[Congressional Record Volume 144, Number 98 (Tuesday, July 21, 1998)]
[Extensions of Remarks]
[Page E1365]
From the Congressional Record Online through the Government Publishing Office [www.gpo.gov]




                   SUBCHAPTER S REVISION ACT OF 1998

                                 ______
                                 

                         HON. E. CLAY SHAW, JR.

                               of florida

                    in the house of representatives

                         Tuesday, July 21, 1998

  Mr. SHAW. Mr. Speaker, today over 2 million businesses pay taxes as S 
corporations and the vast majority of these are small businesses. The S 
Corporation Revision Act of 1998 is targeted to these small business by 
improving their access to capital, preserving family-owned businesses, 
and lifting obsolete and burdensome restrictions that unnecessarily 
impede their growth. It will permit them to grow and compete in the 
next century.
  Even after the relief provided in 1996, S corporations face 
substantial obstacles and limitations not imposed on other forms of 
entities. The rules governing S corporations need to be modernized to 
bring them more on par with partnerships and C corporations. For 
instance, S corporations are unable to attract the senior equity 
capital needed for their survival and growth. This bill would remove 
this obsolete prohibition and also provide that S corporations can 
attract needed financing through convertible debt.
  Additionally, the bill helps preserve family-owned businesses by 
counting all family members as one shareholder for purposes of S 
corporation eligibility. Under current law, multi-generational family 
businesses are threatened by the 75 shareholder limit which counts each 
family member as one shareholder. Also, nonresident aliens would be 
permitted to be shareholders under rules like those now applicable to 
partnerships. The bill would eradicate other outmoded provisions, many 
of which were enacted in 1958.
  The following is a detailed discussion of the bill's provisions.

                    TITLE I--SUBCHAPTER S EXPANSION


         SUBTITLE A--ELIGIBLE SHAREHOLDERS OF AN S CORPORATION

       Sec. 101. Members of family treated as one shareholder--All 
     family members within seven generations who own stock could 
     elect to be treated as one shareholder. The election would be 
     made available to only one family per corporation, must be 
     made with the consent of all shareholders of the corporation 
     and would remain in effect until terminated. This provision 
     is intended to keep S corporations within families that might 
     span several generations.
       Sec. 102. Nonresident aliens--This section would provide 
     the opportunity for aliens to invest in domestic S 
     corporations and S corporations to operate abroad with a 
     foreign shareholder by allowing nonresident aliens 
     (individuals only) to own S corporation stock. Any 
     effectively-connected U.S. income allocable to the 
     nonresident alien would be subject to the withholding rules 
     that currently apply to foreign partners in a partnership.


      SUBTITLE B--QUALIFICATION AND ELIGIBILITY REQUIREMENTS OF S 
                              CORPORATIONS

       Sec. 111. Issuance of preferred stock permitted--An S 
     corporation would be allowed to issue either convertible or 
     plain vanilla preferred stock. Holders of preferred stock 
     would not be treated as shareholders; thus, ineligible 
     shareholders like corporations or partnerships could own 
     preferred stock interests in S corporations. A payment to 
     owners of the preferred stock would be deemed an expense 
     rather than a dividend by the S corporation and would be 
     taxed as ordinary income to the shareholder. Subchapter S 
     corporations would receive the same recapitalization 
     treatment as family-owned C corporations. This provision 
     would afford S corporations and their shareholders badly 
     needed access to senior equity.
       Sec. 112. Safe harbor expanded to include convertible 
     debt--An S corporation is not considered to have more than 
     one class of stock if outstanding debt obligations to 
     shareholders meet the ``straight debt'' safe harbor. 
     Currently, the safe harbor provides that straight debt 
     cannot be convertible into stock. The legislation would 
     permit a convertibility provision so long as that 
     provision is substantially the same as one that could have 
     been obtained by a person not related to the S corporation 
     or S corporation shareholders.
       Sec. 113. Repeal of excessive passive investment income as 
     a termination event.--This provision would repeal the current 
     rule that terminates S corporation status for certain 
     corporations that have both subchapter C earnings and profits 
     and that derive more than 25 percent of their gross receipts 
     from passive sources for three consecutive years.
       Sec. 114. Repeal passive income capital gain category--The 
     legislation would retain the rule that imposes a tax on those 
     corporations possessing excess net passive investment income, 
     but, to conform to the general treatment of capital gains, it 
     would exclude capital gains from classification as passive 
     income. Thus, such capital gains would be subject to a 
     maximum 20 percent rate at the shareholder level in keeping 
     with the 1997 tax law change. Excluding capital gains also 
     paralles their treatment under the PHC rules.
       Sec. 115. Allowance of charitable contributions of 
     inventory and scientific property--This provision would allow 
     the same deduction for charitable contributions of inventory 
     and scientific property used to care for the ill, needy or 
     infants for subchapter S as for subchapter C corporations. In 
     addition, S corporations would no longer be disqualified from 
     making ``qualified research contributions'' (charitable 
     contributions of inventory property to educational 
     institutions or scientific research organizations) for use in 
     research or experimentation. The S corporation's shareholders 
     would also be permitted to increase the basis of their stock 
     by the excess of deductions for charitable contributions over 
     the basis of the property contributed by the S corporation.
       Sec. 116. C corporation rules to apply for fringe benefit 
     purposes--The current rule that limits the ability of ``more-
     than-two-percent'' S corporation shareholder-employees to 
     exclude certain fringe benefits from wages would be repealed 
     for benefits other than health insurance. Under this bill, 
     fringe benefits such as group-term life insurance would 
     become excludable from wages for these shareholders. However, 
     health care benefits would remain taxable to the extent 
     provided for partners.


           SUBTITLE C--TAXATION OF S CORPORATION SHAREHOLDERS

       Sec. 120. Treatment of losses to shareholders--A loss 
     recognized by a shareholder in complete liquidation of an S 
     corporation would be treated as an ordinary loss to the 
     extent the shareholder's adjusted basis in the S corporation 
     stock is attributable to ordinary income that was recognized 
     as a result of the liquidation. Suspended passive activity 
     losses from C corporation years would be allowed as 
     deductions when and to the extent they would be allowed to C 
     corporations.


                       SUBTITLE D--EFFECTIVE DATE

       Sec. 130. Effective date--Except as otherwise provided, the 
     amendments made by this Act shall apply to taxable years 
     beginning after December 31, 1998.

       Title II--Sense of the House of Representatives Resolution

       Sec. 201. The House would go on record in opposition to the 
     President's Fiscal Year 1999 budget proposal to treat the 
     conversion of ``large'' C corporations to S corporations as 
     taxable liquidations, for this would be harmful to the 
     business community and would effectively prohibit many 
     businesses from making S elections in the future.



     

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