[Congressional Record Volume 141, Number 26 (Thursday, February 9, 1995)]
[Extensions of Remarks]
[Page E309]
From the Congressional Record Online through the Government Publishing Office [www.gpo.gov]


[[Page E309]]
                  INTRODUCTION OF MARKET DISCOUNT BILL

                                 ______


                         HON. E. CLAY SHAW, JR.

                               of florida

                    in the house of representatives

                       Thursday, February 9, 1995
  Mr. SHAW. Mr. Speaker, I have joined with my colleague, Ben Cardin, 
to reintroduce legislation that would restore the capital gains tax 
treatment on the sale of market discount bonds. As a result of an 
amendment contained in the Omnibus Budget Reconciliation Act of 1993, 
the gain is taxed at the ordinary income rate rather than at the 
capital gains rate. This bill was originally introduced last June in 
response to the rise in interest rates that had precipitated, among 
other things, a noticeable loss of market liquidity for market discount 
bonds. Since that time, interest rates have continued to climb and 
there has been a corresponding increase in the volume of market 
discount bonds in the marketplace. The restoration of capital gains tax 
treatment for market discount bonds is an appropriate and timely way to 
reduce the borrowing costs to State and local issuers by improving 
market liquidity.
  As a former mayor, I have a tremendous appreciation for tax-exempt 
municipal financing and the role bonds play in meeting public needs. In 
the State of Florida last year, there were over $7.6 billion in long-
term bonds issued. Infrastructure requirements like secondary roads, 
bridges, water and sewer systems, airports, and public schools are all 
financed and built by State and local governments using tax-exempt 
municipal bonds. Bonds are used to leverage and argument Federal 
construction grants, revolving loans and other direct assistance 
programs. I believe tax-exempt bonds are an important tool in 
empowering States and localities to address public needs and consistent 
with the message of ``New Federalism'' contained in the Contract With 
America.
  Prior to 1993, the proceeds from the sale of a bond purchased at 
discount were treated as capital gains. The 1993 Budget Reconciliation 
Act contained the provision that amended the tax treatment of municipal 
securities purchased at a market discount. As a result, when an 
investor sells market discount bonds, they now pay the ordinary income 
tax rates of up to 39.6 percent rather than the maximum capital gains 
rate of 28 percent.
  The sharp rise in interest rates, beginning last February, lead to a 
dramatic increase in the amount of market discount bonds. Market 
discount generally exists when a bond is purchased on the secondary 
market at a price below par, or, in the case of bonds with an original 
issue discount, below the adjusted issue price. Market discount is the 
difference between the purchase price of a bond and its stated 
redemption price at maturity or its adjusted issue price. Since rules 
took effect in 1993, demand for discount bonds in the secondary market 
has suffered.
  The change in the market discount rules adds significant complexity 
to reporting by bond dealers. For example, a single zero-coupon bond 
purchased at a discount could generate tax-exempt income, ordinary 
income, and a capital gain. Such complicated tax treatment poses 
problems for dealers and funds which must issue summary reports to the 
IRS and investors. The market discount rules also have a very real 
negative effect on market liquidity. For instance, certain tax-exempt 
mutual funds have simply stopped buying discounted bonds altogether.
  In addition, the new market discount rules could result in higher 
capital costs for State and local municipal bond issuers, raise 
extremely complex financial consideration that repel investors, and 
provide little or no revenue gain to the Federal Government. For all of 
these reasons, I believe repeal of the new market discount rules is 
appropriate. Such a change would be consistent with efforts for overall 
capital gains reform.
  I urge all of my colleagues to cosponsor this important municipal 
bond legislation.


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