis of assets acquired from the decedent
would be determined under the modified carryover basis rules of
section 1022.\1580\ This election will have no effect on the
continued applicability of the generation skipping transfer
tax. In addition, in applying the definition of transferor in
section 2652(a)(1), the determination of whether any property
is subject to the tax imposed by chapter 11 of the Code is made
without regard to an election made under this provision.
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\1580\ Therefore, an heir who acquires an asset from the estate of
a decedent who died in 2010 and whose executor elected application of
the 2010 EGTRRA rules has a basis in the asset determined under the
modified carryover basis rules of section 1022. Such basis is
applicable for the determination of any gain or loss on the sale or
disposition of the asset in any future year regardless of the status of
the sunset provision described below.
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The Secretary of the Treasury or his delegate shall
determine the time and manner for making the election. The
election, once made, is revocable only with the consent of the
Secretary or his delegate.
Extension of certain filing deadlines
The provision also provides for the extension of filing
deadlines for certain transfer tax returns. Specifically, in
the case of a decedent dying after December 31, 2009, and
before the date of enactment, the due date shall not be earlier
than the date which is nine months after the date of enactment
for: (1) filing an estate tax return required under section
6018; (2) making the payment of estate tax under Chapter 11;
and (3) making any disclaimer described in section 2518(b) of
an interest in property passing by reason the death of such a
decedent. In the case of a generation skipping transfer made
after December 31, 2009, and before the date of enactment, the
due date for filing any return required under section 2662
(including the making of any election required to be made on
the return) shall not be earlier than the date which is nine
months after the date of enactment.
Portability of unused exemption between spouses
Under the provision, any applicable exclusion amount that
remains unused as of the death of a spouse who dies after
December 31, 2010 (the ``deceased spousal unused exclusion
amount''), generally is available for use by the surviving
spouse, as an addition to such surviving spouse's applicable
exclusion amount.\1581\
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\1581\ The provision does not allow a surviving spouse to use the
unused generation skipping transfer tax exemption of a predeceased
spouse.
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If a surviving spouse is predeceased by more than one
spouse, the amount of unused exclusion that is available for
use by such surviving spouse is limited to the lesser of $5
million or the unused exclusion of the last such deceased
spouse.\1582\ A surviving spouse may use the predeceased
spousal carryover amount in addition to such surviving spouse's
own $5 million exclusion for taxable transfers made during life
or at death.
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\1582\ The last deceased spouse limitation applies whether or not
the last deceased spouse has any unused exclusion or the last deceased
spouse's estate makes a timely election.
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A deceased spousal unused exclusion amount is available to
a surviving spouse only if an election is made on a timely
filed estate tax return (including extensions) of the
predeceased spouse on which such amount is computed, regardless
of whether the estate of the predeceased spouse otherwise is
required to file an estate tax return. In addition,
notwithstanding the statute of limitations for assessing estate
or gift tax with respect to a predeceased spouse, the Secretary
of the Treasury may examine the return of a predeceased spouse
for purposes of determining the deceased spousal unused
exclusion amount available for use by the surviving spouse. The
Secretary of the Treasury shall prescribe regulations as may be
appropriate and necessary to carry out the rules described in
this paragraph.
Example 1.--Assume that Husband 1 dies in 2011, having made
taxable transfers of $3 million and having no taxable estate.
An election is made on Husband 1's estate tax return to permit
Wife to use Husband 1's deceased spousal unused exclusion
amount. As of Husband 1's death, Wife has made no taxable
gifts. Thereafter, Wife's applicable exclusion amount is $7
million (her $5 million basic exclusion amount plus $2 million
deceased spousal unused exclusion amount from Husband 1), which
she may use for lifetime gifts or for transfers at death.
Example 2.--Assume the same facts as in Example 1, except
that Wife subsequently marries Husband 2. Husband 2 also
predeceases Wife, having made $4 million in taxable transfers
and having no taxable estate. An election is made on Husband
2's estate tax return to permit Wife to use Husband 2's
deceased spousal unused exclusion amount. Although the combined
amount of unused exclusion of Husband 1 and Husband 2 is $3
million ($2 million for Husband 1 and $1 million for Husband
2), only Husband 2's $1 million unused exclusion is available
for use by Wife, because the deceased spousal unused exclusion
amount is limited to the lesser of the basic exclusion amount
($5 million) or the unused exclusion of the last deceased
spouse of the surviving spouse (here, Husband 2's $1 million
unused exclusion). Thereafter, Wife's applicable exclusion
amount is $6 million (her $5 million basic exclusion amount
plus $1 million deceased spousal unused exclusion amount from
Husband 2), which she may use for lifetime gifts or for
transfers at death.
Example 3.--Assume the same facts as in Examples 1 and 2,
except that Wife predeceases Husband 2. Following Husband 1's
death, Wife's applicable exclusion amount is $7 million (her $5
million basic exclusion amount plus $2 million deceased spousal
unused exclusion amount from Husband 1). Wife made no taxable
transfers and has a taxable estate of $3 million. An election
is made on Wife's estate tax return to permit Husband 2 to use
Wife's deceased spousal unused exclusion amount, which is $4
million (Wife's $7 million applicable exclusion amount less her
$3 million taxable estate). Under the provision, Husband 2's
applicable exclusion amount is increased by $4 million, i.e.,
the amount of deceased spousal unused exclusion amount of Wife.
Sunset provision
Under the Act, the sunset of the EGTRRA estate, gift, and
generation skipping transfer tax provisions, scheduled to apply
to estates of decedents dying, gifts made, or generation
skipping transfers after December 31, 2010, is extended to
apply to estates of decedents dying, gifts made, or generation
skipping transfers after December 31, 2012. The EGTRRA sunset,
as extended by the Act, applies to the amendments made by the
provision. Therefore, neither the EGTRRA rules nor the new
rules of the provision will apply to estates of decedents
dying, gifts made, or generation skipping transfers made after
December 31, 2012.
Effective Date
The estate and generation skipping transfer tax provisions
generally are effective for decedents dying, gifts made, and
generation skipping transfers made after December 31, 2009. The
modifications to the gift tax exemption and rate generally are
effective for gifts made after December 31, 2010. The new rules
providing for portability of unused exemption between spouses
generally are effective for decedents dying and gifts made
after December 31, 2010.
TITLE IV--TEMPORARY EXTENSION OF INVESTMENT INCENTIVES
A. Extension of Bonus Depreciation; Temporary 100 Percent Expensing for
Certain Business Assets (sec. 401 of the Act and sec. 168(k) of the
Code)
Present Law
In general
An additional first-year depreciation deduction is allowed
equal to 50 percent of the adjusted basis of qualified property
placed in service during 2008, 2009, and 2010 (2009, 2010, and
2011 for certain longer-lived and transportation
property).\1583\ The additional first-year depreciation
deduction is allowed for both regular tax and alternative
minimum tax purposes, but is not allowed for purposes of
computing earnings and profits. The basis of the property and
the depreciation allowances in the year of purchase and later
years are appropriately adjusted to reflect the additional
first-year depreciation deduction. In addition, there are no
adjustments to the allowable amount of depreciation for
purposes of computing a taxpayer's alternative minimum taxable
income with respect to property to which the provision applies.
The amount of the additional first-year depreciation deduction
is not affected by a short taxable year. The taxpayer may elect
out of additional first-year depreciation for any class of
property for any taxable year.
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\1583\ Sec. 168(k). The additional first-year depreciation
deduction is subject to the general rules regarding whether an item
must be capitalized under section 263 or section 263A.
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The interaction of the additional first-year depreciation
allowance with the otherwise applicable depreciation allowance
may be illustrated as follows. Assume that in 2009, a taxpayer
purchased new depreciable property and placed it in
service.\1584\ The property's cost is $1,000, and it is five-
year property subject to the half-year convention. The amount
of additional first-year depreciation allowed is $500. The
remaining $500 of the cost of the property is depreciable under
the rules applicable to five-year property. Thus, 20 percent,
or $100, is also allowed as a depreciation deduction in 2009.
The total depreciation deduction with respect to the property
for 2009 is $600. The remaining $400 adjusted basis of the
property generally is recovered through otherwise applicable
depreciation rules.
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\1584\ Assume that the cost of the property is not eligible for
expensing under section 179.
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Property qualifying for the additional first-year
depreciation deduction must meet all of the following
requirements. First, the property must be (1) property to which
MACRS applies with an applicable recovery period of 20 years or
less; (2) water utility property (as defined in section
168(e)(5)); (3) computer software other than computer software
covered by section 197; or (4) qualified leasehold improvement
property (as defined in section 168(k)(3)).\1585\ Second, the
original use \1586\ of the property must commence with the
taxpayer after December 31, 2007.\1587\ Third, the taxpayer
must acquire the property within the applicable time period.
Finally, the property must be placed in service after December
31, 2007, and before January 1, 2011. An extension of the
placed in service date of one year (i.e., to January 1, 2012)
is provided for certain property with a recovery period of 10
years or longer and certain transportation property.\1588\
Transportation property is defined as tangible personal
property used in the trade or business of transporting persons
or property.
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\1585\ The additional first-year depreciation deduction is not
available for any property that is required to be depreciated under the
alternative depreciation system of MACRS. The additional first-year
depreciation deduction is also not available for qualified New York
Liberty Zone leasehold improvement property as defined in section
1400L(c)(2).
\1586\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\1587\ A special rule applies in the case of certain leased
property. In the case of any property that is originally placed in
service by a person and that is sold to the taxpayer and leased back to
such person by the taxpayer within three months after the date that the
property was placed in service, the property would be treated as
originally placed in service by the taxpayer not earlier than the date
that the property is used under the leaseback.
If property is originally placed in service by a lessor, such
property is sold within three months after the date that the property
was placed in service, and the user of such property does not change,
then the property is treated as originally placed in service by the
taxpayer not earlier than the date of such sale.
\1588\ Property qualifying for the extended placed in service date
must have an estimated production period exceeding one year and a cost
exceeding $1 million.
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To qualify, property must be acquired (1) after December
31, 2007, and before January 1, 2011, but only if no binding
written contract for the acquisition is in effect before
January 1, 2008, or (2) pursuant to a binding written contract
which was entered into after December 31, 2007, and before
January 1, 2011.\1589\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after December 31,
2007, and before January 1, 2011. Property that is
manufactured, constructed, or produced for the taxpayer by
another person under a contract that is entered into prior to
the manufacture, construction, or production of the property is
considered to be manufactured, constructed, or produced by the
taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first-year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before January 1,
2011, (``progress expenditures'') is eligible for the
additional first-year depreciation.\1590\
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\1589\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to January 1, 2008.
\1590\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to section 46(d)(3) as
in effect prior to the Tax Reform Act of 1986 apply.
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Property does not qualify for the additional first-year
depreciation deduction when the user of such property (or a
related party) would not have been eligible for the additional
first-year depreciation deduction if the user (or a related
party) were treated as the owner. For example, if a taxpayer
sells to a related party property that was under construction
prior to January 1, 2008, the property does not qualify for the
additional first-year depreciation deduction. Similarly, if a
taxpayer sells to a related party property that was subject to
a binding written contract prior to January 1, 2008, the
property does not qualify for the additional first-year
depreciation deduction. As a further example, if a taxpayer
(the lessee) sells property in a sale-leaseback arrangement,
and the property otherwise would not have qualified for the
additional first-year depreciation deduction if it were owned
by the taxpayer-lessee, then the lessor is not entitled to the
additional first-year depreciation deduction.
The limitation under section 280F on the amount of
depreciation deductions allowed with respect to certain
passenger automobiles is increased in the first year by $8,000
for automobiles that qualify (and for which the taxpayer does
not elect out of the additional first-year deduction). The
$8,000 increase is not indexed for inflation.
Election to accelerate certain credits in lieu of claiming bonus
depreciation
A corporation otherwise eligible for additional first year
depreciation under section 168(k) may elect to claim additional
research or minimum tax credits in lieu of claiming
depreciation under section 168(k) for ``eligible qualified
property'' placed in service after March 31, 2008, and before
December 31, 2008.\1591\ A corporation making the election
forgoes the depreciation deductions allowable under section
168(k) and instead increases the limitation under section 38(c)
on the use of research credits or section 53(c) on the use of
minimum tax credits.\1592\ The increases in the allowable
credits are treated as refundable. The depreciation for
qualified property is calculated for both regular tax and AMT
purposes using the straight-line method in place of the method
that would otherwise be used absent the election under this
provision.
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\1591\ Sec. 168(k)(4). In the case of an electing corporation that
is a partner in a partnership, the corporate partner's distributive
share of partnership items is determined as if section 168(k) does not
apply to any eligible qualified property and the straight line method
is used to calculate depreciation of such property.
\1592\ Special rules apply to an applicable partnership.
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The research credit or minimum tax credit limitation is
increased by the bonus depreciation amount, which is equal to
20 percent of bonus depreciation \1593\ for certain eligible
qualified property that could be claimed absent an election
under this provision. Generally, eligible qualified property
included in the calculation is bonus depreciation property that
meets the following requirements: (1) the original use of the
property must commence with the taxpayer after March 31, 2008;
(2) the taxpayer must purchase the property either (a) after
March 31, 2008, and before January 1, 2010, but only if no
binding written contract for the acquisition is in effect
before April 1, 2008,\1594\ or (b) pursuant to a binding
written contract which was entered into after March 31, 2008,
and before January 1, 2010; \1595\ and (3) the property must be
placed in service after March 31, 2008, and before January 1,
2010 (January 1, 2011 for certain longer-lived and
transportation property).
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\1593\ For this purpose, bonus depreciation is the difference
between (i) the aggregate amount of depreciation for all eligible
qualified property determined if section 168(k)(1) applied using the
most accelerated depreciation method (determined without regard to this
provision), and shortest life allowable for each property, and (ii) the
amount of depreciation that would be determined if section 168(k)(1)
did not apply using the same method and life for each property.
\1594\ In the case of passenger aircraft, the written binding
contract limitation does not apply.
\1595\ Special rules apply to property manufactured, constructed,
or produced by the taxpayer for use by the taxpayer.
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The bonus depreciation amount is limited to the lesser of:
(1) $30 million, or (2) six percent of the sum of research
credit carryforwards from taxable years beginning before
January 1, 2006 and minimum tax credits allocable to the
adjusted minimum tax imposed for taxable years beginning before
January 1, 2006. All corporations treated as a single employer
under section 52(a) are treated as one taxpayer for purposes of
the limitation, as well as for electing the application of this
provision.
A corporation may make a separate election to increase the
research credit or minimum tax credit limitation by the bonus
depreciation amount with respect to certain property placed in
service in 2009 (2010 in the case of certain longer-lived and
transportation property). The election applies with respect to
extension property, which is defined as property that is
eligible qualified property solely because it meets the
requirements under the extension of the special allowance for
certain property acquired during 2009.
A corporation that has made an election to increase the
research credit or minimum tax credit limitation for eligible
qualified property for its first taxable year ending after
March 31, 2008, may choose not to make this election for
extension property. Further, a corporation that has not made an
election for eligible qualified property for its first taxable
year ending after March 31, 2008, is permitted to make the
election for extension property for its first taxable year
ending after December 31, 2008, and for each subsequent year.
In the case of a taxpayer electing to increase the research or
minimum tax credit for both eligible qualified property and
extension property, a separate bonus depreciation amount,
maximum amount, and maximum increase amount is computed and
applied to each group of property.\1596\
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\1596\ In computing the maximum amount, the maximum increase amount
for extension property is reduced by bonus depreciation amounts for
preceding taxable years only with respect to extension property.
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Explanation of Provision
The provision extends and expands the additional first-year
depreciation to equal 100 percent of the cost of qualified
property placed in service after September 8, 2010, and before
January 1, 2012, (before January 1, 2013, for certain longer-
lived and transportation property),\1597\ and provides for a 50
percent first-year additional depreciation deduction for
qualified property placed in service after December 31, 2011,
and before January 1, 2013, (after December 31, 2012, and
before January 1, 2014, for certain longer-lived and
transportation property). Rules similar to those in section
168(k)(2)(A)(ii) and (iii), which provide that qualified
property does not include property acquired pursuant to a
written binding contract that was in effect prior to January 1,
2008, apply for purposes of determining whether property is
eligible for the temporary 100 percent additional first-year
depreciation deduction. Thus under the provision, property
acquired pursuant to a written binding contract entered into
after December 31, 2007, is qualified property for purposes of
the 100 percent additional first-year depreciation deduction
assuming all other requirements of section 168(k)(2) are met.
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\1597\ It is intended that, in the case of qualified property that
is acquired by the taxpayer after September 8, 2010 and placed in
service by the taxpayer in 2012 and that is eligible for 100 percent
bonus depreciation by reason of the extended placed in service date
provided in section 168(k)(5), the 100 percent bonus deprecation
applies only to the extent of the adjusted basis of the property
attributable to manufacture, construction, or production before January
1, 2012. It is also intended that a taxpayer may elect 50 percent
(rather than 100 percent) bonus depreciation with respect to all
property in any class of property placed in service during a taxable
year. Finally, it is intended that section 168(k)(5) does not apply to
passenger automobiles subject to the limitations on depreciation
provided in section 280F, but that such property continues to be
eligible for 50-percent bonus depreciation. Technical corrections may
be necessary so that the statute reflects this intent.
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The provision also generally permits a corporation to
increase the minimum tax credit limitation by the bonus
depreciation amount with respect to certain property placed in
service after December 31, 2010, and before January 1, 2013,
(January 1, 2014 in the case of certain longer-lived and
transportation property).\1598\ The provision applies with
respect to round 2 extension property, which is defined as
property that is eligible qualified property solely because it
meets the requirements under the extension of the additional
first-year depreciation deduction for certain property placed
in service after December 31, 2010.\1599\
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\1598\ An electing taxpayer does not compute a bonus depreciation
amount under section 168(k)(4)(C) for any bonus depreciation allowable
with respect to property placed in service during 2010 except long-
production period property (or certain transportation property) placed
in service in 2010 that is extension property. For example, assume in
its taxable year beginning October 1, 2010, and ending September 30,
2011, a corporation places into service qualified property with a total
cost of $1,000,000, of which $250,000 was placed in service before
December 31, 2010. The corporation computes its bonus depreciation
amount under section 168(k)(4)(C) taking into account only the bonus
depreciation computed with respect to the $750,000 of property placed
in service after December 31, 2010.
\1599\ An election under new section 168(k)(4)(I) with respect to
round 2 extension property is binding for any property that is eligible
qualified property solely by reason of the amendments made by section
401(a) of the Tax Relief, Unemployment Insurance Reauthorization, and
Job Creation Act of 2010 (and the application of such extension to this
paragraph pursuant to the amendment made by section 401(c)(1) of such
Act), Pub. L. No. 111-312, even if such property is placed in service
in 2012.
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Under the provision, a taxpayer that has made an election
to increase the research credit or minimum tax credit
limitation for eligible qualified property for its first
taxable year ending after March 31, 2008 or for extension
property may choose not to make this election for round 2
extension property. Further, the provision allows a taxpayer
that has not made an election for eligible qualified property
for its first taxable year ending after March 31, 2008, or for
extension property, to make the election for round 2 extension
property for its first taxable year ending after December 31,
2010, and for each subsequent year. In the case of a taxpayer
electing to increase the research or minimum tax credit for
eligible qualified property and/or extension property and the
minimum tax credit for round 2 extension property, a separate
bonus depreciation amount, maximum amount, and maximum increase
amount is computed and applied to each group of property.\1600\
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\1600\ In computing the maximum amount, the maximum increase amount
for extension property or for round 2 extension property is reduced by
bonus depreciation amounts for preceding taxable years only with
respect to extension property or round 2 extension property,
respectively.
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Effective Date
The provision generally applies to property placed in
service by the taxpayer after December 31, 2010, in taxable
years ending after such date. The provision expanding the
additional first-year depreciation deduction to 100 percent of
the basis of qualified property applies to property placed in
service by the taxpayer after September 8, 2010, in taxable
years ending after such date.
B. Temporary Extension of Increased Small Business Expensing (sec. 402
of the Act and sec. 179 of the Code)
Present Law
Subject to certain limitations, a taxpayer that invests in
certain qualifying property may elect under section 179 to
deduct (or ``expense'') the cost of qualifying property, rather
than to recover such costs through depreciation
deductions.\1601\ For taxable years beginning in 2010 and 2011,
the maximum amount that a taxpayer may expense is $500,000 of
the cost of qualifying property placed in service for the
taxable year.\1602\ The $500,000 amount is reduced (but not
below zero) by the amount by which the cost of qualifying
property placed in service during the taxable year exceeds
$2,000,000.\1603\ Off-the-shelf computer software placed in
service in taxable years beginning before 2012 is treated as
qualifying property.
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\1601\ Additional section 179 incentives are provided with respect
to qualified property meeting applicable requirements that is used by a
business in an empowerment zone (sec. 1397A), a renewal community (sec.
1400J), or the Gulf Opportunity Zone (sec. 1400N(e)). In addition,
section 179(e) provides for an enhanced section 179 deduction for
qualified disaster assistance property.
\1602\ The definition of qualifying property was temporarily (for
2010 and 2011) expanded to include up to $250,000 of qualified
leasehold improvement property, qualified restaurant property, and
qualified retail improvement property. See section 179(f)(2).
\1603\ The temporary $500,000 and $2,000,000 amounts were enacted
in Section 2021 of the Small Business Jobs Act of 2010, Pub. L. No.
111-240.
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The amount eligible to be expensed for a taxable year may
not exceed the taxable income for a taxable year that is
derived from the active conduct of a trade or business
(determined without regard to this provision). Any amount that
is not allowed as a deduction because of the taxable income
limitation generally may be carried forward to succeeding
taxable years (subject to similar limitations).\1604\ No
general business credit under section 38 is allowed with
respect to any amount for which a deduction is allowed under
section 179. An expensing election is made under rules
prescribed by the Secretary.\1605\
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\1604\ Special rules apply to limit the carryover of unused section
179 deductions attributable to qualified leasehold improvement
property, qualified restaurant property, and qualified retail
improvement property. See section 179(f)(4).
\1605\ Sec. 179(c)(1). Under Treas. Reg. sec. 1.179-5, applicable
to property placed in service in taxable years beginning after 2002 and
before 2008, a taxpayer is permitted to make or revoke an election
under section 179 without the consent of the Commissioner on an amended
Federal tax return for that taxable year. This amended return must be
filed within the time prescribed by law for filing an amended return
for the taxable year. T.D. 9209, July 12, 2005.
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For taxable years beginning in 2012 and thereafter, a
taxpayer with a sufficiently small amount of annual investment
may elect to deduct up to $25,000 of the cost of qualifying
property placed in service for the taxable year. The $25,000
amount is reduced (but not below zero) by the amount by which
the cost of qualifying property placed in service during the
taxable year exceeds $200,000. The $25,000 and $200,000 amounts
are not indexed. In general, qualifying property is defined as
depreciable tangible personal property that is purchased for
use in the active conduct of a trade or business (not including
off-the-shelf computer software).
Explanation of Provision
Under the provision, for taxable years beginning in 2012,
the maximum amount a taxpayer may expense is $125,000 of the
cost of qualifying property placed in service for the taxable
year. The $125,000 amount is reduced (but not below zero) by
the amount by which the cost of qualifying property placed in
service during the taxable year exceeds $500,000. The $125,000
and $500,000 amounts are indexed for inflation.
In addition, the provision extends the treatment of off-
the-shelf computer software as qualifying property,\1606\ as
well as the provision permitting a taxpayer to amend or
irrevocably revoke an election for a taxable year under section
179 without the consent of the Commissioner for one year
(through 2012).
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\1606\ The temporary extension of the definition of qualifying
property to include qualified leasehold improvement property, qualified
restaurant property, and qualified retail improvement property is not
extended.
---------------------------------------------------------------------------
For taxable years beginning in 2013, and thereafter, the
maximum amount a taxpayer may expense is $25,000 of the cost of
qualifying property placed in service for the taxable year. The
$25,000 amount is reduced (but not below zero) by the amount by
which the cost of qualifying property placed in service during
the taxable year exceeds $200,000.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2011.
TITLE VI--TEMPORARY EMPLOYEE PAYROLL TAX CUT
A. Payroll Tax Cut (sec. 601 of the Act)
Present Law
Federal Insurance Contributions Act (``FICA'') tax
The FICA tax applies to employers based on the amount of
covered wages paid to an employee during the year.\1607\
Generally, covered wages means all remuneration for employment,
including the cash value of all remuneration paid in any medium
other than cash.\1608\ Certain exceptions from covered wages
are also provided. The tax imposed is composed of two parts:
(1) the old age, survivors, and disability insurance
(``OASDI'') tax equal to 6.2 percent of covered wages up to the
taxable wage base ($106,800 in 2010); and (2) the Medicare
hospital insurance (``HI'') tax amount equal to 1.45 percent of
covered wages.
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\1607\ Sec. 3111.
\1608\ Sec. 3121.
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In addition to the tax on employers, each employee is
subject to FICA taxes equal to the amount of tax imposed on the
employer (the ``employee portion'').\1609\ The employee portion
generally must be withheld and remitted to the Federal
government by the employer.
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\1609\ Sec. 3101. For taxable years beginning after 2012, an
additional HI tax applies.
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Self-Employment Contributions Act (``SECA'') tax
As a parallel to FICA taxes, the SECA tax applies to the
self-employment income of self-employed individuals.\1610\ The
rate of the OASDI portion of SECA taxes is 12.4 percent, which
is equal to the combined employee and employer OASDI FICA tax
rates, and applies to self-employment income up to the FICA
taxable wage base. Similarly, the rate of the HI portion is 2.9
percent, the same as the combined employer and employee HI
rates under the FICA tax, and there is no cap on the amount of
self-employment income to which the rate applies. \1611\
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\1610\ Sec. 1401.
\1611\ For taxable years beginning after 2012, an additional HI tax
applies.
---------------------------------------------------------------------------
An individual may deduct, in determining net earnings from
self-employment under the SECA tax, the amount of the net
earnings from self-employment (determined without regard to
this deduction) for the taxable year multiplied by one half of
the combined OASDI and HI rates.\1612\
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\1612\ Sec. 1402(a)(12).
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Additionally, a deduction, for purposes of computing the
income tax of an individual, is allowed for one half of the
amount of the SECA tax imposed on the individual's self-
employment income for the taxable year.\1613\
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\1613\ Sec. 164(f).
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Railroad retirement tax
The Railroad Retirement System has two main components.
Tier I of the system is financed by taxes on employers and
employees equal to the Social Security payroll tax and provides
qualified railroad retirees (and their qualified spouses,
dependents, widows, or widowers) with benefits that are roughly
equal to Social Security. Covered railroad workers and their
employers pay the Tier I tax instead of the Social Security
payroll tax, and most railroad retirees collect Tier I benefits
instead of Social Security. Tier II of the system replicates a
private pension plan, with employers and employees contributing
a certain percentage of pay toward the system to finance
defined benefits to eligible railroad retirees (and qualified
spouses, dependents, widows, or widowers) upon retirement;
however, the Federal Government collects the Tier II payroll
contribution and pays out the benefits.
Explanation of Provision
The provision reduces the employee OASDI tax rate under the
FICA tax by two percentage points to 4.2 percent for one year
(2011). Similarly, the provision reduces the OASDI tax rate
under the SECA tax by two percentage points to 10.4 percent for
taxable years of individuals that begin in 2011. A similar
reduction applies to the railroad retirement tax.
The provision provides rules for coordination with
deductions for employment taxes. The rate reduction is not
taken into account in determining the SECA tax deduction
allowed for determining the amount of the net earnings from
self-employment for the taxable year. Thus, the deduction for
2011 remains at 7.65 percent of self-employment income
(determined without regard to the deduction).
The income tax deduction allowed under section 164(f) for
taxable years beginning in 2011 is computed at the rate of 59.6
percent of the OASDI tax paid, plus one half of the HI tax
paid.\1614\
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\1614\ This percentage replaces the rate of one half (50 percent)
allowed under present law for this portion of the deduction. The new
percentage is necessary to continue to allow the self-employed taxpayer
to deduct the full amount of the employer portion of SECA taxes. The
employer OASDI tax rate remains at 6.2 percent, while the employee
portion falls to 4.2 percent. Thus, the employer share of total OASDI
taxes is 6.2 divided by 10.4, or 59.6 percent of the OASDI portion of
SECA taxes.
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The provision provides that the Treasury Secretary is to
notify employers of the payroll tax cut.
The Federal Old-Age and Survivors Trust Fund, the Federal
Disability Insurance Trust Fund, and the Social Security
Equivalent Benefit Account established under the Railroad
Retirement Act of 1974 \1615\ will receive transfers from the
General Fund of the United States Treasury equal to any
reduction in payroll taxes attributable to this provision. The
amounts will be transferred from the General Fund at such times
and in such a manner as to replicate to the extent possible the
transfers which would have occurred to the Trust Funds or
Benefit Account had the provision not been enacted.
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\1615\ 45 U.S.C. 231n-1(a).
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For purposes of applying any provision of Federal law other
than the provisions of the Internal Revenue Code of 1986, the
rate of tax in effect under section 3101(a) is determined
without regard to the reduction in that rate under this
provision.
Effective Date
The provision is effective for remuneration received during
2011 and for self-employment income for taxable years beginning
in 2011.
TITLE VII--TEMPORARY EXTENSION OF CERTAIN EXPIRING PROVISIONS
A. Energy
1. Incentives for biodiesel and renewable diesel (sec. 701 of the Act
and secs. 40A, 6426, and 6427 of the Code)
Present Law
Biodiesel
The Code provides an income tax credit for biodiesel fuels
(the ``biodiesel fuels credit'').\1616\ The biodiesel fuels
credit is the sum of three credits: (1) the biodiesel mixture
credit, (2) the biodiesel credit, and (3) the small agri-
biodiesel producer credit. The biodiesel fuels credit is
treated as a general business credit. The amount of the
biodiesel fuels credit is includible in gross income. The
biodiesel fuels credit is coordinated to take into account
benefits from the biodiesel excise tax credit and payment
provisions discussed below. The credit does not apply to fuel
sold or used after December 31, 2009.
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\1616\ Sec. 40A.
---------------------------------------------------------------------------
Biodiesel is monoalkyl esters of long chain fatty acids
derived from plant or animal matter that meet (1) the
registration requirements established by the EPA under section
211 of the Clean Air Act (42 U.S.C. sec. 7545) and (2) the
requirements of the American Society of Testing and Materials
(``ASTM'') D6751. Agri-biodiesel is biodiesel derived solely
from virgin oils including oils from corn, soybeans, sunflower
seeds, cottonseeds, canola, crambe, rapeseeds, safflowers,
flaxseeds, rice bran, mustard seeds, camelina, or animal fats.
Biodiesel may be taken into account for purposes of the
credit only if the taxpayer obtains a certification (in such
form and manner as prescribed by the Secretary) from the
producer or importer of the biodiesel that identifies the
product produced and the percentage of biodiesel and agri-
biodiesel in the product.
Biodiesel mixture credit
The biodiesel mixture credit is $1.00 for each gallon of
biodiesel (including agri-biodiesel) used by the taxpayer in
the production of a qualified biodiesel mixture. A qualified
biodiesel mixture is a mixture of biodiesel and diesel fuel
that is (1) sold by the taxpayer producing such mixture to any
person for use as a fuel, or (2) used as a fuel by the taxpayer
producing such mixture. The sale or use must be in the trade or
business of the taxpayer and is to be taken into account for
the taxable year in which such sale or use occurs. No credit is
allowed with respect to any casual off-farm production of a
qualified biodiesel mixture.
Per IRS guidance a mixture need only contain 1/10th of one
percent of diesel fuel to be a qualified mixture.\1617\ Thus, a
qualified biodiesel mixture can contain 99.9 percent biodiesel
and 0.1 percent diesel fuel.
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\1617\ Notice 2005-62, I.R.B. 2005-35, 443 (2005). ``A biodiesel
mixture is a mixture of biodiesel and diesel fuel containing at least
0.1 percent (by volume) of diesel fuel. Thus, for example, a mixture of
999 gallons of biodiesel and 1 gallon of diesel fuel is a biodiesel
mixture.'' Ibid.
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Biodiesel credit (B-100)
The biodiesel credit is $1.00 for each gallon of biodiesel
that is not in a mixture with diesel fuel (100 percent
biodiesel or B-100) and which during the taxable year is (1)
used by the taxpayer as a fuel in a trade or business or (2)
sold by the taxpayer at retail to a person and placed in the
fuel tank of such person's vehicle.
Small agri-biodiesel producer credit
The Code provides a small agri-biodiesel producer income
tax credit, in addition to the biodiesel and biodiesel mixture
credits. The credit is 10 cents per gallon for up to 15 million
gallons of agri-biodiesel produced by small producers, defined
generally as persons whose agri-biodiesel production capacity
does not exceed 60 million gallons per year. The agri-biodiesel
must (1) be sold by such producer to another person (a) for use
by such other person in the production of a qualified biodiesel
mixture in such person's trade or business (other than casual
off-farm production), (b) for use by such other person as a
fuel in a trade or business, or, (c) who sells such agri-
biodiesel at retail to another person and places such agri-
biodiesel in the fuel tank of such other person; or (2) used by
the producer for any purpose described in (a), (b), or (c).
Biodiesel mixture excise tax credit
The Code also provides an excise tax credit for biodiesel
mixtures.\1618\ The credit is $1.00 for each gallon of
biodiesel used by the taxpayer in producing a biodiesel mixture
for sale or use in a trade or business of the taxpayer. A
biodiesel mixture is a mixture of biodiesel and diesel fuel
that (1) is sold by the taxpayer producing such mixture to any
person for use as a fuel or (2) is used as a fuel by the
taxpayer producing such mixture. No credit is allowed unless
the taxpayer obtains a certification (in such form and manner
as prescribed by the Secretary) from the producer of the
biodiesel that identifies the product produced and the
percentage of biodiesel and agri-biodiesel in the
product.\1619\
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\1618\ Sec. 6426(c).
\1619\ Sec. 6426(c)(4).
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The credit is not available for any sale or use for any
period after December 31, 2009. This excise tax credit is
coordinated with the income tax credit for biodiesel such that
credit for the same biodiesel cannot be claimed for both income
and excise tax purposes.
Payments with respect to biodiesel fuel mixtures
If any person produces a biodiesel fuel mixture in such
person's trade or business, the Secretary is to pay such person
an amount equal to the biodiesel mixture credit.\1620\ The
biodiesel fuel mixture credit must first be taken against tax
liability for taxable fuels. To the extent the biodiesel fuel
mixture credit exceeds such tax liability, the excess may be
received as a payment. Thus, if the person has no section 4081
liability, the credit is refundable. The Secretary is not
required to make payments with respect to biodiesel fuel
mixtures sold or used after December 31, 2009.
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\1620\ Sec. 6427(e).
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Renewable diesel
``Renewable diesel'' is liquid fuel that (1) is derived
from biomass (as defined in section 45K(c)(3)), (2) meets the
registration requirements for fuels and fuel additives
established by the EPA under section 211 of the Clean Air Act,
and (3) meets the requirements of the ASTM D975 or D396, or
equivalent standard established by the Secretary. ASTM D975
provides standards for diesel fuel suitable for use in diesel
engines. ASTM D396 provides standards for fuel oil intended for
use in fuel-oil burning equipment, such as furnaces. Renewable
diesel also includes fuel derived from biomass that meets the
requirements of a Department of Defense specification for
military jet fuel or an ASTM specification for aviation turbine
fuel.
For purposes of the Code, renewable diesel is generally
treated the same as biodiesel. In the case of renewable diesel
that is aviation fuel, kerosene is treated as though it were
diesel fuel for purposes of a qualified renewable diesel
mixture. Like biodiesel, the incentive may be taken as an
income tax credit, an excise tax credit, or as a payment from
the Secretary.\1621\ The incentive for renewable diesel is
$1.00 per gallon. There is no small producer credit for
renewable diesel. The incentives for renewable diesel expire
after December 31, 2009.
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\1621\ Secs. 40A(f), 6426(c), and 6427(e).
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Explanation of Provision
The provision extends the income tax credit, excise tax
credit and payment provisions for biodiesel and renewable
diesel for two additional years (through December 31, 2011).
In light of the retroactive nature of the provision, the
provision creates a special rule to address claims regarding
excise credits and claims for payment associated with periods
occurring during 2010. In particular the provision directs the
Secretary to issue guidance within 30 days of the date of
enactment. Such guidance is to provide for a one-time
submission of claims covering periods occurring during 2010.
The guidance is to provide for a 180-day period for the
submission of such claims (in such manner as prescribed by the
Secretary) to begin no later than 30 days after such guidance
is issued. Such claims shall be paid by the Secretary of the
Treasury not later than 60 days after receipt. If the claim is
not paid within 60 days of the date of the filing, the claim
shall be paid with interest from such date determined by using
the overpayment rate and method under section 6621 of such
Code.
Effective Date
The provision is effective for sales and uses after
December 31, 2009.
2. Credit for refined coal facilities (sec. 702 of the Act and sec. 45
of the Code)
Present Law
In general
A credit is available for refined coal. In general, refined
coal is a fuel produced from coal that is (1) used to produce
steam or (2) used to produce steel industry fuel.
Refined coal used to produce steam
An income tax credit is allowed for the production at
qualified facilities of certain refined coal sold to an
unrelated person for use to produce steam. The amount of the
refined coal credit is $4.375 per ton (adjusted for inflation
using 1992 as the base year; $6.27 for 2010). A taxpayer may
generally claim the credit during the 10-year period commencing
with the date the qualified facility is placed in service.
A qualifying refined coal facility is a facility producing
refined coal that is placed in service after October 22, 2004,
and before January 1, 2010. Refined coal is a qualifying
liquid, gaseous, or solid synthetic fuel produced from coal
(including lignite) or high-carbon fly ash, including such fuel
used as a feedstock. A qualifying fuel is a fuel that, when
burned, emits 20 percent less nitrogen oxides and either sulfur
dioxide or mercury than the burning of feedstock coal or
comparable coal predominantly available in the marketplace as
of January 1, 2003, but only if the fuel sells at prices at
least 50 percent greater than the prices of the feedstock coal
or comparable coal. In addition, to be qualified refined coal,
the taxpayer must sell the fuel with the reasonable expectation
that it will be used for the primary purpose of producing
steam.
The refined coal credit is reduced over an $8.75 phase-out
range as the reference price of the fuel used as feedstock for
the refined coal exceeds an amount equal to 1.7 times the
reference price for such fuel in 2002 (adjusted for inflation).
The amount of the credit a taxpayer may claim is reduced by
reason of grants, tax-exempt bonds, subsidized energy
financing, and other credits, but the reduction cannot exceed
50 percent of the otherwise allowable credit.
The credit is a component of the general business
credit,\1622\ allowing excess credits to be carried back one
year and forward up to 20 years. The credit is also subject to
the alternative minimum tax.
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\1622\ Sec. 38(b)(8).
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Facilities placed in service after 2008 that make refined coal used to
produce steam
For refined coal facilities placed in service after 2008,
the requirement that the qualified refined coal fuel sell at a
price at least 50 percent greater than the price of the
feedstock coal does not apply. However, to be credit-eligible,
refined coal produced by such facilities must reduce by 40
percent (not 20 percent) the amount by which refined coal must
reduce, when burned, emissions of either sulfur dioxide or
mercury compared to the emissions released by the feedstock
coal or comparable coal predominantly available in the
marketplace as of January 1, 2003.
Refined coal that is steel industry fuel
Each barrel-of-oil equivalent (defined as 5.8 million
British thermal units) of steel industry fuel produced at a
qualified facility during the credit period receives a $2
credit (adjusted for inflation using 1992 as the base year;
$2.87 for 2010). A qualified facility is any facility capable
of producing steel industry fuel (or any modification to a
facility making it so capable) that is placed in service before
January 1, 2010. For facilities capable of producing steel
industry fuel on or before October 1, 2008, the credit is
available for fuel produced and sold on or after such date and
before January 1, 2010. For facilities placed in service or
modified to produce steel industry fuel after October 1, 2008,
the credit period begins on the placed-in-service or
modification date and ends one year after such date or December
31, 2009, whichever is later.
Steel industry fuel is defined as a fuel produced through a
process of liquefying coal waste sludge, distributing the
liquefied product on coal, and using the resulting mixture as a
feedstock for the manufacture of coke. Coal waste sludge
includes tar decanter sludge and related byproducts of the
coking process.
Explanation of Provision
The provision extends for two years (through December 31,
2011) the placed-in-service period for new refined coal
facilities other than refined coal facilities that produce
steel industry fuel.
Effective Date
The modifications to the placed-in-service period are
effective on the date of enactment.
3. New energy efficient home credit (sec. 703 of the Act and sec. 45L
of the Code)
Present Law
The Code provides a credit to an eligible contractor for
each qualified new energy-efficient home that is constructed by
the eligible contractor and acquired by a person from such
eligible contractor for use as a residence during the taxable
year. To qualify as a new energy-efficient home, the home must
be: (1) a dwelling located in the United States, (2)
substantially completed after August 8, 2005, and (3) certified
in accordance with guidance prescribed by the Secretary to have
a projected level of annual heating and cooling energy
consumption that meets the standards for either a 30-percent or
50-percent reduction in energy usage, compared to a comparable
dwelling constructed in accordance with the standards of
chapter 4 of the 2003 International Energy Conservation Code as
in effect (including supplements) on August 8, 2005, and any
applicable Federal minimum efficiency standards for equipment.
With respect to homes that meet the 30-percent standard, one-
third of such 30-percent savings must come from the building
envelope, and with respect to homes that meet the 50-percent
standard, one-fifth of such 50-percent savings must come from
the building envelope.
Manufactured homes that conform to Federal manufactured
home construction and safety standards are eligible for the
credit provided all the criteria for the credit are met. The
eligible contractor is the person who constructed the home, or
in the case of a manufactured home, the producer of such home.
The credit equals $1,000 in the case of a new home that
meets the 30-percent standard and $2,000 in the case of a new
home that meets the 50-percent standard. Only manufactured
homes are eligible for the $1,000 credit.
In lieu of meeting the standards of chapter 4 of the 2003
International Energy Conservation Code, manufactured homes
certified by a method prescribed by the Administrator of the
Environmental Protection Agency under the Energy Star Labeled
Homes program are eligible for the $1,000 credit provided
criteria (1) and (2), above, are met.
The credit applies to homes that are purchased prior to
January 1, 2010. The credit is part of the general business
credit.
Explanation of Provision
The provision extends the credit to homes that are
purchased prior to January 1, 2012.
Effective Date
The provision applies to homes acquired after December 31,
2009.
4. Excise tax credits and outlay payments for alternative fuel and
alternative fuel mixtures (sec. 704 of the Act and secs. 6426
and 6427(e) of the Code)
Present Law
The Code provides two per-gallon excise tax credits with
respect to alternative fuel: the alternative fuel credit, and
the alternative fuel mixture credit. For this purpose, the term
``alternative fuel'' means liquefied petroleum gas, P Series
fuels (as defined by the Secretary of Energy under 42 U.S.C.
sec. 13211(2)), compressed or liquefied natural gas, liquefied
hydrogen, liquid fuel derived from coal through the Fischer-
Tropsch process (``coal-to-liquids''), compressed or liquefied
gas derived from biomass, or liquid fuel derived from biomass.
Such term does not include ethanol, methanol, or biodiesel.
For coal-to-liquids produced after September 30, 2009,
through December 30, 2009, the fuel must be certified as having
been derived from coal produced at a gasification facility that
separates and sequesters 50 percent of such facility's total
carbon dioxide emissions. The sequestration percentage
increases to 75 percent for fuel produced after December 30,
2009.
The alternative fuel credit is allowed against section 4041
liability, and the alternative fuel mixture credit is allowed
against section 4081 liability. Neither credit is allowed
unless the taxpayer is registered with the Secretary. The
alternative fuel credit is 50 cents per gallon of alternative
fuel or gasoline gallon equivalents \1623\ of nonliquid
alternative fuel sold by the taxpayer for use as a motor fuel
in a motor vehicle or motorboat, sold for use in aviation or so
used by the taxpayer.
---------------------------------------------------------------------------
\1623\ ``Gasoline gallon equivalent'' means, with respect to any
nonliquid alternative fuel (for example, compressed natural gas), the
amount of such fuel having a Btu (British thermal unit) content of
124,800 (higher heating value).
---------------------------------------------------------------------------
The alternative fuel mixture credit is 50 cents per gallon
of alternative fuel used in producing an alternative fuel
mixture for sale or use in a trade or business of the taxpayer.
An ``alternative fuel mixture'' is a mixture of alternative
fuel and taxable fuel that contains at least \1/10\ of one
percent taxable fuel. The mixture must be sold by the taxpayer
producing such mixture to any person for use as a fuel, or used
by the taxpayer producing the mixture as a fuel. The credits
generally expired after December 31, 2009 (September 30, 2014
for liquefied hydrogen).
