[Congressional Record Volume 156, Number 94 (Tuesday, June 22, 2010)]
[Senate]
[Pages S5240-S5242]
From the Congressional Record Online through the Government Publishing Office [www.gpo.gov]




                          SELF-EMPLOYMENT TAX

  Mr. ENZI. Mr. President, the Reid-Baucus tax extenders bill before 
the Senate includes several provisions that, to my knowledge, have 
never been vetted by congressional tax writers either in the Senate 
Finance Committee or in the House Ways and Means Committee. As an 
accountant with practical expertise in tax matters, this disturbs me 
greatly. It should also disturb the small business owners because there 
is a provision in this bill that would slap them in the face with a 15-
percent tax increase. I am talking about the provision that would apply 
a 15.3-percent self-employment tax to the distributions of certain 
subchapter S corporations. Those are the small business corporations. 
This self-employment tax would apply when 80 percent of the gross 
income of the small business is attributable to three or fewer 
professionals in a professional services corporation. We are talking 
about the smallest of the small businesses.
  This is a $9.1 billion hit on a small subset of small businesses 
engaged in a service trade. I wonder, the next time an offset is 
needed, will the Senate go after all the small businesses, changing the 
Tax Code this same way?
  My colleagues on the other side of the aisle call this a ``loophole 
closer'' or an ``anti-fraud provision.'' I assure my colleagues this is 
neither. These words are convenient labels my colleagues use to defend 
tax-and-spend policies. The small business corporation provision is, 
however, a massive tax increase on small business.
  This new payroll tax on nonwage income would hurt the ability of 
small businesses to reinvest and to create jobs. At nearly 10 percent 
unemployment, I don't think the Federal Government is in any position 
to pursue job-killing tax increases. Small businesses are the lifeblood 
of our economy. It is imperative that we nurture their growth, not 
hinder it, so they can create jobs and get our economy back on track.
  None of us is in favor of fraud, but that is not really what we are 
talking about.
  If the IRS wants to improve compliance with the self-employment tax, 
they have the right tools. They just need to use them. For example, the 
IRS Revenue Ruling 74-44 that specifically addresses the tax treatment 
of dividends in lieu of compensation gives them all they need.
  I ask unanimous consent to have the IRS revenue ruling printed in the 
Record following my statement.
  The PRESIDING OFFICER. Without objection, it is so ordered.
  (See exhibit 1.)
  Mr. ENZI. I also have pages and pages of case law of which the IRS 
has successfully litigated the issue of dividends in lieu of 
compensation and the applicability of employment taxes.
  Plus, Congress has codified the economic substance doctrine which 
says a transaction must have an economic purpose aside from the 
reduction of tax liability in order to be considered valid. In my 
opinion, this is the IRS's ace-in-the-hole card. The IRS can close any 
loophole--real or imagined--with the power of the new law.
  Why can't the IRS do its job with the volumes of legislative 
regulatory and judicial tools it already has? For example, the IRS 
revenue ruling could be codified somehow, but then it wouldn't provide 
an offset for new programs, would it? Nor would it permit my colleagues 
across the aisle to reduce the tax on venture capitalists for their 
carried interest. I don't like the carried

[[Page S5241]]

interest provision, but to soften the impact of that policy on the 
backs of small businesses is just plain wrong.
  Even the Government Accountability Office agrees the IRS should be 
doing more with what it has to crack down on fraud. In a 2009 report, 
the GAO stated: ``IRS efforts to enforce the rules on paying adequate 
wage compensation to small business shareholders have been limited,'' 
and the IRS provides only ``limited guidance in determining adequate 
compensation'' guidelines for taxpayers.
  A 2002 report by the Treasury's inspector general found that ``IRS 
agents did not always address officer compensation, even when little or 
no compensation was paid.''
  Clearly, the IRS isn't doing its job. That is the loophole. The IRS 
can and should do more with what they already have.
  As a former accountant, I find this small business corporation 
payroll tax totally unworkable. For example, the tax would apply when 
80 percent or more of gross income of the S corporation is attributable 
to three or fewer shareholders in the S corporation. How are taxpayers 
supposed to track the attribution of gross income? Let me give an 
example.
  My friend, the senior Senator from Massachusetts, has introduced S. 
144 that would exempt cell phones from the recordkeeping requirements 
under the listed property rules. Why? Because the paperwork burden is 
too costly and time consuming for business. I think it is a good bill, 
and I am proud to be a cosponsor. In fact, the bill has 72 cosponsors. 
That is a supermajority of the Senate who agree it is a good bill. But 
if a supermajority of the Senate agrees the bookkeeping burden of 
parcelling out an itemized cell phone bill between business and 
personal use is too onerous, why would we think that itemizing the 
source of gross income across shareholders and employees in an S 
corporation would be any easier?
  This new payroll tax on small business was written without any input 
from the tax-writing committees, and it shows. Although I am sure it 
was unintended, this new law has the potential to reduce Social 
Security benefits. Since the new payroll tax would reclassify income 
from certain small businesses as wage income, it could trigger the 
earnings test for folks receiving early retirement benefits from Social 
Security.
  Even Senator Baucus admitted the payroll tax provision needs 
``modifications.'' I remember it well because he made this statement 
during a Treasury hearing a few weeks ago when I raised this issue as 
an onerous tax increase.
  Not only is this a job-killing tax, but the manner in which it was 
concocted is appalling. The original tax extenders bill raised the 
taxes on Wall Street bankers, but when their lobbyists howled, 
lawmakers went looking someplace else--small businesses--for the 
revenue they needed. Small businesses aren't as able to defend 
themselves when the tax man cometh, and in the end it results in a new 
tax that robs David to pay Goliath.
  The outrageousness of this new tax led me and my colleague, Senator 
Snowe from Maine, to file an amendment that would strike the S 
corporation payroll tax from the underlying tax extenders bill.
  If my colleagues across the aisle seriously believe that 
noncompliance with the self-employment tax among S corporations is a 
problem, then the best, most workable solution is to codify the 
``reasonable compensation'' standard into law. This S corporation 
``attribution of gross income'' basis isn't workable. If you don't 
believe me, again, I refer you to the experts.
  I have a letter I wish to submit for the Record. It is a letter from 
the AICPA, the American Institute of Certified Public Accountants. In 
the letter they say:

  We are concerned that there may be unintended consequences that have 
not been fully aired and discussed. Accordingly, we strongly support 
the amendment being offered by Senators Snowe and Enzi which would 
strike Section 413.