A person may file a claim for payment equal to the amount
of the alternative fuel credit and alternative fuel mixture
credits. These payment provisions generally also expired after
December 31, 2009. With respect to liquefied hydrogen, the
payment provisions expire after September 30, 2014. The
alternative fuel credit and alternative fuel mixture credit
must first be applied to the applicable excise tax liability
for under section 4041 or 4081, and any excess credit may be
taken as a payment.
Explanation of Provision
The provision extends the alternative fuel credit,
alternative fuel mixture credit, and related payment
provisions, for two additional years (through December 31,
2011). For purposes of the alternative fuel credit, alternative
fuel mixture credit and related payment provisions, the
provision excludes fuel (including lignin, wood residues, or
spent pulping liquors) derived from the production of paper or
pulp.
In light of the retroactive nature of the provision, the
provision creates a special rule to address claims regarding
excise credits and claims for payment associated with periods
occurring during 2010. In particular the provision directs the
Secretary to issue guidance within 30 days of the date of
enactment. Such guidance is to provide for a one-time
submission of claims covering periods occurring during 2010.
The guidance is to provide for a 180-day period for the
submission of such claims (in such manner as prescribed by the
Secretary) to begin no later than 30 days after such guidance
is issued. Such claims shall be paid by the Secretary of the
Treasury not later than 60 days after receipt. If the claim is
not paid within 60 days of the date of the filing, the claim
shall be paid with interest from such date determined by using
the overpayment rate and method under section 6621 of such
Code.
Effective Date
The provision is effective for fuel sold or used after
December 31, 2009.
5. Special rule for sales or dispositions to implement FERC or State
electric restructuring policy for qualified electric utilities
(sec. 705 of the Act and sec. 451(i) of the Code)
Present Law
A taxpayer selling property generally recognizes gain to
the extent the sales price (and any other consideration
received) exceeds the seller's basis in the property. The
recognized gain is subject to current income tax unless the
gain is deferred or not recognized under a special tax
provision.
One such special tax provision permits taxpayers to elect
to recognize gain from qualifying electric transmission
transactions ratably over an eight-year period beginning in the
year of sale if the amount realized from such sale is used to
purchase exempt utility property within the applicable period
\1624\ (the ``reinvestment property'').\1625\ If the amount
realized exceeds the amount used to purchase reinvestment
property, any realized gain is recognized to the extent of such
excess in the year of the qualifying electric transmission
transaction.
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\1624\ The applicable period for a taxpayer to reinvest the
proceeds is four years after the close of the taxable year in which the
qualifying electric transmission transaction occurs.
\1625\ Sec. 451(i).
---------------------------------------------------------------------------
A qualifying electric transmission transaction is the sale
or other disposition of property used by a qualified electric
utility to an independent transmission company prior to January
1, 2010. A qualified electric utility is defined as an electric
utility, which as of the date of the qualifying electric
transmission transaction, is vertically integrated in that it
is both (1) a transmitting utility (as defined in the Federal
Power Act) \1626\ with respect to the transmission facilities
to which the election applies, and (2) an electric utility (as
defined in the Federal Power Act).\1627\
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\1626\ Sec. 3(23), 16 U.S.C. 796, defines ``transmitting utility''
as any electric utility, qualifying cogeneration facility, qualifying
small power production facility, or Federal power marketing agency
which owns or operates electric power transmission facilities which are
used for the sale of electric energy at wholesale.
\1627\ Sec. 3(22), 16 U.S.C. 796, defines ``electric utility'' as
any person or State agency (including any municipality) which sells
electric energy; such term includes the Tennessee Valley Authority, but
does not include any Federal power marketing agency.
---------------------------------------------------------------------------
In general, an independent transmission company is defined
as: (1) an independent transmission provider \1628\ approved by
the Federal Energy Regulatory Commission (``FERC''); (2) a
person (i) who the FERC determines under section 203 of the
Federal Power Act (or by declaratory order) is not a ``market
participant'' and (ii) whose transmission facilities are placed
under the operational control of a FERC-approved independent
transmission provider no later than four years after the close
of the taxable year in which the transaction occurs; or (3) in
the case of facilities subject to the jurisdiction of the
Public Utility Commission of Texas, (i) a person which is
approved by that Commission as consistent with Texas State law
regarding an independent transmission organization, or (ii) a
political subdivision, or affiliate thereof, whose transmission
facilities are under the operational control of an organization
described in (i).
---------------------------------------------------------------------------
\1628\ For example, a regional transmission organization, an
independent system operator, or an independent transmission company.
---------------------------------------------------------------------------
Exempt utility property is defined as: (1) property used in
the trade or business of generating, transmitting,
distributing, or selling electricity or producing,
transmitting, distributing, or selling natural gas, or (2)
stock in a controlled corporation whose principal trade or
business consists of the activities described in (1). Exempt
utility property does not include any property that is located
outside of the United States.
If a taxpayer is a member of an affiliated group of
corporations filing a consolidated return, the reinvestment
property may be purchased by any member of the affiliated group
(in lieu of the taxpayer).
Explanation of Provision
The provision extends the treatment under the present-law
deferral provision to sales or dispositions by a qualified
electric utility that occur prior to January 1, 2012.
Effective Date
The extension provision applies to dispositions after
December 31, 2009.
6. Suspension of limitation on percentage depletion for oil and gas
from marginal wells (sec. 706 of the Act and sec. 613A of the
Code)
Present Law
The Code permits taxpayers to recover their investments in
oil and gas wells through depletion deductions. Two methods of
depletion are currently allowable under the Code: (1) the cost
depletion method, and (2) the percentage depletion
method.\1629\ Under the cost depletion method, the taxpayer
deducts that portion of the adjusted basis of the depletable
property which is equal to the ratio of units sold from that
property during the taxable year to the number of units
remaining as of the end of taxable year plus the number of
units sold during the taxable year. Thus, the amount recovered
under cost depletion may never exceed the taxpayer's basis in
the property.
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\1629\ Secs. 611-613.
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The Code generally limits the percentage depletion method
for oil and gas properties to independent producers and royalty
owners.\1630\ Generally, under the percentage depletion method,
15 percent of the taxpayer's gross income from an oil- or gas-
producing property is allowed as a deduction in each taxable
year.\1631\ The amount deducted generally may not exceed 100
percent of the net income from that property in any year (the
``net-income limitation'').\1632\ The 100-percent net-income
limitation for marginal production has been suspended for
taxable years beginning before January 1, 2010.
---------------------------------------------------------------------------
\1630\ Sec. 613A.
\1631\ Sec. 613A(c).
\1632\ Sec. 613(a).
---------------------------------------------------------------------------
Marginal production is defined as domestic crude oil and
natural gas production from stripper well property or from
property substantially all of the production from which during
the calendar year is heavy oil. Stripper well property is
property from which the average daily production is 15 barrel
equivalents or less, determined by dividing the average daily
production of domestic crude oil and domestic natural gas from
producing wells on the property for the calendar year by the
number of wells. Heavy oil is domestic crude oil with a
weighted average gravity of 20 degrees API or less (corrected
to 60 degrees Fahrenheit).\1633\
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\1633\ The American Petroleum Institute gravity, or API gravity, is
a measure of how heavy or light a petroleum liquid is compared to
water.
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the suspension of the 100-percent
net-income limitation for marginal production for two years (to
apply to tax years beginning before January 1, 2012).
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
7. Extension of grants for specified energy property in lieu of tax
credits (sec. 707 of the Act)
Present Law
Renewable electricity production credit
An income tax credit is allowed for the production of
electricity from qualified energy resources at qualified
facilities (the ``renewable electricity production
credit'').\1634\ Qualified energy resources comprise wind,
closed-loop biomass, open-loop biomass, geothermal energy,
solar energy, small irrigation power, municipal solid waste,
qualified hydropower production, and marine and hydrokinetic
renewable energy. Qualified facilities are, generally,
facilities that generate electricity using qualified energy
resources. To be eligible for the credit, electricity produced
from qualified energy resources at qualified facilities must be
sold by the taxpayer to an unrelated person.
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\1634\ Sec. 45. In addition to the renewable electricity production
credit, section 45 also provides income tax credits for the production
of Indian coal and refined coal at qualified facilities.
SUMMARY OF CREDIT FOR ELECTRICITY PRODUCED FROM CERTAIN RENEWABLE
RESOURCES
------------------------------------------------------------------------
Eligible electricity Credit amount for 2010
production activity (sec. \1\ (cents per kilowatt- Expiration \2\
45) hour)
------------------------------------------------------------------------
Wind......................... 2.2 December 31,
2012.
Closed-loop biomass.......... 2.2 December 31,
2013.
Open-loop biomass (including 1.1 December 31,
agricultural livestock waste 2013.
nutrient facilities).
Geothermal................... 2.2 December 31,
2013.
Solar (pre-2006 facilities 2.2 December 31,
only). 2005.
Small irrigation power....... 1.1 December 31,
2013.
Municipal solid waste 1.1 December 31,
(including landfill gas 2013.
facilities and trash
combustion facilities).
Qualified hydropower......... 1.1 December 31,
2013.
Marine and hydrokinetic...... 1.1 December 31,
2013.
------------------------------------------------------------------------
\1\ In general, the credit is available for electricity produced during
the first 10 years after a facility has been placed in service.
\2\ Expires for property placed in service after this date.
Energy credit
An income tax credit is also allowed for certain energy
property placed in service. Qualifying property includes
certain fuel cell property, solar property, geothermal power
production property, small wind energy property, combined heat
and power system property, and geothermal heat pump
property.\1635\
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\1635\ Sec. 48.
SUMMARY OF ENERGY INVESTMENT TAX CREDIT
----------------------------------------------------------------------------------------------------------------
Credit rate
(Percent) Maximum credit Expiration
----------------------------------------------------------------------------------------------------------------
Energy credit Equipment to produce 10.................... None................. None.
(sec. 48) energy from a
geothermal deposit.
Equipment to use 10.................... None................. December 31, 2016.
ground or ground
water for heating or
cooling.
Microturbine property 10.................... $200 per Kw of December 31, 2016.
(<2 Mw electrical capacity.
generation power
plants of >26%
efficiency).
Combined heat and 10.................... None................. December 31, 2016.
power property
(simultaneous
production of
electrical/mechanical
power and useful heat
> 60% efficiency).
Solar electric or 30% (10% after None................. None.
solar hot water December 31, 2016).
property.
Fuel cell property 30.................... $1,500 for each \1/2\ December 31, 2016.
(generates Kw of capacity.
electricity through
electrochemical
process).
Small (<100 Kw 30.................... None................. December 31, 2016.
capacity) wind
electrical generation
property.
----------------------------------------------------------------------------------------------------------------
Election to claim energy credit in lieu of renewable electricity
production credit
A taxpayer may make an irrevocable election to have certain
property which is part of a qualified renewable electricity
production facility be treated as energy property eligible for
a 30 percent investment credit under section 48. For this
purpose, qualified facilities are facilities otherwise eligible
for the renewable electricity production credit with respect to
which no credit under section 45 has been allowed. A taxpayer
electing to treat a facility as energy property may not claim
the renewable electricity production credit. The eligible basis
for the investment credit for taxpayers making this election is
the basis of the depreciable (or amortizable) property that is
part of a facility capable of generating electricity eligible
for the renewable electricity production credit.
Grants in lieu of credits
The Secretary of the Treasury is authorized to provide a
grant to each person who places in service depreciable property
that is either (1) part of a qualified renewable electricity
production facility or (2) qualifying property otherwise
eligible for the energy credit. In general, the grant amount is
30 percent of the basis of the qualified property. For
qualified microturbine, combined heat and power system, and
geothermal heat pump property, the amount is 10 percent of the
basis of the property. Otherwise eligible property must be
placed in service in calendar years 2009 or 2010, or its
construction must begin during that period and must be
completed prior to 2013 (in the case of wind facility
property), 2014 (in the case of other renewable power facility
property eligible for credit under section 45), or 2017 (in the
case of any specified energy property described in section 48).
The grant provision mimics the operation of the energy
credit. For example, the amount of the grant is not includable
in gross income. However, the basis of the property is reduced
by 50 percent of the amount of the grant. In addition, some or
all of each grant is subject to recapture if the grant-eligible
property is disposed of by the grant recipient within five
years of being placed in service.
Under the provision, if a grant is paid, no renewable
electricity credit or energy credit may be claimed with respect
to the grant-eligible property. In general, tax-exempt entities
are not eligible to receive a grant. No grant may be made
unless the application for the grant has been received before
October 1, 2011.
Description of Proposal
The proposal extends the Secretary's authority to provide
grants in lieu of credits for one year (through 2011).
Otherwise eligible property must thus be placed in service in
calendar years 2009, 2010, or 2011, or its construction must
begin during that period and must be completed prior to 2013
(in the case of wind facility property), 2014 (in the case of
other renewable power facility property eligible for credit
under section 45), or 2017 (in the case of any specified energy
property described in section 48).
Effective Date
The proposal is effective on the date of enactment.
8. Extension of provisions related to alcohol used as fuel (sec. 708 of
the Act and secs. 40, 6426, 6427(e) of the Code)
Present Law
Sections 40, 6426 and 6427(e) provide per-gallon tax
incentives for the sale, use and production of alcohol fuel and
alcohol fuel mixtures. The incentives for alcohol generally do
not apply after December 31, 2010. For cellulosic biofuel
(discussed infra), the incentive is unavailable after December
31, 2012.
``Alcohol'' includes methanol and ethanol, and the alcohol
gallon equivalent of ethyl tertiary butyl ether, or other
ethers produced from such alcohol. It does not include alcohol
produced from petroleum, natural gas, or coal, or any alcohol
with a proof of less than 150 (190 proof for purposes of the
credit taken under 6426 or payment under section 6427).
Denaturants (additives that make the alcohol unfit for human
consumption) are disregarded for purposes of determining proof.
However, denaturants are taken into account in determining the
volume of alcohol eligible for the per-gallon incentive. In
calculating alcohol volume, denaturants cannot exceed two
percent of volume.
The section 40 alcohol fuels credit is an income tax credit
comprised of four components: (1) the alcohol mixture credit,
(2) the alcohol credit, (3) the small ethanol producer credit,
and (4) the cellulosic biofuel producer credit. Sections 6426
and 6427(e) pertain to alcohol fuel mixtures only.
Alcohol mixture credits and payments
The alcohol fuel mixture credit may be taken as part of the
section 40 income tax credit, the section 6426 excise tax
credit, or as a payment under section 6427. For section 40, an
alcohol fuel mixture is a mixture of alcohol and gasoline or
alcohol and a special fuel. Since the excise tax credit is
taken against the liability for taxable fuels (gasoline,
kerosene, or diesel), for purposes of the excise tax payments
and credits, an alcohol fuel mixture is a mixture of alcohol
and a taxable fuel.
The fuel must be either sold for use as a fuel to another
person or used as fuel in the mixture producer's trade or
business. The addition of denaturants does not constitute
production of a mixture. The credit is allowed only for the
gallons of alcohol used to produce the mixture. For alcohol
that is ethanol, the amount of the incentive is 45 cents per
gallon. For other alcohol, the incentive is generally 60 cents
per gallon.
The alcohol mixture credit is most often taken as an excise
tax credit or payment. Persons who blend alcohol with gasoline,
diesel fuel, or kerosene to produce an alcohol fuel mixture
must pay tax on the volume of alcohol in the mixture when the
mixture is sold or removed. The alcohol fuel mixture credit
must first be taken to reduce excise tax liability for
gasoline, diesel fuel or kerosene. Any excess credit may be
taken as a payment or income tax credit.
Alcohol credit (straight or ``neat'' alcohol)
The second component of the section 40 income tax credit is
the alcohol credit. The credit is available for alcohol (not in
a mixture) that is either (1) used as a fuel in the taxpayer's
trade or business, or (2) sold at retail and placed in the fuel
tank of the retail buyer's vehicle. The credit cannot be
claimed for alcohol bought at retail and placed in the fuel
tank of the retail buyer's vehicle, even if the buyer uses it
as a fuel in a trade or business. This credit is not available
as an excise tax credit or payment.
Small ethanol producer credit
The third component of the section 40 income tax credit is
the small ethanol producer credit. It is in addition to the
credits described above and is an extra 10 cents per gallon
available for up to 15 million gallons of qualified ethanol
fuel production for any tax year. The 15 million gallon
limitation is waived for ethanol that is cellulosic ethanol.
The credit is available to eligible small ethanol producers,
defined as producers who have an annual productive capacity of
not more than 60 million gallons of any type of alcohol.
Qualified ethanol fuel production is ethanol produced and sold
by such producer to another person (a) for use by such other
person in the production of a qualified alcohol fuel mixture in
such person's trade or business (other than casual off-farm
production), (b) for use by such other person as a fuel in a
trade or business, or (c) who sells such ethanol at retail to
another person and places such ethanol in the fuel tank of such
other person. Qualified ethanol fuel production also includes
production for use or sale by the producer for any purpose
described in (a), (b), or (c). A cooperative may pass through
the small ethanol producer credit to its patrons. The small
ethanol producer credit is not available as an excise tax
credit or payment.
Cellulosic biofuel producer credit
The cellulosic biofuel producer credit is a nonrefundable
income tax credit for each gallon of qualified cellulosic fuel
production of the producer for the taxable year. The amount of
the credit per gallon is $1.01, except in the case of
cellulosic biofuel that is alcohol. In the case of cellulosic
biofuel that is alcohol, the $1.01 credit amount is reduced by
(1) the credit amount applicable for such alcohol under the
alcohol mixture credit as in effect at the time cellulosic
biofuel is produced and (2) in the case of cellulosic biofuel
that is also ethanol, the credit amount for small ethanol
producers as in effect at the time the cellulosic biofuel fuel
is produced. The reduction applies regardless of whether the
producer claims the alcohol mixture credit or small ethanol
producer credit with respect to the cellulosic alcohol. When
the alcohol mixture credit and small ethanol producer credit
expire after December 31, 2010, cellulosic biofuel that is
alcohol is entitled to the $1.01 without reduction.
Duties on ethanol
Heading 9901.00.50 of the Harmonized Tariff Schedule of the
United States imposes a cumulative general duty of 14.27 cents
per liter (approximately 54 cents per gallon) on imports of
ethyl alcohol, and any mixture containing ethyl alcohol, if
used as a fuel or in producing a mixture to be used as a fuel,
that are entered into the United States prior to January 1,
2011. Heading 9901.00.52 of the Harmonized Tariff Schedule of
the United States imposes a general duty of 5.99 cents per
liter on imports of ethyl tertiary-butyl ether, and any mixture
containing ethyl tertiary-butyl ether, that are entered into
the United States prior to January 1, 2011.
Explanation of Provision
Extension of income tax credit
The provision extends the present-law income tax credit for
alcohol fuels (other than the cellulosic biofuel producer
credit) an additional year, through December 31, 2011.
Extension of excise tax credit and outlay payment provisions for
alcohol used as a fuel
The provision extends the present-law excise tax credit and
outlay payments for alcohol fuel mixtures for an additional
year, through December 31, 2011.
Extension of additional duties on ethanol
The provision extends the present-law duties on ethanol and
ethyl tertiary butyl ether for an additional year, through
December 31, 2011.
Effective Date
The extension of the income tax credit is effective for
periods after December 31, 2010. The extension of excise tax
credit for alcohol fuel mixtures applies to periods after
December 31, 2010. The extension of the payment provisions for
alcohol fuel mixtures applies to sales and uses after December
31, 2010. The extension of additional duties on ethanol takes
effect on January 1, 2011.
9. Energy efficient appliance credit (sec. 709 of the Act and sec. 45M
of the Code)
Present Law
In general
A credit is allowed for the eligible production of certain
energy-efficient dishwashers, clothes washers, and
refrigerators. The credit is part of the general business
credit.
The credits are as follows:
Dishwashers
$45 in the case of a dishwasher that is manufactured in
calendar year 2008 or 2009 that uses no more than 324 kilowatt
hours per year and 5.8 gallons per cycle, and
$75 in the case of a dishwasher that is manufactured in
calendar year 2008, 2009, or 2010 and that uses no more than
307 kilowatt hours per year and 5.0 gallons per cycle (5.5
gallons per cycle for dishwashers designed for greater than 12
place settings).
Clothes washers
$75 in the case of a residential top-loading clothes washer
manufactured in calendar year 2008 that meets or exceeds a 1.72
modified energy factor and does not exceed a 8.0 water
consumption factor, and
$125 in the case of a residential top-loading clothes
washer manufactured in calendar year 2008 or 2009 that meets or
exceeds a 1.8 modified energy factor and does not exceed a 7.5
water consumption factor,
$150 in the case of a residential or commercial clothes
washer manufactured in calendar year 2008, 2009, or 2010 that
meets or exceeds a 2.0 modified energy factor and does not
exceed a 6.0 water consumption factor, and
$250 in the case of a residential or commercial clothes
washer manufactured in calendar year 2008, 2009, or 2010 that
meets or exceeds a 2.2 modified energy factor and does not
exceed a 4.5 water consumption factor.
Refrigerators
$50 in the case of a refrigerator manufactured in calendar
year 2008 that consumes at least 20 percent but not more than
22.9 percent less kilowatt hours per year than the 2001 energy
conservation standards,
$75 in the case of a refrigerator that is manufactured in
calendar year 2008 or 2009 that consumes at least 23 percent
but not more than 24.9 percent less kilowatt hours per year
than the 2001 energy conservation standards,
$100 in the case of a refrigerator that is manufactured in
calendar year 2008, 2009, or 2010 that consumes at least 25
percent but not more than 29.9 percent less kilowatt hours per
year than the 2001 energy conservation standards, and
$200 in the case of a refrigerator manufactured in calendar
year 2008, 2009, or 2010 that consumes at least 30 percent less
energy than the 2001 energy conservation standards.
Definitions
A dishwasher is any residential dishwasher subject to the
energy conservation standards established by the Department of
Energy. A refrigerator must be an automatic defrost
refrigerator-freezer with an internal volume of at least 16.5
cubic feet to qualify for the credit. A clothes washer is any
residential clothes washer, including a residential style coin
operated washer, that satisfies the relevant efficiency
standard.
The term ``modified energy factor'' means the modified
energy factor established by the Department of Energy for
compliance with the Federal energy conservation standard.
The term ``gallons per cycle'' means, with respect to a
dishwasher, the amount of water, expressed in gallons, required
to complete a normal cycle of a dishwasher.
The term ``water consumption factor'' means, with respect
to a clothes washer, the quotient of the total weighted per-
cycle water consumption divided by the cubic foot (or liter)
capacity of the clothes washer.
Other rules
Appliances eligible for the credit include only those
produced in the United States and that exceed the average
amount of U.S. production from the two prior calendar years for
each category of appliance. The aggregate credit amount allowed
with respect to a taxpayer for all taxable years beginning
after December 31, 2007, may not exceed $75 million, with the
exception that the $200 refrigerator credit and the $250
clothes washer credit are not limited. Additionally, the credit
allowed in a taxable year for all appliances may not exceed two
percent of the average annual gross receipts of the taxpayer
for the three taxable years preceding the taxable year in which
the credit is determined.
Explanation of Provision
The provision extends the credit for one year, for
appliances manufactured in 2011, and changes the aggregate
credit limitation to permit up to $25 million in credits to be
claimed per manufacturer for appliances manufactured in 2011.
Additionally, the provision changes the two percent gross
receipts limitation on the credit to four percent. The credit
modifies the standards and credit amounts as follows:
Dishwashers
$25 in the case of a dishwasher which is manufactured in
calendar year 2011 and which uses no more than 307 kilowatt
hours per year and 5.0 gallons per cycle (5.5 gallons per cycle
for dishwashers designed for greater than 12 place settings),
$50 in the case of a dishwasher which is manufactured in
calendar year 2011 and which uses no more than 295 kilowatt
hours per year and 4.25 gallons per cycle (4.75 gallons per
cycle for dishwashers designed for greater than 12 place
settings), and
$75 in the case of a dishwasher which is manufactured in
calendar year 2011 and which uses no more than 280 kilowatt
hours per year and 4 gallons per cycle (4.5 gallons per cycle
for dishwashers designed for greater than 12 place settings).
Clothes washers
$175 in the case of a top-loading clothes washer
manufactured in calendar year 2011 which meets or exceeds a 2.2
modified energy factor and does not exceed a 4.5 water
consumption factor, and
$225 in the case of a clothes washer manufactured in
calendar year 2011 which (1) is a top-loading clothes washer
and which meets or exceeds a 2.4 modified energy factor and
does not exceed a 4.2 water consumption factor, or (2) is a
front-loading clothes washer and which meets or exceeds a 2.8
modified energy factor and does not exceed a 3.5 water
consumption factor.
Refrigerators
$150 in the case of a refrigerator manufactured in calendar
year 2011 which consumes at least 30 percent less energy than
the 2001 energy conservation standards, and
$200 in the case of a refrigerator manufactured in calendar
year 2011 which consumes at least 35 percent less energy than
the 2001 energy conservation standards.
Effective Date
The provision applies to appliances produced after December
31, 2010. The provision related to the gross receipts
limitation applies to taxable years beginning after December
31, 2010.
10. Credit for nonbusiness energy property (sec. 710 of the Act and
sec. 25C of the Code)
Present Law
In general
Section 25C provides a 30-percent credit for the purchase
of qualified energy efficiency improvements to the envelope of
existing homes. Additionally, section 25C provides a 30 percent
credit for the purchase of (1) qualified natural gas, propane,
or oil furnace or hot water boilers, (2) qualified energy
efficient building property, and (3) advanced main air
circulating fans.
The credit applies to expenditures made after December 31,
2008, for property placed in service after December 31, 2008,
and prior to January 1, 2011.\1636\ The aggregate amount of the
credit allowed for a taxpayer for taxable years beginning in
2009 and 2010 is $1,500.
---------------------------------------------------------------------------
\1636\ With the exception of biomass fuel property, property placed
in service after December 31, 2008 and prior to February 17, 2009
qualifies for the new 30 percent credit rate (and $1,500 aggregate cap)
if it met the efficiency standards of prior law for property placed in
service during 2009. Biomass fuel property placed in service at any
point in 2009 is governed by the new efficiency standard.
---------------------------------------------------------------------------
Building envelope improvements
A qualified energy efficiency improvement is any energy
efficient building envelope component (1) that meets or exceeds
the prescriptive criteria for such a component established by
the 2000 International Energy Conservation Code \1637\ as
supplemented and as in effect on August 8, 2005 (or, in the
case of metal roofs with appropriate pigmented coatings, meets
the Energy Star program requirements); (2) that is installed in
or on a dwelling located in the United States and owned and
used by the taxpayer as the taxpayer's principal residence; (3)
the original use of which commences with the taxpayer; and (4)
that reasonably can be expected to remain in use for at least
five years. The credit is nonrefundable.
---------------------------------------------------------------------------
\1637\ This reference to the 2000 International Energy Conservation
Code is superseded by the additional requirements described in the
paragraph below regarding building envelope components.
---------------------------------------------------------------------------
Building envelope components are: (1) insulation materials
or systems which are specifically and primarily designed to
reduce the heat loss or gain for a dwelling and which meet the
prescriptive criteria for such material or system established
by the 2009 International Energy Conservation Code, as such
Code (including supplements) is in effect on the date of the
enactment of the American Recovery and Reinvestment Tax Act of
2009 (February 17, 2009); (2) exterior windows (including
skylights) and doors provided such component has a U-factor and
a seasonal heat gain coefficient (``SHGC'') of 0.3 or less; and
(3) metal or asphalt roofs with appropriate pigmented coatings
or cooling granules that are specifically and primarily
designed to reduce the heat gain for a dwelling.
Other eligible property
Qualified natural gas, propane, or oil furnace or hot water
boilers
A qualified natural gas, propane, or oil hot water boiler
is a natural gas, propane, or oil hot water boiler with an
annual fuel utilization efficiency rate of at least 90. A
qualified natural gas or propane furnace is a natural gas or
propane furnace with an annual fuel utilization efficiency rate
of at least 95. A qualified oil furnace is an oil furnace with
an annual fuel utilization efficiency rate of at least 90.
Qualified energy-efficient building property
Qualified energy-efficient building property is: (1) an
electric heat pump water heater which yields an energy factor
of at least 2.0 in the standard Department of Energy test
procedure, (2) an electric heat pump which achieves the highest
efficiency tier established by the Consortium for Energy
Efficiency, as in effect on January 1, 2009,\1638\ (3) a
central air conditioner which achieves the highest efficiency
tier established by the Consortium for Energy Efficiency as in
effect on Jan. 1, 2009,\1639\ (4) a natural gas, propane, or
oil water heater which has an energy factor of at least 0.82 or
thermal efficiency of at least 90 percent, and (5) biomass fuel
property.
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\1638\ These standards are a seasonal energy efficiency ratio
(``SEER'') greater than or equal to 15, an energy efficiency ratio
(``EER'') greater than or equal to 12.5, and heating seasonal
performance factor (``HSPF'') greater than or equal to 8.5 for split
heat pumps, and SEER greater than or equal to 14, EER greater than or
equal to 12, and HSPF greater than or equal to 8.0 for packaged heat
pumps.
\1639\ These standards are a SEER greater than or equal to 16 and
EER greater than or equal to 13 for split systems, and SEER greater
than or equal to 14 and EER greater than or equal to 12 for packaged
systems.
---------------------------------------------------------------------------
Biomass fuel property is a stove that burns biomass fuel to
heat a dwelling unit located in the United States and used as a
principal residence by the taxpayer, or to heat water for such
dwelling unit, and that has a thermal efficiency rating of at
least 75 percent as measured using a lower heating value.
Biomass fuel is any plant-derived fuel available on a renewable
or recurring basis, including agricultural crops and trees,
wood and wood waste and residues (including wood pellets),
plants (including aquatic plants), grasses, residues, and
fibers.
Advanced main air circulating fan
An advanced main air circulating fan is a fan used in a
natural gas, propane, or oil furnace and which has an annual
electricity use of no more than two percent of the total annual
energy use of the furnace (as determined in the standard
Department of Energy test procedures).
Additional rules
The taxpayer's basis in the property is reduced by the
amount of the credit. Special proration rules apply in the case
of jointly owned property, condominiums, and tenant-
stockholders in cooperative housing corporations. If less than
80 percent of the property is used for nonbusiness purposes,
only that portion of expenditures that is used for nonbusiness
purposes is taken into account.
Explanation of Provision
The provision extends the credits for one year but utilizes
the credit structure and credit rates that existed prior to the
enactment of the American Recovery and Reinvestment Act of
2009. The provision reinstates the rule that expenditures made
from subsidized energy financing are not qualifying
expenditures. Additionally, certain efficiency standards that
were weakened in the American Recovery and Reinvestment Act are
restored to their prior levels. Lastly, the provision provides
that windows, skylights and doors that meet the Energy Star
standards are qualified improvements.
The following describes the operation of the credit under
the provision:
Section 25C provides a 10-percent credit for the purchase
of qualified energy efficiency improvements to existing homes.
A qualified energy efficiency improvement is any energy
efficiency building envelope component (1) that meets or
exceeds the prescriptive criteria for such a component
established by the 2009 International Energy Conservation Code
as such Code (including supplements) is in effect on the date
of the enactment of the American Recovery and Reinvestment Tax
Act of 2009 (February 17, 2009) (or, in the case of windows,
skylights and doors, and metal roofs with appropriate pigmented
coatings or asphalt roofs with appropriate cooling granules,
meets the Energy Star program requirements); (2) that is
installed in or on a dwelling located in the United States and
owned and used by the taxpayer as the taxpayer's principal
residence; (3) the original use of which commences with the
taxpayer; and (4) that reasonably can be expected to remain in
use for at least five years. The credit is nonrefundable.
Building envelope components are: (1) insulation materials
or systems which are specifically and primarily designed to
reduce the heat loss or gain for a dwelling and which meet the
prescriptive criteria for such material or system established
by the 2009 International Energy Conservation Code, as such
Code (including supplements) is in effect on the date of the
enactment of the American Recovery and Reinvestment Tax Act of
2009 (February 17, 2009); (2) exterior windows (including
skylights) and doors; and (3) metal or asphalt roofs with
appropriate pigmented coatings or cooling granules that are
specifically and primarily designed to reduce the heat gain for
a dwelling.
Additionally, section 25C provides specified credits for
the purchase of specific energy efficient property originally
placed in service by the taxpayer during the taxable year. The
allowable credit for the purchase of certain property is (1)
$50 for each advanced main air circulating fan, (2) $150 for
each qualified natural gas, propane, or oil furnace or hot
water boiler, and (3) $300 for each item of energy efficient
building property.
An advanced main air circulating fan is a fan used in a
natural gas, propane, or oil furnace and which has an annual
electricity use of no more than two percent of the total annual
energy use of the furnace (as determined in the standard
Department of Energy test procedures).
A qualified natural gas, propane, or oil furnace or hot
water boiler is a natural gas, propane, or oil furnace or hot
water boiler with an annual fuel utilization efficiency rate of
at least 95.
Energy-efficient building property is: (1) an electric heat
pump water heater which yields an energy factor of at least 2.0
in the standard Department of Energy test procedure, (2) an
electric heat pump which achieves the highest efficiency tier
established by the Consortium for Energy Efficiency, as in
effect on January 1, 2009,\1640\ (3) a central air conditioner
which achieves the highest efficiency tier established by the
Consortium for Energy Efficiency as in effect on Jan. 1,
2009,\1641\ (4) a natural gas, propane, or oil water heater
which has an energy factor of at least 0.82 or thermal
efficiency of at least 90 percent, and (5) biomass fuel
property.
---------------------------------------------------------------------------
\1640\ These standards are a seasonal energy efficiency ratio
(``SEER'') greater than or equal to 15, an energy efficiency ratio
(``EER'') greater than or equal to 12.5, and heating seasonal
performance factor (``HSPF'') greater than or equal to 8.5 for split
heat pumps, and SEER greater than or equal to 14, EER greater than or
equal to 12, and HSPF greater than or equal to 8.0 for packaged heat
pumps.
\1641\ These standards are a SEER greater than or equal to 16 and
EER greater than or equal to 13 for split systems, and SEER greater
than or equal to 14 and EER greater than or equal to 12 for packaged
systems.
---------------------------------------------------------------------------
Biomass fuel property is a stove that burns biomass fuel to
heat a dwelling unit located in the United States and used as a
principal residence by the taxpayer, or to heat water for such
dwelling unit, and that has a thermal efficiency rating of at
least 75 percent. Biomass fuel is any plant-derived fuel
available on a renewable or recurring basis, including
agricultural crops and trees, wood and wood waste and residues
(including wood pellets), plants (including aquatic plants),
grasses, residues, and fibers.
Under section 25C, the maximum credit for a taxpayer for
all taxable years is $500, and no more than $200 of such credit
may be attributable to expenditures on windows.
The taxpayer's basis in the property is reduced by the
amount of the credit. Special proration rules apply in the case
of jointly owned property, condominiums, and tenant-
stockholders in cooperative housing corporations. If less than
80 percent of the property is used for nonbusiness purposes,
only that portion of expenditures that is used for nonbusiness
purposes is taken into account.
For purposes of determining the amount of expenditures made
by any individual with respect to any dwelling unit,
expenditures which are made from subsidized energy financing
are not taken into account. The term ``subsidized energy
financing'' means financing provided under a Federal, State, or
local program a principal purpose of which is to provide
subsidized financing for projects designed to conserve or
produce energy.
Effective Date
The provision applies to property placed in service after
December 31. 2010.
11. Alternative fuel vehicle refueling property (sec. 711 of the Act
and sec. 30C of the Code)
Present Law
Taxpayers may claim a 30-percent credit for the cost of
installing qualified clean-fuel vehicle refueling property to
be used in a trade or business of the taxpayer or installed at
the principal residence of the taxpayer.\1642\ The credit may
not exceed $30,000 per taxable year per location, in the case
of qualified refueling property used in a trade or business and
$1,000 per taxable year per location, in the case of qualified
refueling property installed on property which is used as a
principal residence.
---------------------------------------------------------------------------
\1642\ Sec. 30C.
---------------------------------------------------------------------------
For property placed in service in 2009 or 2010, the maximum
credit available for business property is increased to $200,000
for qualified hydrogen refueling property and to $50,000 for
other qualified refueling property. For nonbusiness property,
the maximum credit is increased to $2,000 for refueling
property other than hydrogen refueling property. In addition,
during these years, the credit rate is increased from 30
percent to 50 percent for refueling property other than
hydrogen refueling property.
Qualified refueling property is property (not including a
building or its structural components) for the storage or
dispensing of a clean-burning fuel or electricity into the fuel
tank or battery of a motor vehicle propelled by such fuel or
electricity, but only if the storage or dispensing of the fuel
or electricity is at the point of delivery into the fuel tank
or battery of the motor vehicle. The original use of such
property must begin with the taxpayer.
Clean-burning fuels are any fuel at least 85 percent of the
volume of which consists of ethanol, natural gas, compressed
natural gas, liquefied natural gas, liquefied petroleum gas, or
hydrogen. In addition, any mixture of biodiesel and diesel
fuel, determined without regard to any use of kerosene and
containing at least 20 percent biodiesel, qualifies as a clean
fuel.
Credits for qualified refueling property used in a trade or
business are part of the general business credit and may be
carried back for one year and forward for 20 years. Credits for
residential qualified refueling property cannot exceed for any
taxable year the difference between the taxpayer's regular tax
(reduced by certain other credits) and the taxpayer's tentative
minimum tax. Generally, in the case of qualified refueling
property sold to a tax-exempt entity, the taxpayer selling the
property may claim the credit.
A taxpayer's basis in qualified refueling property is
reduced by the amount of the credit. In addition, no credit is
available for property used outside the United States or for
which an election to expense has been made under section 179.
The credit is available for property placed in service
after December 31, 2005, and (except in the case of hydrogen
refueling property) before January 1, 2011. In the case of
hydrogen refueling property, the property must be placed in
service before January 1, 2015.
Explanation of Provision
The provision extends through 2011 the 30-percent credit
for alternative fuel refueling property (other than hydrogen
refueling property, the credit for which continues under
present law through 2014), subject to the pre-2009 maximum
credit amounts.
Effective Date
The provision is effective for property placed in service
after December 31, 2010.
B. Individual Tax Relief
1. Deduction for certain expenses of elementary and secondary school
teachers (sec. 721 of the Act and sec. 62 of the Code)
Present Law
In general, ordinary and necessary business expenses are
deductible. However, unreimbursed employee business expenses
generally are deductible only as an itemized deduction and only
to the extent that the individual's total miscellaneous
deductions (including employee business expenses) exceed two
percent of adjusted gross income. With the exception of taxable
years beginning in 2010, an individual's otherwise allowable
itemized deductions may be further limited by the overall
limitation on itemized deductions, which reduces itemized
deductions for taxpayers with adjusted gross income in excess
of a threshold amount. In addition, miscellaneous itemized
deductions are not allowable under the alternative minimum tax.
Certain expenses of eligible educators are allowed as an
above-the-line deduction. Specifically, for taxable years
beginning prior to January 1, 2010, an above-the-line deduction
is allowed for up to $250 annually of expenses paid or incurred
by an eligible educator for books, supplies (other than
nonathletic supplies for courses of instruction in health or
physical education), computer equipment (including related
software and services) and other equipment, and supplementary
materials used by the eligible educator in the classroom.\1643\
To be eligible for this deduction, the expenses must be
otherwise deductible under section 162 as a trade or business
expense. A deduction is allowed only to the extent the amount
of expenses exceeds the amount excludable from income under
section 135 (relating to education savings bonds), 529(c)(1)
(relating to qualified tuition programs), and section 530(d)(2)
(relating to Coverdell education savings accounts).
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\1643\ Sec. 62(a)(2)(D).
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An eligible educator is a kindergarten through grade twelve
teacher, instructor, counselor, principal, or aide in a school
for at least 900 hours during a school year. A school means any
school that provides elementary education or secondary
education, as determined under State law.
The above-the-line deduction for eligible educators is not
allowed for taxable years beginning after December 31, 2009.
Explanation of Provision
The provision extends the deduction for eligible educator
expenses for two years so that it is available for taxable
years beginning before January 1, 2012.
Effective Date
The provision is effective for expenses incurred in taxable
years beginning after December 31, 2009.
2. Deduction of State and local sales taxes (sec. 722 of the Act and
sec. 164 of the Code)
Present Law
For purposes of determining regular tax liability, an
itemized deduction is permitted for certain State and local
taxes paid, including individual income taxes, real property
taxes, and personal property taxes. The itemized deduction is
not permitted for purposes of determining a taxpayer's
alternative minimum taxable income. For taxable years beginning
in 2004-2009, at the election of the taxpayer, an itemized
deduction may be taken for State and local general sales taxes
in lieu of the itemized deduction provided under present law
for State and local income taxes. As is the case for State and
local income taxes, the itemized deduction for State and local
general sales taxes is not permitted for purposes of
determining a taxpayer's alternative minimum taxable income.
Taxpayers have two options with respect to the determination of
the sales tax deduction amount. Taxpayers may deduct the total
amount of general State and local sales taxes paid by
accumulating receipts showing general sales taxes paid.
Alternatively, taxpayers may use tables created by the
Secretary that show the allowable deduction. The tables are
based on average consumption by taxpayers on a State-by-State
basis taking into account number of dependents, modified
adjusted gross income and rates of State and local general
sales taxation. Taxpayers who live in more than one
jurisdiction during the tax year are required to pro-rate the
table amounts based on the time they live in each jurisdiction.
Taxpayers who use the tables created by the Secretary may, in
addition to the table amounts, deduct eligible general sales
taxes paid with respect to the purchase of motor vehicles,
boats and other items specified by the Secretary. Sales taxes
for items that may be added to the tables are not reflected in
the tables themselves.
The term ``general sales tax'' means a tax imposed at one
rate with respect to the sale at retail of a broad range of
classes of items. However, in the case of items of food,
clothing, medical supplies, and motor vehicles, the fact that
the tax does not apply with respect to some or all of such
items is not taken into account in determining whether the tax
applies with respect to a broad range of classes of items, and
the fact that the rate of tax applicable with respect to some
or all of such items is lower than the general rate of tax is
not taken into account in determining whether the tax is
imposed at one rate. Except in the case of a lower rate of tax
applicable with respect to food, clothing, medical supplies, or
motor vehicles, no deduction is allowed for any general sales
tax imposed with respect to an item at a rate other than the
general rate of tax. However, in the case of motor vehicles, if
the rate of tax exceeds the general rate, such excess shall be
disregarded and the general rate is treated as the rate of tax.
A compensating use tax with respect to an item is treated
as a general sales tax, provided such tax is complementary to a
general sales tax and a deduction for sales taxes is allowable
with respect to items sold at retail in the taxing jurisdiction
that are similar to such item.
Explanation of Provision
The provision allowing taxpayers to elect to deduct State
and local sales taxes in lieu of State and local income taxes
is extended for two years (through December 31, 2011).
Effective Date
The provision applies to taxable years beginning after
December 31, 2009.
3. Contributions of capital gain real property made for conservation
purposes (sec. 723 of the Act and sec. 170 of the Code)
Present Law
Charitable contributions generally
In general, a deduction is permitted for charitable
contributions, subject to certain limitations that depend on
the type of taxpayer, the property contributed, and the donee
organization. The amount of deduction generally equals the fair
market value of the contributed property on the date of the
contribution. Charitable deductions are provided for income,
estate, and gift tax purposes.\1644\
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\1644\ Secs. 170, 2055, and 2522, respectively.
---------------------------------------------------------------------------
In general, in any taxable year, charitable contributions
by a corporation are not deductible to the extent the aggregate
contributions exceed 10 percent of the corporation's taxable
income computed without regard to net operating or capital loss
carrybacks. For individuals, the amount deductible is a
percentage of the taxpayer's contribution base, (i.e.,
taxpayer's adjusted gross income computed without regard to any
net operating loss carryback). The applicable percentage of the
contribution base varies depending on the type of donee
organization and property contributed. Cash contributions by an
individual taxpayer to public charities, private operating
foundations, and certain types of private nonoperating
foundations may not exceed 50 percent of the taxpayer's
contribution base. Cash contributions to private foundations
and certain other organizations generally may be deducted up to
30 percent of the taxpayer's contribution base.
In general, a charitable deduction is not allowed for
income, estate, or gift tax purposes if the donor transfers an
interest in property to a charity while also either retaining
an interest in that property or transferring an interest in
that property to a noncharity for less than full and adequate
consideration. Exceptions to this general rule are provided
for, among other interests, remainder interests in charitable
remainder annuity trusts, charitable remainder unitrusts, and
pooled income funds, present interests in the form of a
guaranteed annuity or a fixed percentage of the annual value of
the property, and qualified conservation contributions.
Capital gain property
Capital gain property means any capital asset or property
used in the taxpayer's trade or business the sale of which at
its fair market value, at the time of contribution, would have
resulted in gain that would have been long-term capital gain.
Contributions of capital gain property to a qualified charity
are deductible at fair market value within certain limitations.
Contributions of capital gain property to charitable
organizations described in section 170(b)(1)(A) (e.g., public
charities, private foundations other than private non-operating
foundations, and certain governmental units) generally are
deductible up to 30 percent of the taxpayer's contribution
base. An individual may elect, however, to bring all these
contributions of capital gain property for a taxable year
within the 50-percent limitation category by reducing the
amount of the contribution deduction by the amount of the
appreciation in the capital gain property. Contributions of
capital gain property to charitable organizations described in
section 170(b)(1)(B) (e.g., private non-operating foundations)
are deductible up to 20 percent of the taxpayer's contribution
base.
For purposes of determining whether a taxpayer's aggregate
charitable contributions in a taxable year exceed the
applicable percentage limitation, contributions of capital gain
property are taken into account after other charitable
contributions. Contributions of capital gain property that
exceed the percentage limitation may be carried forward for
five years.
Qualified conservation contributions
Qualified conservation contributions are not subject to the
``partial interest'' rule, which generally bars deductions for
charitable contributions of partial interests in
property.\1645\ A qualified conservation contribution is a
contribution of a qualified real property interest to a
qualified organization exclusively for conservation purposes. A
qualified real property interest is defined as: (1) the entire
interest of the donor other than a qualified mineral interest;
(2) a remainder interest; or (3) a restriction (granted in
perpetuity) on the use that may be made of the real property.
Qualified organizations include certain governmental units,
public charities that meet certain public support tests, and
certain supporting organizations. Conservation purposes
include: (1) the preservation of land areas for outdoor
recreation by, or for the education of, the general public; (2)
the protection of a relatively natural habitat of fish,
wildlife, or plants, or similar ecosystem; (3) the preservation
of open space (including farmland and forest land) where such
preservation will yield a significant public benefit and is
either for the scenic enjoyment of the general public or
pursuant to a clearly delineated Federal, State, or local
governmental conservation policy; and (4) the preservation of
an historically important land area or a certified historic
structure.
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\1645\ Secs. 170(f)(3)(B)(iii) and 170(h).
---------------------------------------------------------------------------
Qualified conservation contributions of capital gain
property are subject to the same limitations and carryover
rules as other charitable contributions of capital gain
property.
Special rule regarding contributions of capital gain real property for
conservation purposes
In general
Under a temporary provision that is effective for
contributions made in taxable years beginning after December
31, 2005,\1646\ the 30-percent contribution base limitation on
contributions of capital gain property by individuals does not
apply to qualified conservation contributions (as defined under
present law). Instead, individuals may deduct the fair market
value of any qualified conservation contribution to an
organization described in section 170(b)(1)(A) to the extent of
the excess of 50 percent of the contribution base over the
amount of all other allowable charitable contributions. These
contributions are not taken into account in determining the
amount of other allowable charitable contributions.
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\1646\ Sec. 170(b)(1)(E).
---------------------------------------------------------------------------
Individuals are allowed to carry over any qualified
conservation contributions that exceed the 50-percent
limitation for up to 15 years.
For example, assume an individual with a contribution base
of $100 makes a qualified conservation contribution of property
with a fair market value of $80 and makes other charitable
contributions subject to the 50 percent limitation of $60. The
individual is allowed a deduction of $50 in the current taxable
year for the non-conservation contributions (50 percent of the
$100 contribution base) and is allowed to carry over the excess
$10 for up to 5 years. No current deduction is allowed for the
qualified conservation contribution, but the entire $80
qualified conservation contribution may be carried forward for
up to 15 years.
Farmers and ranchers
In the case of an individual who is a qualified farmer or
rancher for the taxable year in which the contribution is made,
a qualified conservation contribution is allowable up to 100
percent of the excess of the taxpayer's contribution base over
the amount of all other allowable charitable contributions.
In the above example, if the individual is a qualified
farmer or rancher, in addition to the $50 deduction for non-
conservation contributions, an additional $50 for the qualified
conservation contribution is allowed and $30 may be carried
forward for up to 15 years as a contribution subject to the
100-percent limitation.
In the case of a corporation (other than a publicly traded
corporation) that is a qualified farmer or rancher for the
taxable year in which the contribution is made, any qualified
conservation contribution is allowable up to 100 percent of the
excess of the corporation's taxable income (as computed under
section 170(b)(2)) over the amount of all other allowable
charitable contributions. Any excess may be carried forward for
up to 15 years as a contribution subject to the 100-percent
limitation.\1647\
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\1647\ Sec. 170(b)(2)(B).
---------------------------------------------------------------------------
As an additional condition of eligibility for the 100
percent limitation, with respect to any contribution of
property in agriculture or livestock production, or that is
available for such production, by a qualified farmer or
rancher, the qualified real property interest must include a
restriction that the property remain generally available for
such production. (There is no requirement as to any specific
use in agriculture or farming, or necessarily that the property
be used for such purposes, merely that the property remain
available for such purposes.) Such additional condition does
not apply to contributions made on or before August 17, 2006.
A qualified farmer or rancher means a taxpayer whose gross
income from the trade or business of farming (within the
meaning of section 2032A(e)(5)) is greater than 50 percent of
the taxpayer's gross income for the taxable year.
Termination
The special rule regarding contributions of capital gain
real property for conservation purposes does not apply to
contributions made in taxable years beginning after December
31, 2009.\1648\
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\1648\ Secs. 170(b)(1)(E)(vi) and 170(b)(2)(B)(iii).
---------------------------------------------------------------------------
Explanation of Provision
The Act extends the special rule regarding contributions of
capital gain real property for conservation purposes for two
years for contributions made in taxable years beginning before
January 1, 2012.
Effective Date
The provision is effective for contributions made in
taxable years beginning after December 31, 2009.
4. Above-the-line deduction for qualified tuition and related expenses
(sec. 724 of the Act and sec. 222 of the Code)
Present Law
An individual is allowed an above-the-line deduction for
qualified tuition and related expenses for higher education
paid by the individual during the taxable year.\1649\ The term
qualified tuition and related expenses is defined in the same
manner as for the Hope and Lifetime Learning credits, and
includes tuition and fees required for the enrollment or
attendance of the taxpayer, the taxpayer's spouse, or any
dependent of the taxpayer with respect to whom the taxpayer may
claim a personal exemption, at an eligible institution of
higher education for courses of instruction of such individual
at such institution.\1650\ The expenses must be in connection
with enrollment at an institution of higher education during
the taxable year, or with an academic period beginning during
the taxable year or during the first three months of the next
taxable year. The deduction is not available for tuition and
related expenses paid for elementary or secondary education.
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\1649\ Sec. 222.
\1650\ The deduction generally is not available for expenses with
respect to a course or education involving sports, games, or hobbies,
and is not available for student activity fees, athletic fees,
insurance expenses, or other expenses unrelated to an individual's
academic course of instruction.
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The maximum deduction is $4,000 for an individual whose
adjusted gross income for the taxable year does not exceed
$65,000 ($130,000 in the case of a joint return), or $2,000 for
other individuals whose adjusted gross income does not exceed
$80,000 ($160,000 in the case of a joint return). No deduction
is allowed for an individual whose adjusted gross income
exceeds the relevant adjusted gross income limitations, for a
married individual who does not file a joint return, or for an
individual with respect to whom a personal exemption deduction
may be claimed by another taxpayer for the taxable year. The
deduction is not available for taxable years beginning after
December 31, 2009.
The amount of qualified tuition and related expenses must
be reduced by certain scholarships, educational assistance
allowances, and other amounts paid for the benefit of such
individual,\1651\ and by the amount of such expenses taken into
account for purposes of determining any exclusion from gross
income of: (1) income from certain U.S. savings bonds used to
pay higher education tuition and fees; and (2) income from a
Coverdell education savings account.\1652\ Additionally, such
expenses must be reduced by the earnings portion (but not the
return of principal) of distributions from a qualified tuition
program if an exclusion under section 529 is claimed with
respect to expenses eligible for the qualified tuition
deduction. No deduction is allowed for any expense for which a
deduction is otherwise allowed or with respect to an individual
for whom a Hope or Lifetime Learning credit is elected for such
taxable year.
---------------------------------------------------------------------------
\1651\ Secs. 222(d)(1) and 25A(g)(2).
\1652\ Sec. 222(c). These reductions are the same as those that
apply to the Hope and Lifetime Learning credits.
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the qualified tuition deduction for
two years so that it is generally available for taxable years
beginning before January 1, 2012.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
5. Tax-free distributions from individual retirement plans for
charitable purposes (sec. 725 of the Act and sec. 408 of the
Code)
Present Law
In general
If an amount withdrawn from a traditional individual
retirement arrangement (``IRA'') or a Roth IRA is donated to a
charitable organization, the rules relating to the tax
treatment of withdrawals from IRAs apply to the amount
withdrawn and the charitable contribution is subject to the
normally applicable limitations on deductibility of such
contributions. An exception applies in the case of a qualified
charitable distribution.
Charitable contributions
In computing taxable income, an individual taxpayer who
itemizes deductions generally is allowed to deduct the amount
of cash and up to the fair market value of property contributed
to the following entities: (1) a charity described in section
501(c)(3); (2) certain veterans' organizations, fraternal
societies, and cemetery companies; \1653\ and (3) a Federal,
State, or local governmental entity, but only if the
contribution is made for exclusively public purposes.\1654\ The
deduction also is allowed for purposes of calculating
alternative minimum taxable income.
---------------------------------------------------------------------------
\1653\ Secs. 170(c)(3)-(5).
\1654\ Sec. 170(c)(1).
---------------------------------------------------------------------------
The amount of the deduction allowable for a taxable year
with respect to a charitable contribution of property 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.\1655\
---------------------------------------------------------------------------
\1655\ Secs. 170(b) and (e).
---------------------------------------------------------------------------
A taxpayer who takes the standard deduction (i.e., who does
not itemize deductions) may not take a separate deduction for
charitable contributions.\1656\
---------------------------------------------------------------------------
\1656\ Sec. 170(a).
---------------------------------------------------------------------------
A payment to a charity (regardless of whether it is termed
a ``contribution'') in exchange for which the donor receives an
economic benefit is not deductible, except to the extent that
the donor can demonstrate, among other things, that the payment
exceeds the fair market value of the benefit received from the
charity. To facilitate distinguishing charitable contributions
from purchases of goods or services from charities, present law
provides that no charitable contribution deduction is allowed
for a separate contribution of $250 or more unless the donor
obtains a contemporaneous written acknowledgement of the
contribution from the charity indicating whether the charity
provided any good or service (and an estimate of the value of
any such good or service provided) to the taxpayer in
consideration for the contribution.\1657\ In addition, present
law requires that any charity that receives a contribution
exceeding $75 made partly as a gift and partly as consideration
for goods or services furnished by the charity (a ``quid pro
quo'' contribution) is required to inform the contributor in
writing of an estimate of the value of the goods or services
furnished by the charity and that only the portion exceeding
the value of the goods or services may be deductible as a
charitable contribution.\1658\
---------------------------------------------------------------------------
\1657\ Sec. 170(f)(8). For any contribution of a cash, check, or
other monetary gift, no deduction is allowed unless the donor maintains
as a record of such contribution a bank record or written communication
from the donee charity showing the name of the donee organization, the
date of the contribution, and the amount of the contribution. Sec.
170(f)(17).
\1658\ Sec. 6115.
---------------------------------------------------------------------------
Under present law, total deductible contributions of an
individual taxpayer to public charities, private operating
foundations, and certain types of private nonoperating
foundations generally may not exceed 50 percent of the
taxpayer's contribution base, which is the taxpayer's adjusted
gross income for a taxable year (disregarding any net operating
loss carryback). To the extent a taxpayer has not exceeded the
50-percent limitation, (1) contributions of capital gain
property to public charities generally may be deducted up to 30
percent of the taxpayer's contribution base, (2) contributions
of cash to private foundations and certain other charitable
organizations generally may be deducted up to 30 percent of the
taxpayer's contribution base, and (3) contributions of capital
gain property to private foundations and certain other
charitable organizations generally may be deducted up to 20
percent of the taxpayer's contribution base.
Contributions by individuals in excess of the 50-percent,
30-percent, and 20-percent limits generally may be carried over
and deducted over the next five taxable years, subject to the
relevant percentage limitations on the deduction in each of
those years.
In general, a charitable deduction is not allowed for
income, estate, or gift tax purposes if the donor transfers an
interest in property to a charity (e.g., a remainder) while
also either retaining an interest in that property (e.g., an
income interest) or transferring an interest in that property
to a noncharity for less than full and adequate
consideration.\1659\ Exceptions to this general rule are
provided for, among other interests, remainder interests in
charitable remainder annuity trusts, charitable remainder
unitrusts, and pooled income funds, and present interests in
the form of a guaranteed annuity or a fixed percentage of the
annual value of the property.\1660\ For such interests, a
charitable deduction is allowed to the extent of the present
value of the interest designated for a charitable organization.
---------------------------------------------------------------------------
\1659\ Secs. 170(f), 2055(e)(2), and 2522(c)(2).
\1660\ Sec. 170(f)(2).
---------------------------------------------------------------------------
IRA rules
Within limits, individuals may make deductible and
nondeductible contributions to a traditional IRA. Amounts in a
traditional IRA are includible in income when withdrawn (except
to the extent the withdrawal represents a return of
nondeductible contributions). Certain individuals also may make
nondeductible contributions to a Roth IRA (deductible
contributions cannot be made to Roth IRAs). Qualified
withdrawals from a Roth IRA are excludable from gross income.
Withdrawals from a Roth IRA that are not qualified withdrawals
are includible in gross income to the extent attributable to
earnings. Includible amounts withdrawn from a traditional IRA
or a Roth IRA before attainment of age 59-\1/2\ are subject to
an additional 10-percent early withdrawal tax, unless an
exception applies. Under present law, minimum distributions are
required to be made from tax-favored retirement arrangements,
including IRAs. Minimum required distributions from a
traditional IRA must generally begin by April 1 of the calendar
year following the year in which the IRA owner attains age 70-
\1/2\.\1661\
---------------------------------------------------------------------------
\1661\ Minimum distribution rules also apply in the case of
distributions after the death of a traditional or Roth IRA owner.
---------------------------------------------------------------------------
If an individual has made nondeductible contributions to a
traditional IRA, a portion of each distribution from an IRA is
nontaxable until the total amount of nondeductible
contributions has been received. In general, the amount of a
distribution that is nontaxable is determined by multiplying
the amount of the distribution by the ratio of the remaining
nondeductible contributions to the account balance. In making
the calculation, all traditional IRAs of an individual are
treated as a single IRA, all distributions during any taxable
year are treated as a single distribution, and the value of the
contract, income on the contract, and investment in the
contract are computed as of the close of the calendar year.
In the case of a distribution from a Roth IRA that is not a
qualified distribution, in determining the portion of the
distribution attributable to earnings, contributions and
distributions are deemed to be distributed in the following
order: (1) regular Roth IRA contributions; (2) taxable
conversion contributions; \1662\ (3) nontaxable conversion
contributions; and (4) earnings. In determining the amount of
taxable distributions from a Roth IRA, all Roth IRA
distributions in the same taxable year are treated as a single
distribution, all regular Roth IRA contributions for a year are
treated as a single contribution, and all conversion
contributions during the year are treated as a single
contribution.
---------------------------------------------------------------------------
\1662\ Conversion contributions refer to conversions of amounts in
a traditional IRA to a Roth IRA.
---------------------------------------------------------------------------
Distributions from an IRA (other than a Roth IRA) are
generally subject to withholding unless the individual elects
not to have withholding apply.\1663\ Elections not to have
withholding apply are to be made in the time and manner
prescribed by the Secretary.
---------------------------------------------------------------------------
\1663\ Sec. 3405.
---------------------------------------------------------------------------
Qualified charitable distributions
Present law provides an exclusion from gross income for
otherwise taxable IRA distributions from a traditional or a
Roth IRA in the case of qualified charitable
distributions.\1664\ The exclusion may not exceed $100,000 per
taxpayer per taxable year. Special rules apply in determining
the amount of an IRA distribution that is otherwise taxable.
The otherwise applicable rules regarding taxation of IRA
distributions and the deduction of charitable contributions
continue to apply to distributions from an IRA that are not
qualified charitable distributions. A qualified charitable
distribution is taken into account for purposes of the minimum
distribution rules applicable to traditional IRAs to the same
extent the distribution would have been taken into account
under such rules had the distribution not been directly
distributed under the qualified charitable distribution
provision. An IRA does not fail to qualify as an IRA as a
result of qualified charitable distributions being made from
the IRA.
---------------------------------------------------------------------------
\1664\ Sec. 408(d)(8). The exclusion does not apply to
distributions from employer-sponsored retirement plans, including
SIMPLE IRAs and simplified employee pensions (``SEPs'').
---------------------------------------------------------------------------
A qualified charitable distribution is any distribution
from an IRA directly by the IRA trustee to an organization
described in section 170(b)(1)(A) (other than an organization
described in section 509(a)(3) or a donor advised fund (as
defined in section 4966(d)(2)). Distributions are eligible for
the exclusion only if made on or after the date the IRA owner
attains age 70-\1/2\ and only to the extent the distribution
would be includible in gross income (without regard to this
provision).
The exclusion applies only if a charitable contribution
deduction for the entire distribution otherwise would be
allowable (under present law), determined without regard to the
generally applicable percentage limitations. Thus, for example,
if the deductible amount is reduced because of a benefit
received in exchange, or if a deduction is not allowable
because the donor did not obtain sufficient substantiation, the
exclusion is not available with respect to any part of the IRA
distribution.
If the IRA owner has any IRA that includes nondeductible
contributions, a special rule applies in determining the
portion of a distribution that is includible in gross income
(but for the qualified charitable distribution provision) and
thus is eligible for qualified charitable distribution
treatment. Under the special rule, the distribution is treated
as consisting of income first, up to the aggregate amount that
would be includible in gross income (but for the qualified
charitable distribution provision) if the aggregate balance of
all IRAs having the same owner were distributed during the same
year. In determining the amount of subsequent IRA distributions
includible in income, proper adjustments are to be made to
reflect the amount treated as a qualified charitable
distribution under the special rule.
Distributions that are excluded from gross income by reason
of the qualified charitable distribution provision are not
taken into account in determining the deduction for charitable
contributions under section 170.
The exclusion for qualified charitable distributions
applies to distributions made in taxable years beginning after
December 31, 2005. Under present law, the exclusion does not
apply to distributions made in taxable years beginning after
December 31, 2009.
Explanation of Provision
The provision extends the exclusion for qualified
charitable distributions to distributions made in taxable years
beginning after December 31, 2009 and before January 1, 2012.
The provision contains a special rule permitting taxpayers to
elect (in such form and manner as the Secretary may prescribe)
to have qualified charitable distributions made in January 2011
treated as having been made on December 31, 2010 for purposes
of sections 408(a)(6), 408(b)(3), and 408(d)(8). Thus, a
qualified charitable distribution made in January 2011 is
permitted to be (1) treated as made in the taxpayer's 2010
taxable year and thus permitted to count against the 2010
$100,000 limitation on the exclusion, and (2) treated as made
in the 2010 calendar year and thus permitted to be used to
satisfy the taxpayer's minimum distribution requirement for
2010.
Effective Date
The provision is effective for distributions made in
taxable years beginning after December 31, 2009.
6. Look-thru of certain regulated investment company stock in
determining gross estate of nonresidents (sec. 726 of the Act
and sec. 2105 of the Code)
Present Law
The gross estate of a decedent who was a U.S. citizen or
resident generally includes all property--real, personal,
tangible, and intangible--wherever situated.\1665\ The gross
estate of a nonresident non-citizen decedent, by contrast,
generally includes only property that at the time of the
decedent's death is situated within the United States.\1666\
Property within the United States generally includes debt
obligations of U.S. persons, including the Federal government
and State and local governments, but does not include either
bank deposits or portfolio obligations the interest on which
would be exempt from U.S. income tax under section 871.\1667\
Stock owned and held by a nonresident non-citizen generally is
treated as property within the United States if the stock was
issued by a domestic corporation.\1668\
---------------------------------------------------------------------------
\1665\ Sec. 2031. The Economic Growth and Tax Relief Reconciliation
Act of 2001 (``EGTRRA'') repealed the estate tax for estates of
decedents dying after December 31, 2009. EGTRRA, however, included a
termination provision under which EGTRRA's rules, including estate tax
repeal, do not apply to estates of decedents dying after December 31,
2010.
\1666\ Sec. 2103.
\1667\ Secs. 2104(c), 2105(b).
\1668\ Sec. 2104(a); Treas. Reg. sec. 20.2104-1(a)(5)).
---------------------------------------------------------------------------
Treaties may reduce U.S. taxation of transfers of the
estates of nonresident non-citizens. Under recent treaties, for
example, U.S. tax generally may be eliminated except insofar as
the property transferred includes U.S. real property or
business property of a U.S. permanent establishment.
Although stock issued by a domestic corporation generally
is treated as property within the United States, stock of a
regulated investment company (``RIC'') that was owned by a
nonresident non-citizen is not deemed property within the
United States in the proportion that, at the end of the quarter
of the RIC's taxable year immediately before a decedent's date
of death, the assets held by the RIC are debt obligations,
deposits, or other property that would be treated as situated
outside the United States if held directly by the estate (the
``estate tax look-through rule for RIC stock'').\1669\ This
estate tax look-through rule for RIC stock does not apply to
estates of decedents dying after December 31, 2009.
---------------------------------------------------------------------------
\1669\ Sec. 2105(d).
---------------------------------------------------------------------------
Explanation of Provision
The provision permits the estate tax look-through rule for
RIC stock to apply to estates of decedents dying before January
1, 2012.
Effective Date
The provision is effective for decedents dying after
December 31, 2009.
7. Parity for exclusion from income for employer-provided mass transit
and parking benefits (sec. 727 of the Act and sec. 132 of the
Code)
Present Law
In general
Qualified transportation fringe benefits provided by an
employer are excluded from an employee's gross income for
income tax purposes and from an employee's wages for payroll
tax purposes.\1670\ Qualified transportation fringe benefits
include parking, transit passes, vanpool benefits, and
qualified bicycle commuting reimbursements. No amount is
includible in the income of an employee merely because the
employer offers the employee a choice between cash and
qualified transportation fringe benefits (other than a
qualified bicycle commuting reimbursement). Qualified
transportation fringe benefits also include a cash
reimbursement by an employer to an employee. In the case of
transit passes, however, a cash reimbursement is considered a
qualified transportation fringe benefit only if a voucher or
similar item which may be exchanged only for a transit pass is
not readily available for direct distribution by the employer
to the employee.
---------------------------------------------------------------------------
\1670\ Secs. 132(f), 3121(b)(2), and 3306(b)(16) and 3401(a)(19).
---------------------------------------------------------------------------
Prior to February 17, 2009, the amount that could be
excluded as qualified transportation fringe benefits was
limited to $100 per month in combined vanpooling and transit
pass benefits and $175 per month in qualified parking benefits.
All limits were adjusted annually for inflation, using 1998 as
the base year (in 2009 the limits were $120 and $230,
respectively). The American Recovery and Reinvestment Act of
2009, however, temporarily increased the monthly exclusion for
employer-provided vanpool and transit pass benefits to the same
level as the exclusion for employer-provided parking ($230 for
2010). The American Recovery and Reinvestment Act of 2009
limits are set to expire on December 31, 2010.
Explanation of Provision
The provision extends the parity in qualified
transportation fringe benefits for one year (through December
31, 2011).
Effective Date
The provision is effective for months after December, 2010.
8. Refunds disregarded in the administration of Federal programs and
Federally assisted programs (sec. 728 of the Act and sec. 6409
of the Code)
Present Law
Qualifying individuals may receive refundable credits under
various provisions in the Code. Some of these credits are not
taken into account for purposes of determining eligibility for
benefits or assistance under Federal programs, but the
treatment of such credits is not uniform. For example, for
purposes of determining an individual's eligibility under any
Federal program or federally funded State or local program, the
child tax credit \1671\ is not considered a resource for the
month of receipt and the following month,\1672\ but the making
work pay credit \1673\ is not so considered for the month of
receipt and the following two months.\1674\ The earned income
credit has a similar rule to the child tax credit but only with
respect to certain specifically listed benefit programs.\1675\
---------------------------------------------------------------------------
\1671\ Sec. 24.
\1672\ Sec. 203 of the Economic Growth and Tax Relief
Reconciliation Act of 2001, Pub. L. No. 107-16.
\1673\ Sec. 36A.
\1674\ Sec. 1001(c) of the American Recovery and Reinvestment Act
of 2009, Pub. L. No. 111-5.
\1675\ Sec. 32(l).
---------------------------------------------------------------------------
Explanation of Provision
Under this provision, any tax refund (or advance payment
with respect to a refundable credit) received by an individual
after December 31, 2009 begins a period of 12 months during
which such refund may not be taken into account as a resource
for purposes of determining the eligibility of such individual
(or any other individual) for benefits or assistance (or the
amount or extent of benefits or assistance) under any Federal
program or under any State or local program financed in whole
or in part with Federal funds. The provision terminates on
December 31, 2012.
Effective Date
The provision is effective for amounts received after
December 31, 2009 and on or before December 31, 2012.
C. Business Tax Relief
1. Research credit (sec. 731 of the Act and sec. 41 of the Code)
Present Law
General rule
A taxpayer may claim a research credit equal to 20 percent
of the amount by which the taxpayer's qualified research
expenses for a taxable year exceed its base amount for that
year.\1676\ Thus, the research credit is generally available
with respect to incremental increases in qualified research.
---------------------------------------------------------------------------
\1676\ Sec. 41.
---------------------------------------------------------------------------
A 20-percent research tax credit is also available with
respect to the excess of (1) 100 percent of corporate cash
expenses (including grants or contributions) paid for basic
research conducted by universities (and certain nonprofit
scientific research organizations) over (2) the sum of (a) the
greater of two minimum basic research floors plus (b) an amount
reflecting any decrease in nonresearch giving to universities
by the corporation as compared to such giving during a fixed-
base period, as adjusted for inflation. This separate credit
computation is commonly referred to as the university basic
research credit.\1677\
---------------------------------------------------------------------------
\1677\ Sec. 41(e).
---------------------------------------------------------------------------
Finally, a research credit is available for a taxpayer's
expenditures on research undertaken by an energy research
consortium. This separate credit computation is commonly
referred to as the energy research credit. Unlike the other
research credits, the energy research credit applies to all
qualified expenditures, not just those in excess of a base
amount.
The research credit, including the university basic
research credit and the energy research credit, expires for
amounts paid or incurred after December 31, 2009.\1678\
---------------------------------------------------------------------------
\1678\ Sec. 41(h).
---------------------------------------------------------------------------
Computation of allowable credit
Except for energy research payments and certain university
basic research payments made by corporations, the research tax
credit applies only to the extent that the taxpayer's qualified
research expenses for the current taxable year exceed its base
amount. The base amount for the current year generally is
computed by multiplying the taxpayer's fixed-base percentage by
the average amount of the taxpayer's gross receipts for the
four preceding years. If a taxpayer both incurred qualified
research expenses and had gross receipts during each of at
least three years from 1984 through 1988, then its fixed-base
percentage is the ratio that its total qualified research
expenses for the 1984-1988 period bears to its total gross
receipts for that period (subject to a maximum fixed-base
percentage of 16 percent). All other taxpayers (so-called
start-up firms) are assigned a fixed-base percentage of three
percent.\1679\
---------------------------------------------------------------------------
\1679\ The Small Business Job Protection Act of 1996, Pub. L. No.
104-188, expanded the definition of start-up firms under section
41(c)(3)(B)(i) to include any firm if the first taxable year in which
such firm had both gross receipts and qualified research expenses began
after 1983. A special rule (enacted in 1993) is designed to gradually
recompute a start-up firm's fixed-base percentage based on its actual
research experience. Under this special rule, a start-up firm is
assigned a fixed-base percentage of three percent for each of its first
five taxable years after 1993 in which it incurs qualified research
expenses. A start-up firm's fixed-base percentage for its sixth through
tenth taxable years after 1993 in which it incurs qualified research
expenses is a phased-in ratio based on the firm's actual research
experience. For all subsequent taxable years, the taxpayer's fixed-base
percentage is its actual ratio of qualified research expenses to gross
receipts for any five years selected by the taxpayer from its fifth
through tenth taxable years after 1993. Sec. 41(c)(3)(B).
---------------------------------------------------------------------------
In computing the credit, a taxpayer's base amount cannot be
less than 50 percent of its current-year qualified research
expenses.
To prevent artificial increases in research expenditures by
shifting expenditures among commonly controlled or otherwise
related entities, a special aggregation rule provides that all
members of the same controlled group of corporations are
treated as a single taxpayer.\1680\ Under regulations
prescribed by the Secretary, special rules apply for computing
the credit when a major portion of a trade or business (or unit
thereof) changes hands, under which qualified research expenses
and gross receipts for periods prior to the change of ownership
of a trade or business are treated as transferred with the
trade or business that gave rise to those expenses and receipts
for purposes of recomputing a taxpayer's fixed-base
percentage.\1681\
---------------------------------------------------------------------------
\1680\ Sec. 41(f)(1).
\1681\ Sec. 41(f)(3).
---------------------------------------------------------------------------
Alternative simplified credit
Taxpayers may elect to claim an alternative simplified
credit for qualified research expenses. The alternative
simplified research credit is equal to 14 percent of qualified
research expenses that exceed 50 percent of the average
qualified research expenses for the three preceding taxable
years. The rate is reduced to six percent if a taxpayer has no
qualified research expenses in any one of the three preceding
taxable years. An election to use the alternative simplified
credit applies to all succeeding taxable years unless revoked
with the consent of the Secretary.
Eligible expenses
Qualified research expenses eligible for the research tax
credit consist of: (1) in-house expenses of the taxpayer for
wages and supplies attributable to qualified research; (2)
certain time-sharing costs for computer use in qualified
research; and (3) 65 percent of amounts paid or incurred by the
taxpayer to certain other persons for qualified research
conducted on the taxpayer's behalf (so-called contract research
expenses).\1682\ Notwithstanding the limitation for contract
research expenses, qualified research expenses include 100
percent of amounts paid or incurred by the taxpayer to an
eligible small business, university, or Federal laboratory for
qualified energy research.
---------------------------------------------------------------------------
\1682\ Under a special rule, 75 percent of amounts paid to a
research consortium for qualified research are treated as qualified
research expenses eligible for the research credit (rather than 65
percent under the general rule under section 41(b)(3) governing
contract research expenses) if (1) such research consortium is a tax-
exempt organization that is described in section 501(c)(3) (other than
a private foundation) or section 501(c)(6) and is organized and
operated primarily to conduct scientific research, and (2) such
qualified research is conducted by the consortium on behalf of the
taxpayer and one or more persons not related to the taxpayer. Sec.
41(b)(3)(C).
---------------------------------------------------------------------------
To be eligible for the credit, the research not only has to
satisfy the requirements of present-law section 174 (described
below) but also must be undertaken for the purpose of
discovering information that is technological in nature, the
application of which is intended to be useful in the
development of a new or improved business component of the
taxpayer, and substantially all of the activities of which
constitute elements of a process of experimentation for
functional aspects, performance, reliability, or quality of a
business component. Research does not qualify for the credit if
substantially all of the activities relate to style, taste,
cosmetic, or seasonal design factors.\1683\ In addition,
research does not qualify for the credit: (1) if conducted
after the beginning of commercial production of the business
component; (2) if related to the adaptation of an existing
business component to a particular customer's requirements; (3)
if related to the duplication of an existing business component
from a physical examination of the component itself or certain
other information; or (4) if related to certain efficiency
surveys, management function or technique, market research,
market testing, or market development, routine data collection
or routine quality control.\1684\ Research does not qualify for
the credit if it is conducted outside the United States, Puerto
Rico, or any U.S. possession.
---------------------------------------------------------------------------
\1683\ Sec. 41(d)(3).
\1684\ Sec. 41(d)(4).
---------------------------------------------------------------------------
Relation to deduction
Under section 174, taxpayers may elect to deduct currently
the amount of certain research or experimental expenditures
paid or incurred in connection with a trade or business,
notwithstanding the general rule that business expenses to
develop or create an asset that has a useful life extending
beyond the current year must be capitalized.\1685\ However,
deductions allowed to a taxpayer under section 174 (or any
other section) are reduced by an amount equal to 100 percent of
the taxpayer's research tax credit determined for the taxable
year.\1686\ Taxpayers may alternatively elect to claim a
reduced research tax credit amount under section 41 in lieu of
reducing deductions otherwise allowed.\1687\
---------------------------------------------------------------------------
\1685\ Taxpayers may elect 10-year amortization of certain research
expenditures allowable as a deduction under section 174(a). Secs.
174(f)(2) and 59(e).
\1686\ Sec. 280C(c).
\1687\ Sec. 280C(c)(3).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the research credit for two years,
through December 31, 2011.
Effective Date
The provision is effective for amounts paid or incurred
after December 31, 2009.
2. Indian employment tax credit (sec. 732 of the Act and sec. 45A of
the Code)
Present Law
In general, a credit against income tax liability is
allowed to employers for the first $20,000 of qualified wages
and qualified employee health insurance costs paid or incurred
by the employer with respect to certain employees.\1688\ The
credit is equal to 20 percent of the excess of eligible
employee qualified wages and health insurance costs during the
current year over the amount of such wages and costs incurred
by the employer during 1993. The credit is an incremental
credit, such that an employer's current-year qualified wages
and qualified employee health insurance costs (up to $20,000
per employee) are eligible for the credit only to the extent
that the sum of such costs exceeds the sum of comparable costs
paid during 1993. No deduction is allowed for the portion of
the wages equal to the amount of the credit.
---------------------------------------------------------------------------
\1688\ Sec. 45A.
---------------------------------------------------------------------------
Qualified wages means wages paid or incurred by an employer
for services performed by a qualified employee. A qualified
employee means any employee who is an enrolled member of an
Indian tribe or the spouse of an enrolled member of an Indian
tribe, who performs substantially all of the services within an
Indian reservation, and whose principal place of abode while
performing such services is on or near the reservation in which
the services are performed. An ``Indian reservation'' is a
reservation as defined in section 3(d) of the Indian Financing
Act of 1974 \1689\ or section 4(10) of the Indian Child Welfare
Act of 1978.\1690\ For purposes of the preceding sentence,
section 3(d) is applied by treating ``former Indian
reservations in Oklahoma'' as including only lands that are (1)
within the jurisdictional area of an Oklahoma Indian tribe as
determined by the Secretary of the Interior, and (2) recognized
by such Secretary as an area eligible for trust land status
under 25 C.F.R. Part 151 (as in effect on August 5, 1997).
---------------------------------------------------------------------------
\1689\ Pub. L. No. 93-262.
\1690\ Pub. L. No. 95-608.
---------------------------------------------------------------------------
An employee is not treated as a qualified employee for any
taxable year of the employer if the total amount of wages paid
or incurred by the employer with respect to such employee
during the taxable year exceeds an amount determined at an
annual rate of $30,000 (which after adjusted for inflation is
currently $45,000 for 2009). In addition, an employee will not
be treated as a qualified employee under certain specific
circumstances, such as where the employee is related to the
employer (in the case of an individual employer) or to one of
the employer's shareholders, partners, or grantors. Similarly,
an employee will not be treated as a qualified employee where
the employee has more than a five percent ownership interest in
the employer. Finally, an employee will not be considered a
qualified employee to the extent the employee's services relate
to gaming activities or are performed in a building housing
such activities.
The wage credit is available for wages paid or incurred in
taxable years that begin before January 1, 2010.
Explanation of Provision
The provision extends for two years the present-law
employment credit provision (through taxable years beginning on
or before December 31, 2011).
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
3. New markets tax credit (sec. 733 of the Act and sec. 45D of the
Code)
Present Law
Section 45D provides a new markets tax credit for qualified
equity investments made to acquire stock in a corporation, or a
capital interest in a partnership, that is a qualified
community development entity (``CDE'').\1691\ The amount of the
credit allowable to the investor (either the original purchaser
or a subsequent holder) is (1) a five-percent credit for the
year in which the equity interest is purchased from the CDE and
for each of the following two years, and (2) a six-percent
credit for each of the following four years.\1692\ The credit
is determined by applying the applicable percentage (five or
six percent) to the amount paid to the CDE for the investment
at its original issue, and is available to the taxpayer who
holds the qualified equity investment on the date of the
initial investment or on the respective anniversary date that
occurs during the taxable year.\1693\ The credit is recaptured
if at any time during the seven-year period that begins on the
date of the original issue of the investment the entity (1)
ceases to be a qualified CDE, (2) the proceeds of the
investment cease to be used as required, or (3) the equity
investment is redeemed.\1694\
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\1691\ Section 45D was added by section 121(a) of the Community
Renewal Tax Relief Act of 2000, Pub. L. No. 106-554.
\1692\ Sec. 45D(a)(2).
\1693\ Sec. 45D(a)(3).
\1694\ Sec. 45D(g).
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A qualified CDE is any domestic corporation or partnership:
(1) whose primary mission is serving or providing investment
capital for low-income communities or low-income persons; (2)
that maintains accountability to residents of low-income
communities by their representation on any governing board of
or any advisory board to the CDE; and (3) that is certified by
the Secretary as being a qualified CDE.\1695\ A qualified
equity investment means stock (other than nonqualified
preferred stock) in a corporation or a capital interest in a
partnership that is acquired directly from a CDE for cash, and
includes an investment of a subsequent purchaser if such
investment was a qualified equity investment in the hands of
the prior holder.\1696\ Substantially all of the investment
proceeds must be used by the CDE to make qualified low-income
community investments. For this purpose, qualified low-income
community investments include: (1) capital or equity
investments in, or loans to, qualified active low-income
community businesses; (2) certain financial counseling and
other services to businesses and residents in low-income
communities; (3) the purchase from another CDE of any loan made
by such entity that is a qualified low-income community
investment; or (4) an equity investment in, or loan to, another
CDE.\1697\
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\1695\ Sec. 45D(c).
\1696\ Sec. 45D(b).
\1697\ Sec. 45D(d).
---------------------------------------------------------------------------
A ``low-income community'' is a population census tract
with either (1) a poverty rate of at least 20 percent or (2)
median family income which does not exceed 80 percent of the
greater of metropolitan area median family income or statewide
median family income (for a non-metropolitan census tract, does
not exceed 80 percent of statewide median family income). In
the case of a population census tract located within a high
migration rural county, low-income is defined by reference to
85 percent (as opposed to 80 percent) of statewide median
family income.\1698\ For this purpose, a high migration rural
county is any county that, during the 20-year period ending
with the year in which the most recent census was conducted,
has a net out-migration of inhabitants from the county of at
least 10 percent of the population of the county at the
beginning of such period.
---------------------------------------------------------------------------
\1698\ Sec. 45D(e).
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The Secretary is authorized to designate ``targeted
populations'' as low-income communities for purposes of the new
markets tax credit.\1699\ For this purpose, a ``targeted
population'' is defined by reference to section 103(20) of the
Riegle Community Development and Regulatory Improvement Act of
1994 \1700\ (the ``Act'') to mean individuals, or an
identifiable group of individuals, including an Indian tribe,
who are low-income persons or otherwise lack adequate access to
loans or equity investments. Section 103(17) of the Act
provides that ``low-income'' means (1) for a targeted
population within a metropolitan area, less than 80 percent of
the area median family income; and (2) for a targeted
population within a non-metropolitan area, less than the
greater of--80 percent of the area median family income, or 80
percent of the statewide non-metropolitan area median family
income.\1701\ A targeted population is not required to be
within any census tract. In addition, a population census tract
with a population of less than 2,000 is treated as a low-income
community for purposes of the credit if such tract is within an
empowerment zone, the designation of which is in effect under
section 1391 of the Code, and is contiguous to one or more low-
income communities.
---------------------------------------------------------------------------
\1699\ Sec. 45D(e)(2).
\1700\ Pub. L. No. 103-325.
\1701\ Pub. L. No. 103-325.
---------------------------------------------------------------------------
A qualified active low-income community business is defined
as a business that satisfies, with respect to a taxable year,
the following requirements: (1) at least 50 percent of the
total gross income of the business is derived from the active
conduct of trade or business activities in any low-income
community; (2) a substantial portion of the tangible property
of the business is used in a low-income community; (3) a
substantial portion of the services performed for the business
by its employees is performed in a low-income community; and
(4) less than five percent of the average of the aggregate
unadjusted bases of the property of the business is
attributable to certain financial property or to certain
collectibles.\1702\
---------------------------------------------------------------------------
\1702\ Sec. 45D(d)(2).
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The maximum annual amount of qualified equity investments
was $5.0 billion for calendar years 2008 and 2009. The new
markets tax credit expired on December 31, 2009.
Explanation of Provision
The provision extends the new markets tax credit for two
years, through 2011, permitting up to $3.5 billion in qualified
equity investments for each of the 2010 and 2011 calendar
years. The provision also extends for two years, through 2016,
the carryover period for unused new markets tax credits.
Effective Date
The provision applies to calendar years beginning after
December 31, 2009.
4. Railroad track maintenance credit (sec. 734 of the Act and sec. 45G
of the Code)
Present Law
Present law provides a 50-percent business tax credit for
qualified railroad track maintenance expenditures paid or
incurred by an eligible taxpayer during taxable years beginning
before January 1, 2010.\1703\ The credit is limited to the
product of $3,500 times the number of miles of railroad track
(1) owned or leased by an eligible taxpayer as of the close of
its taxable year, and (2) assigned to the eligible taxpayer by
a Class II or Class III railroad that owns or leases such track
at the close of the taxable year.\1704\ Each mile of railroad
track may be taken into account only once, either by the owner
of such mile or by the owner's assignee, in computing the per-
mile limitation. The credit may also reduce a taxpayer's tax
liability below its tentative minimum tax.\1705\
---------------------------------------------------------------------------
\1703\ Sec. 45G(a).
\1704\ Sec. 45G(b)(1).
\1705\ Sec. 38(c)(4).
---------------------------------------------------------------------------
Qualified railroad track maintenance expenditures are
defined as gross expenditures (whether or not otherwise
chargeable to capital account) for maintaining railroad track
(including roadbed, bridges, and related track structures)
owned or leased as of January 1, 2005, by a Class II or Class
III railroad (determined without regard to any consideration
for such expenditure given by the Class II or Class III
railroad which made the assignment of such track).\1706\
---------------------------------------------------------------------------
\1706\ Sec. 45G(d).
---------------------------------------------------------------------------
An eligible taxpayer means any Class II or Class III
railroad, and any person who transports property using the rail
facilities of a Class II or Class III railroad or who furnishes
railroad-related property or services to a Class II or Class
III railroad, but only with respect to miles of railroad track
assigned to such person by such railroad under the
provision.\1707\
---------------------------------------------------------------------------
\1707\ Sec. 45G(c).
---------------------------------------------------------------------------
The terms Class II or Class III railroad have the meanings
given by the Surface Transportation Board.\1708\
---------------------------------------------------------------------------
\1708\ Sec. 45G(e)(1).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the present law credit for two years,
for qualified railroad track maintenance expenses paid or
incurred during taxable years beginning after December 31, 2009
and before January 1, 2012.
Effective Date
The provision is effective for expenses paid or incurred in
taxable years beginning after December 31, 2009.
5. Mine rescue team training credit (sec. 735 of the Act and sec. 45N
of the Code)
Present Law
An eligible employer may claim a general business credit
against income tax with respect to each qualified mine rescue
team employee equal to the lesser of: (1) 20 percent of the
amount paid or incurred by the taxpayer during the taxable year
with respect to the training program costs of the qualified
mine rescue team employee (including the wages of the employee
while attending the program); or (2) $10,000. A qualified mine
rescue team employee is any full-time employee of the taxpayer
who is a miner eligible for more than six months of a taxable
year to serve as a mine rescue team member by virtue of either
having completed the initial 20-hour course of instruction
prescribed by the Mine Safety and Health Administration's
Office of Educational Policy and Development, or receiving at
least 40 hours of refresher training in such instruction. The
credit is not allowable for purposes of computing the
alternative minimum tax.\1709\
---------------------------------------------------------------------------
\1709\ Sec. 38(c).
---------------------------------------------------------------------------
An eligible employer is any taxpayer which employs
individuals as miners in underground mines in the United
States. The term ``wages'' has the meaning given to such term
by section 3306(b) \1710\ (determined without regard to any
dollar limitation contained in that section).
---------------------------------------------------------------------------
\1710\ Section 3306(b) defines wages for purposes of Federal
Unemployment Tax.
---------------------------------------------------------------------------
No deduction is allowed for the portion of the expenses
otherwise deductible that is equal to the amount of the
credit.\1711\ The credit does not apply to taxable years
beginning after December 31, 2009. Additionally, the credit may
not offset the alternative minimum tax.