  I ask unanimous consent this letter be printed in the Record at the 
end of my statement.
  The PRESIDING OFFICER. Without objection, it is so ordered.
  (See exhibit 2.)
  Mr. ENZI. Again, this seemingly small provision in the tax extenders 
bill would have a $9 billion impact, and that is just on a subset of S 
corporations, these small businesses.
  This payroll tax provision ought to be stripped and sent back to the 
tax-writing committees where it can be addressed in the proper fashion. 
I strongly urge my colleagues to support the Snowe-Enzi amendment in 
our efforts to remove this misguided, outrageous new tax. I think there 
is support on both sides of the aisle for doing that.
  I thank the Chair and yield the floor.

                               Exhibit 1

                           [From taxanalysts]

             Federal Research Library: IRS Revenue Rulings

                   (Rev. Rul. 74-44; 1974-1 C.B. 287)


                            rev. rul. 74-44

       Advice has been requested whether, under the circumstances 
     described below, an electing small business corporation 
     incurred liability for the taxes imposed by the Federal 
     Insurance Contributions Act, Federal Unemployment Tax Act, 
     and the Collection of Income Tax at Source on Wages (chapters 
     21, 23, and 24, respectively, subtitle C, Internal Revenue 
     Code of 1954).
       The corporation is a small business corporation with two 
     shareholders, that has elected, pursuant to section 1371(a) 
     of the Code, not to be subject to corporate income tax, but 
     to have all its income taxed directly to its shareholders.
       In 1972, the shareholders performed services for the 
     corporation. However, to avoid the payment of Federal 
     employment taxes, they drew no salary from the corporation 
     but arranged for the corporation to pay them ``dividends'' of 
     100x dollars, which is the amount they would have otherwise 
     received as reasonable compensation for services performed.
       Sections 3121(a) and 3306(b) of the Federal Insurance 
     Contributions Act and the Federal Unemployment Tax Act, 
     respectively, define the term ``wages,'' with certain 
     specific exceptions not material here, as ``all remuneration 
     for employment.'' Section 3401(a) of the Code, relating to 
     the withholding of income tax, contains a similar definition.
       In the instant case, the ``dividends'' paid to the 
     shareholders in 1972 were in lieu of reasonable compensation 
     for their services. Accordingly, the 100x dollars paid to 
     each of the shareholders was reasonable compensation for 
     services performed by him, rather than a distribution of the 
     corporation's earnings and profits. Such compensation was 
     ``wages'' and liability was incurred for the taxes imposed by 
     the Federal Insurance Contributions Act, the Federal 
     Unemployment Tax Act, and the Collection of Income Tax at 
     Source on Wages.
                                  ____


                               Exhibit 2

                                             American Institute of


                                 Certified Public Accountants,

                                    Washington, DC, June 14, 2010.
     Hon. Max Baucus,
     Chairman, Senate Committee on Finance,
     Washington, DC.
     Hon. Charles Grassley,
     Ranking Member, Senate Committee on Finance, Washington, DC.

   Amendment to H.R. 4213, Section 413--Employment Tax Treatment of 
           Professional Service Businesses--S. Amendment 4342

       Dear Chairman Baucus and Ranking Member Grassley: The 
     American Institute of Certified Public Accountants (AICPA) 
     opposes Section 413 of the American Jobs and Closing Tax 
     Loopholes Act of 2010 which we believe threatens to result in 
     a significant increase in taxes and complexity for S 
     corporations and their shareholders, and for certain limited 
     partners. Section 413 represents a major change in 
     longstanding tax policy that has never been the subject of 
     public hearings, thus, we are concerned that there may be 
     unintended consequences that have not been fully aired and 
     discussed. Accordingly, we strongly support the amendment 
     being offered by Senators Snowe and Enzi, S. Amendment 4342, 
     which would strike Section 413. The proposed Section 413: 
     Fails to take into account a fair and reasonable return on 
     the human and investment capital of the owners; may reduce 
     Social Security benefits for early retirees; may create 
     unintended consequences to qualified and non-qualified 
     retirement plans of owners that would now have both wages and 
     self-employment income; and ignores the fact that the IRS 
     currently has the appropriate enforcement tools it needs to 
     re-characterize the distributions of S corporations as salary 
     subject to employment taxes under FICA.
       The AICPA would like to work with Congress and the IRS to 
     address the best way to collect S corporation shareholders' 
     and partners' fair share of employment/self-employment taxes. 
     Such a provision should not be rushed through the legislative 
     process without due process and deliberation. Thank you very 
     much for taking time to consider our serious concerns and 
     suggestions regarding Section 413 of this Act, and the much 
     needed Snowe-Enzi amendment. If we can be of assistance, 
     please contact Peter Kravitz, AICPA Director of Congressional 
     & Political Affairs or Edward S. Karl, AICPA Vice President--
     Taxation.
           Sincerely,
                                                  Alan R. Einhorn,
                                   Chair, Tax Executive Committee.


[[Page S5242]]


  The PRESIDING OFFICER. The Senator from Montana.

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