---------------------------------------------------------------------------
\1711\ Sec. 280C(e).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the credit for two years through
taxable years beginning on or before December 31, 2011.
Effective Date
The provision generally is effective for taxable years
beginning after December 31, 2009.
6. Employer wage credit for employees who are active duty members of
the uniformed services (sec. 736 of the Act and sec. 45P of the
Code)
Present Law
Differential pay
In general, compensation paid by an employer to an employee
is deductible by the employer under section 162(a)(1), unless
the expense must be capitalized. In the case of an employee who
is called to active duty with respect to the armed forces of
the United States, some employers voluntarily pay the employee
the difference between the compensation that the employer would
have paid to the employee during the period of military service
less the amount of pay received by the employee from the
military. This payment by the employer is often referred to as
``differential pay.''
Wage credit for differential pay
If an employer qualifies as an eligible small business
employer, the employer is allowed to take a credit against its
income tax liability for a taxable year in an amount equal to
20 percent of the sum of the eligible differential wage
payments for each of the employer's qualified employees for the
taxable year.\1712\
---------------------------------------------------------------------------
\1712\ Sec. 45P.
---------------------------------------------------------------------------
An eligible small business employer means, with respect to
a taxable year, any taxpayer which: (1) employed on average
less than 50 employees on business days during the taxable
year; and (2) under a written plan of the taxpayer, provides
eligible differential wage payments to every qualified employee
of the taxpayer. Taxpayers under common control are aggregated
for purposes of determining whether a taxpayer is an eligible
small business employer. The credit is not available with
respect to a taxpayer who has failed to comply with the
employment and reemployment rights of members of the uniformed
services (as provided under Chapter 43 of Title 38 of the
United States Code).
Differential wage payment means any payment which: (1) is
made by an employer to an individual with respect to any period
during which the individual is performing service in the
uniformed services of the United States while on active duty
for a period of more than 30 days; and (2) represents all or a
portion of the wages that the individual would have received
from the employer if the individual were performing services
for the employer. The term eligible differential wage payments
means so much of the differential wage payments paid to a
qualified employee as does not exceed $20,000. A qualified
employee is an individual who has been an employee for the 91-
day period immediately preceding the period for which any
differential wage payment is made.
No deduction may be taken for that portion of compensation
which is equal to the credit. In addition, the amount of any
other credit otherwise allowable under Chapter 1 (Normal Taxes
and Surtaxes) of Subtitle A (Income Taxes) of the Code with
respect to compensation paid to an employee must be reduced by
the differential wage payment credit allowed with respect to
such employee.
The differential wage payment credit is part of the general
business credit, and thus this credit is subject to the rules
applicable to business credits. For example, an unused credit
generally may be carried back to the taxable year that precedes
an unused credit year or carried forward to each of the 20
taxable years following the unused credit year. Any credit that
is included in the general business credit, however, cannot be
carried back to a tax year before the first tax year for which
that credit is allowable under the effective date of that
credit. Thus, the differential wage payment credit, if
disallowed under section 38(c), cannot be carried back to tax
years ending before June 18, 2008. In addition, unlike many of
the other credits that are included in the general business
credit, the differential wage payment credit is not a
``qualified business credit'' under section 196(c). Thus, a
taxpayer cannot deduct under section 196(c) any differential
wage payment credits that remain unused at the end of the 20-
year carryforward period.
Rules similar to the rules in section 52(c), which bars the
work opportunity tax credit for tax-exempt organizations other
than certain farmer's cooperatives, apply to the differential
wage payment credit. Additionally, rules similar to the rules
in section 52(e), which limits the work opportunity tax credit
allowable to regulated investment companies, real estate
investment trusts, and certain cooperatives, apply to the
differential wage payment credit.
The credit is not allowable against a taxpayer's
alternative minimum tax liability. The amount of credit
otherwise allowable under the income tax rules for compensation
paid to any employee must be reduced by the differential wage
payment credit with respect to that employee.
There are special rules for trusts and estates and their
beneficiaries.
The credit is available with respect to amounts paid after
June 17, 2008 \1713\ and before January 1, 2010.
---------------------------------------------------------------------------
\1713\ This date is the date of enactment of the Heroes Earnings
Assistance and Relief Tax Act of 2008, Pub. L. No. 110-245.
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the availability of the credit to
amounts paid before January 1, 2012.
Effective Date
The provision applies to payments made after December 31,
2009.
7. 15-year straight-line cost recovery for qualified leasehold
improvements, qualified restaurant buildings and improvements,
and qualified retail improvements (sec. 737 of the Act and sec.
168 of the Code)
Present Law
In general
A taxpayer generally must capitalize the cost of property
used in a trade or business and recover such cost over time
through annual deductions for depreciation or amortization.
Tangible property generally is depreciated under the modified
accelerated cost recovery system (``MACRS''), which determines
depreciation by applying specific recovery periods, placed-in-
service conventions, and depreciation methods to the cost of
various types of depreciable property.\1714\ The cost of
nonresidential real property is recovered using the straight-
line method of depreciation and a recovery period of 39 years.
Nonresidential real property is subject to the mid-month
placed-in-service convention. Under the mid-month convention,
the depreciation allowance for the first year property is
placed in service is based on the number of months the property
was in service, and property placed in service at any time
during a month is treated as having been placed in service in
the middle of the month.
---------------------------------------------------------------------------
\1714\ Sec. 168.
---------------------------------------------------------------------------
Depreciation of leasehold improvements
Generally, depreciation allowances for improvements made on
leased property are determined under MACRS, even if the MACRS
recovery period assigned to the property is longer than the
term of the lease. This rule applies regardless of whether the
lessor or the lessee places the leasehold improvements in
service. If a leasehold improvement constitutes an addition or
improvement to nonresidential real property already placed in
service, the improvement generally is depreciated using the
straight-line method over a 39-year recovery period, beginning
in the month the addition or improvement was placed in service.
However, exceptions exist for certain qualified leasehold
improvements, qualified restaurant property, and qualified
retail improvement property.
Qualified leasehold improvement property
Section 168(e)(3)(E)(iv) provides a statutory 15-year
recovery period for qualified leasehold improvement property
placed in service before January 1, 2010. Qualified leasehold
improvement property is recovered using the straight-line
method and a half-year convention. Leasehold improvements
placed in service after December 31, 2009 will be subject to
the general rules described above.
Qualified leasehold improvement property is any improvement
to an interior portion of a building that is nonresidential
real property, provided certain requirements are met. The
improvement must be made under or pursuant to a lease either by
the lessee (or sublessee), or by the lessor, of that portion of
the building to be occupied exclusively by the lessee (or
sublessee). The improvement must be placed in service more than
three years after the date the building was first placed in
service. Qualified leasehold improvement property does not
include any improvement for which the expenditure is
attributable to the enlargement of the building, any elevator
or escalator, any structural component benefiting a common
area, or the internal structural framework of the building.
If a lessor makes an improvement that qualifies as
qualified leasehold improvement property, such improvement does
not qualify as qualified leasehold improvement property to any
subsequent owner of such improvement. An exception to the rule
applies in the case of death and certain transfers of property
that qualify for non-recognition treatment.
Qualified restaurant property
Section 168(e)(3)(E)(v) provides a statutory 15-year
recovery period for qualified restaurant property placed in
service before January 1, 2010. Qualified restaurant property
is any section 1250 property that is a building (if the
building is placed in service after December 31, 2008 and
before January 1, 2010) or an improvement to a building, if
more than 50 percent of the building's square footage is
devoted to the preparation of, and seating for on-premises
consumption of, prepared meals.\1715\ Qualified restaurant
property is recovered using the straight-line method and a
half-year convention. Additionally, qualified restaurant
property is not eligible for bonus depreciation.\1716\
Restaurant property placed in service after December 31, 2009
is subject to the general rules described above.
---------------------------------------------------------------------------
\1715\ Sec. 168(e)(7)(A).
\1716\ Property that satisfies the definition of both qualified
leasehold improvement property and qualified restaurant property is
eligible for bonus depreciation.
---------------------------------------------------------------------------
Qualified retail improvement property
Section 168(e)(3)(E)(ix) provides a statutory 15-year
recovery period and for qualified retail improvement property
placed in service after December 31, 2008 and before January 1,
2010. Qualified retail improvement property is any improvement
to an interior portion of a building which is nonresidential
real property if such portion is open to the general public
\1717\ and is used in the retail trade or business of selling
tangible personal property to the general public, and such
improvement is placed in service more than three years after
the date the building was first placed in service. Qualified
retail improvement property does not include any improvement
for which the expenditure is attributable to the enlargement of
the building, any elevator or escalator, or the internal
structural framework of the building. In the case of an
improvement made by the owner of such improvement, the
improvement is a qualified retail improvement only so long as
the improvement is held by such owner.
---------------------------------------------------------------------------
\1717\ Improvements to portions of a building not open to the
general public (e.g., stock room in back of retail space) do not
qualify under the provision.
---------------------------------------------------------------------------
Retail establishments that qualify for the 15-year recovery
period include those primarily engaged in the sale of goods.
Examples of these retail establishments include, but are not
limited to, grocery stores, clothing stores, hardware stores
and convenience stores. Establishments primarily engaged in
providing services, such as professional services, financial
services, personal services, health services, and
entertainment, do not qualify. It is generally intended that
businesses defined as a store retailer under the current North
American Industry Classification System (industry sub-sectors
441 through 453) qualify while those in other industry classes
do not qualify.
Qualified retail improvement property is recovered using
the straight-line method and a half-year convention.
Additionally, qualified retail improvement property is not
eligible for bonus depreciation.\1718\ Qualified retail
improvement property placed in service on or after January 1,
2010 is subject to the general rules described above.
---------------------------------------------------------------------------
\1718\ Property that satisfies the definition of both qualified
leasehold improvement property and qualified retail property is
eligible for bonus depreciation.
---------------------------------------------------------------------------
Explanation of Provision
The present law provisions for qualified leasehold
improvement property, qualified restaurant property, and
qualified retail improvement property are extended for two
years to apply to property placed in service on or before
December 31, 2011.
Effective Date
The provision is effective for property placed in service
after December 31, 2009.
8. 7-year recovery period for motorsports entertainment complexes (sec.
738 of the Act and sec. 168 of the Code)
Present Law
A taxpayer generally must capitalize the cost of property
used in a trade or business and recover such cost over time
through annual deductions for depreciation or amortization.
Tangible property generally is depreciated under the modified
accelerated cost recovery system (``MACRS''), which determines
depreciation by applying specific recovery periods, placed-in-
service conventions, and depreciation methods to the cost of
various types of depreciable property.\1719\ The cost of
nonresidential real property is recovered using the straight-
line method of depreciation and a recovery period of 39 years.
Nonresidential real property is subject to the mid-month
placed-in-service convention. Under the mid-month convention,
the depreciation allowance for the first year property is
placed in service is based on the number of months the property
was in service, and property placed in service at any time
during a month is treated as having been placed in service in
the middle of the month. Land improvements (such as roads and
fences) are recovered over 15 years. An exception exists for
the theme and amusement park industry, whose assets are
assigned a recovery period of seven years. Additionally, a
motorsports entertainment complex placed in service before
December 31, 2009 is assigned a recovery period of seven
years.\1720\ For these purposes, a motorsports entertainment
complex means a racing track facility which is permanently
situated on land and which during the 36-month period following
its placed-in-service date hosts a racing event.\1721\ The term
motorsports entertainment complex also includes ancillary
facilities, land improvements (e.g., parking lots, sidewalks,
fences), support facilities (e.g., food and beverage retailing,
souvenir vending), and appurtenances associated with such
facilities (e.g., ticket booths, grandstands).
---------------------------------------------------------------------------
\1719\ Sec. 168.
\1720\ Sec. 168(e)(3)(C)(ii).
\1721\ Sec. 168(i)(15).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the present law seven-year recovery
period for motorsports entertainment complexes two years to
apply to property placed in service before January 1, 2012.
Effective Date
The provision is effective for property placed in service
after December 31, 2009.
9. Accelerated depreciation for business property on an Indian
reservation (sec. 739 of the Act and sec. 168(j) of the Code)
Present Law
With respect to certain property used in connection with
the conduct of a trade or business within an Indian
reservation, depreciation deductions under section 168(j) are
determined using the following recovery periods:
3-year property......................................... 2 years
5-year property......................................... 3 years
7-year property......................................... 4 years
10-year property........................................ 6 years
15-year property........................................ 9 years
20-year property........................................ 12 years
Nonresidential real property............................ 22 years
``Qualified Indian reservation property'' eligible for
accelerated depreciation includes property described in the
table above which is: (1) used by the taxpayer predominantly in
the active conduct of a trade or business within an Indian
reservation; (2) not used or located outside the reservation on
a regular basis; (3) not acquired (directly or indirectly) by
the taxpayer from a person who is related to the
taxpayer;\1722\ and (4) is not property placed in service for
purposes of conducting gaming activities.\1723\ Certain
``qualified infrastructure property'' may be eligible for the
accelerated depreciation even if located outside an Indian
reservation, provided that the purpose of such property is to
connect with qualified infrastructure property located within
the reservation (e.g., roads, power lines, water systems,
railroad spurs, and communications facilities).\1724\
---------------------------------------------------------------------------
\1722\ For these purposes, related persons is defined in Sec.
465(b)(3)(C).
\1723\ Sec. 168(j)(4)(A).
\1724\ Sec. 168(j)(4)(C).
---------------------------------------------------------------------------
An ``Indian reservation'' means a reservation as defined in
section 3(d) of the Indian Financing Act of 1974\1725\ or
section 4(10) of the Indian Child Welfare Act of 1978 (25
U.S.C. 1903(10)).\1726\ For purposes of the preceding sentence,
section 3(d) is applied by treating ``former Indian
reservations in Oklahoma'' as including only lands that are (1)
within the jurisdictional area of an Oklahoma Indian tribe as
determined by the Secretary of the Interior, and (2) recognized
by such Secretary as an area eligible for trust land status
under 25 C.F.R. Part 151 (as in effect on August 5, 1997).
---------------------------------------------------------------------------
\1725\ Pub. L. No. 93-262.
\1726\ Pub. L. No. 95-608.
---------------------------------------------------------------------------
The depreciation deduction allowed for regular tax purposes
is also allowed for purposes of the alternative minimum tax.
The accelerated depreciation for qualified Indian reservation
property is available with respect to property placed in
service on or after January 1, 1994, and before January 1,
2010.
Explanation of Provision
The provision extends for two years the present-law
accelerated MACRS recovery periods for qualified Indian
reservation property to apply to property placed in service
before January 1, 2012.
Effective Date
The provision is effective for property placed in service
after December 31, 2009.
10. Enhanced charitable deduction for contributions of food inventory
(sec. 740 of the Act and sec. 170 of the Code)
Present Law
Charitable contributions in general
In general, an income tax deduction is permitted for
charitable contributions, subject to certain limitations that
depend on the type of taxpayer, the property contributed, and
the donee organization.\1727\
---------------------------------------------------------------------------
\1727\ Sec. 170.
---------------------------------------------------------------------------
Charitable contributions of cash are deductible in the
amount contributed. In general, contributions of capital gain
property to a qualified charity are deductible at fair market
value with certain exceptions. Capital gain property means any
capital asset or property used in the taxpayer's trade or
business the sale of which at its fair market value, at the
time of contribution, would have resulted in gain that would
have been long-term capital gain. Contributions of other
appreciated property generally are deductible at the donor's
basis in the property. Contributions of depreciated property
generally are deductible at the fair market value of the
property.
General rules regarding contributions of food inventory
Under present law, a taxpayer's deduction for charitable
contributions of inventory generally is limited to the
taxpayer's basis (typically, cost) in the inventory, or if less
the fair market value of the inventory.
For certain contributions of inventory, C corporations may
claim an enhanced deduction equal to the lesser of (1) basis
plus one-half of the item's appreciation (i.e., basis plus one-
half of fair market value in excess of basis) or (2) two times
basis.\1728\ In general, a C corporation's charitable
contribution deductions for a year may not exceed 10 percent of
the corporation's taxable income.\1729\ To be eligible for the
enhanced deduction, the contributed property generally must be
inventory of the taxpayer, contributed to a charitable
organization described in section 501(c)(3) (except for private
nonoperating foundations), and the donee must (1) use the
property consistent with the donee's exempt purpose solely for
the care of the ill, the needy, or infants, (2) not transfer
the property in exchange for money, other property, or
services, and (3) provide the taxpayer a written statement that
the donee's use of the property will be consistent with such
requirements.\1730\ In the case of contributed property subject
to the Federal Food, Drug, and Cosmetic Act, as amended, the
property must satisfy the applicable requirements of such Act
on the date of transfer and for 180 days prior to the
transfer.\1731\
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\1728\ Sec. 170(e)(3).
\1729\ Sec. 170(b)(2).
\1730\ Sec. 170(e)(3)(A)(i)-(iii).
\1731\ Sec. 170(e)(3)(A)(iv).
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A donor making a charitable contribution of inventory must
make a corresponding adjustment to the cost of goods sold by
decreasing the cost of goods sold by the lesser of the fair
market value of the property or the donor's basis with respect
to the inventory.\1732\ Accordingly, if the allowable
charitable deduction for inventory is the fair market value of
the inventory, the donor reduces its cost of goods sold by such
value, with the result that the difference between the fair
market value and the donor's basis may still be recovered by
the donor other than as a charitable contribution.
---------------------------------------------------------------------------
\1732\ Treas. Reg. sec. 1.170A-4A(c)(3).
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To use the enhanced deduction, the taxpayer must establish
that the fair market value of the donated item exceeds basis.
The valuation of food inventory has been the subject of
disputes between taxpayers and the IRS.\1733\
---------------------------------------------------------------------------
\1733\ Lucky Stores Inc. v. Commissioner, 105 T.C. 420 (1995)
(holding that the value of surplus bread inventory donated to charity
was the full retail price of the bread rather than half the retail
price, as the IRS asserted).
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Temporary rule expanding and modifying the enhanced deduction for
contributions of food inventory
Under a special temporary provision, any taxpayer, whether
or not a C corporation, engaged in a trade or business is
eligible to claim the enhanced deduction for donations of food
inventory.\1734\ For taxpayers other than C corporations, the
total deduction for donations of food inventory in a taxable
year generally may not exceed 10 percent of the taxpayer's net
income for such taxable year from all sole proprietorships, S
corporations, or partnerships (or other non C corporation) from
which contributions of apparently wholesome food are made. For
example, if a taxpayer is a sole proprietor, a shareholder in
an S corporation, and a partner in a partnership, and each
business makes charitable contributions of food inventory, the
taxpayer's deduction for donations of food inventory is limited
to 10 percent of the taxpayer's net income from the sole
proprietorship and the taxpayer's interests in the S
corporation and partnership. However, if only the sole
proprietorship and the S corporation made charitable
contributions of food inventory, the taxpayer's deduction would
be limited to 10 percent of the net income from the trade or
business of the sole proprietorship and the taxpayer's interest
in the S corporation, but not the taxpayer's interest in the
partnership.\1735\
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\1734\ Sec. 170(e)(3)(C).
\1735\ The 10 percent limitation does not affect the application of
the generally applicable percentage limitations. For example, if 10
percent of a sole proprietor's net income from the proprietor's trade
or business was greater than 50 percent of the proprietor's
contribution base, the available deduction for the taxable year (with
respect to contributions to public charities) would be 50 percent of
the proprietor's contribution base. Consistent with present law, such
contributions may be carried forward because they exceed the 50 percent
limitation. Contributions of food inventory by a taxpayer that is not a
C corporation that exceed the 10 percent limitation but not the 50
percent limitation could not be carried forward.
---------------------------------------------------------------------------
Under the temporary provision, the enhanced deduction for
food is available only for food that qualifies as ``apparently
wholesome food.'' Apparently wholesome food is defined as food
intended for human consumption that meets all quality and
labeling standards imposed by Federal, State, and local laws
and regulations even though the food may not be readily
marketable due to appearance, age, freshness, grade, size,
surplus, or other conditions.
The temporary provision does not apply to contributions
made after December 31, 2009.
Explanation of Provision
The provision extends the expansion of, and modifications
to, the enhanced deduction for charitable contributions of food
inventory to contributions made before January 1, 2012.
Effective Date
The provision is effective for contributions made after
December 31, 2009.
11. Enhanced charitable deduction for contributions of book inventories
to public schools (sec. 741 of the Act and sec. 170 of the
Code)
Present Law
Charitable contributions in general
In general, an income tax deduction is permitted for
charitable contributions, subject to certain limitations that
depend on the type of taxpayer, the property contributed, and
the donee organization.\1736\
---------------------------------------------------------------------------
\1736\ Sec. 170.
---------------------------------------------------------------------------
Charitable contributions of cash are deductible in the
amount contributed. In general, contributions of capital gain
property to a qualified charity are deductible at fair market
value with certain exceptions. Capital gain property means any
capital asset or property used in the taxpayer's trade or
business the sale of which at its fair market value, at the
time of contribution, would have resulted in gain that would
have been long-term capital gain. Contributions of other
appreciated property generally are deductible at the donor's
basis in the property. Contributions of depreciated property
generally are deductible at the fair market value of the
property.
General rules regarding contributions of book inventory
Under present law, a taxpayer's deduction for charitable
contributions of inventory generally is limited to the
taxpayer's basis (typically, cost) in the inventory, or, if
less, the fair market value of the inventory.
In general, for certain contributions of inventory, C
corporations may claim an enhanced deduction equal to the
lesser of (1) basis plus one-half of the item's appreciation
(i.e., basis plus one-half of fair market value in excess of
basis) or (2) two times basis.\1737\ In general, a C
corporation's charitable contribution deductions for a year may
not exceed 10 percent of the corporation's taxable
income.\1738\ To be eligible for the enhanced deduction, the
contributed property generally must be inventory of the
taxpayer contributed to a charitable organization described in
section 501(c)(3) (except for private nonoperating
foundations), and the donee must (1) use the property
consistent with the donee's exempt purpose solely for the care
of the ill, the needy, or infants, (2) not transfer the
property in exchange for money, other property, or services,
and (3) provide the taxpayer a written statement that the
donee's use of the property will be consistent with such
requirements.\1739\ In the case of contributed property subject
to the Federal Food, Drug, and Cosmetic Act, as amended, the
property must satisfy the applicable requirements of such Act
on the date of transfer and for 180 days prior to the
transfer.\1740\
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\1737\ Sec. 170(e)(3).
\1738\ Sec. 170(b)(2).
\1739\ Sec. 170(e)(3)(A)(i)-(iii)
\1740\ Sec. 170(e)(3)(A)(iv).
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A donor making a charitable contribution of inventory must
make a corresponding adjustment to the cost of goods sold by
decreasing the cost of goods sold by the lesser of the fair
market value of the property or the donor's basis with respect
to the inventory.\1741\ Accordingly, if the allowable
charitable deduction for inventory is the fair market value of
the inventory, the donor reduces its cost of goods sold by such
value, with the result that the difference between the fair
market value and the donor's basis may still be recovered by
the donor other than as a charitable contribution.
---------------------------------------------------------------------------
\1741\ Treas. Reg. sec. 1.170A-4A(c)(3).
---------------------------------------------------------------------------
To use the enhanced deduction, the taxpayer must establish
that the fair market value of the donated item exceeds basis.
Special rule expanding and modifying the enhanced deduction for
contributions of book inventory
The generally applicable enhanced deduction for C
corporations is expanded and modified to include certain
qualified book contributions made after August 28, 2005, and
before January 1, 2010.\1742\ A qualified book contribution
means a charitable contribution of books to a public school
that provides elementary education or secondary education
(kindergarten through grade 12) and that is an educational
organization that normally maintains a regular faculty and
curriculum and normally has a regularly enrolled body of pupils
or students in attendance at the place where its educational
activities are regularly carried on. The enhanced deduction for
qualified book contributions is not allowed unless the donee
organization certifies in writing that the contributed books
are suitable, in terms of currency, content, and quantity, for
use in the donee's educational programs and that the donee will
use the books in such educational programs. The donee also must
make the certifications required for the generally applicable
enhanced deduction, i.e., the donee will (1) use the property
consistent with the donee's exempt purpose solely for the care
of the ill, the needy, or infants, (2) not transfer the
property in exchange for money, other property, or services,
and (3) provide the taxpayer a written statement that the
donee's use of the property will be consistent with such
requirements.
---------------------------------------------------------------------------
\1742\ Sec. 170(e)(3)(D).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the expansion of, and modifications
to, the enhanced deduction for contributions of book inventory
to contributions made before January 1, 2012.
Effective Date
The provision is effective for contributions made after
December 31, 2009.
12. Enhanced charitable deduction for corporate contributions of
computer inventory for educational purposes (sec. 742 of the
Act and sec. 170 of the Code)
Present Law
In the case of a charitable contribution of inventory or
other ordinary-income or short-term capital gain property, the
amount of the charitable deduction generally is limited to the
taxpayer's basis in the property. In the case of a charitable
contribution of tangible personal property, the deduction is
limited to the taxpayer's basis in such property if the use by
the recipient charitable organization is unrelated to the
organization's tax-exempt purpose. In cases involving
contributions to a private foundation (other than certain
private operating foundations), the amount of the deduction is
limited to the taxpayer's basis in the property.\1743\
---------------------------------------------------------------------------
\1743\ Sec. 170(e)(1).
---------------------------------------------------------------------------
Explanation of Provision
A taxpayer's deduction for charitable contributions of
computer technology and equipment generally is limited to the
taxpayer's basis (typically, cost) in the property. Under a
special, temporary provision, certain corporations may claim a
deduction in excess of basis for a ``qualified computer
contribution.'' \1744\ This enhanced deduction is equal to the
lesser of (1) basis plus one-half of the item's appreciation
(i.e., basis plus one half of fair market value in excess of
basis) or (2) two times basis. The enhanced deduction for
qualified computer contributions expires for any contribution
made during any taxable year beginning after December 31,
2009.\1745\
---------------------------------------------------------------------------
\1744\ Sec. 170(e)(6).
\1745\ Sec. 170(e)(6)(G).
---------------------------------------------------------------------------
A qualified computer contribution means a charitable
contribution of any computer technology or equipment, which
meets several requirements. The contribution must meet
standards of functionality and suitability as established by
the Secretary of the Treasury. The contribution must be to
certain educational organizations or public libraries and made
not later than three years after the taxpayer acquired the
property (or, if the taxpayer constructed or assembled the
property, the date construction or assembly of the property is
substantially completed).\1746\ The original use of the
property must be by the donor or the donee,\1747\ and
substantially all of the donee's use of the property must be
within the United States for educational purposes related to
the function or purpose of the donee. The property must fit
productively into the donee's education plan. The donee may not
transfer the property in exchange for money, other property, or
services, except for shipping, installation, and transfer
costs. To determine whether property is constructed or
assembled by the taxpayer, the rules applicable to qualified
research contributions apply. Contributions may be made to
private foundations under certain conditions.\1748\
---------------------------------------------------------------------------
\1746\ If the taxpayer constructed the property and reacquired such
property, the contribution must be within three years of the date the
original construction was substantially completed. Sec.
170(e)(6)(D)(i).
\1747\ This requirement does not apply if the property was
reacquired by the manufacturer and contributed. Sec. 170(e)(6)(D)(ii).
\1748\ Sec. 170(e)(6)(C).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the enhanced deduction for computer
technology and equipment to contributions made before January
1, 2012.
Effective Date
The provision is effective for contributions made in
taxable years beginning after December 31, 2009.
13. Election to expense mine safety equipment (sec. 743 of the Act and
sec. 179E of the Code)
Present Law
A taxpayer is allowed to recover, through annual
depreciation deductions, the cost of certain property used in a
trade or business or for the production of income. The amount
of the depreciation deduction allowed with respect to tangible
property for a taxable year is determined under the modified
accelerated cost recovery system (``MACRS'').\1749\ Under
MACRS, different types of property generally are assigned
applicable recovery periods and depreciation methods. The
recovery periods applicable to most tangible personal property
(generally tangible property other than residential rental
property and nonresidential real property) range from three to
20 years. The depreciation methods generally applicable to
tangible personal property are the 200-percent and 150-percent
declining balance methods, switching to the straight-line
method for the taxable year in which the depreciation deduction
would be maximized.
---------------------------------------------------------------------------
\1749\ Sec. 168.
---------------------------------------------------------------------------
In lieu of depreciation, a taxpayer with a sufficiently
small amount of annual investment may elect to deduct (or
``expense'') such costs under section 179. Present law provides
that the maximum amount a taxpayer may expense for taxable
years beginning in 2010 is $500,000 of the cost of the
qualifying property for the taxable year. In general,
qualifying property is defined as depreciable tangible personal
property that is purchased for use in the active conduct of a
trade or business.\1750\ The $500,000 amount is reduced (but
not below zero) by the amount by which the cost of qualifying
property placed in service during the taxable year exceeds
$2,000,000.
---------------------------------------------------------------------------
\1750\ The definition of qualifying property was temporarily (for
2010 and 2011) expanded to include up to $250,000 of qualified
leasehold improvement property, qualified restaurant property, and
qualified retail improvement property. See section 179(c).
---------------------------------------------------------------------------
A taxpayer may elect to treat 50 percent of the cost of any
qualified advanced mine safety equipment property as an expense
in the taxable year in which the equipment is placed in
service.\1751\ The deduction under section 179E is allowed for
both regular and alternative minimum tax purposes, including
adjusted current earnings. In computing earnings and profits,
the amount deductible under section 179E is allowed as a
deduction ratably over five taxable years beginning with the
year the amount is deductible under section 179E.\1752\
---------------------------------------------------------------------------
\1751\ Sec. 179E(a).
\1752\ Sec. 312(k)(3). Section 56(g)(4)(C)(i) does not apply to a
deduction under section 179E (or under sections 179, 179A, 179B, and
179D), as such deduction is permitted for purposes of computing
earnings and profits.
---------------------------------------------------------------------------
``Qualified advanced mine safety equipment property'' means
any advanced mine safety equipment property for use in any
underground mine located in the United States the original use
of which commences with the taxpayer and which is placed in
service before January 1, 2010.\1753\
---------------------------------------------------------------------------
\1753\ Secs. 179E(c) and (g).
---------------------------------------------------------------------------
Advanced mine safety equipment property means any of the
following: (1) emergency communication technology or devices
used to allow a miner to maintain constant communication with
an individual who is not in the mine; (2) electronic
identification and location devices that allow individuals not
in the mine to track at all times the movements and location of
miners working in or at the mine; (3) emergency oxygen-
generating, self-rescue devices that provide oxygen for at
least 90 minutes; (4) pre-positioned supplies of oxygen
providing each miner on a shift the ability to survive for at
least 48 hours; and (5) comprehensive atmospheric monitoring
systems that monitor the levels of carbon monoxide, methane and
oxygen that are present in all areas of the mine and that can
detect smoke in the case of a fire in a mine.\1754\
---------------------------------------------------------------------------
\1754\ Sec. 179E(d).
---------------------------------------------------------------------------
The portion of the cost of any property with respect to
which an expensing election under section 179 is made may not
be taken into account for purposes of the 50-percent deduction
under section 179E.\1755\ In addition, a taxpayer making an
election under section 179E must file with the Secretary a
report containing information with respect to the operation of
the mines of the taxpayer as required by the Secretary.\1756\
---------------------------------------------------------------------------
\1755\ Sec. 179E(e).
\1756\ Sec. 179E(f).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends for two years, to December 31, 2011,
the present-law placed in service date relating to expensing of
mine safety equipment.
Effective Date
The provision applies to property placed in service after
December 31, 2009.
14. Special expensing rules for certain film and television productions
(sec. 744 of the Act and sec. 181 of the Code)
Present Law
The modified accelerated cost recovery system (``MACRS'')
does not apply to certain property, including any motion
picture film, video tape, or sound recording, or to any other
property if the taxpayer elects to exclude such property from
MACRS and the taxpayer properly applies a unit-of-production
method or other method of depreciation not expressed in a term
of years. Section 197 does not apply to certain intangible
property, including property produced by the taxpayer or any
interest in a film, sound recording, video tape, book or
similar property not acquired in a transaction (or a series of
related transactions) involving the acquisition of assets
constituting a trade or business or substantial portion
thereof. Thus, the recovery of the cost of a film, video tape,
or similar property that is produced by the taxpayer or is
acquired on a ``stand-alone'' basis by the taxpayer may not be
determined under either the MACRS depreciation provisions or
under the section 197 amortization provisions. The cost
recovery of such property may be determined under section 167,
which allows a depreciation deduction for the reasonable
allowance for the exhaustion, wear and tear, or obsolescence of
the property. A taxpayer is allowed to recover, through annual
depreciation deductions, the cost of certain property used in a
trade or business or for the production of income. Section
167(g) provides that the cost of motion picture films, sound
recordings, copyrights, books, and patents are eligible to be
recovered using the income forecast method of depreciation.
Under section 181, taxpayers may elect \1757\ to deduct the
cost of any qualifying film and television production,
commencing prior to January 1, 2010, in the year the
expenditure is incurred in lieu of capitalizing the cost and
recovering it through depreciation allowances.\1758\ Taxpayers
may elect to deduct up to $15 million of the aggregate cost of
the film or television production under this section.\1759\ The
threshold is increased to $20 million if a significant amount
of the production expenditures are incurred in areas eligible
for designation as a low-income community or eligible for
designation by the Delta Regional Authority as a distressed
county or isolated area of distress.\1760\
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\1757\ See Temp. Treas. Reg. section 1.181-2T for rules on making
an election under this section.
\1758\ For this purpose, a production is treated as commencing on
the first date of principal photography.
\1759\ Sec. 181(a)(2)(A).
\1760\ Sec. 181(a)(2)(B).
---------------------------------------------------------------------------
A qualified film or television production means any
production of a motion picture (whether released theatrically
or directly to video cassette or any other format) or
television program if at least 75 percent of the total
compensation expended on the production is for services
performed in the United States by actors, directors, producers,
and other relevant production personnel.\1761\ The term
``compensation'' does not include participations and residuals
(as defined in section 167(g)(7)(B)).\1762\ With respect to
property which is one or more episodes in a television series,
each episode is treated as a separate production and only the
first 44 episodes qualify under the provision.\1763\ Qualified
property does not include sexually explicit productions as
defined by section 2257 of title 18 of the U.S. Code.\1764\
---------------------------------------------------------------------------
\1761\ Sec. 181(d)(3)(A).
\1762\ Sec. 181(d)(3)(B).
\1763\ Sec. 181(d)(2)(B).
\1764\ Sec. 181(d)(2)(C).
---------------------------------------------------------------------------
For purposes of recapture under section 1245, any deduction
allowed under section 181 is treated as if it were a deduction
allowable for amortization.\1765\
---------------------------------------------------------------------------
\1765\ Sec. 1245(a)(2)(C).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the present law expensing provision
for two years, to qualified film and television productions
commencing prior to January 1, 2012.
Effective Date
The provision applies to qualified film and television
productions commencing after December 31, 2009.
15. Expensing of environmental remediation costs (sec. 745 of the Act
and sec. 198 of the Code)
Present Law
Present law allows a deduction for ordinary and necessary
expenses paid or incurred in carrying on any trade or
business.\1766\ Treasury regulations provide that the cost of
incidental repairs that neither materially add to the value of
property nor appreciably prolong its life, but keep it in an
ordinarily efficient operating condition, may be deducted
currently as a business expense.\1767\ Section 263(a)(1) limits
the scope of section 162 by prohibiting a current deduction for
certain capital expenditures. Treasury regulations define
``capital expenditures'' as amounts paid or incurred to
materially add to the value, or substantially prolong the
useful life, of property owned by the taxpayer, or to adapt
property to a new or different use.\1768\ Amounts paid for
repairs and maintenance do not constitute capital expenditures.
The determination of whether an expense is deductible or
capitalizable is based on all relevant facts and circumstances.
---------------------------------------------------------------------------
\1766\ Sec. 162.
\1767\ Treas. Reg. sec. 1.162-4.
\1768\ Treas. Reg. sec. 1.263(a)-1(b).
---------------------------------------------------------------------------
Taxpayers may elect to treat certain environmental
remediation expenditures paid or incurred before January 1,
2010, that would otherwise be chargeable to capital account as
deductible in the year paid or incurred.\1769\ The deduction
applies for both regular and alternative minimum tax purposes.
The expenditure must be incurred in connection with the
abatement or control of hazardous substances at a qualified
contaminated site. In general, any expenditure for the
acquisition of depreciable property used in connection with the
abatement or control of hazardous substances at a qualified
contaminated site does not constitute a qualified environmental
remediation expenditure. However, depreciation deductions
allowable for such property that would otherwise be allocated
to the site under the principles set forth in Commissioner v.
Idaho Power Co.\1770\ and section 263A are treated as qualified
environmental remediation expenditures.
---------------------------------------------------------------------------
\1769\ Sec. 198.
\1770\ 418 U.S. 1 (1974).
---------------------------------------------------------------------------
A ``qualified contaminated site'' (a so-called
``brownfield'') generally is any property that is held for use
in a trade or business, for the production of income, or as
inventory and is certified by the appropriate State
environmental agency to be an area at or on which there has
been a release (or threat of release) or disposal of a
hazardous substance. Both urban and rural property may qualify.
However, sites that are identified on the national priorities
list under the Comprehensive Environmental Response,
Compensation, and Liability Act of 1980 (``CERCLA'') \1771\
cannot qualify as targeted areas. Hazardous substances
generally are defined by reference to sections 101(14) and 102
of CERCLA, subject to additional limitations applicable to
asbestos and similar substances within buildings, certain
naturally occurring substances such as radon, and certain other
substances released into drinking water supplies due to
deterioration through ordinary use, as well as petroleum
products defined in section 4612(a)(3) of the Code.
---------------------------------------------------------------------------
\1771\ Pub. L. No. 96-510 (1980).
---------------------------------------------------------------------------
In the case of property to which a qualified environmental
remediation expenditure otherwise would have been capitalized,
any deduction allowed under section 198 is treated as a
depreciation deduction and the property is treated as section
1245 property. Thus, deductions for qualified environmental
remediation expenditures are subject to recapture as ordinary
income upon a sale or other disposition of the property. In
addition, sections 280B (demolition of structures) and 468
(special rules for mining and solid waste reclamation and
closing costs) do not apply to amounts that are treated as
expenses under section 198.
Explanation of Provision
The provision extends the present law expensing for two
years to include expenditures paid or incurred before January
1, 2012.
Effective Date
The provision is effective for expenditures paid or
incurred after December 31, 2009.
16. Deduction allowable with respect to income attributable to domestic
production activities in Puerto Rico (sec. 746 of the Act and
sec. 199 of the Code)
Present Law
General
Present law provides a deduction from taxable income (or,
in the case of an individual, adjusted gross income) that is
equal to nine percent of the lesser of the taxpayer's qualified
production activities income or taxable income for the taxable
year. For taxpayers subject to the 35-percent corporate income
tax rate, the nine-percent deduction effectively reduces the
corporate income tax rate to just under 32 percent on qualified
production activities income.
In general, qualified production activities income is equal
to domestic production gross receipts reduced by the sum of:
(1) the costs of goods sold that are allocable to those
receipts; and (2) other expenses, losses, or deductions which
are properly allocable to those receipts.
Domestic production gross receipts generally are gross
receipts of a taxpayer that are derived from: (1) any sale,
exchange, or other disposition, or any lease, rental, or
license, of qualifying production property \1772\ that was
manufactured, produced, grown or extracted by the taxpayer in
whole or in significant part within the United States; (2) any
sale, exchange, or other disposition, or any lease, rental, or
license, of qualified film \1773\ produced by the taxpayer; (3)
any lease, rental, license, sale, exchange, or other
disposition of electricity, natural gas, or potable water
produced by the taxpayer in the United States; (4) construction
of real property performed in the United States by a taxpayer
in the ordinary course of a construction trade or business; or
(5) engineering or architectural services performed in the
United States for the construction of real property located in
the United States.
---------------------------------------------------------------------------
\1772\ Qualifying production property generally includes any
tangible personal property, computer software, and sound recordings.
\1773\ Qualified film includes any motion picture film or videotape
(including live or delayed television programming, but not including
certain sexually explicit productions) if 50 percent or more of the
total compensation relating to the production of the film (including
compensation in the form of residuals and participations) constitutes
compensation for services performed in the United States by actors,
production personnel, directors, and producers.
---------------------------------------------------------------------------
The amount of the deduction for a taxable year is limited
to 50 percent of the wages paid by the taxpayer, and properly
allocable to domestic production gross receipts, during the
calendar year that ends in such taxable year.\1774\ Wages paid
to bona fide residents of Puerto Rico generally are not
included in the definition of wages for purposes of computing
the wage limitation amount.\1775\
---------------------------------------------------------------------------
\1774\ For purposes of the provision, ``wages'' include the sum of
the amounts of wages as defined in section 3401(a) and elective
deferrals that the taxpayer properly reports to the Social Security
Administration with respect to the employment of employees of the
taxpayer during the calendar year ending during the taxpayer's taxable
year.
\1775\ Section 3401(a)(8)(C) excludes wages paid to United States
citizens who are bona fide residents of Puerto Rico from the term wages
for purposes of income tax withholding.
---------------------------------------------------------------------------
Rules for Puerto Rico
When used in the Code in a geographical sense, the term
``United States'' generally includes only the States and the
District of Columbia.\1776\ A special rule for determining
domestic production gross receipts, however, provides that in
the case of any taxpayer with gross receipts from sources
within the Commonwealth of Puerto Rico, the term ``United
States'' includes the Commonwealth of Puerto Rico, but only if
all of the taxpayer's Puerto Rico-sourced gross receipts are
taxable under the Federal income tax for individuals or
corporations.\1777\ In computing the 50-percent wage
limitation, the taxpayer is permitted to take into account
wages paid to bona fide residents of Puerto Rico for services
performed in Puerto Rico.\1778\
---------------------------------------------------------------------------
\1776\ Sec. 7701(a)(9).
\1777\ Sec. 199(d)(8)(A).
\1778\ Sec. 199(d)(8)(B).
---------------------------------------------------------------------------
The special rules for Puerto Rico apply only with respect
to the first four taxable years of a taxpayer beginning after
December 31, 2005 and before January 1, 2010.
Explanation of Provision
The provision extends the special domestic production
activities rules for Puerto Rico to apply for the first six
taxable years of a taxpayer beginning after December 31, 2005
and before January 1, 2012.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
17. Modification of tax treatment of certain payments to controlling
exempt organizations (sec. 747 of the Act and sec. 512 of the
Code)
Present Law
In general, organizations exempt from Federal income tax
are subject to the unrelated business income tax on income
derived from a trade or business regularly carried on by the
organization that is not substantially related to the
performance of the organization's tax-exempt functions.\1779\
In general, interest, rents, royalties, and annuities are
excluded from the unrelated business income of tax-exempt
organizations.\1780\
---------------------------------------------------------------------------
\1779\ Sec. 511.
\1780\ Sec. 512(b).
---------------------------------------------------------------------------
Section 512(b)(13) provides special rules regarding income
derived by an exempt organization from a controlled subsidiary.
In general, section 512(b)(13) treats otherwise excluded rent,
royalty, annuity, and interest income as unrelated business
income if such income is received from a taxable or tax-exempt
subsidiary that is 50-percent controlled by the parent tax-
exempt organization to the extent the payment reduces the net
unrelated income (or increases any net unrelated loss) of the
controlled entity (determined as if the entity were tax
exempt). However, a special rule provides that, for payments
made pursuant to a binding written contract in effect on August
17, 2006 (or renewal of such a contract on substantially
similar terms), the general rule of section 512(b)(13) applies
only to the portion of payments received or accrued in a
taxable year that exceeds the amount of the payment that would
have been paid or accrued if the amount of such payment had
been determined under the principles of section 482 (i.e., at
arm's length).\1781\ In addition, the special rule imposes a
20-percent penalty on the larger of such excess determined
without regard to any amendment or supplement to a return of
tax, or such excess determined with regard to all such
amendments and supplements.
---------------------------------------------------------------------------
\1781\ Sec. 512(b)(13)(E).
---------------------------------------------------------------------------
In the case of a stock subsidiary, ``control'' means
ownership by vote or value of more than 50 percent of the
stock. In the case of a partnership or other entity,
``control'' means ownership of more than 50 percent of the
profits, capital, or beneficial interests. In addition, present
law applies the constructive ownership rules of section 318 for
purposes of section 512(b)(13). Thus, a parent exempt
organization is deemed to control any subsidiary in which it
holds more than 50 percent of the voting power or value,
directly (as in the case of a first-tier subsidiary) or
indirectly (as in the case of a second-tier subsidiary).
The special rule does not apply to payments received or
accrued after December 31, 2009.
Explanation of Provision
The provision extends the special rule to payments received
or accrued before January 1, 2012. Accordingly, under the
provision, payments of rent, royalties, annuities, or interest
income by a controlled organization to a controlling
organization pursuant to a binding written contract in effect
on August 17, 2006 (or renewal of such a contract on
substantially similar terms), may be includible in the
unrelated business taxable income of the controlling
organization only to the extent the payment exceeds the amount
of the payment determined under the principles of section 482
(i.e., at arm's length). Any such excess is subject to a 20-
percent penalty on the larger of such excess determined without
regard to any amendment or supplement to a return of tax, or
such excess determined with regard to all such amendments and
supplements.
Effective Date
The provision is effective for payments received or accrued
after December 31, 2009.
18. Treatment of certain dividends of regulated investment companies
(sec. 748 of the Act and sec. 871(k) of the Code)
Present Law\1782\
---------------------------------------------------------------------------
\1782\ Secs. 871(k), 881, 1441 and 1442.
---------------------------------------------------------------------------
In general
A regulated investment company (``RIC'') is an entity that
meets certain requirements (including a requirement that its
income generally be derived from passive investments such as
dividends and interest and a requirement that it distribute at
least 90 percent of its income) and that elects to be taxed
under a special tax regime. Unlike an ordinary corporation, an
entity that is taxed as a RIC can deduct amounts paid to its
shareholders as dividends. In this manner, tax on RIC income is
generally not paid by the RIC but rather by its shareholders.
Income of a RIC distributed to shareholders as dividends is
generally treated as an ordinary income dividend by those
shareholders, unless other special rules apply. Dividends
received by foreign persons from a RIC are generally subject to
gross-basis tax under sections 871(a) or 881, and the RIC payor
of such dividends is obligated to withhold such tax under
sections 1441 and 1442.
Under present law, a RIC that earns certain interest income
that would not be subject to U.S. tax if earned by a foreign
person directly may, to the extent of such net income,
designate a dividend it pays as derived from such interest
income. A foreign person who is a shareholder in the RIC
generally can treat such a dividend as exempt from gross-basis
U.S. tax, as if the foreign person had earned the interest
directly. Also, subject to certain requirements, the RIC is
exempt from withholding the gross-basis tax on such dividends.
Similar rules apply with respect to the designation of certain
short term capital gain dividends. However, these provisions
relating to certain dividends with respect to interest income
and short term capital gain of the RIC do not apply to
dividends with respect to any taxable year of a RIC beginning
after December 31, 2009.
Explanation of Provision
The provision extends the rules exempting from gross basis
tax and from withholding tax the interest-related dividends and
short term capital gain dividends received from a RIC, to
dividends with respect to taxable years of a RIC beginning
before January 1, 2012.
Effective Date
The provision applies to dividends paid with respect to any
taxable year of the RIC beginning after December 31, 2009.
19. RIC qualified investment entity treatment under FIRPTA (sec. 749 of
the Act and secs. 897 and 1445 of the Code)
Present law
Special U.S. tax rules apply to capital gains of foreign
persons that are attributable to dispositions of interests in
U.S. real property. In general, although a foreign person (a
foreign corporation or a nonresident alien individual) is not
generally taxed on U.S. source capital gains unless certain
personal presence or active business requirements are met, a
foreign person who sells a U.S. real property interest
(``USRPI'') is subject to tax at the same rates as a U.S.
person, under the Foreign Investment in Real Property Tax Act
(``FIRPTA'') provisions codified in section 897 of the Code.
Withholding tax is also imposed under section 1445.
A USRPI includes stock or a beneficial interest in any
domestic corporation unless such corporation has not been a
U.S. real property holding corporation (as defined) during the
testing period. A USRPI does not include an interest in a
domestically controlled ``qualified investment entity.'' A
distribution from a ``qualified investment entity'' that is
attributable to the sale of a USRPI is also subject to tax
under FIRPTA unless the distribution is with respect to an
interest that is regularly traded on an established securities
market located in the United States and the recipient foreign
corporation or nonresident alien individual did not hold more
than 5 percent of that class of stock or beneficial interest
within the 1-year period ending on the date of
distribution.\1783\ Special rules apply to situations involving
tiers of qualified investment entities.
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\1783\ Sections 857(b)(3)(F), 852(b)(3)(E), and 871(k)(2)(E)
require dividend treatment, rather than capital gain treatment, for
certain distributions to which FIRPTA does not apply by reason of this
exception. See also section 881(e)(2).
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The term ``qualified investment entity'' includes a real
estate investment trust (``REIT'') and also includes a
regulated investment company (``RIC'') that meets certain
requirements, although the inclusion of a RIC in that
definition does not apply for certain purposes after December
31, 2009.\1784\
---------------------------------------------------------------------------
\1784\ Section 897(h).
---------------------------------------------------------------------------
Explanation of Provision
The provision extends the inclusion of a RIC within the
definition of a ``qualified investment entity'' under section
897 of the Code through December 31, 2011, for those situations
in which that inclusion would otherwise have expired at the end
of 2009.
Effective Date
The provision is generally effective on January 1, 2010.
The provision does not apply with respect to the
withholding requirement under section 1445 for any payment made
before the date of enactment, but a RIC that withheld and
remitted tax under section 1445 on distributions made after
December 31, 2009 and before the date of enactment is not
liable to the distributee with respect to such withheld and
remitted amounts.
20. Exceptions for active financing income (sec. 750 of the Act and
secs. 953 and 954 of the Code)
Present Law
Under the subpart F rules,\1785\ 10-percent-or-greater U.S.
shareholders of a controlled foreign corporation (``CFC'') are
subject to U.S. tax currently on certain income earned by the
CFC, whether or not such income is distributed to the
shareholders. The income subject to current inclusion under the
subpart F rules includes, among other things, insurance income
and foreign base company income. Foreign base company income
includes, among other things, foreign personal holding company
income and foreign base company services income (i.e., income
derived from services performed for or on behalf of a related
person outside the country in which the CFC is organized).
---------------------------------------------------------------------------
\1785\ Secs. 951-964.
---------------------------------------------------------------------------
Foreign personal holding company income generally consists
of the following: (1) dividends, interest, royalties, rents,
and annuities; (2) net gains from the sale or exchange of (a)
property that gives rise to the preceding types of income, (b)
property that does not give rise to income, and (c) interests
in trusts, partnerships, and real estate mortgage investment
conduits (``REMICs''); (3) net gains from commodities
transactions; (4) net gains from certain foreign currency
transactions; (5) income that is equivalent to interest; (6)
income from notional principal contracts; (7) payments in lieu
of dividends; and (8) amounts received under personal service
contracts.
Insurance income subject to current inclusion under the
subpart F rules includes any income of a CFC attributable to
the issuing or reinsuring of any insurance or annuity contract
in connection with risks located in a country other than the
CFC's country of organization. Subpart F insurance income also
includes income attributable to an insurance contract in
connection with risks located within the CFC's country of
organization, as the result of an arrangement under which
another corporation receives a substantially equal amount of
consideration for insurance of other country risks. Investment
income of a CFC that is allocable to any insurance or annuity
contract related to risks located outside the CFC's country of
organization is taxable as subpart F insurance income.\1786\
---------------------------------------------------------------------------
\1786\ Prop. Treas. Reg. sec. 1.953-1(a).
---------------------------------------------------------------------------
Temporary exceptions from foreign personal holding company
income, foreign base company services income, and insurance
income apply for subpart F purposes for certain income that is
derived in the active conduct of a banking, financing, or
similar business, as a securities dealer, or in the conduct of
an insurance business (so-called ``active financing income'').
These provisions were enacted in the Taxpayer Relief Act of
1997 as one-year temporary exceptions, and in 1998, 1999, 2002,
2006, and 2008, the provisions were extended, and in some
cases, modified.\1787\
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\1787\ Temporary exceptions from the subpart F provisions for
certain active financing income applied only for taxable years
beginning in 1998. Taxpayer Relief Act of 1997, Pub. L. No. 105-34.
Those exceptions were modified and extended for one year, applicable
only for taxable years beginning in 1999. The Tax and Trade Relief
Extension Act of 1998, Pub. L. No. 105-277. The Tax Relief Extension
Act of 1999, Pub. L. No. 106-170, clarified and extended the temporary
exceptions for two years, applicable only for taxable years beginning
after 1999 and before 2002. The Job Creation and Worker Assistance Act
of 2002, Pub. L. No. 107-147, modified and extended the temporary
exceptions for five years, for taxable years beginning after 2001 and
before 2007. The Tax Increase Prevention and Reconciliation Act of
2005, Pub. L. No. 109-222, extended the temporary provisions for two
years, for taxable years beginning after 2006 and before 2009. The
Energy Improvement and Extension Act of 2008, Pub. L. No. 110-343,
extended the temporary provisions for one year, for taxable years
beginning after 2008 and before 2010.
---------------------------------------------------------------------------
With respect to income derived in the active conduct of a
banking, financing, or similar business, a CFC is required to
be predominantly engaged in such business and to conduct
substantial activity with respect to such business in order to
qualify for the active financing exceptions. In addition,
certain nexus requirements apply, which provide that income
derived by a CFC or a qualified business unit (``QBU'') of a
CFC from transactions with customers is eligible for the
exceptions if, among other things, substantially all of the
activities in connection with such transactions are conducted
directly by the CFC or QBU in its home country, and such income
is treated as earned by the CFC or QBU in its home country for
purposes of such country's tax laws. Moreover, the exceptions
apply to income derived from certain cross border transactions,
provided that certain requirements are met. Additional
exceptions from foreign personal holding company income apply
for certain income derived by a securities dealer within the
meaning of section 475 and for gain from the sale of active
financing assets.
In the case of a securities dealer, the temporary exception
from foreign personal holding company income applies to certain
income. The income covered by the exception is any interest or
dividend (or certain equivalent amounts) from any transaction,
including a hedging transaction or a transaction consisting of
a deposit of collateral or margin, entered into in the ordinary
course of the dealer's trade or business as a dealer in
securities within the meaning of section 475. In the case of a
QBU of the dealer, the income is required to be attributable to
activities of the QBU in the country of incorporation, or to a
QBU in the country in which the QBU both maintains its
principal office and conducts substantial business activity. A
coordination rule provides that this exception generally takes
precedence over the exception for income of a banking,
financing or similar business, in the case of a securities
dealer.
In the case of insurance, a temporary exception from
foreign personal holding company income applies for certain
income of a qualifying insurance company with respect to risks
located within the CFC's country of creation or organization.
In the case of insurance, temporary exceptions from insurance
income and from foreign personal holding company income also
apply for certain income of a qualifying branch of a qualifying
insurance company with respect to risks located within the home
country of the branch, provided certain requirements are met
under each of the exceptions. Further, additional temporary
exceptions from insurance income and from foreign personal
holding company income apply for certain income of certain CFCs
or branches with respect to risks located in a country other
than the United States, provided that the requirements for
these exceptions are met. In the case of a life insurance or
annuity contract, reserves for such contracts are determined
under rules specific to the temporary exceptions. Present law
also permits a taxpayer in certain circumstances, subject to
approval by the IRS through the ruling process or in published
guidance, to establish that the reserve of a life insurance
company for life insurance and annuity contracts is the amount
taken into account in determining the foreign statement reserve
for the contract (reduced by catastrophe, equalization, or
deficiency reserve or any similar reserve). IRS approval is to
be based on whether the method, the interest rate, the
mortality and morbidity assumptions, and any other factors
taken into account in determining foreign statement reserves
(taken together or separately) provide an appropriate means of
measuring income for Federal income tax purposes.
Explanation of Provision
The provision extends for two years (for taxable years
beginning before 2012) the present-law temporary exceptions
from subpart F foreign personal holding company income, foreign
base company services income, and insurance income for certain
income that is derived in the active conduct of a banking,
financing, or similar business, or in the conduct of an
insurance business.
Effective Date
The provision is effective for taxable years of foreign
corporations beginning after December 31, 2009, and for taxable
years of U.S. shareholders with or within which such taxable
years of such foreign corporations end.
21. Look-thru treatment of payments between related controlled foreign
corporations under foreign personal holding company rules (sec.
751 of the Act and sec. 954(c)(6) of the Code)
Present Law
In general
The rules of subpart F \1788\ require U.S. shareholders
with a 10-percent or greater interest in a controlled foreign
corporation (``CFC'') to include certain income of the CFC
(referred to as ``subpart F income'') on a current basis for
U.S. tax purposes, regardless of whether the income is
distributed to the shareholders.
---------------------------------------------------------------------------
\1788\ Secs. 951-964.
---------------------------------------------------------------------------
Subpart F income includes foreign base company income. One
category of foreign base company income is foreign personal
holding company income. For subpart F purposes, foreign
personal holding company income generally includes dividends,
interest, rents, and royalties, among other types of income.
There are several exceptions to these rules. For example,
foreign personal holding company income does not include
dividends and interest received by a CFC from a related
corporation organized and operating in the same foreign country
in which the CFC is organized, or rents and royalties received
by a CFC from a related corporation for the use of property
within the country in which the CFC is organized. Interest,
rent, and royalty payments do not qualify for this exclusion to
the extent that such payments reduce the subpart F income of
the payor. In addition, subpart F income of a CFC does not
include any item of income from sources within the United
States that is effectively connected with the conduct by such
CFC of a trade or business within the United States (``ECI'')
unless such item is exempt from taxation (or is subject to a
reduced rate of tax) pursuant to a tax treaty.
The ``look-thru rule''
Under the ``look-thru rule'' (sec. 954(c)(6)), dividends,
interest (including factoring income that is treated as
equivalent to interest under section 954(c)(1)(E)), rents, and
royalties received by one CFC from a related CFC are not
treated as foreign personal holding company income to the
extent attributable or properly allocable to income of the
payor that is neither subpart F income nor treated as ECI. For
this purpose, a related CFC is a CFC that controls or is
controlled by the other CFC, or a CFC that is controlled by the
same person or persons that control the other CFC. Ownership of
more than 50 percent of the CFC's stock (by vote or value)
constitutes control for these purposes.
The Secretary is authorized to prescribe regulations that
are necessary or appropriate to carry out the look-thru rule,
including such regulations as are appropriate to prevent the
abuse of the purposes of such rule.
The look-thru rule is effective for taxable years of
foreign corporations beginning before January 1, 2010, and for
taxable years of U.S. shareholders with or within which such
taxable years of such foreign corporations end.
Explanation of Provision
The provision extends for two years the application of the
look-thru rule, to taxable years of foreign corporations
beginning before January 1, 2012, and for taxable years of U.S.
shareholders with or within which such taxable years of such
foreign corporations end.
Effective Date
The provision is effective for taxable years of foreign
corporations beginning after December 31, 2009, and for taxable
years of U.S. shareholders with or within which such taxable
years of such foreign corporations end.
22. Basis adjustment to stock of S corps making charitable
contributions of property (sec. 752 of the Act and sec. 1367 of
the Code)
Present Law
Under present law, if an S corporation contributes money or
other property to a charity, each shareholder takes into
account the shareholder's pro rata share of the contribution in
determining its own income tax liability.\1789\ A shareholder
of an S corporation reduces the basis in the stock of the S
corporation by the amount of the charitable contribution that
flows through to the shareholder.\1790\
---------------------------------------------------------------------------
\1789\ Sec. 1366(a)(1)(A).
\1790\ Sec. 1367(a)(2)(B).
---------------------------------------------------------------------------
In the case of contributions made in taxable years
beginning before January 1, 2010, the amount of a shareholder's
basis reduction in the stock of an S corporation by reason of a
charitable contribution made by the corporation is equal to the
shareholder's pro rata share of the adjusted basis of the
contributed property. For contributions made in taxable years
beginning after December 31, 2009, the amount of the reduction
is the shareholder's pro rata share of the fair market value of
the contributed property.
Explanation of Provision
The provision extends the rule relating to the basis
reduction on account of charitable contributions of property
for two years to contributions made in taxable years beginning
before January 1, 2012.
Effective Date
The provision applies to contributions made in taxable
years beginning after December 31, 2009.
23. Empowerment zone tax incentives (sec. 753 of the Act and secs. 1202
and 1391 of the Code)
Present Law
The Omnibus Budget Reconciliation Act of 1993 (``OBRA 93'')
\1791\ authorized the designation of nine empowerment zones
(``Round I empowerment zones'') to provide tax incentives for
businesses to locate within certain targeted areas \1792\
designated by the Secretaries of the Department of Housing and
Urban Development (``HUD'') and the U.S Department of
Agriculture (``USDA''). The Taxpayer Relief Act of 1997 \1793\
authorized the designation of two additional Round I urban
empowerment zones, and 20 additional empowerment zones (``Round
II empowerment zones''). The Community Renewal Tax Relief Act
of 2000 (``2000 Community Renewal Act'') \1794\ authorized a
total of ten new empowerment zones (``Round III empowerment
zones''), bringing the total number of authorized empowerment
zones to 40.\1795\ In addition, the 2000 Community Renewal Act
conformed the tax incentives that are available to businesses
in the Round I, Round II, and Round III empowerment zones, and
extended the empowerment zone incentives through December 31,
2009.\1796\
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\1791\ Pub. L. No. 103-66.
\1792\ The targeted areas are those that have pervasive poverty,
high unemployment, and general economic distress, and that satisfy
certain eligibility criteria, including specified poverty rates and
population and geographic size limitations.
\1793\ Pub. L. No. 105-34.
\1794\ Pub. L. No. 106-554.
\1795\ The urban part of the program is administered by the HUD and
the rural part of the program is administered by the USDA. The eight
Round I urban empowerment zones are Atlanta, GA; Baltimore, MD,
Chicago, IL; Cleveland, OH; Detroit, MI; Los Angeles, CA; New York, NY;
and Philadelphia, PA/Camden, NJ. Atlanta relinquished its empowerment
zone designation in Round III. The three Round I rural empowerment
zones are Kentucky Highlands, KY; Mid-Delta, MI; and Rio Grande Valley,
TX. The 15 Round II urban empowerment zones are Boston, MA; Cincinnati,
OH; Columbia, SC; Columbus, OH; Cumberland County, NJ; El Paso, TX;
Gary/Hammond/East Chicago, IN; Ironton, OH/Huntington, WV; Knoxville,
TN; Miami/Dade County, FL; Minneapolis, MN; New Haven, CT; Norfolk/
Portsmouth, VA; Santa Ana, CA; and St. Louis, Missouri/East St. Louis,
IL. The five Round II rural empowerment zones are Desert Communities,
CA; Griggs-Steele, ND; Oglala Sioux Tribe, SD; Southernmost Illinois
Delta, IL; and Southwest Georgia United, GA. The eight Round III urban
empowerment zones are Fresno, CA; Jacksonville, FL; Oklahoma City, OK;
Pulaski County, AR; San Antonio, TX; Syracuse, NY; Tucson, AZ; and
Yonkers, NY. The two Round III rural empowerment zones are Aroostook
County, ME; and Futuro, TX.
\1796\ If an empowerment zone designation were terminated prior to
December 31, 2009, the tax incentives would cease to be available as of
the termination date.
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The tax incentives available within the designated
empowerment zones include a Federal income tax credit for
employers who hire qualifying employees, accelerated
depreciation deductions on qualifying equipment, tax-exempt
bond financing, deferral of capital gains tax on sale of
qualified assets sold and replaced, and partial exclusion of
capital gains tax on certain sales of qualified small business
stock.
The following is a description of the tax incentives.
Employment credit
A 20-percent wage credit is available to employers for the
first $15,000 of qualified wages paid to each employee (i.e., a
maximum credit of $3,000 with respect to each qualified
employee) who (1) is a resident of the empowerment zone, and
(2) performs substantially all employment services within the
empowerment zone in a trade or business of the employer.\1797\
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\1797\ Sec. 1396. The $15,000 limit is annual, not cumulative such
that the limit is the first $15,000 of wages paid in a calendar year
which ends with or within the taxable year.
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The wage credit rate applies to qualifying wages paid
before January 1, 2010. Wages paid to a qualified employee who
earns more than $15,000 are eligible for the wage credit
(although only the first $15,000 of wages is eligible for the
credit). The wage credit is available with respect to a
qualified full-time or part-time employee (employed for at
least 90 days), regardless of the number of other employees who
work for the employer. In general, any taxable business
carrying out activities in the empowerment zone may claim the
wage credit, regardless of whether the employer meets the
definition of an ``enterprise zone business.'' \1798\
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\1798\ Secs. 1397C(b) and 1397C(c). However, the wage credit is not
available for wages paid in connection with certain business activities
described in section 144(c)(6)(B), including a golf course, country
club, massage parlor, hot tub facility, suntan facility, racetrack, or
liquor store, or certain farming activities. In addition, wages are not
eligible for the wage credit if paid to: (1) a person who owns more
than five percent of the stock (or capital or profits interests) of the
employer, (2) certain relatives of the employer, or (3) if the employer
is a corporation or partnership, certain relatives of a person who owns
more than 50 percent of the business.
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An employer's deduction otherwise allowed for wages paid is
reduced by the amount of wage credit claimed for that taxable
year.\1799\ Wages are not to be taken into account for purposes
of the wage credit if taken into account in determining the
employer's work opportunity tax credit under section 51 or the
welfare-to-work credit under section 51A.\1800\ In addition,
the $15,000 cap is reduced by any wages taken into account in
computing the work opportunity tax credit or the welfare-to-
work credit.\1801\ The wage credit may be used to offset up to
25 percent of alternative minimum tax liability.\1802\
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\1799\ Sec. 280C(a).
\1800\ Secs. 1396(c)(3)(A) and 51A(d)(2).
\1801\ Secs. 1396(c)(3)(B) and 51A(d)(2).
\1802\ Sec. 38(c)(2).
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Increased section 179 expensing limitation
An enterprise zone business is allowed an additional
$35,000 of section 179 expensing (for a total of up to $285,000
in 2009) \1803\ for qualified zone property placed in service
before January 1, 2010.\1804\ The section 179 expensing allowed
to a taxpayer is phased out by the amount by which 50 percent
of the cost of qualified zone property placed in service during
the year by the taxpayer exceeds $500,000.\1805\ The term
``qualified zone property'' is defined as depreciable tangible
property (including buildings) provided that (i) the property
is acquired by the taxpayer (from an unrelated party) after the
designation took effect, (ii) the original use of the property
in an empowerment zone commences with the taxpayer, and (iii)
substantially all of the use of the property is in an
empowerment zone in the active conduct of a trade or business
by the taxpayer. Special rules are provided in the case of
property that is substantially renovated by the taxpayer.
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\1803\ For each of 2010 and 2011, the 179 expensing limitation will
be a total of up to $535,000. The Small Business Jobs Act of 2010, Pub.
L. No. 111-240, sec. 2021. See discussion in Part Fourteen of this
document.
\1804\ Secs. 1397A, 1397D.
\1805\ Sec. 1397A(a)(2), 179(b)(2), (7). For 2008 and 2009, the
limit is $800,000.
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An enterprise zone business means any qualified business
entity and any qualified proprietorship. A qualified business
entity means, any corporation or partnership if for such year:
(1) every trade or business of such entity is the active
conduct of a qualified business within an empowerment zone; (2)
at least 50 percent of the total gross income of such entity is
derived from the active conduct of such business; (3) a
substantial portion of the use of the tangible property of such
entity (whether owned or leased) is within an empowerment zone;
(4) a substantial portion of the intangible property of such
entity is used in the active conduct of any such business; (5)
a substantial portion of the services performed for such entity
by its employees are performed in an empowerment zone; (6) at
least 35 percent of its employees are residents of an
empowerment zone; (7) less than five percent of the average of
the aggregate unadjusted bases of the property of such entity
is attributable to collectibles other than collectibles that
are held primarily for sale to customers in the ordinary course
of such business; and (8) less than 5 percent of the average of
the aggregate unadjusted bases of the property of such entity
is attributable to nonqualified financial property.\1806\
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\1806\ Sec. 1397C(b).
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A qualified proprietorship is any qualified business
carried on by an individual as a proprietorship if for such
year: (1) at least 50 percent of the total gross income of such
individual from such business is derived from the active
conduct of such business in an empowerment zone; (2) a
substantial portion of the use of the tangible property of such
individual in such business (whether owned or leased) is within
an empowerment zone; (3) a substantial portion of the
intangible property of such business is used in the active
conduct of such business; (4) a substantial portion of the
services performed for such individual in such business by
employees of such business are performed in an empowerment
zone; (5) at least 35 percent of such employees are residents
of an empowerment zone; (6) less than 5 percent of the average
of the aggregate unadjusted bases of the property of such
individual which is used in such business is attributable to
collectibles other than collectibles that are held primarily
for sale to customers in the ordinary course of such business;
and (7) less than 5 percent of the average of the aggregate
unadjusted bases of the property of such individual which is
used in such business is attributable to nonqualified financial
property.\1807\
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\1807\ Sec. 1397C(c).
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A qualified business is defined as any trade or business
other than a trade or business that consists predominantly of
the development or holding of intangibles for sale or license
or any business prohibited in connection with the employment
credit.\1808\ In addition, the leasing of real property that is
located within the empowerment zone is treated as a qualified
business only if (1) the leased property is not residential
property, and (2) at least 50 percent of the gross rental
income from the real property is from enterprise zone
businesses. The rental of tangible personal property is not a
qualified business unless at least 50 percent of the rental of
such property is by enterprise zone businesses or by residents
of an empowerment zone.
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\1808\ Sec. 1397C(d). Excluded businesses include any private or
commercial golf course, country club, massage parlor, hot tub facility,
sun tan facility, racetrack, or other facility used for gambling or any
store the principal business of which is the sale of alcoholic
beverages for off-premises consumption. Sec. 144(c)(6).
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Expanded tax-exempt financing for certain zone facilities
States or local governments can issue enterprise zone
facility bonds to raise funds to provide an enterprise zone
business with qualified zone property.\1809\ These bonds can be
used in areas designated enterprise communities as well as
areas designated empowerment zones. To qualify, 95 percent (or
more) of the net proceeds from the bond issue must be used to
finance: (1) qualified zone property whose principal user is an
enterprise zone business, and (2) certain land functionally
related and subordinate to such property.
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\1809\ Sec. 1394.
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The term enterprise zone business is the same as that used
for purposes of the increased section 179 deduction limitation
(discussed above) with certain modifications for start-up
businesses. First, a business will be treated as an enterprise
zone business during a start-up period if (1) at the beginning
of the period, it is reasonable to expect the business to be an
enterprise zone business by the end of the start-up period, and
(2) the business makes bona fide efforts to be an enterprise
zone business. The start-up period is the period that ends with
the start of the first tax year beginning more than two years
after the later of (1) the issue date of the bond issue
financing the qualified zone property, and (2) the date this
property is first placed in service (or, if earlier, the date
that is three years after the issue date).\1810\
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\1810\ Sec. 1394(b)(3).
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Second, a business that qualifies as at the end of the
start-up period must continue to qualify during a testing
period that ends three tax years after the start-up period
ends. After the three-year testing period, a business will
continue to be treated as an enterprise zone business as long
as 35 percent of its employees are residents of an empowerment
zone or enterprise community.
The face amount of the bonds may not exceed $60 million for
an empowerment zone in a rural area, $130 million for an
empowerment zone in an urban area with zone population of less
than 100,000, and $230 million for an empowerment zone in an
urban area with zone population of at least 100,000.
Elective roll over of capital gain from the sale or exchange of any
qualified empowerment zone asset purchased after December 21,
2000
Taxpayers can elect to defer recognition of gain on the
sale of a qualified empowerment zone asset \1811\ held for more
than one year and replaced within 60 days by another qualified
empowerment zone asset in the same zone.\1812\ The deferral is
accomplished by reducing the basis of the replacement asset by
the amount of the gain recognized on the sale of the asset.
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\1811\ The term ``qualified empowerment zone asset'' means any
property which would be a qualified community asset (as defined in
section 1400F, relating to certain tax benefits for renewal
communities) if in section 1400F: (i) references to empowerment zones
were substituted for references to renewal communities, (ii) references
to enterprise zone businesses (as defined in section 1397C) were
substituted for references to renewal community businesses, and (iii)
the date of the enactment of this paragraph were substituted for
``December 31, 2001'' each place it appears. Sec. 1397B(b)(1)(A).
A ``qualified community asset'' includes: (1) qualified community
stock (meaning original-issue stock purchased for cash in an enterprise
zone business), (2) a qualified community partnership interest (meaning
a partnership interest acquired for cash in an enterprise zone
business), and (3) qualified community business property (meaning
tangible property originally used in a enterprise zone business by the
taxpayer) that is purchased or substantially improved after the date of
the enactment of this paragraph.
For the definition of ``enterprise zone business,'' see text
accompanying supra note 1806. For the definition of ``qualified
business,'' see text accompanying supra note 1806.
\1812\ Sec. 1397B.
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Partial exclusion of capital gains on certain small business stock
Individuals generally may exclude 50 percent (60 percent
for certain empowerment zone businesses) of the gain from the
sale of certain small business stock acquired at original issue
and held for at least five years.\1813\ The amount of gain
eligible for the exclusion by an individual with respect to any
corporation is the greater of (1) ten times the taxpayer's
basis in the stock or (2) $10 million. To qualify as a small
business, when the stock is issued, the gross assets of the
corporation may not exceed $50 million. The corporation also
must meet certain active trade or business requirements.
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\1813\ Sec. 1202.
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The portion of the gain includible in taxable income is
taxed at a maximum rate of 28 percent under the regular
tax.\1814\ A percentage of the excluded gain is an alternative
minimum tax preference;\1815\ the portion of the gain
includible in alternative minimum taxable income is taxed at a
maximum rate of 28 percent under the alternative minimum tax.
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\1814\ Sec. 1(h).
\1815\ Sec. 57(a)(7). In the case of qualified small business
stock, the percentage of gain excluded from gross income which is an
alternative minimum tax preference is (i) seven percent in the case of
stock disposed of in a taxable year beginning before 2011; (ii) 42
percent in the case of stock acquired before January 1, 2001, and
disposed of in a taxable year beginning after 2010; and (iii) 28
percent in the case of stock acquired after December 31, 2000, and
disposed of in a taxable year beginning after 2010.
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Gain from the sale of qualified small business stock
generally is taxed at effective rates of 14 percent under the
regular tax \1816\ and (i) 14.98 percent under the alternative
minimum tax for dispositions before January 1, 2011; (ii) 19.88
percent under the alternative minimum tax for dispositions
after December 31, 2010, in the case of stock acquired before
January 1, 2001; and (iii) 17.92 percent under the alternative
minimum tax for dispositions after December 31, 2010, in the
case of stock acquired after December 31, 2000.\1817\
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\1816\ The 50 percent of gain included in taxable income is taxed
at a maximum rate of 28 percent.
\1817\ The amount of gain included in alternative minimum tax is
taxed at a maximum rate of 28 percent. The amount so included is the
sum of (i) 50 percent (the percentage included in taxable income) of
the total gain and (ii) the applicable preference percentage of the
one-half gain that is excluded from taxable income.
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Temporary increases in exclusion
The percentage exclusion for qualified small business stock
acquired after February 17, 2009, and on or before September
27, 2010, is increased to 75 percent.
The percentage exclusion for qualified small business stock
acquired after September 27, 2010, and before January 1, 2011,
is increased to 100 percent.\1818\
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\1818\ Sec. 760 of the Act extends the January 1, 2011, date to
January 1, 2012.
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The temporary increases in the exclusion percentage apply
for all qualified small business stock, including stock of
empowerment zone businesses.\1819\
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\1819\ Secs. 1202(a)(3)(B) and 1202(a)(4)(B).
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Other tax incentives
Other incentives not specific to empowerment zones but
beneficial to these areas include the work opportunity tax
credit for employers based on the first year of employment of
certain targeted groups, including empowerment zone residents
(up to $2,400 per employee), and qualified zone academy bonds
for certain public schools located in an empowerment zone, or
expected (as of the date of bond issuance) to have at least 35
percent of its students receiving free or reduced lunches.
Explanation of Provision
The provision extends for two years, through December 31,
2011, the period for which the designation of an empowerment
zone is in effect, thus extending for two years the empowerment
zone tax incentives, including the wage credit, accelerated
depreciation deductions on qualifying equipment, tax-exempt
bond financing, and deferral of capital gains tax on sale of
qualified assets sold and replaced. In the case of a
designation of an empowerment zone the nomination for which
included a termination date which is December 31, 2009,
termination shall not apply with respect to such designation if
the entity which made such nomination amends the nomination to
provide for a new termination date in such manner as the
Secretary may provide.
The provision extends for two years, through December 31,
2016, the period for which the percentage exclusion for
qualified small business stock (of a corporation which is a
qualified business entity) acquired on or before February 17,
2009 is 60 percent. Gain attributable to periods after December
31, 2016 for qualified small business stock acquired on or
before February 17, 2009 or after December 31, 2011 is subject
to the general rule which provides for a percentage exclusion
of 50 percent.
Effective Date
The provision relating to the designation of an empowerment
zone and the provision relating to the exclusion of gain from
the sale or exchange of qualified small business stock held for
more than five years applies to periods after December 31,
2009.
24. Tax incentives for investment in the District of Columbia (sec. 754
of the Act and secs. 1400, 1400A, 1400B, and 1400C of the Code)
Present Law
In general
The Taxpayer Relief Act of 1997 designated certain
economically depressed census tracts within the District of
Columbia as the ``District of Columbia Enterprise Zone,'' or
``DC Zone,'' within which businesses and individual residents
are eligible for special tax incentives. The census tracts that
comprise the District of Columbia Enterprise Zone are (1) all
census tracts that presently are part of the D.C. enterprise
community designated under section 1391 (i.e., portions of
Anacostia, Mt. Pleasant, Chinatown, and the easternmost part of
the District of Columbia), and (2) all additional census tracts
within the District of Columbia where the poverty rate is not
less than 20 percent. The District of Columbia Enterprise Zone
designation remains in effect for the period from January 1,
1998, through December 31, 2009.
The following tax incentives are available for businesses
located in an empowerment zone and the District of Columbia
Enterprise Zone is treated as an empowerment zone for this
purpose: (1) 20-percent wage credit, (2) an additional $35,000
of section 179 expensing for qualified zone property, and (3)
expanded tax-exempt financing for certain zone facilities. In
addition, a zero-percent capital gains rate applies to capital
gains from the sale of certain qualified DC Zone assets held
for more than five years.
Present law also provides for a nonrefundable tax credit
for first-time homebuyers of a principal residence in the
District of Columbia.
Employment credit
A 20-percent wage credit is available to employers for the
first $15,000 of qualified wages paid to each employee (i.e., a
maximum credit of $3,000 with respect to each qualified
employee) who (1) is a resident of the District of Columbia,
and (2) performs substantially all employment services within
an empowerment zone in a trade or business of the employer.
The wage credit rate applies to qualifying wages paid after
December 31, 2001, and before January 1, 2010. Wages paid to a
qualified employee who earns more than $15,000 are eligible for
the wage credit (although only the first $15,000 of wages is
eligible for the credit). The wage credit is available with
respect to a qualified full-time or part-time employee
(employed for at least 90 days), regardless of the number of
other employees who work for the employer. In general, any
taxable business carrying out activities in the empowerment
zone may claim the wage credit, regardless of whether the
employer meets the definition of an ``enterprise zone
business,'' as defined below.
An employer's deduction otherwise allowed for wages paid is
reduced by the amount of wage credit claimed for that taxable
year. Wages are not to be taken into account for purposes of
the wage credit if taken into account in determining the
employer's work opportunity tax credit under section 51 or the
welfare-to-work credit under section 51A. In addition, the
$15,000 cap is reduced by any wages taken into account in
computing the work opportunity tax credit or the welfare-to-
work credit. The wage credit may be used to offset up to 25
percent of alternative minimum tax liability.
Increased section 179 expensing limitation
An enterprise zone business is allowed an additional
$35,000 of section 179 expensing (for a total of up to $285,000
in 2009) \1820\ for qualified zone property placed in service
after December 31, 2001, and before January 1, 2010. The
section 179 expensing allowed to a taxpayer is phased out by
the amount by which 50 percent of the cost of qualified zone
property placed in service during the year by the taxpayer
exceeds $500,000. The term ``qualified zone property'' is
defined as depreciable tangible property (including buildings)
provided that (i) the property is acquired by the taxpayer
(from an unrelated party) after the designation took effect,
(ii) the original use of the property in an empowerment zone
commences with the taxpayer, and (iii) substantially all of the
use of the property is in an empowerment zone in the active
conduct of a trade or business by the taxpayer. For this
purpose, special rules are provided in the case of property
that is substantially renovated by the taxpayer.
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\1820\ For each of 2010 and 2011, the 179 expensing limitation will
be a total of up to $535,000. The Small Business Jobs Act of 2010, Pub.
L. No. 111-240, sec. 2021. See discussion in Part Fourteen of this
document.
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An enterprise zone business means any qualified business
entity and any qualified proprietorship. A qualified business
entity means, any corporation or partnership if for such year:
(1) every trade or business of such entity is the active
conduct of a qualified business within an empowerment zone; (2)
at least 50 percent of the total gross income of such entity is
derived from the active conduct of such business; (3) a
substantial portion of the use of the tangible property of such
entity (whether owned or leased) is within an empowerment zone;
(4) a substantial portion of the intangible property of such
entity is used in the active conduct of any such business; (5)
a substantial portion of the services performed for such entity
by its employees are performed in an empowerment zone; (6) at
least 35 percent of its employees are residents of an
empowerment zone; (7) less than five percent of the average of
the aggregate unadjusted bases of the property of such entity
is attributable to collectibles other than collectibles that
are held primarily for sale to customers in the ordinary course
of such business; and (8) less than 5 percent of the average of
the aggregate unadjusted bases of the property of such entity
is attributable to nonqualified financial property.
A qualified proprietorship is any qualified business
carried on by an individual as a proprietorship if for such
year: (1) at least 50 percent of the total gross income of such
individual from such business is derived from the active
conduct of such business in an empowerment zone; (2) a
substantial portion of the use of the tangible property of such
individual in such business (whether owned or leased) is within
an empowerment zone; (3) a substantial portion of the
intangible property of such business is used in the active
conduct of such business; (4) a substantial portion of the
services performed for such individual in such business by
employees of such business are performed in an empowerment
zone; (5) at least 35 percent of such employees are residents
of an empowerment zone; (6) less than 5 percent of the average
of the aggregate unadjusted bases of the property of such
individual which is used in such business is attributable to
collectibles other than collectibles that are held primarily
for sale to customers in the ordinary course of such business;
and (7) less than 5 percent of the average of the aggregate
unadjusted bases of the property of such individual which is
used in such business is attributable to nonqualified financial
property.
A qualified business is defined as any trade or business
other than a trade or business that consists predominantly of
the development or holding of intangibles for sale or license
or any business prohibited in connection with the employment
credit. In addition, the leasing of real property that is
located within the empowerment zone is treated as a qualified
business only if (1) the leased property is not residential
property, and (2) at least 50 percent of the gross rental
income from the real property is from enterprise zone
businesses. The rental of tangible personal property is not a
qualified business unless at least 50 percent of the rental of
such property is by enterprise zone businesses or by residents
of an empowerment zone.
Expanded tax-exempt financing for certain zone facilities
An enterprise zone business is permitted to borrow proceeds
from the issuance of tax-exempt enterprise zone facility bonds
(as defined in section 1394, without regard to the employee
residency requirement) issued by the District of Columbia. To
qualify, 95 percent (or more) of the net proceeds must be used
to finance: (1) qualified zone property whose principal user is
an enterprise zone business, and (2) certain land functionally
related and subordinate to such property. Accordingly, most of
the proceeds have to be used to finance certain facilities
within the DC Zone. The aggregate face amount of all
outstanding qualified enterprise zone facility bonds per
enterprise zone business may not exceed $15 million and may be
issued only while the DC Zone designation is in effect, from
January 1, 1998 through December 31, 2009.
The term enterprise zone business is the same as that used
for purposes of the increased section 179 deduction limitation
with certain modifications for start-up businesses. First, a
business will be treated as an enterprise zone business during
a start-up period if (1) at the beginning of the period, it is
reasonable to expect the business to be an enterprise zone
business by the end of the start-up period, and (2) the
business makes bona fide efforts to be an enterprise zone
business. The start-up period is the period that ends with the
start of the first tax year beginning more than two years after
the later of (1) the issue date of the bond issue financing the
qualified zone property, and (2) the date this property is
first placed in service (or, if earlier, the date that is three
years after the issue date).
Second, a business that qualifies as at the end of the
start-up period must continue to qualify during a testing
period that ends three tax years after the start-up period
ends. After the three-year testing period, a business will
continue to be treated as an enterprise zone business as long
as 35 percent of its employees are residents of an empowerment
zone or enterprise community.
Zero-percent capital gains
A zero-percent capital gains rate applies to capital gains
from the sale of certain qualified DC Zone assets held for more
than five years. In general, a ``qualified DC Zone asset''
means stock or partnership interests held in, or tangible
property held by, a DC Zone business. For purposes of the zero-
percent capital gains rate, the DC Zone is defined to include
all census tracts within the District of Columbia where the
poverty rate is not less than ten percent.
In general, gain eligible for the zero-percent tax rate is
that from the sale or exchange of a qualified DC Zone asset
that is (1) a capital asset or (2) property used in a trade or
business, as defined in section 1231(b). Gain that is
attributable to real property, or to intangible assets,
qualifies for the zero-percent rate, provided that such real
property or intangible asset is an integral part of a qualified
DC Zone business. However, no gain attributable to periods
before January 1, 1998, and after December 31, 2014, is
qualified capital gain.
District of Columbia homebuyer tax credit
First-time homebuyers of a principal residence in the
District of Columbia qualify for a tax credit of up to $5,000.
The $5,000 maximum credit amount applies both to individuals
and married couples. The credit phases out for individual
taxpayers with adjusted gross income between $70,000 and
$90,000 ($110,000 and $130,000 for joint filers). The credit is
available with respect to purchases of existing property as
well as new construction.
A ``first-time homebuyer'' means any individual if such
individual (and, if married, such individual's spouse) did not
have a present ownership interest in a principal residence in
the District of Columbia during the one-year period ending on
the date of the purchase of the principal residence to which
the credit applies. A taxpayer will be treated as a first-time
homebuyer with respect to only one residence--i.e., a taxpayer
may claim the credit only once. A taxpayer's basis in a
property is reduced by the amount of any homebuyer tax credit
claimed with respect to such property.
The first-time homebuyer credit is a nonrefundable personal
credit and may offset the regular tax and the alternative
minimum tax. Any credit in excess of tax liability may be
carried forward indefinitely. The homebuyer credit is generally
available for property purchased after August 4, 1997, and
before January 1, 2010. However, the credit does not apply to
the purchase of a residence after December 31, 2008 to which
the national first-time homebuyer credit under Section 36 of
the Code applies.
Explanation of Provision
The provision extends for two years, through December 31,
2011, the designation of the District of Columbia Enterprise
Zone. The provision also extends for two years through December
31, 2011, the special $15 million per-user bond limitation and
the relief from resident and employee requirements for certain
tax-exempt bonds issued in the District of Columbia Enterprise
Zone.
The provision extends for two years the zero-percent
capital gains rate applicable to capital gains from the sale or
exchange of any DC Zone asset held for more than five years
(and, as amended, acquired or substantially improved before
January 1, 2012). The provision also extends for two years the
period to which the term ``qualified capital gain'' refers. As
amended, the term ``qualified capital gain'' shall not include
any gain attributable to periods before January 1, 1998, or
after December 31, 2016.
The provision extends the first-time D.C. homebuyer credit
for two years (as amended, to apply to property purchased
before January 1, 2012).
Effective Date
The provision extending the period of designation of the
District of Columbia Enterprise Zone and the provision
extending the period for which the term ``qualified capital
gain'' refers applies to periods after December 31, 2009. The
provision extending tax-exempt financing for certain zone
facilities applies to bonds issued after December 31, 2009. The
provision amending the definitions of DC Zone business stock,
DC Zone partnership interest, and DC Zone business property
applies to property acquired or substantially improved after
December 31, 2009. The provision extending the first-time
homebuyer credit applies to homes purchased after December 31,
2009.
25. Temporary increase in limit on cover over of rum excise taxes to
Puerto Rico and the Virgin Islands (sec. 755 of the Act and
sec. 7652(f) of the Code)
Present Law
A $13.50 per proof gallon \1821\ excise tax is imposed on
distilled spirits produced in or imported into the United
States.\1822\ The excise tax does not apply to distilled
spirits that are exported from the United States, including
exports to U.S. possessions (e.g., Puerto Rico and the Virgin
Islands).\1823\
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\1821\ A proof gallon is a liquid gallon consisting of 50 percent
alcohol. See secs. 5002(a)(10) and (11).
\1822\ Sec. 5001(a)(1).
\1823\ Secs. 5214(a)(1)(A), 5002(a)(15), 7653(b) and (c).
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The Code provides for cover over (payment) to Puerto Rico
and the Virgin Islands of the excise tax imposed on rum
imported (or brought) into the United States, without regard to
the country of origin.\1824\ The amount of the cover over is
limited under Code section 7652(f) to $10.50 per proof gallon
($13.25 per proof gallon before January 1, 2010).
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\1824\ Secs. 7652(a)(3), (b)(3), and (e)(1). One percent of the
amount of excise tax collected from imports into the United States of
articles produced in the Virgin Islands is retained by the United
States under section 7652(b)(3).
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Tax amounts attributable to shipments to the United States
of rum produced in Puerto Rico are covered over to Puerto Rico.
Tax amounts attributable to shipments to the United States of
rum produced in the Virgin Islands are covered over to the
Virgin Islands. Tax amounts attributable to shipments to the
United States of rum produced in neither Puerto Rico nor the
Virgin Islands are divided and covered over to the two
possessions under a formula.\1825\ Amounts covered over to
Puerto Rico and the Virgin Islands are deposited into the
treasuries of the two possessions for use as those possessions
determine.\1826\ All of the amounts covered over are subject to
the limitation.
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\1825\ Sec. 7652(e)(2).
\1826\ Secs. 7652(a)(3), (b)(3), and (e)(1).
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Explanation of Provision
The provision suspends for two years the $10.50 per proof
gallon limitation on the amount of excise taxes on rum covered
over to Puerto Rico and the Virgin Islands. Under the
provision, the cover over limitation of $13.25 per proof gallon
is extended for rum brought into the United States after
December 31, 2009 and before January 1, 2012. After December
31, 2011, the cover over amount reverts to $10.50 per proof
gallon.
Effective Date
The provision is effective for distilled spirits brought
into the United States after December 31, 2009.
26. American Samoa economic development credit (sec. 756 of the Act and
sec. 119 of Pub. L. No. 109-432)
Present Law
A domestic corporation that was an existing credit claimant
with respect to American Samoa and that elected the application
of section 936 for its last taxable year beginning before
January 1, 2006 is allowed a credit based on the corporation's
economic activity-based limitation with respect to American
Samoa. The credit is not part of the Code but is computed based
on the rules of sections 30A and 936. The credit is allowed for
the first four taxable years of a corporation that begin after
December 31, 2005, and before January 1, 2010.
A corporation was an existing credit claimant with respect
to American Samoa if (1) the corporation was engaged in the
active conduct of a trade or business within American Samoa on
October 13, 1995, and (2) the corporation elected the benefits
of the possession tax credit \1827\ in an election in effect
for its taxable year that included October 13, 1995.\1828\ A
corporation that added a substantial new line of business
(other than in a qualifying acquisition of all the assets of a
trade or business of an existing credit claimant) ceased to be
an existing credit claimant as of the close of the taxable year
ending before the date on which that new line of business was
added.
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\1827\ For taxable years beginning before January 1, 2006, certain
domestic corporations with business operations in the U.S. possessions
were eligible for the possession tax credit. Secs. 27(b), 936. This
credit offset the U.S. tax imposed on certain income related to
operations in the U.S. possessions. Subject to certain limitations, the
amount of the possession tax credit allowed to any domestic corporation
equaled the portion of that corporation's U.S. tax that was
attributable to the corporation's non-U.S. source taxable income from
(1) the active conduct of a trade or business within a U.S. possession,
(2) the sale or exchange of substantially all of the assets that were
used in such a trade or business, or (3) certain possessions
investment. No deduction or foreign tax credit was allowed for any
possessions or foreign tax paid or accrued with respect to taxable
income that was taken into account in computing the credit under
section 936.
Under the economic activity-based limit, the amount of the credit
could not exceed an amount equal to the sum of (1) 60 percent of the
taxpayer's qualified possession wages and allocable employee fringe
benefit expenses, (2) 15 percent of depreciation allowances with
respect to short-life qualified tangible property, plus 40 percent of
depreciation allowances with respect to medium-life qualified tangible
property, plus 65 percent of depreciation allowances with respect to
long-life qualified tangible property, and (3) in certain cases, a
portion of the taxpayer's possession income taxes. A taxpayer could
elect, instead of the economic activity-based limit, a limit equal to
the applicable percentage of the credit that otherwise would have been
allowable with respect to possession business income, beginning in
1998, the applicable percentage was 40 percent.
To qualify for the possession tax credit for a taxable year, a
domestic corporation was required to satisfy two conditions. First, the
corporation was required to derive at least 80 percent of its gross
income for the three-year period immediately preceding the close of the
taxable year from sources within a possession. Second, the corporation
was required to derive at least 75 percent of its gross income for that
same period from the active conduct of a possession business. Sec.
936(a)(2). The section 936 credit generally expired for taxable years
beginning after December 31, 2005.
\1828\ A corporation will qualify as an existing credit claimant if
it acquired all the assets of a trade or business of a corporation that
(1) actively conducted that trade or business in a possession on
October 13, 1995, and (2) had elected the benefits of the possession
tax credit in an election in effect for the taxable year that included
October 13, 1995.
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The amount of the credit allowed to a qualifying domestic
corporation under the provision is equal to the sum of the
amounts used in computing the corporation's economic activity-
based limitation with respect to American Samoa, except that no
credit is allowed for the amount of any American Samoa income
taxes. Thus, for any qualifying corporation the amount of the
credit equals the sum of (1) 60 percent of the corporation's
qualified American Samoa wages and allocable employee fringe
benefit expenses and (2) 15 percent of the corporation's
depreciation allowances with respect to short-life qualified
American Samoa tangible property, plus 40 percent of the
corporation's depreciation allowances with respect to medium-
life qualified American Samoa tangible property, plus 65
percent of the corporation's depreciation allowances with
respect to long-life qualified American Samoa tangible
property.
The section 936(c) rule denying a credit or deduction for
any possessions or foreign tax paid with respect to taxable
income taken into account in computing the credit under section
936 does not apply with respect to the credit allowed by the
provision.
The credit applies to the first four taxable years of a
taxpayer which begin after December 31, 2005, and before
January 1, 2010.
Explanation of Provision
The provision extends the credit to apply to the first six
taxable years of a taxpayer beginning after December 31, 2005,
and before January 1, 2012.
Effective Date
The provision is effective for taxable years beginning
after December 31, 2009.
27. Work opportunity credit (sec. 757 of the Act and sec. 51 of the
Code)
Present Law
In general
The work opportunity tax credit is available on an elective
basis for employers hiring individuals from one or more of nine
targeted groups. The amount of the credit available to an
employer is determined by the amount of qualified wages paid by
the employer. Generally, qualified wages consist of wages
attributable to service rendered by a member of a targeted
group during the one-year period beginning with the day the
individual begins work for the employer (two years in the case
of an individual in the long-term family assistance recipient
category).
Targeted groups eligible for the credit
Generally, an employer is eligible for the credit only for
qualified wages paid to members of a targeted group.
(1) Families receiving TANF
An eligible recipient is an individual certified by a
designated local employment agency (e.g., a State employment
agency) as being a member of a family eligible to receive
benefits under the Temporary Assistance for Needy Families
Program (``TANF'') for a period of at least nine months part of
which is during the 18-month period ending on the hiring date.
For these purposes, members of the family are defined to
include only those individuals taken into account for purposes
of determining eligibility for the TANF.
(2) Qualified veteran
There are two subcategories of qualified veterans related
to eligibility for food stamps and compensation for a service-
connected disability.
Food stamps
A qualified veteran is a veteran who is certified by the
designated local agency as a member of a family receiving
assistance under a food stamp program under the Food Stamp Act
of 1977 for a period of at least three months part of which is
during the 12-month period ending on the hiring date. For these
purposes, members of a family are defined to include only those
individuals taken into account for purposes of determining
eligibility for a food stamp program under the Food Stamp Act
of 1977.
Entitled to compensation for a service-connected disability
A qualified veteran also includes an individual who is
certified as entitled to compensation for a service-connected
disability and: (1) having a hiring date which is not more than
one year after having been discharged or released from active
duty in the Armed Forces of the United States; or (2) having
been unemployed for six months or more (whether or not
consecutive) during the one-year period ending on the date of
hiring.
Definitions
For these purposes, being entitled to compensation for a
service-connected disability is defined with reference to
section 101 of Title 38, U.S. Code, which means having a
disability rating of 10 percent or higher for service connected
injuries.
For these purposes, a veteran is an individual who has
served on active duty (other than for training) in the Armed
Forces for more than 180 days or who has been discharged or
released from active duty in the Armed Forces for a service-
connected disability. However, any individual who has served
for a period of more than 90 days during which the individual
was on active duty (other than for training) is not a qualified
veteran if any of this active duty occurred during the 60-day
period ending on the date the individual was hired by the
employer. This latter rule is intended to prevent employers who
hire current members of the armed services (or those departed
from service within the last 60 days) from receiving the
credit.
(3) Qualified ex-felon
A qualified ex-felon is an individual certified as: (1)
having been convicted of a felony under any State or Federal
law; and (2) having a hiring date within one year of release
from prison or the date of conviction.
(4) Designated community residents
A designated community resident is an individual certified
as being at least age 18 but not yet age 40 on the hiring date
and as having a principal place of abode within an empowerment
zone, enterprise community, renewal community or a rural
renewal community. For these purposes, a rural renewal county
is a county outside a metropolitan statistical area (as defined
by the Office of Management and Budget) which had a net
population loss during the five-year periods 1990-1994 and
1995-1999. Qualified wages do not include wages paid or
incurred for services performed after the individual moves
outside an empowerment zone, enterprise community, renewal
community or a rural renewal community.
(5) Vocational rehabilitation referral
A vocational rehabilitation referral is an individual who
is certified by a designated local agency as an individual who
has a physical or mental disability that constitutes a
substantial handicap to employment and who has been referred to
the employer while receiving, or after completing: (a)
vocational rehabilitation services under an individualized,
written plan for employment under a State plan approved under
the Rehabilitation Act of 1973; (b) under a rehabilitation plan
for veterans carried out under Chapter 31 of Title 38, U.S.
Code; or (c) an individual work plan developed and implemented
by an employment network pursuant to subsection (g) of section
1148 of the Social Security Act. Certification will be provided
by the designated local employment agency upon assurances from
the vocational rehabilitation agency that the employee has met
the above conditions.
(6) Qualified summer youth employee
A qualified summer youth employee is an individual: (1) who
performs services during any 90-day period between May 1 and
September 15; (2) who is certified by the designated local
agency as being 16 or 17 years of age on the hiring date; (3)
who has not been an employee of that employer before; and (4)
who is certified by the designated local agency as having a
principal place of abode within an empowerment zone, enterprise
community, or renewal community. As with designated community
residents, no credit is available on wages paid or incurred for
service performed after the qualified summer youth moves
outside of an empowerment zone, enterprise community, or
renewal community. If, after the end of the 90-day period, the
employer continues to employ a youth who was certified during
the 90-day period as a member of another targeted group, the
limit on qualified first-year wages will take into account
wages paid to the youth while a qualified summer youth
employee.
(7) Qualified food stamp recipient
A qualified food stamp recipient is an individual at least
age 18 but not yet age 40 certified by a designated local
employment agency as being a member of a family receiving
assistance under a food stamp program under the Food Stamp Act
of 1977 for a period of at least six months ending on the
hiring date. In the case of families that cease to be eligible
for food stamps under section 6(o) of the Food Stamp Act of
1977, the six-month requirement is replaced with a requirement
that the family has been receiving food stamps for at least
three of the five months ending on the date of hire. For these
purposes, members of the family are defined to include only
those individuals taken into account for purposes of
determining eligibility for a food stamp program under the Food
Stamp Act of 1977.
(8) Qualified SSI recipient
A qualified SSI recipient is an individual designated by a
local agency as receiving supplemental security income
(``SSI'') benefits under Title XVI of the Social Security Act
for any month ending within the 60-day period ending on the
hiring date.
(9) Long-term family assistance recipients
A qualified long-term family assistance recipient is an
individual certified by a designated local agency as being: (1)
a member of a family that has received family assistance for at
least 18 consecutive months ending on the hiring date; (2) a
member of a family that has received such family assistance for
a total of at least 18 months (whether or not consecutive)
after August 5, 1997 (the date of enactment of the welfare-to-
work tax credit) \1829\ if the individual is hired within two
years after the date that the 18-month total is reached; or (3)
a member of a family who is no longer eligible for family
assistance because of either Federal or State time limits, if
the individual is hired within two years after the Federal or
State time limits made the family ineligible for family
assistance.
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\1829\ The welfare-to-work tax credit was consolidated into the
work opportunity tax credit in the Tax Relief and Health Care Act of
2006, Pub. L. No. 109-432, for qualified individuals who begin to work
for an employer after December 31, 2006.
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(10) Unemployed veterans and disconnected youth hired in
2009 and 2010
Unemployed veterans and disconnected youth who begin work
for the employer in 2009 or 2010 are treated as a targeted
category under section 1221(a) of the American Recovery and
Reinvestment Act of 2009.\1830\
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\1830\ Pub. L. No. 111-5.
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An unemployed veteran is defined as an individual certified
by the designated local agency as someone who: (1) has served
on active duty (other than for training) in the Armed Forces
for more than 180 days or who has been discharged or released
from active duty in the Armed Forces for a service-connected
disability; (2) has been discharged or released from active
duty in the Armed Forces during the five-year period ending on
the hiring date; and (3) has received unemployment compensation
under State or Federal law for not less than four weeks during
the one-year period ending on the hiring date.
A disconnected youth is defined as an individual certified
by the designated local agency as someone: (1) at least age 16
but not yet age 25 on the hiring date; (2) not regularly
attending any secondary, technical, or post-secondary school
during the six-month period preceding the hiring date; (3) not
regularly employed during the six-month period preceding the
hiring date; and (4) not readily employable by reason of
lacking a sufficient number of skills.
Qualified wages
Generally, qualified wages are defined as cash wages paid
by the employer to a member of a targeted group. The employer's
deduction for wages is reduced by the amount of the credit.
For purposes of the credit, generally, wages are defined by
reference to the FUTA definition of wages contained in sec.
3306(b) (without regard to the dollar limitation therein
contained). Special rules apply in the case of certain
agricultural labor and certain railroad labor.
Calculation of the credit
The credit available to an employer for qualified wages
paid to members of all targeted groups except for long-term
family assistance recipients equals 40 percent (25 percent for
employment of 400 hours or less) of qualified first-year wages.
Generally, qualified first-year wages are qualified wages (not
in excess of $6,000) attributable to service rendered by a
member of a targeted group during the one-year period beginning
with the day the individual began work for the employer.
Therefore, the maximum credit per employee is $2,400 (40
percent of the first $6,000 of qualified first-year wages).
With respect to qualified summer youth employees, the maximum
credit is $1,200 (40 percent of the first $3,000 of qualified
first-year wages). Except for long-term family assistance
recipients, no credit is allowed for second-year wages.
In the case of long-term family assistance recipients, the
credit equals 40 percent (25 percent for employment of 400
hours or less) of $10,000 for qualified first-year wages and 50
percent of the first $10,000 of qualified second-year wages.
Generally, qualified second-year wages are qualified wages (not
in excess of $10,000) attributable to service rendered by a
member of the long-term family assistance category during the
one-year period beginning on the day after the one-year period
beginning with the day the individual began work for the
employer. Therefore, the maximum credit per employee is $9,000
(40 percent of the first $10,000 of qualified first-year wages
plus 50 percent of the first $10,000 of qualified second-year
wages).
In the case of a qualified veteran who is entitled to
compensation for a service connected disability, the credit
equals 40 percent of $12,000 of qualified first-year wages.
This expanded definition of qualified first-year wages does not
apply to the veterans qualified with reference to a food stamp
program, as defined under present law.
Certification rules
An individual is not treated as a member of a targeted
group unless: (1) on or before the day on which an individual
begins work for an employer, the employer has received a
certification from a designated local agency that such
individual is a member of a targeted group; or (2) on or before
the day an individual is offered employment with the employer,
a pre-screening notice is completed by the employer with
respect to such individual, and not later than the 28th day
after the individual begins work for the employer, the employer
submits such notice, signed by the employer and the individual
under penalties of perjury, to the designated local agency as
part of a written request for certification. For these
purposes, a pre-screening notice is a document (in such form as
the Secretary may prescribe) which contains information
provided by the individual on the basis of which the employer
believes that the individual is a member of a targeted group.
Minimum employment period
No credit is allowed for qualified wages paid to employees
who work less than 120 hours in the first year of employment.
Other rules
The work opportunity tax credit is not allowed for wages
paid to a relative or dependent of the taxpayer. No credit is
allowed for wages paid to an individual who is a more than
fifty-percent owner of the entity. Similarly, wages paid to
replacement workers during a strike or lockout are not eligible
for the work opportunity tax credit. Wages paid to any employee
during any period for which the employer received on-the-job
training program payments with respect to that employee are not
eligible for the work opportunity tax credit. The work
opportunity tax credit generally is not allowed for wages paid
to individuals who had previously been employed by the
employer. In addition, many other technical rules apply.
Expiration
The work opportunity tax credit is not available for
individuals who begin work for an employer after August 31,
2011.
Explanation of Provision
The provision extends the work opportunity tax credit for
four months (for individuals who begin work for an employer
after August 31, 2011 before January 1, 2012).\1831\
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\1831\ The rule to allow unemployed veterans and disconnected youth
who begin work for the employer in 2009 or 2010 to be treated as
members of a targeted group is not extended.
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Effective Date
The provisions are effective for individuals who begin work
for an employer after August 31, 2011.
28. Qualified zone academy bonds (sec. 758 of the Act and sec. 54E of
the Code)
Present Law
Tax-exempt bonds
Interest on State and local governmental bonds generally is
excluded from gross income for Federal income tax purposes if
the proceeds of the bonds are used to finance direct activities
of these governmental units or if the bonds are repaid with
revenues of the governmental units. These can include tax-
exempt bonds which finance public schools.\1832\ An issuer must
file with the Internal Revenue Service certain information
about the bonds issued in order for that bond issue to be tax-
exempt.\1833\ Generally, this information return is required to
be filed no later the 15th day of the second month after the
close of the calendar quarter in which the bonds were issued.
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\1832\ Sec. 103.
\1833\ Sec. 149(e).
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The tax exemption for State and local bonds does not apply
to any arbitrage bond.\1834\ An arbitrage bond is defined as
any bond that is part of an issue if any proceeds of the issue
are reasonably expected to be used (or intentionally are used)
to acquire higher yielding investments or to replace funds that
are used to acquire higher yielding investments.\1835\ 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, investment
profits that are earned during these periods or on such
investments must be rebated to the Federal Government.
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\1834\ Sec. 103(a) and (b)(2).
\1835\ Sec. 148.
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Qualified zone academy bonds
As an alternative to traditional tax-exempt bonds, States
and local governments were given the authority to issue
``qualified zone academy bonds.'' \1836\ A total of $400
million of qualified zone academy bonds is authorized to be
issued annually in calendar years 1998 through 2008. That is
increased to $1,400 million in 2009 and 2010. Each calendar
year's bond limitation is allocated to the States according to
their respective populations of individuals below the poverty
line. Each State, in turn, allocates the credit authority to
qualified zone academies within such State.
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\1836\ See secs. 54E and 1397E.
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A taxpayer holding a qualified zone academy bond on the
credit allowance date is entitled to a credit. The credit is
includible in gross income (as if it were a taxable interest
payment on the bond), and may be claimed against regular income
tax and alternative minimum tax liability.
The Treasury Department sets the credit rate at a rate
estimated to allow issuance of qualified zone academy bonds
without discount and without interest cost to the issuer.\1837\
The Secretary determines credit rates for tax credit bonds
based on general assumptions about credit quality of the class
of potential eligible issuers and such other factors as the
Secretary deems appropriate. The Secretary may determine credit
rates based on general credit market yield indexes and credit
ratings. The maximum term of the bond is determined by the
Treasury Department, so that the present value of the
obligation to repay the principal on the bond is 50 percent of
the face value of the bond.
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\1837\ Given the differences in credit quality and other
characteristics of individual issuers, the Secretary cannot set credit
rates in a manner that will allow each issuer to issue tax credit bonds
at par.
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``Qualified zone academy bonds'' are defined as any bond
issued by a State or local government, provided that (1) at
least 95 percent of the proceeds are used for the purpose of
renovating, providing equipment to, developing course materials
for use at, or training teachers and 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 an empowerment zone or
enterprise community designated under the Code, 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.
The arbitrage requirements which generally apply to
interest-bearing tax-exempt bonds also generally apply to
qualified zone academy bonds. In addition, an issuer of
qualified zone academy bonds must reasonably expect to and
actually spend 100 percent or more of the proceeds of such
bonds on qualified zone academy property within the three-year
period that begins on the date of issuance. To the extent less
than 100 percent of the proceeds are used to finance qualified
zone academy property during the three-year spending period,
bonds will continue to qualify as qualified zone academy bonds
if unspent proceeds are used within 90 days from the end of
such three-year period to redeem any nonqualified bonds. The
three-year spending period may be extended by the Secretary if
the issuer establishes that the failure to meet the spending
requirement is due to reasonable cause and the related purposes
for issuing the bonds will continue to proceed with due
diligence.
Two special arbitrage rules apply to qualified zone academy
bonds. First, available project proceeds invested during the
three-year period beginning on the date of issue are not
subject to the arbitrage restrictions (i.e., yield restriction
and rebate requirements). Available project proceeds are
proceeds from the sale of an issue of qualified zone academy
bonds, less issuance costs (not to exceed two percent) and any
investment earnings on such proceeds. Thus, available project
proceeds invested during the three-year spending period may be
invested at unrestricted yields, but the earnings on such
investments must be spent on qualified zone academy property.
Second, amounts invested in a reserve fund are not subject to
the arbitrage restrictions to the extent: (1) such fund is
funded at a rate not more rapid than equal annual installments;
(2) such fund is funded in a manner reasonably expected to
result in an amount not greater than an amount necessary to
repay the issue; and (3) the yield on such fund is not greater
than the average annual interest rate of tax-exempt obligations
having a term of 10 years or more that are issued during the
month the qualified zone academy bonds are issued.
Issuers of qualified zone academy bonds are required to
report issuance to the Internal Revenue Service in a manner
similar to the information returns required for tax-exempt
bonds.
For bonds originally issued after March 18, 2010, an issuer
of qualified zone academy bonds may make an irrevocable
election on or before the issue date of such bonds to receive a
payment under section 6431 in lieu of providing a tax credit to
the holder of the bonds. The payment to the issuer on each
payment date is equal to the lesser of (1) the amount of
interest payable on such bond by such issuer with respect to
such date or (2) the amount of the interest which would have
been payable under such bond on such date if such interest were
determined at the applicable tax credit bond rate.
Explanation of Provision
In general
The provision extends the qualified zone academy bond
program for one year. The provision authorizes issuance of up
to $400 million of qualified zone academy bonds for 2011.
The issuer election to receive a payment in lieu of
providing a tax credit to the holder of the qualified zone
academy bond is not available for bonds issued with the 2011
national limitation. The provision has no effect on bonds
issued with limitation carried forward from 2009 or 2010.
Effective Date
The provision applies to obligations issued after December
31, 2010.
29. Mortgage insurance premiums (sec. 759 of the Act and sec. 163 of
the Code)
Present Law
In general
Present law provides that qualified residence interest is
deductible notwithstanding the general rule that personal
interest is nondeductible (sec. 163(h)).
Acquisition indebtedness and home equity indebtedness
Qualified residence interest is interest on acquisition
indebtedness and home equity indebtedness with respect to a
principal and a second residence of the taxpayer. The maximum
amount of home equity indebtedness is $100,000. The maximum
amount of acquisition indebtedness is $1 million. Acquisition
indebtedness means debt that is incurred in acquiring
constructing, or substantially improving a qualified residence
of the taxpayer, and that is secured by the residence. Home
equity indebtedness is debt (other than acquisition
indebtedness) that is secured by the taxpayer's principal or
second residence, to the extent the aggregate amount of such
debt does not exceed the difference between the total
acquisition indebtedness with respect to the residence, and the
fair market value of the residence.
Private mortgage insurance
Certain premiums paid or accrued for qualified mortgage
insurance by a taxpayer during the taxable year in connection
with acquisition indebtedness on a qualified residence of the
taxpayer are treated as interest that is qualified residence
interest and thus deductible. The amount allowable as a
deduction is phased out ratably by 10 percent for each $1,000
by which the taxpayer's adjusted gross income exceeds $100,000
($500 and $50,000, respectively, in the case of a married
individual filing a separate return). Thus, the deduction is
not allowed if the taxpayer's adjusted gross income exceeds
$110,000 ($55,000 in the case of married individual filing a
separate return).
For this purpose, qualified mortgage insurance means
mortgage insurance provided by the Veterans Administration, the
Federal Housing Administration,\1838\ or the Rural Housing
Administration, and private mortgage insurance (defined in
section 2 of the Homeowners Protection Act of 1998 as in effect
on the date of enactment of the provision).
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\1838\ The Veterans Administration and the Rural Housing
Administration have been succeeded by the Department of Veterans
Affairs and the Rural Housing Service, respectively.
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Amounts paid for qualified mortgage insurance that are
properly allocable to periods after the close of the taxable
year are treated as paid in the period to which they are
allocated. No deduction is allowed for the unamortized balance
if the mortgage is paid before its term (except in the case of
qualified mortgage insurance provided by the Department of
Veterans Affairs or Rural Housing Service).
The provision does not apply with respect to any mortgage
insurance contract issued before January 1, 2007. The provision
terminates for any amount paid or accrued after December 31,
2010, or properly allocable to any period after that date.
Reporting rules apply under the provision.
Explanation of Provision
The provision extends the deduction for private mortgage
insurance premiums for one year (only with respect to contracts
entered into after December 31, 2006). Thus, the provision
applies to amounts paid or accrued in 2011 (and not properly
allocable to any period after 2011).
Effective Date
The provision is effective for amounts paid or accrued
after December 31, 2010.
30. Temporary exclusion of 100 percent of gain on certain small
business stock (sec. 760 of the Act and sec. 1202 of the Code)
Present Law
In general
Individuals generally may exclude 50 percent (60 percent
for certain empowerment zone businesses) of the gain from the
sale of certain small business stock acquired at original issue
and held for at least five years.\1839\ The amount of gain
eligible for the exclusion by an individual with respect to any
corporation is the greater of (1) ten times the taxpayer's
basis in the stock or (2) $10 million. To qualify as a small
business, when the stock is issued, the gross assets of the
corporation may not exceed $50 million. The corporation also
must meet certain active trade or business requirements.
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\1839\ Sec. 1202.
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The portion of the gain includible in taxable income is
taxed at a maximum rate of 28 percent under the regular
tax.\1840\ A percentage of the excluded gain is an alternative
minimum tax preference; \1841\ the portion of the gain
includible in alternative minimum taxable income is taxed at a
maximum rate of 28 percent under the alternative minimum tax.
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\1840\ Sec. 1(h).
\1841\ Sec. 57(a)(7). In the case of qualified small business
stock, the percentage of gain excluded from gross income which is an
alternative minimum tax preference is (i) seven percent in the case of
stock disposed of in a taxable year beginning before 2011; (ii) 42
percent in the case of stock acquired before January 1, 2001, and
disposed of in a taxable year beginning after 2010; and (iii) 28
percent in the case of stock acquired after December 31, 2000, and
disposed of in a taxable year beginning after 2010. Section 102 of the
Act extends the 2010 and 2011 dates by two years.
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Gain from the sale of qualified small business stock
generally is taxed at effective rates of 14 percent under the
regular tax\1842\ and (i) 14.98 percent under the alternative
minimum tax for dispositions before January 1, 2011; (ii) 19.88
percent under the alternative minimum tax for dispositions
after December 31, 2010, in the case of stock acquired before
January 1, 2001; and (iii) 17.92 percent under the alternative
minimum tax for dispositions after December 31, 2010, in the
case of stock acquired after December 31, 2000.\1843\
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\1842\ The 50 percent of gain included in taxable income is taxed
at a maximum rate of 28 percent.
\1843\ The amount of gain included in alternative minimum tax is
taxed at a maximum rate of 28 percent. The amount so included is the
sum of (i) 50 percent (the percentage included in taxable income) of
the total gain and (ii) the applicable preference percentage of the
one-half gain that is excluded from taxable income.
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Temporary increases in exclusion
The percentage exclusion for qualified small business stock
acquired after February 17, 2009, and on or before September
27, 2010, is increased to 75 percent. As a result of the
increased exclusion, gain from the sale of this qualified small
business stock held at least five years is taxed at effective
rates of seven percent under the regular tax \1844\ and 12.88
percent under the alternative minimum tax.\1845\
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\1844\ The 25 percent of gain included in taxable income is taxed
at a maximum rate of 28 percent.
\1845\ The 46 percent of gain included in alternative minimum tax
is taxed at a maximum rate of 28 percent. Forty-six percent is the sum
of 25 percent (the percentage of total gain included in taxable income)
plus 21 percent (the percentage of total gain which is an alternative
minimum tax preference).
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The percentage exclusion for qualified small business stock
acquired after September 27, 2010, and before January 1, 2011,
is increased to 100 percent and the minimum tax preference does
not apply.\1846\ The minimum tax preference does not apply.
---------------------------------------------------------------------------
\1846\ Sec. 1202(a)(4)(A) and (C).
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Explanation of Provision
The provision extends the 100-percent exclusion and the
exception from minimum tax preference treatment for one year
(for stock acquired before January 1, 2012).
Effective Date
The provision is effective for stock acquired after
December 31, 2010.
D. Temporary Disaster Relief Provisions
1. New York Liberty Zone tax-exempt bond financing (sec. 761 of the Act
and sec. 1400L of the Code)
Present Law
An aggregate of $8 billion in tax-exempt private activity
bonds is authorized for the purpose of financing the
construction and repair of infrastructure in New York City
(``Liberty Zone bonds''). The bonds must be issued before
January 1, 2010.
Explanation of Provision
The provision extends authority to issue Liberty Zone bonds
for two years (through December 31, 2011).
Effective Date
The provision is effective for bonds issued after December
31, 2009.
2. Increase in rehabilitation credit in the Gulf Opportunity Zone (sec.
762 of the Act and sec. 1400N(h) of the Code)
Present Law
Present law provides a two-tier tax credit for
rehabilitation expenditures.
A 20-percent credit is provided for qualified
rehabilitation expenditures with respect to a certified
historic structure. For this purpose, a certified historic
structure means any building that is listed in the National
Register, or that is located in a registered historic district
and is certified by the Secretary of the Interior to the
Secretary of the Treasury as being of historic significance to
the district.
A 10-percent credit is provided for qualified
rehabilitation expenditures with respect to a qualified
rehabilitated building, which generally means a building that
was first placed in service before 1936. The pre-1936 building
must meet requirements with respect to retention of existing
external walls and internal structural framework of the
building in order for expenditures with respect to it to
qualify for the 10-percent credit. A building is treated as
having met the substantial rehabilitation requirement under the
10-percent credit only if the rehabilitation expenditures
during the 24-month period selected by the taxpayer and ending
within the taxable year exceed the greater of (1) the adjusted
basis of the building (and its structural components), or (2)
$5,000.
The provision requires the use of straight-line
depreciation or the alternative depreciation system in order
for rehabilitation expenditures to be treated as qualified
under the provision.
Present law increases from 20 to 26 percent, and from 10 to
13 percent, respectively, the credit under section 47 with
respect to any certified historic structure or qualified
rehabilitated building located in the Gulf Opportunity Zone,
provided the qualified rehabilitation expenditures with respect
to such buildings or structures are incurred on or after August
28, 2005, and before January 1, 2010. The provision is
effective for expenditures incurred on or after August 28,
2005, for taxable years ending on or after August 28, 2005.
Explanation of Provision
The provision extends for two additional years the increase
in the rehabilitation credit from 20 to 26 percent, and from 10
to 13 percent, respectively, with respect to any certified
historic structure or qualified rehabilitated building located
in the Gulf Opportunity Zone. Thus, the increase applies for
qualified rehabilitation expenditures with respect to such
buildings or structures incurred before January 1, 2012.
Effective Date
The provision is effective for amounts paid or incurred
after December 31, 2009.
3. Low-income housing credit rules for buildings in Gulf Opportunity
Zones (sec. 763 and sec. 1400N(c)(5) of the Code)
Present Law
In general
The low-income housing credit may be claimed over a 10-year
period for the cost of rental housing occupied by tenants
having incomes below specified levels. The amount of the credit
for any taxable year in the credit period is the applicable
percentage of the qualified basis of each qualified low-income
building. The qualified basis of any qualified low-income
building for any taxable year equals the applicable fraction of
the eligible basis of the building.
The credit percentage for newly constructed or
substantially rehabilitated housing that is not Federally
subsidized is adjusted monthly by the Internal Revenue Service
so that the 10 annual installments have a present value of 70
percent of the total qualified basis. The credit percentage for
newly constructed or substantially rehabilitated housing that
is Federally subsidized and for existing housing that is
substantially rehabilitated is calculated to have a present
value of 30 percent of qualified basis. These are referred to
as the 70-percent credit and 30-percent credit, respectively.
Volume limit
Generally, a low-income housing credit is allowable only if
the owner of a qualified building receives a housing credit
allocation from the State or local housing credit agency. Each
State has a limited amount of low-income housing credit
available to allocate. This amount is called the aggregate
housing credit dollar amount (or the ``State housing credit
ceiling''). For each State, the State housing credit ceiling is
the sum of four components: (1) the unused housing credit
ceiling, if any, of such State from the prior calendar year;
(2) the credit ceiling for the year (either a per capital
amount or the small State minimum annual cap); (3) any returns
of credit ceiling to the State during the calendar year from
previous allocations; and (4) the State's share, if any, of the
national pool of unused credits from other States that failed
to use them (only States which allocated their entire credit
ceiling for the preceding calendar year are eligible for a
share of the national pool. For calendar year 2010, each
State's credit ceiling is $2.10 per resident, with a minimum
annual cap of $2,430,000 for certain small population
States.\1847\ These amounts are indexed for inflation. These
limits do not apply in the case of projects that also receive
financing with proceeds of tax-exempt bonds issued subject to
the private activity bond volume limit.
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\1847\ Rev. Proc. 2009-50.
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Under section 1400N(c) of the Code, the otherwise
applicable State housing credit ceiling is increased for each
of the States within the Gulf Opportunity Zone. This increase
applies to calendar years 2006, 2007, and 2008. The additional
volume for each of the affected States equals $18.00 times the
number of such State's residents within the Gulf Opportunity
Zone. This amount is not adjusted for inflation. This
additional volume limit expires unless the applicable low-
income buildings are placed in service before January 1, 2011.
Explanation of Provision
The provision extends the placed-in-service deadline (for
one year) to December 31, 2011.
Effective Date
The provision is effective on the date of enactment.
4. Tax-exempt bond financing for the Gulf Opportunity Zones (sec. 764
of the Act and sec. 1400N(a) of the Code)
Present Law
In general
Under present law, gross income does not include interest
on State or local bonds. State and local bonds are classified
generally as either governmental bonds or private activity
bonds. Governmental bonds are bonds which are primarily used to
finance governmental functions or which are repaid with
governmental funds. Private activity bonds are bonds with
respect to which the State or local government serves as a
conduit providing financing to nongovernmental persons (e.g.,
private businesses or individuals). The exclusion from income
for State and local bonds does not apply to private activity
bonds, unless the bonds are issued for certain permitted
purposes (``qualified private activity bonds''). The definition
of a qualified private activity bond includes an exempt
facility bond and a qualified mortgage bond.
Exempt facility bonds
The definition of exempt facility bond includes bonds
issued to finance certain transportation facilities (airports,
ports, mass commuting, and high-speed intercity rail
facilities); qualified residential rental projects; privately
owned and/or operated utility facilities (sewage, water, solid
waste disposal, and local district heating and cooling
facilities, certain private electric and gas facilities, and
hydroelectric dam enhancements); public/private educational
facilities; qualified green building and sustainable design
projects; and qualified highway or surface freight transfer
facilities (sec. 142(a)).
Residential rental property may be financed with exempt
facility bonds if the financed project is a ``qualified
residential rental project.'' A project is a qualified
residential rental project if 20 percent or more of the
residential units in such project are occupied by individuals
whose income is 50 percent or less of area median gross income
(the ``20-50 test''). Alternatively, a project is a qualified
residential rental project if 40 percent or more of the
residential units in such project are occupied by individuals
whose income is 60 percent or less of area median gross income
(the ``40-60 test'').
Qualified mortgage bonds
Qualified mortgage bonds are tax-exempt bonds issued to
make mortgage loans to eligible mortgagors for the purchase,
improvement, or rehabilitation of owner-occupied residences.
The Code imposes several limitations on qualified mortgage
bonds, including income limitations for eligible mortgagors,
purchase price limitations on the home financed with bond
proceeds, and a ``first-time homebuyer'' requirement. In
addition, bond proceeds generally only can be used for new
mortgages, i.e., proceeds cannot be used to acquire or replace
existing mortgages.
Exceptions to the new mortgage requirement are provided for
the replacement of construction period loans, bridge loans, and
other similar temporary initial financing. In addition,
qualified rehabilitation loans may be used, in part, to replace
existing mortgages. A qualified rehabilitation loan means
certain loans for the rehabilitation of a building if there is
a period of at least 20 years between the date on which the
building was first used (the ``20 year rule'') and the date on
which the physical work on such rehabilitation begins and the
existing walls and basis requirements are met. The existing
walls requirement for a rehabilitated building is met if 50
percent or more of the existing external walls are retained in
place as external walls, 75 percent or more of the existing
external walls are retained in place as internal or external
walls, and 75 percent or more of the existing internal
structural framework is retained in place. The basis
requirement is met if expenditures for rehabilitation are 25
percent or more of the mortgagor's adjusted basis in the
residence, determined as of the later of the completion of the
rehabilitation or the date on which the mortgagor acquires the
residence.
Qualified mortgage bonds also may be used to finance
qualified home-improvement loans. Qualified home-improvement
loans are defined as loans to finance alterations, repairs, and
improvements on an existing residence, but only if such
alterations, repairs, and improvements substantially protect or
improve the basic livability or energy efficiency of the
property. Qualified home-improvement loans may not exceed
$15,000, and may not be used to refinance existing mortgages.
As with most qualified private activity bonds, issuance of
qualified mortgage bonds is subject to annual State volume
limitations (the ``State volume cap'').
Gulf Opportunity Zone Bonds
The Gulf Opportunity Zone Act of 2005 authorizes Alabama,
Louisiana, and Mississippi (or any political subdivision of
those States) to issue qualified private activity bonds to
finance the construction and rehabilitation of residential and
nonresidential property located in the Gulf Opportunity Zone
(``Gulf Opportunity Zone Bonds''). Gulf Opportunity Zone Bonds
are not subject to the State volume cap. Rather, the maximum
aggregate amount of Gulf Opportunity Zone Bonds that may be
issued in any eligible State is limited to $2,500 multiplied by
the population of the respective State within the Gulf
Opportunity Zone.
Depending on the purpose for which such bonds are issued,
Gulf Opportunity Zone Bonds are treated as either exempt
facility bonds or qualified mortgage bonds. Gulf Opportunity
Zone Bonds are treated as exempt facility bonds if 95 percent
or more of the net proceeds of such bonds are to be used for
qualified project costs located in the Gulf Opportunity Zone.
Qualified project costs include the cost of acquisition,
construction, reconstruction, and renovation of nonresidential
real property (including buildings and their structural
components and fixed improvements associated with such
property), qualified residential rental projects (as defined in
section 142(d) with certain modifications), and public utility
property. Bond proceeds may not be used to finance movable
fixtures and equipment.
Rather than applying the 20-50 and 40-60 test from section
142, a project is a qualified residential rental project under
the provision if 20 percent or more of the residential units in
such project are occupied by individuals whose income is 60
percent or less of area median gross income or if 40 percent or
more of the residential units in such project are occupied by
individuals whose income is 70 percent or less of area median
gross income.
Gulf Opportunity Zone Bonds issued to finance residences
located in the Gulf Opportunity Zone are treated as qualified
mortgage bonds if the general requirements for qualified
mortgage bonds are met. The Code also provides special rules
for Gulf Opportunity Zone Bonds issued to finance residences
located in the Gulf Opportunity Zone. For example, the first-
time homebuyer rule is waived and the income and purchase price
rules are relaxed for residences financed in the GO Zone, the
Rita GO Zone, or the Wilma GO Zone. In addition, the Code
increases from $15,000 to $150,000 the amount of a qualified
home-improvement loan with respect to residences located in the
specified disaster areas.
Also, a qualified GO Zone repair or reconstruction loan is
treated as a qualified rehabilitation loan for purposes of the
qualified mortgage bond rules. Thus, such loans financed with
the proceeds of qualified mortgage bonds and Gulf Opportunity
Zone Bonds may be used to acquire or replace existing
mortgages, without regard to the existing walls or 20 year rule
under present law. A qualified GO Zone repair or reconstruction
loan is any loan used to repair damage caused by Hurricane
Katrina, Hurricane Rita, or Hurricane Wilma to a building
located in the GO Zones (or reconstruction of such building in
the case of damage constituting destruction) if the
expenditures for such repair or reconstruction are 25 percent
or more of the mortgagor's adjusted basis in the residence. For
these purposes, the mortgagor's adjusted basis is determined as
of the later of (1) the completion of the repair or
reconstruction or (2) the date on which the mortgagor acquires
the residence.
Gulf Opportunity Zone Bonds must be issued before January
1, 2011.
Explanation of Provision
The provision extends authority to issue Gulf Opportunity
Zone Bonds for one year (through December 31, 2011).
Effective Date
The provision is effective on the date of enactment.
5. Bonus depreciation deduction applicable to specified Gulf
Opportunity Zone extension property (sec. 765 of the Act and
sec. 1400N(d)(6) of the Code)
Present Law
In general
An additional first-year depreciation deduction is allowed
equal to 50 percent of the adjusted basis of qualified property
placed in service during 2008, 2009, and 2010 (2009, 2010, and
2011 for certain longer-lived and transportation
property).\1848\ The additional first-year depreciation
deduction is allowed for both regular tax and alternative
minimum tax purposes, but is not allowed for purposes of
computing earnings and profits. The basis of the property and
the depreciation allowances in the year of purchase and later
years are appropriately adjusted to reflect the additional
first-year depreciation deduction. In addition, there are no
adjustments to the allowable amount of depreciation for
purposes of computing a taxpayer's alternative minimum taxable
income with respect to property to which the provision applies.
The amount of the additional first-year depreciation deduction
is not affected by a short taxable year. The taxpayer may elect
out of additional first-year depreciation for any class of
property for any taxable year.
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\1848\ Sec. 168(k). The additional first-year depreciation
deduction is subject to the general rules regarding whether an item
must be capitalized under section 263 or section 263A.
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Property qualifying for the additional first-year
depreciation deduction must meet all of the following
requirements. First, the property must be (1) property to which
MACRS applies with an applicable recovery period of 20 years or
less; (2) water utility property (as defined in section
168(e)(5)); (3) computer software other than computer software
covered by section 197; or (4) qualified leasehold improvement
property (as defined in section 168(k)(3)).\1849\ Second, the
original use \1850\ of the property must commence with the
taxpayer after December 31, 2007.\1851\ Third, the taxpayer
must acquire the property within the applicable time period.
Finally, the property must be placed in service after December
31, 2007, and before January 1, 2011. An extension of the
placed in service date of one year (i.e., to January 1, 2012)
is provided for certain property with a recovery period of 10
years or longer and certain transportation property.\1852\
Transportation property is defined as tangible personal
property used in the trade or business of transporting persons
or property.
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\1849\ The additional first-year depreciation deduction is not
available for any property that is required to be depreciated under the
alternative depreciation system of MACRS. The additional first-year
depreciation deduction is also not available for qualified New York
Liberty Zone leasehold improvement property as defined in section
1400L(c)(2).
\1850\ The term ``original use'' means the first use to which the
property is put, whether or not such use corresponds to the use of such
property by the taxpayer.
If in the normal course of its business a taxpayer sells fractional
interests in property to unrelated third parties, then the original use
of such property begins with the first user of each fractional interest
(i.e., each fractional owner is considered the original user of its
proportionate share of the property).
\1851\ A special rule applies in the case of certain leased
property. In the case of any property that is originally placed in
service by a person and that is sold to the taxpayer and leased back to
such person by the taxpayer within three months after the date that the
property was placed in service, the property would be treated as
originally placed in service by the taxpayer not earlier than the date
that the property is used under the leaseback.
If property is originally placed in service by a lessor, such
property is sold within three months after the date that the property
was placed in service, and the user of such property does not change,
then the property is treated as originally placed in service by the
taxpayer not earlier than the date of such sale.
\1852\ Property qualifying for the extended placed in service date
must have an estimated production period exceeding one year and a cost
exceeding $1 million.
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The applicable time period for acquired property is (1)
after December 31, 2007, and before January 1, 2011, but only
if no binding written contract for the acquisition is in effect
before January 1, 2008, or (2) pursuant to a binding written
contract which was entered into after December 31, 2007, and
before January 1, 2011.\1853\ With respect to property that is
manufactured, constructed, or produced by the taxpayer for use
by the taxpayer, the taxpayer must begin the manufacture,
construction, or production of the property after December 31,
2007, and before January 1, 2011. Property that is
manufactured, constructed, or produced for the taxpayer by
another person under a contract that is entered into prior to
the manufacture, construction, or production of the property is
considered to be manufactured, constructed, or produced by the
taxpayer. For property eligible for the extended placed in
service date, a special rule limits the amount of costs
eligible for the additional first-year depreciation. With
respect to such property, only the portion of the basis that is
properly attributable to the costs incurred before January 1,
2011 (``progress expenditures'') is eligible for the additional
first-year depreciation.\1854\
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\1853\ Property does not fail to qualify for the additional first-
year depreciation merely because a binding written contract to acquire
a component of the property is in effect prior to January 1, 2008.
\1854\ For purposes of determining the amount of eligible progress
expenditures, it is intended that rules similar to section 46(d)(3) as
in effect prior to the Tax Reform Act of 1986 apply.
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Gulf Opportunity Zone Additional Depreciation
Present law provides an additional first-year depreciation
deduction equal to 50 percent of the adjusted basis of
specified qualified Gulf Opportunity Zone extension property.
To qualify, property generally must be placed in service on or
before December 31, 2010. Specified Gulf Opportunity Zone
extension property is defined as property substantially all the
use of which is in one or more specified portions of the Gulf
Opportunity Zone and which is either: (1) nonresidential real
property or residential rental property which is placed in
service by the taxpayer on or before December 31, 2010, or (2)
in the case of a taxpayer who places in service a building
described in (1), property described in section
168(k)(2)(A)(i),\1855\ if substantially all the use of such
property is in such building and such property is placed in
service within 90 days of the date the building is placed in
service. However, in the case of nonresidential real property
or residential rental property, only the adjusted basis of such
property attributable to manufacture, construction, or
production before January 1, 2010 is eligible for the
additional first-year depreciation.
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\1855\ Generally, property described in section 168(k)(2)(A)(i) is
(1) property to which the general rules of the Modified Accelerated
Cost Recovery System (``MACRS'') apply with an applicable recovery
period of 20 years or less, (2) computer software other than computer
software covered by section 197, (3) water utility property (as defined
in section 168(e)(5)), or (4) certain leasehold improvement property.
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The specified portions of the Gulf Opportunity Zone are
defined as those portions of the Gulf Opportunity Zone which
are in a county or parish which is identified by the Secretary
of the Treasury (or his delegate) as being a county or parish
in which hurricanes occurring in 2005 damaged (in the
aggregate) more than 60 percent of the housing units in such
county or parish which were occupied (determined according to
the 2000 Census).
Explanation of Provision
The provision extends for one year through December 31,
2011, the date by which specified Gulf Opportunity Zone
extension property must be placed in service to be eligible for
the additional first-year depreciation deduction. In the case
of nonresidential real property or residential rental property,
the adjusted basis of such property attributable to
manufacture, construction, or production before January 1, 2012
is eligible for the additional first-year depreciation.
Effective Date
The provision applies to property placed in service after
December 31, 2009.
PART SEVENTEEN: REGULATED INVESTMENT COMPANY MODERNIZATION ACT OF 2010
(PUBLIC LAW 111-325)\1856\
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\1856\ H.R. 4337. The House passed H.R. 4337 on September 28, 2010.
The Senate passed the bill with an amendment on December 8, 2010. The
House agreed to the Senate amendment on December 15, 2010. The
President signed the bill on December 22, 2010. For a technical
explanation of the bill prepared by the staff of the Joint Committee on
Taxation, see Technical Explanation of H.R. 4337, ``The Regulated
Investment Company Modernization Act of 2010,'' For Consideration on
the Floor of the House of Representatives (JCX-49-10), September 28,
2010.
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I. OVERVIEW OF REGULATED INVESTMENT COMPANIES
In general, a regulated investment company (``RIC'') is an
electing domestic corporation that either meets (or is excepted
from) certain registration requirements under the Investment
Company Act of 1940,\1857\ that derives at least 90 percent of
its ordinary income from specified sources considered passive
investment income,\1858\ that has a portfolio of investments
that meet certain diversification requirements,\1859\ and meets
certain other requirements.\1860\
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\1857\ Secs. 851(a) and (b)(1).
\1858\ Sec. 851(b)(2).
\1859\ Sec. 851(b)(3).
\1860\ Secs. 851 and 852.
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Many RICs are ``open-end'' companies (mutual funds), which
have a continuously changing number of shares that are bought
from, and redeemed by, the company and are not otherwise
available for purchase or sale in the secondary market.
Shareholders of open-end RICs generally have the right to have
the company redeem shares at ``net asset value.'' Other RICs
are ``closed-end'' companies, which have a fixed number of
shares that are normally traded on national securities
exchanges or in the over-the-counter market and generally are
not redeemable upon the demand of the shareholder.
In the case of a RIC that distributes at least 90 percent
of its net ordinary income and net tax-exempt interest to its
shareholders, a deduction for dividends paid is allowed to the
RIC in computing its tax.\1861\ Thus, no corporate income tax
is imposed on income distributed to its shareholders. Dividends
of a RIC generally are includible in the income of the
shareholders; a RIC can pass through the character of (1) its
long-term capital gain income, by paying ``capital gain
dividends'' and (2) in certain cases, tax-exempt interest, by
paying ``exempt-interest dividends.'' A RIC may also pass
through certain foreign tax credits and credits on tax-credit
bonds, as well as the character of certain other income
received by the RIC.
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\1861\ Sec. 852(a) and (b).
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II. CAPITAL LOSS CARRYOVERS OF RICS
A. Capital Loss Carryovers of RICs (sec. 101 of the Act and sec.
1212(a) of the Code)
Present Law
Limitation on capital losses
Losses from the sale or exchange of capital assets are
allowed only to the extent of the taxpayer's gains from the
sale or exchange of capital assets plus, in the case of a
taxpayer other than a corporation, $3,000.\1862\
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\1862\ Sec. 1211.
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Carryover of net capital losses
RICs
If a RIC has a net capital loss (i.e., losses from the sale
or exchanges of capital assets in excess of gains from sales or
exchanges of capital assets) for any taxable year, the amount
of the net capital loss is a capital loss carryover to each of
the eight taxable years following the loss year, and is treated
as a short-term capital loss in each of those years.\1863\ The
entire amount of a net capital loss is carried over to the
first taxable year succeeding the loss year and the portion of
the loss which may be carried to each of the next seven years
is the excess of the net capital loss over the net capital gain
income\1864\ (determined without regard to any net capital loss
for the loss year or taxable year thereafter) for each of the
prior taxable year to which the loss may be carried.
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\1863\ Sec. 1212(a)(1)(C)(i).
\1864\ Capital gain net income is the excess of gains from the sale
or exchange of capital assets over losses from such sales or exchanges.
Sec. 1222(9).
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Corporations other than RICs
In the case of a corporation other than a RIC, a net
capital loss generally is treated as a capital loss carryback
to each of the three taxable years preceding the loss year and
a capital loss carryover to each of the five taxable years
following the loss year and is treated as a short-term capital
loss in each of those years.\1865\ The carryover amount is
reduced in a manner similar to that described above applicable
to RICs. A net capital loss may not be carried back to a
taxable year for which a corporation is a RIC.\1866\
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\1865\ Sec. 1212(a)(1)(A).
\1866\ Sec. 1212(a)(3)(A).
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Individual taxpayers
If a taxpayer other than a corporation has a net capital
loss for any taxable year, the excess (if any) of the net
short-term capital loss over the net long-term capital gain is
treated as a short-term capital loss in the succeeding taxable
year, and the excess (if any) of the net long-term capital loss
over the net short-term capital gain is treated as a long-term
capital loss in the succeeding taxable year.\1867\ There is no
limitation on the number of taxable years that a net capital
loss may be carried over.
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\1867\ Sec. 1212(b). Adjustments are made to take account of the
$3,000 amount allowed against ordinary income.
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Explanation of Provision
In general
The Act provides capital loss carryover treatment for RICs
similar to the present-law treatment of net capital loss
carryovers applicable to individuals. Under the Act, if a RIC
has a net capital loss for a taxable year, the excess (if any)
of the net short-term capital loss over the net long-term
capital gain is treated as a short-term capital loss arising on
the first day of the next taxable year, and the excess (if any)
of the net long-term capital loss over the net short-term
capital gain is treated as a long-term capital loss arising on
the first day of the next taxable year.\1868\ The number of
taxable years that a net capital loss of a RIC may be carried
over under the provision is not limited.
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\1868\ For earnings and profits treatment of a RIC's net capital
loss, see section 302 of the Act.
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Coordination with present-law carryovers
The Act provides for the treatment of net capital loss
carryovers under the present law rules to taxable years of a
RIC beginning after the date of enactment (December 22, 2010).
These rules apply to (1) capital loss carryovers from taxable
years beginning on or before the date of enactment (December
22, 2010) and (2) capital loss carryovers from other taxable
years prior to the taxable year the corporation became a RIC.
Amounts treated as a long-term or short-term capital loss
arising on the first day of the next taxable year under the
provision are determined without regard to amounts treated as a
short-term capital loss under the present-law carryover rule.
In determining the amount by which a present-law carryover is
reduced by capital gain net income for a prior taxable year,
any capital loss treated as arising on the first day of the
prior taxable year under the provision is taken into account in
determining capital gain net income for the prior year.
The following example illustrates these rules:
Assume a calendar year RIC has no net capital loss for any
taxable year beginning before 2010, a net capital loss of $2
million for 2010; a net capital loss of $1 million for 2011,
all of which is a long-term capital loss; and $600,000 gain
from the sale of a capital asset held less than one year on
July 15, 2012.
For 2012, the RIC has (1) $600,000 short-term capital gain
from the July 15 sale, (2) $2 million carryover from 2010 which
is treated as a short-term capital loss,\1869\ and (3) $1
million long-term capital loss from 2011 treated as arising on
January 1, 2012. The capital loss allowed in 2012 is limited to
$600,000, the amount of capital gain for the taxable year.
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\1869\ The present-law treatment of net capital losses arising in
taxable years beginning before the date of enactment (December 22,
2010) continues to apply.
---------------------------------------------------------------------------
For purposes of determining the amount of the $2 million
net capital loss that may be carried over from 2010 to 2013,
there is no capital gain net income for 2012 because the
$600,000 gain does not exceed the $1 million long-term loss
treated as arising on January 1, 2012; therefore the entire
2010 net capital loss is carried over to 2013 and treated as a
short-term capital loss in 2013. $400,000 (the excess of the $1
million long-term capital loss treated as arising on January 1,
2012, over the $600,000 short-term capital gain for 2012) is
treated as a long-term capital loss on January 1, 2013. The
2010 net capital loss may continue to be carried over through
2018, subject to reduction by capital gain net income; no
limitation applies on the number of taxable years that the 2011
net capital loss may be carried over.
Effective Date
The provision generally applies to net capital losses for
taxable years beginning after the date of enactment (December
22, 2010). The provision relating to the treatment of present-
law carryovers applies to taxable years beginning after the
date of enactment (December 22, 2010).
III. MODIFICATION OF GROSS INCOME AND ASSET TESTS OF RICS
A. Savings Provisions for Failures of RICs to Satisfy Gross Income and
Asset Tests (sec. 201 of the Act and sec. 851(d) and (i) of the Code)
Present Law
Asset tests
In general, at the close of each quarter of the taxable
year, at least 50 percent of the value of a RIC's total assets
must be represented by (i) cash and cash items (including
receivables), Government securities and securities of other
RICs, and (ii) other securities, generally limited in respect
of any one issuer to an amount not greater in value than five
percent of the value of the total assets of the RIC and to not
more than 10 percent of the outstanding voting securities of
such issuer.\1870\
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\1870\ Sec. 851(b)(3)(A).
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In addition, at the close of each quarter of the taxable
year, not more than 25 percent of the value of a RIC's total
assets may be invested in (i) the securities (other than
Government securities or the securities of other RICs) of any
one issuer, (ii) the securities (other than the securities of
other RICs) of two or more issuers which the taxpayer controls
and which are determined, under regulations prescribed by the
Secretary, to be engaged in the same or similar trades or
businesses or related trades or businesses, or (iii) the
securities of one or more qualified publicly traded
partnerships (as defined in section 851(h)).\1871\
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\1871\ Sec. 851(b)(3)(B).
---------------------------------------------------------------------------
A RIC meeting both asset tests at the close of any quarter
will not lose its status as a RIC because of a discrepancy
during a subsequent quarter between the value of its various
investments and the asset test requirements, unless such
discrepancy exists immediately after the acquisition of any
security or other property and is wholly or partly the result
of such acquisition.\1872\ This rule protects a RIC against
inadvertent failures of the asset tests that may be caused by
fluctuations in the relative values of its assets. A second
rule (the ``30-day rule'') gives a RIC 30 days following the
end of a quarter in which it fails an asset test to cure the
failure, if the failure is by reason of a discrepancy, between
the value of its various investments and the asset test
requirements, that exists immediately after the acquisition of
any security or other property which is wholly or partly the
result of such acquisition during such quarter.\1873\ Failure
of any asset test (except where the failure is cured pursuant
to the 30-day rule) will prevent a corporation from qualifying
as a RIC.
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\1872\ Sec. 851(d).
\1873\ Ibid.
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Gross income test
A RIC must derive 90 percent of its gross income for a
taxable year from certain types of income.\1874\ These types of
income (``qualifying income'') are (1) dividends, interest,
payments with respect to securities loans (as defined in
section 512(a)(5)), and gains from the sale or other
disposition of stock or securities (as defined in section
2(a)(36) of the Investment Company Act of 1940, as amended)
\1875\ or foreign currencies, or other income (including but
not limited to gains from options, futures or forward
contracts) derived with respect to the business of investing in
such stock, securities, or currencies, and (2) net income
derived from an interest in a qualified publicly traded
partnership.\1876\
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\1874\ Sec. 851(b)(2).
\1875\ Section 2(a)(36) of the Investment Company Act of 1940
defines a ``security'' as ``any note, stock, treasury stock, security
future, bond, debenture, evidence of indebtedness, certificate of
interest or participation in any profit-sharing agreement, collateral-
trust certificate, preorganization certificate or subscription,
transferable share, investment contract, voting-trust certificate,
certificate of deposit for a security, fractional undivided interest in
oil, gas, or other mineral rights, any put, call, straddle, option, or
privilege on any security (including a certificate of deposit) or on
any group or index of securities (including any interest therein or
based on the value thereof), or any put, call, straddle, option, or
privilege entered into on a national securities exchange relating to
foreign currency, or, in general, any interest or instrument commonly
known as a ``security,'' or any certificate of interest or
participation in, temporary or interim certificate for, receipt for,
guarantee of, or warrant or right to subscribe to or purchase, any of
the foregoing.''
\1876\ A ``qualified publicly traded partnership'' means a publicly
traded partnership (within the meaning of section 7704(b)), other than
a publicly traded partnership whose gross income is qualifying income
(other than income of another publicly traded partnership). Sec.
851(h).
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Thus, a RIC meets the gross income test provided its gross
income that is not qualifying income does not exceed one-ninth
of the portion of its gross income that is qualifying income.
For example, a RIC with $90x of gross income from qualifying
income can have up to $10x of gross income from other sources
without failing the test. Failure to meet the gross income test
for a taxable year prevents a corporation from qualifying as a
RIC for that year.
Explanation of Provision
Saving provision for asset test failures
The Act provides a special rule for de minimis asset test
failures and a mechanism by which a RIC can cure other asset
test failures and pay a penalty tax. The rule for de minimis
asset test failures applies if a RIC fails to meet one of the
asset tests in section 851(b)(3) due to the ownership of assets
the total value of which does not exceed the lesser of (i) one
percent of the total value of the RIC's assets at the end of
the quarter for which the assets are valued, and (ii) $10
million. Where the de minimis rule applies, the RIC shall
nevertheless be considered to have satisfied the asset tests
if, within six months of the last day of the quarter in which
the RIC identifies that it failed the asset test (or such other
time period provided by the Secretary) the RIC: (i) disposes of
assets in order to meet the requirements of the asset tests, or
(ii) the RIC otherwise meets the requirements of the asset
tests.
In the case of other asset test failures, a RIC shall
nevertheless be considered to have met the asset tests if: (i)
the RIC sets forth in a schedule filed in the manner provided
by the Secretary a description of each asset that causes the
RIC to fail to satisfy the asset test; (ii) the failure to meet
the asset tests is due to reasonable cause and not due to
willful neglect; and (iii) within six months of the last day of
the quarter in which the RIC identifies that it failed the
asset test (or such other time period provided by the
Secretary) the RIC (I) disposes of the assets which caused the
asset test failure, or (II) otherwise meets the requirements of
the asset tests. In cases of asset test failures other than de
minimis failures, the provision imposes a tax in an amount
equal to the greater of (i) $50,000 or (ii) the amount
determined (pursuant to regulations promulgated by the
Secretary) by multiplying the highest rate of tax specified in
section 11 (currently 35 percent) by the net income generated
during the period of asset test failure by the assets that
caused the RIC to fail the asset test. For purposes of subtitle
F, the tax imposed for an asset test failure is treated as
excise tax with respect to which the deficiency procedures
apply.
These provisions added by the Act do not apply to any
quarter in which a corporation's status as a RIC is preserved
under the provision of present law.
Saving provision for gross income test failures
The Act provides that a corporation that fails to meet the
gross income test shall nevertheless be considered to have
satisfied the test if, following the corporation's failure to
meet the test for the taxable year, the corporation (i) sets
forth in a schedule, filed in the manner provided by the
Secretary, a description of each item of its gross income and
(ii) the failure to meet the gross income test is due to
reasonable cause and is not due to willful neglect.
In addition, under the Act, a tax is imposed on any RIC
that fails to meet the gross income test equal to the amount by
which the RIC's gross income from sources which are not
qualifying income exceeds one-ninth of its gross income from
sources which are qualifying income. For example, if a RIC has
$90x of gross income of sources which are qualifying income and
$15x of gross income from other sources, a tax of $5x is
imposed. The tax is the amount by which the $15x gross income
from sources which are not qualifying income exceeds the $10x
permitted under present law.
Calculation of investment company taxable income
Taxes imposed for failure of the asset or income tests are
deductible for purposes of calculating investment company
taxable income.
Effective Date
The provision applies to taxable years with respect to
which the due date (determined with regard to extensions) of
the return of tax is after the date of enactment (December 22,
2010).
IV. MODIFICATION OF RULES RELATED TO DIVIDENDS AND OTHER DISTRIBUTIONS
A. Modification of Dividend Designation Requirements and Allocation
Rules for RICs (sec. 301 of the Act and sec. 852(b) of the Code)
Present Law
Capital gain dividends
In general
In general, a capital gain dividend paid by a RIC is
treated by the RIC's shareholders as long-term capital
gain.\1877\ In addition, a RIC is allowed a dividend paid
deduction for its capital gain dividends in computing the tax
imposed on its net capital gain.\1878\
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\1877\ Sec. 852(b)(3)(B). This provision applies only with respect
to RICs which meet the requirements of section 852(a) for the taxable
year.
\1878\ Sec. 852(b)(3)(A).
---------------------------------------------------------------------------
A capital gain dividend is any dividend, or part thereof,
which is designated by the RIC as a capital gain dividend in a
written notice mailed to the RIC's shareholders not later than
60 days after the close of the RIC's taxable year, \1879\
except that in the event a RIC designates an aggregate amount
of capital gain dividends for a taxable year that exceeds the
RIC's net capital gain, the portion of each distribution that
is a capital gain dividend is only that proportion of the
designated amount that the RIC's net capital gain bears to the
total amount so designated by the RIC. For example, assume a
RIC makes quarterly distributions of $30, designated entirely
as capital gain dividends. If the RIC has only $100 of net
capital gain for its taxable year, only $25 of each quarterly
distribution is a capital gain dividend (i.e., $30
($100/$120) = $25).
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\1879\ Sec. 852(b)(3)(C). If there is an increase in the amount by
which a RIC's net capital gain exceeds the deduction for dividends paid
(determined with reference to capital gain dividends only) as a result
of a ``determination,'' the RIC has 120 days after the date of the
determination to make a designation with respect to such increase. A
determination is defined in section 860(e) as: (1) a decision by the
Tax Court, or a judgment, decree, or other order by any court of
competent jurisdiction, which has become final; (2) a closing agreement
made under section 7121; (3) under regulations prescribed by the
Secretary, an agreement signed by the Secretary and by, or on behalf
of, the qualified investment entity relating to the liability of such
entity for tax; or (4) a statement by the taxpayer attached to its
amendment or supplement to a return of tax for the relevant tax year.
See Rev. Proc. 2009-28, 2009-20 I.R.B. 1011.
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Other designated items
Exempt-interest dividends
A RIC may designate any portion of a dividend (other than a
capital gain dividend) as an ``exempt-interest dividend,'' if
at least half of the RICs assets consist of tax-exempt State
and local bonds. The shareholder treats an exempt-interest
dividend as an item of tax-exempt interest.\1880\
---------------------------------------------------------------------------
\1880\ Sec. 852(b)(5)(B).
---------------------------------------------------------------------------
Exempt-interest dividends are defined as any dividend, or
part thereof, which is designated by the RIC as an exempt
interest dividend in a written notice mailed to the RIC's
shareholders not later than 60 days after the close of the
RIC's taxable year,\1881\ except that in the event a RIC
designates an aggregate amount of exempt-interest dividends for
a taxable year that exceeds the RIC's tax exempt interest (net
of related deductions disallowed under sections 265 and
171(a)(2) by reason of the interest being tax exempt), the
portion of each distribution that will be an exempt interest
dividend is only that proportion of the designated amount that
net exempt interest bears to the amount so designated.
---------------------------------------------------------------------------
\1881\ Sec. 852(b)(5)(A).
---------------------------------------------------------------------------
Foreign tax credits; credits for tax-credit bonds;
dividends received by RIC
RICs may pass through to shareholders certain foreign tax
credits, credits for tax-credit bonds, and dividends received
by the RIC that qualify, in the case of corporate shareholders,
for the dividends received deduction, or, in the case of
individual shareholders, the capital gain rates in effect for
dividends received in taxable years beginning before January 1,
2013. In each case the qualifying amount must be designated in
a written notice mailed to its shareholders not later than 60
days after the close of the RIC's taxable year.
Dividends paid to certain foreign persons.
Certain dividends paid to nonresident alien individuals and
foreign corporations in taxable years of the RIC beginning
before January 1, 2012, are treated as interest or short term-
capital gain.\1882\ These dividends must be designated in a
written notice mailed to its shareholders not later than 60
days after the close of the RIC's taxable year. Rules similar
to the rules described above relating to capital gain dividends
and exempt-interest dividends apply to designated amounts in
excess of the maximum amounts permitted to be so designated.
---------------------------------------------------------------------------
\1882\ Secs. 871(k) and 881(e).
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Explanation of Provision
Capital gain dividends
Reporting requirements
The provision replaces the present-law designation
requirement for a capital gain dividend with a requirement that
a capital gain dividend be reported by the RIC in written
statements furnished to its shareholders. A written statement
furnishing this information to a shareholder may be a Form
1099.
Allocation by fiscal year RICs
The provision provides a special rule allocating the excess
reported amount \1883\ for taxable year RICs in order to reduce
the need for RICs to amend Form 1099s and shareholders to file
amended income tax returns. This special allocation rule
applies to a taxable year of a RIC which includes more than one
calendar year if the RIC's post-December reported amount \1884\
exceeds the excess reported amount for the taxable year.
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\1883\ The ``excess reported amount'' is the excess of the
aggregate amount reported as capital gain dividends for the taxable
year over the RIC's net capital gain for the taxable year.
\1884\ The ``post-December reported amount'' is the aggregate
amount reported with respect to items arising after December 31 of the
RIC's taxable year.
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For example, assume a RIC for its taxable year ending June
30, 2012, makes quarterly distributions of $30,000 on September
30, 2011, December 31, 2011, March 31, 2012, and June 30, 2012,
and reports the amounts as capital gain dividends. If the RIC
has only $100,000 net capital gain for its taxable year, the
excess reported amount is $20,000. Because the post-December
reported amount ($60,000) exceeds the excess reported amount
($20,000), the excess reported amount is allocated among the
post-December reported capital gain dividends in proportion to
the amount of each such distribution reported as a capital gain
dividend. Thus, one-half of the excess reported amount (i.e.,
1/2 of $20,000 = $10,000) is allocated to each post-December
distribution, reducing the amount of each post-December
distribution treated as a capital gain dividend from $30,000 to
$20,000. Because no excess reported amount is allocated to
either of the quarterly distributions made on or before
December 31, 2011, the entire $30,000 of each of the
distributions retains its character as a capital gain dividend.
If, in the above example, the RIC has only $40,000 net
capital gain for its taxable year, the excess reported amount
is $80,000. Because the post-December reported amount ($60,000)
does not exceed the excess reported amount ($80,000), the
excess reported amount is allocated among all the reported
capital gain dividends for the taxable year in proportion to
the amount of each distribution reported as a capital gain
dividend. Thus, one-fourth of the excess reported amount (i.e.,
1/4 of $80,000 = $20,000) is allocated to each distribution,
reducing the amount of each distribution treated as a capital
gain dividend from $30,000 to $10,000.
Other designated items
The provision replaces the other designation requirements
described under present law with a requirement that amounts be
reported by the RIC in written statements furnished to its
shareholders.\1885\
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\1885\ The Act does not change the method of designation of
undistributed capital gain taken into account by shareholders under
section 852(b)(3)(D)(i).
---------------------------------------------------------------------------
The provision also provides allocation rules for excess
reported amounts of exempt-interest dividends and certain
dividends paid to nonresident alien individuals and foreign
corporations by fiscal year RICs similar to the rule described
above applicable capital gain dividends.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (December 22, 2010).\1886\
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\1886\ Each amendment to a provision relating to qualified
dividends of individual shareholders will sunset when the provision to
which the amendment was made sunsets pursuant to section 303 of the
Jobs and Growth Tax Relief Reconciliation Act. Under present law, these
provisions sunset in taxable years beginning after December 31, 2012.
---------------------------------------------------------------------------
B. Earnings and Profits of RICs (sec. 302 of the Act and sec. 852(c)(1)
of the Code)
Present Law
The current earnings and profits of a RIC are not reduced
by any amount that is not allowable as a deduction in computing
taxable income for the taxable year.\1887\
---------------------------------------------------------------------------
\1887\ Sec. 852(c)(1). The provision applies to a RIC without
regard to whether it meets the requirements of section 852(a) for the
taxable year.
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Application to net capital loss
Thus, under the general rule, the current earnings and
profits of a RIC are not reduced by a net capital loss either
in the taxable year the loss arose or any taxable year to which
the loss is carried.\1888\ The accumulated earnings and profits
are reduced in the taxable year the net capital loss arose.
---------------------------------------------------------------------------
\1888\ See explanation of section 101 of the Act for the treatment
of carryovers of a net capital loss under present law and as amended by
the Act.
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Application to exempt-interest expenses
Because the general rule denies deductions in computing
current earnings and profits for amounts disallowed for
expenses, interest, and amortizable bond premium relating to
tax-exempt interest,\1889\ the current earnings and profits of
a RIC with tax-exempt interest may exceed the amount which the
RIC can distribute as exempt-interest dividends.\1890\ Thus,
distributions by a RIC with only tax-exempt interest income may
result in taxable dividends to its shareholders. For example,
assume a RIC has $1 million gross tax-exempt interest and
$10,000 expenses disallowed under section 265 (and no
accumulated earnings and profits and no other item of current
earnings and profits). If the RIC were to distribute $1 million
to its shareholders during its taxable year (which is $10,000
more than its economic income for the year), $990,000 may be
designated as exempt-interest dividends, and the remaining
$10,000 is taxable as ordinary dividends.
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\1889\ Secs. 171(a)(2) and 265.
\1890\ For a description of exempt-interest dividends, see
explanation of section 301 of the Act.
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Explanation of Provision
Net capital loss
The rules applicable to the taxable income treatment of a
net capital loss of a RIC apply for purposes of determining
earnings and profits (both current earnings and profits and
accumulated earnings and profits). Thus, a net capital loss for
a taxable year is not taken into account in determining
earnings and profits, but any capital loss treated as arising
on the first day of the next taxable year is taken into account
in determining earnings and profits for the next taxable year
(subject to the application of the net capital loss rule for
that year).
Exempt-interest expenses
The deductions disallowed in computing investment company
taxable income relating to tax-exempt interest are allowed in
computing current earnings and profits of a RIC.
In the example under present law, the provision reduces the
RIC's current earnings and profits from $1 million to $990,000
and if the RIC were to distribute $1 million to its
shareholders during the taxable year, $990,000 may be reported
as exempt-interest dividends and the remaining $10,000 is
treated as a return of capital (or gain to the shareholder).
Effective Date
The provision applies to taxable years beginning after the
date of enactment (December 22, 2010).
C. Pass-thru of Exempt-interest Dividends and Foreign Tax Credits in
Fund of Funds Structures (sec. 303 of the Act and sec. 852(g) of the
Code)
Present Law
In a so-called ``fund of funds'' structure, one RIC
(``upper-tier fund'') holds stock in one or more other RICs
(``lower-tier funds''). Generally, the character of certain
types of income and gain, such as capital gain and qualified
dividends, of a lower-tier fund pass through from the lower-
tier RIC to the upper-tier RIC and then pass through to the
shareholders of the upper-tier RIC.
Exempt-interest dividends may be paid by a RIC, and foreign
tax credits may be passed through a RIC, only if at least 50
percent of the value of the total assets of a RIC consist of
tax-exempt obligations (in the case of exempt-interest
dividends) or more than 50 percent of the value of the total
assets consist of stock or securities in foreign corporations
(in the case of the foreign tax credits). Because an upper-tier
RIC holds stock in other RICs, it does not meet the 50-percent
asset requirements. As a result, it may not pass through these
items to its shareholders, even if the items were passed
through to it by a lower tier RIC meeting these requirements.
Explanation of Provision
Under the provision, in the case of a qualified fund of
funds, the RIC may (1) pay exempt-interest dividends without
regard to the requirement that at least 50 percent of the value
of its total assets consist of tax-exempt State and local bonds
and (2) elect to allow its shareholders the foreign tax credit
without regard to the requirement that more than 50 percent of
the value of its total assets consist of stock or securities in
foreign corporations.
For this purpose, a qualified fund of funds means a RIC at
least 50 percent of the value of the total assets of which (at
the close of each quarter of the taxable year) is represented
by interests in other RICs.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (December 22, 2010).
D. Modification of Rules for Spillover Dividends of RICs (sec. 304 of
the Act and sec. 855 of the Code)
Present Law
A RIC may elect to have certain dividends paid after the
close of a taxable year considered as having been paid during
that year for purposes of the RIC distribution requirements and
determining the taxable income of the RIC.\1891\ These
dividends are referred to as ``spillover dividends.'' In order
to qualify as a spillover dividend, the dividend must be
declared prior to the time prescribed for filing the tax return
for the taxable year (determined with regard to extensions) and
the distribution must be made in the 12-month period following
the close of the taxable year and not later than the date of
the first dividend payment made after the declaration.
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\1891\ Sec. 855.
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Explanation of Provision
The time for declaring a spillover dividend is the later of
the 15th day of the 9th month following the close of the
taxable year or the extended due date for filing the return.
Also, the requirement that the distribution be made not later
than the date of the first dividend payment after the
declaration is changed. The provision provides that the
distribution must be made not later than the date of the first
dividend payment of the same type of dividend (for example, an
ordinary income dividend or a capital gain dividend) made after
the declaration. For this purpose, a dividend attributable to
short-term capital gain with respect to which a notice is
required under the Investment Company Act of 1940 shall be
treated as the same type of dividend as a capital gain
dividend.\1892\
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\1892\ See section 19 of the Investment Company Act of 1940, as
amended, for rules requiring notice to shareholders identifying source
of distribution.
---------------------------------------------------------------------------
Effective Date
The provision applies to distributions in taxable years
beginning after the date of enactment (December 22, 2010).
E. Return of Capital Distributions of RICs (sec. 305 of the Act and
sec. 316 of the Code)
Present Law
A dividend is a distribution of property by a corporation
(1) out of its earnings and profits accumulated after February
28, 1913 (``accumulated earnings and profits''), and (2) out of
its earnings and profits of the taxable year (``current
earnings and profits'').\1893\ The current earnings and profits
are prorated among current year distributions.\1894\
Distributions of property which are not a dividend reduce the
adjusted basis of a shareholder's stock and are treated as gain
to the extent in excess of the stock's adjusted basis.\1895\
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\1893\ Sec. 316.
\1894\ Treas. Reg. sec. 1.316-2(b).
\1895\ Sec. 301(c).
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For example, assume a RIC, with a taxable year ending June
30 and with no accumulated earnings and profits, has current
earnings and profits of $4 million and distributes $3 million
to its shareholders on September 15 and $3 million on March 15.
Under present law, $2 million of each distribution is out of
current earnings and profits and is treated as dividend income
to its shareholders. The remaining amounts are applied against
the adjusted basis of each shareholder's stock or taken into
account as gain by the shareholders.
Explanation of Provision
In the case of a non-calendar year RIC which makes
distributions of property with respect to the taxable year in
an amount in excess of the current and accumulated earnings and
profits, the current earnings and profits are allocated first
to distributions made on or before December 31 of the taxable
year.
Thus, under the provision, in the above example, all $3
million of the distribution made on September 15 is out of
current earnings and profits and thus treated as dividend
income. Only $1 million of the distribution made on March 15 is
out of current earnings and profits and treated as dividend
income. The remaining $2 million of the March 15 distribution
is applied against the adjusted basis of each shareholder's
stock or taken into account as gain by the shareholders.
In the case of a RIC with more than one class of stock, the
provision applies separately to each class of stock.\1896\
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\1896\ See Rev. Rul. 69-440.
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Effective Date
The provision applies to distributions made in taxable
years beginning after the date of enactment (December 22,
2010).
F. Distributions in Redemption of Stock of RICs (sec. 306 of the Act
and secs. 267 and 302 of the Code)
Present Law
Exchange treatment
The redemption of stock by a corporation is treated as an
exchange of stock if the redemption fits into one of four
categories of transactions.\1897\ If the redemption does not
fit into one of these categories, the redemption is treated as
a distribution of property. One of the four categories of
transactions is that the redemption ``is not essentially
equivalent to a dividend.'' \1898\ A redemption ``is not
essentially equivalent to a dividend'' if the redemption
results in a ``meaningful reduction in the shareholder's
proportionate ownership in the corporation.'' \1899\ Other
categories include a substantially disproportionate redemption,
a redemption that terminates the shareholder's interest in the
corporation, and a partial liquidation (if the redeemed
shareholder is not a corporation).\1900\
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\1897\ Sec. 302.
\1898\ Sec. 302(b)(1).
\1899\ United States v. Davis, 397 U.S. 301 (1970).
\1900\ Sec. 302(b)(2)-(4).
---------------------------------------------------------------------------
The Code provides no specific rule regarding the
application of the ``not essentially equivalent to a dividend''
test in the case of an open-end RIC whose shareholders ``sell''
their shares by having them redeemed by the issuing RIC and
where multiple redemptions by different shareholders may occur
daily.
Loss deferral
Any deduction in respect of a loss from the sale or
exchange of property between members of a controlled group of
corporations is deferred until the transfer of the property
outside the group.\1901\ In the case of a fund of funds, a
lower-tier fund may be required to redeem shares in an upper-
tier fund when the upper-tier fund shareholders demand
redemption of their shares. Because the upper-tier fund and
lower-tier fund may be members of the same controlled group of
corporations, any loss by the upper-tier fund on the
disposition of the lower-tier fund shares may be deferred.
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\1901\ Sec. 267(f).
---------------------------------------------------------------------------
Explanation of Provision
Exchange treatment
The Act provides that, except to the extent provided in
regulations, the redemption of stock of a publicly offered RIC
is treated as an exchange if the redemption is upon the demand
of the shareholder and the company issues only stock which is
redeemable upon the demand of the shareholder. A publicly
offered RIC is a RIC the shares of which are (1) continuously
offered pursuant to a public offering, (2) regularly traded on
an established securities market, or (3) held by no fewer than
500 persons at all times during the taxable year.
Loss disallowance
The Act provides that, except to the extent provided in
regulations, the loss deferral rule does not apply to any
redemption of stock of a RIC if the RIC issues only stock which
is redeemable upon the demand of the shareholder and the
redemption is upon the demand of a shareholder which is another
RIC.
Effective Date
The provision applies to distributions after the date of
enactment (December 22, 2010).
G. Repeal of Preferential Dividend Rule for Publicly Offered RICs (sec.
307 of the Act and sec. 562 of the Code)
Present Law
RICs are allowed a deduction for dividends paid to their
shareholders. In order to qualify for the deduction, a dividend
must not be a ``preferential dividend.'' \1902\ For this
purpose, a dividend is preferential unless it is distributed
pro rata to shareholders, with no preference to any share of
stock compared with other shares of the same class, and with no
preference to one class as compared with another except to the
extent the class is entitled to a preference. A distribution by
a RIC to a shareholder whose initial investment was $10 million
or more is not treated as preferential if the distribution is
increased to reflect reduced administrative cost of the RIC
with respect to the shareholder.
---------------------------------------------------------------------------
\1902\ Sec. 562(c).
---------------------------------------------------------------------------
Securities law, administered by the Securities Exchange
Commission, provides strict limits on the ability of RICs to
issue shares with preferences.\1903\
---------------------------------------------------------------------------
\1903\ See, for example, section 18 of the Investment Company Act
of 1940.
---------------------------------------------------------------------------
Explanation of Provision
The provision repeals the preferential dividend rule for
publicly offered RICs. For this purpose, a RIC is publicly
offered if its shares are (1) continuously offered pursuant to
a public offering, (2) regularly traded on an established
securities market, or (3) held by no fewer than 500 persons at
all times during the taxable year.
Effective Date
The provision applies to distributions in taxable years
beginning after the date of enactment (December 22, 2010).
H. Elective Deferral of Certain Late-Year Losses of RICs (sec. 308 of
the Act and sec. 852(b)(8) of the Code)
Present Law
Capital gains and losses
In general
In general, a RIC may pay a capital gain dividend to its
shareholders to the extent of the RIC's net capital gain for
the taxable year. The shareholders treat capital gain dividends
as long-term capital gain.\1904\
---------------------------------------------------------------------------
\1904\ See explanation of section 301 of the Act.
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Under present law, an excise tax is imposed on a RIC for a
calendar year equal to four percent of the excess (if any) of
the required distribution over the distributed amount. The
required distribution is the sum of 98 percent of the RIC's
ordinary income for the calendar year and 98 percent of the
capital gain net income for the one-year period ending October
31 of such calendar year. The distributed amount is the sum of
the deduction for dividends paid during the calendar year and
the amount on which a corporate income tax is imposed on the
RIC for taxable years ending during the calendar year.\1905\
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\1905\ Sec. 4982.
---------------------------------------------------------------------------
Deferral of net capital losses and long-term capital losses
Under present law, for purposes of determining the amount
of a net capital gain dividend, the amount of net capital gain
for a taxable year is determined without regard to any net
capital loss or net long-term capital loss attributable to
transactions after October 31 of the taxable year, and the
post-October net capital loss or net long term capital loss is
treated as arising on the first day of the RIC's next taxable
year.\1906\
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\1906\ Section 852(b)(3)(C). Certain RICs with taxable years ending
with the month of November or December are not subject to this rule.
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Present law provides that to the extent provided in
regulations, the above rules relating to post-October net
capital losses also apply for purposes of computing taxable
income of a RIC.\1907\ Regulations have been issued allowing
RICs to elect to defer all or part of any net capital loss (or
if there is no such net capital loss, any net long-term capital
loss) attributable to the portion of the taxable year after
October 31 to the first day of the succeeding taxable
year.\1908\
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\1907\ The last sentence of Sec. 852(b)(3)(C).
\1908\ Treas. Reg. 1.852-11.
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The following example illustrates the application of the
post-October capital loss rules.
Assume a RIC with a taxable year ending June 30, 2011,
recognizes a long-term capital gain of $1,000,000 on September
15, 2010. In order to avoid the excise tax, the RIC distributes
$980,000 on December 15, 2010, which it designates as a capital
gain dividend. On January 15, 2011, the RIC recognizes a
$600,000 long-term capital loss. The RIC has no other income or
loss during 2010 and 2011, and has no accumulated earnings and
profits.
Absent the post-October loss rule, the RIC would have a net
capital gain (and current earnings and profits) of only
$400,000 for the taxable year ending June 30, 2011. Only
$400,000 of the December 15, 2010, distribution would be a
capital gain dividend; the remaining $580,000 of the $980,000
distributed on December 15 would be a return of capital.
Because the ``distributed amount'' for excise tax purposes
takes into account only those distributions for which a
deduction for dividends paid is allowed, the RIC's distributed
amount for calendar year 2010 would be $400,000, which is less
than the distributed amount required to avoid the excise tax.
In addition, the shareholders may have improperly reported the
distribution as a capital gain dividend on the 2010 income tax
returns.
By ``pushing'' the post-October long-term capital loss to
July 1, 2011, in the above example the entire $980,000 paid on
December 15, 2010, is a capital gain dividend. The distribution
is fully deductible in computing the excise tax. No excise tax
is imposed for 2010 because the RIC has no undistributed
income.
Short-term capital losses not deferred
No special rule applies to short-term capital losses
arising after October 31 of the taxable year for purposes of
defining a capital gain dividend.
The following example illustrates the present-law treatment
of a RIC with a post-October 31 short-term capital loss:
Assume a RIC with a taxable year ending June 30, 2011,
recognizes a short-term capital gain of $1 million on September
15, 2010. In order to avoid the excise tax, the RIC distributes
$980,000 on December 15, 2010. On May 15, 2011, the RIC
recognizes a $1 million long-term capital gain and $1 million
short-term capital loss. The RIC has no other income or loss
during 2010, 2011, or 2012 (and has no accumulated earnings and
profits).
Under present law, the shareholders receive Forms 1099 for
2010 reporting the dividends as other than capital gain
dividends and they report the dividends accordingly on their
2010 income tax returns. Because the RIC has only $1 million of
current earnings and profits for its taxable year, the RIC may
not pay an additional distribution designated as a capital gain
dividend for its taxable year in order to be allowed a dividend
paid deduction in computing the RIC's tax on net capital gain.
Instead, the RIC could designate the December 15 distribution
as a capital gain dividend, but that would require shareholders
to file amended income tax returns for 2010.
Deferral partly elective
Under present law, for purposes of determining capital gain
dividends, the ``push'' forward of post-October capital losses
is automatic, rather than elective; in contrast the push
forward of these losses is elective for RIC taxable income
purposes. Assume for example that a RIC has no net capital gain
for the portion of its taxable year on or before October 31,
and makes no distributions before January 1 of the taxable
year. For the remainder of its taxable year, the RIC has a $1
million short-term capital gain and a $1 million long-term
capital loss. Under present law, for purposes of determining
the amount of capital gain dividends, the $1 million long-term
capital loss is automatically pushed forward to the next
taxable year. But for purposes of determining its taxable
income, the capital loss is pushed forward only if the RIC
elects. If no election is made and the RIC has a $1 million
long-term capital gain in the next taxable year and pays a $1
million dividend, the dividend may not be designated a capital
gain dividend, although the RIC had $1 million long-term
capital gain that year. If an election is made, the RIC must
distribute the $1 million of short-term capital gain as an
ordinary dividend in the current taxable year although the
gains were economically offset by the long-term capital loss.
Ordinary gains and losses
Net foreign currency losses and losses on stock in a
passive foreign investment company
In applying the excise tax described above, net foreign
currency losses and gains and ordinary loss or gain from the
disposition of stock in a passive foreign investment company
(``PFIC'') properly taken into account after October 31 are
``pushed'' to the following calendar year for purposes of the
tax.\1909\
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\1909\ Sec. 4982(e)(5) and (6).
---------------------------------------------------------------------------
Under present law, to the extent provided in regulations, a
RIC may elect to push the post-October net foreign currency
losses and the net reduction in the value of stock in a PFIC
with respect to which an election is in effect under section
1296(k) forward to the next taxable year.\1910\ Regulations
have been issued allowing RICs to elect to defer all or part of
any post-October net foreign currency losses for the portion of
the taxable year after October 31 to the first day of the
succeeding taxable year.\1911\
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\1910\ Sec. 852(b)(8) and (10).
\1911\ Treas. Reg. sec. 1.852-11.
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Other ordinary losses
Other ordinary losses of a RIC may not be ``pushed''
forward. As a result, in the event that a RIC has net ordinary
losses for the portion of the taxable year after December 31
(other than a net foreign currency loss or loss on stock of a
PFIC), the RIC may have insufficient earnings and profits to
pay a dividend during the calendar year ending in the taxable
year in order to reduce or eliminate the excise tax.
For example, assume a RIC for its taxable year ending June
30, 2012, has ordinary income of $1 million for the portion of
its taxable year ending on December 31, 2011. In order to avoid
the excise tax, the RIC distributes $980,000 on December 15,
2011. The RIC has no accumulated earnings and profits. For the
period beginning January 1, 2012, and ending on June 30, 2012,
the RIC has a net ordinary loss of $1 million. Because the RIC
has no earnings and profits, the distribution in 2011 is not a
dividend; the distributed amount for calendar year 2011 is
zero; and an excise tax is imposed.
Explanation of Provision
Post-October capital losses
Under the provision, except to the extent provided in
regulations, a RIC may elect to ``push'' to the first day of
the next taxable year part or all of any post-October capital
loss. The post-October capital loss means the greatest of the
RIC's net capital loss, net long-term capital loss, or the net
short-term capital loss (attributable to the portion of the
taxable year after October 31).\1912\
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\1912\ Special rules apply to certain RICs with taxable years
ending with the month of November or December.
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The election \1913\ applies for all purposes of the Code,
including determining taxable income, net capital gain, net
short-term capital gain, and earnings and profits.
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\1913\ The principles of Treasury Regulation section 1.852-11 are
to apply to a qualified late-year loss for which an election is made
under this provision, subject to any subsequent change in the
regulations.
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The application of the provision to short-term capital
losses may be illustrated by the following example:
Assume a RIC for its taxable year ending June 30, 2012,
recognizes a short-term capital gain of $1 million on September
15, 2011. In order to avoid the excise tax, the RIC distributes
$980,000 on December 15, 2011. On May 15, 2012, the RIC
recognizes a $1 million long-term capital gain and $1 million
short-term capital loss. The RIC has no other income or loss
during 2011, 2012, or 2013 (and has no accumulated earnings and
profits).
The RIC may elect to treat the short-term capital loss as
arising on July 1, 2012. If the RIC so elects and makes an
additional $1 million distribution before July 1, 2012, it may
report the distribution as a capital gain dividend and be
allowed a dividends paid deduction in computing the tax on its
net capital gain for the 2011-2012 taxable year. No amended
Forms 1099 and no amended tax returns by the shareholders are
required.
Late-year ordinary losses
Under the provision, except to the extent provided in
regulations, a RIC may elect to ``push'' to the first day of
the next taxable year part or all of any qualified late-year
ordinary loss. The qualified late year ordinary loss is the
excess of (1) the sum of the specified losses attributable to
the portion of the taxable year after October 31 and other
ordinary losses attributable to the portion of the taxable year
after December 31, over (2) the sum of the specified gains
attributable to the portion of the taxable year after October
31 and other ordinary income attributable to the portion of the
taxable year after December 31. Specified losses and gains have
the same meaning as used for purposes of the excise tax under
section 4982.\1914\
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\1914\ See explanation of section 402 of the Act.
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The election applies for all purposes of the Code.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (December 22, 2010).
I. Exception to Holding Period Requirement for Exempt-Interest
Dividends Declared on Daily Basis (sec. 309 of the Act and sec.
852(b)(4) of the Code)
Present Law
If a shareholder receives an exempt-interest dividend with
respect to a share of RIC stock held for 6 months or less, any
loss on the sale or exchange of the stock, to the extent of the
amount of the exempt-interest dividend, is disallowed. To the
extent provided by regulations, the loss disallowance rule does
not apply to losses on shares which are sold or exchanged
pursuant to a plan which involves the periodic liquidation of
the shares. In the case of a RIC which regularly distributes at
least 90 percent of its net tax-exempt interest, the Secretary
may by regulations prescribe a shorter holding period not
shorter than the greater of 31 days or the period between the
regular distributions.
Explanation of Provision
The provision makes the loss disallowance rule
inapplicable, except as otherwise provided by regulations, with
respect to a regular dividend paid by a RIC that declares
exempt-interest dividends on a daily basis in an amount equal
to at least 90 percent of its net tax-exempt interest and
distributes the dividends on a monthly or more frequent basis.
Effective Date
The provision applies to stock for which the taxpayer's
holding period begins after the date of enactment (December 22,
2010).
V. MODIFICATIONS RELATED TO EXCISE TAX APPLICABLE TO RICS
A. Excise Tax Exemption for Certain RICs Owned by Tax Exempt Entities
(sec. 401 of the Act and sec. 4982(f) of the Code)
Present Law
An excise tax is imposed on a RIC for a calendar year equal
to four percent of the excess (if any) of the required
distribution over the distributed amount. The required
distribution is the sum of 98 percent of the RIC's ordinary
income for the calendar year and 98 percent of the capital gain
net income for the one-year period ending October 31 of such
calendar year. The distributed amount is the sum of the
deduction for dividends paid during the calendar year and the
amount on which a corporate income tax is imposed on the RIC
for taxable years ending during the calendar year.\1915\
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\1915\ Sec. 4982.
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The excise tax does not apply to a RIC for any calendar
year if at all times during the calendar year each shareholder
in the RIC is either a qualified pension plan exempt from tax
or a segregated asset account of a life insurance company held
in connection with variable contracts.
Explanation of Provision
The provision adds tax-exempt entities whose ownership of
beneficial interests in the RIC would not preclude the
application of section 817(h)(4) (regarding segregated asset
accounts of a variable annuity or life insurance contract) to
the list of persons who may hold stock in a RIC that is exempt
from the excise tax. These persons include qualified annuity
plans described in section 403, IRAs, including Roth IRAs,
certain government plans described in section 414(d) or 457,
and a pension plan described in section 501(c)(18).\1916\ Also,
another RIC to which section 4982 does not apply may hold stock
in a RIC exempt from the excise tax.
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\1916\ See Rev. Rul. 94-62, 1994-2 C.B. 164, as supplemented by
Rev. Rul. 2007-58, I.R.B. 2007-37 (Sept. 10, 2007).
---------------------------------------------------------------------------
Effective Date
The provision applies to calendar years beginning after the
date of enactment (December 22, 2010).
B. Deferral of Certain Gains and Losses of RICs for Excise Tax Purposes
(sec. 402 of the Act and sec. 4982(e) of the Code)
Present Law
Special rules apply to certain items of income and loss in
computing the excise tax under section 4982.\1917\ Any foreign
currency gains and losses attributable to a section 988
transaction properly taken into account after October 31 of any
calendar year generally are ``pushed'' to the following
calendar year.\1918\ Any post-October positive or negative
adjustments, and income or loss, on contingent payment debt
instruments is treated in the same manner as foreign currency
gain or loss from a section 988 transaction.\1919\ Any gain
recognized under section 1296 (relating to mark-to-market for
marketable stock in a passive foreign investment company
(``PFIC'')) generally is determined as if the RIC's taxable
year ends October 31, and any gain or loss from an actual
disposition of stock in an electing PFIC after October 31
generally is ``pushed'' to the following calendar year.\1920\
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\1917\ See present-law explanation of section 401 for a description
of the tax.
\1918\ Sec. 4982(e)(5).
\1919\ See Treas. Reg. sec. 1.1275-4(b)(9)(v).
\1920\ Sec. 4982(e)(6).
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To the extent provided in regulations, any net foreign
currency loss of a RIC and any net reduction in the value of
the stock of a PFIC held by a RIC attributable to transactions
after October 31 of the taxable year may be ``pushed'' to the
first day of the following taxable year for purposes of
computing taxable income.\1921\ Similar rules apply for
purposes of computing earnings and profits in order to allow a
RIC a distribution deduction for purposes of the excise
tax.\1922\
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\1921\ Sec. 852(b)(8) and (10). See Treas. Reg. sec. 1.852-11 for
rules relating to the treatment of losses attributable to periods after
October 31 of a taxable year.
\1922\ Sec. 852(c)(2).
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Explanation of Provision
Under the provision, the present-law excise tax ``push''
rules applicable to foreign currency gains and losses are
expanded to include all ``specified gains and losses,'' i.e.,
ordinary gains and losses from the sale, exchange, or other
disposition of (or termination of a position with respect to)
property, including foreign currency gain and loss, and amounts
marked-to-market under section 1296. Thus, these post-October
31 gains and losses are ``pushed'' to the next calendar
year.\1923\
---------------------------------------------------------------------------
\1923\ For treatment of these losses for income tax purposes, see
section 852(b)(8) of the Code, as amended by section 308 of the Act.
---------------------------------------------------------------------------
The provision also provides that, for purposes of
determining a RIC's ordinary income, the present-law rule
treating PFIC stock as disposed of on October 31 is made
applicable to all property held by a RIC which under any
provision of the Code (including regulations thereunder) is
treated as disposed of on the last day of the taxable year.
Finally, for purposes of the excise tax, the provision
allows a RIC with a taxable year other than the calendar year,
except as provided in regulations, to elect to ``push'' any net
ordinary loss (determined without regard to ordinary gains and
losses which are automatically ``pushed'' to the next calendar
year) attributable to the portion of the calendar year after
the beginning of the taxable year which begins in the calendar
year to the first day of the next calendar year.
For example, assume a RIC for its taxable year ending June
30, 2012, has ordinary loss of $1 million for the portion of
its taxable year ending on December 31, 2011, and $1 million
ordinary income for the remainder of the taxable year. The RIC
has no other items of income or loss in 2011, 2012, or 2013.
The RIC must distribute $980,000 in 2012 to avoid the excise
tax, notwithstanding that it has no taxable income (or earnings
and profits) for a taxable year which includes any portion of
2012. Under the provision, if the RIC makes an election, the $1
million ordinary loss will be treated as arising on January 1,
2012, for purposes of the excise tax and the RIC will not be
required to make a distribution in 2012 to avoid the excise
tax.
Effective Date
The provision applies to calendar years beginning after the
date of enactment (December 22, 2010).
C. Distributed Amount for Excise Tax Purposes Determined on Basis of
Taxes Paid by RIC (sec. 403 of the Act and sec. 4982(c)(4) of the Code)
Present Law
In computing the excise tax under section 4982,\1924\ a RIC
is treated as having distributed amounts on which a tax is
imposed on the RIC during the calendar year in which the
taxable year of the RIC ends, regardless of the calendar year
in which estimated tax payments are made.\1925\
---------------------------------------------------------------------------
\1924\ See present-law explanation of section 401 for a description
of the tax.
\1925\ Sec. 4982(c)(1)(B).
---------------------------------------------------------------------------
Explanation of Provision
Under the provision, a RIC making estimated tax payments of
the taxes imposed on investment company taxable income and
undistributed net capital gain for a taxable year beginning
(but not ending) during any calendar year may elect to increase
the distributed amount for that calendar year by the amount on
which the estimated tax payments of these taxes are made during
that calendar year. The distributed amount for the following
calendar year is reduced by the amount of the prior year's
increase.
Effective Date
The provision applies to calendar years beginning after the
date of enactment (December 22, 2010).
D. Increase in Required Distribution of Capital Gain Net Income (sec.
404 of the Act and sec. 4982(b)(1) of the Code)
Present Law
An excise tax is imposed on a RIC for a calendar year equal
to four percent of the excess (if any) of the required
distribution over the distributed amount. The required
distribution is the sum of 98 percent of the RIC's ordinary
income for the calendar year and 98 percent of the capital gain
net income for the one-year period ending October 31 of such
calendar year. The distributed amount is the sum of the
deduction for dividends paid during the calendar year and the
amount on which a corporate income tax is imposed on the RIC
for taxable years ending during the calendar year.\1926\
---------------------------------------------------------------------------
\1926\ Sec. 4982.
---------------------------------------------------------------------------
Explanation of Provision
The provision increases the required distribution
percentage of the capital gain net income from 98 percent to
98.2 percent.
Effective Date
The provision applies to calendar years beginning after the
date of enactment (December 22, 2010).
VI. OTHER PROVISIONS
A. Repeal of Assessable Penalty with Respect to Liability for Tax of
RICs (sec. 501 of the Act and sec. 6697 of the Code)
Present Law
If there is a determination that a RIC has a tax deficiency
with respect to a prior taxable year, the RIC can distribute a
``deficiency dividend.'' \1927\ A deficiency dividend is
treated by the RIC as a dividend paid with respect to the prior
taxable year. As a result, the deficiency dividend increases
the RIC's deduction for dividends paid for that year and
eliminates the deficiency. A RIC making a deficiency dividend
is subject to an interest charge as if the entire amount of the
deficiency dividend were the amount of the tax deficiency. An
additional penalty is also imposed equal to the lesser of (1)
the amount of the interest charge, or (2) one-half of the
amount of the deficiency dividend.\1928\
---------------------------------------------------------------------------
\1927\ Sec. 860.
\1928\ Sec. 6697.
---------------------------------------------------------------------------
Explanation of Provision
The provision repeals the additional penalty with respect
to deficiency dividends.
Effective Date
The provision applies to taxable years beginning after the
date of enactment (December 22, 2010).
B. Modification of Sale Load Basis Deferral Rule for RICs (sec. 502 of
the Act and sec. 852(f)(1) of the Code)
Present Law
If (1) a taxpayer incurs a load charge in acquiring stock
in a RIC and by reason of incurring the charge or making the
acquisition, acquires a reinvestment right, (2) the stock is
disposed of within 90 days of the acquisition, and (3) the
taxpayer subsequently acquires stock in a RIC and the otherwise
applicable load charge is reduced by reason of the reinvestment
right, the load charge (to the extent it does not exceed the
reduction) is not taken into account in determining gain or
loss of the original stock but is treated as incurred in
acquiring the subsequently acquired stock.\1929\
---------------------------------------------------------------------------
\1929\ Sec. 852(f).
---------------------------------------------------------------------------
Explanation of Provision
The provision limits the applicability of the provision
described under present law to cases where the taxpayer
subsequently acquires stock before January 31 of the calendar
year following the calendar year the original stock is disposed
of.
Effective Date
The provision applies to charges incurred in taxable years
beginning after the date of enactment (December 22, 2010).
PART EIGHTEEN: REVENUE PROVISIONS OF THE OMNIBUS TRADE ACT OF 2010
(PUBLIC LAW 111-344) \1930\
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\1930\ H.R. 6517. The House passed H.R. 6517 on December 15, 2010.
The Senate passed the bill with an amendment on December 22, 2010. The
House agreed to the Senate amendment on December 22, 2010. The
President signed the bill on December 29, 2010.
---------------------------------------------------------------------------
A. Extension of Health Coverage Tax Credit Improvements (secs. 111-118
of the Act and secs. 35 and 7527 of the Code)
Present Law
In general
Under the Trade Act of 2002,\1931\ in the case of taxpayers
who are eligible individuals,\1932\ a refundable tax credit is
provided for 65 percent of the taxpayer's premiums for
qualified health insurance of the taxpayer and qualifying
family members \1933\ for each eligible coverage month
beginning in the taxable year.\1934\ The credit is commonly
referred to as the health coverage tax credit (``HCTC''). The
credit is available only with respect to amounts paid by the
taxpayer. The credit is available on an advance payment
basis.\1935\
---------------------------------------------------------------------------
\1931\ Pub. L. No. 107-210.
\1932\ An eligible individual is an individual who is (1) an
eligible Trade Adjustment Assistance (``TAA'') recipient, (2) an
eligible alternative TAA recipient, or (3) an eligible Pension Benefit
Guaranty Corporation (``PBGC'') pension recipient.
\1933\ Qualifying family members are the taxpayer's spouse and any
dependent of the taxpayer with respect to whom the taxpayer is entitled
to claim a dependency exemption. Any individual who has other specified
coverage is not a qualifying family member.
\1934\ Please see Part Two, Section III.B, above for a discussion
of eligible coverage months and a more lengthy discussion of persons
eligible for the health coverage tax credit and the definition of
qualified health insurance under the Trade Act of 2002.
\1935\ Under section 7527, an individual is eligible for the
advance payment of the credit once a qualified health insurance costs
credit eligibility certificate is in effect.
---------------------------------------------------------------------------
The American Recovery and Reinvestment Act of 2009
Sections 1899 to 1899L of the American Recovery and
Reinvestment Act of 2009 (``ARRA'') made a number of temporary
changes to the HCTC and related provisions that are generally
effective for months beginning after February 17, 2009 and
before January 1, 2011, or with respect to certain events
occurring between those dates:
ARRA increases the amount of the HCTC to 80 percent of the
taxpayer's premiums for qualified health insurance of the
taxpayer and qualifying family members.
ARRA provides that the Secretary of the Treasury shall make
one or more retroactive payments on behalf of certified
individuals for qualified health insurance coverage of the
taxpayer and qualifying family members.\1936\ For this purpose,
a retroactive advance payment is an advance payment for
eligible coverage months occurring prior to the first month for
which an advance payment is otherwise made on behalf of such
individual.
---------------------------------------------------------------------------
\1936\ This ARRA provision generally applies to months beginning
after December 31, 2009 (rather than February 17, 2009) and before
January 1, 2011.
---------------------------------------------------------------------------
ARRA requires that the qualified health insurance costs
credit eligibility certificate provided in connection with the
advance payment of the HCTC must include certain additional
information.\1937\
---------------------------------------------------------------------------
\1937\ The provision applies for certificates issued after August
17, 2009 and months beginning before January 1, 2011.
---------------------------------------------------------------------------
ARRA modifies the definition of eligible individual by
modifying the definition of an eligible Trade Adjustment
Assistance (``TAA'') recipient. Specifically, the ARRA
eliminates the requirement that an individual be enrolled in
training in the case of an individual receiving unemployment
compensation.\1938\
---------------------------------------------------------------------------
\1938\ ARRA also clarifies that the definition of an eligible TAA
recipient includes an individual who would be eligible to receive a
trade readjustment allowance except that the individual is in a break
in training that exceeds the period specified in section 233(e) of the
Trade Act of 1974, but is within the period for receiving the
allowance.
---------------------------------------------------------------------------
ARRA provides continued eligibility for the credit for
family members after the following events: (1) the eligible
individual becoming entitled to Medicare, (2) divorce, and (3)
death.\1939\
---------------------------------------------------------------------------
\1939\ This ARRA provision generally applies to months beginning
after December 31, 2008 (rather than February 17, 2009) and before
January 2011.
---------------------------------------------------------------------------
ARRA expands the definition of qualified health insurance
by including coverage under an employee benefit plan funded by
a voluntary employees' beneficiary association (``VEBA,'' as
defined in section 501(c)(9)) established pursuant to an order
of a bankruptcy court, or by agreement with an authorized
representative, as provided in section 1114 of title 11, United
States Code.
Under ARRA, in determining if there has been a 63-day lapse
in coverage (which determines, in part, if the State-based
consumer protections apply), in the case of a TAA-eligible
individual, the period beginning on the date the individual has
a TAA-related loss of coverage and ending on the date which is
seven days after the date of issuance by the Secretary (or by
any person or entity designated by the Secretary) of a
qualified health insurance costs credit eligibility certificate
(under section 7527) for such individual is not taken into
account.
ARRA modifies the maximum required COBRA continuation
coverage period \1940\ with respect to certain individuals
whose qualifying event is a termination of employment or a
reduction in hours to coordinate with eligibility for HCTC as
an eligible individual or a qualifying family member.\1941\
---------------------------------------------------------------------------
\1940\ The Consolidated Omnibus Reconciliation Act of 1985
(``COBRA'') requires that a group health plan must offer continuation
coverage to qualified beneficiaries in the case of a qualifying event.
An excise tax under the Code applies on the failure of a group health
plan to meet the requirement. Qualifying events include the death of
the covered employee, termination of the covered employee's employment,
divorce or legal separation of the covered employee, and certain
bankruptcy proceedings of the employer. In the case of termination from
employment, the coverage must be extended for a period of not less than
18 months. In certain other cases, coverage must be extended for a
period of not less than 36 months. Under such period of continuation
coverage, the plan may require payment of a premium by the beneficiary
of up to 102 percent of the applicable premium for the period.
\1941\ This ARRA provision is effective for periods of coverage
that would, without regard to the provision, end on or after February
17, 2010, provided that the provision does not extend any periods of
coverage beyond December 31, 2010.
---------------------------------------------------------------------------
Explanation of Provision
Sections 111 through 118 of the Omnibus Trade Act of 2010
extends the temporary changes to the HCTC and related
provisions made by ARRA so that the ARRA changes also apply to
generally months beginning (or, for certain provisions, plan
years beginning or events occurring) after December 31, 2010
and before February 13, 2011.\1942\
---------------------------------------------------------------------------
\1942\ The expansion of the definition of qualified health
insurance to include coverage under an employee benefit plan funded by
certain VEBAs is extended to apply to months beginning before February
13, 2012.
---------------------------------------------------------------------------
Effective Date
The provision is generally effective for months beginning
(or, for certain provisions, plan years beginning or events
occurring) after December 31, 2010.
B. Time for Payment of Corporate Estimated Taxes (sec. 10002 of the Act
and sec. 6655 of the Code)
Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability.\1943\ 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. In the case of a corporation
with assets of at least $1 billion (determined as of the end of
the preceding taxable year):
---------------------------------------------------------------------------
\1943\ Sec. 6655.
---------------------------------------------------------------------------
(i) payments due in July, August, or September, 2014,
are increased to 174.25 percent of the payment
otherwise due; \1944\
---------------------------------------------------------------------------
\1944\ Haiti Economic Lift Program of 2010, Pub. L. No. 111-171,
sec. 12(a); Health Care and Education Reconciliation Act of 2010, Pub.
L. No. 111-152, sec. 1410; Hiring Incentives to Restore Employment Act,
Pub. L. No. 111-147, sec. 561, par. (1); Act to extend the Generalized
System of Preferences and the Andean Trade Preference Act, and for
other purposes, Pub. L. No. 111-124, sec. 4; Worker, Homeownership, and
Business Assistance Act of 2009, Pub. L. No. 111-92, sec. 18; Joint
resolution approving the renewal of import restrictions contained in
the Burmese Freedom and Democracy Act of 2003, and for other purposes,
Pub. L. No. 111-42, sec. 202(b)(1).
---------------------------------------------------------------------------
(ii) payments due in July, August or September, 2015,
are increased to 159.25 percent of the payment
otherwise due; \1945\ and
---------------------------------------------------------------------------
\1945\ Small Business Jobs Act of 2010, Pub. L. No. 111-240, sec.
2131; Firearms Excise Tax Improvements Act of 2010, Pub. L. No. 111-
237, sec. 4(a); United States Manufacturing Enhancement Act of 2010,
Pub. L. No. 111-227, sec. 4002; Joint resolution approving the renewal
of import restrictions contained in the Burmese Freedom and Democracy
Act of 2003, and for other purposes, No. 111-210, sec. 3; Haiti
Economic Lift Program of 2010, Pub. L. No. 111-171, sec. 12(b); Hiring
Incentives To Restore Employment Act, Pub. L. No. 111-147, sec. 561,
par. (2).
---------------------------------------------------------------------------
(iii) payments due in July, August or September,
2019, are increased to 106.50 percent of the payment
otherwise due.\1946\
---------------------------------------------------------------------------
\1946\ Hiring Incentives to Restore Employment Act, Pub. L. No.
111-147, sec. 561, par. (3).
---------------------------------------------------------------------------
For each of the periods impacted, the next required payment
is reduced accordingly.
Explanation of Provision \1947\
---------------------------------------------------------------------------
\1947\ All the public laws enacted in the 111th Congress affecting
this provision are described in Part Twenty-One of this document.
---------------------------------------------------------------------------
The provision increases the required payment of estimated
tax otherwise due in July, August, or September, 2015, by 4.50
percentage points.
Effective Date
The provision is effective on the date of enactment
(December 29, 2010).
PART NINETEEN: JAMES ZADROGA 9/11 HEALTH AND COMPENSATION ACT OF 2010
(PUBIC LAW 111-347) \1948\
---------------------------------------------------------------------------
\1948\ H.R. 847. The House passed H.R. 847 on September 29, 2010.
The Senate passed the bill with an amendment on December 22, 2010. The
House agreed to the Senate amendment on December 22, 2010. The
President signed the bill on January 2, 2011.
---------------------------------------------------------------------------
A. Excise Tax on Foreign Procurement (sec. 301 of the Act and new sec.
5000C of the Code)
Present Law
The United States taxes U.S. citizens and residents
(including domestic corporations) on their worldwide income,
whether derived in the United States or abroad. The United
States generally taxes nonresident alien individuals and
foreign corporations engaged in a trade or business in the
United States on income that is effectively connected with the
conduct of such trade or business (sometimes referred to as
``effectively connected income''). The United States also taxes
nonresident alien individuals and foreign corporations on
certain U.S.-source income that is not effectively connected
with the conduct of a U.S. trade or business.
Income of a nonresident alien individual or foreign
corporation that is effectively connected with the conduct of a
trade or business in the United States generally is subject to
U.S. tax in the same manner and at the same rates as income of
a U.S. person. Deductions are allowed to the extent that they
are connected with effectively connected income.\1949\ A
foreign corporation also is subject to a flat 30-percent branch
profits tax on its ``dividend equivalent amount,'' which is a
measure of the effectively connected earnings and profits of
the corporation that are removed in any year from the conduct
of its U.S. trade or business.\1950\ In addition, a foreign
corporation is subject to a flat 30-percent branch-level excess
interest tax on the excess of the amount of interest that is
deducted by the foreign corporation in computing its
effectively connected income over the amount of interest that
is paid by its U.S. trade or business.\1951\
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\1949\ Secs. 864(c), 871(b), 873, 882(a), 882(c).
\1950\ Sec. 884.
\1951\ Sec. 884(f).
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Subject to a number of exceptions, U.S.-source fixed or
determinable, annual or periodical income (``FDAP'') of a
nonresident alien individual or foreign corporation that is not
effectively connected with the conduct of a U.S. trade or
business is subject to U.S. tax at a rate of 30 percent of the
gross amount paid.\1952\ Items of income within the scope of
FDAP include, for example, interest, dividends, rents,
royalties, salaries, and annuities. The tax generally is
collected by means of withholding.\1953\
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\1952\ Secs. 871(a), 881(a).
\1953\ Secs. 1441 and 1442 provide for withholding from payments to
nonresident aliens and foreign corporations, respectively.
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Treaties generally provide that neither country may subject
nationals of the other country (or permanent establishments of
enterprises of the other country) to taxation more burdensome
than the tax it imposes on its own nationals (or on its own
enterprises). Similarly, in general, neither treaty country may
discriminate against enterprises owned by residents of the
other country. The scope of the nondiscrimination provisions
vary: Many older treaties provide protection only with respect
to those taxes that are identified as covered taxes under the
treaty. More recently, and consistent with the U.S. negotiating
position since 1996,\1954\ some nondiscrimination articles
apply broadly to any tax imposed by one of the contracting
states.
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\1954\ U.S. Department of the Treasury, U.S. Model Income Tax
Convention of November 15, 2006, available at http://www.treasury.gov/
offices/tax-policy/library/model006.pdf, updated an earlier model
treaty published September 20, 1996. The Technical Explanation of the
1996 draft included a brief history of its provenance, explaining that
it was drawn from a number of sources, including the U.S. Treasury
Department's draft Model Income Tax Convention published on June 16,
1981, and withdrawn as an official U.S. Model on July 17, 1992, the
Model Double Taxation Convention on Income and Capital, and its
Commentaries, published by the OECD, as updated in 1995 (the ``OECD
Model''), existing U.S. income tax treaties, recent U.S. negotiating
experience, current U.S. tax laws and policies and comments received
from tax practitioners and other interested parties. U.S. Department of
the Treasury, U.S. Model Income Tax Convention: Technical Explanation
(September 20, 1996), available at 96 Tax Notes Today 186-7.
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In addition to complying with tax laws, parties engaged in
cross-border transactions are required to comply with relevant
trade agreements of the jurisdictions in which they operate. To
the extent that the purchaser is a governmental entity, such
transactions are generally described in a subset of trade
regulations known as government procurement agreements. The
United States includes government procurement obligations in
its free trade agreements (``FTA'') with the aim of ensuring
that U.S. goods, services and suppliers are afforded non-
discriminatory opportunities to compete in the government
procurement of U.S. trading partners.
The first major government procurement agreement was the
1979 Government Procurement Agreement (``GPA''), which entered
into force in 1981. Since the formation of the World Trade
Agreement in 1996, the United States has been a party to the
``plurilateral'' GPA that is an annex to the WTO agreement.
This agreement is open only to members of WTO who either signed
upon formation of the WTO in 1996, or subsequently acceded both
to WTO and the GPA. At present, there are 41 members of the
GPA, including all members of the European Union, the United
States, Canada, Hong Kong, China, Iceland, Israel, Japan, the
Republic of Korea, Liechtenstein, the Netherlands with respect
to Aruba, Norway, Singapore, Switzerland, and Taiwan (Chinese
Taipei).
Explanation of Provision
Under this provision, foreign persons are subject to an
excise tax of two percent on any specified procurement payment.
A specified procurement payment is a payment made by the United
States government or its agents, pursuant to a contract under
which the United States purchases goods or services from a
source in a country that is not party to an international
procurement agreement with the United States. Goods are from
such a source if produced or manufactured in such country.
Payments for services are subject to the tax if the services
are provided in a country that is not a party to such an
agreement with the United States. If the origin of the goods or
services is in a country that is not a member of the GPA,
payments made to a foreign parent located in a country that is
a member of the GPA are subject to the excise tax.
The excise tax is imposed on the gross amount of the
payment. For purposes of subtitle F of the Internal Revenue
Code, it is treated as an income tax, permitting assessment and
collection of the amounts in a manner similar to the
withholding taxes under chapter 3.
Executive agencies are required to ensure that funds
disbursed to foreign contractors are not used to reimburse the
tax imposed by this section. Contracting activities are to be
monitored and reviewed annually to comply with this provision.
Finally, the statute requires that the provision be
administered in a manner consistent with U.S. obligations under
international agreements.\1955\
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\1955\ Sec. 301(c) of the Act.
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Effective Date
The provision applies to payments received under contracts
entered into on or after the date of enactment (January 2,
2011).
PART TWENTY: AUTHORITY OF TAX COURT TO APPOINT EMPLOYEES (PUBLIC LAW
111-366) \1956\
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\1956\ H.R. 5901. The House passed H.R. 5901 on July 30, 2010. The
Senate passed the bill with an amendment on December 17, 2010. The
House agreed to the Senate amendment on December 22, 2010. The
President signed the bill on January 4, 2011.
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A. Authority of Tax Court to Appoint Employees (sec. 1 of the Act and
sec. 7471 of the Code)
Present Law
The United States Tax Court is an independent court of
record established by Congress under Article I of the
Constitution.\1957\ Generally, the Tax Court is authorized to
retain and compensate employees under the rules applicable to
executive branch competitive service appointments.\1958\
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\1957\ Sec. 7441.
\1958\ Sec. 7471.
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Explanation of Provision
The provision authorizes the Tax Court to establish an
independent personnel management system that generally is not
subject to the rules applicable to executive branch competitive
service appointments. To the extent feasible, the Tax Court is
directed to compensate employees at rates consistent with those
for employees holding comparable positions in courts
established under Article III of the Constitution.
The provision requires that the Tax Court preserve certain
rights available to executive branch competitive service
employees and prohibits employment discrimination on the basis
of race, color, religion, age, gender, national origin,
political affiliation, marital status, or handicapping
condition. In addition, Tax Court employees employed prior to
the effective date of the provision retain their appeal rights
to the Merit Systems Protection Board and the Equal Employment
Opportunity Commission so long as they are continuously
employed by the court.
Effective Date
The provision is effective on the date the United States
Tax Court adopts a personnel management system after the date
of enactment (January 4, 2011).
PART TWENTY-ONE: CUSTOMS USER FEES, CORPORATE ESTIMATED TAXES, AND
ASSISTANCE FOR COBRA CONTINUATION COVERAGE
A. Extension of Customs User Fees
Present Law
Section 13031 of the Consolidated Omnibus Budget
Reconciliation Act of 1985 (``COBRA'') \1959\ authorized the
Secretary of the Treasury to collect certain service fees.
Section 412 of the Homeland Security Act of 2002 \1960\
authorized the Secretary of the Treasury to delegate such
authority to the Secretary of Homeland Security. These fees
include: processing fees for air and sea passengers, commercial
trucks, rail cars, private aircraft and vessels, commercial
vessels, dutiable mail packages, barges and bulk carriers,
merchandise, and Customs broker permits.\1961\ COBRA was
amended on several occasions but most recently prior to the
start of the 111th Congress by the Andean Tax Preference Act of
2008,\1962\ which extended authorization for the collection of
the passenger and conveyance fees through January 31, 2018 and
the merchandise processing fees through February 14, 2018.
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\1959\ Pub. L. No. 99-272.
\1960\ Pub. L. No. 107-296.
\1961\ 19 U.S.C. sec. 58c.
\1962\ Pub. L. No. 110-436.
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Explanation of Provision
The renewal of the Burmese Freedom and Democracy Act of
2003 extends the passenger and conveyance processing fees
authorized under COBRA through February 7, 2018.\1963\
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\1963\ Pub. L. No. 111-42.
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Effective Date
The provision is effective on July 26, 2009.
Explanation of Provision
The extension of the Andean Trade Preference Act extends:
(1) the passenger and conveyance processing fees authorized
under COBRA through June 7, 2008; and (2) the merchandise
processing fees authorized under COBRA through May 14,
2008.\1964\
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\1964\ Pub. L. No. 111-124.
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Effective Date
The provision is effective on date of enactment (December
28, 2009).
Explanation of Provision
The Haiti Economic Lift Program Act of 2010 extends: (1)
the passenger and conveyance processing fees authorized under
COBRA through August 17, 2018; and (2) the merchandise
processing fees authorized under COBRA though November 10,
2018.\1965\
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\1965\ Pub. L. No. 111-171.
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Effective Date
The provision is effective on date of enactment (May 24,
2010).
Explanation of Provision
The renewal of the Burmese Freedom and Democracy Act of
2003 extends the passenger and conveyance processing fees
authorized under COBRA through August 24, 2018.\1966\
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\1966\ Pub. L. No. 111-210.
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Effective Date
The provision is effective on date of enactment (July 27,
2010).
Explanation of Provision
The United States Manufacturing Enhancement Act of 2010
extends: (1) the passenger and conveyance processing fees
authorized under COBRA through November 30, 2018; and (2) the
merchandise processing fees authorized under COBRA through
December 10, 2018.\1967\
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\1967\ Pub. L. No. 111-227.
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Effective Date
The provision is effective on date of enactment (August 11,
2010).
B. Modifications to Corporate Estimated Tax Payments Due in July,
August, and September, 2010, 2011, 2013, 2014, 2015, and 2019
Prior and Present Law
In general, corporations are required to make quarterly
estimated tax payments of their income tax liability. 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.
Under Section 401 of the Tax Increase Prevention Act of
2005 (``TIPRA'') (including amendments that are contained in
other provisions of law),\1968\ in the case of a corporation
with assets of at least $1 billion:
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\1968\ For additional detail, see Joint Committee on Taxation,
General Explanation of Tax Legislation Enacted in the 109th Congress
(JCS-1-00), January 17, 2007; see also Joint Committee on Taxation,
General Explanation of Tax Legislation Enacted in the 110th Congress
(JCS-1-09), March 2009.
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(i) payments due in July, August, or September, 2010,
are increased to 120.50 percent of the payment
otherwise due;
(ii) payments due in July, August or September, 2011,
are increased to 127.50 percent of the payment
otherwise due; and
(iii) payments due in July, August or September,
2013, are increased to 120.00 percent of the payment
otherwise due.
For each of the periods impacted, the next required payment
is reduced accordingly.
Explanation of Provision
The Children's Health Insurance Program Reauthorization Act
of 2009 \1969\ increases the applicable percentage in 2013
(120.00 percent) by 0.50 percentage points.
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\1969\ Pub. L. No. 111-3.
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Effective Date
The provision is effective on the date of enactment (March
4, 2009).
Explanation of Provision
The Corporate Estimated Tax Shift Act of 2009 \1970\
reduces the applicable percentage for 2010 (120.50 percent),
2011 (127.50 percent), and 2013 (120.50 percent) to 100
percent. Thus corporations will make estimated tax payments in
2010, 2011, and 2013 as if the TIPRA legislation had never been
enacted or amended. The bill also increases the payments
otherwise due in July, August, or September, 2014 (100 percent)
by 0.25 percentage points. The next required payment is reduced
accordingly.
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\1970\ Pub. L. No. 111-42.
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Effective Date
The provision is effective on the date of enactment (July
28, 2009).
Explanation of Provision
The Worker, Homeownership, and Business Assistance Act of
2009 \1971\ increases the applicable percentage in 2014 (100.25
percent) by 33.00 percentage points.
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\1971\ Pub. L. No. 111-92.
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Effective Date
The provision is effective on the date of enactment
(November 6, 2009).
Explanation of Provision
The extension of the General System of Preferences and the
Andean Trade Preference Act \1972\ increases the applicable
percentage in 2014 (133.25 percent) by 1.50 percentage points.
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\1972\ Pub. L. No. 111-124.
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Effective Date
The provision is effective on the date of enactment
(December 28, 2009).
Explanation of Provision
The Hiring Incentives to Restore Employment Act \1973\
increases the applicable percentage in 2014 (134.75 percent) by
23.00 percentage points, the applicable percentage in 2015 (100
percent) by 21.50 percentage points, and the applicable
percentage in 2019 (100 percent) by 6.50 percentage points. For
each of the periods impacted, the next required payment is
reduced accordingly.
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\1973\ Pub. L. No. 111-147.
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Effective Date
The provision is effective on the date of enactment (March
18, 2010).
Explanation of Provision
The Health Care and Education Reconciliation Act of 2010
\1974\ increases the applicable percentage in 2014 (157.75
percent) by 15.75 percentage points.
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\1974\ Pub. L. No. 111-152.
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Effective Date
The provision is effective on the date of enactment (March
30, 2010).
Explanation of Provision
The Haiti Economic Lift Program Act of 2010 \1975\
increases the applicable percentage in 2014 (173.50 percent) by
0.75 percentage points and the applicable percentage in 2015
(121.50 percent) by 0.75 percentage points.
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\1975\ Pub. L. No. 111-171.
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Effective Date
The provision is effective on the date of enactment (May
24, 2010).
Explanation of Provision
The renewal of the Burmese Freedom and Democracy Act of
2003 \1976\ increases the applicable percentage in 2015 (122.25
percent) by 0.25 percentage points.
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\1976\ Pub. L. No. 111-210.
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Effective Date
The provision is effective on the date of enactment (July
27, 2010).
Explanation of Provision
The United States Manufacturing Enhancement Act of 2010
\1977\ increases the applicable percentage in 2015 (122.50
percent) by 0.50 percentage points.
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\1977\ Pub. L. No. 111-227.
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Effective Date
The provision is effective on the date of enactment (August
11, 2010).
Explanation of Provision
The Firearms Excise Tax Improvement Act of 2010 \1978\
increases the applicable percentage in 2015 (123.00 percent) by
0.25 percentage points.
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\1978\ Pub. L. No. 111-237.
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Effective Date
The provision is effective on the date of enactment (August
16, 2010).
Explanation of Provision
The Small Business Jobs and Credit Act of 2010 \1979\
increases the applicable percentage in 2015 (123.25 percent) by
36.00 percentage points.
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\1979\ Pub. L. No. 111-240.
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Effective Date
The provision is effective on the date of enactment
(September 27, 2010).
Explanation of Provision
The Omnibus Trade Act of 2010 \1980\ increases the
applicable percentage in 2015 (159.25 percent) by 4.50
percentage points.
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\1980\ Pub. L. No. 111-344.
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Effective Date
The provision is effective on the date of enactment
(December 29, 2010).
C. Extension of Assistance for COBRA Continuation Coverage
Present Law
The American Recovery and Reinvestment Act of 2009 provides
that, for a period not exceeding nine months, an assistance
eligible individual is treated as having paid any premium
required for COBRA continuation coverage under a group health
plan if the individual pays 35 percent of the premium.\1981\
Thus, if the assistance eligible individual pays 35 percent of
the premium, the group health plan must treat the individual as
having paid the full premium required for COBRA continuation
coverage, and the individual is entitled to a subsidy for 65
percent of the premium. An assistance eligible individual is
any qualified beneficiary who elects COBRA continuation
coverage and satisfies three additional requirements. First,
the qualifying event with respect to the covered employee for
that qualified beneficiary must be a loss of group health plan
coverage on account of an involuntary termination of the
covered employee's employment (other than for gross
misconduct). Second, the qualifying event must occur during the
period beginning September 1, 2008 and ending with December 31,
2009, and the qualified beneficiary must be eligible for COBRA
continuation coverage during that period and elect such
coverage. Third, the assistance eligible individual must meet
certain income threshold requirements.
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\1981\ For this purpose, payment by an assistance eligible
individual includes payment by another individual paying on behalf of
the individual, such as a parent or guardian, or an entity paying on
behalf of the individual, such as a State agency or charity. Further,
the amount of the premium used to calculate the reduced premium is the
premium amount that the employee would be required to pay for COBRA
continuation coverage absent this premium reduction (e.g. 102 percent
of the ``applicable premium'' for such period).
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Explanation of Provision
The Department of Defense Appropriations Act, 2010 \1982\
extends the maximum period an individual is eligible for the
COBRA premium subsidy from nine months to 15 months. Specific
transitions rules are provided for individuals who are eligible
for the premium subsidy because of the extension of the period
from nine to 15 months.
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\1982\ Pub. L. No. 111-118.
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The provision also extends the time period during which the
COBRA qualifying event must occur by two months so that it ends
on February 28, 2010 (rather than December 31, 2009). Thus, in
order to be an assistance-eligible individual for purposes of
the premium subsidy, involuntary termination from employment
must have occurred during the period beginning September 1,
2008, and ending February 28, 2010.
The provision contains notice requirements regarding the
extensions to assistance eligible individuals who experience a
qualifying event on or after October 31, 2009.
Effective Date
The provision is effective as if included in the American
Recovery and Reinvestment Act of 2009 (February 17, 2009).
Explanation of Provision
The Temporary Extension Act of 2010 \1983\ extends the time
period during which the COBRA qualifying event must occur from
February 28, 2010, to March 31, 2010.
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\1983\ Pub. L. No. 111-144.
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The provision also clarifies that an assistance eligible
individual can have experienced a qualifying event consisting
of a reduction in hours of employment followed by an
involuntary termination of employment (other than for gross
misconduct) and still be eligible for the COBRA subsidy. If
such individual did not elect continuation coverage after
experiencing the reduction in hours, he or she must be given
the chance to do so following termination of employment. In
such circumstances, however, the individual's period of
continuation coverage is determined as if it began immediately
following the reduction in hours. The provision also clarifies
the preexisting condition rules relating to such individuals.
The provision contains notice requirements regarding the
clarifications.
The provision permits the Secretary of Labor or the
Secretary of Health and Human Services, whichever appropriate,
or an affected individual, to bring a civil action to enforce a
determination that the individual is an eligible individual for
purposes of the subsidy and for appropriate relief. In
addition, the appropriate Secretary may asses a penalty against
a plan sponsor or health insurance issuer of not more than $100
per day for each failure to comply with a determination of
eligibility (but only beginning 10 days after the sponsor's or
issuer's receipt of the determination).
The provision deems an event to be an involuntary
termination in all cases in which an employer reasonably
determines it to be such and maintains supporting documentation
of the determination (including an attestation by the
employer).
The provision also makes certain technical clarifications
to the period of assistance as defined in the American Recovery
and Reinvestment Act of 2009, and to the Department of Defense
Appropriations Act, 2010.
Effective Date
The provision is generally effective as if included in the
American Recovery and Reinvestment Act of 2009 (February 17,
2009).
The clarification regarding COBRA continuation coverage
resulting from a reduction in hours is effective for periods of
coverage after date of enactment (March 2, 2010).
The technical clarifications to the Department of Defense
Appropriations Act, 2010 are effective as if included in the
Department of Defense Appropriations Act, 2010 (February 17,
2009, because the Department of Defense Appropriations Act is
effective as if included in the American Recovery and
Reinvestment Act of 2009).
The provisions relating to enforcement and the
clarification of period of assistance are effective on date of
enactment (March 2, 2010).
Explanation of Provision
The Continuing Extension Act of 2010 \1984\ extends the
time period during which the COBRA qualifying event must occur
to May 31, 2010. In addition, specific transitions rules are
provided for individuals who are eligible for the premium
subsidy in April and May of 2010 because of the extension of
the period.
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\1984\ Pub. L. No. 111-157.
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Effective Date
The provision is effective as if included in the American
Recovery and Reinvestment Act of 2009 (February 17, 2009).
APPENDIX: ESTIMATED BUDGET EFFECTS OF TAX LEGISLATION ENACTED IN THE
111TH CONGRESS